BOGOTA FINANCIAL CORP. This discussion and analysis reflects the information contained in our consolidated financial statements and other relevant statistical data, and is intended to enhance your understanding of our financial condition and results of operations. Certain of the information in this section has been derived from the consolidated financial statements, which appear elsewhere in this Annual Report on Form 10-K. You should read the information in this section in conjunction with the other business and financial information provided in this Annual Report on Form 10-K. Overview Net Interest Income. Our primary source of income is net interest income. Net interest income is the difference between interest income, which is the income we earn on our loans and investments, and interest expense, which is the interest we pay on our deposits and borrowings. Provision for Loan Losses. The allowance for loan losses is a valuation allowance for probable incurred credit losses. The allowance for loan losses is increased through the provision for loan losses. Loans are charged against the allowance when management believes that the collectability of the principal loan amount is not probable. Recoveries on loans previously charged-off, if any, are credited to the allowance for loan losses when realized.
Non-Interest Income. Our primary sources of non-interest income are banking fees
and service charges, net gains in cash surrender value of bank-owned life
insurance, net gains on sales of loans, a bargain purchase gain recorded in
connection with the acquisition of
Non-Interest Expenses. Our non-interest expenses consist of salaries and employee benefits, net occupancy, equipment, data processing, federal deposit insurance premiums, advertising, directors fees, professional fees, merger and core conversion costs in 2021 and other general and administrative expenses. Salaries and employee benefits consist primarily of salaries and wages paid to our employees, payroll taxes, expenses for workers' compensation and disability insurance, health insurance, retirement plans, our employee stock ownership plan, our equity incentive plan and other employee benefits, as well as other incentives. Occupancy and equipment expenses, which are the fixed and variable costs of buildings and equipment, consist primarily of depreciation charges, rental expenses, furniture and equipment expenses, maintenance, real estate taxes and costs of utilities. Depreciation of premises and equipment is computed using a straight-line method based on the estimated useful lives of the related assets or the expected lease terms, if shorter.
Federal deposit insurance premiums are payments we make to the
Data processing expenses are fees we pay to third parties for use of their software and for processing customer information, deposits and loans.
Advertising includes most marketing expenses, including multi-media advertising (public and in-store), promotional events and materials, civic and sales-focused memberships, and community support.
Professional fees include legal, accounting, auditing, risk management and payroll processing expenses.
Directors fees consist of the fees we pay to our directors for their service on our board of directors, as well as the costs associated with the directors' retirement plan and grants to directors under our equity incentive plan.
Merger and core conversion costs related to the costs associated with the
acquisition of
Other expenses include expenses for office supplies, postage, telephone, insurance and other miscellaneous operating expenses.
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Income Tax Expense. Our income tax expense is the total of the current year
income tax due or refundable and the change in deferred tax assets and
liabilities. Deferred tax assets and liabilities are the expected future tax
amounts for the temporary differences between the carrying amounts and the tax
basis of assets and liabilities, computed using enacted tax rates. A valuation
allowance, if needed, reduces deferred tax assets to the amounts expected to be
realized.
Business Strategy
Our business strategy is to operate as a well-capitalized and profitable
community bank dedicated to providing personal service to individuals and
businesses. We believe that we have a competitive advantage in the markets we
serve because of our 129-year history in the community, our knowledge of the
local marketplace and our long-standing reputation for providing superior,
relationship-based customer service. We believe we can distinguish ourselves by
maintaining the culture of a local community bank. The following are the key
elements of our business strategy:
Continue to focus on residential real estate lending. We have been, and will
continue to be, primarily a one- to four-family residential real estate lender
in our market area. As of December 31, 2022 , $466.1 million , or 64.6% of our
total loan portfolio, consisted of one- to four-family residential real estate
loans. We expect that one- to four-family residential real estate lending will
remain our primary lending activity.
Continue to emphasize commercial and multi-family real estate lending. We view
the growth of commercial real estate and multi-family lending as a means of
increasing our interest income and the yield on our loan portfolio, and reducing
the average term to repricing of our loans. We believe that local banking
consolidation has created opportunities to attract talent with experience
originating commercial real estate loans within our market area. Further, the
additional capital raised in the offering enabled us to increase our commercial
real estate and multi-family loan originations in our market area, and originate
loans with larger balances. However, due to lower originations and prepayments,
our commercial real estate and multi-family loan portfolio decreased to $162.3
million , or 22.5% of total loans, at December 31, 2022 , from $175.4 million , or
30.6% of total loans, at December 31, 2021 .
