NB Bancorp, Inc. (NBBK) FY 2023 MD&A
This page reproduces the company's own Item 7 MD&A text from the linked SEC filing. It is filer text, not grepcent analysis, scoring, or investment advice.
ITEM 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations
This discussion and analysis reflects our consolidated financial statements and other relevant statistical data, and is intended to enhance your understanding of our financial condition and results of operations. The information in this section has been derived from the consolidated financial statements that appear beginning on page 72 of this Annual Report on Form 10-K. You should read the information in this section in conjunction with the business and financial information regarding NB Bancorp and Needham Bank and the consolidated financial statements provided in this Annual Report on Form 10-K for NB Bancorp and, with respect to the year ended December 31 2022, NB Financial, MHC, Needham Bank’s mutual holding company parent prior to the mutual-to-stock conversion on December 27, 2023. NB Bancorp had not engaged in any material activities prior to December 28, 2023, the date of the consummation of the mutual to stock conversion of NB Financial, MHC.
Our results of operations depend primarily on our net interest income. Net interest income is the difference between the interest income we earn on our interest-earning assets and the interest we pay on our interest-bearing liabilities. Our results of operations also are affected by our provision for credit losses, noninterest income and noninterest expense. Noninterest income currently consists primarily of customer service fees, swap contract income, and income on bank-owned life insurance. Noninterest expense currently consists primarily of expenses related to salary and employee benefits and director fees, occupancy and equipment, data processing, marketing and charitable contribution expense, professional fees, federal deposit insurance assessments and other general and administrative expenses.
Our results of operations also may be affected significantly by general and local economic and competitive conditions, changes in market interest rates, governmental policies and actions of regulatory authorities.
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Summary of Significant Accounting Policies
The discussion and analysis of the financial condition and results of operations are based on our consolidated financial statements, which are prepared in conformity with U.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 below 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 our assets and liabilities and our results of operations.
The JOBS Act contains provisions that, among other things, reduce certain reporting requirements for qualifying public companies. As an “emerging growth company” we have elected to use the extended transition period to delay adoption of new or revised accounting pronouncements applicable to public companies until such pronouncements are made applicable to private companies. Accordingly, our consolidated financial statements may not be comparable to the financial statements of public companies that comply with such new or revised accounting standards.
The following represent our significant accounting policies:
Loans Held for Investment and Allowance for Credit Losses. Loans that management has the intent and ability to hold for the foreseeable future or until loan maturity or pay-off are reported held for investment at their outstanding principal balance adjusted for any charge-offs and net of any deferred fees (including purchase accounting adjustments) and origination costs (collectively referred to as “amortized cost”). Loan origination fees and certain direct origination costs are deferred and amortized as an adjustment of the yield using the payment terms required by the loan contract.
Loans are generally placed into nonaccrual status when they are past due 90 days or more as to either principal or interest or when, in the opinion of management, the collection of principal and/or interest is in doubt. A loan remains in nonaccrual status until the loan is current as to payment of both principal and interest or past due less than 90 days and the borrower demonstrates the ability to pay and remain current. When cash payments are received, they are applied to principal first, then to accrued interest. It is the Company’s policy not to record interest income on nonaccrual loans until principal has become current. In certain instances, accruing loans that are past due 90 days or more as to principal or interest may not go on nonaccrual status if the Company determines that the loans are well-secured and are in the process of collection. In accordance with ASC 326, the Company elected to exclude accrued interest from the amortized cost basis in its determination of the allowance for credit losses (the “ACL”) for loans held for investment, and will instead reverse accrued but unpaid interest through interest income in the period in which the loan is placed on nonaccrual status.
The ACL represents management’s best estimate of credit losses over the remaining life of the loan portfolio. Loans are charged-off against the ACL when management believes the loan balance is no longer collectible. Subsequent recoveries of previously charged-off amounts (recoveries) are recorded as increases to the ACL. The provision for credit losses is an amount sufficient to bring the ACL to an estimated balance that management considers adequate to absorb lifetime expected losses in the Company’s held for investment loan portfolio. The ACL is a valuation account that is deducted from the loans’ amortized cost basis to present the net amount expected to be collected on the loans.
Management’s determination of the adequacy of the ACL under ASC 326 is based on an evaluation of the composition of the loan portfolio current economic conditions, historical loan loss experience, reasonable and supportable forecasts, and other risk factors. We use a third-party CECL model as part of our estimation of the ACL on a quarterly basis. Loans with similar risk characteristics are collectively assessed within pools (or segments). Loss estimates within the collectively assessed population are based on a combination of pooled assumptions and loan-level characteristics. We have determined that using federal call codes is an appropriate loan segmentation methodology, as it is generally based on risk characteristics of a loan’s underlying collateral. Using federal call codes also allows us to utilize and assess publicly available external information when developing our estimate of the ACL. The weighted
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average life (“WAL”) method is the primary credit loss estimation methodology we use and involves estimating future cash flows for pools of loans using their weighted average life.
