First Northwest Bancorp - 10-Q quarterly report FY2018 Q3

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q



ý	QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
		For the quarterly period ended September 30, 2018



¨	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: 001-36741

FIRST NORTHWEST BANCORP

(Exact name of registrant as specified in its charter)



Washington	46-1259100
(State or other jurisdiction of incorporation	(I.R.S. Employer
or organization)	I.D. Number)

105 West 8th Street, Port Angeles, Washington	98362
(Address of principal executive offices)	(Zip Code)

Registrant's telephone number, including area code:	(360) 457-0461

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 ý No ¨

Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted 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 such files).

Yes ý No ¨

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a 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	x

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. ý

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

Yes ¨ No ý

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date: As of November 2, 2018, there were 11,325,618 shares of common stock, $.01 par value per share, outstanding.

FIRST NORTHWEST BANCORP

FORM 10-Q

TABLE OF CONTENTS



PART 1 - FINANCIAL INFORMATION
	Page
Item 1 - Financial Statements (Unaudited)	3

Item 2 - Management's Discussion and Analysis of Financial Condition and Results of Operations	40

Item 3 - Quantitative and Qualitative Disclosures About Market Risk	58

Item 4 - Controls and Procedures	58

PART II - OTHER INFORMATION

Item 1 - Legal Proceedings	59

Item 1A - Risk Factors	59

Item 2 - Unregistered Sales of Equity Securities and Use of Proceeds	59

Item 3 - Defaults Upon Senior Securities	59

Item 4 - Mine Safety Disclosures	59

Item 5 - Other Information	59

Item 6 - Exhibits	60

SIGNATURES	61

As used in this report, the terms, “we,” “our,” and “us,” and “Company” refer to First Northwest Bancorp ("First Northwest") and its consolidated subsidiary, unless the context indicates otherwise. When we refer to “First Federal” or the “Bank” in this report, we are referring to First Federal Savings and Loan Association of Port Angeles, the wholly owned subsidiary of First Northwest Bancorp.

PART I - FINANCIAL INFORMATION

Item 1. Financial Statements (Unaudited)

FIRST NORTHWEST BANCORP AND SUBSIDIARY

CONSOLIDATED BALANCE SHEETS

(Dollars in thousands, except share information) (Unaudited)



ASSETS	September 30, 2018			December 31, 2017

Cash and due from banks	$	14,195		$	13,777
Interest-bearing deposits in banks	11,139			23,024
Investment securities available for sale, at fair value	267,105			290,242
Investment securities held to maturity, at amortized cost	43,908			50,126
Loans held for sale	191			788
Loans receivable (net of allowance for loan losses of $9,335 and $8,760)	839,458			779,111
Federal Home Loan Bank (FHLB) stock, at cost	6,326			7,023
Accrued interest receivable	3,914			3,745
Premises and equipment, net	15,460			13,739
Mortgage servicing rights, net	1,074			1,095
Bank-owned life insurance, net	29,172			28,724
Prepaid expenses and other assets	5,829			4,265

Total assets	$	1,237,771		$	1,215,659


LIABILITIES AND SHAREHOLDERS' EQUITY

Deposits	$	931,605		$	885,032
Borrowings	121,526			144,100
Accrued interest payable	360			325
Accrued expenses and other liabilities	10,529			7,929
Advances from borrowers for taxes and insurance	1,848			1,228

Total liabilities	1,065,868			1,038,614

Shareholders' Equity
Preferred stock, $0.01 par value, authorized 5,000,000 shares, no shares issued or outstanding	—			—
Common stock, $0.01 par value, authorized 75,000,000 shares; issued and outstanding 11,325,618 shares at September 30, 2018, and 11,785,507 shares at December 31, 2017	113			118
Additional paid-in capital	107,531			111,106
Retained earnings	80,880			78,602
Accumulated other comprehensive loss, net of tax	(5,907		)	(1,573		)
Unearned employee stock ownership plan (ESOP) shares	(10,714		)	(11,208		)

Total shareholders' equity	171,903			177,045

Total liabilities and shareholders' equity	$	1,237,771		$	1,215,659

See selected notes to the consolidated financial statements.

FIRST NORTHWEST BANCORP AND SUBSIDIARY

CONSOLIDATED STATEMENTS OF INCOME

(Dollars in thousands, except per share data) (Unaudited)



	Three Months Ended					Nine Months Ended
	September 30,					September 30,
	2018			2017		2018		2017
INTEREST INCOME
Interest and fees on loans receivable	$	9,257		$	7,928	$	26,792	$	23,290
Interest on mortgage-backed securities	1,196			1,280		3,730		3,863
Interest on investment securities	952			765		2,787		2,054
Interest on deposits and other	50			34		136		79
FHLB dividends	100			36		237		100

Total interest income	11,555			10,043		33,682		29,386
INTEREST EXPENSE
Deposits	1,498			911		3,608		2,427
Borrowings	792			669		2,678		1,871

Total interest expense	2,290			1,580		6,286		4,298

Net interest income	9,265			8,463		27,396		25,088
PROVISION FOR LOAN LOSSES	197			—		902		500

Net interest income after provision for loan losses	9,068			8,463		26,494		24,588
NONINTEREST INCOME
Loan and deposit service fees	1,122			913		2,930		2,622
Mortgage servicing fees, net of amortization	23			114		155		227
Net gain on sale of loans	139			377		456		705
Net (loss) gain on sale of investment securities	(58		)	136		77		136
Increase in cash surrender value of bank-owned life insurance	150			158		448		495
Income from death benefit on bank-owned life insurance, net	—			—		—		768
Other income	44			—		241		145

Total noninterest income	1,420			1,698		4,307		5,098

NONINTEREST EXPENSE
Compensation and benefits	4,740			4,466		14,296		13,749
Real estate owned and repossessed assets expense (income), net	14			8		41		(28		)
Data processing	676			604		1,981		1,818
Occupancy and equipment	1,119			1,022		3,348		3,002
Supplies, postage, and telephone	211			211		685		605
Regulatory assessments and state taxes	172			128		453		398
Advertising	185			142		799		538
Professional fees	319			466		1,099		1,200
FDIC insurance premium	76			69		231		193
Other	607			691		1,759		1,769

Total noninterest expense	8,119			7,807		24,692		23,244

INCOME BEFORE PROVISION FOR INCOME TAXES	2,369			2,354		6,109		6,442

PROVISION FOR INCOME TAXES	443			581		1,134		1,390

NET INCOME	$	1,926		$	1,773	$	4,975	$	5,052

Basic earnings per share	$	0.19		$	0.17	$	0.48	$	0.47

Diluted earnings per share	$	0.19		$	0.17	$	0.47	$	0.47

See selected notes to the consolidated financial statements.

FIRST NORTHWEST BANCORP AND SUBSIDIARY

CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME

(In thousands) (Unaudited)



	Three Months Ended						Nine Months Ended
	September 30,						September 30,
	2018			2017			2018			2017

NET INCOME	$	1,926		$	1,773		$	4,975		$	5,052

Other comprehensive (loss) income, net of tax
Unrealized (loss) gain on securities:
Unrealized holding (loss) gain, net of tax (benefit) provision of $(295), $(99), $(1,136), and $317, respectively	(1,117		)	(193		)	(4,295		)	610
Reclassification adjustment for net loss (gain) on sales of securities realized in income, net of taxes of $12, $(46), $(11), and $(46), respectively	46			(90		)	(39		)	(90		)

Other comprehensive (loss) income, net of tax	(1,071		)	(283		)	(4,334		)	520

COMPREHENSIVE INCOME	$	855		$	1,490		$	641		$	5,572

See selected notes to the consolidated financial statements.

FIRST NORTHWEST BANCORP AND SUBSIDIARY

CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY

For the Nine Months Ended September 30, 2018 and 2017

(Dollars in thousands, except share information) (Unaudited)



	Common Stock					Additional Paid-in Capital			Retained Earnings			Unearned ESOP Shares			Accumulated Other Comprehensive (Loss) Income, Net of Tax			Total Shareholders' Equity
	Shares		Amount

BALANCE, December 31, 2016	12,153,946		$	122		$	114,021		$	75,833		$	(11,847	)	$	(1,237	)	$	176,892

Net income									5,052									5,052
Common stock repurchased	(348,700	)	(4		)	(3,483		)	(2,160		)							(5,647		)
Restricted stock awards granted	50,000		—			—												—
Restricted stock awards canceled	(15,539	)	—			(282		)										(282		)
Other comprehensive income, net of tax															520			520
Share-based compensation						788												788
ESOP shares committed to be released						131						474						605

BALANCE, September 30, 2017	11,839,707		$	118		$	111,175		$	78,725		$	(11,373	)	$	(717	)	$	177,928



BALANCE, December 31, 2017	11,785,507		$	118		$	111,106		$	78,602		$	(11,208	)	$	(1,573	)	$	177,045

Net income									4,975									4,975
Common stock repurchased	(423,213	)	(4		)	(4,228		)	(2,697		)							(6,929		)
Restricted stock award forfeitures net of grants	(18,600	)	—			—												—
Restricted stock awards canceled	(18,076	)	(1		)	(292		)										(293		)
Other comprehensive loss, net of tax															(4,334		)	(4,334		)
Share-based compensation						788												788
ESOP shares committed to be released						157						494						651

BALANCE, September 30, 2018	11,325,618		$	113		$	107,531		$	80,880		$	(10,714	)	$	(5,907	)	$	171,903

See selected notes to the consolidated financial statements.



FIRST NORTHWEST BANCORP AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands) (Unaudited)
	Nine Months Ended September 30,
	2018			2017
CASH FLOWS FROM OPERATING ACTIVITIES
Net income	$	4,975		$	5,052
Adjustments to reconcile net income to net cash from operating activities:
Depreciation and amortization	993			902
Amortization and accretion of premiums and discounts on investments, net	1,433			744
Amortization (accretion) of deferred loan fees, net	25			(233		)
Amortization of mortgage servicing rights, net	180			118
Additions to mortgage servicing rights, net	(159		)	(194		)
Provision for loan losses	902			500
Gain on sale of real estate owned and repossessed assets	—			(36		)
Allocation of ESOP shares	651			605
Share-based compensation	788			788
Gain on sale of loans, net	(456		)	(705		)
Gain on sale of securities available for sale, net	(50		)	(136		)
Gain on sale of securities held to maturity, net	(27		)	—
Increase in cash surrender value of life insurance, net	(448		)	(495		)
Income from death benefit on bank-owned life insurance, net	—			(768		)
Origination of loans held for sale	(16,054		)	(23,057		)
Proceeds from loans held for sale	17,107			24,239
Change in assets and liabilities:
Increase in accrued interest receivable	(169		)	(483		)
Increase in prepaid expenses and other assets	(412		)	(32		)
Increase in accrued interest payable	35			13
Increase in accrued expenses and other liabilities	2,600			2,043

Net cash from operating activities	11,914			8,865

CASH FLOWS FROM INVESTING ACTIVITIES
Purchase of securities available for sale	(63,046		)	(130,822		)
Proceeds from maturities, calls, and principal repayments of securities available for sale	20,164			46,110
Proceeds from sales of securities available for sale	56,683			17,239
Proceeds from maturities, calls, and principal repayments of securities held to maturity	6,010			2,542
Proceeds from sales of securities held to maturity	2,702			—
Redemption (purchase) of FHLB stock	697			(1,930		)
Proceeds from sale of real estate owned and repossessed assets	—			194
Net increase in loans receivable	(61,274		)	(36,871		)
Purchase of premises and equipment, net	(2,714		)	(431		)

Net cash from investing activities	(40,778		)	(103,969		)

See selected notes to the consolidated financial statements.



FIRST NORTHWEST BANCORP AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands) (Unaudited)
	Nine Months Ended September 30,
	2018			2017
CASH FLOWS FROM FINANCING ACTIVITIES
Net increase in deposits	$	46,573		$	56,861
Net (decrease) increase in FHLB short-term advances	(22,574		)	45,774
Net increase in advances from borrowers for taxes and insurance	620			757
Net share settlement of stock awards	(293		)	(282		)
Repurchase of common stock	(6,929		)	(5,647		)

Net cash from financing activities	17,397			97,463

NET (DECREASE) INCREASE IN CASH AND CASH EQUIVALENTS	(11,467		)	2,359

CASH AND CASH EQUIVALENTS, beginning of period	36,801			22,650

CASH AND CASH EQUIVALENTS, end of period	$	25,334		$	25,009

SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION
Cash paid during the year for:
Interest on deposits and borrowings	$	6,251		$	4,285

Income taxes	$	700		$	845

NONCASH INVESTING ACTIVITIES
Unrealized (loss) gain on securities available for sale	$	(5,481	)	$	791

Loans transferred to real estate owned and repossessed assets, net of deferred loan fees and allowance for loan losses	$	154		$	134

See selected notes to the consolidated financial statements.

FIRST NORTHWEST BANCORP AND SUBSIDIARY

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

Note 1 - Basis of Presentation and Critical Accounting Policies

Organization and Nature of business - First Northwest Bancorp, a Washington corporation, became the holding company of First Federal Savings and Loan Association of Port Angeles on January 29, 2015, upon completion of the Bank's conversion from a mutual to stock form of organization (the "Conversion"). In connection with the Conversion, the Company issued an aggregate of 12,167,000 shares of common stock at an offering price of $10.00 per share for gross proceeds of $121.7 million. An additional 933,360 shares of Company common stock and $400,000 in cash were contributed to the First Federal Community Foundation ("Foundation"), a charitable foundation that was established in connection with the Conversion, resulting in the issuance of a total of 13,100,360 shares. The Company received $117.6 million in net proceeds from the stock offering of which $58.4 million were contributed to the Bank upon Conversion.

Pursuant to the Bank's Plan of Conversion (the "Plan") adopted by its Board of Directors, and as approved by its members, the Company established an employee stock ownership plan ("ESOP"). On December 18, 2015, the ESOP completed its open market purchases, with funds borrowed from the Company, of 8% of the common stock issued in the Conversion for a total of 1,048,029 shares.

First Northwest's business activities generally are limited to passive investment activities and oversight of its investment in First Federal. Accordingly, the information set forth in this report, including the consolidated unaudited financial statements and related data, relates primarily to the Bank.

The Bank is a community-oriented financial institution providing commercial and consumer banking services to individuals and businesses in Western Washington State with offices in Clallam, Jefferson, Kitsap, and Whatcom counties. These services include deposit and lending transactions that are supplemented with borrowing and investing activities.

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 our audited consolidated financial statements and accompanying notes included in the Company's Annual Report on Form 10-KT for the six months ended December 31, 2017. In our opinion, all adjustments (consisting only of normal recurring adjustments) considered necessary for a fair presentation of the consolidated financial statements in accordance with GAAP have been included. The Company changed its fiscal year from June 30 to December 31 effective December 31, 2017. Operating results for the three and nine months ended September 30, 2018, are not necessarily indicative of the results that may be expected for future periods.

In preparing the unaudited interim 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 in the near term relate to a determination of the allowance for loan losses ("ALLL"), mortgage servicing rights, fair value of financial instruments, deferred tax assets and liabilities, and the valuation of impaired loans.

Principles of consolidation - The accompanying consolidated financial statements include the accounts of First Northwest Bancorp and its wholly owned subsidiary, First Federal. All material intercompany accounts and transactions have been eliminated in consolidation.

Subsequent Events - The Company has evaluated subsequent events for potential recognition and disclosure and determined there are no such events or transactions requiring recognition or disclosure.

Recently adopted 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): Deferral of the Effective Date, which postponed the effective date of 2014-09. Subsequently, in March 2016, the FASB issued ASU 2016-08, Revenue from

FIRST NORTHWEST BANCORP AND SUBSIDIARY

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

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. In general, the new guidance requires companies to use more judgment and make more estimates than under current guidance, including identifying performance obligations in the contract, estimating the amount of variable consideration to include in the transaction price and allocating the transaction price to each separate performance obligation. These standards were effective for interim and annual periods beginning after December 15, 2017. The Company has analyzed its revenue sources of noninterest income to determine when the satisfaction of the performance obligation occurs and the appropriate recognition of revenue. The adoption of these ASUs did not have a material impact on the Company’s consolidated financial statements as the Company did not identify any significant changes in the timing of revenue recognition when considering the amended accounting guidance since it is consistent with the Company’s current accounting policy for contracts.

In January 2016, the 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. In addition, the amendments in this ASU require an entity to disclose the fair value of financial instruments using the exit price notion. Exit price is 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 amendments in this ASU were effective for fiscal years beginning after December 15, 2017, including interim periods within those fiscal years. The Company has used the exit price notion in the fair value disclosure of financial instruments in Note 9 of this report. The adoption of ASU 2016-01 did not have a material impact on the Company’s consolidated financial statements or disclosures in the Notes to the Consolidated Financial Statements.

In August 2016, the FASB issued ASU No. 2016-15, Statement of Cash Flows (Topic 230): Classification of Certain Cash Receipts and Cash Payments. The ASU provides specific guidance on eight classification issues in order to achieve more consistent reporting. The amendments in this ASU were effective for fiscal years beginning after December 15, 2017, including interim periods within those fiscal years. The Company does not currently have items on its cash flow statement that were impacted by adoption of this ASU and therefore adoption of ASU 2016-15 did not have a material impact on the Company’s consolidated financial statements.

