ITEM 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations
The following discussion and analysis is presented to assist the reader in understanding and evaluating of the Company’s financial condition and results of operations. It is intended to complement the consolidated financial statements, footnotes, and supplemental financial data appearing elsewhere in this Annual Report on Form 10-K and should be read in conjunction therewith. The detailed discussion in the sections below focuses on the results of operations for the year ended December 31, 2023, compared to the year ended December 2022, and the financial condition as of December 31, 2023 compared to the financial condition as of December 31, 2022. For a discussion of our results of operations for the year ended December 31, 2022 compared to the year ended December 31, 2021, see “Part II, Item 7: Management’s Discussion and Analysis of Financial Condition and Results of Operations” Discussion of Results of Operations included in our 2022 Form 10-K, filed with the SEC on March 30, 2023. The information in this section has been derived from the audited financial statements, which appear beginning on page F-1 of this Annual Report on Form 10-K.
Business Strategy
Our goal is to provide long-term value to our stockholders, customers and employees and the communities we serve by executing a safe and sound business strategy that produces increasing earnings. We believe there is a significant opportunity for a community-focused bank to provide a full range of financial services to commercial and retail customers in our market area.
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Our current business strategy consists of the following:
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Grow our balance sheet and improve profitability. Given our attractive market area, we believe we are well-positioned to increase the size of our balance sheet without a proportional increase in overhead expense or operating risk. Accordingly, we intend to increase, on a disciplined basis, our assets and liabilities, particularly loans and deposits. As we grow our assets, particularly higher-yielding commercial loans, while controlling our expenses, we anticipate improving our earnings.
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Grow our loan portfolio prudently and on a managed basis with a focus on diversifying the portfolio, particularly in commercial real estate and commercial lending. Our principal business activity historically has been the origination of residential mortgage loans, supplemented with commercial real estate loans (which includes non-owner occupied commercial real estate, multi-family, owner occupied commercial real estate and one- to four-family non-owner-occupied loans). We intend to retain our presence as a mortgage lender in our market area and continue to increase our origination of commercial real estate and commercial loans (which includes commercial and industrial loans) including loan participations purchased. Over the last several years, we have incrementally increased the amount of some of our commercial real estate and commercial loan originations to preferred borrowers, and we intend to continue to originate similarly-sized loans within our present underwriting standards.
Increasing the number of larger commercial real estate loans and commercial business loan originations involves risk, as described in “Risk Factors—We have a substantial amount of commercial real estate and commercial loans, and intend to continue to increase originations of these types of loans both directly and through participations. These loans involve credit risks that could adversely affect our financial condition and results of operations” and “Our portfolio of loans with a higher risk of loss has and is expected to increase, which may lead to additional provisions for credit losses or charge-offs, which would reduce our profits or cause losses.”
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Continue to increase core deposits, with an emphasis on low-cost demand deposits. We seek core deposits to provide a stable source of funds to support loan growth at costs consistent with improving our net interest rate spread and margin. Core deposits also help us maintain loan-to-deposit ratios at levels consistent with regulatory expectations. We consider our core deposits to include checking accounts, money market accounts and statement savings. In particular, our Treasury Management unit focuses on generating and retaining business deposits, which assists in generating fee income.
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Manage credit risk to maintain a low level of non-performing assets. We believe strong asset quality is a key to our long-term financial success. Our strategy for credit risk management focuses on having an experienced team of credit professionals, well-defined policies and procedures, appropriate loan underwriting criteria and active credit monitoring. In recent years we have conducted an extensive review of, and have enhanced, our credit, underwriting and loan processing policies and procedures.
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Continue to grow organically while being aware of acquisition opportunities. In addition to organic growth, we will also consider acquisition opportunities that we believe would enhance the value of our franchise and yield potential financial benefits for our stockholders. Although we believe opportunities exist to increase our market share in our historical markets, we expect to continue to expand into nearby markets in Wisconsin. We will consider expanding our branch network by establishing new (“de novo”) branches and/or through acquisitions, although we have no current acquisitions or new branches planned.
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Continue to provide value to our shareholders and our community. Our goal is to provide long-term value to our shareholders, customers, employees and the communities we serve by executing a safe and sound service-oriented business strategy that produces increasing earnings. We believe there is a significant opportunity for a community-focused bank to provide a full range of financial services to commercial and retail customers in our market area.
Critical Accounting Policies
The discussion and analysis of the financial condition and results of operations are based on our financial statements, which are prepared in conformity with U.S. GAAP. The preparation of these financial statements requires management to make estimates and assumptions affecting the reported amounts of assets and liabilities, disclosure of contingent assets and liabilities, and the reported amounts of income and expenses. We consider the accounting policies discussed below to be critical accounting policies. The estimates and assumptions that we use are based on historical experience and various other factors and are believed to be reasonable under the circumstances. Actual results may differ from these estimates under different assumptions or conditions, resulting in a change that could have a material impact on the carrying value of our assets and liabilities and our results of operations.
The JOBS Act contains provisions that, among other things, reduce certain reporting requirements for qualifying public companies. As an “emerging growth company” we may delay adoption of new or revised accounting pronouncements applicable to
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public companies until such pronouncements are made applicable to private companies. We intend to take advantage of the benefits of this extended transition period. Accordingly, our financial statements may not be comparable to companies that comply with such new or revised accounting standards.
The following represent our critical accounting policies:
Allowance for Credit Losses-Loans. Management's determination of the appropriateness of the allowance for credit losses for loans (ACL-Loans) is inherently subjective as it requires material estimates and assumptions. The evaluation process involves gathering and interpreting many qualitative and quantitative factors which could affect our estimate of lifetime expected credit losses. Because interpretation and analysis involves judgment, current economic or business conditions can change, and future events are inherently difficult to predict, the anticipated amount of estimated credit losses and therefore the appropriateness of the ACL-Loans could change significantly.
The allowance methodology applied by the Company is designed to assess the appropriateness of the ACL-Loans and includes allocations for individually evaluated credit-deteriorated loans and loss factor allocations for all remaining loans, with a component primarily based on historical loss rates and a component primarily based on other qualitative and environmental factors. The methodology includes evaluation and consideration of several factors, including but not limited to: management's ongoing review and grading of the loan portfolio, evaluation of facts and issues related to specific loans, consideration of historical credit loss and delinquency experience on each portfolio segment, trends in past due and nonaccrual loans, the risk characteristics of specific loans or various loan segments, changes in the size and character of the loan portfolio, concentrations of loans to specific borrowers or industries, the fair value of underlying collateral, existing economic conditions, and other qualitative and quantitative factors which could affect expected credit losses. In addition, the model considers reasonable and supportable economic forecasts to assess the collectability of future cash flows. While management uses the best information available to make its evaluation, future adjustments to the ACL-Loans may be necessary if there are significant changes in economic conditions (both current and forecast) or circumstances underlying the collectability of loans. Because each of the criteria used is subject to change, the allocation of the ACL-Loans is made for analytical purposes and is not necessarily indicative of the trend of future credit losses in any particular loan category. The ACL-Loans is available to absorb losses from any segment of the loan portfolio. Management believes the ACL-Loans is appropriate at December 31, 2023. The allowance analysis is reviewed by the board of directors on a quarterly basis.
Consolidated net income and stockholders' equity could be affected if management's estimate of the ACL-Loans necessary to cover expected credit losses is subsequently materially different, requiring a change in the level of provision for credit losses to be recorded. While management uses currently available information to recognize expected credit losses on loans, future adjustments to the ACL-Loans may be necessary based on newly received appraisals, updated commercial customer financial statements, rapidly deteriorating customer cash flow, and changes in economic conditions or forecasts that affect the Company's customers. As an integral part of their examination process, federal regulatory agencies also review the ACL-Loans. Such agencies may require additions to the ACL-Loans or may require that certain loan balances be charged-off or downgraded into classified loan categories when their credit evaluations differ from those of management based on their judgments about information available to them at the time of their examination.
Fair Value Measurements. The fair value of a financial instrument is defined as the amount at which the instrument could be exchanged in a current transaction between willing parties, other than in a forced or liquidation sale. We estimate the fair value of a financial instrument and any related asset impairment using a variety of valuation methods. Where financial instruments are actively traded and have quoted market prices, quoted market prices are used for fair value. When the financial instruments are not actively traded, other observable market inputs, such as quoted prices of securities with similar characteristics, may be used, if available, to determine fair value. When observable market prices do not exist, we estimate fair value. These estimates are subjective in nature and any imprecision in estimating these factors can impact the amount of gain or loss recorded. A more detailed description of the fair values measured at each level of the fair value hierarchy and the methodology utilized by us can be found in Note 15 of the notes to our audited consolidated financial statements titled “Fair Value.”
Deferred Tax Assets. We use the asset and liability method of accounting for income taxes. Under this method, deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. Deferred tax assets are reduced by a valuation allowance when it is more likely than not that some portion of the deferred tax asset will not be realized. We exercise significant judgment in evaluating the amount and timing of recognition of the resulting tax liabilities and assets. These judgments require us to make projections of future taxable income including consideration of applicable tax planning strategies. The judgments and estimates we make in determining our deferred tax assets, which are inherently subjective, weigh all positive and negative evidence and are reviewed on a regular basis as regulatory and business factors change. Any reduction in estimated future taxable income may require us to record a valuation allowance against our deferred tax assets.
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Comparison of Financial Condition at December 31, 2023 and December 31, 2022
Total Assets. Total assets increased $14.6 million, or 2.7%, to $557.6 million at December 31, 2023, from $543.0 million at December 31, 2022. The increase was primarily due to a $35.8 million increase in loans, net of deferred costs, partially offset by a $15.1 million decrease in cash and cash equivalents, a $4.9 million decrease in available-for-sale securities and a $2.2 million decrease in other assets.
Cash and Cash Equivalents. Cash and cash equivalents decreased $15.1 million, or 53.4%, to $13.2 million at December 31, 2023, from $28.3 million at December 31, 2022. This decrease was primarily due to $109.0 million in principal payments on FHLB advances, the purchase of $50.3 million in available-for-sale securities, a $35.7 million increase in loans and the origination of $12.4 million in mortgage loans held for sale. These decreases were partially offset by $108.5 million in proceeds from FHLB advances, $44.4 million from proceeds from sales of available-for-sale securities, a $16.0 million increase in deposits, $12.5 million from maturities and payments on available-for-sale securities and $12.1 million from the sale of mortgage loans held for sale.
Available-for-Sale Securities. Available-for-sale securities decreased $4.9 million, or 4.3%, to $109.6 million at December 31, 2023, from $114.5 million at December 31, 2022. The decrease was primarily due to the sale of $44.4 million of available-for-sale securities, maturities, prepayments and calls of securities totaling $12.5 million and a $4.5 million net loss on the sale of available-for-sale securities. These decreases were partially offset by the purchase of $50.3 million in available-for-sale securities and a $6.2 million decrease in the unrealized loss on securities held within the portfolio.
During the third quarter of 2023, the Company completed its first balance sheet repositioning strategy related to its investment portfolio. This strategy included the sale of $21.4 million in book value of its lower-yielding U.S. Treasury securities. Proceeds from the sale were used to purchase $21.4 million of U.S. government sponsored mortgage-backed securities, which were classified as available-for-sale upon purchase. The purchased securities have a positive spread differential of approximately 456 basis points compared to the securities that were sold, which is anticipated to result in approximately $1.0 million in additional pre-tax earnings, on an annualized basis. The pre-tax loss on the sale of securities was $1.9 million, which the Company estimates will be recouped within approximately two years. The effective duration of the securities sold was 2.8 years, while the effective duration of the securities purchased is 1.7 years.
