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Section 1: 10-K (10-K)

rndb-10k_20171231.htm

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

FORM 10-K

 

(Mark One)

ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the fiscal year ended December 31, 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 001-37780

 

Randolph Bancorp, Inc.

(Exact name of registrant as specified in its charter)

 

 

Massachusetts

 

81-1844402

State or other jurisdiction of
incorporation or organization

 

(I.R.S. Employer
Identification No.)

 

10 Cabot Place, Stoughton, MA

 

02072

(Address of principal executive offices)

 

(Zip Code)

 

(781) 963-2100

Registrant’s telephone number, including area code

Securities registered pursuant to Section 12(b) of the Act:

 

Title of each class

 

Name of each exchange on which registered

Common Stock, par value $.01 per share

 

NASDAQ

 

Securities registered pursuant to section 12(g) of the Act:

(Title of class)

(Title of class)

 

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.    Yes     No

Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act.    Yes     No

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  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  No

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” and “emerging growth company” in Rule 12b-2 of the Exchange Act.

 

Large accelerated filer

 

Accelerated filer

Non-accelerated filer

(Do not check if a smaller reporting company)

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 account standards provided pursuant to Section 13(a) of the Exchange Act.

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K (§ 229.405 of this chapter) is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K.  Yes  No

 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act).  Yes  No

The aggregate market value of the voting and non-voting common equity held by non-affiliates as of the last business day of the registrant’s most recently completed second fiscal quarter was $78,736,498.  

Indicate the number of shares outstanding of each of the registrant’s classes of common stock, as of the latest practicable date: 6,029,776 shares as of March 15, 2018.

DOCUMENTS INCORPORATED BY REFERENCE

Portions of the Registrant’s Proxy Statement for its 2018 Annual Meeting of Shareholders are incorporated by reference into Part III of this Form 10-K.

 

 


Randolph Bancorp, Inc.

2017 Form 10-K

Table of Contents

 

 

 

 

PAGE

PART I

 

 

  

Item 1.

Business

 

1

Item 1A.

Risk Factors

 

28

Item 1B.

Unresolved Staff Comments

 

35

Item 2.

Properties

 

36

Item 3.

Legal Proceedings

 

36

Item 4.

Mine Safety Disclosures

 

36

 

 

 

 

PART II

 

 

 

Item 5.

Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities

 

37

Item 6.

Selected Financial Data

 

38

Item 7.

Management’s Discussion and Analysis of Financial Condition and Results of Operations

 

39

Item 7A.

Quantitative and Qualitative Disclosures About Market Risk

 

48

Item 8.

Financial Statements and Supplementary Data

 

48

Item 9.

Changes in and Disagreements With Accountants on Accounting and Financial Disclosure

 

48

Item 9A.

Controls and Procedures

 

48

Item 9B.

Other Information

 

49

 

 

 

 

PART III

 

 

 

Item 10.

Directors, Executive Officers and Corporate Governance

 

50

Item 11.

Executive Compensation

 

50

Item 12.

Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters

 

50

Item 13.

Certain Relationships and Related Transactions, and Director Independence

 

50

Item 14.

Principal Accounting Fees and Services

 

50

 

 

 

 

PART IV

 

 

 

Item 15.

Exhibits and Financial Statement Schedules

 

51

Item 16.

Form 10-K Summary

 

52

SIGNATURES.

 

53

 


Forward-Looking Statements

This report contains certain “forward-looking statements” within the meaning of Section 27A of the Securities Act of 1933, as amended and Section 21E of the Securities Exchange Act of 1934, as amended (the “Exchange Act”), such as statements relating to our financial condition, prospective results of operations, future performance or expectations, plans, objectives, prospects, loan loss allowance adequacy, simulation of changes in interest rates, capital spending, finance sources and revenue sources. These statements relate to expectations concerning matters that are not historical facts. Accordingly, statements that are based on management’s projections, estimates, assumptions, and judgments constitute forward-looking statements. These forward looking statements, which are based on various assumptions (some of which are beyond the Company’s control), may be identified by reference to a future period or periods, or by the use of forward-looking terminology such as “believe,” “expect,” “estimate,” “anticipate,” “continue,” “plan,” “view,” “approximately,” “intend,” “objective,” “goal,” “project,” or other similar terms or variations on those terms, or the future or conditional verbs, such as “will,” “may,” “should,” “could,” and “would.”

Such forward-looking statements reflect our current views and expectations based largely on information currently available to our management, and on our current expectations, assumptions, plans, estimates, judgments, and projections about our business and our industry, and they involve inherent risks and uncertainties. Although the Company believes that these forward-looking statements are based on reasonable estimates and assumptions, they are not guarantees of future performance and are subject to known and unknown risks, uncertainties, contingencies, and other factors. Accordingly, the Company cannot give you any assurance that our expectations will in fact occur or that our estimates or assumptions will be correct. The Company cautions you that actual results could differ materially from those expressed or implied by such forward-looking statements as a result of, among other factors, the factors referenced in this report under Item 1A. “Risk Factors”; changes in interest rates; competitive pressures from other financial institutions; the effects of a continuing deterioration in general economic conditions on a national basis or in the local markets in which the Company operates, including changes which adversely affect borrowers’ ability to service and repay our loans; changes in loan defaults and charge-off rates; changes in the value of securities and other assets, adequacy of loan loss reserves, or deposit levels necessitating increased borrowing to fund loans and investments; increasing government regulation, such as the Dodd-Frank Wall Street Reform and Consumer Protection Act, or the Dodd-Frank Act; the risk that we may not be successful in the implementation of our business strategy; the risk that intangibles recorded in the Company’s financial statements will become impaired; and changes in assumptions used in making such forward-looking statements. These forward-looking statements speak only as of the date of this report and the Company does not undertake any obligation to update or revise any of these forward-looking statements to reflect events or circumstances occurring after the date of this report or to reflect the occurrence of unanticipated events.

 

 

 


 

PART I

Item 1. Business.

Randolph Bancorp, Inc.

Randolph Bancorp, Inc. (“we,” “our,” “us,” “Randolph,” or the “Company”) is a Massachusetts corporation organized in 2016 and is the stock holding company of Envision Bank (“Bank”), formerly Randolph Savings Bank. Randolph Bancorp, Inc.’s primary business activities are the ownership of the outstanding capital stock of Envision Bank and management of the investment of offering proceeds retained from Randolph Bancorp’s mutual-to-stock conversion (the “conversion”) and our initial public offering in 2016. On July 1, 2016, we completed an initial public offering selling 5,686,750 shares of common stock at $10.00 per share for approximately $56.9 million in gross proceeds, including 469,498 shares sold to the Bank’s employee stock ownership plan (“ESOP”). In connection with the conversion and initial public offering, we also issued 181,976 shares of common stock and contributed $455,000 in cash to Randolph Savings Charitable Foundation, Inc., now Envision Bank Foundation, Inc. We also completed the acquisition of First Eastern Bankshares Corporation on July 1, 2016 for cash of $14.1 million. In the future, Randolph Bancorp, Inc. may pursue other business activities permitted by applicable laws and regulations for such holding companies, which may include the issuance of additional shares of common stock to raise capital or to support mergers or acquisitions and borrowing funds for reinvestment in Envision Bank. There are no specific plans for any additional capital issuance, merger or acquisition, or other diversification of Randolph Bancorp, Inc.’s activities at the present time. Unless the context otherwise requires, references herein to the Company include the Company and its subsidiary on a consolidated basis.

