UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

FORM 10-Q

 

For the Quarterly Period Ended June 30, 2018

OR

For the transition period from              to             

Commission file number 001-36573

 

Meridian Bancorp, Inc.

(Exact name of registrant as specified in its charter)

 

 

 

(617) 567-1500

(Registrant’s telephone number, including area code)

Not Applicable

(Former name, former address and former fiscal year, if changed since last report)

 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months and (2) has been subject to such filing requirements for the past 90 days.    Yes  ☒    No  ☐

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Website, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes  ☒    No  ☐

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

 

 

 

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

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act).    Yes  ☐    No    ☒

As of August 1, 2018, there were 53,929,594 outstanding shares of the Registrant’s common stock.

 

 

 

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MERIDIAN BANCORP, INC.

FORM 10-Q

 

INDEX

 

 

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PART I – FINANCIAL INFORMATION

 

ITEM 1.     FINANCIAL STATEMENTS

MERIDIAN BANCORP, INC. AND SUBSIDIARIES

CONSOLIDATED BALANCE SHEETS

(Unaudited)

 

 

See accompanying notes to consolidated financial statements.

 

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MERIDIAN BANCORP, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF NET INCOME

(Unaudited)

 

 

See accompanying notes to consolidated financial statements.

 

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MERIDIAN BANCORP, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME

(Unaudited)

 

 

See accompanying notes to consolidated financial statements.

 

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MERIDIAN BANCORP, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS’ EQUITY

Six Months Ended June 30, 2018 and 2017

(Unaudited)

 

 

See accompanying notes to consolidated financial statements.  

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MERIDIAN BANCORP, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS

(Unaudited)

 

 

See accompanying notes to consolidated financial statements.

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MERIDIAN BANCORP, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

1. BASIS OF PRESENTATION

The consolidated financial statements include the accounts of Meridian Bancorp, Inc. (the “Company”) and all other entities in which it has a controlling financial interest. The Company owns 100% of the outstanding shares of East Boston Savings Bank (the “Bank”). The Bank’s subsidiaries include: (1) Prospect, Inc., which engages in securities transactions on its own behalf; (2) EBOSCO, LLC, which can hold foreclosed real estate; and (3) East Boston Investment Services, Inc., which is authorized for third-party investment sales and is currently inactive. All significant intercompany balances and transactions have been eliminated in consolidation.

The accompanying unaudited interim consolidated financial statements of the Company have been prepared in accordance with generally accepted accounting principles in the United States of America (“GAAP”) for interim financial information and with the instructions to Form 10-Q and Rule 10-01 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by such generally accepted accounting principles for complete financial statements. In the opinion of management, all adjustments considered necessary for a fair presentation have been included. Such adjustments were of a normal recurring nature. The results of operations for the three and six months ended June 30, 2018 are not necessarily indicative of the results that may be expected for the entire year or any other interim period. For additional information, refer to the financial statements and footnotes thereto of the Company included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2017, which was filed with the Securities and Exchange Commission (“SEC”) on March 1, 2018, and is available through the SEC’s website at www.sec.gov.

In preparing consolidated financial statements in conformity with GAAP, management is required to make estimates and assumptions that affect the reported amounts of assets and liabilities as of the date of the consolidated balance sheet and reported amounts of revenues and expenses during the reported 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 loan losses and the evaluation of securities for other-than-temporary impairment.

 

2. RECENT ACCOUNTING PRONOUNCEMENTS

Adopted During the Period

In May 2014, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) No. 2014-09, Revenue from Contracts with Customers (Topic 606). The objective of this ASU is to clarify the principles for recognizing revenue and to develop a common revenue standard for GAAP and International Financial Reporting Standards. The guidance in this ASU affects any entity that either enters into contracts with customers to transfer goods or services or enters into contracts for the transfer of nonfinancial assets unless those contracts are within the scope of other standards. The core principal of the guidance is that an entity should recognize revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. The guidance does not apply to revenue associated with financial instruments, including loans and investment securities that are accounted for under GAAP, which comprise a significant portion of our revenue stream. ASU 2014-09 became effective for the Company on January 1, 2018 and had no material effect on how the Company recognizes revenue in our consolidated financial statements and disclosures.

In January 2016, the FASB issued ASU No. 2016-01, Financial Instruments — Overall, (Subtopic 825-10). The amendments in this update address certain aspects of recognition, measurement, presentation and disclosure of financial instruments. Targeted changes to GAAP include the requirement for equity investments (except those accounted for under the equity method of accounting or those that result in consolidation of the investee) to be measured at fair value with changes in fair value recognized in net income and the elimination of the requirement for public business entities to disclose the methods and significant assumptions used to estimate the fair value for financial instruments measured at amortized cost. The ASU required a cumulative-effect adjustment to retained earnings as of the beginning of the reporting period of adoption to reclassify the cumulative change in fair value of equity securities previously recognized in Accumulated Other Comprehensive Income (“AOCI”). ASU 2016-01 become effective for the Company on January 1, 2018. The adoption of the guidance resulted in an insignificant cumulative-effect adjustment that increased retained earnings, with an offsetting adjustment to deferred taxes and AOCI. See Note 4 – Securities for disclosures related to equity securities.

 

 

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To be Adopted in Future Periods

In February 2016, the FASB issued ASU No. 2016-02, Leases (Topic 842). This update is intended to improve financial reporting about leasing transactions and the key provision impacting the Company is the requirement for a lessee to record a right-to-use asset and liability representing the obligation to make lease payments for long-term operating leases. The update will be effective for public business entities for fiscal years beginning after December 15, 2018, including interim periods within those fiscal years. As of December 31, 2017, the Company had future minimum lease payments of $15.5 million, all under operating lease agreements. Upon adoption, the Company expects its assets and liabilities to increase based on the present value of the future minimum lease payments, using the discount rate applicable at the outset of the lease agreement. However, the adoption of this ASU is not expected to be material to the Company’s results of operations or financial position.

In June 2016, the FASB issued ASU No. 2016-13, Financial Instruments – Credit Losses (Topic 326). The main objective of this update is to provide financial statement users with more decision-useful information about the expected credit losses on financial instruments, including loans, held-to-maturity debt securities and commitments to extend credit held by a reporting entity at each reporting date. To achieve this objective, the amendments in this update replace the incurred loss impairment methodology in current GAAP with a methodology, referred to as Current Expected Credit Loss, or CECL, that reflects expected credit losses and requires consideration of a broader range of reasonable and supportable information to inform credit loss estimates. Credit losses on available-for-sale debt securities will be measured in a manner similar to current GAAP, but will be recognized through an allowance rather than as a direct write-down. This update will be effective for fiscal years beginning after December 15, 2019, including interim periods within those fiscal years. Early adoption will be permitted for all entities for fiscal years beginning after December 15, 2018, including interim periods within those fiscal years. The Company is developing a project plan to facilitate the implementation of CECL. This plan will consider potential enhancements to internal controls, loan pool segmentation, loan loss estimation methodology, data gathering resources, data analytics and necessary disclosures. The adoption of this ASU may result in material changes to the allowance for loan losses with a resulting adjustment to retained earnings, however any potential adjustment will be dependent on the credit risks within the portfolio and the economic environment at the time of adoption.

