What changed in this filing

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Item 1A. Risk Factors

2023-12-11 compared with 2022-12-09 · 118 added, 135 removed, 276 unchanged (48% of the section changed)

We assume and manage a certain degree of risk in order to conduct our business strategy.

We assume and manage a certain degree of risk in order to conduct our business.

In addition to the risk factors described below, other risks and uncertainties not specifically mentioned, or that are currently known to, or deemed to be immaterial by management, also may materially and adversely affect our financial position, results of operations and/or cash flows.

Before making an investment decision, you should carefully consider the risks described below together with all of the other information included in this Form 10-K and our other filings with the SEC.

Before making an investment decision, you should carefully consider the risks described below together with all the other information included in this Form 10-K and our other filings with the SEC.

If any of the circumstances described in the following risk factors actually occur to a significant degree, the value of our common stock could decline, and you could lose all or part of your investment.

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Our business may be adversely affected by downturns in the national economy and in the economies in our market areas.

Substantially all of our loans are to businesses and individuals in the state of Washington.

Substantially all our loans are to businesses and individuals in the state of Washington.

A return of recessionary conditions or adverse economic conditions in our local market areas of Grays Harbor, Pierce, Thurston, King, Kitsap and Lewis counties Washington, which we consider to be our primary market area, may reduce our rate of growth, affect our customers' ability to repay loans and adversely impact our business, financial condition, and results of operations.

General economic conditions, including inflation, unemployment and money supply fluctuations, also may adversely affect our profitability.

Weakness in the global economy and global supply chain issues have adversely affected many businesses operating in our markets that are dependent upon international trade, and it is not known how changes in tariffs being imposed on international trade may also affect these businesses.

Weakness in the global economy and global supply chain issues have adversely affected many businesses operating in our markets that are dependent upon international trade.

Changes in agreements or relationships between the United States and other countries may also affect these businesses.

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Many of the loans in our portfolio are secured by real estate.

Deterioration in the real estate markets where collateral for a mortgage loan is located could negatively

affect the borrower's ability to repay the loan and the value of the collateral securing the loan.

Deterioration in the real estate markets where collateral for a mortgage loan is located could negatively affect the borrower's ability to repay the loan and the value of the collateral securing the loan.

Real estate values are affected by various other factors, including changes in general or regional economic conditions, government rules or policies and natural disasters such as fires and earthquakes.

If we are required to liquidate a significant amount of collateral during a period of reduced real estate values, our financial condition and profitability could be adversely affected.

Inflation can have an adverse impact on our business and on our customers.

Inflation risk is the risk that the value of assets or income from investments will be worth less in the future as inflation decreases the value of money.

The annual inflation rate in the United States increased to 8.2% in September 2022.

As a result, the Federal Reserve has continued to increase the target federal funds rate, by 300 basis points to date in 2022, and has indicated its intention to continue to increase interest rates in an effort to combat inflation.

As inflation increases, the value of our investment securities, particularly those with longer maturities, would decrease, although this effect can be less pronounced for floating rate instruments.

In addition, inflation increases the cost of goods and services we use in our business operations, such as electricity and other utilities, which increases our non-interest expenses.

Furthermore, our customers are also affected by inflation and the rising costs of goods and services used in their households and businesses, which could have a negative impact on their ability to repay their loans with us.

External economic factors, such as changes in monetary policy and inflation and deflation, may have an adverse effect on our business financial conditions and results of operations.

Our financial condition and results of operations are affected by credit policies of monetary authorities, particularly the Federal Reserve.

Actions by monetary and fiscal authorities, including the Federal Reserve, could lead to inflation, deflation, or other economic phenomena that could adversely affect our financial performance.

Inflation has risen sharply since the end of 2021 and throughout 2022 at levels not seen for over 40 years.

Inflationary pressures, while dissipating, remained elevated throughout the first half of 2023.

The annual inflation rate in the United States decreased to 3.7% in September 2023 from its high of 7.0% in December 2021, as reported by the U.S.

Bureau of Labor Statistics.

Small to medium-sized businesses may be

impacted more during periods of high inflation as they are not able to leverage economies of scale to mitigate cost pressures compared to larger businesses.

Consequently, the ability of our business customers to repay their loans may deteriorate, and in some cases this deterioration may occur quickly, which would adversely impact our results of operations and financial condition.

Furthermore, a prolonged period of inflation could cause wages and other costs to the Company to increase, which could adversely affect our results of operations and financial condition.

Virtually all our assets and liabilities are monetary in nature.

As a result, interest rates tend to have a more significant impact on our performance than general levels of inflation or deflation.

Interest rates do not necessarily move in the same direction or by the same magnitude as the prices of goods and services.

The economic impact of the COVID-19 pandemic could continue to affect our financial condition and results of operations.

The COVID-19 pandemic caused significant economic dislocation in the United States and internationally, resulting in a slow-down in economic activity, increased unemployment levels, and disruptions in global supply chains and financial markets.

The pandemic and related government actions to curb its spread also resulted in closures of many organizations and the institution of social distancing requirements in many states and communities.

Certain industries have been particularly hard-hit, including the travel and hospitality industry, the restaurant industry and the retail industry.

In response to the pandemic, various state governments and federal agencies required lenders to provide forbearance and other relief to borrowers (e.g., waiving late payment and other fees).

Federal banking agencies encouraged financial institutions to prudently work with affected borrowers and legislation provided relief from reporting loan classifications due to modifications related to the COVID-19 outbreak.

