Item 7. Management’s Discussion and Analysis
Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations
Overview
The following discussion and analysis is presented to assist the reader in understanding and evaluating the Company's financial condition and results of operations. It is intended to complement the consolidated financial statements, footnotes, and supplemental financial data appearing elsewhere in this Annual Report on Form 10-K and should be read in conjunction therewith. The detailed discussion in the sections below focuses on the results of operations for the year ended December 31, 2024, compared to the year ended December 31, 2023, and the financial condition as of December 31, 2024 compared to the financial condition as of December 31, 2023.
- 40 -
As described in the notes to consolidated financial statements, we have two reportable segments: community banking and mortgage banking. The community banking segment provides consumer and business banking products and services to customers. Consumer products include loan products, deposit products, and personal investment services. Business banking products include loans for working capital, inventory and general corporate use, commercial real estate construction loans, and deposit accounts. The mortgage banking segment, which is conducted through Waterstone Mortgage Corporation, consists of originating residential mortgage loans primarily for sale in the secondary market.
Our community banking segment generates the significant majority of our consolidated net interest income and requires the significant majority of our provision for credit losses. Our mortgage banking segment generates the significant majority of our noninterest income and a majority of our noninterest expenses. We have provided below a discussion of the material results of operations for each segment on a separate basis for the year ended December 31, 2024, compared the year ended December 31, 2023, which focuses on noninterest income and noninterest expenses. We have also provided a discussion of the consolidated operations of Waterstone Financial, which includes the consolidated operations of WaterStone Bank and Waterstone Mortgage Corporation, for the same periods.
For a discussion of our results of operations for the year ended December 31, 2023 compared to the year ended December 31, 2022, see “Part II, Item 7: Management’s Discussion and Analysis of Financial Condition and Results of Operations” Discussion of Results of Operations included in our 2023 Form 10-K, filed with the SEC on March 6, 2024.
Significant Items
There were no Significant Items for the years ended December 31, 2024 and 2023.
- 41 -
Critical Accounting Policies
Our consolidated financial statements are prepared in accordance with GAAP and follow general practices within the banking industry. Application of these principles requires management to make complex and subjective estimates and judgments that affect the amounts reported in the consolidated financial statements and accompanying notes. We base our estimates on historical experience and on various other assumptions that we believe to be reasonable and appropriate under current circumstances. These assumptions form the basis for our judgments about the carrying values of assets and liabilities that are not readily available from independent, objective sources. We evaluate our estimates on an ongoing basis. Use of alternative assumptions may have resulted in significantly different estimates. Actual results may differ from these estimates.
Accounting policies are an integral part of our financial statements. A thorough understanding of these accounting policies is essential when reviewing our reported results of operations and our financial position. We believe that the critical accounting policies and estimates discussed below involve a heightened level of management judgment due to the complexity, subjectivity and sensitivity involved in their application.
See Note 1 - Summary of Significant Accounting Policies to the consolidated financial statements contains a further discussion of our significant accounting policies.
Critical accounting policies are those that involve significant judgments and assumptions by management and that have, or could have, a material impact on our income or the carrying value of our assets.
Allowance for Credit Losses. The ACL represents management's estimate of current expected credit losses, or the amount of amortized cost basis not expected to be collected, on our loan portfolio and the amount of credit loss impairment on our AFS securities portfolio. Determining the amount of the ACL is considered a critical accounting estimate because of its complexity and because it requires extensive judgment and estimation. Estimates that are particularly susceptible to change that may have a material impact on the amount of the ACL include:
●
Our evaluation of current conditions;
●
Our assessment that the physical condition of the real estate has not significantly changed since the last valuation date;
●
Our determination of a reasonable and supportable economic forecast and selection of the reasonable and supportable forecast period;
●
Our evaluation of historical loss experience;
●
Our evaluation of changes in composition and characteristics of the loan portfolio, including internal risk ratings;
●
Our estimate of expected prepayments;
●
Our selection of models and modeling techniques may also have a material impact on the estimate;
●
The value of underlying collateral, which may impact loss severity and certain cash flow assumptions for collateral-dependent, criticized and classified loans;
●
Our selection and evaluation of qualitative factors; and
●
Our estimate of expected cash flows on AFS debt securities in unrealized loss positions.
The appropriateness of the allowance for credit losses is reviewed and approved quarterly by the WaterStone Bank Board of Directors. The allowance reflects management’s best estimate of the amount needed to provide for the future losses over the life of the loan portfolio, and is based on a loss model using a forecast and historical losses developed and implemented by management and approved by the WaterStone Bank Board of Directors.
Actual results could differ from this estimate, and future additions to the allowance may be necessary based on unforeseen changes in loan quality and economic conditions. More specifically, if our future charge-off experience increases substantially from our past experience, or if the value of underlying loan collateral, in our case mostly real estate, declines in value by a substantial amount, or if unemployment in our primary market area increases significantly, our allowance for credit losses may be inadequate and we will incur higher provisions for loan losses and lower net income in the future.
See Note 1 - Summary of Significant Accounting Policies to the consolidated financial statements describes the methodology used to determine the ACL.
- 42 -
In addition, state and federal regulators periodically review the WaterStone Bank allowance for credit losses. Such regulators have the authority to require WaterStone Bank to recognize additions to the allowance at the time of their examination.
Income Taxes. The Company and its subsidiaries file consolidated federal, combined state income tax, and separate state income tax returns. The provision for income taxes is based upon income in the consolidated financial statements, rather than amounts reported on the income tax return. Deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases as well as for net operating loss carry forwards. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized as income or expense in the period that includes the enactment date.