In January 2017, the FASB issued ASU No. 2017-04, Intangibles — Goodwill and Other (Topic 350). The update intends to simplify the subsequent measurement of goodwill by requiring an entity to compare the fair value of a reporting unit to its carrying value, including goodwill. An entity should recognize an impairment charge for the amount by which the carrying amount exceeds the reporting unit’s fair value; however, the impairment charge should not exceed the total amount of goodwill allocated to that reporting unit. This update will be effective for fiscal years beginning after December 15, 2019, including interim periods within those fiscal years. The adoption of this ASU is not expected to be material to the Company’s results of operations or financial position.

 

 

3. EARNINGS PER SHARE

Basic earnings per share excludes dilution and is calculated by dividing net income available to common stockholders by the weighted-average number of common shares outstanding during the period. Rights to dividends on unvested stock awards are non-forfeitable, therefore these unvested stock awards are considered outstanding in the computation of basic earnings per share. Diluted earnings per share is computed in a manner similar to that of basic earnings per share except that the weighted-average number of common shares outstanding is increased to include the number of incremental common shares (computed using the treasury method) that would have been outstanding if all potentially dilutive common stock equivalents (such as options) were issued during the period. Unallocated common shares held by the ESOP are shown as a reduction in stockholders’ equity and are not included in the weighted-average number of common shares outstanding for either basic or diluted earnings per share calculations.

Basic and diluted earnings per share have been computed based on the following:

 

 

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For the three and six months ended June 30, 2018, options for the exercise of 63,629 shares and 48,493 shares, respectively, were not included in the calculation of diluted earnings per share because to do so would have been anti-dilutive. An anti-dilutive option exists when the average stock price for the period is less than the exercise price of the option. For the three and six months ended June 30, 2017, there were no anti-dilutive options.

4. SECURITIES

Securities Available for Sale

The amortized cost and fair values of securities available for sale, with gross unrealized gains and losses, follows:

 

 

At, June 30, 2018 debt securities with a fair value of $2.9 million and $463,000 were pledged as collateral for Federal Home Loan Bank of Boston (“FHLB”) borrowings and for the Federal Reserve Bank discount window borrowings, respectively.

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The amortized cost and fair value of debt securities by contractual maturity at June 30, 2018 are as follows. Expected maturities may differ from contractual maturities because issuers may have the right to call or prepay obligations with or without prepayment penalties.

 

 

Information pertaining to securities available for sale as of June 30, 2018 and December 31, 2017, with gross unrealized losses aggregated by investment category and length of time that individual securities have been in a continuous loss position, follows:

 

 

 

The Company determined no debt securities were other-than-temporarily impaired for the six months ended June 30, 2018 and 2017. Management evaluates debt securities for other-than-temporary impairment on a quarterly basis, with more frequent evaluation for selected issuers or when economic or market concerns warrant such evaluations.

 

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Equity Securities

Equity securities consist of common stocks and money market mutual funds. The Company held equity securities with an aggregate fair value of $15.4 million and $17.8 million at June 30, 2018 and December 31, 2017, respectively. Prior to January 1, 2018, equity securities were stated at fair value with unrealized gains and losses reported as a separate component of AOCI, net of tax.  At December 31, 2017, net unrealized gains of $694,000 had been recognized in AOCI. On January 1, 2018 these unrealized gains and losses were reclassified out of AOCI and into retained earnings with subsequent changes in fair value being recognized in net income.

The following is a summary of unrealized and realized gains and losses recognized in net income on equity securities during the three and six months ended June 30, 2018:

 

 

5. LOANS

A summary of loans follows:

 

 

The Company has transferred a portion of its originated commercial real estate loans to participating lenders. The amounts transferred have been accounted for as sales and are therefore not included in the Company’s accompanying balance sheets. The Company and participating lenders share ratably in any gains or losses that may result from a borrower’s lack of compliance with contractual terms of the loan. The Company continues to service the loans on behalf of the participating lenders and, as such, collects cash payments from the borrowers, remits payments to participating lenders and disburses required escrow funds to relevant parties. At June 30, 2018  and December 31, 2017, the Company was servicing loans for participants aggregating $194.6 million and $247.8 million, respectively.

At June 30, 2018, multi-family and commercial real estate loans with carrying values totaling $256.7 million and $769.5 million, respectively, were pledged as collateral for FHLB borrowings.

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An analysis of the allowance for loan losses and related information follows:

 

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The following table provides information about the Company’s past due and non-accrual loans:

 

 

At June 30, 2018  and December 31, 2017, the Company did not have any accruing loans past due 90 days or more.

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The following tables provide information with respect to the Company’s impaired loans:

 

 

 

At June 30, 2018, additional funds committed to be advanced in connection with impaired construction loans were immaterial.

 

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The following table summarizes the Company’s troubled debt restructurings (“TDRs”) at the dates indicated:

 

 

The Company generally places loans modified as TDRs on non-accrual status for a minimum period of six months. Loans modified as TDRs qualify for return to accrual status once they have demonstrated performance with the modified terms of the loan agreement for a minimum of six consecutive months and future payments are reasonably assured. TDRs are initially reported as impaired loans with an allowance established as part of the allocated component of the allowance for loan losses when the discounted cash flows of the impaired loan is lower than the carrying value of that loan. TDRs may be removed from impairment disclosures in the year following the restructure if the borrower demonstrates compliance with the modified terms and the restructuring agreement specifies an interest rate equal to that which would be provided to a borrower with similar credit at the time of restructuring.

The Company utilizes a ten-grade internal loan rating system for multi-family, commercial real estate, construction, and commercial and industrial loans as follows:

On an annual basis, or more often if needed, the Company formally reviews the ratings on multi-family, commercial real estate, construction, and commercial and industrial loans. The Company also engages an independent third-party to review a significant portion of loans within these segments on at least an annual basis. Management uses the results of these reviews as part of its annual review process.

The following tables provide the Company’s risk-rated loans by class:

 

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For one- to four-family residential real estate loans, home equity lines of credit and consumer loans, management uses delinquency reports as the key credit quality indicator.

6. DEPOSITS

A summary of deposit balances, by type, follows:

 

 

A summary of term certificates, by maturity, follows:

 

 

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The Company had certificate of deposit accounts obtained through a listing service, included in term certificates in the table above, totaling $51.2 million with a weighted average rate of 2.34% and $943,000 with a weighted average rate of 1.28% at June 30, 2018 and December 31, 2017, respectively. The Company had brokered certificates of deposit, which are included in term certificates in the table above, totaling $314.7 million with a weighted average rate of 1.96% and $232.7 million with a weighted average rate of 1.73% at June 30, 2018 and December 31, 2017, respectively. In addition, the Company had $150.1 million and $100.0 million in brokered interest-bearing demand deposits at June 30, 2018 and December 31, 2017, respectively. At June 30, 2018 and December 31, 2017, the Company had interest-bearing demand deposits totaling $681.3 million and $569.4 million, respectively, representing reciprocal deposits received from other financial institutions through Authorized Bank Deposit Placement Network Sponsor to facilitate full federal deposit insurance coverage for certain Bank customers. The “Economic Growth, Regulatory Relief, and Consumer Protection Act”, enacted on May 24, 2018, added a limited exception from brokered deposit disclosure for reciprocal deposits. Under the terms of this law our reciprocal deposits were not considered to be brokered at June 30, 2018.

7. BORROWINGS

The Company had no short-term borrowings with an original maturity of less than one year at June 30, 2018 or December 31, 2017. The Company has an available line of credit of $9.4 million with the FHLB at an interest rate that adjusts daily and $463,000 of borrowing capacity at the Federal Reserve Bank discount window. No amounts were drawn on the line of credit and no borrowings were outstanding with the Federal Reserve Bank discount window as of June 30, 2018 or December 31, 2017.

