PONCE FINANCIAL GROUP, INC. The following management's discussion and analysis of the financial condition and results of our operations should be read in conjunction with the consolidated financial statements and related notes included elsewhere in this Annual Report on Form 10-K. This discussion contains forward-looking statements that involve risks and uncertainties. Our actual results could differ materially from those described below. Such risks and uncertainties include, but are not limited to, those identified below and those described in Part I, Item 1A. "Risk Factors," within this Annual Report on Form 10-K.
Overview
We have made significant investments over the last several years in adding experienced bankers, expanding our lending and relationship staff, absorbing the costs of being a public company and upgrading technology and facilities. These investments have increased our operating expenses during those periods. However, during those same periods, we have been able to significantly grow the Bank's loan portfolio while improving its asset quality and strengthening its capital. Abrupt changes in interest rates will present us with a challenge in managing our interest rate risk. As a general matter, our interest-bearing liabilities reprice or mature more quickly than our interest-earning assets, which can result in interest expense increasing more rapidly than increases in interest income as interest rates increase and lowering our interest expense faster than lowering our interest income as interest rates decrease. Therefore, increases in interest rates may adversely affect our net interest income and net economic value, which in turn would likely have an adverse effect on our results of operations. Conversely, decreases in interest rates may have a favorable affect on our net interest income and net economic value, which in turn would likely have a positive effect on our results of operations. As described in "-Management of Market Risk," we expect that our net interest income and our net economic value would react inversely to instantaneous changes in interest rates. To help manage interest rate risk, we promote core deposit products and we are diversifying our loan portfolio by introducing new lending programs. See "-Business Strategy", "-Management of Market Risk" and "Risk Factors-Future changes in interest rates could reduce our profits and asset values."
Business Strategy
Our goal is to provide long-term value to our stakeholders, our stockholders, customers, employees and the communities we serve by executing a safe and sound business strategy that produces increasing value. We believe there is a significant opportunity for an immigrant community-focused, minority directed bank to provide a full range of financial services to commercial and retail customers in our market area. The additional capital we obtained from the stock offering ofSeptember 29, 2017 , continues to enabled us to compete more effectively in the financial services marketplace.
Our current business strategy consists of the following:
• Continue to expand our multifamily and nonresidential loans. The
additional capital raised in the stock offering increased our capacity to
originate multifamily and nonresidential loans. Under our current board
approved loan concentration policy, such loans, including construction and
land loans, shall not exceed 400% of our total risk-based capital. Most
multifamily and nonresidential loans are originated with adjustable rates
and, as a result, these loans are expected to change loan yields due to
their shorter repricing terms compared to longer-term fixed-rate loans.
• Community lending programs. The Bank is an authorized direct lender under
the
pre-existing products, bolster the Bank's commitment to continue to serve
the communities that it has supported over the past sixty years.
• Continue to increase core deposits, with an emphasis on low costcommercial demand deposits, and add non-core funding sources. Deposits are
the major source of balance sheet funding for lending and other
investments. Certificates of deposits, brokered deposits, and listing
service deposits supplement the Bank's funding base. We have made
significant investments in new products and services, marketing programs,
personnel, branch distribution system as well as enhancing our electronic
delivery solutions in an effort to become more competitive in the
financial services marketplace and attract more core deposits. Core
deposits are our least costly source of funds and represent our bestopportunity to develop customer relationships that enable us to cross-sell
our enhanced products and services.
46
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• Manage credit risk to maintain a low level of nonperforming assets. We
believe strong asset quality is a key to our long-term financial success.
Our strategy for credit risk management focuses on having an experienced
team of credit professionals, well-defined policies and procedures,
appropriate loan underwriting criteria and active credit monitoring. The
majority of our non-performing assets have been related, largely, to
one-to-four family residential loans and, to a lesser extent, construction
and land loans. We continue to focus on our credit review function, adding
both personnel and ancillary systems, in order to be able to evaluate more
complex loans and better manage credit risk, to further support our
intended loan growth.
• Expand our employee base to support future growth. We have already made
significant investments in our employee base. However, we will continue to
work to attract and retain the necessary talent to support increased
lending, deposit activities and enhanced information technology.
• Grow organically and through opportunistic bank or branch acquisitions. We
focus primarily on organic growth as a lower-risk means of deploying our
capital. We will fund improvements in our operating facilities and
customer delivery services in order to enhance our competitiveness.
Opportunistic acquisition possibilities are explored if we believe they
would enhance the value of our franchise and yield potential financial
benefits for our stakeholders. Although we believe opportunities exist to
increase our market share in our current banking locations, we will not be
adverse to expanding into nearby markets, enlarging our current branch
network, or adding loan production offices, provided we believe suchefforts would enhance our competitive standing. Consequently, in 2019 the
Company announced entering into a definitive agreement to acquire Mortgage
World Bankers, Inc. ; we are awaiting regulatory approval.
Non-
The following discussion contains certain non-U.S. GAAP financial measures in addition to results presented in accordance withU.S. GAAP. These non-U.S. GAAP measures are intended to provide the reader with additional supplemental perspectives on operating results, performance trends, and financial condition. Non-U.S. GAAP financial measures are not a substitute forU.S. GAAP measures; they should be read and used in conjunction with the Company'sU.S. GAAP financial information. The Company's non-U.S. GAAP measures may not be comparable to similar non-U.S. GAAP information which may be presented by other companies. In all cases, it should be understood that non-U.S. GAAP operating measures do not depict amounts that accrue directly to the benefit of shareholders. An item that management excludes when computing non-U.S. GAAP adjusted earnings can be of substantial importance to the Company's results and condition for any particular year. A reconciliation of non-U.S. GAAP financial measures toU.S. GAAP measures is provided below. TheSEC has exempted from the definition of non-U.S. GAAP financial measures certain commonly used financial measures that are not based onU.S. GAAP. Management believes that these non-U.S. GAAP financial measures are useful in evaluating the Company's financial performance and facilitate comparisons with the performance of other financial institutions. However, that information should be considered supplemental in nature and not as a substitute for related financial information prepared in accordance withU.S. GAAP. The table below includes references to the Company's net income and earnings per share for the year endedDecember 31, 2019 before deduction of expenses related to termination of the Company's Defined Benefit Pension Plan (Defined Benefit Plan"). In management's view, that information, which is considered non-U.S. GAAP information, may be useful to investors as it will improve comparability of core operations year over year and in future periods. The non-U.S. GAAP net income amount and earnings per share reflect adjustments of the non-recurring charges associated with termination of the Defined Benefit Plan, net of tax effect. A reconciliation of the non-U.S. GAAP information toU.S. GAAP net income and earnings per share is provided below. 47 -------------------------------------------------------------------------------- Non-U.S. GAAP Reconciliation - Net Income Before Loss on Termination of Defined Benefit Plan (Unaudited) Year Ended Earnings PerDecember 31, 2019 Common Share (1) (Dollars in
thousands, except per share
data)
Net loss - U.S. GAAP $ (5,125 ) $ (0.29 ) Loss on termination of pension plan 9,930 Income tax benefit (2,086 ) Net income before loss on termination of pension plan - non-U.S. GAAP $ 2,719 $ 0.16
(1) Basic earnings per share were computed (for the
basis) based on the weighted average number of shares outstanding during
the year ended
of outstanding stock options and vesting of restricted stock units were
included in computing the non-
not result in material dilution.
Critical Accounting Policies
Critical accounting estimates are necessary in the application of certain accounting policies and procedures and are particularly susceptible to significant change. Critical accounting policies are defined as those involving significant judgments and assumptions by management and that could have a material impact on the carrying value of certain assets or on income under different assumptions or conditions. Management believes that the most critical accounting policy relates to the allowance for loan losses. The allowance for loan losses is established as probable losses are estimated to occurred through a provision for loan losses charged to earnings. Loan losses are charged against the allowance when management believes the uncollectibility of a loan balance is confirmed. Subsequent recoveries, if any, are credited to the allowance. The discussion and analysis of the financial condition and results of operations are based on our consolidated financial statements, which are prepared in conformity withU.S. GAAP. The preparation of these consolidated financial statements requires management to make estimates and assumptions affecting the reported amounts of assets and liabilities, disclosure of contingent assets and liabilities, and the reported amounts of income and expenses. We consider the accounting policies discussed to be significant accounting policies. The estimates and assumptions that we use are based on historical experience and various other factors and are believed to be reasonable under the circumstances. Actual results may differ from these estimates under different assumptions or conditions, resulting in a change that could have a material impact on the carrying value of the Company's assets and liabilities and results of operations.
See Note 1, "Nature of Business and Summary of Significant Accounting Policies," of the Notes to the accompanying Consolidated Financial Statements for a discussion of significant accounting policies.
