What changed in this filing

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Item 1A. Risk Factors

2024-12-11 compared with 2023-12-11 · 133 added, 145 removed, 249 unchanged (53% of the section changed)

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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.

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.

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

A deterioration in economic conditions in the market areas we serve as a result of inflation, a recession, the effects of COVID-19 variants or other factors could result in the following consequences, any of which could have a materially adverse impact on our business, financial condition and results of operations:

Changes in agreements or relationships between the United States and other countries may further impact these businesses and, by extension, our operations.

A deterioration in economic conditions in the market areas we serve as a result of inflation, a recession, war, geopolitical conflicts, adverse weather or other factors could result in the following consequences, any of which could have a materially adverse impact on our business, financial condition and results of operations:

• loan delinquencies, problem assets and foreclosures may increase;

• we may increase our allowance for loan losses;

• we may increase our ACL;

• the sale of foreclosed assets may slow;

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• the net worth and liquidity of loan guarantors may decline, impairing their ability to honor commitments to us;

• the amount of our low-cost or non-interest bearing deposits may decrease and the composition of our deposits may be adversely affected.

• reduction in our low-cost or noninterest-bearing deposits.

A decline in local economic conditions may have a greater effect on our earnings and capital than on the earnings and capital of larger financial institutions whose real estate loans are geographically diverse.

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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.

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.

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

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

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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.

Inflationary pressures dissipated throughout fiscal 2024, with the annual inflation rate in the United States decreasing to 2.4% during September 2024 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.

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, 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.

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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 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 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;

increased loan losses or other impairments in our loan portfolios and increases in our allowance for loan losses;

a decline in collateral for our loans, especially real estate;

unanticipated unavailability of employees;

increased cyber security risks as employees work remotely;

a prolonged weakness in economic conditions resulting in a reduction of future projected earnings could necessitate a valuation allowance against our current outstanding deferred tax assets;

a triggering event leading to impairment testing on our goodwill or core deposit and customer relationships intangibles, which could result in an impairment charge;

and increased costs as the Company and our regulators, customers and vendors adapt to evolving pandemic conditions.

Risks Related to our Lending Activities

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$172.00 million for residential real estate projects, $29.46 million for commercial projects, and $17.74 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 $132.10 million of our residential construction loans are structured to convert into permanent loans upon construction completion.

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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.

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.

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As of September 30, 2024, land loans accounted for $29.37 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.

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.

As of September 30, 2024, all our 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 condition and results of operations.

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

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Collateral evaluation and financial statement analysis in these types of loans requires a more detailed analysis at the time of loan underwriting and on an ongoing basis.

In our primary market of western Washington, a downturn in the real estate market could increase loan delinquencies, defaults and foreclosures, and significantly impair the value of our collateral and our ability to sell the collateral upon foreclosure.

Many of our commercial borrowers have more than one loan outstanding with us.

In addition, many of our commercial borrowers 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.

At September 30, 2023, we had $568.27 million of commercial real estate mortgage loans, representing 39.8% of our total loan portfolio.

At September 30, 2024, we had $599.22 million of commercial real estate loans, representing 39.6% of our total loan portfolio.

These loans typically involve higher principal amounts than other types of loans, and repayment is dependent upon income generated, or expected to be generated, by the property securing the loan in amounts sufficient to cover operating expenses and debt service, which may be adversely affected by changes in the economy or local market conditions.

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In addition, many of our commercial real estate loans are not fully amortizing and contain large balloon payments upon maturity.

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.

Such balloon payments may require the borrower to either sell or refinance the underlying property 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 our interest in these loans.

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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.

The FDIC, the Federal Reserve and the Office of the Comptroller of the Currency have promulgated joint guidance on sound risk management practices for financial institutions with concentrations in commercial real estate lending.

Under this guidance, a financial institution that, like us, is actively involved in commercial real estate lending should perform a risk assessment to identify concentrations.