During the fourth quarter of 2023, the Company completed its second balance sheet repositioning strategy related to its investment portfolio. This strategy included the sale of $27.5 million in book value of its lower-yielding investment securities. Proceeds from the sale were used to purchase approximately $28.9 million of U.S. government sponsored mortgage-backed securities, which were classified as available-for-sale upon purchase. The purchased securities have a positive spread differential of approximately 343 basis points compared to the securities that were sold, which is anticipated to result in approximately $1.0 million in additional pre-tax earnings, on an annualized basis. The pre-tax loss on the sale of securities was $2.6 million, which the Company estimates will be recouped within approximately 2.8 years. The effective duration of the securities sold was 3.6 years, while the effective duration of the securities purchased is 2.0 years.
Loans Held for Sale. Loans held for sale increased $579,000, or 463.2%, from $125,000 at December 31, 2022 to $704,000 at December 31, 2023. The increase was primarily due to the timing of loans originated as compared to the timing of loan sales. The volume of loans originated and sold continued to decline and remained relatively low during 2023, as a result of the higher interest rate environment and lower inventory of housing available in our market. Mortgage loan originations and sales were $12.4 million and $12.1 million, respectively, during 2023 compared to $21.9 million and $23.6 million, respectively, in 2022.
Net loans. Loans held for investment, net of deferred costs, increased $35.8 million, or 9.9%, to $398.6 million at December 31, 2023 from $362.8 million at December 31, 2022. The majority of this growth was the result of a $21.0 million, or 10.0%, increase in commercial real estate loans, to $231.9 million, a $12.3 million, or 14.4%, increase in first mortgage residential real estate loans to $97.7 million and a $4.2 million, or 9.6%, increase in non-real estate commercial loans to $47.9 million. The growth in the level of commercial real estate and other commercial loans is consistent with the Company’s long-term loan strategy to increase these types of loans within our portfolio. The Company also purchases loan participations from other financial institutions. The outstanding balance of loans purchased are included in the totals above and totaled $34.8 million as of December 31, 2023 and $31.6 million as of December 31, 2022. In addition, the amount available for future draws on these loans totaled $30.7 million at December 31, 2023. Loans purchased are primarily comprised of commercial real estate and other commercial loans. The increase in first mortgage loans is primarily due to an increase in adjustable rate mortgages, as a result of the current interest rate environment, which resulted in higher interest rates on fixed rate mortgages.
Allowance for Credit Losses. On January 1, 2023, the Company adopted ASU 2016-13 which replaced the incurred loss methodology, which was previously used to calculate the allowance for loan losses, with an expected lifetime loss methodology ("CECL"), as described in Note 1 to the Consolidated Financial Statements. The adoption of ASU 2016-13 resulted in an initial increase of $412,000 to the allowance for credit losses for loans ("ACL for loans") and the establishment of a $665,000 allowance for credit losses for unfunded loan commitments ("ACL for unfunded loan commitments"). The ACL for loans is included as a separate line item on the Company's Consolidated Balance
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Sheets and the ACL for unfunded loan commitments is included in other liabilities. The total allowance for credit losses was $4.6 million at December 31, 2023.
The ACL for loans was $3.7 million, or 0.94%, of loans, net of deferred costs, at December 31, 2023 compared to an allowance for credit losses of $3.2 million, or 0.89% of loans, net of deferred costs, at December 31, 2022. The increase in the ACL for loans was primarily the result of the $412,000 increase related to the adoption of ASU 2016-13, a $90,000 provision for credit losses and $29,000 in net recoveries. The ACL for unfunded loan commitments was $875,000 at December 31, 2023. The increase in the ACL for unfunded loan commitments was primarily the result of the $665,000 increase related to the adoption of ASU 2016-13 and a $210,000 provision for credit losses. The additional provision was due to a $6.2 million increase in unfunded loan commitments which are expected to fund, from $41.1 million at December 31, 2022 to $47.3 million at December 31, 2023. Nonaccrual loans represented 0.28% of total loans at December 31, 2023, compared to 0.21% of total loans at December 31, 2022. Net recoveries for the year ended December 31, 2023 were $29,000 compared to net recoveries of $123,000 for the year ended December 31, 2022.
Other Assets. Other assets decreased $2.2 million, or 19.6%, to $9.0 million at December 31, 2023, from $11.2 million at December 31, 2022. This decrease was primarily due to a $1.4 million decrease in net deferred tax assets, primarily a result of changes in Wisconsin tax law in July 2023 and a $590,000 decrease in other real estate owned as a result of the sale of the former branch facility in West Allis, Wisconsin.
FHLB Stock. FHLB stock increased $800,000, or 23.5%, from $3.4 million at December 31, 2022 to $4.2 million at December 31, 2023. This increase was primarily due to the requirement by the FHLB to hold additional stock, relative to the level of advances.
Deposits. Deposits increased $16.0 million, or 4.1%, to $403.7 million at December 31, 2023, from $387.7 million at December 31, 2022. This increase was primarily due to a $81.6 million increase in certificates of deposit, partially offset by a $32.5 million decrease in money market deposits, a $14.0 million decrease in non-interest bearing checking deposits, a $3.6 million decrease in interest bearing checking deposits and a $15.5 million decrease in statement savings deposits. As market interest rates have increased, there has been a shift in our deposit mix from noninterest bearing checking accounts, negotiable order of withdrawal ("NOW") accounts, savings accounts and money market accounts into higher rate certificates of deposits as customers sought higher yields on their funds. The decrease in noninterest bearing and money market deposits was also partially due to the use of these funds by our commercial customers to fund their operations, as their borrowing cost have increased during the current interest rate environment.
FHLB Advances. Borrowings, consisting entirely of FHLB advances, decreased $457,000, or 0.6%, to $71.0 million at December 31, 2023, from $71.5 million at December 31, 2022. The Company utilizes FHLB advances to partially fund loan growth. During 2023, the Company borrowed an additional $108.5 million in FHLB advances, which were offset by $109.0 million in maturities of and principal payments on outstanding FHLB advances.
Total Equity. Total equity decreased $2.6 million, or 3.4%, to $72.8 million at December 31, 2023, from $75.4 million at December 31, 2022. The decrease was primarily due to a net loss of $6.8 million, a $783,000 adjustment related to the adoption of ASU 2016-13 and the purchase of shares under the Company's stock repurchase plans in the amount of $702,000. These decreases were partially offset by a $4.9 million increase in accumulated other comprehensive income and $678,000 in stock compensation expense. The increase in accumulated other comprehensive income was primarily the result of the decrease in the unrealized loss on available-for-sale securities less realized losses on sale of available-for-sale securities, both net of taxes.
Comparison of Operating Results for the Years Ended December 31, 2023 and December 31, 2022
Net Income. We recorded a net loss of $6.8 million for the year ended December 31, 2023, which represented a decrease of $6.7 million from a net loss of $148,000 for the year ended December 31, 2022. This decrease was primarily the result of a $3.1 million decrease in noninterest income, a $2.1 million decrease in net interest income, a $763,000 increase in noninterest expense and a $559,000 increase in income tax expense.
Interest and Dividend Income. Interest and dividend income increased $4.5 million, or 27.4%, to $20.9 million for the year ended December 31, 2023, from $16.4 million for the year ended December 31, 2022. The increase was due primarily to a $3.4 million increase in interest income on loans, which increased from $13.6 million in 2022 to $17.0 million in 2023. The increase in interest income on loans was primarily due to a 56 basis point increase in the yield earned on loans, from 3.93% in 2022 to 4.49% in 2023 and a $33.0 million increase in the average amount of loans outstanding, from $346.0 million in 2022 to $379.0 million in 2023. The increase in the yield earned on loans was primarily due to the increase in market rates. The increase in the average balance of loans is consistent with the Company's strategy to grow the loan portfolio.
Average interest-earning assets increased $4.6 million, or 0.9%, to $506.7 million for the year ended December 31, 2023, from $502.1 million for the year ended December 31, 2022. The weighted average yield on interest-earning assets increased 85 basis points, to 4.12% for 2023, from 3.27% for 2022.
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Interest Expense. Interest expense increased $6.5 million, or 325.0%, to $8.5 million for the year ended December 31, 2023, from $2.0 million for the year ended December 31, 2022. This increase was primarily due to a $5.2 million increase in interest expense on deposits and a $1.3 million increase in interest expense on FHLB advances. The increase in interest expense on deposits was primarily due to an increase in the average cost of deposits of 172 basis points, from 0.40% in 2022 to 2.12% in 2023 and a $20.0 million increase in average interest-bearing deposits outstanding. The increase in interest expense on deposits was primarily due to the increase in market rates of interest and a shift in our deposit mix. As market rates increased, we experienced a decrease in noninterest bearing checking accounts and lower rate deposit accounts and an increase in higher rate certificates of deposit. From 2022 to 2023, the average balance of noninterest bearing checking accounts decreased $28.7 million, or 27.2%, NOW accounts decreased $4.8 million, or 13.6% and savings accounts decreased $14.3 million, or 21.4%. During the same period, the average balance of certificates of deposits increased $37.0 million, or 45.9% and money market accounts increased $2.1 million, or 2.2%. Interest expense on certificates of deposit increased $3.6 million from 2022 to 2023 as a result of the increase in average balance and also a 287 basis point increase in the average rate paid. Interest expense on money market accounts increased $1.4 million from 2022 to 2023 as a result of the increase in average balance and also a 147 basis point increase in the average rate paid.
Interest expense on FHLB advances increased $1.3 million, or 154.0%, from $866,000 in 2022 to $2.2 million in 2023. This increase was primarily due to a 126 basis point increase in the average rate paid on the advances from 1.46% in 2022 to 2.72% in 2023 and a $21.2 million, or 35.6%, increase in the average balance outstanding, from $59.5 million in 2022 to $80.7 million in 2023. The increase in the average rate paid on FHLB advances was primarily due to the increase in market interest rates.
Net Interest Income. Net interest income decreased $2.1 million, or 14.6%, from $14.4 million for the year ended December 31, 2022 to $12.3 million for the year ended December 31, 2023. The decrease was the result of a $6.5 million increase in interest expense, partially offset by a $4.5 million increase in interest and dividend income. Our net interest spread decreased 78 basis points from 2.69% in 2022 to 1.91% in 2023. Our net interest margin decreased 45 basis points from 2.88% in 2022 to 2.43% in 2023.
Provision for Credit Losses. The provision for credit losses was $300,000 for 2023, compared to a $222,000 provision for 2022. The increase in provision was primarily due to continued growth in the loan portfolio and an increase in unfunded loan commitments.
