Northrim BanCorp - 10-Q quarterly report FY2020 Q2

Northrim BanCorp - 10-Q quarterly report FY2020 Q2

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UNITED STATES SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, DC 20549

FORM 10-Q

(Mark One)

☑ Quarterly report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

For the quarterly period ended June 30, 2020

☐ 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 000-33501

NORTHRIM BANCORP, INC.

(Exact name of registrant as specified in its charter)



Alaska		92-0175752
(State or other jurisdiction of incorporation or organization)		(I.R.S. Employer Identification No.)

3111 C Street

Anchorage, Alaska 99503

(Address of principal executive offices) (Zip Code)

(907) 562-0062

(Registrant’s telephone number, including area code)

Securities registered pursuant to Section 12(b) of the Act: None



TITLE OF EACH CLASS	TRADING SYMBOL	NAME OF EXCHANGE

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.

ý Yes ¨ No

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

ý Yes ¨ No

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

Large Accelerated Filer ¨ Accelerated Filer ý Non-accelerated Filer ¨

Smaller Reporting Company ☒ Emerging Growth Company ☐

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ¨

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

☐ Yes ý No

The number of shares of the issuer’s Common Stock, par value $1 per share, outstanding at August 4, 2020 was 6,368,046.



TABLE OF CONTENTS

Part I	FINANCIAL INFORMATION
Item 1.	Financial Statements (unaudited)
	Consolidated Balance Sheets	3
	Consolidated Statements of Income	4
	Consolidated Statements of Comprehensive Income	5
	Consolidated Statements of Changes in Shareholders' Equity	6
	Consolidated Statements of Cash Flows	8
	Notes to the Consolidated Financial Statements	10
Item 2.	Management's Discussion and Analysis of Financial Condition and Results of Operations	44
Item 3.	Quantitative and Qualitative Disclosures About Market Risk	63
Item 4.	Controls and Procedures	63

Part II	OTHER INFORMATION
Item 1.	Legal Proceedings	63
Item 1A.	Risk Factors	63
Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds	65
Item 3.	Defaults Upon Senior Securities	65
Item 4.	Mine Safety Disclosures	65
Item 5.	Other Information	66
Item 6.	Exhibits	66
SIGNATURES		67

PART I. FINANCIAL INFORMATION

These consolidated financial statements should be read in conjunction with the financial statements, accompanying notes and other relevant information included in Northrim BanCorp, Inc.’s Annual Report on Form 10-K for the year ended December 31, 2019.

ITEM 1. FINANCIAL STATEMENTS

CONSOLIDATED FINANCIAL STATEMENTS

NORTHRIM BANCORP, INC.

Consolidated Balance Sheets

(Unaudited)



	June 30, 2020			December 31, 2019
(In Thousands, Except Share Data)	June 30, 2020			December 31, 2019
ASSETS
Cash and due from banks		$34,331			$20,518
Interest bearing deposits in other banks	55,081			74,906
Investment securities available for sale, at fair value	202,347			276,138
Marketable equity securities	7,758			7,945
Investment in Federal Home Loan Bank stock	2,428			2,138
Loans held for sale	133,975			67,834
Loans	1,433,201			1,043,371
Allowance for loan losses	(20,653		)	(19,088		)
Net loans	1,412,548			1,024,283
Purchased receivables, net	11,549			24,373
Mortgage servicing rights, at fair value	10,721			11,920
Other real estate owned, net	7,205			7,043
Premises and equipment, net	39,055			38,422
Operating lease right-of-use asset	13,189			14,306
Goodwill	15,017			15,017
Other intangible assets, net	1,053			1,077
Other assets	70,448			58,076
Total assets		$2,016,705			$1,643,996
LIABILITIES
Deposits:
Demand		$680,033			$451,896
Interest-bearing demand	400,138			320,264
Savings	261,934			229,918
Money market	215,735			205,801
Certificates of deposit less than $250,000	95,587			90,702
Certificates of deposit $250,000 and greater	83,932			73,770
Total deposits	1,737,359			1,372,351
Borrowings	11,754			8,891
Junior subordinated debentures	10,310			10,310
Operating lease liability	13,121			14,229
Other liabilities	37,238			31,098
Total liabilities	1,809,782			1,436,879
SHAREHOLDERS' EQUITY
Preferred stock, $1 par value, 2,500,000 shares authorized, none issued or outstanding	—			—
Common stock, $1 par value, 10,000,000 shares authorized, 6,368,046 and 6,558,809 issued and outstanding at June 30, 2020 and December 31, 2019, respectively	6,368			6,559
Additional paid-in capital	45,006			50,512
Retained earnings	155,998			149,615
Accumulated other comprehensive (loss) income, net of tax	(449		)	431
Total shareholders' equity	206,923			207,117
Total liabilities and shareholders' equity		$2,016,705			$1,643,996

See notes to consolidated financial statements

NORTHRIM BANCORP, INC.

Consolidated Statements of Income

(Unaudited)



	Three Months Ended				Six Months Ended
	June 30,				June 30,
(In Thousands, Except Per Share Data)	2020		2019		2020			2019
Interest and Dividend Income
Interest and fees on loans and loans held for sale		$17,454		$15,353		$32,813			$30,330
Interest on investment securities available for sale	1,389		1,690		3,011			3,322
Dividends on marketable equity securities	112		109		214			216
Dividends on Federal Home Loan Bank stock	18		19		38			38
Interest on deposits in other banks	31		135		267			278
Total Interest Income	19,004		17,306		36,343			34,184
Interest Expense
Interest expense on deposits	1,331		1,174		2,815			2,112
Interest expense on securities sold under agreements to repurchase	—		18		—			40
Interest expense on borrowings	122		62		193			119
Interest expense on junior subordinated debentures	94		95		188			187
Total Interest Expense	1,547		1,349		3,196			2,458
Net Interest Income	17,457		15,957		33,147			31,726
Provision for loan losses	404		300		2,464			1,050
Net Interest Income After Provision for Loan Losses	17,053		15,657		30,683			30,676
Other Operating Income
Mortgage banking income	15,227		5,950		19,892			10,248
Bankcard fees	681		744		1,324			1,394
Purchased receivable income	675		837		1,596			1,646
Service charges on deposit accounts	171		413		533			826
Unrealized (loss) gain on marketable equity securities	149		118		(722		)	652
Interest rate swap income	17		734		17			734
Gain on sale of marketable equity securities, net	—		—		98			—
Gain on sale of investment securities available for sale, net	—		—		—			23
Other income	615		773		1,230			1,579
Total Other Operating Income	17,535		9,569		23,968			17,102
Other Operating Expense
Salaries and other personnel expense	15,637		12,945		27,893			24,247
Data processing expense	2,033		1,796		3,802			3,475
Occupancy expense	1,618		1,642		3,275			3,413
Professional and outside services	714		684		1,322			1,240
Marketing expense	696		833		1,279			1,252
Insurance expense	301		232		613			490
Intangible asset amortization expense	12		15		24			30
OREO (income), net rental income and gains on sale	21		165		(15		)	(155		)
Other operating expense	1,642		1,507		3,268			2,907
Total Other Operating Expense	22,674		19,819		41,461			36,899
Income Before Provision for Income Taxes	11,914		5,407		13,190			10,879
Provision for income taxes	2,014		1,146		2,257			2,306
Net Income		$9,900		$4,261		$10,933			$8,573
Earnings Per Share, Basic		$1.54		$0.62		$1.70			$1.25
Earnings Per Share, Diluted		$1.52		$0.62		$1.68			$1.24
Weighted Average Shares Outstanding, Basic	6,367,397		6,798,352		6,417,514			6,838,986
Weighted Average Shares Outstanding, Diluted	6,440,898		6,896,687		6,496,515			6,939,338

See notes to consolidated financial statements

NORTHRIM BANCORP, INC.

Consolidated Statements of Comprehensive Income

(Unaudited)

2010



	Three Months Ended June 30,						Six Months Ended June 30,
(In Thousands)	2020			2019			2020			2019
Net income		$9,900			$4,261			$10,933			$8,573
Other comprehensive income (loss), net of tax:
Securities available for sale:
Unrealized gains arising during the period		$1,753			$1,300			$423			$2,733
Reclassification of net gains included in net income, net of tax expense
of $0 for the second quarters of 2020 and 2019, and $28 and $7 for the
six months ended June 30, 2020 and 2019, respectively	—			—			(70		)	(16		)
Derivatives and hedging activities:
Unrealized losses arising during the period	—			(588		)	(1,867		)	(981		)
Income tax (expense) benefit related to unrealized gains and losses	(497		)	(370		)	634			(719		)
Other comprehensive (loss) income, net of tax	1,256			342			(880		)	1,017
Comprehensive income		$11,156			$4,603			$10,053			$9,590

See notes to consolidated financial statements

NORTHRIM BANCORP, INC.

Consolidated Statements of Changes in Shareholders’ Equity

(Unaudited)



	Common Stock					Additional Paid-in Capital			Retained Earnings			Accumulated Other Comprehensive Income (Loss), Net of Tax			Total
	Number of Shares		Par Value
(In Thousands)	Number of Shares		Par Value
Balance as of January 1, 2019	6,883			$6,883			$62,132			$137,452			($520	)		$205,947
Cash dividend on common stock ($0.30 per share)	—		—			—			(2,087		)	—			(2,087		)
Stock-based compensation expense	—		—			196			—			—			196
Exercise of stock options and vesting of restricted stock units, net	2		2			(2		)	—			—			—
Repurchase of common stock	(6	)	(6		)	(199		)	—			—			(205		)
Other comprehensive income, net of tax	—		—			—			—			675			675
Net income	—		—			—			4,312			—			4,312
Balance as of March 31, 2019	6,879			$6,879			$62,127			$139,677			$155			$208,838
Cash dividend on common stock ($0.30 per share)	—		—			—			(2,060		)	—			(2,060		)
Stock-based compensation expense	—		—			155			—			—			155
Repurchase of common stock	(150	)	(150		)	(5,048		)	—			—			(5,198		)
Other comprehensive income, net of tax	—		—			—			—			342			342
Net income	—		—			—			4,261			—			4,261
Balance as of June 30, 2019	6,729			$6,729			$57,234			$141,878			$497			$206,338
Cash dividend on common stock ($0.33 per share)	—		—			—			(2,199		)	—			(2,199		)
Stock-based compensation expense	—		—			193			—			—			193
Exercise of stock options and vesting of restricted stock units, net	3		3			(37		)	—			—			(34		)
Repurchase of common stock	(192	)	(192		)	(6,974		)	—			—			(7,166		)
Other comprehensive loss, net of tax	—		—			—			—			(631		)	(631		)
Net income	—		—			—			7,538			—			7,538
Balance as of September 30, 2019	6,540			$6,540			$50,416			$147,217			($134	)		$204,039
Cash dividend on common stock ($0.33 per share)	—		—			—			(2,182		)	—			(2,182		)
Stock-based compensation expense	—		—			288			—			—			288
Exercise of stock options and vesting of restricted stock units, net	19		19			(192		)	—			—			(173		)
Other comprehensive income, net of tax	—		—			—			—			565			565
Net income	—		—			—			4,580			—			4,580
Balance as of December 31, 2019	6,559			$6,559			$50,512			$149,615			$431			$207,117

NORTHRIM BANCORP, INC.

Consolidated Statements of Changes in Shareholders’ Equity

(Continued)

(Unaudited)



	Common Stock					Additional Paid-in Capital			Retained Earnings			Accumulated Other Comprehensive Income (Loss), Net of Tax			Total
	Number of Shares		Par Value
(In Thousands)	Number of Shares		Par Value
Balance as of January 1, 2020	6,559			$6,559			$50,512			$149,615			$431			$207,117
Cash dividend on common stock ($0.34 per share)	—		—			—			(2,223		)	—			(2,223		)
Stock-based compensation expense	—		—			242			—			—			242
Repurchase of common stock	(193	)	(193		)	(6,117		)	—			—			(6,310		)
Other comprehensive loss, net of tax	—		—			—			—			(2,136		)	(2,136		)
Cumulative effect of adoption of accounting principles related to equity compensation expense	—		—			139			(139		)	—			—
Net income	—		—			—			1,033			—			1,033
Balance as of March 31, 2020	6,366			$6,366			$44,776			$148,286			($1,705	)		$197,723
Cash dividend on common stock ($0.34 per share)	—		—			—			(2,188		)	—			(2,188		)
Stock-based compensation expense	—		—			238			—			—			238
Exercise of stock options and vesting of restricted stock units, net	2		2			(8		)	—			—			(6		)
Other comprehensive income, net of tax	—		—			—			—			1,256			1,256
Net income	—		—			—			9,900			—			9,900
Balance as of June 30, 2020	6,368			$6,368			$45,006			$155,998			($449	)		$206,923

See notes to consolidated financial statements

NORTHRIM BANCORP, INC.

Consolidated Statements of Cash Flows

(Unaudited)



	Six Months Ended June 30,
(In Thousands)	2020			2019
Operating Activities:
Net income		$10,933			$8,573
Adjustments to Reconcile Net Income to Net Cash Used by Operating Activities:
Gain on sale of securities, net	(98		)	(23		)
Depreciation and amortization of premises and equipment	1,542			1,444
Amortization of software	551			496
Intangible asset amortization	24			30
Amortization of investment security premium, net of discount accretion	(63		)	25
Unrealized loss (gain) on marketable equity securities	722			(652		)
Deferred tax (benefit) expense	(562		)	735
Stock-based compensation	480			351
Deferred loan fees and amortization, net of costs	9,921			(169		)
Provision for loan losses	2,464			1,050
Benefit for purchased receivables	(1		)	(92		)
Additions to home mortgage servicing rights carried at fair value	(1,659		)	(1,639		)
Change in fair value of home mortgage servicing rights carried at fair value	2,858			1,624
Change in fair value of commercial servicing rights carried at fair value	79			98
Gain on sale of loans	(15,965		)	(7,830		)
Proceeds from the sale of loans held for sale	499,134			242,409
Origination of loans held for sale	(549,310		)	(261,400		)
Gain on sale of other real estate owned	(75		)	(316		)
Net changes in assets and liabilities:
(Increase) decrease in accrued interest receivable	(3,877		)	25
(Increase) in other assets	(4,309		)	(3,162		)
Decrease in other liabilities	631			668
Net Cash (Used) by Operating Activities	(46,580		)	(17,755		)
Investing Activities:
Investment in securities:
Purchases of investment securities available for sale	(51,074		)	(15,373		)
Purchases of marketable equity securities	(1,038		)	—
Purchases of FHLB stock	(5,801		)	(806		)
Proceeds from sales/calls/maturities of securities available for sale	125,451			39,729
Proceeds from sales of marketable equity securities	503			—
Proceeds from redemption of FHLB stock	5,511			838
Decrease in purchased receivables, net	12,825			1,384
Increase in loans, net	(400,812		)	(31,090		)
Proceeds from sale of other real estate owned	75			1,085
Purchases of software	(89		)	(294		)
Purchases of premises and equipment	(2,175		)	(1,509		)
Net Cash (Used) Provided by Investing Activities	(316,624		)	(6,036		)
Financing Activities:
Increase in deposits	365,008			60,090
Increase in securities sold under repurchase agreements	—			(33,414		)
Increase (decrease) in borrowings	2,863			(83		)
Repurchase of common stock	(6,310		)	(5,403		)
Proceeds from the issuance of common stock	(6		)	—
Cash dividends paid	(4,363		)	(4,106		)
Net Cash Provided by Financing Activities	357,192			17,084



Net Change in Cash and Cash Equivalents	(6,012		)	(6,707		)
Cash and Cash Equivalents at Beginning of Period	95,424			77,538
Cash and Cash Equivalents at End of Period		$89,412			$70,831

Supplemental Information:
Income taxes paid		$3			$—
Interest paid		$3,112			$2,483
Noncash commitments to invest in Low Income Housing Tax Credit Partnerships		$—			$7,282
Transfer of loans to other real estate owned		$162			$—
Non-cash lease liability arising from obtaining right of use assets		$—			$528
Cash dividends declared but not paid		$48			$41

See notes to consolidated financial statements

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

1. Basis of Presentation and Significant Accounting Policies

The accompanying unaudited consolidated financial statements and corresponding footnotes have been prepared by Northrim BanCorp, Inc. (the “Company”) in accordance with accounting principles generally accepted in the United States of America (“GAAP”) and with instructions to Form 10-Q under the Securities Exchange Act of 1934, as amended. The year-end Consolidated Balance Sheet data was derived from the Company's audited financial statements. Accordingly, they do not include all of the information and footnotes required by GAAP for complete financial statements. The Company owns a 100% interest in Residential Mortgage Holding Company, LLC, the parent company of Residential Mortgage, LLC (collectively "RML") and consolidates their balance sheets and income statement into its financial statements. In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation have been included. The Company determined that it operates in two primary operating segments: Community Banking and Home Mortgage Lending. The Company has evaluated subsequent events and transactions for potential recognition or disclosure. Operating results for the interim period ended June 30, 2020 are not necessarily indicative of the results anticipated for the year ending December 31, 2020. These consolidated financial statements should be read in conjunction with the Company’s Annual Report on Form 10-K for the year ended December 31, 2019. The Company’s significant accounting policies are discussed in Note 1 to the audited consolidated financial statements included in the Company's Annual Report on Form 10-K for the year ended December 31, 2019.

Reclassification of Prior Year Presentation

Certain prior year amounts have been reclassified for consistency with the current period presentation. These reclassifications had no effect on the reported results of operations or total shareholders' equity.

Recent Accounting Pronouncements

Accounting pronouncements implemented in 2020

In March 2016, the FASB issued ASU 2016-09, Improvements to Employee Share-Based Payment Accounting (“ASU 2016-09”). ASU 2016-09 simplifies several aspects of the accounting for share-based payment transactions, including allowing entities to elect an accounting policy to account for forfeitures as they occur by reversing compensation expense when the award is forfeited instead of estimating future forfeitures that will occur when recognizing compensation expense related to share-based payment awards. The Company elected to account for forfeitures as they occur in accordance with the guidance in ASU 2016-09 on January 1, 2020, which resulted in a $139,000 decrease in beginning retained earnings through a cumulative-effect adjustment.

In January 2017, the FASB issued ASU 2017-04, Intangibles-Goodwill and Other (“ASU 2017-04”). ASU 2017-04 simplifies how an entity is required to test goodwill for impairment by eliminating Step 2 from the goodwill impairment test. The Company adopted ASU 2017-04 on January 1, 2020. The adoption of ASU 2017-04 did not have a material impact on the Company’s consolidated financial position or results of operations.

In August 2018, the FASB issued ASU 2018-13, Fair Value Measurement (Topic 820) (“ASU 2018-13”). ASU 2018-13 modifies the disclosure requirements on fair value measurements in Topic 820, Fair Value Measurement, based on the concepts in the Concepts Statement, including the consideration of costs and benefits. The Company adopted ASU 2018-13 on January 1, 2020. The adoption of ASU 2018-13 did not have a material impact on the Company’s consolidated financial position or results of operations.

In March 2020, the FASB issued ASU 2020-04, Reference Rate Reform (Topic 848) ("ASU 2020-04"). ASU 2020-04 provides optional expedients and exceptions for applying generally accepted accounting principles to contracts, hedging relationships, and other transactions that reference LIBOR or another reference rate expected to be discontinued because of reference rate reform. The expedients and exceptions provided by ASU 2020-04 do not apply to contract modifications made and hedging relationships entered into or evaluated after December 31, 2022, except for hedging relationships existing as of December 31, 2022, that an entity has elected certain optional expedients for and that are retained through the end of the hedging relationship. The Company adopted ASU 2020-04 as of March 31, 2020. The adoption of ASU 2020-04 did not have a material impact on the Company’s consolidated financial position or results of operations because no contract modifications have been made to date.