Under generally accepted accounting principles, a valuation allowance is required to be recognized if it is “more likely than not” that a deferred tax asset will not be realized. The determination of the realizability of deferred tax assets is highly subjective and dependent upon judgment concerning management's evaluation of both positive and negative evidence, the forecasts of future income, applicable tax planning strategies, and assessments of current and future economic and business conditions. Examples of positive evidence may include the existence of taxes paid in available carry-back years as well as the probability that taxable income will be generated in future periods. Examples of negative evidence may include cumulative losses in a current year and prior two years and general business and economic trends.
Positions taken in the Company’s tax returns are subject to challenge by the taxing authorities upon examination. The benefit of uncertain tax positions are initially recognized in the financial statements only when it is more likely than not that the position will be sustained upon examination by the tax authorities. Such tax positions are both initially and subsequently measured as the largest amount of tax benefit that has a greater than 50% likelihood of being realized upon settlement with the tax authority, assuming full knowledge of the position and all relevant facts. Interest and penalties on income tax uncertainties are classified within income tax expense in the consolidated statements of operations.
Fair Value Measurements. The Company determines the fair value of its assets and liabilities in accordance with ASC 820. ASC 820 establishes a standard framework for measuring and disclosing fair value under generally accepted accounting principles. A number of valuation techniques are used to determine the fair value of assets and liabilities in the Company’s financial statements. The valuation techniques include quoted market prices for investment securities, appraisals of real estate from independent licensed appraisers and other valuation techniques. Fair value measurements for assets and liabilities where limited or no observable market data exists are based primarily upon estimates, and are often calculated based on the economic and competitive environment, the characteristics of the asset or liability and other factors. Therefore, the valuation results cannot be determined with precision and may not be realized in an actual sale or immediate settlement of the asset or liability. Additionally, there are inherent weaknesses in any calculation technique, and changes in the underlying assumptions used, including discount rates and estimates of future cash flows, could significantly affect the results of current or future values. Significant changes in the aggregate fair value of assets and liabilities required to be measured at fair value or for impairment are recognized in the consolidated statements of operations under the framework established by generally accepted accounting principles.
Recent Accounting Pronouncements.
Refer to Note 1- Summary of Significant Accounting Policies of our consolidated financial statements for a description of recent accounting pronouncements including the respective dates of adoption and effects on results of operations and financial condition.
- 43 -
Selected Financial Data
The summary financial information presented below is derived in part from the Company’s audited financial statements, although the table itself is not audited.
At or for the Year Ended December 31,
2024
2023
2022
(In Thousands, except per share amounts)
Selected Financial Condition Data:
Total assets
$
2,209,608
$
2,213,389
$
2,031,672
Cash and cash equivalents
39,761
36,421
46,642
Securities available for sale
208,549
204,907
196,588
Loans held for sale
135,909
164,993
131,188
Loans receivable
1,680,576
1,664,215
1,510,178
Allowance for credit losses
18,247
18,549
17,757
Loans receivable, net
1,662,329
1,645,666
1,492,421
Real estate owned, net
505
254
145
Deposits
1,359,897
1,190,624
1,199,012
Borrowings
446,519
611,054
386,784
Total shareholders' equity
339,135
344,056
370,486
Selected Operating Data:
Interest income
$
113,168
$
99,208
$
70,245
Interest expense
67,000
48,993
13,291
Net interest income
46,168
50,215
56,954
Provision (credit) for credit losses
(168
)
656
968
Net interest income after provision for credit losses
46,336
49,559
55,986
Noninterest income
89,302
81,185
105,555
Noninterest expense
111,636
119,712
137,062
Income before income taxes
24,002
11,032
24,479
Provision for income taxes
5,314
1,657
4,992
Net income
$
18,688
$
9,375
$
19,487
Per common share:
Income per share - basic
$
1.01
$
0.47
$
0.89
Income per share - diluted
$
1.01
$
0.46
$
0.89
Book value
$
17.53
$
16.94
$
16.71
Dividends declared
$
0.60
$
0.70
$
0.80
- 44 -
At or for the Year Ended December 31,
2024
2023
2022
Selected Financial Ratios and Other Data:
Performance Ratios:
Return on average assets
0.84
%
0.44
%
0.96
%
Return on average equity
5.48
2.62
4.91
Interest rate spread (1)
1.51
1.83
2.76
Net interest margin (2)
2.17
2.46
3.00
Noninterest expense to average assets
5.01
5.56
6.79
Efficiency ratio (3)
82.41
91.11
84.34
Average interest-earing assets to average interest-bearing liabilities
121.54
126.10
134.23
Dividend payout ratio (4)
59.41
148.94
146.07
Capital Ratios:
Waterstone Financial, Inc.:
Equity to total assets at end of period
15.35
%
15.54
%
18.24
%
Average equity to average assets
15.30
16.64
19.66
Total capital to risk-weighted assets
20.90
21.50
24.36
Tier 1 capital to risk-weighted assets
19.81
20.39
23.29
Common equity tier 1 capital to risk-weighted assets
19.81
20.39
23.29
Tier 1 capital to average assets
16.04
16.77
19.45
WaterStone Bank:
Total capital to risk-weighted assets
20.29
20.10
21.52
Tier 1 capital to risk-weighted assets
19.21
18.99
20.46
Common equity tier 1 capital to risk-weighted assets
19.21
18.99
20.46
Tier 1 capital to average assets
15.55
15.62
17.08
Asset Quality Ratios:
Allowance for credit losses - loans as a percent of total loans
1.09
%
1.11
%
1.18
%
Allowance for credit losses - loans as a percent of non-performing loans
322.10
385.79
412.28
Net (recoveries) charge-offs to average outstanding loans during the period
(0.00
)
0.01
(0.04
)
Non-performing loans as a percent of total loans
0.34
0.29
0.29
Non-performing assets as a percent of total assets
0.28
0.23
0.22
Other Data:
Number of full-service banking offices
14
14
14
Number of full-time equivalent employees
600
698
742
(1) Represents the difference between the weighted average yield on average interest-earning assets and the weighted average cost of interest-bearing liabilities.