In applying future economic forecasts, the Company utilizes a forecast period of up to two years. The Company considers economic forecasts of inflation, Federal Open Market Committee interest rates, national gross domestic product, and unemployment rates sourced from the Federal Reserve System’s “Beige Book,” Wells Fargo’s “U.S. Economic Outlook,” and the “Economic Forecast” publications from FHN Financial to inform the model for loss estimation. Historical loss rates used in the quantitative model are primarily derived using both the Bank’s data, supplemented with peer bank data obtained from publicly available sources (i.e., federal call reports). The Bank’s peer group is comprised of financial institutions of relatively similar size and in similar markets (i.e. $10.00 billion or less of total assets and headquartered in Massachusetts). Management also considers qualitative adjustments when estimating credit losses to take into account the model’s quantitative limitations. Qualitative adjustments to quantitative loss factors, either negative or positive, may include considerations of economic conditions, volume and severity of past due loans, value of underlying collateral, experience, depth, and ability of management, and concentrations of credit.
For those loans that do not share similar risk characteristics, we evaluate the ACL needs on an individual (or loan by loan) basis. This population of individually evaluated loans (or loan relationships with the same primary source of repayment) is determined on a quarterly basis and is based on whether the risk grade of the loan is substandard or worse and the balance exceeds $500,000 and the loan’s terms differ significantly from other pooled loans. In accordance with our policy, non-accrual residential real estate loans that are well secured (LTV 75%) are not considered to warrant a downgrade to substandard risk rating and are therefore generally excluded from individually evaluated loans. Measurement of credit loss is based on the expected future cash flows of an individually evaluated loan, discounted at the loan’s effective interest rate, or measured on an observable market value, if one exists, or the estimated market value of the collateral underlying the loan, discounted to consider estimated costs to sell the collateral for collateral-dependent loans. If the net value is less than the loan’s amortized cost, a specific reserve in the ACL is recorded, which is charged-off in the period when management believes the loan balance is no longer collectible.
Income Taxes. We use the liability method of accounting for income taxes. Under this method, deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. Deferred tax assets are reduced by a valuation allowance when it is more likely than not that some portion of the deferred tax asset will not be realized. We exercise significant judgment in evaluating the amount and timing of recognition of the resulting tax liabilities and assets. These judgments may require us to make projections of future taxable income and/or to carryback to taxable income in prior years. The judgments and estimates we make in determining our deferred tax assets, which are inherently subjective, are reviewed on a continual basis as regulatory and business factors change. Any reduction in estimated future taxable income may require us to record a valuation allowance against our deferred tax assets.
Securities Valuation and Credit Losses. We classify our investments in debt securities as either held-to-maturity or available-for-sale. Securities classified as held-to maturity are recorded at cost or amortized cost. Available-for-sale securities are carried at fair value. We obtain our fair values from one or more third-party services. This service’s fair value calculations are based on quoted market prices when such prices are available. If quoted market prices are not available, estimates of fair value are computed using a variety of techniques, including extrapolation from the quoted prices of similar instruments or recent trades for thinly traded securities, fundamental analysis, or through obtaining purchase quotes. Due to the subjective nature of the valuation process, it is possible that the actual fair values of these investments could differ from the estimated amounts, thereby affecting our financial position, results of operations and cash flows.
We adopted ASC 326 using the prospective transition approach for debt securities for which other-than-temporary impairment had been recognized prior to January 1, 2023. As of December 31, 2022, we did not have any other than-temporarily impaired investment securities. Therefore, upon adoption of ASC 326, we determined that an allowance for credit losses on available for sale securities was not deemed material. For available for sale securities, management evaluates all investments in an unrealized loss position on a quarterly basis, and more frequently when
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economic or market conditions warrant such evaluation. If we have the intent to sell the security or it is more likely than not that we will be required to sell the security, the security is written down to fair value and the entire loss is recorded in earnings through an allowance for credit losses. If either of the above criteria is not met, we evaluate whether the decline in fair value is the result of credit losses or other factors. In making the assessment, we may consider various factors including the extent to which fair value is less than amortized cost, performance on any underlying collateral, downgrades in the ratings of the security by a rating agency, the failure of the issuer to make scheduled interest or principal payments and adverse conditions specifically related to the security. If the assessment indicates that a credit loss exists, the present value of cash flows expected to be collected are compared to the amortized cost basis of the security and any excess is recorded as an allowance for credit loss, limited by the amount that the fair value is less than the amortized cost basis. Any amount of unrealized loss that has not been recorded through an allowance for credit loss is recognized in other comprehensive income. Changes in the allowance for credit loss are recorded as provision for (or reversal of) credit loss expense. Losses are charged against the allowance for credit loss when management believes an available for sale security is confirmed to be uncollectible or when either of the criteria regarding intent or requirement to sell is met. At December 31, 2023, there was no allowance for credit loss related to the available for sale portfolio. Accrued interest receivable on available for sale debt securities totaled $1.2 million at December 31, 2023 and was excluded from the estimate of credit losses.
Comparison of Financial Condition at December 31, 2023 and December 31, 2022
Total Assets. Total assets increased $941.1 million, or 26.2%, to $4.53 billion as of December 31, 2023 from $3.59 billion at December 31, 2022. The increase was primarily the result of increases in net loans and federal funds sold.
Cash and Cash Equivalents. Cash and cash equivalents increased $116.0 million, or 31.0%, to $272.6 million as of December 31, 2023 from $156.5 million at December 31, 2022. The increase in cash and cash equivalents was due to the proceeds from the Company’s mutual-to-stock conversion and related IPO, which closed on December 27, 2023.
