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WEBK > SEC Filings for WEBK > Form 10-K on 27-Mar-2013All Recent SEC Filings

Show all filings for WELLESLEY BANCORP, INC. | Request a Trial to NEW EDGAR Online Pro

Form 10-K for WELLESLEY BANCORP, INC.


27-Mar-2013

Annual Report


Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations

Overview

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. Other sources of income include earnings from customer service fees (mostly from service charges on deposit accounts), bank-owned life insurance, fees from investment management services and gains on the sale of securities.

Provision for Loan Losses. The allowance for loan losses is maintained at a level representing management's best estimate of inherent losses in the loan portfolio, based upon management's evaluation of the portfolio's collectibility. The allowance is established through the provision for loan losses, which is charged against income. Charge-offs, if any, are charged to the allowance. Subsequent recoveries, if any, are credited to the allowance. Allocation of the allowance may be made for specific loans or pools of loans, but the entire allowance is available for the entire loan portfolio.

Expenses. The noninterest expenses we incur in operating our business consist of salaries and employee benefits, occupancy and equipment, data processing, federal deposit insurance and other general and administrative expenses. Our noninterest expenses have increased as a result of operating as a public company. These additional expenses consist primarily of stock-related compensation, legal and accounting fees, expenses of stockholder communications and meetings and stock exchange listing fees.

Salaries and employee benefits consist primarily of salaries and wages paid to our employees, payroll taxes, and expenses for health insurance, retirement plans and other employee benefits. We will recognize additional annual employee compensation expenses stemming from the adoption of the Employee Stock Ownership Plan ("ESOP") and the new equity incentive plan. The actual amount of these new stock-related compensation and benefit expenses are based on the fair market value of the shares of common stock or related stock options at specific points in the future.

Occupancy and equipment expenses, which are the fixed and variable costs of buildings and equipment, consist primarily of depreciation charges, rental expenses, furniture and equipment expenses, maintenance, real estate taxes and costs of utilities. Depreciation of premises and equipment is computed using a straight-line method based on the estimated useful lives of the related assets, which range from 3 to 40 years, or the expected lease terms, if shorter. Data processing expenses are the fees we pay to third parties for the use of their software and for processing customer information, deposits and loans.

Federal deposit insurance premiums are payments we make to the Federal Deposit Insurance Corporation for insurance of our deposit accounts.

Our contribution to the charitable foundation in connection with the Bank's stock conversion was an additional operating expense that reduced net income during the first quarter of 2012. The contribution to the foundation resulted in a $1.1 million after-tax expense in the first quarter of 2012. This expense will not be a recurring expense.

Other expenses include expenses for professional services, advertising, office supplies, postage, telephone, insurance and other miscellaneous operating expenses.

Business Strategy

Our primary objective is to operate and grow a profitable community-oriented financial institution serving customers in our primary market areas. We have sought to achieve this through the adoption of a business strategy designed to maintain a strong capital position and high asset quality. Our operating strategy includes the following:


Increasing our deposit market share within Wellesley, Massachusetts and the surrounding communities. Since its inception in 1911, Wellesley Bank has primarily served the town of Wellesley, Massachusetts and the immediate surrounding communities. Despite considerable competition from larger financial institutions with greater resources than Wellesley Bank, we have made significant progress in recent years to increase our market presence in the town of Wellesley. Our deposits have increased $52.8 million, or 21.5%, from $245.2 million at December 31, 2011 to $298.1 million at December 31, 2012. At June 30, 2012 (latest available), we had 13.68% of the deposits in the town of Wellesley, which represented the third largest market share out of 14 financial institutions with branches in the town of Wellesley. We believe the Wellesley market area will continue to provide us opportunities for growth, and we intend to continue to increase our market share in the town of Wellesley through our third Wellesley branch office that opened in April 2012.

Continuing to emphasize our commercial real estate, construction and commercial business loans, as well as increasing our commercial business depository relationships in our market area. We have worked to increase our commercial relationships by diversifying our loan portfolio beyond residential mortgage loans and offering business deposit and checking products. Since December 31, 2011, our commercial real estate, construction and commercial business loan portfolio has increased $19.7 million, or 15.8%, and at December 31, 2012 was 48.3% of our total loan portfolio. In connection with the increase in our commercial business loan portfolio, we also have focused on providing a full banking relationship and, as a result, experienced an increase in our business deposit and checking accounts. Since December 31, 2011, our business deposit and checking accounts increased $8.5 million, or 24.7%, of which, $5.6 million was attributable to the revised sweep account program, and at December 31, 2012, represented 14.4% of our total deposits.