Factors Affecting the Comparability of Results
Defined Benefit Plan. As has previously been disclosed, onMay 31, 2007 , the Company's Defined Benefit Plan was frozen and replaced with a qualified defined contribution plan. OnMay 31, 2019 , the Company's Board of Directors approved the termination of the Defined Benefit Plan which was liquidated onDecember 1, 2019 . During 2019, we offered participants in the Defined Benefit Plan with vested qualified benefits the option of receiving their benefits in a lump sum payment in lieu of receiving monthly annuity payments. Approximately 115 participants elected to receive the lump sum payments aggregating approximately$6.4 million which were paid from plan assets to these participants during the fourth quarter of 2019. Also, during the fourth quarter of 2019, the Company transferred the remainder of the Defined Benefit Plan's pension obligations to a third party insurance provider by purchasing annuity contracts aggregating approximately$7.4 million which was fully funded directly by plan assets. The benefit obligations settled by the lump sum payments and annuity contracts resulted in payments from plan assets of approximately$13.9 million . The remaining previously unrecognized losses in accumulated other comprehensive loss relating to the Defined Benefit Plan were recognized as an expense and a pre-tax charge of approximately$9.9 million ($7.8 million after-tax) was recorded in other income (expense), net, in our consolidated statements of operations during the fourth quarter of 2019. Share Repurchases. The Board of Directors approved two repurchase programs of the Company's stock, the first onMarch 25, 2019 and the second onNovember 13, 2019 . See Note 9, "Compensation and Benefit Plans," of the Notes to Consolidated Financial Statements included herein for additional information on our stock repurchase programs. For the year endedDecember 31, 2019 , the 48 --------------------------------------------------------------------------------
Company repurchased approximately 1.1 million shares at an average price of
Basis of Presentation. Certain prior period amounts have been reclassified to conform to the current period presentation.
Financial Conditions
Comparison of Financial Condition at
Total Assets. Total assets remained essentially unchanged at
Cash and Cash Equivalents. Cash and cash equivalents decreased$42.1 million , or 60.3%, to$27.7 million atDecember 31, 2019 , compared to$69.8 million atDecember 31, 2018 . The decrease in cash and cash equivalents was primarily driven by a repayment of$25.0 million of short-term advances from a correspondent bank,$15.8 million of repurchases of common stock, a decrease of$27.7 million in deposits, an increase of$42.2 million in gross loans and$34.0 million of purchases of available-for-sale securities, offset by an increase of$60.0 million in net advances from FHLBNY,$39.6 million of maturities of available-for-sale securities and$3.6 million from the sale of loans.Available-for-Sale Securities . The composition of available-for-sale securities atDecember 31, 2019 and 2018 and the amounts maturing of each classification are summarized as follows: December 31, 2019 December 31, 2018 Amortized Fair Amortized Fair Cost Value Cost Value (Dollars in thousands)U.S. Government andFederal Agency Securities : Amounts maturing: Three months or less$ 2,000 $ 2,000 $ 4,997 $ 4,995 After three months through one year 14,373 14,354 4,554 4,497 After one year through five years - - 16,370 16,018 16,373 16,354 25,921 25,510 Mortgage-Backed Securities 5,162 5,150 1,648 1,634 Total$ 21,535 $ 21,504 $ 27,569 $ 27,144
Gross Loans Receivable. The composition of gross loans receivable
at
December 31, 2019 December 31, 2018 Increase (Decrease)
Percent Percent
Amount of Total Amount of Total Dollars Percent
(Dollars in thousands)
Mortgage loans:
1-4 Family residential
Investor-Owned $ 305,272 31.6 % $ 303,197 32.6 % $ 2,075 0.7 %
Owner-Occupied 91,943 9.5 % 92,788 10.0 % (845 ) (0.9 %)
Multifamily residential 250,239 25.9 % 232,509 25.0 % 17,730 7.6 %
Nonresidential properties 207,225 21.4 % 196,917 21.2 % 10,308 5.2 %
Construction and land 99,309 10.3 % 87,572 9.4 % 11,737 13.4 %
Nonmortgage loans:
Business loans 10,877 1.1 % 15,710 1.7 % (4,833 ) (30.8 %)
Consumer loans 1,231 0.1 % 1,068 0.1 % 163 15.3 %
Total $ 966,096 100.0 % $ 929,761 100.0 % $ 36,335 3.9 %
The composition of the loan portfolio increased
49
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Commercial real estate mortgage loans, as defined by applicable banking
regulations, include multifamily residential, nonresidential properties, and
construction and land mortgage loans. At December 31, 2019 , approximately 8.0%
of the outstanding principal balance of the Bank's commercial real estate
mortgage loans was secured by owner-occupied commercial real estate, compared to
10.1% at December 31, 2018 . Owner-occupied commercial real estate is similar in
many ways to commercial and industrial lending in that these loans are generally
made to businesses predominantly on the basis of the cash flows of the business
rather than on cash flows and valuation of the real estate.
Banking regulations have established guidelines relating to the amount of
construction and land mortgage loans and investor-owned commercial real estate
mortgage loans of 100% and 300% of total risk-based capital,
respectively. Should a bank's ratios be in excess of these pronouncements,
banking guidelines generally require an increased level of monitoring in these
lending areas by bank management. The Bank's policy is to operate within the
100% guideline for construction and land mortgage loans and up to 400% for
investor-owned commercial real estate mortgage loans. Both ratios are calculated
by dividing certain types of loan balances for each of the two categories by the
Bank's total risk-based capital. At December 31, 2019 and 2018, the Bank's
construction and land mortgage loans as a percentage of total risk-based capital
was 67.4% and 58.6%, respectively. Investor-owned commercial real estate
mortgage loans as a percentage of total risk-based capital was 349.7% and 313.1%
as of December 31, 2019 and 2018, respectively. At December 31, 2019 , the Bank
was within the 100% ratio for construction and land mortgage loans established
by banking guidelines, but exceeded the 300% guideline for investor-owned
commercial real estate mortgage loans. However, the Bank was within its 400%
policy limit established by the Bank's internal loan policy. Management believes
that it has established the appropriate level of controls to monitor the Bank's
lending in these areas and is, accordingly, within the monitoring guidelines.
Deposits. The composition of deposits at
December 31, December 31, Increase (Decrease)
2019 2018 Dollars Percent
(Dollars in thousands)
Demand $ 109,548 $ 115,923 $ (6,375 ) (5.5 %)
Interest-bearing deposits:
NOW/IOLA accounts 32,866 30,783 2,083 6.8 %
Money market accounts 86,721 64,262 22,459 34.9 %
Reciprocal deposits 47,659 51,913 (4,254 ) (8.2 %)
Savings accounts 115,751 122,791 (7,040 ) (5.7 %)
Total savings, NOW, reciprocal and money market 282,997 269,749 13,248 4.9 %
Certificates of deposit of $250K or more 84,263 90,195 (5,932 ) (6.6 %)
Brokered certificates of deposit 76,797 67,157 9,640 14.4 %
Listing service deposits 32,400 39,065 (6,665 ) (17.1 %)
All other certificates of deposit less than
227,669 (31,631 ) (13.9 %) Total certificates of deposit 389,498 424,086 (34,588 ) (8.2 %) Total interest-bearing deposits 672,495 693,835 (21,340 ) (3.1 %) Total deposits$ 782,043 $ 809,758 $ (27,715 ) (3.4 %) When wholesale funding is necessary to complement the Bank's core deposit base, management determines which source is best suited to address both liquidity risk and interest rate risk in line with management objectives. The Bank's Interest Rate Risk Policy imposes limitations on overall wholesale funding and noncore funding reliance. The overall reliance on wholesale funding and noncore funding were within those policy limitations as ofDecember 31, 2019 and 2018. The Management Asset/Liability Committee generally meets on a weekly basis to review needs, if any, and to ensure that the Bank is operating within the approved limitations. Borrowings. The Bank had outstanding borrowings atDecember 31, 2019 and 2018 of$104.4 million and$69.4 million , respectively. These borrowings are in the form of advances from the FHLBNY and borrowings from our correspondent banking relationships. The net increase in borrowings was due to new FHLBNY term advances of$90.0 million for a term of three years, at an average rate of 2.0%, offset by the repayment of$30.0 million of FHLBNY term advances (excluding overnight advances) and$25.0 million in short-term advances from a correspondent bank. Stockholders' Equity. Total stockholders' equity decreased$10.8 million , or 6.4%, to$158.4 million atDecember 31, 2019 , from$169.2 million atDecember 31, 2018 . The decrease in stockholders' equity was mainly attributable to$15.8 million of stock repurchases, a net loss of$5.1 million offset by a net$7.8 million adjustment to accumulated other comprehensive loss related to the termination of the Defined Benefit Plan,$1.2 million of expenses related to restricted stock units,$707,000 of expenses related to the Company's Employee Stock Ownership Plan,$311,000 related to unrealized loss on available-for-sale securities and$101,000 of expenses related to stock options. 50 --------------------------------------------------------------------------------
Results of Operations
Comparison of Operating Results for the Years Ended
The following table presents the results of operations for the periods
indicated:
For the Years Ended
December 31, Increase (Decrease)
2019 2018 Dollars Percent
(Dollars in thousands, except per share data)
Interest and dividend income $ 50,491 $ 46,156 $ 4,335 9.4 %
Interest expense 12,358 9,490 2,868 30.2 %
Net interest income 38,133 36,666 1,467 4.0 %
Provision for loan losses 258 1,249 (991 ) (79.3 %)
Net interest income after provision for loan losses 37,875 35,417 2,458 6.9 %
Noninterest income 2,683 2,938 (255 ) (8.7 %)
Noninterest expense 46,607 34,557 12,050 34.9 %
Income (loss) before income taxes (6,049 ) 3,798 (9,847 ) (259.3 %)
Provision (benefit) for income taxes (924 ) 1,121 (2,045 ) (182.4 %)
Net income (loss) $ (5,125 ) $ 2,677 $ (7,802 ) (291.4 %)
Earnings (loss) per share for the period
Basic $ (0.29 ) $ 0.15 $ (0.44 ) (293.3 %)
Diluted $ (0.29 ) $ 0.15 $ (0.44 ) (293.3 %)
General. Consolidated net loss for the year ended December 31, 2019 , was ($5.1
million ) compared to a net income of $2.7 million for the year ended
December 31, 2018 . The decrease was primarily attributable to an increase of
$12.1 million in noninterest expense, mainly due to a $9.9 million ($7.8
million , net of tax effect) loss incurred from the termination of the Company's
Defined Benefit Plan, and a decrease of $255,000 in non-interest income offset
by an increase of $2.5 million in net interest income after the provision for
loan losses and a decrease of $2.0 million in provision for income taxes.
