Table of Contents
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
☒ QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended March 31, 2022
OR
☐ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from ________ to ________
Commission File Number 001-38595
FIRST WESTERN FINANCIAL, INC.
(Exact name of registrant as specified in its charter)
Colorado
37-1442266
(State or other jurisdiction ofincorporation or organization)
(I.R.S. EmployerIdentification No.)
1900 16th Street, Suite 1200Denver, CO
80202
(Address of principal executive offices)
(Zip Code)
Registrant’s telephone number, including area code: 303.531.8100
Securities registered pursuant to Section 12(b) of the Act:
Title of each class
Trading Symbol
Name of each exchange on which registered
Common Stock, no par value
MYFW
The Nasdaq Stock Market LLC
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. ⌧ Yes ◻ No
Indicate by check mark whether the registrant has submitted electronically 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 ◻ No
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, smaller reporting company or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company” and “emerging growth company” in Rule 12b-2 of the Exchange Act.
Large accelerated filer ◻
Accelerated filer ⌧
Non-accelerated filer ◻
Smaller reporting company ☒
Emerging growth company ☒
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☒
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act). ☐ Yes ⌧ No
Indicate the number of shares outstanding of each of the registrant’s classes of common stock, as of the latest practicable date.
Shares outstanding as ofMay 2, 2022
9,466,585
TABLE OF CONTENTS
March 31, 2022
Page
PART I. FINANCIAL INFORMATION
Item 1.
Financial Statements
6
Condensed Consolidated Balance Sheets (Unaudited) as of March 31, 2022 and December 31, 2021
Condensed Consolidated Statements of Income (Unaudited) for the Three Months Ended March 31, 2022 and March 31, 2021
7
Condensed Consolidated Statements of Comprehensive Income (Unaudited) for the Three Months Ended March 31, 2022 and March 31, 2021
8
Condensed Consolidated Statements of Changes in Shareholders’ Equity (Unaudited) for the Three Months Ended March 31, 2022 and March 31, 2021
9
Condensed Consolidated Statements of Cash Flows (Unaudited) for the Three Months Ended March 31, 2022 and March 31, 2021
10
Notes to Condensed Consolidated Financial Statements (Unaudited)
11
Item 2.
Management’s Discussion and Analysis of Financial Condition and Results of Operations
44
Item 3.
Quantitative and Qualitative Disclosures about Market Risk
69
Item 4.
Controls and Procedures
70
PART II. OTHER INFORMATION
71
Legal Proceedings
Item 1A.
Risk Factors
Unregistered Sales of Equity Securities and Use of Proceeds
Defaults upon Senior Securities
Mine Safety Disclosures
Item 5.
Other Information
Item 6.
Exhibits
72
SIGNATURES
73
2
Important Notice about Information in this Quarterly Report
Unless we state otherwise or the context otherwise requires, references in this Quarterly Report to "we," "our," "us," "the Company" and "First Western" refer to First Western Financial, Inc. and its consolidated subsidiaries, including First Western Trust Bank, which we sometimes refer to as "the Bank" or "our Bank."
The information contained in this Quarterly Report is accurate only as of the date of this Quarterly Report on Form 10-Q and as of the dates specified herein.
3
CAUTIONARY NOTE REGARDING FORWARD-LOOKING STATEMENTS
This Quarterly Report on Form 10-Q contains forward-looking statements. These forward-looking statements reflect our current views with respect to, among other things, future events and our financial performance. These statements are often, but not always, made through the use of words or phrases such as "may," "should," "could," "predict," "potential," "believe," "will likely result," "expect," "continue," "will," "anticipate," "seek," "estimate," "intend," "plan," "projection," "would" and "outlook, " or the negative version of those words or other comparable words or phrases of a future or forward-looking nature. These forward-looking statements are not historical facts, and are based on current expectations, estimates and projections about our industry, management’s beliefs and certain assumptions made by management, many of which, by their nature, are inherently uncertain and beyond our control, particularly with regard to developments related to COVID-19. Accordingly, we caution you that any such forward-looking statements are not guarantees of future performance and are subject to risks, assumptions and uncertainties that are difficult to predict. Although we believe that the expectations reflected in these forward-looking statements are reasonable as of the date made, actual results may prove to be materially different from the results expressed or implied by the forward-looking statements.
There are or will be important factors that could cause our actual results to differ materially from those indicated in these forward-looking statements, including, but not limited to, the following:
4
The foregoing factors should not be construed as exhaustive and should be read together with the other cautionary statements included in the section titled Risk Factors in Part I, Item 1A of our Annual Report on Form 10-K, filed with the U.S. Securities and Exchange Commission ("SEC") on March 15, 2022. If one or more events related to these or other risks or uncertainties materialize, or if our underlying assumptions prove to be incorrect, actual results may differ materially from what we anticipate. Accordingly, you should not place undue reliance on any such forward-looking statements. Any forward-looking statement speaks only as of the date on which it is made, and we do not undertake any obligation to publicly update or review any forward-looking statement, whether as a result of new information, future developments or otherwise. New factors emerge from time to time, and it is not possible for us to predict which will arise. In addition, we cannot assess the impact of each factor on our business or the extent to which any factor, or combination of factors, may cause actual results to differ materially from those contained in any forward-looking statements.
5
ITEM 1. FINANCIAL STATEMENTS
CONDENSED CONSOLIDATED BALANCE SHEETS (UNAUDITED)
(in thousands, except share amounts)
March 31,
December 31,
2022
2021
Assets
Cash and cash equivalents:
Cash and due from banks
$
5,961
6,487
Federal funds sold
1,273
1,491
Interest-bearing deposits in other financial institutions
446,865
379,005
Total cash and cash equivalents
454,099
386,983
Available-for-sale securities, at fair value
58,727
55,562
Correspondent bank stock, at cost
1,617
2,584
Mortgage loans held for sale, at fair value
33,663
30,620
Loans (includes $6,380 and $0 measured at fair value, respectively)
1,923,825
1,949,137
Allowance for loan losses
(13,885)
(13,732)
Loans, net
1,909,940
1,935,405
Premises and equipment, net
23,539
23,976
Accrued interest receivable
6,969
7,151
Accounts receivable
6,445
5,267
Other receivables
2,841
1,949
Goodwill and other intangible assets, net
32,335
31,902
Deferred tax assets, net
7,540
6,845
Company-owned life insurance
15,889
15,803
Other assets
22,940
23,327
Assets held for sale
117
115
Total assets
2,576,661
2,527,489
Liabilities
Deposits:
Noninterest-bearing
654,401
636,304
Interest-bearing
1,617,711
1,569,399
Total deposits
2,272,112
2,205,703
Borrowings:
Federal Home Loan Bank and Federal Reserve borrowings
27,576
38,629
Subordinated notes
32,523
39,031
Accrued interest payable
312
355
Other liabilities
20,872
24,730
Total liabilities
2,353,395
2,308,448
Shareholders' Equity
Preferred stock - no par value; 10,000,000 shares authorized; 0 issued and outstanding
—
Common stock - no par value; 90,000,000 shares authorized; 9,430,007 and 9,419,271 shares issued and outstanding as of March 31, 2022 and December 31, 2021, respectively
Additional paid-in capital
189,283
188,629
Retained earnings
35,713
30,189
Accumulated other comprehensive (loss)/income
(1,730)
223
Total shareholders’ equity
223,266
219,041
Total liabilities and shareholders’ equity
See accompanying notes to condensed consolidated financial statements (unaudited).
CONDENSED CONSOLIDATED STATEMENTS OF INCOME (UNAUDITED)
(in thousands, except per share amounts)
Three Months Ended March 31,
Interest and dividend income:
Loans, including fees
19,096
14,212
Investment securities
337
196
232
91
Total interest and dividend income
19,665
14,499
Interest expense:
Deposits
943
974
Other borrowed funds
438
472
Total interest expense
1,381
1,446
Net interest income
18,284
13,053
Less: Provision for loan losses
210
Net interest income, after provision for loan losses
18,074
Non-interest income:
Trust and investment management fees
5,168
4,847
Net gain on mortgage loans
2,494
5,196
Bank fees
690
373
Risk management and insurance fees
109
51
Income on company-owned life insurance
86
88
Net gain on equity interests
1
Other
85
60
Total non-interest income
8,633
10,615
Total income before non-interest expense
26,707
23,668
Non-interest expense:
Salaries and employee benefits
12,058
9,861
Occupancy and equipment
1,882
1,409
Professional services
1,526
1,279
Technology and information systems
1,046
942
Data processing
1,187
1,015
Marketing
557
321
Amortization of other intangible assets
77
Net (gain)/loss on assets held for sale
(1)
1,059
798
Total non-interest expense
19,391
15,629
Income before income taxes
7,316
8,039
Income tax expense
1,792
2,040
Net income available to common shareholders
5,524
5,999
Earnings per common share:
Basic
0.59
0.76
Diluted
0.57
0.74
CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (UNAUDITED)
(in thousands)
Net income
Other comprehensive income items, net of tax effect:
Net change in unrealized losses on available-for-sale securities
(1,953)
(101)
Comprehensive income
3,571
5,898
CONDENSED CONSOLIDATED STATEMENTS OF SHAREHOLDERS’ EQUITY (UNAUDITED)
Accumulated
Shares
Additional
Common
Paid-In
Retained
Comprehensive
Stock
Capital
Earnings
Income (Loss)
Total
Balance at January 1, 2021
7,951,773
144,703
9,579
680
154,962
Other comprehensive loss, net of tax
Settlement of share awards
6,127
(34)
Stock-based compensation
613
Balance, March 31, 2021
7,957,900
145,282
15,578
579
161,439
Balance at January 1, 2022
9,419,271
8,225
(131)
Options exercised
2,511
58
727
Balance, March 31, 2022
9,430,007
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
Cash flows from operating activities
Adjustments to reconcile net income to net cash used in operating activities:
Net amortization of investment securities
27
145
Stock dividends received on correspondent bank stock
(19)
(23)
Provision for loan losses
(2,494)
(5,196)
Origination of mortgage loans held for sale
(148,647)
(490,783)
Proceeds from mortgage loans
147,618
482,058
Depreciation and amortization
626
284
Deferred income tax benefits, net of valuation allowance
14
30
Increase in cash surrender value of company-owned life insurance
(86)
(88)
Net changes in operating assets and liabilities:
Change in accounts receivable
288
172
Change in accrued interest receivable and other assets
(1,591)
(2,473)
Change in accrued interest payable and other liabilities
(3,183)
(1,829)
Net cash used in operating activities
(986)
(11,091)
Cash flows from investing activities
Activity in available-for-sale securities:
Maturities, prepayments, and calls
3,218
5,673
Purchases
(9,000)
Purchases of correspondent bank stock
Redemption of correspondent bank stock
986
Contributions to low-income housing tax credit investments
(214)
Loan and note receivable originations and principal collections, net
30,800
(10,406)
Purchases of premises and equipment
(45)
(725)
Purchases of loans
(6,380)
Proceeds from sale of other real estate owned
194
Net cash provided by/(used in) investing activities
19,365
(5,265)
Cash flows from financing activities
Net change in deposits
66,438
187,915
Payments to Federal Reserve borrowings
(11,053)
(28,513)
Proceeds from Federal Reserve borrowings
76,991
Payments on subordinated notes
(6,575)
Proceeds from subordinated notes, net of issuance costs
(56)
Proceeds from the exercise of stock options
Settlement of restricted stock
Net cash provided by financing activities
48,737
236,303
Net change in cash and cash equivalents
67,116
219,947
Cash and cash equivalents, beginning of year
155,989
Cash and cash equivalents, end of period
375,936
Supplemental cash flow information:
Interest paid on deposits and borrowed funds
1,424
1,287
Cash paid for lease liabilities
1,462
1,300
Supplemental noncash disclosures:
Change in unrealized loss on available-for-sale securities
(2,591)
(148)
See Note 2 - Acquisitions regarding noncash transactions related to measurement period adjustments
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
NOTE 1 - ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Business and Basis of Presentation: The condensed consolidated financial statements include the accounts of First Western Financial, Inc. ("FWFI"), incorporated in Colorado on July 18, 2002, and its direct and indirect wholly-owned subsidiaries listed below (collectively referred to as the "Company", "we", "us", or "our").
FWFI is a bank holding company with financial holding company status registered with the Board of Governors of the Federal Reserve System. FWFI wholly owns the following subsidiaries: First Western Trust Bank (the "Bank") and Ryder, Stilwell Inc. ("RSI"). The Bank wholly owns the following subsidiaries, which are therefore indirectly wholly-owned by FWFI: First Western Merger Corporation ("Merger Corp") and RRI, LLC ("RRI"). RSI and RRI are not active operating entities.
The Company provides a fully-integrated suite of wealth management services including, private banking, personal trust, investment management, mortgage loans, and institutional asset management services to individual and corporate clients principally in Colorado (metro Denver, Aspen, Boulder, Fort Collins, and Vail Valley), Arizona (Phoenix and Scottsdale), California (Century City), and Wyoming (Jackson Hole, Laramie, Pinedale, and Rock Springs). The Company’s revenues are generated from its full range of product offerings as noted above, but principally from net interest income (the interest income earned on the Bank’s assets net of funding costs), fee-based wealth advisory, investment management, asset management and personal trust services, and net gains earned on mortgage loans.
The condensed consolidated financial statements have been prepared in conformity with accounting principles generally accepted in the United States of America ("GAAP") for interim financial information and pursuant to the rules and regulations of the U.S. Securities and Exchange Commission ("SEC"). Accordingly, they do not include all the information and footnotes required by GAAP for complete financial statements. The December 31, 2021 condensed consolidated balance sheet has been derived from the audited financial statements for the year ended December 31, 2021.
In the opinion of management, all adjustments that were recurring in nature and considered necessary have been included for fair presentation of the Company’s financial position and results of operations. Operating results for the three months ended March 31, 2022 are not necessarily indicative of results that may be expected for the full year ending December 31, 2022. In preparing the condensed consolidated financial statements, the Company is required to make estimates and assumptions that affect the reported amount of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could be significantly different from those estimates.
The condensed consolidated financial statements and notes should be read in conjunction with the Company’s Annual Report on Form 10-K for the year ended December 31, 2021 as filed with the SEC.
Consolidation: The Company’s policy is to consolidate all majority-owned subsidiaries in which it has a controlling financial interest and variable-interest entities where the Company is deemed to be the primary beneficiary. All material intercompany accounts and transactions have been eliminated in consolidation.
Business Combinations and Divestitures: On December 31, 2021, the Company completed its merger pursuant to an Agreement and Plan of Merger (the “Merger Agreement”) with Teton Financial Services, Inc. (“Teton”), parent company of Rocky Mountain Bank, a Wyoming-chartered bank headquartered in Jackson, Wyoming. Management concluded that the merger represented a business combination, which is accounted for using the acquisition method, with the results of operations included in the Company’s condensed consolidated financial statements as of the acquisition date.
Use of Estimates: To prepare financial statements in conformity with GAAP, management makes estimates and assumptions based on available information. These estimates and assumptions affect the amounts reported in the condensed consolidated financial statements and the disclosures provided, and actual results could differ. Information available which could affect these judgments include, but are not limited to, changes in interest rates, changes in the performance of the economy, including the impact of the COVID-19 pandemic, and changes in the financial condition of borrowers. Material estimates that are particularly susceptible to significant change include: the determination of the allowance for loan losses, the evaluation of goodwill impairment, and the fair value of financial instruments.
Concentration of Credit Risk: Most of the Company’s lending activity is to clients located in and around metro Denver, Aspen, Fort Collins, and Vail, Colorado; Phoenix and Scottsdale, Arizona; and Jackson Hole, Wyoming. The Company does not believe it has significant concentrations in any one industry or customer. As of March 31, 2022 and December 31, 2021, 74.3% and 76.1%, respectively, of the Company’s loan portfolio was secured by real estate collateral. Declines in real estate values in the primary markets the Company operates in could negatively impact the Company.
Mortgage Banking Derivatives: Commitments to fund mortgage loans, interest rate lock commitments ("IRLC"), and forward sale commitments ("FSC"), to be sold in the secondary market for the future delivery of these loans are accounted for as free standing derivatives. The fair value of the IRLC is recorded at the time the commitment to fund the mortgage loan is executed and is adjusted for the expected exercise of the commitment before the loan is funded. The Company sells mortgage loans to third party investors at the best execution available which includes best efforts, mandatory, and bulk bids. Loans committed under mandatory or bulk bid are considered FSC and qualify as financial derivatives. Fair values of these mortgage derivatives are estimated based on the change in the loan pricing from the date of the commitment to the period end date for any unsettled commitments. Changes in the fair values of these derivatives are included in the Net gain on mortgage loans line of the Condensed Consolidated Statements of Income.
In order to manage the interest rate risk on our uncommitted IRLC and mortgage loans held for sale pipeline, the Company enters into mortgage derivative financial instruments called To Be Announced ("TBA"), which we refer to as forward commitments. TBA agreements are forward contracts to purchase mortgage backed securities ("MBS") that will be issued by a US Government Sponsored Enterprise. The Bank purchases or sells these derivatives to offset the changes in value of our mortgage loans held for sale and IRLC adjusted pipeline where we have exposure to interest rate volatility. Changes in the fair values of these derivatives are included in the Net gain on mortgage loans line of the Condensed Consolidated Statements of Income.
Revenue Recognition: In accordance with the Financial Accounting Standards Board ("FASB"), Revenue Contracts with Customers ("Topic 606"), trust and investment management fees are earned by providing trust and investment services to customers. The Company’s performance obligation under these contracts is satisfied over time as the services are provided. Fees are recognized monthly based on the average monthly value of the assets under management and the corresponding fee rate based on the terms of the contract. Receivables are recorded on the Condensed Consolidated Balance Sheets in the Accounts receivable line item. Income related to trust and investment management fees, bank fees, and risk management and insurance fees on the Condensed Consolidated Statements of Income for the three months ended March 31, 2022 and 2021 are considered in scope of Topic 606.