In March 2017, the 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 using the earliest call date. The amendments do not require an accounting change for securities held at a discount; the discount continues to be amortized to maturity. The amendments in this ASU are effective for annual periods, and interim periods within those annual periods, beginning after December 15, 2019. Early adoption is permitted. The adoption of ASU 2017-08 did not have a material impact on the Company's consolidated financial statements.

In May 2017, the FASB issued ASU No. 2017-09, Compensation-Stock Compensation (Topic 718): Scope of Modification Accounting. This ASU provides clarity on the guidance related to stock compensation when there have been changes to the terms or conditions of a share-based payment award to which an entity would be required to apply modification accounting under ASC 718. The ASU provides the three following criteria must be met in order to not account for the effect of the modification of terms or conditions: the fair value, the vesting conditions and the classification as an equity or liability instrument of the modified award is the same as the original award immediately before the original award is modified. The amendments in this ASU were effective for annual periods, and interim periods within those annual periods, beginning after December 15, 2017. The Company has not had any modifications on share-based payment awards and therefore the adoption of ASU 2017-09 did not have a material impact on the Company’s consolidated financial statements.

In March 2018, FASB issued ASU No. 2018-05, Income Taxes (Topic 740). This ASU was issued to provide guidance on the income tax accounting implications of the Tax Cuts and Jobs Act, and allows for entities to report provisional amounts for specific income tax effects of the Act for which the accounting under Topic 740 was not yet complete but a reasonable

FIRST NORTHWEST BANCORP AND SUBSIDIARY

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

estimate could be determined. A measurement period of one-year is allowed to complete the accounting effects under Topic 740 and revise any previous estimates reported. Any provisional amounts or subsequent adjustments included in an entity’s financial statements during the measurement period should be included in income from continuing operations as an adjustment to tax expense in the reporting period the amounts are determined. The Company adopted this ASU with the provisional adjustments as reported in the Consolidated Financial Statements on Form 10-KT as of December 31, 2017. As of September 30, 2018, the Company did not incur any adjustments to the provisional recognition.

Recently issued accounting pronouncements

Lease Accounting

In February 2016, the FASB issued ASU No. 2016-02, Leases. ASU 2016-02 is intended to increase transparency and comparability among organizations by requiring the recognition of lease assets and lease liabilities on the balance sheet and disclosure of key information about leasing arrangements. The principal change required by this ASU relates to lessee accounting, and is that for operating leases, a lessee is required to (1) recognize a right-of-use asset and a lease liability, initially measured at the present value of the lease payments, in the statement of financial position, (2) recognize a single lease cost, calculated so that the cost of the lease is allocated over the lease term on a generally straight-line basis, and (3) classify all cash payments within operating activities in the statement of cash flows. For leases with a term of 12 months or less, a lessee is permitted to make an accounting policy election by class of underlying asset not to recognize lease assets and lease liabilities. If a lessee makes this election, it should recognize lease expense for such leases generally on a straight-line basis over the lease term. ASU 2016-02 also changes disclosure requirements related to leasing activities, and requires certain qualitative disclosures along with specific quantitative disclosures. The amendments in ASU 2016-02 are effective for annual periods, and interim periods within those annual periods, beginning after December 15, 2018. Early application of the amendments in ASU 2016-02 is permitted. Once adopted, we expect to report higher assets and liabilities on our Consolidated Balance Sheets 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, which currently are not reflected in our Consolidated Balance Sheets. We do not expect the guidance to have a material impact on the Consolidated Statements of Income or Consolidated Statements of Changes in Shareholders' Equity. ASU 2016-02 initially provided for one retrospective transition method; however a second transition method was later added with ASU 2018-11 which permits companies to utilize certain practical expedients.

In July 2018, FASB issued ASU No. 2018-10, Codification Improvements to Topic 842, Leases. These amendments provide minor clarifications and corrections to ASU 2016-02, Leases (Topic 842).

In July 2018, the FASB issued ASU No. 2018-11, Leases (Topic 842): Targeted Improvements. The amendments in this ASU provide entities with an additional optional transition method to adopt ASU 2016-02. Under this new transition method, an entity initially applies the new leases standard at the adoption date and recognizes a cumulative-effect adjustment to the opening balance of retained earnings in the period of adoption. Consequently, an entity’s reporting under this additional transition method for the comparative periods presented in the financial statements in which it adopts the new leases standard would continue to be in accordance with current GAAP (Topic 840, Leases).

The Company will adopt ASU 2016-02 (as amended by subsequent ASUs) effective January 1, 2019 utilizing the new transition method described in ASU 2018-11 and will avail itself of practical expedients. As a lessee, the Company is party to several office leases with future payment obligations including all available extensions aggregating approximately $9 million at September 30, 2018 for which the Company expects to record right-of-use assets and lease liabilities at the present value of the remaining minimum rental payments upon adoption of ASU 2016-02. As lessee, the Company expects to apply the following practical expedients in the implementation ASU 2016-02: (i) to not separate non-lease components from the associated lease component as described above and (ii) to not apply the right-of-use recognition requirements to short-term leases.

FIRST NORTHWEST BANCORP AND SUBSIDIARY

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

Other Accounting Topics

In June 2016, the FASB issued ASU No. 2016-13, Financial Instruments - Credit Loss, which updates the guidance on recognition and measurement of credit losses for financial assets. The new requirements, known as the current expected credit loss model (CECL) will require entities to adopt an impairment model based on expected losses rather than incurred losses. ASU No. 2016-13 is effective for fiscal years beginning after December 15, 2019, including interim periods within those fiscal years. Upon adoption, the Company will change processes and procedures to calculate the allowance for loan losses, 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. In addition, the current accounting policy and procedures for other-than-temporary impairment on investment securities available for sale will be replaced with an allowance approach. At this time, we do not anticipate an increase to the ALLL as a result of the implementation of this ASU based on the preliminary review and testing of different models being evaluated. The Company has formed an internal project management team which will coordinate and monitor implementation progress, work with our third-party vendor, and implement changes to processes and procedures to ensure the Company is fully compliant with the amendments at the adoption date.

In August 2017, FASB issued ASU No. 2017-12, Derivatives and Hedging (Topic 815). This ASU was issued to provide investors better insight to an entity’s risk management hedging strategies by permitting companies to recognize the economic results of its hedging strategies in its financial statements. The amendments in this ASU permit hedge accounting for hedging relationships involving non-financial risk and interest rate risk by removing certain limitations in cash flow and fair value hedging relationships. In addition, the ASU requires an entity to present the earnings effect of the hedging instrument in the same income statement line item in which the earnings effect of the hedged item is reported. This ASU is effective for fiscal years beginning after December 15, 2018, and early adoption is permitted. Adoption of ASU 2017-12 is not expected to have a material impact on the Company’s consolidated financial statements.

In June 2018, FASB issued ASU No. 2018-07, Compensation—Stock Compensation (Topic 718): Improvements to Nonemployee Share-Based Payment Accounting. These amendments provide specific guidance for transactions for acquiring goods and services from nonemployees and specify that Topic 718 applies to all share-based payment transactions in which a grantor acquires goods or services to be used or consumed in a grantor’s own operations by issuing share-based payment awards. The amendments also clarify that Topic 718 does not apply to share-based payments used to effectively provide (i) financing to the issuer or (ii) awards granted in conjunction with selling goods or services to customers as part of a contract accounted for under Topic 606, Revenue from Contracts with Customers. This guidance is effective for fiscal years beginning after December 15, 2018, and interim periods beginning after December 15, 2020. Early adoption is permitted but not earlier than the adoption of Topic 606. The Company does not believe that this guidance will have a material effect on its consolidated financial statements as it has not historically issued share-based payments in exchange for goods or services to be consumed within its operations.

In July 2018, FASB issued ASU No. 2018-09, Codification Improvements. These amendments provide clarifications and corrections to certain ASC subtopics including the following: 220-10 (Income Statement - Reporting Comprehensive Income - Overall), 470-50 (Debt - Modifications and Extinguishments), 480-10 (Distinguishing Liabilities from Equity - Overall), 718-740 (Compensation - Stock Compensation - Income Taxes), 805-740 (Business Combinations - Income Taxes), 815-10 (Derivatives and Hedging - Overall), and 820-10 (Fair Value Measurement - Overall). Some of the amendments in ASU 2018-09 do not require transition guidance and will be effective upon issuance; however, many of the amendments do have transition guidance with effective dates for annual periods beginning after December 15, 2018. The Company is currently assessing the impact this guidance will have on its consolidated financial statements.

In August 2018, FASB issued ASU No. 2018-13, Disclosure Framework — Changes to the Disclosure Requirements for Fair Value Measurement which removes, modifies, and adds certain disclosure requirements related to fair value measurements in ASC 820. This guidance is effective for public companies in fiscal years beginning after December 15, 2019 with early adoption permitted. The Company is currently assessing the impact this guidance will have on its consolidated financial statements.

FIRST NORTHWEST BANCORP AND SUBSIDIARY

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

In August 2018, FASB issued ASU No. 2018-15 Customer’s Accounting for Implementation Costs Incurred in a Cloud Computing Arrangement That Is a Service Contract to provide guidance on implementation costs incurred in a cloud computing arrangement that is a service contract. The ASU aligns the accounting for such costs with the guidance on capitalizing costs associated with developing or obtaining internal-use software. Specifically, the ASU amends ASC 350 to include in its scope implementation costs of such arrangements that are service contracts and clarifies that a customer should apply ASC 350-40 to determine which implementation costs should be capitalized. This ASU, which is effective for fiscal years beginning after December 15, 2019, is not expected to have a material impact on the Company’s financial statements.

In August 2018, the Securities and Exchange Commission issued a final rule that amends certain of its disclosure requirements. The rule simplifies various disclosure requirements for public companies including primarily that it (i) eliminates the requirement for public companies to disclose in their filings a schedule of earnings to fixed charges, (ii) requires an analysis of changes in stockholders’ equity for the current and comparative year-to-date interim periods in interim reports, and (iii) reduces the requirements for market price information disclosures in annual reports. These changes are effective for public companies beginning on November 5, 2018. The Company anticipates complying with these new requirements beginning with its 2018 Annual Report on Form 10-K.

Reclassifications - 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 net income or shareholders' equity.

Note 2 - Securities

The amortized cost, gross unrealized gains and losses, and estimated fair value of securities classified as available-for-sale and held-to-maturity at September 30, 2018, are summarized as follows:



	Amortized Cost		Gross Unrealized Gains		Gross Unrealized Losses			Estimated Fair Value
	(In thousands)
Available for Sale
Municipal bonds	$	882	$	—	$	(23	)	$	859
U.S. government agency issued asset-backed securities (ABS agency)	26,182		61		(251		)	25,992
Corporate issued asset-backed securities (ABS corporate)	37,904		—		(436		)	37,468
Corporate issued debt securities (Corporate debt)	9,986		106		(266		)	9,826
U.S. Small Business Administration securities (SBA)	37,339		4		(568		)	36,775
Mortgage-backed securities:
U.S. government agency issued mortgage-backed securities (MBS agency)	150,986		—		(5,824		)	145,162
Corporate issued mortgage-backed securities (MBS corporate)	11,331		—		(308		)	11,023

Total securities available for sale	$	274,610	$	171	$	(7,676	)	$	267,105

Held to Maturity
Municipal bonds	$	11,987	$	44	$	(9	)	$	12,022
SBA	343		—		(2		)	341
Mortgage-backed securities:
MBS agency	31,578		—		(1,077		)	30,501

Total securities held to maturity	$	43,908	$	44	$	(1,088	)	$	42,864

FIRST NORTHWEST BANCORP AND SUBSIDIARY

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

The amortized cost, gross unrealized gains and losses, and estimated fair value of securities classified as available-for-sale and held-to-maturity at December 31, 2017, are summarized as follows:



	Amortized Cost		Gross Unrealized Gains		Gross Unrealized Losses			Estimated Fair Value
	(In thousands)
Available for Sale
Municipal bonds	$	13,058	$	391	$	(15	)	$	13,434
ABS agency	21,972		36		(238		)	21,770
ABS corporate	22,823		—		(55		)	22,768
Corporate debt	19,835		195		(122		)	19,908
SBA	47,325		98		(149		)	47,274
Mortgage-backed securities:
MBS agency	146,532		36		(2,026		)	144,542
MBS corporate	20,721		18		(193		)	20,546

Total securities available for sale	$	292,266	$	774	$	(2,798	)	$	290,242

Held to Maturity
Municipal bonds	$	13,963	$	156	$	—		$	14,119
SBA	399		—		(4		)	395
Mortgage-backed securities:
MBS agency	35,764		338		(350		)	35,752

Total securities held to maturity	$	50,126	$	494	$	(354	)	$	50,266

FIRST NORTHWEST BANCORP AND SUBSIDIARY

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

The following shows the unrealized gross losses and fair value of the investment portfolio by length of time that individual securities in each category have been in a continuous loss position as of September 30, 2018:



	Less Than Twelve Months					Twelve Months or Longer					Total
	Gross Unrealized Losses			Fair Value		Gross Unrealized Losses			Fair Value		Gross Unrealized Losses			Fair Value
	(In thousands)
Available for Sale
Municipal bonds	$	(16	)	$	750	$	(7	)	$	109	$	(23	)	$	859
ABS agency	(131		)	8,778		(120		)	2,487		(251		)	11,265
ABS corporate	(287		)	24,966		(149		)	12,501		(436		)	37,467
Corporate debt	—			—		(266		)	4,720		(266		)	4,720
SBA	(156		)	14,878		(412		)	16,728		(568		)	31,606
Mortgage-backed securities:
MBS agency	(1,536		)	56,190		(4,288		)	88,972		(5,824		)	145,162
MBS corporate	(80		)	7,011		(228		)	4,012		(308		)	11,023

Total available for sale	$	(2,206	)	$	112,573	$	(5,470	)	$	129,529	$	(7,676	)	$	242,102

Held to Maturity
Municipal bonds	$	(9	)	$	1,278	$	—		$	—	$	(9	)	$	1,278
SBA	(1		)	125		(1		)	216		(2		)	341
Mortgage-backed securities:
MBS agency	(339		)	12,390		(738		)	18,101		(1,077		)	30,491

Total held to maturity	$	(349	)	$	13,793	$	(739	)	$	18,317	$	(1,088	)	$	32,110



	Less Than Twelve Months					Twelve Months or Longer					Total
	Gross Unrealized Losses			Fair Value		Gross Unrealized Losses			Fair Value		Gross Unrealized Losses			Fair Value
	(In thousands)
Available for Sale
Municipal bonds	$	(11	)	$	4,276	$	(4	)	$	114	$	(15	)	$	4,390
ABS agency	—			—		(238		)	7,294		(238		)	7,294
ABS corporate	(55		)	22,768		—			—		(55		)	22,768
Corporate debt	(122		)	4,864		—			—		(122		)	4,864
SBA	(45		)	7,421		(104		)	8,067		(149		)	15,488
Mortgage-backed securities:
MBS agency	(394		)	57,081		(1,632		)	85,421		(2,026		)	142,502
MBS corporate	(22		)	5,808		(171		)	10,172		(193		)	15,980

Total available for sale	$	(649	)	$	102,218	$	(2,149	)	$	111,068	$	(2,798	)	$	213,286

Held to Maturity
SBA	$	(4	)	$	395	$	—		$	—	$	(4	)	$	395
Mortgage-backed securities:
MBS agency	(6		)	1,001		(344		)	18,494		(350		)	19,495

Total held to maturity	$	(10	)	$	1,396	$	(344	)	$	18,494	$	(354	)	$	19,890

FIRST NORTHWEST BANCORP AND SUBSIDIARY

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

The Company may hold certain investment securities in an unrealized loss position that are not considered other than temporarily impaired ("OTTI"). At September 30, 2018 and December 31, 2017, there were 75 and 63 investment securities in an unrealized loss position, respectively.

We believe that the unrealized losses on our investment securities relate principally to the general change in interest rates and illiquidity, and not credit quality, that has occurred since the initial purchase, and such unrecognized losses or gains will continue to vary with general interest rate level fluctuations in the future. Certain investments in a loss position are guaranteed by government entities or government sponsored entities. The Company does not intend to sell the securities in an unrealized loss position and believes it is not likely it will be required to sell these investments prior to a market price recovery or maturity.

There were no OTTI losses during the three and nine months ended September 30, 2018 and 2017.

The amortized cost and estimated fair value of investment securities by contractual maturity are shown in the following tables at the dates indicated. Expected maturities of mortgage-backed securities may differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties; therefore, these securities are shown separately.