At December 31, 2017, we had total assets of $531.9 million, deposits of $366.8 million and stockholders’ equity of $81.5 million.

Randolph Bancorp, Inc.’s cash flows will depend upon earnings from the investment of the portion of net proceeds retained from its initial public offering, payments on the loan made to the ESOP, repurchases of stock and any dividends received from Envision Bank. Initially, Randolph Bancorp, Inc. will not own or lease any property, but will instead use the premises, equipment, and other property of Envision Bank.

Envision Bank

Envision Bank is a Massachusetts-chartered savings bank headquartered in Stoughton, Massachusetts with its main office in Randolph, Massachusetts. Envision Bank was organized in 1851 as Randolph Savings Bank. It reorganized into the mutual holding company structure in 2002 and into a stock holding company structure in 2016. Envision Bank is currently the wholly-owned subsidiary of Randolph Bancorp, Inc., a Massachusetts stock holding company. On July 1, 2016, we acquired First Eastern Bankshares Corporation and its wholly-owned subsidiary, First Federal Savings Bank of Boston (together, “First Eastern”), which was merged with the Bank. First Eastern was actively engaged in mortgage banking including the origination and sale of residential mortgage loans in the secondary market and the servicing of a portion of sold loans for investors.

In March 2018, Randolph Savings Bank changed its name to Envision Bank. This change was in response to expansion of the Bank’s market area and offering of products beyond those generally associated with traditional savings banks.

Envision Bank provides financial services to individuals, families, and small to mid-size businesses through our six full-service banking offices located in Norfolk and Suffolk Counties, Massachusetts and our six loan production offices and lending centers located throughout eastern Massachusetts. The Bank’s business consists primarily of accepting deposits from the general public and investing those deposits, together with funds generated from operations and borrowings, in one- to four-family residential mortgage loans, commercial real estate loans, home equity loans and lines of credit, commercial and industrial loans, construction loans, consumer loans, and investment securities. The Bank offers a full range of deposit accounts, including statement savings accounts, certificates of deposit, money market accounts, commercial and regular checking accounts, and IRAs.

Market Area

Our primary deposit-taking market is Norfolk County, Massachusetts and our primary lending market is more broadly based in Bristol, Essex, Middlesex, Norfolk, Plymouth and Suffolk counties in Massachusetts and Kent, Newport, Providence, and Washington counties in Rhode Island.  With the acquisition of First Eastern, we also acquired a loan production office in southern New Hampshire.

1


 

Due to its proximity to Boston, our market area benefits from the presence of numerous institutions of higher learning, medical care and research centers, and the corporate headquarters of several investment and financial services companies. The greater Boston metropolitan area also has many life science and high technology companies employing personnel with specialized skills. These factors affect the demand for residential homes, residential construction, office buildings, shopping centers, and other commercial properties in our market area. Communities within our market area include many older residential commuter towns, which function partially as business and service centers. Although our current operations are not focused in Boston, we are affected by economic conditions in Boston because our loan portfolio includes a number of loans that are secured by real estate or that have borrowers located in Boston. In addition, a number of our customers who reside in our market area are employed in Boston, the operations of our commercial and industrial loan customers depend in part on sales of products and services to individuals or other businesses located in Boston, and a number of our non-owner occupied residential loan customers have properties in Boston as well as elsewhere in our market area.

Population and household data indicate that the market within a 20 minute drive time from any of our current branch locations is a mix of urban and suburban markets with a large commuter population. Norfolk County is the wealthiest county in the state of Massachusetts and is characterized by a high concentration of white collar professionals who work in the Boston Metropolitan Statistical Area.

Competition

We face intense competition in making loans and attracting deposits. Our most direct competition for deposits has historically come from the banking institutions operating in our primary market area and from other financial service companies, such as securities brokerage firms, credit unions, and insurance companies. We also face competition for investors’ funds from money market funds and mutual funds. At June 30, 2017, which is the most recent date for which data is available from the Federal Deposit Insurance Corporation (FDIC), we held 1.38% of the deposits in Norfolk County, which was the 18th largest market share out of 48 financial institutions with offices in Norfolk County. Many of the banks owned by large national and regional holding companies and other community-based banks that operate in our primary market area are larger than we are and, therefore, may have greater resources or offer a broader range of products and services.

Our competition for loans comes from financial institutions, including credit unions, in our primary market area and from other financial service providers, such as mortgage companies and mortgage brokers. Competition for loans also comes from non-depository financial service companies entering the mortgage market, such as insurance companies, securities companies, and specialty finance companies. Competition in mortgage banking comes from traditional mortgage competitors within our market area as well as larger, nationally active mortgage originators, such as Quicken Loans.

We expect competition to increase in the future as a result of legislative, regulatory, and technological changes and the continuing trend of consolidation in the financial services industry. Technological advances, for example, have lowered barriers to entry, allowed banks to expand their geographic reach by providing services over the internet, and made it possible for non-depository institutions to offer products and services that traditionally have been provided by banks. Competition for deposits and the origination of loans could limit our growth in the future.

 

Lending Activities

Our primary lending activity is the origination of one- to four-family residential mortgage loans, commercial real estate loans, home equity loans and lines of credit, construction loans, commercial and industrial loans, and consumer loans, predominantly in our core market area in eastern Massachusetts, Rhode Island and southern New Hampshire.

2


 

Loan Portfolio. The following table sets forth the composition of our loan portfolio at the dates indicated:

 

 

 

At December 31,

 

 

 

2017

 

 

2016

 

 

2015

 

 

2014

 

 

2013

 

(Dollars in thousands)

 

Amount

 

 

Percent

 

 

Amount

 

 

Percent

 

 

Amount

 

 

Percent

 

 

Amount

 

 

Percent

 

 

Amount

 

 

Percent

 

Real estate loans:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

One- to four-family

     residential

 

$

198,475

 

 

 

49.29

%

 

$

179,025

 

 

 

53.43

%

 

$

166,483

 

 

 

57.99

%

 

$

152,063

 

 

 

60.48

%

 

$

123,126

 

 

 

59.47

%

Commercial

 

 

101,755

 

 

 

25.27

%

 

 

88,394

 

 

 

26.38

%

 

 

74,911

 

 

 

26.09

%

 

 

68,380

 

 

 

27.20

%

 

 

61,994

 

 

 

29.94

%

Home equity loans and

     lines of credit

 

 

38,968

 

 

 

9.68

%

 

 

35,393

 

 

 

10.56

%

 

 

33,259

 

 

 

11.58

%

 

 

25,475

 

 

 

10.13

%

 

 

18,881

 

 

 

9.12

%

Construction

 

 

25,357

 

 

 

6.30

%

 

 

23,629

 

 

 

7.05

%

 

 

7,807

 

 

 

2.72

%

 

 

2,189

 

 

 