The spread of the coronavirus also caused us to modify our business practices, including employee travel, employee work locations, and cancellation of physical participation in meetings, events and conferences.

The COVID-19 pandemic has adversely impacted the global and national economy and certain industries and geographies in which our clients operate.

Given its ongoing and dynamic nature, it is difficult to predict the full impact of the COVID-19 pandemic on the business of the Company, its clients, employees and third-party service providers.

The extent of such impact will depend on future developments, which are highly uncertain.

Additionally, the responses of various governmental and nongovernmental authorities and consumers to the pandemic may have material long-term effects on the Company and its clients which are difficult to quantify in the near-term or long-term.

Given the ongoing dynamic nature of variants of COVID-19, it is difficult to predict the full impact of the COVID-19 pandemic outbreak on our business.

As the result of the COVID-19 pandemic and the related adverse local and national economic consequences, we could be subject to a number of risks, any of which could have a material, adverse effect on our business, financial condition, liquidity, results of operations, ability to execute our growth strategy, and ability to pay dividends.

As the result of the COVID-19 pandemic and the related adverse local and national economic consequences, we could be subject to any number of risks, which could have a material, adverse effect on our business, financial condition, liquidity, results of operations, ability to execute our growth strategy, and ability to pay dividends.

These risks include, but are not limited to, changes in demand for our products and services;

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Our real estate construction and land loans expose us to significant risks.

We make real estate construction loans to individuals and builders, primarily for the construction of residential properties.

We originate these loans whether or not the collateral property underlying the loan is under contract for sale.

At September 30, 2022, construction loans totaled $255.62 million, or 20.4% of our total loan portfolio, of which $195.97 million were for residential real estate projects, $40.36 million for commercial real estate projects and $19.28 million for land development projects.

This compares to total construction loans of $233.21 million, or 21.5% of our total loan portfolio at September 30, 2021, or an increase of 9.6% during the past year.

Approximately $119.24 million of our residential construction loans at September 30, 2022 were made to finance the construction of owner-occupied homes and are structured to be converted to permanent loans at the end of the construction phase.

In general, construction lending involves additional risks because funds are advanced upon estimates of costs in relation to values associated with the completed project.

Because of the uncertainties inherent in estimating construction costs, as well as the market value of the complete project and the effects of governmental regulations on real property, it is relatively difficult to evaluate accurately the total funds required to complete a project and the completed project loan-to-value ratio.

Changes in demand for new housing and higher than anticipated building costs may cause actual results to vary significantly from those estimated.

For these reasons, this type of lending also typically

involves higher loan principal amounts and may be concentrated with a small number of builders.

A downturn in housing, or the real estate market, could increase delinquencies, defaults and foreclosures, and significantly impair the value of our collateral and our ability to sell the collateral upon foreclosure.

Some of the builders who are our customers have more than one loan outstanding with us.

Consequently, an adverse development with respect to one loan or one credit relationship can expose us to a significantly greater risk of loss.

In addition, during the term of some of our construction loans, no payment from the borrower is required since the accumulated interest is added to the principal of the loan through an interest reserve.

As a result, these loans often involve the disbursement of funds with repayment substantially dependent on the success of the ultimate project and the ability of the borrower to sell or lease the property or obtain permanent take-out financing, rather than the ability of the borrower or guarantor to repay principal and interest.

If our appraisal of the value of a completed project proves to be overstated, we may have inadequate security for the repayment of the loan upon completion of construction of the project and may incur a loss.

Because construction loans require active monitoring of the building process, including cost comparisons and on-site inspections, these loans are more difficult and costly to monitor.

Increases in market rates of interest may have a more pronounced effect on construction loans by rapidly increasing the end-purchaser's borrowing costs, thereby possibly reducing the homeowner's ability to finance the home upon completion or the overall demand for the project.

Properties under construction are often difficult to sell and typically must be completed in order to be successfully sold which also complicates the process of working our problem construction loans.

This may require us to advance additional funds and/or contract with another builder to complete construction and assume the market risk of selling the project at a future market price, which may or may not enable us to fully recover unpaid loan funds and associated construction and liquidation costs.

Furthermore, in the case of speculative construction loans, there is the added risk associated with identifying an end-purchaser for the finished project.

At September 30, 2022, $12.25 million of our construction portfolio was comprised of speculative one- to four-family construction loans.

We also make land loans for the acquisition of land upon which the purchaser can then build or make improvements necessary to build or to use for recreational purposes.

At September 30, 2022, land loans totaled $26.85 million, or 2.1% of our total loan portfolio.

Loans on land under development or held for future construction as well as land loans made to individuals for the future construction of a residence also pose additional risk because the length of time from financing to completion of a development project is significantly longer than for a traditional construction loan.

This makes them more susceptible to declines in real estate values, declines in overall economic conditions which may delay the development of the land and changes in the political landscape that could affect the permitted and intended use of the land being financed, and the potential illiquid nature of the collateral.

In addition, during this long period of time from financing to completion, the collateral often does not generate any cash flow to support the debt service.

At September 30, 2022, all construction loans were performing in accordance to their terms and $450,000 of land loans were non-performing.

A material increase in our non-performing construction or land loans could have a material adverse effect on our financial condition and results of operation.

We specialize in real estate construction loans for individuals and builders, mainly focusing on residential property development.