	September 30, 2018
	Available-for-Sale				Held-to-Maturity
	Amortized Cost		Estimated Fair Value		Amortized Cost		Estimated Fair Value
	(In thousands)
Mortgage-backed securities:
Due within one year	$	—	$	—	$	—	$	—
Due after one through five years	7,244		6,994		661		647
Due after five through ten years	12,117		11,620		2,206		2,119
Due after ten years	142,956		137,571		28,711		27,735

Total mortgage-backed securities	162,317		156,185		31,578		30,501

All other investment securities:
Due within one year	—		—		—		—
Due after one through five years	—		—		736		739
Due after five through ten years	19,621		19,209		6,807		6,811
Due after ten years	92,672		91,711		4,787		4,813

Total all other investment securities	112,293		110,920		12,330		12,363

Total investment securities	$	274,610	$	267,105	$	43,908	$	42,864

FIRST NORTHWEST BANCORP AND SUBSIDIARY

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)



	December 31, 2017
	Available-for-Sale				Held-to-Maturity
	Amortized Cost		Estimated Fair Value		Amortized Cost		Estimated Fair Value
	(In thousands)
Mortgage-backed securities:
Due within one year	$	—	$	—	$	—	$	—
Due after one through five years	7,363		7,260		1,957		1,973
Due after five through ten years	13,337		13,127		2,835		2,792
Due after ten years	146,553		144,701		30,972		30,987

Total mortgage-backed securities	167,253		165,088		35,764		35,752

All other investment securities:
Due within one year	—		—		—		—
Due after one through five years	4,388		4,380		—		—
Due after five through ten years	29,482		29,661		9,491		9,574
Due after ten years	91,143		91,113		4,871		4,940

Total all other investment securities	125,013		125,154		14,362		14,514

Total investment securities	$	292,266	$	290,242	$	50,126	$	50,266

Sales of securities available-for-sale for the periods shown are summarized as follows:



	Three Months Ended September 30,						Nine Months Ended September 30,
	2018			2017			2018			2017
	(In thousands)
Proceeds from sales	$	1,979		$	17,239		$	56,683		$	17,239
Gross realized gains	—			269			233			269
Gross realized losses	(58		)	(133		)	(183		)	(133		)

During the nine months ended September 30, 2018, the Bank sold certain held to maturity investments that had substantially reached maturity, allowing us to sell the securities without tainting the remaining held to maturity securities portfolio. The held-to-maturity designation of the remaining securities is unchanged. Gross proceeds on the sale of these securities totaled $2.7 million with gross realized gains and losses of $32,000 and $5,000, respectively.

FIRST NORTHWEST BANCORP AND SUBSIDIARY

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

Note 3 - Loans Receivable

Loans receivable consisted of the following at the dates indicated:



	September 30, 2018			December 31, 2017
	(In thousands)
Real Estate:
One-to-four family	$	336,739		$	355,391
Multi-family	85,229			73,767
Commercial real estate	239,431			202,956
Construction and land	59,219			71,145
Total real estate loans	720,618			703,259

Consumer:
Home equity	38,744			38,473
Auto and other consumer	70,003			28,106
Total consumer loans	108,747			66,579

Commercial business loans	16,432			16,303

Total loans	845,797			786,141

Less:
Net deferred loan fees	(821		)	724
Premium on purchased loans, net	(2,175		)	(2,454		)
Allowance for loan losses	9,335			8,760

Total loans receivable, net	$	839,458		$	779,111

Allowance for Loan Losses. The Company maintains a general allowance for loan losses based on evaluating known and inherent risks in the loan portfolio, including management’s continuing analysis of the factors underlying the quality of the loan portfolio. These factors include changes in the size and composition of the loan portfolio, actual loan loss experience, and current and anticipated economic conditions. The reserve is an estimate based upon factors and trends identified by management at the time the financial statements are prepared.

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



	At or For the Three Months Ended September 30, 2018
	One-to- four family			Multi-family			Commercial real estate			Construction and land		Home equity			Auto and other consumer			Commercial business			Unallocated		Total
	(In thousands)
ALLL:
Beginning balance	$	3,050		$	841		$	2,160		$	514	$	642		$	1,332		$	716		$	27	$	9,282
Provision for loan losses	3			(31		)	(47		)	28		(81		)	179			(31		)	177		197
Charge-offs	(2		)	—			—			—		—			(265		)	—			—		(267		)
Recoveries	2			—			—			—		7			114			—			—		123
Ending balance	$	3,053		$	810		$	2,113		$	542	$	568		$	1,360		$	685		$	204	$	9,335

FIRST NORTHWEST BANCORP AND SUBSIDIARY

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)



	At or For the Nine Months Ended September 30, 2018
	One-to- four family			Multi-family		Commercial real estate		Construction and land			Home equity			Auto and other consumer			Commercial business		Unallocated			Total
	(In thousands)
ALLL:
Beginning balance	$	3,061		$	648	$	1,847	$	648		$	787		$	712		$	265	$	792		$	8,760
Provision for loan losses	6			162		266		(107		)	(242		)	986			419		(588		)	902
Charge-offs	(18		)	—		—		—			—			(522		)	—		—			(540		)
Recoveries	4			—		—		1			23			184			1		—			213
Ending balance	$	3,053		$	810	$	2,113	$	542		$	568		$	1,360		$	685	$	204		$	9,335



	At September 30, 2018
	One-to- four family		Multi-family		Commercial real estate		Construction and land		Home equity		Auto and other consumer		Commercial business		Unallocated		Total
	(In thousands)
Total ALLL	$	3,053	$	810	$	2,113	$	542	$	568	$	1,360	$	685	$	204	$	9,335
General reserve	3,013		809		2,105		541		563		1,334		125		204		8,694
Specific reserve	40		1		8		1		5		26		560		—		641

Total loans	$	336,739	$	85,229	$	239,431	$	59,219	$	38,744	$	70,003	$	16,432	$	—	$	845,797
Loans collectively evaluated ⁽¹⁾	332,948		85,117		237,430		59,102		38,139		69,873		15,594		—		838,203
Loans individually evaluated ⁽²⁾	3,791		112		2,001		117		605		130		838		—		7,594


⁽¹⁾ Loans collectively evaluated for general reserves.
⁽²⁾ Loans individually evaluated for specific reserves.



	At or For the Three Months Ended September 30, 2017
	One-to- four family			Multi-family		Commercial real estate			Construction and land		Home equity			Auto and other consumer			Commercial business			Unallocated		Total
ALLL:	(In thousands)
Beginning balance	$	3,071		$	511	$	1,735		$	683	$	818		$	523		$	1,168		$	14	$	8,523
Provision for loan losses	(263		)	8		(93		)	75		(71		)	87			(1,043		)	1,300		—
Charge-offs	—			—		—			—		—			(70		)	—			—		(70		)
Recoveries	100			—		—			—		16			39			—			—		155
Ending balance	$	2,908		$	519	$	1,642		$	758	$	763		$	579		$	125		$	1,314	$	8,608

FIRST NORTHWEST BANCORP AND SUBSIDIARY

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)



	At or For the Nine Months Ended September 30, 2017
	One-to- four family			Multi-family		Commercial real estate		Construction and land		Home equity			Auto and other consumer			Commercial business			Unallocated		Total
ALLL:	(In thousands)
Beginning balance	$	2,892		$	370	$	1,488	$	585	$	794		$	361		$	652		$	918	$	8,060
Provision for loan losses	(111		)	149		154		172		(103		)	366			(523		)	396		500
Charge-offs	—			—		—		—		(79		)	(239		)	(5		)	—		(323		)
Recoveries	127			—		—		1		151			91			1			—		371
Ending balance	$	2,908		$	519	$	1,642	$	758	$	763		$	579		$	125		$	1,314	$	8,608



	At December 31, 2017
	One-to- four family		Multi-family		Commercial real estate		Construction and land		Home equity		Auto and other consumer		Commercial business		Unallocated		Total
	(In thousands)
Total ALLL	$	3,061	$	648	$	1,847	$	648	$	787	$	712	$	265	$	792	$	8,760
General reserve	3,014		647		1,719		647		779		703		262		792		8,563
Specific reserve	47		1		128		1		8		9		3		—		197

Total loans	$	355,391	$	73,767	$	202,956	$	71,145	$	38,473	$	28,106	$	16,303	$	—	$	786,141
Loans collectively evaluated ⁽¹⁾	351,545		73,652		201,885		71,093		37,838		28,047		16,020		—		780,080
Loans individually evaluated ⁽²⁾	3,846		115		1,071		52		635		59		283		—		6,061


⁽¹⁾ Loans collectively evaluated for general reserves.
⁽²⁾ Loans individually evaluated for specific reserves.

Impaired loans. A loan is considered impaired when First Federal has determined that it may be unable to collect payments of principal or interest when due under the contractual terms of the loan. In the process of identifying loans as impaired, management takes into consideration factors that include payment history and status, collateral value, financial condition of the borrower, and the probability of collecting scheduled payments in the future. Minor payment delays and insignificant payment shortfalls typically do not result in a loan being classified as impaired. The significance of payment delays and shortfalls is considered by management on a case-by-case basis after taking into consideration the totality of circumstances surrounding the loans and the borrowers, including payment history and amounts of any payment shortfall, length and reason for delay, and likelihood of return to stable performance. Impairment is measured on a loan-by-loan basis for all loans in the portfolio except smaller balance homogeneous loans and certain qualifying troubled debt restructuring ("TDR") loans.

FIRST NORTHWEST BANCORP AND SUBSIDIARY

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

The following table presents a summary of loans individually evaluated for impairment by portfolio segment at the dates indicated:



	September 30, 2018						December 31, 2017
	Recorded Investment		Unpaid Principal Balance		Related Allowance		Recorded Investment		Unpaid Principal Balance		Related Allowance
	(In thousands)
With no allowance recorded:
One-to-four family	$	310	$	343	$	—	$	382	$	407	$	—
Commercial real estate	1,329		1,389		—		256		378		—
Construction and land	—		2		—		—		3		—
Home equity	340		442		—		365		515		—
Auto and other consumer	—		283		—		—		124		—
Commercial business	—		4		—		—		4		—
Total	1,979		2,463		—		1,003		1,431		—

With an allowance recorded:
One-to-four family	3,481		3,768		40		3,464		3,718		47
Multi-family	112		112		1		115		115		1
Commercial real estate	672		672		8		815		821		128
Construction and land	117		143		1		52		76		1
Home equity	265		333		5		270		338		8
Auto and other consumer	130		130		26		59		67		9
Commercial business	838		838		560		283		283		3
Total	5,615		5,996		641		5,058		5,418		197

Total impaired loans:
One-to-four family	3,791		4,111		40		3,846		4,125		47
Multi-family	112		112		1		115		115		1
Commercial real estate	2,001		2,061		8		1,071		1,199		128
Construction and land	117		145		1		52		79		1
Home equity	605		775		5		635		853		8
Auto and other consumer	130		413		26		59		191		9
Commercial business	838		842		560		283		287		3
Total	$	7,594	$	8,459	$	641	$	6,061	$	6,849	$	197

FIRST NORTHWEST BANCORP AND SUBSIDIARY

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

The following table presents the average recorded investment in loans individually evaluated for impairment and the related interest income recognized for the periods shown:



	Three Months Ended				Nine Months Ended
	September 30, 2018				September 30, 2018
	Average Recorded Investment		Interest Income Recognized		Average Recorded Investment		Interest Income Recognized
	(In thousands)
With no allowance recorded:
One-to-four family	$	401	$	9	$	405	$	12
Commercial real estate	1,334		13		2,148		34
Construction and land	—		—		1,658		—
Home equity	344		3		353		3
Auto and other consumer	—		7		—		11
Total	2,079		32		4,564		60

With an allowance recorded:
One-to-four family	2,978		74		3,046		156
Multi-family	112		1		113		4
Commercial real estate	708		9		763		26
Construction and land	71		5		57		6
Home equity	266		7		274		16
Auto and other consumer	76		3		98		4
Commercial business	852		14		796		50
Total	5,063		113		5,147		262

Total impaired loans:
One-to-four family	3,379		83		3,451		168
Multi-family	112		1		113		4
Commercial real estate	2,042		22		2,911		60
Construction and land	71		5		1,715		6
Home equity	610		10		627		19
Auto and other consumer	76		10		98		15
Commercial business	852		14		796		50
Total	$	7,142	$	145	$	9,711	$	322

Interest income recognized on a cash basis on impaired loans for the three and nine months ended September 30, 2018, was $101,000 and $278,000, respectively.

FIRST NORTHWEST BANCORP AND SUBSIDIARY

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

The following table presents the average recorded investment in loans individually evaluated for impairment and the related interest income recognized for the periods shown:



	Three Months Ended				Nine Months Ended
	September 30, 2017				September 30, 2017
	Average Recorded Investment		Interest Income Recognized		Average Recorded Investment		Interest Income Recognized
	(In thousands)
With no allowance recorded:
One-to-four family	$	778	$	12	$	1,069	$	48
Commercial real estate	318		—		310		1
Home equity	379		5		356		17
Auto and other consumer	—		3		—		6
Total	1,475		20		1,735		72

With an allowance recorded:
One-to-four family	3,800		72		3,922		219
Multi-family	117		1		119		3
Commercial real estate	1,061		10		1,211		44
Construction and land	27		2		19		3
Home equity	312		7		336		21
Auto and other consumer	20		—		24		—
Commercial business	288		4		310		12
Total	5,625		96		5,941		302

Total impaired loans:
One-to-four family	4,578		84		4,991		267
Multi-family	117		1		119		3
Commercial real estate	1,379		10		1,521		45
Construction and land	27		2		19		3
Home equity	691		12		692		38
Auto and other consumer	20		3		24		6
Commercial business	288		4		310		12
Total	$	7,100	$	116	$	7,676	$	374

Interest income recognized on a cash basis on impaired loans for the three and nine months ended September 30, 2017, was $80,000 and $251,000, respectively.

FIRST NORTHWEST BANCORP AND SUBSIDIARY

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

The following table presents the recorded investment in nonaccrual loans by class of loan at the dates indicated:



	September 30, 2018		December 31, 2017
	(In thousands)
One-to-four family	$	1,175	$	681
Commercial real estate	143		378
Construction and land	117		52
Home equity	344		365
Auto and other consumer	131		59
Commercial business	563		—

Total nonaccrual loans	$	2,473	$	1,535

Past due loans. Loans are considered past due if the required principal and interest payments have not been received as of the date such payments were due. There were no loans past due 90 days or more and still accruing interest at September 30, 2018 and December 31, 2017.

The following table presents past due loans, net of partial loan charge-offs, by class, as of September 30, 2018:



	30-59 Days Past Due		60-89 Days Past Due		90 Days or More Past Due		Total Past Due		Current		Total Loans
	(In thousands)
Real Estate:
One-to-four family	$	571	$	—	$	168	$	739	$	336,000	$	336,739
Multi-family	—		—		—		—		85,229		85,229
Commercial real estate	—		—		—		—		239,431		239,431
Construction and land	—		—		72		72		59,147		59,219
Total real estate loans	571		—		240		811		719,807		720,618

Consumer:
Home equity	4		78		4		86		38,658		38,744
Auto and other consumer	351		59		—		410		69,593		70,003
Total consumer loans	355		137		4		496		108,251		108,747

Commercial business loans	—		—		—		—		16,432		16,432

Total loans	$	926	$	137	$	244	$	1,307	$	844,490	$	845,797

FIRST NORTHWEST BANCORP AND SUBSIDIARY

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

The following table presents past due loans, net of partial loan charge-offs, by class, as of December 31, 2017:



	30-59 Days Past Due		60-89 Days Past Due		90 Days or More Past Due		Total Past Due		Current		Total Loans
	(In thousands)
Real Estate:
One-to-four family	$	213	$	—	$	231	$	444	$	354,947	$	355,391
Multi-family	—		—		—		—		73,767		73,767
Commercial real estate	91		—		—		91		202,865		202,956
Construction and land	1,187		—		19		1,206		69,939		71,145
Total real estate loans	1,491		—		250		1,741		701,518		703,259

Consumer:
Home equity	383		78		—		461		38,012		38,473
Auto and other consumer	77		30		—		107		27,999		28,106
Total consumer loans	460		108		—		568		66,011		66,579

Commercial business loans	648		—		—		648		15,655		16,303

Total loans	$	2,599	$	108	$	250	$	2,957	$	783,184	$	786,141

Credit quality indicator. Federal regulations provide for the classification of lower quality loans and other assets, such as debt and equity securities, as substandard, doubtful, or loss; risk ratings 6, 7, and 8 in our 8-point risk rating system, respectively. An asset is considered substandard if it is inadequately protected by the current net worth and pay capacity of the borrower or of any collateral pledged. Substandard assets include those characterized by the distinct possibility that First Federal will sustain some loss if the deficiencies are not corrected. Assets classified as doubtful have all the weaknesses inherent in those classified 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 those considered uncollectible and of such little value that their continuance as assets without the establishment of a specific loss reserve is not warranted.

When First Federal classifies problem assets as either substandard or doubtful, it may establish a specific allowance to address the risk specifically or allow the loss to be addressed in the general allowance. General allowances represent loss allowances that have been established to recognize the inherent risk associated with lending activities but that, unlike specific allowances, have not been specifically allocated to particular problem assets. When an insured institution classifies problem assets as a loss, it is required to charge off such assets in the period in which they are deemed uncollectible. Assets that do not currently expose First Federal to sufficient risk to warrant classification as substandard or doubtful but do possess identified weaknesses are designated as either watch or special mention assets; risk ratings 4 and 5 in our risk rating system, respectively. Loans not otherwise classified are considered pass graded loans and are rated 1-3 in our risk rating system.

Additionally, First Federal categorizes loans as performing or nonperforming based on payment activity. Loans that are more than 90 days past due and nonaccrual loans are considered nonperforming.