Commercial and multi-family real estate loans generally expose a lender to a
greater risk of loss than one- to four-family residential loans. Repayment of
commercial and multi-family estate loans generally depends, in large part, on
sufficient income from the property or business to cover operating expenses and
debt service. Commercial and multi-family real estate loans typically involve
larger loan balances to single borrowers or groups of related borrowers compared
to one- to four-family residential mortgage loans. Changes in economic
conditions that are beyond the control of the borrower and lender could impact
the value of the security for the loan or the future cash flows of the affected
property. Additionally, any decline in real estate values may affect commercial
and multi-family real estate properties more than residential properties. Also,
many of our commercial and multi-family real estate borrowers have more than one
loan outstanding with us. Consequently, an adverse development with respect to
one loan or one credit relationship can expose us to a significantly greater
risk of loss compared to an adverse development with respect to a residential
mortgage loan.
Increase lower-cost core deposits. We continue to emphasize offering core
deposits (demand deposit accounts, savings accounts and money market accounts)
to individuals, businesses and municipalities. We attract and retain transaction
accounts by offering competitive products and rates and providing quality
customer service. Core deposits are our least costly source of funds, which
improves our interest rate spread and also contributes non-interest income from
account related services. However, at December 31, 2022 , core deposits decreased
to 29.8% of our total deposits compared to 38.7% of our total deposits at
December 31, 2021 due to customers moving funds to higher-yielding certificates
of deposits in the higher interest rate environment.
Grow through opportunistic bank or branch acquisitions. We opened a new branch
in Hasbrouck Heights during the second quarter of 2021 and we completed the
acquisition of Gibraltar Bank in February 2021 , which increased our footprint by
three branches and added a loan production office in central New Jersey . We will
consider other acquisition opportunities that may 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 market, we
expect to expand into contiguous markets. The capital we raised in the offering
will also provide us the opportunity to acquire smaller institutions or
fee-based businesses located in or contiguous to our market area.
Continue to emphasize operating efficiencies and cost controls. We are focused
on controlling expenses while increasing our net income. We are disciplined in
managing non-interest expenses by identifying cost savings opportunities such as
renegotiating key third-party contracts and reducing other operating expenses.
Our efficiency ratio was 59.03% for the year ended December 31, 2022 compared to
60.85% for the year ended December 31, 2021 . While our non-interest expenses
increased when we became a public company, we will continue to monitor and
control expenses as we focus on
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--------------------------------------------------------------------------------growth. To support our growth in a cost-effective way, we plan to continue to invest prudently in technology to help improve our operational infrastructure.
Maintain disciplined underwriting. We emphasize a disciplined credit culture based on intimate knowledge of the market, close ties to our customers, sound underwriting standards and experienced loan officers. We are committed to actively monitoring and managing our loan portfolio in an effort to proactively identify and mitigate credit risks within the portfolio. AtDecember 31, 2022 , non-performing assets totaled$857,000 , which represented 0.09% of total assets. AtDecember 31, 2021 , there were$865,000 of non-performing assets which represented 0.10% of total assets.
Increase in Non-Interest Expense
Following theJanuary 2020 completion of the reorganization and stock offering, our non-interest expenses increased because of the increased costs associated with operating as a public company. Compensation expenses further increased due to the implementation of our employee stock ownership plan in 2020 and our equity incentive plan in 2021.
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 withU.S. generally accepted accounting principles. The preparation of these financial statements requires management to make estimates and assumptions affecting the reported amounts of assets and liabilities, income and expenses and disclosure of contingent assets and liabilities. We consider the accounting policy discussed below to be a critical accounting policy, which is presented in the notes to the consolidated financial statements. The estimates and assumptions that we use are based on historical experience and various other factors that we believe are 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, which was enacted in 2012, contains provisions that, among other things, reduce certain reporting requirements for qualifying public companies. As an "emerging growth company," we plan to delay adoption of new or revised accounting pronouncements applicable to 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 fully comparable to public companies that comply with such new or revised accounting standards.
The following represents our critical accounting policy:
Allowance for Loan Losses. The allowance for loan losses is the amount estimated
by management as necessary to absorb credit losses incurred in the loan
portfolio that are both probable and reasonably estimable at the relevant
balance sheet date. The amount of the allowance is based on significant
estimates, and the ultimate losses may vary from such estimates as more
information becomes available or conditions change. The methodology for
determining the allowance for loan losses is considered a critical accounting
policy by management due to the high degree of judgment involved, the
subjectivity of the assumptions used and the potential for changes in the
economic environment that could result in changes to the amount of the recorded
allowance for loan losses.
As a substantial percentage of our loan portfolio is collateralized by real
estate, appraisals of the underlying value of property securing loans are
critical in determining the amount of the allowance required for specific loans.
Assumptions are instrumental in determining the value of properties. Overly
optimistic assumptions or negative changes to assumptions could significantly
affect the valuation of a property securing a loan and the related allowance.
Management reviews the assumptions supporting such appraisals to determine that
the resulting values reasonably reflect amounts realizable on the related loans.
