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Item 7. Management’s Discussion and Analysis

2023-06-14 compared with 2022-06-15 · 175 added, 190 removed, 297 unchanged (55% of the section changed)

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The information contained in this section should be read in conjunction with the Consolidated Financial Statements and accompanying Notes thereto contained in Item 8 of this Form 10-K and the other sections contained in this Form 10-K.

This section contains certain financial information determined by methods other than in accordance with GAAP.

These measures include net interest income on a fully tax equivalent basis and net interest margin on a fully tax equivalent basis.

Management uses these non-GAAP measures in its analysis of the Company’s performance.

The tax equivalent adjustment to net interest income recognizes the income tax savings when comparing taxable and tax-exempt assets.

Management believes that it is a standard practice in the banking industry to present net interest income and net interest margin on a fully tax equivalent basis, and accordingly believes that providing these measures may be useful for peer comparison purposes.

These disclosures should not be viewed as substitutes for the results determined to be in accordance with GAAP, nor are they necessarily comparable to non-GAAP performance measures that may be presented by other companies.

Critical Accounting Policies

The Company has established various accounting policies that govern the application of GAAP in the preparation of the Company’s Consolidated Financial Statements.

The Company has identified policies that due to judgments, estimates and assumptions inherent in those policies are critical to an understanding of the Company’s Consolidated Financial Statements.

These policies relate to the methodology for the determination of the allowance for loan losses, the valuation of investment securities, goodwill valuation and the calculation of income taxes.

Management believes that the judgments, estimates and assumptions used in the preparation of the Company’s Consolidated Financial Statements are appropriate given the factual circumstances at the time.

However, given the sensitivity of the Company’s Consolidated Financial Statements to these critical accounting policies, the use of other judgments, estimates and assumptions could result in material differences in the Company’s results of operations or financial condition.

Further, subsequent changes in economic or market conditions could have a material impact on these estimates and our financial condition and operating results in future periods.

There have been no significant changes in our application of accounting policies since March 31, 2021.

For additional information concerning critical accounting policies, see Note 1 of the Notes to Consolidated Financial Statements contained in "Item 8.

Financial Statements and Supplementary Data."

and the following:

Provision and Allowance for Loan Losses

Critical Accounting Estimates

We prepare our consolidated financial statements in accordance with GAAP.

In doing so, we have to make estimates and assumptions.

Our critical accounting estimates are those estimates that involve a significant level of uncertainty at the time the estimate was made, and changes in the estimate that are reasonably likely to occur from period to period, or use of different estimates that we reasonably could have used in the current period, would have a material impact on our financial condition or results of operations.

Accordingly, actual results could differ materially from our estimates.

We base our estimates on past experience and other assumptions that we believe are reasonable under the circumstances, and we evaluate these estimates on an ongoing basis.

We have reviewed our critical accounting estimates with the audit committee of our Board of Directors.

The Company has identified policies that due to the significant level of judgement, estimation and assumptions inherent in those policies are critical to an understanding of the Company’s consolidated financial statements.

These policies include our accounting policies related to the methodology for the determination of the allowance for loan losses, the valuation of investment securities and goodwill valuations.

The following is a discussion of the critical accounting estimates involved with those accounting policies.

Allowance for Loan Losses

The allowance for loan losses is considered a critical accounting policy by management because of the high degree of judgment involved, the subjectivity of the assumptions used, and the potential for changes in the economic environment that could result in changes to the amount of the recorded allowance for loan losses.

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experience, ability, and depth of lending management and staff;

volume and severity of past due, classified and nonaccrual loans as well as other loan modifications;

volume and severity of past due, classified and non-accrual loans as well as other loan modifications;

quality of the Company’s loan review system;

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Based on this impairment analysis, a specific reserve may be established.

An unallocated portion is established for

uncertainties that may not be identified in either the general or specific component of the allowance for loan losses.

An unallocated portion is established for uncertainties that may not be identified in either the general or specific component of the allowance for loan losses.

