SR Bancorp, Inc. 10-K

Item 5 . Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities. Market for Registrant’s Common Equity The common stock of SR Bancorp, Inc. has been listed on The NASDAQ Capital Market under the symbol “SRBK” since September 20, 2023. At September 25, 2023, SR Bancorp, Inc. had 704 stockholders of record. Use of Proceeds The Bank completed its conversion and SR Bancorp, Inc. completed its initial public offering on September 19, 2023 through the sale of shares of its common stock, par value $0.01 per share, pursuant to a Registration Statement on Form S-1, as amended (Commission File No. 333-270489), as declared effective on July 13, 2023. The offering was completed on September 19, 2023 upon the sale of 9,055,172 shares of common stock at a price of $10.00 per share. The gross offering proceeds were $90.6 million and the net offering proceeds (after offering expenses) were $86.9 million. Of the net offering, $7.6 million was used to fund a loan for its newly formed employee stock ownership plan (which in turn used those funds to purchase 760,634 or 8.0% of the issued shares), $905,517 was used to fund the newly formed Somerset Regal Charitable Foundation, Inc., a charitable foundation and $43.4 million was down-streamed to the Bank as additional capital. The funds retained by SR Bancorp, Inc. were used to pay for a portion of the consideration for the acquisition of Regal Bancorp, Inc. Keefe, Bruyette & Woods, Inc. served as marketing agent for the offering. Item 6 . [Reserved]. 35 Item 7 . Management’s Discussion and Analysis of Financial Condition and Results of Operations. The objective of this section is to assist in the understanding of the financial performance of the Company and its subsidiaries through a discussion of our results of operations and financial condition as of the dates presented. You should read this discussion in conjunction with the Somerset Savings Bank Consolidated Financial Statements and Notes to the Consolidated Financial Statements that appear at the end of this document. The financial information provided herein as of June 30, 2023 and June 30, 2022 is solely that of Somerset Savings Bank, SLA and its subsidiaries, unless indicated otherwise. Stock Offering and Acquisition of Regal Bancorp, Inc. and Regal Bank On July 25, 2022, SR Bancorp and Somerset Savings Bank entered into an Agreement and Plan of Merger, as amended on March 7, 2023 and July 10, 2023, pursuant to which SR Bancorp proposed to acquire Regal Bancorp, Inc., a New Jersey corporation and sole shareholder of Regal Bank, a New Jersey chartered commercial bank headquartered in Livingston, New Jersey. The acquisition was completed on September 19, 2023 and each Regal Bancorp shareholder received $23.00 in cash for each share of Regal Bancorp common stock they owned, for an aggregate purchase price of $69.5 million. As part of the acquisition, Regal Bank merged into Somerset Savings Bank, with Somerset Savings Bank as the surviving entity operating under the name “Somerset Regal Bank.” In addition, on September 19, 2023, SR Bancorp completed the stock offering of 9,055,172 shares of its common stock at a purchase price of $10.00 per share. The stock offering resulted in net proceeds of $86.9 million, of which $43.5 million was downstreamed to Somerset Regal Bank, as required by regulatory requirements. As part of its stock offering, the Company established the Somerset Regal Charitable Foundation and funded the foundation with 452,758 shares of SR Bancorp common stock and $906,000 in cash. Overview Our principal business is to acquire deposits from individuals and businesses in the communities surrounding our offices and to use these deposits to fund loans. As of September 19, 2023, Somerset Regal Bank is a New Jersey-chartered commercial bank that operates from 17 branches in Essex, Hunterdon, Middlesex, Morris, Somerset and Union Counties, New Jersey. Somerset Regal Bank offers a variety of deposit and loan products to individuals and small businesses, most of which are located in our primary market. The acquisition of Regal Bancorp and its wholly owned subsidiary, Regal Bank, expanded our market presence into Essex, Morris and Union Counties, New Jersey and enhanced our market presence in Somerset County, New Jersey. At June 30, 2023, Somerset Savings Bank had total assets of $651.5 million, deposits of $503.9 million and total equity of $122.1 million. At June 30, 2023, Regal Bank had total assets of $461.8 million, deposits of $389.1 million and total equity of $51.5 million. Income . Our primary source of pre-tax income is net interest income. Net interest income is the difference between interest income, which is the income that we earn on our loans and investments, and interest expense, which is the interest that we pay on our deposits. Changes in levels of interest rates affect our net interest income. A secondary source of income is noninterest income, which is revenue that we receive from providing products and services. The majority of our noninterest income generally comes from service charges and fees related to deposit accounts and net gains in cash surrender value of bank-owned life insurance. In some years, we recognize income from the sale of securities. Allowance for Loan Losses . The allowance for loan losses is a valuation allowance for probable losses inherent in the loan portfolio. We evaluate the need to establish allowances against losses on loans on a quarterly basis. When additional allowances are necessary, a provision for loan losses is charged to earnings. Loans are charged against the allowance when management believes that the collectability of the principal loan amount is not probable. Recoveries on loans previously charged off, if any, are credited to the allowance for loan losses when realized. 