Management performs an evaluation of the adequacy of the allowance for loan
losses at least quarterly. We consider a variety of factors in establishing this
estimate including current economic conditions, delinquency statistics,
geographic concentrations, and the adequacy of the underlying collateral, the
financial strength of the borrower, results of internal loan reviews and other
relevant factors. This evaluation is inherently subjective as it requires
material estimates by management that may be susceptible to significant change
based on changes in economic and real estate market conditions.
The evaluation has specific and general components. The specific component
relates to loans that are deemed to be impaired and classified as special
mention, substandard, doubtful, or loss. For such loans that are also classified
as impaired, an allowance is generally established when the collateral value of
the impaired loan is lower than the carrying value of that
38
--------------------------------------------------------------------------------loan. The general component covers non-classified loans and is based on historical loss experience adjusted for qualitative factors.
Actual loan losses may be significantly more than the allowance we have established which could have a material negative effect on our financial results. See Note 1 to the Notes to the consolidated financial statements for a complete discussion of the allowance for loan losses.
The following tables set forth selected historical financial and other data forBogota Financial Corp. andBogota Savings Bank at and for the periods indicated. The following information is only a summary and should be read in conjunction with our consolidated financial statements and the notes thereto contained in this Annual Report on Form 10-K. The information at and for the years endedDecember 31, 2022 and 2021 is derived in part from the audited consolidated financial statements appearing in this Annual Report on Form 10-K. At December 31, 2022 2021 (In thousands) Selected Financial Condition Data: Total assets$ 951,099 $ 837,362 Cash and cash equivalents 16,841 105,069 Securities held-to-maturity 77,427 74,053 Securities available-for-sale 85,101 41,839 Loans receivable, net 719,026 570,210 Bank owned life insurance 30,206 24,524 Total liabilities 811,440 689,785 Deposits 701,411 597,480 Borrowings 102,319 85,052 Total equity 139,659 147,576 For the Year Ended December 31, 2022 2021 (In thousands) Selected Operating Data: Interest income$ 30,347 $ 25,068 Interest expense 7,269 5,791 Net interest income 23,078 19,277 Provision (credit) for loan losses 425 $ (88 ) Net interest income after provision for loan losses 22,653 19,365 Non-interest income 1,123 4,494 Non-interest expenses 14,285 14,464 Income before income taxes 9,491 9,395 Income taxes 2,614 1,875 Net income $ 6,877 $ 7,520 39
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At or For the Year Ended December 31,
2022 2021
Performance Ratios:
Return on average assets (1) 0.77 % 1.23 %
Return on average equity (2) 4.76 % 7.06 %
Interest rate spread (3) 2.59 % 2.33 %
Net interest margin (4) 2.76 % 2.50 %
Efficiency ratio (5) 59.03 % 60.85 %Average interest-earning assets to average interest-
bearing liabilities 119.60 % 122.40 %
Loans to deposits 102.51 % 95.44 %
Average equity to assets (6) 16.22 % 17.55 %
Capital Ratios: (Bank only)
Tier 1 capital (to adjusted total assets) 15.61 % 17.88 %
Other Data:
Number of offices 6 6
Number of full-time equivalent employees 61 74
(1)
Represents net income divided by average total assets.
(2)
Represents net income divided by average equity.
(3)
Represents the difference between the weighted average yield on average
interest-earning assets and the weighted average cost on average
interest-bearing liabilities. Tax exempt income is reported on a tax equivalent
basis using a combined federal and state marginal tax rate of 28% for 2022 and
2021.
(4)
Represents net interest income as a percent of average interest-earning assets.
Tax exempt income is reported on a tax equivalent basis using a combined federal
and state marginal tax rate of 28% for 2022 and 2021.
(5)
Represents non-interest expense divided by the sum of net interest income and
non-interest income.
(6)
Represents average equity divided by average total assets.
40
--------------------------------------------------------------------------------Average Balance Sheets
The following tables set forth average balances, average yields and costs, and
certain other information for the years indicated. No tax-equivalent yield
adjustments have been made, as the effects would be immaterial. All average
balances are daily average balances. Non-accrual loans are included in the
computation of average balances. 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, as applicable.