The allowance for loan losses is based upon factors and trends identified by us at the time financial statements are prepared.

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While we believe the estimates and assumptions used in our determination of the adequacy of the allowance for loan losses are reasonable, there can be no assurance that such estimates and assumptions will not be proven incorrect in the future, or that the actual amount of future provisions will not exceed the amount of past provisions or that any increased provisions that may be required will not adversely impact our financial condition and results of operations.

Operating Strategy

Fiscal year 2022 marked the 99th anniversary since the Bank began operations in 1923.

The primary business strategy of the Company is to provide comprehensive banking and related financial services within its primary market area.

The historical emphasis had previously been on residential real estate lending.

Since 1998, however, the Company has been diversifying its loan portfolio through the expansion of its commercial and construction loan portfolios.

At March 31, 2022, commercial and construction loans represented 91.6% of total loans.

Commercial lending, including commercial real estate loans, typically has higher credit risk, greater interest margins and shorter terms than residential lending which can increase the loan portfolio’s profitability.

Valuation of Investment Securities.

The Company determines the estimated fair value of certain assets that are classified as Level 3 under the fair value hierarchy established under GAAP.

These Level 3 assets are valued using significant unobservable inputs that are supported by little or no market activity and that are significant to the estimated fair value of the assets.

These Level 3 assets are certain loans measured for impairment for which there is neither an active market for identical assets from which to determine fair value, nor is there sufficient, current market information about similar assets to use as observable, corroborated data for all significant inputs in a valuation model.

Under these circumstances, the estimated fair values of these assets are determined using pricing models, discounted cash flow methodologies, appraisals, and other valuation methods in accordance with accounting standards, for which the determination of fair value requires significant management judgment or estimation.

Valuations using models or other techniques are dependent upon assumptions used for the significant inputs.

Where market data is available, the inputs used for valuation reflect that information as of the valuation date.

In periods of extreme volatility, lessened liquidity or in illiquid markets, there may be more variability in market pricing or a lack of market data to use in the valuation process.

Judgment is then applied in formulating those inputs.

Certain loans included in the loan portfolio were deemed impaired at March 31, 2023.

Accordingly, loans measured for impairment were classified as Level 3 in the fair value hierarchy as there is no active market for these loans.

Measuring impairment of a loan requires judgment and estimates, and the eventual outcomes may differ from those estimates.

Impairment was measured based on a number of factors, including recent independent appraisals which are further reduced for estimated selling costs or by estimating the present value of expected future cash flows, discounted at the loan’s effective interest rate.

For additional information on our Level 1, 2 and 3 fair value measurements see Note 15 of the Notes to Consolidated Financial Statements contained in Item 8 of this Form 10-K.

Goodwill Valuation

Goodwill is initially recorded when the purchase price paid for an acquisition exceeds the estimated fair value of the net identified tangible and intangible assets acquired.

Goodwill is presumed to have an indefinite useful life and is tested, at least annually, for impairment at the reporting unit level.

The Company has two reporting units, the Bank and the Trust Company, for purposes of evaluating goodwill for impairment.

All of the Company’s goodwill has been allocated to the Bank reporting unit.

The Company performs an annual review in the third quarter of each fiscal year, or more frequently if indications of potential impairment exist, to determine if the recorded goodwill is impaired.

If the fair value exceeds the carrying value, goodwill at the reporting unit level is not considered impaired and no additional analysis is necessary.

If the carrying value of the reporting unit is greater than its fair value, there is an indication that impairment may exist and additional analysis must be performed to measure the amount of impairment loss, if any.

The amount of impairment is determined by comparing the implied fair value of the reporting unit’s goodwill to the carrying value of the goodwill in the same manner as if the reporting unit was being acquired in a business combination.

Specifically, the Company would allocate the fair value to all of the assets and liabilities of the reporting unit, including unrecognized intangible assets, in a hypothetical analysis that would calculate the implied fair value of goodwill.

If the implied fair value of goodwill is less than the recorded goodwill, the Company would record an impairment charge for the difference.

