What changed in this filing

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Item 2. Management’s Discussion and Analysis

2020-11-03 compared with 2020-08-04 · 262 added, 257 removed, 387 unchanged (57% of the section changed)

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the availability and terms of funding from government sources related to COVID-19;

the timing of Paycheck Protection Program ("PPP") loan forgiveness;

the general condition of, and changes in, the Alaska economy;

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However, we have the option to early adopt CECL as of either January 1, 2021, or January 1, 2022.

Based on our loan portfolio composition at June 30, 2020, and the Company's current economic forecast, had we elected to early adopt CECL as of June 30, 2020, we estimate the impact of adoption to be an overall decrease in our allowance for credit losses ("ACL") for loans between $5.0 million and $6.0 million.

The reduction reflects an expected decrease for all loan segments given their short contractual maturities.

The Company does not hold a material amount of residential mortgage loans with long or indeterminate maturities as of June 30, 2020.

Based on our loan portfolio composition at September 30, 2020, and the Company's current economic forecast, had we elected to early adopt CECL as of September 30, 2020, we estimate the impact of adoption to be an overall decrease in our allowance for credit losses ("ACL") for loans between approximately $2.0 million and $3.0 million.

The estimated reduction reflects an expected decrease for all loan segments given their short contractual maturities.

The Company does not hold a material amount of residential mortgage loans with long or indeterminate maturities as of September 30, 2020.

In most instances the Company believes that the ACL for these types of loans would lead to an increase in the ACL.

We will continue to evaluate and refine the results of our loss estimates until adoption of ASU 2016-13.

We will continue to evaluate and refine the results of our loss estimates until we adopt ASU 2016-13.

The ultimate effect of CECL on our ACL will depend on the size and composition of our loan portfolio, the loan portfolio’s credit quality and economic conditions at the time of adoption, as well as any refinements to our models, methodology and other key assumptions.

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Update on Economic Conditions

The COVID-19 pandemic has disrupted economies all around the world.

In Alaska, the tourism and hospitality industries have been most affected with job losses.

Oil prices dropped precipitously at the beginning of the pandemic, but have rebounded recently to healthier levels.

The government’s fiscal and monetary response has been far reaching.

This has greatly eased the short run impacts of the virus for most of the Company’s customers.

The State of Alaska Department of Labor reported that a year and a half of positive job growth came to an abrupt end in April of 2020.

The seasonally adjusted unemployment rate jumped from 5.6% in March to 13.5% in April.

This moderated slightly to 12.6% in May.

The comparable U.S.

rate peaked at 14.7% in April and decreased to 13.3% in May, according to the State of Alaska Department of Labor.

In Alaska, every major job sector reported declines year-over-year (“YoY”) in May 2020 according to the State of Alaska Department of Labor.

Leisure and Hospitality was the most severely impacted, declining 39.7% for a loss of 15,300 jobs in Alaska in May 2020.

Also in Alaska, government declined by 7,400 jobs or 9.1%, primarily due to a loss of 6,200 local government jobs.

State government declined by 1,000 jobs and Federal government by only 200 jobs.

Other major sectors to decline in Alaska YoY in May of 2020 were:

Health Care -2,900;

Transportation, Warehousing and Utilities -2,700;

Retail Trade -2,600;

and Construction -2,400.

When 2020 began, it appeared that Alaska’s economy was on track for a solid year of growth.

A three year mild recession starting in 2016 ended in the 4 th quarter of 2018.

For the next 18 consecutive months, Alaska’s total number of jobs grew month over month compared to the prior year according to the State Department of Labor ("DOL").

That came to an abrupt end in April of 2020 when the full force of the COVID pandemic shocked the global economy.

Alaska faced unemployment rates as high as 13.5% in April after being as low as 5.2% in March of 2020.

The DOL has reported that unemployment rates have moderated each of the last four months since the high in April.

The seasonally adjusted unemployment rate improved from 11.6% in July to 7.4% in August.

In August of 2020, Alaska had approximately 37,000 fewer payroll jobs than August of 2019.

Oil prices have been fluctuating significantly in 2020 as the global economy reacts to the COVID-19 pandemic.

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The virus concerns began to have an effect when monthly ANS prices declined to $54.48 in February and $33.21 in March.

In the second quarter of 2020, ANS prices hit a monthly low of $16.54 in April and increased to $28.21 in May.

The ANS price improved throughout June and averaged $41.78.

Trillions of dollars in federal assistance programs have helped mitigate some of the negative impacts of the COVID-19 pandemic in the short run.

The Fed Funds rate was decreased 1.5% in March.

This helped reduce borrowers’ interest expense dramatically.

The Federal Reserve is buying corporate bonds, lending to state and municipal governments, and even aiding foreign central banks of our allies to help stabilize global markets.

The Fed is adding liquidity to the system to ensure credit markets don’t freeze up.

Small Business Administration ("SBA") Paycheck Protection Program ("PPP") and the Economic Injury Disaster loan program have provided hundreds of billions of dollars to businesses around the country.

The Federal Reserve’s Main Street Lending Program is also now available to help businesses weather current economic disruptions.

Direct grants to states from the CARES Act provided approximately $1.25 billion to Alaska.

An increase of $600 in weekly unemployment insurance benefits helped millions of people out of work maintain cash flow.

A moratorium on housing foreclosures, coupled with widespread payment forbearance arrangements, has kept Americans in their homes.

Alaska’s seasonally adjusted gross state product ("GSP") was $54 billion in the first quarter of 2020, according to the U.S.

Bureau of Economic Analysis ("BEA") in a report released on July 7, 2020.

Alaska’s real GSP decreased 4% annualized for the quarter.

The BEA reported real GSP decreased in all 50 states in the first quarter of 2020 and averaged a decline of 5% for the nation.

Alaska’s performance was above average, placing it 13th best of the 50 U.S.

states for the quarter.

This is following positive growth in Alaska in 2019 of 2.5%, compared to U.S.

growth of 2.3% last year.

The largest sectors of decline in GSP in Alaska in the first quarter of 2020 were Health Care, Accommodation and food services, and Government.

Alaska’s personal income grew 3.7% in 2019 according to a report by the Federal Bureau of Economic Analysis.

Total income from all sources in Alaska grew from $44.4 billion at the end of 2018 to $46.1 billion in the first quarter of 2020.

Most of the increase came from over $1 billion in improvement of wages in 2019.

The first quarter of 2020 was an annualized growth rate of 1.3% in Alaska.

In the second quarter, ANS prices hit a monthly average low of $16.54 in April and increased to $28.21 in May.

The ANS price has firmed up in the $40 range for the last four months.

ANS averaged $41.78 in June, $43.56 in July, $43.36 in August and $40.42 in September.

Despite the serious economic challenges of COVID, there has been extensive government spending to offset the negative impacts of shutdown mandates in the interest of public health.

For Alaska this has meant approximately $5.6 billion in total direct aid to date.

To put that in perspective, the Gross State Product ("GSP") of all annual economic activity in Alaska was measured at $45.6 billion in the second quarter of 2020.

So that is equivalent to 12% or 1/8th of Alaska’s entire GSP.

The stimulus is most easily seen in the personal income data.

The Federal Bureau of Economic Analysis ("BEA") reported personal income for Alaska rose by $2.6 billion or 24% in the second quarter of 2020 as compared to the first quarter of 2020.

This was largely a result of a $4.9 billion increase in government transfer payments.

There was a $2.2 billion reduction in wage income and a $139 million decrease in investment and rental income.

In other words, the increase in government transfer payments was more than double the loss in wages and decrease in dividends, interest and rental income combined.

Inflation is still very low in the U.S.

and even negative in Alaska.

inflation rate is up 1.3% over the last 12 months according to the Bureau of Labor Statistics ("BLS").

This has been consistently below the Federal Reserve’s target rate of 2%.

The BLS reported the consumer price index for Anchorage has actually been a negative 1.5% over the last 12 months.

Notable declines in prices include gasoline -17.3% and clothing -10.1%.

As always it is a mixed bag.

Food and beverage prices have risen by 5.2% and health care costs are up 7.7% according to the BLS.

The housing market has been remarkably stable and even positive in Alaska in 2020.

Prices have increased on average 4.3% in Anchorage, 7.5% in the Mat-Su, 4% in Fairbanks, 7.2% on the Kenai Peninsula and 11% in Kodiak according to the Multiple Listing Service ("MLS").

The number of homes sold is also higher in all these markets except Kenai, which is down just slightly from last year.

Alaska’s delinquency and foreclosure levels continue to be better than most of the nation.

According to the Mortgage Bankers Association, Alaska’s foreclosure rate was 0.60% at the end of the first quarter 2020.