For the Years Ended December 31,
2022 2021
Interest Interest
Average and Yield/ Average and
Balance Dividends Cost Balance Dividends Yield/Cost
(Dollars in thousands)
Assets:
Cash and cash equivalents $ 25,044 $ 117 0.47 % $ 99,842 $ 151 0.15 %
Loans 638,679 26,264 4.11 583,362 22,672 3.89
Securities 167,987 3,678 2.19 86,035 1,971 2.29
Other interest-earning assets 5,677 288 5.05 5,606 273 4.87
Total interest-earning assets 837,387 30,347 3.62 774,845 25,067 3.24
Non-interest-earning assets 52,525 42,252
Total assets $ 889,912 $ 817,097
Liabilities and Equity:
NOW and money market accounts $ 140,473 787 0.56 $ 104,945 625 0.60
Savings accounts 62,626 184 0.29 58,880 127 0.22
Certificates of deposit 394,593 4,136 1.05 373,490 3,519 0.94
Total interest-bearing deposits 597,692 5,107 0.85 537,315 4,271 0.79
1.56
Total interest-bearing liabilities 700,150 7,269 1.04 634,936 5,790
0.91
Non-interest-bearing deposits 41,501 30,952
Other non-interest-bearing liabilities 3,914 8,822
Total liabilities 745,565 674,710
Total equity 144,347 142,387
Total liabilities and equity $ 889,912 $ 817,097
Net interest income $ 23,078 $ 19,277
Interest rate spread (2) 2.58 % 2.33 %
Net interest margin (3) 2.76 % 2.50 %
Average interest-earning assets to
average interest-bearing liabilities$ 137,237 $ 139,909
(1)
Cash flow hedges are used to manage interest rate risk. During the year endedDecember 31, 2022 , the net effect on interest expense onFederal Home Loan Bank advances was a reduced expense of$9,000 . (2) Interest rate spread represents the difference between the weighted average yield on interest-earning assets and the weighted average cost of interest-bearing liabilities. (3) Net interest margin represents net interest income divided by average total interest-earning assets. 41 --------------------------------------------------------------------------------
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 rate multiplied by prior volume).
The volume column shows the effects attributable to changes in volume (changes
in volume multiplied by prior rate). The total column represents the sum of the
prior two 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.
Year Ended December 31, 2022 vs. 2021
Increase (Decrease) Due to
Volume Rate Net
(In thousands)
Interest income:
Cash and cash equivalents $ (175 ) $ 141 $ (34 )
Loans receivable 2,250 1,342 3,592
Securities 1,797 (90 ) 1,707
Other interest-earning assets 4 11 15
Total interest-earning assets 3,876 1,404 5,280
Interest expense:
NOW and money market accounts 205 (43 ) 162
Savings accounts 9 48 57
Certificate of deposit 201 416 617
Federal Home Loan Bank advances 79 564 643
Total interest-bearing liabilities 494 985
1,479
Net increase in net interest income
Comparison of Financial Condition at
Total Assets. Total assets increased$113.7 million , or 13.6%, to$951.1 million atDecember 31, 2022 from$837.4 million atDecember 31, 2021 . The increase was primarily due to$148.8 million increase in loans receivable and a$46.6 million increase in securities, partially offset by a decrease in cash and cash equivalents of$88.2 million .
Cash and Cash Equivalents. Total cash and cash equivalents decreased
Securities Available for Sale. Total securities available for sale increased$43.3 million , or 103.4%, to$85.1 million atDecember 31, 2022 from$41.8 million atDecember 31, 2021 . The increase was due to increases of$27.7 million in mortgage-backed securities,$2.5 million in agency bonds,$4.9 million inU.S. treasury bills and$8.1 million in corporate bonds purchased with excess liquidity. Securities Held to Maturity. Total securities held to maturity increased$3.4 million , or 4.6%, to$77.4 million atDecember 31, 2022 from$74.1 million atDecember 31, 2021 , primarily due to a$4.6 million increase in corporate bonds, a$3.7 million increase in municipal securities, and a$10.0 million increase inU.S. government agency obligations, offset by$14.9 million of principal pay downs and maturities on mortgage-backed securities Net Loans. Net loans increased$148.8 million , or 26.1%, to$719.0 million atDecember 31, 2022 from$570.2 million atDecember 31, 2021 . The increase in loans was primarily due to the$225.2 million of loans originated during the year, which was offset by$71.8 million in loan repayments and the sale of$4.6 million of residential loans. The increase in net loans was due to a$146.1 million , or 45.7%, increase in one-to four-residential real estate loans to$466.1 million atDecember 31, 2022 from$320.0 million atDecember 31, 2021 , an increase of$20.4 million , or 49.4%, in construction loans to$61.8 million atDecember 31, 2022 from$41.4 million atDecember 31, 2021 and an increase of$1.9 million , or 6.9%, in consumer loans to$29.7 million atDecember 31, 2022 from$27.7 million atDecember 31, 2021 , offset by a decrease of$13.0 million , or 7.4%, decrease in commercial and multi-family real estate loans to$162.3 million atDecember 31, 2022 from$175.4 million atDecember 31, 2021 , and a decrease of$6.2 million , or 78.7%, in commercial and industrial loans to$1.7 million atDecember 31, 2022 from$7.9 million as ofDecember 31, 2021 . The decrease in commercial and industrial loans was due to the forgiveness and repayment of$6.2 million in PPP loans that were originated 42 --------------------------------------------------------------------------------
in 2021 and 2020. As of