A significant amount of judgment is involved in determining if an indicator of impairment has occurred.

Such indicators may include, among others:

a significant decline in our expected future cash flows;

a sustained, significant decline in our stock price and market capitalization;

a significant adverse change in legal factors or in the business climate;

adverse action or assessment by a regulator;

and unanticipated competition.

Any adverse change in these factors could have a significant impact on the recoverability of these assets and could have a material impact on the Company’s consolidated financial statements.

The Company performed its annual goodwill impairment test as of October 31, 2022.

The goodwill impairment test involves a two-step process.

Step one of the goodwill impairment test estimates the fair value of the reporting unit utilizing the allocation of corporate value approach, the income approach, the whole bank transaction approach and the market approach in order to derive an enterprise value of the Company.

The allocation of corporate value approach applies the aggregate market value of the Company and divides it among the reporting units.

A key assumption in this approach is the control premium applied to the aggregate market value.

A control premium is utilized as the value of a company from the perspective of a controlling interest is generally higher than the widely quoted market price per share.

The Company used an expected control premium of 30%, which was based on comparable transactional history.

The income approach uses a reporting unit’s projection of estimated operating results and cash flows that are discounted using a rate that reflects current market conditions.

The projection uses management’s best estimates of

economic and market conditions over the projected period including growth rates in loans and deposits, estimates of future expected changes in net interest margins and cash expenditures.

Assumptions used by the Company in its discounted cash flow model (income approach) included an annual revenue growth rate that approximated 2.0%, a net interest margin that approximated 3.7% and a return on assets that ranged from 1.22% to 1.30% (average of 1.26%).

In addition to utilizing the above projections of estimated operating results, key assumptions used to determine the fair value estimate under the income approach were the discount rate of 18.33% utilized for our cash flow estimates and a terminal value estimated at 1.43 times the ending book value of the reporting unit.

The Company used a build-up approach in developing the discount rate that included:

an assessment of the risk-free interest rate, the rate of return expected from publicly traded stocks, the industry the Company operates in and the size of the Company.

The whole bank transaction approach estimates fair value by applying key financial variables in transactions involving acquisitions of similar institutions.

The market approach estimates fair value by applying tangible book value multiples to the reporting unit’s operating performance.

The multiples are derived from comparable publicly traded companies with similar operating and investment characteristics of the reporting unit.

In applying the market approach method, the Company selected four publicly traded comparable institutions.

After selecting comparable institutions, the Company derived the fair value of the reporting unit by completing a comparative analysis of the relationship between their financial metrics listed above and their market values utilizing a market multiple of 1.0 times book value, a market multiple of 1.1 times tangible book value and an earnings multiple of 10 times.

The Company calculated a fair value of its reporting unit of $192.0 million using the corporate value approach, $169.2 million using the income approach and $230.0 million using the market approach, with a final concluded value of $197.0 million, with equal weight given to the income approach, the market approach and the corporate value approach.

The results of the Company’s step one test indicated that the reporting unit’s fair value was greater than its carrying value and therefore no impairment of goodwill exists.

The Company also completed a qualitative assessment of goodwill as of March 31, 2023 and concluded that it is more likely than not that the fair value of the Bank (the reporting unit), exceeds its carrying value at that date.

Even though the Company determined that there was no goodwill impairment, a sustained decline in the value of its stock price as well as values of other financial institutions, declines in revenue for the Company beyond our current forecasts, significant adverse changes in the operating environment for the financial industry or an increase in the value of our assets without an increase in the value of the reporting unit may result in a future impairment charge.

It is also possible that changes in circumstances existing at the measurement date or at other times in the future, or in the numerous estimates associated with management’s judgments, assumptions and estimates made in assessing the fair value of our goodwill, could result in an impairment charge of a portion or all of our goodwill.

If the Company recorded an impairment charge, its financial position and results of operations would be adversely affected;

however, such an impairment charge would have no impact on our liquidity, operations or regulatory capital.