Accounting pronouncements to be implemented in future periods

In June 2016, the FASB issued ASU 2016-13, Financial Instruments - Credit Losses (“ASU 2016-13”). ASU 2016-13 is intended to improve financial reporting by requiring timelier recording of credit losses on loans and other financial instruments held by financial institutions and other organizations. For loans and held-to-maturity debt securities, ASU 2016-13 requires a current expected credit loss ("CECL") measurement to estimate the allowance for credit losses ("ACL") for the remaining estimated life of the financial asset (including off-balance sheet credit exposures) using historical experience, current conditions, and reasonable and supportable forecasts. Financial institutions and other organizations will now use forward-looking information to better inform their credit loss estimates, but will continue to use judgment to determine which loss estimation method is appropriate for their circumstances. ASU 2016-13 eliminates the existing guidance for purchased credit impaired loans, but requires an allowance for purchased financial assets with more than insignificant deterioration since origination. In addition, ASU 2016-13 modifies the other-than-temporary impairment model for available-for-sale debt securities to require an allowance for credit impairment instead of a direct write-down, which allows for reversal of credit impairments in future periods based on improvements in credit. ASU 2016-13 requires enhanced disclosures to help investors and other financial statement users better understand significant estimates and judgments used in estimating credit losses, as well as the credit quality and underwriting standards of an organization's loan portfolio. These disclosures include qualitative and quantitative requirements that provide additional information about the amounts recorded in the financial statements. ASU 2016-13 is effective for the Company for fiscal years, and interim periods within those fiscal years, beginning on or after December 15, 2019, and must be applied prospectively. However, on October 16, 2019 the FASB voted to delay ASU 2016-13 for Smaller Reporting Companies. In addition, on March 27, 2020, the Coronavirus Aid, Relief, and Economic Security Act ("CARES Act") was signed by the President of the United States that included an option for entities to delay the implementation of ASU 2016-13 until the earlier of the termination date of the national emergency declaration by the President or December 31, 2020. The Company has elected Small Reporting Company status, which changes the effective date for ASU 2016-13 for the Company to fiscal years, and interim periods within those fiscal years, beginning on or after December 15, 2022.

Our implementation process includes loss forecasting model development, evaluation of technical accounting topics, updates to our allowance documentation, reporting processes and related internal controls, and overall operational readiness for our adoption of the ASU 2016-13, which will continue until adoption, including parallel runs for CECL alongside our current allowance process.

models during 2020. Our current planned approach for estimating expected life-time credit losses for loans and debt securities

includes the following key components:


•	An initial loss forecast period of one year for all loan portfolio segments and classes of financing receivables and off balance-sheet credit exposures. This period reflects management’s expectation of losses based on forward-looking economic scenarios over that time.


•	A historical loss forecast period covering the remaining contractual life, adjusted for prepayments, by segment and class of financing receivables based on the change in key historical economic variables during representative historical expansionary and recessionary periods.


•	A reversion period of up to two years connecting the initial loss forecast to the historical loss forecast based on economic conditions at the measurement date.


•	Utilization of discounted cash flow ("DCF") methods to measure credit impairment for loans modified in a troubled debt restructuring, unless they are collateral dependent and measured at the fair value of collateral. The DCF methods would obtain estimated life-time credit losses using the conceptual components described above.


•	For debt securities classified as available-for-sale or held-to-maturity, we plan to utilize the DCF methods to measure the ACL, which will incorporate expected credit losses using the conceptual components described above.

We will recognize an ACL for available-for-sale and held-to-maturity debt securities. The ACL on available-for-sale debt securities will be subject to a limitation based on the fair value of the debt securities. Based on the credit quality of our existing debt securities portfolio, we do not expect the ACL for held-to-maturity and available-for-sale debt securities to be significant. As

of June 30, 2020, the Company does not hold any debt securities classified as held-to-maturity.

The ultimate effect of CECL on our ACL will depend on the size and composition of our loan and investment portfolios, the portfolios' credit quality and economic conditions at the time of adoption, as well as any refinements to our models, methodology and other key assumptions. At adoption, we will have a cumulative-effect adjustment to retained earnings for our change in the ACL.

2. Cash and Cash Equivalents

The Company is required to maintain cash balances or deposits with the Federal Reserve Bank of San Francisco ("Federal Reserve Bank") sufficient to meet its statutory reserve requirements and for purposes of settling financial transactions and charges for the Federal Reserve Bank services. The average reserve requirement for the maintenance period for the quarter ended June 30, 2020, was zero.

The Company is required to maintain a $500,000 balance with a correspondent bank for outsourced servicing of ATMs.

As of June 30, 2020, the Company was required to maintain a $100,000 and $2.8 million balance with a correspondent bank to collateralize the initial margin and the fair value exposure of its interest rate swap, respectively.

3. Investment Securities

The carrying values and estimated fair values of investment securities at the periods indicated are presented below:



(In Thousands)	Amortized Cost		Gross Unrealized Gains		Gross Unrealized Losses			Fair Value
June 30, 2020
Securities available for sale
U.S. Treasury and government sponsored entities		$137,908		$2,095		$—			$140,003
Municipal securities	2,295		32		—			2,327
Corporate bonds	31,752		323		(32		)	32,043
Collateralized loan obligations	28,619		43		(688		)	27,974
Total securities available for sale		$200,574		$2,493		($720	)		$202,347
December 31, 2019
Securities available for sale
U.S. Treasury and government sponsored entities		$210,756		$1,133		($37	)		$211,852
Municipal securities	3,288		9		—			3,297
Corporate bonds	34,764		302		—			35,066
Collateralized loan obligations	25,980		—		(57		)	25,923
Total securities available for sale		$274,788		$1,444		($94	)		$276,138

Gross unrealized losses on investment securities and the fair value of the related securities, aggregated by investment category and length of time that individual securities have been in a continuous unrealized loss position, at June 30, 2020 and December 31, 2019 were as follows:



	Less Than 12 Months					More Than 12 Months					Total
(In Thousands)	Fair Value		Unrealized Losses			Fair Value		Unrealized Losses			Fair Value		Unrealized Losses
June 30, 2020:
Securities available for sale
Corporate bonds		$10,056		($32	)		$—		$—			$10,056		($32	)
Collateralized loan obligations	21,518		(610		)	2,913		(78		)	24,431		(688		)
Total		$31,574		($642	)		$2,913		($78	)		$34,487		($720	)
December 31, 2019:
Securities available for sale
U.S. Treasury and government sponsored entities		$39,797		($33	)		$2,996		($4	)		$42,793		($37	)
Collateralized loan obligations	14,972		(17		)	7,951		(40		)	22,923		(57		)
Total		$54,769		($50	)		$10,947		($44	)		$65,716		($94	)

The unrealized losses on investments in U.S. treasury and government sponsored entities, corporate bonds, collateralized loan obligations, and municipal securities in both periods were caused by changes in interest rates. At June 30, 2020 and December 31, 2019, there were 9 and 8 available-for-sale securities with unrealized losses that have been in a loss position for less than twelve months, respectively. There were 1 and 3 securities as of June 30, 2020 and December 31, 2019 that have been in an unrealized loss position for more than twelve months, respectively. The contractual terms of the investments in a loss position do not permit the issuer to settle the securities at a price less than the amortized cost of the investment. Because it is more likely than not that the Company will hold these investments until a market price recovery or maturity, these investments are not considered other-than-temporarily impaired.

At June 30, 2020 and December 31, 2019, $94.3 million and $30.6 million in securities were pledged for deposits and borrowings, respectively.

The amortized cost and estimated fair values of debt securities at June 30, 2020, are distributed by contractual maturity as shown below. Expected maturities may differ from contractual maturities because issuers may have the right to call or prepay obligations with or without call or prepayment penalties.



(In Thousands)	Amortized Cost		Fair Value		Weighted Average Yield
US Treasury and government sponsored entities
Within 1 year		$64,003		$64,772	2.27	%
1-5 years	73,905		75,231		1.80	%
Total		$137,908		$140,003	2.02	%
Corporate bonds
Within 1 year		$5,000		$5,002	1.87	%
1-5 years	26,752		27,041		1.79	%
Total		$31,752		$32,043	1.80	%
Collateralized loan obligations
5-10 years		$5,167		$5,081	3.40	%
Over 10 years	23,452		22,893		2.70	%
Total		$28,619		$27,974	2.83	%
Municipal securities
1-5 years		$2,295		$2,327	3.94	%
Total		$2,295		$2,327	3.94	%

The proceeds and resulting gains and losses, computed using specific identification, from sales of investment securities for the three and six-month periods ending June 30, 2020 and 2019, are as follows:



(In Thousands)	Proceeds		Gross Gains		Gross Losses
Three Months Ended June 30, 2020
Available for sale securities		$—		$—		$—
Three Months Ended June 30, 2019
Available for sale securities		$—		$—		$—
Six Months Ended June 30, 2020
Available for sale securities		$—		$—		$—
Six Months Ended June 30, 2019
Available for sale securities		$4,219		$23		$—

A summary of interest income for the three and six-month periods ending June 30, 2020 and 2019, on available for sale investment securities are as follows:



	Three Months Ended June 30,				Six Months Ended June 30,
(In Thousands)	2020		2019		2020		2019
US Treasury and government sponsored entities		$998		$1,071		$2,159		$2,142
Other	369		589		803		1,098
Total taxable interest income		$1,367		$1,660		$2,962		$3,240
Municipal securities		$22		$30		$49		$82
Total tax-exempt interest income		$22		$30		$49		$82
Total		$1,389		$1,690		$3,011		$3,322

4. Loans and Credit Quality

The following table presents total portfolio loans by portfolio segment and class of financing receivable, based on the Company's asset quality rating ("AQR") criteria:



(In Thousands)	Commercial		Real estate construction one-to-four family		Real estate construction other		Real estate term owner occupied		Real estate term non-owner occupied		Real estate term other		Consumer secured by 1st deeds of trust		Consumer other		Total
June 30, 2020
AQR Pass		$766,043		$36,329		$76,146		$144,310		$301,454		$38,921		$14,183		$23,688		$1,401,074
AQR Special Mention	2,465		1,287		—		3,637		17,178		1,179		177		—		25,923
AQR Substandard	11,606		702		—		6,794		625		1,176		84		112		21,099
AQR Doubtful	46		—		—		—		—		—		—		—		46
AQR Loss	—		—		—		—		—		—		66		—		66
Subtotal		$780,160		$38,318		$76,146		$154,741		$319,257		$41,276		$14,510		$23,800		$1,448,208
Less: Unearned origination fees, net of origination costs																	(15,007		)
Total loans																		$1,433,201
December 31, 2019
AQR Pass		$394,107		$34,132		$61,808		$129,959		$295,482		$38,771		$15,860		$24,464		$994,583
AQR Special Mention	2,279		3,337		—		3,828		17,478		2,559		179		—		29,660
AQR Substandard	16,304		1,349		—		5,104		—		1,176		159		121		24,213
Subtotal		$412,690		$38,818		$61,808		$138,891		$312,960		$42,506		$16,198		$24,585		$1,048,456
Less: Unearned origination fees, net of origination costs																	(5,085		)
Total loans																		$1,043,371

The above table includes $353.5 million in Paycheck Protection Program ("PPP") loans administered by the U.S. Small Business Administration ("SBA") within the Commercial loan segment. Additionally, unearned origination fee, net of origination costs includes $9.8 million associated with SBA PPP loans.

Nonaccrual loans: Nonaccrual loans net of government guarantees totaled $12.7 million and $14.0 million at June 30, 2020 and December 31, 2019, respectively. Nonaccrual loans at the periods indicated are presented below by segment:



(In Thousands)	30-59 Days Past Due			60-89 Days Past Due		Greater Than 90 Days Past Due		Current			Total
June 30, 2020
Commercial		$354			$—		$6,031		$1,977			$8,362
Real estate construction one-to-four family	—			—		702		—			702
Real estate term owner occupied	—			60		2,245		1,642			3,947
Real estate term other	—			—		1,176		—			1,176
Consumer secured by 1st deeds of trust	—			—		—		66			66
Consumer other	—			—		—		112			112
Total nonperforming loans	354			60		10,154		3,797			14,365
Government guarantees on nonaccrual loans	(73		)	—		—		(1,562		)	(1,635		)
Net nonaccrual loans		$281			$60		$10,154		$2,235			$12,730
December 31, 2019
Commercial		$270			$385		$2,862		$5,636			$9,153
Real estate construction one-to-four family	—			—		1,349		—			1,349
Real estate term owner occupied	1,641			—		623		1,225			3,489
Real estate term other	—			—		1,176		—			1,176
Consumer secured by 1st deeds of trust	—			—		—		68			68
Consumer other	26			89		—		6			121
Total nonperforming loans	1,937			474		6,010		6,935			15,356
Government guarantees on nonaccrual loans	(268		)	—		—		(1,137		)	(1,405		)
Net nonaccrual loans		$1,669			$474		$6,010		$5,798			$13,951

Past Due Loans: Past due loans and nonaccrual loans at the periods indicated are presented below by segment:



(In Thousands)	30-59 Days Past Due Still Accruing		60-89 Days Past Due Still Accruing		Greater Than 90 Days Still Accruing		Total Past Due		Nonaccrual		Current		Total
June 30, 2020
Commercial		$250		$—		$—		$250		$8,362		$771,548		$780,160
Real estate construction one-to-four family	—		—		—		—		702		37,616		38,318
Real estate construction other	—		—		—		—		—		76,146		76,146
Real estate term owner occupied	—		—		—		—		3,947		150,794		154,741
Real estate term non-owner occupied	—		—		—		—		—		319,257		319,257
Real estate term other	—		—		—		—		1,176		40,100		41,276
Consumer secured by 1st deed of trust	—		553		—		553		66		13,891		14,510
Consumer other	—		58		—		58		112		23,630		23,800
Subtotal		$250		$611		$—		$861		$14,365		$1,432,982		$1,448,208
Less: Unearned origination fees, net of origination costs													(15,007		)
Total														$1,433,201
December 31, 2019
Commercial		$270		$—		$—		$270		$9,153		$403,267		$412,690
Real estate construction one-to-four family	—		—		—		—		1,349		37,469		38,818
Real estate construction other	—		—		—		—		—		61,808		61,808
Real estate term owner occupied	338		—		—		338		3,489		135,064		138,891
Real estate term non-owner occupied	—		—		—		—		—		312,960		312,960
Real estate term other	26		—		—		26		1,176		41,304		42,506
Consumer secured by 1st deed of trust	750		—		—		750		68		15,380		16,198
Consumer other	150		—		—		150		121		24,314		24,585
Subtotal		$1,534		$—		$—		$1,534		$15,356		$1,031,566		$1,048,456
Less: Unearned origination fees, net of origination costs													(5,085		)
Total														$1,043,371

Impaired Loans: The following table presents information about impaired loans by class as of the periods indicated:



(In Thousands)	Recorded Investment		Unpaid Principal Balance		Related Allowance
June 30, 2020
With no related allowance recorded
Commercial - AQR substandard		$11,193		$12,010		$—
Real estate construction one-to-four family - AQR substandard	702		702		—
Real estate term owner occupied - AQR substandard	6,794		6,794		—
Real estate term non-owner occupied - AQR pass	177		177		—
Real estate term non-owner occupied - AQR substandard	625		625		—
Real estate term other - AQR pass	374		374		—
Real estate term other - AQR substandard	1,177		1,177		—
Consumer secured by 1st deeds of trust - AQR pass	118		118		—
Consumer secured by 1st deeds of trust - AQR substandard	84		84		—
Consumer secured by 1st deeds of trust - AQR loss	66		71		—
Consumer other - AQR substandard	85		90		—
Subtotal		$21,395		$22,222		$—



With an allowance recorded
Commercial - AQR substandard	$250	$250	$31
Subtotal	$250	$250	$31



Total
Commercial - AQR substandard		$11,443		$12,260		$31
Real estate construction one-to-four family - AQR substandard	702		702		—
Real estate term owner-occupied - AQR substandard	6,794		6,794		—
Real estate term non-owner occupied - AQR pass	177		177		—
Real estate term non-owner occupied - AQR substandard	625		625		—
Real estate term other - AQR pass	374		374		—
Real estate term other - AQR substandard	1,177		1,177		—
Consumer secured by 1st deeds of trust - AQR pass	118		118		—
Consumer secured by 1st deeds of trust - AQR substandard	84		84		—
Consumer secured by 1st deeds of trust - AQR loss	66		71		—
Consumer other - AQR substandard	85		90		—
Total		$21,645		$22,472		$31



(In Thousands)	Recorded Investment		Unpaid Principal Balance		Related Allowance
December 31, 2019
With no related allowance recorded
Commercial - AQR substandard		$15,517		$15,582		$—
Real estate construction one-to-four family -AQR substandard	1,349		1,349		—
Real estate term owner occupied - AQR substandard	5,104		5,104		—
Real estate term non-owner occupied - AQR pass	178		178		—
Real estate term other - AQR pass	417		417		—
Real estate term other - AQR substandard	1,176		1,176		—
Consumer secured by 1st deeds of trust - AQR pass	122		122		—
Consumer secured by 1st deeds of trust - AQR substandard	159		163		—
Consumer other - AQR substandard	90		94		—
Subtotal		$24,112		$24,185		$—



With an allowance recorded
Commercial - AQR substandard	$561	$561	$17
Subtotal	$561	$561	$17



Total
Commercial - AQR substandard		$16,078		$16,143		$17
Real estate construction one-to-four family -AQR substandard	1,349		1,349		—
Real estate term owner occupied - AQR substandard	5,104		5,104		—
Real estate term non-owner occupied - AQR pass	178		178		—
Real estate term other - AQR pass	417		417		—
Real estate term other - AQR substandard	1,176		1,176		—
Consumer secured by 1st deeds of trust - AQR pass	122		122		—
Consumer secured by 1st deeds of trust - AQR substandard	159		163		—
Consumer other - AQR substandard	90		94		—
Total		$24,673		$24,746		$17

The unpaid principal balance included in the tables above represents the recorded investment at the dates indicated, plus amounts charged off for book purposes.