Transition of LIBOR to an Alternative Reference Rate: In July 2017, the United Kingdom's Financial Conduct Authority, which regulates the London Interbank Offered Rate ("LIBOR"), announced that after 2021 it will no longer persuade or compel banks to submit rates for the calculation of LIBOR. In response, the Federal Reserve Board and the Federal Reserve Bank of New York convened the Alternative Reference Rates Committee to identify a set of alternative reference interest rates for possible use as market benchmarks. This committee has proposed the Secured Overnight Financing Rate ("SOFR") as its recommended alternative to U.S. dollar LIBOR, and the Federal Reserve Bank of New York began publishing SOFR rates in the second quarter of 2018. SOFR is based on a broad segment of the overnight Treasury repurchase market and is intended to be a measure of the cost of borrowing cash overnight collateralized by Treasury securities.
The administrator of LIBOR extended publication of the most commonly used U.S. Dollar LIBOR settings to June 30, 2023, and ceased publishing other LIBOR settings on December 31, 2021.
Certain of the Company’s assets and liabilities are indexed to LIBOR, with exposure extending beyond December 31, 2021. The Company is currently evaluating and planning for the eventual replacement of the LIBOR benchmark interest rate, including the possibility of SOFR as the dominant replacement. In general, the transition away from LIBOR may result in increased market risk, credit risk, operational risk and business risk for the Company. The Company has developed a LIBOR transition plan, which addresses governance, risk management, legal, operational, systems, fallback language, and other aspects of planning. The company no longer originates LIBOR indexed loans. Existing LIBOR indexed commercial loans are expected to be transitioned to SOFR by June 30, 2022. Consumer indexed loans are being managed in accordance with Interagency Guidance.
COVID-19 and CARES Act: On March 11, 2020 the World Health Organization declared the outbreak of COVID-19 a global pandemic, which continues to spread throughout the United States and the around the world. In response to the COVID-19 pandemic, the President signed the Coronavirus Aid, Relief and Economic Security Act ("CARES Act") into law on March 27, 2020. The objective of the CARES Act is to prevent a severe economic downturn using various measures, including economic stimulus to significantly impacted industry sectors. We continue to monitor the impact of COVID-19 closely, as well as any effects that may result from the CARES Act and other government actions.
12
The CARES Act created the Paycheck Protection Program ("PPP"), which is administered by the Small Business Administration ("SBA"). The PPP is intended to provide loans to small businesses to pay their employees, rent, mortgage interest, and utilities. The loans may be forgiven conditioned upon the client providing payroll documentation evidencing their compliant use of funds and otherwise complying with the terms of the program. The Bank is an approved SBA lender and supported the community and clients by originating PPP loans since the program was created. PPP loans are classified in the Cash, Securities and Other portion of the loan portfolio. See Note 4 – Loans and the Allowance for Loan Losses for further discussion on our PPP loans.
As a result of the COVID-19 pandemic, a loan modification program was designed and implemented to assist our clients experiencing financial stress resulting from the economic impacts caused by the global pandemic. The Company offered loan extensions, temporary payment moratoriums, and financial covenant waivers for commercial and consumer borrowers impacted by the pandemic and had a risk rating of “pass” and had not been delinquent in making interest or principal payment by more than 30 days during the last two years.
The CARES Act provides banks optional, temporary relief from accounting for certain loan modifications as troubled debt restructurings ("TDR"). The modifications must be related to the adverse effects of COVID-19, and certain other criteria are required to be met in order to apply the relief. Interagency guidance from Federal Reserve and the Federal Deposit Insurance Corporation ("FDIC") confirmed with the FASB that short-term modifications made on a good faith basis in response to COVID-19 to borrowers who were current prior to any relief, are not to be considered a TDR. We believe our loan modification program meets that definition and have not classified any of these modifications as a TDR as of March 31, 2022. See Note 4 – Loans and the Allowance for Loan Losses for further discussion on our loan modification program.
The Company is a participant in the Federal Reserve’s Main Street Lending Program ("MSLP") to support lending to small and medium-sized for profit businesses and nonprofit organizations that were in sound financial condition before the onset of the COVID-19 pandemic. The Company may sell a 95% participation in a new MSLP loan to the Main Street Special Purpose Vehicle ("SPV") at par value. The Company must retain 5% of the MSLP loan until (i) it matures or (ii) neither the Main Street SPV nor a Governmental Assignee holds an interest in MSLP Loan in any capacity, whichever comes first. See Note 4 – Loans and the Allowance for Loan Losses for further discussion on our participation in the program.
Reclassifications: Certain items in prior year financial statements were reclassified to conform to the current presentation. Such reclassifications had no impact on net income or total shareholders’ equity.
Recently adopted accounting pronouncements: The following reflects recent accounting pronouncements that were adopted by the Company since the end of the Company’s fiscal year ended December 31, 2021.
In January 2017, the FASB issued ASU 2017-04, Intangibles—Goodwill and Other (Topic 350): Simplifying the Test for Goodwill Impairment ("ASU 2017-04"), which amended existing guidance to simplify the subsequent measurement of goodwill by eliminating Step 2 from the goodwill impairment test. The amendments require an entity to perform its annual, or interim, goodwill impairment test by comparing the fair value of a reporting unit with its carrying amount and recognizing an impairment charge of the amount by which the carrying amount exceeds the reporting unit’s fair value, not to exceed the total amount of goodwill allocated to that reporting unit. ASU 2017-04 was set to be effective for the Company on January 1, 2021. However, ASU 2019-10 amended the mandatory effective date for ASU 2014-07 to January 1, 2023 for SRC’s, with earlier adoption permitted. On January 1, 2022, the Company adopted the new guidance. The adoption of this ASU has not had a material impact on the consolidated financial statements, and the Company has not recorded goodwill impairment to date as of part of the acquisition activity.
Recently issued accounting pronouncements, not yet adopted: The following reflects pending pronouncements with an update to the expected impact since the end of the Company’s fiscal year ended December 31, 2021.
13
In February 2016, the FASB issued ASU 2016-13, Financial Instruments—Credit Losses (Topic 326) ("ASU 2016-13"). ASU 2016-13 replaces the incurred loss model with an expected loss model, which is referred to as the current expected credit loss ("CECL") model. The CECL model is applicable to the measurement of credit losses on the financial assets measured at amortized cost, including loan receivables, held-to-maturity debt securities, and reinsurance receivables. It also applies to off-balance sheet credit exposures not accounted for as insurance (loan commitments, standby letters of credit, financial guarantees, and other similar instruments) and net investments in leases recognized by a lessor. For all other assets within the scope of CECL, a cumulative-effect adjustment will be recognized in retained earnings and the allowance for credit losses as of the beginning of the first reporting period in which the guidance is effective. ASU 2016-13 was set to be effective for most public companies on January 1, 2020. However, at the October 16, 2019 FASB meeting, the FASB voted unanimously to delay the effective date of CECL adoption for smaller reporting companies ("SRCs") to January 1, 2023.
During the three months ended March 31, 2022, the CECL committee of the Company continued to work through its implementation plan. The Company has selected a champion quantitative model to approximate expected losses by call code segment using regional and other appropriate peers. The Company has selected qualitative factors and evaluated those factors for each loan segment for the quarter ended March, 31, 2022. The Company has begun to document policies and procedures, internal control structure, and process flows. Using this information, the Company successfully ran parallel models for the quarter in order for management to review and compare results between the initial CECL model and existing ALLL model. Currently, we are unable to estimate the impact the adoption of this update will have on the condensed consolidated financial statements and disclosures. However, the Company expects the impact of the adoption will be significantly influenced by the composition and characteristics of its loan portfolios along with economic conditions prevalent as of the date of adoption. The Company expects to implement the new standard beginning January 1, 2023.
In March, the FASB issued ASU 2022-02, Financial Instruments – Credit Losses (Topic 326); Troubled Debt Restructurings (“TDR”) and Vintage Disclosures. This ASU will be effective for the Company at the same time we adopt CECL, January 1, 2023. The amendments eliminate the TDR recognition and measurement guidance and instead require an entity to evaluate whether the modification represents a new loan or a continuation of an existing loan (consistent with accounting for other modifications). The amendments also enhance existing disclosure requirements related to certain modifications of receivables made to borrowers experiencing financial difficulty.
NOTE 2 – ACQUISITIONS
On July 22, 2021, the Company entered into the Merger Agreement with Teton, parent company of Rocky Mountain Bank, a Wyoming-chartered bank headquartered in Jackson, Wyoming. The Merger Agreement provided that, subject to the terms and conditions set forth in the Merger Agreement, Teton would merge into the Company, with the Company continuing as the surviving corporation. The Merger Agreement also provided that following the merger, Rocky Mountain Bank would merge with and into the Bank, with the Bank surviving the bank merger. The transaction closed on December 31, 2021 with an aggregate purchase price of $51.3 million. As part of its long-term growth strategy, the Teton Acquisition expands First Western’s presence in Wyoming and allows the Bank to deliver its unique approach to private and commercial banking to more clients in the region.
The Teton Acquisition was accounted for under the acquisition method of accounting and therefore all assets and liabilities have been measured and recorded at their provisional fair values as of the acquisition close date of December 31, 2021 with final measurement period adjustments made as of March 31, 2022. All non-equity acquisition related costs were expensed as incurred. Certain acquisition costs related to the issuance of equity were capitalized as of December 31, 2021. Market value adjustments for assets acquired and liabilities assumed are amortized or accreted on a level yield basis over the estimated life of the asset or liability. Loans acquired were recorded at their estimated fair value and therefore no allowance for loan and lease losses was recorded at the date of acquisition. Goodwill of $6.2 million, which is not tax deductible, was recognized in the transaction and represents expected synergies and cost savings resulting from combining the expanded footprint and expertise of the associates. Additionally, core deposit intangible assets were identified and recorded at their estimated fair values and are amortized over their estimated useful life. On August 31, 2021, the Company completed the issuance and sale of subordinated notes, which provided partial funding of the transaction. See Note 8 – Borrowings for more information.
During the three months ended March 31, 2022, the Company finalized its application of purchase accounting. The following presents the final valuation of the assets acquired and liabilities assumed in the transaction with Teton as of December 31, 2021, including the measurement period adjustments to the provisional estimates (dollars in thousands):
As of December 31, 2021
Provisional
Measurement Period
Acquired
Fair value of consideration transferred
Estimates
Adjustments
Balances
Cash consideration
11,501
Common stock issued
39,818
Total fair value of consideration transferred
51,319
Assets acquired
Cash and cash equivalents
132,498
18,058
928
Mortgage loans held for sale
840
Loans
252,275
(857)
251,418
Premises and equipment
17,758
923
95
Other receivable
520
Core deposit intangible(1)
1,264
698
1,962
226
242
468
120
Total assets acquired
425,500
425,588
Liabilities assumed
379,227
(29)
379,198
26
1,283
Deferred tax liabilities/(assets), net
42
(71)
Total liabilities assumed
380,578
(100)
380,478
Net assets acquired
44,922
188
45,110
Goodwill recognized
6,397
(188)
6,209
_____________________________________
(1) The core deposit intangible was determined to have an estimated life of 10 years.
The Company incurred $0.5 million in expenses related to the acquisition during the three months ended March 31, 2022. The following presents the acquisition expenses within Non-interest expense of the Condensed Consolidated Statements of Income as of the date noted (dollars in thousands):
Three Months Ended
Mergers and acquisitions expense:
229
112
Total mergers and acquisitions expense
527
15
The following table presents pro forma information for the three months ended March 31, 2022 and 2021, as if the Teton Acquisition had occurred on January 1, 2021. This table has been prepared for comparative purposes only, and is not indicative of the actual results that would have been attained had the acquisitions occurred as of the beginning of the periods presented, nor is it indicative of future results (in thousands, except per share data):
Pro Forma
Net interest income after provision for loan losses
16,456
Noninterest income
11,320
3,656
Pro forma earnings per share:
0.39
k
NOTE 3 - INVESTMENT SECURITIES
The following presents the amortized cost and fair value of securities available-for-sale, with unrealized gains and losses recognized in accumulated other comprehensive income as of the dates noted (dollars in thousands):
Gross
Amortized
Unrealized
Fair
Cost
Gains
Losses
Value
Investment securities available-for-sale:
U.S. Treasury debt
250
(11)
239
U.S. Government Agency
2,959
(92)
2,867
Corporate bonds
17,110
142
(169)
17,083
GNMA mortgage-backed securities – residential
24,890
(1,352)
23,542
FNMA mortgage-backed securities – residential
13,779
(780)
13,002
Government CMO and MBS - commercial
672
(14)
658
Corporate CMO and MBS
1,362
(26)
1,336
Total securities available-for-sale
61,022
149
(2,444)
December 31, 2021
(3)
247
3,522
8,113
227
(15)
8,325
26,611
185
(146)
26,650
14,400
43
14,443
878
1,492
23
(18)
1,497
55,266
478
(182)
As of March 31, 2022, the amortized cost and estimated fair value of available-for-sale securities have contractual maturity dates shown in the table below (dollars in thousands). Expected maturities will differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties. Securities not due at a single maturity date are shown separately.
16
Due within one year
254
252
Due between one year and five years
374
361
Due between five years and ten years
18,207
18,146
Due after ten years
1,484
1,430
Securities (CMO and MBS)
40,703
38,538
In the first quarter of 2022, the Company committed $3.0 million in capital to a bank technology fund. During the three months ended March 31, 2022, the Company made $0.4 million in contributions to the partnership. As of March 31, 2022, the Company held a balance of $0.4 million, which is included in Other assets in the accompanying Condensed Consolidated Balance Sheets. The Company may be obligated to invest up to an additional $2.5 million in future contributions.
In 2014, the Company began investing in a small business investment company ("SBIC") fund administered by the Small Business Administration. The Company did not make any contributions to the SBIC fund during the three months ended March 31, 2022 or the year ended December 31, 2021 and received a $0.1 million return of capital during each period. As of March 31, 2022 and December 31, 2021, the Company held a balance of $2.0 million with SBIC, which is included in Other assets in the accompanying Condensed Consolidated Balance Sheets. The Company may be obligated to invest up to an additional $1.0 million in future SBIC investments.
As of March 31, 2022 and December 31, 2021, securities with carrying values totaling $15.2 million and $17.3 million, respectively, were pledged to secure various public deposits and credit facilities of the Company.
As of March 31, 2022 and December 31, 2021, there were no holdings of securities of any one issuer, other than the U.S. Government sponsored entities and agencies, in an amount greater than 10%of shareholders’ equity.
As of March 31, 2022 and December 31, 2021, ninety securities and ten securities were in an unrealized loss position, with unrealized losses totaling $2.4 million and $0.2 million, respectively. Of the securities in an unrealized loss position as of March 31, 2022, two have been in a continuous unrealized loss position for more than twelve months and the remaining have been in a continuous unrealized loss position for less than twelve months. The unrealized loss positions were caused primarily by interest rate changes and market assumptions about prepayments of principal and interest on the underlying mortgages. Because the decline in market value is attributable to market conditions, not credit quality, and because the Company has the ability and intent to hold these investments until a recovery of fair value, which may be near or at maturity, the Company does not consider these investments to be other-than-temporarily impaired as of March 31, 2022.
17
The following presents securities with unrealized losses aggregated by major security type and length of time in a continuous unrealized loss position as of the dates noted (dollars in thousands, before tax):
Less than 12 Months
12 Months or Longer
7,112
(138)
469
(31)
7,581
23,132
12,802
647
(4)
485
(22)
1,132
47,457
(2,391)
954
(53)
48,411
17,205
521
17,937
(164)
18,458
The Company did not sell any securities during the three months ended March 31, 2022 or during the year ended December 31, 2021.
NOTE 4 - LOANS AND THE ALLOWANCE FOR LOAN LOSSES
The following presents a summary of the Company’s loans as of the dates noted (dollars in thousands):
Cash, Securities, and Other(1)
271,811
295,948
Construction and Development
151,651
178,716
1-4 Family Residential
602,412
580,872
Non-Owner Occupied CRE
455,715
482,622
Owner Occupied CRE
212,401
212,426
Commercial and Industrial(2)
237,144
203,584
Total loans held for investment
1,931,134
1,954,168
Deferred fees and unamortized premiums/(unaccreted discounts), net
(7,309)
(5,031)
______________________________________
(1) Includes PPP loans of $16.7 million and $46.8 million as of March 31, 2022 and December 31, 2021, respectively. Includes $6.4 million of unsecured consumer loans held for investment measured at fair value as of March 31, 2022.
(2) Includes MSLP loans of $6.8 million and $6.8 million as of March 31, 2022 and December 31, 2021, respectively.
As of March 31, 2022 and December 31, 2021, total loans held for investment included $323.6 million and $356.7 million, respectively, of performing loans purchased through mergers or acquisitions. As of March 31, 2022 and December 31, 2021, Cash, Securities, and Other included $6.4 million and $0.0 million, respectively, of loans held for investment measured at fair value. See Note 14 – Fair Value Option.
The CARES Act created the PPP, which is administered by the SBA. The PPP is intended to provide loans to small businesses to pay their employees, rent, mortgage interest, and utilities. The loans may be forgiven conditioned upon the client providing payroll documentation evidencing their compliant use of funds and otherwise complying with the terms of the program. The Bank is an approved SBA lender and as of March 31, 2022, the Cash, Securities, and Other portion of the loan portfolio included $16.7 million of PPP loans, or 6.1% of the total category. As of December 31, 2021, the Cash, Securities, and Other portion of the loan portfolio included $46.8 million of PPP loans, or 15.8% of the total category.