Long-term debt consists of FHLB advances as follows:

 

 

At June 30, 2018, advances amounting to $465.0 million are callable by the FHLB prior to maturity, including advances totaling $20.0 million with variable rates based on the 3-month London Interbank Offered Rate (LIBOR), less 60 basis points, during the first two years, $105.0 million with variable rates based on the 3-month LIBOR, less 130 basis points, during the first year, $50.0 million with variable rates based on the 3-month LIBOR, less 100 basis points, during the first year, $25.0 million with variable rates based on the 3-month LIBOR, less 125 basis points, during the first year, $25.0 million with variable rates based on the 3-month LIBOR, less 75 basis points, during the first year, $15.0 million with variable rates based on the 3-month LIBOR, less 230 basis points, during the first year and $50.0 million with variable rates based on the 3-month LIBOR, less 200 basis points, during the first year.     

All borrowings from the FHLB are secured by investment securities and qualified collateral, consisting of a blanket lien on one- to four-family loans and certain multi-family and commercial real estate loans held in the Company’s portfolio. At June 30, 2018, the Company pledged multi-family and commercial real estate loans with carrying values totaling $256.7 million and $769.5 million, respectively.

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8. OTHER COMMITMENTS AND CONTINGENCIES AND DERIVATIVES

In the normal course of business, there are outstanding commitments and contingencies which are not reflected in the accompanying consolidated financial statements.

Loan Commitments

The Company is party to financial instruments with off-balance sheet risk in the normal course of business to meet the financing needs of its customers and to reduce its own exposure to fluctuations in interest rates. The instruments involve, to varying degrees, elements of credit and interest rate risk in excess of the amount recognized in the accompanying consolidated balance sheets. The contract amounts of those instruments reflect the extent of involvement the Company has in particular classes of financial instruments.

The Company’s exposure to credit loss in the event of nonperformance by the counterparty to the financial instrument for loan commitments is represented by the contractual amount of those instruments. The Company uses the same credit policies in making commitments as it does for on-balance sheet instruments.

A summary of outstanding loan commitments whose contract amounts represent credit risk is as follows:

 

 

Commitments to originate loans are agreements to lend to a customer provided there is no violation of any condition established in the contract. Commitments generally have fixed expiration dates or other termination clauses and may require payment of a fee. Since a portion of the commitments are expected to expire without being drawn upon, the total commitments do not necessarily represent future cash requirements. The Company evaluates each customer’s credit worthiness on a case by case basis. The amount of collateral obtained, if deemed necessary by the Company for the extension of credit, is based upon management’s credit evaluation of the borrower. Collateral held includes, but is not limited to, residential real estate and deposit accounts.

Unfunded commitments under lines of credit are commitments for possible future extensions of credit to existing customers. These lines of credit are collateralized if deemed necessary and usually do not contain a specified maturity date and may not be drawn upon to the total extent to which the Company is committed. Letters of credit are conditional commitments issued by the Company to guarantee the performance of a customer to a third party. Those letters of credit are primarily issued to support borrowing arrangements. The credit risk involved in issuing letters of credit is essentially the same as that involved in extending loan facilities to customers.

Interest Rate Swaps

The Company is a party to interest rate derivatives that are not designated as hedging instruments. These derivatives relate to interest rate swaps that the Company enters into with commercial business customers to synthetically convert their loans from a variable rate to a fixed rate. The Company pays interest to the customer at a floating rate on the notional amount and receives interest from the customer at a fixed rate for the same notional amount. Concurrently, the Company enters into an offsetting interest rate swap with a third party financial institution. In the offsetting swap, the Company pays the other financial institution interest at the same fixed rate on the same notional amount as the swap entered into with the customer, and receives interest from the financial institution for the same floating rate on the same notional amount. The changes in the fair value of the swaps offset each other, except for the credit risk of the counterparties, which is determined by taking into consideration the risk rating and probability of default. At June 30, 2018 and December 31, 2017, the Company had $1.3 million in cash pledged for collateral on its interest rate swaps with the third-party financial institution. Derivative assets and liabilities are included in other assets and other liabilities on the consolidated balance sheets.

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Summary information regarding these derivatives is presented below:

 

 

Other Commitments

As of June 30, 2018, the Company has an outstanding commitment of $15.1 million with its core data processing provider through December 2021.

Employment and Change in Control Agreements

The Company has entered into employment agreements with certain senior executives which provide for a minimum annual salary, subject to increase at the discretion of the Board of Directors, and other benefits. The agreements may be terminated for cause by the Company without further liability on the part of the Company, or by the executives with prior written notice to the Board of Directors. The Company also has change in control agreements with several officers which provide a severance payment in the event employment is terminated in conjunction with a defined change in control.

Legal Claims

Various legal claims may arise from time to time in the normal course of business, but in the opinion of management, these claims are not expected to have a material effect on the Company’s consolidated financial statements.

9. FAIR VALUES OF ASSETS AND LIABILITIES

Determination of Fair Value

The Company uses fair value measurements to record fair value adjustments to certain assets and liabilities and to determine fair value disclosures. The fair value of assets and liabilities is the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. Fair value is best determined based upon quoted market prices. However, in many instances, there are no quoted market prices for the Company’s various assets and liabilities. In cases where quoted market prices are not available, fair values are based on estimates using present value or other valuation techniques. Those techniques are significantly affected by the assumptions used including the discount rate and estimates of future cash flows. Accordingly, the fair value estimates may not be realized in an immediate settlement of the asset or liability.

The following methods and assumptions were used by the Company in estimating fair value disclosures:

Securities, at fair value — All fair value measurements are obtained from a third party pricing service and are not adjusted by management. Equity securities are measured at fair value utilizing quoted market prices (Level 1). Corporate bonds, obligations of government-sponsored enterprises, U.S. treasury securities, municipal bonds and mortgage-backed securities are determined by pricing models that consider standard input factors such as observable market data, benchmark yields, reported trades, broker/dealer quotes, credit spreads, benchmark securities, as well as new issue data, monthly payment information, and collateral performance, among others (Level 2).

Loan level interest rate swaps – The fair value is based on settlement values adjusted for credit risks associated with the counterparties and the Company and observable market interest rate curves.

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Assets and Liabilities Measured at Fair Value on a Recurring Basis

Assets measured at fair value on a recurring basis are summarized as follows. There were no liabilities measured at fair value on a recurring basis.

 

 

Assets Measured at Fair Value on a Non-recurring Basis

The Company may also be required, from time to time, to measure certain other assets on a non-recurring basis in accordance with generally accepted accounting principles. These adjustments to fair value usually result from the application of lower-of-cost-or market accounting or write-downs of individual assets.

Certain impaired loans were adjusted to fair value, less cost to sell, of the underlying collateral securing these loans resulting in losses. The loss is not recorded directly as an adjustment to current earnings, but rather as a component in determining the allowance for loan losses. Fair value was measured using appraised values of collateral and adjusted as necessary by management based on unobservable inputs for specific properties. Impaired loans measured at fair value at June 30, 2018 and December 31, 2017 were $1.8 million and $1.9 million, respectively.  

 

 

 

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Summary of Fair Values of Financial Instruments

The estimated fair values, and related carrying amounts, of the Company’s financial instruments are as follows. Certain financial instruments and all nonfinancial instruments are exempt from disclosure requirements. Accordingly, the aggregate fair value amounts presented herein do not represent the underlying fair value of the Company.