The following tables summarize our average recorded investment and interest income recognized on impaired loans for the three and six-month periods ended June 30, 2020 and 2019:



Three Months Ended June 30,	2020						2019
(In Thousands)	Average Recorded Investment		Interest Income Recognized			Average Recorded Investment			Interest Income Recognized
With no related allowance recorded
Commercial - AQR pass		$—			$—			$75			$1
Commercial - AQR substandard	12,767			65			17,192			95
Real estate construction one-to-four family - AQR substandard	808			—			1,958			—
Real estate term owner occupied- AQR substandard	6,707			49			5,877			14
Real estate term non-owner occupied- AQR pass	177			3			276			5
Real estate term non-owner occupied- AQR substandard	313			—			—			—
Real estate term other - AQR pass	386			7			457			8
Real estate term other - AQR substandard	1,176			—			1,213			—
Consumer secured by 1st deeds of trust - AQR pass	120			3			127			3
Consumer secured by 1st deeds of trust - AQR substandard	86			2			309			2
Consumer secured by 1st deeds of trust - AQR loss	66			—			—			—
Consumer other - AQR substandard	86			—			95			—
Subtotal		$22,692			$129			$27,579			$128



With an allowance recorded
Commercial - AQR substandard	$125	$—	$917	$—
Subtotal	$125	$—	$917	$—



Total
Commercial - AQR pass		$—		$—		$75		$1
Commercial - AQR substandard	12,892		65		18,109		95
Real estate construction one-to-four family - AQR substandard	808		—		1,958		—
Real estate term owner-occupied - AQR substandard	6,707		49		5,877		14
Real estate term non-owner occupied - AQR pass	177		3		276		5
Real estate term non-owner occupied - AQR substandard	313		—		—		—
Real estate term other - AQR pass	386		7		457		8
Real estate term other - AQR substandard	1,176		—		1,213		—
Consumer secured by 1st deeds of trust - AQR pass	120		3		127		3
Consumer secured by 1st deeds of trust - AQR substandard	86		2		309		2
Consumer secured by 1st deeds of trust - AQR loss	66		—		—		—
Consumer other - AQR substandard	86		—		95		—
Total Impaired Loans		$22,817		$129		$28,496		$128



Six Months Ended June 30,	2020						2019
(In Thousands)	Average Recorded Investment		Interest Income Recognized			Average Recorded Investment			Interest Income Recognized
With no related allowance recorded
Commercial - AQR pass		$10,575			$95			$1,073			$35
Commercial - AQR substandard	—			—			16,995			185
Real estate construction one-to-four family - AQR substandard	970			—			2,427			—
Real estate term owner occupied- AQR substandard	6,378			78			5,895			49
Real estate term non-owner occupied- AQR pass	177			7			283			10
Real estate term non-owner occupied- AQR substandard	156						463			—
Real estate term other - AQR pass	396			14			467			16
Real estate term other - AQR substandard	1,176			—			897			—
Consumer secured by 1st deeds of trust - AQR pass	121			6			128			6
Consumer secured by 1st deeds of trust - AQR substandard	87			3			278			4
Consumer secured by 1st deeds of trust - AQR loss	67			—			—			—
Consumer other - AQR substandard	88			—			48			—
Subtotal		$20,191			$203			$28,954			$305



With an allowance recorded
Commercial - AQR substandard		$2,586		$—		$881		$—
Real estate term other - AQR substandard	—		—		328		—
Consumer secured by 1st deeds of trust - AQR substandard	—		—		108		—
Subtotal		$2,586		$—		$1,317		$—



Total
Commercial - AQR pass		$10,575		$95		$1,073		$35
Commercial - AQR substandard	2,586		—		17,876		185
Real estate construction one-to-four family - AQR substandard	970		—		2,427		—
Real estate term owner-occupied - AQR substandard	6,378		78		5,895		49
Real estate term non-owner occupied - AQR pass	177		7		283		10
Real estate term non-owner occupied - AQR substandard	156		—		463		—
Real estate term other - AQR pass	396		14		467		16
Real estate term other - AQR substandard	1,176		—		1,225		—
Consumer secured by 1st deeds of trust - AQR pass	121		6		128		6
Consumer secured by 1st deeds of trust - AQR substandard	87		3		386		4
Consumer secured by 1st deeds of trust - AQR loss	67		—		—		—
Consumer other - AQR substandard	88		—		48		—
Total Impaired Loans		$22,777		$203		$30,271		$305

Troubled Debt Restructurings: Loans classified as troubled debt restructurings (“TDR”) totaled $10.6 million and $10.1 million at June 30, 2020 and December 31, 2019, respectively. A TDR is a loan to a borrower that is experiencing financial difficulty that has been modified from its original terms and conditions in such a way that the Company is granting the borrower a concession that it would not grant otherwise. The provisions of the CARES Act included an election to not apply the guidance on accounting for troubled debt restructurings to loan modifications, such as extensions or deferrals, related to COVID-19 made between March 1, 2020 and the earlier of (i) December 31, 2020 or (ii) 60 days after the end of the COVID-19 national emergency. The relief can only be applied to modifications for borrowers that were not more than 30 days past due as of December 31, 2019. The Company has elected to adopt these provisions of the CARES Act. As of June 30, 2020, the Company has made the following loan modifications related to COVID-19, which are not classified as TDRs:



(Dollars in thousands)	Interest Only		Full Payment Deferral		Total
Portfolio loans		$64,298		$293,224		$357,522
Number of modifications	76		403		479

The Company has granted a variety of concessions to borrowers in the form of loan modifications. The modifications granted can generally be described in the following categories:

Rate Modification: A modification in which the interest rate is changed.

Term Modification: A modification in which the maturity date, timing of payments, or frequency of payments is changed.

Payment Modification: A modification in which the dollar amount of the payment is changed, or in which a loan is converted to interest only payments for a period of time is included in this category.

Combination Modification: Any other type of modification, including the use of multiple categories above.

AQR pass graded loans included above in the impaired loan data are loans classified as TDRs. By definition, TDRs are considered impaired loans. All of the Company's TDRs are included in impaired loans.

The following table presents the breakout between newly restructured loans that occurred during the six months ended June 30, 2020 and restructured loans that occurred prior to 2020 that are still included in portfolio loans. As discussed above, the CARES Act provided banks an option to elect to not account for certain loan modifications related to COVID-19 as TDRs as long as the borrowers were not more than 30 days past due as of December 31, 2019. The below disclosed restructurings were not related to COVID-19 modifications:



	Accrual Status		Nonaccrual Status		Total Modifications
(In Thousands)	Accrual Status		Nonaccrual Status		Total Modifications
New Troubled Debt Restructurings
Commercial - AQR substandard		$2,031		$—		$2,031
Subtotal		$2,031		$—		$2,031
Existing Troubled Debt Restructurings		$856		$7,749		$8,605
Total		$2,887		$7,749		$10,636

The following tables present newly restructured loans that occurred during the six months ended June 30, 2020 and 2019, by concession (terms modified):



		June 30, 2020
	Number of Contracts	Rate Modification		Term Modification		Payment Modification		Combination Modification		Total Modifications
(In Thousands)	Number of Contracts	Rate Modification		Term Modification		Payment Modification		Combination Modification		Total Modifications
Pre-Modification Outstanding Recorded Investment:
Commercial - AQR substandard	1		$—		$3,249		$—		$—		$3,249
Total	1		$—		$3,249		$—		$—		$3,249
Post-Modification Outstanding Recorded Investment:
Commercial - AQR substandard	1		$—		$2,031		$—		$—		$2,031
Total	1		$—		$2,031		$—		$—		$2,031



		June 30, 2019
	Number of Contracts	Rate Modification		Term Modification		Payment Modification		Combination Modification		Total Modifications
(In Thousands)	Number of Contracts	Rate Modification		Term Modification		Payment Modification		Combination Modification		Total Modifications
Pre-Modification Outstanding Recorded Investment:
Commercial - AQR substandard	5		$—		$—		$509		$1,350		$1,859
Real estate term owner occupied- AQR substandard	1	—		—		192		—		192
Total	6		$—		$—		$701		$1,350		$2,051
Post-Modification Outstanding Recorded Investment:
Commercial - AQR substandard	5		$—		$—		$433		$1,346		$1,779
Real estate term owner occupied- AQR substandard	1	—		—		189		—		189
Total	6		$—		$—		$622		$1,346		$1,968

The Company had no commitments to extend additional credit to borrowers whose terms have been modified in TDRs. There were no in charge-offs in the six months ended June 30, 2020 on loans that were newly classified as TDRs during the same period.

All TDRs are also classified as impaired loans and are included in the loans individually evaluated for impairment in the calculation of the allowance for loan losses ("Allowance"). There were no TDRs with specific impairment at June 30, 2020 and December 31, 2019, respectively.

The Company had no TDRs that defaulted within twelve months of restructure and defaulted during the six months ended June 30, 2020 and 2019, respectively.

5. Allowance for Loan Losses

The following tables detail activity in the Allowance for the periods indicated:



Three Months Ended June 30,	Commercial			Real estate construction one-to-four family		Real estate construction other			Real estate term owner occupied			Real estate term non-owner occupied			Real estate term other			Consumer secured by 1st deed of trust			Consumer other			Unallocated			Total
2020
Balance, beginning of period		$8,269			$643		$1,279			$2,430			$5,491			$711			$274			$453			$1,467			$21,017
Charge-Offs	(804		)	—		—			—			—			—			—			—			—			(804		)
Recoveries	30			—		—			—			—			1			—			5			—			36
Provision (benefit)	(129		)	47		(64		)	103			(70		)	(10		)	(16		)	(11		)	554			404
Balance, end of period		$7,366			$690		$1,215			$2,533			$5,421			$702			$258			$447			$2,021			$20,653
Balance, end of period:
Individually evaluated
for impairment		$31			$—		$—			$—			$—			$—			$—			$—			$—			$31
Balance, end of period:
Collectively evaluated
for impairment		$7,335			$690		$1,215			$2,533			$5,421			$702			$258			$447			$2,021			$20,622
2019
Balance, beginning of period		$6,478			$659		$1,367			$2,320			$6,122			$844			$396			$501			$1,522			$20,209
Charge-Offs	(64		)	—		—			—			—			—			—			(4		)	—			(68		)
Recoveries	48			—		—			—			—			25			—			4			—			77
Provision (benefit)	661			80		(255		)	(39		)	109			(108		)	(74		)	(15		)	(59		)	300
Balance, end of period		$7,123			$739		$1,112			$2,281			$6,231			$761			$322			$486			$1,463			$20,518
Balance, end of period:
Individually evaluated
for impairment		$6			$—		$—			$—			$—			$—			$—			$—			$—			$6
Balance, end of period:
Collectively evaluated
for impairment		$7,117			$739		$1,112			$2,281			$6,231			$761			$322			$486			$1,463			$20,512



Six Months Ended June 30,	Commercial			Real estate construction one-to-four family		Real estate construction other			Real estate term owner occupied		Real estate term non-owner occupied		Real estate term other		Consumer secured by 1st deed of trust			Consumer other			Unallocated			Total
2020
Balance, beginning of period		$6,604			$643		$1,017			$2,188		$5,180		$671		$270			$436			$2,079			$19,088
Charge-Offs	(955		)	—		—			—		—		—		—			(14		)	—			(969		)
Recoveries	56			—		—			—		—		1		—			13			—			70
Provision (benefit)	1,661			47		198			345		241		30		(12		)	12			(58		)	2,464
Balance, end of period		$7,366			$690		$1,215			$2,533		$5,421		$702		$258			$447			$2,021			$20,653
Balance, end of period:
Individually evaluated
for impairment		$31			$—		$—			$—		$—		$—		$—			$—			$—			$31
Balance, end of period:
Collectively evaluated
for impairment		$7,335			$690		$1,215			$2,533		$5,421		$702		$258			$447			$2,021			$20,622
2019
Balance, beginning of period		$5,660			$675		$1,275			$2,027		$5,799		$716		$306			$426			$2,635			$19,519
Charge-Offs	(173		)	—		—			—		—		—		—			(4		)	—			(177		)
Recoveries	92			—		—			—		—		27		—			7			—			126
Provision (benefit)	1,544			64		(163		)	254		432		18		16			57			(1,172		)	1,050
Balance, end of period		$7,123			$739		$1,112			$2,281		$6,231		$761		$322			$486			$1,463			$20,518
Balance, end of period:
Individually evaluated
for impairment		$6			$—		$—			$—		$—		$—		$—			$—			$—			$6
Balance, end of period:
Collectively evaluated
for impairment		$7,117			$739		$1,112			$2,281		$6,231		$761		$322			$486			$1,463			$20,512

The following is a detail of the recorded investment, including unearned origination fees, net of origination costs, in the loan portfolio, segregated by amounts evaluated individually or collectively in the Allowance at the periods indicated:



(In Thousands)	Commercial		Real estate construction one-to-four family		Real estate construction other		Real estate term owner occupied		Real estate term non-owner occupied		Real estate term other		Consumer secured by 1st deed of trust		Consumer other		Total
June 30, 2020
Balance, end of period		$768,988		$38,148		$75,333		$153,942		$317,333		$40,989		$14,496		$23,972		$1,433,201
Balance, end of period:
Individually evaluated
for impairment		$11,443		$702		$—		$6,794		$802		$1,551		$268		$85		$21,645
Balance, end of period:
Collectively evaluated
for impairment		$757,545		$37,446		$75,333		$147,148		$316,531		$39,438		$14,228		$23,887		$1,411,556
December 31, 2019
Balance, end of period		$411,327		$38,503		$60,906		$138,181		$311,302		$42,200		$16,191		$24,761		$1,043,371
Balance, end of period:
Individually evaluated
for impairment		$16,077		$1,349		$—		$5,104		$178		$1,594		$281		$90		$24,673
Balance, end of period:
Collectively evaluated
for impairment		$395,250		$37,154		$60,906		$133,077		$311,124		$40,606		$15,910		$24,671		$1,018,698

The following represents the balance of the Allowance for the periods indicated segregated by segment and class:



(In Thousands)	Commercial		Real estate construction one-to-four family		Real estate construction other		Real estate term owner occupied		Real estate term non-owner occupied		Real estate term other		Consumer secured by 1st deeds of trust		Consumer other		Unallocated		Total
June 30, 2020
Individually evaluated for impairment:
AQR Substandard		$31		$—		$—		$—		$—		$—		$—		$—		$—		$31
Collectively evaluated for impairment:
AQR Pass	7,223		667		1,215		2,469		5,277		681		253		443		—		18,228
AQR Special Mention	60		23		—		64		144		21		5		—		—		317
AQR Substandard	6		—		—		—		—		—		—		4		—		10
AQR Doubtful	46		—		—		—		—		—		—		—		—		46
Unallocated	—		—		—		—		—		—		—		—		2,021		2,021
		$7,366		$690		$1,215		$2,533		$5,421		$702		$258		$447		$2,021		$20,653
December 31, 2019
Individually evaluated for impairment:
AQR Substandard		$17		$—		$—		$—		$—		$—		$—		$—		$—		$17
Collectively evaluated for impairment:
AQR Pass	6,514		588		1,017		2,125		4,829		629		266		431		—		16,399
AQR Special Mention	64		55		—		63		351		42		4		—		—		579
AQR Substandard	9		—		—		—		—		—		—		5		—		14
Unallocated	—		—		—		—		—		—		—		—		2,079		2,079
		$6,604		$643		$1,017		$2,188		$5,180		$671		$270		$436		$2,079		$19,088

6. Purchased Receivables

Purchased receivables are carried at their principal amount outstanding, net of a reserve for anticipated losses that have not yet been identified, and have a maturity of less than one year. Purchased receivable balances are charged against this reserve when management believes that collection of principal is unlikely. Management evaluates the adequacy of the reserve for purchased receivable losses based on historical loss experience by class of receivable and its assessment of current economic conditions. As of June 30, 2020, the Company has one class of purchased receivables. There were no purchased receivables past due at June 30, 2020 or December 31, 2019, and there were no restructured purchased receivables at June 30, 2020 or December 31, 2019.

Income on purchased receivables is accrued and recognized on the principal amount outstanding using an effective interest method except when management believes doubt exists as to the collectability of the income or principal. Purchased receviables of $1.2 million related to one customer relationship are considered nonperforming assets as of June 30, 2020 for which the Company is not accruing and recognizing income. There were no nonperforming purchased receivables as of December 31, 2019.

The following table summarizes the components of net purchased receivables for the periods indicated:



(In Thousands)	June 30, 2020			December 31, 2019
Purchased receivables		$11,642			$24,467
Reserve for purchased receivable losses	(93		)	(94		)
Total		$11,549			$24,373

The following table sets forth information regarding changes in the purchased receivable reserve for the three and six-month periods ending June 30, 2020 and 2019, respectively:



	Three Months Ended June 30,						Six Months Ended June 30,
(In Thousands)	2020			2019			2020			2019
Balance, beginning of period		$99			$141			$94			$190
Charge-offs	—			—			—			—
Recoveries	—			—			—			—
Charge-offs net of recoveries	—			—			—			—
Reserve (benefit) for purchased receivables	(6		)	(43		)	(1		)	(92		)
Balance, end of period		$93			$98			$93			$98

7. Servicing Rights

Mortgage servicing rights

The following table details the activity in the Company's mortgage servicing rights ("MSR") for the three and six-month periods ended June 30, 2020 and 2019:



	Three Months Ended June 30,						Six Months Ended June 30,
(In Thousands)	2020			2019			2020			2019

Balance, beginning of period		$11,653			$11,254			$11,920			$10,821
Additions for new MSR capitalized	996			532			1,659			1,639
Changes in fair value:
Due to changes in model inputs of assumptions ⁽¹⁾	(891		)	(630		)	(1,592		)	(1,007		)
Other ⁽²⁾	(1,037		)	(320		)	(1,266		)	(617		)
Balance, end of period		$10,721			$10,836			$10,721			$10,836

⁽¹⁾Principally reflects changes in discount rates and prepayment speed assumptions, which are primarily affected by changes in interest rates.

⁽²⁾Represents changes due to collection/realization of expected cash flows over time.

The following table details information related to our serviced mortgage loan portfolio as of June 30, 2020 and December 31, 2019:

The Company recognized servicing fees of $639,000 and $588,000 during the three-month periods ending June 30, 2020 and 2019, respectively and $1.3 million and $1.1 million during the six-month periods ending June 30, 2020 and 2019, respectively, which includes contractually specified servicing fees and ancillary fees as a component of other noninterest income in the Company's Consolidated Statements of Income.

The following table outlines the weighted average key assumptions used in measuring the fair value of MSR as of June 30, 2020 and December 31, 2019:



	2020		2019

Constant prepayment rate	14.30	%	10.61	%
Discount rate	7.75	%	8.52	%

Key economic assumptions and the sensitivity of the current fair value for MSR to immediate adverse changes in those assumptions at June 30, 2020 and December 31, 2019 were as follows:



(In Thousands)				June 30, 2020			December 31, 2019
Aggregate portfolio principal balance					$655,183			$659,048
Weighted average rate of note				3.80		%	3.90		%

June 30, 2020	Base			1.0% Adverse Rate Change			2.0% Adverse Rate Change
Constant prepayment rate	14.30		%	40.94		%	50.36		%
Discount rate	7.75		%	6.75		%	5.75		%
Fair value MSR		$10,721			$4,304			$3,376
Percentage of MSR	1.64		%	0.66		%	0.52		%

December 31, 2019
Constant prepayment rate	10.61		%	26.25		%	28.39		%
Discount rate	8.52		%	7.52		%	6.52		%
Fair value MSR		$11,920			$7,005			$6,625
Percentage of MSR	1.81		%	1.06		%	1.01		%

The above tables show the sensitivity to market rate changes for the par rate coupon for a conventional one-to-four family Alaska Housing Finance Corporation/FNMA/FHLMC serviced home loan. The above tables reference a 100 basis point and 200 basis point decrease in discount rates.

These sensitivities are hypothetical and should be used with caution as the tables above demonstrate the Company’s methodology for estimating the fair value of MSR is highly sensitive to changes in key assumptions. For example, actual prepayment experience may differ and any difference may have a material effect on MSR fair value. Changes in fair value resulting from changes in assumptions generally cannot be extrapolated because the relationship of the change in the assumption to the change in fair value may not be linear. Also, in these tables, the effects of a variation in a particular assumption on the fair value of the MSR is calculated without changing any other assumption; in reality, changes in one factor may be associated with changes in another (for example, decreases in market interest rates may provide an incentive to refinance; however, this may also indicate a slowing economy and an increase in the unemployment rate, which reduces the number of borrowers who qualify for refinancing), which may magnify or counteract the sensitivities. Thus, any measurement of MSR fair value is limited by the conditions existing and assumptions made at a particular point in time. Those assumptions may not be appropriate if they are applied to a different point in time.

Commercial servicing rights

The commercial servicing right asset ("CSR") has a carrying value $1.2 million at both June 30, 2020 and December 31, 2019, and is included in other assets and carried at fair value on the Company's Consolidated Balance Sheets. Total commercial loans serviced for others were $242.0 million and $252.9 million at June 30, 2020 and December 31, 2019, respectively. Key assumptions used in measuring the fair value of the CSR as of June 30, 2020 and December 31, 2019 include a constant prepayment rate of 12.25% and a discount rate of 11.70%.

8. Leases

We adopted ASU 2016-02 Leases (Topic 842) ("ASU 2016-02") using the modified retrospective approach with an effective date as of January 1, 2019. We elected the package of transition provisions available for expired or existing contracts, which allowed us to carryforward our historical assessments of (1) whether contracts are or contain leases, (2) lease classification and (3) initial direct costs. The Company also elected the practical expedient on not separating lease components from nonlease components for all operating leases. Additionally, the Company has elected to not apply ASU 2016-02 to short-term leases. Short-

term leases are those leases that, at the lease commencement date, have a lease term of 12 months or less and do not include an option to purchase the underlying asset that the Company is reasonably certain to exercise.