A financial institution may have a concentration in commercial real estate lending if, among other factors (i) total reported loans for construction, land development and other land represent 100% or more of total capital, or (ii) total reported loans secured by multi-family and non-farm non-residential properties, loans for construction, land development and other land, and loans otherwise sensitive to the general commercial real estate market, including loans to commercial real estate related entities, represent 300% or more of total capital.

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 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.

We have concluded that we have a concentration in commercial real estate lending because our balance in commercial real estate loans (including owner-occupied loans) at September 30, 2023 represents more than 300% of total capital.

While we believe that we have implemented policies and procedures with respect to our commercial real estate loan portfolio consistent with this guidance, bank regulators could require us to implement additional policies and procedures consistent with their interpretation of the guidance that may result in additional costs to us.

Repayment of our commercial business loans is often dependent on the cash flows of the borrower, which may be unpredictable, and the collateral securing these loans may fluctuate in value.

At September 30, 2024, we had $139.00 million, or 9.2%, of total loans in commercial business loans.

Commercial business lending involves risks that are different from those associated with residential and commercial real estate lending.

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.

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.

Our business loans are primarily made based on borrowers’ cash flow, with collateral as a secondary factor.

However, the unpredictability of borrowers' cash flow and the fluctuating value of collateral, often in the form of accounts receivable, inventory, or equipment, present significant risks.

Loans secured by accounts receivable are contingent on the borrower's ability to collect from their customers, while other collateral may depreciate, be challenging to assess, lack liquidity, and vary in value based on the success of the business.

Additionally, economic fluctuations can significantly impact borrowers' repayment abilities, more so than loans secured by real estate.

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

At September 30, 2024, $347.04 million, or 22.9% of our total loan portfolio was secured by one- to four-family mortgage loans and home equity loans.

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.

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 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 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 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.

This type of lending is highly sensitive to regional economic conditions, which can affect borrowers' ability to meet their payment obligations and make loss levels difficult to predict.

Factors such as higher interest rates, recessionary conditions, lower real estate sales volumes and prices, and elevated unemployment may lead to higher loan delinquencies, problem assets, and reduced demand for our products and services, adversely impacting our capital, liquidity, and financial condition.

A decline in residential real estate values, particularly in the Washington housing market, may reduce the value of collateral securing these loans and increase our risk of loss if borrowers default.

Some of our residential mortgage loans are secured by properties with little or no borrower equity, either due to high loan-to-value ratios at origination or declining home values.

Loans with higher loan-to-value ratios are more sensitive to declining property values, resulting in a higher risk of default and loss.

Additionally, for home equity lines of credit secured by second mortgages, recovering loan proceeds in the event of default may be difficult unless we repay the first mortgage, which may not be justified by the property’s value.

Consequently, we may experience higher rates of delinquency, default, and losses on our residential loans.

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

Lending money is a substantial part of our business.

Every loan carries a risk that it will not be repaid in accordance with its terms or that any underlying collateral will not be sufficient to assure repayment.

This risk is affected by, among other things:

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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, 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;

• evaluation of non-performing loans;

• historical default and loss experience;

• existing economic conditions and management's expectations of future events;

• risk characteristics of the various classifications of loans;

• the amount and quality of collateral, including guarantees, securing the loans;

• regulatory requirements and expectations.

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.

To address these risks, we maintain an allowance for credit losses on loans, which is a reserve established through a provision for credit losses on loans charged against operating income, that we believe is appropriate to provide for expected losses in our loan portfolio.

The appropriate level of the allowance of credit losses is determined by management through periodic comprehensive reviews and consideration of several factors, including, but not limited to our collective loss reserve, for loans evaluated on a pool basis with similar risk characteristics based on our life of loan historical default and loss experience, certain macroeconomic factors, reasonable and supportable forecasts, regulatory requirements, management’s expectations of future events and certain qualitative factors.

The ACL is an estimate of the expected credit losses on financial assets measured at amortized cost.

The ACL is evaluated and calculated on a collective basis for those loans which share similar risk characteristics.

For loans that do not share similar risk characteristics and cannot be evaluated on a collective basis, the Company will evaluate the loan individually using the present value of the expected future cash flows or the fair value of the underlying collateral.