FIRST NORTHWEST BANCORP AND SUBSIDIARY

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

The following table represents the internally assigned grade as of September 30, 2018, by class of loans:



	Pass		Watch		Special Mention		Substandard		Doubtful		Total
	(In thousands)
Real Estate:
One-to-four family	$	330,600	$	4,314	$	975	$	850	$	—	$	336,739
Multi-family	85,117		—		112		—		—		85,229
Commercial real estate	232,986		4,317		672		1,456		—		239,431
Construction and land	52,251		6,851		—		117		—		59,219
Total real estate loans	700,954		15,482		1,759		2,423		—		720,618

Consumer:
Home equity	37,422		771		93		458		—		38,744
Auto and other consumer	68,696		936		146		216		9		70,003
Total consumer loans	106,118		1,707		239		674		9		108,747

Commercial business loans	14,972		622		275		563		—		16,432

Total loans	$	822,044	$	17,811	$	2,273	$	3,660	$	9	$	845,797

The following table represents the internally assigned grade as of December 31, 2017, by class of loans:



	Pass		Watch		Special Mention		Substandard		Total
	(In thousands)
Real Estate:
One-to-four family	$	348,273	$	4,134	$	1,580	$	1,404	$	355,391
Multi-family	71,535		2,117		115		—		73,767
Commercial real estate	188,251		9,893		964		3,848		202,956
Construction and land	59,360		8,040		3,662		83		71,145
Total real estate loans	667,419		24,184		6,321		5,335		703,259

Consumer:
Home equity	37,502		323		93		555		38,473
Auto and other consumer	27,646		202		146		112		28,106
Total consumer loans	65,148		525		239		667		66,579

Commercial business loans	14,230		653		772		648		16,303

Total loans	$	746,797	$	25,362	$	7,332	$	6,650	$	786,141

FIRST NORTHWEST BANCORP AND SUBSIDIARY

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

The following table represents the credit risk profile based on payment activity as of September 30, 2018, by class of loans:



	Nonperforming		Performing		Total
	(In thousands)
Real Estate:
One-to-four family	$	1,175	$	335,564	$	336,739
Multi-family	—		85,229		85,229
Commercial real estate	143		239,288		239,431
Construction and land	117		59,102		59,219

Consumer:
Home equity	344		38,400		38,744
Auto and other consumer	131		69,872		70,003

Commercial business	563		15,869		16,432

Total loans	$	2,473	$	843,324	$	845,797

The following table represents the credit risk profile based on payment activity as of December 31, 2017, by class of loans:



	Nonperforming		Performing		Total
	(In thousands)
Real Estate:
One-to-four family	$	681	$	354,710	$	355,391
Multi-family	—		73,767		73,767
Commercial real estate	378		202,578		202,956
Construction and land	52		71,093		71,145

Consumer:
Home equity	365		38,108		38,473
Auto and other consumer	59		28,047		28,106

Commercial business	—		16,303		16,303

Total loans	$	1,535	$	784,606	$	786,141

Troubled debt restructuring. A TDR is a loan to a borrower who is experiencing financial difficulty that has been modified from its original terms and conditions in such a way that First Federal is granting the borrower a concession of some kind. First Federal has granted a variety of concessions to borrowers in the form of loan modifications. The modifications are generally related to the loan's interest rate, term and payment amount or a combination thereof.

Upon identifying a receivable as a TDR loan, First Federal classifies the loan as impaired for purposes of determining the allowance for loan losses. This requires the loan to initially be evaluated individually for impairment, generally based on the expected cash flows under the new terms discounted at the loan’s original effective interest rates. For TDR loans that subsequently default, the method of determining impairment is generally the fair value of the collateral less estimated selling costs.

TDR loans may be upgraded in their classification and placed on accrual status once there is a sustained period of repayment performance, usually six months or longer, and there is a reasonable assurance that repayment will continue. First Federal allows reclassification of a troubled debt restructuring back into the general loan pool (as a non-troubled debt restructuring) if the borrower is able to refinance the loan at then-current market rates and meet all of the underwriting criteria of First Federal

FIRST NORTHWEST BANCORP AND SUBSIDIARY

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

required of other borrowers. The refinance must be based on the borrower’s ability to repay the debt and no special concessions of rate and/or term are granted to the borrower.

The following table is a summary of information pertaining to TDR loans included in impaired loans at the dates indicated:



	September 30, 2018		December 31, 2017
	(In thousands)
Total TDR loans	$	3,907	$	4,919
Allowance for loan losses related to TDR loans	44		182
Total nonaccrual TDR loans	84		393

The following table presents newly restructured and renewals or modifications of existing TDR loans by class that occurred during the three months ended September 30, 2018, by type of concession granted.



	Number of Contracts	Rate Modification		Term Modification		Combination Modification		Total Modifications
		(Dollars in thousands)
Pre-modification outstanding recorded investment
One- to four-family	1	$	—	$	—	$	49	$	49
	1	$	—	$	—	$	49	$	49
Post-modification outstanding recorded investment
One- to four-family	1	$	—	$	—	$	47	$	47
	1	$	—	$	—	$	47	$	47

The following table presents newly restructured and renewals or modifications of existing TDR loans by class that occurred during the nine months ended September 30, 2018, by type of concession granted.



	Number of Contracts	Rate Modification		Term Modification		Combination Modification		Total Modifications
		(Dollars in thousands)
Pre-modification outstanding recorded investment
One- to four-family	3	$	—	$	—	$	229	$	229
	3	$	—	$	—	$	229	$	229
Post-modification outstanding recorded investment
One- to four-family	3	$	—	$	—	$	260	$	260
	3	$	—	$	—	$	260	$	260

There were no TDR loans which incurred a payment default within 12 months of the restructure date during the three and nine months ended September 30, 2018.

There were no newly restructured and renewals or modifications of existing TDR loans by class that occurred during the three months ended September 30, 2017, by type of concession granted.

FIRST NORTHWEST BANCORP AND SUBSIDIARY

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

The following table presents newly restructured and renewals or modifications of existing TDR loans by class that occurred during the nine months ended September 30, 2017, by type of concession granted.



	Number of Contracts	Rate Modification		Term Modification		Combination Modification		Total Modifications
		(Dollars in thousands)
Pre-modification outstanding recorded investment
One- to four-family	3	$	95	$	89	$	244	$	428
Commercial real estate	1	—		—		134		134
	4	95		89		378		562
Post-modification outstanding recorded investment
One- to four-family	3	$	92	$	87	$	237	$	416
Commercial real estate	1	—		—		129		129
	4	$	92	$	87	$	366	$	545

The following is a summary of TDR loans which incurred a payment default within 12 months of the restructure date during the three and nine months ended September 30, 2017.



	Number of Contracts	Rate Modification		Term Modification		Combination Modification		Total Modifications
		(Dollars in thousands)
TDR loans that subsequently defaulted
One- to four-family	1	$	—	$	87	$	—	$	87

No additional funds were committed to be advanced in connection with impaired loans at September 30, 2018.

The following table presents TDR loans by class at the dates indicated by accrual and nonaccrual status.



	September 30, 2018						December 31, 2017
	Accrual		Nonaccrual		Total		Accrual		Nonaccrual		Total
	(In thousands)
One-to-four family	$	2,503	$	84	$	2,587	$	3,165	$	176	$	3,341
Multi-family	112		—		112		115		—		115
Commercial real estate	672		—		672		693		217		910
Home equity	261		—		261		270		—		270
Commercial business	275		—		275		283		—		283

Total TDR loans	$	3,823	$	84	$	3,907	$	4,526	$	393	$	4,919

FIRST NORTHWEST BANCORP AND SUBSIDIARY

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

Note 4 - Deposits

The aggregate amount of time deposits in excess of the Federal Deposit Insurance Corporation ("FDIC") insured limit, currently $250,000, at September 30, 2018 and December 31, 2017, was $101.7 million and $82.3 million, respectively. Deposits and weighted-average interest rates at the dates indicated are as follows:



	September 30, 2018			December 31, 2017
	Amount		Weighted-Average Interest Rate	Amount		Weighted-Average Interest Rate
	(Dollars in thousands)
Savings	$	125,418	0.52%	$	103,243	0.05%
Transaction accounts	269,211		0.05%	272,484		0.01%
Money market accounts	285,820		0.43%	270,052		0.33%
Certificates of deposit and jumbo certificates	251,156		1.70%	239,253		1.27%

	$	931,605	0.68%	$	885,032	0.45%

Maturities of certificates at the dates indicated are as follows:



	September 30, 2018		December 31, 2017
	(In thousands)
Within one year or less	$	153,915	$	139,613
After one year through two years	61,274		61,906
After two years through three years	23,338		20,732
After three years through four years	7,868		10,089
After four years through five years	4,756		6,886
After five years	5		27

	$	251,156	$	239,253

Deposits at September 30, 2018 and December 31, 2017, included $87.6 million and $56.2 million, respectively, in public fund deposits. Investment securities with a carrying value of $54.7 million and $41.0 million were pledged as collateral for these deposits at September 30, 2018 and December 31, 2017, respectively. This exceeds the minimum collateral requirements established by the Washington Public Deposit Protection Commission.

Interest on deposits by type for the periods shown was as follows:



	Three Months Ended				Nine Months Ended
	September 30,				September 30,
	2018		2017		2018		2017
	(In thousands)
Savings	$	104	$	15	$	148	$	38
Transaction accounts	25		4		38		13
Insured money market accounts	317		206		814		644
Certificates of deposit and jumbo certificates	1,052		686		2,608		1,732

	$	1,498	$	911	$	3,608	$	2,427

FIRST NORTHWEST BANCORP AND SUBSIDIARY

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

Note 5 - Federal Taxes on Income

Deferred tax assets and liabilities are recognized for the future tax consequences attributable to temporary differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax basis. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date. These calculations are based on many complex factors including estimates of the timing of reversals of temporary differences, the interpretation of federal income tax laws, and a determination of the differences between the tax and the financial reporting basis of assets and liabilities. Actual results could differ significantly from the estimates and interpretations used in determining the current and deferred income tax assets and liabilities.

Under current Federal income tax regulations, charitable contribution deductions are limited to 10% of taxable income. Due to this limitation, the Company currently has a valuation allowance of $1.2 million for financial statement reporting purposes related to its contribution to the Foundation. The contribution carryforward and related valuation allowance will expire in 2020. A valuation allowance is provided when it is more likely than not that some portion or all of the deferred tax assets will not be realized. The Company evaluates whether its deferred tax assets will be realized and adjusts the amount of its valuation allowance, if necessary.

Effective January 1, 2018, the corporate U.S. statutory federal income tax rate was reduced from 35% to 21% under the Tax Cuts and Jobs Act. The Company completed its accounting under ASC 740 in December 2017 for all material deferred tax assets and liabilities with provisional amounts recorded for immaterial items. No adjustments were made to provisional amounts during the nine months ended September 30, 2018, and none are anticipated during the one year SEC Staff Accounting Bulletin 118 measurement period.

The effective tax rates were 18.6% and 21.6% for the nine months ended September 30, 2018 and 2017, respectively. The effective tax rates differ from the statutory maximum federal tax rate for 2018 and 2017 of 21% and 35%, respectively, largely due to the nontaxable earnings on bank owned life insurance and tax-exempt interest income earned on certain investment securities and loans.

Note 6 - Earnings per Share

Basic earnings per share is computed by dividing income available to common shareholders by the weighted average number of common shares outstanding for the period. Diluted earnings per share reflect the potential dilution that could occur if securities or other contracts to issue common stock were exercised or converted into common stock or resulted in the issuance of common stock that then shared in the earnings of the entity. In addition, nonvested share-based payment awards that contain nonforfeitable rights to dividends or dividend equivalents are considered participating securities and are included in the computation of earnings per share.

FIRST NORTHWEST BANCORP AND SUBSIDIARY

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

The following table presents a reconciliation of the components used to compute basic and diluted earnings per share for the three and nine months ended September 30, 2018 and 2017.



	Three Months Ended				Nine Months Ended
	September 30,				September 30,
	2018		2017		2018		2017
	(In thousands, except share data)
Numerator:
Net income	$	1,926	$	1,773	$	4,975	$	5,052

Denominator:
Basic weighted average common shares outstanding	10,324,048		10,631,508		10,447,231		10,731,555
Dilutive restricted stock grants	72,640		70,753		48,884		72,876
Diluted weighted average common shares outstanding	10,396,688		10,702,261		10,496,115		10,804,431

Basic earnings per share	$	0.19	$	0.17	$	0.48	$	0.47

Diluted earnings per share	$	0.19	$	0.17	$	0.47	$	0.47

Unallocated ESOP shares are not included as outstanding for either basic or diluted earnings per share calculations. As of September 30, 2018 and 2017, there were 860,224 and 913,113 shares in the ESOP that remain unallocated, respectively.

Potential dilutive shares are excluded from the computation of EPS if their effect is anti-dilutive. Restricted stock award anti-dilutive shares of 916 and 2,718 at September 30, 2018 and 2017, respectively, were not included in the computation of diluted EPS.

Note 7 - Employee Benefits

Employee Stock Ownership Plan

In connection with the Conversion, the Company established an ESOP for eligible employees of the Company and the Bank. Employees of the Company and the Bank who have been credited with at least 1,000 hours of service during a 12-month period are eligible to participate in the ESOP.

Pursuant to the Plan, the ESOP purchased shares in the open market with funds borrowed from First Northwest. The Bank will make contributions to the ESOP in amounts necessary to amortize the ESOP loan payable to First Northwest over a period of 20 years, bearing estimated interest at 2.46%. The loan is secured by shares purchased with the loan proceeds and will be repaid by the ESOP with funds from the Bank's discretionary contributions to the ESOP and earnings on the ESOP assets. An annual principal and interest payment of $835,000 was made by the ESOP during the nine months ended September 30, 2018.

As shares are committed to be released from collateral, the Company reports compensation expense equal to the average daily market prices of the shares and the shares become outstanding for EPS computations. The compensation expense is accrued monthly throughout the year. Dividends on allocated ESOP shares are recorded as a reduction of retained earnings; dividends on unallocated ESOP shares are recorded as a reduction of debt and accrued interest.

Compensation expense related to the ESOP for the three months ended September 30, 2018 and 2017, was $214,000 and $210,000, respectively. For the nine months ended September 30, 2018 and 2017 compensation expense related to the ESOP was $651,000 and $605,000, respectively.

FIRST NORTHWEST BANCORP AND SUBSIDIARY

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

Shares issued to the ESOP as of the dates indicated are as follows:



	September 30, 2018		December 31, 2017
	(Dollars in thousands, except share data)
Allocated shares	174,584		121,695
Committed to be released shares	13,221		26,442
Unallocated shares	860,224		899,892

Total ESOP shares issued	1,048,029		1,048,029

Fair value of unallocated shares	$	13,247	$	14,668

Note 8 - Stock-based Compensation

On November 16, 2015, the Company's shareholders approved the First Northwest Bancorp 2015 Equity Incentive Plan (the "2015 EIP"), which provides for the grant of incentive stock options, non-qualified stock options, restricted stock and restricted stock units to eligible participants. The cost of awards under the 2015 EIP generally is based on the fair value of the awards on their grant date. The maximum number of shares that may be utilized for awards under the 2015 EIP is 1,834,050. The 2015 EIP provides for the use of authorized but unissued shares or shares that have been reacquired by First Northwest to fund share-based awards. At September 30, 2018, there were 1,361,550 total shares available for grant under the 2015 EIP, including 117,014 shares available to be granted as restricted stock.

During the three and nine months ended September 30, 2018, 20,000 shares of restricted stock were awarded and no stock options were granted. There were 50,000 shares of restricted stock awarded during the three and nine months ended September 30, 2017. Awarded shares of restricted stock vest over five years from the date of grant as long as the eligible participant remains in service to the Company. The Company recognizes compensation expense for the restricted stock awards based on the fair value of the shares at the award date.

For the three months ended September 30, 2018 and 2017, total compensation expense for the 2015 EIP was $256,000 and $321,000, respectively. For the nine months ended September 30, 2018 and 2017, total compensation expense for the 2015 EIP was $788,000 and $788,000, respectively.

Included in the above compensation expense for the three months ended September 30, 2018 and 2017, was directors' compensation of $86,000 and $98,000, respectively. For the nine months ended September 30, 2018 and 2017, directors' compensation was $256,000 and $292,000, respectively.

The following tables provide a summary of changes in non-vested restricted stock awards for the periods shown:



	For the Three Months Ended
	September 30, 2018
	Shares		Weighted-Average Grant Date Fair Value
Non-vested at July 1, 2018	342,600		$	13.14
Granted	20,000		16.16
Vested	(65,324	)	13.06
Canceled (1)	(18,076	)	13.06
Forfeited	(33,600	)	12.70

Non-vested at September 30, 2018	245,600		13.48

(1) A surrender of vested stock awards by a participant surrendering the number of shares valued at the current stock price at the vesting date to cover the total cost of the vested shares. The surrendered shares are canceled and are unavailable for reissue.