The Company has lease agreements for land and office facilities that it occupies to operate several of its retail branch locations, as well as one storage facility, that are classified as operating leases and are recognized on the balance sheet as right-of-use ("ROU") assets and lease liabilities. Most of these leases contain options to extend the duration of the leases at management's discretion. Management has recognized these renewal options as part of its ROU asset and lease liabilities when management is reasonably certain to exercise these options. Whether or not management is reasonably certain to exercise such an option is determined based on facts and circumstances for each individual lease. However, if a renewal option is offered at below market terms, management considers the exercise of that option to be reasonably certain for the purposes of calculating its ROU assets and lease liabilities. None of the Company's leases include residual value guarantees, and there are no restrictions or covenants imposed by these leases that impose significant additional financial obligations on the Company. The Company uses the rate implicit in each lease as the discount rate to determine the lease liability, which is the present value of lease payments not yet paid at the lease commencement date. If the rate implicit in each lease is not readily determinable, which is often the case, the Company uses its incremental borrowing rate as the discount rate. The incremental borrowing rate is the rate that the Company would have incurred to borrow the funds necessary to purchase the leased asset over a similar term.

As of June 30, 2020, the Company has operating lease ROU assets of $13.2 million and operating lease liabilities of $13.1 million. As of December 31, 2019, the Company had operating lease ROU assets of $14.3 million and operating lease liabilities of $14.2 million. The Company did not have any agreements that are classified as finance leases in 2020 or 2019.

The following table presents additional information about the Company's operating leases:



		Three Months Ended June 30,		Three Months Ended June 30,		Six Months Ended June 30,			Six Months Ended June 30,
(In Thousands)		2020		2019		2020			2019
Lease Cost
	Operating lease cost⁽¹⁾		$706		$677		$1,401			$1,355
	Short term lease cost⁽¹⁾	8		8		17			17
	Total lease cost		$714		$685		$1,418			$1,372

Other information
	Operating leases - operating cash flows						$1,341			$1,348
	Weighted average lease term - operating leases, in years					10.80			11.26
	Weighted average discount rate - operating leases					3.34		%	3.32		%
⁽¹⁾	Expenses are classified within occupancy expense on the Consolidated Statements of Income.

The table below reconciles the remaining undiscounted cash flows for the next five years for each twelve-month period presented (unless otherwise indicated) and the total of the subsequent remaining years to the operating lease liabilities recorded on the balance sheet:



(In Thousands)	Operating Leases
2020 (Six months)		$1,336
2021	2,581
2022	2,139
2023	1,850
2024	1,742
Thereafter	6,453
Total minimum lease payments		$16,101
Less: amount of lease payment representing interest	(2,980		)
Present value of future minimum lease payments		$13,121

9. Revenue

The Company's revenue is included in net interest income and other operating income on its Consolidated Statements of Income. Topic 606 in the Accounting Standards Codification ("Topic 606") includes principles for reporting information about the nature, amount, timing and uncertainty of revenue and cash flows arising from the entity's contracts to provide goods or services to customers. The core principle requires an entity to recognize revenue to depict the transfer of goods or services to customers in an amount that reflects the consideration that it expects to be entitled to receive in exchange for those goods or services recognized as performance obligations are satisfied.

The majority of our ongoing revenue-generating transactions are not subject to Topic 606, including revenue associated with financial instruments and revenue from loans and securities. In addition, certain noninterest income streams such as fees associated with MSRs, purchased receivable income, financial guarantees, and derivatives are also not in scope of the guidance. Topic 606 is applicable to noninterest revenue streams such as deposit related fees, interchange fees, merchant services income, and commissions from the sales of mutual funds and other investments. However, the recognition of these revenue streams did not change significantly upon adoption of Topic 606. Substantially all of the Company’s non-interest revenue is generated from contracts with customers. Noninterest revenue streams in-scope of Topic 606 are discussed below.

Bankcard fees

Bankcard fees are primarily comprised of debit card income and ATM fees. Debit card income is primarily comprised of interchange fees earned whenever the Company’s debit cards are processed through card payment networks such as Visa or MasterCard. ATM fees are primarily generated when a Company cardholder uses a non-Company ATM or a non-Company cardholder uses a Company ATM. The Company’s performance obligation for bankcard fees are largely satisfied, and related revenue recognized, when the services are rendered or upon completion. Payments are typically received immediately or in the following month.

Service charges on deposit accounts

Service charges on deposit accounts consist of general service fees for monthly account maintenance, activity- or transaction-based fees, and account analysis fees (i.e., net fees earned on analyzed business and public checking accounts), and other deposit account related fees and consist of transaction-based revenue, time-based revenue (service period), item-based revenue or some other individual attribute-based revenue. Revenue is recognized when our performance obligation is completed which is generally monthly for account maintenance services or when a transaction has been completed. Payments for service charges on deposit accounts are primarily received immediately or in the following month through a direct charge to customers’ accounts.

Other

Other operating income consists of other recurring revenue streams such as merchant services income, commissions from sales of mutual funds and other investments, safety deposit box rental fees, bank check and other check fees, unrealized gains and losses on marketable securities, and other miscellaneous revenue streams. Merchant services income mainly represents fees charged to merchants to process their debit and credit card transactions, in addition to account management fees. The Company’s performance obligation for merchant services income is largely satisfied, and related revenue recognized, when the transactions have been completed. Payment is typically received immediately or in the following month. The Company earns commissions from the sale of mutual funds as periodic service fees (i.e., trailers) from Elliott Cove Capital Management typically based on a percentage of net asset value. Trailer revenue is recorded over time, quarterly, as net asset value is determined. The Company also earns commission income from the sale of annuity products. The Company acts as an intermediary between the Company's customer and Elliott Cove Investment Advisors for these transactions, and commissions from annuity product sales are recorded when the Company’s performance obligation is satisfied, which is generally upon the issuance of the annuity policy. The Company does not earn trailer fees on annuity sales. Payment for commissions from sales of mutual funds and other investments and annuity sales is typically received in the following quarter. Other service charges include revenue from safety deposit box rental fees, processing wire transfers, bank check and other check fees, and other services. The Company’s performance obligations for these other revenue streams are largely satisfied, and related revenue recognized, when the services are rendered or upon completion. Payments are typically received immediately or in the following month.

The following presents other operating income, segregated by revenue streams in-scope and out-of-scope of Topic 606, for the three and six-month periods ended June 30, 2020 and 2019:



(In Thousands)			Three Months Ended June 30,				Six Months Ended June 30,
Other operating income			2020		2019		2020		2019
	In-scope of Topic 606:
		Bankcard fees		$681		$744		$1,324		$1,394
		Service charges on deposit accounts	171		413		533		826
		Other	421		451		735		816
	Other operating income (in-scope of Topic 606)			$1,273		$1,608		$2,592		$3,036
	Other operating income (out-of-scope of Topic 606)		16,262		7,961		21,376		14,066
Total other operating income				$17,535		$9,569		$23,968		$17,102

Gains on the sale of other real estate owned ("OREO") are also within the scope of Topic 606 and are recorded within other operating expense on the Company's Consolidated Statements of Income. Gains on the sale of OREO properties were $38,000 and $0 for the three months ended June 30, 2020 and 2019, respectively, and $75,000 and $316,000 for the six months ended June 30, 2020 and 2019, respectively .

10. Derivatives

Interest rates swaps related to community banking activities

The Company enters into commercial loan interest rate swap agreements with commercial banking customers which are offset with a corresponding swap agreement with a third party financial institution ("counterparty"). The Company has agreements with its counterparties that contain provisions that provide that if the Company fails to maintain its status as a "well-capitalized" institution, then the counterparty could terminate the derivative positions and the Company would be required to settle its obligations under the agreements. These agreements also require that the Company and the counterparty collateralize any fair value shortfalls that exceed $250,000 with eligible collateral, which includes cash and securities backed with the full faith and credit of the federal government. Similarly, the Company could be required to settle its obligations under the agreement if specific regulatory events occur, such as if the Company were issued a prompt corrective action directive or a cease and desist order, or if certain regulatory ratios fall below specified levels. The Company pledged $9.2 million as of June 30, 2020 and $4.7 million as of December 31, 2019 in available for sale securities to collateralize fair value shortfalls on interest rate swap agreements.

The Company had interest rate swaps related to commercial loans with an aggregate notional amount of $92.4 million and $94.4 million at June 30, 2020 and December 31, 2019, respectively. At June 30, 2020, the notional amount of interest rate swaps is made up of eight variable to fixed rate swaps to commercial loan customers totaling $46.2 million, and eight fixed to variable rate swaps with a counterparty totaling $46.2 million. Changes in fair value from these eight interest rate swaps offset each other in the first six months of 2020. The Company recognized $17,000 and $734,000 fee income related to interest rate swaps in the three and six-month periods ending June 30, 2020 and June 30, 2019, respectively. Interest rate swap income is recorded in other operating income on the Consolidated Statements of Income. None of these interest rate swaps are designated as hedging instruments.

The Company has an interest rate swap to hedge the variability in cash flows arising out of its junior subordinated debentures, which is floating rate debt, by swapping the cash flows with an interest rate swap which receives floating and pays fixed. The Company has designated this interest rate swap as a hedging instrument. The interest rate swap effectively fixes the Company's interest payments on the $10.0 million of junior subordinated debentures held under Northrim Statutory Trust 2 at 3.72% through its maturity date. The floating rate that the dealer pays is equal to the three month LIBOR plus 1.37% which reprices quarterly on the payment date. This rate was 1.68% as of June 30, 2020. The Company pledged $2.9 million and $1.3 million in cash to collateralize initial margin and fair value exposure of our counterparty on this interest rate swap as of June 30, 2020 and December 31, 2019, respectively. Changes in the fair value of this interest rate swap are reported in other comprehensive income. The unrealized loss on this interest rate swap was $2.4 million as of June 30, 2020 and the unrealized loss was $534,000 as of December 31, 2019.

Interest rates swaps related to home mortgage banking activities

The Company also uses derivatives to hedge the risk of changes in the fair values of interest rate lock commitments. The Company enters into commitments to originate residential mortgage loans at specific rates; the value of these commitments are detailed in the table below as "interest rate lock commitments". The Company also hedges the interest rate risk associated with its residential mortgage loan commitments, which are referred to as "retail interest rate contracts" in the table below. Market risk with respect to commitments to originate loans arises from changes in the value of contractual positions due to changes in interest rates. RML had commitments to originate mortgage loans held for sale totaling $206.3 million and $48.8 million at June 30, 2020 and December 31, 2019, respectively. Changes in the value of RML's interest rate derivatives are recorded in mortgage banking income on the Consolidated Statements of Income. None of these derivatives are designated as hedging instruments.

The following table presents the fair value of derivatives not designated as hedging instruments at June 30, 2020 and December 31, 2019:



(In Thousands)	Asset Derivatives
		June 30, 2020		December 31, 2019
	Balance Sheet Location	Fair Value		Fair Value

Interest rate swaps	Other assets		$8,411		$2,950
Interest rate lock commitments	Other assets	4,653		810
Total			$13,064		$3,760



(In Thousands)	Liability Derivatives
		June 30, 2020		December 31, 2019
	Balance Sheet Location	Fair Value		Fair Value

Interest rate swaps	Other liabilities		$8,411		$2,950
Retail interest rate contracts	Other liabilities	628		71
Total			$9,039		$3,021

The following table presents the net gains (losses) of derivatives not designated as hedging instruments for the three and six-month periods ending June 30, 2020 and 2019:



		Three Months Ended June 30,						Six Months Ended June 30,
(In Thousands)	Income Statement Location	2020			2019			2020			2019
Retail interest rate contracts	Mortgage banking income		($1,579	)		($524	)		($4,702	)		($692	)
Interest rate lock commitments	Mortgage banking income	1,447			781			3,591			1,005
Total			($132	)		$257			($1,111	)		$313

Our derivative transactions with counterparties under International Swaps and Derivative Association master agreements include "right of set-off" provisions. "Right of set-off" provisions are legally enforceable rights to offset recognized amounts and there may be an intention to settle such amounts on a net basis. We do not offset such financial instruments for financial reporting purposes.

The following table summarizes the derivatives that have a right of offset as of June 30, 2020 and December 31, 2019:



June 30, 2020					Gross amounts not offset in the Statement of Financial Position
(In Thousands)	Gross amounts of recognized assets and liabilities	Gross amounts offset in the Statement of Financial Position		Net amounts of assets and liabilities presented in the Statement of Financial Position	Financial Instruments		Collateral Posted		Net Amount
Asset Derivatives
Interest rate swaps	$8,411		$—	$8,411		$—		$—		$8,411

Liability Derivatives
Interest rate swaps	$8,411		$—	$8,411		$—	$8,411			$—
Retail interest rate contracts	628	—		628	—		—		628

December 31, 2019					Gross amounts not offset in the Statement of Financial Position
(In Thousands)	Gross amounts of recognized assets and liabilities	Gross amounts offset in the Statement of Financial Position		Net amounts of assets and liabilities presented in the Statement of Financial Position	Financial Instruments		Collateral Posted		Net Amount
Asset Derivatives
Interest rate swaps	$2,950		$—	$2,950		$—		$—		$2,950

Liability Derivatives
Interest rate swaps	$2,950		$—	$2,950		$—	$2,950			$—
Retail interest rate contracts	71	—		71	—		—		71

11. Fair Value Measurements

Assets and Liabilities Measured at Fair Value on a Recurring Basis

Investment securities available for sale and marketable equity securities: Fair values are based on quoted market prices, where available. If quoted market prices are not available, fair values are based on quoted market prices of comparable instruments.

Servicing rights: MSR and CSR are measured at fair value on a recurring basis. These assets are classified as Level 3 as quoted prices are not available. In order to determine the fair value of MSR and CSR, the present value of net expected future cash flows is estimated. Assumptions used include market discount rates, anticipated prepayment speeds, escrow calculations, delinquency rates, and ancillary fee income net of servicing costs. The model assumptions are also compared to publicly filed information from several large MSR holders, as available.

Derivative instruments: The fair value of the interest rate lock commitments are estimated using quoted or published market prices for similar instruments, adjusted for factors such as pull-through rate assumptions based on historical information, where appropriate. The pull-through rate assumptions are considered Level 3 valuation inputs and are significant to the interest rate lock commitment valuation; as such, the interest rate lock commitment derivatives are classified as Level 3. Interest rate contracts are valued in a model, which uses as its basis a discounted cash flow technique incorporating credit valuation adjustments to reflect nonperformance risk in the measurement of fair value. Although the Company has determined that the majority of inputs used to

value its interest rate derivatives fall within Level 2 of the fair value hierarchy, the credit valuation adjustments associated with its derivatives utilize Level 3 inputs, such as estimates of current credit spreads to evaluate the likelihood of default by itself and its counterparties. However, as of June 30, 2020, the Company has assessed the significance of the impact of these adjustments on the overall valuation of its interest rate positions and has determined that they are not significant to the overall valuation of its interest rate derivatives. As a result, the Company has classified its interest rate derivative valuations in Level 2 of the fair value hierarchy.

Commitments to extend credit and standby letters of credit: The fair value of commitments is estimated using the fees currently charged to enter into similar agreements, taking into account the remaining terms of the agreements and the present creditworthiness of the counterparties. For fixed-rate loan commitments, fair value also considers the difference between current levels of interest rates and the committed rates. The fair value of letters of credit is based on fees currently charged for similar agreements or on the estimated cost to terminate them or otherwise settle the obligation with the counterparties at the reporting date.

Assets Subject to Nonrecurring Adjustment to Fair Value:

The Company is also required to measure certain assets such as equity method investments, goodwill, intangible assets, impaired loans, and OREO at fair value on a nonrecurring basis in accordance with GAAP. Any nonrecurring adjustments to fair value usually result from the writedown of individual assets.

The Company uses either in-house evaluations or external appraisals to estimate the fair value of OREO and impaired loans as of each reporting date. In-house appraisals are considered Level 3 inputs and external appraisals are considered Level 2 inputs. The Company’s determination of which method to use is based upon several factors. The Company takes into account compliance with legal and regulatory guidelines, the amount of the loan, the size of the assets, the location and type of property to be valued and how critical the timing of completion of the analysis is to the assessment of value. Those factors are balanced with the level of internal expertise, internal experience and market information available, versus external expertise available such as qualified appraisers, brokers, auctioneers and equipment specialists.

The Company uses external sources to estimate fair value for projects that are not fully constructed as of the date of valuation. These projects are generally valued as if complete, with an appropriate allowance for cost of completion, including contingencies developed from external sources such as vendors, engineers and contractors. The Company believes that recording OREO that is not fully constructed based on as if complete values is more appropriate than recording OREO that is not fully constructed using as is values. We concluded that as-is-complete values are appropriate for these types of projects based on the accounting guidance for capitalization of project costs and subsequent measurement of the value of real estate. GAAP specifically states that estimates and cost allocations must be reviewed at the end of each reporting period and reallocated based on revised estimates. The Company adjusts the carrying value of OREO in accordance with this guidance for increases in estimated cost to complete that exceed the fair value of the real estate at the end of each reporting period.

Limitations

Fair value estimates are made at a specific point in time, based on relevant market information and information about the financial instrument. These estimates do not reflect any premium or discount that could result from offering for sale at one time the Company’s entire holdings of a particular financial instrument. Because no market exists for a significant portion of the Company’s financial instruments, fair value estimates are based on judgments regarding future expected loss experience, current economic conditions, risk characteristics of various financial instruments, and other factors. These estimates are subjective in nature and involve uncertainties and matters of significant judgment and therefore cannot be determined with precision. Changes in assumptions could significantly affect the estimates.

