FS Bancorp, Inc. — Q3 2020 Form 10-Q
Reporting period: Three and nine months ended September 30, 2020; balance-sheet comparisons are to December 31, 2019. FS Bancorp is the holding company for 1st Security Bank of Washington, a community bank operating commercial and consumer banking and home lending businesses in Washington and other western states. Financial amounts below are in millions of dollars unless noted.
Key financial results
| Metric | Q3 2020 | Q3 2019 | 9M 2020 | 9M 2019 |
|---|---|---|---|---|
| Net interest income | $18.9 | $17.7 | $54.3 | $53.0 |
| Provision for loan losses | $3.1 | $0.6 | $11.4 | $2.2 |
| Noninterest income | $17.5 | $6.7 | $40.6 | $17.4 |
| Noninterest expense | $17.2 | $14.7 | $48.0 | $46.6 |
| Net income | $12.7 | $7.1 | $27.9 | $16.8 |
| Diluted EPS | $2.94 | $1.58 | $6.38 | $3.71 |
| Net interest margin | 3.92% | 4.54% | 4.03% | 4.61% |
- Revenue drivers: Gain on sale of loans was $16.2 million in Q3 and $35.5 million for 9M, versus $4.6 million and $10.6 million in the comparable 2019 periods. Management attributed the increase primarily to higher mortgage loan production and sales. Nine-month noninterest income also included a $1.5 million one-time gain on Visa Class B stock.
- Margins and costs: Lower market rates reduced asset yields, while lower deposit and borrowing costs supported net interest income. The decline in net interest margin reflected lower loan yields and larger low-yield cash balances. Efficiency ratio improved to 47.11% in Q3 and 50.61% for 9M, compared with 60.14% and 66.24%.
- Credit: Allowance for loan losses was $24.8 million, or 1.63% of gross loans excluding loans held for sale, versus $13.2 million, or 0.98%, at year-end 2019. Nonperforming loans rose to $7.6 million (0.50% of gross loans) from $3.0 million (0.22%). Nine-month net recoveries were $0.1 million, compared with $1.8 million of net charge-offs in 2019.
- Balance sheet and liquidity (September 30): Total assets were $2.05 billion, up 19.9% from year-end; net loans were $1.49 billion and loans held for sale were $215.1 million. Deposits were $1.61 billion, up $220.8 million; borrowings were $173.6 million, up $88.8 million. Cash and cash equivalents were $36.1 million, down from $45.8 million. Available-for-sale securities totaled $173.1 million.
- Debt and funding: Borrowings included $74.1 million of Federal Reserve PPPLF advances backed by PPP loans, $72.5 million of FHLB advances and $27.0 million outstanding on the FRB line. Subordinated notes were $9.9 million net of issuance costs. FHLB unused borrowing capacity was $495.5 million; the FRB line limit was $173.4 million. The Bank had no remaining PPPLF borrowing capacity.
- Cash flow (9M): Operating cash flow was negative $99.4 million, investing cash flow negative $208.5 million, and financing cash flow positive $298.2 million; cash and cash equivalents declined $9.7 million. Operating cash flow reflected substantial mortgage-loan originations and sales.
- Capital and shareholder returns: Stockholders’ equity was $220.6 million, compared with $200.2 million at year-end. The Bank’s CBLR leverage ratio was 10.7% and it was categorized as well capitalized. The company paid $0.63 per share in dividends during 9M and repurchased 227,010 shares for $8.7 million.
Material changes and management commentary
- Assets grew principally from loan growth, increased loans held for sale and securities purchases, funded by deposit growth and borrowings. Gross loans increased to $1.52 billion from $1.35 billion; commercial and industrial loans included $74.1 million in PPP loans.
- Mortgage refinancing activity rose sharply as rates fell. The company originated $1.35 billion of one-to-four-family loans in 9M, including loans for sale, portfolio loans and brokered loans; it sold $1.12 billion to investors. Loans held for sale more than tripled from year-end.
- Management said COVID-19-related economic uncertainty drove higher credit-loss provisions and could cause further increases in delinquencies, classified loans, charge-offs and the allowance. It expected net interest income and margin to remain under pressure during 2020 and possibly longer; the filing gives no formal earnings or financial guidance.
- At September 30, the filing reports COVID-related payment/relief agreements, but the disclosed portfolio balances differ by section: Note 1 and Note 18 report commercial real estate of $23.8 million and commercial business of $7.6 million, while the loan discussion reports $22.4 million and $9.0 million, respectively. Portfolio one-to-four-family and consumer relief balances are reported as $3.3 million and $0.28 million. The loans were described as current and accruing, and not classified as TDRs under applicable relief guidance.
- The 471 PPP loans totaled $74.1 million and were pledged to obtain matching non-recourse PPPLF advances. The company expects most PPP borrowers to seek forgiveness; forgiveness administration and timing remain risks.
- Other material risks include pandemic duration and economic recovery, borrower repayment capacity, local commercial real estate and hospitality exposure, interest-rate and LIBOR transition risk, mortgage refinancing and servicing-right valuation volatility, deposit retention, cybersecurity and third-party service disruptions, and potential goodwill impairment if adverse conditions persist.
- Commitments to extend credit were $611.4 million. Mortgage loan sales carry limited repurchase or indemnification exposure; the reserve for secondary-market loan guarantees was $1.8 million. Management reported no material pending legal actions and said ordinary-course claims were not expected to materially affect financial position.
Important facts for investors to verify
- Reconcile the inconsistent COVID-19 loan-modification balances reported in the notes and MD&A, and monitor performance as relief periods expire.
- Assess whether elevated mortgage gains and production are sustainable, and how mortgage prepayments affect servicing-right amortization and valuation.
- Track credit quality, classified and nonperforming loans, allowance adequacy, and concentration risk—particularly as pandemic-related support and borrower relief change.
- Review net interest margin sensitivity to low rates, deposit pricing, and LIBOR transition, alongside the composition and cost of borrowings.
- Monitor liquidity and capital as loan commitments are funded, deposits change, and PPP loans are forgiven and PPPLF advances are repaid.