Document

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
 
FORM 10-Q
 
[X]
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 
 
For the quarterly period ended June 30, 2017
 
 
or
[   ]
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 
           For the transition period from ____________ to ____________
 
Commission File Number: 001-33652
 
 
FIRST FINANCIAL NORTHWEST, INC.
(Exact name of registrant as specified in its charter)
 
Washington
 
26-0610707
(State or other jurisdiction of incorporation or organization)
 
(I.R.S. Employer Identification Number)
 
 
 
201 Wells Avenue South, Renton, Washington
 
98057
(Address of principal executive offices)
 
(Zip Code)
 
 
 
Registrant’s telephone number, including area code:
 
(425) 255-4400
 
 
 
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.

YES    X   NO      

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).

YES    X   NO      

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer”, “smaller reporting company”, and “emerging growth company” in Rule 12b-2 of the Exchange Act.
Large accelerated filer _____
Accelerated filer    X    
  Non-accelerated filer _____
Smaller reporting company _____
Emerging growth company _____
 
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. _____

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).

YES       NO   X   

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date: As of August 3, 2017, 11,039,665 shares of the issuer’s common stock, $0.01 par value per share, were outstanding.



FIRST FINANCIAL NORTHWEST, INC.
FORM 10-Q
TABLE OF CONTENTS
                                                                    
 
 
Page
PART I - FINANCIAL INFORMATION
 
 
Item 1.
Financial Statements
 
Item 2.
Management’s Discussion and Analysis of Financial Condition and Results of Operations
 
Item 3.
Quantitative and Qualitative Disclosures About Market Risk
 
Item 4.
Controls and Procedures
   PART II - OTHER INFORMATION
 
 
Item 1.
Legal Proceedings
 
Item 1A.
Risk Factors
 
Item 2.
Unregistered Sales of Equity Securities and Use of Proceeds
 
Item 3.
Defaults upon Senior Securities
 
Item 4.
Mine Safety Disclosures
 
Item 5.
Other Information
 
Item 6.
Exhibits
SIGNATURES
 
 


2

FIRST FINANCIAL NORTHWEST, INC. AND SUBSIDIARIES
Consolidated Balance Sheets
(Dollars in thousands, except share data)


Part 1. Financial Information

Item 1. Financial Statements

 
June 30, 2017
 
December 31, 2016
Assets
 
(Unaudited)
 
 
Cash on hand and in banks
$
7,418

 
$
5,779

Interest-earning deposits with banks
10,996

 
25,573

Investments available-for-sale, at fair value
133,951

 
129,260

Loans receivable, net of allowance of $11,285 and $10,951
861,672

 
815,043

Federal Home Loan Bank ("FHLB") stock, at cost
8,902

 
8,031

Accrued interest receivable
3,165

 
3,147

Deferred tax assets, net
2,620

 
3,142

Other real estate owned ("OREO")
1,825

 
2,331

Premises and equipment, net
19,501

 
18,461

Bank owned life insurance ("BOLI"), net
28,721

 
24,153

Prepaid expenses and other assets
2,937

 
2,664

Total assets
$
1,081,708

 
$
1,037,584

 
 
 
 
Liabilities and Stockholders' Equity
 

 
 
Deposits:
 
 
 
Noninterest-bearing deposits
$
35,126

 
$
33,422

Interest-bearing deposits
700,449

 
684,054

Total deposits
735,575

 
717,476

FHLB Advances
191,500

 
171,500

Advance payments from borrowers for taxes and insurance
2,183

 
2,259

Accrued interest payable
286

 
231

Other liabilities
8,650

 
7,993

Total liabilities
938,194

 
899,459

 
 

 
 
Commitments and contingencies


 


Stockholders' Equity
 

 
 
Preferred stock, $0.01 par value; authorized 10,000,000 shares; no shares
issued or outstanding

 

Common stock, $0.01 par value; authorized 90,000,000 shares; issued and
outstanding 11,041,865 shares at June 30, 2017, and 10,938,251
shares at December 31, 2016
110

 
109

Additional paid-in capital
98,469

 
96,852

Retained earnings, substantially restricted
51,844

 
48,981

Accumulated other comprehensive loss, net of tax
(984
)
 
(1,328
)
Unearned Employee Stock Ownership Plan ("ESOP") shares
(5,925
)
 
(6,489
)
Total stockholders' equity
143,514

 
138,125

Total liabilities and stockholders' equity
$
1,081,708

 
$
1,037,584


See accompanying selected notes to consolidated financial statements.

3


FIRST FINANCIAL NORTHWEST, INC. AND SUBSIDIARIES
Consolidated Income Statements
(Dollars in thousands, except per share data)
(Unaudited)

 
Three Months Ended June 30,
 
Six Months Ended June 30,
 
2017
 
2016
 
2017
 
2016
Interest income
 
 
 
 
 
 
 
Loans, including fees
$
10,352

 
$
9,048

 
$
20,379

 
$
17,775

Investments available-for-sale
887

 
757

 
1,732

 
1,432

Interest-earning deposits with banks
42

 
47

 
86

 
160

Dividends on FHLB stock
62

 
44

 
144

 
91

Total interest income
11,343

 
9,896

 
22,341

 
19,458

Interest expense
 
 
 
 
 

 
 

Deposits
1,776

 
1,441

 
3,467

 
2,924

FHLB advances and other borrowings
570

 
272

 
1,015

 
570

Total interest expense
2,346

 
1,713

 
4,482

 
3,494

Net interest income
8,997

 
8,183

 
17,859

 
15,964

Provision for loan losses
100

 
600

 
300

 
500

Net interest income after provision for loan losses
8,897

 
7,583

 
17,559

 
15,464

Noninterest income
 
 
 
 
 

 
 

Net gain on sale of investments
56

 

 
56

 

BOLI income
116

 
225

 
317

 
391

Wealth management revenue
307

 
281

 
447

 
491

Other
252

 
202

 
446

 
306

Total noninterest income
731

 
708

 
1,266

 
1,188

Noninterest expense
 

 
 
 
 

 
 

Salaries and employee benefits
4,409

 
3,841

 
8,694

 
7,615

Occupancy and equipment
579

 
488

 
1,059

 
996

Professional fees
482

 
561

 
921

 
1,029

Data processing
519

 
251

 
759

 
441

(Gain) loss on sale of OREO property, net
(5
)
 
89

 
(5
)
 
87

OREO market value adjustments

 

 
50

 
257

OREO related reimbursements, net
(15
)
 
(14
)
 
(25
)
 
(34
)
Regulatory assessments
112

 
117

 
208

 
237

Insurance and bond premiums
98

 
86

 
197

 
174

Marketing
52

 
40

 
100

 
78

Other general and administrative
605

 
613

 
946

 
965

Total noninterest expense
6,836

 
6,072

 
12,904

 
11,845

Income before federal income tax provision
2,792

 
2,219

 
5,921

 
4,807

Federal income tax provision
924

 
779

 
1,709

 
1,542

Net income
$
1,868

 
$
1,440

 
$
4,212

 
$
3,265

Basic earnings per common share
$
0.18

 
$
0.12

 
$
0.41

 
$
0.26

Diluted earnings per common share
$
0.18

 
$
0.11

 
$
0.40

 
$
0.26

Basic weighted average number of common shares outstanding
10,363,345

 
12,390,234

 
10,341,654

 
12,567,464

Diluted weighted average number of common shares outstanding
10,500,829

 
12,530,720

 
10,503,023

 
12,718,155

See accompanying selected notes to consolidated financial statements.

4


FIRST FINANCIAL NORTHWEST, INC. AND SUBSIDIARIES
Consolidated Statements of Comprehensive Income
(In thousands)
(Unaudited)


 
Three Months Ended June 30,
 
Six Months Ended June 30,
 
2017
 
2016
 
2017
 
2016
Net income
$
1,868

 
$
1,440

 
$
4,212

 
$
3,265

Other comprehensive income, before tax:
 
 
 
 
 
 
 
Gross unrealized holding gains on investments available-for-sale
453

 
866

 
829

 
2,308

Tax provision
(159
)
 
(303
)
 
(290
)
 
(808
)
Reclassification adjustment for net gains realized in income
(56
)
 

 
(56
)
 

Tax benefit
20

 

 
20

 

Loss on cash flow hedge
(306
)
 

 
$
(243
)
 
$

Tax benefit
107

 

 
$
84

 
$

Other comprehensive income, net of tax
59

 
563

 
$
344

 
$
1,500

Total comprehensive income
$
1,927

 
$
2,003

 
$
4,556

 
$
4,765


See accompanying selected notes to consolidated financial statements.



5


FIRST FINANCIAL NORTHWEST, INC. AND SUBSIDIARIES
Consolidated Statements of Stockholders’ Equity
(Dollars in thousands except share data)
(Unaudited)


 
Shares
 
Common Stock
 
Additional Paid-in Capital
 
Retained Earnings
 
Accumulated Other Comprehensive (Loss) Income,
 net of tax
 
Unearned
ESOP
Shares
 
Total Stockholders’ Equity
Balances at December 31, 2015
13,768,814

 
$
138

 
$
136,338

 
$
42,892

 
$
(1,077
)
 
$
(7,618
)
 
$
170,673

Net income

 

 

 
3,265

 

 

 
3,265

Other comprehensive income

 

 

 

 
1,500

 

 
1,500

Exercise of stock options
55,673

 

 
244

 

 

 

 
244

Issuance of common stock - restricted stock awards
14,052

 

 

 

 

 

 

Compensation related to stock options and restricted stock awards

 

 
383

 

 

 

 
383

Allocation of 56,426 ESOP shares

 

 
189

 

 

 
565

 
754

Repurchase and retirement of common stock
(436,154
)
 
(4
)
 
(5,843
)
 

 

 

 
(5,847
)
Canceled common stock - restricted stock awards
(74,478
)
 
(1
)
 
1

 

 

 

 

Cash dividend declared and paid ($0.12 per share)

 

 

 
(1,517
)
 

 

 
(1,517
)
Balances at June 30, 2016
13,327,907

 
$
133

 
$
131,312

 
$
44,640

 
$
423

 
$
(7,053
)
 
$
169,455


 
Shares
 
Common 
Stock
 
Additional 
Paid-in
Capital
 
Retained
Earnings
 
Accumulated Other Comprehensive (Loss) Income,  net of tax
 
Unearned
ESOP
Shares
 
Total
Stockholders' Equity
Balances at December 31, 2016
10,938,251

 
$
109

 
$
96,852

 
$
48,981

 
$
(1,328
)
 
$
(6,489
)
 
$
138,125

Net income

 

 

 
4,212

 

 

 
4,212

Other comprehensive income

 

 

 

 
344

 

 
344

Exercise of stock options
115,880

 
1

 
1,132

 

 

 

 
1,133

Issuance of common stock - restricted stock awards, net
10,434

 

 

 

 

 

 

Compensation related to stock options and restricted stock awards

 

 
401

 

 

 

 
401

Allocation of 56,428 ESOP shares

 

 
446

 

 

 
564

 
1,010

Repurchase and retirement of common stock
(22,700
)
 

 
(362
)
 

 

 

 
(362
)
Cash dividend declared and paid ($0.13 per share)

 

 

 
(1,349
)
 

 

 
(1,349
)
Balances at June 30, 2017
11,041,865

 
$
110

 
$
98,469

 
$
51,844

 
$
(984
)
 
$
(5,925
)
 
$
143,514


See accompanying selected notes to consolidated financial statements.

6


FIRST FINANCIAL NORTHWEST, INC. AND SUBSIDIARIES
Consolidated Statements of Cash Flows
(In thousands)
(Unaudited)

 
Six Months Ended June 30,
 
2017
 
2016
Cash flows from operating activities:
 
 
 
Net income
$
4,212

 
$
3,265

Adjustments to reconcile net income to net cash provided by
operating activities:
 

 
 
Provision for loan losses
300

 
500

OREO market value adjustments
50

 
257

(Gain) loss on sale of OREO property, net
(5
)
 
87

Gain on sale of investments available-for-sale
(56
)
 

Loss on sale of premises and equipment
23

 

Depreciation of premises and equipment
536

 
524

Amortization of premiums and discounts on investments available-for-sale, net
331

 
498

Deferred federal income taxes
336

 
309

Allocation of ESOP shares
1,010

 
754

Stock compensation expense
401

 
383

Increase in cash surrender value of BOLI
(317
)
 
(391
)
Changes in operating assets and liabilities:
 
 
 

(Increase) decrease in prepaid expenses and other assets
(516
)
 
32

Net (decrease) increase in advance payments from borrowers for taxes and insurance
(76
)
 
350

Increase in accrued interest receivable
(18
)
 
(190
)
Increase (decrease) in accrued interest payable
55

 
(21
)
Increase (decrease) in other liabilities
657

 
(591
)
Net cash provided by operating activities
6,923

 
5,766

Cash flows from investing activities:
 

 
 

Proceeds from sales of OREO properties
461

 
988

Proceeds from calls and sales of investments available-for-sale
4,742

 
430

Principal repayments on investments available-for-sale
5,253

 
8,203

Purchases of investments available-for-sale
(14,188
)
 
(13,285
)
Net increase in loans receivable
(46,929
)
 
(81,474
)
Purchase of FHLB stock
(871
)
 
(1,494
)
Purchases of premises and equipment
(1,599
)
 
(1,023
)
Surrender of BOLI

 
10,182

Purchase of BOLI
(4,251
)
 
(10,182
)
Net cash used by investing activities
(57,382
)
 
(87,655
)
Cash flows from financing activities:
 

 
 

Net increase (decrease) in deposits
18,099

 
(15,197
)
Advances from the FHLB
40,000

 
160,000

Repayments of advances from the FHLB
(20,000
)
 
(124,000
)
Proceeds from stock options exercises
1,133

 
244

Repurchase and retirement of common stock
(362
)
 
(5,847
)
Dividends paid
(1,349
)
 
(1,517
)
Net cash provided by financing activities
37,521

 
13,683

 
 
 
 
Continued
 
 
 

7


FIRST FINANCIAL NORTHWEST, INC. AND SUBSIDIARIES
Consolidated Statements of Cash Flows
(In thousands)
(Unaudited)

 
 
 
 
 
Six Months Ended June 30,
 
2017
 
2016
 
 
 
 
Net decrease in cash and cash equivalents
$
(12,938
)
 
$
(68,206
)
Cash and cash equivalents at beginning of period
31,352

 
105,711

Cash and cash equivalents at end of period
$
18,414

 
$
37,505

 
 
 
 
Supplemental disclosures of cash flow information:
 

 
 

Cash paid during the period for:
 

 
 

Interest paid
$
4,427

 
$
3,515

Federal income taxes paid
1,900

 
1,175

Noncash items:
 

 
 

Change in unrealized loss on investments available-for-sale
$
773

 
$
2,308

Change in gain on cash flow hedge
(243
)
 


See accompanying selected notes to consolidated financial statements.


8



FIRST FINANCIAL NORTHWEST, INC. AND SUBSIDIARIES
SELECTED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

Note 1 - Description of Business

First Financial Northwest, Inc. (“First Financial Northwest”), a Washington corporation, was formed on June 1, 2007 for the purpose of becoming the holding company for First Financial Northwest Bank (“the Bank”) in connection with the conversion from a mutual holding company structure to a stock holding company structure completed on October 9, 2007. First Financial Northwest’s business activities generally are limited to passive investment activities and oversight of its investment in First Financial Northwest Bank. Accordingly, the information presented in the consolidated financial statements and accompanying data, relates primarily to First Financial Northwest Bank. First Financial Northwest is a bank holding company, having converted from a savings and loan holding company on March 31, 2015, and as a bank holding company is subject to regulation by the Federal Reserve Bank of San Francisco. First Financial Northwest Bank is regulated by the Federal Deposit Insurance Corporation (“FDIC”) and the Washington State Department of Financial Institutions (“DFI”).

First Financial Northwest Bank is headquartered in Renton, Washington, where it has a full-service retail branch as well as a smaller branch located in a commercial development known as the “Landing”. Three additional, smaller branches are located in Mill Creek and Edmonds, both in Snohomish County, Washington and the community of Crossroads in Bellevue, in King County, Washington. The Bank has received regulatory approval to open a new branch in Bothell, also in King County, Washington, which is expected to open in the fourth quarter of 2017. The Bank’s primary market area consists of King, Snohomish, Pierce and Kitsap counties, Washington. In addition to these de novo branches, the Bank has received FDIC, DFI and California Department of Business Oversight approvals on the acquisition of four Washington branches located in the Clearview area in Snohomish, the Smokey Point area in Arlington, and Lake Stevens, all in Snohomish County, and Woodinville, in King County. The acquisition is scheduled to close during the third quarter of 2017, subject to customary closing conditions.

The Bank is a portfolio lender, originating one-to-four family residential, multifamily, commercial real estate, construction/land development, business, and consumer loans. Loans are primarily funded by deposits from the general public, supplemented by borrowings from the Federal Home Loan Bank of Des Moines (“FHLB”) and deposits raised in the national brokered deposit market.

As used throughout this report, the terms “we,” “our,” “us,” or the “Company” refer to First Financial Northwest, Inc. and its consolidated subsidiary First Financial Northwest Bank, unless the context otherwise requires.

Note 2 - Basis of Presentation

The accompanying unaudited interim consolidated financial statements have been prepared pursuant to the rules and regulations of the U.S. Securities and Exchange Commission ("SEC"). Accordingly, they do not include all of the information and footnotes required by U.S. Generally Accepted Accounting Principles (“GAAP”) for complete financial statements. These unaudited interim consolidated financial statements should be read in conjunction with the Company's Annual Report on Form 10-K for the year ended December 31, 2016, as filed with the SEC. In our opinion, all adjustments (consisting only of normal recurring adjustments) considered necessary for a fair presentation of the unaudited interim consolidated financial statements in accordance with GAAP have been included. All significant intercompany balances and transactions between the Company and its subsidiaries have been eliminated in consolidation. Operating results for the six months ended June 30, 2017, are not necessarily indicative of the results that may be expected for the year ending December 31, 2017. In preparing the unaudited consolidated financial statements, we are required to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenues and expenses. Actual results could differ from those estimates. Material estimates that are particularly susceptible to significant change relate to the allowance for loan and lease losses (“ALLL”), the valuation of other real estate owned (“OREO”) and the underlying collateral of impaired loans, deferred tax assets, and the fair value of financial instruments.

The Company’s activities are considered to be a single industry segment for financial reporting purposes. The Company is engaged in the business of attracting deposits from the general public and originating and purchasing loans for its portfolio. Substantially all income is derived from a diverse base of commercial, multifamily, and residential real estate loans, consumer lending activities, and investments.

Certain amounts in the unaudited interim consolidated financial statements for prior periods have been reclassified to conform to the current unaudited financial statement presentation with no effect on consolidated net income or stockholders’ equity.

9


FIRST FINANCIAL NORTHWEST, INC. AND SUBSIDIARIES
SELECTED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)



Note 3 - Recently Issued Accounting Pronouncements

In May 2014, the Financial Accounting Standards Board ("FASB") issued Accounting Standards Update ("ASU") No. 2014-09, Revenue from Contracts with Customers (Topic 606). In August 2015, FASB issued ASU No. 2015-14, Revenue from Contracts with Customers (Topic 606) which postponed the effective date of 2014-09. Subsequently, in March 2016, the FASB issued ASU 2016-08, Revenue from Contracts with Customers (Topic 606): Principal versus Agent Considerations. This amendment clarifies that an entity should determine if it is the principal or the agent for each specified good or service promised in a contract with a customer. In April 2016, the FASB issued ASU No. 2016-10, Revenue from Contracts with Customers (Topic 606): Identifying Performance Obligations and Licensing. The core principle of Topic 606 is that an entity must recognize revenue when it has satisfied a performance obligation of transferring promised goods or services to a customer. The standard is effective for public entities for interim and annual periods beginning after December 15, 2017; early adoption is not permitted. The standard allows for full retrospective adoption for all periods presented or modified retrospective adoption to only the most current period presented in the financial statements. The cumulative effect of initially applying the standard is recognized at the date of the initial application. Our primary source of revenue is interest income, which is recognized as it is earned and is deemed to be in compliance with this ASU. With respect to noninterest income, the Company is in its preliminary stages of identifying and evaluating the revenue streams and underlying revenue contracts within the scope of the guidance. The Company is expecting to begin developing processes and procedures during 2017 to ensure it is fully compliant with these amendments. To date, the Company has not yet identified any significant changes in the timing of revenue recognition when considering the amended accounting guidance; however, the Company’s implementation efforts are ongoing and such assessments may change prior to the January 1, 2018 implementation date. Accordingly, the Company does not expect implementation of this standard to have a material impact on our consolidated financial statements.

In January 2016, FASB issued ASU No. 2016-01, Financial Instruments--Overall, Recognition and Measurement of Financial Assets and Financial Liabilities. ASU 2016-01 requires equity investments (except those accounted for under the equity method of accounting) to be measured at fair value with changes in fair value recognized in net income. The amendments in this ASU also require an entity to present separately in other comprehensive income the portion of the total change in the fair value of a liability resulting from a change in instrument-specific credit risk. In addition, the ASU eliminates the requirement to disclose the method(s) and significant assumptions used to estimate the fair value that is required to be disclosed for financial instruments measured at amortized cost on the balance sheet. The ASU also clarifies that an entity should evaluate the need for a valuation allowance on a deferred tax asset related to available-for-sale securities in combination with the entity’s other deferred tax assets. The amendments in this ASU are effective for fiscal years beginning after December 15, 2017, including interim periods within those fiscal years. Early application is permitted for fiscal years or interim periods that have not yet been issued if adopted at the beginning of the fiscal year. The Company is reviewing our available-for-sale investment portfolio in accordance with the provision of this standard. The adoption of ASU 2016-01 is not expected to have a material impact on the Company’s consolidated financial statements.
        