Excluding the one-time charge, the Company would have reported net income of
$2.7 million , or $0.16 per share.
Interest Income. Interest and dividend income increased $4.3 million , or 9.4%,
to $50.5 million for the year ended December 31, 2019 , from $46.2 million for
the year ended December 31, 2018 . The increase was primarily due to a $4.4
million , or 9.7%, increase in interest income on loans, which is our primary
source of interest income, offset by a decrease of $0.1 million of other
interest and dividend income. Average loan balances increased $79.1 million , or
9.0%, to $946.2 million for the year ended December 31, 2019 from $867.0 million
for the year ended December 31, 2018 . The increase in average loan balances was
mainly driven by increases in the multifamily residential, nonresidential,
one-to-four family residential, and construction and land mortgage loan
portfolios. The average yield on loans increased 3 basis point to 5.21% for the
year ended December 31, 2019 from 5.18% for the year ended December 31, 2018 .
For the Years Ended
December 31, Change
2019 2018 Amount Percent
(Dollars in thousands)
1-4 Family residential $ 20,339 $ 19,799 $ 540 2.7 %
Multifamily residential 12,053 10,699 1,354 12.7 %
Nonresidential properties 9,621 8,485 1,136 13.4 %
Construction and land 6,374 5,042 1,332 26.4 %
Business loans 824 852 (28 ) (3.3 %)
Consumer loans 96 71 25 35.2 %
Total interest income on loans receivable $ 49,307 $ 44,948 $ 4,359 9.7 %
Interest income on deposits due from banks and available-for-sale securities and
dividend income from FHLBNY stock remained unchanged at $1.2 million for the
years ended December 31, 2019 and 2018. The average balance of deposits due from
banks, available-for-sale securities and FHLBNY stock decreased $9.1 million , or
13.1%, to $60.3 million for the year ended December 31, 2019 , from $69.4 million
for the year ended December 31, 2018 . The average rate earned on deposits due
from banks, available-for-sale securities and FHLBNY stock increased 23 basis
points to 1.97% for the year ended December 31, 2019 from 1.74% for the year
ended December 31, 2018 .
51
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For the Years Ended
December 31, Change
2019 2018 Amount Percent
(Dollars in thousands)
Interest on deposits due from banks $ 617 $ 679 $ (62 ) (9.1 %)
Interest on available-for-sale securities 362 381 (19 ) (5.0 %)
Dividend on FHLBNY stock 206 148 58 39.2 %
Total interest and dividend $ 1,185 $ 1,208 Interest Expense. Interest expense increased$2.9 million , or 30.2%, to$12.4 million for the year endedDecember 31, 2019 , from$9.5 million for the year endedDecember 31, 2018 . Interest expense on money market accounts increased$1.8 million to$2.5 million for the year endedDecember 31, 2019 from$701,000 for the same period in 2018. The average balance of money market accounts increased$64.6 million to$124.7 million for the year endedDecember 31, 2019 from$60.1 million for the same period last year, while the average rate paid on money market accounts increased 87 basis points to 2.04% for the year endedDecember 31, 2019 from 1.17% for the year endedDecember 31, 2018 . Interest expense on certificates of deposit remained essentially unchanged at$7.6 million for the years endedDecember 31, 2019 and 2018. The average balance on certificates of deposit decreased$36.7 million , or 8.4%, to$403.0 million for the year endedDecember 31, 2019 from$439.7 million for the same period last year, and the average rate the Bank paid on certificates of deposit increased 17 basis points to 1.90% for the year endedDecember 31, 2019 from 1.73% for the same period in 2018. Interest expense on borrowings increased$955,000 , or 106.2%, to$1.9 million for the year endedDecember 31, 2019 from$899,000 for the year endedDecember 31, 2018 . The average balance on borrowings increased$42.7 million , or 122.5%, to$77.6 million for the year endedDecember 31, 2019 from$34.9 million for the same period last year, and the average rate the Bank paid on borrowings decreased 19 basis points to 2.39% for the year endedDecember 31, 2019 from 2.58% for the same period in 2018. Increased funding costs were primarily driven by management's efforts to retain high balance customers in higher yielding liquid deposits and higher market interest rates being offered by the Bank's competitors, combined with a resulting shift towards alternative funding during the year endedDecember 31, 2019 . For the Years Ended December 31, Change 2019 2018 Amount Percent (Dollars in thousands) Certificates of deposit$ 7,677 $ 7,617$ 60 0.8 % Money market 2,549 701 1,848 263.6 % Savings 152 168 (16 ) (9.5 %) NOW/IOLA 122 102 20 19.6 % Advance payments by borrowers 4 3 1 33.3 % Borrowings 1,854 899 955 106.2 % Total interest expense$ 12,358 $ 9,490$ 2,868 30.2 % Net Interest Income. Net interest income increased$1.5 million , or 4.0%, to$38.1 million for the year endedDecember 31, 2019 from$36.7 million for the year endedDecember 31, 2018 , primarily as a result of organic loan growth offset by higher average cost of funds on interest bearing liabilities. Average net interest-earning assets increased by$5.1 million , or 2.1%, to$245.4 million for the year endedDecember 31, 2019 from$240.3 million for the same period in 2018, due primarily to increases of$64.6 million in average money market accounts and$42.7 million in borrowings offset by a decrease of$36.7 million in certificates of deposit and an increase of$79.1 million in loans. The net interest rate spread decreased by 17 basis points to 3.40% for the year endedDecember 31, 2019 from 3.57% for the year endedDecember 31, 2018 , and the net interest margin was 3.79% and 3.92% for the years endedDecember 31, 2019 and 2018, respectively. The compression on the net interest margin was primarily caused by organic loan growth being offset by higher market interest rates due to increased competition for deposits and increased funding costs attributed to increased alternative funding. 52 -------------------------------------------------------------------------------- Management continued in 2019 to deploy various asset and liability management strategies to manage the Bank's risk of interest rate fluctuations. Net interest margin decrease 13 basis points in 2019, reflecting that pricing for creditworthy borrowers and meaningful depositors remained very competitive. TheFederal Reserve Board reduced the federal funds interest rate by 25 basis points on each ofJuly 31 ,September 18 , andOctober 30, 2019 . Further, onMarch 3, 2020 , andMarch 15, 2020 , theFederal Reserve Board , in emergency actions, decreased the targeted federal funds rate by an aggregate of 150 basis points. These rate cuts were in response to severe market turmoil. As a result of these rate cuts and in the event that short-term interest rates were to be cut further in 2020 or beyond, the Bank's net interest margin will likely be negatively impacted as management's ability to lower funding costs on interest-bearing deposits would more than likely not exceed the pace with which these cuts would impact the Bank's yields on its earning assets. Although it could be anticipated that the Bank's net interest margin may continue to decrease in 2020, we believe net interest income should continue to increase compared to 2019 primarily due to increased average earning asset volumes, primarily loans. Management will continue to seek to fund these increased loan volumes by growing its core deposits, but will utilize funding alternatives, as needed. Provision for Loan Losses. The provision for loan losses represents a charge to earnings necessary to establish ALLL that, in management's opinion, should be adequate to provide coverage for the inherent losses on outstanding loans. In evaluating the level of the ALLL, management analyzes several qualitative loan portfolio risk factors including, but not limited to, management's ongoing review and grading of loans, facts and issues related to specific loans, historical loan loss and delinquency experience, trends in past due and non-accrual loans, existing risk characteristics of specific loans or loan pools, the fair value of underlying collateral, current economic and market conditions and other qualitative and quantitative factors which could affect potential credit losses. See "-Summary of Significant Accounting Policies" and "Business-Allowance for Loan and Lease Losses" for additional information. After an evaluation of these factors, the Bank established a provision for loan losses for the year endedDecember 31, 2019 of$258,000 compared to$1.2 million for the year endedDecember 31, 2018 . To the best of management's knowledge, the Bank recorded all loan losses that are both probable and reasonably expected. However, future changes in the factors described above, including, but not limited to, actual loss experience with respect to the Bank's loan portfolio, could result in material increases in the Bank's provision for loan losses. In addition, the OCC, as an integral