For additional information concerning critical accounting policies, see Note 1 of the Notes to Consolidated Financial Statements contained in "Item 8.

Financial Statements and Supplementary Data."

and the following:

Operating Strategy and Selected Financial Information

Fiscal year 2024 marks the 100th anniversary for Riverview Bank, which opened for business in 1923.

Our primary business strategy is to provide comprehensive banking and related financial services within our primary market area.

The Company’s goal is to deliver returns to shareholders by increasing higher-yielding assets (in particular, commercial real estate and commercial business loans), increasing core deposit balances, managing problem assets, reducing expenses, hiring experienced employees with a commercial lending focus and exploring expansion opportunities.

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The Company is focused on increasing its loan portfolio, especially higher yielding commercial and construction loans, and its core deposits by expanding its customer base throughout its primary market areas.

By emphasizing total relationship banking, the Company intends to deepen the relationships with its customers and increase individual customer profitability through cross-marketing programs, which allows the Company to better identify lending opportunities and services for customers.

While the Company historically emphasized residential real estate lending, since 1998 it has been diversifying its loan portfolio through the expansion of its commercial and construction loan portfolios.

At March 31, 2023, commercial and construction loans represented 89.9% of total loans.

Commercial lending, including commercial real estate loans, typically involves more credit risk than residential lending, justifying higher interest margins and fees on loans which can increase the loan portfolio’s profitability.

In addition, by emphasizing total relationship banking, the Company intends to deepen the relationships with its customers and increase individual customer profitability through cross-marketing programs, which allows the Company to better identify lending opportunities and services for customers.

To build its core deposit base, the Company will continue to utilize additional product offerings, technology and a focus on customer service in working toward this goal.

The Company will also continue to seek to expand its franchise through de novo branches, the selective acquisition of individual branches, loan purchases and whole bank transactions that meet its investment and market objectives.

In this regard, the Company previously announced plans for three new branches located in Clark County, Washington, to complement its existing branch network.

New branches in both downtown Camas and in the Cascade Park neighborhood of Vancouver opened in fiscal 2021.

The third new branch location in Ridgefield opened in the fourth quarter of fiscal 2022.

The Company will also continue to seek to expand its franchise through de novo branches, the selective acquisition of individual branches, loan purchases and whole bank

transactions that meet its investment and market objectives.

In this regard, the Company recently opened three new branches located in Clark County, Washington, to complement its existing branch network.

Maintaining Strong Asset Quality .

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The Company intends to selectively add other products to further diversify revenue sources and to capture more of each customer’s banking relationship by cross selling loan and deposit products and additional services, including services provided through the Trust Company to increase its fee income.

Assets under management by the Trust Company totaled $1.3 billion at both March 31, 2022 and March 31, 2021.

Assets under management by the Trust Company totaled $890.6 million and $1.3 billion at March 31, 2023 and March 31, 2022, respectively.

The Company also offers a third-party identity theft product to its customers.

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The Company offers personal checking, savings and money-market accounts, which generally are lower-cost sources of funds than certificates of deposit and are less likely to be withdrawn when interest rates fluctuate.

To build its core deposit base, the Company has sought to reduce its dependence on traditional higher cost deposits in favor of stable lower cost core deposits to fund loan growth and decrease its reliance on other wholesale funding sources, including FHLB and FRB advances.

The Company believes that its continued focus on building customer relationships will help to increase the level of core deposits and locally-based retail certificates of deposit.

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The Company maintains technology-based products to encourage the growth of lower cost deposits, such as personal financial management, business cash management, and business remote deposit products, that enable it to meet its customers’ cash management needs and compete effectively with banks of all sizes.

Core branch deposits increased $172.5 million at March 31, 2022 compared to March 31, 2021 reflecting the Company’s commitment to increasing core deposits versus relying on wholesale funding.

Core branch deposits decreased $250.1 million at March 31, 2023 compared to March 31, 2022 due to deposit pricing pressures in our markets, resulting in the Company’s use of higher costing FHLB advances during fiscal 2023.