Bank-Owned Life Insurance. Bank-owned life insurance increased$5.7 million , or 23.2%, to$30.2 million atDecember 31, 2022 from$24.5 million atDecember 31, 2021 . The increase in bank-owned life insurance was due to$5.0 million in new bank-owned life insurance purchases. Deposits. Total deposits increased$103.9 million , or 17.4%, to$701.4 million atDecember 31, 2022 from$597.5 million atDecember 31, 2021 . The increase in deposits reflected an increase in interest bearing deposits of$104.6 million , or 18.7%, to$662.8 million as ofDecember 31, 2022 from$558.2 million atDecember 31, 2021 and a decrease in non-interest bearing deposits of$664,000 , or 1.7%, to$38.7 million as ofDecember 31, 2022 from$39.3 million as ofDecember 31, 2021 . Deposits were used to fund loan and securities growth. AtDecember 31, 2022 , municipal deposits totaled$57.5 million , which represented 8.2% of total deposits, and brokered deposits totaled$58.6 million , which represented 8.4% of total deposits. AtDecember 31, 2021 , municipal deposits totaled$31.5 million , which represented 5.3% of total deposits, and brokered deposits totaled$52.9 million , which represented 8.9% of total deposits. Borrowings.Federal Home Loan Bank of New York borrowings increased$17.3 million , or 20.3%, to$102.3 million atDecember 31, 2022 from$85.1 million atDecember 31, 2021 , as an increase of$53.0 in short term advances was offset by proceeds from long term advances totaling$35.7 million . The weighted average rate of borrowings was 3.36% and 1.69% as ofDecember 31, 2022 andDecember 31, 2021 , respectively. Total Equity. Stockholders' equity decreased$7.9 million , or 5.4% to$139.7 million , due to increased accumulated other comprehensive loss for securities available for sale of$5.9 million and the repurchase of 906,793 shares of stock during the year at a cost of$10.1 million , offset by net income of$6.9 million for the twelve months endedDecember 31, 2022 . AtDecember 31, 2022 , the Company's ratio of average stockholders' equity-to-total assets was 15.61%, compared to 17.88% atDecember 31, 2021 .
Comparison of Operating Results for the Years Ended
General. Net income decreased by$643,000 , or 8.6%, to$6.9 million for the twelve months endedDecember 31, 2022 from$7.5 million for the twelve months endedDecember 31, 2021 . The decrease was due to a decrease in non-interest income of$3.4 million , an increase in provision for loan losses of$513,000 , and an increase of$739,000 in income taxes offset by an increase in net interest income of$3.8 million and a decrease in non-interest expense of$179,000 . Excluding the one-time bargain purchase gain of$2.0 million that occurred in 2021 in connection with theGibraltar Bank acquisition and the$392,000 of merger-related expenses, net income would have increased$916,000 for the twelve months endedDecember 31, 2022 as compared to 2021. Interest Income. Interest income on cash and cash equivalents decreased$34,000 , or 22.5%, to$117,000 for the twelve months endedDecember 31, 2022 from$151,000 for the twelve months endedDecember 31, 2021 due to a$74.8 million decrease in the average balance of cash and cash equivalents to$25.0 million for the twelve months endedDecember 31, 2022 from$99.8 million for the twelve months endedDecember 31, 2021 , reflecting the use of excess liquidity to fund loan originations and purchase investment securities. This was offset by a 32 basis point increase in the average yield on cash and cash equivalents from 0.15% for the twelve months endedDecember 31, 2021 to 0.47% for the twelve months endedDecember 31, 2022 due to the higher interest rate environment. Interest income on loans increased$3.6 million , or 15.8%, to$26.3 million for the twelve months endedDecember 31, 2022 compared to$22.7 million for the twelve months endedDecember 31, 2021 due primarily to a$55.3 million increase in the average balance of loans to$638.7 million for the twelve months endedDecember 31, 2022 from$583.4 million for the twelve months endedDecember 31, 2021 and due to a 22 basis point increase in the average yield on loans from 3.89% for the twelve months endedDecember 31, 2021 to 4.11% for the twelve months endedDecember 31, 2022 . Interest income on securities increased$1.7 million , or 86.6%, to$3.7 million for the twelve months endedDecember 31, 2022 from$2.0 million for the twelve months endedDecember 31, 2021 due to a$82.0 million increase in the average balance of securities to$168.0 million for the twelve months endedDecember 31, 2022 from$86.0 million for the twelve months endedDecember 31, 2021 , reflecting the purchase of investments with excess liquidity. The increase was offset by a 10 basis point decrease in the average yield from 2.29% for the twelve months endedDecember 31, 2021 to 2.19% for the twelve months endedDecember 31, 2022 . 