0.87

%

 

 

 

 

 

 

Commercial and industrial

     loans

 

 

21,766

 

 

 

5.41

%

 

 

2,067

 

 

 

0.62

%

 

 

2,040

 

 

 

0.71

%

 

 

2,161

 

 

 

0.86

%

 

 

2,302

 

 

 

1.11

%

Consumer loans

 

 

16,337

 

 

 

4.05

%

 

 

6,578

 

 

 

1.96

%

 

 

2,602

 

 

 

0.91

%

 

 

1,148

 

 

 

0.46

%

 

 

755

 

 

 

0.36

%

 

 

 

402,658

 

 

 

100.00

%

 

 

335,086

 

 

 

100.00

%

 

 

287,102

 

 

 

100.0

%

 

 

251,416

 

 

 

100.00

%

 

 

207,058

 

 

 

100.00

%

Net deferred loan costs and fees,

   and purchase premiums

 

 

1,452

 

 

 

 

 

 

 

1,176

 

 

 

 

 

 

 

1,288

 

 

 

 

 

 

 

1,136

 

 

 

 

 

 

 

745

 

 

 

 

 

Allowance for loan losses

 

 

(3,737

)

 

 

 

 

 

 

(3,271

)

 

 

 

 

 

 

(3,239

)

 

 

 

 

 

 

(3,544

)

 

 

 

 

 

 

(3,829

)

 

 

 

 

Loans, net

 

$

400,373

 

 

 

 

 

 

$

332,991

 

 

 

 

 

 

$

285,151

 

 

 

 

 

 

$

249,008

 

 

 

 

 

 

$

203,974

 

 

 

 

 

 

Loan Maturities. The following table sets forth the scheduled contractual amortization of Randolph Savings Bank’s loan portfolio at December 31, 2017. Loans having no schedule of repayments or no stated maturity are reported as being in greater than five years. The tables do not include any estimate of prepayments which significantly shorten the average life of all loans and may cause our actual repayment experience to differ from that shown below. Demand loans having no stated schedule of repayments and no stated maturity are reported as due in one year or less. The amounts shown below exclude net deferred loan costs and fees, and purchase premiums. The following table also sets forth the rate structure of loans scheduled to mature after one year.

 

 

 

December 31, 2017

 

(In thousands)

 

One-to Four-

Family

Residential

Real Estate

 

 

Commercial

Real Estate

 

 

Home Equity

Loans and

Lines of

Credit

 

 

Construction

 

 

Commercial

and

Industrial

 

 

Consumer

 

 

Total

Loans

 

Amounts due in:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

One year or less

 

$

8,153

 

 

$

6,770

 

 

$

1,575

 

 

$

22,476

 

 

$

3,798

 

 

$

2,456

 

 

$

45,228

 

After one year through five years

 

 

33,377

 

 

 

27,275

 

 

 

5,111

 

 

 

2,881

 

 

 

4,924

 

 

 

7,218

 

 

 

80,786

 

Beyond five years

 

 

156,945

 

 

 

67,710

 

 

 

32,282

 

 

 

 

 

 

13,044

 

 

 

6,663

 

 

 

276,644

 

Total

 

$

198,475

 

 

$

101,755

 

 

$

38,968

 

 

$

25,357

 

 

$

21,766

 

 

$

16,337

 

 

$

402,658

 

Interest rate terms on amounts due

   after one year:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Fixed rate

 

$

111,466

 

 

$

34,556

 

 

$

1,294

 

 

$

 

 

$

 

 

$

13,881

 

 

$

161,197

 

Adjustable rate

 

 

78,856

 

 

 

60,429

 

 

 

36,099

 

 

 

2,881

 

 

 

17,968

 

 

 

 

 

 

196,233

 

Total

 

$

190,322

 

 

$

94,985

 

 

$

37,393

 

 

$

2,881

 

 

$

17,968

 

 

$

13,881

 

 

$

357,430

 

 

Residential Mortgage Loans. We offer mortgage loans to enable borrowers to purchase homes or refinance loans on existing homes, most of which serve as the primary residence of the owner. Excluding loans maturing in one year or less, residential mortgage loans were $190.3 million, or 47.3% of total loans, and consisted of $111.5 million and $78.9 million of fixed-rate and adjustable rate loans, respectively, at December 31, 2017. Non-owner occupied residential loans were $36.6 million, or 9.3% of total loans.

We offer fixed-rate and adjustable-rate residential mortgage loans with terms up to 30 years. Generally, our fixed-rate loans conform to Fannie Mae and Freddie Mac underwriting guidelines and are originated with the intention to sell. Our adjustable-rate mortgage loans generally adjust annually after an initial fixed period that ranges from three to ten years. Interest rates and payments on our adjustable-rate loans generally are adjusted to a rate equal to a specified percentage above the one year Constant Maturity Treasury rate or the London Interbank Offered Rate (LIBOR). Depending on the loan type, the maximum amount by which the interest rate may be increased or decreased is generally 2.0% per adjustment period and the lifetime interest rate caps range from 5.0% to 6.0% over the initial interest rate of the loan.

3


 

Borrower demand for adjustable-rate compared to fixed-rate loans is a function of the level of interest rates, the expectations of changes in the level of interest rates, and the difference between the interest rates and loan fees offered for fixed-rate mortgage loans as compared to the interest rates and loan fees for adjustable-rate loans. The relative amount of fixed-rate and adjustable-rate mortgage loans that can be originated at any time is largely determined by the demand for each in a competitive environment. The loan fees, interest rates, and other provisions of mortgage loans are determined by us on the basis of our own pricing criteria and competitive market conditions.

While residential mortgage loans are normally originated with up to 30-year terms, such loans typically remain outstanding for substantially shorter periods because borrowers often prepay their loans in full either upon sale of the property pledged as security or upon refinancing the original loan. Therefore, average loan maturity is a function of, among other factors, the level of purchase and sale activity in the real estate market, prevailing interest rates and the interest rates payable on outstanding loans. Additionally, our current practice is generally to (1) sell to the secondary market newly originated 15-year or longer term conforming fixed-rate residential mortgage loans, and (2) hold in our portfolio non-conforming loans, as well as a portion of our originated longer-term fixed-rate loans and adjustable-rate loans. Generally, conforming fixed-rate loans are sold to third parties with servicing either retained or released. We generally do not originate “interest only” mortgage loans on one- to four-family residential properties nor do we offer loans that provide for negative amortization of principal, such as “option ARM” loans where the borrower can pay less than the interest owed on their loan. Additionally, we do not offer “subprime” loans (loans that are made with low down payments to borrowers with weakened credit histories typically characterized by payment delinquencies, previous charge-offs, judgments, or bankruptcies or to borrowers with questionable repayment capacity) or “Alt-A” loans (loans to borrowers having less than full documentation).

We will make loans with loan-to-value ratios up to 100.0% for some government insured loans; however, we generally require private mortgage insurance for residential loans secured by a first mortgage with a loan-to-value ratio over 80.0%. We generally require all properties securing mortgage loans to be appraised by a licensed real estate appraiser. Exceptions to this lending policy are based on the requirements of the secondary market program under which the loan is originated. We require title insurance on all first mortgage loans. Borrowers must obtain hazard insurance, and flood insurance is required for loans on properties located in a flood zone.