Estimated fair values as of the periods indicated are as follows:



	June 30, 2020				December 31, 2019
(In Thousands)	Carrying Amount		Fair Value		Carrying Amount		Fair Value
Financial assets:
Level 1 inputs:
Cash, due from banks and deposits in other banks		$89,412		$89,412		$95,424		$95,424
Investment securities available for sale	79,875		79,875		75,456		75,456
Marketable equity securities	7,758		7,758		7,945		7,945

Level 2 inputs:
Investment securities available for sale	122,472		122,472		200,682		200,682
Investment in Federal Home Loan Bank stock	2,428		2,428		2,138		2,138
Accrued interest receivable	8,389		8,389		4,512		4,512
Interest rate swaps	8,411		8,411		2,950		2,950

Level 3 inputs:
Loans and loans held for sale	1,567,177		1,551,085		1,111,205		1,095,031
Purchased receivables, net	11,549		11,549		24,373		24,373
Interest rate lock commitments	4,653		4,653		810		810
Mortgage servicing rights	10,721		10,721		11,920		11,920
Commercial servicing rights	1,162		1,162		1,214		1,214

Financial liabilities:
Level 2 inputs:
Deposits		$1,737,359		$1,740,146		$1,372,351		$1,373,647
Borrowings	11,754		12,872		8,891		9,216
Accrued interest payable	107		107		23		23
Interest rate swaps	10,812		10,812		3,484		3,484
Retail interest rate contracts	628		628		71		71

Level 3 inputs:
Junior subordinated debentures	10,310		10,711		10,310		11,000

The following table sets forth the balances as of the periods indicated of assets and liabilities measured at fair value on a recurring basis:



(In Thousands)	Total		Quoted Prices in Active Markets for Identical Assets (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)
June 30, 2020
Assets:
Available for sale securities
U.S. Treasury and government sponsored entities		$140,003		$47,832		$92,171		$—
Municipal securities	2,327		—		2,327		—
Corporate bonds	32,043		32,043		—		—
Collateralized loan obligations	27,974		—		27,974		—
Total available for sale securities		$202,347		$79,875		$122,472		$—
Marketable equity securities		$7,758		$7,758		$—		$—
Total marketable equity securities		$7,758		$7,758		$—		$—
Interest rate swaps		$8,411		$—		$8,411		$—
Interest rate lock commitments	4,653		—		—		4,653
Mortgage servicing rights	10,721		—		—		10,721
Commercial servicing rights	1,162		—		—		1,162
Total other assets		$24,947		$—		$8,411		$16,536
Liabilities:
Interest rate swaps		$10,812		$—		$10,812		$—
Retail interest rate contracts	628		—		628		—
Total other liabilities		$11,440		$—		$11,440		$—
December 31, 2019
Assets:
Available for sale securities
U.S. Treasury and government sponsored entities		$211,852		$57,480		$154,372		$—
Municipal securities	3,297		—		3,297		—
Corporate bonds	35,066		17,976		17,090		—
Collateralized loan obligations	25,923		—		25,923		—
Total available for sale securities		$276,138		$75,456		$200,682		$—
Marketable equity securities		$7,945		$7,945		$—		$—
Total marketable securities		$7,945		$7,945		$—		$—
Interest rate swaps		$2,950		$—		$2,950		$—
Interest rate lock commitments	810		—		—		810
Mortgage servicing rights	11,920		—		—		11,920
Commercial servicing rights	1,214		—		—		1,214
Total other assets		$16,894		$—		$2,950		$13,944
Liabilities:
Interest rate swaps		$3,484		$—		$3,484		$—
Retail interest rate contracts	71		—		71		—
Total other liabilities		$3,555		$—		$3,555		$—

The following table provides a reconciliation of the assets and liabilities measured at fair value using significant unobservable inputs (Level 3) on a recurring basis during the six-month periods ended June 30, 2020 and 2019:



(In Thousands)	Beginning balance		Change included in earnings			Purchases and issuances		Sales and settlements			Ending balance		Net change in unrealized gains (losses) relating to items held at end of period
Three Months Ended June 30, 2020
Interest rate lock commitments		$3,188		($2,242	)		$17,605		($13,898	)		$4,653		$4,653
Mortgage servicing rights	11,653		(1,928		)	996		—			10,721		—
Commercial servicing rights	1,200		(58		)	20		—			1,162		—
Total		$16,041		($4,228	)		$18,621		($13,898	)		$16,536		$4,653
Three Months Ended June 30, 2019
Interest rate lock commitments		$1,237		($549	)		$5,094		($3,710	)		$2,072		$2,072
Mortgage servicing rights	11,254		(950		)	532		—			10,836		—
Commercial servicing rights	1,047		(75		)	27		—			999		—
Total		$13,538		($1,574	)		$5,653		($3,710	)		$13,907		$2,072



(In Thousands)	Beginning balance		Change included in earnings			Purchases and issuances		Sales and settlements			Ending balance		Net change in unrealized gains (losses) relating to items held at end of period
Six Months Ended June 30, 2020
Interest rate lock commitments		$810		($3,139	)		$25,112		($18,130	)		$4,653		$4,653
Mortgage servicing rights	11,920		(2,858		)	1,659		—			10,721		—
Commercial servicing rights	1,214		(79		)	27		—			1,162		—
Total		$13,944		($6,076	)		$26,798		($18,130	)		$16,536		$4,653
Six Months Ended June 30, 2019
Interest rate lock commitments		$978		($878	)		$8,190		($6,218	)		$2,072		$2,072
Mortgage servicing rights	10,821		(1,624		)	1,639		—			10,836		—
Commercial servicing rights	1,030		(98		)	67		—			999		—
Total		$12,829		($2,600	)		$9,896		($6,218	)		$13,907		$2,072

There were no changes in unrealized gains and losses for the three and six-month periods ending June 30, 2020 and 2019 included in other comprehensive income for recurring Level 3 fair value measurements.

As of and for the periods ending June 30, 2020 and December 31, 2019, except for certain assets as shown in the following table, no impairment or valuation adjustment was recognized for assets recognized at fair value on a nonrecurring basis. For loans measured for impairment, the Company classifies fair value measurements using observable inputs, such as external appraisals, as Level 2 valuations in the fair value hierarchy, and unobservable inputs, such as in-house evaluations, as Level 3 valuations in the fair value hierarchy.



(In Thousands)	Total		Quoted Prices in Active Markets for Identical Assets (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)
June 30, 2020
Loans measured for impairment		$250		$—		$—		$250
Total		$250		$—		$—		$250
December 31, 2019
Loans measured for impairment		$561		$—		$—		$561
Total		$561		$—		$—		$561

The following table presents the gains and (losses) resulting from nonrecurring fair value adjustments for the three and six-month periods ended June 30, 2020 and 2019:



	Three Months Ended June 30,						Six Months Ended June 30,
(In Thousands)	2020			2019			2020		2019
Loans measured for impairment		($651	)		($299	)		$14		($7	)
Total loss from nonrecurring measurements		($651	)		($299	)		$14		($7	)

Assets and Liabilities Measured at Fair Value Using Significant Unobservable Inputs (Level 3)

The following table provides a description of the valuation technique, unobservable input, and qualitative information about the unobservable inputs for the Company’s assets and liabilities classified as Level 3 and measured at fair value on a recurring and nonrecurring basis at June 30, 2020 and December 31, 2019:



Financial Instrument	Valuation Technique	Unobservable Input	Weighted Average Rate Range
June 30, 2020
Loans measured for impairment	In-house valuation of collateral	Discount rate	50	%
Interest rate lock commitment	External pricing model	Pull through rate	90.55	%
Mortgage servicing rights	Discounted cash flow	Constant prepayment rate	8.10% - 14.56%
		Discount rate	7.75	%
Commercial servicing rights	Discounted cash flow	Constant prepayment rate	7.64% - 15.67%
		Discount rate	11.70	%
December 31, 2019
Loans measured for impairment	In-house valuation of collateral	Discount rate	25	%
Interest rate lock commitment	External pricing model	Pull through rate	92.65	%
Mortgage servicing rights	Discounted cash flow	Constant prepayment rate	9.11% - 10.67%
		Discount rate	8.51% - 8.66%
Commercial servicing rights	Discounted cash flow	Constant prepayment rate	7.64% - 15.67%
		Discount rate	11.70	%

12. Segment Information

The Company's operations are managed along two operating segments: Community Banking and Home Mortgage Lending. The Community Banking segment's principal business focus is the offering of loan and deposit products to business and consumer customers in its primary market areas. As of June 30, 2020, the Community Banking segment operated 16 branches throughout Alaska. The Home Mortgage Lending segment's principal business focus is the origination and sale of mortgage loans for 1-4 family residential properties.

Summarized financial information for the Company's reportable segments and the reconciliation to the consolidated financial results is shown in the following tables:



	Three Months Ended June 30, 2020
(In Thousands)	Community Banking			Home Mortgage Lending		Consolidated

Interest income		$18,117			$887		$19,004
Interest expense	1,468			79		1,547
Net interest income	16,649			808		17,457
Provision for loan losses	404			—		404
Other operating income	2,308			15,227		17,535
Other operating expense	14,113			8,561		22,674
Income before provision for income taxes	4,440			7,474		11,914
Provision (benefit) for income taxes	(124		)	2,138		2,014
Net income		$4,564			$5,336		$9,900



	Three Months Ended June 30, 2019
(In Thousands)	Community Banking		Home Mortgage Lending		Consolidated

Interest income		$16,758		$548		$17,306
Interest expense	1,125		224		1,349
Net interest income	15,633		324		15,957
Provision for loan losses	300		—		300
Other operating income	3,619		5,950		9,569
Other operating expense	14,111		5,708		19,819
Income before provision for income taxes	4,841		566		5,407
Provision for income taxes	984		162		1,146
Net income		$3,857		$404		$4,261



	Six Months Ended June 30, 2020
(In Thousands)	Community Banking		Home Mortgage Lending		Consolidated

Interest income		$34,997		$1,346		$36,343
Interest expense	3,087		109		3,196
Net interest income	31,910		1,237		33,147
Provision for loan losses	2,464		—		2,464
Other operating income	4,076		19,892		23,968
Other operating expense	27,725		13,736		41,461
Income before provision for income taxes	5,797		7,393		13,190
Provision for income taxes	142		2,115		2,257
Net income		$5,655		$5,278		$10,933



	Six Months Ended June 30, 2019
(In Thousands)	Community Banking		Home Mortgage Lending		Consolidated

Interest income		$33,269		$915		$34,184
Interest expense	2,148		310		2,458
Net interest income	31,121		605		31,726
Benefit for loan losses	1,050		—		1,050
Other operating income	6,854		10,248		17,102
Other operating expense	26,629		10,270		36,899
Income before provision for income taxes	10,296		583		10,879
Provision for income taxes	2,139		167		2,306
Net income		$8,157		$416		$8,573



June 30, 2020
(In Thousands)	Community Banking		Home Mortgage Lending		Consolidated

Total assets		$1,843,345		$173,360		$2,016,705
Loans held for sale		$—		$133,975		$133,975



December 31, 2019
(In Thousands)	Community Banking		Home Mortgage Lending		Consolidated

Total assets		$1,540,869		$103,127		$1,643,996
Loans held for sale		$—		$67,834		$67,834

ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

This discussion should be read in conjunction with the unaudited consolidated financial statements of Northrim BanCorp, Inc. (the “Company”) and the notes thereto presented elsewhere in this report and with the Company’s Annual Report on Form 10-K for the year ended December 31, 2019.

Except as otherwise noted, references to "we", "our", "us" or "the Company" refer to Northrim BanCorp, Inc. and its subsidiaries that are consolidated for financial reporting purposes.

Note Regarding Forward Looking-Statements

This quarterly report on Form 10-Q includes “forward-looking statements,” as that term is defined for purposes of Section 21E of the Securities Exchange Act of 1934, as amended, which are not historical facts. These forward-looking statements describe management’s expectations about future events and developments such as future operating results, growth in loans and deposits, continued success of the Company’s style of banking, the strength of the local economy, and statements related to the expected or potential impact of the novel coronavirus ("COVID-19") pandemic and related responses of the government. All statements other than statements of historical fact, including statements regarding industry prospects, future results of operations or financial position and the expected or potential impact of COVID-19 and related responses of the government, made in this report are forward-looking. We use words such as “anticipate,” “believe,” “expect,” “intend” and similar expressions in part to help identify forward-looking statements. Forward-looking statements reflect management’s current plans and expectations and are inherently uncertain. Our actual results may differ significantly from management’s expectations, and those variations may be both material and adverse. Forward-looking statements, whether concerning COVID-19 and the government response related thereto or otherwise, are subject to various risks and uncertainties that may cause our actual results to differ materially and adversely from our expectations as indicated in the forward-looking statements. These risks and uncertainties include: the uncertainties relating to the impact of COVID-19 on the Company's credit quality, business, operations and employees; the availability and terms of funding from government sources related to COVID-19; the general condition of, and changes in, the Alaska economy; our ability to maintain or expand our market share or net interest margin; our ability to maintain asset quality; our ability to implement our marketing and growth strategies; and our ability to execute our business plan. Further, actual results may be affected by competition on price and other factors with other financial institutions; customer acceptance of new products and services; the regulatory environment in which we operate; and general trends in the local, regional and national banking industry and economy. Many of these risks, as well as other risks that may have a material adverse impact on our operations and business, are identified in Part II. Item 1A Risk Factors of this report and Item 1A in the Company's Annual Report on Form 10-K for the year ended December 31, 2019, as well as in our other filings with the Securities and Exchange Commission. However, you should be aware that these factors are not an exhaustive list, and you should not assume these are the only factors that may cause our actual results to differ from our expectations. In addition, you should note that forward looking statements are made only as of the date of this report and that we do not intend to update any of the forward-looking statements or the uncertainties that may adversely impact those statements, other than as required by law.

Critical Accounting Policies

The preparation of the consolidated financial statements requires us to make a number of estimates and assumptions that affect the reported amounts and disclosures in the consolidated financial statements. On an ongoing basis, we evaluate our estimates and assumptions based upon historical experience and various other factors and circumstances. We believe that our estimates and assumptions are reasonable; however, actual results may differ significantly from these estimates and assumptions which could have a material impact on the carrying value of assets and liabilities at the balance sheet dates and on our results of operations for the reporting periods.

The accounting policies that involve significant estimates and assumptions by management, which have a material impact on the carrying value of certain assets and liabilities, are considered critical accounting policies. The Company’s critical accounting policies include those that address the accounting for the allowance for loan losses ("Allowance"), valuation of goodwill and other intangible assets, the valuation of other real estate owned ("OREO"), and the valuation of mortgage servicing rights. These critical accounting policies are further described in Item 7, Management’s Discussion and Analysis, and in Note 1, Summary of Significant Accounting Policies, of the Notes to Consolidated Financial Statements in the Company’s Annual Report on Form 10-K for the year ended December 31, 2019. Management has applied its critical accounting policies and estimation methods consistently in all periods presented in these consolidated financial statements.

Impact of accounting pronouncements to be implemented in future periods

We are in the process of developing, validating, and implementing models used to estimate credit losses under CECL. We have completed substantially all of our loss forecasting models, and we expect to complete the validation process for our loan models during 2020. Our current planned approach for estimating expected life-time credit losses for loans includes the following key components:


•	An initial loss forecast period of one year for all loan portfolio segments and classes of financing receivables and offbalance- sheet credit exposures. This period reflects management’s expectation of losses based on forward-looking economic scenarios over that time.


•	A historical loss forecast period covering the remaining contractual life, adjusted for prepayments, by segment and class of financing receivables based on the change in key historical economic variables during representative historical expansionary and recessionary periods.


•	A reversion period of up to two years connecting the initial loss forecast to the historical loss forecast based on economic conditions at the measurement date.


•	Utilization of discounted cash flow ("DCF") methods to measure credit impairment for loans modified in a troubled debt restructuring, unless they are collateral dependent and measured at the fair value of collateral. The DCF methods would obtain estimated life-time credit losses using the conceptual components described above.

As a Smaller Reporting Company, the Company is not required to adopt CECL before January 1, 2023, and we have elected not to early adopt as of January 1, 2020. However, we have the option to early adopt CECL as of either January 1, 2021, or January 1, 2022. Based on our loan portfolio composition at June 30, 2020, and the Company's current economic forecast, had we elected to early adopt CECL as of June 30, 2020, we estimate the impact of adoption to be an overall decrease in our allowance for credit losses ("ACL") for loans between $5.0 million and $6.0 million. The reduction reflects an expected decrease for all loan segments given their short contractual maturities. The Company does not hold a material amount of residential mortgage loans with long or indeterminate maturities as of June 30, 2020. In most instances the Company believes that the ACL for these types of loans would lead to an increase in the ACL. We will continue to evaluate and refine the results of our loss estimates until adoption of ASU 2016-13.

The ultimate effect of CECL on our ACL will depend on the size and composition of our loan portfolio, the loan portfolio’s credit quality and economic conditions at the time of adoption, as well as any refinements to our models, methodology and other key assumptions. At adoption, we will have a cumulative-effect adjustment to retained earnings for our change in the ACL. We currently estimate an overall decrease in our ACL, which will result in an increase to our retained earnings and regulatory capital amounts and ratios.

Update on Economic Conditions

The COVID-19 pandemic has disrupted economies all around the world. In Alaska, the tourism and hospitality industries have been most affected with job losses. Oil prices dropped precipitously at the beginning of the pandemic, but have rebounded recently to healthier levels. The government’s fiscal and monetary response has been far reaching. This has greatly eased the short run impacts of the virus for most of the Company’s customers.

The State of Alaska Department of Labor reported that a year and a half of positive job growth came to an abrupt end in April of 2020. The seasonally adjusted unemployment rate jumped from 5.6% in March to 13.5% in April. This moderated slightly to 12.6% in May. The comparable U.S. rate peaked at 14.7% in April and decreased to 13.3% in May, according to the State of Alaska Department of Labor. In Alaska, every major job sector reported declines year-over-year (“YoY”) in May 2020 according to the State of Alaska Department of Labor. Leisure and Hospitality was the most severely impacted, declining 39.7% for a loss of 15,300 jobs in Alaska in May 2020. Also in Alaska, government declined by 7,400 jobs or 9.1%, primarily due to a loss of 6,200 local government jobs. State government declined by 1,000 jobs and Federal government by only 200 jobs. Other major sectors to decline in Alaska YoY in May of 2020 were: Health Care -2,900; Transportation, Warehousing and Utilities -2,700; Retail Trade -2,600; and Construction -2,400.

Oil prices have been fluctuating significantly in 2020 as the global economy reacts to the COVID-19 pandemic. Average monthly Alaska North Slope (“ANS”) crude oil prices began the year averaging $65.48 for the month of January. The virus concerns began to have an effect when monthly ANS prices declined to $54.48 in February and $33.21 in March. In the second quarter of 2020, ANS prices hit a monthly low of $16.54 in April and increased to $28.21 in May. The ANS price improved throughout June and averaged $41.78.

Trillions of dollars in federal assistance programs have helped mitigate some of the negative impacts of the COVID-19 pandemic in the short run. The Fed Funds rate was decreased 1.5% in March. This helped reduce borrowers’ interest expense dramatically. The Federal Reserve is buying corporate bonds, lending to state and municipal governments, and even aiding foreign central banks of our allies to help stabilize global markets. The Fed is adding liquidity to the system to ensure credit markets don’t freeze up.

The U.S. Small Business Administration ("SBA") Paycheck Protection Program ("PPP") and the Economic Injury Disaster loan program have provided hundreds of billions of dollars to businesses around the country. The Federal Reserve’s Main Street Lending Program is also now available to help businesses weather current economic disruptions. Direct grants to states from the CARES Act provided approximately $1.25 billion to Alaska. An increase of $600 in weekly unemployment insurance benefits helped millions of people out of work maintain cash flow. A moratorium on housing foreclosures, coupled with widespread payment forbearance arrangements, has kept Americans in their homes.

Alaska’s seasonally adjusted gross state product ("GSP") was $54 billion in the first quarter of 2020, according to the U.S. Bureau of Economic Analysis ("BEA") in a report released on July 7, 2020. Alaska’s real GSP decreased 4% annualized for the quarter. The BEA reported real GSP decreased in all 50 states in the first quarter of 2020 and averaged a decline of 5% for the nation. Alaska’s performance was above average, placing it 13th best of the 50 U.S. states for the quarter. This is following positive growth in Alaska in 2019 of 2.5%, compared to U.S. growth of 2.3% last year. The largest sectors of decline in GSP in Alaska in the first quarter of 2020 were Health Care, Accommodation and food services, and Government.

Alaska’s personal income grew 3.7% in 2019 according to a report by the Federal Bureau of Economic Analysis. Total income from all sources in Alaska grew from $44.4 billion at the end of 2018 to $46.1 billion in the first quarter of 2020. Most of the increase came from over $1 billion in improvement of wages in 2019. The first quarter of 2020 was an annualized growth rate of 1.3% in Alaska.

Alaska’s delinquency and foreclosure levels continue to be better than most of the nation. According to the Mortgage Bankers Association, Alaska’s foreclosure rate was 0.60% at the end of the first quarter 2020. That compares to 0.63% at the end of 2019. The comparable national average rate was 0.73% in the first quarter of 2020 and 0.78% at the end of 2019.

The national survey reported that the percentage of delinquent mortgage loans in Alaska was 3.23% in the first quarter of 2020. This compares to 2.85% at the end of 2019. The delinquency rate for the entire country was higher at 4% in the first quarter of 2020 and 4.07% at the end of 2019.

COVID-19 Issues:

•

Industry Exposure: Northrim has identified various industries that may be adversely impacted by the COVID-19 pandemic and the significant decline in oil prices. Though the industries affected may change through the progression of the pandemic, the following sectors for which the Company has exposure, as a percent of the total loan portfolio as of June 30, 2020 are being impacted: Tourism (4%), Oil and Gas (5%), Aviation (non-tourism) (4%), Healthcare (4%), Accommodations (2%), Retail (2%) and Restaurants (2%). The Company's exposure as a percent of the total loan portfolio excluding SBA PPP loans as of June 30, 2020 are: Tourism (6%), Oil and Gas (6%), Aviation (non-tourism) (5%), Healthcare (5%), Accommodations (3%), Retail (2%) and Restaurants (2%).