Our loans are initiated regardless of whether the property used as collateral is under a sales contract.

As of September 30, 2023, our construction loans totaled $273.84 million, comprising 19.2% of our overall loan portfolio.

These were allocated as follows:

$203.94 million for residential real estate projects, $51.06 million for commercial projects, and $18.84 million for land development.

Comparatively, this marked a 7.1% increase from the previous year, where construction loans accounted for $255.62 million or 20.4% of our total loan portfolio as of September 30, 2022.

Notably, approximately $129.70 million of our residential construction loans are structured to convert into permanent loans upon construction completion.

Construction lending involves inherent risks due to estimating costs in relation to project values.

Uncertainties in construction costs, market value, and regulatory impacts make accurately evaluating total project funds and loan-to-value ratios challenging.

Factors like shifts in housing demand and unexpected building costs can significantly deviate actual results from estimates.

Additionally, this type of lending often involves higher principal amounts and might be concentrated among a few builders.

A downturn in housing or real estate markets could escalate delinquencies, defaults, foreclosures, and compromise collateral value.

Some builders have multiple outstanding loans, meaning problems with one loan pose a substantial risk to us.

Moreover, certain construction loans do not require borrower payments during the term, accumulating interest into the principal.

Thus, repayment depends heavily on project success and the borrower's ability to sell, lease, or secure permanent financing, rather than their ability to repay principal and interest directly.

Misjudging a project's value could leave us with inadequate security and potential losses upon completion.

Actively monitoring construction loans, involving cost comparisons and on-site inspections, adds complexity and cost.

Market interest rate hikes also might significantly impact construction loans, affecting end-purchaser borrowing costs, potentially reducing demand or the homeowner's ability to finance the completed home.

Further, properties under construction are hard to sell and

often need completion for successful sales, complicating problem loan resolution.

This might require additional funds or engaging another builder, incurring additional costs and market risks.

Moreover, speculative construction loans pose additional risks, especially regarding finding end-purchasers for finished projects.

As of September 30, 2023, $17.10 million of our construction portfolio consisted of speculative one- to four-family construction loans.

We also offer land loans for land acquisition, which can be used for building or recreational purposes.

As of September 30, 2023, land loans accounted for $26.73 million, or 1.9% of our total loan portfolio.

However, loans for land development or future construction carry additional risks due to longer development periods, vulnerability to real estate value declines, economic fluctuations delaying projects, political changes affecting land use, and the collateral's illiquid nature.

During this extended financing-to-completion period, the collateral often generates no cash flow.

Although as of September 30, 2023, all construction and land loans were performing according to their terms, a significant rise in non-performing construction or land loans could materially impact our financial status and operations.

Our emphasis on commercial real estate lending may expose us to increased lending risks.

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Such balloon payments may require the borrower to either sell or refinance the underlying property in order to make the payment, which may increase the risk of default or non-payment.

A secondary market for most types of commercial real estate loans is not readily liquid, so we have less opportunity to mitigate credit risk by selling part or all of our interest in these loans.

A secondary market for most types of commercial real estate loans is not readily liquid, so we have less opportunity to mitigate credit risk by selling part or all our interest in these loans.

As a result of these characteristics, if we foreclose on a commercial real estate loan, our holding period for the collateral typically is longer than for one- to four-family residential mortgage loans because there are fewer potential purchasers of the collateral.

Accordingly, charge-offs on commercial real

estate loans may be larger as a percentage of the total principal outstanding than those incurred with our residential or consumer loan portfolios.

Accordingly, charge-offs on commercial real estate loans may be larger as a percentage of the total principal outstanding than those incurred with our residential or consumer loan portfolios.

The level of our commercial real estate loan portfolio may subject us to additional regulatory scrutiny.

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The particular focus of the guidance is on exposure to commercial real estate loans that are dependent on the cash flow from the real estate held as collateral and that are likely to be at greater risk to conditions in the commercial real estate market (as opposed to real estate collateral held as a secondary source of repayment or as an abundance of caution).

The purpose of the guidance is to guide banks in developing risk management practices and capital levels commensurate with the level and nature of real estate concentrations.

The purpose of the guidance is to guide banks in developing

risk management practices and capital levels commensurate with the level and nature of real estate concentrations.

The guidance states that management should employ heightened risk management practices including board and management oversight and strategic planning, development of underwriting standards, risk assessment and monitoring through market analysis and stress testing.

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Real estate lending is generally considered to be collateral based lending with loan amounts based on predetermined loan to collateral values and liquidation of the underlying real estate collateral being viewed as the primary source of repayment in the event of borrower default.

Our commercial business loans are primarily made based on the cash flow of the borrower and secondarily on the underlying collateral provided by the borrower.

Commercial business loans are primarily made based on the cash flow of the borrower and secondarily on the underlying collateral provided by the borrower.

The borrowers' cash flow may be unpredictable, and collateral securing these loans may fluctuate in value.

Although commercial business loans are often collateralized by equipment, inventory, accounts receivable, or other business assets, the liquidation of collateral in the event of default is often an insufficient source of repayment because accounts receivable may be uncollectible and inventories may be obsolete or of limited use, among other things.

Accordingly, the repayment of commercial business loans depends primarily on the cash flow and credit worthiness of the borrower and secondarily on the underlying collateral provided by the borrower.

Our business may be adversely affected by credit risk associated with residential property.