18
The Company is a participant in the Federal Reserve’s MSLP to support lending to small and medium-sized for profit businesses and nonprofit organizations that were in sound financial condition before the onset of the COVID-19 pandemic. As of March 31, 2022, the Company’s Commercial and Industrial loans included five MSLP loans with the net carrying amount of $6.8 million, or 2.9% of the total category. As of December 31, 2021, the Company’s Commercial and Industrial loans included five MSLP loans with the net carrying amount of $6.8 million, or 3.3% of the total category.
Loan Modifications
As a result of the COVID-19 pandemic, a loan modification program was designed and implemented to assist our clients experiencing financial stress resulting from the economic impacts caused by the global pandemic. The Company offered loan extensions, temporary payment moratoriums, and financial covenant waivers for commercial and consumer borrowers impacted by the pandemic who have a pass risk rating and have not been delinquent over 30 days on payments in the last two years.
In 2021, the deferral period ended for all non-acquired loans previously modified and payments resumed under the original terms. As of March 31, 2022, the Company’s loan portfolio included 69 non-acquired loans which were previously modified under the loan modification program, totaling $109.8 million. Through the Teton Acquisition, the Company acquired 18 loans totaling $8.3 million as of March 31, 2022, which were previously modified and are still in their deferral period.
The CARES Act provides banks optional, temporary relief from accounting for certain loan modifications as a TDR. The modifications must be related to the adverse effects of COVID-19, and certain other criteria are required to be met in order to apply the relief. Interagency guidance from Federal Reserve and the FDIC confirmed with the FASB that short-term modifications made on a good faith basis in response to COVID-19 to borrowers who were current prior to any relief, are not to be considered TDRs. We believe our loan modification program meets that definition. In accordance with that guidance, the Company recognized interest income on all loans modified for temporary payment moratoriums, primarily for a period of 180 days or less.
All loans modified in response to COVID-19 are classified as performing and pass rated as of March 31, 2022. These loans are included in the allowance for loan loss general reserve in accordance with ASC 450-20. Management has increased our loan level reviews and portfolio monitoring to address the changing environment. Management believes the diversity of the loan portfolio is prudent and remains consistent with the credit culture and goals of the Bank.
Interest accrued during the modification term on modified loans is deferred to the end of the loan term. As of March 31, 2022, no allowance for loan loss was deemed necessary on the accrued interest balances related to loan modifications.
The following presents, by class, an aging analysis of the recorded investments (excluding accrued interest receivable, deferred fees, and unamortized premiums/(unaccreted discounts) which are not material) in loans past due as of the dates noted (dollars in thousands):
30-59
60-89
90 or
Days
More Days
Recorded
Past Due
Current
Investment
Cash, Securities and Other
351
36
708
271,103
2,069
149,582
3,575
598,837
509
455,206
Commercial and Industrial
11,145
2,190
13,335
223,809
860
2,226
20,196
1,910,938
19
1,199
1,207
294,741
2,758
175,958
1,449
579,423
2,548
480,074
1,419
211,007
748
2,200
2,948
200,636
7,573
2,208
12,329
1,941,839
As of March 31, 2022, the Company had eleven loans, totaling an immaterial amount, in the Cash, Securities and Other portfolio that were more than 90 days delinquent and accruing interest. As of December 31, 2021, the Company had one loan, totaling an immaterial amount, in the Commercial and Industrial portfolio that was more than 90 days delinquent and accruing interest.
Non-Accrual Loans and Troubled Debt Restructurings
The following presents the recorded investment in non-accrual loans by class as of the dates noted (dollars in thousands):
75
1,222
1,241
2,926
2,938
4,226
4,262
Non-accrual loans classified as TDRs accounted for $4.2 million of the recorded investment as of March 31, 2022 and $4.3 million as of December 31, 2021. Non-accrual loans are classified as impaired loans and individually evaluated for impairment.
The following presents a summary of the unpaid principal balance of loans classified as TDRs as of the dates noted (dollars in thousands):
Accruing
55
Non-accrual
Cash, Securities, and Other
4,275
4,315
Allowance for loan losses associated with TDR
(1,751)
Net recorded investment
2,524
2,564
As of March 31, 2022 and December 31, 2020, the Company had not committed any additional funds to a borrower with a loan classified as a TDR.
20
The Company did not modify any loans resulting in TDR status during the three months ended March 31, 2022. The Company modified three loans resulting in TDR status during the year ended December 31, 2021. The first loan was a small mortgage with a remaining balance of $0.1 million where the borrower was unable to make payments or obtain additional financing to pay off the mortgage. As a result, we have modified the loan at the maturity date with a one-year renewal to allow the borrower time to seek a refinance. As of December 31, 2021, this loan remains current under the terms of the modification. The second and third loans modified are in relation to one borrower who has two loans, one Commercial Real Estate Loan in the amount of $1.2 million, which is the space where the related business operates, and a Commercial loan with a balance of $0.7 million. The borrower has experienced a reduction in cash flow through ongoing impact from the pandemic and related shut downs and hiring shortages. As a result, the Company modified both loans allowing for a six month interest only period to provide cash flow relief. The Company obtained a reduced term on the business loan as well as additional collateral from the Borrower. All three of the loans modified during 2021 were sufficiently collateralized and therefore did not require any specific reserve.
TDRs are reviewed individually for impairment and are included in the Company’s specific reserves in the allowance for loan losses. If charged off, the amount of the charge-off is included in the Company’s charge-off factors, which impact the Company’s reserves on non-impaired loans.
The following presents impaired loans by portfolio and related valuation allowance during the periods presented (dollars in thousands):
Unpaid
Allowance
Contractual
for
Principal
Loan
Balance
Impaired loans with a valuation allowance:
1,751
2,192
1,753
Impaired loans with no related valuation allowance:
736
2,034
2,070
Total impaired loans:
The recorded investment in loans in the previous tables excludes accrued interest, deferred fees, and unamortized premiums/(unaccreted discounts), which are not material. Interest income, if any, was recognized on the cash basis on non-accrual loans.
21
The following presents the average balance of impaired loans and interest income recognized on impaired loans during the periods presented (dollars in thousands):
Average
Interest
Income
Recognized
3,419
3,422
34
1,231
479
742
105
74
2,052
618
37
2,932
3,524
4,244
4,040
Allowance for Loan Losses
Allocation of a portion of the allowance for loan losses to one category of loans does not preclude its availability to absorb losses in other categories. The following presents the activity in the Company’s allowance for loan losses by portfolio class during the periods presented (dollars in thousands):
Cash,
Construction
1-4
Non-Owner
Owner
Commercial
Securities
and
Family
Occupied
and Other
Development
Residential
CRE
Industrial
Changes in allowance for loan losses for the three months ended March 31, 2022
Beginning balance
1,864
1,092
3,553
2,952
1,292
2,979
13,732
(Release)/provision for loan losses
(84)
236
(85)
245
Charge-offs
(97)
Recoveries
40
Ending balance
1,723
3,789
1,328
3,224
13,885
Allowance for loan losses as of March 31, 2022 allocated to loans evaluated for impairment:
Individually
Collectively
1,721
1,473
12,132
Loans as of March 31, 2022:
Individually evaluated for impairment
Collectively evaluated for impairment
265,425
602,340
211,179
234,218
1,920,528
Measured at fair value
6,380
22
Changes in allowance for loan losses for the three months ended March 31, 2021
2,579
932
3,233
2,004
1,159
2,632
12,539
(6)
(166)
(81)
207
(36)
82
2,573
766
3,152
2,211
1,123
2,714
Allowance for loan losses as of December 31, 2021 allocated to loans evaluated for impairment:
1,862
1,228
11,979
Loans as of December 31, 2021:
295,940
580,797
211,185
200,646
1,949,906
The Company categorizes loans into risk categories based on relevant information about the ability of the borrowers to service their debt such as: current financial information, historical payment experience, credit documentation, public information, and current economic trends, among other factors. The Company analyzes loans individually by classifying the loans by credit risk on a quarterly basis. The Company uses the following definitions for risk ratings:
Special Mention—Loans classified as special mention have a potential weakness or borrowing relationships that require more than the usual amount of management attention. Adverse industry conditions, deteriorating financial conditions, declining trends, management problems, documentation deficiencies, or other similar weaknesses may be evident. Ability to meet current payment schedules may be questionable, even though interest and principal are still being paid as agreed. The asset has potential weaknesses that may result in deteriorating repayment prospects if left uncorrected. Loans in this risk grade are not considered adversely classified.
Substandard—Substandard loans are considered "classified" and are inadequately protected by the current net worth and paying capacity of the obligor or by the collateral pledged, if any. Loans so classified have a well-defined weakness or weaknesses that jeopardizes the liquidation of the debt. They are characterized by the distinct possibility that the Bank will sustain some loss if the deficiencies are not corrected. Loans in this category may be placed on non-accrual status and may individually be evaluated for impairment if indicators of impairment exist.
Doubtful—Loans graded Doubtful are considered "classified" and have all the weaknesses inherent in those classified as Substandard with the added characteristic that the weaknesses make collection or liquidation in full, on the basis of currently known facts, conditions, and values, highly questionable and improbable. However, the amount of certainty of eventual loss is not known because of specific pending factors.
Loans accounted for under the fair value option are not rated.
Loans not meeting any of the three criteria above are considered to be pass-rated loans. The following presents, by class and by credit quality indicator, the recorded investment in the Company’s loans as of the dates noted (dollars in thousands):
Special
Pass
Mention
Substandard
Not Rated
449,811
5,904
210,492
1,909
231,938
393
4,813
1,911,657
6,297
6,800
176,194
2,522
476,670
5,952
210,493
1,933
198,368
401
4,815
1,938,462
8,875
6,831
The Company had no loans graded doubtful as of March 31, 2022 and December 31, 2021.
NOTE 5 - GOODWILL
The following presents changes in the carrying amount of goodwill as of the dates noted (dollars in thousands):
30,588
24,191
Acquisition activity
30,400
During the year ended December 31, 2021, the Company recorded $6.4 million of goodwill as a result of the Teton Acquisition on December 31, 2021. During the three months ended March 31, 2022, goodwill was adjusted by ($0.2) million as a result of the measurement period adjustments. See Note 2 – Acquisitions for more information.
Goodwill is tested annually for impairment on October 31 or earlier upon the occurrence of certain events.
The goodwill impairment analysis includes the determination of the carrying value of the reporting unit, including the existing goodwill, and estimating the fair value of the reporting unit. If the implied fair value of goodwill is lower than its carrying amount, goodwill impairment is indicated and goodwill is written down to its implied fair value. As of March 31, 2022, there has not been any impairment of goodwill identified or recorded. Goodwill totaled $30.4 million and $30.6 million as of March 31, 2022 and December 31, 2021, respectively.
24
NOTE 6 - LEASES
Leases in which the Company is determined to be the lessee are primarily operating leases comprised of real estate property and office space for our corporate headquarters and profit centers with terms that extend to 2032. In accordance with ASC 842, operating leases are required to be recognized as a right-of-use asset with a corresponding lease liability.
The Company elected to not include short-term leases with initial terms of twelve months or less on the Condensed Consolidated Balance Sheets. The following presents the classification of the right-of-use assets and corresponding liabilities within the Condensed Consolidated Balance Sheets, as of the dates noted (dollars in thousands).
Lease Right-of-Use Assets
Classification
Operating lease right-of-use assets
10,071
10,720
Lease Liabilities
Operating lease liabilities
13,090
13,863
The Company’s operating lease agreements typically include an option to renew the lease at the Company’s discretion. To the extent the Company is reasonably certain it will exercise the renewal option at the inception of the lease, the Company will include the extended term in the calculation of the right-of-use asset and lease liability. ASC 842 requires the use of the rate implicit in the lease when it is readily determinable. As this rate is typically not readily determinable, at the inception of the lease, the Company uses its collateralized incremental borrowing rate over a similar term. The amount of the right-of-use asset and lease liability are impacted by the discount rate used to calculate the present value of the minimum lease payments over the term of the lease.
Weighted-Average Remaining Lease Term
Operating leases
5.12
years
5.26
Weighted-Average Discount Rate
2.63
%
2.67
The Company’s operating leases contain fixed and variable lease components and it has elected to account for all classes of underlying assets as a single lease component. Variable lease costs primarily represent common area maintenance and parking. The Company recognized lease costs in Occupancy and equipment expense in the accompanying Condensed Consolidated Statements of Income. The following presents the Company’s net lease costs during the periods presented (dollars in thousands):
Lease Costs
Operating lease cost
795
752
Variable lease cost
558
412
Lease costs, net
1,353
1,164
25
The following presents a maturity analysis of the Company’s operating lease liabilities on an annual basis for each of the next five years and total amounts thereafter as of the date noted (dollars in thousands):
Year Ending December 31,
Operating Leases
2022(1)
2,601
2023
3,210
2024
3,064
2025
2,073
2026
703
Thereafter
2,168
Total future minimum lease payments
13,819
Less: imputed interest
(729)
Present value of net future minimum lease payments
________________________________________
(1) Amount represents the remaining nine months of year.
Leases in which the Company is determined to be the lessor are considered operating leases and consist of the partial lease of Company owned buildings. In accordance with ASC 842, these leases have been accounted for as operating leases. During the three months ended March 31, 2022, the Company recognized $0.1 million of lease income.
The following presents a maturity analysis of the Company's operating payments to be received on an annual basis for each of the next five years and total amounts thereafter as of the date noted (dollars in thousands):
Undiscounted Operating Lease Income
205
221
199
Total undiscounted operating lease income
625
NOTE 7 - DEPOSITS
The following presents the Company’s interest-bearing deposits as of the dates noted (dollars in thousands):
Money market deposit accounts
1,108,315
1,056,669
Time deposits
156,678
170,491
Negotiable order of withdrawal accounts
319,648
309,940
Savings accounts
33,070
32,299
Total interest-bearing deposits
Aggregate time deposits of $250 or greater
73,602
75,747
Overdraft balances classified as loans totaled an immaterial amount as of March 31, 2022 and December 31, 2021.
The following presents the scheduled maturities of all time deposits for the next five years ending March 31 (dollars in thousands):
Time Deposits
89,023
36,661
6,382
2,590
17,137
4,885
NOTE 8 - BORROWINGS
The Bank has executed a blanket pledge and security agreement with the FHLB that requires certain loans and securities be pledged as collateral for any outstanding borrowings under the agreement. The collateral pledged as of March 31, 2022 and December 31, 2021 amounted to $815.5 million and $771.4 million, respectively. Based on this collateral and the Company’s holdings of FHLB stock, the Company was eligible to borrow an additional $541.2 million as of March 31, 2022. Each advance is payable at its maturity date.
The following presents the Company’s required maturities on FHLB borrowings as of the dates noted (dollars in thousands):
Maturity Date
Rate %
April 22, 2022
0.37
5,000
May 5, 2023
10,000
15,000
To bolster the effectiveness of the SBA’s PPP, the Federal Reserve is supplying liquidity to participating financial institutions through term financing collateralized by PPP loans to small businesses. The Paycheck Protection Program Liquidity Facility ("PPPLF") extends credit to eligible financial institutions that originate PPP loans, taking the loans as collateral at face value and bearing interest at 35 bps. The terms of the loans are directly tied to the underlying PPP loans, which were originated at 2 or 5 years. As of March 31, 2022 and December 31, 2021, the Company utilized $12.6 million and $23.6 million, respectively, under the PPPLF program which is included in the FHLB and Federal Reserve borrowings line of the Condensed Consolidated Balance Sheets.
The Bank has borrowing capacity associated with three unsecured federal funds lines of credit up to $10.0 million, $19.0 million, and $25.0 million. As of March 31, 2022 and December 31, 2021, there were no amounts outstanding on any of the federal funds lines.
On January 1, 2022, the Company redeemed the subordinated notes due December 31, 2026 in the amount of $6.6 million, which were redeemable on or after January 1, 2022. The redemption price is equal to 100% of the principal amount being redeemed, plus accrued and unpaid interest up to, but excluding the date of redemption.
On August 31, 2021, the Company completed the issuance and sale of subordinated notes (the "Notes") totaling $15.0 million in aggregate principal amount. The issuance included $0.3 million of issuance costs and as of March 31, 2022, a net balance of $14.8 million is included in the Subordinated notes line of the Condensed Consolidated Balance Sheets. The Notes accrue interest at a rate of 3.25% per annum until September 1, 2026, at which time the rate will adjust each quarter to the then current three-month SOFR, or an alternative rate determined in accordance with the terms of the Notes, plus 258 basis points; mature on September 1, 2031; are redeemable at the option of the Company on or after September 1, 2026; and pay interest quarterly.
On November 25, 2020, the Company completed the issuance and sale of subordinated notes (the "November 2020 Sub Notes") totaling $10.0 million in aggregate principal amount. The issuance included $0.2 million of issuance costs and as of March 31, 2022, a net balance of $9.8 million is included in the Subordinated notes line of the Condensed Consolidated Balance Sheets. The November 2020 Sub Notes accrue interest at a rate of 4.25% per annum until December 1, 2025, at which time the rate will adjust each quarter to the then current three-month term SOFR, or an alternative rate determined in accordance with the terms of the November 2020 Sub Notes, plus 402 basis points; mature on December 1, 2030; are redeemable at the option of the Company on or after December 1, 2025; and pay interest semi-annually prior to December 1, 2025 and quarterly after December 1, 2025.