Securities Available-for-Sale. Securities available-for-sale decreased $56.0 million, or 22.8%, to $189.5 million as of December 31, 2023 from $245.5 million at December 31, 2022. During the year ended December 31, 2023, purchases of securities were more than offset by the fair value decline in the portfolio, as well as amortization and calls. No securities were sold during the year ended December 31, 2023.
Loans, net. Loans, net increased $866.6 million, or 29.0%, to $3.86 billion at December 31, 2023 from $2.99 billion at December 31, 2022. We experienced increases in each of our loan portfolios. From December 31, 2022 to December 31, 2023, one- to four-family residential real estate loans, including home equity loans, increased $187.1 million, or 18.6%; our commercial real estate portfolio, including multi-family real estate loans, increased $372.0 million, or 36.8%; construction and land development increased $70.3 million, or 12.7%; commercial and industrial loans increased $240.5 million, or 97.2%; and consumer loans increased $8.3 million, or 5.3%. The increase in these loan portfolios reflects our strategy to grow the balance sheet by continuing to diversify into these higher-yielding loans to improve net margins and manage interest rate risk. In addition, to help manage interest rate risk and generate non-interest income, occasionally we sell one- to four-family residential mortgage loans into the secondary market on a servicing-retained basis. During the year ended December 31, 2023, we sold $2.1 million in loans and recognized gains of $29,000.
Federal Home Loan Bank Stock. The FHLB is a cooperative bank that provides services to its member financial institutions. The primary reason for our membership in the FHLB is to gain access to a reliable source of wholesale funding and as a tool to manage interest rate risk. The purchase of stock in the FHLB is a requirement for a member to gain access to funding. We purchase and/or are subject to redemption of FHLB stock proportional to the volume of funding received and view the holdings as a necessary long-term investment for the purpose of balance sheet liquidity and not for investment return. We held an investment in FHLB stock of $14.6 million and $13.2 million at December 31, 2023 and 2022, respectively. The amount of stock we are required to purchase is in proportion to our FHLB borrowings and level of total assets. Accordingly, the increase in the FHLB stock is due to increased borrowings.
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Bank-owned Life Insurance. We invest in bank-owned life insurance to help offset the costs of our employee benefit plan obligations. Bank-owned life insurance also generally provides noninterest income that is nontaxable. Bank-owned life insurance increased $1.5 million, or 3.1%, to $50.5 million as of December 31, 2023 from $49.0 million at December 31, 2022. The increase during 2023 was from increases in the cash surrender value of the policies.
Prepaid Expenses and Other Assets. Prepaid expenses and other assets consist primarily of right of use assets related to our long-term leases and derivatives with a positive fair value and other investments and decreased $4.1 million, or 7.1%, to $53.1 million as of December 31, 2023 from $57.2 million as of December 31, 2021. The decrease resulted primarily from increases in the value of our right of use assets and derivatives from hedging strategies and other investments.
Deposits. Deposits increased $500.6 million, or 17.3%, to $3.39 billion as of December 31, 2023 from $2.89 billion as of December 31, 2022. Core deposits (which we define as all deposits including certificates of deposit, other than brokered deposits) increased $567.0 million, or 21.5%, to $3.2 billion at December 31, 2023 from $2.6 billion at December 31, 2022. The increase resulted from increases in customer deposits, primarily certificates of deposit, which increased $353.8 million, or 36.9% from the prior year, along with money market and checking accounts, which increased $229.1 million and $82.9 million, respectively, from December 31, 2022.
As of December 31, 2023 and 2022, we had approximately $183.6 million and $250.0 million of brokered deposits, respectively. The decrease in brokered deposits during 2023 resulted from the growth in the core deposit portfolio.
Borrowings. We had $283.3 million of borrowings at December 31, 2023 as compared to $293.1 million at December 31, 2022. The decrease is due to funding needs and our ability to repay some advances. Our borrowings consisted solely of FHLB advances.
Accrued expenses and other liabilities. Accrued expenses and other liabilities increased $28.9 million, or 55.20%, to $81.3 million as of December 31, 2023 from $52.4 million at December 31, 2022. The increase resulted from an IPO-related payable, an increase in the allowance for unfunded commitments, and an increase in derivatives with a negative fair value.
Equity. Shareholders’ equity was $758.0 million, representing an increase of $413.9 million, or 120.3%, from the prior year. The increase resulted primarily from the capital raised during the Company’s public offering, which was consummated on December 27, 2023, and net income of $9.8 million during the year ended December 31, 2023.
Comparison of Operating Results for the Years Ended December 31, 2023 and December 31, 2022
Net Income. Net income was $9.8 million for the year ended December 31, 2023, compared to net income of $30.1 million for the year ended December 31, 2022, a decrease of $20.2 million, or 67.3%. The decrease was primarily due to a one-time donation of $2.0 million in cash and 1.7 million shares of common stock to the Needham Bank Charitable Foundation at a total market value of $19.1 million, in addition to a $7.9 million discretionary bonus awarded by the Compensation Committee, a $1.9 million pension expense and $3.7 million of additional income tax expense related to the impact of public company tax laws. In addition to the mutual-to-stock conversion expense, the Company also recognized $7.2 million in additional provision for credit losses, due to the growth of the loan portfolio and unfunded commitments. Partially offsetting these increases in expenses was a $25.1 million, or 23.9%, increase in net interest income due to net loan growth and an increase in the weighted average yield on our interest-earning assets and a $6.3 million, or 67.9%, increase in noninterest income due to increases from employee retention credit income and increases in cash management fees from customers.