(2) Represents net interest income as a percent of average interest-earning assets.
(3) Represents noninterest expense divided by the sum of net interest income and noninterest income.
(4) Represents dividends paid per share divided by basic earnings per share.
Comparison of Consolidated Waterstone Financial, Inc. Financial Condition at December 31, 2024 and at December 31, 2023
Total Assets. Total assets decreased by $3.8 million, or 0.2%, to $2.21 billion at December 31, 2024 from $2.21 billion at December 31, 2023. The decrease in total assets primarily reflects the decrease in loans held for sale, partially offset by increases in loans held for investment, cash surrender value of life insurance, and cash and cash equivalents.
Cash and Cash Equivalents. Cash and cash equivalents increased $3.3 million to $39.8 million at December 31, 2024 from $36.4 million at December 31, 2023. The increase in cash and cash equivalents primarily reflects the decrease in funding of loans held for sale and increase in deposit liabilities.
Securities Available for Sale . Securities available for sale increased by $3.6 million to $208.5 million at December 31, 2024 from $204.9 million at December 31, 2023. The increase was primarily due to purchases of municipal bonds to take advantage of the increase in interest rates. The increase was partially offset by an increase in unrealized losses on securities, as rising long-term rates put downward pressure on securities prices. Purchases for the year exceeded the combination of security paydowns and maturities of debt securities.
Loans Held for Sale . Loans held for sale decreased $29.1 million, or 17.6%, to $135.9 million at December 31, 2024 from $165.0 million at December 31, 2023 due to an increase in mortgage rates at the end of the year.
- 45 -
Loans Receivable . Loans receivable held for investment increased $16.4 million, or 1.0%, to $1.68 billion at December 31, 2024 from $1.66 billion at December 31, 2023. The increase in total loans receivable was primarily attributable to increases in each of the multi-family, construction, and commercial real estate loan categories offset by a decrease in the one-to-four family loan category.
Allowance for Credit Losses. The allowance for credit losses decreased $302,000 to $18.2 million at December 31, 2024 from $18.5 million at December 31, 2023. The decrease primarily resulted from a decrease in historical loss rates and changed in qualitative factors. Net recoveries totaled $40,000 for the year ended December 31, 2024. During the year ended December 31, 2024, we made adjustments to our qualitative factors, primarily to account for the changes in internal metrics and external risk factors. See Note 3 - Loans Receivable of the notes to consolidated financial statements for further discussion on the allowance for credit losses. The forecast factor remained unchanged as we monitor the economic environment going forward.
Prepaid Expenses and Other Assets. Total prepaid expenses and other assets decreased $4.2 million to $48.3 million at December 31, 2024 from $52.4 million at December 31, 2023. The decrease was primarily due to a decrease in the mortgage servicing rights asset as well as decreases in receivables in the mortgage banking segment and a decrease in deferred tax assets due to a decrease in the Wisconsin state effective tax rate.
Deposits. Deposits increased by $169.3 million to $1.36 billion at December 31, 2024, from $1.19 billion at December 31, 2023. The increase was driven by $94.3 million in new brokered certificates of deposit, an increase of $81.0 million in non-brokered certificates of deposit, and an increase of $10.0 million in money market and savings deposits. The increase as partially offset by a decrease of $16.0 million in demand deposits. The increase in deposits was used to fund the increase in loans held for investment and replacing matured borrowings.
Borrowings. Total borrowings decreased $164.5 million to $446.5 million at December 31, 2024, from $611.1 million at December 31, 2023. The community banking segment decreased its short-term FHLB borrowings by $15.4 million and its long-term FHLB borrowings by $5.0 million. In addition, the $145.0 million short-term borrowing from the Federal Reserve Bank was paid down in the fourth quarter of 2024. External short-term borrowings at the mortgage banking segment increased a total of $900,000 to $3.0 million at December 31, 2024 from $2.1 million at December 31, 2023. The overall decrease in borrowings was primarily offset by the increase in deposits.
Other Liabilities. Other liabilities decreased $2.6 million to $58.4 million at December 31, 2024 compared to $61.0 million at December 31, 2023. Other liabilities decreased primarily due to decreases in loan sale liability and amounts payable to investors in the mortgage banking segment.
Shareholders ’ Equity. Shareholders’ equity decreased by $4.9 million, or 1.4%, to $339.1 million at December 31, 2024 from $344.1 million at December 31, 2023. Shareholders' equity decreased primarily due to the the ongoing repurchase of stock, dividends paid, and decrease in the fair value of the securities portfolio. Partially offsetting the decreases, there were increases due to the net income, additional paid-in capital as stock options were exercised and equity awards vested, and unearned ESOP shares vesting.
Comparison of Community Banking Segment Operations for the Years Ended December 31, 2024 and 2023
Net income from our community banking segment for the year ended December 31, 2024 totaled $17.0 million compared to $18.6 million for the year ended December 31, 2023. Net interest income decreased $3.8 million to $48.0 million for the year ended December 31, 2024 compared to $51.7 million for the year ended December 31, 2023. Interest income on loans increased as replacement rates and average loans held for investment balances were higher than in the prior year and interest income on mortgage-related securities and debt securities, federal funds sold and short-term investments increased due to the increase in the average balance and replacement rates. Offsetting the increases in interest income, interest expense on deposits and borrowings increased as replacement rates and average balances increased.