Core branch deposits accounted for 97.5% of total deposits at March 31, 2023 compared to 96.8% at March 31, 2022.

Recruiting and Retaining Highly Competent Personnel with a Focus on Commercial Lending .

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The goal is to compete with other financial service providers by relying on the strength of the Company’s customer service and relationship banking approach.

The Company believes that one of its strengths is that its employees are also shareholders through the Company’s employee stock ownership (“ESOP”) and 401(k) plans.

COVID-19 Related Information

The Company maintains its commitment to supporting its community and customers during the COVID-19 pandemic and remains focused on keeping its employees safe and the Bank running effectively to serve its customers.

As of March 31, 2022, all Bank branches were open with normal hours and most employees continued in their current working environments (e.g.

remote, hybrid or on-site) but the Company plans to transition employees back to on-site or on a case-by-case basis, a hybrid model.

The Bank will continue to monitor branch access and occupancy levels in relation to cases and close contact scenarios and follow governmental restrictions and public health authority guidelines.

The Company believes that one of its strengths is that its employees are also shareholders through the Company’s ESOP and 401(k) plans.

Selected Financial Data:

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Cash and cash equivalents

FHLB advances

Shareholders’ equity

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Cash and cash equivalents, including interest-earning accounts, totaled $22.0 million at March 31, 2023 compared to $241.4 million at March 31, 2022.

Deposit growth outpaced the growth in loans receivable providing an opportunity to invest excess cash into interest-earning accounts and into higher yielding investment securities.

The Company’s cash balances typically fluctuate based upon funding needs, and the Company will deploy a portion of excess cash balances to purchase investment securities to earn higher yields than the nominal yield earned on cash held in interest-earning accounts, based on the Company’s asset/liability management program and liquidity objectives in order to maximize earnings.

As a part of this strategy, the Company also invests a portion of its excess cash in short-term certificates of deposit held for investment.

All of the certificates of deposit held for investment are fully insured by the FDIC.

The Company’s cash balances typically fluctuate based upon funding needs, deposit activity and investment securities purchases.

Based on the Company’s asset/liability management program and liquidity objectives, the Company may deploy a portion of excess cash balances to purchase investment securities depending on the rate environment and other considerations.

As a part of this strategy, the Company also invests a portion of its excess cash in short-term certificates of deposit held for investment, all of which are fully insured by the FDIC.

Certificates of deposits held for investment totaled $249,000 at both March 31, 2023 and 2022.

Investment securities totaled $ 455.3 million and $418.9 million at March 31, 2023 and 2022, respectively.

The increase was due to investment purchases offset by normal pay downs, calls and maturities.

The increase was due to investment purchases, partially offset by normal pay downs, calls and maturities.

During the fiscal years ended March 31, 2023 and 2022, purchases of investment securities totaled $81.8 million and $224.6 million, respectively.

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Loans receivable, net, totaled $993.5 million at March 31, 2023, compared to $975.9 million at March 31, 2022, an increase of $17.6 million.

The increase is attributed to originations of commercial real estate and multi-family loans and purchases of other commercial business loans and real estate one-to-four family loans.

The increases were offset by a decrease of SBA PPP loans related to forgiveness repayments and a decrease in land loans.

At March 31, 2022, SBA PPP loans, net of deferred fees which are included in the commercial business loan category, totaled $3.1 million compared to $93.4 million at March 31, 2021.

Commercial real estate and multi-family loans increased $39.4 million and $15.2 million, respectively since March 31, 2021.

Consumer loans increased $25.0 million for the fiscal year ended March 31, 2022 due to the purchases of one-to-four-family loans totaling $43.4 million.

The Company no longer originates one-to-four family mortgage loans and used this purchase as a way to supplement loan originations in this category.

Additionally, the Company began purchasing commercial business loans as a way to supplement loan originations and diversity in the commercial loan portfolio.

These loans were originated by a third-party located outside of the Company’s primary market area and totaled $14.7 million at March 31, 2022.