That compares to 0.63% at the end of 2019.

The comparable national average rate was 0.73% in the first quarter of 2020 and 0.78% at the end of 2019.

The national survey reported that the percentage of delinquent mortgage loans in Alaska was 3.23% in the first quarter of 2020.

This compares to 2.85% at the end of 2019.

The delinquency rate for the entire country was higher at 4% in the first quarter of 2020 and 4.07% at the end of 2019.

According to the Mortgage Bankers Association, Alaska’s foreclosure rate was 0.60% at the end of the first quarter 2020 and it declined to 0.54% in the second quarter.

That compares to 0.73% and 0.68% at the end of the first and second quarter of 2020 for the U.S.

The Mortgage Bankers Association national survey reported that the percentage of delinquent mortgage loans in Alaska was 3.23% in the first quarter of 2020 and rose to 7.69% in the second quarter.

The comparable U.S.

rate was 4% in the first quarter of 2020 and 7.97% in the second quarter.

Borrowers who took advantage of three month forbearance programs to delay payments show up as technically delinquent until they are approved for a formal restructure of their missed loan payments or until they catch up on the three months of missed payments.

COVID-19 Issues:

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Northrim has identified various industries that may be adversely impacted by the COVID-19 pandemic and the significant decline in oil prices.

Though the industries affected may change through the progression of the pandemic, the following sectors for which the Company has exposure, as a percent of the total loan portfolio as of June 30, 2020 are being impacted:

Tourism (4%), Oil and Gas (4%), Aviation (non-tourism) (4%), Healthcare (6%), Accommodations (3%), Retail (2%) and Restaurants (2%).

The Company's exposure as a percent of the total loan portfolio excluding SBA PPP loans as of June 30, 2020 are:

The Company's exposure as a percent of the total loan portfolio excluding SBA PPP loans as of September 30, 2020 are:

Tourism (6%), Oil and Gas (6%), Aviation (non-tourism) (5%), Healthcare (7%), Accommodations (3%), Retail (2%) and Restaurants (2%).

• Customer Accommodations:

The Company has proactively implemented several forms of assistance to help our customers in the event that they experience financial hardship as a result of COVID-19 in addition to our participation in PPP lending.

The Company has implemented several forms of assistance to help our customers in the event that they experience financial hardship as a result of COVID-19 in addition to our participation in PPP lending.

The provisions of the CARES Act included an election to not apply the guidance on accounting for certain troubled debt restructurings related to COVID-19 and allow certain accommodations to borrowers.

These accommodations include interest only and deferral options on loan payments, as well as the waiver of various fees related to loans, deposits and other services.

The PPP administered by the SBA under the CARES Act has provided some relief on requests to modify loans.

As of June 30, 2020, the Company has made the following loan modifications due to the impacts of COVID-19:

Loan Modifications due to COVID-19

(Dollars in thousands)

Interest Only

Full Payment Deferral

The Company has elected to adopt these provisions of the CARES Act.

The outstanding principal balance of loan modifications due to the impacts of COVID-19 were as follows:

Loan Modifications due to COVID-19 as of September 30, 2020

(Dollars in thousands) Interest Only Full Payment Deferral Total

Portfolio loans $46,056 $74,337 $120,393

Number of modifications 16 59 75

Loan Modifications due to COVID-19 as of June 30, 2020

(Dollars in thousands) Interest Only Full Payment Deferral Total

Portfolio loans $64,298 $293,224 $357,522

Number of modifications 76 403 479

Consumer loans represent 1% of total loan modifications identified above.

Of the $120 million and 75 loan modifications as of September 30, 2020, approximately $11.4 million and 12 loans have entered into a second modification.

• Loan Loss Reserve:

The Company booked a loan loss provision of $404,000 for the quarter ended June 30, 2020.

This compares to a $300,000 provision for loan losses in the second quarter a year ago.

The increased provision is the result of growth in the loan portfolio and an increase in qualitative factors based on management's assessment of increased risks in our loan portfolio primarily associated with the COVID-19 pandemic and the reduction in oil prices compared to the prior year.

The Company booked a loan loss provision of $567,000 for the quarter ended September 30, 2020.

This compares to a provision for loan losses of $404,000 during the previous quarter and a $2.1 million benefit for loan loss provision in the third quarter a year ago.

• Credit Quality:

Net adversely classified loans improved to $15.7 million at June 30, 2020, as compared to $22.3 million at December 31, 2019.

Net loan chargeoffs were $768,000 in the second quarter of 2020, compared to net loan recoveries of $9,000 in the second quarter of 2019.

Net adversely classified loans improved to $14.5 million at September 30, 2020, as compared to $22.3 million at December 31, 2019.

Net loan recoveries were $463,000 in the third quarter of 2020, compared to net loan recoveries of $694,000 in the third quarter of 2019.

• Branch Operations:

All but one branch remained open throughout the second quarter.

Branch lobbies were available by appointment from March 23 to June 17.

All but one branch was fully reopened on June 17 with a number of customers and employee safety measures implemented.

All branches are fully operational, while a number of customer and employee safety measure continue to be implemented.

• Remote Workers:

As of September 30, 2020, approximately 50% of the Company's employees are working remotely either on a full- or part-time basis directly due to the pandemic caused by COVID-19.

These employees primarily hold non-customer facing positions within the Company.

Prior to the pandemic, less than 8% of the Company's employees worked remotely.

The increase in the number of employees that work remotely has had no material impact on the Company's operations.

• Growth and Paycheck Protection Program:

The Company’s asset base increased during the quarter ended June 30, 2020, due primarily to loans originated under the SBA's PPP.

Through June 30, 2020,the Company had funded approximately 2,500 PPP loans totaling $353.5 million to both existing and new customers.

The deadline for PPP loan applications to the SBA has been extended to August 8, 2020.

The Company is continuing to accept new PPP applications based on this extended deadline and is assisting small businesses with other borrowing options a they become available.

• The Company’s asset base increased during the third quarter ended September 30, 2020, due primarily to commercial and PPP loan originations.

• During the third quarter of 2020, Northrim funded an additional 426 PPP loans totaling $22.7 million to both existing and new customers, bringing the PPP portfolio to approximately 2,888 loans totaling $375.6 million at September 30, 2020.

• According to the SBA, the Company originated more SBA PPP loans in the State of Alaska than any other financial institution, funding 23% of the number and 28% of the value of all Alaska PPP loans for the period ending June 30, 2020.

The Company initially utilized the Federal Reserve Bank's Paycheck Protection Program Liquidity Facility ("PPPLF") to fund PPP loans but has since repaid those funds in full and has funded the SBA PPP loans through core deposits and maturity of long-term investments.

• As of September 30, 2020 Northrim has submitted 17 PPP loans totaling $9.2 million for forgiveness through the SBA.

• The Company initially utilized the Federal Reserve Bank's Paycheck Protection Program Liquidity Facility (the "PPPLF") to fund PPP loans, but has since paid back those funds in full and has funded the SBA PPP loans through core deposits and maturity of long-term investments.

• Capital Management:

At June 30, 2020, the Company’s and the Bank’s capital ratios were well in excess of all regulatory requirements.

As previously announced, the Company suspended its previously announced stock repurchasing activity effective March 26, 2020.

Highlights and Summary of Performance - Second Quarter of 2020

The Company reported net income and diluted earnings per share of $9.9 million and $1.52, respectively, for the second quarter of 2020 compared to net income and diluted earnings per share of $4.3 million and $0.62, respectively, for the second quarter of 2019 .

The Company reported net income and diluted earnings per share of $10.9 million and $1.68, respectively, for the first six months of 2020 compared to net income and diluted earnings per share of $8.6 million and $1.24, respectively, for the same period in 2019 .

The increase in net income in the second quarter of 2020 compared to the same quarter last year is primarily due to an increase in mortgage banking income.

Total revenue in the second quarter of 2020, which includes net interest income plus other operating income, increased 37% to $35.0 million from $25.5 million in the second quarter a year ago, primarily due to a $9.3 million increase in mortgage banking income.

Net interest income increased 9% to $17.5 million in the second quarter of 2020 compared to the same period in 2019 mainly due to increased loans and loans held for sale balances.

Net interest margin decreased to 3.98% in the second quarter of 2020 as compared to 4.71% in the second quarter a year ago primarily due to lower interest rates.

The Company paid cash dividends of $0.34 per common share in the second quarter of 2020, up 13% from $0.30 in the second quarter of 2019.

At September 30, 2020, the capital of Northrim Bank (the "Bank") was well in excess of all regulatory requirements.