FIRST NORTHWEST BANCORP AND SUBSIDIARY

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)



	For the Nine Months Ended
	September 30, 2018
	Shares		Weighted-Average Grant Date Fair Value
Non-vested at January 1, 2018	347,600		$	13.18
Granted	20,000		16.16
Vested	(65,324	)	13.06
Canceled (1)	(18,076	)	13.06
Forfeited	(38,600	)	13.14

Non-vested at September 30, 2018	245,600		13.48

(1) A surrender of vested stock awards by a participant surrendering the number of shares valued at the current stock price at the vesting date to cover the total cost of the vested shares. The surrendered shares are canceled and are unavailable for reissue.

As of September 30, 2018, there was $3.1 million of total unrecognized compensation cost related to non-vested shares granted as restricted stock awards. The cost is expected to be recognized over the remaining weighted-average vesting period of approximately 3.14 years.

Note 9 - Fair Value Accounting and Measurement

Fair value is the price to sell an asset or transfer a liability in an orderly transaction between market participants in the Company’s principal market. The Company has established and documented its process for determining the fair values of its assets and liabilities, where applicable. Fair value is based on quoted market prices, when available, for identical or similar assets or liabilities. In the absence of quoted market prices, management determines the fair value of the Company’s assets and liabilities using valuation models or third-party pricing services, both of which rely on market-based parameters when available, such as interest rate yield curves, option volatilities and credit spreads, or unobservable inputs. Unobservable inputs may be based on management’s judgment, assumptions, and estimates related to credit quality, liquidity, interest rates, and other relevant inputs.

Any changes to valuation methodologies are reviewed by management to ensure they are relevant and justified. Valuation methodologies are refined as more market-based data becomes available.

A three-level valuation hierarchy is used in determining fair value that is based on the transparency of the inputs used in the valuation process. The inputs used in determining fair value in each of the three levels of the hierarchy are as follows:

Level 1 - Quoted prices (unadjusted) in active markets for identical assets or liabilities.

Level 2 - Either: (i) quoted prices for similar assets or liabilities; (ii) observable inputs, such as interest rates or yield curves; or (iii) inputs derived principally from or corroborated by observable market data.

Level 3 - Unobservable inputs.

The hierarchy gives the highest ranking to Level 1 inputs and the lowest ranking to Level 3 inputs. The level in the fair value hierarchy within which the fair value measurement in its entirety falls is determined based on the lowest level input that is significant to the overall fair value measurement.

Qualitative disclosures of valuation techniques - Securities available for sale: where quoted prices are available in an active market, securities are classified as Level 1. Level 1 instruments include highly liquid government bonds, securities issued by the U.S. Treasury, and exchange-traded equity securities.

FIRST NORTHWEST BANCORP AND SUBSIDIARY

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

If quoted prices are not available, management determines fair value using pricing models, quoted prices of similar securities, which are considered Level 2, or discounted cash flows. In certain cases, where there is limited activity in the market for a particular instrument, assumptions must be made to determine their fair value. Such instruments are classified as Level 3.

Assets and liabilities measured at fair value on a recurring basis - Assets and liabilities are considered to be fair valued on a recurring basis if fair value is measured regularly (i.e., daily, weekly, monthly, or quarterly). The following tables show the Company’s assets measured at fair value on a recurring basis at the dates indicated:



	September 30, 2018
	Quoted Prices in Active Markets for Identical Assets or Liabilities		Significant Other Observable Inputs		Significant Unobservable Inputs
	(Level 1)		(Level 2)		(Level 3)		Total
	(In thousands)
Securities available-for-sale
Municipal bonds	$	—	$	859	$	—	$	859
ABS agency	—		25,992		—		25,992
ABS corporate	—		37,468		—		37,468
Corporate debt	—		9,826		—		9,826
SBA	—		36,775		—		36,775
MBS agency	—		145,162		—		145,162
MBS corporate	—		11,023		—		11,023
	$	—	$	267,105	$	—	$	267,105



	December 31, 2017
	Quoted Prices in Active Markets for Identical Assets or Liabilities		Significant Other Observable Inputs		Significant Unobservable Inputs
	(Level 1)		(Level 2)		(Level 3)		Total
	(In thousands)
Securities available-for-sale
Municipal bonds	$	—	$	13,434	$	—	$	13,434
ABS agency	—		21,770		—		21,770
ABS corporate	—		22,768		—		22,768
Corporate debt	—		19,908		—		19,908
SBA	—		47,274		—		47,274
MBS agency	—		144,542		—		144,542
MBS corporate	—		20,546		—		20,546
	$	—	$	290,242	$	—	$	290,242

Assets and liabilities measured at fair value on a nonrecurring basis - Assets are considered to be fair valued on a nonrecurring basis if the fair value measurement of the instrument does not necessarily result in a change in the amount recorded on the consolidated balance sheets. Generally, nonrecurring valuation is the result of the application of other accounting pronouncements that require assets or liabilities to be assessed for impairment or recorded at the lower of cost or fair value.

FIRST NORTHWEST BANCORP AND SUBSIDIARY

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

The following tables present the Company’s assets measured at fair value on a nonrecurring basis at the dates indicated:



	September 30, 2018
	Level 1		Level 2		Level 3		Total
	(In thousands)
Impaired loans	$	—	$	—	$	7,594	$	7,594


	December 31, 2017
	Level 1		Level 2		Level 3		Total
	(In thousands)
Impaired loans	$	—	$	—	$	6,061	$	6,061

At September 30, 2018 and December 31, 2017, there were no impaired loans with discounts to appraisal disposition value or other unobservable inputs.

The following tables present the carrying value and estimated fair value of financial instruments at the dates indicated:



	September 30, 2018
	Carrying Amount		Estimated Fair Value		Fair Value Measurements Using:
	Carrying Amount		Estimated Fair Value		Level 1		Level 2		Level 3
	(In thousands)
Financial assets
Cash and cash equivalents	$	25,334	$	25,334	$	25,334	$	—	$	—
Investment securities available for sale	267,105		267,105		—		267,105		—
Investment securities held to maturity	43,908		42,864		—		42,864		—
Loans receivable, net	839,458		812,418		—		—		812,418
FHLB stock	6,326		6,326		—		6,326		—
Accrued interest receivable	3,914		3,914		—		3,914		—
Mortgage servicing rights, net	1,074		1,532		—		—		1,532

Financial liabilities
Demand deposits	$	680,449	$	680,449	$	680,449	$	—	$	—
Time deposits	251,156		248,645		—		248,645		—
Borrowings	121,526		122,085		—		122,085		—
Accrued interest payable	360		360		—		360		—

FIRST NORTHWEST BANCORP AND SUBSIDIARY

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)



	December 31, 2017
	Carrying Amount		Estimated Fair Value		Fair Value Measurements Using:
	Carrying Amount		Estimated Fair Value		Level 1		Level 2		Level 3
	(In thousands)
Financial assets
Cash and cash equivalents	$	36,801	$	36,801	$	36,801	$	—	$	—
Investment securities available for sale	290,242		290,242		—		290,242		—
Investment securities held to maturity	50,126		50,266		—		50,266		—
Loans held for sale	788		788		—		788		—
Loans receivable, net	779,111		768,181		—		—		768,181
FHLB stock	7,023		7,023		—		7,023		—
Accrued interest receivable	3,745		3,745		—		3,745		—
Mortgage servicing rights, net	1,095		1,669		—		—		1,669

Financial liabilities
Demand deposits	$	645,779	$	645,779	$	645,779	$	—	$	—
Time deposits	239,253		237,841		—		237,841		—
Borrowings	144,100		145,892		—		145,892		—
Accrued interest payable	325		325		—		325		—

Financial assets and liabilities other than investment securities are not traded in active markets. Estimated fair values require subjective judgments and are approximate. The estimates of fair value in the previous table are not necessarily representative of amounts that could be realized in actual market transactions, or of the underlying value of the Company. The methods and assumptions used by the Company in estimating fair values of financial instruments as set forth below in accordance with ASC Topic 825, Financial Instruments, as amended by ASU 2016-01 requiring public entities to use the exit price notion effective January 1, 2018, are as follows:

Financial instruments with a carrying amount 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 the carrying amount. These instruments include cash and due from banks, interest bearing 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 carrying amount.

Securities - Fair values for investment securities are primarily measured using information from a third-party pricing service. The pricing service uses pricing models based on market data. In the event that limited or less transparent information is provided by the third-party pricing service, fair value is estimated using secondary pricing services or non-binding third-party broker quotes.

Loans held for sale - The fair value of loans held for sale is based on quoted market prices from Federal Home Loan Mortgage Corporation ("Freddie Mac"), which are updated daily and represent prices at which loans are exchanged in high volumes and in a liquid market.

Loans receivable, net - At September 30, 2018, the fair value of loans and leases is estimated by discounting the future cash flows using the current rate at which similar loans and leases would be made to borrowers with similar credit and for the same remaining maturities. Additionally, to be consistent with the requirements under FASB ASC Topic 820 for Fair Value Measurements and Disclosures, the loans and leases were valued at a price that represents the Company’s exit price or the price at which these instruments would be sold or transferred.

FIRST NORTHWEST BANCORP AND SUBSIDIARY

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

At December 31, 2017, fair values were estimated for portfolios of loans with similar financial characteristics. Loans were segregated by type, including fixed and variable one- to four-family residential real estate, commercial, and consumer loans. There is an accurate and reliable secondary market for one- to four-family residential mortgage production, and available market benchmarks are used to establish discount factors for estimating fair value for these types of loans. Commercial and consumer loans use market benchmarks when available; however, due to the varied term structures and credit issues involved, they mainly rely on cash flow projections and repricing characteristics within the loan portfolio. These amounts are discounted further by embedded probable losses expected to be realized in the portfolio.

Mortgage servicing rights, net - The estimated fair value of mortgage servicing rights is based on market prices for comparable mortgage servicing contracts, when available, or alternatively, is based on a valuation model that calculates the present value of estimated future net servicing income.

Deposits - The fair value of deposits with no stated maturity, such as non-interest bearing deposits, savings and interest checking accounts, and money market accounts, is equal to the amount payable on demand as of September 30, 2018 and December 31, 2017. The fair value of certificates of deposit is based on the discounted value of contractual cash flows. The discount rate is estimated using the rates currently offered for deposits of similar remaining maturities.

Borrowings - The fair value of FHLB advances and other borrowings are calculated using a discounted cash flow method, adjusted for market interest rates and terms to maturity.

Off-balance-sheet financial instruments - Commitments to extend credit represent all off-balance-sheet financial instruments. The fair value of these commitments is not significant.

Note 10 - Noninterest Income

On January 1, 2018, the Company adopted the amendments of ASU 2014-09 Revenue from Contracts with Customers (Topic 606) and all subsequent ASUs that modified Topic 606. The Company has included the following table regarding the Company’s noninterest income for the periods presented.



	Three Months Ended September 30,						Nine Months Ended September 30,
	2018			2017			2018		2017
	(In thousands)
Noninterest income:
Loan fees (1)	$	223		$	174		$	480	$	344
Deposit fees	433			399			1,194		1,219
Debit interchange income	33			39			102		117
Credit card interchange income	456			415			1,309		1,169
Investment securities gain (loss), net (1)	(58		)	136			77		136
Gain on loan sales, net (1)	139			377			456		705
Increase in cash surrender value of BOLI (1)	150			158			448		495
Income from BOLI payout (1)	—			—			—		768
Other income:
Investment services revenue	20			43			177		221
Gain or loss on subsidiary (1)	18			(91		)	50		(131		)
Remaining other income	6			48			14		55
Total other income	44			—			241		145

Total noninterest income	$	1,420		$	1,698		$	4,307	$	5,098

(1) Not within scope of Topic 606

FIRST NORTHWEST BANCORP AND SUBSIDIARY

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

The Company recognizes revenue as it is earned and noted no impact to its revenue recognition policies as a result of the adoption of ASU 2014-09. The following is a discussion of key revenues within the scope of the new revenue guidance.

Deposit fees - The Company earns fees from its deposit customers for account maintenance, transaction-based activity and overdraft services. Account maintenance fees consist primarily of account fees and analyzed account fees charged on deposit accounts on a monthly basis. The performance obligation is satisfied and the fees are recognized on a monthly basis as the service period is completed. Transaction-based fees on deposit accounts are charged to deposit customers for specific services provided to the customer, such as non-sufficient funds fees, overdraft fees, and wire fees. The performance obligation is completed as the transaction occurs and the fees are recognized at the time each specific service is provided to the customer.

Debit interchange income - Debit and Automated Teller Machine ("ATM") interchange income represent fees earned when a debit card issued by the Company is used. The Company earns interchange fees from debit cardholder transactions through card networks. In addition, the Company earns interchange fees for use of its ATM by customers of other banking institutions. Interchange fees are based on purchase volumes and other factors and are recognized as transactions occur. The performance obligation is satisfied and the fees are earned when the cost of the transaction is charged to the cardholder's debit card. Certain expenses directly associated with the credit and debit card are netted against interchange income.

Credit card interchange income- Credit card interchange income represents fees earned when a credit card issued by the Bank through a third-party vendor is used. Similar to the debit card interchange, the Bank earns an interchange fee for each transaction made with a Bank-branded credit card. The performance obligation is satisfied and the fees are earned when the cost of the transaction is charged to the cardholder's credit card. Certain expenses directly related to the credit card interchange contract are netted against interchange income.

Investment services revenue - Commissions received on the sale of investment related products is determined by a percentage of underlying instruments sold and is recognized when the sale is finalized.

Gains/losses on the sale of other real estate owned are included in non-interest expense and are generally recognized when the performance obligation is complete. This is typically at delivery of control over the property to the buyer at time of each real estate closing.

Note 11 - Subsequent Event

On October 24, 2018, the Company declared a quarterly cash dividend of $0.03 per common share, payable December 14, 2018 to shareholders of record at the close of business November 30, 2018.

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. Forward-looking statements are not statements of historical fact, are based on certain assumptions and are generally identified by the use of words such as “believes,” “expects,” “anticipates,” “estimates” or similar expressions. Forward‑looking statements include, but are not limited to:


•	statements of our goals, intentions and expectations;


•	statements regarding our business plans, prospects, growth and operating strategies;


•	statements regarding the quality of our loan and investment portfolios; and


•	estimates of our risks and future costs and benefits.

These forward‑looking statements are subject to significant risks and uncertainties. Actual results may differ materially from those contemplated by the forward‑looking statements due to, among others, the following factors:


•	changes in general economic conditions, either nationally or in our market area, that are worse than expected;


•	the credit risks of our lending activities, including changes in the level and trend of loan delinquencies and write-offs and changes in our allowance for loan losses and provision for loan losses that may be impacted by deterioration in the housing and commercial real estate markets;


•	fluctuations in the demand for loans, the number of unsold homes, land and other properties and fluctuations in real estate values in our market area;


•	a decrease in the secondary market demand for loans that we originate for sale;


•	management’s assumptions in determining the adequacy of the allowance for loan losses;


•	our ability to control operating costs and expenses;


•	whether our management team can implement our operational strategy, including but not limited to our loan growth;


•	our ability to successfully integrate any newly acquired assets, liabilities, customers, systems, and management personnel into our operations and our ability to realize related revenue synergies and cost savings within expected time frames and any goodwill charges related thereto;


•	our success in opening new branches and home lending centers;


•	staffing needs and associated expenses in response to product demand or the implementation of corporate strategies;


•	increases in premiums for deposit insurance;


•	the use of estimates in determining fair value of certain of our assets, which estimates may prove to be incorrect and result in significant declines in valuation;


•	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;


•	increased competitive pressures among financial services companies;


•	our ability to attract and retain deposits;


•	our ability to retain key members of our senior management team;


•	changes in consumer spending, borrowing and savings habits;


•	our ability to successfully manage our growth in compliance with regulatory requirements;


•	results of examinations of us by the Washington State Department of Financial Institutions, Department of Banks, the Federal Deposit Insurance Corporation, the Federal Reserve Bank of San Francisco, or other regulatory authorities, which could result in restrictions that may adversely affect our liquidity and earnings;


•	legislative or regulatory changes that adversely affect our business;


•	adverse changes in the securities markets;


•	changes in accounting policies and practices, as may be adopted by the financial institutions regulatory agencies, the Public Company Accounting Oversight Board or the Financial Accounting Standards Board;


•	costs and effects of litigation, including settlements and judgments;


•	disruptions, security breaches, or other adverse events, failures or interruptions in, or attacks on, our information technology systems or on the third-party vendors who perform several of our critical processing functions;


•	inability of key third-party vendors to perform their obligations to us; and


•	other economic, competitive, governmental, regulatory and technical factors affecting our operations, pricing, products and services and other risks described elsewhere in our filings with the Securities and Exchange Commission, including this Form 10-Q.

These developments could have an adverse impact on our financial position and our results of operations.

Any of the forward looking statements that we make in this report and in other public statements we make may turn out to be wrong because of inaccurate assumptions we might make, because of the factors illustrated above or because of other factors that we cannot foresee. Any forward-looking statements are based upon management’s beliefs and assumptions at the time they are made. We undertake no obligation to publicly update or revise any forward-looking statements included or incorporated by reference in this document or to update the reasons why actual results could differ from those contained in such statements, whether as a result of new information, future events or otherwise. In light of these risks, uncertainties and assumptions, the forward-looking statements discussed in this report might not occur, and you should not put undue reliance on any forward-looking statements.