On March 17, 2020, the Company completed the issuance and sale of subordinated notes (the ‘March 2020 Sub Notes”) totaling $8.0 million in aggregate principal amount. The issuance included $0.1 million of issuance costs and as of March 31, 2022, a net balance of $7.9 million is included in the Subordinated notes line of the Condensed Consolidated Balance Sheets. The March 2020 Sub Notes accrue interest at a rate of 5.125% per annum until March 31, 2025, at which time the rate will adjust each quarter to the then current three-month LIBOR, or an alternative rate determined in accordance with the terms of the March 2020 Sub Notes, plus 450 basis points; mature on March 31, 2030; are redeemable at the option of the Company on or after March 31, 2025; and pay interest quarterly.
The Company’s borrowing facilities include various financial and other covenants, including, but not limited to, a requirement that the Bank maintains regulatory capital that is deemed "well capitalized" by federal banking agencies. See Note 17 – Regulatory Capital Matters for additional information. As of March 31, 2022 and December 31, 2021, the Company was in compliance with the covenant requirements.
NOTE 9 - COMMITMENTS AND CONTINGENCIES
The Company is party to credit-related financial instruments with off-balance sheet risk in the normal course of business to meet the financing needs of its clients. These financial instruments include commitments to extend credit. Such commitments involve, to varying degrees, elements of credit and interest rate risk in excess of the amount recognized in the Condensed Consolidated Balance Sheets. Commitments may expire without being utilized. The Company’s exposure to loan loss is represented by the contractual amount of these commitments, although material losses are not anticipated. The Company follows the same credit policies in making commitments as it does for on-balance sheet instruments.
The following presents the Company’s financial instruments whose contract amounts represent credit risk, as of the dates noted (dollars in thousands):
Fixed Rate
Variable Rate
Unused lines of credit
118,953
509,677
136,289
442,035
Standby letters of credit
5,696
22,035
2,420
20,940
Commitments to make loans to sell
79,178
60,529
Commitments to make loans
46,354
12,626
16,256
14,920
Unused lines of credit are agreements to lend to a client as long as there is no violation of any condition established in the contract. Commitments generally have fixed expiration dates or other termination clauses and may require payment of a fee. Several of the commitments may expire without being drawn upon. Therefore, the total commitment amounts do not necessarily represent future cash requirements. The amount of collateral obtained, if it is deemed necessary by the Company, is based on management’s credit evaluation of the client.
Unused lines of credit under commercial lines of credit, revolving credit lines, and overdraft protection agreements are commitments for possible future extensions of credit to existing clients. These lines of credit are uncollateralized and usually do not contain a specified maturity date and may not be drawn upon to the total extent to which the Company is committed.
Standby letters of credit are conditional commitments issued by the Company to guarantee the performance of a client’s obligation to a third party. Those letters of credit are primarily issued to support public and private borrowing arrangements. Substantially all letters of credit issued have expiration dates within one year. The credit risk involved in issuing letters of credit is essentially the same as that involved in extending loan facilities to clients. The Company holds collateral supporting those commitments if deemed necessary.
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Commitments to make loans to sell are agreements to lend to a client which would then be sold to an investor in the secondary market for which the interest rate has been locked with the client, provided there is no violation of any condition within the contract with either party. Commitments to make loans to sell have fixed interest rates. Since commitments may expire without being extended, total commitment amounts may not necessarily represent cash requirements.
Commitments to make loans are agreements to lend to a client, provided there is no violation of any condition within the contract. Commitments to make loans generally have fixed expiration dates or other termination clauses. Since commitments may expire without being extended, total commitment amounts may not necessarily represent cash requirements.
Litigation, Claims and Settlements
The Company is, from time to time, involved in various legal actions arising in the normal course of business. While the ultimate outcome of any such proceedings cannot be predicted with certainty, it is the opinion of management, based on advice from legal counsel, that no proceedings exist, either individually or in the aggregate, which, if determined adversely to the Company, would have a material effect on the Company’s condensed consolidated financial statements.
NOTE 10 - SHAREHOLDERS’ EQUITY
Common Stock
The Company’s common stock has no par value and each holder of common stock is entitled to one vote for each share (though certain voting restrictions may exist on non-vested restricted stock) held.
On January 6, 2022, the Company filed a Form S-3 Registration Statement with the SEC providing that the Company may offer and sell from time to time, separately or together, in multiple series or in one or more offerings, any combination of common stock, preferred stock, debt securities, warrants, depository shares and units, up to a maximum aggregate offer price of $100 million.
On November 3, 2020, the Company announced that its board of directors authorized the repurchase of up to 400,000 shares of the Company’s common stock, no par value (the "2020 Repurchase Plan") and that the Board of Governors of the Federal Reserve System advised the Company that it has no objection to the Company’s 2020 Repurchase Plan. The 2020 Repurchase Plan was in effect for a one-year period, with the timing of purchases and the number of shares repurchased under the program dependent upon a variety of factors including price, trading volume, corporate and regulatory requirements, and market conditions. The 2020 Repurchase Plan expired in November 2021. During the year ended December 31, 2021, the Company did not repurchase any shares under the 2020 Repurchase Plan.
During the three months ended March 31, 2022 and 2021, the Company sold no shares of common stock.
Restricted Stock Awards
In 2017, the Company issued 105,264 shares of common stock ("Restricted Stock Awards") with a value of $3.0 million to the sole member of EMC Holdings, LLC ("EMC"), subject to forfeiture based on his continued employment with the Company. Half of the Restricted Stock Awards ($1.5 million or 52,632 shares) vests ratably over five years. The remaining $1.5 million, or 52,632 shares, may be earned based on performance of the mortgage division of the Company. The performance based awards fully vested in the second quarter of 2020.
As of March 31, 2022, the Restricted Stock Awards have a weighted-average grant date fair value of $28.50 per share. During the three months ended March 31, 2022 and 2021, the Company recognized compensation expense of $0.1 million for the Restricted Stock Awards. As of March 31, 2022, the Company has $0.1 million of unrecognized stock-based compensation expense related to the shares issued, which is expected to be recognized over a weighted average period of less than one year. No restricted Stock Awards vested during the three months ended March 31, 2022 or 2021.
Stock-Based Compensation Plans
The 2008 Stock Incentive Plan ("the 2008 Plan") was frozen in connection with the adoption of the 2016 Plan and no new awards may be granted under the 2008 Plan. As of March 31, 2022, there were a total of 338,950 shares available for issuance under the First Western Financial, Inc. 2016 Omnibus Incentive Plan ("the 2016 Plan"). If the Awards outstanding under the 2008 Plan or the 2016 Plan are forfeited, cancelled or terminated with no consideration paid to the Company, those amounts will increase the number of shares eligible to be granted under the 2016 Plan.
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Stock Options
The Company did not grant any stock options during the three months ended March 31, 2022 and 2021.
During the three months ended March 31, 2022, the Company recognized no stock based compensation expense associated with stock options. During the three months ended March 31, 2021, the Company recognized an immaterial amount of stock based compensation expense. As of March 31, 2022, the Company has no unrecognized stock-based compensation expense related to stock options.
The following presents activity for nonqualified stock options during the three months ended March 31, 2022:
Weighted
Number
Remaining
Aggregate
of
Exercise
Intrinsic
Options
Price
Term
Outstanding as of December 31, 2021
308,574
29.21
Granted
Exercised
(2,511)
23.01
Forfeited or expired
(116,100)
40.00
Outstanding as of March 31, 2022
189,963
22.70
2.8
Options fully vested / exercisable as of March 31, 2022
(1) Nonqualified stock options outstanding at the end of the period and those fully vested/exercisable had immaterial aggregate intrinsic values.
As of March 31, 2022, there were 189,963 options that were exercisable. Exercise prices are between $20.00 and $27.00 per share, and the options are exercisable for a period of ten years from the original grant date and expire on various dates between 2022 and 2026.
Restricted Stock Units
Pursuant to the 2016 Plan, the Company can grant associates and non-associate directors long-term cash and stock-based compensation. Historically, the Company has granted certain associates restricted stock units which are earned over time or based on various performance measures and convert to common stock upon vesting, which are summarized here and expanded further below.
The following presents the activity for the Time Vesting Units, the Financial Performance Units, and the Market Performance Units during the three months ended March 31, 2022:
Time
Financial
Market
Vesting
Performance
Units
249,821
183,483
13,746
Vested
(414)
(12,100)
Forfeited
(1,967)
(671)
247,440
170,712
During the three months ended March 31, 2022, the Company issued 8,225 shares of common stock upon the settlement of Restricted Stock Units. The remaining 4,289 shares were surrendered with a combined market value at the dates of settlement of $0.1 million to cover employee withholding taxes. During the three months ended March 31, 2021, the Company issued 6,127 shares of common stock upon the settlement of Restricted Stock Units. The remaining 2,824 shares were surrendered with a combined market value at the dates of settlement of $0.1 million to cover employee withholding taxes.
Time Vesting Units
Time Vesting Units are granted to full-time associates and board members at the date approved by the Company’s board of directors. The Company did not grant any Time Vesting Units during the three months ended March 31, 2022. During the three months ended March 31, 2022 and 2021, the Company recognized compensation expense of $0.4 million for the Time Vesting Units. As of March 31, 2022, there was $3.0 million of unrecognized compensation expense related to the Time Vesting Units, which is expected to be recognized over a weighted-average period of 1.4 years.
Financial Performance Units
Financial Performance Units are granted to certain key associates and are earned based on the Company achieving various financial performance metrics. If the Company achieves the financial metrics, which include various thresholds from 0% up to 150%, then the Financial Performance Units will have a subsequent vesting period.
The following presents the Company’s existing Financial Performance Units as of March 31, 2022 (dollars in thousands, except share amounts):
Grant Period
Threshold Accrual
Maximum Issuable Shares at Current Threshold
Unrecognized Compensation Expense
Weighted-Average (1)
Financial Metric End Date
Vesting Requirement End Date
May 1, 2019 through April 30, 2020
150%
80,255
292
1.8 years
December 31, 2023
May 1, 2020 through December 31, 2020, excluding November 18, 2020
81,099
400
2.8 years
December 31, 2022
On November 18, 2020
34,752
313
2.6 years
50% November 18, 2023 & 2025
May 3, 2021 through August 11, 2021
59,963
3.8 years
December 31, 2025
(1) Represents the expected unrecognized stock-based compensation expense recognition period.
The following presents the Company’s Financial Performance Units activity for the three months ended March 31 (dollars in thousands, except share amounts):
Units Granted
Compensation Expense Recognized
Prior to May 1, 2019
61
56
53
81
Market Performance Units
Market Performance Units were granted to certain key associates and are earned based on growth in the value of the Company’s common stock, and were dependent on the Company completing an initial public offering of stock during a defined period of time. On July 23, 2018, the Company completed its initial public offering and the Market Performance Units performance condition was met. Subsequent to the performance condition there is also a market condition as a vesting requirement for the Market Performance Units which affects the determination of the grant date fair value. The Company estimated the grant date fair value using various valuation assumptions. During the three months ended March 31, 2022 and 2021, the Company recognized an immaterial amount of compensation expense for the Market Performance Units. As of March 31, 2022, there was an immaterial amount of unrecognized compensation expense related to the Market Performance Units which is expected to be recognized over a weighted-average period of less than one year.
If the Company’s common stock is trading at or above certain prices, over a performance period which ended on June 30, 2020, the Market Performance Units would have been determined to be earned and vest following the completion of a subsequent service period ending on June 30, 2022. The Company’s common stock did not trade at or above the required prices over the performance period and as a result, no Market Performance Units are eligible to be earned.
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NOTE 11 - EARNINGS PER COMMON SHARE
The following presents the calculation of basic and diluted earnings per common share during the periods presented (dollars in thousands, except share and per share amounts):
Earnings per common share - Basic
Numerator:
Net income available for common shareholders
Denominator:
Basic weighted average shares
9,418,318
7,935,664
Earnings per common share - basic
Earnings per common share - Diluted
Diluted effect of common stock equivalents:
Stock options
57,139
4,923
189,538
102,530
83,954
46,289
13,653
14,197
Total diluted effect of common stock equivalents
344,284
167,939
Diluted weighted average shares
9,762,602
8,103,603
Earnings per common share - diluted
Diluted earnings per share was computed without consideration to potentially dilutive instruments as their inclusion would have been anti-dilutive.
The following presents potentially dilutive securities excluded from the diluted earnings per share calculation during the periods presented:
278,109
3,982
23,168
21,054
Total potentially dilutive securities
326,313
NOTE 12 - INCOME TAXES
During the three months ended March 31, 2022 and 2021, the Company recorded an income tax provision of $1.8 million and $2.0 million, respectively, reflecting an effective tax rate of 24.5% and 25.4%, respectively.
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NOTE 13 - RELATED-PARTY TRANSACTIONS
The Bank extends credit to certain covered parties including Company directors, executive officers and their affiliates. As of March 31, 2022 and December 31, 2021, there were no delinquent or non-performing loans to any executive officer or director of the Company. These covered parties, along with principal owners, management, immediate family of management or principal owners, a parent company and its subsidiaries, trusts for the benefit of employees, and other parties, may be considered related parties. The following presents a summary of related-party loan activity as of the dates noted (dollars in thousands):
Balance, beginning of year
12,833
14,321
Funded loans
2,284
11,294
Payments collected
(3,063)
(12,782)
Balance, end of period
12,054
Deposits from related parties held by the Bank as of March 31, 2022 and December 31, 2021 totaled $46.5 million and $51.0 million, respectively.
The Company leases office spaces from entities controlled by one of the Company’s board members. During the three months ended March 31, 2022 and 2021, the Company incurred an immaterial amount and $0.1 million, respectively, of expenses related to these leases.
NOTE 14 - FAIR VALUE
Fair value is the exchange price that would be received for an asset or paid to transfer a liability (exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. There are three levels of inputs that may be used to measure fair values:
Level 1:
Quoted prices (unadjusted) for identical assets or liabilities in active markets that the entity has the ability to access as of the measurement date.
Level 2:
Significant other observable inputs other than Level 1 prices such as quoted prices for similar assets or liabilities; quoted prices in markets that are not active; or other inputs that are observable or can be corroborated by observable market data.
Level 3:
Significant unobservable inputs that reflect a company’s own assumptions about the assumptions that market participants would use in pricing an asset or liability.
Recurring Fair Value
Investment Securities: The fair values for investment securities are determined by quoted market prices, if available (Level 1). For securities where quoted prices are not available, fair values are calculated based on market prices of similar securities (Level 2). For securities where quoted prices or market prices of similar securities are not available, fair values are calculated using discounted cash flows or other market indicators (Level 3).
Equity Securities: Fair value of equity securities represents the market value of mutual funds based on quoted market prices (Level 1) and the value of stock held in other companies, which is based on recent market transactions or quoted rates that are not actively traded (Level 2).
Equity Warrants: Fair value of equity warrants of private companies are priced using a Black-Scholes option pricing model to estimate the asset fair value by using strike prices, option expiration dates, risk-free interest rates, and option volatility assumptions (Level 3).
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Guarantee Asset and Liability: The guarantee asset represents the fair value of the consideration received in exchange for the credit enhancement fee. The guarantee liability represents a financial guarantee to cover the second layer of any losses on loans sold to FHLB under the MPF 125 loan sales agreement. The guarantee liability value on day one is equivalent to the guarantee asset fair value, which is the consideration for the credit enhancement fee paid over the life of the loans. The liability is then carried at amortized cost. Significant inputs in the valuation analysis for the asset are Level 3, due to the nature of this asset and the lack of market quotes. The fair value of the guarantee asset is determined using a discounted cash flow model, for which significant unobservable inputs include assumed future prepayment rates ("CPR") and market discount rate (Level 3). An increase in prepayment rates or discount rate would generally reduce the estimated fair value of the guarantee asset.
Mortgage Related Derivatives: Mortgage related derivatives include our IRLC, FSC, and the forward commitments on our loans held for sale pipeline. The fair value estimate of our IRLC is based on valuation models using market data from secondary market loan sales and direct contacts with third party investors as of the measurement date and pull through assumptions (Level 3). The FSC fair value estimate reflects the potential pair off fee associated with mandatory trades and is estimated by using a market differential and pair off penalty assessed by the investor (Level 3). The fair value estimate of the forward commitments is based on market prices of similar securities to the underlying MBS (Level 2).
Loans Held for Investment: The fair value of loans held for investment are typically determined based on discounted cash flow analysis using market-based interest rate spreads. Discounted cash flow analysis are adjusted, as appropriate, to reflect current market conditions and borrower specific credit risk. Due to the nature of the valuation inputs, loans held for investment are classified within Level 3 of the valuation hierarchy.
Mortgage Loans Held for Sale: The fair value of mortgage loans held for sale is estimated based upon quotes from third party investors for similar assets resulting in a Level 2 classification.
The following presents assets and liabilities measured on a recurring basis as of the dates noted (dollars in thousands):
Quoted
Prices in
Significant
Active Markets
for Identical
Observable
Unobservable
Inputs
Reported
(Level 1)
(Level 2)
(Level 3)
10,868
6,215
GNMA mortgage-backed securities - residential
FNMA mortgage-backed securities - residential
Government CMO and MBS
52,273
Loans held at fair value
Forward commitments and FSC
1,478
Equity securities
676
122
Guarantee asset
206
IRLC, net
990
Equity warrants
402
6,212
2,113
53,202
(65)
(9)
(74)
709
489
1,198
237
160
There were no transfers between levels during the three months ended March 31, 2022 or year ended December 31, 2021.
U.S. Treasury debt is reported at fair value utilizing Level 1 inputs. Three Corporate bonds are reported at fair value utilizing Level 3 inputs. The remaining portfolio of securities are reported at fair value with Level 2 inputs provided by a pricing service. As of March 31, 2022 and December 31, 2021, the majority of the securities had credit support provided by the Federal Home Loan Mortgage Corporation, GNMA, and FNMA. Factors used to value the securities by the pricing service include: benchmark yields, reported trades, interest spreads, prepayments, and other market research. In addition, ratings and collateral quality are considered.