Interest and Dividend Income. Interest and dividend income increased $100.0 million, or 83.0%, to $220.5 million for the year ended December 31, 2023 from $120.5 million for the year ended December 31, 2022, primarily due to a $98.2 million increase in interest and fees on loans. The increase in interest and fees on loans was primarily due to an increase of $979.5 million in the average balance of the loan portfolio to $3.46 billion for the year ended December 31, 2023 from $2.49 billion for the year ended December 31, 2022 and an increase of 154 basis points in the weighted
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average yield for the loan portfolio to 6.12% for 2023 from 4.58% for 2022, reflecting the increasing rate environment year to year as well as the growth of our loan portfolio.
Average interest-earning assets increased $807.2 million, to $3.81 billion for the year ended December 31, 2023 from $3.01 billion for the year ended December 31, 2022. The yield on interest-earning assets increased 177 basis points to 5.78% for the year ended December 31, 2023 from 4.01% for the year ended December 31, 2022.
Interest Expense. Total interest expense increased $74.9 million, or 481.7%, to $90.4 million for the year ended December 31, 2023 from $15.5 million for the year ended December 31, 2022. Interest expense on deposit accounts increased $63.7 million, or 502.0%, to $76.4 million for the year ended December 31, 2023 from $12.7 million for the year ended December 31, 2022, due to an increase in the average balance of interest-bearing deposits of $516.6 million, or 23.6%, to $2.70 billion for the year ended December 31, 2023 from $2.19 billion for the year ended December 31, 2022 and an increase in the weighted average rate on interest-bearing deposits to 3.05% for the year ended December 31, 2023 from 0.68% for the year ended December 31, 2022.
Interest expense on FHLB advances increased $11.2 million, or 391.4%, to $14.1 million for the year ended December 31, 2023 from $2.9 million for the year ended December 31, 2022. The average balance of FHLB advances increased $171.1 million, or 193.7%, to $259.5 million for the year ended December 31, 2023 from $88.3 million for the year ended December 31, 2022 and the weighted average cost of these advances increased to 5.41% for 2023 from 3.24% for 2022. The increase in the average balance was due to our strategy to utilize additional borrowings to support loan growth and for liquidity management.
Net Interest Income. Net interest income was $130.1 million for the year ended December 31, 2023, compared to $105.0 million in the prior year, representing an increase of $25.1 million, or 23.9%. The net interest margin was 3.41% for 2023, representing a decrease of eight basis points from 2022, primarily due to an increase in the cost of liabilities used to fund the Company’s loan growth. The increase in net interest income was primarily due to a $807.2 million increase in the average balance of interest-earning assets during the year ended December 31, 2023, which outpaced growth in average interest-bearing liabilities, which grew by $689.7 million during the year ended December 31, 2023. The net interest margin decreased slightly to 3.41% for the year ended December 31, 2023 from 3.49% for the year ended December 31, 2022. The decrease in the net interest margin was primarily due to the increase in the average rates paid on interest-bearing liabilities increasing by 237 basis points during the year ended December 31, 2023, while the yield on interest-earning assets grew by 177 basis points.
Provision for Credit Losses. Based on management’s analysis of the adequacy of allowance for credit losses, a provision of $13.9 million was recorded for the year ended December 31, 2023 in accordance with the CECL standard, compared to a provision of $6.7 million for the year ended December 31, 2022 in accordance with the incurred loss methodology standard. The $7.2 million, or 107.2%, increase in the provision was primarily due to the material growth in total loans which increased $878.3 million, or 29.1%, to $3.89 billion at December 31, 2023 from $3.02 billion at December 31, 2022. The provision for credit losses for the year ended December 31, 2023 consisted of a provision for credit losses of $9.7 million and a provision for unfunded commitments of $4.2 million.