General

First Northwest Bancorp (or the "Company") is a bank holding company which primarily engages in the business activity of its subsidiary, First Federal Savings and Loan Association of Port Angeles ("First Federal" or the "Bank"). First Federal is a community-oriented financial institution serving Western Washington State. Our thirteen banking locations include ten full-service banking offices, two banking locations primarily serving our customers through the use of Interactive Teller Machines ("ITM"), and a Home Lending Center ("HLC"), which is focused on the origination of loans secured by one- to four-family residential properties. We have five branch offices and two ITM locations in Clallam County, two branch offices in Kitsap County, two branch offices in Whatcom County, a branch office in Jefferson County, and our HLC is located in Seattle, in King County. Our business and operating strategy is focused on diversifying our loan portfolio through geographic expansion and loan product mix, expanding our deposit product offerings by upgrading existing services and increasing our use of technology, and enhancing our infrastructure to support our changing lending and deposit capabilities in order to position ourselves for growth.

We offer a wide range of products and services focused on the lending and depository needs of the communities we serve. While we have a large concentration of first lien one- to four-family mortgage loans, we have increased our origination of commercial real estate, multi-family real estate, and construction loans, as well as engaging in indirect auto lending and auto loan purchase programs, in order to diversify our portfolio and increase

interest income. We continue to originate one- to four-family residential mortgage loans and may sell conforming loans into the secondary market to increase noninterest income and improve our interest rate risk, or we may retain select loans in our portfolio to enhance interest income. We offer traditional consumer and business deposit products, including transaction accounts, savings and money market accounts and certificates of deposit for individuals, businesses and nonprofit organizations. Deposits are our primary source of funds for our lending and investing activities.

First Federal is significantly affected by prevailing economic conditions as well as government policies and regulations concerning, among other things, monetary and fiscal affairs, housing and financial institutions. Deposit flows are influenced by a number of factors, including interest rates paid on competing time deposits, available alternative investments, account maturities, and the overall level of personal income and savings. Lending activities are influenced by the demand for funds, the number and quality of lenders, and regional economic cycles.

Our primary source of pre-tax income is net interest income. Net interest income is the difference between interest earned on our loans and investments and interest expense paid on our deposits and borrowings. Changes in levels of interest rates affect our net interest income. A secondary source of income is noninterest income, which includes revenue we receive from providing products and services, including service charges on deposit accounts, mortgage banking income, earnings from bank-owned life insurance, and gains and losses from sales of securities.

An offset to net interest income is the provision for loan losses, which represents the periodic charge to operations which is required to adequately provide for probable losses inherent in our loan portfolio. As a loan's risk rating improves, property values increase, or recoveries of amounts previously charged off are received, a recapture of previously recognized provision for loan losses may be added to net interest income.

The noninterest expenses we incur in operating our business consist of salaries and employee benefits and expenses, occupancy and equipment expenses, federal deposit insurance premiums and regulatory assessments, data processing expenses, expenses related to real estate and personal property owned and other miscellaneous expenses.

Critical Accounting Policies

There are no material changes to the critical accounting policies as disclosed in the Company's Annual Report on Form 10-KT for the six months ended December 31, 2017.

Comparison of Financial Condition at September 30, 2018 and December 31, 2017

Assets. Total assets increased $22.1 million, or 1.8%, to $1.24 billion at September 30, 2018, from $1.22 billion at December 31, 2017, primarily due to loan growth partially offset by sales and repayment activity of investment securities.

Total loans, excluding loans held for sale, increased $59.7 million to $845.8 million at September 30, 2018, from $786.1 million at December 31, 2017, a result of new loan originations partially offset by loan sales coupled with normal amortization and prepayment activity. Commercial real estate, auto and other consumer, and multi-family loans increased $36.5 million, $41.9 million, and $11.5 million, respectively, while one- to four-family residential and construction and land loans decreased $18.7 million and $11.9 million, respectively. We continue to grow the auto loan portfolio through our indirect lending and specialty auto loan purchasing programs, adding $47.9 million of newly originated auto loans during the year, which was the main contributor to the increase in auto and other consumer loans.

Construction and land loans decreased 16.7% to $59.2 million at September 30, 2018, from $71.1 million at December 31, 2017, of which $20.2 million converted to amortizing loans. We continue to focus on construction loan origination activity during the year. The majority of our construction loans are geographically disbursed throughout the Puget Sound region and, as a result, these loans are susceptible to risks that may be different depending on the location of the project. We manage all of our construction lending by utilizing a licensed third party vendor to assist us in monitoring our construction projects.

The following tables show our construction commitments by type and geographic concentrations at the dates indicated:



September 30, 2018		North Olympic Peninsula ⁽¹⁾		Puget Sound Region ⁽²⁾		Other Washington		Total
		(In thousands)
Construction Commitment
	One- to four-family residential	$	16,846	$	17,117	$	—	$	33,963
	Multi-family residential	—		51,418		—		51,418
	Commercial real estate	2,140		25,004		769		27,913
	Total commitment	$	18,986	$	93,539	$	769	$	113,294

Construction Funds Disbursed
	One- to four-family residential	$	7,140	$	9,455	$	—	$	16,595
	Multi-family residential	—		18,572		—		18,572
	Commercial real estate	1,763		12,474		769		15,006
	Total disbursed	$	8,903	$	40,501	$	769	$	50,173

Undisbursed Commitment
	One- to four-family residential	$	9,706	$	7,662	$	—	$	17,368
	Multi-family residential	—		32,846		—		32,846
	Commercial real estate	377		12,530		—		12,907
	Total undisbursed	$	10,083	$	53,038	$	—	$	63,121

Land Funds Disbursed
	One- to four-family residential	$	6,389	$	2,377	$	—	$	8,766
	Commercial real estate	—		280		—		280
	Total disbursed for land	$	6,389	$	2,657	$	—	$	9,046

(1) Includes Clallam and Jefferson counties.
(2) Includes Kitsap, Mason, Thurston, Pierce, King, Snohomish, Skagit, Whatcom, and Island counties.



December 31, 2017		North Olympic Peninsula		Puget Sound Region		Other Washington		Total
		(In thousands)
Construction Commitment
	One- to four-family residential	$	11,570	$	14,824	$	—	$	26,394
	Multi-family residential	—		61,939		—		61,939
	Commercial real estate	975		14,837		9,811		25,623
	Total Commitment	$	12,545	$	91,600	$	9,811	$	113,956

Construction Funds Disbursed
	One- to four-family residential	$	3,711	$	5,849	$	—	$	9,560
	Multi-family residential	—		22,256		—		22,256
	Commercial real estate	594		12,343		9,811		22,748
	Total disbursed	$	4,305	$	40,448	$	9,811	$	54,564

Undisbursed Commitment
	One- to four-family residential	$	7,859	$	8,975	$	—	$	16,834
	Multi-family residential	—		39,683		—		39,683
	Commercial real estate	381		2,494		—		2,875
	Total undisbursed	$	8,240	$	51,152	$	—	$	59,392

Land Funds Disbursed
	One- to four-family residential	$	6,606	$	1,242	$	—	$	7,848
	Commercial real estate	—		8,733		—		8,733
	Total disbursed for land	$	6,606	$	9,975	$	—	$	16,581

During the nine months ended September 30, 2018, the Company originated $213.2 million of loans, of which $142.5 million, or 66.9%, were originated in the Puget Sound region of Washington, $67.6 million, or 31.7%, in the North Olympic Peninsula, and $3.1 million, or 1.4%, in other areas in Washington.

Our allowance for loan losses increased $575,000, or 6.6%, to $9.3 million at September 30, 2018, from $8.8 million at December 31, 2017. The allowance for loan losses as a percentage of total loans remained at 1.1% at both September 30, 2018, and December 31, 2017.

Nonperforming loans increased $938,000, or 61.1%, to $2.5 million at September 30, 2018, from $1.5 million at December 31, 2017, mainly attributable to a commercial business loan of $563,000 and one- to four-family loans of $494,000. Nonperforming loans to total loans increased to 0.3% at September 30, 2018, from 0.2% at December 31, 2017, and the allowance for loan losses as a percentage of nonperforming loans decreased to 377.5% at September 30, 2018, from 570.7% at December 31, 2017. Classified loans decreased $3.0 million to $3.7 million at September 30, 2018, from $6.7 million at December 31, 2017.

At September 30, 2018, there were $3.9 million in restructured loans, of which $3.8 million were performing in accordance with their modified payment terms and returned to accrual status.

Our allowance for loan losses as a percentage of total loans was 1.1% at both September 30, 2018 and December 31, 2017. Provision for loan losses was taken during the year to provide for specific reserves related to nonperforming loans as well as loan growth during the year. Also during the year, management changed a qualitative factor in its allowance for loan loss calculations which resulted in the application of unallocated reserves to individual loan categories, providing for a more precise allocation of the general reserves for loan losses. There was no material change in our allowance for loan losses as a percentage of total loans during the year due to continued overall strong asset quality and minimal net loan charge-offs. Fluctuations in the balance of nonperforming assets and other credit quality measures are expected as we increase the balance of our loan portfolio. We believe that changes in our credit metrics over the past year were normal fluctuations and not an indication of declining credit quality in our loan portfolio as a whole

and that our allowance for loan losses was adequate to absorb the known and inherent risks of loss in the loan portfolio as of September 30, 2018.

Loans receivable, excluding loans held for sale, consisted of the following at the dates indicated:



	September 30, 2018			December 31, 2017
	(In thousands)
Real Estate:
One-to-four family	$	336,739		$	355,391
Multi-family	85,229			73,767
Commercial real estate	239,431			202,956
Construction and land	59,219			71,145
Total real estate loans	720,618			703,259

Consumer:
Home equity	38,744			38,473
Auto and other consumer	70,003			28,106
Total consumer loans	108,747			66,579

Commercial business loans	16,432			16,303

Total loans	845,797			786,141
Less:
Net deferred loan fees	(821		)	724
Premium on purchased loans, net	(2,175		)	(2,454		)
Allowance for loan losses	9,335			8,760
Loans receivable, net	$	839,458		$	779,111

The following table represents nonperforming assets at the dates indicated.



	September 30, 2018			December 31, 2017
	(In thousands)
Nonperforming loans:
Real estate loans:
One- to four-family	$	1,175		$	681
Commercial real estate	143			378
Construction and land	117			52

Total real estate loans	1,435			1,111

Consumer loans:
Home equity	344			365
Other	131			59

Total consumer loans	475			424

Commercial business	563			—

Total nonperforming loans	2,473			1,535

Repossessed assets	63			23

Total nonperforming assets	$	2,536		$	1,558

Nonaccrual and 90 days or more past due loans as a percentage of total loans	0.3		%	0.2		%

Total investment securities decreased $29.4 million, or 8.6%, to $311.0 million at September 30, 2018, from $340.4 million at December 31, 2017. During the year, we sold approximately $59.3 million and purchased $62.8 million of both variable and fixed rate securities to take advantage of market opportunities to improve yields and manage interest rate risk and liquidity positions. Investment securities sales included $2.7 million of held to maturity investments that had substantially reached maturity, allowing us to sell certain securities without tainting the remaining held to maturity securities portfolio and avoid any negative market value adjustments through other comprehensive income. Investment securities comprised 25.1% of total assets at September 30, 2018, and we will continue to evaluate investment opportunities that would allow us to prudently leverage capital and improve earnings while also continuing to focus on growing our loan portfolio and improving our earning asset mix over the long term. The average repricing term of our investment securities portfolio was estimated at 4.0 years at both September 30, 2018 and December 31, 2017, based on the interest rate environment at those times.

Mortgage-backed securities represent the largest portion of our investment securities portfolio and totaled $187.8 million at September 30, 2018, a decrease during the quarter of $13.1 million, or 6.5%, from $200.9 million at December 31, 2017. Other investment securities, including municipal bonds and other asset-backed securities, were $123.3 million at September 30, 2018, a decrease of $16.3 million from $139.5 million at December 31, 2017. The investment portfolio, including mortgage-backed securities, had an estimated projected average life of 5.4 years as of September 30, 2018, and 5.3 years as of December 31, 2017, based on the interest rate environment at those times. The investment portfolio contains 91.5% of amortizing securities compared to 85.0% at December 31, 2017, and the projected average life of our securities may vary due to prepayment activity, which, particularly in the mortgage-backed securities portfolio, is generally affected by changing interest rates. Management continues to focus on improving the mix of earning assets by originating loans and decreasing securities as a percentage of earning assets; however, we may purchase investment securities as a source of additional interest income and also in lieu of carrying higher cash balances at nominal interest rates. For additional information, see Note 2 of the Notes to Consolidated Financial Statements contained in Item 1 of this Form 10-Q.

Liabilities. Total liabilities decreased $27.3 million, or 2.6%, to $1.07 billion at September 30, 2018, from $1.04 billion at December 31, 2017, primarily the result of a decrease in FHLB borrowings. FHLB borrowings decreased $22.6 million, or 15.7%, to $121.5 million at September 30, 2018, from $144.1 million at December 31, 2017. During the year, we had a net decrease in FHLB short-term advances of $69.1 million and utilized additional FHLB overnight borrowings of $46.5 million. We continue to utilize both FHLB short-term advances and FHLB overnight borrowings to manage our daily cash flow needs and manage liquidity.

Deposit balances increased $46.6 million, or 5.3%, to $931.6 million at September 30, 2018, from $885.0 million at December 31, 2017, which was due to an increases in business accounts of $36.7 million and personal accounts of $9.9 million. A $3.3 million decrease in transaction accounts was partially offset by increases of $15.8 million in money market accounts, $22.2 million in savings accounts, and $11.9 million in certificates of deposit. Total transaction, savings, and money market account deposits increased $34.7 million, or 5.4%, to $680.4 million at September 30, 2018, from $645.8 million at December 31, 2017. We compete with other financial institutions and financial intermediaries in attracting deposits in our market areas. We believe strong competition for deposits will continue, especially given the increase in interest rates driving customers to seek higher-yielding deposit accounts. We strive to develop innovative product and pricing combinations to attract and retain deposits during the current rising rate environment, understanding that we have a valuable core deposit base helping to keep our costs lower than some of our peers.

Equity. Total shareholders' equity decreased $5.1 million, or 2.9%, to $171.9 million at September 30, 2018, mainly the result of a $4.3 million decrease in value of our available for sale securities portfolio resulting in additional unrealized losses and decreases in additional paid-in capital of $6.9 million from the repurchase of shares of common stock, partially offset by net income of $5.0 million. During the nine months ended September 30, 2018, we repurchased 423,213 shares of common stock at an average cost of $16.37 per share, or $6.9 million, pursuant to the Company's stock repurchase plan.

Comparison of Results of Operations for the Three Months Ended September 30, 2018 and 2017

General. Net income increased $153,000, or 8.6%, to $1.9 million for the three months ended September 30, 2018, compared to net income of $1.8 million for the three months ended September 30, 2017. The increase in net income was primarily due to an increase in net interest income partially offset by increases in noninterest expense and the provision for loan losses.

Net Interest Income. Net interest income increased $802,000 to $9.3 million for the three months ended September 30, 2018, from $8.5 million for the three months ended September 30, 2017, mainly as the result of an increase in interest income related to an increase in the average balance of loans receivable during the three months ended September 30, 2018, offset by a decrease in the average balance of investment securities. The yield on average interest-earning assets increased 26 basis points to 4.05% for the three months ended September 30, 2018, compared to 3.79% for the same period in the prior year, due primarily to the increase in the average balance of loans receivable earning higher yields than other interest-bearing assets and improving the margin over interest-bearing liabilities.

The net interest margin increased five basis points to 3.25% for the three months ended September 30, 2018, from 3.20% for the same period in 2017. The net interest margin increased primarily due to an increase in the average income on interest-earning assets.

The $802,000 increase in net interest income during the three months ended September 30, 2018, compared to the three months ended September 30, 2017, was due to a combination of an increase of $833,000 as a result of an increase in volume, and a decrease of $31,000 due to changes in rates. The increase in loans receivable was the main contributor to the increase in net interest income with $1.1 million due to an increase in average volumes and $248,000 due to increases in rates.

The average cost of interest-bearing liabilities increased to 1.05% for the three months ended September 30, 2018, compared to 0.79% for the same period last year, due primarily to increases in the average balance and cost of certificates of deposit and an increase in the average balance of borrowings.

Interest Income. Total interest income increased $1.5 million, or 15.1%, to $11.6 million for the three months ended September 30, 2018, from $10.0 million for the comparable period in 2017, primarily due to an increase in the average balance of and yields earned on loans receivable. Interest and fees on loans receivable increased $1.3 million, to $9.3 million for the three months ended September 30, 2018, from $7.9 million for the three months ended September 30, 2017, due primarily to an increase in the average balance of net loans receivable of $99.0 million compared to the prior year. Average loan yields increased 12 basis points to 4.48% for the three months ended September 30, 2018 compared to the three months ended September 30, 2017, as we continued to increase our balance of higher yielding loans, such as commercial real estate and multi-family loans as well as an increase in consumer lending as a result of our indirect and purchased auto loan programs. We also benefited from increases in short-term interest rates on our adjustable rate loans, such as construction, commercial business, and home equity lines of credit.