The Company also purchases the guaranteed portion of SBA loans as a way to supplement loan originations, further diversifying its loan portfolio and earn a higher yield than earned on its cash or short-term investments.

The increase was primarily attributed to increases in real estate construction loans of $23.6 million, commercial business loans of $4.8 million and real estate one-to-four family loans of $17.7 million.

The increases in commercial business loans and real estate one-to-four family loans were attributable to the purchase of $28.7 million and $26.8 million of such loans, respectively.

These increases were partially offset by decreases in commercial real estate, multi-family and land loans of $18.3 million, $4.4 million and $5.1 million, respectively, since March 31, 2022.

In addition, these increases were offset by a decrease in SBA PPP loans related to forgiveness repayments.

At March 31, 2023, SBA PPP loans, net of deferred fees which are included in the commercial business loan category were insignificant compared to $3.1 million at March 31, 2022.

The Company no longer originates real estate one-to-four family loans and will from time to time purchase these loans consistent with its asset/liability objectives.

Additionally, the Company will purchase commercial business loans to supplement loan originations and diversify the commercial loan portfolio.

These loans were originated by a third-party located outside of the Company’s primary market area and totaled $26.2 million and $14.7 million at March 31, 2023 and 2022, respectively.

The Company also purchases the guaranteed portion of SBA loans as a way to supplement loan originations, to further diversify its loan portfolio and earn a higher yield than earned on its cash or short-term investments.

These SBA loans are originated through another financial institution located outside of the Company’s primary market area and are purchased with servicing retained by the seller.

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For additional information on our goodwill impairment testing, see “Goodwill Valuation” included in this Item 7.

Prepaid expenses and other assets decreased $793,000 to $12.4 million at March 31, 2022 compared to $13.2 million at March 31, 2021.

The net decrease is primarily due to right-of-use operating lease amortization of $875,000 and the receipt of approximately $680,000 from the SBA for loan origination fees on PPP loans that were outstanding at the end of fiscal year 2021, and received early in fiscal year 2022.

These decreases were partially offset by an increase in other assets primarily comprised of funds due the Bank related to its debit card network conversion and a tenant improvement allowance receivable related to our new Ridgefield branch location.

Deposits increased $187.8 million to $1.5 billion at March 31, 2022 compared to $1.3 billion at March 31, 2021.

The increase was mainly due to proceeds from SBA PPP loans deposited directly into customer accounts, government stimulus checks, an increase in savings trends and reduced withdrawals from deposit accounts due to a change in spending habits as a result of COVID-19.

Prepaid expenses and other assets increased $3.6 million to $16.0 million at March 31, 2023 compared to $12.4 million at March 31, 2022.

The increase was primarily due to a computer software contract for a new loan origination system that was executed in the fourth quarter of fiscal year 2023.

Deposits decreased $268.7 million to $1.3 billion at March 31, 2023 compared to $1.5 billion at March 31, 2022 due to increased competition, pricing and an overall decrease in market liquidity.

The decrease in deposits was attributable to reductions in non-interest-bearing accounts of $89.9 million, regular savings accounts of $84.9 million, money market accounts of $78.0 million and interest checking of $33.3 million.

These decreases were partially offset by an increase of $17.5 million in certificates of deposit.

The Company had no wholesale-brokered deposits at March 31, 2023 and 2022.

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The Company plans to continue its focus on core deposits and on building customer relationships as opposed to obtaining deposits through the wholesale markets.

Shareholders’ equity increased $5.7 million to $157.2 million at March 31, 2022 from $151.6 million at March 31, 2021.

The increase was primarily attributable to net income of $21.8 million for the fiscal year ended March 31, 2022.

This increase was offset by an increase in accumulated other comprehensive loss related to the unrealized holding gains and losses on available for sale investment securities, net of tax, of $9.8 million, due primarily to an increase in market interest rates during the last fiscal quarter of 2022, cash dividend payments totaling $4.8 million and the repurchase of 278,148 shares of common stock totaling $1.9 million for the fiscal year ended March 31, 2022.