As of March 31, 2022, equity securities, equity warrants, IRLC, and guarantee assets have been recorded at fair value within the Other assets line item in the Condensed Consolidated Balance Sheets. All changes are recorded in the Other line item in the Condensed Consolidated Statements of Income.
Fair Value Option
The Company has elected to account for certain purchased whole loans held for investment under the fair value option in order to align the accounting presentation with the Company’s viewpoint of the economics of the loans. Interest income on loans held for investment accounted for under the fair value option is recognized within Interest and dividend income in the accompanying Condensed Consolidated Statements of Income. Not electing fair value generally results in a larger discount being recorded on the date of the loan purchase. The discount is subsequently accreted into interest income over the underlying loan’s remaining term using the effective interest method. Additionally, management has elected the fair value option for mortgage loans originated and held for sale.
There were no loans accounted for under the fair value option that were 90 days or more past due and still accruing interest as of March 31, 2022 or December 31, 2021. Additionally, there were no loans accounted for under the fair value option that were on nonaccrual as of March 31, 2022 or December 31, 2021.
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The following provides more information about the fair value carrying amount and unpaid principal outstanding of loans accounted for under the fair value option as of the dates noted (dollars in thousands):
Total Loans
Non Accruals
90 Days or More Past Due
Fair Value Carrying Amount
Unpaid Principal Balance
Difference
Loans held for sale
33,713
(50)
Loans held for investment
6,368
40,043
40,081
(38)
29,857
763
The following presents the net (losses)/gains from changes in fair value of loans accounted for under the fair value option as of the dates noted (dollars in thousands):
(1,911)
125
The following summarizes the activity pertaining to loans accounted for under the fair value option as of the dates noted (dollars in thousands):
Balance at beginning of period
161,843
Loans originated
191,081
525,814
Loans acquired
Fair value changes
667
5,969
Sales
(188,666)
(514,556)
Settlements
(39)
(2,426)
Balance at end of period
176,644
Nonrecurring Fair Value
Other Real Estate Owned: Assets acquired through or instead of loan foreclosure are initially recorded at fair value less costs to sell when acquired, establishing a new cost basis. They are subsequently accounted for at lower of cost or fair value less estimated costs to sell. Fair value is commonly based on recent real estate appraisals which are updated no less frequently than on an annual basis. Appraisals may utilize a single valuation approach or a combination of approaches including comparable sales and the income approach. Adjustments are routinely made in the appraisal process by the independent appraisers to adjust for differences between comparable sales and income data available. Such adjustments can be significant and typically result in Level 3 classifications of the inputs for determining fair value. Other real estate owned is evaluated annually for additional impairment and adjusted accordingly.
Impaired Loans: The fair value of impaired loans with specific allocations of the allowance for loan losses is generally based on recent appraisals. These appraisals may utilize a single valuation approach or a combination of approaches including comparable sales and the income approach. Adjustments are routinely made in the appraisal process by the independent appraisers to adjust for differences between the comparable sales and income data available. Such adjustments can be significant and typically result in Level 3 classifications of the inputs for determining fair value. Impaired loans are evaluated monthly for additional impairment and adjusted accordingly.
Appraisals for both collateral-dependent impaired loans and other real estate owned are performed by certified general appraisers (for commercial properties) or certified residential appraisers (for residential properties) whose qualifications and licenses have been reviewed and verified by the Company. Once received, the Company reviews the assumptions and approaches utilized in the appraisal as well as the overall resulting fair value in comparison with independent data sources such as recent market data or industry-wide statistics.
The following presents assets measured on a nonrecurring basis as of the dates noted (dollars in thousands):
Impaired loans(1):
439
(1) One immaterial Cash, Securities and Other loan was fully reserved for using a specific allowance as of March 31, 2022 and December 31, 2021.
The sales comparison approach was utilized for estimating the fair value of non-recurring assets.
As of March 31, 2022 and December 31, 2021, the Company did not own any OREO properties.
As of March 31, 2022 and December 31, 2021, total impaired loans measured for impairment using the fair value of the collateral for collateral dependent loans had carrying values of $2.2 million with valuation allowances of $1.8 million and were classified as Level 3.
Impaired loans accounted for specific reserves of $1.8 million as of March 31, 2022 and December 31, 2021. The Company did not have any charge offs during the three months ended March 31, 2022 from the specific reserve. The Company charged off an immaterial amount during the year ended December 31, 2021 from the specific reserve.
Level 3 Analysis
The following presents a reconciliation for Level 3 instruments measured at fair value on a recurring basis as of the dates noted (dollars in thousands):
Three Months Ended March 31, 2022
Corporate Bonds
Loans Held at Fair Value
FSC
Guarantee Asset
IRLC
Equity Warrants
Acquisitions
4,000
1,614
Originations
(1,354)
Losses in net income, net
(743)
Unrealized gains, net
102
Three Months Ended March 31, 2021
(89)
9,841
2,684
(7,016)
(44)
(3,404)
Unrealized gains/(losses), net
(173)
2,105
The following presents quantitative information about Level 3 assets measured on a recurring and nonrecurring basis as of the dates noted (dollars in thousands):
Quantitative Information about Level 3 Fair Value Measurements as of March 31, 2022
Valuation
Range
Fair Value
Technique
Unobservable Input
(Weighted Average)
Recurring fair value
Discounted cash flow
Discount rate
5% (5%)
19 bps (19 bps)
Discount ratePrepayment rate
3% (3%)11% (11%)
Best execution model
Pull through
67% to 100% (93%)
Black-Scholes option pricing model
VolatilityRisk-free interest rateRemaining life
24% to 37% (32%)0.30% to 1.10% (0.97%)0 to 4 years
Nonrecurring fair value
Sales comparison, Market approach - guideline transaction method
Management discount for asset/property type
7% - 45% (38%)
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Quantitative Information about Level 3 Fair Value Measurements as of December 31, 2021
7% (7%)
Internal pricing model
Market Differential
-14bps to -2 bps (-6bps)
3% (3%)18% (18%)
71% to 100% (88%)
17% - 45% (39%)
Estimated Fair Value of Other Financial Instruments
The following presents carrying amounts and estimated fair values for financial instruments not carried at fair value as of the dates noted (dollars in thousands):
Carrying
Fair Value Measurements Using:
Amount
Level 1
Level 2
Level 3
Assets:
1,902,433
299
6,668
Liabilities:
2,273,766
FHLB borrowings – fixed rate
14,817
Federal Reserve borrowings – fixed rate
12,576
Subordinated notes – fixed-to-floating rate
35,573
130
182
39
1,919,625
203
6,946
2,207,452
14,990
23,629
40,325
156
The fair value estimates presented and discussed above are based on pertinent information available to management as of the dates specified. The estimated fair value amounts are based on the exit price notion set forth by ASU 2016-01. Although management is not aware of any factors that would significantly affect the estimated fair values, such amounts have not been comprehensively revalued for purposes of these condensed consolidated financial statements since the balance sheet dates. Therefore, current estimates of fair value may differ significantly from the amounts presented herein.
The methods and assumptions, not previously presented, used to estimate fair values are described as follows.
Cash and Cash Equivalents and Restricted Cash: The carrying amounts of cash and cash equivalents and restricted cash approximate fair values as maturities are less than 90 days and balances are generally in accounts bearing current market interest rates.
Loans, net: The fair values for all fixed-rate and variable-rate performing loans were estimated using the income approach and by discounting the projected cash flows of such loans. Principal and interest cash flows were projected based on the contractual terms of the loans, including maturity, contractual amortization and adjustments for prepayments and expected losses, where appropriate. A discount rate was developed based on the relative risk of the cash flows, taking into account the loan type, maturity and a required return on capital.
Accrued Interest Receivable and Payable: The carrying amounts of accrued interest approximate fair value due to their short-term nature.
Deposits: The fair values disclosed for demand deposits (e.g., interest and non-interest checking, passbook savings, and certain types of money market accounts) are, by definition, equal to the amounts payable on demand at the reporting date (i.e., their carrying amounts). The carrying amounts of variable-rate, fixed-term money market accounts and certificates of deposit approximate their fair values at the reporting dates. Fair values for fixed-rate certificates of deposit are estimated using a discounted cash flow calculation that applies interest rates currently being offered on certificates to a schedule of aggregated expected monthly maturities on time deposits.
Fixed Rate Borrowings: Borrowings with fixed rates are valued using inputs such as discounted cash flows and current interest rates for similar instruments and borrowers with similar credit ratings.
Fixed-to-Floating Rate Borrowings: Borrowings with fixed-to-floating rates are valued using inputs such as discounted cash flows and current interest rates for similar instruments and assume the Company will redeem the instrument prior to the first interest rate reset date.
NOTE 15 - SEGMENT REPORTING
The Company’s reportable segments consist of Wealth Management and Mortgage. The chief operating decision maker ("CODM") is the Chief Executive Officer. The measure of profit or loss used by the CODM to identify and measure the Company’s reportable segments is income before income tax.
The Wealth Management segment consists of operations relative to the Company’s fully integrated wealth management products and services. Services provided include deposit, loan, insurance, and trust and investment management advisory products and services.
The Mortgage segment consists of operations relative to the Company’s residential mortgage service offerings. Mortgage products and services are financial in nature for which premiums are recognized net of expenses, upon the sale of mortgage loans to third parties.
The following presents the financial information for each segment that is specifically identifiable or based on allocations using internal methods as of or for the three months ended March 31, 2022 and 2021 (dollars in thousands):
As of or for the three months ended March 31, 2022
WealthManagement
Mortgage
Consolidated
Income Statement
Total interest income
Non-interest income
6,115
2,518
24,189
Depreciation and amortization expense
548
560
All other non-interest expense
16,631
2,201
18,832
7,011
305
Goodwill
2,539,473
37,188
As of or for the three months ended March 31, 2021
5,418
5,197
18,471
258
272
12,296
3,061
15,357
5,917
2,122
2,025,720
185,858
2,211,578
NOTE 16 – LOW-INCOME HOUSING TAX CREDIT INVESTMENTS
On December 19, 2019, the Company invested in a low-income housing tax credit ("LIHTC") investment. As of March 31, 2022 and December 31, 2021, the balance of the investment for LIHTC was $2.7 million and $2.6 million, respectively. These balances are reflected in the Other assets line item of the Condensed Consolidated Balance Sheets.
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There were no unfunded commitments related to the investment in the LIHTC as of March 31, 2022. As of December 31, 2021, total unfunded commitments were $0.2 million.
The Company uses the proportional amortization method to account for this investment. During the three months ended March 31, 2022 and 2021, the Company recognized amortization expense of $0.1 million which was included within the Income tax expense line item of the Condensed Consolidated Statements of Income.
Additionally, during the three months ended March 31, 2022 and 2021, the Company recognized $0.1 million of tax credits and other benefits from this investment in the LIHTC. During the three months ended March 31, 2022 and 2021, the Company did not incur any impairment losses.
NOTE 17 - REGULATORY CAPITAL MATTERS
First Western and the Bank are subject to various regulatory capital adequacy requirements administered by federal banking agencies. Failure to meet minimum capital requirements can initiate certain mandatory and possibly additional discretionary actions by regulators that, if undertaken, could have a direct material effect on the Company’s condensed consolidated financial statements. Under capital adequacy guidelines and, additionally for banks, the regulatory framework for prompt corrective action, First Western and the Bank must meet specific capital guidelines that involve quantitative measures of their assets, liabilities, and certain off-balance sheet items as calculated under regulatory accounting practices.
First Western and the Bank’s capital amounts and classification are also subject to qualitative judgments by the regulators regarding components, risk weightings, and other factors. The final rules implementing Basel Committee on Banking Supervision’s capital guidelines for U.S. banks ("Basel III rules") has been fully phased in. The net unrealized gain or loss on available-for-sale securities is not included in computing regulatory capital. During the year ended December 31, 2021, First Western made a capital injection of $2.9 million into the Bank. Management believes as of March 31, 2022, First Western and the Bank meet all capital adequacy requirements to which they are subject to.
Prompt corrective action regulations for First Western and the Bank provide five classifications: well capitalized, adequately capitalized, undercapitalized, significantly undercapitalized, and critically undercapitalized, although these terms are not used to represent overall financial condition. If adequately capitalized, regulatory approval is required to accept brokered deposits. If undercapitalized, capital distributions are limited, as is asset growth and expansion, and capital restoration plans are required.
The standard ratios established by First Western and the Bank’s primary regulators to measure capital require First Western and the Bank to maintain minimum amounts and ratios, set forth in the following table. These ratios are common equity Tier 1 capital ("CET1"), Tier 1 capital and total capital (as defined in the regulations) to risk-weighted assets (as defined), and Tier 1 capital (as defined) to average assets (as defined).
The actual capital ratios of First Western and the Bank, along with the applicable regulatory capital requirements as of March 31, 2022, were calculated in accordance with the requirements of Basel III. The final rules of Basel III also established a “capital conservation buffer” of 2.5% above new regulatory minimum capital ratios, which are fully effective following minimum ratios: (i) a CET1 ratio of 7.0%; (ii) a Tier 1 capital ratio of 8.5%; and (iii) a total capital ratio of 10.5%. Banks are subject to limitations on paying dividends, engaging in share repurchases, and paying discretionary bonuses if its capital level falls below the buffer amount. These limitations establish a maximum percentage of eligible retained income that can be utilized for such activities.
As of March 31, 2022 and December 31, 2021, the most recent filings with the FDIC categorized First Western and the Bank as well capitalized under the regulatory guidelines. To be categorized as well capitalized, an institution must maintain minimum CET1 risk-based, Tier 1 risk-based, total risk-based, and Tier 1 leverage ratios as set forth in the following table. Management believes there are no conditions or events since March 31, 2022, that have changed the categorization of First Western and the Bank as well capitalized. Management believes First Western and the Bank met all capital adequacy requirements to which it was subject as of March 31, 2022 and December 31, 2021.
The following presents the actual and required capital amounts and ratios as of dates noted (dollars in thousands):
To be Well Capitalized
Under Prompt
Required for Capital
Corrective Action
Actual
Adequacy Purposes(1)
Regulations
Ratio
Tier 1 capital to risk-weighted assets
Bank
209,428
12.01
104,663
6.0
139,551
8.0
194,605
11.11
N/A
CET1 to risk-weighted assets
78,497
4.5
113,385
6.5
Total capital to risk-weighted assets
223,664
12.82
174,439
10.0
241,841
13.81
Tier 1 capital to average assets
8.27
101,264
4.0
126,581
5.0
7.67
203,164
11.40
106,945
142,594
188,777
10.54
80,209
115,858
217,215
12.19
178,242
242,388
13.54
10.05
80,887
101,108
9.31
(1) Does not include capital conservation buffer.
NOTE 18 – SUBSEQUENT EVENTS
On April 1, 2022, the Company elected to transfer all securities classified as available for sale to held to maturity. The Company determined, based on strong liquidity and history of not selling securities, that the held to maturity classification more appropriately reflects management’s intent for the securities.
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations
The following discussion and analysis is intended to assist readers in understanding our financial condition and results of operations for the three months ended March 31, 2022 and should be read in conjunction with our consolidated financial statements and the accompanying notes thereto included in this Quarterly Report on Form 10-Q (this "Form 10-Q") and in our Annual Report on Form 10-K filed with the Securities and Exchange Commission ("SEC") on March 15, 2022. Unless we state otherwise or the context otherwise requires, references in this Form 10-Q to "we," "our," "us," "the Company," and "First Western" refer to First Western Financial, Inc. and its consolidated subsidiaries, including First Western Trust Bank, which we sometimes refer to as "the Bank" or "our Bank."
The following discussion contains "forward-looking statements" that reflect our future plans, estimates, beliefs and expected performance. We caution that assumptions, expectations, projections, intentions or beliefs about future events may, and often do, vary from actual results and the differences can be material. See "Cautionary Note Regarding Forward-Looking Statements." Also, see the risk factors and other cautionary statements described under the heading "Item 1A - Risk Factors" included in our Annual Report Form 10-K filed with the SEC on March 15, 2022 and in Part II–Item 1A of this Form 10-Q. We do not undertake any obligation to publicly update any forward-looking statements except as otherwise required by applicable law.
Company Overview
We are a financial holding company founded in 2002 and headquartered in Denver, Colorado. We provide a fully integrated suite of wealth management services to our clients including banking, trust, and investment management products and services. Our mission is to be the best private bank for the Western wealth management client. We target entrepreneurs, professionals, and high-net worth individuals, typically with $1.0 million-plus in liquid net worth, and their related philanthropic and business organizations, which we refer to as the "Western wealth management client." We believe that the Western wealth management client shares our entrepreneurial spirit and values our sophisticated, high-touch wealth management services that are tailored to meet their specific needs. We partner with our clients to solve their unique financial needs through our expert integrated services provided in a team approach.
We offer our services through a branded network of boutique private trust bank offices, which we believe are strategically located in affluent and high-growth markets in locations across Colorado, Arizona, Wyoming, and California. Our profit centers, which are comprised of private bankers, lenders, wealth planners, and portfolio managers, under the leadership of a local chairman and/or president, are also supported centrally by teams providing management services such as operations, risk management, credit administration, marketing, technology support, human capital, and accounting/finance services, which we refer to as support centers.
From 2004, when we opened our first profit center, until March 31, 2022, we have expanded our footprint into fifteen full service profit centers, two loan production offices, and two trust offices located across four states. As of and for the three months ended March 31, 2022, we had $2.58 billion in total assets, $26.7 million in total revenues, and provided fiduciary and advisory services on $7.20 billion of assets under management ("AUM").