 

 

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

This discussion and analysis reflects our consolidated financial statements and other relevant statistical data, and is intended to enhance your understanding of our financial condition and results of operations. You should read the information in this section in conjunction with our business and financial information and the Consolidated Financial Statements and related notes that are included in the Company’s Annual Report on Form 10-K for the fiscal year ended December 31, 2017, filed with the SEC.

Forward Looking Statements

This report contains forward-looking statements that are based on assumptions and may describe future plans, strategies and expectations of the Company. These forward-looking statements, which can be identified by the use of words such as “will”, “continue”, “estimate,” “project,” “believe,” “intend,” “anticipate,” “plan,” “seek,” “expect” and words of similar meaning. The Company’s ability to predict results or actual effect of future plans is inherently uncertain. Factors which could have a material adverse effect on the operations of the Company and its subsidiaries include, but are not limited to:

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Management’s ability to predict results or the effect of future plans or strategies is inherently uncertain. Additional factors that may affect our results are discussed in our Annual Report on Form 10-K for the fiscal year ended December 31, 2017 filed with the SEC on March 1, 2018, under “Risk Factors,” which is available through the SEC’s website at www.sec.gov, as updated by subsequent filings with the SEC. These risks and uncertainties should be considered in evaluating forward-looking statements and undue reliance should not be placed on such statements. Except required by applicable law or regulation, the Company does not undertake, and specifically disclaims any obligation, to release publicly the result of any revisions that may be made to any forward-looking statements to reflect events or circumstances after the date of the statements or to reflect the occurrence of anticipated or unanticipated events.

Critical Accounting Policies

A summary of significant accounting policies is described in Note 1 to the Consolidated Financial Statements included in the Annual Report on Form 10-K for the year ended December 31, 2017. Critical accounting estimates are necessary in the application of certain accounting policies and procedures and are particularly susceptible to significant change. Critical accounting policies are defined as those involving significant judgments and assumptions by management that could have a material impact on the carrying value of certain assets or on income under different assumptions or conditions. Management believes that the most critical accounting policies are the determination of the allowance for loan losses and the evaluation of securities for other-than-temporary impairment.

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

Assets. Total assets increased $378.1 million, or 7.1%, to $5.678 billion at June 30, 2018 from $5.299 billion at December 31, 2017. Net loans increased $492.1 million, or 10.6%, to $5.115 billion at June 30, 2018 from $4.623 billion at December 31, 2017. Cash and due from banks decreased $73.1 million, or 18.2%, to $329.6 million at June 30, 2018 from $402.7 million at December 31, 2017. Certificates of deposit decreased $45.4 million, or 65.5%, to $23.9 million at June 30, 2018 from $69.3 million at December 31, 2017, primarily due to maturities of $50.4 million, partially offset by purchases of $5.0 million. Securities at fair value decreased $4.5 million, or 11.7%, to $33.9 million at June 30, 2018 from $38.4 million at December 31, 2017.

Loan Portfolio Analysis. At June 30, 2018, net loans were $5.115 billion, or 90.1% of total assets. During the six months ended June 30, 2018, net loans increased $492.1 million, or 10.6%. Loan originations totaled $842.6 million during the six months ended June 30, 2018. The increase in net loans resulted primarily from increases of $323.1 million in commercial real estate loans, $131.9 million in multi-family loans, $43.3 million in commercial and industrial loans and $32.0 million in one- to four-family loans. Refer to Note 5, Loans, in Notes to the Unaudited Consolidated Financial Statements within this report for more detail regarding the loans held in the Company’s loan portfolio.

Credit Risk Management. Our strategy for credit risk management focuses on having well-defined credit policies and uniform underwriting criteria and providing prompt attention to potential problem loans. Management of asset quality is accomplished by internal controls, monitoring and reporting of key risk indicators, and both internal and independent third-party loan reviews. The primary objective of our loan review process is to measure borrower performance and assess risk for the purpose of identifying loan weakness in order to minimize loan loss exposure. From the time of loan origination through final repayment, multi-family, commercial real estate, construction, and commercial and industrial loans are assigned a risk rating based on pre-determined criteria and levels of risk. The risk rating is monitored annually for most loans; however, it may change during the life of the loan as appropriate.

Internal and independent third-party loan reviews vary by loan type, as well as the size and complexity of the loan. Depending on the size and complexity of the loan, some loans may warrant detailed individual review, while other loans may have less risk based upon size, or be of a homogeneous nature reducing the need for detailed individual analysis. Assets with these characteristics, such as consumer loans and loans secured by residential real estate, may be reviewed on the basis of risk indicators such as delinquency or credit rating. In cases of significant concern, a total re-evaluation of the loan and associated risks are documented by completing a loan risk assessment and action plan. Some loans may be re-evaluated in terms of their fair market value or net realizable value in order to determine the likelihood of potential loss exposure and, consequently, the adequacy of specific and general loan loss reserves.

When a borrower fails to make a required loan payment, we take a number of steps to have the borrower cure the delinquency and restore the loan to current status, including contacting the borrower by letter and phone at regular intervals. When the borrower is in default, we may commence collection proceedings. If a foreclosure action is instituted and the loan is not brought current, paid in full, or refinanced before the foreclosure sale, the real property securing the loan generally is sold at foreclosure. Management informs the Executive Committee monthly of the amount of loans delinquent more than 30 days. Management provides detailed information to the Board of Directors on loans 60 or more days past due and all loans in foreclosure and repossessed property that we own.

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Delinquencies. Total past due loans increased $115,000, or 1.7%, to $6.7 million at June 30, 2018 from $6.6 million at December 31, 2017, reflecting a net increase of $456,000 in loans 30 to 89 days past due, partially offset by a $341,000 decrease in loans 90 days or greater past due. At June 30, 2018, non-accrual loans exceeded loans 90 days or greater past due primarily due to loans which were placed on non-accrual status based on a determination that the ultimate collection of all principal and interest due was not expected and certain loans remain on non-accrual status until they attain a sustained contractual payment history of six consecutive months.

Non-performing Assets. Non-performing assets include loans that are 90 or more days past due or on non-accrual status, including TDRs on non-accrual status, and real estate and other loan collateral acquired through foreclosure and repossession. Loans 90 days or greater past due may remain on an accrual basis if adequately collateralized and in the process of collection. At June 30, 2018 we did not have any accruing loans past due 90 days or greater. For non-accrual loans, interest previously accrued but not collected is reversed and charged against income at the time a loan is placed on non-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.

Real estate that we acquire as a result of foreclosure or by deed-in-lieu of foreclosure is classified as foreclosed real estate until it is sold. When property is acquired, it is initially recorded at the fair value, less estimated costs to sell, at the date of foreclosure, establishing a new cost basis. Holding costs and declines in fair value after acquisition of the property result in charges against income. The recorded investment of consumer mortgage loans secured by residential real estate properties for which formal foreclosure proceedings are in process according to local requirements of the applicable jurisdiction totaled $2.0 million at June 30, 2018. The following table provides information with respect to our non-performing assets at the dates indicated.

 

 

Non-accrual loans decreased $458,000, or 5.5%, to $7.9 million, or 0.15% of total loans outstanding at June 30, 2018, from $8.4 million, or 0.18% of total loans outstanding at December 31, 2017, primarily due to a decrease of $433,000 in non-accrual, one- to four-family loans.