43 -------------------------------------------------------------------------------- Interest Expense. Interest expense increased$1.5 million , or 25.5%, to$7.3 million for the year endedDecember 31, 2022 from$5.8 million for the year endedDecember 31, 2021 . The increase primarily reflected a 13 basis point increase in the average cost of interest-bearing liabilities to 1.04% for the year endedDecember 31, 2022 from 0.91% for the year endedDecember 31, 2021 and a$65.2 million increase in the average balance of interest-bearing liabilities. Interest expense on interest-bearing deposits increased$836,000 , or 19.6%, to$5.1 million for the twelve months endedDecember 31, 2022 from$4.3 million for the twelve months endedDecember 31, 2021 . This increase was due to a$60.4 million increase in the average balance of deposits to$597.7 million for the twelve months endedDecember 31, 2022 from$537.3 million for the twelve months endedDecember 31, 2021 , primarily due to a$35.6 million increase in the average balance of NOW and money market accounts from$104.9 million for the twelve months endedDecember 31, 2021 to$140.5 million for the twelve months endedDecember 31, 2022 and a$21.2 million increase in the average balance of certificates of deposit. The increase was also due to a six basis point increase in the average cost of interest-bearing deposits to 0.85% for the twelve months endedDecember 31, 2022 from 0.79% for the twelve months endedDecember 31, 2021 . Interest expense onFederal Home Loan Bank borrowings increased$643,000 , or 42.3%, from$1.5 million for the twelve months endedDecember 31, 2021 to$2.2 million for the twelve months endedDecember 31, 2022 . The increase was due to an increase in the average cost of borrowings of 55 basis points to 2.11% for the twelve months endedDecember 31, 2022 from 1.56% for the twelve months endedDecember 31, 2021 due to the higher rates on new borrowings. The increase was also due to an increase in the average balance of borrowings of$4.9 million to$102.5 million for the twelve months endedDecember 31, 2022 from$97.6 million for the twelve months endedDecember 31, 2021 . Net Interest Income. Net interest income increased$3.8 million , or 19.7%, to$23.1 million for the twelve months endedDecember 31, 2022 from$19.3 million for the twelve months endedDecember 31, 2021 . The increase reflected a 25 basis point increase in our net interest rate spread to 2.58% for the twelve months endedDecember 31, 2022 from 2.33% for the twelve months endedDecember 31, 2021 . Our net interest margin increased 26 basis points to 2.76% for the twelve months endedDecember 31, 2022 from 2.50% for the twelve months endedDecember 31, 2021 . Provision (Credit) for Loan Losses. We recorded a$425,000 provision for loan losses for the twelve months endedDecember 31, 2022 compared to a$88,000 credit for the twelve months endedDecember 31, 2021 . Higher balances in residential and construction loans, partially offset by a decline in commercial real estate and multi-family loans were the reason for the provision for the twelve months endedDecember 31, 2022 . The Bank continues to have a low level of delinquent and non-accrual loans in the portfolio, as well as no charge-offs. Non-Interest Income. Non-interest income decreased by$3.4 million , or 75.0%, to$1.1 million for the twelve months endedDecember 31, 2022 from$4.5 million for the twelve months endedDecember 31, 2021 . For the twelve months endedDecember 31, 2021 , there was a$2.0 million bargain purchase gain recognized in theGibraltar Bank acquisition. Gain on sale of loans decreased$700,000 , or 88.9% to$87,000 for the twelve months endedDecember 31, 2022 from$786,000 for the twelve months endedDecember 31, 2021 due to a decrease in the volume of loans sold of$20.8 million due to the higher interest rate environment. Bank-owned life insurance income decreased$742,000 , or 51.6% to$695,000 for the twelve months endedDecember 31, 2022 from$1.4 million for the twelve months endedDecember 31, 2021 due to death proceeds collected during the twelve months endedDecember 31, 2021 . Non-Interest Expenses. For the twelve months endedDecember 31, 2022 , non-interest expense decreased$179,000 , or 1.2%, to$14.3 million as one-time merger fees and core conversion costs were$1.1 million in 2021. Salaries and employee benefits increased$691,000 , or 8.9%, due to the new stock compensation plan adopted inSeptember 2021 . Data processing expense increased$97,000 , or 9.3%, due to higher data processing expense associated with a larger company. Advertising expense increased$216,000 due to additional promotions for branch locations and new promotions for loan and deposit products. Professional fees decreased$189,000 , or 25.7%, due to lower consulting and legal expense. The increase in equipment and occupancy expenses of$129,000 , or 10.3%, was mainly due to the additional branch locations. Income Tax Expense. Income tax expense increased$739,000 , or 39.4%, to$2.6 million for the twelve months endedDecember 31, 2022 from$1.9 million for the twelve months endedDecember 31, 2021 . The increase was due to$735,000 of higher taxable income. The effective tax rate for the twelve months endedDecember 31, 2022 and 2021 were 27.55% and 19.96%, respectively. For the twelve-month period endedDecember 31, 2021 , there was$742,000 additional proceeds from bank-owned life insurance which resulted in a lower effective tax rate as well as the bargain purchase gain of$2.0 million , which reduced the effective rate. 44 --------------------------------------------------------------------------------
Management of Market Risk