36 Expenses. The noninterest expenses we incur in operating our business consist of salaries and employee benefits expenses, occupancy expenses, furniture and equipment expenses, advertising, FDIC insurance premiums, directors fees, professional fees, insurance, telephone, postage and supplies and other miscellaneous expenses. Our largest noninterest expense is salaries and employee benefits, which consist primarily of salaries and wages paid to our employees, payroll taxes, and expenses for retirement plans and other employee benefits including disability insurance and health insurance. Following the stock offering, we will recognize additional annual employee compensation expenses stemming from the adoption of new equity benefit plans. Occupancy and equipment expenses and furniture and equipment expenses are the fixed and variable costs of buildings and equipment, and consist primarily of depreciation charges, furniture and equipment expenses, repair and maintenance costs, real estate taxes and costs of utilities. Depreciation of premises and equipment is computed using a straight-line method based on the estimated useful lives of the related assets or the expected lease terms, if shorter. Furniture and equipment also includes fees paid to third parties for use of their software and for processing customer information, deposits and loans. Advertising includes most marketing expenses including multi-media advertising (public and in-branch), promotional events and materials, civic and sales focused memberships, and community support. Federal deposit insurance premiums are payments we make to the FDIC for insurance of our deposit accounts. Professional fees include legal, accounting, auditing, risk management and payroll processing expenses. Insurance includes expenses for worker’s compensation, property and casualty insurance and professional insurance. Other expenses include expenses for directors fees, office supplies, postage, telephone and other miscellaneous operating expenses. Critical Accounting Policies Certain of our accounting policies are important to the presentation of our financial condition, since they require management to make difficult, complex or subjective judgments, some of which may relate to matters that are inherently uncertain. Estimates associated with these policies are susceptible to material changes as a result of changes in facts and circumstances. Facts and circumstances that could affect these judgments include, but are not limited to, changes in interest rates, changes in the performance of the economy and changes in the financial condition of borrowers. Our significant accounting policies are discussed in detail in Note 1 to our Consolidated Financial Statements included elsewhere in this document. The JOBS Act contains provisions that, among other things, reduce certain reporting requirements for qualifying public companies. As an “emerging growth company” we plan to delay adoption of new or revised accounting pronouncements applicable to public companies until such pronouncements are made applicable to private companies. Accordingly, our consolidated financial statements may not be comparable to the financial statements of public companies that comply with such new or revised accounting standards. Management believes our most critical accounting policies, which involve the most complex or subjective decisions or assessments, are as follows: allowance for loan losses and the valuation of our deferred tax assets. Allowance for Loan Losses : The allowance for loan losses is a valuation allowance for probable and reasonably estimable incurred credit losses in the loan portfolio as of the balance sheet date. Loan losses are charged against the allowance when management believes the collectability of a loan balance is not probable. Subsequent recoveries, if any, are credited to the allowance. Management estimates the allowance balance required for all portfolio segments using past loan loss experience, the nature and volume of the portfolio, information about specific borrower situations and estimated collateral values, economic conditions, and other factors. Allocations of the allowance may be made for specific loans, but the entire allowance is available for any loan that, in management’s judgment, should be charged off. 37 The allowance consists of specific and general components. The specific component of the allowance relates to loans that are individually classified as impaired. A loan is impaired when, based on current information and events, it is probable that we will be unable to collect all amounts due according to the contractual terms of the loan agreement. Loans for which the terms have been modified resulting in a concession and for which the borrower is experiencing financial difficulties, are considered troubled debt restructurings and classified as impaired. Factors considered by management in determining impairment include payment status, collateral value, and the probability of collecting scheduled principal and interest payments when due. Loans that experience insignificant payment delays and payment shortfalls generally are not classified as impaired. Management determines the significance of payment delays and payment shortfalls on a case-by-case basis, taking into consideration all of the circumstances surrounding the loan and the borrower, including the length of the delay, the reasons for the delay, the borrower’s prior payment record, and the amount of the shortfall in relation to the principal and interest owed. Impaired loans are measured based on the present value of expected future cash flows, discounted at the loan’s effective interest rate, or, as a practical expedient, at the loan’s observable market price or the fair value of the collateral if the loan is collateral dependent. Large groups of smaller balance homogeneous loans, such as consumer and residential real estate loans, are collectively evaluated for impairment. We have defined the population of impaired loans to generally be all non-accrual non-residential, multi-family, and construction and land loans, and troubled debt restructurings. Troubled debt restructured loans are those loans whose terms have been modified such that a concession has been granted because of deterioration in the financial condition of the borrower. Modifications could include extension of the terms of the loan, reduced interest rates, and forgiveness of accrued interest and/or principal. Once an obligation has been classified a troubled debt restructuring, it continues to be considered a troubled debt restructuring and is individually evaluated for impairment until paid in full. For a cash flow dependent loan, we record an impairment charge equal to the difference between the present value of the estimated future cash flows under the restructured terms discounted at the loans original effective interest rate, and the original loan’s carrying amount. For a collateral dependent loan, we record an impairment when the current estimated fair value, net of estimated costs to sell when necessary, of the property that collateralizes the impaired loan is less than the recorded investment in the loan. For all loan classes, the accrual of income on loans, including impaired loans, is generally discontinued when a loan becomes more than 90 days delinquent or when certain factors indicate reasonable doubt as to the ability of the borrower to meet contractual principal and/or interest obligations. Loans on which the accrual of income has been discontinued are designated as non-accrual