part of its examination process, periodically reviews the Bank's allowance for loan losses and as a result of such reviews, the Bank may determine to adjust the allowance for loan losses. However, regulatory agencies are not directly involved in establishing the allowance for loan losses as the process is management's responsibility and any increase or decrease in the allowance is the responsibility of management. The Bank has selected a CECL model and has begun assessing plausible scenarios. The extent of the change to ALLL is indeterminable at this time as it will be dependent upon the portfolio composition and credit quality at the adoption date, as well as economic conditions and forecasts at that time. The Company is taking advantage of the extended transition period for complying with this new accounting standard. Assuming it remains a smaller reporting company, the Company will adopt the CECL standard for fiscal years beginning afterDecember 15, 2022 . See Note 1, "Nature of Business and Summary of Significant Accounting Policies" of the Notes to the accompanying Consolidated Financial Statements for a discussion of the CECL standard. Non-interest Income. Total non-interest income decreased$255,000 , or 8.7%, to$2.7 million for the year endedDecember 31, 2019 from$2.9 million for the year endedDecember 31, 2018 . The decrease in non-interest income for the year endedDecember 31, 2019 compared to the year endedDecember 31, 2018 was primarily due to decreases of$530,000 in brokerage commissions and other non-interest income offset by increases of$275,000 in late and prepayment charges and service charges and fees. For the Years Ended December 31, Change 2019 2018 Amount Percent (Dollars in thousands) Service charges and fees$ 971 $ 845 $ 126 14.9 % Brokerage commissions 212 533 (321 ) (60.2 %) Late and prepayment charges 755 606 149 24.6 % Other 745 954 (209 ) (21.9 %) Total non-interest income$ 2,683 $ 2,938 $ (255 ) (8.7 %) 53
-------------------------------------------------------------------------------- Non-interest Expense. Total non-interest expense increased$12.1 million , or 34.9%, to$46.6 million for the year endedDecember 31, 2019 , compared to$34.6 million for the year endedDecember 31, 2018 . The$12.1 million increase for the year endedDecember 31, 2019 compared to the year endedDecember 31, 2018 , is primarily attributable to a one-time charge of$9.9 million for the termination of the Defined Benefit Plan, of which$7.8 million was previously recognized in accumulated other comprehensive income (loss), a$2.1 million charge-off related to the deferred tax asset associated with the Defined Benefit Plan, an increase of$944,000 in compensation and benefits expense largely as a result of expenses related to restricted stock units and stock options and an increase of$939,000 in occupancy and equipment expense due to the rebranding and branch network renovation initiatives. Other contributing factors were a$208,000 increase in other operating expenses as a result of increases in recruiting fees of$112,000 and$55,000 in expenses related to the repurchase of common shares, a$168,000 increase in data processing expenses as a result of system enhancements and implementation charges related to software upgrades and additional product offerings, a$83,000 increase in professional fees associated with public reporting requirements and a$45,000 increase in insurance and surety bond premium expense. The increase in non-interest expense was partially offset by decreases of$96,000 for direct loan expense,$124,000 for office supplies, telephone and postage and$57,000 for marketing and promotional expenses. For the Years Ended December 31, Change 2019 2018 Amount Percent (Dollars in thousands) Compensation and benefits$ 18,883 $ 17,939 $ 944 5.3 % Loss on termination of pension plan 9,930 - 9,930 - Occupancy and equipment 7,612 6,673 939 14.1 % Data processing expenses 1,576 1,408 168 11.9 % Direct loan expenses 692 788 (96 ) (12.2 %) Insurance and surety bond premiums 414 369 45 12.2 % Office supplies, telephone and postage 1,185 1,309 (124 ) (9.5 %) Professional fees 3,237 3,154 83 2.6 % Marketing and promotional expenses 158 215 (57 ) (26.5 %) Directors fees 294 277 17 6.1 % Regulatory dues 231 238 (7 ) (2.9 %) Other operating expenses 2,395 2,187 208 9.5 % Total noninterest expense$ 46,607 $ 34,557 $ 12,050 34.9 % Income Tax Expense. The Company incurred an income tax benefit of ($924,000 ) for the year endedDecember 31, 2019 and$1.1 million in income tax expense for the year endedDecember 31, 2018 , resulting in effective tax rates of 15.3% and 29.5%, respectively. AtDecember 31, 2019 and 2018, net deferred tax assets amounted to$3.7 million and$3.8 million , respectively. 54
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Comparison of Operating Results for the Years Ended
The following table presents the results of operations for the periods
indicated:
For the Years Ended
December 31, Increase (Decrease)
2018 2017 Dollars Percent
(Dollars in thousands, except per share data)
Interest and dividend income $ 46,156 $ 38,989 $ 7,167 18.4 %
Interest expense 9,490 6,783 2,707 39.9 %
Net interest income 36,666 32,206 4,460 13.8 %
Provision for loan losses 1,249 1,716 (467 ) (27.2 %)
Net interest income after provision for loan losses 35,417 30,490 4,927 16.2 %
Noninterest income 2,938 3,104 (166 ) (5.3 %)
Noninterest expense 34,557 36,557 (2,000 ) (5.5 %)
Income (loss) before income taxes 3,798 (2,963 ) 6,761 228.2 %
Provision for income taxes 1,121 1,424 (303 ) (21.3 %)
Net income (loss) $ 2,677 $ (4,387 ) $ 7,064 161.0 %
Earnings per share for the period
Basic $ 0.15 $ (0.16 ) $ 0.31 193.8 %
Diluted $ 0.15 $ (0.16 ) $ 0.31 193.8 %
General. Consolidated net income increased
Interest Income. Interest and dividend income increased$7.2 million , or 18.4%, to$46.2 million for the year endedDecember 31, 2018 , from$39.0 million for the year endedDecember 31, 2017 . The increase was primarily due to a$6.8 million , or 17.8%, increase in interest income on loans, which is our primary source of interest income. Average loan balances increased$131.5 million , or 17.9%, to$867.0 million for the year endedDecember 31, 2018 from$735.6 million for the year endedDecember 31, 2017 . The increase in average loan balances was mainly driven by increases in the multifamily residential mortgage, nonresidential mortgage, one-to-four family residential mortgage, and construction and land loan portfolios. The average yield on loans decreased 1 basis point to 5.18% for the year endedDecember 31, 2018 from 5.19% for the year endedDecember 31, 2017 . For the Years Ended December 31, Change 2018 2017 Amount Percent (Dollars in thousands) 1-4 Family residential$ 19,799 $ 18,322 $ 1,477 8.1 % Multifamily residential 10,699 8,908 1,791 20.1 % Nonresidential properties 8,485 7,193 1,292 18.0 % Construction and land 5,042 2,843 2,199 77.3 % Business loans 852 846 6 0.7 % Consumer loans 71 60 11 18.3 % Total interest income on loans receivable$ 44,948 $ 38,172 $ 6,776 17.8 % 55
-------------------------------------------------------------------------------- Interest and dividend income on deposits due from banks, available-for-sale securities and FHLBNY stock increased$391,000 , or 47.9%, to$1.2 million for the year endedDecember 31, 2018 , from$817,000 for the year endedDecember 31, 2017 . The yield on deposits due from banks, available-for-sale securities and FHLBNY stock increased 42 basis points to 1.74% for the year endedDecember 31, 2018 , from 1.33% for the year endedDecember 31, 2017 . The average balance of deposits due from banks, available-for-sale securities and FHLBNY stock increased$3.8 million , or 5.8%, to$69.4 million for the year endedDecember 31, 2018 , from$65.5 million for the year endedDecember 31, 2017 . For the Years Ended December 31, Change 2018 2017 Amount Percent (Dollars in thousands) Interest on deposits due from banks$ 679 $ 259 $ 420 162.2 % Interest on available-for-sale securities 381 480 (99 ) (20.6 %) Dividend on FHLBNY stock 148 78 70 89.7 % Total interest and dividend$ 1,208 $
817