In February 2016, FASB issued ASU No. 2016-02, Leases (Topic 842). ASU No. 2016-02 requires lessees to recognize on the balance sheet the assets and liabilities arising from operating leases. A lessee should recognize a liability to make lease payments and a right-of-use asset representing its right to use the underlying asset for the lease term. A lessee should include payments to be made in an optional period only if the lessee is reasonably certain to exercise an option to extend the lease or not to exercise an option to terminate the lease. For a finance lease, interest payments should be recognized separately from amortization of the right-of-use asset in the statement of comprehensive income. For operating leases, the lease cost should be allocated over the lease term on a generally straight-line basis. The amendments in ASU 2016-02 are effective for fiscal years beginning after December 15, 2018, including interim periods within those fiscal years. Early application of the amendments in the ASU is permitted. The effect of the adoption will depend on leases at the time of adoption. Once adopted, we expect to report higher assets and liabilities as a result of including right-of-use assets and lease liabilities related to certain banking offices and certain equipment under noncancelable operating lease agreements, however, based on current leases, the adoption is expected to increase our consolidated balance sheets by less than 5% and not to have a material impact on our regulatory capital ratios.
In June 2016, FASB issued ASU No. 2016-13, Financial Instruments--Credit Losses (Topic 326). This ASU replaces the existing incurred loss impairment methodology that recognizes credit losses when a probable loss has been incurred with new methodology where loss estimates are based upon lifetime expected credit losses. The amendments in this ASU require a financial asset that is measured at amortized cost to be presented at the net amount expected to be collected. The income statement would then reflect the measurement of credit losses for newly recognized financial assets as well as changes to the expected credit losses that have taken place during the reporting period. The measurement of expected credit losses will be based on historical information, current conditions, and reasonable and supportable forecasts that impact the collectability of the reported amount. Available-for-

10


FIRST FINANCIAL NORTHWEST, INC. AND SUBSIDIARIES
SELECTED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


sale securities will bifurcate the fair value mark and establish an allowance for credit losses through the income statement for the credit portion of that mark. The interest portion will continue to be recognized through accumulated other comprehensive income or loss. The change in allowance recognized as a result of adoption will occur through a cumulative-effect adjustment to retained earnings as of the beginning of the first reporting period in which the ASU is adopted. The amendments in this ASU are effective for fiscal years beginning after December 15, 2019, including interim periods within those fiscal years, with early adoption permitted for fiscal years beginning after December 15, 2018. The Company is evaluating our current expected loss methodology of our loan and investment portfolios to identify the necessary modifications in accordance with this standard and expects a change in the processes and procedures to calculate the ALLL, including changes in assumptions and estimates to consider expected credit losses over the life of the loan versus the current accounting practice that utilizes the incurred loss model. A valuation adjustment to our ALLL or investment portfolio that is identified in this process will be reflected as a one-time adjustment in equity rather than earnings. We are evaluating the potential impact adoption of this standard will have on our consolidated financial statements and expect to shortly begin developing and implementing processes and procedures to ensure we are fully compliant with the amendments at the adoption date. Once adopted, we expect our allowance for loan losses to increase, however, until our evaluation is complete the magnitude of the increase will be unknown.

In August 2016, FASB issued ASU No. 2016-15, Statement of Cash Flows (Topic 230): Classification of Certain Cash Receipts and Cash Payments. This ASU was to address the appropriate classification of eight specific cash flow issues on the cash flow statement. Debt prepayment costs should be classified as an outflow for financing activities. Settlement of zero-coupon debt instruments divides the interest portion as an outflow for operating activities and the principal portion as an outflow for financing activities. Contingent consideration payments made after a business combination should be classified as outflows for financing and operating activities. Proceeds from the settlement of bank-owned life insurance policies should be classified as inflows from investing activities. Other specific areas are identified in the ASU as to the appropriate classification of the cash inflows or outflows. The amendments in this ASU are effective for fiscal years beginning after December 15, 2017, including interim periods within those fiscal years. Early adoption is permitted and must be applied using a retrospective transition method to each period presented. The Company is evaluating our current cash flow statement classifications in accordance with the standard. Adoption of ASU 2016-15 is not expected to have a material impact on the Company’s consolidated financial statements.

In January 2017, FASB issued ASU 2017-01, Business Combinations (Topic 805). This ASU clarifies the definition of a business to assist in determining whether transactions should be accounted for as acquisitions (or disposals) or assets or businesses. The amendments in this ASU provide a screen to determine when a set of assets and activities is not a business, thereby reducing the number of transactions requiring further evaluation. If the screen is not met, the amendments in this ASU further provide a framework to evaluate if the criteria is present to qualify for a business. This ASU is effective for annual periods beginning after December 15, 2017 and should be applied prospectively on or after the effective date. Adoption of ASU 2017-01 is not expected to have a material impact on the Company’s consolidated financial statements.     

In January 2017, FASB issued ASU 2017-03, Accounting Changes and Error Corrections (Topic 250) and Investments-Equity Method and Joint Ventures (Topic 323). The ASU amends the Codification for SEC staff announcements made at recent Emerging Issues Task Force (EITF) meetings. The SEC guidance that specifically relates to the Company’s consolidated financial statements was from the September 2016 meeting, where the SEC staff expressed their expectations about the extent of disclosures registrants should make about the effects of the new FASB guidance as well as any amendments issued prior to adoption, in particular on revenue (ASU 2014-09), leases (ASU 2016-02) and credit losses on financial instruments (ASU 2016-13) in accordance with Staff Accounting Bulletin Topic 11.M. Registrants are required to disclose the effect that recently issued accounting standards will have on their financial statements when adopted in a future period. In cases where a registrant cannot reasonably estimate the impact of the adoption, then additional qualitative disclosures should be considered. The ASU incorporates these SEC staff views into Topic 250 and adds references to that guidance in the transition paragraphs of each of the three new standards. The Company has adopted the amendments in this ASU and appropriate disclosures have been included in this Note for each recently issued accounting standard.

In January 2017, FASB issued ASU No. 2017-04, Intangibles--Goodwill and Other (Topic 350). This ASU simplifies the impairment calculation for subsequent measurement of goodwill by eliminating the step of comparing the implied fair value of a reporting unit’s goodwill with the carrying amount of that goodwill. Under the amendments in this ASU, an entity will evaluate the carrying amount of a reporting unit to its fair value, as if the reporting unit had been acquired in a business combination. An impairment charge should be recognized for the amount that the carrying amount exceeds the fair value, not to exceed the amount of goodwill. The income tax effect should be considered for any tax deductible goodwill when measuring the impairment loss. While the Company does not have any goodwill to recognize from any previous transaction, this ASU will apply to the impairment analysis of goodwill recognized in future transactions. The amendments in this ASU are effective for goodwill impairment tests

11


FIRST FINANCIAL NORTHWEST, INC. AND SUBSIDIARIES
SELECTED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


in fiscal years beginning after December 15, 2019. Early adoption is permitted for reporting periods after January 1, 2017. Adoption of ASU 2017-04 is not expected to have a material impact on the Company’s consolidated financial statements.
    
In March 2017, FASB issued ASU No. 2017-08, Receivables - Nonrefundable Fees and Other Costs (Subtopic 310-20): Premium Amortization on Purchased Callable Debt Securities. The ASU shortens the amortization period for certain callable debt securities held at a premium. The standard will take effect for SEC filers for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2018. The adoption of ASU No. 2017-08 is not expected to have a material impact on the Company's consolidated financial statements.

In May 2017, FASB issued ASU No. 2017-09, Compensation--Stock Compensation (Topic 718): Scope of Modification Accounting. The ASU was issued to provide clarity as to when to apply modification accounting when there is a change in the terms or conditions of a share-based payment award. According to this ASU, an entity should account for the effects of a modification unless the fair value, vesting conditions, and balance sheet classification of the award is the same after the modification as compared to the original award prior to the modification. The standard is effective for reporting periods beginning after December 15, 2017, with early adoption permitted. The adoption of ASU No. 2017-09 is not expected to have a material impact on the Company’s consolidated financial statements.

Note 4 - Investments

Investments available-for-sale are summarized as follows at the dates indicated:
 
June 30, 2017
 
Amortized
Cost
 
Gross
Unrealized
Gains
 
Gross
Unrealized
Losses
 
Fair Value

(In thousands)
Mortgage-backed investments:
 
 
 
 
 
 
 
   Fannie Mae
$
46,664

 
$
164

 
$
(625
)
 
$
46,203

   Freddie Mac
15,865

 
87

 
(72
)
 
15,880

   Ginnie Mae
18,425

 
28

 
(559
)
 
17,894

Municipal bonds
14,137

 
210

 
(29
)
 
14,318

U.S. Government agencies
15,175

 
90

 
(127
)
 
15,138

Corporate bonds
24,504

 
412

 
(398
)
 
24,518

Total
$
134,770

 
$
991

 
$
(1,810
)
 
$
133,951

 
December 31, 2016
 
Amortized
Cost
 
Gross
Unrealized
Gains
 
Gross
Unrealized
Losses
 
Fair Value
 
(In thousands)
Mortgage-backed investments:
 
 
 
 
 
 
 
   Fannie Mae
$
42,060

 
$
126

 
$
(854
)
 
$
41,332

   Freddie Mac
18,013

 
95

 
(99
)
 
18,009

   Ginnie Mae
19,133

 
41

 
(540
)
 
18,634

Municipal bonds
13,203

 
11

 
(107
)
 
13,107

U.S. Government agencies
15,937

 
75

 
(155
)
 
15,857

Corporate bonds
22,506

 
241

 
(426
)
 
22,321

Total
$
130,852

 
$
589

 
$
(2,181
)
 
$
129,260

 
The tables below summarize the aggregate fair value and gross unrealized loss by length of time those investment securities have been continuously in an unrealized loss position at the dates indicated:

12


FIRST FINANCIAL NORTHWEST, INC. AND SUBSIDIARIES
SELECTED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


 
June 30, 2017
 
Less Than 12 Months
 
12 Months or Longer
 
Total
 
Fair Value
 
Gross Unrealized
Loss
 
Fair Value
 
Gross Unrealized
Loss
 
Fair Value
 
Gross Unrealized
Loss
 
(In thousands)
Mortgage-backed investments:
 
 
 
 
 
 
 
 
 
 
 
   Fannie Mae
$
35,902

 
$
(625
)
 
$

 
$

 
$
35,902

 
$
(625
)
   Freddie Mac
10,039

 
(72
)
 

 

 
10,039

 
(72
)
   Ginnie Mae
16,285

 
(559
)
 

 

 
16,285

 
(559
)
Municipal bonds
2,844

 
(29
)
 

 

 
2,844

 
(29
)
U.S. Government agencies
8,447

 
(127
)
 

 

 
8,447

 
(127
)
Corporate bonds
1,499

 
(2
)
 
7,103

 
(396
)
 
8,602

 
(398
)
Total
$
75,016

 
$
(1,414
)
 
$
7,103

 
$
(396
)
 
$
82,119

 
$
(1,810
)
 
December 31, 2016
 
Less Than 12 Months
 
12 Months or Longer
 
Total
 
Fair Value
 
Gross Unrealized
Loss
 
Fair Value
 
Gross Unrealized
Loss
 
Fair Value
 
Gross Unrealized
Loss
 
(In thousands)
Mortgage-backed investments:
 
 
 
 
 
 
 
 
 
 
 
   Fannie Mae
$
34,763

 
$
(854
)
 
$

 
$

 
$
34,763

 
$
(854
)
   Freddie Mac
8,343

 
(99
)
 

 

 
8,343

 
(99
)
   Ginnie Mae
16,734

 
(540
)
 

 

 
16,734

 
(540
)
Municipal bonds
8,815

 
(107
)
 

 

 
8,815

 
(107
)
U.S. Government agencies
9,000

 
(153
)
 
1,426

 
(2
)
 
10,426

 
(155
)
Corporate bonds
3,880

 
(119
)
 
4,693

 
(307
)
 
8,573

 
(426
)
Total
$
81,535

 
$
(1,872
)
 
$
6,119

 
$
(309
)
 
$
87,654

 
$
(2,181
)

On a quarterly basis, management makes an assessment to determine whether there have been any events or economic circumstances to indicate that a security on which there is an unrealized loss is impaired on an other-than-temporary basis. The Company considers many factors including the severity and duration of the impairment, recent events specific to the issuer or industry, and for debt securities, external credit ratings and recent downgrades. Securities on which there is an unrealized loss that is deemed to be an other-than-temporary impairment (“OTTI”) are written down to fair value. If the Company intends to sell a debt security, or it is likely that the Company will be required to sell the debt security before recovering its cost basis, the entire impairment loss would be recognized in earnings as an OTTI. If the Company does not intend to sell the debt security and it is not likely that it will be required to sell the debt security but does not expect to recover the entire amortized cost basis of the debt security, only the portion of the impairment loss representing credit losses would be recognized in earnings. The credit loss on a debt security is measured as the difference between the amortized cost basis and the present value of the cash flows expected to be collected. Projected cash flows are discounted by the original or current effective interest rate depending on the nature of the debt security being measured for potential OTTI. The remaining impairment related to all other factors, the difference between the present value of the cash flows expected to be collected and fair value, is recognized as a charge to other comprehensive income (“OCI”). Impairment losses related to all other factors are presented as separate categories within OCI. At June 30, 2017 and December 31, 2016, the Company had 46 securities and 53 securities in an unrealized loss position, respectively. At June 30, 2017 and December 31, 2016, the Company had five securities and four securities, respectively, in an unrealized loss position for 12 months or more. Management reviewed the financial condition of the entities issuing municipal or corporate bonds at June 30, 2017 and December 31, 2016, and determined that an OTTI charge was not warranted.

The amortized cost and estimated fair value of investments available-for-sale at June 30, 2017, by contractual maturity, are shown below. Expected maturities will differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties. Investments not due at a single maturity date, primarily mortgage-backed investments, are shown separately.

13


FIRST FINANCIAL NORTHWEST, INC. AND SUBSIDIARIES
SELECTED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


 
June 30, 2017
 
Amortized Cost
 
Fair Value
 
(In thousands)
Due within one year
$
5,506

 
$
5,521

Due after one year through five years
4,915

 
4,918

Due after five years through ten years
24,652

 
24,739

Due after ten years
18,743

 
18,796

 
53,816

 
53,974

Mortgage-backed investments
80,954

 
79,977

Total
$
134,770

 
$
133,951


Under Washington state law, in order to participate in the public funds program the Company is required to pledge eligible securities as collateral in an amount equal to 50% of the public deposits held less the FDIC insured amount. Investment securities with market values of $21.7 million and $22.6 million were pledged as collateral for public deposits at June 30, 2017 and December 31, 2016, respectively, both of which exceeded the collateral requirements established by the Washington Public Deposit Protection Commission.

For the three and six months ended June 30, 2017, we had calls and sales on investment securities of $4.7 million generating a net gain of $56,000. For the three and six months ended June 30, 2016, we had calls on investment securities of $385,000, and $430,000, respectively, with no gain or loss. There were no sales of investments during the six months ended June 30, 2016.

    


14


FIRST FINANCIAL NORTHWEST, INC. AND SUBSIDIARIES
SELECTED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


Note 5 - Loans Receivable

Loans receivable are summarized as follows at the dates indicated: 
 
June 30, 2017
 
December 31, 2016
 
(In thousands)
One-to-four family residential:
 
 
 
Permanent owner occupied
$
137,816

 
$
137,834

Permanent non-owner occupied
118,816

 
111,601

 
256,632

 
249,435

 
 
 
 
Multifamily
125,884

 
123,250

 
 
 
 
Commercial real estate
317,218

 
303,694

 
 
 
 
Construction/land:
 
 
 

One-to-four family residential
76,404

 
67,842

Multifamily
123,497

 
111,051

Commercial
1,100

 

Land
39,012

 
30,055

 
240,013

 
208,948

 
 
 
 
Business
15,206

 
7,938

Consumer
9,031

 
6,922

Total loans
963,984

 
900,187

 
 
 
 
Less:
 
 
 

Loans in process ("LIP")
88,475

 
72,026

Deferred loan fees, net
2,552

 
2,167

Allowance for loan and lease losses ("ALLL")
11,285

 
10,951

Loans receivable, net
$
861,672

 
$
815,043


At June 30, 2017, loans totaling $448.2 million were pledged to secure borrowings from the FHLB of Des Moines compared to $472.1 million at December 31, 2016.
    
ALLL. The Company maintains an ALLL as a reserve against probable and inherent risk of losses in its loan portfolios. The ALLL is comprised of a general reserve component for loans evaluated collectively for loss and a specific reserve component for loans evaluated individually. When an issue is identified and it is determined that the loan needs to be classified as nonperforming and/or impaired, an evaluation of the discounted expected cash flows is done and an appraisal may be obtained on the collateral. Based on this evaluation, additional provision for loan loss or charge-offs is recorded prior to the end of the financial reporting period.

The following tables summarize changes in the ALLL and loan portfolio by loan type and impairment method at the dates and for the periods shown: 


15


FIRST FINANCIAL NORTHWEST, INC. AND SUBSIDIARIES
SELECTED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


 
At or For the Three Months Ended June 30, 2017
 
One-to-Four
Family
Residential
 
Multifamily
 
Commercial 
Real Estate
 
Construction/
Land
 
Business
 
Consumer
 
Total
 
(In thousands)
ALLL:
 
 
 
 
 
 
 
 
 
 
 
 
 
Beginning balance
$
2,542

 
$
1,188

 
$
4,027

 
$
2,791

 
$
311

 
$
299

 
$
11,158

   Charge-offs

 

 

 

 

 

 

   Recoveries
27

 

 

 

 

 

 
27

Provision (recapture)
58

 
43

 
(294
)
 
151

 
146

 
(4
)
 
100

Ending balance
$
2,627

 
$
1,231

 
$
3,733

 
$
2,942

 
$
457

 
$
295

 
$
11,285

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
At or For the Six Months Ended June 30, 2017
 
One-to-Four
Family
Residential
 
Multifamily
 
Commercial 
Real Estate
 
Construction/
Land
 
Business
 
Consumer
 
Total
 
(In thousands)
ALLL:
 
 
 
 
 
 
 
 
 
 
 
 
 
Beginning balance
$
2,551

 
$
1,199

 
$
3,893

 
$
2,792

 
$
237

 
$
279

 
$
10,951

   Charge-offs

 

 

 

 

 

 

   Recoveries
33

 

 

 

 

 
1

 
34

   Provision (recapture)
43

 
32

 
(160
)
 
150

 
220

 
15

 
300

Ending balance
$
2,627

 
$
1,231

 
$
3,733

 
$
2,942

 
$
457

 
$
295

 
$
11,285

 

 

 

 

 

 

 

ALLL by category:


 


 


 


 


 


 


General reserve
$
2,446

 
$
1,231

 
$
3,710

 
$
2,942

 
$
457

 
$
295

 
$
11,081

Specific reserve
181

 

 
23

 

 

 

 
204

 

 

 

 

 

 

 

Loans: (1)

 

 

 

 

 

 
 
Total loans
$
256,632

 
$
125,884

 
$
316,675

 
$
152,082

 
$
15,206

 
$
9,031

 
$
875,510

Loans collectively evaluated for impairment (2)
236,951

 
124,738

 
313,015

 
152,082

 
15,206

 
8,933

 
850,925

Loans individually evaluated for impairment (3)
19,681

 
1,146

 
3,660

 

 

 
98

 
24,585

____________ 

(1) Net of LIP.
(2) Loans collectively evaluated for general reserves.
(3) Loans individually evaluated for specific reserves.