The Company resumed its stock repurchase program at the end of August and repurchased 89,000 shares of its common stock in the third quarter of 2020 at an average price of $26.66, leaving 45,549 shares available under the previously announced repurchase authorization.

Highlights and Summary of Performance - Third Quarter of 2020

The Company reported net income and diluted earnings per share of $11.9 million and $1.84, respectively, for the third quarter of 2020 compared to net income and diluted earnings per share of $7.5 million and $1.11, respectively, for the third quarter of 2019.

The Company reported net income and diluted earnings per share of $22.8 million and $3.52, respectively, for the first nine months of 2020 compared to net income and diluted earnings per share of $16.1 million and $2.35, respectively, for the same period in 2019.

The increase in net income for the three and nine month periods ending September 30, 2020 compared to the same periods last year is primarily due to an increase in net income in the Home Mortgage Lending segment as a result of increased production.

• Total revenue in the third quarter of 2020, which includes net interest income plus other operating income, increased 49% to $39.9 million from $26.8 million in the third quarter a year ago, primarily due to a $10.4 million increase in mortgage banking income.

Similarly, total revenue in the first nine months of 2020 increased 28% to $97.0 million from $75.6 million in the first nine months of 2019, primarily due to a $20.0 million increase in mortgage banking income.

• Net interest income increased 12% to $18.3 million in the third quarter of 2020 and increased 7% to $51.4 million in the first nine months of 2020 compared to the same periods in 2019 mainly due to increased loans and loans held for sale balances.

• Net interest margin decreased to 3.90% in the third quarter of 2020 as compared to 4.60% in the third quarter a year ago and decreased to 4.05% for the first nine months of 2020 compared to 4.71% for the first nine months of 2019 primarily due to lower interest rates.

• The provision for loan losses increased to $567,000 and $3.0 million for the three and nine-month periods ending September 30, 2020, compared to a benefit of $2.1 million and a benefit of $1.0 million in the same periods in 2019.

While credit quality has continued to improve as nonperforming loans and adversely classified loans have decreased in 2020, the increase in the provision for loan losses for both periods is the result of management's assessment of risk associated with the COVID-19 pandemic, the reduction in oil prices and a slowing Alaska economy, as well as growth in the unguaranteed portion of the loan portfolio.

• The Company paid cash dividends of $0.35 per common share in the third quarter of 2020, up 6% from $0.33 in the third quarter of 2019.

Other financial measures are shown in the table below:

Three Months Ended June 30,

Six Months Ended June 30,

Return on average assets

Return on average shareholders' equity

Three Months Ended September 30, Nine Months Ended September 30,

2020 2019 2020 2019

Return on average assets, annualized 2.31 % 1.90 % 1.62 % 1.41 %

Return on average shareholders' equity, annualized 22.10 % 14.45 % 14.58 % 10.32 %

Dividend payout ratio 18.95 % 29.17 % 29.22 % 39.40 %

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Nonperforming assets:

Nonperforming assets, net of government guarantees at June 30, 2020 increased $855,000, or 4% to $20.8 million as compared to $19.9 million at December 31, 2019 .

OREO, net of government guarantees, increased $162,000 to $5.9 million at June 30, 2020 as compared to $5.8 million at December 31, 2019 due to the transfer of one loan to OREO during the period.

Nonperforming loans, net of government guarantees decreased $1.2 million during the first six months of 2020 as compared to December 31, 2019, as paydowns and chargeoffs exceeded additions in the first six months of 2020.

Nonperforming assets, net of government guarantees at September 30, 2020 decreased $2.1 million, or 10% to $17.9 million as compared to $19.9 million at December 31, 2019.

OREO, net of government guarantees, decreased $81,000 to $5.7 million at September 30, 2020 as compared to $5.8 million at December 31, 2019 due to the sale of one OREO property in the third quarter of 2020 which was only partially offset by the transfer of one loan to OREO during the second quarter of 2020.

Nonperforming loans, net of government guarantees decreased $2.9 million during the first nine months of 2020 as compared to December 31, 2019, as paydowns and chargeoffs exceeded additions in the first nine months of 2020.

$7.8 million, or 44% of nonperforming assets are nonaccrual loans and nonperforming purchased receivables related to five commercial relationships.

Two of these relationships, which totaled $5.8 million at the end of the second quarter of 2020, are businesses in the medical industry.

While it is too early to determine the effect that the COVID-19 pandemic will ultimately have on our non-performing assets, based on the current trajectory, significant increases may occur in subsequent quarters.

The following table summarizes nonperforming activity for the three-month periods ending June 30, 2020 and 2019 :

(In Thousands)

Balance at March 31, 2020

Additions this quarter

Payments this quarter

Transfers to OREO

Performing Status

Sales this quarter

Balance at June 30, 2020

Two of these relationships, which totaled $3.3 million at the end of the third quarter of 2020, are businesses in the medical industry.

While it is too early to determine the effect that the COVID-19 pandemic will ultimately have on our non-performing assets, significant increases may occur in subsequent quarters.

The following table summarizes nonperforming asset activity for the three-month periods ending September 30, 2020 and 2019:

Writedowns Transfers to

(In Thousands) Balance at June 30, 2020 Additions this quarter Payments this quarter /Charge-offs

this quarter Transfers to OREO Performing Status

this quarter Sales this quarter Balance at September 30, 2020

Commercial loans $8,362 $386 ($1,861) ($56) $— $— $— $6,831

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net of government guarantees $20,801 $386 ($2,744) ($281) $— $— ($243) $17,919

(In Thousands)

Balance at March 31, 2019

Additions this quarter

Payments this quarter

Transfers to OREO

Performing Status

Sales this quarter

Balance at June 30, 2019

Writedowns Transfers to

(In Thousands) Balance at June 30, 2019 Additions this quarter Payments this quarter /Charge-offs

this quarter Transfers to OREO/REPO Performing Status

this quarter Sales this quarter Balance at September 30, 2019

Commercial loans $11,207 $1,328 ($1,414) ($22) ($231) $— $— $10,868

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These loans are closely monitored and their performance is reviewed by management on a regular basis.

At June 30, 2020 , management had identified potential problem loans of $3.6 million as compared to potential problem loans of $9.0 million at December 31, 2019 .

The decrease in potential problem loans from December 31, 2019 to June 30, 2020 is primarily the result of $3.1 million in paydowns and the addition of a government guarantee on one loan totaling $1.4 million.

One commercial relationship totaling $423,000 as of December 31, 2019, net of government guarantees, was transferred to nonaccrual status, and there was one new potential problem loan during the first six months of 2020 totaling $281,000.

At September 30, 2020, management had identified potential problem loans of $7.6 million as compared to potential problem loans of $9.0 million at December 31, 2019.

The decrease in potential problem loans from December 31, 2019 to September 30, 2020 is primarily the result of $3.2 million in paydowns and the addition of a government guarantee on one loan totaling $1.4 million.

Three commercial relationships totaling $1.1 million as of December 31, 2019, net of government guarantees, were transferred to nonaccrual status, and there were four new potential problem loans during the first nine months of 2020 totaling $4.3 million, net of government guarantees.

Troubled debt restructurings (“TDRs”):

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Interest on TDRs will be accrued at the restructured rates when it is anticipated that no loss of original principal will occur, and the interest can be collected, which is generally after a period of six months.

The Company had $2.9 million in loans classified as TDRs that were performing and $7.7 million in TDRs included in nonaccrual loans at June 30, 2020 for a total of approximately

$10.6 million .

There are $1.9 million in government guarantees associated with TDRs, so total TDRs, net of government guarantees, total $8.7 million at June 30, 2020 .

The Company had $2.4 million in loans

classified as TDRs that were performing and $6.1 million in TDRs included in nonaccrual loans at September 30, 2020 for a total of approximately $8.5 million.

There are $2.5 million in government guarantees associated with TDRs, so total TDRs, net of government guarantees, are $5.9 million at September 30, 2020.

At December 31, 2019 there were $1.4 million in loans classified as TDRs that were performing and $8.7 million in TDRs included in nonaccrual loans for a total of $10.1 million.

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Income Statement

Net income for the second quarter of 2020 increased $5.6 million, or 132%, to $9.9 million as compared to $4.3 million for the same period in 2019 .

Net income for the first half of 2020 increased $2.4 million, or 28%, to $10.9 million compared to $8.6 million for the first half of 2019.

The increase in net income in both periods is primarily due to an increase in mortgage banking income.

Net income for the third quarter of 2020 increased $4.3 million, or 57%, to $11.9 million as compared to $7.5 million for the same period in 2019.

Net income for the first nine months of 2020 increased $6.7 million, or 41%, to $22.8 million compared to $16.1 million for the first nine months of 2019.