The determination of the appropriate level of the allowance for credit losses inherently involves a high degree of subjectivity and requires us to 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 credit losses for loans may not be sufficient to cover losses inherent in our loan portfolio, resulting in the need for increases in our allowance for credit losses through the provision for credit losses 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.

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 credit losses.

Bank regulatory agencies also periodically review our allowance for credit losses and may require an increase in the provision for possible credit losses or the recognition of further loan charge-offs based on their judgment about information available to them at the time of their examination.

If charge-offs in future periods exceed the allowance for credit losses, we may need additional provisions to increase the allowance for credit losses.

Any increases in the allowance for credit losses will result in a decrease in net income and may have a material adverse effect on our financial condition, results of operations, liquidity and capital.

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

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

• We do not record interest income on non-accrual loans or non-performing investment securities, except on a cash basis when the collectibility of the principal is not in doubt.

• 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 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 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 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.

• We do not record interest income on non-accrual loans or non-performing investment securities, except on a cash basis when the collectability of the principal is not in doubt.

• We must recognize expected credit losses through a current period charge to the provision for credit losses.

• Non-interest expense increases if we must write down the value of OREO properties to reflect market declines.

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

• There are legal fees and carrying costs (such as taxes, insurance, and maintenance) associated with OREO.

• Managing non-performing assets requires significant management attention, diverting resources from more profitable activities.

If delinquencies increase and we are unable to effectively manage our non-performing assets, our losses and troubled assets could increase significantly, materially impacting 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, from time to time in the ordinary course of business, we engage in preliminary discussions with potential acquisition targets.

Although our business strategy emphasizes organic expansion, we also look for and evaluate potential acquisition opportunities.

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.

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.

In addition, once integrated, acquired operations may not achieve levels of profitability comparable to those achieved by our existing operations, or otherwise perform as expected.

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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.

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.

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 475 basis points, including 50 basis points reduction during the 2024 fiscal year, to a range of 4.75% to 5.00% as of September 30, 2024.

The FOMC has reduced the target federal funds rate by an additional 25 basis points in November of 2024 to the target federal funds rate and has not ruled out future decreases but hinted that rates will remain higher for longer.

If the FOMC further decreases the targeted federal funds rate, overall interest rates will likely decrease, which may negatively impact our net interest income, but could positively impact both the housing market by increasing refinancing activity and new home purchases and the U.S.

We principally manage interest rate risk by managing our volume and mix of our earning assets and funding liabilities.

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Changes in interest rates could also have a negative impact on our results of operations by reducing the ability of borrowers to repay their current loan obligations or by reducing our margins and profitability.

Our net interest margin is the difference between the yield we earn on our assets and the interest rate we pay for deposits and our other sources of funding.

Net interest margin is the difference between the yield we earn on interest-earning assets and the rate we pay for deposits and other sources of funding.

Changes in interest rates (up or down) could adversely affect our net interest margin and, as a result, our net interest income.

Although the yield we earn on our assets and our funding costs tends to move in the same direction in response to changes in interest rates, one can rise or fall faster than the other, causing our net interest margin to expand or contract.

Changes in the slope of the "yield curve," or the spread between short-term and long-term interest rates, could also reduce our net interest margin.

Although the yield we earn on our interest-earning assets and our funding costs tends to move in the same direction in response to changes in interest rates, one can rise or fall faster than the other, causing our net interest margin to expand or contract.

Changes in the slope of the

"yield curve," or the spread between short-term and long-term interest rates, could also reduce our net interest margin.

Normally, the yield curve is upward sloping, meaning short-term rates are lower than long-term rates.

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Unrealized gains and losses on investment securities available for sale are reported as a separate component of equity, net of tax.

Decreases in the fair value of investment securities available for sale resulting from increases in interest rates could have an adverse effect on stockholders' equity.

Increases in the fair value of investment securities available for sale resulting from decreases in interest rates could have a positive effect on stockholders' equity.

Stockholders' equity, specifically accumulated other comprehensive income (loss) ("AOCI"), is increased or decreased by the amount of change in the estimated fair value of our securities available for sale, net of deferred income taxes.