In an effort to provide financing for first-time home buyers, we offer adjustable- and fixed-rate loans to qualified individuals and originate the loans using programs with more flexible underwriting guidelines, loan conditions, and reduced closing costs.

Due to historically low interest rate levels, borrowers generally have preferred fixed-rate loans in recent years. While we anticipate that our adjustable-rate loans will better offset the adverse effects on our net interest income of an increase in interest rates as compared to fixed-rate mortgages, the increased mortgage payments required of adjustable-rate loans in a rising interest rate environment could cause an increase in delinquencies and defaults. The marketability of the underlying property also may be adversely affected in a high interest rate environment. In addition, although adjustable-rate mortgage loans help make our asset base more responsive to changes in interest rates, the extent of this interest sensitivity is limited by the annual and lifetime interest rate adjustment limits.

Commercial Real Estate Loans. At December 31, 2017, commercial real estate loans were $101.8 million, or 25.3% of total loans.

We originate fixed- and adjustable-rate commercial real estate loans for terms generally up to ten years, though on an exception basis commercial real estate loans will be granted with terms up to twenty years. Excluding loans maturing in one year or less, commercial real estate loans consisted of $34.6 million of fixed-rate loans and $60.4 million of adjustable rate loans at December 31, 2017. Interest rates and payments on our adjustable-rate loans adjust every three, five or seven years and generally are adjusted to a rate equal to a specified percentage above the corresponding Federal Home Loan Bank of Boston classic borrowing rate. Most of our adjustable-rate commercial real estate loans adjust every five years and amortize over a 25 year term. Loan amounts do not generally exceed 75.0% of the property’s appraised value at the time the loan is originated but may be made up to 80.0% of appraised value on an exception basis.

We currently focus our commercial real estate origination efforts on small- and mid-size owner occupants and investors in our market area seeking loans between $500,000 and $5.0 million. Our commercial real estate loans are generally secured by properties used for business purposes, such as office buildings, warehouses, retail facilities and apartment buildings. In addition to originating these loans, we also participate in commercial real estate loans with other financial institutions located primarily in Massachusetts.

At December 31, 2017, the average loan balance of our outstanding commercial real estate loans was $683,000 and our largest commercial real estate loan was $4.5 million.

4


 

Loans secured by commercial real estate, including multi-family real estate, generally have larger balances and involve a greater degree of risk than residential mortgage loans. Of primary concern in commercial real estate lending is the borrower’s creditworthiness and the feasibility and cash flow potential of the project. Payments on loans secured by income properties often depend on successful operation and management of the properties. As a result, repayment of such loans may be subject to a greater extent than residential real estate loans to adverse conditions in the real estate market or the economy. To monitor cash flows on income properties, we require borrowers and loan guarantors, where applicable, to provide annual financial statements on commercial real estate loans. In reaching a decision on whether to make a commercial real estate loan, we consider the net operating income of the property, the borrower’s expertise, credit history, profitability, global cash flow of the borrower, guarantor, and all related entities, and the value of the underlying property. We require an environmental risk assessment prior to funding for commercial real estate loans.

Home Equity Loans and Lines of Credit. We offer home equity loans and lines of credit, which are secured by one-to four-family residences. At December 31, 2017, home equity loans and lines of credit were $39.0 million, or 9.7% of total loans. Home equity lines of credit have monthly adjustable rates of interest with 15-year draws which are then amortized over 10 years. These loans are indexed to the prime rate and generally are subject to an interest rate floor. Our home equity loans generally have a fixed interest rate. We offer home equity loan and lines of credit with cumulative loan-to-value ratios generally up to 80.0%, when taking into account both the balance of the home equity loan and first mortgage loan. Any home equity loan or line of credit made with a loan to value ratio exceeding 80.0% is made as a policy exception.

The procedures for underwriting home equity loans and lines of credit include an assessment of the applicant’s payment history on other debts and ability to meet existing obligations and payments on the proposed loan. Although the applicant’s creditworthiness is the primary consideration, the underwriting process also includes a comparison of the value of the collateral to the proposed loan amount. The procedures for underwriting residential mortgage loans apply equally to home equity loans and lines of credit.

Construction Loans. At December 31, 2017, construction loans were $25.4 million, or 6.3% of total loans. We originate construction loans only in our market area of eastern Massachusetts, New Hampshire and Rhode Island. We primarily originate construction loans to contractors and builders, and to individuals, to finance the construction of residential dwellings. We also make construction loans for commercial development projects, including small industrial buildings and retail and office buildings. Our construction loans generally are floating-rate, interest-only loans that provide for the payment of interest only during the construction phase, which is usually 12 months. At the end of the construction phase, the loan may be paid in full or converted to a permanent mortgage loan. Construction loans generally can be made with a maximum loan to value ratio of 75.0% of appraised market value for commercial construction and 80.0% of appraised market value for owner-occupied residential construction loans estimated upon completion of the project. Before making a commitment to fund a residential construction loan, we generally require an appraisal of the property by an independent licensed appraiser. Our construction loans do not provide for interest payments to be funded by interest reserves.

Our loan policy dictates a minimum equity contribution by the borrower of 10% to 30% depending on the loan type. All borrowers are underwritten and evaluated for creditworthiness based on past experience, debt service ability, net worth analysis including available liquidity, and other credit factors. We generally require personal guarantees on all construction loans. Advances are only made following an inspection of the property confirming completion of the required progress on the project and an update to the title completed by a bank approved attorney. For owner-occupied residential construction loans, loan to value ratios of greater than 80.0% may be approved when credit enhancements or mortgage insurance is in place.

Construction financing is considered to involve a higher degree of risk of loss than long-term financing on improved, occupied real estate. Risk of loss on a construction loan depends largely upon the accuracy of the initial estimate of the property’s value at completion of construction or development and the estimated cost (including interest) of construction. During the construction phase, a number of factors could result in delays and cost overruns. If the estimate of construction costs proves to be inaccurate, we may be required to advance funds beyond the amount originally committed to permit completion of the development. If the estimate of value proves to be inaccurate, we may be confronted, at or before the maturity of the loan, with a project having a value which is insufficient to assure full repayment. As a result of the foregoing, construction lending often involves the disbursement of substantial funds with repayment dependent, in part, on the success of the ultimate project rather than the ability of the borrower or guarantor to repay principal and interest. If we are forced to foreclose on a project before or at completion due to a default, we may not be able to recover all of the unpaid balance of, and accrued interest on, the loan as well as related foreclosure and holding costs.