Noninterest Income. Noninterest income decreased $3.1 million, or 182.4%, from $1.7 million for 2022 to ($1.4 million) for 2023. The decrease was primarily the result of a $4.5 million loss on the sale of available-for-sale securities. The loss on sale of securities was the result of the implementation of the Company's balance sheet repositioning strategies which were executed in the third and fourth quarters of 2023. During the third quarter of 2023, the Company completed its first balance sheet repositioning strategy related to its investment portfolio. This strategy included the sale of $21.4 million in book value of its lower-yielding U.S. Treasury securities. Proceeds from the sale was used to purchase $21.4 million of U.S. government sponsored mortgage-backed securities, which were classified as available-for-sale upon purchase. The purchased securities have a positive spread differential of approximately 456 basis points compared to the securities that were sold, which is expected to result in approximately $1.0 million in additional pre-tax earnings, on an annualized basis. The pre-tax loss on the sale of securities was $1.9 million, which the Company estimates will be recouped within approximately two years. The effective duration of the securities sold was 2.8 years, while the effective duration of the securities purchased is 1.7 years.During the fourth quarter of 2023, the Company completed its second balance sheet repositioning strategy related to its investment portfolio. This strategy included the sale of $27.5 million in book value of its lower-yielding available-for-sale securities. Proceeds were used to purchase approximately $28.9 million of U.S. government sponsored mortgage-backed securities, which were classified as available-for-sale upon purchase. The purchased securities have a positive spread differential of approximately 343 basis points compared to the securities that were sold, which is expected to result in approximately $1.0 million in additional pre-tax earnings, on an annualized basis. The pre-tax loss on the sale of securities was $2.6 million, which the Company estimates will be recouped within approximately 2.8 years. The effective duration of the securities sold was 3.6 years, while the effective duration of the securities purchased is 2.0 years.
This decrease was partially offset by a $1.4 million increase in income (loss) associated with changes in the market value of equity securities, from an unrealized loss of $714,000 in 2022, to an unrealized gain of $663,000 in 2023. The increase in the market value of marketable equity securities was due to an increase in the market value of mutual funds held in our deferred compensation plan. We record an offsetting amount for the change in the market of equity securities in noninterest expense. Also offsetting the decrease, was a $220,000 increase in other noninterest income. This increase was primarily due to the $110,000 gain on the sale of the West Allis facility and a $157,000 gain from the collection of benefits from a bank owned life insurance policy.
Noninterest Expense. Noninterest expense increased $700,000, or 4.3%, from $16.3 million in 2022 to $17.0 million in 2023. This increase was primarily due to a $1.4 million increase in the market value of mutual funds held in our deferred compensation plan. We record an offsetting amount for the change in the market of equity securities in noninterest income. This increase was partially offset by a $347,000 decrease in salaries and employee benefits, a $227,000 decrease in other noninterest expenses and a $168,000 decrease in occupancy and equipment expense. The decrease in these expenses are primarily due to cost savings initiatives implemented by the Company.
The Company has taken a number of cost savings initiatives to reduce salary and benefits related expenses. In April 2023, a reduction-in-force ("RIF") was implemented which resulted in the termination of five employees and a $575,000 reduction in annual salaries and benefits expense. Severance costs related to the RIF were $418,000. As part of the RIF, we eliminated the majority of our IT staff and outsourced our network administration to an external third party. The projected annual cost for these IT related services is expected to be $257,000. In addition to the RIF, the Company continued its initiative to review all open positions prior to rehiring. As a result of this
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initiative, we eliminated an additional ten full-time equivalent positions during 2023. The elimination of these ten positions is projected to result in a $1.0 million reduction in salaries and benefits expense, on an annual basis, for a total reduction of $1.6 million, including the RIF. In addition, we significantly adjusted our bonus program for 2023 (paid in 2024), which resulted in a $613,000 reduction in salaries and benefits expense for 2023. This included the elimination of projected bonuses for our three executive officers as well as a reduction in bonuses for other positions. The positive impact of these cost savings initiatives was offset by the $418,000 in severance costs related to the RIF, a $315,000 increase in stock-based compensation expense and $163,000 related to the buyout of the employment agreement of the Company's former Executive Vice President, which eliminated future payment obligations under the agreement. The increase in stock based compensation expense was primarily due to the issuance of stock options and awards granted in the third quarter of 2022 under the 2022 Equity Incentive Plan.
The reduction in noninterest expenses was also primarily due to cost savings initiatives by the Company, including a $211,000 reduction in professional and consulting services and a $55,000 reduction in insurance expense.
Income Tax (Benefit) Expense. Income tax expense (benefit) was $388,000 for the year ended December 31, 2023 and ($171,000) for the year ended December 31, 2022.
The increase in tax expense was primarily due to the enactment of 2023 Wisconsin Act 19 (the "Act"), on July 5, 2023, by the Wisconsin legislature. The Act contains a provision that provides financial institutions with a state tax-exemption for interest, fees and penalties earned on qualifying loans. For the exemption to apply, the loan must be $5 million or less, for primarily a business or agricultural purpose, and made to borrowers residing or located in Wisconsin. The exemption first applies to taxable years beginning after December 31, 2022, and applies to loans on the books as of January 1, 2023 and to new loans made after January 1, 2023, that meet the qualifications. As a result of this provision, the Company reversed $98,000 in income tax benefits which had been recorded during the first two quarters of 2023 and increased the valuation allowance for deferred tax assets by $1.8 million, resulting in a one-time $1.9 million increase in tax expense in the third quarter of 2023. The Company also anticipates that its Wisconsin state taxable income will be significantly reduced and/or eliminated in the future as a result of this provision.
Deferred tax assets are deferred tax consequences attributable to deductible temporary differences and carryforwards. After the deferred tax asset has been measured using the applicable enacted tax rate and provisions of the enacted tax law, it is then necessary to assess the need for a valuation allowance. A valuation allowance is needed when, based on the weight of the available positive and negative evidence, it is more likely than not that some portion of the deferred asset will not be realized. As required by generally accepted accounting principles, available evidence is weighted heavily on cumulative losses, with less weight placed on future projected profitability. Realization of the deferred tax asset is dependent on whether there will be sufficient future taxable income, including available tax strategies of the appropriate character in the period during which deductible temporary differences reverse or within the carryforward periods available under tax law.
The Company has federal loss carryforwards of approximately $16.2 million as of December 31, 2023. Of this amount, $8.3 million represents tax loss carryforwards which have an indefinite carryforward period due to the Tax Cuts and Jobs Act of 2017. The remaining $7.9 million of losses begin to expire in 2030. The Company also has $515,000 of charitable contribution carryforwards that may be applied against future taxable income and begin to expire in 2024.
The Company had an ownership change during 2021 which resulted in an annual limitation on the future utilization of both Federal and Wisconsin net operating loss (NOL) carryforwards.
The Company has state net operating loss carryforwards totaling approximately $33.0 million as of December 31, 2023, that may be applied against future state taxable income and begin to expire in 2024. The Company also has $518,000 of charitable contribution carryforwards that may be applied against future taxable income which begin to expire in 2024.
Management assesses the available positive and negative evidence to estimate whether sufficient future taxable income will be generated to permit realization of the existing deferred tax assets. Such objective historical evidence limits the ability to consider projections for future growth as subjective evidence.
On the basis of this evaluation, as of December 31, 2023 and December 31, 2022, a valuation allowance of $3.1 million and $934,000, respectively, has been recorded to recognize only the portion of the deferred tax asset that is more likely than not to be realized, reducing our net deferred tax assets to $6.9 million and $8.3 million, at each respective date. The increase in the valuation allowance was primarily due to the Act. The amount of the deferred tax asset considered realizable, however, could be adjusted if estimates of future taxable income during the carryforward period are reduced or increased or if objective negative evidence is no longer present and additional weight is given to subjective evidence such as our projections for growth.
47
Average Balances and Yields. The following tables sets forth average balance sheets, average yields and costs, and certain other information at and for the periods indicated. No tax-equivalent yield adjustments were made, as the effect thereof was not material. All average balances are daily average balances. Non-accrual loans were included in the computation of average balances, but have been reflected in the table as loans carrying a zero yield. The yields set forth below include the effect of deferred fees, discounts and premiums that are amortized or accreted to interest income or interest expense.
Year Ended December 31,
(Dollars in thousands)
Interest-earning assets:
Interest-earning liabilities:
Other non-interest-bearing liabilities 7,771 6,620
Total liabilities and stockholders’ equity $ 543,203 $ 537,603
Interest rate spread(2) 1.91 % 2.69 %
Net interest margin(3) 2.43 % 2.88 %
(1)
Includes net loan fees of ($47,000) for 2023 and $434,000 for 2022.
(2)
Interest rate spread represents the difference between the weighted average yield on interest-earning assets and the weighted average rate of interest-bearing liabilities.
(3)
Net interest margin represents net interest income divided by average total interest-earning assets.
48
Rate/Volume Analysis
The following table presents the effects of changing rates and volumes on our net interest income for the periods indicated. The rate column shows the effects attributable to changes in rate (changes in average rate multiplied by prior volume). The volume column shows the effects attributable to changes in volume (changes in volume multiplied by prior period average rate). The total column represents the sum of the prior columns. For purposes of this table, changes attributable to both rate and volume, which cannot be segregated, have been allocated proportionately, based on the changes due to rate and the changes due to volume. There were no out-of-period items or adjustments included within the following table.
Increase (Decrease) Due to
Volume Rate TotalIncrease(Decrease)
(Dollars in thousands)
Interest-earning assets:
Interest-bearing liabilities:
Total interest-bearing deposits (287 ) (4,943 ) (5,230 )
Other — 4 4
Total interest-bearing liabilities (674 ) (5,879 ) (6,553 )
Change in net interest income $ 348 $ (2,484 ) $ (2,136 )
Management of Market Risk
General. Our most significant form of market risk is interest rate risk because, as a financial institution, the majority of our assets and liabilities are sensitive to changes in interest rates. Therefore, a principal part of our operations is to manage interest rate risk and limit the exposure of our financial condition and results of operations to changes in market interest rates. Our Asset/Liability Committee is responsible for evaluating the interest rate risk inherent in our assets and liabilities, for determining the level of risk that is appropriate, given our business strategy, operating environment, capital, liquidity and performance objectives, and for managing this risk consistent with the policy and guidelines approved by our board of directors.
Our asset/liability management strategy attempts to manage the impact of changes in interest rates on net interest income, our primary source of earnings. Among the techniques we use to manage interest rate risk are:
•
originating commercial real estate and commercial loans, which tend to have shorter terms and higher interest rates than owner occupied one- to four-family residential real estate loans, and which generate customer relationships that can result in larger non-interest-bearing checking accounts;
•
selling substantially all of our conforming and eligible jumbo, longer-term, fixed-rate one- to four-family residential real estate loans and retaining the non-conforming and shorter-term, fixed-rate and adjustable-rate one- to four-family residential real estate loans that we originate, subject to market conditions and periodic review of our asset/liability management needs; and
•
reducing our dependence on jumbo and brokered certificates of deposit to support lending and investment activities and increasing our reliance on core deposits, including checking accounts and savings accounts, which are less interest rate sensitive than certificates of deposit.
Our board of directors is responsible for the review and oversight of our executive management team and other essential operational staff which are responsible for our asset/liability analysis. These officers act as an Asset/Liability Committee and are charged with developing and implementing an asset/liability management plan. The committee meets at least quarterly to review pricing and liquidity needs and assess our interest rate risk. We currently utilize a third-party modeling program, prepared on a quarterly basis, to evaluate our sensitivity to changing interest rates, given our business strategy, operating environment, capital, liquidity and performance objectives, and for managing this risk consistent with the guidelines approved by the board of directors.
49
We do not engage in material hedging activities, such as engaging in futures, options or swap transactions, or investing in high-risk mortgage derivatives, such as collateralized mortgage obligation residual interests, real estate mortgage investment conduit residual interests or stripped mortgage-backed securities.
The table below sets forth, as of December 31, 2023, the calculation of the estimated changes in our net interest income that would result from the designated immediate changes in the U.S. Treasury yield curve
(Dollars in thousands)
(1)
Assumes an immediate uniform change in interest rates at all maturities.
Economic Value of Equity. We also monitor interest rate risk through the use of a simulation model that estimates the amounts by which the fair value of our assets and liabilities (our economic value of equity or “EVE”) would change in the event of a range of assumed changes in market interest rates. The quarterly reports developed in the simulation model assist us in identifying, measuring, monitoring and controlling interest rate risk to ensure compliance within our policy guidelines.