loans. All previously accrued interest is reversed and income is recognized subsequently only in the period received, provided the remaining principal balance is deemed collectible. A non-accrual loan is not returned to an accrual status until principal and interest payments are brought current and factors indicating doubtful collection no longer exist. Principal and interest payments received on non-accrual loans for which the remaining principal balance is not deemed collectible are applied as a reduction to principal and interest income is not recognized. If the principal balance on the loan is later deemed collectible and the loan is returned to accrual status, any interest payments that were applied to principal while on non-accrual are recorded as an unearned discount on the loan, classified as deferred fees, costs and discounts, and are recognized into interest income using the level-yield method over the remaining contractual life of the individual loan, adjusted for actual prepayments. The general component of the allowance covers non-impaired loans and is based on historical loss experience adjusted for current qualitative factors. The historical loss experience is a quantitative factor determined by portfolio segment and is based on our actual loss history. This actual loss experience is supplemented with other factors based on the risks present for each portfolio segment. These factors include consideration of the following: • Lending policies and procedures, including underwriting standards and collection, charge-off and recovery loans practices. • National, regional and local economic and business conditions as well as the condition of various market segments. • Nature and volume of the portfolio and terms of loans. 38 • Volume and severity of past due, classified and non-accrual loans as well as other loan modifications. • Existence and effect of any concentrations of credit and changes in the level of such concentrations. • Effect of external factors, such as competition and legal and regulatory requirements. • Value of underlying collateral for collateral dependent loans. • The experience, ability, and depth of lending management and other relevant staff. • Quality of the institution’s loan review system. The loan portfolio is categorized according to collateral type, loan purpose, lien position, or borrower type (i.e., commercial, consumer). The categories used include residential one-to-four family, multi-family, non-residential, construction and land, junior liens, and consumer and other. Income Taxes : Income taxes are accounted for using the asset and liability method. Deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date. The measurement of deferred tax assets is reduced by a valuation allowance for the amount of the deferred tax asset that is more likely than not to be realized. A tax position is recognized as a benefit only if it is “more likely than not” that the tax position would be sustained in a tax examination, with a tax examination being presumed to occur. The amount recognized is the largest amount of tax benefit that is greater than 50% likely of being realized on examination. For tax positions not meeting the “more likely than not” test, no tax benefit is recorded. We recognize interest and/or penalties related to income tax matters in other operating expenses. Business Strategy The business strategy of the combined entity is to operate and grow a profitable community-oriented financial institution. Following completion of the conversion and related stock offering and the Merger on September 19, 2023, we plan to achieve this by: Leveraging the residential lending expertise of Somerset Savings Bank and the commercial lending expertise of Regal Bank to pursue new opportunities to increase lending in our primary market area and expand our existing loan relationships . Prior to the Merger, Somerset Savings Bank’s principal business activity historically had been the origination of residential mortgage loans, which comprised 97.8% of its total loan portfolio at June 30, 2023. Prior to the Merger, Regal Bank’s principal business activity historically had been the origination of multi-family and commercial real estate loans, which comprised 94.5% of its total loan portfolio at June 30, 2023. Somerset Regal Bank will continue to provide products and services that meet the needs of the existing residential lending customers and be able to offer such products, services and expertise to the former Regal Bank customers throughout its newly-expanded market area. Additionally, Somerset Regal Bank will continue to provide products and services that meet the needs of Regal Bank’s existing commercial customers and be able to offer such products, services and expertise to the former Somerset Savings Bank customers and throughout its newly-expanded market area. The opportunity for Somerset Savings Bank and Regal Bank to diversify their loan portfolios and leverage their lending expertise in new markets were primary factors for the Merger. Moreover, with the additional capital raised in the stock offering, we will be able to increase our loan originations in our market area, and originate loans with larger balances. Regal Bank’s legal lending limit was $9.1 million as of June 30, 2023 and Somerset Savings Bank’s legal lending limit was $18.3 million at June 30, 2023. While Somerset Regal Bank’s credit risk 39 management policies will result in an internal loan to one borrower limit less than Somerset Regal Bank’s regulatory limit, the legal lending limit of Somerset Regal Bank will provide opportunities to expand a portion of the existing customer relationships that Somerset Savings Bank will acquire in its merger with Regal Bank. We intend to leverage the SBA preferred lender expertise of Regal Bank to expand SBA lending activity in our market areas. SBA lending capabilities provide an opportunity to establish additional commercial account relationships and the potential to generate additional noninterest income related to the sale and servicing of the guaranteed portion of an SBA loan on the secondary market. Continuing to use prudent underwriting practices to maintain the high quality of the Somerset Regal Bank loan portfolio. Somerset Savings Bank and Regal Bank each believed that maintaining high asset quality is a key to long-term financial success. Both companies sought to grow their respective loan portfolios while keeping non-performing assets to a minimum. Each of Somerset Savings Bank’s and Regal Bank’s strategy for credit risk management focused on having an experienced team of credit professionals, well-defined policies and procedures, appropriate and conservative loan