•

Customer Accommodations: The Company has proactively implemented several forms of assistance to help our customers in the event that they experience financial hardship as a result of COVID-19 in addition to our participation in PPP lending. These accommodations include interest only and deferral options on loan payments, as well as the waiver of various fees related to loans, deposits and other services. The PPP administered by the SBA under the CARES Act has provided some relief on requests to modify loans. As of June 30, 2020, the Company has made the following loan modifications due to the impacts of COVID-19:



Loan Modifications due to COVID-19
(Dollars in thousands)	Interest Only		Full Payment Deferral		Total
Portfolio loans		$64,298		$293,224		$357,522
Number of modifications	76		403		479

Consumer loans represent 1% of total loan modifications identified above.

•

Loan Loss Reserve: The Company booked a loan loss provision of $404,000 for the quarter ended June 30, 2020. This compares to a $300,000 provision for loan losses in the second quarter a year ago. The increased provision is the result of growth in the loan portfolio and an increase in qualitative factors based on management's assessment of increased risks in our loan portfolio primarily associated with the COVID-19 pandemic and the reduction in oil prices compared to the prior year.


•	Credit Quality: Net adversely classified loans improved to $15.7 million at June 30, 2020, as compared to $22.3 million at December 31, 2019. Net loan chargeoffs were $768,000 in the second quarter of 2020, compared to net loan recoveries of $9,000 in the second quarter of 2019.


•	Branch Operations: All but one branch remained open throughout the second quarter. Branch lobbies were available by appointment from March 23 to June 17. All but one branch was fully reopened on June 17 with a number of customers and employee safety measures implemented.


•	Growth and Paycheck Protection Program:


•	The Company’s asset base increased during the quarter ended June 30, 2020, due primarily to loans originated under the SBA's PPP.


•	Through June 30, 2020,the Company had funded approximately 2,500 PPP loans totaling $353.5 million to both existing and new customers. The deadline for PPP loan applications to the SBA has been extended to August 8, 2020. The Company is continuing to accept new PPP applications based on this extended deadline and is assisting small businesses with other borrowing options a they become available.


•	According to the SBA, the Company originated more SBA PPP loans in the State of Alaska than any other financial institution, funding 23% of the number and 28% of the value of all Alaska PPP loans for the period ending June 30, 2020.


•	The Company initially utilized the Federal Reserve Bank's Paycheck Protection Program Liquidity Facility ("PPPLF") to fund PPP loans but has since repaid those funds in full and has funded the SBA PPP loans through core deposits and maturity of long-term investments.


•	Capital Management: At June 30, 2020, the Company’s and the Bank’s capital ratios were well in excess of all regulatory requirements. As previously announced, the Company suspended its previously announced stock repurchasing activity effective March 26, 2020.

Highlights and Summary of Performance - Second Quarter of 2020

The Company reported net income and diluted earnings per share of $9.9 million and $1.52, respectively, for the second quarter of 2020 compared to net income and diluted earnings per share of $4.3 million and $0.62, respectively, for the second quarter of 2019. The Company reported net income and diluted earnings per share of $10.9 million and $1.68, respectively, for the first six months of 2020 compared to net income and diluted earnings per share of $8.6 million and $1.24, respectively, for the same period in 2019. The increase in net income in the second quarter of 2020 compared to the same quarter last year is primarily due to an increase in mortgage banking income.


•	Total revenue in the second quarter of 2020, which includes net interest income plus other operating income, increased 37% to $35.0 million from $25.5 million in the second quarter a year ago, primarily due to a $9.3 million increase in mortgage banking income.


•	Net interest income increased 9% to $17.5 million in the second quarter of 2020 compared to the same period in 2019 mainly due to increased loans and loans held for sale balances.


•	Net interest margin decreased to 3.98% in the second quarter of 2020 as compared to 4.71% in the second quarter a year ago primarily due to lower interest rates.


•	The Company paid cash dividends of $0.34 per common share in the second quarter of 2020, up 13% from $0.30 in the second quarter of 2019.

Other financial measures are shown in the table below:



	Three Months Ended June 30,				Six Months Ended June 30,
	2020		2019		2020		2019
Return on average assets	2.04	%	1.12	%	1.23	%	1.15	%
Return on average shareholders' equity	19.44	%	8.13	%	10.65	%	8.24	%
Dividend payout ratio	22.11	%	48.35	%	40.35	%	48.38	%

Credit Quality

Nonperforming assets: Nonperforming assets, net of government guarantees at June 30, 2020 increased $855,000, or 4% to $20.8 million as compared to $19.9 million at December 31, 2019. OREO, net of government guarantees, increased $162,000 to $5.9 million at June 30, 2020 as compared to $5.8 million at December 31, 2019 due to the transfer of one loan to OREO during the period. Nonperforming loans, net of government guarantees decreased $1.2 million during the first six months of 2020 as compared to December 31, 2019, as paydowns and chargeoffs exceeded additions in the first six months of 2020. $10.4 million, or 50% of nonperforming assets are nonaccrual loans and nonperforming purchased receivables related to five commercial relationships. Two of these relationships, which totaled $5.8 million at the end of the second quarter of 2020, are businesses in the medical industry. While it is too early to determine the effect that the COVID-19 pandemic will ultimately have on our non-performing assets, based on the current trajectory, significant increases may occur in subsequent quarters.

The following table summarizes nonperforming activity for the three-month periods ending June 30, 2020 and 2019:



										Writedowns						Transfers to
(In Thousands)	Balance at March 31, 2020			Additions this quarter			Payments this quarter			/Charge-offs this quarter			Transfers to OREO			Performing Status this quarter		Sales this quarter		Balance at June 30, 2020
Commercial loans		$9,340			$1,055			($534	)		($804	)		($695	)		$—		$—		$8,362
Commercial real estate	4,635			508			(20		)	—			—			—		—		5,123
Construction loans	915			—			(213		)	—			—			—		—		702
Consumer loans	184			—			(6		)	—			—			—		—		178
Nonperforming loans guaranteed by government	(1,671		)	(54		)	90			—			—			—		—		(1,635		)
Total nonperforming loans	13,403			1,509			(683		)	(804		)	(695		)	—		—		12,730
Other real estate owned	7,205			—			—			—			—			—		—		7,205
Repossessed assets	231			695			(7		)	—			—			—		—		919
Nonperforming purchased receivables	—			1,226			—			—			—			—		—		1,226
Other real estate owned guaranteed
by government	(1,279		)	—			—			—			—			—		—		(1,279		)
Total nonperforming assets,
net of government guarantees		$19,560			$3,430			($690	)		($804	)		($695	)		$—		$—		$20,801



										Writedowns					Transfers to
(In Thousands)	Balance at March 31, 2019			Additions this quarter			Payments this quarter			/Charge-offs this quarter			Transfers to OREO		Performing Status this quarter		Sales this quarter			Balance at June 30, 2019
Commercial loans		$12,457			$405			($1,591	)		($64	)		$—		$—		$—			$11,207
Commercial real estate	4,230			1,087			(276		)	—			—		—		—			5,041
Construction loans	2,423			—			(931		)	—			—		—		—			1,492
Consumer loans	406			97			(159		)	(4		)	—		—		—			340
Nonperforming loans guaranteed by government	(1,038		)	(101		)	—			—			—		—		—			(1,139		)
Total nonperforming loans	18,478			1,488			(2,957		)	(68		)	—		—		—			16,941
Other real estate owned	7,043			—			—			—			—		—		—			7,043
Repossessed assets	1,242			—			—			—			—		—		(60		)	1,182
Other real estate owned guaranteed
by government	(1,279		)	—			—			—			—		—		—			(1,279		)
Total nonperforming assets,
net of government guarantees		$25,484			$1,488			($2,957	)		($68	)		$—		$—		($60	)		$23,887

Potential problem loans: Potential problem loans are loans which are currently performing in accordance with contractual terms but that have developed negative indications that the borrower may not be able to comply with present payment terms and which may later be included in nonaccrual, past due, or impaired loans. These loans are closely monitored and their performance is reviewed by management on a regular basis. At June 30, 2020, management had identified potential problem loans of $3.6 million as compared to potential problem loans of $9.0 million at December 31, 2019. The decrease in potential problem loans from December 31, 2019 to June 30, 2020 is primarily the result of $3.1 million in paydowns and the addition of a government guarantee on one loan totaling $1.4 million. One commercial relationship totaling $423,000 as of December 31, 2019, net of government guarantees, was transferred to nonaccrual status, and there was one new potential problem loan during the first six months of 2020 totaling $281,000.

Troubled debt restructurings (“TDRs”): TDRs are those loans for which concessions, including the reduction of interest rates below a rate otherwise available to that borrower, have been granted due to the borrower’s weakened financial condition. Interest on TDRs will be accrued at the restructured rates when it is anticipated that no loss of original principal will occur, and the interest can be collected, which is generally after a period of six months. The Company had $2.9 million in loans classified as TDRs that were performing and $7.7 million in TDRs included in nonaccrual loans at June 30, 2020 for a total of approximately

$10.6 million. There are $1.9 million in government guarantees associated with TDRs, so total TDRs, net of government guarantees, total $8.7 million at June 30, 2020. At December 31, 2019 there were $1.4 million in loans classified as TDRs that were performing and $8.7 million in TDRs included in nonaccrual loans for a total of $10.1 million. See Note 4 of the Notes to Consolidated Financial Statements included in Item 1 of this report for further discussion of TDRs.

RESULTS OF OPERATIONS

Income Statement

Net Income

Net income for the second quarter of 2020 increased $5.6 million, or 132%, to $9.9 million as compared to $4.3 million for the same period in 2019. Net income for the first half of 2020 increased $2.4 million, or 28%, to $10.9 million compared to $8.6 million for the first half of 2019. The increase in net income in both periods is primarily due to an increase in mortgage banking income.

Net Interest Income/Net Interest Margin

Net interest income for the second quarter of 2020 increased $1.5 million, or 9%, to $17.5 million as compared to $16.0 million for the second quarter of 2019. Net interest margin decreased 73 basis points to 3.98% in the second quarter of 2020 as compared to 4.71% in the second quarter of 2019. Net interest income for the first half of 2020 increased $1.4 million, or 4%, to $33.1 million as compared to $31.7 million for the first half of 2019. Net interest margin decreased 63 basis points to 4.14% in the first half of 2020 as compared to 4.77% in the first half of 2019. The increase in net interest income in the second quarter and first six months of 2020 compared to the same periods of 2019 was primarily the result of higher interest income on loans and loans held for sale due to increased balances. The decrease in net interest margin in the second quarter and the first half of 2020 as compared to the same periods a year ago was primarily the result of the reduction in short-term interest rates in the first quarter of 2020 and the impact of the SBA PPP loans on the resulting yields in the loan portfolio. Changes in net interest margin in the three and six months ended June 30, 2020 as compared to the same period in the prior year are detailed below:



	Three Months Ended June 30, 2020 vs. June 30, 2019
Nonaccrual interest adjustments	0.03	%
Impact of SBA Paycheck Protection Program loans	(0.15	)%
Interest rates and loan fees	(0.55	)%
Volume and mix of interest-earning assets	(0.06	)%
Change in net interest margin	(0.73	)%



	Six Months Ended June 30, 2020 vs. June 30, 2019
Nonaccrual interest adjustments	0.03	%
Impact of SBA Paycheck Protection Program loans	(0.09	)%
Interest rates and loan fees	(0.51	)%
Volume and mix of interest-earning assets	(0.06	)%
Change in net interest margin	(0.63	)%

Components of Net Interest Margin

The following table compares average balances and rates as well as net tax equivalent margins on earning assets for the three-month periods ended June 30, 2020 and 2019:



(Dollars in Thousands)	Three Months Ended June 30,
												Interest income/
	Average Balances						Change					expense				Change					Average Yields/Costs
	2020			2019			$			%		2020		2019		$			%		2020		2019		Change
Loans^1,2		$1,342,717			$1,003,019			$339,698		34	%		$16,584		$14,825		$1,759		12	%	4.97	%	5.94	%	(0.97	)%
Loans held for sale	111,475			51,280			60,195			117	%	870		528		342			65	%	3.14	%	4.14	%	(1.00	)%

Short-term investments³	51,448			22,850			28,598			125	%	31		135		(104		)	(77	)%	0.24	%	2.38	%	(2.14	)%
Long-term investments⁴	256,500			281,450			(24,950		)	(9	)%	1,519		1,818		(299		)	(16	)%	2.38	%	2.60	%	(0.22	)%
Total investments	307,948			304,300			3,648			1	%	1,550		1,953		(403		)	(21	)%	2.02	%	2.58	%	(0.56	)%
Interest-earning assets	1,762,140			1,358,599			403,541			30	%	19,004		17,306		1,698			10	%	4.34	%	5.12	%	(0.78	)%
Nonearning assets	186,583			167,414			19,169			11	%
Total		$1,948,723			$1,526,013			$422,710		28	%

Interest-bearing demand		$379,851			$253,553			$126,298		50	%		$156		$92		$64		70	%	0.17	%	0.15	%	0.02	%
Savings deposits	246,379			232,675			13,704			6	%	176		289		(113		)	(39	)%	0.29	%	0.50	%	(0.21	)%
Money market deposits	214,532			205,364			9,168			4	%	164		295		(131		)	(44	)%	0.31	%	0.58	%	(0.27	)%
Time deposits	176,782			126,530			50,252			40	%	835		498		337			68	%	1.90	%	1.58	%	0.32	%
Total interest-bearing deposits	1,017,544			818,122			199,422			24	%	1,331		1,174		157			13	%	0.53	%	0.58	%	(0.05	)%
Borrowings	73,349			44,938			28,411			63	%	216		175		41			23	%	1.18	%	1.57	%	(0.39	)%
Total interest-bearing liabilities	1,090,893			863,060			227,833			26	%	1,547		1,349		198			15	%	0.57	%	0.63	%	(0.06	)%
Demand deposits and other noninterest-bearing liabilities	652,989			452,623			200,366			44	%
Equity	204,841			210,330			(5,489		)	(3	)%
Total		$1,948,723			$1,526,013			$422,710		28	%
Net interest income													$17,457		$15,957		$1,500		9	%
Net interest margin																					3.98	%	4.71	%	(0.73	)%
Average loans to average interest-earning assets	76.20		%	73.83		%
Average loans to average total deposits	82.88		%	80.93		%
Average non-interest deposits to average total deposits	37.19		%	33.99		%
Average interest-earning assets to average interest-bearing liabilities	161.53		%	157.42		%

¹Interest income includes loan fees. Loan fees recognized during the period and included in the yield calculation totaled $2.0 million and $766,000 in the second quarter of 2020 and 2019, respectively.

²Nonaccrual loans are included with a zero effective yield. Average nonaccrual loans included in the computation of the average loan balances were $14.6 million and $18.5 million in the second quarter of 2020 and 2019, respectively.

³Consists of interest bearing deposits in other banks.

⁴Consists of investment debt securities available for sale, equity securities, investment securities held to maturity, and investment in Federal Home Loan Bank stock.

The following tables set forth the changes in consolidated net interest income attributable to changes in volume and to changes in interest rates for the three-month periods ending June 30, 2020 and 2019. Changes attributable to the combined effect of volume and interest rate have been allocated proportionately to the changes due to volume and the changes due to interest rates:



(In Thousands)	Three Months Ended June 30, 2020 vs. 2019
	Increase (decrease) due to
	Volume			Rate			Total
Interest Income:
Loans		$2,120			($361	)		$1,759
Loans held for sale	432			(90		)	342
Short-term investments	79			(183		)	(104		)
Long-term investments	(161		)	(138		)	(299		)
Total interest income		$2,470			($772	)		$1,698

Interest Expense:
Interest-bearing deposits		$243			($86	)		$157
Borrowings	88			(47		)	41
Total interest expense		$331			($133	)		$198

The following table compares average balances and rates as well as net tax equivalent margins on earning assets for the six-month periods ended June 30, 2020 and 2019:



(Dollars in Thousands)	Six Months Ended June 30,
												Interest income/
	Average Balances						Change					expense				Change					Average Yields/Costs
	2020			2019			$			%		2020		2019		$			%		2020		2019		Change
Loans^1,2		$1,200,870			$996,009			$204,861		21	%		$31,503		$29,454		$2,049		7	%	5.28	%	5.95	%	(0.67	)%
Loans held for sale	80,925			41,297			39,628			96	%	1,310		876		434			50	%	3.26	%	4.27	%	(1.01	)%

Short-term investments³	59,762			23,521			36,241			154	%	267		278		(11		)	(4	)%	0.90	%	2.38	%	(1.48	)%
Long-term investments⁴	270,284			280,937			(10,653		)	(4	)%	3,263		3,576		(313		)	(9	)%	2.43	%	2.56	%	(0.13	)%
Total investments	330,046			304,458			25,588			8	%	3,530		3,854		(324		)	(8	)%	2.15	%	2.55	%	(0.40	)%
Interest-earning assets	1,611,841			1,341,764			270,077			20	%	36,343		34,184		2,159			6	%	4.53	%	5.12	%	(0.59	)%
Nonearning assets	180,316			164,841			15,475			9	%
Total		$1,792,157			$1,506,605			$285,552		19	%

Interest-bearing demand		$350,308			$247,324			$102,984		42	%		$320		$145		$175		121	%	0.18	%	0.12	%	0.06	%
Savings deposits	238,009			234,201			3,808			2	%	413		544		(131		)	(24	)%	0.35	%	0.47	%	(0.12	)%
Money market deposits	210,288			206,436			3,852			2	%	421		544		(123		)	(23	)%	0.40	%	0.53	%	(0.13	)%
Time deposits	173,096			121,393			51,703			43	%	1,661		879		782			89	%	1.93	%	1.46	%	0.47	%
Total interest-bearing deposits	971,701			809,354			162,347			20	%	2,815		2,112		703			33	%	0.58	%	0.52	%	0.06	%
Borrowings	47,769			48,208			(439		)	(1	)%	381		346		35			10	%	1.60	%	1.44	%	0.16	%
Total interest-bearing liabilities	1,019,470			857,562			161,908			19	%	3,196		2,458		738			30	%	0.63	%	0.58	%	0.05	%
Demand deposits and other noninterest-bearing liabilities	566,284			439,253			127,031			29	%
Equity	206,403			209,790			(3,387		)	(2	)%
Total		$1,792,157			$1,506,605			$285,552		19	%
Net interest income													$33,147		$31,726		$1,421		4	%
Net interest margin																					4.14	%	4.77	%	(0.63	)%
Average loans to average interest-earning assets	74.50		%	74.23		%
Average loans to average total deposits	80.62		%	81.84		%
Average non-interest deposits to average total deposits	34.77		%	33.50		%
Average interest-earning assets to average interest-bearing liabilities	158.11		%	156.46		%

¹Interest income includes loan fees. Loan fees recognized during the period and included in the yield calculation totaled $2.9 million and $1.6 million in the first six months of 2020 and 2019, respectively.

²Nonaccrual loans are included with a zero effective yield. Average nonaccrual loans included in the computation of the average loan balances were $14.7 million and $17.0 million in the first six months of 2020 and 2019, respectively.

³Consists of interest bearing deposits in other banks.

⁴Consists of investment debt securities available for sale, equity securities, investment securities held to maturity, and investment in Federal Home Loan Bank stock.