Interest Expense. Interest expense increased$2.7 million , or 39.9%, to$9.5 million for the year endedDecember 31, 2018 , from$6.8 million for the year endedDecember 31, 2017 . The increase was the result of an overall increase in interest expense on certificates of deposit, savings, money markets, NOW/IOLA and borrowings. Specifically, interest expense on certificates of deposit increased$1.7 million , or 28.7%, to$7.6 million for the year endedDecember 31, 2018 , from$5.9 million for the year endedDecember 31, 2017 . This increase resulted from increases in both the average balance of certificates of deposit and the average rate we paid on certificates of deposit. The average balance of certificates of deposit increased$52.5 million , or 13.6%, to$439.7 million for the year endedDecember 31, 2018 from$387.2 million for the year endedDecember 31, 2017 , and the average rate we paid on certificates of deposit increased 20 basis points to 1.73% for the year endedDecember 31, 2018 , from 1.53% for the year endedDecember 31, 2017 . Interest expense on savings, money markets, NOW/IOLA and borrowings increased$1.0 million to$1.9 million for the year endedDecember 31, 2018 , from$866,000 for the year endedDecember 31, 2017 . This increase resulted from an increase in the average rate we paid on other deposits and borrowings. The average balance of savings, money markets, savings, NOW/IOLA and borrowings increased$28.6 million , or 12.8%, to$256.3 million for the year endedDecember 31, 2018 , from$227.4 million for the year endedDecember 31, 2017 , and the average rate we paid on savings, money markets, savings, NOW/IOLA and borrowings increased 33 basis points to 0.73% for the year endedDecember 31, 2018 , from 0.40% for the year endedDecember 31, 2017 , reflecting higher market interest rates. For the Years Ended December 31, Change 2018 2017 Amount Percent (Dollars in thousands) Certificates of deposit$ 7,617 $ 5,917 $ 1,700 28.7 % Money market 701 390 311 79.7 % Savings 168 165 3 1.8 % NOW/IOLA 102 97 5 5.2 % Advance payments by borrowers 3 4 (1 ) (25.0 %) Borrowings 899 210 689 328.1 % Total interest expense$ 9,490 $ 6,783
Net Interest Income. Net interest income increased$4.5 million , or 13.8%, to$36.7 million for the year endedDecember 31, 2018 from$32.2 million for the year endedDecember 31, 2017 , primarily as a result of higher market yields on earning assets. Our average net interest-earning assets increased by$53.8 million , or 28.9%, to$240.3 million for the year endedDecember 31, 2018 , from$186.5 million for the year endedDecember 31, 2017 , due primarily to our loan growth, described above. Our net interest rate spread decreased by 19 basis points, to 3.57%, for the year endedDecember 31, 2018 , from 3.76% for the year endedDecember 31, 2017 , and our net interest margin was 3.92% and 4.02% for the years endedDecember 31, 2018 and 2017, respectively. A material change in interest rates will present us with a challenge in managing our interest rate risk. As a general matter, our interest-bearing liabilities reprice or mature more quickly than our interest-earning assets, which can result in interest expense increasing more rapidly than increases in interest income if interest rates were to increase. Therefore, increases in interest rates may adversely affect our net interest income and net economic value, which in turn would likely have an adverse effect on our results of 56 -------------------------------------------------------------------------------- operations. We expect that our net interest income and our net economic value would decrease as a result of a significant increase in interest rates. Conversely, decreases in interest rates may favorably affect our net interest income and net economic value, which in turn would likely have a favorable effect on our results of operations. We expect that our net interest income and our net economic value would increase as a result of a significant decrease in interest rates. To help manage interest rate risk, we are promoting core deposit products while concurrently diversifying our loan portfolio by introducing new lending programs. Provision for Loan Losses. Provision for loan losses are charged to operations to establish an allowance for loan losses at a level necessary to absorb known and inherent losses that are both probable and reasonably estimable at the date of the consolidated financial statements. In evaluating the level of the allowance for loan losses, management analyzes several qualitative loan portfolio risk factors including, but not limited to, management's ongoing review and grading of loans, facts and issues related to specific loans, historical loan loss and delinquency experience, trends in past due and non-accrual loans, existing risk characteristics of specific loans or loan pools, the fair value of underlying collateral, current economic conditions and other qualitative and quantitative factors which could affect potential credit losses. See "-Summary of Significant Accounting Policies" and "Business-Allowance for Loan Losses" for additional information. After an evaluation of these factors, the Bank decreased the provision for loan losses for the year endedDecember 31, 2018 by$467,000 , or 27.2%, to$1.2 million compared to$1.7 million for the year endedDecember 31, 2017 . The allowance for loan losses was$12.7 million atDecember 31, 2018 compared to$11.1 million atDecember 31, 2017 . The allowance for loan losses to gross loans decreased to 1.36% atDecember 31, 2018 from 1.37% atDecember 31, 2017 , and the allowance for loan losses to non-performing loans increased to 186.77% atDecember 31, 2018 from 97.05% atDecember 31, 2017 . To the best of our knowledge, we have recorded all loan losses that are both probable and reasonable to estimate atDecember 31, 2018 . However, future changes in the factors described above, including, but not limited to, actual loss experience with respect to our loan portfolio, could result in material increases in our provision for loan losses. In addition, the OCC, as an integral part of its examination process periodically reviews our allowance for loan losses and as a result of such reviews, we may determine to adjust our allowance for loan losses. However, regulatory agencies are not directly involved in establishing the allowance for loan losses as the process is our responsibility and any increase or decrease in the allowance is the responsibility of management. Non-interest Income. Total non-interest income decreased$166,000 , or 5.3%, to$2.9 million for the year endedDecember 31, 2018 from$3.1 million for the year endedDecember 31, 2017 . The decrease in non-interest income for the year endedDecember 31, 2018 compared to the year endedDecember 31, 2017 was primarily due to a decrease of$204,000 in late and prepayment charges. For the Years Ended December 31, Change 2018 2017 Amount Percent (Dollars in thousands) Service charges and fees$ 845 $ 909 $ (64 ) (7.0 %) Brokerage commissions 533 547 (14 ) (2.6 %) Late and prepayment charges 606 810 (204 ) (25.2 %) Other 954 838 116 13.8 % Total non-interest income$ 2,938 $ 3,104 $ (166 ) (5.3 %) Non-interest Expense. Total non-interest expense decreased$2.0 million , or 5.5%, to$34.6 million for the year endedDecember 31, 2018 , from$36.6 million for the year endedDecember 31, 2017 . For the year endedDecember 31, 2018 compared to the year endedDecember 31, 2017 , compensation and employee benefits expense increased by$830,000 mainly due to our investment in our employee base, including the senior management team and our sales and relationship management personnel, to help support our continued growth strategy. Occupancy expense increased$848,000 , due to the rebranding and improvements of our branches. Professional fees, which primarily include legal and audit expenses, increased$2.1 million . Other operating expenses increased$357,000 . Office supplies, telephone and postage increased$206,000 . In addition, there was an increase$100,000 in insurance and surety bond expenses for the year endedDecember 31, 2018 . Direct loan expense increased$49,000 . These increases were partially offset by a decrease of$6.3 million , which resulted from the absence of the contribution of 609,279 shares of Company common stock, valued at$6.1 million , and$200,000 in cash to thePonce De Leon Foundation in 2017. In addition, data processing expenses, decreased by$62,000 mainly due to contractual provisions and the level of new products and services that were introduced during 2018. 57
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For the Years Ended
December 31, Change
2018 2017 Amount Percent
(Dollars in thousands)
Compensation and benefits $ 17,939 $ 17,109 $ 830 4.9 %
Occupancy and equipment 6,673 5,825 848 14.6 %
Data processing 1,408 1,470 (62 ) (4.2 %)
Direct loan expense 788 739 49 6.6 %
Insurance and surety bond premiums 369 269 100 37.2 %
Office supplies, telephone and postage 1,309 1,103 206 18.7 %
Charitable foundation contributions - 6,293 (6,293 ) (100.0 %)
Professional fees 3,154 1,060 2,094 197.5 %
Marketing and promotional expenses 215 308 (93 ) (30.2 %)
Directors fees 277 289 (12 ) (4.2 %)
Regulatory dues 238 262 (24 ) (9.2 %)
Other operating expenses 2,187 1,830 357 19.5 %
Total non-interest expense $ 34,557 $ 36,557 $ (2,000 ) (5.5 %)
Income Tax Expense. We incurred income tax expense of
58
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Average Balance Sheet
The following table sets forth average balance sheets, average yields and costs,
and certain other information for the periods indicated. No tax-equivalent yield
adjustments have been made, as the effects would be immaterial. All average
balances are monthly average balances. Non-accrual loans were included in the
computation of average balances. The yields set forth below include the effect
of deferred fees, discounts, and premiums that are amortized or accreted to
interest income or interest expense.