Noninterest Income. Noninterest income increased $6.3 million, or 68.0%, to $15.6 million for the year ended December 31, 2023 from $9.3 million for the year ended December 31, 2022. The increase resulted primarily from a $3.5 million employee retention credit received in 2023 resulting from COVID-19 impacts, and a $2.7 million increase in customer service fees, primarily from increased money service fees related to the cannabis banking services. The table below sets forth our noninterest income for the years ended December 31, 2023 and 2022:
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| | | | | | | | | | | | |
|---|---|---|---|---|---|---|---|---|---|---|---|
| | | Year ended | | | | | | ||||
| | | December 31, | | Change | |||||||
| (Dollars in thousands) | | 2023 | | 2022 | | Amount | | Percent | |||
| Gain from bargain purchase and assumption agreement | | $ | — | | $ | 1,070 | | $ | (1,070) | | (100.00%) |
| Customer service fees | | | 7,817 | | | 5,138 | | | 2,679 | | 52.14% |
| Increase in cash surrender value of BOLI | | | 1,510 | | | 1,157 | | | 353 | | 30.51% |
| Mortgage banking income | | | 581 | | | 595 | | | (14) | | (2.35%) |
| Swap contract income | | | 2,153 | | | 1,262 | | | 891 | | 70.60% |
| Employee retention credit income | | | 3,452 | | | — | | | 3,452 | | 100.00% |
| Other income | | | 64 | | | 53 | | | 11 | | 20.75% |
| Total noninterest income | | $ | 15,577 | | $ | 9,275 | | $ | 6,302 | | 67.95% |
Noninterest Expense. Noninterest expense for 2023 was $119.9 million, representing an increase of $48.8 million, or 68.5%, from the prior year, and included certain one-time costs associated with the Company’s mutual-to-stock conversion during the year ended December 31, 2023. Excluding expenses related to the mutual-to-stock conversion and certain other non-operating items, noninterest expense on an operating basis for 2023 was $91.0 million, which represents a $19.8 million, or 27.9%, increase from 2022 as the Company continued to invest in infrastructure to support growth. Noninterest expense increased $48.8 million, or 68.5%, to $119.9 million for the year ended December 31, 2023 from $71.2 million for the year ended December 31, 2022. Salary and employee benefit expenses increased $20.9 million, or 44.0%. The increase in salary and employee benefits resulted primarily from the hiring of additional employees consistent with our business strategy to grow the Company, as well as discretionary bonuses awarded by the Compensation Committee. Charitable contribution expense increased $19.3 million resulting from a $19.1 million charitable contribution as part of the Company’s mutual-to-stock conversion and related IPO. Additionally, director and professional fees increased $1.5 million, or 31.0%, resulting primarily from increased professional services in connection with our loan operations, and FDIC insurance expense increased $2.9 million, or 157.4%, resulting from an increase in asset growth and a reduction in capital ratios. The table below sets forth our noninterest expense for the years ended December 31, 2023 and 2022:
| | | | | | | | | | | | |
|---|---|---|---|---|---|---|---|---|---|---|---|
| | | Year ended | | | | | | ||||
| | | December 31, | | Change | |||||||
| (Dollars in thousands) | | 2023 | | 2022 | | Amount | | Percent | |||
| Salaries and employee benefits | | $ | 68,344 | | $ | 47,466 | | $ | 20,878 | | 43.99% |
| Director and professional service fees | | | 6,232 | | | 4,758 | | | 1,474 | | 30.98% |
| Occupancy and equipment expenses | | | 5,192 | | | 4,354 | | | 838 | | 19.25% |
| Data processing expenses | | | 7,500 | | | 5,657 | | | 1,843 | | 32.58% |
| Charitable contribution expense | | | 20,335 | | | 1,066 | | | 19,269 | | 1,807.60% |
| Marketing expense | | | 2,747 | | | 2,338 | | | 409 | | 17.49% |
| FDIC and state insurance assessments | | | 4,707 | | | 1,829 | | | 2,878 | | 157.35% |
| General and administrative expenses | | | 4,848 | | | 3,683 | | | 1,165 | | 31.63% |
| Total noninterest expense | | $ | 119,905 | | $ | 71,151 | | $ | 48,754 | | 68.52% |
Income Tax Expense. Income tax expense decreased $4.3 million, or 68.1%, to $2.0 million for the year ended December 31, 2023 from $6.3 million for the year ended December 31, 2022. The effective tax rate was 17.1% and 17.4% for the years ended December 31, 2023 and 2022, respectively. The effective tax rate decreased during 2023 primarily as a result of a decrease in income before taxes of $24.5 million, or 67.45% in comparison to 2022.
Average Balances and Yields. The following tables set 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. Non-accrual loans were included in the computation of average balances. All average balances are daily 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; such fees, discounts and premiums were not material for the periods presented.