There was a negative provision for credit losses of $145,000 for the year ended December 31, 2024 compared to a provision for credit losses of $441,000 for the year ended December 31, 2023. The negative provision for credit losses consisted of a $319,000 negative provision related to adjustments to our qualitative factors, primarily to account for the changes in internal metrics and external risk factors and a $174,000 of provision related to unfunded commitments as the loan pipeline balance decreased for the year ended December 31, 2024. The negative provision for credit losses related to loans was primarily due to a decrease in historical loss rates and certain qualitative factors. During the year ended December 31, 2024, we made adjustments to our qualitative factors, primarily to account for the changes in internal metrics and external risk factors. The forecast factor remained unchanged as we monitor the economic environment going forward.
Noninterest income increased $916,000 for the year ended December 31, 2024 due primarily to a $231,000 death benefit received in 2024, earnings on the bank owned life insurance, and loan swap fees.
- 46 -
Compensation, payroll taxes, and other employee benefits expense increased $819,000 to $20.7 million during the year ended December 31, 2024 primarily due to increased health insurance costs. Other noninterest expense decreased $1.3 million to $2.5 million as certain loan-related expenses paid to the mortgage banking segment for the purchase of single-family adjustable rate mortgage loans decreased compared to the prior year. These fees are eliminated in the consolidated statements of income.
Comparison of Mortgage Banking Segment Operations for the Years Ended December 31, 2024 and 2023
Net income totaled $1.4 million for the year ended December 31, 2024 compared to net loss of $9.6 million for the year ended December 31, 2023. We originated $2.15 billion in mortgage loans held for sale (including sales to the community banking segment) during the year ended December 31, 2024, which represents an increase of $26.6 million, or 1.3%, from the $2.12 billion originated during the year ended December 31, 2023. The increase in loan production volume was driven by a $109.4 million, or 128.5%, increase in refinance products due to a decrease in mortgage rates at various points throughout the year. Mortgage purchase products decreased $82.8 million, or 4.1% as housing inventory remained low and interest rates remained relatively high. Total mortgage banking noninterest income increased $5.8 million, or 7.4%, to $84.3 million during the year ended December 31, 2024 compared to $78.5 million during the year ended December 31, 2023. The increase in mortgage banking noninterest income was related to a 1.3% increase in volume and a 6.6% increase in gross margin on loans originated and sold for the year ended December 31, 2024 compared to December 31, 2023. Gross margin on loans originated and sold is the ratio of mortgage banking income (excluding the change in interest rate lock fair value) divided by total loan originations. The gross margin on loans originated and sold contraction reflects decreased industry demand due to the increased competition from mortgage originators. We sell loans on both a servicing-released and a servicing-retained basis. Waterstone Mortgage Corporation has contracted with a third party to service the loans for which we retain servicing.
Our gross margin can be affected by the mix of both loan type (conventional loans versus governmental) and loan purpose (purchase versus refinance). Conventional loans include loans that conform to Fannie Mae and Freddie Mac standards, whereas governmental loans are those loans guaranteed by the federal government, such as a Federal Housing Authority or U.S. Department of Agriculture loan. Our origination efforts continue to be focused on loans made for the purpose of residential purchases, as opposed to mortgage refinance. The percentage of origination volume related to purchase activity decreased to 88.9% from 96.0% of total originations for the year ended December 31, 2024 and 2023, respectively, as a year-over-year decrease in rates drove an increase in refinance activity, while low housing inventory and still relatively high interest rates suppressed purchase activity. The mix of loan type trended towards more conventional loans and less government loans, with a mix of 63.8% and 36.2%, respectively of all loan originations, respectively, during the year ended December 31, 2024, compared to 59.0% and 41.0% of all originations, respectively, during the year ended December 31, 2023.
During the year ended December 31, 2024, the Company sold mortgage servicing rights related to $233.1 million in loans serviced for third parties. The sale generated $2.1 million in net proceeds and a $152,000 gain. During the year ended December 31, 2023, the Company sold mortgage servicing rights related to $318.4 million in loans services for third parties, which generated $3.5 million in net proceeds and a $583,000 gain.
Total compensation, payroll taxes and other employee benefits decreased $3.7 million, or 5.7%, to $61.4 million for the year ended December 31, 2024 compared to $65.1 million for the year ended December 31, 2023. The decrease primarily related to decreased salary expense and incentives expense driven by reduced employee headcount and a decrease in new branches added over the past year.
Comparison of Consolidated Waterstone Financial, Inc. Results of Operations for the Years Ended December 31, 2024 and 2023
Years Ended December 31,
2024
2023
(Dollars In Thousands, except per share amounts)
Net income
$
18,688
$
9,375
Earnings per share - basic
1.01
0.47
Earnings per share - diluted
1.01
0.46
Return on average assets
0.84
%
0.44
%
Return on average equity
5.48
%
2.62
%
- 47 -
Average Balance Sheets, Interest and Yields/Costs
The following table set forth average balance sheets, average yields and costs, and certain other information for the periods indicated. Non-accrual loans were included in the computation of the average balances of loans receivable and held for sale. The yields set forth below include the effect of deferred fees, discounts and premiums that are amortized or accreted to interest income or expense. Yields on interest-earning assets are computed on a fully tax-equivalent yield, where applicable.