16


FIRST FINANCIAL NORTHWEST, INC. AND SUBSIDIARIES
SELECTED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


 
At or For the Three Months Ended June 30, 2016
 
One-to-Four
Family
Residential
 
Multifamily
 
Commercial 
Real Estate
 
Construction/
Land
 
Business
 
Consumer
 
Total
 
(In thousands)
ALLL:
 
 
 
 
 
 
 
 
 
 
 
 
 
Beginning balance
$
2,840

 
$
1,184

 
$
3,497

 
$
1,392

 
$
197

 
$
361

 
$
9,471

   Charge-offs

 

 

 

 

 

 

   Recoveries
63

 

 

 

 

 

 
63

   Provision (recapture)
(156
)
 
10

 
274

 
488

 
20

 
(36
)
 
600

Ending balance
$
2,747

 
$
1,194

 
$
3,771

 
$
1,880

 
$
217

 
$
325

 
$
10,134

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
At or For the Six Months Ended June 30, 2016
 
One-to-Four
Family
Residential
 
Multifamily
 
Commercial 
Real Estate
 
Construction/
Land
 
Business
 
Consumer
 
Total
 
(In thousands)
ALLL:
 
 
 
 
 
 
 
 
 
 
 
 
 
Beginning balance
$
3,028

 
$
1,193

 
$
3,395

 
$
1,193

 
$
229

 
$
425

 
$
9,463

   Charge-offs

 

 

 

 

 
(19
)
 
(19
)
   Recoveries
85

 

 
104

 

 

 
1

 
190

   Provision (recapture)
(366
)
 
1

 
272

 
687

 
(12
)
 
(82
)
 
500

Ending balance
$
2,747

 
$
1,194

 
$
3,771

 
$
1,880

 
$
217

 
$
325

 
$
10,134

 

 

 

 

 

 

 

ALLL by category:


 


 


 


 


 


 


General reserve
$
2,346

 
$
1,194

 
$
3,664

 
$
1,824

 
$
217

 
$
325

 
$
9,570

Specific reserve
401

 

 
107

 
56

 

 

 
564

 

 

 

 

 

 

 

Loans: (1)

 

 

 

 

 

 
 
Total loans
$
251,732

 
$
132,189

 
$
285,449

 
$
95,209

 
$
7,208

 
$
6,333

 
$
778,120

Loans collectively evaluated for impairment (2)
220,597

 
130,610

 
281,002

 
94,715

 
7,208

 
6,226

 
740,358

Loans individually evaluated for impairment (3)
31,135

 
1,579

 
4,447

 
494

 

 
107

 
37,762

_____________ 

(1) Net of LIP.
(2) Loans collectively evaluated for general reserves.
(3) Loans individually evaluated for specific reserves.


17


FIRST FINANCIAL NORTHWEST, INC. AND SUBSIDIARIES
SELECTED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)



Past Due Loans. Loans are considered past due if a scheduled principal or interest payment is due and unpaid for 30 days or more. At June 30, 2017, past due loans were 0.01% of total loans receivable, net of LIP. In comparison, past due loans were 0.06% of total loans receivable, net of LIP at December 31, 2016. The following tables represent a summary of the aging of loans by type at the dates indicated:

 
Loans Past Due as of June 30, 2017
 
 
 
 
 
30-59 Days
 
60-89 Days
 
90 Days and
Greater
 
Total Past
Due
 
Current
 
Total (1) (2)
 
(In thousands)
Real estate:
 
 
 
 
 
 
 
 
 
 
 
One-to-four family residential:
 
 
 
 
 
 
 
 
 
 
 
Owner occupied
$
85

 
$

 
$

 
$
85

 
$
137,731

 
$
137,816

Non-owner occupied

 

 

 

 
118,816

 
118,816

Multifamily

 

 

 

 
125,884

 
125,884

Commercial real estate

 

 

 

 
316,675

 
316,675

Construction/land

 

 

 

 
152,082

 
152,082

Total real estate
85

 

 

 
85

 
851,188

 
851,273

Business

 

 

 

 
15,206

 
15,206

Consumer

 

 

 

 
9,031

 
9,031

Total loans
$
85

 
$

 
$

 
$
85

 
$
875,425

 
$
875,510

 ________________ 

(1) There were no loans 90 days and greater past due and still accruing interest at June 30, 2017.
(2) Net of LIP.

 
Loans Past Due as of December 31, 2016
 
 
 
 
 
30-59 Days
 
60-89 Days
 
90 Days and
Greater
 
Total Past
Due
 
Current
 
Total (1) (2)
 
(In thousands)
Real estate:
 
 
 
 
 
 
 
 
 
 
 
One-to-four family residential:
 
 
 
 
 
 
 
 
 
 
 
Owner occupied
$
304

 
$

 
$
169

 
$
473

 
$
137,361

 
$
137,834

Non-owner occupied

 

 

 

 
111,601

 
111,601

Multifamily

 

 

 

 
123,250

 
123,250

Commercial real estate

 

 

 

 
303,694

 
303,694

Construction/land

 

 

 

 
136,922

 
136,922

Total real estate
304

 

 
169

 
473

 
812,828

 
813,301

Business

 

 

 

 
7,938

 
7,938

Consumer

 

 

 

 
6,922

 
6,922

Total loans
$
304

 
$

 
$
169

 
$
473

 
$
827,688

 
$
828,161

_________________ 

(1) There were no loans 90 days and greater past due and still accruing interest at December 31, 2016.
(2) Net of LIP.





18


FIRST FINANCIAL NORTHWEST, INC. AND SUBSIDIARIES
SELECTED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)






Nonaccrual Loans. The following table is a summary of nonaccrual loans by loan type at the dates indicated:

 
June 30, 2017
 
December 31, 2016
 
(In thousands)
One-to-four family residential
$
528

 
$
798

Consumer
55

 
60

Total nonaccrual loans
$
583

 
$
858


During the three and six months ended June 30, 2017, interest income that would have been recognized had these nonaccrual loans been performing in accordance with their original terms was $9,000 and $18,000, respectively. For the three and six months ended June 30, 2016, foregone interest on nonaccrual loans was $13,000 and $27,000, respectively.

The following tables summarize the loan portfolio by type and payment status at the dates indicated:

 
June 30, 2017
 
One-to-Four
Family
Residential
 
Multifamily
 
Commercial
Real Estate
 
Construction /
Land
 
Business
 
Consumer
 
Total (1)
 
(In thousands)
Performing (2)
$
256,104

 
$
125,884

 
$
316,675

 
$
152,082

 
$
15,206

 
$
8,976

 
$
874,927

Nonperforming (3)
528

 

 

 

 

 
55

 
583

Total loans
$
256,632

 
$
125,884

 
$
316,675

 
$
152,082

 
$
15,206

 
$
9,031

 
$
875,510

_____________

(1) 
Net of LIP.
(2) 
There were $137.3 million of owner-occupied one-to-four family residential loans and $118.8 million of non-owner occupied one-to-four family residential loans classified as performing.
(3) 
The $528,000 of one-to-four family residential loans classified as nonperforming are all owner-occupied.
 
December 31, 2016
 
One-to-Four
Family
Residential
 
Multifamily
 
Commercial
Real Estate
 
Construction/
Land
 
Business
 
Consumer
 
Total (1)
 
(In thousands)
Performing (2)
$
248,637

 
$
123,250

 
$
303,694

 
$
136,922

 
$
7,938

 
$
6,862

 
$
827,303

Nonperforming (3)
798

 

 

 

 

 
60

 
858

Total loans
$
249,435

 
$
123,250

 
$
303,694

 
$
136,922

 
$
7,938

 
$
6,922

 
$
828,161

_____________

(1) Net of LIP.    
(2) There were $137.0 million of owner-occupied one-to-four family residential loans and $111.6 million of non-owner occupied one-to-four family residential loans classified as performing.
(3) The $798,000 of one-to-four family residential loans classified as nonperforming are all owner-occupied.

Impaired Loans. A loan is considered impaired when we have determined that we may be unable to collect payments of principal or interest when due under the terms of the original loan document. There were no funds committed to be advanced in connection with impaired loans at either June 30, 2017, or December 31, 2016.

19


FIRST FINANCIAL NORTHWEST, INC. AND SUBSIDIARIES
SELECTED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)



The following tables present a summary of loans individually evaluated for impairment by loan type at the dates indicated:

 
June 30, 2017

Recorded Investment (1)
 
Unpaid Principal Balance (2)
 
Related Allowance
 
(In thousands)
Loans with no related allowance:
 
 
 
 
 
  One-to-four family residential:

 

 

      Owner occupied
$
1,982

 
$
2,265

 
$

      Non-owner occupied
12,664

 
12,679

 

  Multifamily
1,146

 
1,146

 

   Commercial real estate
2,913

 
2,990

 

   Consumer
98

 
145

 

Total
18,803

 
19,225

 

Loans with an allowance:


 


 


  One-to-four family residential:


 


 


      Owner occupied
1,673

 
1,720

 
45

      Non-owner occupied
3,362

 
3,383

 
136

   Commercial real estate
747

 
747

 
23

Total
5,782

 
5,850

 
204

Total impaired loans:


 


 


  One-to-four family residential:


 


 


      Owner occupied
3,655

 
3,985

 
45

      Non-owner occupied
16,026

 
16,062

 
136

   Multifamily
1,146

 
1,146

 

   Commercial real estate
3,660

 
3,737

 
23

   Consumer
98

 
145

 

Total
$
24,585

 
$
25,075

 
$
204

_________________ 

(1) Represents the loan balance less charge-offs.
(2) Contractual loan principal balance.




20


FIRST FINANCIAL NORTHWEST, INC. AND SUBSIDIARIES
SELECTED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


 
December 31, 2016
 
Recorded Investment (1)
 
Unpaid Principal Balance (2)
 
Related Allowance
 
(In thousands)
Loans with no related allowance:
 
 
 
 
 
  One-to-four family residential:
 
 
 
 
 
      Owner occupied
$
2,216

 
$
2,475

 
$

      Non-owner occupied
16,634

 
16,652

 

  Multifamily
1,564

 
1,564

 

   Commercial real estate
2,952

 
3,012

 

   Consumer
103

 
148

 

Total
23,469

 
23,851

 

Loans with an allowance:
 
 
 
 
 
  One-to-four family residential:
 
 
 
 
 
      Owner occupied
1,896

 
1,965

 
51

      Non-owner occupied
4,326

 
4,347

 
151

   Commercial real estate
755

 
755

 
26

   Construction/land
495

 
495

 
81

Total
7,472

 
7,562

 
309

Total impaired loans:
 
 
 
 
 
  One-to-four family residential:
 
 
 
 
 
      Owner occupied
4,112

 
4,440

 
51

      Non-owner occupied
20,960

 
20,999

 
151

   Multifamily
1,564

 
1,564

 

   Commercial real estate
3,707

 
3,767

 
26

   Construction/land
495

 
495

 
81

   Consumer
103

 
148

 

Total
$
30,941

 
$
31,413

 
$
309

_________________ 

(1) Represents the loan balance less charge-offs.
(2) Contractual loan principal balance.



21


FIRST FINANCIAL NORTHWEST, INC. AND SUBSIDIARIES
SELECTED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)



The following table presents the average recorded investment in loans individually evaluated for impairment and the interest income recognized for the three and six months ended June 30, 2017 and 2016:

 
Three Months Ended June 30, 2017
 
Six Months Ended June 30, 2017
 
Average Recorded Investment
 
Interest Income Recognized
 
Average Recorded Investment
 
Interest Income Recognized
 
(In thousands)
Loans with no related allowance:


 


 


 

   One-to-four family residential:


 


 


 

      Owner occupied
$
1,997

 
$
30

 
$
2,070

 
$
61

      Non-owner occupied
13,510

 
181

 
14,551

 
374

Multifamily
1,149

 
19

 
1,287

 
37

Commercial real estate
2,923

 
48

 
2,932

 
101

Consumer
99

 
2

 
100

 
4

Total
19,678

 
280

 
20,940

 
577




 


 


 

Loans with an allowance:


 


 


 

   One-to-four family residential:


 


 


 

      Owner occupied
1,781

 
20

 
1,819

 
43

      Non-owner occupied
3,721

 
39

 
3,922

 
81

Commercial real estate
749

 
10

 
751

 
21

Construction/land

 

 
165

 

Total
6,251

 
69

 
6,657

 
145




 


 


 

Total impaired loans:


 


 


 

   One-to-four family residential:


 


 


 

      Owner occupied
3,778

 
50

 
3,889

 
104

      Non-owner occupied
17,231

 
220

 
18,473

 
455

Multifamily
1,149

 
19

 
1,287

 
37

Commercial real estate
3,672

 
58

 
3,683

 
122

Construction/land

 

 
165

 

Consumer
99

 
2

 
100

 
4

Total
$
25,929

 
$
349

 
$
27,597

 
$
722



22


FIRST FINANCIAL NORTHWEST, INC. AND SUBSIDIARIES
SELECTED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


 
Three Months Ended June 30, 2016
 
Six Months Ended June 30, 2016
 
Average Recorded Investment
 
Interest Income Recognized
 
Average Recorded Investment
 
Interest Income Recognized
 
(In thousands)
Loans with no related allowance:


 


 


 

   One-to-four family residential:


 


 


 

      Owner occupied
$
2,516

 
$
17

 
$
2,733

 
$
66

      Non-owner occupied
22,084

 
286

 
22,484

 
605

Multifamily
1,584

 
26

 
1,194

 
53

Commercial real estate
2,251

 
35

 
2,392

 
76

Consumer
110

 
1

 
117

 
3

Total
28,545

 
365

 
28,920

 
803

 


 


 


 

Loans with an allowance:


 


 


 

   One-to-four family residential:


 


 


 

      Owner occupied
2,107

 
27

 
2,111

 
56

      Non-owner occupied
5,496

 
62

 
6,171

 
139

Multifamily

 

 
393

 

Commercial real estate
2,207

 
34

 
2,211

 
70

Construction/land
495

 
5

 
495

 
9

Consumer
38

 

 
50

 

Total
10,343

 
128

 
11,431

 
274

 


 


 


 

Total impaired loans:


 


 


 

   One-to-four family residential:


 


 


 

      Owner occupied
4,623

 
44

 
4,844

 
122

      Non-owner occupied
27,580

 
348

 
28,655

 
744

Multifamily
1,584

 
26

 
1,587

 
53

Commercial real estate
4,458

 
69

 
4,603

 
146

Construction/land
495

 
5

 
495

 
9

Consumer
148

 
1

 
167

 
3

Total
$
38,888

 
$
493

 
$
40,351

 
$
1,077



Troubled Debt Restructurings. Certain loan modifications are accounted for as troubled debt restructured loans (“TDRs”). At June 30, 2017, the TDR portfolio totaled $24.1 million, of which one loan of $106,000 was on nonaccrual status because it had previously not performed in accordance with the terms of its restructure. As of June 30, 2017, it was current, however it will remain on nonaccrual status until it has performed for six months and is expected to continue to perform. At December 31, 2016, the TDR portfolio totaled $30.3 million, of which one loan of $174,000 was not performing in accordance with the terms of its restructure and was on nonaccrual status.

The following tables present loans that were modified as TDRs during the periods indicated and their recorded investment both before and after the modification:


23


FIRST FINANCIAL NORTHWEST, INC. AND SUBSIDIARIES
SELECTED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


 
Three Months Ended June 30, 2017
 
Six Months Ended June 30, 2017
 
Number of Loans
 
Pre-Modification Outstanding
Recorded
Investment
 
Post-Modification Outstanding
Recorded
Investment
 
Number of Loans
 
Pre-Modification Outstanding
Recorded
Investment
 
Post-Modification Outstanding
Recorded
Investment
 
(Dollars in thousands)
 
(Dollars in thousands)
One-to-four family residential:
 
 
 
 
 
 
 
 
 
 
 
Principal and interest with interest rate concession and advancement of maturity date
7

 
1,968

 
1,968

 
7

 
1,968

 
1,968

Total
7

 
1,968

 
1,968

 
7

 
1,968

 
1,968



 
Three Months Ended June 30, 2016
 
Six Months Ended June 30, 2016
 
Number of Loans
 
Pre-Modification Outstanding
Recorded
Investment
 
Post-Modification Outstanding
Recorded
Investment
 
Number of Loans
 
Pre-Modification Outstanding
Recorded
Investment
 
Post-Modification Outstanding
Recorded
Investment
 
(Dollars in thousands)
One-to-four family residential:
 
 
 
 
 
 
 
 
 
 
 
Principal and interest with interest rate concession
16

 
$
3,155

 
$
3,155

 
17

 
$
3,711

 
$
3,711

Commercial real estate:
 
 
 
 
 
 
 
 
 
 
 
Interest-only payments with interest rate concession and advancement of maturity date

 

 

 
1

 
495

 
495

Total
16

 
$
3,155

 
$
3,155

 
18

 
$
4,206

 
$
4,206


At June 30, 2017, the Company had no commitments to extend additional credit to borrowers whose loan terms have been modified in TDRs. All TDRs are also classified as impaired loans and are included in the loans individually evaluated for impairment as part of the calculation of the ALLL.

The TDRs that occurred during the three and six months ended June 30, 2017 and June 30, 2016, were all on existing TDRs and included extensions of existing interest rate concessions and advancing maturity dates for a period of time ranging from one to three years. No loans accounted for as TDRs were charged-off to the ALLL for the three and six months ended June 30, 2017 and 2016.

TDRs that default after they have been modified are typically evaluated individually on a collateral basis. Any additional impairment is charged to the ALLL. For the three and six months ended June 30, 2017, and June 30, 2016, no loans that had been modified in the previous 12 months defaulted.

Credit Quality Indicators. The Company utilizes a nine-category risk rating system and assigns a risk rating for all credit exposures. The risk rating system is designed to define the basic characteristics and identify risk elements of each credit extension. Credits risk rated 1 through 5 are considered to be “pass” credits. Pass credits include assets, such as cash secured loans with funds on deposit with the Bank, where there is virtually no credit risk. Pass credits also include credits that are on the Company’s watch list, where the borrower exhibits potential weaknesses, which may, if not checked or corrected, negatively affect the borrower’s financial capacity and threaten their ability to fulfill debt obligations in the future. Credits classified as special mention are risk rated 6 and possess weaknesses that deserve management’s close attention. Special mention assets do not expose the Company to sufficient risk to warrant adverse classification in the substandard, doubtful or loss categories. Substandard credits are risk rated

24


FIRST FINANCIAL NORTHWEST, INC. AND SUBSIDIARIES
SELECTED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


7. An asset is considered substandard if it is inadequately protected by the current net worth and payment capacity of the borrower or of any collateral pledged.

Substandard assets include those characterized by the distinct possibility that the Company will sustain some loss if the deficiencies are not corrected. Assets classified as doubtful are risk rated 8 and have all the weaknesses inherent in those credits classified as substandard with the added characteristic that the weaknesses present make collection or liquidation in full highly questionable and improbable, on the basis of currently existing facts, conditions, and values. Assets classified as loss are risk rated 9 and are considered uncollectible and cannot be justified as a viable asset for the Company. There were no loans classified as doubtful or loss at June 30, 2017 and December 31, 2016.

    
The following tables represent a summary of loans by type and risk category at the dates indicated:
 
June 30, 2017
 
One-to-Four
Family
Residential
 
Multifamily
 
Commercial
Real Estate
 
Construction/ 
Land
 
Business
 
Consumer
 
Total (1)
 
(In thousands)
Risk Rating:
 
 
 
 
 
 
 
 
 
 
 
 
 
   Pass
$
253,095

 
$
125,884

 
$
313,856

 
$
152,082

 
$
15,206

 
$
8,788

 
$
868,911

   Special mention
2,460

 

 
2,819

 

 

 
188

 
5,467

   Substandard
1,077

 

 

 

 

 
55

 
1,132

Total loans
$
256,632

 
$
125,884

 
$
316,675

 
$
152,082

 
$
15,206

 
$
9,031

 
$
875,510

 _____________ 

(1) Net of LIP.

 
December 31, 2016
 
One-to-Four
Family
Residential
 
Multifamily
 
Commercial
Real Estate
 
Construction /
Land
 
Business
 
Consumer
 
Total (1)
 
(In thousands)
Risk Rating:
 
 
 
 
 
 
 
 
 
 
 
 
 
   Pass
$
245,237

 
$
123,250

 
$
300,655

 
$
136,427

 
$
7,938

 
$
6,674

 
$
820,181

   Special mention
2,847

 

 
3,039

 

 

 
188

 
6,074

   Substandard
1,351

 

 

 
495

 

 
60

 
1,906

Total loans
$
249,435

 
$
123,250

 
$
303,694

 
$
136,922

 
$
7,938

 
$
6,922

 
$
828,161

  _____________ 

(1) Net of LIP.

Note 6 - Other Real Estate Owned

OREO includes properties acquired by the Company through foreclosure and deed in lieu of foreclosure. The following table is a summary of OREO activity during the periods shown: 

25


FIRST FINANCIAL NORTHWEST, INC. AND SUBSIDIARIES
SELECTED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


 
Three Months Ended June 30,
 
Six Months Ended June 30,
 
2017
 
2016
 
2017
 
2016
 
(In thousands)
Balance at beginning of period
$
2,281

 
$
3,405

 
$
2,331

 
$
3,663

Gross proceeds from sale of OREO
(461
)
 
(985
)
 
(461
)
 
(988
)
Gain on sale of OREO
5

 
(89
)
 
5

 
(87
)
Market value adjustments

 

 
(50
)
 
(257
)
Balance at end of period
$
1,825

 
$
2,331

 
$
1,825

 
$
2,331

 
During the three and six months ended June 30, 2017, one OREO property sold for $461,000, generating a gain on sale of $5,000. For the three months ended June 30, 2017, there were no market value adjustments taken on OREO properties. However, during the three months ended March 31, 2017, a $50,000 market value adjustment was recognized on the property that was subsequently sold during the second quarter of 2017. OREO at June 30, 2017 consisted of $1.8 million in commercial real estate properties. At June 30, 2017, there were no loans secured by residential real estate properties for which formal foreclosure proceedings were in process.

Note 7 - Fair Value

Fair value is defined as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date.

The Company determines the fair values of its financial instruments based on the fair value hierarchy which requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair values. Observable inputs reflect market data obtained from independent sources, while unobservable inputs reflect its estimate for market assumptions.