Response to COVID-19
The spread of COVID-19 has caused significant disruptions in the U.S. economy since it was declared a pandemic in March of 2020 by the World Health Organization. Disruptions include temporary closures of many businesses that have led to a loss of revenues and a rapid increase in unemployment, disrupted global supply chains, market downturns and volatility, changes in consumer behavior related to pandemic fears, related emergency response legislation, and an expectation that Federal Reserve policy will maintain a low interest rate environment for the foreseeable future. The changes have impacted our clients and their industries, as well as the financial services industry.
The Company activated its Business Continuity Management Plan in early 2020 in response to the emergence of COVID-19 and has continued to adjust as the crisis continues to impact our markets, clients, and business. A majority of our associates have been working remotely since early 2020. All of our offices are open, functioning, and continue to operate as usual. We are taking additional precautions within our profit centers, including enhanced cleaning procedures and physical distancing measures, to ensure the safety of our clients and our associates.
A provision in the Coronavirus Aid, Relief, and Economic Security Act ("CARES Act") created the Paycheck Protection Program ("PPP"), which is administered by the Small Business Administration ("SBA"). The PPP is intended to provide loans to small businesses to pay their employees, rent, mortgage interest, and utilities. The loans may be forgiven conditioned upon the client providing payroll documentation evidencing their compliant use of funds and otherwise complying with the terms of the program. The Bank is an approved SBA lender and participated in all rounds of the program.
The last round of program funds were depleted in early May 2021. With the originations closed, the SBA turned their attention to forgiveness, processing applications submitted by the Company. Loans funded in 2021 became eligible for forgiveness after the covered period of 8 to 24 weeks, which began for some clients in the early second quarter of 2021. As of March 31, 2022, we have received forgiveness payments of $301.1 million from the SBA and have 72 PPP loans for a total of $16.7 million with an average loan rate size of $0.2 million remaining.
As a result of the COVID-19 pandemic, a loan modification program was designed and implemented to assist our clients experiencing financial stress resulting from the economic impacts caused by the global pandemic. The Company has offered loan extensions, temporary payment moratoriums, and financial covenant waivers for commercial and consumer borrowers impacted by the pandemic who have a pass risk rating and have not been delinquent over 30 days on payments in the last two years. In 2021, the deferral period ended for all non-acquired loans previously modified and payments resumed under the original terms. As of March 31, 2022, the Company’s loan portfolio included 69 non-acquired loans which were previously modified under the loan modification program, totaling $109.8 million. Through the Teton Acquisition, the Company acquired 18 loans totaling $8.3 million as of March 31, 2022, which were previously modified and are still in their deferral period.
The Company also participated in the Federal Reserve’s Main Street Lending Program ("MSLP") to support lending to small and medium-sized for-profit businesses and nonprofit organizations that were in sound financial condition before the onset of the COVID-19 pandemic. As of March 31, 2022, the Company had five loans with a balance held by the Bank of $6.8 million.
Primary Factors Used to Evaluate the Results of Operations
As a financial institution, we manage and evaluate various aspects of both our results of operations and our financial condition. We evaluate the comparative levels and trends of the line items in our Condensed Consolidated Balance Sheets and Statements of Income as well as various financial ratios that are commonly used in our industry. The primary factors we use to evaluate our results of operations include net interest income, non-interest income, and non-interest expense.
Net Interest Income
Net interest income represents interest income less interest expense. We generate interest income on interest-earning assets, primarily loans and available-for-sale securities. We incur interest expense on interest-bearing liabilities, primarily interest-bearing deposits and borrowings. To evaluate net interest income, we measure and monitor: (i) yields on loans, available-for-sale securities, and other interest-earning assets; (ii) the costs of deposits and other funding sources; (iii) the rates incurred on borrowings and other interest-bearing liabilities; and (iv) the regulatory risk weighting associated with the assets. Interest income is primarily impacted by loan growth and loan repayments, along with changes in interest rates on the loans. Interest expense is primarily impacted by changes in deposit balances, changes in interest rates on deposits, along with the volume and type of interest-bearing liabilities. Net interest income is primarily impacted by changes in market interest rates, the slope of the yield curve, and interest we earn on interest-earning assets or pay on interest-bearing liabilities.
Non-Interest Income
Non-interest income primarily consists of the following:
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Non-Interest Expense
Non-interest expense is comprised primarily of the following:
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Operating Segments
The Company’s reportable segments consist of Wealth Management and Mortgage. We measure the overall profitability of operating segments based on income before income tax. We believe this is a more useful measurement as our wealth management products and services are fully integrated with our private trust bank. We allocate costs to our segments, which consist primarily of compensation and overhead expense directly attributable to the products and services within the Wealth Management and Mortgage segments. We measure the profitability of each segment based on a post-allocation basis, as we believe it better approximates the operating cash flows generated by our reportable operating segments. A description of each segment is provided in Note 15 - Segment Reporting of the accompanying Notes to the Condensed Consolidated Financial Statements.
Primary Factors Used to Evaluate our Balance Sheet
The primary factors we use to evaluate our balance sheet include asset and liability levels, asset quality, capital, liquidity, and potential profit production from assets.
We manage our asset levels to ensure our lending initiatives are efficiently and profitably supported and to ensure we have the necessary liquidity and capital to meet the required regulatory capital ratios. Funding needs are evaluated and forecasted by communicating with clients, reviewing loan maturity and draw expectations, and projecting new loan opportunities.
We manage the diversification and quality of our assets based upon factors that include the level, distribution, severity, and trend of problem assets such as those determined to be classified, delinquent, non-accrual, non-performing or restructured; the adequacy of our allowance for loan losses; the diversification and quality of loan and investment portfolios; the extent of counterparty risks, credit risk concentrations, and other factors.
We manage our liquidity based upon factors that include the level and quality of capital and our overall financial condition, the trend and volume of problem assets, our balance sheet risk exposure, the level of deposits as a percentage of total loans, the amount of non-deposit funding used to fund assets, the availability of unused funding sources and off-balance sheet obligations, the availability of assets to be readily converted into cash without undue loss, the amount of cash and liquid securities we hold, and other factors.
Financial institution regulators have established guidelines for minimum capital ratios for banks and bank holding companies. The Company has adopted the Basel III regulatory capital framework. As of March 31, 2022, the Bank’s capital ratios exceeded the current well capitalized regulatory requirements established under Basel III.
Acquisitions and Divestitures
On July 22, 2021, the Company entered into an Agreement and Plan of Merger (the “Merger Agreement” or “Teton Acquisition”) with Teton Financial Services, Inc. (“Teton”), parent company of Rocky Mountain Bank, a Wyoming-chartered bank headquartered in Jackson, Wyoming. The Merger Agreement provided that, subject to the terms and conditions set forth in the Merger Agreement, Teton would merge into the Company, with the Company continuing as the surviving corporation. The Merger Agreement also provided that following the merger, Rocky Mountain Bank would merge with and into the Bank, with the Bank surviving the bank merger. The transaction successfully closed on December 31, 2021. See Note 2 – Acquisitions of the accompanying Notes to the Condensed Consolidated Financial Statements for additional information.
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Results of Operations
Overview
The three months ended March 31, 2022 compared with the three months ended March 31, 2021. We reported net income available to common shareholders of $5.5 million for the three months ended March 31, 2022, compared to $6.0 million of net income available to common shareholders for the three months ended March 31, 2021, a $0.5 million, or 7.9% decrease. For the three months ended March 31, 2022, our income before income tax was $7.3 million, a $0.7 million, or 9.0% decrease from the three months ended March 31, 2021. The decrease was primarily driven by a $2.7 million decrease in net gain on mortgage loans and a $3.8 million increase in non-interest expense, partially offset by a $5.0 million increase in net interest income, after provision for loan losses. The decrease in net gain on mortgage loans was primarily driven by a slowdown in new lock volume associated with rising interest rates and reduced housing inventory. The increase in net interest income, after provision for loan losses was primarily due to an increase in average loan balances and an increase in average loan yields. The increase in non-interest expense was primarily driven by the addition of Teton’s operations at the end of 2021.
The three months ended March 31, 2022 compared with the three months ended March 31, 2021. For the three months ended March 31, 2022, net interest income, before the provision for loan losses, was $18.3 million, an increase of $5.2 million, or 40.1%, compared to the three months ended March 31, 2021. The increase in net interest income was driven by a $367.8 million increase in average loans outstanding, a 31 basis point increase in the average yield on loans, and a 7 basis point decrease in the average cost of funds, partially offset by a $111.0 million increase in average non-interest bearing deposit balances. Net interest margin increased 8 basis points to 2.98% in the first quarter of 2022 from 2.90% reported in the first quarter of 2021. The increase in net interest margin was primarily a result of a 31 basis point increase in average yield on loans and a 7 basis point decrease in the average cost of funds.
The increase in average loans outstanding for the three months ended March 31, 2022 compared to the same period in 2021 was due to the Teton acquisition at the end of 2021. Average loan yields were 3.97% for the three months ended March 31, 2022, compared to 3.66% and for the three months ended March 31, 2021. The increase in loan yields during the three-month period was primarily driven by the addition of higher yielding loans from the Teton acquisition and a beneficial mix shift in the loan portfolio due to PPP loan forgiveness.
Interest income on our available-for-sale securities portfolio increased as a result of higher average investment balance for the three months ended March 31, 2022 compared to the same period in 2021. Our average available-for-sale securities balance during the three months ended March 31, 2022 was $55.7 million, an increase of $23.8 million from the three months ended March 31, 2021, primarily due to the Teton acquisition. The impact on the increase in average balances was partially offset by a lower average yield on the securities portfolio.
Interest expense on deposits decreased during the three months ended March 31, 2022 compared to the same period in 2021. The decrease was driven primarily by a 6 basis point decline in cost of deposits for the three months ended March 31, 2022 compared to the same period in 2021. The decrease in cost of deposits was driven by the intentional reduction in higher rate non-relationship deposit balances and the repricing of term deposits. The reduction in cost of deposits was partially offset by an increase in average interest-bearing deposit accounts of $442.3 million, for the three months ended March 31, 2022, compared to the same period in 2021.
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The following presents an analysis of net interest income and net interest margin during the periods presented, using daily average balances for each major category of interest-earning assets and interest-bearing liabilities, the interest earned or paid and the average rate earned or paid on those assets or liabilities.
As of or for the Three Months Ended March 31,
Earned /
Yield /
(Dollars in thousands)
Balance(1)
Paid
Rate
Interest-earning assets:
474,593
0.20
213,577
0.17
1,349
Available-for-sale securities(2)
55,739
2.42
31,935
2.45
Loans(3)
1,922,770
3.97
1,554,990
3.66
Interest-earning assets(4)
2,454,451
3.20
1,800,502
3.22
Mortgage loans held for sale(5)
22,699
191
3.37
175,891
1,152
2.62
Total interest-earning assets, plus mortgage loans held for sale
2,477,150
19,856
3.21
1,976,393
15,651
3.17
(13,715)
(12,541)
Noninterest-earning assets
121,650
100,415
2,585,085
2,064,267
Liabilities and Shareholders’ Equity
Interest-bearing liabilities:
Interest-bearing deposits
1,605,314
0.23
1,163,010
0.33
FHLB and Federal Reserve borrowings
33,104
0.47
137,626
132
0.38
32,939
399
4.85
24,259
340
5.61
Total interest-bearing liabilities
1,671,357
1,324,895
0.44
Noninterest-bearing liabilities:
Noninterest-bearing deposits
668,705
557,707
23,555
21,151
Total noninterest-bearing liabilities
692,260
578,858
221,468
160,514
Net interest rate spread(6)
2.87
2.78
Net interest income(7)
Net interest margin(8)
2.98
2.90
_____________________________________________________________
(1) Average balance represents daily averages, unless otherwise noted.
(2) Represents monthly averages.
(3) Non-performing loans are included in the respective average loan balances. Income, if any, on such loans is recognized on a cash basis.
(4) Tax-equivalent yield adjustments are immaterial.
(5) Mortgage loans held for sale are separated from the interest-earning assets above, as these loans are held for a short period of time until sold in the secondary market and are not held for investment purposes, with interest income recognized in the net gain on mortgage loans line in the Condensed Consolidated Statements of Income. These balances are excluded from the margin calculations in these tables.
(6) Net interest spread is the average yield on interest-earning assets (excluding mortgage loans held for sale) minus the average rate on interest-bearing liabilities.
(7) Net interest income is the difference between income earned on interest-earning assets, which does not include interest earned on mortgage loans held for sale, and expense paid on interest-bearing liabilities.
(8) Net interest margin is equal to net interest income divided by average interest-earning assets (excluding mortgage loans held for sale).
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The following presents the dollar amount of changes in interest income and interest expense during the periods presented, for each component of interest-earning assets and interest-bearing liabilities (excluding mortgage loans held for sale), and distinguishes between changes attributable to volume and interest rates. Changes attributable to both rate and volume that cannot be separated have been allocated to volume (dollars in thousands):
Compared to 2021
Increase
(Decrease) Due
to Change in:
Volume
(Decrease)
128
141
Available-for-sale securities
144
3,653
4,884
Total increase (decrease) in interest income
3,925
5,166
260
(291)
(123)
(93)
(46)
59
Total increase (decrease) in interest expense
(307)
Increase in net interest income
3,683
1,548
5,231
Provision for Loan Losses
We have a dedicated problem loan resolution team comprised of associates from our credit, senior leadership, risk, and accounting teams that meets frequently to ensure that watch list and problem credits are identified early and actively managed. We work to identify potential losses in a timely manner and proactively manage the problem credits to minimize losses. For the three months ended March 31, 2022, we recorded a $0.2 million provision for credit losses.
The Company has increased loan level reviews and portfolio monitoring to address the changing environment. Management believes the financial strength of the Company’s clientele and the diversity of the portfolio continues to mitigate the credit risk within the portfolio.
The three months ended March 31, 2022 compared with the three months ended March 31, 2021. For the three months ended March 31, 2022 compared with the three months ended March 31, 2021, non-interest income decreased $2.0 million, or 18.7%, to $8.6 million. The decrease in non-interest income during the three months ended March 31, 2022 was primarily a result of a $2.7 million decrease in net gain on mortgage loans, compared to the same period in 2021.
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The following presents the significant categories of our non-interest income during the periods presented (dollars in thousands):
Change
6.6
(2,702)
(52.0)
317
85.0
113.7
*
(2)
(2.3)
41.7
(1,982)
(18.7)
* Not meaningful
Trust and investment management fees—For the three months ended March 31, 2022 compared to the same period in 2021, our trust and investment management fees increased $0.3 million, or 6.6%. The increase is driven by asset growth.
Net gain on mortgage loans—For the three months ended March 31, 2022 compared to the same period in 2021, our net gain on mortgage loans decreased by $2.7 million, or 52.0%, to $2.5 million. The decrease in net gain on mortgage loans was primarily driven by a slowdown in new interest rate locks with customers associated with rising interest rates and reduced housing inventory.
Bank fees— For the three months ended March 31, 2022 compared to the same period in 2021, our bank fees increased by $0.3 million or 85.0%. The increase during the three-month period was primarily driven by increased activity consistent with the growth of the balance sheet.
The three months ended March 31, 2022 compared with the three months ended March 31, 2021. The increase in non-interest expense of 24.1% to $19.4 million for the three months ended March 31, 2022, was primarily driven by the addition of Teton’s operations.
The following presents the significant categories of our non-interest expense during the periods presented (dollars in thousands):
2,197
22.3
473
33.6
19.3
104
11.0
16.9
73.5
1,825.0
Net gain on assets held for sale
261
32.7
3,762
24.1
Salaries and employee benefits— The increase in salaries and employee benefits of $2.2 million, or 22.3%, was primarily related to the additional associates added through the Teton acquisition.
Occupancy and equipment— The increase in occupancy and equipment of $0.5 million, or 33.6%, was primarily driven by building depreciation on the locations acquired with the Teton acquisition and an increase in office lease space.
Professional services— The increase in professional services of $0.2 million, or 19.3%, was primarily driven by acquisition related expenses of $0.1 million and additional expenses related to the addition of Teton’s operations.
Technology and information systems— The increase in technology and information systems of $0.1 million, or 11.0%, was primarily driven by the addition of Teton’s operations and increased expenses to support the organic balance sheet growth.
Data processing— The increase in data processing of $0.2 million, or 16.9%, was primarily driven by acquisition related expenses of $0.1 million, additional expenses related to the addition of Teton’s operations, and increased expenses to support the organic balance sheet growth.
Marketing— The increase in marketing of $0.2 million, or 73.5%, was primarily driven by marketing expenses associated with the onboarding of new clients from the Teton acquisition and event sponsorships.
Amortization of other intangible assets— The increase in amortization of other intangible assets of $0.1 million was primarily driven by amortization of intangibles acquired through the Teton acquisition.
Other—The increase in other of $0.3 million, or 32.7%, was driven by the addition of Teton’s operations.
Income Tax
The Company recorded an income tax provision of $1.8 million and $2.0 million, respectively, for the three months ended March 31, 2022 and 2021, reflecting an effective tax rate of 24.5% and 25.4%, respectively.
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Segment Reporting
We have two reportable operating segments: Wealth Management and Mortgage. Our Wealth Management segment consists of operations relating to the Company’s fully integrated wealth management products and services. Services provided include deposit, loan, insurance, and trust and investment management advisory products and services. Our Mortgage segment consists of operations relating to the Company’s residential mortgage service offerings. Mortgage products and services are financial in nature, for which premiums are recognized net of expenses, upon the sale of mortgage loans to third parties. Services provided by our Mortgage segment include soliciting, originating, and selling mortgage loans into the secondary market. Mortgage loans originated and held for investment purposes are recorded in the Wealth Management segment, as this segment provides ongoing services to our clients.