Achieving and maintaining a moderate risk profile by aggressively managing troubled assets has been and will continue to be a primary focus for us. At June 30, 2018, our allowance for loan losses was $49.4 million, or 0.96% of total loans and 624.93% of non-accrual loans, compared to $45.2 million, or 0.97% of total loans and 540.30% of non-accrual loans at December 31, 2017. We increased our allowance primarily as a result of growth in the loan portfolio, in particular, commercial loans. Included in our allowance at June 30, 2018 was a general component of $49.2 million, which is based upon our evaluation of various factors relating to loans not deemed to be impaired. We continue to believe our level of non-performing loans and assets, which declined significantly during the past two years, is manageable and we believe that we have sufficient capital and human resources to manage the collection of our non-performing assets in an orderly fashion.

At June 30, 2018 and December 31, 2017, the Company did not hold any foreclosed real estate. We continue to be actively engaged with our borrowers in resolving remaining problem assets and with the effective management of real estate owned as a result of foreclosures.

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Troubled Debt Restructurings. In the course of resolving loans to borrowers with financial difficulties, we may choose to restructure the contractual terms of certain loans, with terms modified to fit the ability of the borrower to repay in line with its current financial status. A loan is considered a TDR if, for reasons related to the debtor’s financial difficulties, a concession is granted to the debtor that would not otherwise be considered.

Total TDRs decreased $222,000 to $13.5 million at June 30, 2018 from $13.7 million at December 31, 2017, reflecting principal pay downs. Modifications of TDRs consist of rate reductions, loan term extensions or provisions for interest-only payments for specified periods up to 12 months. We have generally been successful with the concessions we have offered to borrowers to date. We generally return TDRs to accrual status when they have sustained payments for six consecutive months based on the restructured terms and future payments are reasonably assured.

Potential Problem Loans. Certain loans are identified during our loan review process that are currently performing in accordance with their contractual terms and we ultimately expect to receive payment in full of principal and interest, but it is deemed probable that we will be unable to collect all the scheduled payments of principal or interest when due according to the contractual terms of the loan agreement. This may result from deteriorating conditions such as cash flows, collateral values or creditworthiness of the borrower. These loans are classified as impaired but are not accounted for on a non-accrual basis.

Other potential problem loans are those loans that are currently performing, but where known information about possible credit problems of the borrowers causes us to have concerns as to the ability of such borrowers to comply with contractual loan repayment terms. These other potential problem loans are generally loans classified as “substandard” or 8-rated loans in accordance with our ten-grade internal loan rating system that is consistent with guidelines established by banking regulators. At June 30, 2018, other potential problem loans totaled $27.1 million, including a $24.1 million of commercial and industrial loan relationship and $3.0 million of multi-family loans. The $24.1 million of commercial and industrial loan relationship classified as substandard are loans to a non-profit educational organization in eastern Massachusetts that was identified during our loan review process as having possible financial issues that, if not corrected, could result in some loss to the Company. It was determined that this loan relationship is performing in accordance with the terms of the loans with the current expectation that we will be repaid in full in accordance with those terms, but with continual credit monitoring of the relationship.

Allowance for Loan Losses. The allowance for loan losses is maintained at levels considered adequate by management to provide for probable loan losses inherent in the loan portfolio as of the consolidated balance sheet reporting dates. The allowance for loan losses is based on management’s assessment of various factors affecting the loan portfolio, including portfolio composition, delinquent and non-accrual loans, national and local business conditions and loss experience and an overall evaluation of the quality of the underlying collateral.

Changes in the allowance for loan losses during the periods indicated were as follows:

 

 

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Our provision for loan losses was $4.1 million for the six months ended June 30, 2018 compared to $3.1 million for the six months ended June 30, 2017.  For the six months ended June 30, 2018 the increase in the provision for loan losses was primarily due to growth in the commercial loan categories. The allowance for loan losses was $49.4 million or 0.96% of total loans at June 30, 2018, compared to $45.2 million or 0.97% of total loans at December 31, 2017. The changes in the provision and the allowance for loan losses coverage ratio were based on management’s assessment of loan portfolio growth and composition changes, declines in historical charge-off trends, reduced levels of problem loans and other improving asset quality trends. The increase in the allowance for loan losses at June 30, 2018  compared to December 31, 2017 was primarily due to increases in the commercial real estate and multi-family loan categories. Generally, multi-family, commercial real estate, construction and commercial and industrial loan categories have higher inherent credit risks than one- to four- family loans and home equity lines of credit. We continue to assess the adequacy of our allowance for loan losses in accordance with established policies.

The following table sets forth the breakdown of the allowance for loan losses by loan category at the dates indicated:

 

 

The allowance consists of general and allocated components. The general component relates to pools of non-impaired loans and is based on historical loss experience adjusted for qualitative factors. The allocated component relates to loans that are classified as impaired. A loan is considered impaired when, based on current information and events, it is probable that we will be unable to collect the scheduled payments of principal or interest when due according to the contractual terms of the loan agreement. Factors considered by management in determining impairment include payment status, collateral value and the probability of collecting scheduled principal and interest payments when due. Impairment is measured on a loan by loan basis by either the present value of expected future cash flows discounted at the loan’s effective interest rate, the loan’s obtainable market price, or the fair value of the collateral if the loan is collateral dependent.

We had impaired loans totaling $4.8 million as of June 30, 2018 and $4.9 million as of December 31, 2017. At June 30, 2018, impaired loans totaling $1.8 million had a valuation allowance of $189,000. Impaired loans totaling $1.8 million had a valuation allowance of $184,000 at December 31, 2017. Our average investment in impaired loans was $5.0 million and $8.0 million for the six months ended June 30, 2018 and 2017, respectively.

Large groups of smaller balance homogeneous loans are collectively evaluated for impairment based on payment status. Accordingly, we do not separately identify individual one- to four-family residential real estate, home equity lines of credit and consumer loans for impairment disclosures, unless such loans are subject to a troubled debt restructuring. We periodically may agree to modify the contractual terms of loans. When a loan is modified and a concession is made to a borrower experiencing financial difficulty, the modification is considered a TDR. All TDRs are initially classified as impaired.

Management has reviewed the collateral value for all impaired and non-accrual loans that were collateral-dependent as of June 30, 2018 and considered any probable loss in determining the allowance for loan losses.

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For residential loans measured for impairment based on the collateral value, we will do the following:

For commercial loans measured for impairment based on the collateral value, we will do the following:

Loans that are partially charged off generally remain on non-accrual status until foreclosure or such time that they are performing in accordance with the terms of the loan and have a sustained contractual payment history of at least six consecutive months. The accrual of interest is generally discontinued when the contractual payment of principal or interest has become 90 days past due or management has serious doubts about further collectability of principal or interest, even though the loan is currently performing. Loan losses are charged against the allowance when we believe the uncollectability of a loan balance is confirmed; for collateral-dependent loans, generally when appraised values (as adjusted values, if applicable), less estimated costs to sell, are less than our carrying values.

Although we believe that we use the best information available to establish the allowance for loan losses, future adjustments to the allowance for loan losses may be necessary and our results of operations could be adversely affected if circumstances differ substantially from the assumptions used in making the determinations. Furthermore, while we believe we have established our allowance for loan losses in conformity with generally accepted accounting principles in the United States of America, there can be no assurance that regulators, in reviewing our loan portfolio, will not require us to increase our allowance for loan losses. In addition, because future events affecting borrowers and collateral cannot be predicted with certainty, there can be no assurance that the existing allowance for loan losses is adequate or that increases will not be necessary should the quality of any loans deteriorate as a result of the factors discussed above. Any material increase in the allowance for loan losses may adversely affect our financial condition and results of operations.