Commercial and Industrial Loans. We make commercial and industrial loans primarily in our market area to a variety of professionals, sole proprietorships and small businesses. In 2017, we entered into a master participation agreement with a super-regional bank to purchase up to $20 million in loan participations. The underlying loans are to local franchisees of a major international fast food retailer. At December 31, 2017, commercial and industrial loans were $21.8 million, or 5.4% of total loans. Commercial lending products include term and time loans and revolving lines of credit. Commercial and industrial loans and lines of credit are generally made with variable rates of interest. Variable rates are based on either the 30 Day LIBOR rate or the prime rate as

5


 

published in The Wall Street Journal, plus a margin. Fixed-rate business loans are generally indexed to a corresponding Federal Home Loan Bank of Boston Classic rate, plus a margin. Commercial and industrial loans typically have shorter maturity terms and higher interest spreads than real estate loans, but generally involve more credit risk because of the type and nature of the collateral. We are focusing our efforts on small- to medium-sized, privately held companies with local or regional businesses that operate in our market area. In addition, commercial and industrial loans (excluding loan participations) are generally made only to existing customers having a business or individual deposit account and new borrowers are expected to establish appropriate deposit relationships with us if not already a depositor.

When making commercial and industrial loans, we consider the financial statements of the borrower, our lending history with the borrower, the debt service capabilities of the borrower, the projected cash flows of the business, and the value of the collateral, primarily accounts receivable, inventory, and equipment. Generally, loans are supported by personal guarantees. Depending on the collateral used to secure the loans, commercial and industrial loans (excluding loan participations) are generally made in amounts of up to 50.0% to 80.0% of the value of the collateral securing the loan.

At December 31, 2017, our largest commercial and industrial loan (excluding loan participations) was a $360,000 loan and our largest commercial line of credit was $335,000, of which $120,000 was outstanding at December 31, 2017.

The loan participations originated in 2017 involve loans to franchisees with multiple locations. At December 31, 2017, these loan participations totaled $20.0 million with an average loan balance per borrower (our portion) of $3.3 million.  These loans are secured by equipment though the most significant consideration in making these loans is the historical cash flows of the borrower.

Commercial and industrial loans also involve a greater degree of risk than residential mortgage loans. Unlike residential mortgage loans, which generally are made on the basis of the borrower’s ability to make repayment from his or her employment or other income, and which are secured by real property whose value tends to be more easily ascertainable, commercial and industrial loans are typically made on the basis of the borrower’s ability to make repayment from the cash flow of the borrower’s business. As a result, the availability of funds for the repayment of commercial and industrial loans may depend substantially on the success of the business itself. Further, any collateral securing such loans may depreciate over time, may be difficult to appraise and may fluctuate in value.

Consumer Loans. We originate automobile loans, loans secured by passbook or certificate accounts, unsecured personal loans and overdraft loans. We also purchase consumer loans. We expanded our purchases of consumer loans in 2017 to include refinanced student loans and automobile loans. In aggregate, we purchased approximately $15.7 million of such loans in 2017. At December 31, 2017, total purchased consumer loans totaled $15.6 million, while the entire consumer loan portfolio totaled $16.3 million or 4.1% of total loans. Nearly 90% of consumer loans at December 31, 2017 were unsecured.

The procedures for underwriting consumer loans include an assessment of the applicant’s payment history on other debts and ability to meet existing obligations and payments on the proposed loan. Although the applicant’s creditworthiness is a primary consideration, the underwriting process also includes a comparison of the value of the collateral, if any, to the proposed loan amount. Bank management assesses the underwriting criteria for each of the entities from which it purchases consumer loans as part of its pre-purchase due diligence process. Refinanced student loans, which totaled $10.0 million at December 31, 2017, are purchased from an on-line lender specializing in the origination and refinancing of such loans. Applicants are screened based on a comprehensive set of underwriting criteria designed to assess “ability to pay”, including minimum FICO scores, monthly free cash flow, maximum leverage ratios and delinquency history. On average, borrowers on refinanced student loans have demonstrated six to seven years of payment history on their existing student loan prior to refinancing. Purchased automobile loans, which totaled $2.2 million at December 31, 2017, are purchased from a local lender specializing in the origination of such loans primarily to undocumented immigrants. In addition to the vehicle collateral, these loans include credit enhancement from the lender. The Bank also purchases unsecured personal loans from a national on-line lender. At December 31, 2017, such loans totaled $3.4 million and had an average balance of $2,800. These loans have an average FICO score at loan origination of 730 and an average balance of $5,000.

Consumer loans entail greater risk than do residential mortgage loans, particularly in the case of consumer loans that are unsecured or secured by assets that depreciate rapidly. In such cases, repossessed collateral for a defaulted consumer loan may not provide an adequate source of repayment for the outstanding loan and the remaining deficiency often does not warrant further substantial collection efforts against the borrower. In addition, consumer loan collections depend on the borrower’s continuing financial stability, and therefore are more likely to be adversely affected by job loss, divorce, illness, death or personal bankruptcy. Furthermore, the application of various federal and state laws, including federal and state bankruptcy and insolvency laws, may limit the amount which can be recovered on such loans.

Loan Originations, Purchases and Sales. The primary source of loan originations are our in-house loan originators, advertising, and referrals from customers. We occasionally purchase commercial real estate loans or participation interests in commercial real

6


 

estate loans and commercial and industrial, and from time to time we may purchase whole residential mortgage loans from other banks. We also purchase consumer loans.

Our current practice is generally to: (1) sell to the secondary market newly originated 15-year or longer term conforming fixed-rate residential mortgage loans and (2) hold in our portfolio non-conforming loans, as well as a portion of our longer-term fixed-rate loans and adjustable-rate residential mortgage loans. Beginning in 2017, we originated non-conforming loans for sale in bulk transactions using a broker. Our decision to sell loans is based on prevailing market interest rate conditions and interest rate risk management. Loans are sold to third parties with servicing either retained or released. In addition, we sell participation interests in commercial real estate loans to local financial institutions, primarily the portion of loans that exceed our borrowing limits or are in an amount that is considered prudent to manage our credit risk.

Loan Originations. The following table sets forth our loan originations (excluding loans originated for sale in the secondary market), loans acquired in the First Eastern transaction, purchases and principal repayment activities during the periods indicated.

 

 

 

Years Ended December 31,

 

(In thousands)

 

2017

 

 

2016

 

 

2015

 

Total loans at beginning of year

 

$

335,086

 

 

$

287,102

 

 

$

251,416

 

Originations:

 

 

 

 

 

 

 

 

 

 

 

 

Real estate loans:

 

 

 

 

 

 

 

 

 

 

 

 

One- to four-family residential

 

 

56,229

 

 

 

30,239

 

 

 

44,942

 

Commercial

 

 

28,440

 

 

 

25,018

 

 

 

19,381

 

Home equity loans and lines of credit

 

 

18,224

 

 

 

15,570

 

 

 

14,523

 

Construction

 

 

24,069

 

 

 

17,651

 

 

 

10,014

 

Total real estate loan originations

 

 

126,962

 

 

 

88,478

 

 

 

88,860

 

Commercial and industrial loans

 

 

863

 

 

 

1,321

 

 

 

768

 

Consumer loans

 

 

301

 

 

 

219

 

 

 

826

 

Total loan originations

 

 

128,126

 

 

 

90,018

 

 

 

90,454

 

First Eastern acquisition:

 

 

 

 

 

 

 

 

 

 

 

 

Real estate loans:

 

 

 

 

 

 

 

 

 

 

 

 

One- to four-family residential

 

 

 

 

 

15,210

 

 

 

 

