FS Bancorp, Inc. — Q1 2016 Form 10-Q
Business and period. The filing covers the three months ended March 31, 2016, for FS Bancorp and its wholly owned bank, 1st Security Bank of Washington. The community bank serves the Puget Sound and Tri-Cities markets and also originates indirect consumer and mortgage loans. On January 22, 2016, the Bank acquired four Bank of America branches on Washington’s Olympic Peninsula.
Financial performance and condition
| Metric | Q1 2016 / March 31, 2016 | Comparable period / prior year-end |
|---|---|---|
| Interest income | $8.9 million | $7.1 million in Q1 2015 |
| Net interest income | $7.8 million | $6.3 million in Q1 2015 |
| Net interest margin | 4.19% | 5.07% in Q1 2015 |
| Noninterest income | $4.3 million | $4.1 million in Q1 2015 |
| Noninterest expense | $8.9 million | $6.6 million in Q1 2015 |
| Net income / diluted EPS | $1.7 million / $0.55 | $2.1 million / $0.70 in Q1 2015 |
| Total assets | $805.4 million | $677.6 million at December 31, 2015 |
| Gross loans / net loans | $529.5 million / $520.2 million | $511.3 million gross / $502.5 million net at December 31, 2015 |
| Deposits | $696.7 million | $485.2 million at December 31, 2015 |
| Total debt | $22.5 million: $12.7 million FHLB advances and $9.8 million subordinated note, net | $108.6 million at December 31, 2015 |
| Cash and cash equivalents | $85.8 million | $24.5 million at December 31, 2015 |
Net interest income after the $600,000 loan-loss provision was $7.2 million. The efficiency ratio rose to 73.5% from 64.0% in Q1 2015. The allowance for loan losses was $8.3 million, or 1.6% of gross loans, versus $7.8 million, or 1.5%, at year-end. Nonperforming loans were $570,000, or 0.1% of gross loans, down from $1.0 million, or 0.2%.
Operating cash flow was negative $20.0 million, compared with negative $7.3 million in Q1 2015. Investing cash flow was positive $139.0 million, including $180.4 million of net cash received in the branch acquisition; financing cash flow was negative $57.6 million. Cash increased by $61.4 million during the quarter. The Bank reported $161.7 million of unused FHLB borrowing capacity, an $80.7 million Federal Reserve line and $40.0 million of correspondent Fed Funds lines; no Federal Reserve or correspondent advances were outstanding at quarter-end.
The Bank was classified as well capitalized. Its March 31 ratios were 9.9% Tier 1 leverage, 13.0% Tier 1 risk-based, 14.3% total risk-based and 13.0% common equity Tier 1.
Material changes versus comparable periods
- Net income fell 19.8% year over year, despite a 24.8% increase in net interest income, as noninterest expense rose 34.9% and interest expense rose 31.9%.
- Net interest margin declined 88 basis points year over year. Management attributed pressure to growth in lower-yielding real estate and commercial business lending; the average yield on earning assets fell 97 basis points to 4.76%.
- The four acquired branches added $186.4 million in deposits. Total deposits increased 43.6% from year-end, while FHLB advances declined 87.2% as acquisition cash was used to repay borrowings.
- Quarter-end assets increased 18.9% from year-end. Net loans rose 3.5%; loans held for sale increased 44.2% to $64.8 million.
- Quarterly expenses included $385,000 of acquisition costs and $102,000 of core deposit intangible amortization related to the branch purchase. Acquisition accounting, including $2.4 million goodwill and a $2.1 million core deposit intangible, remained subject to refinement.
- The Company repurchased 97,524 shares for $2.4 million at an average $24.57 per share. The quarterly dividend was $0.07 per share.
Outlook, commentary and risks
No specific earnings or financial guidance was provided. Management said it intends to diversify and grow lending, maintain asset quality, expand mortgage banking and the banking franchise, and emphasize lower-cost relationship deposits. It expects to continue selling one-to-four-family mortgages into the secondary market. Management stated it believed liquidity was adequate and that most maturing deposits would remain with the Bank.
Key risks include loan credit quality and collateral values, local economic conditions, interest-rate effects on margins and servicing-right valuations, mortgage secondary-market conditions, deposit retention, competition, and the ability to integrate the acquired branches and realize anticipated benefits. Four home-improvement contractors/dealers accounted for 56.6% of funded indirect home-improvement loan volume in the quarter. California-originated loans were subject to a management limit of 100% of Bank total risk-based capital.
Outstanding commitments to extend credit were $259.2 million; management noted that many may expire undrawn. Reserves for unfunded commitments were $147,000. The Company also reported $607,000 of reserves for potential repurchases or indemnification on previously sold mortgage loans. Management reported no pending material legal actions and believed ordinary-course claims would not materially affect financial position. No material change to the risk factors in the 2015 Form 10-K was reported. Disclosure controls were assessed as effective, with no material change in internal control over financial reporting during the quarter.
Important facts for investors to verify
- Whether the acquired branches retain deposits and deliver expected revenue or cost benefits; acquisition fair values were preliminary.
- Whether net interest margin stabilizes as the loan mix shifts and funding costs or market rates change.
- Credit trends, including commercial business loans downgraded to substandard, allowance adequacy, charge-offs and the new $320,000 OREO balance.
- Mortgage production, sale execution and servicing-right valuation, which is sensitive to prepayment and discount-rate assumptions.
- Funding and liquidity under deposit maturities, loan commitments and potential draws on available borrowing facilities.
- The effects of share repurchases and dividends on capital; confirm the remaining authorization and applicable capital-conservation requirements.