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These factors include, but are not limited to, rating agency actions in respect of the securities, defaults by, or other adverse events affecting, the issuer or with respect to the underlying securities, and changes in market interest rates and continued instability in the capital markets.

Any of these factors, among others, could cause other-than-temporary impairments ("OTTI") and realized and/or unrealized losses in future periods and declines in AOCI.

The process for determining whether impairment of a security is other-than-temporary impaired usually requires complex, subjective judgments about the future financial performance and liquidity of the issuer and any collateral underlying the security to assess the probability of receiving all contractual principal and interest payments on the security.

There can be no assurance that the declines in market value will not result in other-than-temporary impairments of these assets, and lead to accounting charges that could have a material adverse effect on our business, financial condition and results of operations.

The Company analyzes investment securities to determine whether there have been any events or economic circumstances to indicate that a security has incurred a credit-related loss.

The Company considers many factors including recent events specific to the issuer or industry, and for securities, external credit ratings and recent downgrades.

Credit component losses are reported in allowance for credit losses in the income statement when the present value of expected future cash flows is less than the amortized cost.

Noncredit component losses are recorded in other comprehensive income (loss) when the Company (1) does not intend to sell the security or (2) is not more likely than not to have to sell the security prior to the security’s anticipated recovery.

There can be no assurance that the declines in market value will not result in ACL on investments, and lead to accounting charges that could have a material adverse effect on our business, financial condition and results of operations.

An increase in interest rates, change in the programs offered by Freddie Mac or our ability to qualify for their programs may reduce our mortgage revenues, which would negatively impact our non-interest income.

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

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.

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

Any future changes in its program, including 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.

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.

In addition, our results of operations are affected by the amount of non-interest expense associated with our loan sale activities, such as salaries and employee benefits, occupancy, equipment and data processing expense and other operating costs.

During periods of reduced loan demand, our results of operations may be adversely affected to the extent that we are unable to reduce expenses commensurate with the decline in loan originations.

During periods of reduced loan demand, our results of operations may be adversely affected to the extent that we are unable to reduce expenses commensurate with the

decline in loan originations.

In addition, although we sell loans to Freddie Mac or into the secondary market without recourse, we are required to give customary representations and warranties about the loans we sell.

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Risks Related to Laws and Regulations

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

Under this guidance, a financial institution that, like us, is actively involved in commercial real estate lending should perform a risk assessment to identify 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.

We have concluded that we do not have a concentration in commercial real estate lending because our balance in commercial real estate loans (including owner-occupied loans) at September 30, 2024 represented 290.74% of total capital.

We operate in a highly regulated environment and may be adversely affected by changes in federal and state laws and regulations that could increase our costs of operations.

The banking industry is extensively regulated.

The financial services industry is extensively regulated.

Federal banking regulations are designed primarily to protect the deposit insurance funds and consumers, not to benefit a company's shareholders.

These regulations may sometimes impose significant limitations on our operations.

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 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 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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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.

Climate change continues to be a pressing concern, prompting heightened awareness and action on a global scale.

Efforts include international agreements such as the Paris Agreement, with the United States rejoining, and ongoing initiatives at various governmental levels to address climate-related issues.

Under the current administration, additional measures are anticipated, potentially impacting banks' risk management practices, stress testing, credit portfolio concentrations, and investment strategies.

The lack of empirical data makes it challenging to predict the precise financial impact of climate change, though its physical effects, such as more frequent weather disasters, could directly affect our real estate collateral and loan portfolios.

Inadequate insurance coverage for borrowers may compound these risks, impacting our financial condition.

Furthermore, climate change's broader economic effects could adversely affect our customers and the communities we serve, potentially impacting our financial performance.

On March 6, 2024, the SEC implemented new climate-related disclosure rules for U.S.

public companies and foreign private issuers.

These rules introduce extensive disclosure requirements, increasing reporting costs, risks, and complexity.

Challenges include short compliance timelines, interpretive issues, legal liabilities, and global regulatory overlaps.

Lawsuits contesting these rules add further uncertainty.