Securities Portfolio. At June 30, 2018, our securities portfolio was $33.9 million, or 0.6% of total assets, compared to $38.4 million, or 0.7% of total assets, at December 31, 2017. During the six months ended June 30, 2018, the securities portfolio decreased $4.5 million, or 11.7%, primarily due to $1.6 million in maturities, calls and principal payments and $2.8 million in sales, partially offset by $763,000 in purchases. At June 30, 2018, the securities portfolio consisted of $18.4 million, or 54.4%, in debt securities and $15.4 million, or 45.6%, in equity securities. The debt securities within the portfolio are government-sponsored enterprises, municipal bonds, and mortgage-backed securities issued by government-sponsored enterprises and private companies. Included in marketable equity securities are common stocks and money market mutual funds. We purchase equity securities with the intent to generate long-term capital gains through purchasing investment grade dividend paying securities in companies with relatively low long-term debt and a history of sustained earnings and above-average growth. We typically initiate a securities position based on market opportunities. At June 30, 2018, we had no investments in a single company or entity that had an aggregate book value in excess of 10% of our stockholders’ equity. Refer to Note 4, Securities, in Notes to the Unaudited Consolidated Financial Statements within this report for more detail regarding our securities portfolio.

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Deposits. Deposits are a major source of our funds for lending and other investment purposes. Deposit inflows and outflows are significantly influenced by general interest rates and money market conditions. Our deposit base is comprised of demand, interest-bearing checking, money market, regular savings and other deposits, and certificates of deposit, which include brokered certificates of deposit. We consider demand, interest-bearing checking, money market, and regular savings and other deposits to be core deposits. Total deposits increased $281.7 million, or 6.9%, to $4.390 billion at June 30, 2018 from $4.108 billion at December 31, 2017. Our continuing focus on the acquisition and expansion of core deposit relationships resulted in net growth in core deposits of $81.9 million, or 3.0%, to $2.819 billion, or 64.2% of total deposits. Refer to Note 6, Deposits, in Notes to the Unaudited Consolidated Financial Statements within this report for more detail regarding our deposits.

The following table sets forth the average balances of deposits for the periods indicated.

 

 

Borrowings. We use borrowings from the FHLB to supplement our supply of funds for loans and investments. At June 30, 2018 and December 31, 2017, FHLB advances totaled $591.7 million and $513.4 million, respectively, with a weighted average rate of 1.52% and 1.22%, respectively. Total borrowings increased $78.2 million, or 15.2%, during the six months ended June 30, 2018. During the six months ended June 30, 2018, the Bank entered into long-term advances with the FHLB totaling $305.0 million with original terms ranging from two to five years and initial interest rates ranging from 0.04% to 2.84%. The maturing advances with the FHLB during the six months ended June 30, 2018 totaled $45.0 million and consisted of long term advances with original terms of two years and fixed interest rates ranging from 1.21% to 1.35%. The advances called by FHLB during the six months ended June 30, 2018 totaled $180.0 million and consisted of long term advances with original terms ranging from four to 15 years and interest rates at the time of call ranging from 0.42% to 1.87%. At June 30, 2018, we also had an available line of credit of $9.4 million with the FHLB at an interest rate that adjusts daily, none of which was outstanding at that date. Refer to Note 7, Borrowings, in Notes to the Unaudited Consolidated Financial Statements within this report for more detail regarding our borrowings.

Information relating to borrowings is detailed in the following table.

 

 

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Stockholders’ Equity. Total stockholders’ equity increased $18.3 million, or 2.8%, to $664.7 million at June 30, 2018, from $646.4 million at December 31, 2017. The increase for the six months ended June 30, 2018 was due primarily to net income of $26.1 million and $3.7 million related to stock-based compensation plans, partially offset by the repurchase of 314,010 shares of the Company’s stock at a total cost of $6.1 million, dividends of $0.10 per share totaling $5.1 million and $324,000 in accumulated other comprehensive loss, reflecting a decrease in the fair value of available-for-sale securities. Stockholders’ equity to assets was 11.71% at June 30, 2018, compared to 12.20% at December 31, 2017. Book value per share increased to $12.33 at June 30, 2018 from $11.96 at December 31, 2017. At June 30, 2018, the Company and the Bank continued to exceed all regulatory capital requirements. Refer to “- Capital Management” within this report for more information regarding capital requirements and actual capital amounts and ratios for the Bank and the Company.

Results of Operations for the Three and Six Months Ended June 30, 2018 and 2017

Net Income. Our primary source of income is net interest income. Net interest income is the difference between interest income, which is the income that we earn on our loans and investments, and interest expense, which is the interest that we pay on our deposits and borrowings. Changes in levels of interest rates affect our net interest income. A secondary source of income is non-interest income, which includes revenue that we receive from providing products and services. The majority of our non-interest income generally comes from customer service fees, loan fees, bank-owned life insurance, mortgage banking gains and gains on sales of securities.

Net income information is as follows:

 

 

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Net Interest Income.

Average Balance Sheets and Related Yields and Rates. The following table presents information regarding average balances of assets and liabilities, the total dollar amounts of interest income and dividends from average interest-earning assets, the total dollar amounts of interest expense on average interest-bearing liabilities and the resulting annualized average yields and costs. The yields and costs for the periods indicated are derived by dividing income or expense by the average balances of assets or liabilities, respectively, for the periods presented. For purposes of this table, average balances have been calculated using daily average balances, and include non-accrual loans and purchase accounting related premium and discounts. The loan yields include the effect of amortization or accretion of deferred loan fees/costs and purchase accounting premiums/discounts to interest and fees on loans.

 

 

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Rate/Volume Analysis. The following table sets forth the effects of changing rates and volumes on our fully tax-equivalent net interest income. 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 net column represents the sum of the prior columns. For purposes of this table, changes attributable to changes in both rate and volume that cannot be segregated have been allocated proportionally based on the changes due to rate and the changes due to volume.

 

 

The interest rate spread and net interest margin on a tax-equivalent basis were 2.81% and 3.07%, respectively, for the three months ended June 30, 2018 compared to 3.01% and 3.24%, respectively, for the three months ended June 30, 2017. For the six months ended June 30, 2018, the interest rate spread and net interest margin on a tax-equivalent basis were 2.87% and 3.11%, respectively, compared to 3.01% and 3.22%, respectively, for the six months ended June 30, 2017. Net interest income increased 15.8% and 17.6% for the three and six months ended June 30, 2018, respectively, compared to the respective prior periods and was primarily due to growth in average loan balances and yields on interest-earning assets, partially offset by growth in in the average balances of deposits and borrowings along with an increase in the cost of funds. The interest rate spread and interest rate margin on a tax-equivalent basis for the three and six months ended June 30, 2018 reflect the reduction in the statutory federal income tax rate to 21% from 35%.

The yield on interest-earning assets on a tax-equivalent basis increased 13 basis points to 4.16% for the for the three months ended June 30, 2018, compared to 4.03% for the three months ended June 30, 2017, while the cost of funds increased 32 basis points to 1.22% from 0.90% for the three months ended June 30, 2018 and 2017, respectively. The increase in interest income was primarily due to growth in the Company’s average loan balances of $862.8 million, or 20.6%, to $5.043 billion, and an increase in the yield on loans on a tax-equivalent basis of seven basis points to 4.33% for the three months ended June 30, 2018 compared to 4.26% for the three months ended June 30, 2017. The yields on loans and interest-earning assets on a tax-equivalent basis for the three months ended June 30, 2018, reflect the reduction in the statutory federal income tax rate to 21% from 35%. The increase in interest expense on deposits was primarily due to the growth in average total deposits of $612.2 million, or 16.7%, to $4.280 billion and an increase in the average total cost of deposits of 32 basis points to 1.19% for the three months ended June 30, 2018 compared the same period in June 30, 2017. The increase in interest expense on borrowings was primarily due to the increase in average borrowings of $235.5 million, or 66.1%, to $591.9 million, and an increase in the cost of average borrowings of 13 basis points to 1.39% for the three months ended June 30, 2018 compared to 1.26% for the three months ended June 30, 2017.