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|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| | For the Year Ended December 31, | ||||||||||||||||
| | | 2023 | | 2022 | |||||||||||||
| | Average | | | | Average | | | | |||||||||
| | | Outstanding | | | | | Average | | Outstanding | | | | | Average | |||
| (Dollars in thousands) | | Balance | | Interest | | Yield/Rate | | Balance | | Interest | | Yield/Rate | |||||
| Interest-earning assets: | | | | | | ||||||||||||
| Loans | | $ | 3,464,692 | | $ | 211,973 | 6.12 | % | $ | 2,485,182 | | $ | 113,760 | 4.58 | % | ||
| Securities | | 234,701 | | 4,773 | 2.03 | % | 324,567 | | 4,954 | 1.53 | % | ||||||
| Other investments | | 41,851 | | 695 | 1.66 | % | 27,522 | | 656 | 2.38 | % | ||||||
| Short-term investments | | 71,435 | | 3,060 | 4.28 | % | 168,190 | | 1,142 | 0.68 | % | ||||||
| Total interest-earning assets | | 3,812,679 | | 220,501 | 5.78 | % | 3,005,461 | | 120,512 | 4.01 | % | ||||||
| Non-interest-earning assets | | 191,576 | | | | | 133,851 | | | ||||||||
| Allowance for credit losses | | (30,041) | | | | | (20,422) | | | ||||||||
| Total assets | | $ | 3,974,214 | | | | | $ | 3,118,890 | | | ||||||
| | | | | | | | | | | | | | | | | | |
| Interest-bearing liabilities: | | | | | | ||||||||||||
| Savings accounts | | $ | 142,359 | | 72 | 0.05 | % | $ | 166,905 | | 84 | 0.05 | % | ||||
| NOW accounts | | 363,572 | | 1,085 | 0.30 | % | 402,110 | | 328 | 0.08 | % | ||||||
| Money market accounts | | 778,100 | | 19,879 | 2.55 | % | 768,487 | | 2,466 | 0.32 | % | ||||||
| Certificates of deposit and individual retirement accounts | | 1,418,555 | | 55,358 | 3.90 | % | 848,500 | | 9,811 | 1.16 | % | ||||||
| Total interest-bearing deposits | | 2,702,586 | | 76,394 | 2.83 | % | 2,186,002 | | 12,689 | 0.58 | % | ||||||
| FHLB advances | | 259,478 | | 14,050 | 5.41 | % | 88,344 | | 2,859 | 3.24 | % | ||||||
| Total interest-bearing liabilities | | 2,962,064 | | 90,444 | 3.05 | % | 2,274,346 | | 15,548 | 0.68 | % | ||||||
| Non-interest-bearing deposits | | 568,881 | | | | 464,461 | | | |||||||||
| Other non-interest-bearing liabilities | | 78,149 | | | | | 48,210 | | | ||||||||
| Total liabilities | | 3,609,094 | | | | | 2,787,017 | | | ||||||||
| Shareholders' equity | | 365,120 | | | | | 331,872 | | | ||||||||
| Total liabilities and shareholders' equity | | $ | 3,974,214 | | | | | $ | 3,118,889 | | | ||||||
| Net interest income | | | | | $ | 130,057 | | | $ | 104,964 | | ||||||
| Net interest rate spread (1) | | | | | | | 2.73 | % | | 3.33 | % | ||||||
| Net interest-earning assets (2) | | $ | 850,615 | | | | | $ | 731,115 | | | | | ||||
| Net interest margin (3) | | | | | | | 3.41 | % | | 3.49 | % | ||||||
| | | | | | | | | | | | | | | | | | |
| Average interest-earning assets to interest-bearing liabilities | | 128.72 | % | | | | 132.15 | % | |
| Column 1 | Column 2 |
|---|---|
| (1) | 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. |
| Column 1 | Column 2 |
|---|---|
| (2) | Net interest-earning assets represent total interest-earning assets less total interest-bearing liabilities. |
| Column 1 | Column 2 |
|---|---|
| (3) | Net interest margin represents net interest income divided by average total interest-earning assets. |
Rate/Volume Analysis. The following table presents the effects of changing rates and volumes on our net interest income for the periods indicated. The rate column shows the effects attributable to changes in rate (changes in rate multiplied by prior volume). The volume column shows the effects attributable to changes in volume (changes in volume multiplied by prior rate). 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. There were no out-of-period items or adjustments required to be excluded from the table below.
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| | | | | | | | | | |
|---|---|---|---|---|---|---|---|---|---|
| | Year Ended | ||||||||
| | | December 31, 2023 vs. 2022 | |||||||
| | | Increase (Decrease) Due to | | Total | |||||
| | | | | | | | | Increase | |
| (Dollars in thousands) | Volume | Rate | (Decrease) | ||||||
| Interest-earning assets: | | | | ||||||
| Loans | | $ | 53,209 | | $ | 45,004 | | $ | 98,213 |
| Securities | | 1,229 | | (1,410) | | (181) | |||
| Other | | 94 | | (55) | | 39 | |||
| Short-term investments | | (233) | | 2,151 | | 1,918 | |||
| Total interest-earning assets | | 54,299 | | 45,690 | | 99,989 | |||
| | | | | | | | | | |
| Interest-bearing liabilities: | | | | | |||||
| Savings accounts | | (12) | | — | | (12) | |||
| NOW accounts | | (28) | | 785 | | 757 | |||
| Money market accounts | | 31 | | 17,381 | | 17,412 | |||
| Certificates of deposit and individual retirement accounts | | 10,043 | | 35,505 | | 45,548 | |||
| Total interest-bearing deposits | | 10,034 | | 53,671 | | 63,705 | |||
| Federal Home Loan Bank advances | | 8,305 | | 2,886 | | 11,191 | |||
| Total interest-bearing liabilities | | 18,339 | | 56,557 | | 74,896 | |||
| | | | | | | | | | |
| Change in net interest income | | $ | 35,960 | | $ | (10,867) | | $ | 25,093 |
Management of Market Risk
General. Our most significant form of market risk is interest rate risk because, as a financial institution, the majority of our assets and liabilities are sensitive to changes in interest rates. Therefore, a principal part of our operations is to manage interest rate risk and limit the exposure of our financial condition and results of operations to changes in market interest rates. Our ERM Committee is responsible for evaluating the interest rate risk inherent in our assets and liabilities, for determining the level of risk that is appropriate, given our business strategy, operating environment, capital, liquidity and performance objectives, and for managing this risk consistent with the policy and guidelines approved by our board of directors. The ERM Committee meets at least quarterly, is comprised of directors, executive officers and certain senior management, and reports to the full board of directors on at least a quarterly basis. We currently utilize a third-party modeling program, prepared on a quarterly basis, to evaluate our sensitivity to changing interest rates, given our business strategy, operating environment, capital, liquidity and performance objectives, and for managing this risk consistent with the guidelines approved by the board of directors.