However, on March 15, 2024, the Fifth Circuit granted an administrative stay, temporarily halting the implementation of the SEC's climate rules.

Risks Related to Cybersecurity, Third-Parties and Technology

As of September 30, 2024 there has not been any cybersecurity or related breach of the risk factors discussed below that would require disclosure.

The financial services market is undergoing rapid technological changes and, if we are unable to stay current with those changes, we may not be able to effectively compete.

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

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.

Although we have developed and continue to invest in systems and processes that are designed to detect and prevent security breaches and cyberattacks 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.

Our security measures may not protect us from system failures or interruptions.

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

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.

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.

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

Threats to information security also exist in the processing of customer information through various other vendors and their personnel.

We cannot assure that such breaches, failures or interruptions will not occur or, if they do occur, that they will be adequately addressed by us or the third-parties on which we rely.

We cannot assure you that such breaches, failures or interruptions will not occur or, if they do occur, that they will be adequately addressed by us or the third-parties on which we rely.

We may not be insured against all types of losses as a result of third-party failures and insurance coverage may be inadequate to cover all losses, resulting from breaches, systems failures or other disruptions.

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

We rely on numerous external vendors to provide us with products and services necessary to maintain our day-to-day operations.

Accordingly, our operations are exposed to risk that these vendors will not perform in accordance with the contracted arrangements under service level agreements.

The failure of an external vendor to perform in accordance with the contracted arrangements under service level agreements because of changes in the vendor's organizational structure, financial condition, support for existing products and services or strategic focus or for any other reason, could be disruptive to our operations, which in turn could have a material negative impact on our financial condition and results of operations.

We also could be adversely affected to the extent that such an agreement is not renewed by a third-party vendor or is renewed on terms less favorable to us.

Additionally, the bank regulatory agencies expect financial institutions to be responsible for all aspects of our vendors' performance, including aspects which they delegate to third-parties.

Disruptions or failures in the physical infrastructure or operating systems that support our business and customers, or cyber-attacks or security breaches of the networks, systems or devices that our customers use to access our products and services could result in client attrition, regulatory fines, penalties or intervention, reputational damage, reimbursement or other compensation costs, and/or additional compliance costs, any of which could materially adversely affect our results of operations or financial condition.

We rely on certain external vendors to provide products and services necessary to maintain our day-to-day operations.

These third-party vendors are sources of operational and informational security risks to us, including risks associated with operational errors, information system failures, interruptions or breaches and unauthorized disclosures of sensitive or confidential client or customer information.

If these vendors encounter any of these issues, or if we have difficulty communicating with them, we could be exposed to disruption of operations, loss of service or connectivity to customers, reputational damage, and litigation risk that could have a material adverse effect on our business and, in turn, our financial condition and results of operations.

Risks Related to Accounting Matters

The Company’s reported financial results depend on management’s selection of accounting methods and certain assumptions and estimates, which, if incorrect, could cause unexpected losses in the future.

The Company’s accounting policies and methods are fundamental to how the Company records and reports its financial condition and results of operations.

The Company’s management must exercise judgment in selecting and applying many of these accounting policies and methods so they comply with GAAP and reflect management’s judgment regarding the most appropriate manner to report the Company’s financial condition and results of operations.

In some cases, management must select the accounting policy or method to apply from two or more alternatives, any of which might be reasonable under the circumstances, yet might result in the Company’s reporting materially different results than would have been reported under a different alternative.

Certain accounting policies, most notably the accounting for credit losses, are critical to presenting the Company’s financial condition and results of operations.

They require management to make difficult, subjective or complex judgments about matters that are uncertain.

Materially different amounts could be reported under different conditions or using different assumptions or estimates.

For more information, refer to “Management’s Discussion and Analysis of Financial Condition and Results of Operations - Critical Accounting Estimates” contained in this 2024 Form 10-K.

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

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.

In accordance with GAAP, we record assets acquired and liabilities assumed in a business combination at their fair value with the excess of the purchase consideration over the net assets acquired resulting in the recognition of goodwill.

As a result, acquisitions typically result in recording goodwill.