For the Years Ended December 31,
2019 2018
Average Average
Outstanding Average Outstanding Average
Balance Interest Yield/Rate Balance Interest Yield/Rate
(Dollars in thousands)
Interest-earning assets:
Loans (1) $ 946,159 $ 49,306 5.21 % $ 867,030 $ 44,948 5.18 %
Available-for-sale securities 24,778 362 1.46 % 26,424 381 1.44 %
Other (2) 35,517 823 2.32 % 42,937 828 1.93 %
Total interest-earning assets 1,006,454 50,491 5.02 % 936,391 46,157 4.93 %
Non-interest-earning assets 35,504 33,610
Total assets $ 1,041,958 $ 970,001
Interest-bearing liabilities:
NOW/IOLA $ 27,539 $ 122 0.44 % $ 28,182 $ 102 0.36 %
Money market 124,729 2,548 2.04 % 60,113 702 1.17 %
Savings 119,521 153 0.13 % 125,395 167 0.13 %
Certificates of deposit 403,010 7,677 1.90 % 439,737 7,617 1.73 %
Total deposits 674,799 10,500 1.56 % 653,427 8,588 1.31 %
Advance payments by borrowers 8,608 4 0.05 % 7,762 4 0.05 %
Borrowings 77,621 1,854 2.39 % 34,886 899 2.58 %
Total interest-bearing liabilities 761,028 12,358 1.62 % 696,075 9,491 1.36 %
Non-interest-bearing liabilities:
Non-interest-bearing demand 110,745 - 100,628 -
Other non-interest-bearing liabilities 3,900 - 5,859 -
Total non-interest-bearing liabilities 114,645 - 106,487 -
Total liabilities 875,673 12,358 802,562 9,491
Total equity 166,285 167,439
Total liabilities and total equity $ 1,041,958 1.62 % $ 970,001 1.36 %
Net interest income $ 38,133 $ 36,666
Net interest rate spread (3) 3.40 % 3.57 %
Net interest-earning assets (4) $ 245,426 $ 240,316
Net interest margin (5) 3.79 % 3.92 %
Average interest-earning assets to
interest-bearing liabilities 132.25 % 134.52 %
(1) Includes a loan held for sale for the year ended
were no loans held for sale for the year ended December 31, 2018 .
(2) Includes FHLBNY demand account and FHLBNY stock dividends.
(3) Net interest rate spread represents the difference between the weighted
average yield on interest-earning assets and the weighted average rate of
interest-bearing liabilities.
(4) Net interest-earning assets represent total interest-earning assets less
total interest-bearing liabilities.
(5) Net interest margin represents net interest income divided by average total
interest-earning assets.
59
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Rate/Volume Analysis
The following table presents the effects of changing rates and volumes on the
Bank's net interest income for the periods indicated. The volume column shows
the effects attributable to changes in volume (changes in volume multiplied by
prior rate). The rate column shows the effects attributable to changes in rate
(changes in rate multiplied by prior volume). The total column represents the
sum of the prior columns. For purposes of this table, changes attributable to
both rate and volume, which cannot be segregated, have been allocated
proportionately based on the changes due to rate and the changes due to volume.
For the Years Ended December 31,
2019 vs. 2018
Increase (Decrease) Due to Total Increase
Volume Rate (Decrease)
(Dollars in thousands)
Interest-earning assets:
Loans (1) $ 4,102 $ 256 $ 4,358
Available-for-sale securities (24 ) 5 (19 )
Other (143 ) 138 (5 )
Total interest-earning assets 3,935 399 4,334
Interest-bearing liabilities:
NOW/IOLA (2 ) 22 20
Money Market 755 1,091 1,846
Savings (8 ) (6 ) (14 )
Certificates of deposit (636 ) 696 60
Total deposits 109 1,803 1,912
Advance payment by borrowers - - -
Borrowings 1,101 (146 ) 955
Total interest-bearing liabilities 1,210 1,657 2,867
Change in net interest income $ 2,725 $ (1,258 ) $ 1,467
(1) Includes a loan held for sale for the year ended
were no loans held for sale for the year ended December 31, 2018 .
Management of Market Risk
General. The most significant form of market risk is interest rate risk because,
as a financial institution, the majority of the Bank's assets and liabilities
are sensitive to changes in interest rates. Therefore, a principal part of the
Bank's operations is to manage interest rate risk and limit the exposure of its
financial condition and results of operations to changes in market interest
rates. The Bank's Asset/Liability Management Committee is responsible for
evaluating the interest rate risk inherent in the Bank's assets and liabilities,
for determining the level of risk that is appropriate, given the Bank's business
strategy, operating environment, capital, liquidity and performance objectives,
and for managing this risk consistent with the policy and guidelines approved by
the Board of Directors. The Bank currently utilizes a third-party modeling
solution that is prepared on a quarterly basis to evaluate the sensitivity to
changing interest rates, based on the foregoing considerations.
The Bank does not engage in hedging activities, such as engaging in futures,
options or swap transactions, or investing in high-risk mortgage derivatives,
such as collateralized mortgage obligation residual interests, real estate
mortgage investment conduit residual interests or stripped mortgage backed
securities.
Net Interest Income Simulation Models. Management utilizes a respected,
sophisticated third party designed asset liability modeling software that
measures the Bank's earnings through simulation modeling. Earning assets,
interest-bearing liabilities and off-balance sheet financial instruments are
combined with forecasts of interest rates for the next 12 months and are
combined with other factors in order to produce various earnings simulations
over that same 12-month period. To limit interest rate risk, the Bank has policy
guidelines for earnings risk which seek to limit the variance of net interest
income in both gradual and instantaneous changes to interest rates. As of
December 31, 2019 , in the event of an instantaneous upward and downward change
in rates from management's level interest rate forecast over the next twelve
months, assuming a static balance sheet, the following estimated changes are
calculated:
60
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Net Interest Income Year 1 Change
Rate Shift (basis points) (1) Year 1 Forecast from Level
(Dollars in thousands)
+200 $ 37,851 (2.22 %)
+100 38,473 (0.61 %)
Level 38,709 0.00 %
-100 38,697 (0.03 %)
-200 37,945 (1.97 %)
(1) Assumes an instantaneous uniform change in interest rates at all
maturities.
Although an instantaneous and severe shift in interest rates was used in this
analysis to provide an estimate of exposure under these scenarios, management
believes that a gradual shift in interest rates would have a more modest impact.
Further, the earnings simulation model does not take into account factors such
as future balance sheet growth, changes in product mix, changes in yield curve
relationships, and changing product spreads that could alter any potential
adverse impact of changes in interest rates.
The behavior of the deposit portfolio in the baseline forecast and in alternate
interest rate scenarios set out in the table above is a key assumption in the
projected estimates of net interest income. The projected impact on net interest
income in the table above assumes no change in deposit portfolio size or mix
from the baseline forecast in alternative rate environments. In higher rate
scenarios, any customer activity resulting in the replacement of low-cost or
noninterest-bearing deposits with higher-yielding deposits or market-based
funding would reduce the benefit in those scenarios.