The table below sets forth, as of December 31, 2023, the estimated changes in our EVE that would result from the designated instantaneous changes in market interest rates. Computations of prospective effects of hypothetical interest rate changes are based on numerous assumptions including relative levels of market interest rates, loan prepayments and deposit decay, and should not be relied upon as indicative of actual results.
Estimated Increase (Decrease) in EVE
Basis Point (“bp”) Change in Interest Rates(1) Estimated EVE(2) Amount Percent
(Dollars in thousands)
(1)
Assumes an instantaneous uniform change in interest rates at all maturities.
(2)
EVE is the discounted present value of expected cash flows from assets, liabilities and off-balance sheet contracts.
Certain shortcomings are inherent in the methodology used in the above interest rate risk measurement. Modeling changes in EVE requires making certain assumptions that may or may not reflect the manner in which actual yields and costs respond to changes in market interest rates. In this regard, the EVE table presented assumes that the composition of our interest-sensitive assets and liabilities existing at the beginning of a period remains constant over the period being measured and assumes that a particular change in interest rates is reflected uniformly across the yield curve regardless of the duration or repricing of specific assets and liabilities. Accordingly, although the EVE table provides an indication of our interest rate risk exposure at a particular point in time, such measurements are not intended to and do not provide a precise forecast of the effect of changes in market interest rates on EVE and will differ from actual results.
The table above indicates that at December 31, 2023, in the event of a 100-basis point increase in interest rates, we would have experienced a 3.35% decrease in our EVE and in the event of a 100-basis point decrease in interest rates, we would have experienced a 3.53% increase in our EVE. In the event of a 200-basis point increase in interest rates at December 31, 2023, we would have
50
experienced a 6.35% decrease in our EVE and in the event of a 200-basis point decrease in interest rates, we would have experienced a 6.18% increase in our EVE.
EVE calculations also may not reflect the fair values of financial instruments. For example, decreases in market interest rates can increase the fair values of our loans, deposits and borrowings.
Liquidity and Capital Resources
Liquidity. Liquidity describes our ability to meet the financial obligations that arise in the ordinary course of business. Liquidity is primarily needed to meet the borrowing and deposit withdrawal requirements of our customers and to fund current and planned expenditures. Our primary sources of funds are deposits, FHLB advances, principal and interest payments on loans and securities, proceeds from the sale of loans, and proceeds from maturities of securities. At December 31, 2023, we had $71.0 million in advances outstanding, and had additional borrowing capacity of $100.9 million, from the Federal Home Loan Bank of Chicago, based on the level of qualifying collateral currently pledged to the FHLB. Additionally, at December 31, 2023, we had a $12.0 million federal funds line of credit with the BMO Harris Bank, none of which was drawn at December 31, 2023. We also had a $9.5 million line of credit at the Federal Reserve based on pledged commercial real estate loans of approximately $12.4 million at December 31, 2023. We had not drawn on the Federal Reserve line as of December 31, 2023.
While maturities and scheduled amortization of loans and securities are predictable sources of funds, deposit flows and loan prepayments are greatly influenced by general interest rates, economic conditions, and competition. Our most liquid assets are cash and cash equivalents and available-for-sale investment securities. The levels of these assets are dependent on our operating, financing, lending, and investing activities during any given period.
Our cash flows are comprised of three primary classifications: cash flows from operating activities, investing activities, and financing activities. Net cash used in operating activities was $709,000 for the year ended December 31, 2023, as compared to $2.6 million net cash provided by operating activities for the year ended December 31, 2022. Net cash used in operating activities for the year ended December 31, 2023 primarily consisted of the origination of $12.4 million in mortgage loans held for sale and a net loss of $6.8 million, partially offset by $12.1 million in proceeds from the sale of mortgage loans held for sale and a $4.5 million net loss on the sale of available-for-sale securities. Net cash provided by operating activities for the year ended December 31, 2022 primarily consisted of $23.6 million in proceeds from the sale of mortgage loans held for sale, partially offset by $21.9 million in originations of mortgage loans held for sale. Net cash used in investing activities was $29.3 million for the year ended December 31, 2023, as compared to $55.1 million for the year ended December 31, 2022. Net cash used in investment activities during the year ended December 31, 2023 consisted primarily of a $35.7 million net increase in loans and $50.3 million for the purchase of available-for-sale securities, partially offset by $44.4 million from proceeds from the sale of available-for-sale securities and $12.5 million from maturities, calls and payments on available-for-sale securities. Net cash used in investment activities during the year ended December 31, 2022 consisted primarily of the purchase of $37.1 million of available-for-sale securities and a $36.3 million net increase in loans, partially offset by $19.0 million from maturities, calls and payments on available-for-sale securities. Net cash provided by financing activities was $14.9 million for the year ended December 31, 2023, as compared to $14.1 million for the year ended December 31, 2022. Net cash provided by financing activities for the year ended December 31, 2023 primarily resulted from borrowings of $108.5 million of FHLB advances and a $16.0 million increase in deposits, partially offset by $109.0 million in principal payments on FHLB advances. Net cash provided by financing activities for the year ended December 31, 2022 primarily resulted from borrowings of $37.0 million of FHLB advances and a $3.2 million increase in deposits, partially offset by $21.0 million in principal payments on FHLB advances, $3.2 million to repurchase the company's common stock and $1.1 million to purchase additional shares for the company's ESOP.
We are committed to maintaining a strong liquidity position. We monitor our liquidity position on a daily basis. We anticipate that we will have sufficient funds to meet our current funding commitments based on our current strategy to increase core deposits along with the continued use of FHLB advances as well as brokered certificates of deposits, as needed.
Capital. At December 31, 2023, PyraMax Bank exceeded all regulatory capital requirements with total risk-based capital of $67.7 million, or 16.2% of adjusted total assets, which is above the well-capitalized required level of $41.7 million, or 10.0%. The Bank had tier 1 leverage capital of $63.1 million, or 11.2% of adjusted total assets, which is above the well-capitalized required level of $28.2 million, or 5.0%. Management is not aware of any conditions or events since December 31, 2023 that would have changed our regulatory capital classification of well-capitalized. For additional information, see Note 16 of the Notes to the Financial Statements.
Off-Balance Sheet Arrangements and Contractual Obligations
Commitments.As a financial services provider, we routinely are a party to various financial instruments with off-balance-sheet risks, such as commitments to extend credit and unused lines of credit. While these contractual obligations represent our potential future cash requirements, a significant portion of commitments to extend credit may expire without being drawn upon. Such commitments are subject to the same credit policies and approval process accorded to loans we make. For additional information, see Note 11 of the Notes to the Financial Statements.
51
Contractual Obligations. In the ordinary course of our operations, we enter into certain contractual obligations. Such obligations include operating leases for premises and equipment, agreements with respect to borrowings and deposits, and agreements with respect to securities.
Recent Accounting Pronouncements
For a discussion of the impact of recent accounting pronouncements, see Note 1 of the notes to our financial statements.
Impact of Inflation and Changing Prices
The financial statements and related data presented herein have been prepared in accordance with U.S. GAAP which require the measurement of financial position and operating results in terms of historical dollars without considering changes in the relative purchasing power of money over time due to inflation. The primary impact of inflation on our operations is reflected in increased operating costs. Unlike most industrial companies, virtually all of the assets and liabilities of a financial institution are monetary in nature. As a result, interest rates, generally, have a more significant impact on a financial institution’s performance than does inflation. Interest rates do not necessarily move in the same direction or to the same extent as the prices of goods and services.
ITEM 7A. Quantitative and Qualitative Disclosures about Market Risk
For information regarding market risk, see “Item 7. Management’s Discussion and Analysis.”
ITEM 8. Financial Statements and Supplementary Data
The Company’s Consolidated Financial Statements are presented in this Annual Report on Form 10-K beginning at page F-1.
ITEM 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure
None.
ITEM 9A. Controls and Procedures
(a) An evaluation was performed under the supervision and with the participation of the Company’s management, including the Chief Executive Officer and the Chief Financial Officer, of the effectiveness of the design and operation of the Company’s disclosure controls and procedures (as defined in Rule 13a-15(e) promulgated under the Securities and Exchange Act of 1934, as amended) as of December 31, 2023. Based on that evaluation, the Company’s management, including the Chief Executive Officer and the Chief Financial Officer, concluded that the Company’s disclosure controls and procedures were effective.
(b) The Bank’s management is responsible for establishing and maintaining effective internal control over financial reporting, as such term is defined in Exchange Act Rule 13a-15(f). Under the supervision and with the participation of the Company’s management, including the Chief Executive Officer and Chief Financial Officer, the Bank conducted an evaluation of the effectiveness of internal control over financial reporting based on criteria established in “Internal Control — Integrated Framework (2013)” issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). Based on this assessment, management concluded that the Bank’s system on internal control over financial reporting was effective and met the criteria of the “Internal Control — Integrated Framework (2013)” as of December 31, 2023.
Changes in Internal Control over Financial Reporting
During the quarter ended December 31, 2023, there were no changes in the Company’s internal control over financial reporting (as defined in Rules 13a-15(f) and 15-d15(f) under the Exchange Act) that have materially affected, or are reasonably likely to materially affect, the Company’s internal controls over financial reporting.
ITEM 9B. Other Information
During the fourth quarter of 2023, none of our directors or officers adopted or terminated any contract, instruction or written plan for the purchase or sale of the Corporation’s securities that was intended to satisfy the affirmative defense conditions of Rule 10b5-1(c) or any “non-Rule 10b5-1 trading arrangement,” as that term is used in SEC regulations.
ITEM 9C. Disclosure Regarding Foreign Jurisdictions that Prevent Inspections
None
52
PART III
ITEM 10. Directors, Executive Officers and Corporate Governance
The Company has adopted a Code of Ethics that applies to its principal executive officer, principal financial officer and principal accounting officer or controller or persons performing similar functions. A copy of the Code is available on the Company’s website at www.pyramaxbank.com under “Investor Relations – Governance Documents.”
The information required by this item is incorporated herein by reference to the Proxy Statement to be filed for the Annual Meeting of Stockholders to be held on May 31, 2024.
ITEM 11. Executive Compensation
The information required by this item is incorporated herein by reference to the Proxy Statement to be filed for the Annual Meeting of Stockholders to be held on May 31, 2024.
ITEM 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters
(a)
Securities Authorized for Issuance under Stock-Based Compensation Plans
Set forth below is information as of December 31, 2023 regarding the Company’s equity compensation plans that have been approved by shareholders. The Company has no equity-based benefit plans, other than its employee stock ownership plan, that were not approved by shareholders.
Equity compensation plans approved by shareholders 744,407 $ 8.30 65,837
(1)
No further grants will be made under the 2020 Equity Incentive Plan, which remains in existence solely for the purpose of administering outstanding grants thereunder. On December 31, 2023, 600,110 options were outstanding with a weighted average exercise price of $8.30 of which 229,818 were exercisable as of that date. On December 31, 2023, 144,297 restricted stock awards were nonvested with a weighted average grant date fair value of $8.95.
(b)
Security Ownership of Certain Beneficial Owners
The information required by this item is incorporated herein by reference to the Proxy Statement to be filed for the Annual Meeting of Stockholders to be held on May 31, 2024.
(c)
Security Ownership of Management
The information required by this item is incorporated herein by reference to the Proxy Statement to be filed for the Annual Meeting of Stockholders to be held on May 31, 2024.