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This type of lending is generally sensitive to regional and local economic conditions that significantly impact the ability of borrowers to meet their loan payment obligations, making loss levels difficult to predict.

Recessionary conditions or declines in the volume of single-family real estate and/or the sales prices as well as elevated unemployment rates may result in higher than expected loan delinquencies or problem assets, and a decline in demand for our products and services.

Higher market interest rates, recessionary conditions or declines in the volume of single-family real estate and/or the sales prices as well as elevated unemployment rates may result in higher than expected loan delinquencies or problem assets, and a decline in demand for our products and services.

These potential negative events may cause us to incur losses, adversely affect our capital and liquidity and damage our financial condition and business operations.

Further, a decline in residential real estate values resulting from a downturn in the Washington housing market may reduce the value of the real estate collateral securing these types of loans and increase our risk of loss if borrowers default on their loans.

Many of our residential mortgage loans are secured by liens on mortgage properties in which the borrowers have little or no equity because either we originated the loan with a relatively high combined loan-to-value ratio or because of the decline in home values in our market areas subsequent to when the loans were originated.

Many of our residential mortgage loans are secured by properties in which the borrowers have little or no equity because either we originated the loan with a relatively high combined loan-to-value ratio or because of the decline in home values in our market areas subsequent to when the loans were originated.

Residential loans with combined higher loan-to-value ratios will be more sensitive to declining property values than those with lower combined loan-to-value ratios and therefore may experience a higher incidence of default and severity of losses.

In addition, if the borrowers sell their homes, such borrowers may be unable to repay their loans in full from the sale proceeds.

Further, a significant amount of our home equity lines of credit consist of second mortgage loans.

repay the first mortgage loan and such repayment and the costs associated with a foreclosure are justified by the value of the property.

Further, a significant amount of our home equity lines of credit consists of second mortgage loans.

For those home equity lines secured by a second mortgage, it is unlikely that we will be successful in recovering all or a portion of our loan proceeds in the event of default unless we are prepared to repay the first mortgage loan, and such repayment and the costs associated with a foreclosure are justified by the value of the property.

For these reasons, we may experience higher rates of delinquencies, default and losses on our residential loans.

Our allowance for loan losses may prove to be insufficient to absorb losses in our loan portfolio.

Our allowance for loan losses may not be sufficient to absorb losses in our loan portfolio.

Lending money is a substantial part of our business, and each loan carries a certain risk that it will not be repaid in accordance with its terms or that any underlying collateral will not be sufficient to assure repayment.

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• changes in economic and industry conditions.

We maintain an allowance for loan losses, which is a reserve established through a provision for loan losses charged against operating income, which we believe is appropriate to provide for probable losses in our loan portfolio.

The amount of this allowance is determined by our management through periodic comprehensive reviews and consideration of several factors, including, but not limited to:

We maintain an allowance for loan losses, which is a reserve established through a provision for loan losses charged against operating income, that we believe is appropriate to provide for probable losses in our loan portfolio.

The appropriate

level of the ALL is determined by management through periodic comprehensive reviews and consideration of several factors, including, but not limited to:

• an ongoing review of the quality, size and diversity of the loan portfolio;

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• regulatory requirements and expectations.

The determination of the appropriate level of the allowance for loan losses inherently involves a high degree of subjectivity and requires us to make various assumptions and judgments about the collectability of our loan portfolio, including the creditworthiness of our borrowers and the value of the real estate and other assets serving as collateral for the repayment of many of our loans.

In determining the amount of the allowance for loan losses, we review our loans and the loss experience and evaluate economic conditions and make significant estimates of current credit risks and future trends, all of which may undergo material changes.

If our estimates are incorrect, the allowance for loan losses may not be sufficient to cover losses inherent in our loan portfolio, resulting in the need for increases in our allowance for loan losses through the provision for losses on loans which is charged against income.

Management also recognizes that significant new growth in loan portfolios, new loan products and the refinancing of existing loans can result in portfolios comprised of unseasoned loans that may not perform in a historical or projected manner and will increase the risk that our allowance may be insufficient to absorb losses without significant additional provisions.

Further, the FASB has adopted a new accounting standard that will be effective for our fiscal year beginning October 1, 2023.

This standard, referred to as CECL will require financial institutions to determine periodic estimates of lifetime expected credit losses on loans, and recognize the expected credit losses as allowances for credit losses.

This will change the current method of providing allowances for credit losses that are probable.

We anticipate that our allowance for loan losses will increase as a result of the implementation of CECL;

however, until our evaluation is complete, the magnitude of the increase will be unknown.

Deterioration in economic conditions affecting borrowers, new information regarding existing loans, identification of additional problem loans and other factors, both within and outside of our control, may also require an increase in the allowance for loan losses.

In addition, bank regulatory agencies periodically review our allowance for loan losses and may require an increase in the provision for possible loan losses or the recognition of further loan charge-offs, based on judgments different from those of management.

If charge-offs in future periods exceed the allowance for loan losses, we will need additional provisions to replenish the allowance for loan losses.

The determination of the appropriate level of the ALL inherently involves a high degree of subjectivity and requires us to make various assumptions and judgments about the collectability of our loan portfolio, including the creditworthiness of our borrowers and the value of the real estate and other assets serving as collateral for the repayment of many of our loans.

If our estimates are incorrect, the ALL may not be sufficient to cover losses inherent in our loan portfolio, resulting in the need for increases in the ALL through the provision for losses on loans which is charged against income.

