First Northwest Bancorp quarterly report, Q2 FY2019

First Northwest Bancorp: 2019 Q2 Form 10-Q Summary

Business context and reporting period

First Northwest Bancorp is the holding company for First Federal Savings and Loan Association of Port Angeles, a community-oriented bank serving Western Washington through 13 locations, including 10 full-service offices, two interactive teller locations, and a home lending center. The unaudited filing covers the three and six months ended June 30, 2019, with comparisons to June 30, 2018 and December 31, 2018.

Financial performance and condition

Metric	Q2 2019	Q2 2018	Change
Net income	$2.1 million	$1.5 million	+36.2%
Diluted EPS	$0.21	$0.15	+$0.06
Net interest income	$9.3 million	$9.2 million	+$0.1 million
Net interest margin	3.10%	3.22%	-12 basis points
Noninterest income	$1.8 million	$1.4 million	+28.3%
Noninterest expense	$8.3 million	$8.3 million	-0.3%
Provision for loan losses	$0.3 million	$0.4 million	Decrease

For the six months ended June 30, 2019, net income was $4.3 million versus $3.0 million in the prior-year period, diluted EPS was $0.43 versus $0.29, net interest income was $18.7 million versus $18.1 million, and noninterest income was $3.2 million versus $2.9 million. The six-month net interest margin was 3.13%, down from 3.19%.

Total assets were $1.26 billion at June 30, 2019, essentially unchanged from year-end 2018.
Total loans were $879.1 million, up $9.3 million from December 31, 2018. Auto and other consumer loans increased $25.2 million and construction and land loans increased $9.6 million, while multi-family and one-to-four-family loans declined.
The allowance for loan losses was $9.7 million, or 1.1% of total loans, compared with $9.5 million, or 1.1%, at year-end.
Nonperforming loans declined to $1.3 million from $1.7 million, and nonperforming loans to total loans declined to 0.1% from 0.2%.
Deposits were $933.3 million, down 0.7% from year-end. Certificates of deposit totaled $257.4 million, including $13.7 million of brokered CDs.
Borrowings were $131.3 million, down $5.2 million from year-end, primarily reflecting lower FHLB advances.
Shareholders’ equity was $176.4 million, or 14.0% of assets. Book value per share was $16.15 versus $15.42 at December 31, 2018.
The Bank exceeded all regulatory capital requirements and remained well capitalized. The reported Tier 1 leverage ratio was 11.6%, common equity Tier 1 ratio was 17.4%, and total risk-based capital ratio was 18.5%.

Cash flow, liquidity, and capital

Six-month operating cash flow was $8.4 million, compared with $6.2 million in the prior-year period.
Investing activities provided $10.7 million, versus using $5.5 million in 2018, primarily because of lower loan growth and securities activity.
Financing activities used $16.6 million, including a $7.0 million decrease in deposits, $5.2 million of lower FHLB advances, $0.7 million of dividends, and $3.8 million of share repurchases.
Cash and cash equivalents increased to $28.8 million from $26.3 million at year-end. Available-for-sale securities of $250.1 million provided additional liquidity.
Certificates of deposit totaling $180.0 million, or 69.9% of CDs, mature within one year, creating potential refinancing and deposit-retention needs.
Total contractual obligations were $394.0 million, including $131.3 million of FHLB advances and $257.4 million of certificates of deposit.

Material changes versus comparable periods

Quarterly earnings growth was driven principally by higher loan-related interest income and a $0.4 million increase in noninterest income, including higher loan and deposit service fees and securities gains.
Interest expense increased 46.3% in the quarter and 50.6% for the first six months, primarily because of higher deposit rates, promotional savings products, increased certificate-of-deposit balances, and higher borrowing costs.
Asset yields increased, but funding costs increased faster, compressing the quarterly net interest margin by 12 basis points and the six-month margin by six basis points.
Six-month noninterest expense declined 3.0%, partly because of lower advertising and professional fees and a health-insurance carrier credit that reduced compensation expense.
The securities portfolio declined 6.0% from year-end to $288.0 million, while unrealized losses on available-for-sale securities narrowed materially. Management attributed unrealized losses primarily to interest-rate and market-demand changes rather than credit deterioration.
The Company repurchased 63,000 shares during the quarter at an average price of $16.20. Through June 30, 2019, it had repurchased 904,450 shares under the 2017 authorization, leaving 262,209 shares available.

Outlook, commentary, risks, and unusual items

The filing provides no formal earnings or financial guidance. Management expects continued margin pressure from a flat yield curve, a low-interest-rate environment, and competition for deposits.
Management is emphasizing loan and deposit diversification, geographic expansion, technology and infrastructure, and disciplined pricing. Loan growth was described as muted in the most recent quarter because of early multi-family loan repayments and competition for quality commercial credits.
Construction lending remains a focus, but management reported slowing construction activity and declining commitments. Construction commitments totaled $94.7 million, with $38.7 million undisbursed.
Indirect auto lending generated loan growth but was also the primary source of charge-offs. The Bank adjusted its indirect auto product offerings to improve credit quality and reduce future losses.
Management stated that the allowance for loan losses was adequate at June 30, 2019. However, the upcoming CECL credit-loss standard was expected to change loss-estimation processes, and the Company could not reasonably estimate its eventual impact.
The adoption of the new lease standard on January 1, 2019 added a $3.9 million right-of-use asset and corresponding lease liability.
Risks include economic and real-estate conditions in Western Washington, credit losses, interest-rate and deposit-cost volatility, liquidity and refinancing needs, competition, regulatory examinations, cybersecurity and third-party vendor disruptions, and execution of growth or acquisition strategies.
Legal proceedings were described as ordinary-course matters not currently expected to have a material effect. Management reported no material changes to previously disclosed risk factors or market-risk disclosures.

Important facts for investors to verify

Whether higher deposit and borrowing costs continue to compress net interest margin.
The performance and charge-off trends of the expanded indirect auto portfolio.
The effect of CECL adoption on the allowance for credit losses, retained earnings, and regulatory capital.
Deposit retention and funding costs as the $180.0 million of CDs maturing within one year approaches renewal.
Progress, credit quality, and concentration risk in construction, commercial real estate, multi-family, and auto lending.
Whether early loan prepayment fees and other noninterest income increases are recurring or unusual.
The pace and pricing of future share repurchases and their effect on capital and per-share results.