Years Ended December 31,
2024
2023
2022
Average Balance
Interest
Average Rate
Average Balance
Interest
Average Rate
Average Balance
Interest
Average Rate
(Dollars in Thousands)
Assets
Interest-earning assets:
Loans receivable and held for sale (1)
$
1,838,761
103,066
5.61
%
$
1,752,806
90,148
5.14
%
$
1,467,306
62,935
4.29
%
Mortgage related securities (2)
170,671
4,496
2.63
%
172,318
4,053
2.35
%
162,584
3,241
1.99
%
Debt securities, federal funds sold and short-term investments (2)(3)
114,617
5,853
5.11
%
119,650
5,201
4.35
%
269,171
4,271
1.59
%
Total interest-earning assets
2,124,049
113,415
5.34
%
2,044,774
99,402
4.86
%
1,899,061
70,447
3.71
%
Noninterest-earning assets
103,284
106,532
120,744
Total assets
$
2,227,333
$
2,151,306
$
2,019,805
Liabilities and equity
Interest-bearing liabilities:
Demand accounts
$
90,068
98
0.11
%
80,143
82
0.10
%
72,751
61
0.08
%
Money market and savings accounts
296,361
5,654
1.91
%
309,119
4,529
1.47
%
391,170
1,201
0.31
%
Certificates of deposit
773,616
34,193
4.42
%
700,034
21,127
3.02
%
602,332
3,601
0.60
%
Certificates of deposit - brokered
15,004
628
4.19
%
-
-
0.00
%
-
-
0.00
%
Total interest-bearing deposits
1,175,049
40,573
3.45
%
1,089,296
25,738
2.36
%
1,066,253
4,863
0.46
%
Borrowings
572,539
26,427
4.62
%
532,248
23,255
4.37
%
348,482
8,428
2.42
%
Total interest-bearing liabilities
1,747,588
67,000
3.83
%
1,621,544
48,993
3.02
%
1,414,735
13,291
0.94
%
Noninterest-bearing liabilities
Non interest-bearing deposits
91,288
120,321
159,495
Other noninterest-bearing liabilities
47,680
51,439
48,500
Total noninterest-bearing liabilities
138,968
171,760
207,995
Total liabilities
1,886,556
1,793,304
1,622,730
Equity
340,777
358,002
397,075
Total liabilities and equity
$
2,227,333
$
2,151,306
$
2,019,805
Net interest income / Net interest rate spread (4)
46,415
1.51
%
50,409
1.84
%
57,156
2.77
%
Less: taxable equivalent adjustment
247
0.01
%
194
0.01
%
202
0.01
%
Net interest income, as reported
46,168
1.50
%
50,215
1.83
%
56,954
2.76
%
Net interest-earning assets (5)
$
376,461
$
423,230
$
484,326
Net interest margin (6)
2.17
%
2.46
%
3.00
%
Tax equivalent effect
0.02
%
0.01
%
0.01
%
Net interest margin on a fully tax equivalent basis
2.19
%
2.47
%
3.01
%
Average interest-earning assets to average interest-bearing liabilities
121.54
%
126.10
%
134.23
%
(1) Includes net deferred loan fee amortization income of $663,000, $643,000 and $684,000 for the years ended December 31, 2024, 2023, and 2022, respectively.
(2) Includes available for sale securities.
(3) Interest income from tax exempt securities is computed on a taxable equivalent basis using a tax rate of 21% for the years ended December 31, 2024, 2023, and 2022. The yields on debt securities, federal funds sold and short-term investments before tax-equivalent adjustments were 4.89%, 4.18%, and 1.51% for the years ended December 31, 2024, 2023, and 2022, respectively.
(4) Net interest rate spread represents the difference between the yield on average interest-earning assets and the cost of average interest-bearing liabilities and is presented on a fully tax equivalent basis.
(5) Net interest-earning assets represent total interest-earning assets less total interest-bearing liabilities.
(6) Net interest margin represents net interest income divided by average total interest-earning assets.
- 48 -
Rate/Volume Analysis
The following table sets forth the effects of changing rates and volumes on our net interest income for the periods indicated. The rate column shows the effects attributable to changes in rate (changes in rate multiplied by prior volume). The volume column shows the effects attributable to changes in volume (changes in volume multiplied by prior rate). The net column represents the sum of the prior columns. For purposes of this table, changes attributable to changes in both rate and volume that cannot be segregated have been allocated proportionately based on the changes due to rate and the changes due to volume. There were no out-of-period items or adjustments for any of the years presented.
Years Ended December 31,
Years Ended December 31,
2024 versus 2023
2023 versus 2022
Increase (Decrease) due to
Increase (Decrease) due to
Volume
Rate
Net
Volume
Rate
Net
(In Thousands)
Interest and dividend income:
Loans receivable and held for sale (1)(2)
$
4,115
$
8,803
$
12,918
$
13,483
$
13,730
$
27,213
Mortgage related securities (3)
(39
)
482
443
202
610
812
Other interest-earning assets (3)(4)
(230
)
816
586
(3,376
)
4,306
930
Total interest-earning assets
3,846
10,101
13,947
10,309
18,646
28,955
Interest expense:
Demand accounts
9
7
16
6
15
21
Money market and savings accounts
(180
)
1,305
1,125
(305
)
3,633
3,328
Certificates of deposit - retail
2,415
10,651
13,066
677
16,849
17,526
Certificates of deposit - brokered
628
-
628
-
-
-
Total interest-bearing deposits
2,872
11,963
14,835
378
20,497
20,875
Borrowings
1,807
1,365
3,172
5,865
8,962
14,827
Total interest-bearing liabilities
4,679
13,328
18,007
6,243
29,459
35,702
Net change in net interest income
$
(833
)
$
(3,227
)
$
(4,060
)
$
4,066
$
(10,813
)
$
(6,747
)
(1)
Includes net deferred loan fee amortization income of $663,000, $643,000 and $684,000 for the years ended December 31, 2024, 2023, and 2022, respectively.
(2)
Non-accrual loans have been included in average loans receivable balance.
(3)
Includes available for sale securities.
(4)
Interest income from tax exempt securities is computed on a taxable equivalent basis using a tax rate of 21% for the years ended December 31, 2024, 2023, and 2022.