underwriting criteria and active credit monitoring. At June 30, 2023, there were $200,000 of non-performing loans in Somerset Savings Bank’s loan portfolio and $337,000 of non-performing loans in Regal Bank’s loan portfolio. Although as a result of, and following the Merger, the resulting bank’s commercial loan portfolio increased, Somerset Regal Bank maintains the philosophy of managing large loan exposures through a prudent approach to lending. Building profitable business and consumer relationships through enhanced product offerings and by continuing to provide superior customer service. We are a full-service financial services company offering our customers a broad range of loan and deposit products and services, including internet banking, which enables our customers to pay bills on-line, among other conveniences. Following the Merger, our commercial lending capacity has been significantly enhanced, which will allow us to seek to increase the commercial real estate and commercial business loans we originate and better serve the small businesses in our market area, which generally have higher fees and yields associated with them when compared to residential mortgages. Further, the Merger with Regal Bancorp will allow us to expand our commercial deposit accounts, which generally yield higher average balances than can be acquired from retail deposit relationships. As a community-oriented financial institution, we emphasize providing superior customer service as a means to attract and retain customers. We deliver personalized service and respond with flexibility to customer needs. We believe that our community orientation is attractive to our customers and distinguishes us from the larger institutions that operate in our area but are headquartered elsewhere. Further, given our attractive market area, we believe we are well-positioned to increase our customer relationships without a proportional increase in overhead expense or operating risk. Increasing transaction deposit accounts and deposit balances. Deposits are our primary source of funds for lending and investment. We intend to focus on expanding our core deposits (which we define as all deposits except for certificates of deposit). Core deposits represented 68.4% of our total deposits at June 30, 2023 compared to 72.5% of our total deposits at June 30, 2022. Going forward, we believe that Somerset Regal Bank will increase its core deposits by increasing its commercial lending activities and enhancing our relationships with its retail customers through our commitment to quality customer service along with the introduction of additional products and services, such as remote deposit capture and enhanced online business account services. Continuing to leverage technology to maintain efficient operations and enhance customer service. We have historically focused on leveraging technology to maintain efficient operations and provide our customers with secure means to conduct business with Somerset Savings Bank outside of our traditional branch network. Customer facing applications include online banking and mobile banking with bill payment capabilities, mobile deposit and debit card control functionality. We have been a Zelle ™ participant since 2019, which has allowed our customers the ability to send and receive real-time payments online and through mobile banking. Our online loan application platform affords customers the convenience of submitting a loan application online at their convenience. Internally we leverage technology to achieve internal efficiencies for tasks such as document preparation and retention, data analytics and call report preparation. We intend to build on this foundation and have plans to add, among other services, online deposit account opening for existing customers, tokenization (meaning the process of exchanging sensitive data with a less sensitive equivalent (or token), specifically Apply Pay © , Google Pay © and Samsung Pay © ), 40 and expanded business online banking capabilities including wire transfer origination and ACH origination services. These additional services are in various stages of implementation and we anticipate customer availability for most prior to the end of 2023. We believe our investment in technology allows us to remain competitive, effectively serve our customers and results in efficiencies which contribute to the maintenance of favorable operating expense. Expanding our franchise through acquisitions (including our Merger with Regal Bancorp) and other possible transactions in our primary market area . The Merger was completed on September 19, 2023 and has created a larger deposit base and loan portfolio. The combined bank, with more than $1.0 billion in assets, will offer a fuller and broader array of financial products encompassing retail and commercial banking, real estate, consumer and commercial lending, than either Somerset Savings Bank or Regal Bank offered. We will continue to consider both organic growth as well as acquisition opportunities that may enhance the value of our franchise and yield potential financial benefits for our shareholders. The capital we raised in the stock offering will allow us the ability to explore further acquisitions, although we do not currently have any agreements or planned activity regarding any specific acquisition transaction. Comparison of Financial Condition at June 30, 2023 and June 30, 2022 Total Assets . Total assets increased $2.9 million, or 0.4%, to $651.5 million at June 30, 2023 from $648.6 million at June 30, 2022. The increase was primarily the result of a $27.7 million increase in loans and a $7.1 million increase in cash and cash equivalents, offset in part by decreases of $21.7 million in securities held-to-maturity and $11.8 million in securities available-for-sale. Cash and Cash Equivalents . Cash and cash equivalents increased $7.1 million, or 20.1%, to $42.4 million at June 30, 2023 from $35.3 million at June 30, 2022 as Somerset Savings Bank borrowed $20.0 million from the Federal Reserve under the new Bank Term Funding Program, which was established in March 2023 to provide additional funding to eligible depository institutions. In light of the events in the banking industry that occurred earlier in the year and general economic conditions, we have increased our efforts to monitor deposit inflows and outflows and improved our liquidity position as a precaution. There have been no indications of a deposit run at our institution as our deposit base remains intact and our capital position remains strong. Securities . Total securities (securities held for sale and held to maturity) decreased $33.5 million, or 13.9%, to $207.3 million at June 30, 2023 