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The yield on interest-earning assets on a tax-equivalent basis increased 13 basis points to 4.14% for the six months ended June 30, 2018 compared to 4.01% for the six months ended June 30, 2017, while the cost of funds increased 25 basis points to 1.14% from 0.89% for the six months ended June 30, 2018 and 2017, respectively. The increase in interest income was primarily due to growth in the Company’s average loan balances of $819.6 million, or 20.0%, to $4.911 billion, and an increase in the yield on loans on a tax-equivalent basis of seven basis points to 4.31% for the six months ended June 30, 2018 compared to 4.24% for the six months ended June 30, 2017. The yields on loans and interest-earning assets on a tax-equivalent basis for the six months ended June 30, 2018 reflect the reduction in the statutory federal income tax rate to 21% from 35%. The increase in interest expense on deposits was primarily due to the growth in average total deposits of $598.6 million, or 16.6%, to $4.198 billion and an increase in the average total cost of deposits of 26 basis points to 1.12% for the three months ended June 30, 2018 compared the same period in June 30, 2017. The increase in interest expense on borrowings was primarily due to the increase in average borrowings of $213.1 million, or 62.0%, to $556.7 million, and an increase in the cost of average borrowings of 11 basis points to 1.34% for the six months ended June 30, 2018 compared to 1.23% for the six months ended June 30, 2017.

Provision for Loan Losses. The provision for loan losses was $1.9 million for the June 30, 2018 compared to $1.5 million for the three months ended June 30, 2017. For the six months ended June 30, 2018, the provision for loan losses was $4.1 million compared to $3.1 million for the six months ended June 30, 2017. For further discussion of the changes in the provision and allowance for loan losses, refer to “- Comparison of Financial Condition at June 30, 2018 and December 31, 2017 - Allowance for Loan Losses.”

Non-Interest Income. Non-interest income information is as follows:

 

 

The decreases in loan fees were primarily due to $1.3 million of loan swap fee income recognized in the second quarter of 2017. There were no sales of debt securities available for sale during the three and six months ended June 30, 2018. Equity securities sold during the first quarter of 2018 resulted in a gain of $154,000. This gain was offset by a $303,000 unrealized loss recognized during the reporting period for equity securities held in the portfolio at fair value as of June 30, 2018. This change in reporting classification is due to the implementation of ASU 2016-01 on January 1, 2018. See “Note 4 – Securities” in the Notes to the Unaudited Consolidated Financial Statements for additional disclosures.

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Non-Interest Expense. Non-interest expense information is as follows:

 

 

The increases in salaries and employee benefits expense reflects annual increases in employee compensation and health benefits during the first quarter of 2018. In addition, the increases in salaries and employee benefits, occupancy and equipment expenses and data processing include costs associated with the expansion of our branch and support staff, including two branches acquired from Meetinghouse Bank on December 29, 2017, one new branch opened in the first quarter of 2018 and three new branch openings planned for later in 2018. Professional services decreased primarily due to additional costs incurred in the six months ended June 30, 2017 related to regulatory compliance projects undertaken to enhance our regulatory compliance infrastructure. Other general and administrative expenses reflect core deposit intangible amortization of $147,000 and $295,000 for the three and six months ended June 30, 2018.

 

Income Tax Provision. The Company recorded a provision for income taxes of $4.5 million for the three months ended June 30, 2018, reflecting an effective tax rate of 24.3%, compared to $6.2 million, or a 35.5% effective tax rate, for the three months ended June 30, 2017. For the six months ended June 30, 2018, the provision for income taxes was $7.8 million, reflecting an effective tax rate of 23.1%, compared to $10.9 million, or an effective tax rate of 34.7% for the six months ended June 30, 2017. The reductions in the provision for income taxes and the effective tax rate for the quarter and six months ended June 30, 2018 reflect the decrease in the statutory federal income tax rate to 21% from 35% effective January 1, 2018 as a result of the Tax Cuts and Jobs Act.

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

We regularly adjust our investments in liquid assets based upon our assessment of (1) expected loan demand, (2) expected deposit flows, (3) yields available on interest-earning deposits and securities and (4) the objectives of our asset/liability management policy.

Our most liquid assets are cash and due from banks, and certificates of deposit with other banks. The levels of these assets depend on our operating, financing, lending and investing activities during any given period. At June 30, 2018, cash and due from banks totaled $329.6 million and certificates of deposit totaled $23.9 million. In addition, at June 30, 2018, we had $256.5 million of available borrowing capacity with the FHLB, including a $9.4 million line of credit. On June 30, 2018, we had $591.7 million of advances outstanding. We periodically pledge additional multi-family and commercial real estate loans held in the Bank’s portfolio as qualified collateral to increase our borrowing capacity with the FHLB.

Our primary investing activities are the origination of loans and the purchase and sale of securities. Our primary financing activities consist of activity in deposit accounts and FHLB advances. Deposit flows are affected by the overall level of interest rates, the interest rates and products offered by us and our local competitors and other factors. We generally manage the pricing of our deposits to be competitive. Occasionally, we offer promotional rates on certain deposit products to attract deposits.

A significant use of our liquidity is the funding of loan originations. At June 30, 2018 and December 31, 2017, we had total loan commitments outstanding of $1.214 billion and $1.205 billion, respectively. Historically, many of the commitments expire without being fully drawn; therefore the total amount of commitments does not necessarily represent future cash requirements. Refer to Note 8, Commitments and Derivatives, in Notes to the Unaudited Consolidated Financial Statements within this report for more detail regarding our outstanding commitments.

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Another significant use of our liquidity is the funding of deposit withdrawals. Certificates of deposit due within one year of June 30, 2018 totaled $724.1 million, or 46.1% of total certificates of deposit. If these maturing deposits do not remain with us, we will be required to utilize other sources of funds. Historically, a significant portion of certificates of deposit that mature have remained with us. We have the ability to attract and retain deposits by adjusting the interest rates offered and accepting brokered certificates of deposit when it is deemed cost effective.  

Meridian Bancorp, Inc. is a separate legal entity from East Boston Savings Bank and it must provide for its own liquidity to pay dividends and repurchase its common stock and for other corporate purposes. Meridian Bancorp, Inc.’s primary source of liquidity is the remaining proceeds from the 2014 second-step offering, and to a lesser extent dividend payments received from East Boston Savings Bank. The ability of East Boston Savings Bank to pay dividends is subject to regulatory requirements. At June 30, 2018, Meridian Bancorp, Inc. (on an unconsolidated basis) had cash and cash equivalents, certificates of deposit and equity securities totaling $71.0 million.

Capital Management. Both the Company and the Bank are subject to various regulatory capital requirements administered by the Federal Reserve Board and the Federal Deposit Insurance Corporation, respectively, including a risk-based capital measure. The risk-based capital guidelines include both a definition of capital and a framework for calculating risk-weighted assets by assigning balance sheet assets and off-balance sheet items to broad risk categories. At June 30, 2018, both the Company and the Bank exceeded all of their respective regulatory capital requirements. The Bank is considered “well capitalized” under regulatory guidelines.