The increase in net income in both periods is primarily due to an increase in net income in the Home Mortgage Lending segment as a result of increased production.

Net Interest Income/Net Interest Margin

Net interest income for the second quarter of 2020 increased $1.5 million, or 9%, to $17.5 million as compared to $16.0 million for the second quarter of 2019 .

Net interest margin decreased 73 basis points to 3.98% in the second quarter of 2020 as compared to 4.71% in the second quarter of 2019.

Net interest income for the first half of 2020 increased $1.4 million, or 4%, to $33.1 million as compared to $31.7 million for the first half of 2019.

Net interest margin decreased 63 basis points to 4.14% in the first half of 2020 as compared to 4.77% in the first half of 2019.

The increase in net interest income in the second quarter and first six months of 2020 compared to the same periods of 2019 was primarily the result of higher interest income on loans and loans held for sale due to increased balances.

The decrease in net interest margin in the second quarter and the first half of 2020 as compared to the same periods a year ago was primarily the result of the reduction in short-term interest rates in the first quarter of 2020 and the impact of the SBA PPP loans on the resulting yields in the loan portfolio.

Changes in net interest margin in the three and six months ended June 30, 2020 as compared to the same period in the prior year are detailed below:

Three Months Ended June 30, 2020 vs.

June 30, 2019

Net interest income for the third quarter of 2020 increased $2.0 million, or 12%, to $18.3 million as compared to $16.3 million for the third quarter of 2019.

Net interest margin decreased 70 basis points to 3.90% in the third quarter of 2020 as compared to 4.60% in the third quarter of 2019.

Net interest income for the first nine months of 2020 increased $3.4 million, or 7%, to $51.4 million as compared to $48.0 million for the first nine months of 2019.

Net interest margin decreased 66 basis points to 4.05% in the first nine months of 2020 as compared to 4.71% in the first nine months of 2019.

The increase in net interest income in the third quarter and first nine months of 2020 compared to the same periods of 2019 was primarily the result of higher interest income on loans and loans held for sale due to increased balances.

The decrease in net interest margin in the third quarter and the first nine months of 2020 as compared to the same periods a year ago was primarily the result of the reduction in short-term interest rates in 2020 and the impact of the SBA PPP loans on the resulting yields in the loan portfolio.

Changes in net interest margin in the three and nine months ended September 30, 2020 as compared to the same period in the prior year are detailed below:

Three Months Ended September 30, 2020 vs.

September 30, 2019

Nonaccrual interest adjustments 0.19 %

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Change in net interest margin (0.70) %

Six Months Ended June 30, 2020 vs.

June 30, 2019

Nine Months Ended September 30, 2020 vs.

September 30, 2019

Nonaccrual interest adjustments 0.08 %

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Components of Net Interest Margin

The following table compares average balances and rates as well as net tax equivalent margins on earning assets for the three-month periods ended June 30, 2020 and 2019 :

(Dollars in Thousands)

Three Months Ended June 30,

The following table compares average balances and rates as well as margins on earning assets for the three-month periods ended September 30, 2020 and 2019:

(Dollars in Thousands) Three Months Ended September 30,

Interest income/

Average Balances

Average Yields/Costs

Average Balances Change expense Change Average Yields/Costs

2020 2019 $ % 2020 2019 $ % 2020 2019 Change

$1,465,839 $1,020,186 $445,653 44 % $17,734 $15,154 $2,580 17 % 4.81 % 5.89 % (1.08) %

Loans held for sale 122,994 74,181 48,813 66 % 957 709 248 35 % 3.10 % 3.79 % (0.69) %

Short-term investments 3

60,504 58,754 1,750 3 % 17 313 (296) (95) % 0.11 % 2.11 % (2.00) %

Long-term investments 4

217,599 253,364 (35,765) (14) % 1,086 1,661 (575) (35) % 1.99 % 2.60 % (0.61) %

Total investments 278,103 312,118 (34,015) (11) % 1,103 1,974 (871) (44) % 1.58 % 2.51 % (0.93) %

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Nonearning assets 172,853 169,907 2,946 2 %

Total $2,039,789 $1,576,392 $463,397 29 %

Interest-bearing demand $409,758 $288,781 $120,977 42 % $156 $167 ($11) (7) % 0.15 % 0.23 % (0.08) %

3 unchanged sentences

Total interest-bearing deposits 1,077,193 870,369 206,824 24 % 1,320 1,365 (45) (3) % 0.49 % 0.62 % (0.13) %

Borrowings 23,574 19,749 3,825 19 % 180 166 14 8 % 3.04 % 3.33 % (0.29) %

Total interest-bearing liabilities 1,100,767 890,118 210,649 24 % 1,500 1,531 (31) (2) % 0.54 % 0.68 % (0.14) %

Demand deposits and other noninterest-bearing liabilities 725,585 479,372 246,213 51 %

Equity 213,437 206,902 6,535 3 %

Total $2,039,789 $1,576,392 $463,397 29 %

Net interest income $18,294 $16,306 $1,988 12 %

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1 Interest income includes loan fees.

Loan fees recognized during the period and included in the yield calculation totaled $2.0 million and $766,000 in the second quarter of 2020 and 2019 , respectively.

Loan fees recognized during the period and included in the yield calculation totaled $2.2 million and $841,000 in the third quarter of 2020 and 2019, respectively.

2 Nonaccrual loans are included with a zero effective yield.

Average nonaccrual loans included in the computation of the average loan balances were $14.6 million and $18.5 million in the second quarter of 2020 and 2019 , respectively .

Average nonaccrual loans included in the computation of the average loan balances were $13.9 million and $17.8 million in the third quarter of 2020 and 2019, respectively .

3 Consists of interest bearing deposits in other banks.

4 Consists of investment debt securities available for sale, equity securities, investment securities held to maturity, and investment in Federal Home Loan Bank stock.

The following tables set forth the changes in consolidated net interest income attributable to changes in volume and to changes in interest rates for the three-month periods ending June 30, 2020 and 2019 .

Changes attributable to the combined effect of volume and interest rate have been allocated proportionately to the changes due to volume and the changes due to interest rates:

(In Thousands)

Three Months Ended June 30, 2020 vs.

(In Thousands) Three Months Ended September 30, 2020 vs.

Increase (decrease) due to

Volume Rate Total

Interest Income:

Loans $2,658 ($78) $2,580

Loans held for sale 342 (94) 248

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Interest-bearing deposits $282 ($327) ($45)

Borrowings 28 (14) 14

Total interest expense $310 ($341) ($31)

The following table compares average balances and rates as well as net tax equivalent margins on earning assets for the six-month periods ended June 30, 2020 and 2019 :

(Dollars in Thousands)

Six Months Ended June 30,

The following table compares average balances and rates as well as margins on earning assets for the nine-month periods ended September 30, 2020 and 2019:

(Dollars in Thousands) Nine Months Ended September 30,

Interest income/

Average Balances

Average Yields/Costs

Average Balances Change expense Change Average Yields/Costs

2020 2019 $ % 2020 2019 $ % 2020 2019 Change

$1,289,838 $1,004,157 $285,681 28 % $49,237 $44,607 $4,630 10 % 5.10 % 5.94 % (0.84) %

Loans held for sale 95,050 52,379 42,671 81 % 2,267 1,586 681 43 % 3.19 % 4.05 % (0.86) %

Short-term investments 3

60,011 35,394 24,617 70 % 284 591 (307) (52) % 0.63 % 2.23 % (1.60) %

Long-term investments 4

252,594 271,645 (19,051) (7) % 4,349 5,237 (888) (17) % 2.30 % 2.58 % (0.28) %

Total investments 312,605 307,039 5,566 2 % 4,633 5,828 (1,195) (21) % 1.98 % 2.54 % (0.56) %

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Nonearning assets 177,811 166,548 11,263 7 %

Total $1,875,304 $1,530,123 $345,181 23 %

Interest-bearing demand $370,270 $261,295 $108,975 42 % $476 $313 $163 52 % 0.17 % 0.16 % 0.01 %

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Total interest-bearing deposits 1,007,122 829,916 177,206 21 % 4,135 3,477 658 19 % 0.55 % 0.56 % (0.01) %

Borrowings 39,645 38,618 1,027 3 % 561 512 49 10 % 1.89 % 1.77 % 0.12 %

Total interest-bearing liabilities 1,046,767 868,534 178,233 21 % 4,696 3,989 707 18 % 0.60 % 0.61 % (0.01) %

Demand deposits and other noninterest-bearing liabilities 619,772 452,772 167,000 37 %

Equity 208,765 208,817 (52) — %

Total $1,875,304 $1,530,123 $345,181 23 %

Net interest income $51,441 $48,032 $3,409 7 %

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1 Interest income includes loan fees.