General. The majority of our assets and liabilities are monetary. Consequently, our most significant form of market risk is interest rate risk. Our assets, consisting primarily of loans, have longer maturities than our liabilities, consisting primarily of deposits. As a result, a principal part of our business strategy is to manage our exposure to changes in market interest rates. Accordingly, our board of directors has an Asset/Liability Management Committee (the "ALCO"), which is comprised of three members of executive management and two independent directors, which oversees the asset/liability management process and related procedures. The ALCO meets on at least a quarterly basis and reviews asset/liability strategies, liquidity positions, alternative funding sources, interest rate risk measurement reports, capital levels and economic trends at both national and local levels. Our interest rate risk position is also monitored quarterly by the board of directors. We manage our interest rate risk to mitigate the exposure of our earnings and capital to changes in market interest rates. We have implemented the following strategies to manage our interest rate risk: originating loans with adjustable interest rates; promoting core deposit products; monitoring the length of our borrowings with theFederal Home Loan Bank and brokered deposits depending on the interest rate environment; maintaining a majority of our investments as available-for-sale; diversifying our loan portfolio; and strengthening our capital position. By following these strategies, we believe that we are better positioned to react to changes in market interest rates. Net Portfolio Value Simulation. We analyze our sensitivity to changes in interest rates through a net portfolio value of equity ("NPV") model. NPV represents the present value of the expected cash flows from our assets less the present value of the expected cash flows arising from our liabilities adjusted for the value of off-balance sheet contracts. The NPV ratio represents the dollar amount of our NPV divided by the present value of our total assets for a given interest rate scenario. NPV attempts to quantify our economic value using a discounted cash flow methodology while the NPV ratio reflects that value as a form of capital ratio. We estimate what our NPV would be at a specific date. We then calculate what the NPV would be at the same date throughout a series of interest rate scenarios representing immediate and permanent, parallel shifts in the yield curve. We currently calculate NPV under the assumptions that interest rates increase 100, 200, 300 and 400 basis points from current market rates and that interest rates decrease 100 and 200 points from current market rates. The following table presents the estimated changes in our net portfolio value that would result from changes in market interest rates asDecember 31, 2022 . All estimated changes presented in the table are within the policy limits approved by the board of directors. NPV as Percent of Portfolio NPV Value of Assets (Dollars in thousands)Basis Point ("bp") Change in Interest Dollar Dollar Percent Rates Amount Change Change NPV Ratio Change 400 bp$ 61,838 $ (60,629 ) (49.51 )% 7.78 % (42.58 )% 300 bp 76,775 (45,692 ) (37.30 ) 9.37 (22.29 ) 200 bp 92,204 (30,263 ) (24.71 ) 10.91 (19.48 ) 100 bp 108,298 (14,169 ) (11.57 ) 12.39 (8.56 ) 0 122,467 - - 13.55 - (100) bp 129,989 7,522 6.14 13.92 11.29 (200) bp 131,189 8,722 7.12 13.60 0.37 Certain shortcomings are inherent in the methodologies used in the above interest rate risk measurements. Modeling changes require making certain assumptions that may or may not reflect the manner in which actual yields and costs respond to changes in market interest rates. The above table assumes that the composition of our interest-sensitive assets and liabilities existing at the date indicated remains constant uniformly across the yield curve regardless of the duration or repricing of specific assets and liabilities. Accordingly, although the 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 our NPV and will differ from actual results. Net Interest Income Analysis. We also use income simulation to measure interest-rate risk inherent in our balance sheet at a given point in time by showing the effect on net interest income, over specified time frames and using different interest rate shocks and ramps. The assumptions include management's best assessment of the effect of changing interest rates on the prepayment speeds of certain assets and liabilities, projections for account balances in each of the product lines offered and the historical behavior of deposit rates and balances in relation to changes in interest rates. These assumptions are subject to change, and as a result, the model is not expected to precisely measure net interest income or precisely predict the impact of fluctuations in interest rates on net interest income. Actual results will differ from the simulated results due to 45 -------------------------------------------------------------------------------- timing, magnitude, and frequency of interest rate changes as well as changes in the balance sheet composition and market conditions. Assumptions are supported with quarterly back testing of the model to actual market rate shifts. As ofDecember 31, 2022 , net interest income simulation results indicated that its exposure over one year to changing interest rates was within our guidelines. The following table presents the estimated impact of interest rate changes on our estimated net interest income over one year: Change in Net Interest Income Year One
Changes in Interest Rates (basis points)(1) (% change from year one base)
400 bp -25.91
300 bp -19.44
200 bp -13.03
100 bp -6.45
0 -
(100) bp 4.65
(200) bp 8.42
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(1)The calculated change in net interest income assumes an instantaneous parallel shift of the yield curve.