from $240.8 million at June 30, 2022. The decrease was due in part to the regular principal and interest payments on our securities portfolio as well as the sale of $4.5 million of securities. Loans . Loans held for investment, net, increased $27.7 million, or 8.3%, to $362.3 million at June 30, 2023 from $334.6 million at June 30, 2022. Residential mortgage loans increased $27.9 million, or 8.6%, to $353.6 million at June 30, 2023 from $325.7 million at June 30, 2022 primarily due to an increase in loans purchased through our correspondent relationships. Deposits . Deposits decreased $18.2 million, or 3.5%, to $503.9 million at June 30, 2023 from $522.1 million at June 30, 2022. NOW and money market accounts decreased $8.9 million, or 6.1%, to $137.5 million at June 30, 2023 from $146.4 million at June 30, 2022. Savings accounts decreased $21.9 million, or 11.6%, to $166.3 million at June 30, 2023 from $188.1 million at June 30, 2022. Noninterest-bearing deposits decreased $3.0 million, or 6.9%, to $40.7 million at June 30, 2023 from $43.7 million at June 30, 2022. Certificates of deposit increased $15.7 million, or 10.9%, to $159.5 million at June 30, 2023 from $143.8 million at June 30, 2022. The increase in certificates of deposit and the decrease in savings accounts reflected the decision of many depositors to take advantage of increased market rates being paid on certificates of deposit. Borrowings . During the year ended June 30, 2023, we borrowed $20.0 million from the Federal Reserve under the new Bank Term Funding Program as a precautionary measure to provide for additional liquidity due to current market conditions. We had no borrowings at June 30, 2022. Total Equity . Total equity increased $3.9 million, or 3.3%, to $122.1 million at June 30, 2023 from $118.2 million at June 30, 2022. The increase resulted from net income of $1.6 million for the year ended June 30, 2023, and a decrease of $2.3 million in accumulated other comprehensive loss. 41 Average Balances and Yields . The following table sets forth average balance sheets, average yields and costs, and certain other information for the periods indicated. No tax-equivalent yield adjustments have been made, as the effects are immaterial. Average balances are calculated using month-end average balances, rather than daily average balances. We believe the use of month-end average balances is representative of our operations. Non-accrual loans are included in average balances only. Average yields include the effect of deferred fees, discounts, and premiums that are amortized or accreted to interest income or interest expense. Deferred loan fees are immaterial. For the Year Ended June 30, 2023 2022 Average Outstanding Balance Interest Yield/ Rate (1) Average Outstanding Balance Interest Yield/ Rate (1) (Dollars in thousands) Interest-earning assets: Loans $ 352,070 $ 11,317 3.21 % $ 305,130 $ 9,302 3.05 % Securities 224,967 3,680 1.64 % 258,215 4,003 1.55 % Other 30,786 1,122 3.64 % 48,213 127 0.26 % Total interest-earning assets 607,823 16,119 2.65 % 611,558 13,432 2.20 % Noninterest-earning assets 40,247 36,817 Total assets $ 648,070 $ 648,375 Interest-bearing liabilities: Savings and club accounts $ 179,809 108 0.06 % $ 180,920 108 0.06 % Interest-bearing demand accounts 143,459 96 0.07 % 141,886 88 0.06 % Certificates of deposit 148,501 1,979 1.33 % 152,476 1,339 0.88 % Total interest-bearing deposits 471,769 2,183 0.46 % 475,282 1,535 0.32 % Federal Home Loan Bank advances — — — — — — Other borrowings 5,110 245 4.79 % — — — Total interest-bearing liabilities 476,879 2,428 0.51 % 475,282 1,535 0.32 % Noninterest-bearing deposits 42,532 42,230 Other noninterest-bearing liabilities 11,388 9,546 Total liabilities 530,800 527,058 Equity 117,271 121,317 Total liabilities and equity $ 648,070 $ 648,375 Net interest income $ 13,691 $ 11,897 Net interest rate spread(1) 2.14 % 1.87 % Net interest-earning assets(2) $ 130,944 $ 136,276 Net interest margin(3) 3.00 % 2.59 % Average interest-earning assets to interest-bearing liabilities 127.46 % 128.67 % (1) Annualized. (2) Net interest-earning assets represent total interest-earning assets less total interest-bearing liabilities. (3) Net interest margin represents net interest income divided by average total interest-earning assets. 42 Rate/Volume Analysis The following table sets forth the effects of changing rates and volumes on our net interest income. The rate column shows the effects attributable to changes in rate (changes in rate multiplied by prior volume). The volume column shows the effects attributable to changes in volume (changes in volume multiplied by prior rate). The net column represents the sum of the prior columns. Changes attributable to both rate and volume that cannot be segregated have been allocated proportionately based on the changes due to rate and the changes due to volume. Years Ended June 30, 2023 vs. 2022 Increase (Decrease) Due to Total Increase Volume Rate (Decrease) (In thousands) Interest-earning assets: Loans $ 1,431 $ 584 $ 2,015 Securities (515 ) 192 (323 ) Other (46 ) 1,041 995 Total interest-earning assets 870 1,817 2,687 Interest-bearing liabilities: Savings and club accounts 8 — 8 Interest-bearing accounts 30 — 30 Certificates of deposit (35 ) 645 610 Federal Home Loan Bank advances — — — Other borrowings 245 — 245 Total interest-bearing liabilities 248 645 893 Change in net interest income $ 622 $ 1,172 $ 1,794 Comparison of Operating Results for the Years Ended June 30, 2023 and 2022 General. Net income decreased $318,000, or 17.0%, to $1.6 million for the year ended June 30, 2023 from $1.9 million for the year ended June 30, 2022. The decrease was caused by increases in interest expense and noninterest expense, offset in part by an increase in interest income. Interest Income. Interest income increased $2.7 million, or 20.0%, to $16.1 million for the year ended June 30, 2023 from $13.4 million for the year ended June 30, 2022. The increase resulted primarily from an increase of $2.0 million, or 21.7%, in interest income on loans and an increase in the interest income of other assets of $995,000 to $1.1 million for the year ended June 30, 2023 from $127,000 for the year ended June 30, 2022, partially offset by a $323,000 decrease in interest income on securities. The average balance on loans increased $46.9 million, or 15.4%, to $352.1 million for the year ended June 30, 2023, compared to $305.1 million for the year ended June 30, 2022. In addition, the average yield on the loan portfolio increased 16 basis points to 3.21% for the year ended June 30, 2023 from 3.05% for the year ended June 30, 2022. The average balance on securities decreased $33.2 million, or 