Eureka Homestead Bancorp, Inc. - Annual Report: 2019 (Form 10-K)

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-K

☒                ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the year ended December 31, 2019.

OR

☐                TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from _______________ to _______________.

Commission file number:  000-56071

EUREKA HOMESTEAD BANCORP, INC.

(Exact name of registrant as specified in its charter)

 

 

Registrant's telephone number, including area code: (504) 834-0242

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

 

Securities registered pursuant to Section 12(g) of the Act: 

Common Stock, par value $0.01 per share

Indicate by check mark if the Registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.  YES ☐     NO ☒

Indicate by check mark if the Registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act.  YES ☐     NO ☒

Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.  YES    ☒     NO ☐ 

Indicate by check mark whether the Registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the Registrant was required to submit such files).  YES ☒     NO ☐

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K (§229.405 of this chapter) is not contained herein, and will not be contained, to the best of Registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K.  ☒

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.

 

Emerging growth company ☒

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

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

There was no outstanding voting common equity of the Registrant as of June 30, 2019.  The aggregate market value of the voting and non-voting common equity held by non-affiliates of the Registrant, computed by reference to the last sale price on July 10, 2019 ($12.10), the first date of trading in the common stock, was approximately $17.3 million.

As of March 30, 2020, there were 1,429,676 issued and outstanding shares of the Registrant’s Common Stock.

DOCUMENTS INCORPORATED BY REFERENCE:

None.

 

 

 

TABLE OF CONTENTS

 

PART I

ITEM 1.        Business

FORWARD-LOOKING STATEMENTS

This annual report contains forward-looking statements, which can be identified by the use of words such as “estimate,” “project,” “believe,” “intend,” “anticipate,” “assume,” “plan,” “seek,” “expect,” “will,” “may,” “should,” “indicate,” “would,” “believe,” “contemplate,” “continue,” “target” and words of similar meaning.  These forward-looking statements include, but are not limited to:

These forward-looking statements are based on our current beliefs and expectations and are inherently subject to significant business, economic and competitive uncertainties and contingencies, many of which are beyond our control.  In addition, these forward-looking statements are subject to assumptions with respect to future business strategies and decisions that are subject to change.  We are under no duty to and do not take any obligation to update any forward-looking statements after the date of this annual report.

The following factors, among others, could cause actual results to differ materially from the anticipated results or other expectations expressed in the forward-looking statements:

BUSINESS OF EUREKA HOMESTEAD BANCORP

Eureka Homestead Bancorp, Inc. (the “Company”) was incorporated in Maryland on February 25, 2019 as part of the mutual-to-stock conversion of Eureka Homestead  (sometimes referred to as the “Bank”), for the purpose of becoming the savings and loan holding company of Eureka Homestead. Since being incorporated, other than holding the common stock of Eureka Homestead, retaining approximately 50% of the net cash proceeds of the stock conversion offering and making a loan to the employee stock ownership plan of Eureka Homestead, we have not engaged in any business activities to date.

The Company is authorized to pursue business activities permitted by applicable laws and regulations, which may include the acquisition of banking and financial services companies. See “Supervision and Regulation – Holding Company Regulation” for a discussion of the activities that are permitted for savings and loan holding companies. We currently have no understandings or agreements to acquire other financial institutions, although we may determine to do so in the future. We may also borrow funds for reinvestment in Eureka Homestead.

Our cash flow depends on earnings from the investment of the net proceeds we retained from our initial public stock offering that was consummated in July 2019, and any dividends we receive from Eureka Homestead. We neither own nor lease any property, but pay a fee to Eureka Homestead for the use of its premises, equipment and furniture. At the present time, we employ only persons who are officers of Eureka Homestead who also serve as officers of Eureka Homestead Bancorp. We use the support staff of Eureka Homestead from time to time and pay a fee to Eureka Homestead for the time devoted to Eureka Homestead Bancorp by employees of Eureka Homestead. However, these persons are not separately compensated by Eureka Homestead Bancorp.  Eureka Homestead Bancorp may hire additional employees, as appropriate, to the extent it expands its business in the future.

BUSINESS OF EUREKA HOMESTEAD

General

We conduct our business from our main office in Metairie, Louisiana, which is located in Jefferson Parish, within the metropolitan area of New Orleans, and our loan production office located in New Orleans. Our loan portfolio consists primarily of loans collateralized by real property located in Jefferson Parish and Orleans Parish, Louisiana. We also originate loans in other parts of the greater New Orleans metropolitan area and, to a lesser extent, elsewhere in Louisiana and Mississippi.

Our business consists primarily of taking deposits and securing borrowings and investing those funds, together with funds generated from operations, in one- to four-family residential real estate loans, including non-owner-occupied properties, construction loans for owner-occupied, one- to four-family residential real estate and home equity loans.  To a lesser extent, we also originate multifamily, commercial real estate and consumer loans.  At December 31, 2019, $73.6 million, or 93.8% of our total loan portfolio, was comprised of one- to four-family residential real estate loans, $11.4 million of which were non-owner-occupied loans,  $1.0 million of which were construction loans and $1.7 million of which were home equity loans.  