The preceding simulation analysis does not represent a forecast of actual results and should not be relied upon as being indicative of expected operating results. These hypothetical estimates are based upon numerous assumptions, which are subject to change, including: the nature and timing of interest rate levels including the yield curve shape, prepayments on loans and securities, deposit decay rates, pricing decisions on loans and deposits, reinvestment/replacement of asset and liability cash flows, and others. Also, as market conditions vary, prepayment/refinancing levels, the varying impact of interest rate changes on caps and floors embedded in adjustable-rate loans, early withdrawal of deposits, changes in product preferences, and other internal/external variables will likely deviate from those assumed.
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 needs and deposit withdrawal requirements of our customers and to fund current and planned expenditures. Our primary sources of funds are deposits, principal and interest payments on loans and securities, loan sales and proceeds from calls, maturities and sales of securities. We also have the ability to borrow from theFederal Home Loan Bank of New York . AtDecember 31, 2022 , we had the ability to borrow up to$334.1 million , of which$102.3 million was outstanding and$1.5 million was utilized as collateral for letters of credit issued to secure municipal deposits. AtDecember 31, 2022 , we had$51.0 million in unsecured lines of credit with four correspondent banks with no outstanding balances. The board of directors is responsible for establishing and monitoring our liquidity targets and strategies in order to ensure that sufficient liquidity exists for meeting the borrowing needs and deposit withdrawals of our customers as well as unanticipated contingencies. We believe that we had enough sources of liquidity to satisfy our short- and long-term liquidity needs as ofDecember 31, 2022 . While maturities and scheduled amortization of loans and securities are predictable sources of funds, deposit flows and loan sales and prepayments are greatly influenced by market interest rates, economic conditions, and competition. Our most liquid assets are cash and cash equivalents. The levels of these assets are dependent on our operating, financing, lending and investing activities during any period. AtDecember 31, 2022 , cash and cash equivalents totaled$16.8 million . Securities classified as available-for-sale, which provide additional sources of liquidity, totaled$85.1 million atDecember 31, 2022 . 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. Certificates of deposit due within one year ofDecember 31, 2022 totaled$291.1 million , or 41.5% of total deposits. If these deposits do not remain with us, we will be required to seek other sources of funds, including other deposits andFederal Home Loan Bank of New York advances. Depending on market conditions, we may be required to pay higher rates on such deposits or borrowings than we currently pay. We believe, however, based on past experience that a significant portion of such deposits will remain with us. We have the ability to attract and retain deposits by adjusting the interest rates offered. 46 --------------------------------------------------------------------------------
Capital Resources. The Bank is subject to various regulatory capital
requirements administered by NJDBI and the
Off-Balance Sheet Arrangements and Aggregate Contractual Obligations
Off-Balance Sheet Arrangements. We are a party to financial instruments with off-balance sheet risk in the normal course of business to meet the financing needs of our customers. The financial instruments include commitments to originate loans, unused lines of credit and standby letters of credit, which involve elements of credit and interest rate risk in excess of the amount recognized in the consolidated balance sheets. Our exposure to credit loss is represented by the contractual amount of the instruments. We use the same credit policies in making commitments as we do for on-balance sheet instruments. AtDecember 31, 2022 , we had$36.5 million of commitments to originate loans, comprised of$2.5 million of residential loans,$41.6 million of commitments under commercial loans and lines of credit (including$32.9 million of unadvanced portions of commercial construction loans),$49.4 million of commitments under home equity loans and lines of credit and$8.2 million of unfunded commitments under consumer lines of credit. See Note 15 in the Notes to the consolidated financial statements for further information. Contractual Obligations. In the ordinary course of our operations, we enter into certain contractual obligations. Such obligations include data processing services, operating leases for premises and equipment, agreements with respect to borrowed funds and deposit liabilities.
Recent Accounting Pronouncements
Please refer to Note 1 in the Notes to the consolidated financial statements that appear starting on page 55 of this Annual Report on Form 10-K for a description of recent accounting pronouncements that may affect our financial condition and results of operations.
Impact of Inflation and Changing Prices
The financial statements and related data presented herein have been prepared in accordance withU.S. GAAP, which requires 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, market interest rates generally have a more significant impact on a financial institution's performance than 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 of Financial Conditions and Results of Operations-Management of Market Risk."
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