12.9%, to $225.0 million for the year ended June 30, 2023 from $258.2 million for the year ended June 30, 2022. This decrease was partially offset by an increase of nine basis points in the average yield of securities to 1.64% at June 30, 2023 from 1.55% at June 30, 2022. The increase in the interest income on other assets was due to a 338 basis point increase in the average yield of other assets to 3.64% for the year ended June 30, 2023 from 0.26% for the year ended June 30, 2022, offset in part by a $17.4 million, or 36.1%, decrease in the average balance of other assets from $48.2 million for the year ended June 30, 2022 to $30.8 million for the year ended June 30, 2023. Interest Expense. Interest expense increased $893,000, or 58.2%, to $2.4 million for the year ended June 30, 2023 from $1.5 million for the year ended June 30, 2022. The increase in interest expense resulted from an increase in interest expense on deposits. The average rate we paid on certificates of deposit increased 45 basis points to 1.33% for the year ended June 30, 2023 from 0.88% for the year ended June 30, 2022 while the average balance of certificates of deposit decreased $4.0 million, or 2.6%, to $148.5 million for the year ended June 30, 2023 from $152.5 million for the year ended June 30, 2022. The average balance of interest-bearing demand deposits increased $1.6 million, or 1.1%, to $143.5 million for the year ended June 30, 2023 from $141.9 million for the year ended 43 June 30, 2022. The average balance of savings and club accounts decreased $1.1 million, or 0.6%, to $179.8 million for the year ended June 30, 2023 from $180.9 million for the year ended June 30, 2022. Net Interest Income. Net interest income increased $1.8 million, or 15.1%, to $13.7 million for the year ended June 30, 2023 from $11.9 million for the year ended June 30, 2022. We had increases in our net interest rate spread of 27 basis points to 2.14% for the year ended June 30, 2023 from 1.87% for the year ended June 30, 2022, and increases in our net interest margin of 41 basis points to 3.00% for the year ended June 30, 2023 from 2.59% for the year ended June 30, 2022, offset in part by a decrease in our net interest-earning assets of $5.3 million, or 3.9%, to $131.0 million for the year ended June 30, 2023 from $136.3 million for the year ended June 30, 2022. The increases in our net interest rate spread and our net interest margin were primarily a result of the cost of interest-bearing liabilities increasing at a slower rate than the yield on interest-earning assets. Provision for Loan Losses. We establish provisions for loan losses, which are charged to operations in order to maintain the allowance for loan losses at a level we consider necessary to absorb credit losses incurred in the loan portfolio that are both probable and reasonably estimable at the balance sheet date. In determining the level of the allowance for loan losses, we consider, among other things, past and current loss experience, evaluations of real estate collateral, current economic conditions, volume and type of lending, adverse situations that may affect a borrower’s ability to repay a loan and the levels of delinquent loans. The amount of the allowance is based on estimates and the ultimate losses may vary from such estimates as more information becomes available or conditions change. We assess the allowance for loan losses and make provisions for loan losses on a monthly basis. Based on our evaluation of the above factors, we did not record a provision for loan losses for either the year ended June 30, 2023 or the year ended June 30, 2022. The absence of a provision for loan losses reflects that we had no charge-offs for the year ended June 30, 2023 and $200,000 of non-performing loans and $145,000 of classified loans at June 30, 2023. Our allowance for loan losses as a percentage of total loans was 0.31% at June 30, 2023 compared to 0.33% at June 30, 2022, reflecting continued strong credit quality in our loan portfolio. To the best of our knowledge, we have provided for all losses that are both probable and reasonable to estimate at June 30, 2023 and June 30, 2022. Noninterest Income. Noninterest income was as follows: Years Ended June 30, Change 2023 2022 Amount Percent (Dollars in thousands) Service charges and fees on deposit $ 667 $ 688 $ (21 ) (3.1 )% Increase in cash surrender value of bank-owned life insurance 651 622 29 4.7 % Fees and service charges on loans 21 21 — — Unrealized gain on equity securities 4 (8 ) 12 150.0 % Realized gain (loss) on sale of securities (119 ) — (119 ) — Other 41 28 13 46.4 % Total noninterest income $ 1,265 $ 1,351 $ (86 ) (6.4 )% Noninterest income decreased $86,000, or 6.4%, to $1.3 million for the year ended June 30, 2023 from $1.4 million for the year ended June 30, 2022, primarily as a result of the loss on the sale of securities of $119,000 for the year ended June 30, 2023 compared to no loss on the sale of securities for the year ended June 30, 2022. 44 Noninterest Expense . Noninterest expense was as follows: Years Ended June 30, Change 2023 2022 Amount Percent (Dollars in thousands) Salaries and employee benefits $ 7,787 $ 6,365 $ 1,422 22.3 % Occupancy 728 710 18 2.5 % Furniture and equipment 561 592 (31 ) (5.2 )% Data processing 1,216 1,145 71 6.2 % Advertising 198 266 (68 ) (25.6 )% Federal deposit insurance premiums 182 151 31 20.5 % Directors fees 327 297 30 10.1 % Professional fees 1,029 412 617 149.8 % Insurance 165 168 (3 ) (1.8 )% Telephone, postage and supplies 316 323 (7 ) (2.2 )% Other expenses 644 585 59 10.1 % Total noninterest expense $ 13,153 $ 11,014 $ 2,139 19.4 % Noninterest expense increased $2.1 million, or 19.4%, to $13.2 million for the year ended June 30, 2023 from $11.0 million for the year ended June 30, 2022, primarily as a result of a $1.4 million, or 22.3%, increase in salaries and employee benefits and a $617,000, or 149.8%, increase in professional services primarily related to the acquisition of Regal Bancorp and Regal Bank. The increase in salaries and employee benefits represents annual merit adjustments and increased health care and pension plan costs. Income Tax Expense. The provision for income taxes was $250,000 for the year ended June 30, 2023, compared to $363,000 for the year ended June 30, 2022. Our effective tax rate was 13.9% for the year ended June 30, 2023 compared to 16.2% for the year ended June 30, 2022. The lower effective tax rates for fiscal years 2023 and 2022 reflect lower state income tax liabilities due to the application of net operating loss carryforwards and a lower state income tax rate applied to the net investment income derived by Somerset Savings Bank’s subsidiary. Market