At
Economic Value of Equity Model. While earnings simulation modeling attempts to
determine the impact of a changing rate environment to net interest income, the
Economic Value of Equity Model ("EVE") measures estimated changes to the
economic values of assets, liabilities and off-balance sheet items as a result
of interest rate changes. Economic values are determined by discounting expected
cash flows from assets, liabilities and off-balance sheet items, which
establishes a base case EVE. Rates are then shocked as prescribed by the
Interest Rate Risk Policy to measure the sensitivity in EVE values for each of
those shocked rate scenarios versus the base case. The Interest Rate Risk Policy
sets limits for those sensitivities. At December 31, 2019 , the EVE modeling
calculated the following estimated changes in EVE due to instantaneous upward
and downward changes in rates:
EVE as a Percentage of Present
Value of Assets (3)
Estimated Increase (Decrease)
in Increase
Change in Interest Estimated EVE EVE (Decrease)
Rates (basis points) (1) EVE (2) Amount Percent Ratio (4) (basis points)
(Dollars in thousands)
+200 $ 162,852 $ (12,514 ) (7.14 %) 15.67 % (58 )
+100 170,126 (5,240 ) (2.99 %) 16.06 % (19 )
Level 175,366 - 0.00 % 16.25 % -
-100 178,922 3,556 2.03 % 16.29 % 4
-200 184,968 9,602 5.48 % 16.56 % 31
(1) Assumes an instantaneous uniform change in interest rates at all
maturities.
(2) EVE is the discounted present value of expected cash flows from assets,
liabilities and off-balance sheet contracts.
(3) Present value of assets represents the discounted present value of incoming
cash flows on interest-earning assets.
(4) EVE Ratio represents EVE divided by the present value of assets.
Although an instantaneous and severe shift in interest rates was used in this
analysis to provide an estimate of exposure under these scenarios, management
believes that a gradual shift in interest rates would have a more modest impact.
Since EVE measures the discounted present value of cash flows over the estimated
lives of instruments, the change in EVE does not directly correlate to the
degree that earnings would be impacted over a shorter time horizon (i.e., the
current year). Further, EVE does not take into account
61
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factors such as future balance sheet growth, changes in product mix, changes in
yield curve relationships, and changing product spreads that could alter the
adverse impact of changes in interest rates.
At
Most Likely Earnings Simulation Models. Management also analyzes a most-likely earnings simulation scenario that projects the expected change in rates based on a forward yield curve adopted by management using expected balance sheet volumes forecasted by management. Separate growth assumptions are developed for loans, investments, deposits, etc. Other interest rate scenarios analyzed by management may include delayed rate shocks, yield curve steepening or flattening, or other variations in rate movements to further analyze or stress the balance sheet under various interest rate scenarios. Each scenario is evaluated by management and weighted to determine the most likely result. These processes assist management to better anticipate financial results and, as based thereon, management may determine the need to review other operating strategies and tactics which might enhance results or better position the balance sheet to reduce interest rate risk going forward. Each of the above analyses may not, on its own, be an accurate indicator of how net interest income will be affected by changes in interest rates. Income associated with interest-earning assets and costs associated with interest-bearing liabilities may not be affected uniformly by changes in interest rates. In addition, the magnitude and duration of changes in interest rates may have a significant impact on net interest income. For example, although certain assets and liabilities may have similar maturities or periods of repricing, they may react in different degrees to changes in market interest rates. Interest rates on certain types of assets and liabilities fluctuate in advance of changes in general market rates, while interest rates on other types may lag behind changes in general market rates. In addition, certain assets, such as adjustable rate mortgage loans, have features (generally referred to as interest rate caps and floors) which limit changes in interest rates. Prepayment and early withdrawal levels also could deviate significantly from those assumed in calculating the maturity of certain instruments. The ability of many borrowers to service their debts also may decrease during periods of rising interest rates. The Asset/Liability Committee reviews each of the above interest rate sensitivity analyses along with several different interest rate scenarios as part of its responsibility to provide a satisfactory, consistent level of profitability within the framework of established liquidity, loan, investment, borrowing and capital policies. Management's model governance, model implementation and model validation processes and controls are subject to review in the Bank's regulatory examinations to ensure they are in compliance with the most recent regulatory guidelines and industry and regulatory practices. Management utilizes a respected, sophisticated third party designed asset liability modeling software and external professionals to help ensure that the implementation of management's assumptions into the model are processed as intended and in a robust manner. That said, there are numerous assumptions regarding financial instrument behaviors that are integrated into the model. The assumptions are formulated by combining observations gleaned from the Bank's historical studies of financial instruments and the best estimations of how, if at all, these instruments may behave in the future given changes in economic conditions, technology, etc. These assumptions may prove to be inaccurate. Additionally, given the large number of assumptions built into Bank's asset liability modeling software, it is difficult, at best, to compare its results to other banks. The Asset/Liability Committee may determine that the Bank should over time become more or less asset or liability sensitive depending on the underlying balance sheet circumstances and its conclusions as to anticipated interest rate fluctuations in future periods. TheFederal Reserve Board decreased the targeted federal funds interest rate by 25 basis points in each ofJuly 2019 ,September 2019 andOctober 2019 . OnMarch 3, 2020 , andMarch 15, 2020 theFederal Reserve Board , in emergency actions, decrease this targeted federal funds rate by an aggregate of 150 basis points. These rate cuts were in response to unprecedented market turmoil. We cannot make any representation as to whether, or how many times, theFederal Reserve Board will decrease or increase the targeted federal funds rate in the future. 62
-------------------------------------------------------------------------------- GAP Analysis. In addition, management analyzes interest rate sensitivity by monitoring the Bank's interest rate sensitivity "gap." The interest rate sensitivity gap is the difference between the amount of our interest-earning assets maturing or repricing within a specific time period and the amount of our interest bearing-liabilities maturing or repricing within that same time period. A gap is considered positive when the amount of interest rate sensitive assets maturing or repricing during a period exceeds the amount of interest rate sensitive liabilities maturing or repricing during the same period, and a gap is considered negative when the amount of interest rate sensitive liabilities maturing or repricing during a period exceeds the amount of interest rate sensitive assets maturing or repricing during the same period. The following table sets forth the Bank's interest-earning assets and its interest-bearing liabilities atDecember 31, 2019 , which are anticipated to reprice or mature in each of the future time periods shown based upon certain assumptions. The amounts of assets and liabilities shown which reprice or mature during a particular period were determined in accordance with the earlier of term to repricing or the contractual maturity of the asset or liability. The table sets forth an approximation of the projected repricing of assets and liabilities atDecember 31, 2019 , on the basis of contractual maturities, anticipated prepayments and scheduled rate adjustments. The loan amounts in the table reflect principal balances expected to be redeployed and/or repriced as a result of contractual amortization and as a result of contractual rate adjustments on adjustable-rate loans. December 31, 2019 Time to Repricing Non Total Earning Zero Days Earning Assets & Zero Days Zero Days Zero Days to Five Assets & Non Zero to Zero to to One to Two to Five Years Costing Costing 90 Days 180 Days Year Years Years Plus Liabilities Liabilities Total (Dollars in thousands) Assets: Interest-bearing deposits in banks$ 20,915 $ 20,915 $ 20,915 $ 20,915 $ 20,915 $ 20,915 $ 20,915 $ 6,762 $ 27,677 Securities 8,345 14,289 17,317 17,780 18,971 21,535 21,535 (31 ) 21,504 Net loans (includes LHFS) 89,160 150,369 252,643 449,840 916,284 957,901 957,901 (1,134 ) 956,767 FHLBNY Stock 5,735 5,735 5,735 5,735 5,735 5,735 5,735 - 5,735 Other assets - - - - - - - 42,073 42,073 Total$ 124,155 $ 191,308 $ 296,610 $ 494,270 $ 961,905 $ 1,006,086 $ 1,006,086 $ 47,670 $ 1,053,756 Liabilities: Non-maturity deposits$ 282,997 $ 282,997 $ 282,997 $ 282,997 $ 282,997 $ 282,997 $ 282,997 $ 109,548 $ 392,545 Certificates of deposit 73,784 119,986 216,963 327,082 389,499 389,498 389,498 - 389,498 Other liabilities - - - 11,029 104,404 104,404 104,404 8,907 113,311 Total liabilities 356,781 402,983 499,960 621,108 776,900 776,899 776,899 118,455 895,354 Stockholders' equity - - - - - - - 158,402 158,402 Total liabilities and stockholders' equity$ 356,781 $ 402,983 $ 499,960 $ 621,108 $ 776,900 $ 776,899 $ 776,899 $ 276,857 $ 1,053,756 Asset/liability gap$ (232,626 ) $ (211,675 ) $ (203,350 ) $ (126,838 ) $ 185,005 $ 229,187 $ 229,187 Gap/assets ratio 34.80 % 47.47 % 59.33 % 79.58 % 123.81 % 129.50 % 129.50 % 63