The following tables set forth the changes in consolidated net interest income attributable to changes in volume and to changes in interest rates for the six-month periods ending June 30, 2020 and 2019. Changes attributable to the combined effect of volume and interest rate have been allocated proportionately to the changes due to volume and the changes due to interest rates:



(In Thousands)	Six Months Ended June 30, 2020 vs. 2019
	Increase (decrease) due to
	Volume			Rate			Total
Interest Income:
Loans		$3,235			($1,186	)		$2,049
Loans held for sale	581			(147		)	434
Short-term investments	237			(248		)	(11		)
Long-term investments	(210		)	(103		)	(313		)
Total interest income		$3,843			($1,684	)		$2,159

Interest Expense:
Interest-bearing deposits		$458			$245			$703
Borrowings	(3		)	38			35
Total interest expense		$455			$283			$738

Provision for Loan Losses

The provision for loan losses increased to $404,000 for the second quarter of 2020 compared to $300,000 in the second quarter of 2019 due to an increase in qualitative factors based on management's assessment of increased risks in our loan portfolio primarily associated with the COVID-19 pandemic and the reduction in oil prices compared to the prior year. The ratio of the Allowance to total nonperforming loans, net of government guarantees was 162% at June 30, 2020 and 137% at December 31, 2019.

The provision for loan losses was $2.5 million for the first half of 2020 as compared to $1.1 million for the first six months of 2019. Similar to the second quarter of 2020 compared to the second quarter of 2019, the increase is mostly due to an increase in the qualitative factors based on management's assessment of increased risks in our loan portfolio primarily associated with the COVID-19 pandemic and the reduction in oil prices compared to the prior year.

See "Analysis of Allowance for Loan Losses" under the "Financial Condition-Balance Sheet Overview" and Note 5 of the Notes to Consolidated Financial Statements included in Item 1 of this report for more information on changes in the Company's Allowance.

Other Operating Income

Other operating income for the three-month period ended June 30, 2020, increased $8.0 million, or 83%, to $17.5 million as compared to $9.6 million the same period in 2019, primarily due to the $9.3 million increase in mortgage banking income in the second quarter of 2020 compared to the same quarter in 2019. This increase in mortgage banking income in the three months ended June 30, 2020 as compared to the same period in 2019 was primarily due to increased refinance activity due to changes in the mortgage interest rates. The increase in mortgage banking income in the second quarter of 2020 was only partially offset by a decrease of $717,000 in interest rate swap income, as well as a smaller decrease in purchased receivable income, due to customers reportedly using PPP funds instead of selling receivables, and a decrease in service charges on deposit accounts due to customer accommodations related to the impacts of COVID19 as compared to the second quarter of 2019.

Other Operating Expense

Other operating expense for the second quarter of 2020 increased $2.9 million, or 14%, to $22.7 million as compared to the same period in 2019 primarily due to higher salaries and other personnel expense related to mortgage banking operations, which fluctuate with production volumes, as well as higher data processing costs in the community banking segment due to charges for additional products and services.

Income Taxes

The provision for income taxes for the second quarter of 2020 increased $868,000, or 76%, as compared to the same period in 2019. The provision for income taxes in the first half of 2020 decreased $49,000, or 2%, as compared to the first half of 2019. The increase in the three-month period ending June 30, 2020 as compared to the same period in 2019 was primarily due to the increase in pretax income. The effective tax rate decreased to 17% in the three and six-month periods ending June 30, 2020 as compared to 21% in both the three and six-month periods ending June 30, 2019 primarily due to the reversal of a $454,000 accrual for a potential increase in tax expense related to an audit that was performed in 2018 by the State of Alaska for tax years 2014-2016. The Company appealed the State of Alaska's decision on this matter and reversed this accrual in the second quarter of 2020 because the Company believes that it is more likely than not that the court will rule in the Company's favor.

FINANCIAL CONDITION

Balance Sheet Overview

Portfolio Investments

Portfolio investments at June 30, 2020 decreased 26%, or $74.0 million, to $210.1 million from $284.1 million at December 31, 2019 as proceeds from sales, maturities, and security calls were used for loan fundings in the first six months of 2020.

The table below details portfolio investment balances by portfolio investment type:



	June 30, 2020				December 31, 2019
	Dollar Amount		Percent of Total		Dollar Amount		Percent of Total
(In Thousands)	Dollar Amount		Percent of Total		Dollar Amount		Percent of Total
	Balance		% of total		Balance		% of total
U.S. Treasury and government sponsored entities		$140,003	66.6	%		$211,852	74.6	%
Municipal securities	2,327		1.1	%	3,297		1.2	%
Corporate bonds	32,043		15.3	%	35,066		12.3	%
Collateralized loan obligations	27,974		13.3	%	25,923		9.1	%
Preferred stock	7,758		3.7	%	7,945		2.8	%
Total portfolio investments		$210,105				$284,083

Loans and Lending Activities

Our loan products include short and medium-term commercial loans, commercial credit lines, construction and real estate loans, and consumer loans. From our inception, we have emphasized commercial, land development and home construction, and commercial real estate lending. This type of lending has generally provided us with market opportunities and higher net interest margins than other types of lending. However, it also involves greater risks, including greater exposure to changes in local economic conditions, than certain other types of lending.

Portfolio loans increased by $389.8 million, or 37%, to $1.433 billion at June 30, 2020 from $1.043 billion at December 31, 2019, primarily as a result of increased commercial loans due to the Company's participation in the SBA PPP. PPP loans are included in commercial loans in the table below and totaled $353.5 million at June 30, 2020 and zero at December 31, 2019. As shown in the table below, real estate construction one-to-four family, real estate term owner occupied and real estate term non-owner occupied loans also increased in the first six months of 2020.These increases were partially offset by smaller decreases in consumer loans and real estate term other loans in the first six months of 2020. Real estate construction one-to-four family loans, which are mostly residential housing construction loans decreased slightly to 3% of portfolio loans at June 30, 2020 compared to 4% at December 31, 2019.

The following table details loan balances by loan type as of the dates indicated:



	June 30, 2020					December 31, 2019
	Dollar Amount			Percent of Total		Dollar Amount			Percent of Total
(In Thousands)	Dollar Amount			Percent of Total		Dollar Amount			Percent of Total
Commercial		$780,160		54.3	%		$412,690		39.5	%
Real estate construction one-to-four family	38,318			2.7	%	38,818			3.7	%
Real estate construction other	76,146			5.3	%	61,808			5.9	%
Real estate term owner occupied	154,741			10.8	%	138,891			13.3	%
Real estate term non-owner occupied	319,257			22.3	%	312,960			30.0	%
Real estate term other	41,276			2.9	%	42,506			4.1	%
Consumer secured by 1st deeds of trust	14,510			1.0	%	16,198			1.6	%
Consumer other	23,800			1.7	%	24,585			2.4	%
Subtotal		$1,448,208					$1,048,456
Less: Unearned origination fee,
net of origination costs	(15,007		)	(1.0	)%	(5,085		)	(0.5	)%
Total loans		$1,433,201					$1,043,371

The above table includes $353.5 million SBA PPP loans within the Commercial loan segment. Additionally, unearned origination fee, net of origination costs includes $9.8 million associated with SBA PPP loans.

Information about loans directly exposed to the oil and gas industry

The Company defines "direct exposure" to the oil and gas industry as companies that it has identified as significantly reliant upon activity related to the oil and gas industry, such as oilfield services, lodging, equipment rental, transportation, and other logistic services specific to the industry. The Company estimates that $70.2 million, or approximately 5% of loans as of June 30, 2020 have direct exposure to the oil and gas industry as compared to $79.2 million, or approximately 8% of loans as of December 31, 2019. The Company has no loans to oil producers or exploration companies as of June 30, 2020 or December 31, 2019, but the totals noted include a loan related to construction of an oil rig. The balance of this loan was $7.7 million and $14.2 million at June 30, 2020 and December 31, 2019, respectively, and is classified as an Asset Quality Rating ("AQR") system pass loan in both periods. The Company's unfunded commitments to borrowers that have direct exposure to the oil and gas industry were $51.9 million and $31.1 million at June 30, 2020 and December 31, 2019, respectively. The portion of the Company's Allowance that related to the loans with direct exposure to the oil and gas industry was estimated at $1.3 million as of June 30, 2020 and $1.6 million as of December 31, 2019.

The following table details loan balances by loan segment and class of financing receivable for loans with direct oil and gas exposure as of the dates indicated:



(In Thousands)	Commercial		Real estate construction one-to-four family		Real estate construction other		Real estate term owner occupied		Real estate term non-owner occupied		Real estate term other		Consumer secured by 1st deeds of trust		Consumer other		Total
June 30, 2020
AQR Pass		$52,940		$—		$—		$4,083		$—		$—		$—		$2,120		$59,143
AQR Special Mention	717		—		—		1,723		6,687		—		—		—		9,127
AQR Substandard	1,942		—		—		—		—		—		—		—		1,942
Total		$55,599		$—		$—		$5,806		$6,687		$—		$—		$2,120		$70,212
December 31, 2019
AQR Pass		$62,345		$—		$—		$4,153		$—		$—		$—		$361		$66,859
AQR Special Mention	450		—		—		1,900		6,916		—		—		—		9,266
AQR Substandard	3,070		—		—		—		—		—		—		—		3,070
Total		$65,865		$—		$—		$6,053		$6,916		$—		$—		$361		$79,195

Supplemental information about significant COVID-19 exposure on directly impacted industries

In addition, at June 30, 2020, the Company had $63.4 million, or 4% of portfolio loans, in the tourism sector, $56.0 million, or 5% of portfolio loans, in the aviation (non-tourism) sector, $51.5 million, or 4% of total loans, in the healthcare sector, $23.9 million, or 2%, in retail loans and $23.5 million, or 2% in the restaurant sector, and $34.4 million, or 2% in the accommodations sector. The portion of the Company's Allowance that related to the loans with exposure to these industries is estimated at the following amounts as of June 30, 2020:



(In Thousands)	Tourism		Aviation (non-tourism)		Healthcare		Retail		Restaurant		Accommodations		Total
Allowance		$1,213		$1,082		$885		$437		$449		$652		$4,718

Analysis of Allowance for Loan Losses

The Company maintains an Allowance to reflect management's assessment of probable, estimable losses inherent in the

loan portfolio. The Allowance is increased by provisions for loan losses and loan recoveries and decreased by loan charge-offs. The size of the Allowance is determined through quarterly assessments of probable estimated losses in the loan portfolio. Our methodology for making such assessments and determining the adequacy of the Allowance includes the following key elements:


•	A specific allocation for impaired loans. Management determines the fair value of the majority of these loans based on the underlying collateral values. This analysis is based upon a specific analysis for each impaired loan, including external appraisals on loans secured by real property, management’s assessment of the current market, recent payment history,

and an evaluation of other sources of repayment. In-house evaluations of fair value are used in the impairment analysis in some situations. Inputs to the in-house evaluation process include information about sales of comparable properties in the appropriate markets and changes in tax assessed values. The Company obtains appraisals on real and personal property that secure its loans during the loan origination process in accordance with regulatory guidance and its loan policy. The Company obtains updated appraisals on loans secured by real or personal property based upon its assessment of changes in the current market or particular projects or properties, information from other current appraisals, and other sources of information. Appraisals may be adjusted downward by the Company based on its evaluation of the facts and circumstances on a case by case basis. External appraisals may be discounted when management believes that the absorption period used in the appraisal is unrealistic, when expected liquidation costs exceed those included in the appraisal, or when management’s evaluation of deteriorating market conditions warrants an adjustment. Additionally, the Company may also adjust appraisals in the above circumstances between appraisal dates. The Company uses the information provided in these updated appraisals along with its evaluation of all other information available on a particular property as it assesses the collateral coverage on its performing and nonperforming loans and the impact that may have on the adequacy of its Allowance. The specific allowance for impaired loans, as well as the overall Allowance, may increase based on the Company’s assessment of updated appraisals. See Note 11 of the Notes to Consolidated Financial Statements included in Item 1 of this report for further discussion of the Company’s estimation of impaired loans measured at fair value.

When the Company determines that a loss has occurred on an impaired loan, a charge-off equal to the difference between carrying value and fair value is recorded. If a specific allowance is deemed necessary for a loan, and then that loan is partially charged off, the loan remains classified as a nonperforming loan after the charge-off is recognized.

•

A general allocation - The Company has identified segments and classes of loans not considered impaired for purposes of establishing the general allocation allowance. The Company disaggregates the loan portfolio into segments and classes based on its assessment of how different pools of loans with like characteristics in the portfolio behave over time. This determination is based on historical experience and management’s assessment of how current facts and circumstances are expected to affect the loan portfolio.

The Company first disaggregates the loan portfolio into the following eight segments: commercial, real estate construction one-to-four family, real estate construction other, real estate term owner occupied, real estate term non-owner occupied, real estate term other, consumer secured by 1st deeds of trust, and other consumer loans.

After division of the loan portfolio into segments, the Company then further disaggregates each of the segments into classes. The Company has a total of five classes, which are based off of the Company's loan risk grading system known as the AQR system. The risk ratings are discussed in Note 5 to the Consolidated Financial Statements included in Item 1 of this report. There are five loan classes: pass (pass AQR grades, which are grades 1 – 6), special mention, substandard, doubtful, and loss. There have been no changes to these loan classes in 2020.

After the portfolio has been disaggregated into segments and classes, the Company calculates a general reserve for each segment and class based on the average loss history for each segment and class. The Company utilizes a lookback period of five years in the calculation of average historical loss rates.

After the Company calculates a general allocation using our loss history, the general reserve is then adjusted for qualitative factors by segment and class. Qualitative factors are based on management’s assessment of current trends that may cause losses inherent in the current loan portfolio to differ significantly from historical losses. Some factors that management considers in determining the qualitative adjustment to the general reserve include our concentration of large borrowers; national and local economic trends,including impacts related to COVID-19; general business conditions; trends in local real estate markets; economic, political, and industry specific factors that affect resource development in Alaska; effects of various political activities; peer group data; and internal factors such as underwriting policies and expertise of the Company’s employees.

•

An unallocated reserve - The unallocated portion of the Allowance provides for other credit losses inherent in our loan portfolio that may not have been contemplated in the specific and general components of the Allowance, and it acknowledges the inherent imprecision of all loss prediction models. The unallocated component is reviewed periodically based on trends in credit losses and overall economic conditions. At June 30, 2020 and December 31, 2019, the unallocated allowance as a percentage of the total Allowance was 10% and 11%, respectively.

The following table sets forth information regarding changes in the Allowance for the periods indicated:



	Three Months Ended June 30,					Six Months Ended June 30,
(In Thousands)	2020		2019			2020		2019
Balance at beginning of period		$21,017		$20,209			$19,088		$19,519
Charge-offs:
Commercial	804		64			955		173
Consumer other	—		4			14		4
Total charge-offs	804		68			969		177
Recoveries:
Commercial	30		48			56		92
Real estate term other	1		25			1		27
Consumer other	5		4			13		7
Total recoveries	36		77			70		126
Net, charge-offs	768		(9		)	899		51
Provision for loan losses	404		300			2,464		1,050
Balance at end of period		$20,653		$20,518			$20,653		$20,518

While management believes that it uses the best information available to determine the Allowance, unforeseen market conditions and other events could result in adjustment to the Allowance, and net income could be significantly affected if circumstances differed substantially from the assumptions used in making the final determination of the Allowance. Moreover, bank regulators frequently monitor banks' loan loss allowances, and if regulators were to determine that the Company’s Allowance is inadequate, they may require the Company to increase the Allowance, which may adversely impact the Company’s net income and financial condition.

Deposits

Deposits are the Company’s primary source of funds. Total deposits increased $365.0 million, or 27%, to $1.737 billion as of June 30, 2020 compared to $1.372 billion as of December 31, 2019. This increase is primarily due to funding PPP loans, but is also due to new client relationships as a result of the Company's significant PPP efforts during the second quarter of 2020. The following table summarizes the Company's composition of deposits as of the periods indicated:



	June 30, 2020				December 31, 2019
(In thousands)	Balance		% of total		Balance		% of total
Demand deposits		$680,033	40	%		$451,896	33	%
Interest-bearing demand	400,138		23	%	320,264		23	%
Savings deposits	261,934		15	%	229,918		17	%
Money market deposits	215,735		12	%	205,801		15	%
Time deposits	179,519		10	%	164,472		12	%
Total deposits		$1,737,359				$1,372,351

The Company’s mix of deposits continues to contribute to a low cost of funds with balances in transaction accounts representing 90% of total deposits at June 30, 2020 and 88% of total deposits at December 31, 2019.

The only deposit category with stated maturity dates is certificates of deposit. At June 30, 2020, the Company had $179.5 million in certificates of deposit as compared to certificates of deposit of $164.5 million at December 31, 2019. At June 30, 2020, $130.8 million, or 73%, of the Company’s certificates of deposits are scheduled to mature over the next 12 months as compared to $90.5 million, or 55%, of total certificates of deposit at December 31, 2019. The aggregate amount of certificates of deposit in amounts of $100,000 and greater at June 30, 2020 and December 31, 2019, was $134.6 million and $118.9 million, respectively. The following table sets forth the amount outstanding of deposits in amounts of $100,000 and greater by time remaining until maturity and percentage of total deposits as of June 30, 2020:



	Time Certificates of Deposit
	of $100,000 or More
			Percent of Total Deposits
(In Thousands)	Amount		Percent of Total Deposits
Amounts maturing in:
Three months or less		$27,843	21	%
Over 3 through 6 months	24,912		19	%
Over 6 through 12 months	43,624		32	%
Over 12 months	38,270		28	%
Total		$134,649	100	%

There were no depositors with deposits representing 10% or more of total deposits at June 30, 2020 or December 31, 2019.

Borrowings

FHLB: The Bank is a member of the Federal Home Loan Bank of Des Moines (the "FHLB"). As a member, the Bank is eligible to obtain advances from the FHLB. FHLB advances are dependent on the availability of acceptable collateral such as marketable securities or real estate loans, although all FHLB advances are secured by a blanket pledge of the Bank’s assets. At June 30, 2020, our maximum borrowing line from the FHLB was $901.1 million, approximately 45% of the Bank’s assets, subject to the FHLB’s collateral requirements. The Company has outstanding advances of $11.8 million as of June 30, 2020 which were originated to match fund low income housing projects that qualify for long term fixed interest rates. The first advance is a $2.0 million FHLB Community Investment Program advance which was originated on March 22, 2013. It has an 18 year term with a 30 year amortization period, which mirrors the term of the term real estate loan made to the borrower, and a fixed rate of 3.12%. The second advance is a $2.2 million FHLB Community Investment Cash Advance Program advance that was originated in the second quarter of 2016. This advance has a 20 year term with a 30 year amortization period, which mirrors the term of the term real estate loan made to the borrower, and a fixed interest rate of 2.61%. The third advance is a $3.0 million FHLB Community Investment Cash Advance Program advance that was originated in the third quarter of 2017. This advance has a 20 year term with a 30 year amortization period and a fixed interest rate of 3.25%, which mirrors the term of the loan made to the borrower. The fourth advance is a $1.0 million FHLB Community Investment Cash Advance Program advance that was originated in the third quarter of 2019. This advance has a 20 year term with a 30 year amortization period and a fixed interest rate of 2.69%, which mirrors the term of the loan made to the borrower. The fourth advance is a $769,000 FHLB Community Investment Cash Advance Program advance that was originated in the third quarter of 2019. This advance has a 20 year term with a 30 year amortization period and a fixed interest rate of 2.69%, which mirrors the term of the loan made to the borrower. The fifth advance is a $2.2 million FHLB Community Investment Cash Advance Program advance that was originated in the second quarter of 2020. This advance has a 18 year term with a 30 year amortization period and a fixed interest rate of 1.63%, which mirrors the term of the loan made to the borrower. The last advance is a $762,000 FHLB Community Investment Cash Advance Program advance that was originated in the second quarter of 2020. This advance has a 18 year term with a 16.8 year amortization period and a fixed interest rate of 1.23%, which mirrors the term of the loan made to the borrower. All of these FHLB advances are included in borrowings.