A significant majority of loans we originate are conforming one- to four-family residential real estate loans and, in the low interest rate environment in recent years, almost all of these loans have been long-term, fixed-rate loans. In order to manage our interest rate risk, in recent years we have sold a significant portion of these conforming, fixed-rate, long-term production on an industry-standard, servicing-released basis.

We offer a variety of deposit accounts, including savings accounts (passbook and money market) and certificates of deposit.  We utilize advances from the Federal Home Loan Bank of Dallas (“FHLB”) for funding and asset/liability management purposes. At December 31, 2019, we had $21.6 million in advances outstanding with the FHLB.  

We do not offer checking accounts which may impact our ability to attract and grow core deposits.  We have always been dependent, in part, on retail certificates of deposit as a funding source for our loans, and in recent years we have accepted jumbo certificates of deposit through an online service, as well as municipal certificates of deposit. We have used these non-retail funding sources, as well as advances from the FHLB, to fund our operations. These non-core funding sources are not relationship-based accounts and are generally more price-sensitive than our core deposits of savings and money market accounts and our retail certificates of deposit. Therefore, these deposits carry a greater risk of non-renewal than our core deposits. Pursuant to our business strategy, we are seeking to increase our core deposits, which we consider to be our savings and money market accounts and retail certificates of deposit, by more aggressively marketing and pricing our deposit products.

Eureka Homestead is subject to comprehensive regulation and examination by its primary federal regulator, the Office of the Comptroller of the Currency (“OCC”). 

Our main office is located at 1922 Veterans Memorial Boulevard,  Metairie, Louisiana 70005, and our telephone number at this address is (504) 834-0242.  Our website address is www.eurekahomestead.com.  Information on our website is not incorporated into this annual report and should not be considered part of this annual report.

Market Area

We conduct our business from our main office in Metairie, Louisiana, which is located in Jefferson Parish, within the greater metropolitan area of New Orleans, and our loan production office located in New Orleans. Our loan portfolio consists primarily of loans collateralized by real property located in Jefferson Parish and Orleans Parish, Louisiana.  We also originate loans in other parts of the greater New Orleans metropolitan area and, to a lesser extent, elsewhere in Louisiana and Mississippi. Our business is dependent on the City of New Orleans and our local economy which includes tourism, port activity along the Mississippi River, the petrochemical industry and healthcare. Service jobs, primarily in healthcare, education and construction and development, represent the largest employment sector in Jefferson Parish.

According to the United States census, the estimated July 2018 population of Jefferson Parish was 434,000, representing an increase of 0.3% from the 2010 census population of 432,000. During this same time period, the population of the City of New Orleans is estimated to have grown by 13.7%, the Louisiana population grew by an estimated 2.8% and the United States population grew by an estimated 6.0%.  From 2013 through 2018, the median household income for Jefferson Parish was $53,000, compared to median household incomes of $40,000, $48,000 and $60,000 for the City of New Orleans, the State of Louisiana and for the United States, respectively.

Competition

We face competition within our market area both in making loans and attracting retail deposits.  Our market area has a concentration of financial institutions that include large money center and regional banks, community banks and credit unions.  We also face competition from commercial banks, savings institutions, mortgage banking firms, consumer finance companies and credit unions and, with respect to deposits, from money market funds, brokerage firms, mutual funds and insurance companies.  As of June 30, 2019, based on

the most recent available FDIC data, there were 21 FDIC-insured financial institutions with offices in Jefferson Parish, of which we ranked 15th, with a market share of deposits of 0.66%.  We do not have a significant market share of either deposits or residential lending in any other parish in Louisiana. 

Lending Activities

General.  Our principal lending activity is originating one- to four-family residential real estate loans, including non-owner-occupied properties, construction loans for owner-occupied, one- to four-family residential real estate and home equity loans.  To a lesser extent, we also originate multifamily, commercial real estate and consumer loans.  Our loan portfolio consists primarily of loans collateralized by real property located in Jefferson Parish and Orleans Parish, Louisiana.  We also originate loans in other parts of the greater New Orleans metropolitan area and, to a lesser extent, elsewhere in Louisiana and Mississippi. 

We offer adjustable-rate and fixed-rate residential loans. However, historically a significant majority of the residential real estate loans which we have originated are conforming, long-term, fixed-rate loans.  In recent years, in order to address and manage our interest rate risk, we have been selling a significant portion of our conforming, fixed-rate, long term (greater than 15 years) loans to the secondary market, on a servicing-released basis, as well as increasing the percentage of adjustable rate residential loans in portfolio.  

Commercial real estate and multifamily loans have not historically comprised a significant portion of our total loan portfolio.  While we expect that one- to four-family residential real estate lending will continue to be the primary emphasis of our lending operations, we intend to modestly increase our emphasis on multifamily and commercial real estate loans through increased originations of and purchase of participations in these types of loans.

Loan Portfolio Composition.  The following table sets forth the composition of our loan portfolio, by type of loan, at the dates indicated. 

 

Loan Portfolio Maturities.  The following table sets forth the contractual maturities of our loan portfolio at December 31, 2019.  Loans having no stated repayment schedule or maturity are reported as

being due in the year ending December 31, 2020.  Maturities are based on the final contractual payment date and do not reflect the impact of prepayments and scheduled principal amortization. 

 

The following table sets forth our fixed- and adjustable-rate loans at December 31, 2019 that are contractually due after December 31, 2020.