Net Interest Income
Net interest income decreased $4.0 million, or 8.1%, to $46.2 million during the year ended December 31, 2024 compared to $50.2 million during the year ended December 31, 2023.
•
Interest income on loans increased $12.9 million, or 14.3%, to $103.1 million during the year ended December 31, 2024 compared to $90.1 million during the year ended December 31, 2023 due primarily to a 47 basis point increase in average yield on loans as interest rates continued to increase over the past year and an increase in average loan balance as loans held for investment increased. The increase in average loan balance was driven by an increase of a $93.6 million, or 5.9%, in the average balance of loans held for investment.
•
Interest income from mortgage related securities increased $443,000, or 10.9%, primarily as the yield increased by 28 basis points.
•
Interest income from debt securities increased $599,000, or 12.0%, to $5.6 million, due primarily to a 71 basis point increase in yield. The increased yield was partially offset by a decrease of $5.0 million in average balance.
•
Interest expense on time deposits increased $13.1 million, or 61.8%, primarily due to a 140 basis point increase in average cost of time deposits. Additionally, the average balance of retail time deposits increased $73.6 million compared to the prior year period. Including the new brokered time deposits, interest expense increased by $13.7 million. The average balance of brokered time deposits was $15.0 million.
•
Interest expense on money market, savings, and escrow accounts increased $1.1 million, or 24.8%, due primarily to a 44 basis point increase in average cost of money market, savings, and escrow accounts as offering rates increased to match the Federal Funds Rate. Partially offsetting the increase in average cost, the average balance decreased $12.8 million as more money moved to time deposits.
•
Interest expense on borrowings increased $3.2 million, or 13.6%, to $26.4 million due to a 25 basis point increase in the cost of borrowings during the year ended December 31, 2024 compared to the year ended December 31, 2023 as we transitioned to more short-term fundings for a majority of the year. Additionally, the average balance increased $40.2 million to $572.5 million during the year ended December 31, 2024, compared to $532.3 million during the year ended December 31, 2023.
- 49 -
Provision for Credit Losses
There was a negative provision for credit losses of $168,000 during the year ended December 31, 2024 compared to a $656,000 provision for loan losses for the year ended December 31, 2023. The $168,000 negative provision for credit losses consisted of a $342,000 negative provision related to loans and $174,000 of provision related to unfunded commitments for the year ended December 31, 2024. The decrease in the loan portfolio provision is due to the decrease in historical loss factors and certain qualitative factors. During the year ended December 31, 2024, we made adjustments to our qualitative factors, primarily to account for the changes in internal metrics and external risk factors. The forecast factor remained unchanged as we monitor the economic environment going forward.
The provision is primarily a function of the Company's reserving methodology and assessments of certain quantitative and qualitative factors which are used to determine an appropriate allowance for credit losses for the period. See further discussion regarding the allowance for loan losses in the "Asset Quality" section for an analysis of charge-offs, nonperforming assets, specific reserves and additional provisions and the "Allowance for Credit Loss" section.
Noninterest Income
Years Ended December 31,
2024
2023
$ Change
% Change
(Dollars in Thousands)
Service charges on loans and deposits
$
2,060
$
1,819
$
241
13.2
%
Increase in cash surrender value of life insurance
1,969
1,710
259
15.1
%
Mortgage banking income
83,565
75,686
7,879
10.4
%
Other
1,708
1,970
(262
)
(13.3
%)
Total noninterest income
$
89,302
$
81,185
$
8,117
10.0
%
Total noninterest income increased $8.1 million, or 10.0%, to $89.3 million during the year ended December 31, 2024 compared to $81.2 million during the year ended December 31, 2023.
•
The increase in mortgage banking income was primarily the result of an increase in loan origination volume and a decrease in noninterest expenses. Gross margin on loans originated and sold is the ratio of mortgage banking income (excluding the change in interest rate lock fair value) divided by total loan originations. Total loan origination volume on a consolidated basis increased $106.3 million, or 5.3%, to $2.13 billion during the year ended December 31, 2024 compared to $2.02 billion during the year ended December 31, 2023. Gross margin on loans originated and sold increased 6.6% at the mortgage banking segment. Gross margin on loans originated and sold is the ratio of mortgage banking income (excluding the change in interest rate lock fair value) divided by total loan originations. See "Comparison of Mortgage Banking Segment Results of Operations for the Year December 31, 2024 and 2023" above, for additional discussion of the increase in mortgage banking income.
•
Service charges on loans and deposits increased primarily due to an increase in loan prepayment fees and other loan fees.
•
The decrease in other noninterest income was due primarily to an decrease in gain on sale of mortgage servicing rights. The Company sold mortgage servicing rights related to $233.1 million in loans serviced for third parties. The sale generated $2.1 million in net proceeds on a mortgage servicing rights book value of $2.0 million and resulted in a $152,000 gain during the year ended December 31, 2024. During the year ended December 31, 2023, the Company sold mortgage servicing rights related to $318.4 million in loans serviced for third parties. The sale generated $3.5 million in net proceeds and a $583,000 gain.
- 50 -
Noninterest Expenses
Years Ended December 31,
2024
2023
$ Change
% Change
(Dollars in Thousands)
Compensation, payroll taxes, and other employee benefits
$
81,078
$
84,096
$
(3,018
)
(3.6
%)
Occupancy, office furniture, and equipment
7,573
8,323
(750
)
(9.0
%)
Advertising
3,554
3,779
(225
)
(6.0
%)
Data processing
4,978
4,653
325
7.0
%
Communications
922
988
(66
)
(6.7
%)
Professional fees
3,184
2,686
498
18.5
%
Real estate owned
26
4
22
550.0
%
Loan processing expense
3,090
3,428
(338
)
(9.9
%)
Other
7,231
11,755
(4,524
)
(38.5
%)
Total noninterest expenses
$
111,636
$
119,712
$
(8,076
)
(6.7
%)
Total noninterest expenses decreased $8.1 million, or 6.7%, to $111.6 million during the year ended December 31, 2024 compared to $119.7 million during the year ended December 31, 2023.