Loan fees recognized during the period and included in the yield calculation totaled $2.9 million and $1.6 million in the first six months of 2020 and 2019 , respectively.

Loan fees recognized during the period and included in the yield calculation totaled $5.1 million and $2.4 million in the first nine months of 2020 and 2019, respectively.

2 Nonaccrual loans are included with a zero effective yield.

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4 Consists of investment debt securities available for sale, equity securities, investment securities held to maturity, and investment in Federal Home Loan Bank stock.

The following tables set forth the changes in consolidated net interest income attributable to changes in volume and to changes in interest rates for the six-month periods ending June 30, 2020 and 2019 .

The following tables set forth the changes in consolidated net interest income attributable to changes in volume and to changes in interest rates for the nine-month periods ending September 30, 2020 and 2019.

Changes attributable to the combined effect of volume and interest rate have been allocated proportionately to the changes due to volume and the changes due to interest rates:

(In Thousands)

Six Months Ended June 30, 2020 vs.

(In Thousands) Nine Months Ended September 30, 2020 vs.

Increase (decrease) due to

Volume Rate Total

Interest Income:

Loans $4,751 ($122) $4,629

Loans held for sale 925 (243) 682

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Interest-bearing deposits $785 ($20) $765

Borrowings 13 36 49

Total interest expense $798 $16 $814

Provision for Loan Losses

The provision for loan losses increased to $404,000 for the second quarter of 2020 compared to $300,000 in the second quarter of 2019 due to an increase in qualitative factors based on management's assessment of increased risks in our loan portfolio primarily associated with the COVID-19 pandemic and the reduction in oil prices compared to the prior year.

The ratio of the Allowance to total nonperforming loans, net of government guarantees was 162% at June 30, 2020 and 137% at December 31, 2019.

The provision for loan losses was $2.5 million for the first half of 2020 as compared to $1.1 million for the first six months of 2019.

Similar to the second quarter of 2020 compared to the second quarter of 2019, the increase is mostly due to an increase in the qualitative factors based on management's assessment of increased risks in our loan portfolio primarily associated with the COVID-19 pandemic and the reduction in oil prices compared to the prior year.

The provision for loan losses increased to $567,000 for the third quarter of 2020 and $3.0 million for the first nine months of 2020 compared to a benefit for loan losses of $2.1 million in the third quarter of 2019 and a benefit for loan losses of $1.0 million for the first nine months of 2019.

While credit quality has continued to improve as nonperforming loans and adversely classified loans have decreased in 2020 as compared to the prior year, the increase in the provision for loan losses for both periods is the result of management's assessment of risk associated with the COVID-19 pandemic, the reduction in oil prices and a slowing Alaska economy, as well as growth in the unguaranteed portion of the loan portfolio.

The ratio of the Allowance to total nonperforming loans, net of government guarantees was 196% at September 30, 2020 and 137% at December 31, 2019.

See "Analysis of Allowance for Loan Losses" under the "Financial Condition-Balance Sheet Overview" and Note 5 of the Notes to Consolidated Financial Statements included in Item 1 of this report for more information on changes in the Company's Allowance.

Other Operating Income

Other operating income for the three-month period ended June 30, 2020 , increased $8.0 million , or 83%, to $17.5 million as compared to $9.6 million the same period in 2019 , primarily due to the $9.3 million increase in mortgage banking income in the second quarter of 2020 compared to the same quarter in 2019.

This increase in mortgage banking income in the three months ended June 30, 2020 as compared to the same period in 2019 was primarily due to increased refinance activity due to changes in the mortgage interest rates.

The increase in mortgage banking income in the second quarter of 2020 was only partially offset by a decrease of $717,000 in interest rate swap income, as well as a smaller decrease in purchased receivable income, due to customers reportedly using PPP funds instead of selling receivables, and a decrease in service charges on deposit accounts due to customer accommodations related to the impacts of COVID19 as compared to the second quarter of 2019.

Other operating income for the three-month period ended September 30, 2020, increased $11.1 million, or 105%, to $21.6 million as compared to $10.5 million for the same period in 2019, primarily due to the $10.4 million increase in mortgage banking income in the third quarter of 2020 compared to the same quarter in 2019.

This increase in mortgage banking income in the three months ended September 30, 2020 as compared to the same period in 2019 was primarily due to increased refinance activity and home purchases due to changes in the mortgage interest rates.

Additionally, the Company recognized $726,000 in interest rate swap fee income in the third quarter of 2020.

This increase was only partially offset by a decrease in purchased receivable income due to customers reportedly using PPP funds instead of selling receivables, and a decrease in service charges on deposit accounts due to customer accommodations related to the impacts of COVID19 as compared to the third quarter of 2019.

Other operating income for the first nine months of 2020 increased $18.0 million, or 65%, to $45.6 million as compared to $27.6 million for the same period in 2019, primarily due to a $20.0 million increase in mortgage banking income.

Similar to the third quarter, this increase in mortgage banking income was primarily due to increased refinance activity and home purchases due to changes in the mortgage interest rates.

This increase in the first nine months of 2020 was only partially offset by decreases in purchased receivable income, due to customers reportedly using PPP funds instead of selling receivables, a decrease in service charges on deposit accounts due to customer accommodations related to the impacts of COVID19 as compared to the first nine months of 2019, and the recognition of a $347,000 unrealized loss on marketable securities in the first nine months of 2020 compared to a $782,000 unrealized gain on marketable securities for the same period in 2019.

Other Operating Expense

Other operating expense for the second quarter of 2020 increased $2.9 million , or 14% , to $22.7 million as compared to the same period in 2019 primarily due to higher salaries and other personnel expense related to mortgage banking operations, which fluctuate with production volumes, as well as higher data processing costs in the community banking segment due to charges for additional products and services.

The provision for income taxes for the second quarter of 2020 increased $868,000 , or 76% , as compared to the same period in 2019 .

The provision for income taxes in the first half of 2020 decreased $49,000, or 2%, as compared to the first half of 2019.

The increase in the three-month period ending June 30, 2020 as compared to the same period in 2019 was primarily due to the increase in pretax income.

The effective tax rate decreased to 17% in the three and six-month periods ending June 30, 2020 as compared to 21% in both the three and six-month periods ending June 30, 2019 primarily due to the reversal of a $454,000 accrual for a potential increase in tax expense related to an audit that was performed in 2018 by the State of Alaska for tax years 2014-2016.

The Company appealed the State of Alaska's decision on this matter and reversed this accrual in the second quarter of 2020 because the Company believes that it is more likely than not that the court will rule in the Company's favor.

Other operating expense for the third quarter of 2020 increased $4.2 million, or 22%, to $23.5 million as compared to the same period in 2019 primarily due to higher salaries and other personnel expense and other miscellaneous operating expenses related to mortgage banking operations, which fluctuate with production volumes.

Other operating expense for the first nine months of 2020 increased $8.7 million, or 16%, to $65.0 million from $56.2 million in the same period in 2019 primarily due to higher salaries and other personnel expense and other miscellaneous operating expenses related to mortgage banking operations, which fluctuate with production volumes.

Additionally, data processing costs in the Community Banking segment were higher due to charges for additional products and services, and insurance expense in the Community Banking segment increased because of higher FDIC insurance due to the increase in total assets.

The provision for income taxes for the third quarter of 2020 increased $2.0 million, or 97%, as compared to the same period in 2019.

The provision for income taxes in the first nine months of 2020 increased $1.9 million, or 44%, as compared to the first nine months of 2019.

The increase in the three-month period ending September 30, 2020 as compared to the same period in 2019 was primarily due to the increase in pretax income.

The effective tax rate increased to 25% in the three-month period ending September 30, 2020 as compared to 21% in the same period in 2019, and the effective tax rate increased to 22% in the nine-month period ending September 30, 2020 as compared to 21% in the same period in 2019.

The increased rate in both the three and nine-month periods ending September 30, 2020 was primarily due to decreased tax credits and tax exempt interest income as a percentage of net income which was only partially offset by the reversal of a $454,000 accrual for a potential increase in tax expense related to an audit that was performed in 2018 by the State of Alaska for tax years 2014-2016.

The Company has appealed the State of Alaska's decision on this matter and reversed this accrual in the second quarter of 2020 because the Company believes that it is more likely than not that the court will rule in the Company's favor.

FINANCIAL CONDITION

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Portfolio Investments

Portfolio investments at June 30, 2020 decreased 26%, or $74.0 million, to $210.1 million from $284.1 million at December 31, 2019 as proceeds from sales, maturities, and security calls were used for loan fundings in the first six months of 2020.