 

Portfolio Loan Approval Procedures and Authority.  Our lending is subject to written, non-discriminatory underwriting standards and origination procedures.  Decisions on loan applications are made on the basis of detailed applications submitted by the prospective borrower and property valuations.  Our policies require that for all real estate loans that we originate, property valuations must be performed by outside independent state-licensed appraisers approved by our board of directors. The loan applications are designed primarily to determine the borrower’s ability to repay the requested loan, and the more significant items on the application are verified through use of credit reports, financial statements and tax returns.  All loans that we originate require personal guarantees that are evaluated as part of the loan.

Pursuant to applicable law, the aggregate amount of loans that we are permitted to make to any one borrower or a group of related borrowers is generally limited to 15% of Eureka Homestead’s unimpaired capital and surplus (25% if the amount in excess of 15% is secured by “readily marketable collateral” or 30% for certain residential development loans).  At December 31, 2019, our largest credit relationship consisted of 11 loans which totaled $1.4 million and was secured by 11 non-owner occupied, one- to four-family residential real estate properties.  Our second largest relationship at this date was for $1.2 million and was secured by two owner-occupied, one- to four-family residential real estate properties. At December 31, 2019,  these loans were performing in accordance with their repayment terms.

We have a Management Loan Committee and a Board Loan Committee. The Management Loan Committee is comprised of the Chief Executive Officer and the President/Chief Financial Officer and it considers loans/relationships up to $250,000.  The Board Loan Committee is comprised of all directors and considers loans of $250,000 or more, or loans of any amount that will increase a borrower’s total relationship to $250,000 or more. All loans approved for portfolio are reviewed by the Board of Directors at its meetings.

Generally, we require property and extended coverage casualty insurance in amounts at least equal to the principal amount of the loan or the value of improvements on the property, depending on the type of loan.  In addition, we require and escrow for flood insurance (where appropriate) and generally require an escrow for required property taxes and insurance.  On occasion, we allow borrowers to pay their own taxes and property and casualty insurance as long as proof of payment is provided.

One- to Four-Family Residential Real Estate Lending.  At December 31, 2019, $73.6 million, or 93.8% of our total loans, was secured by one- to four-family residential real estate. Of this total amount, $11.4 million, or 14.5% of our total loan portfolio, was secured by non-owner-occupied, one- to four-family residential real estate loans,  $1.0 million, or 1.3% of our total loan portfolio, was secured by loans for the construction of owner-occupied, one- to four-family residential real estate and $1.7 million, or 2.1% of our total loan portfolio, was secured by home equity loans. At December 31, 2019, we had $18.8 million and $53.9 million of jumbo loans and non-conforming loans, respectively.

We originate both fixed- and adjustable-rate one- to four-family residential real estate loans, and at December 31, 2019, these types of loans were comprised of 91.9%  of fixed-rate loans and 8.1%  of adjustable-rate loans. 

We generally limit the loan-to-value ratios of our owner-occupied and non-owner-occupied, one- to four-family residential real estate loans to 80% of the purchase price or appraised value, whichever is lower.  In addition, we may make owner-occupied one- to four-family residential real estate loans with loan-to-value ratios above 80% of the purchase price or appraised value, whichever is less.  We may or may not require private mortgage insurance for those loans.  

We originate one- to four-family residential real estate loans for retention in our portfolio as well as for sale in the secondary market. Loans originated for sale are underwritten according to Fannie Mae guidelines, typically with terms of up to 30 years. We generally do not retain the servicing on loans we sell.  Additionally, we originate non-conforming, one- to four-family residential real estate loans that we retain in our portfolio. These loans might be nonconforming as a result of the size of the loan, the loan to value of the appraised property securing the loan, or the debt to income ratio or the credit score of the borrower, or other nonconforming aspects of the credit. Loans that we retain in our portfolio have a maximum fixed-rate term of 30 years.

At December 31, 2019, most of our one- to four-family residential real estate loans, including $10.4 million of non-owner occupied loans, were secured by properties located in Jefferson or Orleans Parish. On a limited basis we have purchased one- to four-family residential real estate loans from outside of our market area. 

Our adjustable-rate, one- to four-family residential real estate loans generally have fixed rates of interest for initial terms of three and five years and adjust annually thereafter.  Generally, interest rates cannot increase more than 2% per year and 5% over the life of the loan.  The interest rate is based on the weekly average yield on Unites States Treasury securities adjusted to a constant maturity of 1 year, as made available

by the Federal Reserve Board plus a margin of 2.25%. Our adjustable-rate loans carry terms to maturity of up to 30 years. 

Although adjustable-rate one- to four-family residential real estate loans may reduce our vulnerability to changes in market interest rates because they periodically reprice, as interest rates increase, the required payments due from the borrower also increase (subject to rate caps), increasing the potential for default by the borrower.  At the same time, the ability of the borrower to repay the loan and the marketability of the underlying collateral may be adversely affected by higher interest rates.  Upward adjustments of the contractual interest rate are also limited by the maximum periodic and lifetime rate adjustments permitted by our loan documents.  As a result, the effectiveness of adjustable-rate one- to four-family residential real estate loans in compensating for changes in market interest rates may be limited during periods of rapidly rising interest rates.