•
Compensation, payroll taxes and other employee benefit expense at our mortgage banking segment decreased $3.7 million, or 5.7%, to $61.4 million for the year ended December 31, 2024. The decrease primarily related to decreased salary expense and incentives expense driven by reduced employee headcount and a decrease in new branches added over the past year.
•
Compensation, payroll taxes and other employee benefits expense at the community banking segment increased $819,000 or 4.1%, to $20.7 million during the year ended December 31, 2024. The increase was primarily due to an increase in health insurance expense as claims increased.
•
Occupancy, office furniture and equipment expense at the mortgage banking segment decreased $789,000 to $3.9 million during the year ended December 31, 2024 primarily resulting from decreased rent and depreciation expenses and underperforming branches were closed over the past year.
•
Occupancy, office furniture and equipment expense at the community banking segment increased $40,000 to $3.7 million during the year ended December 31, 2024 compared to the prior year. The increase was due primarily to increases related to new equipment expenses.
•
Advertising expense decreased $225,000, or 6.0%, to $3.6 million during the year ended December 31, 2024. This was primarily due to a decrease at the mortgage banking segment in an effort to control costs.
•
Data processing expense increased $325,000 or 7.0% to $5.0 million during the year ended December 31, 2024 This was primarily due to increases at the community banking segment for continued investments in technology, software, and security.
•
Professional fees increased $498,000, or 18.5%, to $3.2 million during the year ended December 31, 2024. The increase was due to legal costs at the mortgage banking segment. In July 2022, a complaint was filed by Mutual of Omaha Mortgage, Inc. asserting claims against Waterstone Mortgage Corporation related to certain individuals hired by Waterstone Mortgage Corporation who previously worked for Mutual. The Company intends to continue to vigorously defend its interests in this matter and intends to pursue all possible defenses against the claims. In relation to this matter, we had an accrued legal liability balance of $1.3 million included within accrued liabilities on the consolidated balance sheets as of December 31, 2024.
•
Other noninterest expense decreased $4.5 million, or 38.5%, to $7.2 million during the year ended December 31, 2024. The decrease primarily related to decreased provision for branch losses, branch overhead, provision for loan sale losses, and reversal of mortgage servicing rights impairment at the mortgage banking segment.
- 51 -
Income Taxes
Income tax expense increased $3.7 million to $5.3 million during the year ended December 31, 2024, compared to $1.7 million during the year ended December 31, 2023 as pretax income decreased $13.4 million. Income tax expense was recognized during the year ended December 31, 2024 at an effective rate of 22.1% compared to an effective rate of 15.0% during the year ended December 31, 2023.
On March 18, 2024, the State of Wisconsin Department of Revenue issued an emergency ruling with additional details of the law. This publication enabled us to estimate the impact on our Wisconsin state income tax expense. The impact moving forward should result in no Wisconsin state income taxes being expensed, resulting in a lower estimated effective tax rate. The elimination of Wisconsin state income tax expense resulted in the establishment of a valuation allowance for Wisconsin state income deferred tax assets, resulting in a one-time $1.1 million charge to state income tax expense in the first quarter. Partially offsetting the impact of the charge related to the valuation allowance we realized a one-time benefit of approximately $368,000 during the year to recognize a reduction in current state income tax provision.
Liquidity and Capital Resources
We maintain liquid assets at levels we consider adequate to meet our liquidity needs. The liquidity ratio is equal to average daily cash and cash equivalents for the period divided by average total assets. We adjust our liquidity levels to fund loan commitments, repay our borrowings, fund deposit outflows and pay real estate taxes on mortgage loans. We also adjust liquidity as appropriate to meet asset and liability management objectives. The operational adequacy of our liquidity position at any point in time is dependent upon the judgment of the Chief Financial Officer as supported by the Asset/Liability Committee. Liquidity is monitored on a daily, weekly and monthly basis using a variety of measurement tools and indicators. Regulatory liquidity, as required by the WDFI, is based on current liquid assets as a percentage of the prior month’s average deposits and short-term borrowings. Minimum primary liquidity is equal to 4.0% of deposits and short-term borrowings and minimum total regulatory liquidity is equal to 8.0% of deposits and short-term borrowings.
Our primary sources of liquidity are deposits, amortization and repayment of loans, sales of loans held for sale, maturities of investment securities and other short-term investments, and earnings and funds provided from operations. While scheduled principal repayments on loans are a relatively predictable source of funds, deposit flows and loan repayments are greatly influenced by market interest rates, economic conditions, and rates offered by our competitors. We set the interest rates on our deposits to maintain a desired level of total deposits. In addition, we invest excess funds in short-term, interest-earning assets, which provide liquidity to meet lending requirements. Additional sources of liquidity used to manage long- and short-term cash flows include advances from the FHLB.
A portion of our liquidity consists of cash and cash equivalents, which are a product of our operating, investing and financing activities. At December 31, 2024 and 2023, $39.8 million and $36.4 million, respectively, of our assets were invested in cash and cash equivalents. Our primary sources of cash are principal repayments on loans, proceeds from the calls and maturities of debt and mortgage related securities, increases in deposit accounts, Federal funds purchased and advances from the FHLB.
Our cash flows are derived from operating activities, investing activities and financing activities as reported in our Consolidated Statements of Cash Flows included in our Consolidated Financial Statements.