Commercial

 

 

 

 

 

3,959

 

 

 

 

Home equity loans and lines of credit

 

 

 

 

 

12,133

 

 

 

 

Total real estate

 

 

 

 

 

31,302

 

 

 

 

Consumer loans

 

 

 

 

 

4

 

 

 

 

Total acquired loans

 

 

 

 

 

31,306

 

 

 

 

Purchases/Participations:

 

 

 

 

 

 

 

 

 

 

 

 

Real estate loans:

 

 

 

 

 

 

 

 

 

 

 

 

One- to four-family residential

 

 

 

 

 

 

 

 

 

Commercial

 

 

 

 

 

 

 

 

 

Home equity loans and lines of credit

 

 

 

 

 

 

 

 

 

Construction

 

 

 

 

 

 

 

 

 

Total real estate loan purchases

 

 

 

 

 

 

 

 

 

Commercial and industrial loans

 

 

20,381

 

 

 

 

 

 

 

Consumer loans

 

 

15,651

 

 

 

6,849

 

 

 

1,446

 

Total loan purchases/participations

 

 

36,032

 

 

 

6,849

 

 

 

1,446

 

Other:

 

 

 

 

 

 

 

 

 

 

 

 

Principal repayments

 

 

(89,471

)

 

 

(70,480

)

 

 

(38,227

)

Unadvanced funds on originations

 

 

(6,922

)

 

 

(9,709

)

 

 

(17,987

)

Transfer to other real estate owned

 

 

(193

)

 

 

 

 

 

 

Total other

 

 

(96,586

)

 

 

(80,189

)

 

 

(56,214

)

Net loan activity

 

 

67,572

 

 

 

47,984

 

 

 

35,686

 

Total loans at end of year

 

$

402,658

 

 

$

335,086

 

 

$

287,102

 

 

We also originate one-to-four-family residential mortgage loans for sale in the secondary mortgage market. During the years ended December 31, 2017, 2016, and 2015, the Bank originated $398.7 million, $404.6 million, and $105.8 million of such loans, respectively.

7


 

Loan Participations. We look to form relationships with other financial institutions and mitigate risk of our lending activities by participating either as the lead bank or as a participant in various loan transactions. We independently underwrite each loan using underwriting practices that generally do not differ from loans that we originate.

At December 31, 2017, the outstanding balances of loan participations purchased totaled $20.0 million and loan participations sold totaled $5.8 million.

Loan Approval Procedures and Authority. Our lending activities follow written, nondiscriminatory underwriting standards and loan origination procedures established by our board of directors and management. Our board of directors has granted loan approval authority to certain executive officers. Loans in excess of any officer’s individual authority and up to the “in-house limit” established by the board of directors must be approved by the loan committee, which is comprised of five independent members of our board of directors. Loans in excess of the “in-house limit” must be approved by the board of directors. The loan committee of the board of directors reviews all residential portfolio loan, commercial real estate loan, home equity loan and line of credit, construction loan and commercial and industrial loan requests greater than $1,000,000. All mortgage and commercial real estate loans to any single borrower that exceed our $5.0 million “in-house limit” must be approved by the board of directors. The president and chief executive officer is authorized to grant lending authority to officers and other employees in individual amounts up to $500,000. Delegation of such authority is made after due consideration of the individual’s lending experience, past performance and his or her area of responsibility.

Loans-to-One Borrower Limit. The maximum amount that the Bank may lend to one borrower and the borrower’s related entities is generally limited, by statute, to 20.0% of its capital, which is defined under Massachusetts law as the sum of the Bank’s capital stock, surplus account, and undivided profits. At December 31, 2017, the Bank’s regulatory limit on loans-to-one borrower was $13.9 million. At that date, our largest lending relationship totaled $7.2 million and was secured by commercial real estate properties.

Loan Commitments. We issue commitments for fixed- and adjustable-rate mortgage loans conditioned upon the occurrence of certain events. Commitments to originate mortgage loans are legally binding agreements to lend to our customers. Generally, our loan commitments expire after 60 days.

Mortgage Banking Activities

We originate residential mortgage loans for our portfolio, for sale into the secondary market and for sale in bulk transactions through a broker. We generally underwrite our residential mortgage loans to conform to Fannie Mae and Freddie Mac standards. Approximately 88% of residential real estate loans that we originated in 2017 were sold into the secondary market. We generally hold originated adjustable-rate residential mortgage loans (ARMs) and non-conforming fixed-rate mortgage loans in our loan portfolio. We determine whether the loans will be held for investment or held for sale at the time of commitment. We may subsequently change our intent to hold loans for investment and sell some or all of our ARMs or fixed-rate mortgages as part of our asset/liability management function. Mortgage loans serviced for others are not included in the accompanying consolidated statements of financial condition. The unpaid principal balances of mortgage loans serviced for others were $771.4 million and $1,046.6 million at December 31, 2017 and 2016, respectively. Net gains or losses recognized upon the sale of loans is included in noninterest income. For the years ended December 31, 2017 and 2016, the Bank sold $403.8 million and $403.6 million, respectively, of residential mortgage loans on the secondary market, which resulted in a net gain on sale of loans of $9.2 million and $10.4 million, respectively.

To date, we have generally retained servicing on loans sold into the secondary market. After completion of the acquisition of First Eastern, we began selling a larger portion of the servicing on residential loans that we originate but intend to continue servicing residential mortgage loans originated to customers in our market area.

We also intend to sell the rights to service blocks of loans from time to time when we do not otherwise have a relationship with the customer. The decision to sell the right to service loans also takes into consideration regulatory capital rules under Basel III which require that a haircut to capital be taken when mortgage servicing rights exceed 10% of Tier 1 Capital. During 2017 and 2016, we sold the rights to service $379 million and $196 million in loans, respectively.

Interest rates affect the amount and timing of origination and servicing fees because consumer demand for new mortgages and the level of refinancing activity are sensitive to changes in mortgage interest rates. Typically, a decline in mortgage interest rates will lead to an increase in mortgage originations and fees and may also lead to an increase in mortgage servicing income, a component of noninterest income, depending on the level of new loans added to the servicing portfolio and prepayments. Given the time it takes for consumer behavior to fully react to interest rate changes, as well as the time required for processing a new application, providing the commitment and selling the loan, interest rate changes will affect origination and servicing fees with a lag. The amount and timing of the impact on origination and servicing fees will depend on the magnitude, speed, and duration of the change in interest rates.

8


 

Mortgage servicing rights are recognized as separate assets at fair value when rights are acquired through purchase or through sale of financial assets. We capitalize mortgage servicing rights at their fair value upon sale of the related loans. Capitalized servicing rights are amortized into mortgage servicing income in proportion to, and over the period of, the estimated future net servicing income of the underlying financial assets. Servicing rights are evaluated for impairment based upon the fair value of the rights as compared to amortized cost. We measure impairment of our servicing rights on a disaggregate basis based on the predominant risk characteristics of the portfolio, and we discount the asset’s estimated future cash flows using a current market rate. We have determined the predominant risk characteristics to be prepayment risk and interest-rate risk. The fair value of the existing mortgage servicing rights as of December 31, 2017 and 2016 exceeded book value. To determine the fair value of mortgage servicing rights, we estimate the expected future net servicing revenue based on common industry assumptions, as well as on our historical experience.