Valuation inputs refer to the assumptions market participants would use in pricing a given asset or liability using one of the three valuation techniques. Inputs can be observable or unobservable. Observable inputs are those assumptions that market participants would use in pricing the particular asset or liability. These inputs are based on market data and are obtained from an independent source. Unobservable inputs are assumptions based on the Company’s own information or estimate of assumptions used by market participants in pricing the asset or liability. Unobservable inputs are based on the best and most current information available on the measurement date.

All inputs, whether observable or unobservable, are ranked in accordance with a prescribed fair value hierarchy:

Level 1 - Quoted prices for identical instruments in active markets.

Level 2 - Quoted prices for similar instruments in active markets; quoted prices for identical or similar instruments in markets that are not active; and model-derived valuations whose inputs are observable.

Level 3 - Instruments whose significant value drivers are unobservable.
 
The tables below present the balances of assets measured at fair value on a recurring basis (there were no transfers between Level 1, Level 2 and Level 3 recurring measurements) at June 30, 2017 and December 31, 2016:

26


FIRST FINANCIAL NORTHWEST, INC. AND SUBSIDIARIES
SELECTED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


 
Fair Value Measurements at June 30, 2017
 
Fair Value Measurements
 
Quoted Prices in Active Markets for Identical Assets (Level 1)
 
Significant Other Observable Inputs (Level 2)
 
Significant Unobservable Inputs (Level 3)
 
(In thousands)
Investments available-for-sale:
 
 
 
 
 
 
 
Mortgage-backed investments:
 
 
 
 
 
 
 
Fannie Mae
$
46,203

 
$

 
$
46,203

 
$

Freddie Mac
15,880

 

 
15,880

 

Ginnie Mae
17,894

 

 
17,894

 

Municipal bonds
14,318

 

 
14,318

 

U.S. Government agencies
15,138

 

 
15,138

 

Corporate bonds
24,518

 

 
24,518

 

Total available-for-sale
investments
133,951

 

 
133,951

 

Derivative fair value asset
1,090

 

 
1,090

 

 
$
135,041

 
$

 
$
135,041

 
$

 
Fair Value Measurements at December 31, 2016
 
Fair Value Measurements
 
Quoted Prices in Active Markets for Identical Assets (Level 1)
 
Significant Other Observable Inputs (Level 2)
 
Significant Unobservable Inputs (Level 3)
 
(In thousands)
Investments available-for-sale:
 
 
 
 
 
 
 
Mortgage-backed investments:
 
 
 
 
 
 
 
Fannie Mae
$
41,332

 
$

 
$
41,332

 
$

Freddie Mac
18,009

 

 
18,009

 

Ginnie Mae
18,634

 

 
18,634

 

Municipal bonds
13,107

 

 
13,107

 

U.S. Government agencies
15,857

 

 
15,857

 

Corporate bonds
22,321

 

 
22,321

 

Total available-for-sale
investments
129,260

 

 
129,260

 

Derivative fair value asset
1,333

 

 
1,333

 

 
$
130,593

 
$

 
$
130,593

 
$


The estimated fair value of Level 2 investments is based on quoted prices for similar investments in active markets, identical or similar investments in markets that are not active and model-derived valuations whose inputs are observable.    

The tables below present the balances of assets measured at fair value on a nonrecurring basis at June 30, 2017 and December 31, 2016

27


FIRST FINANCIAL NORTHWEST, INC. AND SUBSIDIARIES
SELECTED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


 
Fair Value Measurements at June 30, 2017
 
Fair Value
Measurements
 
Quoted Prices in
Active Markets
for Identical
Assets (Level 1)
 
Significant
Other
Observable
Inputs (Level 2)
 
Significant
Unobservable
Inputs
(Level 3)
 
(In thousands)
Impaired loans (included in loans
receivable, net)
(1)
$
24,381

 
$

 
$

 
$
24,381

OREO
1,825

 

 

 
1,825

Total
$
26,206

 
$

 
$

 
$
26,206

_____________

(1) 
Total fair value of impaired loans is net of $204,000 of specific reserves on performing TDRs.

 
Fair Value Measurements at December 31, 2016
 
Fair Value
Measurements
 
Quoted Prices in
Active Markets
for Identical
Assets (Level 1)
 
Significant
Other
Observable
Inputs (Level 2)
 
Significant
Unobservable
Inputs
(Level 3)
 
(In thousands)
Impaired loans (included in loans
receivable, net)
(1)
$
30,632

 
$

 
$

 
$
30,632

OREO
2,331

 

 

 
2,331

Total
$
32,963

 
$

 
$

 
$
32,963

_____________

(1)    Total fair value of impaired loans is net of $309,000 of specific reserves on performing TDRs.
 
The fair value of impaired loans is calculated using the collateral value method or on a discounted cash flow basis. Inputs used in the collateral value method include appraised values, less estimated costs to sell. Some of these inputs may not be observable in the marketplace. Appraised values may be discounted based on management’s knowledge of the marketplace, subsequent changes in market conditions, or management’s knowledge of the borrower.

OREO properties are measured at the lower of their carrying amount or fair value, less estimated costs to sell. Fair values are generally based on third party appraisals of the property, resulting in a Level 3 classification. In cases where the carrying amount exceeds the fair value, less estimated costs to sell, an impairment loss is recognized.

The following tables present quantitative information about Level 3 fair value measurements for financial instruments measured at fair value on a nonrecurring basis at June 30, 2017 and December 31, 2016:
 
June 30, 2017
 
Fair Value
 
Valuation Technique
 
Unobservable Input(s)
 
Range (Weighted Average)
 
(Dollars in thousands)
Impaired Loans
$
24,381

 
Market approach
 
Appraised value discounted by market or borrower conditions
 
0.0% (0.0%)
 
 
 
 
 
 
 
 
OREO
$
1,825

 
Market approach
 
Appraised value less selling costs
 
0.0% (0.0%)


28


FIRST FINANCIAL NORTHWEST, INC. AND SUBSIDIARIES
SELECTED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


 
December 31, 2016
 
Fair Value
 
Valuation Technique
 
Unobservable Input(s)
 
Range (Weighted Average)
 
(Dollars in thousands)
Impaired Loans
$
30,632

 
Market approach
 
Appraised value discounted by market or borrower conditions
 
0.0%
(0.0%)
 
 
 
 
 
 
 
 
OREO
$
2,331

 
Market approach
 
Appraised value less selling costs
 
0.0%
(0.0%)

The carrying amounts and estimated fair values of financial instruments were as follows at the dates indicated: 
 
June 30, 2017
 
 
 
Estimated
 
Fair Value Measurements Using:
 
Carrying Value
 
Fair Value
 
Level 1
 
Level 2
 
Level 3
 
(In thousands)
Financial Assets:
 
 
 
 
 
 
 
 
 
Cash on hand and in banks
$
7,418

 
$
7,418

 
$
7,418

 
$

 
$

Interest-earning deposits with banks
10,996

 
10,996

 
10,996

 

 

Investments available-for-sale
133,951

 
133,951

 

 
133,951

 

Loans receivable, net
861,672

 
864,725

 

 

 
864,725

FHLB stock
8,902

 
8,902

 

 
8,902

 

Accrued interest receivable
3,165

 
3,165

 

 
3,165

 

Derivative fair value asset
1,090

 
1,090

 

 
1,090

 

 
 
 
 
 
 
 
 
 
 
Financial Liabilities:
 

 
 

 
 

 
 

 
 
Deposits
315,059

 
315,059

 
315,059

 

 

Certificates of deposit, retail
345,028

 
345,058

 

 
345,058

 

Certificates of deposit, brokered
75,488

 
75,644

 

 
75,644

 

Advances from the FHLB
191,500

 
188,939

 

 
188,939

 

Accrued interest payable
286

 
286

 

 
286

 



29


FIRST FINANCIAL NORTHWEST, INC. AND SUBSIDIARIES
SELECTED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


 
December 31, 2016
 
 
 
Estimated
 
Fair Value Measurements Using:
 
Carrying Value
 
Fair Value
 
Level 1
 
Level 2
 
Level 3
 
(In thousands)
Financial Assets:
 
 
 
 
 
 
 
 
 
Cash on hand and in banks
$
5,779

 
$
5,779

 
$
5,779

 
$

 
$

Interest-earning deposits with banks
25,573

 
25,573

 
25,573

 

 

Investments available-for-sale
129,260

 
129,260

 

 
129,260

 

Loans receivable, net
815,043

 
818,054

 

 

 
818,054

FHLB stock
8,031

 
8,031

 

 
8,031

 

Accrued interest receivable
3,147

 
3,147

 

 
3,147

 

Derivative fair value asset
1,333

 
1,333

 

 
1,333

 

 
 
 
 
 
 
 
 
 
 
Financial Liabilities:
 

 
 

 
 

 
 

 
 
Deposits
285,335

 
285,335

 
285,335

 

 

Certificates of deposit, retail
356,653

 
356,723

 

 
356,723

 

Certificates of deposit, brokered
75,488

 
75,431

 

 
75,431

 

Advances from the FHLB
171,500

 
170,221

 

 
170,221

 

Accrued interest payable
231

 
231

 

 
231

 


Fair value estimates, methods, and assumptions are set forth below for the Company’s financial instruments:

Financial instruments with book value equal to fair value: The fair value of financial instruments that are short-term or reprice frequently and that have little or no risk are considered to have a fair value equal to book value. These instruments include cash on hand and in banks, interest-earning deposits with banks, FHLB stock, accrued interest receivable and accrued interest payable. FHLB stock is not publicly-traded, however it may be redeemed on a dollar-for-dollar basis, for any amount the Bank is not required to hold, subject to the FHLB’s discretion. The fair value is therefore equal to the book value.

Investments available-for-sale: The fair value of all investments, excluding FHLB stock, was based upon quoted market prices for similar investments in active markets, identical or similar investments in markets that are not active and model-derived valuations whose inputs are observable.

Loans receivable: For variable rate loans that reprice frequently and with no significant change in credit risk, fair values are based on carrying values. The fair value of fixed-rate loans is estimated using discounted cash flow analysis, utilizing interest rates that would be offered for loans with similar terms to borrowers of similar credit quality. As a result of current market conditions, cash flow estimates have been further discounted to include a credit factor. The fair value of nonperforming loans is estimated using the fair value of the underlying collateral.

Derivatives: The fair value of derivatives is based on dealer quotes, pricing models, discounted cash flow methodologies or similar techniques for which the determination of fair value may require significant management judgment or estimation.

Liabilities: The fair value of deposits with no stated maturity, such as statement savings, interest-bearing checking and money market accounts, is equal to the amount payable on demand. The fair value of certificates of deposit is based on the discounted value of contractual cash flows using current interest rates for certificates of deposit with similar remaining maturities. The fair value of FHLB advances is estimated based on discounting the future cash flows using current interest rates for debt with similar remaining maturities.

Off balance sheet commitments: No fair value adjustment is necessary for commitments made to extend credit, which represents commitments for loan originations or for outstanding commitments to purchase loans. These commitments

30


FIRST FINANCIAL NORTHWEST, INC. AND SUBSIDIARIES
SELECTED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


are at variable rates, are for loans with terms of less than one year and have interest rates which approximate prevailing market rates, or are set at the time of loan closing.

Fair value estimates are based on existing balance sheet financial instruments without attempting to estimate the value of anticipated future business. The fair value has not been estimated for assets and liabilities that are not considered financial instruments.

Note 8 - Derivatives

The Company uses a derivative financial instrument, which qualifies as a cash flow hedge, to manage the risk of changes in future cash flows due to interest rate fluctuations. The hedge instrument is a $50.0 million three-month FHLB advance that will be renewed every three months at the fixed interest rate at that time. The agreement has a five-year term and stipulates that the counterparty will pay the Company interest at three-month LIBOR and the Company will pay fixed interest of 1.34% on the $50.0 million notional amount. The Company pays or receives the net interest amount quarterly and includes this amount as part of interest expense on the Consolidated Income Statement.

Quarterly, the effectiveness evaluation is based upon the fluctuation of the interest the Company pays to the FHLB for the hedge instrument as compared to the three-month LIBOR interest received from the counterparty. At June 30, 2017, the fair value of the cash flow hedge of $1.1 million was reported with other assets. The tax effected amount of $709,000 was included in Other Comprehensive Income. There were no amounts recorded in the Consolidated Income Statement for the quarters ended June 30, 2017 or 2016 related to ineffectiveness.

Fair value for this derivative instrument, which generally changes as a result of changes in the level of market interest rates, is estimated based on dealer quotes and secondary market sources.

The following table presents the fair value of this derivative instrument as of June 30, 2017 and December 31, 2016:
 
Balance Sheet Location
 
Fair Value at
June 30, 2017
 
Fair Value at
December 31, 2016
 
(In thousands)
Interest rate swap on FHLB debt
   designated as cash flow hedge
Other Assets
 
$
1,090

 
$
1,333

 
 
 
 
 
 
Total derivatives
 
 
$
1,090

 
$
1,333


The following table presents the effect of this derivative instrument on the Consolidated Statement of Comprehensive Income for the quarters ended June 30, 2017 and December 31, 2016:

 
Balance Sheet Location
 
Amount Recognized in OCI at June 30, 2017
 
Amount Recognized in OCI at December 31, 2016
 
(In thousands)
Interest rate swap on FHLB debt
designated as cash flow hedge
Other assets
 
$
707

 
$
866



Note 9 - Stock-Based Compensation

In June 2016, First Financial Northwest’s shareholders approved the First Financial Northwest, Inc. 2016 Equity Incentive Plan (“2016 Plan”). This plan provides for the granting of incentive stock options (“ISO”), non-qualified stock options (“NQSO”), restricted stock and restricted stock units until June 2026. The 2016 Plan established 1,400,000 shares available to grant with a maximum of 400,000 of these shares available to grant as restricted stock awards. Each share issued as a restricted stock award counts as two shares towards the total shares available to award.


31


FIRST FINANCIAL NORTHWEST, INC. AND SUBSIDIARIES
SELECTED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


Under the 2016 Plan, the vesting date for each option award or restricted stock award is determined by an award committee and specified in the award agreement. In the case of restricted stock awards granted in lieu of cash payments of directors’ fees, the grant date is used as the vesting date unless the award agreement provides otherwise.

As a result of the approval of the 2016 Plan, the First Financial Northwest, Inc. 2008 Equity Incentive Plan (“2008 Plan”) was frozen and no additional awards will be made. As of June 30, 2016, there were 611,756 available stock options and 74,478 available restricted stock awards that are no longer available to be awarded under the 2008 Plan. Restricted stock awards and stock options that were granted under the 2008 Plan will continue to vest and be available for exercise, subject to the 2008 Plan provisions. At June 30, 2017, there were 1,351,028 total shares available for grant under the 2016 Plan, including 375,514 shares available to be granted as restricted stock.

For the three months ended June 30, 2017 and 2016, total compensation expense for the Plan was $291,000 and $290,000, respectively, and the related income tax benefit was $102,000 and $101,500, respectively.

For the six months ended June 30, 2017 and 2016, total compensation expense for the Plan was $401,000, and $383,000, respectively, and the related income tax benefit was $141,000 and $134,000, respectively.

Included in the above compensation for the three and six months ended June 30, 2017 and 2016, directors’ compensation of $180,000 was recognized as a result of the awarding and vesting of restricted shares in lieu of cash payments of directors’ fees, with a related income tax benefit of $63,000.

Stock Options

Under the 2008 Plan, stock option awards were granted with an exercise price equal to the market price of First Financial Northwest’s common stock at the grant date. These option awards have a vesting period of five years, with 20% vesting on the anniversary date of each grant date, and a contractual life of 10 years. Any unexercised stock options expires ten years after the grant date, or sooner in the event of the award recipient’s death, disability or termination of service with the Company and the Bank.

Under the 2016 Plan, the exercise price and vesting period for stock options are determined by the award committee and specified in the award agreement, however, the exercise price shall not be less than the fair market value of a share as of the grant date. Any unexercised stock option will expire 10 years after the award date or sooner in the event of the award recipient’s death, disability, retirement, or termination of service.

The fair value of each option award is estimated on the grant date using a Black-Scholes model that uses the following assumptions. The dividend yield is based on the current quarterly dividend in effect at the time of the grant. Historical employment data is used to estimate the forfeiture rate. The historical volatility of the Company’s stock price over a specified period of time is used for the expected volatility assumption. First Financial Northwest bases the risk-free interest rate on the U.S. Treasury Constant Maturity Indices in effect on the date of the grant. First Financial Northwest elected to use the “Share-Based Payments” method permitted by the SEC to calculate the expected term. This method uses the vesting term of an option along with the contractual term, setting the expected life at the midpoint.

Under certain conditions, a cashless exercise of vested stock options may occur by the option holder surrendering the number of options valued at the current stock price at the time of exercise to cover the total cost to exercise. The surrendered options are canceled and are unavailable for reissue.
    
A summary of the Company’s stock option plan awards and activity for the three and six months ended June 30, 2017, follows: 


32


FIRST FINANCIAL NORTHWEST, INC. AND SUBSIDIARIES
SELECTED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


 
For the Three Months Ended June 30, 2017
 
Shares
 
Weighted-Average Exercise Price
 
Weighted-Average Remaining Contractual Term in Years
 
Aggregate Intrinsic Value
Outstanding at April 1, 2017
506,280

 
$
10.27

 

 


Granted

 


 

 


Exercised
(18,340
)
 
9.78

 

 


Outstanding at June 30, 2017
487,940

 
10.29

 
5.14
 
2,851,319

Vested and expected to vest assuming a 3% forfeiture
rate over the vesting term
482,870

 
10.28

 
5.12
 
2,826,214

Exercisable at June 30, 2017
318,940

 
9.81

 
4.14
 
2,014,489

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
For the Six Months Ended June 30, 2017
 
Shares
 
Weighted-Average Exercise Price
 
Weighted-Average Remaining Contractual Term in Years
 
Aggregate Intrinsic Value
Outstanding at January 1, 2017
603,820


$
10.19






Granted









Exercised
(115,880
)

9.78






Outstanding at June 30, 2017
487,940


10.29


5.14

2,851,319

Vested and expected to vest assuming a 3% forfeiture
    rate over the vesting term
482,870


10.28


5.12

2,826,214

Exercisable at June 30, 2017
318,940


9.81


4.14

2,014,489



As of June 30, 2017, there was $458,000 of total unrecognized compensation cost related to nonvested stock options granted under the 2008 Plan. The cost is expected to be recognized over the remaining weighted-average vesting period of 2.41 years. There were no stock options granted during the three and six months ended June 30, 2017 under either the 2008 Plan or 2016 Plan.

Restricted Stock Awards

The 2008 Plan authorized the grant of restricted stock awards to directors, advisory directors, officers and employees. Compensation expense is recognized over the vesting period of the awards based on the fair value of the stock at the grant date. The restricted stock awards’ fair value is equal to the stock price on the grant date. Shares awarded under this plan as restricted stock vest ratably over a five-year period beginning at the grant date with 20% vesting on the anniversary date of each grant date.

The 2016 Plan authorizes the grant of restricted stock awards subject to vesting periods or terms as defined by the award committee and specified in the award agreement. Restricted stock awards granted in lieu of cash payments for directors’ fees are subject to immediate vesting on the grant date unless the award agreement provides otherwise.

A summary of changes in nonvested restricted stock awards for the three and six months ended June 30, 2017, follows: 

33


FIRST FINANCIAL NORTHWEST, INC. AND SUBSIDIARIES
SELECTED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)



For the Three Months Ended June 30, 2017

Shares
 
Weighted-Average
Grant Date
Fair Value
Nonvested at April 1, 2017
26,400

 
$
9.13

Granted
10,434

 

Vested
(10,434
)
 
17.25
Nonvested at June 30, 2017
26,400

 
9.13
Expected to vest assuming a 3% forfeiture rate over the vesting term
25,608

 

 
 
 
 
 
 
 
 
 
For the Six Months Ended June 30, 2017
 
Shares
 
Weighted-Average
Grant Date
 Fair Value
Nonvested at January 1, 2017
26,400

 
$
9.13

Granted
10,434

 

Vested
(10,434
)
 
17.25
Nonvested at June 30, 2017
26,400

 
9.13
Expected to vest assuming a 3% forfeiture rate over the vesting term
25,608

 


As of June 30, 2017, there was $87,000 of total unrecognized compensation costs related to nonvested shares granted as restricted stock awards. The cost is expected to be recognized over the remaining weighted-average vesting period of 0.75 years.

Note 10 - Earnings Per Share

Per the provisions of FASB ASC 260, Earnings Per Share, nonvested share-based payment awards that contain nonforfeitable rights to dividends or dividend equivalents are participating securities and are included in the computation of EPS pursuant to the two-class method. The two-class method is an earnings allocation formula that determines earnings per share for each class of common stock and participating security according to dividends declared (or accumulated) and participation rights in undistributed earnings. ESOP shares are considered outstanding for basic and diluted earnings per share when the shares are committed to be released. Certain of the Company’s nonvested restricted stock awards qualify as participating securities.

Net income is allocated between the common stock and participating securities pursuant to the two-class method, based on their rights to receive dividends, participate in earnings, or absorb losses. Basic earnings per common shares is computed by dividing net earnings available to common shareholders by the weighted-average number of common shares outstanding during the period, excluding participating nonvested restricted shares.