We have sought to manage our interest rate risk in order to minimize the exposure of our earnings and capital to changes in interest rates. We have implemented the following strategies to manage our interest rate risk:
| Column 1 | Column 2 | Column 3 |
|---|---|---|
| ● | maintaining capital levels that exceed the thresholds for well-capitalized status under federal regulations; |
| Column 1 | Column 2 | Column 3 |
|---|---|---|
| ● | maintaining a prudent level of liquidity; |
| Column 1 | Column 2 | Column 3 |
|---|---|---|
| ● | maintaining a prudent level of off-balance sheet funding capacity |
| Column 1 | Column 2 | Column 3 |
|---|---|---|
| ● | growing our volume of core deposit accounts; |
| Column 1 | Column 2 | Column 3 |
|---|---|---|
| ● | utilizing our investment securities portfolio and interest rate swaps as part of our balance sheet asset and liability and interest rate risk management strategy to reduce the impact of movements in interest rates on net interest income and economic value of equity; |
| Column 1 | Column 2 | Column 3 |
|---|---|---|
| ● | managing our utilization of wholesale funding with borrowings from the FHLB and brokered deposits in a prudent manner; |
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| Column 1 | Column 2 | Column 3 |
|---|---|---|
| ● | continuing to diversify our loan portfolio by adding more commercial-related loans and consumer loans, which typically have shorter maturities and/or balloon payments; and |
| Column 1 | Column 2 | Column 3 |
|---|---|---|
| ● | continuing to price our one-to-four family residential real estate loan products in a way that encourages borrowers to select our adjustable-rate loans as opposed to longer-term, fixed-rate loans. |
Shortening the average term of our interest-earning assets by increasing our investments in shorter-term assets, as well as originating loans with variable interest rates, helps to match the maturities and interest rates of our assets and liabilities better, thereby reducing the exposure of our net interest income to changes in market interest rates.
On occasion we have employed various financial risk methodologies that limit, or “hedge,” the adverse effects of rising or decreasing interest rates on our loan portfolios and short-term liabilities. We also engage in hedging strategies with respect to arrangements where our customers swap floating interest rate obligations for fixed interest rate obligations, or vice versa. Our hedging activity varies based on the level and volatility of interest rates and other changing market conditions.
Net Interest Income. We analyze our sensitivity to changes in interest rates through a net interest income model. Net interest income is the difference between the interest income we earn on our interest-earning assets, such as loans and securities, and the interest we pay on our interest-bearing liabilities, such as deposits and borrowings. We estimate what our net interest income would be for a 12-month period. We then calculate what the net interest income would be for the same period under the assumptions that the United States Treasury yield curve increases or decreases instantaneously by various basis point increments, with changes in interest rates representing immediate and permanent, parallel shifts in the yield curve. A basis point equals one-hundredth of one percent, and 100 basis points equals one percent. An increase in interest rates from 3% to 4% would mean, for example, a 100-basis point increase in the “Change in Interest Rates” column below.
The following table sets forth, as of December 31, 2023, the calculation of the estimated changes in our net interest income that would result from the designated immediate changes in the United States Treasury yield curve.
| | | | | | | |
|---|---|---|---|---|---|---|
| At December 31, 2023 | ||||||
| Change in Interest Rates | Net Interest Income Year | Year 1 Change from | ||||
| (basis points) (1) | | 1 Forecast | | Level | ||
| (Dollars in thousands) | | |||||
| 300 | | $ | 152,223 | 0.4 | % | |
| 200 | | 152,027 | 0.3 | % | ||
| 100 | | 152,218 | 0.4 | % | ||
| Level | | 151,577 | — | % | ||
| (100) | | 149,636 | (1.3) | % | ||
| (200) | | 146,920 | (3.1) | % | ||
| (300) | | 144,447 | (4.7) | % |
| Column 1 | Column 2 |
|---|---|
| (1) | Assumes an immediate uniform change in interest rates at all maturities. |
The table above indicates that at December 31, 2023, we would have experienced a 0.3% decrease in net interest income in the event of an instantaneous parallel 200 basis point increase in market interest rates and a 3.1% decrease in net interest income in the event of an instantaneous 200 basis point decrease in market interest rates.
Economic Value of Equity. We also compute amounts by which the net present value of our assets and liabilities (economic value of equity or “EVE”) would change in the event of a range of assumed changes in market interest rates. This model uses a discounted cash flow analysis and an option-based pricing approach to measure the interest rate sensitivity of net portfolio value. The model estimates the economic value of each type of asset, liability and off-balance sheet contract under the assumptions that the United States Treasury yield curve increases instantaneously by 100, 200, and 300 basis point increments or decreases instantaneously by 100 or 200 basis point increments, with changes in interest rates representing immediate and permanent, parallel shifts in the yield curve.