Portfolio investments at September 30, 2020 decreased 21%, or $60.2 million, to $223.9 million from $284.1 million at December 31, 2019 as proceeds from sales, maturities, and security calls were used for loan fundings in the first nine months of 2020.

The table below details portfolio investment balances by portfolio investment type:

June 30, 2020

December 31, 2019

Dollar Amount

Percent of Total

Dollar Amount

Percent of Total

September 30, 2020 December 31, 2019

Dollar Amount Percent of Total Dollar Amount Percent of Total

(In Thousands)

Balance % of total Balance % of total

Treasury and government sponsored entities $157,552 70.4 % $211,852 74.6 %

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However, it also involves greater risks, including greater exposure to changes in local economic conditions, than certain other types of lending.

Portfolio loans increased by $389.8 million, or 37%, to $1.433 billion at June 30, 2020 from $1.043 billion at December 31, 2019 , primarily as a result of increased commercial loans due to the Company's participation in the SBA PPP.

PPP loans are included in commercial loans in the table below and totaled $353.5 million at June 30, 2020 and zero at December 31, 2019.

As shown in the table below, real estate construction one-to-four family, real estate term owner occupied and real estate term non-owner occupied loans also increased in the first six months of 2020.These increases were partially offset by smaller decreases in consumer loans and real estate term other loans in the first six months of 2020.

Real estate construction one-to-four family loans, which are mostly residential housing construction loans decreased slightly to 3% of portfolio loans at June 30, 2020 compared to 4% at December 31, 2019 .

Portfolio loans increased by $449.3 million, or 43%, to $1.493 billion at September 30, 2020 from $1.043 billion at December 31, 2019, primarily as a result of increased commercial loans due to the Company's participation in the SBA PPP.

PPP loans are included in commercial loans in the table below and totaled $375.6 million at September 30, 2020 and zero at December 31, 2019.

Commercial loans net of SBA PPP loans increased $47.9 million, or 12%, in the first nine months of 2020.

As shown in the table below, real estate construction other, real estate term owner occupied and real estate term non-owner occupied loans also increased in the first nine months of 2020.

These increases were partially offset by smaller decreases in consumer loans and real estate construction one-to-four family loans in the first nine months of 2020.

Real estate construction one-to-four family loans, which are mostly residential housing construction loans decreased slightly to 3% of portfolio loans at September 30, 2020 compared to 4% at December 31, 2019.

The following table details loan balances by loan type as of the dates indicated:

June 30, 2020

December 31, 2019

Dollar Amount

Percent of Total

Dollar Amount

Percent of Total

September 30, 2020 December 31, 2019

Dollar Amount Percent of Total Dollar Amount Percent of Total

(In Thousands)

Commercial $836,178 56.2 % $412,690 39.5 %

Real estate construction one-to-four family 37,958 2.5 % 38,818 3.7 %

5 unchanged sentences

Consumer other 23,133 1.5 % 24,585 2.4 %

Subtotal $1,507,205 $1,048,456

Unearned origination fee,

net of origination costs (14,485) (1.0) % (5,085) (0.5) %

Total loans $1,492,720 $1,043,371

The above table includes $375.6 million SBA PPP loans within the Commercial loan segment.

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The Company defines "direct exposure" to the oil and gas industry as companies that it has identified as significantly reliant upon activity related to the oil and gas industry, such as oilfield services, lodging, equipment rental, transportation, and other logistic services specific to the industry.

The Company estimates that $70.2 million, or approximately 5% of loans as of June 30, 2020 have direct exposure to the oil and gas industry as compared to $79.2 million, or approximately 8% of loans as of December 31, 2019 .

The Company has no loans to oil producers or exploration companies as of June 30, 2020 or December 31, 2019, but the totals noted include a loan related to construction of an oil rig.

The balance of this loan was $7.7 million and $14.2 million at June 30, 2020 and December 31, 2019 , respectively, and is classified as an Asset Quality Rating ("AQR") system pass loan in both periods.

The Company's unfunded commitments to borrowers that have direct exposure to the oil and gas industry were $51.9 million and $31.1 million at June 30, 2020 and December 31, 2019 , respectively.

The portion of the Company's Allowance that related to the loans with direct exposure to the oil and gas industry was estimated at $1.3 million as of June 30, 2020 and $1.6 million as of December 31, 2019 .

The Company estimates that $66.0 million, or approximately 4% of loans as of September 30, 2020 have direct exposure to the oil and gas industry as compared to $79.2 million, or approximately 8% of loans as of December 31, 2019.

The Company's exposure as a percent of the total loan portfolio excluding SBA PPP loans as of September 30, 2020 was 6%.

The Company has no loans to oil producers or exploration companies as of September 30, 2020 or December 31, 2019, but the totals noted include a loan related to construction of an oil rig.

The balance of this loan was $6.8 million and $14.2 million at September 30, 2020 and December 31, 2019, respectively, and is classified as an Asset Quality Rating ("AQR") system pass loan in both periods.

The Company's unfunded commitments to borrowers that have direct exposure to the oil and gas industry were $63.6 million and $31.1 million at September 30, 2020 and December 31, 2019, respectively.

The portion of the Company's Allowance that related to the loans with direct exposure to the oil and gas industry was estimated at $1.3 million as of September 30, 2020 and $1.6 million as of December 31, 2019.

The following table details loan balances by loan segment and class of financing receivable for loans with direct oil and gas exposure as of the dates indicated:

(In Thousands)

Real estate construction one-to-four family

Real estate construction other

Real estate term owner occupied

Real estate term non-owner occupied

Real estate term other

Consumer secured by 1st deeds of trust

Consumer other

June 30, 2020

(In Thousands) Commercial Real estate construction one-to-four family Real estate construction other Real estate term owner occupied Real estate term non-owner occupied Real estate term other Consumer secured by 1st deeds of trust Consumer other Total

September 30, 2020

AQR Pass $45,211 $— $— $4,048 $— $— $— $2,261 $51,520

AQR Special Mention 4,304 — — 1,633 6,687 — — — 12,624

AQR Substandard 1,904 — — — — — — — 1,904

Total $51,419 $— $— $5,681 $6,687 $— $— $2,261 $66,048

December 31, 2019

AQR Pass $62,345 $— $— $4,153 $— $— $— $361 $66,859

AQR Special Mention 450 — — 1,900 6,916 — — — 9,266

AQR Substandard 3,070 — — — — — — — 3,070

Total $65,865 $— $— $6,053 $6,916 $— $— $361 $79,195

Supplemental information about significant COVID-19 exposure on directly impacted industries

In addition, at June 30, 2020, the Company had $63.4 million, or 4% of portfolio loans, in the tourism sector, $56.0 million, or 5% of portfolio loans, in the aviation (non-tourism) sector, $51.5 million, or 4% of total loans, in the healthcare sector, $23.9 million, or 2%, in retail loans and $23.5 million, or 2% in the restaurant sector, and $34.4 million, or 2% in the accommodations sector.

The portion of the Company's Allowance that related to the loans with exposure to these industries is estimated at the following amounts as of June 30, 2020:

(In Thousands)

Aviation (non-tourism)

Accommodations

In addition, at September 30, 2020, the Company had $62.6 million, or 4% of portfolio loans, in the tourism sector, $54.2 million, or 4% of portfolio loans, in the aviation (non-tourism) sector, $83.2 million, or 6% of total loans, in the healthcare sector, $23.0 million, or 2%, in retail loans and $27.1 million, or 2% in the restaurant sector, and $38.9 million, or 3% in the accommodations sector.

At September 30, 2020, the Company had $62.6 million, or 6% of portfolio loans excluding SBA PPP loans, in the tourism sector, $54.2 million, or 5% of portfolio loans excluding SBA PPP loans, in the aviation (non-tourism) sector, $83.2 million, or 7% of total loans excluding SBA PPP loans, in the healthcare sector, $23.0 million, or 2% of total loans excluding SBA PPP loans, in retail loans and $27.1 million, or 2% of total loans excluding SBA PPP loans in the restaurant sector, and $38.9 million, or 3% of total loans excluding SBA PPP loans in the accommodations sector.The portion of the Company's Allowance that related to the loans with exposure to these industries is estimated at the following amounts as of September 30, 2020:

(In Thousands) Tourism Aviation (non-tourism) Healthcare Retail Restaurant Accommodations Total

Allowance $1,224 $1,062 $1,548 $432 $515 $753 $5,534

Analysis of Allowance for Loan Losses

The Company maintains an Allowance to reflect management's assessment of probable, estimable losses inherent in the

loan portfolio.