Federal Reserve Bank: The Federal Reserve Bank of San Francisco (the "Federal Reserve Bank") is holding $86.9 million of loans as collateral to secure advances made through the discount window on June 30, 2020. There were no discount window advances outstanding at June 30, 2020 or December 31, 2019, respectively. The Company utilized the Federal Reserve Bank's PPPLF to fund SBA PPP loans during the second quarter of 2020, but has repaid those funds in full. This advance had an interest rate of 0.35%. The average balance outstanding of PPPLF was $45.2 million and $22.6 million during the three and six-month periods ending June 30, 2020, respectively.

Other Short-term Borrowings: Securities sold under agreements to repurchase were zero for June 30, 2020 and December 31, 2019, respectively. The average balance outstanding of securities sold under agreements to repurchase during the three-month periods ending June 30, 2020 and 2019 was zero and $26.8 million, respectively, and zero and $30.3 million, respectively, in the six-month periods ending June 30, 2020 and 2019. The maximum outstanding at any month-end was zero and $36.6 million, respectively, during the same three and six-month periods ending June 30, 2020 and 2019. The securities sold under agreements to repurchase were held by the FHLB under the Company’s control.

The Company is subject to provisions under Alaska state law, which generally limit the amount of outstanding debt to 15% of total assets or $300.4 million at June 30, 2020 and $244.7 million at December 31, 2019. As of April 7, 2020, the State of Alaska increased this limit to 35% of total assets.

At June 30, 2020 and December 31, 2019, the Company had no short-term (original maturity of one year or less) borrowings that exceeded 30% of shareholders’ equity.

Long-term Borrowings. The Company had no long-term borrowing outstanding other than the FHLB advances noted above as of June 30, 2020 or December 31, 2019.

Liquidity and Capital Resources

The Company is a single bank holding company and its primary ongoing source of liquidity is from dividends received from the Bank. Such dividends arise from the cash flow and earnings of the Bank. Banking regulations and regulatory authorities may limit the amount of, or require the Bank to obtain certain approvals before paying, dividends to the Company. Given that the Bank currently meets and the Bank anticipates that it will continue to meet, all applicable capital adequacy requirements for a “well-capitalized” institution by regulatory standards, the Company expects to continue to receive dividends from the Bank during the remainder of 2020.

The Company manages its liquidity through its Asset and Liability Committee. Our primary sources of funds are customer deposits and advances from the FHLB. These funds, together with loan repayments, loan sales, other borrowed funds, retained earnings, and equity are used to make loans, to acquire securities and other assets, and to fund deposit flows and continuing operations. The primary sources of demands on our liquidity are customer demands for withdrawal of deposits and borrowers' demands that we advance funds against unfunded lending commitments. Our total unfunded commitments to fund loans and letters of credit at June 30, 2020 were $335.4 million. We do not expect that all of these loans are likely to be fully drawn upon at any one time. Additionally, as noted above, our total deposits at June 30, 2020 were $1.737 billion.

As shown in the Consolidated Statements of Cash Flows included in Part I - Item 1 "Financial Statements" of this report, net cash used by operating activities was $46.6 million for the first six months of 2020, primarily due to cash provided by proceeds from the sale of loans held for sale being more than offset by cash used in connection with the origination of loans held for sale. Net cash used by investing activities was $316.6 million for the same period, primarily due to increases in loans, in particular PPP loans. This use of cash was only partially offset by proceeds from the maturity of securities available for sale. Net cash provided by financing activities in the same period was $357.2 million, primarily due to increases in deposits largely due to funding PPP loans that was done via deposit into customer accounts. This increase was only partially offset by the repurchase of common stock and cash dividends paid to shareholders.

The sources by which we meet the liquidity needs of our customers are current assets and borrowings available through our correspondent banking relationships and our credit lines with the Federal Reserve Bank and the FHLB. As customers withdraw funds from deposit accounts that were obtained from the Company via PPP loans, the Company may need to borrow funds to meet an immediate liquidity need. At June 30, 2020, our funds available for borrowing under our existing lines of credit were $964.9 million. Additionally, the Company can obtain additional nonrecourse borrowings under the Federal Reserve Bank's newly created PPPLF as a source of additional liquidity in order to meet liquidity needs created by the origination of PPP loans without excessive usage of the Company's other existing liquidity sources. The Company had $239.2 million in PPP loans eligible to be pledged for the PPPLF program as of June 30, 2020.

Given these sources of liquidity and our expectations for customer demands for cash and for our operating cash needs, we believe our sources of liquidity to be sufficient to fund our ongoing operating activities and our anticipated capital requirements for at least 12 months.

The Company issued 1,946 shares of its common stock in the first six months of 2020 and repurchased 192,709 shares of its common stock under the Company's previously announced repurchase program. The Company suspended its stock repurchase activities on March 26, 2020. At June 30, 2020, the Company had 6,368,046 shares of its common stock outstanding.

Capital Requirements and Ratios

We are subject to minimum capital requirements. Federal banking agencies have adopted regulations establishing minimum requirements for the capital adequacy of banks and bank holding companies. The requirements address both risk-based capital and leverage capital. We believe as of June 30, 2020, that the Company and the Bank met all applicable capital adequacy requirements for a “well-capitalized” institution by regulatory standards.

The table below illustrates the capital requirements in effect for the periods noted for the Company and the Bank and the actual capital ratios for each entity that exceed these requirements. Management intends to maintain capital ratios for the Bank in 2020, exceeding the FDIC’s requirements for the “well-capitalized” classification. The capital ratios for the Company exceed those for the Bank primarily because the $10 million trust preferred securities offering completed in the fourth quarter of 2005 is included in the Company’s capital for regulatory purposes, although they are accounted for as a long-term debt in our financial statements. The trust preferred securities are not accounted for on the Bank’s financial statements nor are they included in its capital. As a result, the Company has $10 million more in regulatory capital than the Bank at both June 30, 2020 and December 31, 2019, which explains most of the difference in the capital ratios for the two entities.



	Minimum Required Capital	Well-Capitalized	Actual Ratio Company	Actual Ratio Bank


June 31, 2020
Total risk-based capital	8.00%	10.00%	15.24%	13.44%
Tier 1 risk-based capital	6.00%	8.00%	13.99%	12.18%
Common equity tier 1 capital	4.50%	6.50%	13.32%	12.19%
Leverage ratio	4.00%	5.00%	11.92%	9.06%
December 31, 2019
Total risk-based capital	8.00%	10.00%	15.63%	13.24%
Tier 1 risk-based capital	6.00%	8.00%	14.38%	11.98%
Common equity tier 1 capital	4.50%	6.50%	13.69%	11.98%
Leverage ratio	4.00%	5.00%	12.41%	10.36%

See Note 24 of the Consolidated Financial Statements in the Company's Annual Report on Form 10-K for the year ended December 31, 2019 for a detailed discussion of the capital ratios. The requirements for "well- capitalized" come from the Prompt Corrective Action rules. See Item 1 - Business - Supervision and Regulation in the Company's Annual Report on Form 10-K for the year ended December 31, 2019. These rules apply to the Bank but not to the Company. Under the rules of the Federal Reserve Bank, a bank holding company such as the Company is generally defined to be "well capitalized" if its Tier 1 risk-based capital ratio is 8.0% or more and its total risk-based capital ratio is 10.0% or more.

Off-Balance Sheet Items

The Company is a party to financial instruments with off-balance sheet risk. Among the off-balance sheet items entered into in the ordinary course of business are commitments to extend credit, commitments to originate loans held for sale and the issuance of letters of credit. These instruments involve, to varying degrees, elements of credit and interest rate risk in excess of the amounts recognized on the balance sheet. Certain commitments are collateralized. We apply the same credit standards to these commitments as in all of our lending activities and include these commitments in our lending risk evaluations. As of June 30, 2020 and December 31, 2019, the Company’s commitments to extend credit and to provide letters of credit which are not reflected on its balance sheet amounted to $335.4 million and $301.9 million, respectively. Additionally, the Company had commitments to originate loans held for sale of $206.3 million and $48.8 million, as of June 30, 2020 and December 31, 2019, respectively. Since many of the commitments are expected to expire without being drawn upon, these total commitment amounts do not necessarily represent future cash requirements. The Company has established reserves of $167,000 and $152,000 at June 30, 2020 and December 31, 2019 respectively, for losses related to these commitments that are recorded in other liabilities on the consolidated balance sheet.

Capital Expenditures and Commitments

The Company has capital commitments related to improvements to the Company's corporate office building. At June 30, 2020 the Company considers these commitments to be immaterial.

ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

Our assessment of market risk as of June 30, 2020 indicates that there are no material changes in the quantitative and qualitative disclosures from those in our Annual Report on Form 10-K for the year ended December 31, 2019.

ITEM 4. CONTROLS AND PROCEDURES

Evaluation of Disclosure Controls and Procedures

As of the end of the period covered by this report, we evaluated the effectiveness of our disclosure controls and procedures (as defined in Rule 13a-15(e) or Rule 15d-15(e) under the Securities Exchange Act of 1934). Our principal executive and financial officers supervised and participated in this evaluation. Based on this evaluation, our principal executive and financial officers each concluded that as of June 30, 2020, the disclosure controls and procedures are effective in timely alerting them to material information required to be included in the periodic reports to the Securities and Exchange Commission. The design of any system of controls is based in part upon various assumptions about the likelihood of future events, and there can be no assurance that any of our plans, products, services or procedures will succeed in achieving their intended goals under future conditions.

Changes in Internal Control over Disclosure and Reporting

There was no change in our internal control over financial reporting (as defined in Rule 13a-15(f) and 15-d-15(f) of the Securities Exchange Act of 1934) that occurred during the quarterly period ended June 30, 2020 that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.

PART II - OTHER INFORMATION

ITEM 1. LEGAL PROCEEDINGS

During the normal course of its business, the Company is a party to various debtor-creditor legal actions, disputes, claims, and litigation related to the conduct of its banking business. These include cases filed as a plaintiff in collection and foreclosure cases, and the enforcement of creditors’ rights in bankruptcy proceedings. Management does not expect that the resolution of these matters will have a material effect on the Company’s business, financial position, results of operations, or cash flows.

ITEM 1A. RISK FACTORS

The disclosure below supplements the risk factors previously disclosed under Item 1A in the Company’s Annual Report on Form 10-K for the year ended December 31, 2019.

The COVID-19 pandemic has adversely impacted our business and financial results, and the ultimate impact will depend on future developments, which are highly uncertain and cannot be predicted, including the scope and duration of the pandemic and actions taken by governmental authorities in response to the pandemic.

In December 2019, a novel coronavirus (COVID-19) was reported in China, and, in March 2020, the World Health Organization declared it a pandemic. On March 12, 2020, the President of the United States declared the COVID-19 outbreak in the United States a national emergency. The COVID-19 pandemic has caused significant economic dislocation in the United States as many state and local governments have ordered non-essential businesses to close and residents to shelter in place at home. This has resulted in an unprecedented slow-down in economic activity and a related increase in unemployment. Since the COVID-19 outbreak, more than 50 million people have filed claims for unemployment, and stock markets have experienced significant volatility in value and, in particular, bank stocks have significantly declined in value. Governments, businesses, and the public are taking unprecedented actions to contain the spread of COVID-19 and to mitigate its effects, including quarantines, travel bans, shelter-in-place orders, closures of businesses and schools, fiscal stimulus, and legislation designed to deliver monetary aid and other relief. While the scope, duration, and full effects of COVID-19 are rapidly evolving and not fully known, the pandemic and related efforts to contain it have resulted in material decreases in oil and gas prices, disrupted global economic activity, adversely affected the functioning of financial markets, impacted interest rates, increased economic and market uncertainty, and disrupted trade and supply chains. These developments as a consequence of the COVID-19 pandemic are materially impacting our business and the businesses of our customers and are expected to have a material adverse effect on our financial results for 2020. If these

effects continue for a prolonged period or result in sustained economic stress or recession, such effects could have a material adverse impact on us in a number of ways related to credit, collateral, customer demand, loan funding, operations, interest rate risk, and human capital, as described in more detail below.

• Credit Risk

Our risks of timely loan repayment and the value of collateral supporting the loans are affected by the strength of our borrower’s business. Concern about the spread of COVID-19 has caused and is likely to continue to cause volatility in oil and gas prices, business shutdowns, limitations on commercial activity and financial transactions, labor shortages, supply chain interruptions, increased unemployment and commercial property vacancy rates, reduced profitability and ability for property owners to make mortgage payments, and overall economic and financial market instability, all of which may cause our customers to be unable to make scheduled loan payments. If the effects of COVID-19 result in widespread and sustained repayment shortfalls on loans in our portfolio, we could incur significant delinquencies, foreclosures and credit losses, particularly if the available collateral is insufficient to cover our exposure. The future effects of COVID-19 on economic activity could negatively affect the collateral values associated with our existing loans, the ability to liquidate the real estate collateral securing our residential and commercial real estate loans, our ability to maintain loan origination volume and to obtain additional financing, the future demand for or profitability of our lending and services, and the financial condition and credit risk of our customers. Further, in the event of delinquencies, regulatory changes and policies designed to protect borrowers may slow or prevent us from making our business decisions or may result in a delay in our taking certain remediation actions, such as foreclosure. In addition, we have unfunded commitments to extend credit to customers. During the current challenging economic environment, our customers are more dependent on our credit commitments and increased borrowings under these commitments could adversely impact our liquidity. Furthermore, in an effort to support our communities during the pandemic, we are participating in the PPP program under the CARES Act whereby loans to small businesses are made and those loans are subject to the regulatory requirements that would require forbearance of loan payments for a specified time or that would limit our ability to pursue all available remedies in the event of a loan default. If the borrower under the PPP loan fails to qualify for loan forgiveness, we are at the heightened risk of holding these loans at unfavorable interest rates as compared to the loans to customers that we would have otherwise extended credit.

• Strategic Risk

Our success may be affected by a variety of external factors that may affect the price or marketability of our products and services, changes in interest rates that may increase our funding costs, reduced demand for our financial products due to economic conditions and the various responses of governmental and nongovernmental authorities. In recent months, the COVID-19 pandemic has significantly increased economic and demand uncertainty and has led to disruption and volatility in the global capital markets. Furthermore, many of the governmental actions have been directed toward curtailing household and business activity to contain COVID-19. These actions have been rapidly expanding in scope and intensity. For example, in our markets, state and local governments have acted to temporarily close or restrict the operations of most businesses. The future effects of COVID-19 on economic activity could negatively affect the future banking products we provide, including a decline in loan originations.

• Operational Risk

Current and future restrictions on our employees’ access to our branches and other facilities could limit our ability to meet customer servicing expectations and have a material adverse effect on our operations. We rely on business processes and branch activity that largely depend on people and technology, including access to information technology systems as well as information, applications, payment systems and other services provided by third parties. In response to COVID-19, we have modified our business practices with a portion of our employees working remotely from their homes to have our operations uninterrupted as much as possible. Further, technology in employees’ homes may not be as robust as in our offices and could cause the networks, information systems, applications, and other tools available to employees to be more limited or less reliable than in our offices. The continuation of these work-from-home measures also introduces additional operational risk, including increased cybersecurity risk. These cyber risks include greater phishing, malware, and other cybersecurity attacks, vulnerability to disruptions of our information technology infrastructure and telecommunications systems for remote operations, increased risk of unauthorized dissemination of confidential information, limited ability to restore the systems in the event of a systems failure or interruption, greater risk of a security breach resulting in destruction or misuse of valuable information, and potential impairment of our ability to perform critical functions, including wiring funds, all of which could expose us to risks of data or financial loss, litigation and liability and could seriously disrupt our operations and the operations of any impacted customers. Moreover, we rely on many third parties in our business operations, including appraisers of the real property collateral, vendors that supply essential services such as loan servicers, providers of financial information, systems and analytical tools and providers of electronic payment and settlement systems, and local and federal government agencies, offices, and courthouses. In light of the developing measures responding to the pandemic, many of these entities may limit the availability and access of their services. For example, loan

origination could be delayed due to the limited availability of real estate appraisers for the collateral. Loan closings could be delayed related to reductions in available staff in recording offices or the closing of courthouses in certain counties, which slows the process for title work, mortgage and UCC filings in those counties. If the third-party service providers continue to have limited capacities for a prolonged period or if additional limitations or potential disruptions in these services materialize, it may negatively affect our operations.

• Interest Rate Risk

Our net interest income, lending activities, deposits and profitability could be negatively affected by volatility in interest rates caused by uncertainties stemming from COVID-19. In response to the COVID-19 outbreak, the Federal Reserve has reduced the benchmark fed funds rate to a target range of 0% to 0.25%, and the yields on 10 and 30-year treasury notes have declined to historic lows. A prolonged period of extremely volatile and unstable market conditions would likely increase our funding costs and negatively affect market risk mitigation strategies. Higher income volatility from changes in interest rates and spreads to benchmark indices could cause a loss of future net interest income and a decrease in current fair market values of our assets. Fluctuations in interest rates will impact both the level of income and expense recorded on most of our assets and liabilities and the market value of all interest-earning assets and interest-bearing liabilities, which in turn could have a material adverse effect on our net income, operating results, or financial condition.

Because there have been no comparable recent global pandemics that resulted in similar global impact, we do not yet know the full extent of COVID-19’s effects on our business, operations, or the global economy as a whole. Any future development will be highly uncertain and cannot be predicted, including the scope and duration of the pandemic, the effectiveness of our work from home arrangements, third party providers’ ability to support our operation, and any actions taken by governmental authorities and other third parties in response to the pandemic. Even after the COVID-19 pandemic has subsided, we may continue to experience materially adverse impacts to our business as a result of the virus’s global economic impact, including the availability of credit, adverse impacts on our liquidity and any recession that has occurred or may occur in the future. In addition, the effects could have a material impact on our results of operations and heighten many of our known risks described in the “Risk Factors” section of the Company’s Annual Report on Form 10-K for the year ended December 31, 2019.

ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS

(a)-(b) Not applicable

ITEM 3. DEFAULTS UPON SENIOR SECURITIES

None.

ITEM 4. MINE SAFETY DISCLOSURES

Not applicable.

ITEM 5. OTHER INFORMATION

(a) Not applicable

(b) There have been no material changes to the procedures by which shareholders may nominate directors to the Company’s board of directors.

ITEM 6. EXHIBITS



31.1	Certification of Chief Executive Officer required by Rule 13a-14(a) or Rule 15d-14(a)
31.2	Certification of Chief Financial Officer required by Rule 13a-14(a) or Rule 15d-14(a)
32.1	Certification of Chief Executive Officer required by Rule 13a-14(b) or Rule 15d-14(b) and Section 906 of the Sarbanes-Oxley Act of 2002, 18 U.S.C. Section 1350
32.2	Certification of Chief Financial Officer required by Rule 13a-14(b) or Rule 15d-14(b) and Section 906 of the Sarbanes-Oxley Act of 2002, 18 U.S.C. Section 1350



101.INS	Inline XBRL Instance Document - the instance document does not appear in the Interactive Data File because its XBRL tags are embedded within the Inline XBRL document
101.SCH	Inline XBRL Taxonomy Extension Schema Document
101.CAL	Inline XBRL Taxonomy Extension Calculation Linkbase Document
101.LAB	Inline XBRL Taxonomy Extension Labels Linkbase Document
101.PRE	Inline XBRL Taxonomy Extension Presentation Linkbase Document
101.DEF	Inline XBRL Taxonomy Extension Definition Linkbase Document
104	The cover page for the Company's Quarterly Report on 10-Q for the quarter ended June 30, 2020 - formatted in Inline XBRL (included in Exhibit 101)

SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

NORTHRIM BANCORP, INC.



August 4, 2020	By	/s/ Joseph M. Schierhorn
		Joseph M. Schierhorn
		Chairman, President, Chief Executive Officer and Chief Operating Officer
		(Principal Executive Officer)



August 4, 2020	By	/s/ Jed W. Ballard
		Jed W. Ballard
		Executive Vice President, Chief Financial Officer
		(Principal Financial and Accounting Officer)

(In Thousands)

June 30, 2020

December 31, 2019

Balance of mortgage loans serviced for others

MSR as a percentage of serviced loans