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The following table sets forth, as of December 31, 2023, the calculation of the estimated changes in our EVE that would result from the designated immediate changes in the United States Treasury yield curve.
| | | | | | | | | | |
|---|---|---|---|---|---|---|---|---|---|
| | | | | | Estimated Increase | ||||
| At December 31, 2023 | | Estimated | | (Decrease) in EVE | |||||
| Change in Interest Rates (basis points) (1) | EVE (2) | Amount | Percent | ||||||
| (Dollars in thousands) | |||||||||
| 300 | | $ | 743,527 | | $ | (20,750) | (2.7) | % | |
| 200 | | 752,755 | | (11,522) | (1.5) | % | |||
| 100 | | 761,350 | | (2,927) | (0.4) | % | |||
| Level | | 764,277 | | n/a | — | % | |||
| (100) | | 758,549 | | (5,728) | (0.7) | % | |||
| (200) | | 742,157 | | (22,120) | (2.9) | % | |||
| (300) | | 718,598 | | (45,679) | (6.0) | % |
| Column 1 | Column 2 |
|---|---|
| (1) | Assumes an immediate uniform change in interest rates at all maturities. |
| Column 1 | Column 2 |
|---|---|
| (2) | EVE is the discounted present value of expected cash flows from assets, liabilities and off-balance sheet contracts. |
The table above indicates that at December 31, 2023, we would have experienced a 1.5% decrease in EVE in the event of an instantaneous parallel 200 basis point increase in market interest rates and a 2.9% decrease in EVE in the event of an instantaneous 200 basis point decrease in market interest rates.
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. The net interest income and net economic value tables presented assume that the composition of our 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 tables provide an indication of our 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, and actual results may differ.
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 our loans, mortgage servicing rights, deposits and borrowings.
Liquidity and Capital Resources
Liquidity describes our 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 our customers and to fund current and planned expenditures. Our primary sources of funds are deposits, principal and interest payments on loans and securities, and proceeds from maturities of securities. We are also able to borrow from the FHLB. At December 31, 2023, we had outstanding advances of $283.3 million from the FHLB. At December 31, 2023, we had unused borrowing capacity of $608.6 million with the FHLB. At December 31, 2023 we also had a $46.2 million available line of credit with the Discount Window at the Federal Reserve Bank of Boston. Additionally, at December 31, 2023, we had $183.6 million of brokered deposits and pursuant to our internal liquidity policy, which allows us to utilize brokered deposits up to 10.0% of our total assets, we had an additional capacity of up to approximately $269.7 million of brokered deposits.
While maturities and scheduled amortization of loans and securities are predictable sources of funds, deposit flows and loan prepayments are greatly influenced by general interest rates, economic conditions, and competition. Our most liquid assets are cash and short-term investments. The levels of these assets are dependent on our operating, financing, lending, and investing activities during any given period.
Our cash flows are comprised of three primary classifications: cash flows from operating activities, investing activities, and financing activities. For additional information, see the consolidated statements of cash flows for the years
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ended December 31, 2023 and 2022 included as part of the consolidated financial statements appearing elsewhere in this Annual Report on Form 10-K.
We are committed to maintaining a strong liquidity position. We monitor our liquidity position on a daily basis. We anticipate that we will have sufficient funds to meet our current funding commitments. Based on our deposit retention experience and current pricing strategy, we anticipate that a significant portion of maturing time deposits will be retained.
At December 31, 2023, Needham Bank exceeded all of its regulatory capital requirements, and was categorized as well-capitalized at that date. Management is not aware of any conditions or events since the most recent notification of well-capitalized status that would change our category. See Note 11 of the notes to consolidated financial statements on page 105.
Off-Balance Sheet Arrangements and Aggregate Contractual Obligations
Commitments. As a financial services provider, we routinely are a party to various financial instruments with off-balance-sheet risks, such as commitments to extend credit and unused lines of credit. While these contractual obligations represent our 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 we make. At December 31, 2023, the unfunded portion of construction loans, home equity lines of credit, commercial lines of credit and other lines of credit, along with letters of credit, totaled $1.1 billion. Our allowance for credit losses on these unfunded commitments amounted to $6.0 million. We anticipate that we will have sufficient funds available to meet our current lending commitments. Time deposits that are scheduled to mature in less than one year from December 31, 2023 totaled $340.8 million. Management expects that a substantial portion of these time deposits will be retained. However, if a substantial portion of these time deposits is not retained, we may utilize advances from the FHLB, brokered deposits 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 our operations, we enter 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.
Recent Accounting Pronouncements
See Note 23 to the notes to the consolidated financial statements for a description of recent accounting pronouncements that may affect our financial condition and results of operations.
Impact of Inflation and Changing Prices
The consolidated financial statements and related data presented in this Annual Report on Form 10-K have been prepared in accordance with U.S. GAAP, which requires the measurement of financial position and operating results in terms of historical dollars without considering changes in the relative purchasing power of money over time due to inflation. The primary impact of inflation on our operations is reflected in increased operating costs. Unlike most industrial companies, virtually all of the assets and liabilities of a financial institution are monetary in nature. As a result, interest rates, generally, have a more significant impact on a financial institution’s performance than does inflation. Interest rates do not necessarily move in the same direction or to the same extent as the prices of goods and services.