The Allowance is increased by provisions for loan losses and loan recoveries and decreased by loan charge-offs.

The Company maintains an Allowance to reflect management's assessment of probable, estimable losses inherent in the loan portfolio.

The Allowance is increased by provisions for loan losses and loan recoveries and decreased by loan charge-

The size of the Allowance is determined through quarterly assessments of probable estimated losses in the loan portfolio.

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Management determines the fair value of the majority of these loans based on the underlying collateral values.

This analysis is based upon a specific analysis for each impaired loan, including external appraisals on loans secured by real property, management’s assessment of the current market, recent payment history,

and an evaluation of other sources of repayment.

In-house evaluations of fair value are used in the impairment analysis in some situations.

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The unallocated component is reviewed periodically based on trends in credit losses and overall economic conditions.

At June 30, 2020 and December 31, 2019 , the unallocated allowance as a percentage of the total Allowance was 10% and 11% , respectively.

At September 30, 2020 and December 31, 2019, the unallocated allowance as a percentage of the total Allowance was 10% and 11%, respectively.

The following table sets forth information regarding changes in the Allowance for the periods indicated:

Three Months Ended June 30,

Six Months Ended June 30,

Three Months Ended September 30, Nine Months Ended September 30,

(In Thousands) 2020 2019 2020 2019

Balance at beginning of period $20,653 $20,518 $19,088 $19,519

Commercial 56 22 1,011 195

Real estate term owner occupied 85 — 85 —

Consumer other — 7 14 11

Total charge-offs 141 29 1,110 206

Commercial 600 709 656 801

Real estate term other 1 1 2 28

1 unchanged sentence

Total recoveries 604 723 674 849

Net, charge-offs

Net, (recoveries) charge-offs (463) (694) 436 (643)

Provision for loan losses 567 (2,075) 3,031 (1,025)

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Deposits are the Company’s primary source of funds.

Total deposits increased $365.0 million , or 27% , to $1.737 billion as of June 30, 2020 compared to $1.372 billion as of December 31, 2019 .

This increase is primarily due to funding PPP loans, but is also due to new client relationships as a result of the Company's significant PPP efforts during the second quarter of 2020.

Total deposits increased $433.8 million, or 32%, to $1.806 billion as of September 30, 2020 compared to $1.372 billion as of December 31, 2019.

This increase is primarily due to funding PPP loans, but is also due to new client relationships as a result of the Company's significant PPP efforts during the second and third quarters of 2020.

The following table summarizes the Company's composition of deposits as of the periods indicated:

June 30, 2020

December 31, 2019

(In thousands)

September 30, 2020 December 31, 2019

(In thousands) Balance % of total Balance % of total

Demand deposits $697,363 38 % $451,896 33 %

4 unchanged sentences

Total deposits $1,806,133 $1,372,351

The Company’s mix of deposits continues to contribute to a low cost of funds with balances in transaction accounts representing 90% of total deposits at June 30, 2020 and 88% of total deposits at December 31, 2019 .

The Company’s mix of deposits continues to contribute to a low cost of funds with balances in transaction accounts representing 90% of total deposits at September 30, 2020 and 88% of total deposits at December 31, 2019.

The only deposit category with stated maturity dates is certificates of deposit.

At June 30, 2020 , the Company had $179.5 million in certificates of deposit as compared to certificates of deposit of $164.5 million at December 31, 2019 .

At June 30, 2020 , $130.8 million, or 73%, of the Company’s certificates of deposits are scheduled to mature over the next 12 months as compared to $90.5 million, or 55%, of total certificates of deposit at December 31, 2019 .

The aggregate amount of certificates of deposit in amounts of $100,000 and greater at June 30, 2020 and December 31, 2019 , was $134.6 million and $118.9 million, respectively.

The following table sets forth the amount outstanding of deposits in amounts of $100,000 and greater by time remaining until maturity and percentage of total deposits as of June 30, 2020 :

At September 30, 2020, the Company had $181.2 million in certificates of deposit as compared to certificates of deposit of $164.5 million at December 31, 2019.

At September 30, 2020, $150.7 million, or 83%, of the Company’s certificates of deposits are scheduled to mature over the next 12 months as compared to $90.5 million, or 55%, of total certificates of deposit at December 31, 2019.

The aggregate amount of certificates of deposit in amounts of $100,000 and greater at September 30, 2020 and December 31, 2019, was $137.9 million and $118.9 million, respectively.

The following table sets forth the amount outstanding of deposits in amounts of $100,000 and greater by time remaining until maturity and percentage of total deposits as of September 30, 2020:

Time Certificates of Deposit

1 unchanged sentence

Percent of Total Deposits

(In Thousands)

(In Thousands) Amount

Amounts maturing in:

3 unchanged sentences

Over 12 months 17,967 13 %

There were no depositors with deposits representing 10% or more of total deposits at June 30, 2020 or December 31, 2019 .

Total $137,905 100 %

There were no depositors with deposits representing 10% or more of total deposits at September 30, 2020 or December 31, 2019.

The Bank is a member of the Federal Home Loan Bank of Des Moines (the "FHLB").

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FHLB advances are dependent on the availability of acceptable collateral such as marketable securities or real estate loans, although all FHLB advances are secured by a blanket pledge of the Bank’s assets.

At June 30, 2020 , our maximum borrowing line from the FHLB was $901.1 million , approximately 45% of the Bank’s assets, subject to the FHLB’s collateral requirements.

The Company has outstanding advances of $11.8 million as of June 30, 2020 which were originated to match fund low income housing projects that qualify for long term fixed interest rates.

At September 30, 2020, our maximum borrowing line from the FHLB was $937.3 million, approximately 45% of the Bank’s assets, subject to the FHLB’s collateral requirements.

The Company has outstanding advances of $13.7 million as of September 30, 2020 which were originated to match fund low income housing projects that qualify for long term fixed interest rates.

The first advance is a $2.0 million FHLB Community Investment Program advance which was originated on March 22, 2013.

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This advance has a 20 year term with a 30 year amortization period and a fixed interest rate of 2.69%, which mirrors the term of the loan made to the borrower.

The fourth advance is a $769,000 FHLB Community Investment Cash Advance Program advance that was originated in the third quarter of 2019.

The fifth advance is a $769,000 FHLB Community Investment Cash Advance Program advance that was originated in the third quarter of 2019.

This advance has a 20 year term with a 30 year amortization period and a fixed interest rate of 2.69%, which mirrors the term of the loan made to the borrower.

The fifth advance is a $2.2 million FHLB Community Investment Cash Advance Program advance that was originated in the second quarter of 2020.

The sixth advance is a $2.2 million FHLB Community Investment Cash Advance Program advance that was originated in the second quarter of 2020.

This advance has a 18 year term with a 30 year amortization period and a fixed interest rate of 1.63%, which mirrors the term of the loan made to the borrower.

The last advance is a $762,000 FHLB Community Investment Cash Advance Program advance that was originated in the second quarter of 2020.

The seventh advance is a $762,000 FHLB Community Investment Cash Advance Program advance that was originated in the second quarter of 2020.

This advance has a 18 year term with a 16.8 year amortization period and a fixed interest rate of 1.23%, which mirrors the term of the loan made to the borrower.

The last advance is a $2.0 million FHLB Community Investment Cash Advance Program advance that was originated in the third quarter of 2020.

This advance has a 18 year term with a 30 year amortization period and a fixed interest rate of 1.41%, which mirrors the term of the loan made to the borrower.

All of these FHLB advances are included in borrowings.

Federal Reserve Bank:

The Federal Reserve Bank of San Francisco (the "Federal Reserve Bank") is holding $86.9 million of loans as collateral to secure advances made through the discount window on June 30, 2020 .

There were no discount window advances outstanding at June 30, 2020 or December 31, 2019 , respectively.

The Company utilized the Federal Reserve Bank's PPPLF to fund SBA PPP loans during the second quarter of 2020, but has repaid those funds in full.

The Federal Reserve Bank of San Francisco (the "Federal Reserve Bank") is holding $85.2 million of loans as collateral to secure advances made through the discount window on September 30, 2020.

There were no discount window advances outstanding at September 30, 2020 or December 31, 2019, respectively.

The Company utilized the Federal Reserve Bank's PPPLF to fund SBA PPP loans during the second quarter of 2020, but has repaid those funds in full as

of June 30, 2020.

This advance had an interest rate of 0.35%.

The average balance outstanding of PPPLF was $45.2 million and $22.6 million during the three and six-month periods ending June 30, 2020, respectively.

The average balance outstanding of PPPLF was zero and $15.0 million during the three and nine-month periods ending September 30, 2020, respectively.