The following presents key metrics related to our segments during the periods presented (dollars in thousands):
Wealth
Management
Income(1)
Income before taxes
Profit margin
29.0
12.1
27.4
32.0
40.8
34.0
(1) Net interest income after provision plus non-interest income.
The following presents selected financial metrics of each segment as of and during the periods presented (dollars in thousands):
Wealth Management
$ Change
% Change
35.6
(4.5)
5,021
38.5
697
12.9
Total income
5,718
31.0
290
112.4
Net loss on assets held for sale
4,335
35.3
Income before income tax
1,094
18.5
25.7
513,753
25.4
The Wealth Management segment reported income before income tax of $7.0 million for the three months ended March 31, 2022 compared to $5.9 million for the same period in 2021. The majority of our assets and liabilities are on the Wealth Management segment balance sheet and the increase in income before taxes is primarily driven by an increase in net interest income, after provision for loan losses, offset partially by an increase in non-interest expense. The increase in net interest income, after provision for loan losses, was primarily driven by an increase in average loans outstanding and an increase in average loan yields. The increase in non-interest expense was primarily driven by the addition of Teton’s operations.
(2,679)
(51.5)
(14.3)
(860)
(28.1)
(1,817)
(85.6)
(148,670)
(80.0)
The Mortgage segment reported income before income tax of $0.3 million for the three months ended March 31, 2022, compared to $2.1 million for the same period in 2021. The overall decrease in non-interest income was primarily driven by a slowdown in new lock volume associated with rising interest rates and reduced housing inventory. The decrease in non-interest expense was driven by a reduction in headcount to better align the operations functions with the slowdown in volume.
Financial Condition
The following presents our Condensed Consolidated Balance Sheets as of the dates noted (dollars in thousands):
Balance Sheet Data:
17.3
Investments
3,165
5.7
(25,312)
(1.3)
(153)
1.1
Loans, net of allowance
(25,465)
3,043
9.9
433
1.4
0.5
71,891
71,099
792
1.7
49,172
1.9
66,409
3.0
Borrowings
60,099
77,660
(17,561)
(22.6)
21,184
25,085
(3,901)
(15.6)
44,947
4,225
Cash and cash equivalents increased by $67.1 million, or 17.3%, to $454.1 million as of March 31, 2022 compared to December 31, 2021. The increase in liquidity was driven by growth in deposit balances and a higher level of loan payoffs influenced by our high net worth and entrepreneurial clients selling businesses and properties to take advantage of significant appreciation in the value of those assets. During the same period, investments increased by $3.2 million, or 5.7%, to $58.7 million as of March 31, 2022. The increase is due to available-for-sale securities purchased during the quarter, offset partially by a decrease in valuation due to the rising interest rate environment.
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Loans decreased by $25.3 million, or 1.3%, to $1.92 billion as of March 31, 2022 compared to December 31, 2021. The decrease was primarily driven by a decrease in PPP loans of $30.1 million, offset partially by the Company’s purchase of $6.4 million of whole loans accounted for under the fair value option. See Note 14 – Fair Value in the Notes to Condensed Consolidated Financial Statements.
Mortgage loans held for sale increased $3.0 million, or 9.9%, to $33.7 million as of March 31, 2022 compared to December 31, 2021. The increase was driven by the timing of loan sale settlements at the end of the quarter.
Goodwill and other intangible assets, net increased by $0.4 million, or 1.4%, to $32.3 million as of March 31, 2022 compared to December 31, 2021. The increase was driven by measurement period adjustments of $0.7 million to core deposit intangibles and ($0.2) million to goodwill during the three months ended March 31, 2022.
Other assets increased by $0.8 million, or 1.1%, to $71.9 million as of March 31, 2022 compared to December 31, 2021. This was related to an increase in receivables related to the mortgage hedge position and by net purchase accounting adjustments of $0.2 million to equity warrants.
Deposits increased $66.4 million, or 3.0%, to $2.27 billion as of March 31, 2022 compared to December 31, 2021. The increase was primarily attributable to continued inflows of both noninterest-bearing and interest-bearing deposits from new business development efforts.
Money market deposit accounts increased $51.6 million, or 4.9%, to $1.11 million as of March 31, 2022 compared to December 31, 2021. Time deposit accounts decreased $13.8 million, or 8.1%, from December 31, 2021 to $156.7 million as of March 31, 2022. Negotiable order of withdrawal, or NOW accounts, increased $9.7 million, or 3.1%, to $319.6 million from December 31, 2021 to March 31, 2022.
Borrowings decreased $17.6 million, or 22.6%, to $60.1 million as of March 31, 2022 compared to December 31, 2021. The decrease is attributed to the redemption of subordinated notes on January 1, 2022 in the amount of $6.6 million and a reduction in outstanding advances on the Federal Reserve’s Paycheck Protection Program Loan Facility. Borrowing from this facility is expected to trend in the same direction as the PPP loan balances.
Other liabilities decreased $3.9 million, or 15.6%, to $21.2 million as of March 31, 2022 compared to December 31, 2021. The decrease is primarily attributed to the payment of 2021 incentive compensation.
Total shareholders’ equity increased $4.2 million, or 1.9%, from December 31, 2021 to $223.3 million as of March 31, 2022. The increase is primarily due to net income.
Assets Under Management
(Dollars in millions)
Managed Trust Balance as of Beginning of Period
2,204
1,890
New relationships
Closed relationships
Contributions
Withdrawals
(120)
Market change, net
(33)
Ending Balance
2,095
1,821
Yield*
0.19
Directed Trust Balance as of Beginning of Period
1,309
951
76
(5)
(16)
1,297
1,031
0.09
Investment Agency Balance as of Beginning of Period
2,063
1,840
(75)
(118)
1,943
0.73
0.68
Custody Balance as of Beginning of Period
633
518
78
704
595
0.03
401(k)/Retirement Balance as of Beginning of Period
1,143
1,056
(52)
(28)
96
Ending Balance(1)
1,160
1,106
0.14
0.15
Total Assets Under Management as of Beginning of Period
7,352
6,255
139
(55)
(67)
163
215
(196)
(230)
(113)
174
Total Assets Under Management
7,199
6,486
0.29
0.30
* Trust & investment management fees divided by period end balance.
(1) AUM reported for the current period are one quarter in arrears.
Assets under management decreased $152.5 million, or 2.1%, for the three months ended March 31, 2022. The decrease was primarily attributable to unfavorable market conditions resulting in a decrease in the value of AUM balances.
Investments we intend to hold for an indefinite period of time, but not necessarily to maturity, are classified as available-for-sale and are recorded at fair value using current market information from a pricing service, with unrealized gains and losses excluded from earnings and reported in other comprehensive income, net of tax. All our investments in securities were classified as available-for-sale during the periods presented below. The carrying values of our investment securities classified as available-for-sale are adjusted for unrealized gain or loss, and any gain or loss is reported on an after-tax basis as a component of other comprehensive income in shareholders’ equity.
The following presents the amortized cost and estimated fair value of our investment securities as of the dates noted (dollars in thousands):
U.S Government Agency
Government National Mortgage Association ("GNMA") mortgage -backed securities—residential
Federal National Mortgage Association ("FNMA") mortgage-backed securities—residential
Government collateralized mortgage obligations ("GMO") and mortgage-backed securities ("MBS") - commercial
Corporate collateralized mortgage obligations ("CMO") and mortgage-backed securities ("MBS")
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The following presents the book value of our contractual maturities and weighted average yield for our investment securities as of the dates presented. Contractual maturities may differ from expected maturities because issuers can have the right to call or prepay obligations without penalties. Our investments are taxable securities. The weighted average yield for each range of maturities was calculated using the yield on each security within that range weighted by the amortized cost of each security as of March 31, 2022. Weighted average yields are not presented on a taxable equivalent basis.
Maturity as of March 31, 2022
One Year or Less
One to Five Years
Five to Ten Years
After Ten Years
Yield
Available-for-sale:
U.S. Government agency
0.01
124
1,097
0.06
1.30
0.77
161
0.08
11,555
0.31
490
0.02
1,334
Total available-for-sale
384
587
20,298
1.41
39,753
1.22
Maturity as of December 31, 2021
506
164
1,190
0.04
1,662
0.07
0.71
0.92
176
2,183
0.10
12,041
0.36
202
1,459
11,519
0.85
42,449
1.46
As of March 31, 2022 and December 31, 2021, there were no holdings of securities of any one issuer, other than the U.S. Government and its agencies, in an amount greater than 10% of shareholders’ equity.
Loan Portfolio
Our primary source of interest income is derived through interest earned on loans to high net worth individuals and their related commercial interests. Our senior lending and credit team consists of seasoned, experienced personnel and we believe that our officers are well versed in the types of lending in which we are engaged. Underwriting policies and decisions are managed centrally and the approval process is tiered based on loan size, making the process consistent, efficient, and effective. The management team and credit culture demands prudent, practical, and conservative approaches to all credit requests in compliance with the loan policy guidelines to ensure strong credit underwriting practices.
In addition to originating loans for our own portfolio, we conduct mortgage banking activities in which we originate and sell servicing-released, whole loans in the secondary market. Our mortgage banking loan sale activities are primarily directed at originating single family mortgages that are priced and underwritten to conform to previously agreed-upon criteria before loan funding and are delivered to the investor shortly after funding. The level of future loan originations, loan sales, and loan repayments depends on overall credit availability, the interest rate environment, the
strength of the general economy, local real estate markets and the housing industry, and conditions in the secondary loan sale market. The amount of gain or loss on the sale of loans is primarily driven by market conditions and changes in interest rates, as well as our pricing and asset liability management strategies. As of March 31, 2022 and December 31, 2021, we had mortgage loans held for sale of $33.7 million and $30.6 million, respectively, in residential mortgage loans we originated.
Beginning in the first quarter, the Company entered into whole loan purchase agreements to acquire third party originated and serviced unsecured consumer loans to hold for investment. As of March 31, 2022, the Company had purchased $6.3 million in loan balances which were accounted for under the fair value option and had a carrying value of $6.4 million. See Note 14 – Fair Value in the Notes to Condensed Consolidated Financial Statements.
As of March 31, 2022, the Company has $16.7 million in PPP loans outstanding with $0.3 million in remaining fees to be recognized. The remaining fees represent the net amount of the fees from the SBA for participation in the PPP less the loan origination costs on these loans. The current amortization of this income is being recognized over a two-year period, however, if a loan receives full forgiveness from the SBA, the remaining income will be recognized upon receipt of the funds from the SBA. For PPP balances not forgiven, the remaining net fee is extended and amortized over a five-year payback period.
The following presents our loan portfolio by type of loan as of the dates noted (dollars in thousands):
% of Total
Cash, Securities and Other(1)
14.1
15.2
7.8
9.1
31.2
29.7
23.6
24.7
10.9
12.3
10.4
Total loans held for investment(2)
100.0
(1) Includes PPP loans of $16.7 million and $46.8 million as of March 31, 2022 and December 31, 2021, respectively. Also, includes loans held for investment accounted for under fair value option of $6.4 million as of March 31, 2022.
(2) Loans held for investment exclude deferred fees and unamortized premiums/(unaccreted discounts), net of ($7.3) million and ($5.0) million as of March 31, 2022 and December 31, 2021, respectively.
The contractual maturity ranges of loans in our loan portfolio and the amount of such loans with fixed and floating interest rates in each maturity range, excluding deferred fees, and unamortized premiums/(unaccreted discounts), as of the dates noted, are summarized in the following tables:
As of March 31, 2022
One Year
One Through
Five Through
After
or Less
Five Years
Fifteen Years
Cash, Securities and Other(2)
112,848
(1)
149,915
3,807
5,241
77,657
68,187
5,807
29,601
126,264
41,782
404,765
36,884
287,384
115,373
16,074
7,439
67,219
127,199
10,544
41,623
144,256
51,265
Total loans
306,052
843,225
345,233
436,624
Amounts with fixed rates
78,476
548,557
242,124
28,755
897,912
Amounts with floating rates
227,576
294,668
103,109
407,869
1,033,222
136,298
148,889
5,561
5,200
74,111
96,817
7,788
24,824
126,681
33,085
396,282
66,036
275,057
125,330
16,199
5,255
66,656
129,890
10,625
46,742
107,596
49,246
353,266
821,696
350,900
428,306
120,549
506,040
253,223
26,682
906,494
232,717
315,656
97,677
401,624
1,047,674
(1) Includes PPP loans.
(2) Includes loans held for investment accounted for under fair value option of $6.4 million.
As a result of the COVID-19 pandemic, a loan modification program was designed and implemented to assist our clients experiencing financial stress resulting from the economic impacts caused by the global pandemic. The Company was offering loan extensions, temporary payment moratoriums, and financial covenant waivers for commercial and consumer borrowers impacted by the pandemic who have a pass risk rating and have not been delinquent over 30 days on payments in the last two years.
The CARES Act provides banks optional, temporary relief from accounting for certain loan modifications as a TDR. The modifications must be related to the adverse effects of COVID-19, and certain other criteria are required to be met in order to apply the relief. Interagency guidance from Federal Reserve and the FDIC confirmed with the FASB that
short-term modifications made on a good faith basis in response to COVID-19 to borrowers who were current prior to any relief, are not to be considered TDRs. We believe our loan modification program meets that definition. In accordance with that guidance, the Company is recognizing interest income on all loans modified for temporary payment moratoriums, primarily for a period of 180 days or less.
Non-Performing Assets
Non-performing assets include non-accrual loans, TDRs, loans past due 90 days or more and still accruing interest, and OREO. The accrual of interest on loans is discontinued at the time the loan becomes 90 or more days delinquent unless the loan is well secured and in the process of collection. Past due status is based on the contractual terms of the loan. In all cases, loans are placed on non-accrual status or charged off if collection of interest or principal is considered doubtful.
OREO represents assets acquired through, or in lieu of, foreclosure. The amounts reported as OREO are supported by recent appraisals, with the appraised values adjusted, where applicable, for expected transaction fees likely to be incurred upon sale of the property. We incur recurring expenses relating to OREO in the form of maintenance, taxes, insurance, and legal fees, among others, until the OREO parcel is disposed. While disposition efforts with respect to our OREO are generally ongoing, if these properties are appraised at lower-than-expected values or if we are unable to sell the properties at the prices for which we expect to be able to sell them, we may incur additional losses.
The amount of lost interest for non-accrual loans was immaterial and $0.1 million for the three months ended March 31, 2022 and 2021, respectively.
We had $4.3 million in non-performing assets as of March 31, 2022 and December 31, 2021. The minor decrease in our non-performing assets was primarily due continued pay downs on outstanding balances.
The following presents information regarding non-performing loans as of the dates noted (dollars in thousands):
Non-accrual loans by category (1)
Total non-accrual loans
TDRs still accruing
Accruing loans 90 or more days past due
Total non-performing loans
4,309
4,327
Total non-performing assets
Non-accrual loans to total loans(2)
0.22
Non-performing loans to total loans(2)
Non-performing assets to total assets
Allowance for loan losses to non-accrual loans
328.56
322.20
Allowance for loan losses to non-performing loans
322.23
317.36
(1) As of March 31, 2022 and December 31, 2021, all but one non-accrual loan, totaling an immaterial amount, were also classified as TDRs. See Note 4 – Loans and the Allowance for Loan Losses to the condensed consolidated financial statements.
(2) Excludes mortgage loans held for sale of $33.7 million and $30.6 million as of March 31, 2022 and December 31, 2021, respectively.
Potential Problem Loans
We categorize loans into risk categories based on relevant information about the ability of the borrowers to service their debt, such as: current financial information, historical payment experience, credit documentation, public information, and current economic trends, among other factors. We analyze loans individually by classifying the loans by credit risk on a quarterly basis, which are segregated into the following definitions for risk ratings:
Special Mention—Loans categorized as special mention have a potential weakness or borrowing relationships that require more than the usual amount of management attention. Adverse industry conditions, deteriorating financial conditions, declining trends, management problems, documentation deficiencies, or other similar weaknesses may be evident. Ability to meet current payment schedules may be questionable, even though interest and principal are still being paid as agreed. The asset has potential weaknesses that may result in deteriorating repayment prospects if left uncorrected. Loans in this risk grade are not considered adversely classified.
Doubtful—Loans graded doubtful are considered "classified" and have all the weaknesses inherent in those classified as Substandard with the added characteristic that the weaknesses make collection or liquidation in full, on the basis of currently known facts, conditions, and values, highly questionable and improbable. However, the amount or certainty of eventual loss is not known because of specific pending factors.
Loans not meeting any of the three criteria above are considered to be pass-rated loans.
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As of March 31, 2022 and December 31, 2021, non-performing loans of $4.3 million were included in the substandard category in the table below. The following presents, by class and by credit quality indicator, the recorded investment in our loans as of the dates noted (dollars in thousands):
(1) Includes PPP loans of $16.7 million and $46.8 million as of March 31, 2022 and December 31, 2021, respectively. Also includes loans held for investment accounted for under fair value option of $6.4 million as of March 31, 2022.
The allowance for loan losses is established through a provision for loan losses, which is a noncash charge to earnings. Loan losses are charged against the allowance when management believes that a loan balance is confirmed uncollectable. Subsequent recoveries, if any, are credited to the allowance for loan losses.
The allowance for loan losses is evaluated on a regular basis by management and is based upon management’s periodic review of the collectability of the loans in light of historical experience, the nature and dollar volume of the loan portfolio, adverse situations that may affect the borrower’s ability to repay, the estimated value of any underlying collateral, and prevailing economic conditions. Allocations of the allowance for loan losses may be made for specific loans, but the entire allowance for loan losses is available for any loan that, in management’s judgment, should be charged off.