During the years ended December 31, 2024, and 2023, we originated on a consolidated basis $2.13 billion and $2.02 billion in loans for sale and sold loans on a consolidated basis of $2.24 billion and $2.06 billion. During the years ended December 2024 and 2023, loan originations net of loan repayments resulted in a negative cash flows of $16.7 million and $154.2 million. Cash received from the principal repayments of debt and mortgage related securities and maturity and calls of debt securities totaled $30.0 million and $24.9 million for the years ended December 31, 2024 and 2023, respectively. We purchased $34.3 million and $29.5 million in debt securities and mortgage related securities classified as available for sale during the years ended December 31, 2024 and 2023, respectively. The net changes in deposits were a net increase of $169.3 million and a net decrease of $8.4 million for the year ending December 31, 2024 and 2023, respectively. There was a decrease in net borrowings of $164.5 million for the year ended December 31, 2024 and a net increase in borrowings of $224.3 million for the year ended December 31, 2023. During the years ended December 31, 2024 and 2023, we repurchased common stock of $14.9 million and $26.0 million, respectively. During the years ended December 31, 2024 and 2023, we paid cash dividends on common stock of $11.3 million and $15.4 million, respectively.
Deposits increased by $169.3 million from December 31, 2023 to December 31, 2024. The increase was driven by a $175.2 million increase in time deposits and a $10.0 million increase in money market & savings account, offset by an $16.0 million decrease in demand deposits. Of the increase in time deposits, $94.3 million was due to the addition of brokered certificates of deposit. Deposit flows are generally affected by the level of interest rates, market conditions, products offered by local competitors, and other factors.
Liquidity management is both a daily and longer-term function of business management. If we require funds beyond our ability to generate them internally, borrowing agreements exist with the FHLB which provide an additional source of funds. At December 31, 2024, we had $150.0 million in long term advances from the FHLB with contractual maturity dates in 2027 and 2029. See Note 6 - Borrowings of the notes to audited consolidated financial statements for additional information about the remaining call option details of our FHLB long-term debt.
The Company had approximately $327.2 million of uninsured deposits for approximately 1,373 customers as of December 31, 2024. Uninsured deposit amounts are estimated based on the portions of customer account balances that exceed the FDIC insurance limits.
- 52 -
At December 31, 2024, we had outstanding commitments to originate loans receivable of $19.1 million. In addition, at December 31, 2024, we had unfunded commitments under construction loans of $72.8 million, unfunded commitments under business lines of credit of $15.1 million and unfunded commitments under home equity lines of credit and standby letters of credit of $11.9 million. At December 31, 2024, certificates of deposit scheduled to mature in less than one year totaled $842.4 million. Based on prior experience, management believes that a significant portion of such deposits will remain with us, although there can be no assurance that this will be the case. In the event a significant portion of our deposits are not retained by us, we will have to utilize other funding sources, such as Federal Home Loan Bank of Chicago advances, Federal Reserve Discount Window or brokered deposits to maintain our level of assets. However, such borrowings may not be available on attractive terms, or at all, if and when needed. Alternatively, we would reduce our level of liquid assets, such as our cash and cash equivalents and securities available for sale in order to meet funding needs. In addition, the cost of such deposits may be significantly higher if market interest rates are higher or there is an increased amount of competition for deposits in our market area at the time of renewal.
Capital
Shareholders’ equity decreased by $4.9 million, or 1.4%, to $339.1 million at December 31, 2024 from $344.1 million at December 31, 2023. Shareholders' equity decreased primarily due to the the ongoing repurchase of stock, dividends declared, and decrease in the fair value of the securities portfolio. Partially offsetting the decreases, there were increases due to the net income, additional paid-in capital as stock options were exercised and equity awards vested, and unearned ESOP shares vesting.
The Company's Board of Directors authorized a 2,000,000 share stock repurchase program in the second quarter of 2024. As of December 31, 2024, the Company had approximately 1.7 million shares remaining in the plan.
Waterstone Financial, Inc. and WaterStone Bank are subject to various regulatory capital requirements, including a risk-based capital measure. The risk-based capital guidelines include both a definition of capital and a framework for calculating risk-weighted assets by assigning assets and off-balance sheet items to broad risk categories. At December 31, 2024, Waterstone Financial, Inc. and WaterStone Bank exceeded all regulatory capital requirements and are considered “well capitalized” under regulatory guidelines. See “Supervision and Regulation—Capital Requirements” and Note 9 - Regulatory Capital of the notes to the consolidated financial statements.
Contractual Obligations, Commitments, Contingent Liabilities, and Off-balance Sheet Arrangements
During the year ended December 31, 2024, our short-term debt decreased $159.5 million, of which $145.0 million was debt paid off from the Federal Reserve Bank through the borrowing facility called the Bank Term Funding Program. In addition, we repaid $175.0 million in FHLB long-term debt and took on $170.0 million of new FHLB long-term debt.
See Note 8 - Borrowings of the notes to the consolidated financial statements for additional information about the remaining maturities of our FHLB long-term debt.
See Note 14 - Commitments, Off-Balance Sheet Arrangements, and Contingent Liabilities of the notes to the consolidated financial statements for additional information.
WaterStone Bank has various financial obligations, including contractual obligations and commitments that may require future cash payments. The following tables present information indicating various non-deposit contractual obligations and commitments of WaterStone Bank as of December 31, 2024 and the respective maturity dates.
Impact of Inflation and Changing Prices
The financial statements and accompanying notes have been prepared in accordance with GAAP. GAAP generally requires the measurement of financial position and operating results in terms of historical dollars without consideration for changes in the relative purchasing power of money over time due to inflation. The impact of inflation is reflected in the increased cost of our operations. Unlike industrial companies, our assets and liabilities are primarily monetary in nature. As a result, changes in market interest rates have a greater impact on performance than do the effects of inflation.
- 53 -