Risk General . Our most significant form of market risk is interest rate risk because, as a financial institution, the majority of our assets and liabilities are sensitive to changes in interest rates. Therefore, a principal part of our operations is to manage interest rate risk and limit the exposure of our financial condition and results of operations to changes in market interest rates. Our ALCO/Investment Committee, which consists of members of management, is responsible for evaluating the interest rate risk inherent in our assets and liabilities, for determining the level of risk that is appropriate, given our business strategy, operating environment, capital, liquidity and performance objectives, and for managing this risk consistent with the policy and guidelines approved by our Board of Directors. We currently utilize a third-party modeling program, prepared on a quarterly basis, to evaluate our sensitivity to changing interest rates, given our business strategy, operating environment, capital, liquidity and performance objectives, and for managing this risk consistent with the guidelines approved by the Board of Directors. We have sought to manage our interest rate risk in order to minimize the exposure of our earnings and capital to changes in interest rates. We have implemented the following strategies to manage our interest rate risk: • growing target deposit accounts; • utilizing our investment securities portfolio as part of our balance sheet asset and liability and interest rate risk management strategy to reduce the impact of movements in interest rates on net interest income and economic value of equity, which can create temporary valuation adjustments to equity in Accumulated Other Comprehensive Income; and • continuing to price our one-to-four family residential real estate loan products in a way that encourages borrowers to select our adjustable-rate loans as opposed to longer-term, fixed-rate loans. 45 By following these strategies, we believe that we are better positioned to react to increases and decreases in market interest rates. We generally do not engage in hedging activities, such as engaging in futures or options, or investing in high-risk mortgage derivatives, such as collateralized mortgage obligation residual interests, real estate mortgage investment conduit residual interests or stripped mortgage-backed securities. Economic Value of Equity . We compute amounts by which the net present value of our cash flow from assets, liabilities and off-balance sheet items (economic value of equity “EVE”) would change in the event of a range of assumed changes in market interest rates. We measure potential change in our EVE through the use of a financial model. This model uses a discounted cash flow analysis and an option-based pricing approach to measure the interest rate sensitivity of net portfolio value. Historically, the model estimated the economic value of each type of asset, liability and off-balance sheet contract under the assumption that the United States Treasury yield curve increases or decreases instantaneously by 100 to 300 basis points in 100 basis point increments. However, given the current level of market interest rates, an EVE calculation for an interest rate decrease of greater than 100 basis points has not been prepared. A basis point equals one-hundredth of one percent, and 100 basis points equals one percent. An increase in interest rates from 3% to 4% would mean, for example, a 100-basis point increase in the “Basis Point Change in Interest Rates” column below. The table below sets forth, as of June 30, 2023, the calculation of the estimated changes in our EVE that would result from the designated immediate changes in the United States Treasury yield curve. At June 30, 2023 Estimated Increase (Decrease) in EVE Change in Interest Rates (basis points)(1) Estimated EVE (2) Amount Percent (Dollars in thousands) +400 $ 56,497 $ (68,122 ) (54.7 )% +300 71,392 (53,226 ) (42.7 )% +200 91,564 (33,055 ) (26.5 )% +100 110,355 (14,264 ) (11.5 )% — 124,619 — — % -100 136,049 11,430 9.2 % -200 143,689 19,070 15.3 % (1) Assumes an immediate uniform change in interest rates at all maturities. (2) EVE is the discounted present value of expected cash flows from assets, liabilities and off-balance sheet contracts. The table above indicates that at June 30, 2023, in the event of an instantaneous parallel 200 basis point increase in interest rates, we would experience a 26.5% decrease in EVE, and in the event of an instantaneous 200 basis point decrease in interest rates, we would experience a 15.3% increase in EVE. 46 Change in Net Interest Income . The following table sets forth, as of June 30, 2023, the calculation of the estimated changes in our net interest income (“NII”) that would result from the designated immediate changes in the United States Treasury yield curve. At June 30, 2023 Change in Interest Rates (basis points)(1) Net Interest Income Year 1 Forecast Year 1 Change From Level Net Interest Income Year 2 Forecast Year 2 Change From Level (Dollars in thousands) +400 $ 11,278 $ (3,194 ) $ 12,915 $ (4,226 ) +300 12,075 (2,397 ) 13,991 (3,150 ) +200 13,421 (1,051 ) 16,049 (1,092 ) +100 14,754 282 17,495 354 — 14,472 — 17,141 — -100 13,857 (615 ) 15,984 (1,157 ) -200 13,170 (1,302 ) 14,634 (2,507 ) (1) Assumes an immediate uniform change in interest rates at all maturities. The table above indicates that at June 30, 2023, after one year, we would have experienced an 7.3% decrease in NII in the event of an instantaneous parallel 200 basis point increase in market interest rates and an 9.0% decrease in NII in the event of an instantaneous 200 basis point decrease in market interest rates. Certain shortcomings are inherent in the methodologies used in the above interest rate risk measurements. Modeling changes require making certain assumptions that may or may not reflect the manner in which actual yields and costs respond to changes in market interest rates. The above table assumes that the composition of our interest sensitive assets and liabilities existing at the date indicated remains constant uniformly across the yield curve regardless of the duration or repricing of specific assets and liabilities. Accordingly, although the table provides an indication of our interest rate risk exposure at a particular point in time, such measurements are not intended to and do not provide a precise forecast of the effect of changes in market interest rates on our NPV and will differ from actual results. Liquidity and Capital Resources Liquidity is the ability to fund assets and meet obligations as they come due. Our primary sources of funds consist of deposit inflows, loan repayments, and