In addition, deterioration in economic conditions affecting borrowers, new information regarding existing loans, identification of additional problem loans and other factors, both within and outside our control, may also require an increase in the allowance for loan losses.

Management recognizes that significant new growth in loan portfolios, new loan products and the refinancing of existing loans can result in portfolios comprised of unseasoned loans that may not perform in a historical or projected manner and will increase the risk that the ALL may be sufficient to absorb losses.

Bank regulatory agencies also periodically review our ALL and may require an increase in the provision for possible loan losses or the recognition of further loan charge-offs, based on judgments different from those of management.

If charge-offs in future periods exceed the allowance for loan losses, we will need additional provisions to replenish the ALL.

Any additional provisions will result in a decrease in net income and possibly capital, and may have a material adverse effect on our financial condition and results of operations.

Finally, beginning on October 1, 2023, the Company adopted the CECL standard to determine estimates of lifetime expected credit losses on loans and recognize the expected credit losses as allowances for credit losses at inception of the loan.

The adoption of CECL will change the allowance calculation methodology from a historical incurred loss model to an expected future loss model.

The adjustment recorded upon our adoption of the CECL standard was not significant to the overall allowance for credit losses ("ACL") as compared to the ALL at September 30, 2023.

If our non-performing assets increase, our earnings will be adversely affected.

At September 30, 2022, our non-performing assets (which consist of non-accruing loans, accruing loans 90 days or more past due, non-accrual investment securities, and OREO and other repossessed assets) were $2.17 million, or 0.12% of total assets.

At September 30, 2023, our non-performing assets (which consisted solely of non-accruing loans, non-accrual investment securities, and OREO) were $1.60 million, or 0.09% of total assets.

Our non-performing assets adversely affect our net income in various ways:

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• We must provide for probable loan losses through a current period charge to the provision for loan losses.

• Non-interest expense increases when we must write down the value of properties in our OREO portfolio to reflect changing market values.

• Non-interest expense increases when we must write down the value of OREO properties, if any, to reflect changing market values.

• Non-interest income decreases when we must recognize other-than-temporary impairment on non-performing investment securities.

• There are legal fees associated with the resolution of problem assets, as well as carrying costs, such as taxes, insurance, and maintenance costs related to our OREO.

• There are legal fees associated with the resolution of problem assets, as well as carrying costs, such as taxes, insurance, and maintenance costs related to OREO.

• The resolution of non-performing assets requires the active involvement of management, which can distract them from more profitable activities.

If additional borrowers become delinquent and do not pay their loans and we are unable to successfully manage our non-performing assets, our losses and troubled assets could increase significantly, which could have a material adverse effect on our financial condition and results of operations.

In addition to the non-performing loans, there were $2.47 million in loans classified as performing TDRs at September 30, 2022.

If additional borrowers become delinquent and we are unable to successfully manage our non-performing assets, our losses and troubled assets could increase significantly, which could have a material adverse effect on our financial condition and results of operations.

Risk Related to our Business Strategy

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As part of our general growth strategy, on October 1, 2018, we completed the acquisition of South Sound Bank, a Washington-state chartered bank, headquartered in Olympia, Washington.

Although our business strategy emphasizes organic expansion, we continue, from time to time in the ordinary course of business, to engage in preliminary discussions with potential acquisition targets.

There can be no assurance that, in the future, we will successfully identify suitable acquisition candidates, complete acquisitions and successfully integrate acquired operations into our existing operations or expand into new markets.

Although our business strategy emphasizes organic expansion, from time to time in the ordinary course of business, we engage in preliminary discussions with potential acquisition targets.

There can be no assurance that we will successfully identify suitable acquisition candidates, complete acquisitions or successfully integrate acquired operations into our existing operations or expand into new markets.

The consummation of any future acquisitions may dilute shareholder value or may have an adverse effect upon our operating results while the operations of the acquired business are being integrated into our operations.

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This integration process is complicated and time consuming and can also be disruptive to the customers of the acquired business.

If the integration process is not conducted successfully and with minimal adverse effect on the acquired business and its customers, we may not be able to realize the anticipated economic benefits of particular acquisitions within the expected time frame, and we may lose customers or employees of the acquired business.

If the integration process is not conducted successfully and with minimal adverse effect on the acquired business and its customers, we may not be able to realize the anticipated economic benefits of the acquisition within the expected time frame, and we may lose customers or employees of the acquired business.

We may also experience greater than anticipated customer losses even if the integration process is successful;

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Our earnings and cash flows are largely dependent upon our net interest income.

Interest rates are highly sensitive to many factors that are beyond our control, including general economic conditions and policies of various governmental and regulatory agencies and, in particular, the Federal Reserve Board.

Since March 2022, in response to inflation, the Federal Open

Market Committee ("FOMC") of the Federal Reserve has increased the target range for the federal funds rate by 300 basis, including 150 basis points during the third calendar quarter of 2022, to a range of 3.00% to 3.25% as of September 30, 2022.

As it seeks to control inflation without creating a recession, the FOMC has indicated further increases are to be expected this year.

If the FOMC further increased the targeted federal funds rates, overall interest rates will likely continue to rise, which will positively impact our net interest income but may negatively impact both the housing market by reducing refinancing activity and new home purchases and the U.S.

