FS Bancorp, Inc. — FY 2013 Form 10-K
Business context and reporting period
Annual report for the fiscal year ended December 31, 2013; it is not a Q4-only report. FS Bancorp is the holding company for 1st Security Bank of Washington, a community bank serving the Puget Sound region. The bank operates seven branches and focuses on consumer, commercial real estate, commercial business, construction, and mortgage banking.
Financial and operating results
| Metric | FY 2013 / Dec. 31, 2013 | Comparable 2012 |
|---|---|---|
| Total assets | $419.2 million | $359.0 million |
| Deposits | $336.9 million | $288.9 million |
| Net loans receivable | $281.1 million | $274.9 million |
| Net interest income | $19.6 million | $16.4 million |
| Net interest margin | 5.33% | 5.43% |
| Noninterest income | $8.9 million | $6.2 million |
| Noninterest expense | $20.4 million | $16.5 million |
| Net income | $3.9 million; diluted EPS $1.29 | $5.3 million; diluted EPS $1.76 |
| Cash and cash equivalents | $38.5 million | $6.8 million |
| FHLB borrowings | $16.7 million | $6.8 million |
| Stockholders’ equity | $62.3 million | $59.9 million |
- Interest income rose 15.7% to $21.7 million; interest expense fell 7.8% to $2.2 million. Net interest income increased 19.1%, while margin declined 10 basis points.
- Provision for loan losses was $2.2 million, down from $2.9 million. Net charge-offs were $1.8 million, or 0.63% of average loans, versus $2.6 million, or 1.03%, in 2012.
- Nonperforming loans declined to $1.1 million (0.38% of gross loans) from $1.9 million (0.68%). Nonperforming assets were $3.2 million, or 0.77% of assets, versus $4.1 million, or 1.13%.
- Allowance for loan losses was $5.1 million, 1.77% of gross loans and 462.5% of nonperforming loans. The bank’s regulatory capital ratios exceeded “well-capitalized” thresholds: total risk-based 16.64%, Tier 1 risk-based 15.38%, and Tier 1 leverage 12.61%.
- The cash flow statement reports $6.1 million of operating cash inflow, $31.7 million of investing cash outflow, and $57.3 million of financing cash inflow, producing a $31.7 million increase in cash and cash equivalents.
Material changes versus 2012
- Net income fell 26%, despite higher pretax income ($5.9 million versus $3.2 million), largely because 2012 included a $2.3 million net tax benefit from reversing substantially all of the deferred-tax valuation allowance. FY 2013 had a $2.0 million tax expense.
- Total assets increased 16.8%; deposits rose 16.6%. Cash, securities, bank-owned life insurance, and loans held for sale also increased. The company purchased $6.0 million of bank-owned life insurance during the year.
- Loan growth was modest overall, but portfolio mix shifted: real estate loans rose to $115.3 million from $97.8 million, while commercial business loans fell to $49.2 million from $73.5 million, mainly as warehouse-line utilization declined. Construction and development loans increased to $41.6 million from $31.9 million.
- Mortgage loan sales and related gains expanded: gain on sale of loans rose to $6.4 million from $3.7 million. Noninterest expense rose 23.6%, including higher staffing, lending, occupancy, and public-company reporting costs; the efficiency ratio improved to 71.5% from 73.0%.
- Mortgage originations for sale totaled $250.1 million; $241.0 million was sold. The serviced-loan portfolio grew to $243.0 million from $130.5 million.
Outlook, risks, contingencies, and unusual items
- Management intends to diversify beyond consumer lending by developing commercial real estate, commercial business, residential construction, and mortgage banking, while maintaining its consumer lending franchise. It opened a Capitol Hill branch in 2013 and expected to add mortgage-banking staff in 2014; no specific acquisition was planned.
- Key risks include the concentration of lending in the Puget Sound region; consumer loans at 42.7% of gross loans; reliance on indirect home-improvement lending, including three dealers generating 58.2% of that channel’s volume; and increasing commercial and construction exposures. California consumer loans were $16.8 million, subject to a stated cap of 20% of consumer loans.
- Interest-rate, credit, liquidity, competition, regulatory, cybersecurity, third-party vendor, and execution risks are discussed. New Basel III capital rules were scheduled to begin in 2015, with the capital-conservation buffer phased in thereafter.
- The company sold $9.3 million of marine loans in December 2013, recognizing a $166,000 pretax gain and recording a $35,000 recourse reserve through June 14, 2014. It also recorded a $217,000 reserve for possible repurchases or indemnification related to representations and warranties on loans sold.
- A newly filed federal lawsuit arising from an alleged fraudulent $4.2 million deposit scheme sought substantial damages; the bank reported it had not been lawfully served and had not answered. A related state case had previously been dismissed with prejudice, and the appeal was dismissed. Management said ordinary-course legal claims were not expected to materially affect financial position.
- Management reported effective disclosure controls and internal control over financial reporting. The independent auditor gave an unqualified opinion on the financial statements; the auditor was not engaged to opine on internal-control effectiveness.
Important facts for investors to verify
- Reconcile the cash-flow narrative in MD&A, which describes operating activities as using $6.1 million, with the audited cash flow statement, which reports $6.1 million provided by operations.
- Assess whether the 2013 earnings level is sustainable without the one-time 2012 deferred-tax valuation-allowance reversal, and monitor realization of the $816,000 deferred tax asset.
- Review credit performance and allowance adequacy as commercial, construction, California, solar, and other newer or less-seasoned lending exposures grow.
- Track mortgage banking gains, expenses, servicing-right valuations, loan-sale repurchase exposure, and warehouse lending as interest rates and refinancing volumes change.
- Monitor deposit mix and maturities, brokered deposits ($16.9 million), FHLB advances, unused borrowing capacity, and the implications of new capital rules for dividends and growth.