Our residential construction loans generally have initial terms of 12 months (subject to extension), during which the borrower pays interest only.  Upon completion of construction, these loans convert to conventional amortizing mortgage loans. We do not extend credit if construction has already commenced.  Our residential construction loans have rates and terms comparable to residential real estate loans that we originate.  The maximum loan-to-value ratio of our residential construction loans is generally 85% of the lesser of the appraised value of the completed property or the total cost of the construction project.  Residential construction loans are generally underwritten pursuant to the same guidelines used for originating permanent residential mortgage loans.  We do not have a program for making speculative construction loans to contractors or developers.

Construction lending generally involves greater credit risk than long-term financing on improved, owner-occupied real estate.  Risk of loss on construction loans depends largely upon the accuracy of the initial estimate of the value of the property at completion of construction compared to the estimated cost of construction and other assumptions.  If the estimate of construction cost is inaccurate, we may be required to advance additional funds beyond the amount originally committed in order to protect the value of the property.  Moreover, if the estimated value of the completed project is inaccurate, the borrower may hold a property with a value that is insufficient to assure full repayment of the construction loan upon the sale of the property.  Construction loans also expose us to the risk that improvements will not be completed on time in accordance with specifications and projected costs.  In addition, the ultimate sale or rental of the property may not occur as anticipated.

Other than during the construction phase of our one-to four-family residential loans, we do not offer “interest only” mortgage loans on permanent one- to four-family residential real estate loans (where the borrower pays interest for an initial period, after which the loan converts to a fully amortizing loan). We also do not offer one- to four-family residential real estate loans that provide for negative amortization of principal, such as “Option ARM” loans, where the borrower can pay less than the interest owed on the loan, resulting in an increased principal balance during the life of the loan. We generally do not offer “subprime loans” on one- to four- family residential real estate loans (i.e., loans to borrowers with weakened credit histories typically characterized by payment delinquencies, previous charge-offs, judgments, bankruptcies, or borrowers with questionable repayment capacity as evidenced by low credit scores or high debt-burden ratios), or “Alt-A” (i.e., loans to borrowers with better credit scores who borrow with alternative documentation such as little or no verification of income).  However, we consider the circumstances of each borrower’s financial situation before rendering a decision.

Non-Owner-Occupied One- to Four-Family Residential Real Estate Loans.    At December 31, 2019, $11.4 million, or 14.5% of our total loan portfolio, consisted of non-owner-occupied, or “investment,” one- to

four-family residential real estate loans, all of which were secured by properties located in our primary lending market area.  At December 31, 2019, our non-owner-occupied one- to four-family residential real estate loans had an average balance of $116,000.  At December 31, 2019, our largest non-owner-occupied one- to four-family residential relationship had a principal balance of $1.4 million and was collateralized by 11 properties and was performing in accordance with its repayment terms as of such date. At December 31, 2019, our second largest non-owner-occupied one- to four-family residential relationship had a principal balance of $735,000 and was collateralized by four properties and was performing in accordance with its repayment terms as of such date.

We originate fixed-rate and adjustable-rate loans secured by non-owner-occupied one- to four-family properties.  These loans may have a term of up to 30 years.  In recent years, in the historically low interest rate environment, nearly all of our non-owner-occupied one- to four-family residential loan originations have fixed rates of interest.  We generally lend up to 80% of the property’s appraised value.  Appraised values are determined by an outside independent appraiser.  In deciding to originate a loan secured by a non-owner-occupied one- to four-family residential property, we review the creditworthiness of the borrower, the expected cash flow from the property securing the loan, the cash flow requirements of the borrower and the value of the property securing the loan.  We require an abstract of title, a title policy, property and extended coverage casualty insurance, and, if appropriate, flood insurance, in order to protect our security interest in the underlying property.  Current borrower financial information is required on an annual basis under the terms of loans originated after 2009.

Non owner-occupied one- to four-family residential loans generally carry higher interest rates and have shorter terms than one- to four-family residential mortgage loans.  Non owner-occupied one- to four-family residential loans, however, entail greater credit risks compared to the owner-occupied one- to four-family residential mortgage loans we originate.  The payment of loans secured by income-producing properties typically depends on the sufficient income from the property to cover operating expenses and debt service.  Changes in economic conditions could affect the value of the collateral for the loan or the future cash flow of the property.  Historically, we have experienced higher rates of delinquencies on our non-owner-occupied one- to four-family residential real estate loans as compared to our owner-occupied loans.

Home Equity Loans.  In addition to one- to four-family residential real estate loans, we offer closed-end, second mortgage home equity loans that are secured by the borrower’s primary residence. We make home equity loans to borrowers on which we also hold the first mortgage as well as loans on which we do not hold the first mortgage. At December 31, 2019, we had $1.7 million, or 2.1%, of our total loan portfolio in home equity loans.

Home equity loans are generally underwritten using the same criteria that we use to underwrite one- to four-family residential real estate loans.  Home equity loans may be underwritten with a loan-to-value ratio of up to 90% when combined with the principal balance of the existing first mortgage loan. Our home equity loans are primarily originated with fixed rates of interest with terms of up to 15 years. 