Interest income on investment securities increased $187,000, or 24.4% to $952,000 for the three months ended September 30, 2018, compared to $765,000 for the three months ended September 30, 2017, due to an $11.2 million increase in the average balance and a 36 basis points increase in the average yield during the quarter, compared to the same period in 2017. The change in average yields on investment securities does not include the benefit of nontaxable income from municipal bonds. Interest income on mortgage-backed and related securities for the three months ended September 30, 2018 decreased $84,000 compared to the three months ended September 30, 2017, reflecting an increase in yield of 21 basis points that was offset by a $28.9 million decrease in the average balance.

The following table compares average earning asset balances, associated yields, and resulting changes in interest income for the periods shown:



	Three Months Ended September 30,
	2018				2017				Increase (Decrease) in Interest Income
	Average Balance Outstanding		Yield		Average Balance Outstanding		Yield		Increase (Decrease) in Interest Income
	(Dollars in thousands)
Loans receivable, net	$	826,880	4.48	%	$	727,879	4.36	%	$	1,329
Investment securities	120,575		3.16		109,420		2.80		187
Mortgage-backed securities	176,997		2.70		205,941		2.49		(84		)
FHLB stock	5,776		6.93		5,324		2.70		64
Interest-bearing deposits in banks	9,765		2.05		10,104		1.35		16
Total interest-earning assets	$	1,139,993	4.05		$	1,058,668	3.79		$	1,512

Interest Expense. Total interest expense increased $710,000, or 44.9%, to $2.3 million for the three months ended September 30, 2018, compared to $1.6 million for the three months ended September 30, 2017, due to an increase in deposit costs of $587,000, or 64.4%, and an increase in borrowing costs of $123,000, or 18.4%. Deposit costs increased for the three months ended September 30, 2018, due to increasing interest rates and customers transferring deposits into higher-yielding accounts. The average balance of interest-bearing deposits increased $66.7 million, or 9.6%, to $765.2 million for the three months ended September 30, 2018, from $698.4 million for the three months ended September 30, 2017, as we continued to target growth in deposits in new and existing market areas. During the three months ended September 30, 2018, the cost of certificates of deposit increased due to an increase in average balance of $29.2 million and an increase in the average rate paid of 44 basis points, compared to the three months ended September 30, 2017. During the three months ended September 30, 2018, there were increases in the average balance of savings accounts of $15.3 million and money market accounts of $22.4 million compared to the same period in the prior year. The average cost of all deposit products increased to 0.78% for the three months ended September 30, 2018, from 0.52% for the three months ended September 30, 2017, as we paid higher rates to attract new and retain existing deposit balances and customer relationships during the quarter. Borrowing costs increased due primarily to an increase in the average balance of borrowings of $6.2 million, or 6.1%, and an increase in the average rate paid of 30 basis points as we utilized short-term FHLB advances to fund our operations and purchase additional interest-earning assets.

The following table details average balances, cost of funds and the change in interest expense for the periods shown:



	Three Months Ended September 30,
	2018				2017				Increase (Decrease) in Interest Expense
	Average Balance Outstanding		Rate		Average Balance Outstanding		Rate		Increase (Decrease) in Interest Expense
	(Dollars in thousands)
Savings accounts	$	115,973	0.36	%	$	100,718	0.06	%	$	89
Transaction accounts	111,506		0.09		111,675		0.01		21
Money market accounts	285,214		0.44		262,779		0.31		111
Certificates of deposit	252,462		1.67		223,253		1.23		366
Borrowings	107,681		2.94		101,476		2.64		123
Total interest-bearing liabilities	$	872,836	1.05		$	799,901	0.79		$	710

Provision for Loan Losses. The provision for loan losses was $197,000 during the three months ended September 30, 2018, compared to no provision expense for the three months ended September 30, 2017, and was primarily due to an increase in the balance of net loans receivable.

The following table details activity and information related to the allowance for loan losses for the periods shown:



	Three Months Ended September 30,
	2018			2017
	(Dollars in thousands)
Provision for loan losses	$	197		$	—
Net (recoveries) charge-offs	(144		)	85
Allowance for loan losses	9,335			8,608
Allowance for losses as a percentage of total gross loans receivable at the end of this period	1.1		%	1.2		%
Total nonaccruing loans	2,473			1,794
Allowance for loan losses as a percentage of nonaccrual loans at end of period	377.5		%	479.8		%
Nonaccrual and 90 days or more past due loans as a percentage of total loans	0.3		%	0.2		%
Total loans	$	845,797		$	734,235

Noninterest Income. Noninterest income decreased $278,000, or 16.4%, to $1.4 million for the three months ended September 30, 2018, from $1.7 million for the three months ended September 30, 2017, primarily due to decreases in the net gain on sales of loans, sales of investment securities, and, mortgaging servicing fees, net of amortization, partially offset by increases in loan and deposit service fees during the three months ended September 30, 2017.

The following table provides a detailed analysis of the changes in the components of noninterest income for the periods shown:



	Three Months Ended September 30,					Increase (Decrease)
	2018			2017		Amount			Percent
	(Dollars in thousands)
Loan and deposit service fees	$	1,122		$	913	$	209		22.9	%
Mortgage servicing fees, net of amortization	23			114		(91		)	(79.8	)
Net gain on sale of loans	139			377		(238		)	(63.1	)
Net (loss) gain on sale of investment securities	(58		)	136		(194		)	(142.6	)
Increase in cash surrender value of bank-owned life insurance	150			158		(8		)	(5.1	)
Other income	44			—		44			100.0
Total noninterest income	$	1,420		$	1,698	$	(278	)	(16.4	)%

Noninterest Expense. Noninterest expense increased $312,000, or 4.0%, to $8.1 million for the three months ended September 30, 2018, compared to $7.8 million for the three months ended September 30, 2017, primarily as a result of increases in compensation and benefits, occupancy and equipment, and data processing, partially offset by a decrease in professional fees. We expect increased noninterest expenses as we continue to grow and expand into new markets.

The following table provides an analysis of the changes in the components of noninterest expense for the periods shown:



	Three Months Ended September 30,				Increase (Decrease)
	2018		2017		Amount			Percent
	(Dollars in thousands)
Compensation and benefits	$	4,740	$	4,466	$	274		6.1	%
Real estate owned and repossessed assets expense (income), net	14		8		6			75.0
Data processing	676		604		72			11.9
Occupancy and equipment	1,119		1,022		97			9.5
Supplies, postage, and telephone	211		211		—			—
Regulatory assessments and state taxes	172		128		44			34.4
Advertising	185		142		43			30.3
Professional fees	319		466		(147		)	(31.5	)
FDIC insurance premium	76		69		7			10.1
Other	607		691		(84		)	(12.2	)
Total	$	8,119	$	7,807	$	312		4.0	%

Provision for Income Tax. An income tax expense of $443,000 was recorded for the three months ended September 30, 2018, compared to $581,000 for the three months ended September 30, 2017, the decrease was the result of a reduction in the tax rate as a result of the passage of U.S. Tax Cuts and Jobs Act of 2017. For additional information, see Note 5 of the Notes to Consolidated Financial Statements contained in Item 1 of this Form 10-Q.

Comparison of Results of Operations for the Nine Months Ended September 30, 2018 and 2017

General. Net income decreased $77,000, or 1.5%, to $5.0 million for the nine months ended September 30, 2018, compared to net income of $5.1 million for the nine months ended September 30, 2017. The decrease in net income was primarily due to an increase in noninterest expense coupled with a decrease in noninterest income and an increase in the provision loan losses, partially offset by an increase net interest income and a decrease in the provision for income taxes.

Net Interest Income. Net interest income increased $2.3 million to $27.4 million for the nine months ended September 30, 2018, from $25.1 million for the nine months ended September 30, 2017, mainly as the result of an increase in interest income related to an increase in the average balance of loans receivable during the nine months ended September 30, 2018, supplemented by an increase in the average balance of investment securities. The yield on average interest-earning assets increased 15 basis points to 3.94% for the nine months ended September 30, 2018, compared to 3.79% for the same period in the prior year, due primarily to the increase in the average balance of loans receivable.

The net interest margin decreased three basis points to 3.21% for the nine months ended September 30, 2018, from 3.24% for the same period in 2017. The net interest margin decreased primarily due to an increase in the average cost of interest bearing-liabilities.

Of the $2.3 million increase in net interest income during the nine months ended September 30, 2018, compared to the nine months ended September 30, 2017, $2.1 million was the result of an increase in volume, and $177,000 was due to changes in rates. The increase in loans receivable was the main contributor to the increase in net interest income with $3.0 million due to an increase in average volumes and $541,000 due to increases in rates.

The average cost of interest-bearing liabilities increased to 0.95% for the nine months ended September 30, 2018, compared to 0.74% for the same period last year, due primarily to increases in the average balance and cost of certificates of deposit and an increase in the average balance of borrowings.

Interest Income. Total interest income increased $4.3 million, or 14.6%, to $33.7 million for the nine months ended September 30, 2018, from $29.4 million for the comparable period in 2017, primarily due to an

increase in the average balance of and yields earned on loans receivable. Interest and fees on loans receivable increased $3.5 million, to $26.8 million for the nine months ended September 30, 2018, from $23.3 million for the nine months ended September 30, 2017, due primarily to an increase in the average balance of net loans receivable of $91.3 million compared to the prior year. Average loan yields increased nine basis points to 4.42% for the nine months ended September 30, 2018 compared to the nine months ended September 30, 2017, as we continued to increase our balance of higher yielding loans, such as auto, commercial real estate and multi-family. We also benefited from increases in short-term interest rates on our adjustable rate loans, such as commercial business and home equity lines of credit.

Interest income on investment securities increased $733,000, or 35.7% to $2.8 million for the nine months ended September 30, 2018, compared to $2.1 million for the nine months ended September 30, 2017, due to a $36.4 million increase in the average balance, partially offset by a decrease in average yield of 10 basis points compared to the same period in 2017. The change in average yields on investment securities does not include the benefit of nontaxable income from municipal bonds. Interest income on mortgage-backed and related securities for the nine months ended September 30, 2018 decreased $133,000 compared to the nine months ended September 30, 2017, reflecting an increase in yield of 21 basis points that was offset by a $23.4 million decrease in the average balance.

The following table compares average earning asset balances, associated yields, and resulting changes in interest income for the periods shown:



	Nine Months Ended September 30,
	2018			2017			Increase (Decrease) in Interest Income
	Average Balance Outstanding		Yield	Average Balance Outstanding		Yield	Increase (Decrease) in Interest Income
	(Dollars in thousands)
Loans receivable, net	$	808,485	4.42%	$	717,155	4.33%	$	3,502
Investment securities	126,167		2.95	89,758		3.05	733
Mortgage-backed securities	187,429		2.65	210,823		2.44	(133		)
FHLB stock	6,871		4.60	5,002		2.67	137
Interest-bearing deposits in banks	10,004		1.81	9,916		1.06	57
Total interest-earning assets	$	1,138,956	3.94	$	1,032,654	3.79	$	4,296

Interest Expense. Total interest expense increased $2.0 million, or 46.3%, to $6.3 million for the nine months ended September 30, 2018, compared to $4.3 million for the nine months ended September 30, 2017, due to an increase in deposit costs of $1.2 million, or 48.7%, and an increase in borrowing costs of $807,000, or 43.1%. Deposit costs increased for the nine months ended September 30, 2018, due to a combination of promotional products and higher rates to attract new deposits and retain existing customers, which also has resulted in the transferring of a portion of existing, lower-rate deposit accounts into higher-yielding certificates of deposit and other accounts. The average balance of interest-bearing deposits increased $59.9 million, or 8.8%, to $743.2 million for the nine months ended September 30, 2018, from $683.3 million for the nine months ended September 30, 2017, as we continued to target growth in deposits in new and existing market areas. During the nine months ended September 30, 2018, the cost of certificates of deposit increased due to an increase in average balance of $47.2 million and an increase in the average rate paid of 25 basis points, compared to the nine months ended September 30, 2017. During the nine months ended September 30, 2018, there were increases in the average balance of savings accounts of $10.9 million and transaction accounts of $1.8 million compared to the same period in the prior year, while money market accounts remained virtually unchanged between the periods. The average cost of all deposit products increased to 0.65% for the nine months ended September 30, 2018, from 0.47% for the nine months ended September 30, 2017, in our continuing efforts to attract and retain deposit balances and customer relationships during the year. Borrowing costs increased due primarily to an increase in the average balance of borrowings of $42.6 million, or 45.2%, as we utilized short-term FHLB advances to fund our operations and purchase additional interest-earning assets.

The following table details average balances, cost of funds and the change in interest expense for the periods shown:



	Nine Months Ended September 30,
	2018			2017			Increase (Decrease) in Interest Expense
	Average Balance Outstanding		Rate	Average Balance Outstanding		Rate	Increase (Decrease) in Interest Expense
	(Dollars in thousands)
Savings accounts	$	109,731	0.18%	$	98,855	0.05%	$	110
Transaction accounts	113,124		0.04	111,297		0.02	25
Money market accounts	277,065		0.39	277,047		0.31	170
Certificates of deposit	243,279		1.43	196,100		1.18	876
Borrowings	136,722		2.61	94,149		2.65	807
Total interest-bearing liabilities	$	879,921	0.95	$	777,448	0.74	$	1,988

Provision for Loan Losses. The provision for loan losses was $902,000 during the nine months ended September 30, 2018, compared to $500,000 for the nine months ended September 30, 2017, and was primarily due to specific reserves related to a nonperforming commercial business loan and the increase in the balance of net loans receivable.

The following table details activity and information related to the allowance for loan losses for the periods shown:



	Nine Months Ended September 30,
	2018			2017
	(Dollars in thousands)
Provision for loan losses	$	902		$	500
Net (recoveries) charge-offs	(327		)	48
Allowance for loan losses	9,335			8,608
Allowance for losses as a percentage of total gross loans receivable at the end of this period	1.1		%	1.2		%
Total nonaccruing loans	2,473			1,794
Allowance for loan losses as a percentage of nonaccrual loans at end of period	377.5		%	479.8		%
Nonaccrual and 90 days or more past due loans as a percentage of total loans	0.3		%	0.2		%
Total loans	$	845,797		$	734,235

Noninterest Income. Noninterest income decreased $791,000, or 15.5%, to $4.3 million for the nine months ended September 30, 2018, from $5.1 million for the nine months ended September 30, 2017, primarily due to a decrease of $768,000 in income from a death benefit on bank-owned life insurance received during the nine months ended September 30, 2017.

The following table provides a detailed analysis of the changes in the components of noninterest income for the periods shown:



	Nine Months Ended September 30,				Increase (Decrease)
	2018		2017		Amount			Percent
	(Dollars in thousands)
Loan and deposit service fees	$	2,930	$	2,622	$	308		11.7	%
Mortgage servicing fees, net of amortization	155		227		(72		)	(31.7	)
Net gain on sale of loans	456		705		(249		)	(35.3	)
Net gain on sale of investment securities	77		136		(59		)	(43.4	)
Increase in cash surrender value of bank-owned life insurance	448		495		(47		)	(9.5	)
Income from death benefit on bank-owned life insurance, net	—		768		(768		)	(100.0	)
Other income	241		145		96			66.2
Total noninterest income	$	4,307	$	5,098	$	(791	)	(15.5	)%

Noninterest Expense. Noninterest expense increased $1.4 million, or 6.2%, to $24.7 million for the nine months ended September 30, 2018, compared to $23.2 million for the nine months ended September 30, 2017, primarily as a result of an increase in compensation and benefits, occupancy and equipment, advertising, and data processing, partially offset by a decrease in professional fees. We rewarded our staff and management for performance through incentive programs and sales commissions. We have also added stock awards and cash bonus programs for certain mid-level management positions which allows us to provide competitive compensation packages that we believe will enable us to attract and retain talented employees. Generally, we continued to grow our portfolio of loans and deposits, expand our geographic footprint, and invest in our personnel and infrastructure, resulting in higher noninterest expenses in 2018 compared to prior years. While we believe these investments in our business have contributed positively to promote sustainable earnings and balance sheet growth, we are also managing expenses and capital in order to improve our efficiency ratio, earnings per share, and return on equity as we strive to attain a level of performance commensurate with our more seasoned public company peers.

The following table provides an analysis of the changes in the components of noninterest expense for the periods shown:



	Nine Months Ended September 30,					Increase (Decrease)
	2018		2017			Amount			Percent
	(Dollars in thousands)
Compensation and benefits	$	14,296	$	13,749		$	547		4.0	%
Real estate owned and repossessed assets expense (income), net	41		(28		)	69			246.4
Data processing	1,981		1,818			163			9.0
Occupancy and equipment	3,348		3,002			346			11.5
Supplies, postage, and telephone	685		605			80			13.2
Regulatory assessments and state taxes	453		398			55			13.8
Advertising	799		538			261			48.5
Professional fees	1,099		1,200			(101		)	(8.4	)
FDIC insurance premium	231		193			38			19.7
Other	1,759		1,769			(10		)	(0.6	)
Total	$	24,692	$	23,244		$	1,448		6.2	%

Provision for Income Tax. An income tax expense of $1.1 million was recorded for the nine months ended September 30, 2018, compared to $1.4 million for the nine months ended September 30, 2017, generally due to a decrease in income before taxes of $333,000 and a reduction in the tax rate as a result of the passage of U.S. Tax Cuts and Jobs Act of 2017. For additional information, see Note 5 of the Notes to Consolidated Financial Statements contained in Item 1 of this Form 10-Q.