The following table presents a reconciliation of the components used to compute basic and diluted earnings per share for the periods indicated:

34


FIRST FINANCIAL NORTHWEST, INC. AND SUBSIDIARIES
SELECTED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


 
 
Three Months Ended June 30,
 
Six Months Ended June 30,
 
 
2017
 
2016
 
2017
 
2016
 
 
(Dollars in thousands, except share data)
Net income
 
$
1,868

 
$
1,440

 
$
4,212

 
$
3,265

Less: Earnings allocated to participating
securities
 
(4
)
 
(5
)
 
$
(10
)
 
$
(11
)
Earnings allocated to common shareholders
 
$
1,864

 
$
1,435

 
$
4,202

 
$
3,254

 
 
 
 
 
 
 
 
 
Basic weighted average common shares
outstanding
 
10,363,345

 
12,390,234

 
10,341,654

 
12,567,464

Dilutive stock options
 
122,192

 
120,704

 
147,147

 
132,619

Dilutive restricted stock grants
 
15,292

 
19,782

 
14,222

 
18,072

Diluted weighted average common shares
outstanding
 
10,500,829

 
12,530,720

 
10,503,023

 
12,718,155

 
 
 
 
 
 
 
 
 
Basic earnings per share
 
$
0.18

 
$
0.12

 
$
0.41

 
$
0.26

Diluted earnings per share
 
$
0.18

 
$
0.11

 
$
0.40

 
$
0.26


Potential dilutive shares are excluded from the computation of earnings per share if their effect is anti-dilutive. For the three months ended June 30, 2017, there were 20,000 options to purchase shares of common stock that were omitted from the computation of diluted earnings per share because their effect would be anti-dilutive. For the six months ended June 30, 2017, there were no anti-dilutive shares omitted from the computation. For the three and six months ended June 30, 2016, options to purchase an additional 60,000 shares of common stock, respectively, were excluded as their effect would be anti-dilutive.

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

Forward-Looking Statements
Certain matters discussed in this Quarterly Report on Form 10-Q constitute forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. These statements relate to our financial condition, results of operations, plans, objectives, future performance or business. Forward-looking statements are not statements of historical fact, are based on certain assumptions and are generally identified by use of the words “believes,” “expects,” “anticipates,” “estimates,” “forecasts,” “intends,” “plans,” “targets,” “potentially,” “probably,” “projects,” “outlook” or similar expressions or future or conditional verbs such as “may,” “will,” “should,” “would” and “could.” Forward-looking statements include statements with respect to our beliefs, plans, objectives, goals, expectations, assumptions and statements about, among other things, expectations of the business environment in which we operate, projections of future performance or financial items, perceived opportunities in the market, potential future credit experience, and statements regarding our mission and vision. These forward-looking statements are based upon current management expectations and may, therefore, involve risks and uncertainties. Our actual results, performance, or achievements may differ materially from those suggested, expressed, or implied by forward-looking statements as a result of a wide variety or range of factors including, but not limited to: the credit risks of lending activities, including changes in the level and trend of loan delinquencies and write-offs, that may be affected by deterioration in the housing and commercial real estate markets, and may lead to increased losses and nonperforming assets in our loan portfolio, and may result in our allowance for loan losses not being adequate to cover actual losses, and require us to materially increase our reserves; changes in general economic conditions, either nationally or in our market areas; changes in the levels of general interest rates, and the relative differences between short and long term interest rates, deposit interest rates, our net interest margin and funding sources; fluctuations in the demand for loans, the number of unsold homes and other properties and fluctuations in real estate values in our market areas; results of examinations of us by the Federal Reserve Bank of San Francisco and our bank subsidiary by the Federal Deposit Insurance Corporation (“FDIC”), the Washington State Department of Financial Institutions, Division of Banks (“DFI”) or other regulatory authorities, including the possibility that any such regulatory authority may initiate an enforcement action against the Company or the Bank which could require us to increase our reserve for loan losses, write-down assets, change our regulatory capital position, affect our ability to borrow funds or maintain or increase deposits, or impose additional requirements or restrictions on us, any of which could adversely affect our liquidity and earnings; our ability to pay dividends on our common stock; our ability to attract and retain deposits; increases in premiums for deposit insurance; our ability to control operating costs and expenses; the use of estimates in determining the fair value of certain of our assets, which estimates may prove to be incorrect and result in

35



significant declines in valuation; difficulties in reducing risk associated with the loans on our balance sheet; staffing fluctuations in response to product demand or the implementation of corporate strategies that affect our work force and potential associated charges; computer systems on which we depend could fail or experience a security breach; our ability to retain key members of our senior management team; costs and effects of litigation, including settlements and judgments; our ability to implement our branch expansion strategy; our ability to successfully integrate any assets, liabilities, customers, systems, and management personnel we have acquired or may in the future acquire into our operations and our ability to realize related revenue synergies and cost savings within expected time frames and any goodwill charges related thereto, including our pending branch purchase; our ability to manage loan delinquency rates; costs and effects of litigation, including settlements and judgments; increased competitive pressures among financial services companies; changes in consumer spending, borrowing and savings habits; legislative or regulatory changes that adversely affect our business including changes in regulatory policies and principles, including the interpretation of regulatory capital or other rules, including as a result of Basel III; the impact of the Dodd-Frank Wall Street Reform and Consumer Protection Act (the “Dodd Frank Act”) and the implementing regulations; the availability of resources to address changes in laws, rules, or regulations or to respond to regulatory actions; adverse changes in the securities markets; inability of key third-party providers to perform their obligations to us; changes in accounting policies and practices, as may be adopted by the financial institution regulatory agencies or the Financial Accounting Standards Board, including additional guidance and interpretation on accounting issues and details of the implementation of new accounting methods; the economic impact of war or any terrorist activities; other economic, competitive, governmental, regulatory, and technological factors affecting our operations; pricing, products and services; and other risks detailed in our filings with the U.S. Securities and Exchange Commission (“SEC”), including our Annual Report on Form 10-K for the year ended December 31, 2016 (“2016 Form 10-K”). Any of the forward-looking statements that we make in this Form 10-Q and in the other public reports and statements we make may turn out to be wrong because of the inaccurate assumptions we might make, because of the factors illustrated above or because of other factors that we cannot foresee. Because of these and other uncertainties, our actual future results may be materially different from those expressed in any forward-looking statements made by or on our behalf. Therefore, these factors should be considered in evaluating the forward-looking statements, and undue reliance should not be placed on such statements. We undertake no responsibility to update or revise any forward-looking statements.

Overview

First Financial Northwest Bank (“the Bank”) is a wholly-owned subsidiary of First Financial Northwest, Inc. (“the Company”) and, as such, comprises substantially all of the activity for the Company. First Financial Northwest Bank was a community-based savings bank until February 4, 2016, when the Bank converted to a Washington chartered commercial bank reflecting the commercial banking services it now provides to its customers. The Bank primarily serves King, Pierce, Snohomish, and Kitsap counties, Washington, through its full-service banking office and smaller branch in Renton, Washington, and additional branches located in Mill Creek, Edmonds, and the community of Crossroads in Bellevue, Washington. The addition of branch locations, together with improved technology from the conversion to a new core data processor in 2015 have allowed the Bank to better meet the needs of our customers and broaden the demographics of our customer base. The Bank has received regulatory approval to open a new branch office at The Junction, a new, mixed use development in Bothell, Washington in the fourth quarter of 2017. In addition, the Bank has received FDIC, DFI and California Department of Business Oversight approvals for the acquisition of four Washington branches located in the Clearview area in Snohomish, the Smokey Point area in Arlington, Lake Stevens, and Woodinville, Washington. The acquisition is scheduled to close during the third quarter of 2017, subject to customary closing conditions.

The Bank’s business consists predominantly of attracting deposits from the general public, combined with borrowing from the Federal Home Loan Bank of Des Moines (“FHLB”) and raising funds in the wholesale market, then utilizing these funds to originate one-to-four family residential, multifamily, commercial real estate, construction/land, business, and consumer loans. Our current business strategy emphasizes commercial real estate, construction, one-to-four family residential, and multifamily lending. With the current low interest rate environment, we are not aggressively pursuing longer term assets, but rather are focused on financing shorter term loans, in particular construction/land loans. Recently, improvements in the economy, employment rates, stronger real estate prices, and a general lack of new housing inventory in certain areas in the Puget Sound region have resulted in our significantly increasing originations of construction loans for properties located in our market area. We anticipate that construction/land lending will continue to be a strong element of our total loan portfolio in future periods. We will continue to take a disciplined approach in our construction/land lending by concentrating our efforts on one-to-four family residential loans to builders known to us. On a limited basis, we also will provide multifamily loans to developers with proven success in this type of construction. In addition, we have geographically expanded our loan portfolio through loan purchases or loan participations of commercial and multifamily real estate loans that are outside of our primary market area. We have a loan officer with extensive experience in California to further support our efforts to geographically diversify our loan portfolio through direct loan originations, loan participations, or loan purchases.


36



In support of our strategic growth plan, the Bank has developed a national line of business to originate and service aircraft loans. These loans are collateralized by new or used, single-engine piston aircraft to light jets for business or personal use which have demonstrated an acceptable valuation history under industry accepted valuation resources. As we grow our aircraft loan portfolio, we anticipate these loans will range in size from $250,000 to $8.0 million with underwriting guidelines primarily based on the asset value of the collateral with secondary emphasis placed on the ability of the borrower to repay the loan. However, the underwriting importance of the asset value compared to the borrowers’ financial condition may fluctuate, based on the relative strengths or weaknesses of each of these underwriting components. We began originating aircraft loans in the fourth quarter of 2016. At June 30, 2017, our business loans included $6.2 million in fixed and adjustable rate aircraft loans.

Our primary source of revenue is interest income, which is the income that we earn on our loans and investments. Interest expense is the interest that we pay on our deposits and borrowings. Net interest income is the difference between interest income and interest expense. Changes in levels of interest rates affect interest income and interest expense differently and, thus, impacts our net interest income.

An offset to net interest income is the provision for loan losses which is required to establish the allowance for loan and lease losses (“ALLL”) at a level that adequately provides for probable losses inherent in our loan portfolio. As our loan portfolio increases, or due to an increase for probable losses inherent in our loan portfolio, our ALLL may increase, resulting in a decrease to net interest income. Improvements in loan risk ratings, increases in property values, or receipt of recoveries of amounts previously charged off may partially or fully offset any increase to ALLL due to loan growth or an increase in probable loan losses.

Noninterest income is generated from various loan or deposit fees, increases in the cash surrender value of bank owned life insurance (“BOLI”), and revenue earned on our wealth management brokerage services. This income is increased or partially offset by any net gain or loss on sales of investment securities.

Our noninterest expenses consist primarily of salaries and employee benefits, professional fees, regulatory assessments, occupancy and equipment, and other general and administrative expenses. Salaries and employee benefits consist primarily of the salaries and wages paid to our employees, payroll taxes, expenses for retirement, and other employee benefits. OREO-related expenses consist primarily of maintenance and costs of utilities for the OREO inventory, market valuation adjustments, build-out expenses, gains and losses from OREO sales, legal fees, real estate taxes, and insurance related to the properties included in the OREO inventory. Professional fees include legal services, auditing and accounting services, computer support services, and other professional services in support of strategic plans. Occupancy and equipment expenses, which are the fixed and variable costs of buildings and equipment, consist primarily of real estate taxes, depreciation expenses, maintenance, and costs of utilities. Also included in noninterest expense are changes to the Company’s unfunded commitment reserve which are reflected in general and administrative expenses. This unfunded commitment reserve expense can vary significantly each quarter, based on the amount believed by management to be sufficient to absorb estimated probable losses related to unfunded credit facilities, and reflects changes in the amounts that the Company has committed to fund but has not yet disbursed.

Critical Accounting Policies

Our significant accounting policies are fundamental to understanding our results of operations and financial condition because they require that we use estimates and assumptions that may affect the value of our assets or liabilities and our financial results. These policies are critical because they require management to make difficult, subjective, and complex judgments about matters that are inherently uncertain and because it is likely that materially different amounts would be reported under different conditions or by using different assumptions. These policies govern the ALLL, the valuation of OREO, and the calculation of deferred taxes, fair values, and other-than-temporary impairments on the market value of investments and derivatives. These policies and estimates are described in further detail in Part II, Item 7 Management's Discussion and Analysis of Financial Condition and Results of Operations and Note 1, Summary of Significant Accounting Policies with the 2016 Form 10-K. There have not been any material changes in the Company’s critical accounting policies and estimates as compared to the disclosure contained in the 2016 Form 10-K.

Comparison of Financial Condition at June 30, 2017 and December 31, 2016

Total assets were $1.1 billion at June 30, 2017, an increase of 4.3%, from $1.0 billion at December 31, 2016. The following table details the $44.1 million net change in the composition of our assets at June 30, 2017 from December 31, 2016.

37



 
Balance at
June 30, 2017
 
Change from December 31, 2016
 
Percent Change
 
(Dollars in thousands)
Cash on hand and in banks                                           
$
7,418

 
$
1,639

 
28.4
 %
Interest-earning deposits with banks                                           
10,996

 
(14,577
)
 
(57.0
)
Investments available-for-sale, at fair value
133,951

 
4,691

 
3.6

Loans receivable, net                                           
861,672

 
46,629

 
5.7

Premises and equipment, net
19,501

 
1,040

 
5.6

FHLB stock, at cost                                
8,902

 
871

 
10.8

Accrued interest receivable
3,165

 
18

 
0.6

Deferred tax assets, net
2,620

 
(522
)
 
(16.6
)
OREO
1,825

 
(506
)
 
(21.7
)
BOLI, net
28,721

 
4,568

 
18.9

Prepaid expenses and other assets
2,937

 
273

 
10.2

Total assets                                
$
1,081,708

 
$
44,124

 
4.3
 %

Interest-earning deposits with banks. Our interest-earning deposits with banks, consisting primarily of funds held at the Federal Reserve Bank of San Francisco, decreased by $14.6 million from December 31, 2016 to June 30, 2017. Loan payoffs received late in the fourth quarter of 2016 were temporarily held in our Federal Reserve Bank account, then partially used to fund new loan originations in the six months ended June 30, 2017.

Investments available-for-sale. Our investments available-for-sale portfolio increased by $4.7 million during the first six months of 2017. During this period, we purchased $14.2 million of securities which included four mortgage-backed securities, two subordinated debt securities, and one tax-exempt municipal bond. We also sold $4.7 million of securities which included two mortgage-backed securities and a portion of a subordinated debt security. The mortgage-backed securities were sold in favor of a collateralized mortgage obligation security which met our investment objectives while the portion of the subordinated debt security was sold in order to allow us the ability to diversify our holdings of bank subordinated debt notes through reinvestment of the proceeds received in other issuers. In addition, the Bank had partial calls of $5,000 on a taxable municipal security and $21,000 on a U.S. government agency security. At June 30, 2017, corporate bonds issued by financial institutions represented $24.5 million, or 18.3% of our investments available-for-sale and municipal bonds represented $14.1 million, or 10.7% of our investments available-for-sale.

The net unrealized loss of our investments available-for-sale had a pre-tax decrease of $829,000 during the six months ended June 30, 2017 as a result of a net improvement in the market value of the underlying securities in our portfolio.

The effective duration of the investments available-for-sale at June 30, 2017, was 3.5% as compared to 4.0% at December 31, 2016. Effective duration is a measure that attempts to quantify the anticipated percentage change in the value of an investment security (or portfolio) in the event of a 100 basis point change in market yields. Since the Bank’s portfolio includes securities with embedded options (including call options on bonds and prepayment options on mortgage-backed securities), management believes that effective duration is an appropriate metric to use as a tool when analyzing the Bank’s investment securities portfolio, as effective duration incorporates assumptions relating to such embedded options, including changes in cash flow assumptions as interest rates change.

Loans receivable. Net loans receivable increased $46.6 million during the first six months of 2017 to $861.7 million at June 30, 2017. While the concentrations of our commercial and construction loans have increased, we routinely monitor these levels in support of our strategic plan to maintain compliance with internally established concentration guidelines. The Bank has set aggregate concentration guidelines that total commercial real estate, including residential, non-residential, and construction, should not exceed 550% of total risk-based capital. Our guidelines for construction/land loans are 100% of total risk-based capital. At June 30, 2017, the Bank’s concentrations were 443.0% for total commercial real estate loans and 115.3% for total construction/land loans. The concentration of construction/land loans is calculated using the funded balance of these loans and consequently can fluctuate based on the timing of construction draws and loan payoffs. Management reviews estimated construction draws and loan payoffs and adjusts loan originations based on these estimates to achieve compliance with our construction guidelines. Our commercial and multifamily real estate and construction/land loan portfolios are subject to ongoing credit reviews performed by both independent loan review staff, as well as an external third-party review firm to assist with

38



identifying potential adverse trends and risks in the portfolio allowing management to initiate timely corrective action, as necessary.  Such reviews also assist with ensuring loan risk grades are accurately assigned and thereby properly accounted for in the ALLL.  The review places emphasis on large borrowing relationships, stress testing, compliance with loan covenants, as well as other risk factors warranting enhanced review. The following table presents a breakdown of our loan portfolio by collateral type at June 30, 2017 and December 31, 2016:
 
June 30, 2017
 
December 31, 2016
 
(In thousands)
Multifamily real estate:
 
 
 
Micro-unit apartments
$
5,580

 
$
7,878

Other multifamily
120,304

 
115,372

Total multifamily
125,884

 
123,250

 
 
 
 
Commercial real estate:
 
 
 
Office
95,256

 
101,688

Retail
99,482

 
106,294

Mobile home park
21,851

 
20,689

Warehouse
21,491

 
15,338

Storage
35,121

 
34,816

Other non-residential
44,017

 
24,869

Total commercial real estate
317,218

 
303,694

 
 
 
 
Construction/land:
 
 
 
One-to-four family residential
76,404

 
67,842

Multifamily
123,497

 
111,051

Commercial
1,100

 

Land
39,012

 
30,055

Total construction/land
240,013

 
208,948

Total commercial, multifamily and construction/land loans
$
683,115

 
$
635,892


During the first six months of 2017, total construction/land loans increased by $31.1 million as compared to December 31, 2016. The LIP related to these loans increased by $16.4 million as the unfunded portion of new loan originations exceeded disbursements on existing loans. Included in total construction/land loans, net of LIP, at June 30, 2017 are $48.9 million of multifamily loans, $25,000 of commercial loans and $1.1 million of one-to-four family loans that will roll over to permanent loans at the completion of their construction period in accordance with the terms of the construction/land loan.

To assist in our strategic initiatives for loan growth, the Bank will utilize loan participations or loan purchases within Washington or in the Western United States. The Bank’s goal with respect to participations is to locate a selling bank that is unable to make an entire loan due to legal or lending concentration limitations. Sellers of these loans are reviewed for management/lending experience, financial condition, asset quality metrics, and regulatory matters. Loans acquired through participation or purchase must meet the Bank’s underwriting standards. During the six months ended June 30, 2017, the Bank purchased participation interests in seven loans in Washington and California for a total of $23.3 million.
 
The majority of our loan portfolio continues to be focused in our primary market area, however we are also seeking geographic diversification. Through loan purchases and by loan originations initiated by our California employee, we have acquired loans secured by collateral located in Arizona, California, Colorado, Oregon, and Utah. At June 30, 2017, total loans secured by collateral located in California represented 2.1% of our total loans, net of LIP and total loans secured by collateral located outside the states of California and Washington represented 4.8% of our total loans, net of LIP. The following table details geographic concentrations in our loan portfolio, net of LIP:


39



 
 
At June 30, 2017
 
 
One-to-four family residential
 
Multifamily
 
Commercial real estate
 
Construction/land
 
Business
 
Consumer
 
Total
 
 
(In thousands)
King County
 
$
192,685

 
$
78,548

 
$
162,228

 
$
131,287

 
$
8,908

 
$
7,980

 
$
581,636

Pierce County
 
37,908

 
15,044

 
27,198

 
3,766

 

 
511

 
84,427

Snohomish County
 
12,177

 
2,189

 
30,215

 
15,151

 
63

 
214

 
60,009

Kitsap County
 
1,632

 
1,536

 
823

 
135

 

 
78

 
4,204

California
 

 

 
17,911

 

 
439

 

 
18,350

Other Washington Counties
 
11,648

 
17,078

 
53,082

 
1,743

 
1,361

 
248

 
85,160

Outside Washington and California
 
582

 
11,489

 
25,218

 

 
4,435

 

 
41,724

Total loans, net of LIP
 
$
256,632

 
$
125,884

 
$
316,675

 
$
152,082

 
$
15,206

 
$
9,031

 
$
875,510


Our five largest borrowing relationships, which represent 9.9% of our net loans, increased by $7.5 million to $87.0 million at June 30, 2017 from $79.5 million at December 31, 2016. The total number of loans represented by this group of borrowers increased to 30 loans at June 30, 2017 from 23 loans at December 31, 2016. At June 30, 2017, all five borrowers were current on their loan payments. We monitor the performance of these borrowing relationships very closely due to their concentration risk in relation to the entire loan portfolio. The following table details our five largest lending relationships at June 30, 2017:

Borrower (1)
 
Number
of Loans
 
One-to-Four Family
Residential
(2)

Multifamily

Commercial
Real Estate

Construction/
Land
 
Consumer

Aggregate
Balance of
Loans (3)

 
(Dollars in thousands)
Real estate investor
 
2
 
$
562

 
$

 
$

 
$
22,000

 
$

 
$
22,562

Real estate investor
 
17
 

 
17,417

 
832

 

 

 
18,249

Real estate investor
 
4
 
469

 

 
15,552

 

 

 
16,021

Real estate investor
 
5
 
461

 

 
14,443

 

 
500

 
15,404

Real estate investor
 
2
 

 

 

 
14,755

 

 
14,755

Total
 
30
 
$
1,492

 
$
17,417

 
$
30,827

 
$
36,755

 
$
500

 
$
86,991

________
(1)
The composition of borrowers represented in the table may change between periods.
(2) 
$930,000 of the one-to-four family residential loans for these borrowers are for owner occupied properties while $562,000 is for non-owner occupied. The commercial real estate loans are for non-owner occupied properties.
(3) 
Net of LIP.