(d)
Changes in Control
Management of the Company knows of no arrangements, including any pledge by any person of securities of the Company, the operation of which may at a subsequent date result in a change in control of the Company.
ITEM 13. Certain Relationships and Related Transactions and Director Independence
The information required by this item is incorporated herein by reference to the Proxy Statement to be filed for the Annual Meeting of Stockholders to be held on May 31, 2024.
ITEM 14. Principal Accountant Fees and Services
The information required by this item is incorporated herein by reference to the Proxy Statement to be filed for the Annual Meeting of Stockholders to be held on May 31, 2024.
53
PART IV
ITEM 15. Exhibits and Financial Statement Schedules
(a)(1) Financial Statements
The documents filed as a part of this Form 10-K are:
(A) Report of Independent Registered Public Accounting Firm
(B) Consolidated Balance Sheets as of December 31, 2023 and 2022
(G) Notes to Consolidated Financial Statements.
(a)(2) Financial Statement Schedules
54
(a)(3) Exhibits
21 Subsidiaries
23 Consent of Wipfli LLP (U.S. PCAOB Auditor Firm ID 344)
97 Clawback Policy
55
* Furnished, not filed
ITEM 16. Form 10-K Summary
None.
56
Signatures
Pursuant to the requirements of Section 13 of the Securities Exchange Act of 1934, the Company has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
1895 Bancorp of Wisconsin, Inc.
Date: March 29, 2024 By: /s/ David R. Ball
David R. BallChief Executive Officer(Duly Authorized Representative)
Pursuant to the requirements of the Securities Exchange of 1934, this report has been signed below by the following persons on behalf of the Registrant and in the capacities and on the dates indicated.
Signatures Title Date
/s/ David R. Ball President, Chief Executive Officer and Director March 29, 2024
David R. Ball (Principal Executive Officer)
/s/ Richard B. Hurd Richard B. Hurd Director March 29, 2024
Steven T. Klitzing
/s/ Darrell Francis Chairman of the Board March 29, 2024
Darrell Francis
Monica Baker
/s/ Clarence Harris Director March 29, 2024
Clarence Harris
/s/ Kristina Hill Director March 29, 2024
Kristina Hill
/s/ James Spiegelberg Director March 29, 2024
James Spiegelberg
/s/ John Talsky Director March 29, 2024
John Talsky
/s/ Gary Zenobi Director March 29, 2024
Gary Zenobi
57
Report of Independent Registered Public Accounting Firm
To the Shareholders and the Board of Directors of 1895 Bancorp of Wisconsin, Inc.
Greenfield, Wisconsin
Opinion on the Consolidated Financial Statements
We have audited the accompanying consolidated balance sheets of 1895 Bancorp of Wisconsin, Inc. and Subsidiary (the "Company") as of December 31, 2023 and 2022, and the related consolidated statements of operations, comprehensive loss, changes in stockholders’ equity, and cash flows, for each of the years then ended, and the related notes to the consolidated financial statements (collectively referred to as the "financial statements"). In our opinion, the financial statements present fairly, in all material respects, the financial position of the Company as of December 31, 2023 and 2022, and the results of its operations and its cash flows for the years then ended, in conformity with accounting principles generally accepted in the United States.
Basis for Opinion
These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on the Company's financial statements based on our audits. We are a public accounting firm registered with the Public Company Accounting Oversight Board (United States) ("PCAOB") and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.
We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audits to obtain reasonable assurance about whether the financial statements are free of material misstatement, whether due to error or fraud. The Company is not required to have, nor were we engaged to perform, an audit of its internal control over financial reporting. As part of our audits we are required to obtain an understanding of internal control over financial reporting but not for the purpose of expressing an opinion on the effectiveness of the Company’s internal control over financial reporting. Accordingly, we express no such opinion.
Our audits included performing procedures to assess the risks of material misstatement of the financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the financial statements. We believe that our audits provide a reasonable basis for our opinion.
/s/ Wipfli LLP
Wipfli LLP
We have served as the Company’s auditor since 2011.
Atlanta, Georgia
March 29, 2024
F-1
1895 BANCORP OF WISCONSIN, INC.
CONSOLIDATED BALANCE SHEETS
(In thousands, except share and per share data)
Assets
Marketable equity securities, stated at fair value 3,625 2,924
Allowance for credit losses for loans (3,734 ) (3,203 )
Mortgage servicing rights, net 1,720 1,860
Federal Home Loan Bank (FHLB) stock, at cost 4,164 3,429
Liabilities and Stockholders’ Equity
Advance payments by borrowers for taxes and insurance 1,233 1,029
Accumulated other comprehensive loss, net of income taxes (6,555 ) (11,491 )
TOTAL LIABILITIES AND STOCKHOLDERS’ EQUITY $ 557,607 $ 543,016
See accompanying notes to the consolidated financial statements.
F-2
1895 BANCORP OF WISCONSIN, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(In thousands, except share per share data)
Year endedDecember 31,
Interest and dividend income:
Interest expense:
Other interest-bearing funds 5 9
Provision for credit losses 300 222
Net interest income after provision for credit losses 12,011 14,225
Noninterest income:
Service charges and other fees 925 962
Net gain on sale of loans 190 310
Net loss on sale of securities (4,529 ) —
Increase in cash surrender value of insurance 432 424
Unrealized gain (loss) on marketable equity securities 663 (714 )
Noninterest expense:
Unrealized gain (loss) on marketable equity securities 663 (714 )
Advertising and promotions 163 184
Loss before income taxes (6,404 ) (319 )
Income tax expense (benefit) 388 (171 )
Loss per share:
Average common shares outstanding:
See accompanying notes to the consolidated financial statements.
(1) Diluted loss per share and average shares outstanding excludes all common shares as their effect is anti-dilutive.
F-3
1895 BANCORP OF WISCONSIN, INC.
CONSOLIDATED STATEMENTS OF COMPREHENSIVE LOSS
(In thousands)
Year endedDecember 31,
Other comprehensive income (loss):
Net realized losses on available-for-sale securities included in income 4,529 —
Other comprehensive income (loss) before tax effect 6,245 (15,935 )
Tax effect of other comprehensive income (loss) items (1,309 ) 4,302
Other comprehensive income (loss), net of tax 4,936 (11,633 )
See accompanying notes to the consolidated financial statements.
F-4
1895 BANCORP OF WISCONSIN, INC.
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS’ EQUITY
(In thousands)
Net loss — — — — (148 ) — (148 )
Other comprehensive loss — — — — — (11,633 ) (11,633 )
Reimbursement of stock offering costs — 2 — — — — 2
ESOP shares committed to be released (19,730 shares) — 13 187 — — — 200
Purchase and retirement of common stock — (81 ) — — — — (81 )
Restricted stock award grants 1 (1 ) — — — — —
Stock compensation expense — 363 — — — — 363
Transactional rounding — — — — 1 — 1
Other comprehensive income — — — — — 4,936 4,936
ESOP shares committed to be released (19,730 shares) — (58 ) 187 — — — 129
Sale of common stock by Rabbi Trust — — — 6 — — 6
Purchase and retirement of common stock — (91 ) — — — — (91 )
Stock options exercised (3,159 shares) — 19 — — — — 19
Stock compensation expense — 678 — — — — 678
Transactional rounding — — — — (1 ) — (1 )
See accompanying notes to the consolidated financial statements.
F-5
1895 BANCORP OF WISCONSIN, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands)
Year ended December 31,
Cash flows from operating activities
Adjustments to reconcile net loss to net cash from operating activities
Net amortization of investment securities 81 145
Provision for credit losses 300 222
Gain on sale of other real estate owned (110 ) —
Net change in fair value of marketable equity securities (663 ) 714
Net loss on sale of available for sale securities 4,529 —
Stock compensation expense 678 363
Deferred income tax expense (benefit) 388 (171 )
Originations of mortgage loans held for sale (12,445 ) (21,941 )
Proceeds from sales of mortgage loans held for sale 12,056 23,634
Net gain on sale of mortgage loans held for sale (190 ) (310 )
Net change in cash value of life insurance (432 ) (424 )
Changes in operating assets and liabilities
Net change in mortgage servicing rights 140 176
Accrued interest receivable and other assets 556 (520 )
Accrued interest payable and other liabilities 574 45
Net cash (used in) provided by operating activities (709 ) 2,585
Cash flows from investing activities
Proceeds from sales of available-for-sale securities 44,437 —
Purchases of available-for-sale securities (50,349 ) (37,138 )
Purchase of marketable equity securities (100 ) (94 )
Net increase in FHLB stock, net (735 ) (397 )
Proceeds from cash value life insurance death benefits 721 —
Proceeds from sale of other real estate owned 699 —
Distribution of marketable equity securities 68 —
Net capital expenditures for premises and equipment (812 ) (187 )
Net cash used in investing activities (29,320 ) (55,141 )
Cash flows from financing activities
Proceeds from the issuance of Federal Home Loan Bank advances 108,500 37,000
Principal payments on Federal Home Loan Bank advances (108,957 ) (20,978 )
Reimbursement of stock offering costs — 2
Stock options exercised 19
Repurchase and cancellation of common stock (702 ) (3,173 )
Purchase and retirement of common stock (91 ) (81 )
Purchases of ESOP shares — (1,062 )
Net cash provided by financing activities 14,935 14,097
Net decrease in cash and cash equivalents (15,094 ) (38,459 )
Cash and cash equivalents at beginning of period 28,344 66,803
Cash and cash equivalents at end of period $ 13,250 $ 28,344
Supplemental cash flow information
Cash paid during the year for interest $ 7,729 $ 1,809
Noncash activities
Loans transferred to held for sale — 325
Change in right-of-use lease asset and liability — 528
See accompanying notes to the consolidated financial statements.
F-6
1895 BANCORP OF WISCONSIN, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(In thousands)
NOTE 1 — Summary of Significant Accounting Policies
Organization
1895 Bancorp of Wisconsin, Inc., a Maryland corporation (the “Company”, “New 1895 Bancorp”) was formed to serve as the stock holding company for PyraMax Bank, FSB (the “Bank”) as part of the mutual-to-stock conversion of 1895 Bancorp of Wisconsin, MHC. Upon completion of the conversion, which occurred on July 14, 2021, 1895 Bancorp of Wisconsin, MHC and 1895 Bancorp of Wisconsin, a federal corporation (“Old 1895 Bancorp”) ceased to exist and New 1895 Bancorp became the successor corporation to Old 1895 Bancorp. The conversion was accomplished by the merger of 1895 Bancorp of Wisconsin, MHC with and into Old 1895 Bancorp followed by the merger of Old 1895 Bancorp with and into New 1895 Bancorp. The shares of New 1895 Bancorp common stock that were offered for sale in connection with the conversion represented the majority ownership interest in Old 1895 Bancorp owned by 1895 Bancorp of Wisconsin, MHC. On July 14, 2021, public stockholders of Old 1895 Bancorp received 1.3163 shares of common stock of New 1895 Bancorp in exchange for each of their shares of Old 1895 Bancorp. The shares of Old 1895 Bancorp common stock owned by 1895 Bancorp of Wisconsin, MHC were canceled at that time. The conversion and offering were completed on July 14, 2021, and New 1895 Bancorp was organized as a fully public stock holding company, with 100% of the common stock being held by the public. The audited consolidated financial statements and other financial information contained in these consolidated financial statements are for New 1895 Bancorp.
The cost of the reorganization and the issuing of the common stock totaling $2.0 million were deferred and deducted from the sales proceeds of the offering.