Home equity loans are generally secured by junior mortgages and have greater risk than one- to four-family residential real estate loans secured by first mortgages. We face the risk that the collateral will be insufficient to compensate us for loan losses and costs of foreclosure, after repayment of the senior mortgages, if applicable. When customers default on their loans, we assess the likelihood of recovery from the sale of the collateral.  Generally, we will attempt to foreclose on the property and resell the property as soon as possible to minimize foreclosure and carrying costs.  However, the value of the collateral may not be sufficient to compensate us for the amount of the unpaid loan and we may be unsuccessful in recovering the

remaining balance from those customers. Particularly with respect to our home equity loans, decreases in real estate values could adversely affect our ability to fully recover the loan balance in the event of a default. 

Multifamily and Commercial Real Estate Loans.  At December 31, 2019, multifamily loans totaled $3.6 million, or 4.5% of our total loan portfolio, and commercial real estate loans totaled an additional $1.1 million, or 1.4% of our total loan portfolio. We intend to modestly increase our emphasis on multifamily and commercial real estate loans through increased originations and purchase of participations.

We originate a variety of fixed- and adjustable-rate multifamily and commercial real estate loans with balloon and amortization terms up to 25 years. Multifamily and commercial real estate loan amounts generally do not exceed 75% of the property’s appraised value at the time the loan is originated. Aggregate debt service ratios, including the guarantor’s cash flow and the borrower’s other projects, have a guideline minimum income to debt service ratio of 1.25x.  We require multifamily and commercial real estate loan borrowers to submit annual financial statements and tax returns and/or rent rolls on the subject property. We may request such information for smaller loans on a case-by-case basis. These properties may also be subject to annual inspections with pictures as evidence appropriate maintenance is being performed. Our commercial real estate loans are typically secured by retail, service or other commercial properties.

At December 31, 2019, our largest multifamily real estate relationship totaled $801,000 and was secured by two properties.  At December 31, 2019, this loan was performing in accordance with its terms.

At December 31, 2019,  we had an aggregate of $1.1 million of commercial real estate loans, all of which were secured by properties in Louisiana. At December 31, 2019,  our largest commercial real estate loan totaled $403,000 and was a secured by a strip mall.  This loan was performing in accordance with its original repayment terms at December 31, 2019.

We consider a number of factors in originating commercial real estate loans.  We evaluate the qualifications, credit capacity and financial condition of the borrower, including project-level and global cash flows, credit history, and management expertise, as well as the value and condition of the property securing the loan.  When evaluating the qualifications of the borrower, we first consider the financial resources of the borrower, the borrower’s experience in owning or managing similar property and the borrower’s payment history with us and other financial institutions.  In evaluating the property securing the loan, the factors we consider include the net operating income of the mortgaged property before debt service and depreciation, the ratio of the loan amount to the appraised value of the mortgaged property and the debt service coverage ratio (the ratio of net operating income to debt service).  We generally require a debt service ratio of at least 1.25x.  

The payment of loans secured by income-producing properties typically depends on the successful operation of the property, as repayment of the loan generally is dependent, in large part, on sufficient income from the property to cover operating expenses and debt service.  Changes in economic conditions that are not in the control of the borrower or lender could affect the value of the collateral for the loan or the future cash flow of the property.  Additionally, any decline in real estate values may be more pronounced for commercial real estate than residential properties.  There may be additional risk on commercial rentals, where the borrower is not the occupant of the collateral property.  If we foreclose on a multifamily or commercial real estate loan, our holding period for the collateral is typically longer than for one- to four-family residential real estate loans because there are fewer potential purchasers of the collateral.  Further, our multifamily and commercial real estate loans generally have relatively larger balances to single borrowers or related groups of borrowers than our one- to four-family residential real estate loans.  Accordingly, if any of our judgments regarding the collectability of our multifamily or commercial real estate loans prove incorrect, the resulting charge-offs may be larger on a per loan basis than those incurred with respect to one- to four-family residential loans.

Consumer Lending.  At December 31, 2019, we had $209,000, or 0.3% of our loan portfolio, in consumer loans. Our consumer loans are collateralized by up to 90% of the borrower’s existing savings accounts or certificates of deposit at Eureka Homestead and are interest-only loans with no fixed term. Generally, these loans carry an interest rate of 2.00% above the borrower’s deposit rate. 

Loan Originations, Participations, Purchases and Sales    

We originate real estate and other loans through employee marketing and advertising efforts, our existing customer base, walk-in customers and referrals from customers. 

We originate one-to four-family residential real estate loans that conform to Fannie Mae guidelines for sale into the secondary market. In 2019 and 2018, we originated for sale and sold $19.7 million and $12.3 million, respectively, of one- to four-family residential real estate loans. 

We employ certain processes and procedures to monitor and mitigate the risks associated with our mortgage banking activities, including:

 

Since 2007 we have not purchased whole loans, however, in 2015 we purchased a $532,000 participation in a commercial real estate loan. Subject to our conservative underwriting standards, in the future we intend to modestly increase the emphasis of originations of and the purchase of participations in multifamily and commercial real estate loans.

The following table sets forth our loan origination, sale and principal repayment activity during the periods indicated.  We did not purchase any loans during the years presented.