Since March 2022, in response to inflation, the Federal Open Market Committee ("FOMC") of the Federal Reserve has increased the target range for the federal funds rate by 525 basis points, including 225 basis points during the 2023 fiscal year, to a range of 5.25% to 5.50% as of September 30, 2023.

The FOMC has paused increases to the target federal funds rate but has not ruled out future increases and hinted that rates will remain higher for longer.

If the FOMC further increases the targeted federal funds rate, overall interest rates will likely rise, which will negatively impact our net interest income and may negatively impact both the housing market by reducing refinancing activity and new home purchases and the U.S.

In addition, inflationary pressures will increase our operational costs and could have a significant negative effect on our borrowers, especially our business borrowers, and the values of collateral securing loans which could negatively affect our financial performance.

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A sustained increase or decrease in market interest rates could adversely affect our earnings.

As is the case with many financial institutions, our emphasis on increasing the development of core deposits, those deposits bearing no or a relatively low rate of interest with no stated maturity, has resulted in our having a significant amount of these deposits bearing a relatively low rate of interest and having a shorter duration than our assets.

As is the case with many financial institutions, our emphasis on increasing core deposits, those deposits bearing no or a relatively low rate of interest with no stated maturity, has resulted in our having a significant amount of these deposits which have a shorter duration than our assets.

At September 30, 2023, we had $251.74 million in certificates of deposit that mature within one year and $1.26 billion in non-interest bearing, NOW checking, savings and money market accounts.

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As a result, these loans may experience a higher rate of default in a rising interest rate environment.

Changes in interest rates also affect the value of our interest-earning assets and, in particular, our investment securities portfolio.

Changes in interest rates also affect the value of our investment securities available for sale.

Generally, the fair value of fixed-rate securities fluctuates inversely with changes in interest rates.

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Quantitative and Qualitative Disclosures About Market Risk" for additional information about our interest rate risk management.

We may incur losses on our securities portfolio as a result of changes in interest rates.

Our securities portfolio may be negatively impacted by fluctuations in market value and interest rates.

Factors beyond our control can significantly influence the fair value of securities in our portfolio and can cause potential adverse changes to the fair value of these securities.

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The sale of residential mortgage loans to Freddie Mac has historically provided a significant portion of our non-interest income.

Any future changes in their program, our eligibility to participate in such program, the criteria for loans to be accepted or laws that significantly affect the activity of Freddie Mac could, in turn, materially adversely affect our results of operations if we could not find other purchasers.

Future changes in Freddie Mac's program, including our eligibility to participate, the criteria for loans to be accepted or laws that significantly affect the activity of Freddie Mac could materially adversely affect our results of operations if we could not find other purchasers.

Mortgage banking is generally considered a volatile source of income because it depends largely on the level of loan volume which, in turn, depends largely on prevailing market interest rates.

In a rising or higher interest rate environment, the demand for mortgage loans, particularly refinancing of existing mortgage loans, tends to fall and our originations of mortgage loans may decrease, resulting in fewer loans that are available to be sold.

In a rising or higher interest rate environment, the demand for mortgage loans, particularly refinancing of existing mortgage loans, tends to fall and

our originations of mortgage loans may decrease, resulting in fewer loans that are available to be sold.

This would result in a decrease in mortgage revenues and a corresponding decrease in non-interest income.

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Certain significant federal and state banking regulations that affect us are described in this report under the heading "Item 1.

Business-How We Are Regulated." These regulations, along with the currently existing tax, accounting, securities, insurance, and monetary laws, regulations, rules, standards, policies, and interpretations control the methods by which financial institutions conduct business, implement strategic initiatives and tax compliance, and govern financial reporting and disclosures.

Business - How We Are Regulated." These regulations, along with existing tax, accounting, securities, insurance, and monetary laws, regulations, rules, standards, policies, and interpretations control the methods by which financial institutions conduct business, implement strategic initiatives and tax compliance, and govern financial reporting and disclosures.

These laws, regulations, rules, standards, policies, and interpretations are constantly evolving and may change significantly over time.

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Failure to comply with these regulations could result in fines or sanctions and limit our ability to get regulatory approval of acquisitions.

Recently, several banking institutions have received large fines for non-compliance with these laws and regulations.

While we have developed policies and procedures designed to assist in compliance with these laws and regulations, no assurance can be given that these policies and procedures will be effective in preventing violations of these laws and regulations.

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Any of these results could have a material adverse effect on our business, financial condition, results of operations and growth prospects.

Climate change and related legislative and regulatory initiatives may materially affect our business and results of operations.

The effects of climate change continue to create an alarming level of concern for the state of the global environment.

As a result, the global business community has increased its political and social awareness surrounding the issue, and the United States has entered into international agreements to reduce global temperatures, such as reentering the Paris Agreement.

Further, the U.S.

Congress, state legislatures and federal and state regulatory agencies continue to propose numerous initiatives to supplement the global effort to combat climate change.

Similar and even more expansive initiatives are expected under the current administration, including potentially increasing supervisory expectations with respect to banks’ risk management practices, accounting for the effects of climate change in stress testing scenarios and systemic risk assessments, revising expectations for credit portfolio concentrations based on climate-related factors and encouraging investment by banks in climate-related initiatives and lending to communities disproportionately impacted by the effects of climate change.

empirical data surrounding the credit and other financial risks posed by climate change render it difficult, or even impossible, to predict how specifically climate change may impact our financial condition and results of operations;

however, the physical effects of climate change may also directly impact us.