The ALLL increased to $11.3 million at June 30, 2017, from $11.0 million at December 31, 2016, and represented 1.3% of total loans receivable, net of LIP at both June 30, 2017 and December 31, 2016. The ALLL consists of two components, the general allowance and the specific reserves. The increase in the ALLL, primarily a result of growth in our loan portfolio, consisted of a $439,000 increase in the general reserve, which included $34,000 of recoveries, and a $105,000 decrease in the specific reserves. For additional information, see “Comparison of Operating Results for the Three Months Ended June 30, 2017 and 2016 - Provision for Loan Losses” discussed below.

We believe that the ALLL at June 30, 2017, was adequate to absorb the probable and inherent risks of loss in the loan portfolio at that date. While we believe the estimates and assumptions used in our determination of the adequacy of the allowance are reasonable, there can be no assurance that such estimates and assumptions will be proven correct in the future, that the actual amount of future losses will not exceed the amount of past provisions, or that any increased provisions that may be required will not adversely impact our financial condition and results of operations. Future additions to the allowance may become necessary based upon changing economic conditions, the level of problem loans, business conditions, credit concentrations, increased loan balances, or changes in the underlying collateral of the loan portfolio. In addition, the determination of the amount

40



of our ALLL is subject to review by bank regulators as part of the routine examination process, which may result in the establishment of additional loss reserves or the charge-off of specific loans against established loss reserves based upon their judgment of information available to them at the time of their examination.

As we work with our borrowers that face difficult financial circumstances, we explore various options available to minimize our risk of loss. At times, the best option for our customers and the Bank is to modify the loan for a period of time, usually one year or less. Certain loan modifications are accounted for as troubled debt restructured loans (“TDRs”). These modifications have included a reduction in interest rate on the loan for a period of time, advancing the maturity date of the loan, or allowing interest-only payments for a specific time frame. These modifications are granted only when there is a reasonable and attainable restructured loan plan that has been agreed to by the borrower and is considered to be in the Bank’s best interest.

The following table presents a breakdown of our TDRs at the dates indicated:

June 30, 2017

December 31, 2016

Six Month Change

(Dollars in thousands)
Nonperforming TDRs:





   One-to-four family residential
$
106


$
174


$
(68
)
Total nonperforming TDRs
106


174


(68
)






Performing TDRs:





   One-to-four family residential
19,152


24,274


(5,122
)
   Multifamily
1,146


1,564


(418
)
   Commercial real estate
3,660


4,202


(542
)
   Consumer
43


43



Total performing TDRs
24,001


30,083


(6,082
)
Total TDRs
$
24,107


$
30,257


$
(6,150
)
% TDRs classified as performing
99.6
%

99.4
%

 

Our TDRs decreased $6.2 million at June 30, 2017, compared to December 31, 2016, as a result of principal repayments and loan payoffs. At June 30, 2017, one TDR of $106,000 was on nonaccrual status because it had previously not performed in accordance with the terms of its restructure although now current on its payments. There were no committed but undisbursed funds in connection with our TDRs and impaired loans. The largest TDR relationship at June 30, 2017, totaled $8.2 million and was comprised of $7.5 million in one-to-four family residential rental properties and $747,000 in owner occupied commercial property, all located in King County.

Loans are considered past due if a scheduled principal or interest payment is due and unpaid for 30 days or more. At June 30, 2017, total past due loans represented 0.01% of total loans receivable, as compared to 0.06% at December 31, 2016.
    
Nonperforming assets decreased to $2.4 million at June 30, 2017, compared to $3.2 million at December 31, 2016. The following table presents detailed information on our nonperforming assets at the dates indicated:


41




June 30, 2017

December 31, 2016

Six Month Change

(Dollars in thousands)
Nonperforming loans:





  One-to-four family residential
$
528


$
798


$
(270
)
  Consumer
55


60


(5
)
Total nonperforming loans
583


858


(275
)






OREO
1,825


2,331


(506
)
Total nonperforming assets (1)
$
2,408


$
3,189


$
(781
)








Nonperforming assets as a
percent of total assets
0.22
%

0.31
%


____________ 
(1) The difference between nonperforming assets reported above, and the totals reported by other industry sources, is due to their inclusion of all TDRs as nonperforming loans, although 99.6% of our TDRs were performing in accordance with their restructured terms at June 30, 2017. The remaining 0.4% of TDRs at June 30, 2017, that were nonperforming are reported above as nonperforming loans.

Nonaccrual loans are loans that are 90 days or more delinquent or other loans which, in management's opinion, the borrower is unable to meet scheduled payment obligations. Nonaccrual loans decreased to $583,000 at June 30, 2017, from $858,000 at December 31, 2016. During the first six months of 2017, one loan with a $62,000 balance was returned to accrual status as a result of consistent payments for a period of time and demonstration of the ability to continue making payments. Further reductions in nonperforming loans were the result of $213,000 in principal payments and payoffs of nonaccrual loans during this period. There were no charge-offs or loans added to nonaccrual status.

The three largest nonaccrual loans in the loan portfolio at June 30, 2017, included a $283,000 owner occupied single family residence in Snohomish County, a $131,000 owner occupied single family residence in Snohomish County, and a $106,000 owner occupied single family residence in King County. Each of these loans is current on its loan payments.

We continue to focus our efforts on working with borrowers to bring their loans current or converting nonaccrual loans to OREO and subsequently selling the properties. By taking ownership of these properties, we can generally convert nonearning assets into earning assets on a more timely basis than which may otherwise be the case. Our success in this area is reflected by the continued improved ratio of our nonperforming assets as a percent of total assets, which declined to 0.22% at June 30, 2017, compared to 0.31% at December 31, 2016.

OREO. OREO includes properties acquired by the Bank through foreclosure or acceptance of a deed in lieu of foreclosure. At June 30, 2017, and December 31, 2016, OREO was $1.8 million and $2.3 million, respectively. During the six months ended June 30, 2017, a $50,000 market valuation adjustment was taken on a property for which we had entered into a sale contract. The sale of this property closed in April 2017.

The three largest OREO properties at June 30, 2017, were an office building valued at $837,000 located in Pierce County, a retail building valued at $505,000 in Mason County, and undeveloped land valued at $270,000 in Pierce County.

The following table presents a breakdown of our OREO by county and number of properties at June 30, 2017:

 
County
 
Total OREO
 
Number of Properties
 
Percent of
Total OREO
 
Pierce
 
Mason
 
(Dollars in thousands)
OREO:
 
 
 
 
 
 
 
 
 
   Commercial real estate (1)
$
1,320

 
$
505

 
$
1,825

 
4

 
100.0
%
Total OREO
$
1,320

 
$
505

 
$
1,825

 
4

 
100.0
%

42




(1) Of the four properties classified as commercial real estate, two are office/retail buildings and two are undeveloped lots.

Deposits. During the first six months of 2017, deposits increased $18.1 million to $735.6 million at June 30, 2017, compared to $717.5 million at December 31, 2016. Deposit accounts consisted of the following:

 
June 30, 2017
 
Change from December 31, 2016
 
Percent Change
 
(Dollars in thousands)
Noninterest-bearing
$
35,126

 
$
1,704

 
5.1
 %
Interest-bearing checking
21,059

 
2,527

 
13.6

Statement savings
26,668

 
(1,715
)
 
(6.0
)
Money market
232,206

 
27,208

 
13.3

Certificates of deposit, retail
345,028

 
(11,625
)
 
(3.3
)
Certificates of deposit, brokered
75,488






$
735,575


$
18,099


2.5

 
The increase during the first six months of 2017 was predominantly in retail deposits reflecting our strategy to grow our core deposits. Growth occurred in both our noninterest-bearing and interest-bearing checking accounts and money market accounts as we pursue these sources of lower cost funding.

Our portfolio of brokered certificates of deposits remained at $75.5 million at June 30, 2017, unchanged from December 31, 2016. We may add to our portfolio of these brokered deposits as a source of additional funding in future periods. While brokered certificates of deposit may carry a higher cost than our retail certificates, their remaining maturity periods of 13 to 43 months, along with the enhanced call features of these deposits, assist us in our efforts to manage interest rate risk.

At June 30, 2017 and December 31, 2016, we held $23.8 million and $23.7 million in public funds, respectively, nearly all of which were retail certificates of deposit.

Advances. We use advances from the FHLB as an alternative funding source to reduce interest rate risk and to leverage our balance sheet. Total FHLB advances were $191.5 million at June 30, 2017 and $171.5 million at December 31, 2016. At June 30, 2017, the Bank held $56.5 million in borrowings that are due in less than one year and $135.0 million in borrowings that are due in one to three years. Included in our total advances at that date is a $50.0 million three-month fixed-rate advance designated as a hedge instrument in a cash flow hedge, as described below. Included in the category of advances that are due in one to three years is a $120.0 million Member Option Variable Rate advance that reprices quarterly and allows prepayment without penalties on the repricing date.

Cash Flow Hedge. To assist in managing interest rate risk, the Bank entered into a five-year, $50 million notional, pay fixed, receive floating cash flow hedge or interest rate swap with a qualified institution on October 25, 2016. Under the terms of the agreement, the Bank will pay a fixed rate of 1.34% for five years and, will in turn, receive an interest payment based on the three-month LIBOR index, which resets quarterly. Concurrently, the Bank borrowed a $50.0 million fixed rate three-month advance that will be renewed quarterly at the fixed interest rate in effect at that time. Effectiveness of the swap is evaluated quarterly with any ineffectiveness recognized as a gain or a loss on the income statement in noninterest income. A change in the fair value of the cash flow hedge is recognized as an other asset or other liability on the balance sheet with the tax-effected portion of the change included in other comprehensive income. At June 30, 2017, we recognized a $1.1 million fair value asset as a result in the increase in the market value of the hedge agreement.

Stockholders’ Equity. Total stockholders’ equity increased $5.4 million during 2017 to $143.5 million at June 30, 2017, from $138.1 million at December 31, 2016. Additional paid-in capital increased $1.6 million as a result of the exercise of stock options for 115,880 shares during the six months ended June 30, 2017. Also contributing to the increase, retained earnings increased $2.9 million during the six months ended June 30, 2017, as a result of $4.2 million in net income partially offset by $1.3 million paid out in shareholder dividends.

The following table shows cash dividends paid per share and the related dividend payout ratio for the periods indicated:

43



 
Three Months Ended June 30,
 
Six Months Ended June 30,
 
2017
 
2016
 
2017
 
2016
 
 
 
 
 
 
 
 
Dividend declared per common share
$
0.07

 
$
0.06

 
$
0.13

 
$
0.12

Dividend payout ratio (1)
38.9
%
 
51.8
%
 
32.0
%
 
46.4
%
______________
(1) Dividends paid per common share divided by basic earnings per common share
    
The Company has a share repurchase plan in effect from May 30, 2017 through November 30, 2017 authorizing the repurchase of 1,100,000 shares, or 10.0% of outstanding shares. At June 30, 2017, the Company had repurchased 22,700 shares at an average price of $15.93 per share.

Comparison of Operating Results for the Three Months Ended June 30, 2017 and 2016

General. Net income for the three months ended June 30, 2017 was $1.9 million, or $0.18 per diluted share as compared to net income of $1.4 million, or $0.11 per diluted share for the quarter ended June 30, 2016. The $428,000 increase in net income during the first quarter of 2017 was primarily a result of an increase in net interest income and a decrease in the provision for loan losses partially offset by an increase in noninterest expense.

Net Interest Income. Net interest income for the quarter ended June 30, 2017 increased $814,000 to $9.0 million, as compared to $8.2 million for the first quarter in 2016, due to the $1.4 million increase in our interest income partially offset by a $633,000 increase in interest expense. Interest income primarily increased as a result of the growth in average loans receivable. Our net interest margin was 3.60% for the quarter ended June 30, 2017, compared to 3.63% for the quarter ended June 30, 2016. The change between quarters was primarily attributed to increased costs associated with interest-bearing liabilities due to the recent increases in short term interest rates.

The following table details the change in net interest income due to changes in yield or cost, or changes in the average balance of the related asset or liability:

 
Three Months Ended June 30, 2017
Compared to June 30, 2016
Net Change

Rate

Volume

Total

(In thousands)
Interest-earning assets:





   Loans receivable, net
$
(176
)

$
1,480


$
1,304

   Investments available-for-sale
138


(8
)

130

   Interest-earning deposits with banks
22


(27
)

(5
)
   FHLB stock


18


18

Total net change in income on interest-earning assets
(16
)

1,463


1,447







Interest-bearing liabilities:





   Interest-bearing demand
13


1


14

   Statement savings
(1
)

(1
)

(2
)
   Money market
125


21


146

   Certificates of deposit, retail
58


76


134

   Certificates of deposit, brokered
2

 
41

 
43

   Advances from the FHLB
163


135


298

Total net change in expense on interest-bearing liabilities
360


273


633

Total net change in net interest income
$
(376
)

$
1,190


$
814


44




The $1.3 million increase in loan interest income during the second quarter of 2017, as compared to the same period in 2016, was a result of a $118.7 million increase in the average outstanding loan balance partially offset by a decrease in the average loan yield of nine basis points. Higher yielding loans continue to be repaid while rates of new loan originations remain relatively unchanged in spite of the recent rate increases in the Federal Funds rate by the Federal Reserve Board.
 
During the first quarter of 2017, interest income from our investments available-for-sale increased by $130,000 as compared to the same period in 2016. The average balance of our investments available-for-sale for the three months ended June 30, 2017 decreased by $1.4 million as compared to the same period last year as sales and paydowns outpaced purchases of new investments. As a result of restructuring our available-for-sale investment portfolio through the sales of lower yielding investment securities, and utilizing the proceeds received to purchase higher yielding, long-term investment securities last year, our yield on these assets increased by 42 basis points for the three months ended June 30, 2017, as compared to the same period in 2016.

Partially offsetting the increase in interest income, interest expense increased by $633,000 for the three months ended June 30, 2017, as compared to the same period in 2016. The average balance of our interest-bearing liabilities increased $116.4 million over the last year to support the growth in our financial assets. The average balance of deposits increased by $55.1 million for the three months ended June 30, 2017 as compared to the same period in 2016, including growth in retail certificates of deposit of $26.0 million, money market accounts of $19.5 million, brokered certificates of deposit of $9.9 million, and interest-bearing checking accounts of $2.8 million. These increases were partially offset by a decrease of $3.1 million in the average balance of our statement savings accounts. The average cost of our deposits increased by 12 basis points for the three months ended June 30, 2017, as compared to the same period in 2016. In further support of our asset growth, average borrowings at the FHLB increased by $61.2 million for the three months ended June 30, 2017, and the average cost of these funds increased 35 basis points as compared to the same period in 2016. The average cost of both our deposits and FHLB borrowings increased for the three months ended June 30, 2017, as compared to the same period in 2016 in response to increases in the Federal Funds rate.

The following table compares detailed average balances, related interest income or interest expense, associated yields and rates, and the resulting net interest margin for the three months ended June 30, 2017 and 2016. Nonaccrual loans are included in the average balance of net loans receivable and are considered to carry a zero yield.

45



 
Three Months Ended June 30,
 
2017
 
2016
 
Average
Balance
 
Interest Earned / Paid
 
Yield /
Cost
 
Average
Balance
 
Interest Earned / Paid
 
Yield /
Cost
 
(Dollars in thousands)
Assets
 
 
 
 
 
 
 
 
 
 
 
Loans receivable, net                                           
$
844,853

 
$
10,352

 
4.91
%
 
$
726,109

 
$
9,048

 
5.00
%
Investments available-for-sale
132,375

 
887

 
2.69

 
133,813

 
757

 
2.27

Interest-earning deposits with banks                                          
16,831

 
42

 
1.00

 
39,167

 
47

 
0.48

FHLB stock                      
8,616

 
62

 
2.89

 
6,097

 
44

 
2.89

Total interest-earning assets                                                      
1,002,675

 
11,343

 
4.54

 
905,186

 
9,896

 
4.39

Noninterest earning assets
63,802

 
 
 
 
 
58,002

 
 
 
 
Total average assets
$
1,066,477

 
 
 
 
 
$
963,188

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Liabilities and Stockholders' Equity
 
 
 
 
 
 
 
 
 
 
 
Interest-bearing checking
$
20,426

 
$
19

 
0.37
%
 
$
17,592

 
$
5

 
0.11
%
Statement savings
27,366

 
10

 
0.15

 
30,449

 
12

 
0.16

Money market
220,241

 
358

 
0.65

 
200,738

 
212

 
0.42

Certificates of deposit, retail
349,401

 
1,075

 
1.23

 
323,390

 
941

 
1.17

Certificates of deposit, brokered
75,488

 
314

 
1.67

 
65,612

 
271

 
1.66

Total interest-bearing deposits
692,922

 
1,776

 
1.03

 
637,781

 
1,441

 
0.91

Advances from the FHLB
184,357

 
570

 
1.24

 
123,148

 
272

 
0.89

Total interest-bearing liabilities
877,279

 
2,346

 
1.07

 
760,929

 
1,713

 
0.90

Noninterest bearing liabilities
45,555

 
 
 
 
 
33,082

 
 
 
 
Average equity
143,643

 
 
 
 
 
169,177

 
 
 
 
Total average liabilities and equity
$
1,066,477

 
 
 
 
 
$
963,188

 
 
 
 
Net interest income
 
 
$
8,997

 
 
 
 
 
$
8,183

 
 
Net interest margin
 
 
 
 
3.60
%
 
 
 
 
 
3.63
%

Provision for Loan Losses. Management recognizes that loan losses may occur over the life of a loan and that the ALLL must be maintained at a level necessary to absorb specific losses on impaired loans and probable losses inherent in the loan portfolio. Our methodology for analyzing the ALLL consists of two components: general and specific reserves. The general reserve is determined by applying factors to our various groups of loans. Management considers factors such as charge-off history, the prevailing economy, the regulatory environment, competition, geographic and loan type concentrations, policy and underwriting standards, nature and volume of the loan portfolio, managements’ experience level, our loan review and grading systems, the value of underlying collateral and the level of problem loans in assessing the ALLL. The specific reserve component is created when management believes that the collectability of a specific loan has been impaired and a loss is probable. The specific reserves are computed using current appraisals, listed sales prices, and other available information, less costs to complete, if any, and costs to sell the property. This evaluation is inherently subjective as it requires estimates that are susceptible to significant revision as more information becomes available or if future events differ from current estimates.

During the quarter ended June 30, 2017, management evaluated the adequacy of the ALLL and concluded that additional provision for loan losses in the amount of $100,000 was appropriate for the quarter. For the quarter ended June 30, 2016, a $600,000 provision for loan losses was recorded. For the second quarter of 2017, the provision for loan losses was primarily a result of growth in our loan receivables partially offset by payoffs and credit improvements to certain adversely classified loans. In comparison, the provision reported in the second quarter of 2016 was primarily a result of an increase in the balance of our loans receivable.


46



The following table summarizes selected financial data related to our ALLL and loan portfolio. All loan balances and ratios are calculated using loan balances that are net of LIP.

At or For the Three Months Ended June 30,

2017

2016
 
(Dollars in thousands)
Total loans receivable, net of LIP, end of period
$
875,510

 
$
778,120

Average loans receivable during period
844,853

 
726,109

ALLL balance at beginning of period
11,158

 
9,471

Provision for loan losses
100

 
600

Charge-offs:


 
 
Consumer

 

Total charge-offs

 

Recoveries:


 
 
One-to-four family
27

 
63

Total recoveries
27

 
63

Net recovery
27

 
63

ALLL balance at end of period
$
11,285

 
$
10,134

ALLL as a percent of total loans, net of LIP
1.29
%
 
1.30
%
Ratio of net recoveries to average net loans receivable
0.01

 
0.03


Noninterest Income. Noninterest income increased $23,000 to $731,000 for the quarter ended June 30, 2017, from $708,000 for the quarter ended June 30, 2016. The following table provides a detailed analysis of the changes in the components of noninterest income:
 
Three Months Ended June 30, 2017
 
Change from Three Months Ended
June 30, 2016
 
Percent Change
 
(Dollars in thousands)
Service fees on deposit accounts
38

 
9

 
31.0
 %
Loan service fees                                
120

 
39

 
48.1

Net gain on sale of investments
56

 
56

 
100.0

BOLI change in cash surrender value
116

 
(109
)
 
(48.4
)
Wealth management revenue
307

 
26

 
9.3

Other           
94

 
2

 
2.2

Total noninterest income                                           
731

 
23

 
3.2


The increase in the quarter ended June 30, 2017, compared to the quarter ended June 30, 2016, was partially the result of the $56,000 gain on sales of a portion of a corporate bond and two mortgage-backed securities during the second quarter of 2017. During the same period in 2016, we did not sell any of our investment securities. Further contributing to the increase in 2017, loan service fees increased by $39,000 as a result of increased prepayment penalties and wealth management revenue increased by $26,000 as we continue to expand our portfolio of managed accounts. These increases were partially offset by a decrease in noninterest income from our BOLI policies. During the second quarter of 2017, we purchased $4.2 million in additional policies where certain policy expenses are deducted from earnings over the first year, thereby reducing the overall noninterest income recognized from BOLI policies for the initial one year period.
        