We are closely monitoring the changing dynamics in the economy and the related client. Our clientele is generally comprised of high net-worth individuals and commercial borrowers with strong credit profiles and multiple sources of repayment. There was a $0.2 million provision expense taken during the first quarter of 2022. Management will continue to closely monitor the loan portfolio and analyze the economic data to assess the impact on the allowance for loan loss. We believe the allowance for loan losses is adequate as of March 31, 2022.
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The following presents summary information regarding our allowance for loan losses during the periods presented (dollars in thousands):
Average loans outstanding(1)(2)
Total loans outstanding at end of period(3)
1,543,926
Allowance for loan losses at beginning of period
Charge-offs:
97
Total charge-offs
Recoveries:
Total recoveries
Net charge-offs (recoveries)
Allowance for loan losses at end of period
Allowance for loan losses to total loans(4)
0.72
0.81
Net charge-offs to average loans(5)
(1) Average balances are average daily balances.
(2) Excludes average outstanding balances of mortgage loans held for sale of $22.7 million and $175.9 million for the three months ended March 31, 2022 and 2021, respectively.
(3) Excludes mortgage loans held for sale of $33.7 million and $176.6 million as of March 31, 2022 and 2021, respectively.
(4) End of period loans as of March 31, 2022 include $323.6 million in acquired loans, $13.1 million in bank originated PPP loans, $3.6 million of acquired PPP loans, and $6.4 million of loans held for investment accounted for under the fair value option. No reserve is allocated for those loans. Excluding these loans would result in an increase of the ratio for the three months ended March 31, 2022.
(5) For percentages shown as a dash, the ratio of net charge-offs to average loans is negligible or immaterial.
The following presents the allocation of the allowance for loan losses among loan categories and other summary information. The allocation for loan losses by category should neither be interpreted as an indication of future charge-offs, nor as an indication that charge-offs in future periods will necessarily occur in these amounts or in the indicated proportions. The allocation of a portion of the allowance for loan losses to one category of loans does not preclude its availability to absorb losses in other categories.
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As of March 31,
As of December 31,
%(1)
Total allowance for loan losses
(1) Represents the percentage of loans to total loans in the respective category.
Deferred Tax Assets, Net
Deferred tax assets, net represent the differences in timing of when items are recognized for GAAP purposes and when they are recognized for tax purposes, as well as our net operating losses. Our deferred tax assets, net are valued based on the amounts that are expected to be recovered in the future utilizing the tax rates in effect at the time recognized. Our deferred tax assets, net as of March 31, 2022, increased $0.7 million, or 10.2%, from December 31, 2021.
Our deposit products include money market accounts, demand deposit accounts, time deposit accounts (typically certificates of deposit), NOW accounts (interest checking accounts), and saving accounts. Our accounts are federally insured by the FDIC up to the legal maximum amount.
Total deposits increased by $66.4 million, or 3.0%, to $2.27 billion as of March 31, 2022 from December 31, 2021. Total average deposits for the three months ended March 31, 2022 were $2.27 billion, an increase of $553.3 million, or 32.2%, compared to $1.72 billion as of March 31, 2021. The increase in total deposits from December 31, 2021 was attributable to continued inflows of both noninterest-bearing and interest-bearing deposits from new business development efforts.
The following presents the average balances and average rates paid on deposits during the periods presented (dollars in thousands):
For the Three Month Period Ending March 31,
1,095,317
878,004
0.25
Demand deposit accounts
308,579
0.16
115,555
0.18
Uninsured time deposits
53,632
1.01
80,561
1.23
Other time deposits
114,943
0.46
82,620
0.61
Total time deposits
168,575
0.64
163,181
0.91
32,843
0.05
6,270
Noninterest-bearing accounts
2,274,019
1,720,717
Average noninterest-bearing deposits to average total deposits was 29.4% and 32.4% for the three months ended March 31, 2022 and 2021, respectively.
Our average cost of funds was 0.24% and 0.31% for the three months ended March 31, 2022 and 2021, respectively. The decrease in cost of funds was driven by a 10 basis point reduction in interest bearing deposit costs due to the intentional reduction in higher rate non-relationship deposit balances and repricing of term deposits.
Total money market accounts as of March 31, 2022 were $1.11 billion, an increase of $51.6 million, or 4.9%, compared to December 31, 2021. NOW accounts increased $9.7 million, or 3.1%, to $319.6 million compared to December 31, 2021.
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Total time deposits as of March 31, 2022 were $156.7 million, a decrease of $13.8 million, or 8.1%, from December 31, 2021.
The following presents the amount of certificates of deposit by time remaining until maturity as of March 31, 2022 (dollars in thousands):
Three Months or Less
Three to Six Months
Six to 12 Months
After 12 Months
Uninsured Time Deposits
6,221
28,589
3,461
14,624
52,895
18,164
24,775
28,710
32,134
103,783
24,385
53,364
32,171
46,758
We have short-term and long-term borrowing sources available to supplement deposits and meet our liquidity needs. As of March 31, 2022 and December 31, 2021, borrowings totaled $60.1 million and $77.7 million, respectively. On January 1, 2022, the Company redeemed subordinated notes due December 31, 2026 in the amount of $6.6 million, which were redeemable on or after January 1, 2022.
The decrease in other borrowings is attributed to the paydown of loans in the Paycheck Protection Program Loan Facility (“PPPLF”) from the Federal Reserve with a period end balance of $12.6 million and the redemption of $6.6 million in subordinated notes. Borrowing from the PPPLF is expected to trend in the same direction as the PPP loan balances. The following presents balances of each of the borrowing facilities as of the dates noted (dollars in thousands):
FHLB borrowings
Federal Reserve borrowings
FHLB
We have a blanket pledge and security agreement with FHLB that requires certain loans and securities to be pledged as collateral for any outstanding borrowings under the agreement. The collateral pledged as of March 31, 2022 and December 31, 2021 amounted to $815.5 million and $771.4 million, respectively. Based on this collateral and the Company’s holdings of FHLB stock, the Company was eligible to borrow an additional $541.2 million as of March 31, 2022.
As of or for the
Short-term borrowings:
Maximum outstanding at any month-end during the period
Balance outstanding at end of period
Average outstanding during the period
Average interest rate during the period
0.32
Average interest rate at the end of the period
Our borrowing facilities include various financial and other covenants, including, but not limited to, a requirement that the Bank maintains regulatory capital that is deemed "well capitalized" by federal banking agencies. As of March 31, 2022 and December 31, 2021, the Company was in compliance with the covenant requirements.
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Liquidity and Capital Resources
Liquidity resources primarily include interest-bearing and noninterest-bearing deposits which primarily contribute to our ability to raise funds to support asset growth, acquisitions, and meet deposit withdrawals and other payment obligations. Access to purchased funds primarily include the ability to borrow from FHLB, other correspondent banks, and the use of brokered deposits.
The following presents the composition of our funding sources and the average assets in which those funds are invested as a percentage of average total assets during the periods presented.
Average Percentage for the Three Months Ended
Sources of Funds:
25.87
27.02
62.10
56.34
1.28
6.67
1.27
1.18
1.02
Shareholders’ equity
8.57
7.77
100.00
Uses of Funds:
73.84
74.72
2.16
1.55
0.88
8.52
18.36
10.35
4.71
4.86
Average noninterest-bearing deposits to total average deposits
29.41
32.41
Average loans to total average deposits
84.55
90.37
Average interest-bearing deposits to total average deposits
70.59
67.59
Our primary source of funds is interest-bearing and noninterest-bearing deposits, and our primary use of funds is loans. We do not expect a change in the primary source or use of our funds in the foreseeable future.
Capital Resources
On November 3, 2020, the Company announced that its board of directors authorized the repurchase of up to 400,000 shares of the Company’s common stock, no par value (the "2020 Repurchase Plan") and that the Board of Governors of the Federal Reserve System advised the Company that it has no objection to the Company’s 2020 Repurchase Plan. The 2020 Repurchase Plan was in effect for a one-year period, with the timing of purchases and the number of shares repurchased under the program dependent upon a variety of factors including price, trading volume, corporate and
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regulatory requirements, and market conditions. The 2020 Repurchase Plan expired in November 2021. During the year ended December 31, 2021, the Company did not repurchase any shares under the 2020 Repurchase Plan.
We are subject to various regulatory capital adequacy requirements at a consolidated level and the Bank level. These requirements are administered by federal banking agencies. Failure to meet minimum capital requirements can initiate certain mandatory and possibly additional discretionary actions by regulators that, if undertaken, could have a direct material effect on our condensed consolidated financial statements. Under capital adequacy guidelines and, additionally for banks, the regulatory framework for prompt corrective action, we must meet specific capital guidelines that involve quantitative measures of our assets, liabilities, and certain off-balance sheet items as calculated under regulatory accounting practices.
Capital levels are viewed as important indicators of an institution’s financial soundness by banking regulators. Generally, FDIC-insured depository institutions and their holding companies are required to maintain minimum capital relative to the amount and types of assets they hold. As of March 31, 2022 and December 31, 2021, our holding company and Bank were in compliance with all applicable regulatory capital requirements, and the Bank was classified as "well capitalized," for purposes of the prompt corrective action regulations. As we continue to grow our operations and maintain capital requirements, our regulatory capital levels may decrease depending on our level of earnings. We continue to monitor growth and control our capital activities in order to remain in compliance with all applicable regulatory capital standards.
The following presents our regulatory capital ratios during the periods presented (dollars in thousands):
Consolidated Company
Common Equity Tier 1(CET1) to risk-weighted assets
Contractual Obligations and Off-Balance Sheet Arrangements
We enter into credit-related financial instruments with off-balance sheet risk in the normal course of business to meet the financing needs of our clients. These financial instruments include commitments to extend credit. Such commitments involve, to varying degrees, elements of credit and interest rate risk in excess of the amount recognized in the Condensed Consolidated Balance Sheets. Commitments may expire without being utilized. Our exposure to loan loss is represented by the contractual amount of these commitments, although material losses are not anticipated. We follow the same credit policies in making commitments as we do for on-balance sheet instruments.
The following presents future contractual obligations to make future payments during the periods presented (dollars in thousands):
More than
1 Year
1 Year but Less
3 Years but Less
5 Years
than 3 Years
than 5 Years
or More
FHLB and Federal Reserve
5,779
11,797
(1)
43,043
19,726
4,886
Minimum lease payments
3,480
6,129
2,013
98,282
59,172
33,720
39,422
230,596
(1) Reflects contractual maturity dates of March 31, 2030, December 1, 2030, and September 1, 2031.
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The following presents financial instruments whose contract amounts represent credit risk, as of the periods presented (dollars in thousands):
We may enter into contracts for services in the conduct of ordinary business operations, which may require payment for services to be provided in the future and may contain penalty clauses for early termination of the contracts. We do not believe these off-balance sheet arrangements have or are reasonably likely to have a material effect on our financial condition, revenues or expenses, results of operations, liquidity, capital expenditures, or capital resources. However, there can be no assurance that such arrangements will not have an effect on future operations.
Critical Accounting Policies
Our accounting policies and procedures are described in Note 1 - Organization and Summary of Significant Accounting Policies in the accompanying Notes to the Condensed Consolidated Financial Statements as well as the Company’s Annual Report on Form 10-K for the year ended December 31, 2021 as filed with the SEC.
Item 3.Quantitative and Qualitative Disclosures about Market Risk
Interest Rate Sensitivity and Market Risk
Market risk is the risk of loss in a financial instrument arising from adverse changes in market prices and rates, foreign currency exchange rates, commodity prices, and equity prices. Our market risk arises primarily from interest rate risk inherent in lending, investing, and deposit taking activities. To that end, management actively monitors and manages interest rate risk exposure. We do not have any market risk sensitive instruments entered into for trading purposes.
Management uses various asset/liability strategies to manage the re-pricing characteristics of our assets and liabilities designed to ensure that exposure to interest rate fluctuations is limited within established guidelines of acceptable levels of risk-taking.
The board of directors monitors interest rate risk by analyzing the potential impact on the net economic value of equity and net interest income from potential changes in interest rates, and considers the impact of alternative strategies or changes in balance sheet structure. We manage our balance sheet in part to maintain the potential impact on economic value of equity and net interest income within acceptable ranges despite changes in interest rates.
Our exposure to interest rate risk is reviewed at least quarterly by the board of directors. Interest rate risk exposure is measured using interest rate sensitivity analysis to determine the change in net interest income and economic value of equity in the event of hypothetical changes in interest rates. If potential changes to net economic value of equity and net interest income resulting from hypothetical interest rate changes are not within the limits established by our board of directors, the board of directors may direct management to adjust the asset and liability mix to bring interest rate risk within board-approved limits.
The following presents the sensitivity in net interest income and fair value of equity during the periods presented, using a parallel ramp scenario.
Percent Change
in Net Interest
in Fair Value of
Change in Interest Rates (Basis Points)
Equity
300
11.48
3.60
11.85
11.17
200
9.05
5.54
11.43
100
4.62
4.36
4.88
7.78
Base
−100
(3.67)
(16.69)
(2.58)
(26.39)
The model simulations as of March 31, 2022 imply that our balance sheet is slightly less asset sensitive compared to our balance sheet as of December 31, 2021.
Although the simulation model is useful in identifying potential exposure to interest rate changes, actual results for net interest income and economic value of equity may differ. There are a variety of factors that can impact the outcomes such as timing and magnitude of interest rate changes, asset and liability mix, pre-payment speeds, deposit beta assumptions, and decay rates that differ from our projections. Additionally, the results do not account for actions implemented to manage our interest rate risk exposure.
Impact of Inflation
Our Condensed Consolidated Financial Statements and related notes included within this Form 10-Q have been prepared in accordance with GAAP, which requires the measurement of financial position and operating results in terms of historical dollars, without considering changes in the relative value of money over time due to inflation or recession.
Our assets and liabilities are substantially monetary in nature. Therefore, changes in interest rates can significantly impact our performance beyond the general effects of inflation. Interest rates do not necessarily move in the same direction or magnitude as prices of general goods and services, while other operating expenses can be correlated with the impact of general levels of inflation.
Item 4.Controls and Procedures
Evaluation of Disclosure Controls and Procedures
As of the end of the period covered by this Form 10-Q, the Company carried out an evaluation, under the supervision and with the participation of its management, including its Chief Executive Officer and Chief Operating Officer and Chief Financial Officer, of the effectiveness of the design and operation of its disclosure controls and procedures. In designing and evaluating the disclosure controls and procedures, management recognizes that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives, and management was required to apply judgment in evaluating its controls and procedures. Based on this evaluation, the Company’s Chief Executive Officer and Chief Operating Officer concluded that the Company’s disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended, or the “Exchange Act”) were effective as of the end of the period covered by this report.
Internal Control over Financial Reporting
There were no changes in the Company’s internal control over financial reporting (as such term is defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act) that occurred during the three months ended March 31, 2022 that has materially affected, or is reasonably likely to materially affect, the Company’s internal control over financial reporting.
Item 1.Legal Proceedings
The Company, from time to time, is involved in various legal actions arising in the normal course of business. While the ultimate outcome of any such proceedings cannot be predicted with certainty, it is the opinion of management, after consulting with our legal counsel, that no proceedings exist, either individually or in the aggregate, which, if determined adversely to the Company, would have a material effect on the Company’s condensed consolidated financial statements. See Note 9 - Commitments and Contingencies in the Notes to Condensed Consolidated Financial Statements.
Item 1A. Risk Factors
There has been no material change in the risk factors previously disclosed under Item 1A of the Company’s 2021 Annual Report on Form 10-K filed with the SEC on March 15, 2022.
Item 2.Unregistered Sales of Equity Securities and Use of Proceeds
(c) Issuer Purchases of Equity Securities
Maximum number (or
Total number of
approximate dollar
shares purchased
value) of shares
Total number
as part of publically
that may yet be
of shares
price paid
announced plans
purchased under the
purchased (1)
per share
or programs
plans or programs
January 1, 2022 through January 31, 2022
4,146
30.36
February 1, 2022 through February 28, 2022
143
32.62
March 1, 2022 through March 31, 2022
(1) These shares relate to the net settlement by employees related to vested, restricted stock awards and do not impact the shares available for repurchase. Net settlements represent instances where employees elect to satisfy their income tax liability related to the vesting of restricted stock through the surrender of a proportionate number of the vested shares to the Company.
Item 3.Defaults upon Senior Securities
Not applicable.
Item 4.Mine Safety Disclosures
Item 5.Other Information
Item 6.Exhibits
Exhibit No.
Description
31.1*
Certification of Chief Executive Officer pursuant to Rule 13a-14(a) of the Exchange Act, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
31.2*
Certification of Chief Financial Officer pursuant to Rule 13a-14(a) of the Exchange Act, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
32.1**
Certification of Chief Executive Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
32.2**
Certification of Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
101.INS*
Inline XBRL Instance Document
101.SCH*
Inline XBRL Taxonomy Extension Schema Document
101.CAL*
Inline XBRL Taxonomy Extension Calculation Linkbase Document
101.DEF*
Inline XBRL Taxonomy Extension Definition Linkbase Document
101.LAB*
Inline XBRL Taxonomy Extension Label Linkbase Document
101.PRE*
Inline XBRL Taxonomy Extension Presentation Linkbase Document
Cover Page Interactive Data File (formatted as inline XBRL and contained in Exhibit 101)
* Filed herewith.
** These exhibits are furnished herewith and shall not be deemed “filed” for purposes of Section 18 of the Exchange Act, or otherwise subject to the liability of that section, and shall not be deemed to be incorporated by reference into any filing under the Securities Act or the Exchange Act.
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 Western Financial, Inc.
May 6, 2022
By:
/s/ Scott C. Wylie
Date
Scott C. Wylie
Chairman, Chief Executive Officer, and President
/s/ Julie A. Courkamp
Julie A. Courkamp
Chief Operating Officer, Chief Financial Officer, and Treasurer