PyraMax Bank is a stock savings bank headquartered in Greenfield, Wisconsin. PyraMax Bank operates as a full-service financial institution, providing a full range of financial services, including the granting of commercial, residential, and consumer loans and acceptance of deposits from individual customers and small businesses in the metropolitan Milwaukee, Wisconsin, area. PyraMax Bank is subject to competition from other financial and nonfinancial institutions providing financial products. In addition, PyraMax Bank is subject to the regulations of certain regulatory agencies and undergoes periodic examination by those regulatory agencies.
Jumpstart Our Business Startups Act
On April 5, 2012, the Jumpstart Our Business Startups Act (the “JOBS Act”) was signed into law. The JOBS Act contains provisions that, among other things, reduce certain reporting requirements for qualifying public companies and define an “emerging growth company.” As an emerging growth company, the Company may delay adoption of new or revised financial accounting standards until such date that the standards are required to be adopted by non-issuer companies. If such standards would not apply to non-issuer companies, no deferral would be applicable. The Company intends to take advantage of the benefits of the extended transition periods allowed under the JOBS Act.
Accordingly, the Company’s financial statements may not be comparable to those of public companies that adopt new or revised financial accounting standards as of an earlier date. The effective dates of the recent accounting standards in Note 1 reflect those that relate to non-issuer companies.
Use of Estimates
In preparing consolidated financial statements in conformity with accounting principles generally accepted in the United States of America (“GAAP”), management is required to make estimates and assumptions that affect the reported amounts of assets and liabilities as of the date of the balance sheet and reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. Material estimates that are particularly susceptible to significant change in the near term relate to the determination of the allowance for credit losses, mortgage servicing rights, the fair values of financial instruments, and the valuation of deferred income tax assets.
Revenue Recognition
Accounting Standards Codification (“ASC”) Topic 606, Revenue from Contracts with Customers (Topic 606), established 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 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 the Company’s revenue-generating transactions are not subject to Topic 606, including all interest and dividend income generated from financial instruments. Certain noninterest income items, including loan servicing income, gain on sales of loans, gain on sales of securities, and other noninterest income have been evaluated to not fall within the scope of Topic 606. Elements of noninterest income that are within Topic 606 are as follows:
Fee income on deposit accounts – Revenue from fees charged on deposit accounts is earned through deposit-related services; as well as account maintenance and management, overdraft, non-sufficient funds and other deposit-related fees. Revenue is recognized
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(In thousands)
either over time, corresponding with the deposit accounts’ monthly cycle, or at a point in time when transactional based fees and services occur. The review of service charges assessed on deposit accounts included the amount of variable consideration that is a part of the monthly charges.
Sale of foreclosed assets – Revenue from the sale of foreclosed assets is recognized at a point in time when control of the promised asset transfers to the buyer. The Company uses the following indicators to determine when control of a promised asset has been transferred: the seller has a present right to payment for the asset; the buyer has legal title of the asset; the seller has transferred physical possession of the asset; the buyer has the significant risks and rewards of ownership of the asset; or the buyer has accepted the asset.
Merchant card arrangement fees – Customers use a Bank-issued debit or credit card to purchase goods and services, and the Company earns interchange fees on these transactions, typically a percentage of the sale amount of the transaction. The Company records the amount due when it receives the settlement from the payment network. Payments from the payment network are received and recorded into income on a daily basis. There are no contingent debit or credit card interchange fees recorded by the Company that could be subject to a clawback in future periods.
Cash and Cash Equivalents
For purposes of reporting cash flows, cash and cash equivalents include cash on hand, interest-bearing and non-interest-bearing accounts in other financial institutions, and federal funds sold, all of which have original maturities of three months or less.
Marketable Equity Securities
The Company holds marketable equity securities, which have a readily determinable fair value, and consist of mutual fund investments and common equity. These securities are recorded at fair value with unrealized gains and losses, due to change in fair value, reflected in noninterest income. Gains and losses on the sale of marketable equity securities are recorded on the trade date and determined using the specific-identification method. The portion of unrealized gains (losses) for the period related to marketable equity securities still held as of December 31, 2023 and 2022 was $663 and ($714), respectively.
Available-for-Sale Securities
Securities classified as available-for-sale are those securities that the Company intends to hold for an indefinite period of time, but not necessarily to maturity. Any decision to sell a security classified as available for sale would be based on various factors, including significant movements in interest rates, changes in the maturity mix of the Company’s assets and liabilities, liquidity needs, regulatory capital requirements, and other similar factors. Securities classified as available for sale are carried at fair value. Unrealized gains or losses are reported as increases or decreases in other comprehensive income (loss), net of the related deferred tax effect. Realized gains or losses, determined on the basis of the cost of specific securities sold, are included in earnings. Gains and losses on the sale of securities are recorded on the trade date and determined using the specific-identification method. Interest and dividends on available securities are recognized as income when earned. Amortization of premiums and accretion of discounts for noncallable securities are recognized in interest income using the interest method over the estimated lives of the securities. The estimated lives of callable securities are calculated using the first call date. The Company excludes accrued interest receivable from the amortized cost basis of securities available for sale when estimating credit losses and when presenting required disclosures in the financial statements. Accrued interest on securities available for sale totaling $473 and $382 at December 31, 2023 and 2022, respectively, was excluded from the amortized cost basis of securities available for sale. The accrual of interest on a security available for sale is discontinued when management believes the issuer will be unable to make payments as they become due. When securities are placed on nonaccrual status, all unpaid accrued interest is reversed against income. No accrued interest was written off during 2023 and 2022.
Credit Losses for Available-for-Sale Securities
For available-for-sale securities in an unrealized loss position, the Company first assesses whether it intends to sell, or it is more likely than not that it will be required to sell, the security before recovery of its amortized cost basis. If either of these criteria are met, the Company will write-down the security to fair value as a component of current period earnings. For available-for-sale securities that do not meet either of these criteria, the Company determines whether the decline is value has resulted from credit losses or other factors. This evaluation takes into consideration current market conditions, issuer rating changes and trends, the credit worthiness of the obligator of the security, current analysts’ evaluations, and failure of the issuer to make scheduled interest or principal payments. If the Company determines a credit loss exists, the present value of cash flows expected to be collected are compared to the amortized cost of the security. If the present value of cash flows expected to be collected are less than the amortized cost, an allowance for credit losses is recorded, which is limited by the amount the fair value is less than the amortized cost basis. Any impairment that is not recorded through an allowance for credit losses is recognized in other comprehensive income (loss).
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(In thousands)
Loans Held for Sale
Loans originated and intended for sale in the secondary market are carried at the lower of cost or estimated fair value in the aggregate. Net unrealized losses, if any, are recognized through a valuation allowance by charges to income. Gains or losses on sales of mortgage loans are recognized based on the difference between the selling price and the carrying value of the related mortgage loan sold.
Loans
Loans that management has the intent and ability to hold for the foreseeable future or until maturity or payoff generally are reported at their outstanding unpaid principal balances adjusted for deferred loan fees and costs, charge-offs, and an allowance for credit losses. Interest on loans is accrued and credited to income based on the unpaid principal balance. Loan-origination fees, net of certain direct origination costs, are deferred and recognized as an adjustment of the related loan yield using the interest method.
The accrual of interest on loans is discontinued when, in the opinion of management, there is an indication that the borrower may be unable to make payments as they become due. When loans are placed on non-accrual status or charged off, all unpaid accrued interest is reversed against interest income. The interest on these loans is subsequently accounted for on the cash-basis or cost-recovery method until qualifying for return to accrual status. Loans are returned to accrual status when all the principal and interest amounts contractually due are brought current and future payments are reasonably assured.
Allowance for Credit Losses
Under the current expected credit loss (“CECL”) model, the allowance for credit losses ("ACL") on financial assets is a valuation allowance estimated at each balance sheet date in accordance with GAAP that is deducted from the financial assets’ amortized cost basis to present the net amount expected to be collected on the financial assets. The CECL model also applies to certain off-balance sheet credit exposures.
The Company estimates the allowance for credit losses on loans based on the underlying assets’ amortized cost basis, which is the amount at which the financing receivable is originated or acquired, adjusted for applicable accretion or amortization of premium, discount, net deferred fees or costs, collection of cash, and charge-offs. In the event that collection of principal becomes uncertain, the Company has policies in place to write-off accrued interest receivable by reversing interest income at the time of this determination. This write-off will occur within 90 days of the determination that the collection of principal becomes uncertain. Therefore, the Company has made a policy election to exclude accrued interest from the amortized cost basis and therefore excludes it from the measurement of the allowance for credit losses. Accrued interest on loans totaling $1.1 million and $874 at December 31, 2023 and 2022, respectively, was excluded from the amortized cost basis of loans.
Expected credit losses are reflected in the allowance for credit losses through a charge to provision for credit losses. The Company’s estimate of the allowance for credit losses reflects credit losses currently expected over the remaining contractual life of the assets. When the Company deems all or a portion of a financial asset to be uncollectible, the appropriate amount is written off and the allowance for credit losses is reduced by the same amount. The Company applies judgment to determine when a financial asset is deemed uncollectible. When available information confirms that specific financial assets, or portions thereof, are uncollectible, these amounts are charged off against the allowance for credit losses. Subsequent recoveries, if any, are credited to the allowance for credit losses when received.
The Company measures the allowance for credit losses of financial assets on a collective portfolio segment basis when the financial assets share similar risk characteristics. The Company has identified the following portfolio segments of financial assets with similar risk characteristics for measuring expected credit losses:
Commercial real estate: These loans are dependent on the industries tied to these loans. Commercial real estate loans are secured primarily by office and industrial buildings, warehouses, small retail shopping facilities, and various special-purpose properties, including hotels and restaurants. Financial information is obtained from borrowers and/or the individual project to evaluate cash flow sufficiency to service debt and is periodically updated during the life of the loan. Loan performance may be adversely affected by factors impacting the general economy or conditions specific to the real estate market, such as geographic location and/or property type.
Land development: These loans are secured by vacant land and/or property that are in the process of improvement, including (a) land development preparatory to erecting vertical improvements or (b) the on-site construction of industrial, commercial, residential, or farm buildings. Repayment of these loans can be dependent on the sale of the property to third parties or the successful completion of the improvements by the builder for the end user. In the event a loan is made on property that is not yet improved for the planned development, there is the risk that necessary approvals will not be granted or will be delayed. Construction loans also run the risk that improvements will not be completed on time or in accordance with specifications and projected costs.
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(In thousands)
Commercial Other: This loan category is comprised of commercial and industrial loans. Commercial and industrial loans are extended primarily to small and middle market customers. Such credits typically comprise working capital loans, asset acquisition loans, and loans for other business purposes. Loans to closely held businesses are generally guaranteed in full by the owners of the business. Commercial and industrial loans are made based primarily on the historical and projected cash flow of the borrower and secondarily on the underlying collateral provided by the borrower. The cash flows of the borrowers, however, may not behave as forecasted and collateral securing loans may fluctuate in value due to economic or individual performance factors. Minimum standards and underwriting guidelines have been established for commercial and industrial loans.
Residential real estate: These loans are generally to individuals and are underwritten by evaluating the credit history of the borrower, the ability of the borrower to meet the debt service requirements of the loan and total debt obligations, the underlying collateral, and the loan to collateral value. Underwriting standards for residential real estate owner-occupied loans are heavily influenced by statutory requirements, which include, but are not limited to, loan-to-value and affordability ratios, risk-based pricing strategies, and documentation requirements.