Average Balances, Interest and Average Yields/Cost

The following table set forth, for the periods indicated, information regarding average balances of assets and liabilities as well as the total dollar amounts of interest income from average interest‑earning assets and interest expense on average interest‑bearing liabilities, resultant yields, interest rate spread, net interest margin (otherwise known as net yield on interest‑earning assets), and the ratio of average interest‑earning assets to average interest-bearing liabilities. Also presented is the weighted average yield on interest-earning assets, rates paid on interest-bearing liabilities and the resultant spread at September 30, 2018 and 2017. Income and all average balances are monthly average balances, which management deems to be not materially different than daily averages. Nonaccruing loans have been included in the table as loans carrying a zero yield.



	At September 30, 2018		Three Months Ended September 30,														Nine Months Ended September 30,
	At September 30, 2018		2018							2017							2018							2017
	Yield/ Rate		Average Balance Outstanding			Interest Earned/ Paid		Yield/ Rate		Average Balance Outstanding			Interest Earned/ Paid		Yield/ Rate		Average Balance Outstanding			Interest Earned/ Paid		Yield/ Rate		Average Balance Outstanding			Interest Earned/ Paid		Yield/ Rate

Interest-earning assets:	(Dollars in thousands)
Loans receivable, net ⁽¹⁾	4.48	%	$	826,880		$	9,257	4.48	%	$	727,879		$	7,928	4.36	%	$	808,485		$	26,792	4.42	%	$	717,155		$	23,290	4.33	%
Investment securities	4.09		120,575			952		3.16		109,420			765		2.80		126,167			2,787		2.95		89,758			2,054		3.05
Mortgage-backed securities	2.75		176,997			1,196		2.70		205,941			1,280		2.49		187,429			3,730		2.65		210,823			3,863		2.44
FHLB dividends	5.18		5,776			100		6.93		5,324			36		2.70		6,871			237		4.60		5,002			100		2.67
Interest-bearing deposits in banks	1.75		9,765			50		2.05		10,104			34		1.35		10,004			136		1.81		9,916			79		1.06
Total interest-earning assets ⁽²⁾	4.12		1,139,993			11,555		4.05		1,058,668			10,043		3.79		1,138,956			33,682		3.94		1,032,654			29,386		3.79

Interest-bearing liabilities:
Savings accounts	0.52		$	115,973		$	104	0.36		$	100,718		15		0.06		$	109,731		$	148	0.18		$	98,855		38		0.05
Transaction accounts	0.05		111,506			25		0.09		111,675			4		0.01		113,124			38		0.04		111,297			13		0.02
Money market accounts	0.43		285,214			317		0.44		262,779			206		0.31		277,065			814		0.39		277,047			644		0.31
Certificates of deposit	1.70		252,462			1,052		1.67		223,253			686		1.23		243,279			2,608		1.43		196,100			1,732		1.18
Total deposits	0.68		765,155			1,498		0.78		698,425			911		0.52		743,199			3,608		0.65		683,299			2,427		0.47
Borrowings	2.69		107,681			792		2.94		101,476			669		2.64		136,722			2,678		2.61		94,149			1,871		2.65
Total interest-bearing liabilities	0.91		872,836			2,290		1.05		799,901			1,580		0.79		879,921			6,286		0.95		777,448			4,298		0.74

Net interest income						$	9,265						$	8,463						$	27,396						$	25,088
Net interest rate spread	3.21							3.00							3.00							2.99							3.05
Net earning assets			$	267,157						$	258,767						$	259,035						$	255,206
Net interest margin ⁽³⁾								3.25							3.20							3.21							3.24
Average interest-earning assets to average interest-bearing liabilities			130.6		%					132.3		%					129.4		%					132.8		%

(1) The average loans receivable, net balances include nonaccruing loans. (2) Includes interest-bearing deposits (cash) at other financial institutions. (3) Net interest income divided by average interest-earning assets.

Rate/Volume Analysis

The following table presents the dollar amount of changes in interest income and interest expense for major components of interest-earning assets and interest-bearing liabilities. It distinguishes between the changes related to outstanding balances and changes in interest rates. For each category of interest-earning assets and interest-bearing liabilities, information is provided on changes attributable to (i) changes in volume (i.e., changes in volume multiplied by old rate) and (ii) changes in rate (i.e., changes in rate multiplied by old volume). For purposes of this table, changes attributable to both rate and volume, which cannot be segregated, have been allocated proportionately to the change due to volume and the change due to rate.



	Three Months Ended								Nine Months Ended
	September 30, 2018 vs. 2017								September 30, 2018 vs. 2017
	Increase (Decrease) Due to						Total Increase (Decrease)		Increase (Decrease) Due to					Total Increase (Decrease)
	Volume			Rate			Total Increase (Decrease)		Volume		Rate			Total Increase (Decrease)
	(In thousands)
Interest earning assets:
Loans receivable, net	$	1,081		$	248		$	1,329	$	2,961	$	541		$	3,502
Investments	(99		)	202			103		402		198			600
FHLB stock	3			61			64		37		100			137
Other⁽¹⁾	(1		)	17			16		1		56			57
Total interest-earning assets	$	984		$	528		$	1,512	$	3,401	$	895		$	4,296

Interest-bearing liabilities:
Savings accounts	$	2		$	88		$	90	$	4	$	107		$	111
Interest-bearing transaction accounts	—			21			21		—		25			25
Money market accounts	17			94			111		—		170			170
Certificates of deposit	90			275			365		418		457			875
Borrowings	42			81			123		848		(41		)	807
Total interest-bearing liabilities	$	151		$	559		$	710	$	1,270	$	718		$	1,988

Net change in interest income	$	833		$	(31	)	$	802	$	2,131	$	177		$	2,308

(1) Includes interest-bearing deposits (cash) at other financial institutions.

Off-Balance Sheet Activities

In the normal course of operations, First Federal engages in a variety of financial transactions that are not recorded in the financial statements. These transactions involve varying degrees of off-balance sheet credit, interest rate and liquidity risks. These transactions are used primarily to manage customers’ requests for funding and take the form of loan commitments and lines of credit. For the nine months ended September 30, 2018 and the year ended December 31, 2017, we engaged in no off-balance sheet transactions likely to have a material effect on our financial condition, results of operations or cash flows.

Contractual Obligations

At September 30, 2018, our scheduled maturities of contractual obligations were as follows:



	Within 1 Year		After 1 Year Through 3 Years		After 3 Years Through 5 Years		Beyond 5 Years		Total Balance
	(In thousands)

Certificates of deposit	$	153,915	$	84,612	$	12,624	$	5	$	251,156
FHLB advances	71,526		50,000		—		—		121,526
Operating leases	326		617		437		1,982		3,362
Borrower taxes and insurance	1,848		—		—		—		1,848
Deferred compensation	44		173		52		572		841
Total contractual obligations	$	227,659	$	135,402	$	13,113	$	2,559	$	378,733

Commitments and Off-Balance Sheet Arrangements

The following table summarizes our commitments and contingent liabilities with off-balance sheet risks as of September 30, 2018:



	Amount of Commitment Expiration
	Within 1 Year		After 1 Year Through 3 Years		After 3 Years Through 5 Years		Beyond 5 Years		Total Amounts Committed
	(In thousands)
Commitments to originate loans:
Fixed-rate	$	515	$	—	$	—	$	—	$	515
Adjustable-rate	10		—		—		—		10
Unfunded commitments under lines of credit or existing loans	26,128		8,316		2,046		68,103		104,593
Standby letters of credit	241		—		—		—		241
Total commitments	$	26,894	$	8,316	$	2,046	$	68,103	$	105,359

Liquidity Management

Liquidity is the ability to meet current and future financial obligations of a short-term and long-term nature. Our primary sources of funds consist of deposit inflows, loan repayments, maturities and sales of securities and borrowings from the FHLB. While maturities and scheduled amortization of loans and securities are usually predictable sources of funds, deposit flows, calls of investment securities and borrowed funds, and prepayments on loans and investment securities are greatly influenced by general interest rates, economic conditions and competition, which can cause those sources of funds to fluctuate.

Management regularly adjusts our investments in liquid assets based upon an assessment of expected loan demand, expected deposit flows, yields available on interest-earning deposits and securities, and the objectives of our interest-rate risk and investment policies.

Our most liquid assets are cash and cash equivalents followed by available for sale securities. The levels of these assets depend on our operating, financing, lending and investing activities during any given period. At September 30, 2018, cash and cash equivalents totaled $25.3 million, and unpledged securities classified as available-for-sale with a market value of $267.1 million provided additional sources of liquidity. We pledged collateral to support borrowings from the FHLB of $121.5 million, and have an established borrowing arrangement with the Federal Reserve Bank of San Francisco, for which no collateral has been pledged as of September 30, 2018.

At September 30, 2018, we had $525,000 in loan commitments outstanding and an additional $104.8 million in undisbursed loans and standby letters of credit, including $63.1 million in undisbursed construction loan commitments.

Certificates of deposit due within one year as of September 30, 2018 totaled $153.9 million, or 61.3% of certificates of deposit. We believe the large percentage of certificates of deposit that mature within one year reflects customers' hesitancy to invest their funds for longer periods as interest rates have begun to rise. A significant portion of our money market accounts have rolled into certificates of deposit over the past twelve months, which management believes, based on past experience, is commensurate with our customers' behavior during periods of rising interest rates. If these maturing deposits are not renewed, however, we will be required to seek other sources of funds, including other certificates of deposit and borrowings. We have the ability to attract and retain deposits by adjusting the interest rates offered. Depending on market conditions, we may be required to pay higher rates on such deposits or other borrowings than we currently pay on certificates of deposit. In addition, we believe that our branch network, and the general cash flows from our existing lending and investment activities, will afford us sufficient foreseeable long-term liquidity. For additional information, see the Consolidated Statements of Cash Flows in Item 1 of this Form 10-Q.

The Company is a separate legal entity from the Bank and provides for its own liquidity to pay its operating expenses and other financial obligations. At September 30, 2018, the Company (on an unconsolidated basis) had liquid assets of $26.0 million.

Capital Resources

At September 30, 2018, shareholders' equity totaled $171.9 million, or 13.9% of total assets. Our book value per share of common stock was $15.18 at September 30, 2018, compared to $15.02 at December 31, 2017. Consistent with our goals to operate a sound and profitable organization, our policy for First Federal is to maintain its “well-capitalized” status in accordance with regulatory standards.

At September 30, 2018, the Bank exceeded all regulatory capital requirements and was considered "well capitalized" under FDIC regulatory capital guidelines.

The following table provides the capital requirements and actual results for First Federal at September 30, 2018.



	Actual					Minimum Capital Requirements				Minimum Required to be Well-Capitalized
	Amount		Ratio			Amount		Ratio		Amount		Ratio
					(Dollars in thousands)
Tier I leverage capital (to average assets)	$	139,408	11.6	%		$	47,947	4.0	%	$	59,934	5.0	%
Common equity tier I (to risk-weighted assets)	139,408		17.4			36,145		4.5		52,209		6.5
Tier I risk-based capital (to risk-weighted assets)	139,408		17.4			48,193		6.0		64,257		8.0
Total risk-based capital (to risk-weighted assets)	148,986		18.6			64,257		8.0		80,322		10.0

In order to avoid limitations on paying dividends, engaging in share repurchases, and paying discretionary bonuses, the Bank must maintain common equity tier 1 capital ("CET1") at an amount greater than the required minimum levels plus a capital conservation buffer. This new capital conservation buffer requirement was phased in starting in January 2016 requiring a buffer of 0.625% of risk-weighted assets and will increase each year until fully implemented to an amount of 2.5% of risk-weighted assets in January 2019. As of September 30, 2018, the conservation buffer was 1.875%.

Effect of Inflation and Changing Prices

The consolidated financial statements and related financial data presented in this report have been prepared according to generally accepted accounting principles in the United States, which require the measurement of financial and operating results in terms of historical dollars without considering the change in the relative purchasing power of money over time due to inflation. The primary impact of inflation on our operations is reflected in increased operating costs and the effect that general inflation may have on both short-term and long-term interest rates. Unlike most industrial companies, virtually all the assets and liabilities of a financial institution are monetary in nature. As a result, interest rates generally have a more significant impact on a financial institution's performance

than do general levels of inflation. Although inflation expectations do affect interest rates, interest rates do not necessarily move in the same direction or to the same extent as the prices of goods and services.

Item 3. Quantitative and Qualitative Disclosures about Market Risk

There has not been any material change in the market risk disclosures contained in First Northwest Bancorp’s Annual Report on Form 10-KT for the six months ended December 31, 2017.

Item 4. Controls and Procedures

(a) Evaluation of Disclosure Controls and Procedures.

An evaluation of the Company's disclosure controls and procedures (as defined in Rule 13a-15(e) of the Securities Exchange Act of 1934 (the “Exchange Act”)) was carried out under the supervision and with the participation of the Company's Chief Executive Officer (Principal Executive Officer), Chief Financial Officer (Principal Financial and Accounting Officer), and other members of the Company's management team as of the end of the period covered by this quarterly report. The Company's Chief Executive Officer and Chief Financial Officer concluded that as of September 30, 2018, the Company's disclosure controls and procedures were effective in ensuring that the information required to be disclosed by the Company in the reports it files or submits under the Act is (i) accumulated and communicated to the Company's 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 Securities and Exchange Commission's rules and forms.

(b) Changes in Internal Controls.

There have been no changes in the Company's internal control over financial reporting (as defined in 13a-15(f) of the Exchange Act) that occurred during the quarter ended September 30, 2018, that have materially affected, or are reasonably likely to materially affect, the Company's internal control over financial reporting.

The Company intends to continually review and evaluate the design and effectiveness of its disclosure controls and procedures and to improve its controls and procedures over time and to correct any deficiencies that it may discover in the future. The goal is to ensure that senior management has timely access to all material financial and non-financial information concerning the Company's business. While the Company believes the present design of its disclosure controls and procedures is effective to achieve its goal, future events affecting its business may cause the Company to modify its disclosure controls and procedures. The Company does not expect that its disclosure controls and procedures and internal control over financial reporting will prevent every error or instance of fraud. A control procedure, no matter how well conceived and operated, can provide only reasonable, not absolute, assurance that the objectives of the control procedure are met. 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. These inherent limitations include the realities that judgments in decision-making can be faulty, and that breakdowns in controls or procedures can occur because of simple error or mistake. Additionally, controls can be circumvented by the individual acts of some persons, by collusion of two or more people, or by management override of the control. The design of any control procedure is 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; over time, controls become inadequate because of changes in conditions, or the degree of compliance with the policies or procedures may deteriorate. Because of the inherent limitations in a cost-effective control procedure, misstatements due to error or fraud may occur and not be detected.

PART II - OTHER INFORMATION

Item 1. Legal Proceedings

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

Item 1A. Risk Factors

For information regarding the Company’s risk factors, see “Risk Factors” in the Company’s Annual Report on Form 10-KT for the six months ended December 31, 2017. As of September 30, 2018, the Company believes that its risk factors have not changed materially from those disclosed in the Form 10-KT.

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


(a)	Not applicable.


(b)	Not applicable.



Period	Total Number of Shares Purchased	Average Price Paid per Share		Total Number of Shares Repurchased as Part of Publicly Announced Plans	Maximum Number of Shares that May Yet Be Repurchased Under the Plans

July 1, 2018 - July 31, 2018	5,400	$	16.26	5,400	824,446
August 1, 2018 - August 31, 2018	83,600	16.41		83,600	740,846
September 1, 2018 - September 30, 2018	37,200	16.53		37,200	703,646
Total	126,200	$	16.44	126,200

On September 26, 2017, the Board of Directors authorized the repurchase of up to 1,166,659 shares, or approximately 10% of its shares of common stock issued and outstanding as of September 18, 2017. The repurchase program permits shares to be repurchased in the open market or private transactions, through block trades, and pursuant to any trading plan that may be adopted in accordance with the SEC's Rule 10b5-1. As of September 30, 2018, a total of 463,013 shares, or 39.7% percent of the shares authorized in the September 2017 stock repurchase plan, have been purchased at an average cost of $16.43 per share, leaving 703,646 shares available for future purchases.

Item 3. Defaults Upon Senior Securities

Not applicable.

Item 4. Mine Safety Disclosures

Not applicable.

Item 5. Other Information

Not applicable.

Item 6. Exhibits



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 pursuant to Section 906 of the Sarbanes-Oxley Act
101	The following materials from the Company's Quarterly Report on Form 10-Q for the quarter ended September 30, 2018, formatted in Extensible Business Reporting Language (XBRL): (1) Consolidated Balance Sheets; (2) Consolidated Statements of Income; (3) Consolidated Statements of Comprehensive Income ; (4) Consolidated Statements of Cash Flows; and (5) Selected Notes to Consolidated Financial Statements

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 NORTHWEST BANCORP

Date: November 7, 2018	/s/ Laurence J. Hueth

	Laurence J. Hueth
	President, Chief Executive Officer and Director
	(Principal Executive Officer)


Date: November 7, 2018	/s/ Regina M. Wood

	Regina M. Wood
	Executive Vice President and Chief Financial Officer
	(Principal Financial and Accounting Officer)

First Northwest Bancorp - 10-Q quarterly report FY2018 Q3

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