Noninterest Expense. Noninterest expense increased $764,000 to $6.8 million for the quarter ended June 30, 2017 from $6.1 million for the comparable quarter in 2016.

The following table provides a detailed analysis of the changes in the components of noninterest expense:

47



 
Three Months Ended June 30, 2017
 
Change from Three Months Ended
June 30, 2016
 
Percent Change
 
(Dollars in thousands)
Salaries and employee benefits
$
4,409

 
$
568

 
14.8
 %
Occupancy and equipment                                           
579

 
91

 
18.6

Professional fees                                
482

 
(79
)
 
(14.1
)
Data processing                                
519

 
268

 
106.8

Gain on sale of OREO property, net                                
(5
)
 
(94
)
 
(105.6
)
OREO related expenses, net
(15
)
 
(1
)
 
7.1

Regulatory assessments
112

 
(5
)
 
(4.3
)
Insurance and bond premiums                                           
98

 
12

 
14.0

Marketing
52

 
12

 
30.0

Other general and administrative
605

 
(8
)
 
(1.3
)
Total noninterest expense                                           
$
6,836

 
$
764

 
12.6
 %

Expenses for salaries and employee benefits increased $568,000 for the second quarter of 2017, as compared to the same period in 2016 primarily as a result of increases in costs due to the increase in the number of employees. As a result of our new branches and the development of new products, the number of employees increased to 129 at June 30, 2017 from 118 at June 30, 2016. In addition, the change in timing of recognition of the compensation expense for directors’ restricted stock awards resulted in $180,000 of additional expense for the quarter ended June 30, 2017 as compared to the same period in 2016.

As a result of our pending acquisition of four retail branches, our data processing expense increased by $268,000 for the quarter ended June 30, 2017 as compared to the same period in 2016 due primarily to the cost of data conversion of the accounts in these branches.

Partially offsetting these increases, professional fees decreased by $79,000, primarily as a result of a reduction in legal costs. During the second quarter of 2016, we incurred additional legal expenses relating to our modified Dutch auction tender offer completed in 2016. In addition, noninterest expense declined as we incurred a $5,000 gain on the sale of OREO property in the quarter ended June 30, 2017 as compared to a loss on sale of $89,000 for the quarter ended June 30, 2016.

Federal Income Tax Expense. Our statutory income tax rate is 35%. We recorded federal income tax provisions of $924,000 and $779,000 for the quarters ended June 30, 2017, and 2016, respectively, as a result of our consolidated pretax net income. Our effective tax rate for the quarter ended June 30, 2017 was 30.3%, which reflected the year-to-date impact of stock options exercised in the first quarter of 2017. In comparison, the effective tax rate for the quarter ended June 30, 2016 was 32.1%, which reflected reversal of nontaxable BOLI income and a 10% penalty on the early surrender a BOLI policy.

Comparison of Operating Results for the Six Months Ended June 30, 2017 and 2016

General. Net income for the six months ended June 30, 2017 was $4.2 million, or $0.40 per diluted share as compared to net income of $3.3 million, or $0.26 per diluted share for the six months ended June 30, 2016. Net interest income increased by $1.9 million year over year, however this was partially offset by a $1.1 million increase in noninterest expense.

Net Interest Income. Net interest income for the six months ended June 30, 2017 increased $1.9 million to $17.9 million, as compared to $16.0 million for the same period in 2016, due to the $2.9 million increase in our interest income partially offset by a $988,000 increase in interest expense. The increase in total interest income was primarily the result of the growth in average loans receivable. Our net interest margin was 3.62% for the six months ended June 30, 2017, compared to 3.54% for the six months ended June 30, 2016. The change between periods was primarily attributed to the increase in average loan balances and the increase in the average yield on interest-earning assets outpacing increased average costs associated with interest-bearing liabilities.

The following table details the change in net interest income due to changes in yield or cost, or changes in the average balance of the related asset or liability:
    

48



 
Six Months Ended June 30, 2017
Compared to June 30, 2016 Net Change
 
Rate
 
Volume
 
Total
 
(In thousands)
Interest-earning assets:
 
 
 
 
 
   Loans receivable, net
$
(628
)
 
$
3,232

 
$
2,604

   Investments available-for-sale
315

 
(15
)
 
300

   Interest-earning deposits with banks
35

 
(109
)
 
(74
)
   FHLB stock
19

 
34

 
53

Total net change in income on interest-earning assets
(259
)
 
3,142

 
2,883

 
 
 
 
 
 
Interest-bearing liabilities:
 
 
 
 
 
   Interest-bearing demand
25

 
1

 
26

   Statement savings
(1
)
 
(1
)
 
(2
)
   Money market
197

 
19

 
216

   Certificates of deposit, retail
135

 
165

 
300

   Certificates of deposit, brokered
(91
)
 
94

 
3

   Advances from the FHLB
190

 
255

 
445

Total net change in expense on interest-bearing liabilities
455

 
533

 
988

Total net change in net interest income
$
(714
)
 
$
2,609

 
$
1,895


Average loans receivable increased $128.5 million for the six months ended June 30, 2017 as compared to the same period in 2016 while the average yield decreased to 4.92% from 5.07% for the six months ended June 30, 2017 and 2016, respectively as loans originated during the past year were at lower average rates than those paying off.

Interest income on our investments available-for-sale increased $300,000 for the six months ended June 30, 2017 as compared to the same period in 2016 primarily as a result of the 48 basis point increase in the yield on these assets. We have continued to restructure our portfolio of these securities to include additional longer term higher-yielding investment securities to increase earnings from our investment portfolio.

Interest income on our interest-earning deposits decreased $74,000 for the six months ended June 30, 2017 as compared to the same period in 2016, primarily as a result of the $43.3 million decrease in the average balance of these deposits as we shifted cash earning a nominal yield into higher yielding assets. Partially offsetting the impact of the decrease in average balance, the average yield earned on interest-earning deposits from the Federal Reserve Bank increased by 34 basis points year over year.

Partially offsetting the increase in interest income, our interest expense increased $988,000 for the six months ended June 30, 2017 as compared to the same period in 2016. The average cost of our deposits increased by nine basis points for the six months ended June 30, 2017, as compared to the same period in 2016. Interest expense on money market accounts increased by $216,000, year over year primarily due to an 18 basis point increase in the cost of these funds. In addition, interest expense on retail certificates of deposit increased by $300,000, primarily from a combined result of a $28.9 million increase in the average balance of these accounts and an eight basis point increase in the cost of these funds. Interest expense on our FHLB advances and other borrowings increased by $445,000 for the six months ended June 30, 2017, as compared to the same period in 2016 as a result of a $55.0 million increase in the average balance of FHLB advances and a 22 basis point increase in the cost of these funds.

The following table compares detailed average balances, associated yields and rates, and the resulting changes in interest and dividend income or expense for the six months ended June 30, 2017 and 2016. Nonaccrual loans are included in the average balance of net loans receivable and are considered to carry a zero yield.


49



 
Six Months Ended June 30,
 
2017
 
2016
 
Average Balance
 
Interest Earned / Paid
 
Yield or Cost
 
Average Balance
 
Interest Earned / Paid
 
Yield or Cost
 
(Dollars in thousands)
Assets
 
 
 
 
 
 
 
 
 
 
 
Loans receivable, net                                           
$
835,106

 
$
20,379

 
4.92
%
 
$
706,606

 
$
17,775

 
5.07
%
Investments available-for-sale
130,693

 
1,732

 
2.67

 
132,073

 
1,432

 
2.19

Interest-earning deposits with banks                                          
20,512

 
86

 
0.85

 
63,774

 
160

 
0.51

FHLB stock                      
8,327

 
144

 
3.49

 
6,066

 
91

 
3.03

Total interest-earning assets                                                      
994,638

 
22,341

 
4.53

 
908,519

 
19,458

 
4.32

Noninterest earning assets
61,848

 
 
 
 
 
58,291

 
 
 
 
Total average assets
$
1,056,486

 
 
 
 
 
$
966,810

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Liabilities and Stockholders' Equity
 
 
 
 
 
 
 
 
 
 
 
Interest-bearing checking
$
19,956

 
$
35

 
0.35
%
 
$
17,290

 
$
9

 
0.10
%
Statement savings
27,717

 
21

 
0.15

 
28,733

 
23

 
0.16

Money market
215,071

 
641

 
0.60

 
205,968

 
425

 
0.42

Certificates of deposit, retail
352,391

 
2,147

 
1.23

 
323,524

 
1,847

 
1.15

Certificates of deposit, brokered
75,488

 
623

 
1.66

 
65,516

 
620

 
1.91

Total interest-bearing deposits
690,623

 
3,467

 
1.01

 
641,031

 
2,924

 
0.92

Advances from the FHLB
177,964

 
1,015

 
1.15

 
123,017

 
570

 
0.93

Total interest-bearing liabilities
868,587

 
4,482

 
1.04

 
764,048

 
3,494

 
0.92

Noninterest bearing liabilities
45,796

 
 
 
 
 
32,948

 
 
 
 
Average equity
142,103

 
 
 
 
 
169,814

 
 
 
 
Total average liabilities and equity
$
1,056,486

 
 
 
 
 
$
966,810

 
 
 
 
Net interest income
 
 
$
17,859

 
 
 
 
 
$
15,964

 
 
Net interest margin
 
 
 
 
3.62
%
 
 
 
 
 
3.54
%

Provision for Loan Losses. During the six months ended June 30, 2017, management evaluated the adequacy of the ALLL and concluded that additional provision for loan losses in the amount of $300,000 was appropriate for the period. The provision for the six months ended June 30, 2017 was primarily a reflection of the $46.6 million growth in net loans receivable partially offset by payoffs and credit improvements to certain adversely classified loans. For the six months ended June 30, 2016, an additional provision of $500,000 was recorded as a result of loan growth.

The following table summarizes selected financial data related to our ALLL and loan portfolio. All loan balances and ratios are calculated using loan balances that are net of LIP.

50



 
At or For the Six Months Ended June 30,
 
2017
 
2016
 
(Dollars in thousands)
Total loans receivable, net of LIP, end of period
$
875,510

 
$
778,120

Average loans receivable during period
835,106

 
706,606

ALLL balance at beginning of period
10,951

 
9,463

Provision for loan losses
300

 
500

Charge-offs:
 
 
 
Consumer

 
(19
)
Total charge-offs

 
(19
)
Recoveries:
 
 
 
One-to-four family
33

 
85

Commercial real estate

 
104

Consumer
1

 
1

Total recoveries
34

 
190

Net recovery
34

 
171

ALLL balance at end of period
$
11,285

 
$
10,134

ALLL as a percent of total loans, net of LIP
1.29
%
 
1.30
%
Ratio of net recoveries to average net loans receivable (annualized)
0.01

 
0.05


Noninterest Income. Noninterest income increased $78,000 to $1.3 million for the six months ended June 30, 2017, from $1.2 million for the same period in 2016. The following table provides a detailed analysis of the changes in the components of noninterest income:
 
Six Months Ended June 30, 2017
 
Change from
Six Months Ended
June 30, 2016
 
Percent Change
 
(Dollars in thousands)
Service fees on deposit accounts
$
63

 
$
19

 
43.2
 %
Loan service fees                                
155

 
26

 
20.2

Net gain on sale of investments
56

 
56

 
n/a

BOLI change in cash surrender value
317

 
(73
)
 
(18.7
)
Wealth management revenue
447

 
(44
)
 
(9.0
)
Other           
228

 
94

 
70.1

Total noninterest income                                           
$
1,266

 
$
78

 
6.6


The largest change to our noninterest income for the six months ended June 30, 2017 as compared to the same period in 2016 was the $95,000 increase in other noninterest income. This increase was a result of an additional $77,000 of fees received during the 2017 six month period on loans where certain commercial loan customers participate in an interest rate swap with a third party broker institution and the Bank receives a fee that is recognized as other noninterest income at the time the loan is originated. In addition, sales of investment securities generated a $56,000 gain for the six months ended June 30, 2017, compared to none for the same period in 2016. Loan servicing fees, primarily from prepayment penalties, increased by $26,000 year over year. Partially offsetting these increases, BOLI noninterest income from the change in cash surrender value of our policies decreased by $74,000 during the six months ended June 30, 2017 as compared to the same period in 2016, primarily due to expenses relating to the $4.1 million in additional BOLI policies purchased during the second quarter of 2017, as discussed above. Further offsetting our income, our wealth management revenue decreased $44,000 for the first six months of 2017 as compared to the same period in 2016 as a result of normal fluctuations in business activity.

Noninterest Expense. Noninterest expense increased $1.1 million to $12.9 million for the six months ended June 30, 2017 as compared to the same period in 2016.


51



The following table provides a detailed analysis of the changes in the components of noninterest expense:
 
Six Months Ended June 30, 2017
 
Change from
Six Months Ended
June 30, 2016
 
Percent Change
 
(Dollars in thousands)
Salaries and employee benefits
$
8,694

 
$
1,079

 
14.2
 %
Occupancy and equipment                                           
1,059

 
63

 
6.3

Professional fees                                
921

 
(108
)
 
(10.5
)
Data processing                                
759

 
318

 
72.1

(Gain) loss on sales of OREO property, net                                
(5
)
 
(92
)
 
(105.7
)
OREO market value adjustments
50

 
(207
)
 
(80.5
)
OREO-related expenses, net
(25
)
 
9

 
(26.5
)
Regulatory assessments
208

 
(29
)
 
(12.2
)
Insurance and bond premiums                                           
197

 
23

 
13.2

Marketing
100

 
22

 
28.2

Other general and administrative
946

 
(19
)
 
(2.0
)
Total noninterest expense                                           
$
12,904

 
$
1,059

 
8.9
 %

Salaries and employee benefits expense increased $1.1 million for the first six months of 2017 as compared to the same period in 2016. The number of employees increased from June 30, 2016 to June 30, 2017, as we added employees to support our branch expansions. Data processing increased by $318,000 primarily as a result of the cost of data conversion related to our pending acquisition of four retail branches. These increases were partially offset by a $207,000 decrease in OREO market value adjustments. During the first six months of 2016, we reduced the carrying value of OREO properties by $257,000 primarily as the result of a sales contract on one property. The sale fell through in 2016, however a new sale contract was agreed on during the first six months of 2017, resulting in a $50,000 additional write-down.

Federal Income Tax Expense. Our statutory income tax rate is 35%. We recorded federal income tax provisions of $1.7 million and $1.5 million for the six months ended June 30, 2017, and 2016 as a result of our consolidated net income. Our effective tax rate for the six months ended June 30, 2017 was 30.3% partially as a result of tax benefit from the exercise of stock options earlier in 2017. In comparison, the effective tax rate for the six months ended June 30, 2016 was 32.1% as a result of the reversal of noninterest income and a tax penalty from the early surrender of BOLI policies, partially offset by a benefit from the exercise of stock options.

Liquidity

We are required to have enough cash flow in order to maintain sufficient liquidity to ensure a safe and sound operation. We maintain cash flows above the minimum level believed to be adequate to meet the requirements of normal operations, including potential deposit outflows. On a daily basis, we review and update cash flow projections to ensure that adequate liquidity is maintained.

Our primary sources of funds are customer deposits, cash flow from the loan and investment portfolios, advances from the FHLB, and to a lesser extent, brokered certificates of deposit. These funds, together with equity, are used to make loans, acquire investment securities and other assets, and fund continuing operations. At June 30, 2017, retail certificates of deposit scheduled to mature in one year or less totaled $155.3 million. Management’s practice is to maintain deposit rates at levels that are competitive with other local financial institutions. While maturities and the scheduled amortization of loans are a predictable source of funds, deposit flows and mortgage prepayments are greatly influenced by the level of interest rates, economic conditions and competition. We measure our liquidity based on our ability to fund our assets and to meet liability obligations when they come due. Liquidity (and funding) risk occurs when funds cannot be raised at reasonable prices or in a reasonable time frame to meet our normal or unanticipated obligations. We regularly monitor the mix between our assets and our liabilities to manage effectively our liquidity and funding requirements.

When deposits are not readily available and/or cost effective to provide the funds for our assets, we use alternative funding sources. These sources include, but are not limited to: advances from the FHLB, wholesale funding, national certificates of deposit listing services, brokered deposits, federal funds purchased and dealer repurchase agreements, as well as other short-term alternatives. These funding sources are generally collateral dependent. We may also liquidate assets to meet our funding needs.

52



The balance of our investments available-for-sale increased $4.7 million from December 31, 2016, to $134.0 million at June 30, 2017, and represents a ready source of cash if needed. The balance of our interest-earning deposits with banks decreased by $14.6 million from December 31, 2016 to June 30, 2017, as we shifted cash into higher yielding assets. At June 30, 2017, the Bank maintained credit facilities with the FHLB totaling $370.4 million, with an outstanding balance of $191.5 million. At June 30, 2017, we also had available a total of $35.0 million credit facilities with other financial institutions, with no balance outstanding. For additional information, see the Consolidated Statements of Cash Flows in Item 1 of this Form 10-Q.

To assist in our funds acquisition and interest rate risk management efforts, management utilizes the national brokered deposit market and maintained a balance at June 30, 2017 of $75.5 million of brokered certificates of deposit. In contrast to most retail certificate of deposit offerings which provide the depositor with an option to withdraw their funds prior to maturity, subject to an early withdrawal penalty, certificates of deposit acquired in the brokered market limits the depositor ability to withdraw the funds before the end of the term (except in the case of death or adjudication of incompetence of a depositor) which greatly reduces early redemption risk associated with retail deposits. This strategy may include, but is not necessarily limited to, raising longer term deposits (with terms greater than three years) that assist the Bank in its interest rate risk management efforts. At June 30, 2017, brokered certificates of deposit had a remaining maturity of 13 to 43 months. Most of these certificates also provide the Bank the option to redeem the deposit after six months, a favorable distinction compared to retail certificate of deposit terms that are offered in our local market. With these redemption limitations and call features, the cost of these brokered deposits is generally higher than our retail certificate of deposit offerings. Consequently, as we increase our brokered deposits, our cost of funds may increase.

First Financial Northwest is a separate legal entity from the Bank and, on a stand-alone level, must provide for its own liquidity and pay its own operating expenses and cash dividends. First Financial Northwest's primary sources of funds consist of dividends from the Bank, although there are regulatory requirements related to the ability of the Bank to pay dividends. At June 30, 2017, the Company (on an unconsolidated basis) had liquid assets of $17.7 million and short-term liabilities of $153,000.

On a monthly basis, we estimate our liquidity sources and needs for the next six months. Also, we determine funding concentrations and our need for sources of funds other than deposits. This information is used by our Asset/Liability Management Committee (“ALCO”) in forecasting funding needs and investing opportunities. We believe that our current liquidity position and our expected operating results are sufficient to fund all of our existing commitments.

Commitments and Off-Balance Sheet Arrangements

We are a party to financial instruments with off-balance sheet risk in the normal course of business to meet the financing needs of our customers. These financial instruments include commitments to extend credit and the unused portions of lines of credit. These instruments involve, to varying degrees, elements of credit and interest rate risk in excess of the amount recognized in the consolidated financial statements. Commitments to extend credit and lines of credit are not recorded as an asset or liability by us until the instrument is exercised. At June 30, 2017 and December 31, 2016, we had no commitments to originate loans for sale.

Commitments to extend credit are agreements to lend to a customer as long as there is no violation of any condition established in the loan agreement. Commitments generally have fixed expiration dates or other termination clauses and may require payment of a fee. Since many of the commitments are expected to expire without being drawn upon, the total commitment amounts do not necessarily represent future cash requirements. We evaluate each customer’s creditworthiness on a case-by-case basis. The amount of the collateral obtained, if deemed necessary by us upon the extension of credit, is based on our credit evaluation of the customer. The amount and type of collateral required varies, but may include real estate and income-producing commercial properties.
    
The following table summarizes our outstanding commitments to advance additional amounts pursuant to outstanding lines of credit and to disburse funds related to our construction loans at June 30, 2017:
 
 
 
Amount of Commitment Expiration
 
Total Amounts Committed
 
Through One Year
 
After One Through Three Years
 
After Three Through Five Years
 
After Five Years
 
(In thousands)
Unused portion of lines of credit                                                      
$
24,136

 
$
1,584

 
$
14,746

 
$
3,321

 
$
4,485

Undisbursed portion of construction loans
88,475

 
37,420

 
51,055

 

 

Total commitments
$
112,611

 
$
39,004

 
$
65,801

 
$
3,321

 
$
4,485


53




We anticipate that we will continue to have sufficient funds and alternative funding sources to meet our current commitments.