Federal banking regulations include minimum capital requirements for financial institutions. The regulation includes a minimum ratio of common equity Tier 1 capital to risk-weighted assets of 4.5%, a minimum ratio of Tier 1 capital to risk-weighted assets of 6% and a minimum leverage ratio of 4% for all banking organizations. Additionally, financial institutions must maintain a capital conservation buffer of common equity Tier 1 capital in an amount greater than 2.5% of total to risk-weighted assets to avoid being subject to limitations on capital distributions and discretionary bonuses. The capital conservation buffer is being phased in over three years, beginning on January 1, 2016. Also, certain new deductions from and adjustments to regulatory capital will be phased in over several years. Management believes that the Company will remain characterized as “well-capitalized” throughout the phase-in periods.

As a result of the recently enacted Economic Growth, Regulatory Relief, and Consumer Protection Act, the federal banking agencies are required to develop a “Community Bank Leverage Ratio” (the ratio of a bank’s tangible equity capital to average total consolidated assets) for financial institutions with assets of less than $10 billion. A “qualifying community bank” that exceeds this ratio will be deemed to be in compliance with all other capital and leverage requirements, including the capital requirements to be considered “well capitalized” under Prompt Corrective Action statutes. The federal banking agencies may consider a financial institution’s risk profile when evaluating whether it qualifies as a community bank for purposes of the capital ratio requirement. The federal banking agencies must set the minimum capital for the new Community Bank Leverage Ratio at not less than 8% and not more than 10%. A financial institution can elect to be subject to this new definition.

The Company may use capital management tools such as cash dividends and common share repurchases. We are subject to the Federal Reserve Board’s notice provisions for stock repurchases. In August 2015, the Company received regulatory approval from the Massachusetts Commissioner of Banks and a non-objection from the Federal Reserve Bank to adopt a stock repurchase program for up to 5% of its common stock. As of June 30, 2018, the Company had repurchased 2,373,621 shares of its stock at an average price of $14.45 per share, or 86.7% of the 2,737,334 shares authorized for repurchase under the Company’s repurchase program. During the six months ended June 30, 2018 the Company’s Board of Directors declared two quarterly cash dividends of $0.05 per common share on March 1, 2018 and June 1, 2018. The dividend declared on June 1, 2018 was paid on July 3, 2018 to stockholders of record at the close of business on June 19, 2018.

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The Company’s and the Bank’s actual capital amounts and ratios follow:

 

 

A reconciliation of the Company’s and Bank’s stockholders’ equity to regulatory capital follows:

 

 

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Off-Balance Sheet Arrangements. In the normal course of operations, we engage in a variety of financial transactions that, in accordance with generally accepted accounting principles in the United States of America, are not recorded in our financial statements. These transactions involve, to varying degrees, elements of credit, interest rate and liquidity risk. Such transactions are used primarily to manage customers’ requests for funding and take the form of loan commitments and lines of credit.

For the six months ended June 30, 2018, we engaged in no off-balance sheet transactions reasonably likely to have a material effect on our financial condition, results of operations or cash flows.

 

ITEM 3.     QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK

Interest Rate Risk Management. Our earnings and the market value of our assets and liabilities are subject to fluctuations caused by changes in the level of interest rates. We manage the interest rate sensitivity of our interest-bearing liabilities and interest-earning assets in an effort to minimize the adverse effects of changes in the interest rate environment. Deposit accounts typically react more quickly to changes in market interest rates than mortgage loans because of the shorter maturities of deposits. As a result, sharp increases in interest rates may adversely affect our earnings while decreases in interest rates may beneficially affect our earnings. To reduce the potential volatility of our earnings, we have sought to improve the match between asset and liability maturities and rates, while maintaining an acceptable interest rate spread. Our strategy for managing interest rate risk emphasizes: originating loans with adjustable interest rates; selling the residential real estate fixed-rate loans with terms greater than 10 years that we originate; promoting core deposit products; and adjusting the interest rates and maturities of funding sources, as necessary.

We have an Asset/Liability Management Committee to coordinate all aspects of asset/liability management. The committee establishes and monitors the volume, maturities, pricing and mix of assets and funding sources with the objective of managing assets and funding sources to provide results that are consistent with liquidity, growth, risk limits and profitability goals.

Net Interest Income Simulation Analysis. We analyze our interest rate sensitivity position to manage the risk associated with interest rate movements through the use of interest income simulation. The matching of assets and liabilities may be analyzed by examining the extent to which such assets and liabilities are “interest sensitive.” An asset or liability is said to be interest rate sensitive within a specific time period if it will mature or reprice within that time period.

Our goal is to manage asset and liability positions to moderate the effects of interest rate fluctuations on net interest income. Interest income simulations are completed quarterly and presented to the Asset/Liability Committee and the Board of Directors. The simulations provide an estimate of the impact of changes in interest rates on net interest income under a range of assumptions. The numerous assumptions used in the simulation process are reviewed by the Asset/Liability Committee and the Executive Committee on a quarterly basis. Changes to these assumptions can significantly affect the results of the simulation. The simulation incorporates assumptions regarding the potential timing of the repricing of certain assets and liabilities when market rates change and the changes in spreads between different market rates. The simulation analysis incorporates management’s current assessment of the risk that pricing margins will change adversely over time due to competition or other factors.

Simulation analysis is only an estimate of our interest rate risk exposure at a particular point in time. We continually review the potential effect changes in interest rates could have on the repayment of rate sensitive assets and funding requirements of rate sensitive liabilities.

The simulation uses projected repricing of assets and liabilities on the basis of contractual maturities, anticipated repayments and scheduled rate adjustments. Prepayment rates can have a significant impact on interest income simulation. Because of the large percentage of loans we hold, rising or falling interest rates have a significant impact on the prepayment speeds of our earning assets that in turn affect the rate sensitivity position. When interest rates rise, prepayments tend to slow. When interest rates fall, prepayments tend to rise. Our asset sensitivity would be reduced if prepayments slow and vice versa. While we believe such assumptions to be reasonable, there can be no assurance that assumed prepayment rates will approximate actual future mortgage-backed security and loan repayment activity.

The following table reflects changes in estimated net interest income for the Bank due to immediate non-parallel changes in interest rates for the subsequent one year period as of the dates indicated.

 

 

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ITEM 4.     CONTROLS AND PROCEDURES

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PART II – OTHER INFORMATION

ITEM 1.     LEGAL PROCEEDINGS

Periodically, there have been various claims and lawsuits against us, such as claims to enforce liens, condemnation proceedings on properties in which we hold security interests, claims involving the making and servicing of real property loans and other issues incident to our business. We are not a party to any pending legal proceedings that we believe would have a material adverse effect on our financial condition, results of operations or cash flows.

ITEM 1A.     RISK FACTORS

For information regarding our risk factors, see “Risk Factors,” in the Company’s 2017 Annual Report on Form 10-K, filed with the SEC on March 1, 2018, which is available through the SEC’s website at www.sec.gov. As of June 30, 2018, our risk factors had not changed materially from those reported in the annual report. The risks described in the Annual Report are not the only risks that we face. Additional risks not presently known to us, or that we currently deem immaterial, may also adversely affect our business, financial condition or results of operations.

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

 

 

ITEM 3.     DEFAULTS UPON SENIOR SECURITIES

Not applicable.

ITEM 4.     MINE SAFETY DISCLOSURES

Not applicable.

ITEM 5.     OTHER INFORMATION

Not applicable.  

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ITEM 6.     EXHIBITS

 

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SIGNATURES

Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.

 

 

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