Other Short-term Borrowings:

Securities sold under agreements to repurchase were zero for June 30, 2020 and December 31, 2019 , respectively.

The average balance outstanding of securities sold under agreements to repurchase during the three-month periods ending June 30, 2020 and 2019 was zero and $26.8 million, respectively, and zero and $30.3 million, respectively, in the six-month periods ending June 30, 2020 and 2019.

The maximum outstanding at any month-end was zero and $36.6 million, respectively, during the same three and six-month periods ending June 30, 2020 and 2019 .

Securities sold under agreements to repurchase were zero for September 30, 2020 and December 31, 2019, respectively.

The average balance outstanding of securities sold under agreements to repurchase during the three-month periods ending September 30, 2020 and 2019 was zero and $470,000, respectively, and zero and $20.3 million, respectively, in the nine-month periods ending September 30, 2020 and 2019.

The maximum outstanding at any month-end was zero and $864,000, respectively, during the three-month periods ending September 30, 2020 and 2019 and zero and $36.6 million, respectively, for the nine-month periods ending September 30, 2020 and 2019.

The securities sold under agreements to repurchase were held by the FHLB under the Company’s control.

The Company is subject to provisions under Alaska state law, which generally limit the amount of outstanding debt to 15% of total assets or $300.4 million at June 30, 2020 and $244.7 million at December 31, 2019 .

The Company is subject to provisions under Alaska state law, which generally limit the amount of outstanding debt to 15% of total assets or $312.4 million at September 30, 2020 and $244.7 million at December 31, 2019.

As of April 7, 2020, the State of Alaska increased this limit to 35% of total assets.

At June 30, 2020 and December 31, 2019 , the Company had no short-term (original maturity of one year or less) borrowings that exceeded 30% of shareholders’ equity.

At September 30, 2020 and December 31, 2019, the Company had no short-term (original maturity of one year or less) borrowings that exceeded 30% of shareholders’ equity.

Long-term Borrowings.

The Company had no long-term borrowing outstanding other than the FHLB advances noted above as of June 30, 2020 or December 31, 2019 .

The Company had no long-term borrowing outstanding other than the FHLB advances noted above as of September 30, 2020 or December 31, 2019.

Liquidity and Capital Resources

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The primary sources of demands on our liquidity are customer demands for withdrawal of deposits and borrowers' demands that we advance funds against unfunded lending commitments.

Our total unfunded commitments to fund loans and letters of credit at June 30, 2020 were $ 335.4 million.

Our total unfunded commitments to fund loans and letters of credit at September 30, 2020 were $361.2 million.

We do not expect that all of these loans are likely to be fully drawn upon at any one time.

Additionally, as noted above, our total deposits at June 30, 2020 were $1.737 billion .

As shown in the Consolidated Statements of Cash Flows included in Part I - Item 1 "Financial Statements" of this report, net cash used by operating activities was $46.6 million for the first six months of 2020, primarily due to cash provided by proceeds from the sale of loans held for sale being more than offset by cash used in connection with the origination of loans held for sale.

Additionally, as noted above, our total deposits at September 30, 2020 were $1.806 billion.

As shown in the Consolidated Statements of Cash Flows included in Part I - Item 1 "Financial Statements" of this report, net cash used by operating activities was $27.0 million for the first nine months of 2020, primarily due to cash provided by proceeds from the sale of loans held for sale being more than offset by cash used in connection with the origination of loans held for sale.

Net cash used by investing activities was $390.7 million for the same period, primarily due to increases in loans, in particular PPP loans.

4 unchanged sentences

As customers withdraw funds from deposit accounts that were obtained from the Company via PPP loans, the Company may need to borrow funds to meet an immediate liquidity need.

At June 30, 2020 , our funds available for borrowing under our existing lines of credit were $ 964.9 million .

At September 30, 2020, our funds available for borrowing under our existing lines of credit were $1.001 billion.

Additionally, the Company can obtain additional nonrecourse borrowings under the Federal Reserve Bank's newly created PPPLF as a source of additional liquidity in order to meet liquidity needs created by the origination of PPP loans without excessive usage of the Company's other existing liquidity sources.

The Company had $239.2 million in PPP loans eligible to be pledged for the PPPLF program as of June 30, 2020.

The Company had $261.1 million in PPP loans eligible to be pledged for the PPPLF program as of September 30, 2020.

The Company has not obtained any other new borrowing lines or other new sources of liquidity other than the PPPLF program resulting from anticipated liquidity challenges from COVID-19.

Given these sources of liquidity and our expectations for customer demands for cash and for our operating cash needs, we believe our sources of liquidity to be sufficient to fund our ongoing operating activities and our anticipated capital requirements for at least 12 months.

The Company issued 1,946 shares of its common stock in the first six months of 2020 and repurchased 192,709 shares of its common stock under the Company's previously announced repurchase program.

The Company suspended its stock repurchase activities on March 26, 2020.

At June 30, 2020 , the Company had 6,368,046 shares of its common stock outstanding.

The Company issued 1,946 shares of its common stock in the first nine months of 2020 and repurchased 281,451 shares of its common stock under the Company's previously announced repurchase program.

At September 30, 2020, the Company had 6,279,304 shares of its common stock outstanding.

Capital Requirements and Ratios

2 unchanged sentences

The requirements address both risk-based capital and leverage capital.

We believe as of June 30, 2020 , that the Company and the Bank met all applicable capital adequacy requirements for a “well-capitalized” institution by regulatory standards.

We believe as of September 30, 2020, that the Company and the Bank met all applicable capital adequacy requirements for a “well-capitalized” institution by regulatory standards.

The table below illustrates the capital requirements in effect for the periods noted for the Company and the Bank and the actual capital ratios for each entity that exceed these requirements.

2 unchanged sentences

The trust preferred securities are not accounted for on the Bank’s financial statements nor are they included in its capital.

As a result, the Company has $10 million more in regulatory capital than the Bank at both June 30, 2020 and December 31, 2019 , which explains most of the difference in the capital ratios for the two entities.

Minimum Required Capital

Well-Capitalized

Actual Ratio Company

Actual Ratio Bank

June 31, 2020

As a result, the Company has $10 million more in regulatory capital than the Bank at both September 30, 2020 and December 31, 2019, which explains most of the difference in the capital ratios for the two entities.

Minimum Required Capital Well-Capitalized Actual Ratio Company Actual Ratio Bank

September 31, 2020

Total risk-based capital 8.00% 10.00% 15.36% 13.37%

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We apply the same credit standards to these commitments as in all of our lending activities and include these commitments in our lending risk evaluations.

As of June 30, 2020 and December 31, 2019 , the Company’s commitments to extend credit and to provide letters of credit which are not reflected on its balance sheet amounted to $335.4 million and $301.9 million, respectively.

Additionally, the Company had commitments to originate loans held for sale of $206.3 million and $48.8 million, as of June 30, 2020 and December 31, 2019 , respectively.

As of September 30, 2020 and December 31, 2019, the Company’s commitments to extend credit and to provide letters of credit which are not reflected on its balance sheet amounted to $361.2 million and $301.9 million, respectively.

Additionally, the Company had commitments to originate loans held for sale of $257.3 million and $48.8 million, as of September 30, 2020 and December 31, 2019, respectively.

Since many of the commitments are expected to expire without being drawn upon, these total commitment amounts do not necessarily represent future cash requirements.

The Company has established reserves of $167,000 and $152,000 at June 30, 2020 and December 31, 2019 respectively, for losses related to these commitments that are recorded in other liabilities on the consolidated balance sheet.

The Company has established reserves of $179,000 and $152,000 at September 30, 2020 and December 31, 2019 respectively, for losses related to these commitments that are recorded in other liabilities on the consolidated balance sheet.

Capital Expenditures and Commitments

The Company has capital commitments related to improvements to the Company's corporate office building.

At June 30, 2020 the Company considers these commitments to be immaterial.

The Company has capital commitments related to a new branch in Fairbanks.

At September 30, 2020 the Company considers these commitments to be immaterial.

QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

Our assessment of market risk as of June 30, 2020 indicates that there are no material changes in the quantitative and qualitative disclosures from those in our Annual Report on Form 10-K for the year ended December 31, 2019 .

Our assessment of market risk as of September 30, 2020 indicates that there are no material changes in the quantitative and qualitative disclosures from those in our Annual Report on Form 10-K for the year ended December 31, 2019.

Compared sentence by sentence after normalising whitespace, quotation marks, case and digits, so re-formatting and restated figures do not read as changed language. Wording changes appear as one removal and one addition. The current filing and the prior one are authoritative.

What changed 10-Q

Item 2. Management’s Discussion and Analysis