As of June 30, 2017, the Bank had four operating leases with initial terms of five to eight years which carry minimum lease payments of $18,000 per month. All four leases offer extension periods. The Bank signed a fifth lease agreement in April 2017 for the new branch office in Bothell, Washington that is expected to open in the fourth quarter of 2017. With the pending acquisition of four retail branches, the Bank will assume the leases for the Woodinville, Lake Stevens, and Smokey Point locations when the acquisition is scheduled to close during the third quarter of 2017, subject to DFI approval and other customary closing conditions.
    
First Financial Northwest and its subsidiaries from time to time are involved in various claims and legal actions arising in the ordinary course of business. There are currently no matters that in the opinion of management would have a material adverse effect on First Financial Northwest’s consolidated financial position, results of operation, or liquidity.

Capital

At June 30, 2017, stockholders’ equity totaled $143.5 million, or 13.27% of total assets. Our book value per share of common stock was $13.00 at June 30, 2017, compared to $12.63 at December 31, 2016. Consistent with our goal to operate a sound and profitable financial organization, we actively seek to maintain a “well-capitalized” status in accordance with regulatory standards.

As of June 30, 2017, the Bank and consolidated Company exceeded all regulatory capital requirements and the Bank was considered “well capitalized” under regulatory capital guidelines of the FDIC. The following table provides our capital requirements and actual results.

 
At June 30, 2017
 
Actual
 
For Minimum Capital Adequacy Purposes
 
To be Categorized as “Well Capitalized”
 
 Amount
 
Ratio
 
 Amount
 
Ratio
 
 Amount
 
Ratio
 
 (Dollars in thousands)
Tier I leverage capital (to average assets)
 
 
 
 
 
 
 
 
 
 
 
Bank only
$
122,001

 
11.46
%
 
$
42,591

 
4.00
%
 
$
53,239

 
5.00
%
Consolidated
144,498

 
13.55

 
42,663

 
4.00

 
53,328

 
5.00

Common equity tier I ("CET1") (to risk-weighted assets)
 
 
 
 
 
 
 
 
 
 
 
Bank only
122,001

 
13.95

 
39,362

 
4.50

 
56,856

 
6.50

Consolidated
144,498

 
16.48

 
39,460

 
4.50

 
56,998

 
6.50

Tier I risk-based capital (to risk-weighted assets)
 
 
 
 
 
 
 
 
 
 
 
Bank only
122,001

 
13.95

 
52,483

 
6.00

 
69,977

 
8.00

Consolidated
144,498

 
16.48

 
52,614

 
6.00

 
70,152

 
8.00

Total risk-based capital (to risk-weighted assets)
 
 
 
 
 
 
 
 
 
 
 
Bank only
132,944

 
15.20

 
69,977

 
8.00

 
87,471

 
10.00

Consolidated
155,469

 
17.73

 
70,152

 
8.00

 
87,690

 
10.00


In addition to the minimum CET1, Tier 1 total capital and leverage ratios, the Bank is required to maintain a capital conservation buffer consisting of additional CET1 capital above the required minimum levels in order to avoid limitations on paying dividends, engaging in share repurchases, and paying discretionary bonuses based on percentages of eligible retained income that could be utilized for such actions. This new capital conservation buffer requirement began to be phased in starting in January 2016 at 0.625% of risk-weighted assets and will increase each year until fully implemented to an amount equal to 2.5% of risk-weighted assets in January 2019.


54



Item 3. Quantitative and Qualitative Disclosures about Market Risk

General. Our Board of Directors has approved an asset/liability management policy to guide management in maximizing net interest income by managing the differences in terms between interest-earning assets and interest-bearing liabilities while maintaining acceptable levels of liquidity, capital adequacy, interest rate sensitivity, credit risk, and profitability. The policy established an ALCO, comprised of certain members of senior management and the Board of Directors. The Committee’s purpose is to manage, coordinate, and communicate our asset/liability position consistent with our business plan and Board-approved policy. The ALCO meets quarterly to review various areas including:
economic conditions;
interest rate outlook;
asset/liability mix;
interest rate risk sensitivity;
current market opportunities to promote specific products;
historical financial results;
projected financial results; and
capital position.

Additionally, the Committee reviews current and projected liquidity needs. As part of its procedures, the ALCO regularly reviews our interest rate risk by modeling the impact that changes in interest rates may have on earnings, particularly net interest income. The market value of portfolio equity, which is the net present value of an institution’s existing assets less its liabilities and off-balance sheet instruments, is also modeled under several scenarios of changing interest rates. In both cases, results are evaluated and compared with the maximum potential change that is authorized by the Board of Directors.
 
Our Risk When Interest Rates Change. The rates of interest we earn on assets and pay on liabilities generally are established contractually for a period of time. Market interest rates change over time. Our loans generally have longer maturities than our deposits. Accordingly, our results of operations, like those of other financial institutions, are impacted by changes in interest rates and the interest rate sensitivity of our assets and liabilities. The risk associated with changes in interest rates and our ability to adapt to these changes is known as interest rate risk and is our most significant market risk.

We have utilized the following strategies in our efforts to manage interest rate risk:

we are originating shorter term higher yielding loans, whenever possible;
we have attempted, where possible, to extend the maturities of our deposits which typically fund our long-term assets;
we have invested in securities with relatively short average lives, generally less than eight years;
we have added adjustable-rate loans to our loan portfolio;
we have added brokered certificates of deposit with a call option as a new funding source; and
we have utilized an interest rate swap to effectively fix the rate on $50.0 million of FHLB advances.

We have evaluated the use of derivative instruments to limit the impact of interest rate changes on earnings, prepayment penalties and cash flows and to lower our cost of borrowing while taking into account variable interest rate risk. On October 25, 2016, the Bank entered into a Cash Flow Hedge agreement to effectively fix the rate on $50.0 million of FHLB advances. We are using this interest rate swap as a tool to lower the cost of certain FHLB advances as compared to the fixed rates offered by the FHLB for its longer term advances. At June 30, 2017, pursuant to the Cash Flow Hedge agreement we held a $50.0 million notional pay fixed, receive floating cash flow hedge. The Bank pays a fixed rate of 1.34% for five years and in turn, will receive an interest payment based on three-month LIBOR, which resets quarterly. The hedge instrument is a $50.0 million FHLB fixed-rate three-month advance that is renewed at the fixed rate at that time. Entering into this hedge agreement has allowed the Bank to secure fixed rate funding at a lower cost than a traditional five-year fixed rate FHLB advance. We will continue to review similar instruments and may utilize them for interest rate risk management in the future.

Interest rate contracts, however, may expose us to the risk of loss associated with variations in the spread between the interest rate contract and the hedged item. In addition, these contracts carry volatility risk that the expected uncertainty relating to the price of the underlying asset differs from what is anticipated. If any interest rate swaps we enter into prove ineffective, it could

55



result in volatility in our operating results, including potential losses, which could have a material adverse effect on our results of operations and cash flows.

Brokered Deposits. During the third quarter of 2014, management added the national brokered deposit market as an additional source of funds and to assist efforts in managing interest rate risk. Utilizing brokered deposits might result in increased regulatory scrutiny, as such deposits are not viewed as favorably as core retail deposits and there can be no assurance that the Bank will be allowed to include brokered deposits in its deposit mix in the future. While management will attempt to weigh the benefits of brokered deposits against the costs and risks, there can be no assurance that its conclusions will necessarily be aligned with those of the Bank’s regulators.

How We Measure the Risk of Interest Rate Changes. We monitor our interest rate sensitivity on a quarterly basis to measure the change in net interest income in varying rate environments. Management uses various assumptions to evaluate the sensitivity of our operations to changes in interest rates. Although management believes these assumptions are reasonable, the interest rate sensitivity of our assets and liabilities on net interest income and the market value of portfolio equity could vary substantially if different assumptions were used or actual experience differs from these assumptions. Although certain assets and liabilities may have similar maturities or periods of repricing, they may react differently to changes in market interest rates. The interest rates on certain types of assets and liabilities may fluctuate in advance of changes in market interest rates, while interest rates on other types of assets and liabilities lag behind changes in market interest rates. Non-uniform changes and fluctuations in market interest rates across various maturities will also affect the results presented. In addition, certain assets, such as adjustable-rate mortgage loans, have features which restrict changes in interest rates on a short-term basis and over the life of the asset. A portion of our adjustable-rate loans have interest rate floors below which the loan’s contractual interest rate may not adjust. Approximately 45.3% of our total loans, net LIP, were adjustable-rate loans at June 30, 2017. At that date, $105.2 million, or 26.5% of these loans were at their floor, with a weighted-average interest rate of 4.01%.

The inability of our loans to adjust downward can contribute to increased income in periods of declining interest rates. However, when loans are at their floors, there is a risk that our interest income may not increase as rapidly as our cost of funds during periods of increasing interest rates. Furthermore, in the event of a significant change in interest rates, prepayment and early withdrawal levels would likely deviate from those assumed. Finally, the ability of many borrowers to service their debt may decrease in the event of an interest rate increase. We consider all these factors in monitoring our interest rate exposure.

The assumptions we use are based upon a combination of proprietary and market data that reflect historical results and current market conditions. These assumptions relate to interest rates, loan prepayments, deposit decay rates and the market value of certain assets under the various interest rate scenarios. We use market data to determine prepayments and maturities of loans, investments and borrowings and use our own assumptions on deposit decay rates. The exception to this is time deposits, which are modeled to reprice to market rates upon their stated maturities. We also assume that non-maturity deposits can be maintained with rate adjustments not directly proportionate to the change in market interest rates, based upon our historical deposit decay rates which are substantially lower than market decay rates. We have demonstrated in the past that the tiering structure of our deposit accounts during changing rate environments results in relatively lower volatility and less than market rate changes in our interest expense for deposits. We tier our deposit accounts by balance and rate, whereby higher balances within an account earn higher rates of interest. Therefore, deposits that are not very rate sensitive (generally, lower balance tiers) are separated from deposits that are rate sensitive (generally, higher balance tiers). When interest rates rise, we do not have to raise interest rates proportionately on less rate sensitive accounts to retain these deposits. These assumptions are based upon our analysis of our customer base, competitive factors and historical experience.

Our income simulation model examines changes in net interest income in which interest rates were assumed to remain at their base level, instantaneously increase by 100, 200 and 300 basis points or decline immediately by 100 basis points. Reductions of rates by 200 and 300 basis points were not reported due to the current low rate environment.

The following table illustrates the change in our net interest income at June 30, 2017 that would occur in the event of an instantaneous change in interest rates equally across all maturities, with no effect given to any steps that we might take to counter the effect of that interest rate movement.

56



    
Net Interest Income Change at June 30, 2017
Basis Point Change in Rates
 
Net Interest Income
 
% Change
(Dollars in thousands)
+300
 
$
34,345

 
(1.65
)%
+200
 
34,553

 
(1.06
)
+100
 
34,817

 
(0.30
)
Base
 
34,922

 

(100)
 
34,797

 
(0.36
)

The following table illustrates the change in our net portfolio value (“NPV”) at June 30, 2017 that would occur in the event of an immediate change in interest rates equally across all maturities, with no effect given to any steps that we might take to counter the effect of that interest rate movement.
Basis Point
 
 
 
 
 
 
 
Net Portfolio as % of
 
Market
Change in
 
Net Portfolio Value (1)
 
Portfolio Value of Assets
 
Value of
Rates
 
Amount
 
$ Change (2)
 
% Change
 
NPV Ratio (3)
 
% Change (4)
 
Assets (5)
 
 
(Dollars in thousands)
+300
 
$
125,628

 
$
(33,700
)
 
(21.15
)%
 
12.46
%
 
(3.11
)%
 
$
1,008,238

+200
 
136,764

 
(22,564
)
 
(14.16
)
 
13.24

 
(2.08
)
 
1,032,991

+100
 
149,542

 
(9,786
)
 
(6.14
)
 
14.11

 
(0.90
)
 
1,060,033

Base
 
159,328

 

 

 
14.69

 

 
1,084,760

(100)
 
164,943

 
5,615

 
3.52

 
14.90

 
0.52

 
1,107,219

_____________ 

(1) The net portfolio value is the difference between the present value of the discounted cash flows of assets and liabilities and represents the market value of the Company’s equity for any given interest rate scenario. Net portfolio value is useful for determining, on a market value basis, how equity changes in response to various interest rate scenarios. Large changes in net portfolio value reflect increased interest rate sensitivity and generally more volatile earnings streams.
(2) The increase or decrease in net portfolio value at the indicated interest rates compared to the net portfolio value assuming no change in interest rates.
(3) Net portfolio value divided by the market value of assets.
(4) The increase or decrease in the net portfolio value divided by the market value of assets.
(5) The market value of assets represents the value of assets under the various interest rate scenarios and reflects the sensitivity of those assets to interest rate changes.

The net interest income and net portfolio value tables presented above are predicated upon a stable balance sheet with no growth or change in asset or liability mix. In addition, the net portfolio value is based upon the present value of discounted cash flows using our estimates of current replacement rates to discount the cash flows. The effects of changes in interest rates in the net interest income table are based upon a cash flow simulation of our existing assets and liabilities and assuming that delinquency rates would not change as a result of changes in interest rates, although there can be no assurance that this will be the case. Delinquency rates may change when interest rates change as a result of changes in the loan portfolio mix, underwriting conditions, loan terms or changes in economic conditions that have a delayed effect on the portfolio. Even if interest rates change in the designated amounts, there can be no assurance that our assets and liabilities would perform as set forth above. Also, a change in U.S. Treasury rates in the designated amounts accompanied by a change in the shape of the Treasury yield curve would cause changes to the net portfolio value and net interest income other than those indicated above.

At June 30, 2017, other than the interest rate swap we entered into through the Cash Flow Hedge agreement, we did not have any derivative financial instruments or trading accounts for any class of financial instruments, nor have we engaged in any other hedging activities or purchased off-balance sheet derivative instruments. However, we continue to review such instruments and may utilize them for interest rate risk management in the future. Interest rate risk continues to be one of our primary risks, as other types of risks, such as foreign currency exchange risk and commodity pricing risk do not arise in the normal course of our business activities and operations.

57




Item 4. Controls and Procedures

The management of First Financial Northwest, Inc. is responsible for establishing and maintaining adequate internal control over financial reporting, as such term is defined in Rule 13a-15(f) of the Securities Exchange Act of 1934 (“Exchange Act”). A control procedure, no matter how well conceived and operated, can provide only reasonable, not absolute, assurance that its objectives are met. Also, because of the inherent limitations in all control procedures, no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, within the Company have been detected. Additionally, in designing disclosure controls and procedures, our management was required to apply its judgment in evaluating the cost-benefit relationship of possible disclosure controls and procedures. The design of any disclosure controls and procedures is also based in part upon certain assumptions about the likelihood of future events, and there can be no assurance that any design will succeed in achieving its stated goals under all potential future conditions. As a result of these inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Furthermore, projections of any evaluation of effectiveness to future periods are subject to risk that controls may become inadequate because of changes in conditions or that the degree of compliance with the policies or procedures may deteriorate.

(a)
Evaluation of Disclosure Controls and Procedures: An evaluation of our disclosure controls and procedures (as defined in Rule 13a-15(e) of the Exchange Act) was carried out under the supervision and with the participation of our Chief Executive Officer, Chief Financial Officer (Principal Financial Officer) and several other members of our senior management as of the end of the period covered by this report. Our Chief Executive Officer and Chief Financial Officer concluded that, as of June 30, 2017, our disclosure controls and procedures were effective in ensuring that the information required to be disclosed by us in the reports we file or submit under the Exchange Act is (i) accumulated and communicated to our management (including the Chief Executive Officer and Chief Financial Officer) in a timely manner and (ii) recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms.

(b)
Changes in Internal Controls: In the quarter ended June 30, 2017, there was no change in our internal control over financial reporting that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.

PART II
Item 1. Legal Proceedings

From time to time, we are engaged in various legal proceedings in the ordinary course of business, none of which are currently considered to have a material impact on our financial position or results of operations.

Item 1A. Risk Factors

There have been no material changes to the risk factors previously disclosed in Part I, Item 1A of our 2016 Form 10-K.

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds

(a)     Not applicable

(b)     Not applicable


(c)    The following table summarizes First Financial Northwest’s common stock repurchases during the second quarter of 2017, under the repurchase plan effective May 30, 2017 through November 30, 2017:


58



Period
 
Total Number of Shares Purchased
 
Average Price Paid per Share
 
Total Number of Shares Repurchased as Part of Publicly Announced Plan
 
Maximum Number of Shares that May Yet Be Repurchased Under the Plan
 
 
 
 
 
 
 
 
 
April 1 - April 30, 2017
 
n/a

 
n/a

 
n/a

 
n/a

May 1 - May 31, 2017
 

 

 

 
1,100,000

June 1 - June 30, 2017
 
22,700

 
$
15.93

 
22,700

 
1,077,300

 
 
22,700

 
 
 
22,700

 
 

On May 22, 2017, the Board of Directors authorized the repurchase of up to 1,100,000 shares of the Company’s common stock, or 10% of the Company’s outstanding shares. Shares are repurchased under a pre-arranged stock trading plan in accordance with guidelines specified under Rule 10b5-1 of the Securities Exchange Act of 1034, as amended.        

Item 3. Defaults Upon Senior Securities

Not applicable.

Item 4. Mine Safety Disclosures

Not applicable.

Item 5. Other Information

Not applicable.

59




Item 6. Exhibits and Financial Statement Schedules
 
(a)       Exhibits
 
3.1

 
Articles of Incorporation of First Financial Northwest (1)
3.2

 
Amended and Restated Bylaws of First Financial Northwest (2)
4.0

 
Form of stock certificate of First Financial Northwest (1)
10.1

 
Amended Employment Agreement between First Savings Bank Northwest and Joseph W. Kiley III (3)
10.2

 
Form of Change in Control Severance Agreement for Executive Officers (4)
10.3

 
Amended Executive Supplemental Retirement Plan Participation Agreement with Joseph W. Kiley III (5)
10.4

 
2008 Equity Incentive Plan (6)
10.5

 
2016 Equity Incentive Plan (7)
10.6

 
Forms of incentive and non-qualified stock option award agreements (8)
10.7

 
Form of restricted stock award agreement (8)
10.8

 
Employment Agreement between First Savings Bank Northwest and Richard P. Jacobson (3)
31.1

 
Certification of Chief Executive Officer Pursuant to Section 302 of the Sarbanes-Oxley Act
31.2

 
Certification of Chief Financial Officer Pursuant to Section 302 of the Sarbanes-Oxley Act
32

 
Certification of Chief Executive Officer and Chief Financial Officer Pursuant to Section 906 of the Sarbanes-Oxley Act
101

 
The following materials from First Financial Northwest’s Quarterly Report on Form 10-Q for the quarter ended June 30, 2017, formatted in Extensible Business Reporting Language (XBRL): (1) Consolidated Balance Sheets; (2) Consolidated Income Statements; (3) Consolidated Statements of Comprehensive Income; (4) Consolidated Statements of Stockholders’ Equity; (5) Consolidated Statements of Cash Flows; and (6) Selected Notes to Consolidated Financial Statements.

 _____________
(1) 
Filed as an exhibit to First Financial Northwest’s Registration Statement on Form S-1 (333-143539)
(2) 
Filed as an exhibit to First Financial Northwest’s Current Report on Form 8-K dated June 15, 2017.
(3) 
Filed as an exhibit to First Financial Northwest’s Current Report on Form 8-K dated December 5, 2013.
(4) 
Filed as an exhibit to First Financial Northwest’s Current Report on Form 8-K dated September 9, 2014.
(5) 
Filed as an exhibit to First Financial Northwest’s Current Report on Form 8-K dated July 11, 2017.
(6) 
Filed as Appendix A to First Financial Northwest’s definitive proxy statement dated April 15, 2008.
(7) 
Filed as an exhibit to First Financial Northwest’s Current Report on Form 8-K dated June 15, 2016.
(8) 
Filed as an exhibit to First Financial Northwest’s Current Report on Form 8-K dated July 1, 2008.


60



SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
 
 
FIRST FINANCIAL NORTHWEST, INC. 
 
 
 
 
 
Date: August 7, 2017
By: 
/s/Joseph W. Kiley III
 
 
Joseph W. Kiley III
 
 
President and Chief Executive Officer (Principal Executive Officer)
Date: August 7, 2017
By: 
/s/Richard P. Jacobson
 
 
Richard P. Jacobson
 
 
Executive Vice President and Chief Financial Officer (Principal Financial Officer)
 
 
 
Date: August 7, 2017
By: 
/s/Christine A. Huestis
 
 
Christine A. Huestis
 
 
Vice President and Controller (Principal Accounting Officer)

61




Exhibit Index

Exhibit No.
 
Description
31.1

 
Certification of Chief Executive Officer Pursuant to Section 302 of the Sarbanes-Oxley Act
31.2

 
Certification of Chief Financial Officer Pursuant to Section 302 of the Sarbanes-Oxley Act
32

 
Certification of Chief Executive Officer and Chief Financial Officer Pursuant to Section 906 of the Sarbanes-Oxley Act
101

 
The following materials from First Financial Northwest’s Quarterly Report on Form 10-Q for the quarter ended June 30, 2017, formatted in Extensible Business Reporting Language (XBRL): (1) Consolidated Balance Sheets; (2) Consolidated Income Statements; (3) Consolidated Statements of Comprehensive Income; (4) Consolidated Statements of Stockholders’ Equity; (5) Consolidated Statements of Cash Flows; and (6) Selected Notes to Consolidated Financial Statements.




62