An analysis of mortgage servicing rights for the years ended December 31, 2017 and 2016 is as follows:

 

(In thousands)

 

2017

 

 

2016

 

Balance, beginning of year

 

$

8,486

 

 

$

2,567

 

Acquisition of First Eastern

 

 

 

 

 

6,216

 

Additions through originations

 

 

2,310

 

 

 

2,382

 

Amortization

 

 

(1,071

)

 

 

(1,064

)

Sales

 

 

(3,238

)

 

 

(1,191

)

Valuation allowance

 

 

(90

)

 

 

(424

)

Balance, end of year

 

$

6,397

 

 

$

8,486

 

Fair value, end of year

 

$

6,485

 

 

$

8,520

 

 

Changes in interest rates influence a variety of significant assumptions included in the periodic valuation of mortgage servicing rights, including prepayment speeds, expected returns and potential risks on the servicing asset portfolio, the value of escrow balances and other servicing valuation elements. A decline in interest rates generally increases the propensity for refinancing, reduces the expected duration of the servicing portfolio and therefore reduces the estimated fair value of mortgage servicing rights. This reduction in fair value can cause a charge to mortgage servicing income. Conversely, an increase in interest rates generally increases the estimated fair value of mortgage servicing rights. Mortgage servicing income, net of amortization and changes in the valuation allowance, for the years ended December 31, 2017 and 2016 was $1.5 million and $430,000, respectively.

Asset Quality

Nonperforming Assets. We consider foreclosed assets, loans that are maintained on a nonaccrual basis and loans that are past 90 days or more and still accruing to be nonperforming assets. Loans are generally placed on nonaccrual status when they are classified as impaired or when they become 90 days or more past due. Loans are classified as impaired when, based on current information and events, it is probable that we will be unable to collect the scheduled payments of principal or interest when due according to the contractual terms of the loan agreement. At the time a loan is placed on nonaccrual status, the accrual of interest ceases and interest income previously accrued on such loans is reversed against current period interest income. Payments received on a nonaccrual loan are first applied to the outstanding principal balance when collectability of principal is in doubt.

Real estate that we acquire as a result of foreclosure or by deed-in-lieu of foreclosure is classified as other real estate owned until it is sold. When property is acquired, it is recorded at fair market value less costs to sell at the date of foreclosure. Any holding costs and declines in fair value after acquisition of the property result in charges against income.

Troubled debt restructurings occur when we grant borrowers concessions that we would not otherwise grant but for economic or legal reasons pertaining to the borrower’s financial difficulties. We may modify the terms of loans to lower interest rates (which may be at below market rates) or to provide for temporary interest-only terms, or to forgive or defer the payment of interest. These modifications are made only when there is a reasonable and attainable workout plan that has been agreed to by the borrower and that is in our best interests. We generally do not forgive principal on loans. Once the borrower has demonstrated sustained performance with the modified terms, the loan may be upgraded from its classified and/or nonperforming status. Any loan categorized as troubled debt restructurings will continue to retain that designation through the life of the loan.

9


 

The following table provides information with respect to our nonperforming assets, including troubled debt restructurings, at the dates indicated. We did not have any accruing loans past due 90 days or more at the dates presented.

 

 

 

At December 31,

 

(Dollars in thousands)

 

2017

 

 

2016

 

 

2015

 

 

2014

 

 

2013

 

Nonaccrual loans:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Real estate loans:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

One- to four-family residential

 

$

1,976

 

 

$

1,945

 

 

$

2,022

 

 

$

2,434

 

 

$

2,797

 

Commercial

 

 

 

 

 

 

 

 

 

 

 

892

 

 

 

2,815

 

Home equity loans and lines of credit

 

 

276

 

 

 

276

 

 

 

30

 

 

 

81

 

 

 

 

Construction

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Commercial and industrial loans

 

 

 

 

 

 

 

 

16

 

 

 

17

 

 

 

35

 

Consumer loans

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total nonaccrual loans

 

$

2,252

 

 

$

2,221

 

 

 

2,068

 

 

 

3,424

 

 

 

5,647

 

Other real estate owned:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

One- to four-family residential

 

 

193

 

 

 

 

 

 

 

 

 

 

 

 

130

 

Commercial

 

 

 

 

 

 

 

 

500

 

 

 

600

 

 

 

 

Total other real estate owned

 

 

193

 

 

 

 

 

 

500

 

 

 

600

 

 

 

130

 

Total nonperforming assets

 

$

2,445

 

 

$

2,221

 

 

$

2,568

 

 

$

4,024

 

 

$

5,777

 

Performing troubled debt restructurings

 

$

3,383

 

 

$

3,433

 

 

$

4,172

 

 

$

10,115

 

 

$

10,437

 

Total nonperforming loans to total loans(1)

 

 

0.56

%

 

 

0.66

%

 

 

0.72

%

 

 

1.36

%

 

 

2.73

%

Total nonperforming assets to total assets

 

 

0.46

%

 

 

0.46

%

 

 

0.67

%

 

 

1.12

%

 

 

1.55

%

 

(1)

Total loans exclude loans held for sale and include net deferred loan costs and fees, and purchase premiums.

Interest income that would have been recorded for the year ended December 31, 2017, had nonaccruing loans been current according to their original terms amounted to $91,000. Income related to nonaccrual loans included in interest income for the year ended December 31, 2017, amounted to $83,000.

Classified Loans. Federal regulations require us to review and classify assets on a regular basis. In addition, the FDIC and the Massachusetts Commissioner of Banks have the authority to identify problem assets and, if appropriate, require them to be classified. There are three classifications for problem assets: substandard, doubtful, and loss. “Substandard assets” must have one or more defined weaknesses and are characterized by the distinct possibility that we will sustain some loss if the deficiencies are not corrected. “Doubtful assets” have the weaknesses of substandard assets with the additional characteristic that the weaknesses make collection or liquidation in full on the basis of currently existing facts, conditions, and values questionable, and there is a high possibility of loss. An asset classified as “loss” is considered uncollectible and of such little value that continuance as an asset of the institution is not warranted. When management classifies an asset as substandard or doubtful, a specific allowance for loan losses may be established. If management classifies an asset as loss, an amount equal to 100.0% of the portion of the asset classified loss is charged to the allowance for loan losses. The regulations also provide for a “special mention” category, described as assets that do not currently expose us to a sufficient degree of risk to warrant classification, but do possess credit deficiencies or potential weaknesses deserving our close attention. We utilize a eight-grade internal loan rating system for commercial real estate, construction, and commercial and industrial loans. See Note 5 to the consolidated financial statements.

The following table shows the aggregate amounts of our regulatory classified loans, consisting of residential real estate, commercial real estate, construction, and commercial and industrial loans, at the dates indicated.