-------------------------------------------------------------------------------- The following table sets forth the Bank's interest-earning assets and its interest-bearing liabilities atDecember 31, 2018 , which are anticipated to reprice or mature in each of the future time periods shown based upon certain assumptions. The amounts of assets and liabilities shown which reprice or mature during a particular period were determined in accordance with the earlier of term to repricing or the contractual maturity of the asset or liability. The table sets forth an approximation of the projected repricing of assets and liabilities atDecember 31, 2018 , on the basis of contractual maturities, anticipated prepayments and scheduled rate adjustments. The loan amounts in the table reflect principal balances expected to be redeployed and/or repriced as a result of contractual amortization and as a result of contractual rate adjustments on adjustable-rate loans. December 31, 2018 Time to Repricing Non Total Earning Zero Days Earning Assets & Zero Days Zero Days Zero Days to Five Assets & Non Zero to Zero to to One to Two to Five Years Costing Costing 90 Days 180 Days Year Years Years Plus Liabilities Liabilities Total (Dollars in thousands) Assets: Interest-bearing deposits in banks$ 24,553 $ 24,553 $ 24,553 $ 24,553 $ 24,553 $ 24,553 $ 24,553 $ 45,225 $ 69,778 Securities 5,121 5,997 10,675 26,397 26,698 27,568 27,568 (424 ) 27,144 Net loans (includes LHFS) 103,967 137,999 206,712 371,288 856,529 924,906 924,906 (6,397 ) 918,509 FHLBNY Stock - - - - 2,915 2,915 2,915 - 2,915 Other assets - - - - 4 4 4 41,551 41,555 Total$ 133,641 $ 168,549 $ 241,940 $ 422,238 $ 910,699 $ 979,946 $ 979,946 $ 79,955 $ 1,059,901 Liabilities: Non-maturity deposits$ 269,749 $ 269,749 $ 269,749 $ 269,749 $ 269,749 $ 269,749 $ 269,749 $ 115,923 $ 385,672 Certificates of deposit 65,267 107,838 189,720 283,655 424,086 424,086 424,086 - 424,086 Other liabilities 25,000 25,000 25,000 33,029 69,404 69,404 69,404 11,567 80,971 Total liabilities 360,016 402,587 484,469 586,433 763,239 763,239 763,239 127,490 890,729 Stockholders' equity - - - - - - - 169,172 169,172 Total liabilities and stockholders' equity$ 360,016 $ 402,587 $ 484,469 $ 586,433 $ 763,239 $ 763,239 $ 763,239 $ 296,662 $ 1,059,901 Asset/liability gap$ (226,375 ) $ (234,038 ) $ (242,529 ) $ (164,195 ) $ 147,460 $ 216,707 $ 216,707 Gap/assets ratio 37.12 % 41.87 % 49.94 % 72.00 % 119.32 % 128.39 % 128.39 % Certain shortcomings are inherent in the methodologies used in the above interest rate risk measurements. Modeling changes require making certain assumptions that may or may not reflect the manner in which actual yields and costs respond to changes in market interest rates. In this regard, the net interest income and economic value tables presented assume that the composition of the interest-sensitive assets and liabilities existing at the beginning of a period remains constant over the period being measured and assumes that a particular change in interest rates is reflected uniformly across the yield curve regardless of the duration or repricing of specific assets and liabilities. Accordingly, although the net interest income and EVE tables provide an indication of the interest rate risk exposure at a particular point in time, such measurements are not intended to and do not provide a precise forecast of the effect of changes in market interest rates on net interest income and EVE and will differ from actual results. Furthermore, although certain assets and liabilities may have similar maturities or periods to repricing, they may react in different degrees to changes in market interest rates. Additionally, certain assets, such as adjustable-rate loans, have features that restrict changes in interest rates both on a short-term basis and over the life of the asset. In the event of changes in interest rates, prepayment and early withdrawal levels would likely deviate significantly from those assumed in calculating the gap table.
Interest rate risk calculations also may not reflect the fair values of financial instruments. For example, decreases in market interest rates can increase the fair values of loans, deposits and borrowings.
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--------------------------------------------------------------------------------Liquidity and Capital Resources
Liquidity describes the ability to meet the financial obligations that arise in the ordinary course of business. Liquidity is primarily needed to meet the borrowing and deposit withdrawal requirements of the Bank's customers and to fund current and planned expenditures. The primary sources of funds are deposits, principal and interest payments on loans and available-for-sales securities and proceeds from the sale of loans. The Bank also has access to borrow from the FHLBNY. AtDecember 31, 2019 and 2018, we had$104.4 million and$44.4 million , respectively, of term and overnight outstanding advances from the FHLBNY, and also had a guarantee from the FHLBNY through a standby letter of credit of$3.5 million and$7.6 million , respectively. AtDecember 31, 2019 , there was eligible collateral of approximately$301.8 million in mortgage loans available to secure advances from the FHLBNY. The Bank also has an unsecured line of credit of$25.0 million with a correspondent bank, of which there was$0 and$25.0 million outstanding atDecember 31, 2019 and 2018, respectively. The Bank did not have any outstanding securities sold under repurchase agreements with brokers as ofDecember 31, 2019 and 2018. Although maturities and scheduled amortization of loans and available-for-sale securities are predictable sources of funds, deposit flows and loan prepayments are greatly influenced by general interest rates, economic conditions, and competition. The most liquid assets are cash and interest-bearing deposits in banks. The levels of these assets are dependent on operating, financing, lending and investing activities during any given period.
Net cash provided by operating activities was
Net cash used in investing activities, which consists primarily of disbursements for loan originations, offset by principal collections on loans, purchases of available-for-sale securities, proceeds from maturing of available-for-sale securities and pay downs on mortgage-backed available-for-sale securities, was$(38.7 million) and$(126.6 million) for the years endedDecember 31, 2019 and 2018, respectively. Net cash (used in) provided by financing activities, consisting of activities in deposit accounts and advances, was$(8.5 million) and$128.8 million for the years endedDecember 31, 2019 and 2018, respectively. The Bank is committed to maintaining an adequate liquidity position. The liquidity position is monitored on a daily basis and it is anticipated that there will be sufficient funds to meet our current funding commitments. Based on our deposit retention experience and current pricing strategy, it is anticipated that a significant portion of maturing time deposits will be retained. AtDecember 31, 2019 and 2018, all regulatory capital requirements were met, resulting in the Company and the Bank being categorized as well capitalized atDecember 31, 2019 and 2018. Management is not aware of any conditions or events that would change the Company's and the Bank's well capitalized category.
Off-Balance Sheet Arrangements and Aggregate Contractual Obligations
Commitments. As a financial services provider, the Bank routinely is a party to various financial instruments with off-balance-sheet risks, such as commitments to extend credit and unused lines of credit. Although these contractual obligations represent the Bank's future cash requirements, a significant portion of commitments to extend credit may expire without being drawn upon. Such commitments are subject to the same credit policies and approval process accorded to loans originated. AtDecember 31, 2019 and 2018, the Bank had outstanding commitments to originate loans, commitments under lines of credit, and standby letters of credit totaling$96.1 million and$104.5 million , respectively. It is anticipated that the Bank will have sufficient funds available to meet its current lending commitments. Certificates of deposits that are scheduled to mature in less than one year fromDecember 31, 2019 total$217.2 million . Management expects that a substantial portion of the maturing time deposits will be renewed. However, if a substantial portion of these deposits are not retained, the Bank may utilize FHLBNY advances, unsecured credit lines with correspondent banks, or raise interest rates on deposits to attract new accounts, which may result in higher levels of interest expense.
Contractual Obligations. In the ordinary course of its operations, the Bank
enters into certain contractual obligations. Such obligations include data
processing services, operating leases for premises and equipment, agreements
with respect to borrowed funds and deposit liabilities. The following table
summarizes our contractual obligations for the periods indicated as of
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For the Years Ending December 31,
Total 2020 2021 2022 2023 2024 Thereafter
(in thousand)
Operating leases $ 12,467 $ 1,340 $ 1,380 $ 1,289 $ 1,276 $ 1,310 $ 5,872
Vendor obligations (1) 16,616 3,382 3,000 2,649 2,638 2,636 2,311
Advances from FHLBNY 104,404 8,029 3,000 65,000 28,375 - -
Certificates of deposit 389,498 217,159 109,954 44,226 8,512 9,647 -
Total contractual obligation
(1) Amounts are for data processing services, leases of equipment and service
implementation.
The obligations related to our uncertain tax positions, which are not considered material, have been excluded from the table above because of the uncertainty surrounding the timing and final amounts of settlement, if any.
Item 7A. Quantitative and Qualitative Disclosures About Market Risk.
Information regarding quantitative and qualitative disclosures about market risk appears under Item 7, "Management's Discussion and Analysis of Financial Condition and Results of Operations - Management of Market Risk."
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