Consumer: These loans may take the form of installment loans, demand loans, or single payment loans, and are extended to individuals for household, family, and other personal expenditures. These loans generally include direct consumer automobile loans and credit card loans. Also included in this category are junior liens on 1-4 family residential properties. These loans are generally smaller in size and are underwritten by evaluating the credit history of the borrower, the ability of the borrower to meet the debt service requirements of the loan and total debt obligations.
The Company further segments the commercial loan portfolios by risk rating and the residential and consumer loan portfolios by delinquency.
The Company utilizes the weighted average remaining maturity methodology to measure the ACL. This methodology incorporates both quantitative and qualitative information to assess lifetime expected credit losses at the portfolio segment level. The quantitative component includes the calculation of loss rates that are based on historical lookback periods. The Company calculates a loss rate based on historical loan level loss experience for portfolio segments with similar risk characteristics. The historical loss rate is adjusted for select macroeconomic variables that consider both historical trends as well as forecasted trends. The Company utilizes a period of two years for these forecasted trends, with immediate reversion. The Company measures expected credit losses of these financial assets by applying loss rates to the amortized cost basis of each asset taking into consideration amortization, prepayment and default assumptions.
The Company considers qualitative adjustments to expected credit loss estimates for information not already captured in the loss estimation process. Qualitative factor adjustments may increase or decrease management’s estimate of expected credit losses. Adjustments will not be made for information that has already been considered and included in the quantitative component. Qualitative loss factors are based on management's judgment of company, market, industry or business specific data, changes in loan composition, performance trends, regulatory changes, uncertainty of macroeconomic forecasts, and other asset specific risk characteristics.
Prior to January 1, 2023, the Company used an incurred loss model to estimate the allowance for loan losses. This methodology included allocations for specifically identified impaired loans and loss factors for all remaining loans. A loan is considered impaired when, based on current information, it is probable that the Company will not collect all amounts due in accordance with the contractual terms of the loan agreement. The allowance for impaired loans was generally based on the present value of expected future cash flows or the fair value of the collateral. Loans that were not determined to be impaired were collectively evaluated for impairment based on loan segments with similar risk characteristics and the historical loss rates for each for each segment and other qualitative factors.
Collateral Dependent Financial Assets
For collateral dependent financial assets where the Company has determined that foreclosure of the collateral is probable and where the borrower is experiencing financial difficulty, the allowance for credit losses is measured based on the difference between the fair value of the collateral and the amortized cost basis of the asset as of the measurement date. Fair value is generally calculated based on the value of the underlying collateral less estimated costs to sell.
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(In thousands)
Loan Commitments and Allowance for Credit Losses on Off-Balance Sheet Credit Exposures
Financial assets include off-balance sheet credit instruments, such as commitments to make loans and commercial letters of credit, issued to meet customer financing needs. The Company’s exposure to loan credit loss in the event of nonperformance by the other party to the financial instrument for off-balance sheet loan commitments is represented by the contractual amount of those instruments. Such financial instruments are recorded when they are funded.
The Company records an allowance for credit losses on off-balance sheet credit exposures through a charge to provision for credit losses for off-balance sheet credit exposures that are not unconditionally cancellable by the Company. The allowance for credit losses on off-balance sheet credit exposures is estimated by portfolio segment at each balance sheet date under the CECL model using the same methodologies as portfolio loans, taking into consideration management’s assumption of the likelihood that funding will occur, and is included in other liabilities on the Company’s Consolidated Balance Sheets.
Premises and Equipment
Depreciable assets are stated at cost less accumulated depreciation. Provisions for depreciation are computed on straight-line method over the estimated useful lives of the assets.
Operating Leases
The Company accounts for its operating leases in accordance with ASC 842, Leases, which requires lessees to record all leases with a term longer than 12 months on the balance sheet as a right-of-use asset and lease liability for leases. Leases are classified as finance or operating, with classification affecting the pattern and classification of expense recognition in the income statement. The Company's current lease agreement is classified as an operating lease. The operating lease right-of-use asset represents the right to use an underlying asset during the lease term (included in other assets on the consolidated balance sheets), while the operating lease liability represents the obligation to make lease payments arising from the lease (included in other liabilities on the consolidated balance sheets). The right-of-use asset and lease liability are recognized at lease commencement based on the present value of the remaining lease payments, considering a discount rate that represents the Company's incremental borrowing rate. Operating lease expense is recognized on a straight-line basis over the lease term and is recognized in occupancy and equipment on the consolidated statements of operations. See Note 5 for additional information and disclosures on operating leases.
Mortgage Servicing Rights
The Company sells residential mortgage loans in the secondary market and, on a selective basis, retains the right to service the loans sold. Upon sale, a mortgage servicing rights asset is capitalized, which represents the then current fair value of future net cash flows expected to be realized for performing servicing activities. Mortgage servicing rights, when purchased, are initially recorded at fair value. Mortgage servicing rights are amortized over the period of estimated net servicing income, and assessed for impairment at each reporting date. Mortgage servicing rights are carried at the lower of the initial capitalized amount, net of accumulated amortization, or estimated fair value, and are included in other assets, net in the consolidated balance sheets. To the extent that the Company sells mortgage servicing rights, a gain is recognized for the amount of which sale proceeds exceed the remaining unamortized cost of the servicing rights that were sold. Recognized gains on sale of mortgage servicing rights are included in other noninterest income in the consolidated statements of operations.
The fair value of mortgage servicing rights is estimated using a valuation model that calculates the present value of estimated future net servicing income. The valuation model incorporates assumptions that market participants would use in estimating future net servicing income, such as costs to service, a discount rate, the custodial earnings rate, ancillary income, default rates and losses, and prepayment speeds. The fair value of mortgage servicing rights may change because of changes in the discount rates, prepayment expectations, default rates, and other factors. Mortgage servicing rights are amortized into income in proportion to and over the period of the estimated future net servicing income of the underlying loans.
Mortgage servicing rights are evaluated for impairment at each reporting date and whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. The evaluation includes stratifying the mortgage servicing rights by predominant characteristics such as interest rates and terms and estimating fair value of each stratum. Impairment is recognized through a valuation allowance for an individual stratum to the extent that fair value is less than the carrying amount for the stratum.
Federal Home Loan Bank Stock
The Company’s investment in Federal Home Loan Bank (“FHLB”) stock is carried at cost. The Company is required to hold the stock as a member of the FHLB, and transfer of the stock is substantially restricted. The stock is pledged as collateral for outstanding FHLB advances. The stock is evaluated for impairment on an annual basis.
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1895 BANCORP OF WISCONSIN, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(In thousands)
Foreclosed Assets
Assets acquired through or in lieu of loan foreclosure are held for sale and are initially recorded at fair value at the date of foreclosure, establishing a new cost basis. Subsequent to foreclosure, valuations are periodically performed by management, and the assets are carried at the lower of carrying amount or fair value less costs to sell. Revenue and expenses from operations and changes in the valuation allowance are included in net foreclosed asset expense. There were no foreclosed assets as of December 31, 2023 and 2022, respectively. There were no residential real estate loans in process of foreclosure at December 31, 2023 and 2022, respectively.
Cash value of life insurance
The Company purchased bank owned life insurance on the lives of certain employees. The Company is the beneficiary of the life insurance policies. The cash surrender value of life insurance is reported at the amount that would be received in cash if the policies were surrendered. Increases in the cash value of the policies and proceeds of death benefits received are recorded in noninterest income. The increase in cash value of life insurance is not subject to income taxes, as long as the Company has the intent and ability to hold the policies until the death benefits are received.
Income Taxes
Amounts provided for income tax expense are based on income reported for financial statement purposes and do not necessarily represent amounts currently payable under tax laws. Deferred income tax assets and liabilities are computed annually for differences between the financial statement and income tax basis of assets and liabilities that will result in taxable or deductible amounts in the future based on enacted tax laws and rates applicable to the periods in which the differences are expected to affect taxable income. Deferred tax assets are reduced by a valuation allowance when it is more likely than not that some portion of the deferred tax asset will not be realized. We exercise significant judgment in evaluating the amount and timing of recognition of the resulting tax liabilities and assets. These judgments require us to make projections of future taxable income including consideration of applicable tax planning strategies. The judgments and estimates we make in determining our deferred tax assets, which are inherently subjective, weigh all positive and negative evidence and are reviewed on a regular basis as regulatory and business factors change. Any reduction in estimated future taxable income may require us to increase the valuation allowance against our deferred tax assets.
As changes in tax laws or rates are enacted, deferred income tax assets and liabilities are adjusted through the provision for income taxes. The differences relate principally to the allowances for credit losses, deferred compensation, and mortgage servicing rights. Valuation allowances are established when necessary to reduce deferred tax assets to the amount expected to be realized.
The tax effects from an uncertain tax position can be recognized in the consolidated financial statements only if the position is more likely than not to be sustained on audit, based on the technical merits of the position. The Company recognizes the financial statement benefit of a tax position only after determining that the relevant tax authority would more likely than not sustain the position following an audit. For tax positions meeting the more likely than not threshold, the amount recognized in the consolidated financial statements is the largest benefit that has a greater than 50 percent likelihood of being realized upon ultimate settlement with the relevant tax authority. Based on its evaluation, the Company has concluded that there are no significant uncertain tax positions requiring recognition in its consolidated financial statements.
The Company’s policy is to recognize interest and penalties related to income tax issues as components of income tax expense. During the periods shown, the Company did not recognize any interest or penalties related to income tax expense in its statements of operations.
Employee Benefit Plans
The Company has employee benefit plans for qualified employees. The Company’s policy is to fund contributions as accrued.
Off-Balance Sheet Financial Instruments
In the ordinary course of business, the Company has entered into off-balance-sheet financial instruments including commitments to extend credit, unfunded commitments under lines of credit, and standby letters of credit. Such financial instruments are recorded in the consolidated financial statements when they become payable.
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1895 BANCORP OF WISCONSIN, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(In thousands)
Transfers of Financial Assets
Transfers of financial assets are accounted for as sales when control over the assets has been surrendered. Control over transferred assets is deemed to be surrendered when (1) the assets have been isolated from the Company, (2) the transferee obtains the right (free of conditions that constrain it from taking advantage of that right) to pledge or exchange the transferred assets, and (3) the Company does not maintain effective control over the transferred assets through an agreement to repurchase them before their maturity.
Rate Lock Commitments
The Company enters into commitments to originate loans, whereby the interest rate on the loan is determined prior to funding (rate lock commitments). Rate lock commitments on mortgage loans that are intended to be sold are considered to be derivatives. Accordingly, such commitments, along with any related fees received from potential borrowers, are recorded at fair value in other assets or liabilities, with changes in fair value recorded in the net gain or loss on sale of mortgage loans. Fair value is based on fees currently charged to enter into similar agreements and for fixed-rate commitments also considers the difference between current levels of interest rates and the committed rates.
Advertising
Advertising costs are expensed as incurred.
Other Comprehensive Loss
Other comprehensive loss is shown on the statements of comprehensive loss. The Company’s accumulated other comprehensive loss is composed of the unrealized gain (loss) on securities available for sale, net of tax and is shown on the statements of changes in stockholders’ equity. Reclassification adjustments out of other comprehensive loss for losses realized on sales of securities available for sale comprise the entire balance of “net loss on sale of securities” on the statements of operations. As part of this reclassification, income tax expense of approximately $951 and $0 was recognized for the years ended December 31, 2023 and 2022, respectively, in “income tax expense (benefit)” on the statements of operations.
Reclassifications
Certain reclassifications have been made to the 2022 consolidated financial statements to conform to the 2023 classifications.