 

 

 

December 31,

 

 

 

2017

 

 

2016

 

 

 

(In thousands)

 

Classified assets:

 

 

 

 

 

 

 

 

Substandard

 

$

911

 

 

$

1,098

 

Doubtful

 

 

 

 

 

 

Loss

 

 

 

 

 

 

Total classified assets

 

$

911

 

 

$

1,098

 

Special mention

 

$

2,512

 

 

$

2,214

 

 

None of the special mention loans at December 31, 2017 and 2016 were on nonaccrual.

10


 

Other than as disclosed in the above tables, there are no other loans where management has information indicating that there is serious doubt about the ability of the borrowers to comply with the present loan repayment terms.

Delinquencies. The following table provides information about delinquencies in our loan portfolio at the dates indicated.

 

 

 

December 31, 2017

 

 

December 31, 2016

 

 

 

30-59 Days

 

 

60-89 Days

 

 

90 Days or

 

 

30-59 Days

 

 

60-89 Days

 

 

90 Days or

 

(In thousands)

 

Past Due

 

 

Past Due

 

 

More Past Due

 

 

Past Due

 

 

Past Due

 

 

More Past Due

 

Real estate loans:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

One- to four-family residential

 

$

737

 

 

$

 

 

$

 

 

$

1,168

 

 

$

201

 

 

$

 

Commercial

 

 

 

 

 

 

 

 

 

 

 

400

 

 

 

 

 

 

 

Home equity loans and lines of credit

 

 

96

 

 

 

 

 

 

247

 

 

 

258

 

 

 

30

 

 

 

247

 

Construction

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Commercial and industrial loans

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Consumer loans

 

 

 

 

 

 

 

 

 

 

 

59

 

 

 

 

 

 

 

Total

 

$

833

 

 

$

 

 

$

247

 

 

$

1,885

 

 

$

231

 

 

$

247

 

 

Allowance for Loan Losses. The allowance for loan losses is a valuation allowance for probable losses inherent in the loan portfolio. We evaluate the need to establish allowances against losses on loans on a regular basis. When additional allowances are necessary, a provision for loan losses is charged to earnings.

Our methodology for assessing the appropriateness of the allowance for loan losses consists of: (1) a general component related to the remainder of the loan portfolio and (2) an allocated component related to impaired loans. Although we determine the amount of each element of the allowance separately, the entire allowance for loan losses is available for the entire portfolio.

General Component. The general component of the allowance for loan losses is based on historical loss experience adjusted for qualitative factors stratified by our loan segments. Management uses a rolling average of historical losses based on a trailing 48-month period, a time frame appropriate to capture relevant loss data for each loan segment. This historical loss factor is adjusted for the following qualitative factors: levels/trends in delinquencies; trends in volume and terms of loans; effects of changes in risk selection and underwriting standards and other changes in lending policies, procedures, and practices; experience/ability/depth of lending management and staff; national and local economic trends and conditions, regulatory, and legal factors; and risk rating concentrations.

Allocated Component. The allocated component of the allowance for loan losses relates to loans that are individually evaluated and determined to be impaired. Residential real estate, commercial, commercial real estate and construction loans are evaluated for impairment on a loan-by-loan basis. Impairment is measured by either the present value of expected future cash flows discounted at the loan’s effective interest rate, or the fair value of the collateral if the loan is collateral dependent. An allowance is established when the discounted cash flows (or collateral value) of the impaired loan are lower than the carrying value of that loan. Large groups of smaller balance homogeneous loans are collectively evaluated for impairment. Accordingly, we do not separately identify individual consumer loans or second mortgages and home equity loans and lines of credit for impairment disclosures, unless such loans are 90 days or more past due or subject to a troubled debt restructuring agreement.

A loan is considered impaired when, based on current information and events, it is probable that we will be unable to collect the scheduled payments of principal or interest when due according to the contractual terms of the loan agreement. Factors considered by management in determining impairment include payment status, collateral value, and the probability of collecting scheduled principal and interest payments when due. Loans that experience insignificant payment delays and payment shortfalls generally are not classified as impaired. Management determines the significance of payment delays and payment shortfalls on a case-by-case basis, taking into consideration all of the circumstances surrounding the loan and the borrower, including the length of the delay, the reasons for the delay, the borrower’s prior payment record, and the amount of the shortfall in relation to the principal and interest owed.

We periodically may agree to modify the contractual terms of loans. When a loan is modified and a concession is made to a borrower experiencing financial difficulty, the modification is considered a troubled debt restructuring. All troubled debt restructurings are initially classified as impaired.

11


 

We identify loans that may need to be charged-off as a loss by reviewing all impaired loans and related loss analyses. Loan losses are charged against the allowance when we believe the uncollectibility of the loan balance is confirmed. A borrower’s inability to make payments under the terms of the loan and a shortfall in collateral value would generally result in our charging off the loan to the extent of the loss deemed to be confirmed.

At December 31, 2017, our allowance for loan losses was $3.7 million, or 0.92% of total loans and 165.9% of nonperforming loans. At December 31, 2016, our allowance for loan losses was $3.3 million, or 0.97% of total loans and 147.3% of nonperforming loans. Nonperforming loans at December 31, 2017 were $2.3 million, or 0.56% of total loans, compared to $2.2 million, or 0.66% of total loans, at December 31, 2016. The allowance for loan losses is maintained at a level that represents management’s best estimate of losses in the loan portfolio at the balance sheet date. However, there can be no assurance that the allowance for loan losses will be adequate to cover losses which may be realized in the future or that additional provisions for loan losses will not be required.

Although we believe that we use the best information available to establish the allowance for loan losses, future adjustments to the allowance for loan losses may be necessary and our results of operations could be adversely affected if circumstances differ substantially from the assumptions used in making the determinations. Furthermore, while we believe we have established our allowance for loan losses in conformity with generally accepted accounting principles, there can be no assurance that the FDIC and the Massachusetts Commissioner of Banks, in reviewing our loan portfolio, will not require us to increase our allowance for loan losses based on judgments different from ours. In addition, because future events affecting borrowers and collateral cannot be predicted with certainty, there can be no assurance that the existing allowance for loan losses is adequate or that increases will not be necessary should the quality of any loans deteriorate as a result of the factors discussed above. Any material increase in the allowance for loan losses may adversely affect our financial condition and results of operation.

The following table sets forth the breakdown of the allowance for loan losses by loan category at the dates indicated.

 

 

 

December 31, 2017

 

 

December 31, 2016

 

 

 

 

 

 

 

% of Allowance

 

 

% of Loans

 

 

 

 

 

 

% of Allowance

 

 

% of Loans

 

 

 

 

 

 

 

Amount to Total

 

 

in Category

 

 

 

 

 

 

Amount to Total

 

 

in Category

 

(Dollars in thousands)

 

Amount

 

 

Allowance

 

 

to Total Loans

 

 

Amount

 

 

Allowance

 

 

to Total Loans

 

Real estate loans:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

One- to four-family residential

 

$

854

 

 

 

22.85

%

 

 

49.29

%

 

$

1,018

 

 

 

31.12

%

 

 

53.43

%

Commercial

 

 

1,620

 

 

 

43.35

%

 

 

25.27

%

 

 

1,410

 

 

 

43.11

%

 

 

26.38

%

Home equity loans and lines of credit

 

 

359

 

 

 

9.61

%