 

Delinquencies, Classified Assets and Nonperforming Assets

Delinquency Procedures.  When a borrower fails to make a required monthly payment on a residential real estate loan, we attempt to contact the borrower by phone.  All delinquent loans are reported to the board of directors each month. This report effectively is our watch list. After 90 days delinquent the loan is transferred to the appropriate collections personnel.  Our policies provide that a late notice be sent four times a month. Once the loan is considered in default, generally at 90 days past due, a letter is generally sent to the borrower explaining that the entire balance of the loan is due and payable, the loan is placed on non-accrual status, and additional efforts are made to contact the borrower.  If the borrower does not respond, we generally initiate foreclosure proceedings when the loan is 120 days past due.  If the loan is reinstated, foreclosure proceedings will be discontinued and the borrower will be permitted to continue to make payments.  In certain instances, we may modify the loan or grant a limited exemption from loan payments to allow the borrower to reorganize his or her financial affairs. 

When we acquire real estate as a result of foreclosure or by deed in lieu of foreclosure, the real estate is classified as other real estate owned until it is sold. The real estate is recorded at estimated fair value at the date of acquisition less estimated costs to sell, and any write-down resulting from the acquisition is charged to the allowance for loan losses. Subsequent decreases in the value of the property are charged to operations. After acquisition, all costs in maintaining the property are expensed as incurred. Costs relating to the development and improvement of the property, however, are capitalized to the extent of estimated fair value less estimated costs to sell.

Delinquent multifamily and commercial real estate and construction loans are handled in a similar fashion.  Our procedures for repossession and sale of consumer collateral are subject to various requirements

under applicable laws, including consumer protection laws.  In addition, we may determine that foreclosure and sale of such collateral would not be cost-effective for us.

Troubled Debt Restructurings.  We occasionally modify loans to extend the term or make other concessions to help a borrower stay current on his or her loan and to avoid foreclosure.  We consider modifications only after analyzing the borrower’s current repayment capacity, evaluating the strength of any guarantors based on documented current financial information, and assessing the current value of any collateral pledged. We generally do not forgive principal or interest on loans, but may do so if it is in our best interest and increases the likelihood that we can collect the remaining principal balance. We may modify the terms of loans to lower interest rates (which may be at below market rates), to provide for fixed interest rates on loans where fixed rates are otherwise not available, to provide for longer amortization schedules, or to provide for interest-only terms.  These modifications are made only when a workout plan has been agreed to by the borrower that we believe is reasonable and attainable and in our best interests.  At December 31, 2019, we had no loans which were classified as troubled debt restructurings.

Delinquent Loans. The following table sets forth our loan delinquencies by type and amount at the dates indicated.

 

Classified Assets.  Federal regulations provide that loans and other assets of lesser quality should be classified as “substandard,” “doubtful” or “loss.”  An asset is considered “substandard” if it is inadequately protected by the current net worth and paying capacity of the obligor or of the collateral pledged, if any.  “Substandard” assets include those characterized by the “distinct possibility” that the insured institution will sustain “some loss” if the deficiencies are not corrected.  Assets classified as “doubtful” have all of the weaknesses inherent in those classified “substandard,” with the added characteristic that the weaknesses present make “collection or liquidation in full,” on the basis of currently existing facts, conditions, and values, “highly questionable and improbable.”  Assets classified as “loss” are those considered “uncollectible” and of such little value that their continuance as assets without the establishment of a specific allowance for loan losses is not warranted.  Assets that do not currently expose the insured institution to sufficient risk to warrant classification in one of the aforementioned categories but possess weaknesses are designated as “watch.”  At December 31, 2019, we had two loans designated as “watch.”

When an insured institution classifies problem assets as either substandard or doubtful, it may establish general allowances in an amount deemed prudent by management to cover losses that were both probable and reasonable to estimate.  General allowances represent allowances which have been established to cover accrued losses associated with lending activities that were both probable and reasonable to estimate, but which, unlike specific allowances, have not been allocated to particular problem assets.  When an insured institution classifies problem assets as “loss,” it is required either to establish a specific allowance for losses equal to 100% of that portion of the asset so classified or to charge-off such amount.  An institution’s determination as to the classification of its assets and the amount of its valuation allowances is subject to review by the regulatory authorities, which may have judgments different than management’s, and may determine the need to establish additional general or specific allowances.

In connection with the filing of our periodic regulatory reports and in accordance with our classification of assets policy, we regularly review the problem loans in our portfolio to determine whether any loans require classification in accordance with applicable regulations.  If a problem loan deteriorates in asset quality, the classification is changed to “substandard,” “doubtful” or “loss” depending on the circumstances and the evaluation. Generally, loans 90 days or more past due are placed on nonaccrual status and classified “substandard.” 

The following table sets forth our amounts of classified assets as of the dates indicated.  Amounts shown at December 31, 2019 and 2018 include $0 and $0  of nonperforming loans, respectively.  The related specific valuation allowance in the allowance for loan losses for such nonperforming loans was $0 and $0  at December 31, 2019 and 2018, respectively. 

 

Nonperforming Assets. The Company had no non-performing assets at December 31, 2019 or 2018.

In November 2018, three non-accrual loans from one loan relationship were repaid in full and we collected interest of $98,000 on these loans. Other than these loans, for the years ended December 31,  2019 and 2018, gross interest income that would have been recorded had our non-accruing loans been current in accordance with their original terms was $0 and $0, and no interest income was recognized on any such loans for the year ended December 31,  2019.    

Other Loans of Concern.  At December 31, 2019 and 2018, there were $567,000 and $580,000, respectively, of other loans, all of which were classified as substandard, that are not already disclosed in the nonperforming assets and troubled debt restructurings table above where there is information about possible credit problems of borrowers that caused management to have serious doubts about the ability of the borrowers to comply with present loan repayment terms and that may result in disclosure of such loans in the future. 

Allowance for Loan Losses 

Analysis and Determination of the Allowance for Loan Losses.   Our allowance for loan losses is the amount considered necessary to reflect probable incurred losses in our loan portfolio.  We evaluate the need to establish allowances against losses on loans on a quarterly basis.  When additional allowances are necessary, a provision for loan losses is charged to earnings.

Our methodology for assessing the appropriateness of the allowance for loan losses consists of two key elements: (1) specific allowances for identified impaired loans; and (2) a general valuation allowance on the remainder of the loan portfolio.  Although we determine the amount of each element of the allowance separately, the entire allowance for loan losses is available for the entire portfolio.

We identify loans that may need to be charged off as a loss by reviewing all delinquent loans, classified loans, and other loans about which management may have concerns about collectability. For individually reviewed loans, the borrower’s inability to make payments under the terms of the loan as well as the shortfall in collateral value could result in our charging off the loan or the portion of the loan that was impaired.

Among other factors, we consider current general economic conditions, including current housing price depreciation, in determining the appropriateness of the allowance for loan losses for our residential real estate portfolio. We use evidence obtained from our own loan portfolio as well as published housing data on our local markets from third party sources we believe to be reliable as a basis for assumptions about the impact of housing depreciation.

Substantially all of our loans are secured by collateral. Loans 90 days past due and other classified loans are evaluated for impairment and general or specific allowances are established. Typically for a nonperforming real estate loan in the process of collection, the value of the underlying collateral is estimated using either the original independent appraisal if it is less than 12 months old, adjusted for current economic conditions and other factors, or a new independent appraisal, and related general or specific allowances for loan losses are adjusted on a quarterly basis. If a nonperforming real estate loan is in the process of foreclosure and/or there are serious doubts about further collectability of principal or interest, and there is uncertainty about the value of the underlying collateral, we will order a new independent appraisal if it has not already been obtained. Any shortfall would result in immediately charging off the portion of the loan that was impaired.

Specific Allowances for Identified Problem Loans.      We establish a specific allowance when loans are determined to be impaired.  Loss is measured by determining the present value of expected future cash flows or, for collateral-dependent loans, the fair value of the collateral less estimated selling expenses.  Factors in identifying a specific problem loan include: (1) the strength of the customer’s personal or business cash flows; (2) the availability of other sources of repayment; (3) the amount due or past due; (4) the type and value of collateral; (5) the strength of our collateral position; (6) the estimated cost to sell the collateral; and (7) the borrower’s effort to cure the delinquency.  In addition, for loans secured by real estate, we consider the extent of any past due and unpaid property taxes applicable to the property serving as collateral on the mortgage.

General Valuation Allowance on the Remainder of the Loan Portfolio.  We establish a general allowance for loans that are not classified as impaired to recognize the inherent losses associated with lending activities, but which, unlike specific allowances, has not been allocated to particular problem assets.  This general valuation allowance is determined by segregating the loans by loan category and assigning allowance percentages based on our historical loss experience, delinquency trends and management’s evaluation of the

collectability of the loan portfolio.  The allowance may be adjusted for significant factors that, in management’s judgment, affect the collectability of the portfolio as of the evaluation date.  These significant factors may include changes in lending policies and procedures, changes in existing general economic and business conditions affecting our primary market area, credit quality trends, collateral value, loan volumes and concentrations, seasoning of the loan portfolio, recent loss experience in particular segments of the portfolio, duration of the current business cycle and bank regulatory examination results.  The applied loss factors are re-evaluated quarterly to ensure their relevance in the current real estate environment.

The following table sets forth activity in our allowance for loan losses for the years indicated.

 

 

Allocation of Allowance for Loan Losses.    The following table sets forth the allowance for loan losses allocated by loan category, the total loan balances by category, and the percent of loans in each category to total loans at the dates indicated.  The allowance for loan losses allocated to each category is not necessarily indicative of future losses in any particular category and does not restrict the use of the allowance to absorb losses in other categories.  At the dates indicated, we had no unallocated allowance for loan losses.

 

At December 31, 2019, our allowance for loan losses represented 1.08% of total loans, and at December 31, 2018, our allowance for loan losses represented 1.05% of total loans.  There were net recoveries of $9,000 and $11,000 during the years ended December 31, 2019 and 2018, respectively.

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 results of operations could be adversely affected if circumstances differ substantially from the assumptions used in making the determinations.  Because future events affecting borrowers and collateral cannot be predicted with certainty, the existing allowance for loan losses may not be adequate and management may determine that increases in the allowance are necessary if the quality of any portion of our loan portfolio deteriorates as a result.  Furthermore, as an integral part of its examination process, the OCC will periodically review our allowance for loan losses. The OCC may have judgments different than management’s, and we may determine to increase our allowance as a result of these regulatory reviews.  Any material increase in the allowance for loan losses may adversely affect our financial condition and results of operations.