Subsequent events
Management has reviewed the Company’s operations for potential disclosure or financial statement impacts related to events occurring after December 31, 2023, but prior to the release of these consolidated financial statements.
There were no additional subsequent event disclosures or financial statement impacts related to events occurring after December 31, 2023 that warranted adjustment to or disclosure in these consolidated financial statements.
Recent Accounting Pronouncements
On January 1, 2023, the Company adopted Accounting Standards Update ("ASU") 2016-13, Financial Instruments—Credit Losses: Measurement of Credit Losses on Financial Instruments (Topic 326) ("ASU 2016-13"), as amended. ASU 2016-13 requires organizations to measure all expected credit losses for financial instruments held at the reporting date based on historical experience, current conditions and reasonable and supportable forecasts. The Company adopted ASU 2016-13 as of January 1, 2023 using the modified retrospective method for all financial assets measured at amortized cost and off-balance sheet credit exposures. The adoption of ASU 2016-13 resulted in an initial increase of $412,000 to the ACL for loans and the establishment of a $665,000 ACL for unfunded loan commitments. The ACL for unfunded loan commitments is included in other liabilities on the Company's Consolidated Balance Sheets. The after-tax cumulative-effect adjustment of $783,000 was recorded in retained earnings as of January 1, 2023.
In March 2022, the Financial Accounting Standards Board ("FASB") issued ASU 2022-02, Financial Instruments—Credit Losses (Topic 326): Troubled Debt Restructurings and Vintage Disclosures, which eliminates the accounting guidance for troubled debt restructurings by creditors, while enhancing disclosure requirements for certain loan refinancings and restructurings by creditors when a borrower is experiencing financial difficulty. In addition, ASU 2022-02 requires that an entity disclose current-period gross write-offs by year of origination for financing receivables and net investments in leases within the scope of Subtopic 326-20, Financial Instruments—Credit Losses. The Company adopted ASU 2022-02 as of January 1, 2023
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1895 BANCORP OF WISCONSIN, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(In thousands)
New Accounting Standards That Have Not Yet Been Adopted
The following Accounting Standards Updates (“ASU”) have been issued by the Financial Accounting Standards Board (the “FASB”) and may impact the Company’s consolidated financial statements in future reporting periods:
In December 2023, the FASB issued ASU 2023-09, Income Taxes (Topic 740): Improvements to Income Tax Disclosures, that requires presentation of specific categories of reconciling items, as well reconciling items that meet a quantitative threshold, in the reconciliation between the income tax provision and the income tax provision using statutory tax rates. The standard also requires disclosure of income taxes paid disaggregated by jurisdiction with separate disclosure of income taxes paid to individual jurisdictions that meet a quantitative threshold. The amendments in this accounting standard are effective for fiscal years beginning after December 15, 2024, on a prospective basis. Early adoption and retrospective application are permitted. We do not expect the adoption of this accounting standard to have an impact on our Consolidated Financial Statements but will require certain additional disclosures.
In November 2023, the FASB issued ASU 2023-07, Segment Reporting (Topic 280): Improvements to Reportable Segment Disclosures, that requires disclosure of significant segment expenses that are regularly reviewed by the chief operating decision maker and included within each reported measure of segment profit or loss. The standard also requires disclosure of the composition of other segment items included in the measure of segment profit or loss that are not separately disclosed. The new standard is effective for fiscal years beginning after December 15, 2023, and interim periods within fiscal years beginning after December 15, 2024. Early adoption is permitted. We do not expect the adoption of this accounting standard to have an impact on our Consolidated Financial Statements.
NOTE 2 — Cash and Due from Banks
Under Regulation D, savings institutions are generally required to maintain reserve balances in cash or on deposit with the Federal Reserve Bank, based upon a percentage of deposits. Effective March 12, 2021, the Federal Reserve Board reduced reserve requirement ratios to zero percent, eliminating the requirement to maintain reserve balances in cash or on deposit with the Federal Reserve Bank. This reduction in reserve requirement ratios does not have a defined timeframe and may be revised by the Federal Reserve Board in the future.
In the normal course of business, the Company maintains cash and due from bank balances with correspondent banks. Balances in these accounts may exceed the Federal Deposit Insurance Corporation’s insured limit of $250,000. Management believes these financial institutions have strong credit ratings and that the credit risk related to these deposits is minimal.
NOTE 3— Available for Sale Securities
Amortized costs and fair values of available for sale securities are summarized as follows:
Amortized Cost Gross Unrealized Gains Gross Unrealized Losses Fair Value
(in thousands)
Certificates of deposit 745 — (8 ) 737
Amortized Cost Gross Unrealized Gains Gross Unrealized Losses Fair Value
(in thousands)
Government-sponsored mortgage-backed securities 73,235 $ — (8,968 ) 64,267
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(In thousands)
Fair values of securities are estimated based on financial models or prices paid for similar securities. It is possible interest rates could change considerably, resulting in a material change in estimated fair value.
The Company’s mortgage-backed securities and collateralized mortgage obligations issued by government sponsored enterprises are guaranteed by one of the following government enterprises: Fannie Mae, Freddie Mac or Ginnie Mae.
The fair value of available-for-sale securities that were pledged as collateral at December 31, 2023 and December 31, 2022, was $426 and $3.6 million, respectively.
The amortized costs and fair values of available-for-sale securities, by contractual maturity, are shown below. Actual 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 addition, expected maturities will differ from contractual maturities for mortgage-backed securities and asset-backed securities, as the expected repayment terms may be less than the underlying mortgage pool contractual maturities. Therefore, these securities are not included in the maturity categories in the maturity summary below.
Amortized Cost Fair Value
(in thousands)
Debt and other securities:
Due in one year or less $ 830 $ 821
Gross unrealized losses on securities available-for-sale and the fair values of the related securities, aggregated by investment category and the length of time that individual securities have been in a continuous unrealized loss position were as follows:
Less than 12 months 12 months or longer Total
Fair Value Unrealized Loss Fair Value Unrealized Loss Fair Value Unrealized Loss
(in thousands)
Certificates of deposit — — 737 (8 ) 737 (8 )
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(In thousands)
Less than 12 months 12 months or longer Total
Fair Value Unrealized Loss Fair Value Unrealized Loss Fair Value Unrealized Loss
(in thousands)
The following table presents the number of debt securities in an unrealized loss position and the aggregate depreciation from their amortized cost basis, by security type, as of December 31, 2023.
Number of Securities Aggregate Depreciation
Obligations of states and political subdivisions $ 16 16.9 %
Government-sponsored mortgage-backed securities 25 14.5 %
Asset-backed securities 4 0.6 %
Certificates of deposit 3 1.1 %
The Company does not consider these unrealized losses to be attributable to credit-related factors, as the unrealized losses in each category have occurred as a result of changes in noncredit-related factors such as changes in interest rates, market spreads and market conditions subsequent to purchase, not credit deterioration. As a result, no allowance for credit losses on available-for-sale securities was recognized as of December 31, 2023. As of December 31, 2022, prior to the adoption of CECL, the Company had determined that none of the unrealized losses were other than temporary.
The following is a summary of the proceeds from sales of securities available-for-sale, as well as gross gains and losses, for each of the periods listed below:
Year ended December 31,
(in thousands)
Proceeds from sales of securities available-for-sale $ 44,437 $ —
Gross realized gains $ — $ —
Gross realized losses (4,529 ) —
Net realized loss $ (4,529 ) $ —
F-16
1895 BANCORP OF WISCONSIN, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(In thousands)
NOTE 4 — Loans
Major classifications of loans are as follows:
(in thousands)
Commercial:
Residential real estate:
Consumer:
Net deferred loan costs 854 830
Allowance for credit losses for loans (3,734 ) (3,203 )
Deposit accounts in an overdrawn position and reclassified as loans totaled $78and $98 at December 31, 2023 and 2022, respectively.
The Company provides several types of loans to its customers, including commercial, residential, construction and consumer loans. Significant loan concentrations are considered to exist when there are amounts loaned to one borrower, or to multiple borrowers engaged in similar activities, that would cause them to be similarly impacted by economic or other conditions. While credit risks tend to be geographically concentrated in the Company’s metropolitan Milwaukee market area, and while a significant portion of the Company’s loan portfolio is secured by commercial and residential real estate, there are no significant concentrations whose primary sources of repayment are reliant upon an individual or group of related borrowers.
The Company also purchases loan participations from other financial institutions. The outstanding balance of loans purchased are included in the totals above and totaled $34.8million as of December 31, 2023 and $31.6million as of December 31, 2022. In addition, the amount available for future draws totaled $30.7million at December 31, 2023. Loans purchased are primarily comprised of commercial real estate and other commercial loans.
During the normal course of business, the Company may transfer a portion of a loan as a participation loan to another financial institution in order to manage portfolio risk. In order to be eligible for sales treatment, all cash flows from the loan must be divided proportionately, and rights of each loan holder must have the same priority, the loan holders must have no recourse to the transferor other than standard representations and warranties, and no loan holder can have the right to pledge or exchange the entire loan. As December 31, 2023 and December 31, 2022, respectively, the Company had transferred $29.0million and $30.3 million in participation loans which were eligible for sales treatment to other financial institutions, all of which were being serviced by the Company.
F-17
1895 BANCORP OF WISCONSIN, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(In thousands)
A summary of the activity in the allowance for loan losses by portfolio segment is as follows:
Commercial Residential Consumer Total
(in thousands)
Allowance for credit losses for loans
Provision for credit losses 64 22 4 90
Loans charged-off — — (10 ) (10 )
Allowance for credit losses for unfunded loan commitments(2)
Beginning balance $ — $ — $ — $ —
Provision for credit losses 207 3 — 210
Allowance for loan losses
Provision for loan losses 222 — — 222
Loans charged-off — — (10 ) (10 )
(1) On January 1, 2023, the Company adopted ASU 2016-13 ("CECL"). See Note 1 for additional information regarding the adoption of ASU 2016-13.
(2) The allowance for credit losses for unfunded loan commitments is included in other liabilities on the Company's Consolidated Balance Sheets.
The provision for credit losses is determined by the Company as the amount that is to be added to the ACL accounts to bring the ACL to a level that, in management's judgment, is necessary to absorb expected credit losses over the lives of the respective financial instruments. The following table presents the components of the provision for credit losses:
Year ended December 31,
(in thousands)
Provision for credit losses for:
Unfunded loan commitments 210 N/A
F-18
1895 BANCORP OF WISCONSIN, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(In thousands)
The Company regularly evaluates various attributes of loans to determine the appropriateness of the allowance for credit losses. The credit quality indicators monitored differ depending on the class of loan.
•
“Pass” ratings are assigned to loans with adequate collateral and debt service ability such that collectability of the contractual loan payments is highly probable.
•
“Watch / Special mention” ratings are assigned to loans where management has some concern that the collateral or debt service ability may not be adequate, though the collectability of the contractual loan payments is still probable.
•
“Substandard” ratings are assigned to loans that do not have adequate collateral and/or debt service ability such that collectability of the contractual loan payments is no longer probable.
•
“Doubtful” ratings are assigned to loans that do not have adequate collateral and/or debt service ability, and collectability of the contractual loan payments is unlikely.
Residential real estate and consumer loans are generally evaluated based on whether or not the loan is performing or on nonaccrual status. See Note 1 for additional information on our nonaccrual policy.
F-19
1895 BANCORP OF WISCONSIN, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(In thousands)
The following table presents the amortized cost basis of our loans by credit quality indicator and origination year, at December 31, 2023:
(in thousands)
Commercial real estate:
Other commercial loans: