Waterstone Financial, Inc. — Q2 2017 Form 10-Q
Reporting period: Quarter and six months ended June 30, 2017. Amounts below are in U.S. dollars; financial-statement amounts are generally converted from thousands to millions. The company operates community banking and mortgage banking businesses.
Financial performance and condition
| Metric | Q2 2017 / June 30, 2017 | Comparable period / prior date |
|---|---|---|
| Net income | $8.9 million; diluted EPS $0.32 | Q2 2016: $7.8 million; diluted EPS $0.29 |
| Six-month net income | $15.5 million; diluted EPS $0.55 | First half 2016: $11.6 million; diluted EPS $0.43 |
| Net interest income | Q2: $12.5 million; first half: $24.4 million | Q2 2016: $10.2 million; first half 2016: $20.1 million |
| Noninterest income | Q2: $37.2 million; first half: $63.2 million | Q2 2016: $36.4 million; first half 2016: $57.8 million |
| Noninterest expense | Q2: $36.2 million; first half: $65.2 million | Q2 2016: $34.2 million; first half 2016: $59.5 million |
| Net interest margin | Q2: 3.00%; first half: 2.98% | Q2 2016: 2.50%; first half 2016: 2.49% |
| Total assets | $1.89 billion | $1.79 billion at December 31, 2016 |
| Loans receivable, net | $1.21 billion | $1.16 billion at December 31, 2016 |
| Deposits | $937.4 million | $949.4 million at December 31, 2016 |
| Borrowings | $498.1 million | $387.2 million at December 31, 2016 |
| Cash and cash equivalents | $129.6 million | $47.2 million at December 31, 2016 |
| Shareholders’ equity | $408.0 million | $410.7 million at December 31, 2016 |
- Q2 pretax income was $13.5 million versus $12.3 million a year earlier. First-half pretax income was $23.5 million versus $18.3 million. The effective tax rate was 34.2% in the first half, down from 36.4%; the company cites an approximately $806,000 tax benefit from exercised stock awards following adoption of new stock-compensation guidance.
- Mortgage banking income was $36.2 million in Q2 and $60.9 million in the first half. First-half residential mortgage originations for sale were $1.22 billion, up 16.5% year over year; higher volume was partly offset by lower margins. Mortgage banking segment net income was $5.8 million for the first half, approximately unchanged from 2016, as expenses rose along with volume.
- Community banking first-half net income rose to $9.7 million from $5.8 million. Higher net interest income and a negative loan-loss provision contributed to the improvement.
- First-half cash flow from operations was $41.5 million, compared with cash used of $33.0 million in 2016. Investing activities used $37.4 million and financing activities provided $78.3 million. Cash and cash equivalents increased $82.3 million during the first half.
- First-half dividends paid were $20.3 million. The equity statement reports dividends of $0.74 per share for the period; shareholders’ equity also reflects share repurchases.
Material changes and asset quality
- Loans receivable increased $47.9 million from year-end, led by one- to four-family, multifamily, and commercial real estate lending. Deposits decreased $12.0 million while borrowings increased $110.9 million. Management says additional FHLB funding increased cash and supported loan growth and refinancing of wholesale borrowings.
- Allowance for loan losses fell to $14.6 million from $16.0 million, after a $1.2 million negative provision in the first half. Net charge-offs were $231,000, versus $685,000 a year earlier. Allowance coverage was 1.19% of loans.
- Non-accrual loans declined to $8.6 million, or 0.70% of loans, from $9.9 million, or 0.84%, at year-end. Nonperforming assets were $13.4 million, or 0.71% of assets, compared with $16.0 million, or 0.89%. However, total past-due loans rose to $9.0 million from $8.2 million.
- Real estate owned, net, decreased to $4.8 million from $6.1 million. The company recorded $464,000 of write-downs in the first half. Troubled debt restructurings totaled $8.2 million, down from $10.1 million at year-end.
- The Bank reported regulatory capital ratios above applicable minimums and was classified as well capitalized. Its total capital ratio was 29.34% and common equity Tier 1 ratio was 28.26% at June 30, 2017.
Outlook, risks, contingencies, and unusual items
- The filing gives no specific earnings or revenue guidance. Management notes that first-half results are not necessarily indicative of full-year results.
- Management identifies interest-rate changes, competition, economic conditions, mortgage origination volume and margins, credit losses, secondary mortgage and securities markets, regulatory changes, and deposit retention as key risks. A 100-basis-point immediate rate increase was estimated to raise forecast one-year net interest income by 2.51%; a 100-basis-point decrease was estimated to lower it by 2.89%.
- A July 5, 2017 arbitration award in the Herrington class action found Waterstone Mortgage liable for wage, expense, and related claims. The award was $7.3 million plus $3.3 million in attorney fees and costs; the company estimated exposure could reach $11.0 million. Management stated it would challenge the award, assessed the low end of the possible loss range at zero, and recorded no accrual because it did not consider a loss probable.
- Mortgage servicing rights related to $295.1 million of loans were sold during the first half for $2.6 million, generating a $308,000 gain. The company also recorded a $107,000 loss on sale of securities.
- The company says there were no changes to the risk factors reported in its 2016 Form 10-K. It reported disclosure controls as effective and no material change in internal control over financial reporting during the quarter.
Important facts for investors to verify
- Monitor the legal case: confirmation, appeal or other challenge to the arbitration award, and any resulting accrual or cash impact.
- Assess the sustainability of mortgage banking volume and margins, particularly as compensation and other operating costs increased.
- Review funding and liquidity exposure, including the rise in borrowings, deposit trends, and the $557.7 million of time deposits scheduled to mature within one year.
- Track credit quality and collateral valuations, including the increase in past-due loans, nonperforming assets, and real estate-owned write-downs.
- Confirm dividend and repurchase activity against capital needs; the filing reports substantial first-half dividends and $989,500 shares remaining authorized for repurchase.