Investment Activities

General. Our investment policy is established by the board of directors. The objectives of the policy are to:  (i) ensure adequate liquidity for loan demand and deposit fluctuations, and to allow us to alter our liquidity position to meet both day-to-day and long-term changes in assets and liabilities; (ii) manage interest rate risk in accordance with our interest rate risk policy; (iii) provide collateral for pledging requirements; (iv) maximize return on our investments; and (v) maintain a balance of high quality diversified investments to minimize risk. 

Our executive officers meet monthly to assess our asset/liability risk profile and this group is responsible for implementing our investment policy, subject to the board of director’s approval of the investment strategies and monitoring of the investment performance.  The Chief Executive Officer and the President/Chief Financial Officer have the overall responsibility for managing the investment portfolio and executing transactions.  The board of directors regularly reviews our investment strategies and the market value of our investment portfolio.  

We account for investment and mortgage-backed securities in accordance with Accounting Standards Codification Topic 320, “Investments - Debt and Equity Securities.”  Accounting Standards Codification 320 requires that investments be categorized as held-to-maturity, trading, or available-for-sale.  Our decision to classify certain of our securities as available-for-sale is based on our need to meet daily liquidity needs and to take advantage of profits that may occur from time to time. 

Federally chartered savings institutions have authority to invest in various types of assets, including government-sponsored enterprise obligations, securities of various federal agencies, residential mortgage-backed securities, certain certificates of deposit of insured financial institutions, overnight and short-term loans to other banks, corporate debt instruments, debt instruments of municipalities and Fannie Mae and Freddie Mac equity securities. At December 31, 2019 and 2018, our investment portfolio consisted of mortgage-backed securities and Small Business Administration (SBA) securities.

Investment Securities. At December 31, 2019, we had mortgage-backed securities with a carrying value of $2.6 million, and we held $2.7 million of SBA securities. At these dates, all of our investment securities were categorized as available-for-sale.

Mortgage-backed securities are securities issued in the secondary market that are collateralized by pools of mortgages. Certain types of mortgage-backed securities are commonly referred to as “pass-through” certificates because the principal and interest of the underlying loans is “passed through” to investors, net of certain costs, including servicing and guarantee fees. Mortgage-backed securities typically are collateralized by pools of one- to four-family or multifamily mortgages, although we invest primarily in mortgage-backed securities backed by one- to four-family mortgages. The issuers of such securities pool and resell the participation interests in the form of securities to investors such as Eureka Homestead. The interest rate of the security is lower than the interest rates of the underlying loans to allow for payment of servicing and guaranty fees. All of our mortgage-backed securities are either backed by United States Government agencies,  such as Ginnie Mae and the SBA, or government-sponsored enterprises, such as Fannie Mae and Freddie Mac.

Residential mortgage-backed securities issued by United States Government agencies and government-sponsored enterprises are more liquid than individual mortgage loans because there is an active trading market for such securities. In addition, residential mortgage-backed securities may be used to collateralize our borrowings. Investments in residential mortgage-backed securities involve a risk that actual payments will be greater or less than the prepayment rate estimated at the time of purchase, which may require adjustments to the amortization of any premium or accretion of any discount relating to such interests, thereby affecting the net yield on our securities. Current prepayment speeds determine whether prepayment estimates require modification that could cause amortization or accretion adjustments.

Our SBA securities are securitized pools of loans issued and fully guaranteed by the Small Business Administration, a U.S. government agency.

Other Securities. We hold common stock of the FHLB in connection with our borrowing activities.  The FHLB common stock is carried at cost and classified as restricted equity securities. It is not practicable to determine the fair value of FHLB common stock due to restrictions placed on its transferability. We may be required to purchase additional FHLB common stock if we increase borrowings in the future.

The following table sets forth the amortized cost and fair value of our securities portfolio (excluding FHLB common stock) at the dates indicated. At the dates indicated, all of our investment securities were held as available-for-sale.

 

Portfolio Maturities and Yields.    The composition and maturities of the investment securities portfolio at December 31, 2019 are summarized in the following table.  Maturities are based on the final contractual payment dates, and do not reflect the impact of prepayments or early redemptions that may occur.  No tax-equivalent yield adjustments were made, as the effect thereof was not material. All of our securities at this date were held as available-for-sale. 

 

Sources of Funds

General. Deposits, scheduled amortization and prepayments of loan principal, amortization payments from mortgage-backed securities and SBA securities, proceeds from loan sales, maturities and calls of securities and funds provided by operations are our primary sources of funds for use in lending, investing and for other general purposes.  We also use borrowings, primarily FHLB advances, to supplement cash flow needs, lengthen the maturities of liabilities for interest rate risk purposes and to manage the cost of funds.     

Deposits. We offer deposit products having a range of interest rates and terms. We currently offer savings accounts (passbook and money market) and certificates of deposit.  Historically, we have relied on retail certificates of deposit as a funding source. In recent years, we have also accepted jumbo certificates of deposit through an on-line service, and municipal certificates of deposit, as non-retail funding sources to fund our loan originations. These non-core funding sources are not relationship-based accounts and are generally more price-sensitive than our core deposits of savings and money market accounts and our retail certificates of deposit. Therefore, these deposits carry a greater risk of non-renewal than our core deposits.