Specifically, unpredictable and more frequent weather disasters may adversely impact the real property, and/or the value of the real property, securing the loans in our portfolios.

Additionally, if insurance obtained by our borrowers is insufficient to cover any losses sustained to the collateral, or if insurance coverage is otherwise unavailable to our borrowers, the collateral securing our loans may be negatively impacted by climate change, natural disasters and related events, which could impact our financial condition and results of operations.

Further, the effects of climate change may negatively impact regional and local economic activity, which could lead to an adverse effect on our customers and impact the communities in which we operate.

Overall, climate change, its effects and the resulting, unknown impact could have a material adverse effect on our financial condition and results of operations.

Risks Related to Cybersecurity, Third-Parties and Technology

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Our future success will depend, in part, on our ability to keep pace with the technological changes and to use technology to satisfy and grow customer demand for our products and services and to create additional efficiencies in our operations.

We expect that we will need to make substantial investments in our technology and information systems to compete effectively and to stay current with technological changes.

Some of our competitors have substantially greater resources to invest in technological improvements and will be able to invest more heavily in developing and adopting new technologies, which may put us at a competitive disadvantage.

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Security breaches in our internet banking activities could further expose us to possible liability and damage our reputation.

Increases in criminal activity levels and sophistication, advances in computer capabilities, new discoveries, vulnerabilities in third-party technologies (including browsers and operating systems) or other developments could result in a compromise or breach of the technology, processes and controls that we use to prevent fraudulent transactions and to protect data about us, our clients and underlying transactions.

Increases in criminal activity levels and sophistication, advances in computer capabilities, vulnerabilities in third-party technologies (including browsers and operating systems) or other developments could result in a compromise or breach of the technology, processes and controls that we use to prevent fraudulent transactions and to protect data about us, our clients and underlying transactions.

Any compromise of our security could deter customers from using our internet banking services that involve the transmission of confidential information.

We rely on standard internet security systems to provide the security and authentication necessary to effect secure transmission of data.

Although we have developed and continue to invest in systems and processes that are designed to detect and prevent security breaches and cyber attacks and periodically test our security, these precautions may not protect our systems from compromises or breaches of our security measures, and could result in losses to us or our customers, our loss of business and/or customers, damage to our reputation, the incurrence of additional expenses, disruption to our business, our inability to grow our online services or other businesses, additional regulatory scrutiny or penalties, or our exposure to civil litigation and possible financial liability, any of which could have a material adverse effect on our business, financial condition and results of operation.

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While the Company selects third-party vendors carefully, it does not control their actions.

If our third-party providers encounter difficulties, including those resulting from breakdowns, or other disruptions in communication services provided by a vendor, failure of a vendor to handle current or higher transaction volumes, cyber-attacks and security breaches or if we otherwise have difficulty in communicating with them, our ability to adequately process and account for transactions could be affected, and our ability to deliver products and services to our customers and otherwise conduct business operations could be adversely impacted.

higher transaction volumes, cyber-attacks and security breaches or if we otherwise have difficulty in communicating with them, our ability to adequately process and account for transactions could be affected, and our ability to deliver products and services to our customers and otherwise conduct business operations could be adversely impacted.

Replacing these third-party vendors could also entail significant delay and expense.

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Any of these occurrences could have a material adverse effect on our business financial condition and results of operations.

The Board of Directors oversees the risk management process, including the risk of cybersecurity, and engages with management on cybersecurity issues.

Our business may be adversely affected by an increasing prevalence of fraud and other financial crimes.

As a bank, we are susceptible to fraudulent activity that may be committed against us or our customers which may result in financial losses or increased costs to us or our customers, disclosure or misuse of our information or our customers' information, misappropriation of assets, privacy breaches against our customers, litigation or damage to our reputation.

We are susceptible to fraudulent activity that may be committed against us or our customers which may result in financial losses or increased costs to us or our customers, disclosure or misuse of our information or our customers' information, misappropriation of assets, privacy breaches against our customers, litigation or damage to our reputation.

Such fraudulent activity may take many forms, including check fraud, electronic fraud, wire fraud, phishing, social engineering and other dishonest acts.

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While we have policies and procedures designed to prevent such losses, there can be no assurance that such losses will not occur.

Managing reputational risk is important to attracting and maintaining customers, investors and employees.

Threats to our reputation can come from many sources, including adverse sentiment about financial institutions generally, unethical practices, employee misconduct, failure to deliver minimum standards of service or quality, compliance deficiencies and questionable or fraudulent activities of our customers.

We have policies and procedures in place to protect our reputation and promote ethical conduct, but these policies and procedures may not be fully effective.

Negative publicity regarding our business, employees, or customers, with or without merit, may result in the loss of customers, investors and employees, costly litigation, a decline in revenues and increased governmental regulation.

We rely on other companies to provide key components of our business infrastructure.

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We may experience future goodwill impairment, which could reduce our earnings.

We performed our test for goodwill impairment for fiscal year 2022, and the test concluded that recorded goodwill was not impaired.

We performed our test for goodwill impairment for fiscal year 2023 with the assistance of an independent third-party firm specializing in goodwill impairment valuations for financial institutions.

Based on the assessment, the Company determined that it is not "more likely than not" that the Company's fair value is less then it carry amount, and, therefore, goodwill was not impaired.

Our test of goodwill for potential impairment is based on a qualitative assessment by management that takes into consideration macroeconomic conditions, industry and market conditions, cost or margin factors, financial performance and share price.