We perform a goodwill evaluation at least annually to test for goodwill impairment.

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.

Our evaluation of the fair value of goodwill involves a substantial amount of judgment.

If our judgment was incorrect, or if events or circumstances change, and an impairment of goodwill was deemed to exist, we would be required to write down our goodwill resulting in a charge against operations, which would adversely affect our results of operations, perhaps materially;

however, it would have no impact on our liquidity, operations or regulatory capital.

If our judgment was incorrect, or if events or circumstances change, and an impairment of goodwill was deemed to exist, we would be required to record a non-cash charge to earnings in our financial statements during the period in which such impairment is determined to exist.

Any such charge could have a material adverse effect on our results of operations.

We are subject to an extensive body of accounting rules and best practices.

Periodic changes to such rules may change the treatment and recognition of critical financial line items and affect our profitability.

Our business operations are significantly influenced by the extensive body of accounting regulations in the United States.

Regulatory bodies periodically issue new guidance, altering accounting rules and reporting requirements, which can substantially affect the preparation and reporting of our financial statements.

These changes might necessitate retrospective application, potentially leading to restatements of prior period financial statements.

One such significant change in fiscal 2024 was the implementation of the CECL model, which we adopted on October 1, 2023.

Under the CECL model, financial assets carried at amortized cost, such as loans and held-to-maturity debt securities, are presented at the net amount expected to be collected.

This forward-looking approach in estimating expected credit losses contrasts starkly with the prior, "incurred loss" model, which delays recognition until a loss is probable.

CECL mandates considering historical experience, current conditions, and reasonable forecasts affecting collectability, leading to periodic adjustments of financial asset values.

However, this forward-looking methodology, reliant on macroeconomic variables, introduces the potential for increased earnings volatility due to unexpected changes in these indicators between periods.

An additional consequence of CECL is an accounting asymmetry between loan-related income, recognized periodically based on the effective interest method, and credit losses, recognized upfront at origination.

This asymmetry might create the perception of reduced profitability during loan expansion periods due to the immediate recognition of expected credit losses.

Conversely, periods with stable or declining loan levels might seem relatively more profitable as income accrues gradually for loans where losses had been previously recognized.

As a result of the change in methodology from the incurred loss model to the CECL model, on October 1, 2023, the Company recorded a one-time, net of tax charge of $488,000 to retained earnings, a $461,000 increase to the allowance for credit losses on loans, a $92,000 increase to the allowance for credit losses on investment securities and a $65,000 increase to the allowance for credit losses on unfunded commitments.

We may experience decreases in the fair value of our loan servicing rights, which could reduce our earnings.

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Other Risks Related to Our Business

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.

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

Liquidity is essential to our business.

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

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

Our growth or future losses may require us to raise additional capital in the future, but that capital may not be available when it is needed or the cost of that capital may be very high.

Our growth or future losses may require us to raise additional capital in the future, but that capital may not be available when it is needed or the cost of that capital may be exceedingly high.

We are required by federal regulatory authorities to maintain adequate levels of capital to support our operations.

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If we cannot raise additional capital when needed, our ability to further expand our operations could be materially impaired and our financial condition and liquidity could be materially and adversely affected.

In addition, any additional capital we obtain may result in the dilution of the interests of existing holders of our common stock.

In addition, any additional capital we obtain may dilute the interests of existing holders of our common stock.

Further, if we are unable to raise additional capital when required by our bank regulators, we may be subject to adverse regulatory action.

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While we assess and improve these programs on an ongoing basis, there can be no assurance that our risk management or compliance programs, along with other related controls, will effectively mitigate all risk and limit losses in our business.

As with any risk management framework, there are inherent limitations to our risk management strategies as there may exist, or develop in the future, risks that we have not appropriately anticipated or identified.

As with any risk management framework, there are inherent limitations to our risk management strategies as there may exist, or develop in the future, risks that we have not appropriately

anticipated or identified.

If our risk management framework proves ineffective, we could suffer unexpected losses which could have a material adverse effect on our financial condition and results of operations.

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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.

Unresolved Staff Comments

Not applicable.

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