repayments from investment securities. In addition, we have the ability to collateralize borrowings in the wholesale markets or borrow advances from the Federal Home Loan Bank of New York. While maturities and scheduled amortization of loans and securities are predictable sources of funds, deposit flows and mortgage prepayments are greatly influenced by general interest rates, economic conditions and competition. Our Asset/Liability Management Committee is responsible for establishing and monitoring our liquidity targets and strategies in order to ensure that sufficient liquidity exists for meeting the borrowing needs and deposit withdrawals of our customers as well as unanticipated contingencies. We seek to maintain a ratio of liquid assets (including cash and federal funds sold) as a percentage of total deposits ranging between 4% and 30%. At June 30, 2023, this ratio was 8.4%. We believe that we have enough sources of liquidity to satisfy our short- and long-term liquidity needs as of June 30, 2023. We anticipate that we will maintain higher liquidity levels following the completion of the stock offering. We regularly adjust our investments in liquid assets based upon our assessment of: (i) expected loan demand; (ii) expected deposit flows; (iii) yields available on interest-earning deposits and securities; and (iv) the objectives of our asset/liability management program. Excess cash is invested generally in interest-earning deposits and short- and intermediate-term securities. 47 Our most liquid assets are cash and cash equivalents. The levels of these assets depend on our operating, financing and investing activities during any given period. At June 30, 2023, cash and cash equivalents totaled $42.4 million. Securities classified as available-for-sale, which provide additional sources of liquidity, totaled $36.1 million at June 30, 2023. At June 30, 2023, we had $6.7 million in outstanding loan commitments and $23.7 million of unused lines of credit. Certificates of deposit due within one year of June 30, 2023 totaled $138.4 million, or 27.5% of total deposits. If these deposits do not remain with us, we will be required to seek other sources of funds, including loan sales, other deposit products, including replacement certificates of deposit, securities sold under agreements to repurchase (repurchase agreements) and advances from the Federal Home Loan Bank of New York and other borrowing sources. Depending on market conditions, we may be required to pay higher rates on such deposits or other borrowings than we currently pay on the certificates of deposit due on or after June 30, 2023. We believe, however, based on past experience that a significant portion of such deposits will remain with us. We have the ability to attract and retain deposits by adjusting the interest rates offered. Our cash flows are derived from operating activities, investing activities and financing activities as reported in our Consolidated Statements of Cash Flows included in our Consolidated Financial Statements. Our primary investing activities are originating and purchasing loans and purchasing mortgage-backed securities. During the year ended June 30, 2023, we originated $17.7 million of loans and purchased $42.6 million of loans. We purchased $900,000 in securities classified as held to maturity and no securities classified as available for sale during the year ended June 30, 2023. Financing activities consist primarily of activity in deposit accounts. We experienced a net decrease in total deposits of $18.2 million for the year ended June 30, 2023. The decrease for the year ended June 30, 2023 resulted primarily from a $21.9 million decrease in savings accounts offset in part by an increase in certificates of deposit of $15.7 million. Deposit flows are affected by the overall level of interest rates, the interest rates and products offered by us and our local competitors, and by other factors. We have a $20.0 million borrowing with the Federal Reserve Bank under the Bank Term Funding Program at June 30, 2023. We had no outstanding borrowings at June 30, 2022. Somerset Savings Bank is subject to various regulatory capital requirements, including a risk-based capital measure. The risk-based capital guidelines include both a definition of capital and a framework for calculating risk-weighted assets by assigning balance sheet assets and off-balance sheet items to broad risk categories. At June 30, 2023, Somerset Savings Bank exceeded all regulatory capital requirements. Somerset Savings Bank is considered “well capitalized” under regulatory guidelines. See “ Regulation and Supervision—Federal Banking Regulation—Capital Requirements ” and Note 11 of the Notes to the Consolidated Financial Statements. The net proceeds from the stock offering will significantly increase our liquidity and capital resources. Over time, the initial level of liquidity will be reduced as net proceeds from the stock offering are used for general corporate purposes, including the funding of loans. Our financial condition and results of operations will be enhanced by the net proceeds from the stock offering, resulting in increased net interest-earning assets and net interest income. However, due to the increase in equity resulting from the net proceeds raised in the stock offering, our return on equity will be adversely affected following the stock offering. Recent Accounting Pronouncements For a discussion of the impact of recent accounting pronouncements, see Note 1 of the Notes to the Consolidated Financial Statements. 48 Impact of Inflation and Changing Prices Our consolidated financial statements and related notes have been prepared in accordance with generally accepted accounting principles (“GAAP”). GAAP generally requires the measurement of financial position and operating results in terms of historical dollars without consideration for changes in the relative purchasing power of money over time due to inflation. The impact of inflation is reflected in the increased cost of our operations. Unlike industrial companies, our assets and liabilities are primarily monetary in nature. As a result, changes in market interest rates have a greater impact on our performance than the effects of inflation. Item 7A . Quantitative and Qualitative Disclosures About Market Risk. For information regarding material risk, see “Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operation—Market Risk.” Item 8 . Financial Statements and Supplementary Data. The Financial Statements are included beginning on page F-1 of this annual report on Form 10-K. Item 9 . Changes in and Disagreements With Accountants on Accounting and Financial Disclosure. Not applicable.