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Other Risks Related to Our Business

Managing reputational risk is important to attracting and maintaining customers, investors and employees.

We have policies and procedures in place to protect our reputation and promote ethical conduct, but these policies and procedures may not be fully effective.

Ineffective liquidity management could adversely affect our financial results and condition.

Liquidity is essential to our business.

We rely on a number of different sources in order to meet our potential liquidity demands.

We rely on several sources in order to meet our potential liquidity demands.

Our primary sources of liquidity are increases in deposit accounts, cash flows from loan payments and our securities portfolio.

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Although we have historically been able to replace maturing deposits and borrowings if desired, we may not be able to replace such funds in the future if, among other things, our financial condition, the financial condition of the FHLB or FRB, or market conditions change.

Factors that could detrimentally impact our access to liquidity sources include a decrease in the level of our business activity as a result of a downturn in the Washington markets in which our loans and deposits are concentrated, negative operating results, or adverse regulatory action against us.

Factors that could detrimentally impact our access to liquidity sources include a decrease in the level of our business activity due to a downturn in the Washington markets in which our loans and deposits are concentrated, negative operating results, or adverse regulatory action against us.

Our ability to borrow could also be impaired by factors that are not specific to us, such as a disruption in the financial markets or negative views and expectations about the prospects for the financial services industry or deterioration in credit markets.

Any decline in available funding in amounts adequate to finance our activities or on terms which are acceptable could adversely impact our ability to originate loans, invest in securities, meet our expenses, or fulfill obligations such as repaying our borrowings or meeting deposit withdrawal demands, any of which

could, in turn, have a material adverse effect on our business, financial condition and results of operations.

Management’s Discussion and Analysis of Financial Condition and Results of Operations — Liquidity” of this Form 10-K.

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Our success depends to a significant degree upon our ability to attract and retain qualified management, loan origination, finance, administrative, marketing and technical personnel and upon the continued contributions of our management and personnel.

In particular, our success has been and continues to be highly dependent upon the abilities of key executives, including our Chief Executive Officer (who is retiring in January 2023) and certain other employees.

In particular, our success has been and continues to be highly dependent upon the abilities of key executives, including our Chief Executive Officer and certain other employees.

In addition, our success has been and continues to be highly dependent upon the services of our directors, and we may not be able to identify and attract suitable candidates to replace such directors.

We will be required to transition from the use of the LIBOR interest rate index in the future.

Some of our loans are indexed to LIBOR to calculate the loan interest rate.

The continued availability of the LIBOR index is not guaranteed after 2022 and by June 2023, LIBOR is scheduled to be eliminated entirely.

We cannot predict whether and to what extent banks will continue to provide LIBOR submissions to the administrator of LIBOR or whether any additional reforms to LIBOR may be enacted.

At this time, no consensus exists as to what rate or rates may become acceptable alternatives to LIBOR (with the exception of overnight repurchase agreements, which are expected to be based on the Secured Overnight Financing Rate ("SOFR").

Uncertainty as to the nature of alternative reference rates and as to potential changes or other reforms to LIBOR may adversely affect LIBOR rates and the value of LIBOR-based loans, and to a lesser extent securities in our portfolio, and may impact the availability and cost of hedging instruments and borrowings.

The language in our LIBOR-based contracts and financial instruments has developed over time and may have various events that trigger when a successor rate to the designated rate would be selected.

If a trigger is satisfied, contracts and financial instruments may give the calculation agent discretion over the substitute index or indices for the calculation of interest rates to be selected.

The implementation of a substitute index or indices for the calculation of interest rates under our loan agreements with our borrowers may result in our incurring significant expenses in implementing the transition, may result in reduced loan balances if borrowers do not accept the substitute index or indices, and may result in disputes or litigation with customers over the appropriateness or comparability to LIBOR of the substitute index or indices, which could have an adverse effect on our results of operations.

We will transition to

SOFR as a substitute for LIBOR in June of 2023.

As of September 30, 2022, there were $2.92 million of loans in our portfolio tied to LIBOR.

Societal responses to climate change could adversely affect our business and performance, including indirectly through impacts on our customers.

Concerns over the long-term impacts of climate change have led and will continue to lead to governmental efforts around the world to mitigate those impacts.

Consumers and businesses also may change their behavior on their own as a result of these concerns.

We and our customers will need to respond to new laws and regulations as well as consumer and business preferences resulting from climate change concerns.

We and our customers may face cost increases, asset value reductions and operating process changes.

The impact on our customers will likely vary depending on their specific attributes, including reliance on or role in carbon intensive activities.

For example, residential or commercial construction projects may be impacted as builders may incur additional expenses to comply with possible standards of increasing green space or reducing emissions.

Possible requirements may lengthen the required time to complete construction projects.

If requirements are not satisfied, conversion of the loan from the construction phase to the permanent phase may be significantly delayed.

Among the impacts to us could be a drop in demand for our products and services, particularly in certain industry sectors as well as possibly having a negative impact on our cash flow.

In addition, we could face reductions in creditworthiness on the part of some customers or in the value of assets securing loans.

Our efforts to take these risks into account in making lending and other decisions, including by increasing our business with climate-friendly companies, may not be effective in protecting us from the negative impact of new laws and regulations or changes in consumer or business behavior.

Unresolved Staff Comments

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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-K

Item 1A. Risk Factors