With the additional capital raised in the offering, we expect to continue to pursue the larger lending relationships associated with commercial real estate and construction lending. In addition, we will continue to expand and develop our business deposit and checking products to better serve our commercial customers.

Increasing our residential mortgage lending in our market area. We believe there are significant opportunities to increase our residential mortgage lending in our market areas. The town of Wellesley and its surrounding communities has a sound economy and has not been as negatively affected by the recent recession as other regions of the United States. As a result, the demand for residential mortgage loans in our market area, in particular larger "jumbo" loans, has not been significantly impacted by the downturn in the economy. Early in 2012, we hired an additional residential mortgage lender to complement our existing residential mortgage lending operations, and have expanded our lending territory to include sections of Boston in Suffolk County and Cambridge in Middlesex County. We believe this provides additional lending opportunities and further diversifies our residential loan portfolio.

Continuing conservative underwriting practices while maintaining a high quality loan portfolio. We believe that strong asset quality is a key to long-term financial success. We have sought to maintain a high level of asset quality and manageable credit risk by using conservative underwriting standards and by diligent monitoring and collection efforts. Nonperforming loans decreased from $6.9 million at December 31, 2011 to $3.5 million at December 31, 2012. At December 31, 2012, nonperforming loans were 1.18% of the total loan portfolio and 0.93% of total assets. The decrease in nonperforming loans is the result of the payoff of certain troubled residential and commercial relationships and the return to performing status of one commercial real estate loan totaling $2.7 million. Although we intend to increase our commercial real estate, construction and commercial business lending, we intend to continue our philosophy of managing large loan exposures through conservative loan underwriting and sound credit administration standards.

Seeking to enhance fee income by growing investment advisory services. Our profits rely heavily on the spread between the interest earned on loans and securities and interest paid on deposits and borrowings. In order to decrease our reliance on net interest income, we have pursued initiatives to increase noninterest income. In particular, we offer a full array of investment advisory services for individuals, nonprofits, institutions, endowments, and other registered investment advisors through our wholly-owned subsidiary, Wellesley Investment Partners, LLC, a registered investment advisor. Investment management fees relating to our investment advisory services totaled $231,000, $109,000 and $68,000 for the years ended December 31, 2012, 2011 and 2010, respectively. We intend to continue to enhance our fee income through Wellesley Investment Partners by continuously evaluating potential additional hires or acquisitions if appropriate.


Emphasizing lower cost core deposits to maintain low funding costs. We seek to increase net interest income by controlling costs of funding. Over the past several years, we have sought to reduce our dependence on traditional higher cost certificates of deposits in favor of stable lower cost demand deposits. We have utilized additional product offerings, technology and a focus on customer service in working toward this goal. In addition, we intend to seek demand deposits by growing commercial banking relationships. Core deposits (demand, NOW, money market and savings accounts) comprised 54.3% of our total deposits at December 31, 2012, as compared to 51.2% at December 31, 2011 and 48.5% at December 31, 2010.

Critical Accounting Policies

We consider accounting policies involving significant judgments and assumptions by management that have, or could have, a material impact on the carrying value of certain assets or on income to be critical accounting policies.

Allowance for Loan Losses. The allowance for loan losses is the amount estimated by management as necessary to cover losses inherent in the loan portfolio at the balance sheet date. The allowance is established through the provision for loan losses, which is charged to income. Determining the amount of the allowance for loan losses necessarily involves a high degree of judgment. Among the material estimates required to establish the allowance are: the likelihood of default; the loss exposure at default; the amount and timing of future cash flows on impaired loans; the value of collateral; and the determination of loss factors to be applied to the various elements of the portfolio. All of these estimates are susceptible to significant change. Management reviews the level of the allowance at least quarterly and establishes the provision for loan losses based upon an evaluation of the portfolio, past loss experience, current economic conditions and other factors related to the collectibility of the loan portfolio. Although we believe that we use the best information available to establish the allowance for loan losses, future adjustments to the allowance may be necessary if economic or other conditions differ substantially from the assumptions used in making the evaluation. In addition, the Federal Deposit Insurance Corporation and Massachusetts Commissioner of Banks, as an integral part of their examination process, periodically review our allowance for loan losses and may require us to recognize adjustments to the allowance based on their judgments about information available to them at the time of their examination. A large loss could deplete the allowance and require increased provisions to replenish the allowance, which would adversely affect earnings. See notes 2 and 7 of the notes to consolidated financial statements included in this document.

Deferred Tax Assets. Deferred tax assets and liabilities are reflected at currently enacted income tax rates applicable to the period in which the deferred tax assets or liabilities are expected to be realized or settled. Management reviews deferred tax assets on a quarterly basis to identify any uncertainties pertaining to realization of such assets. In determining whether a valuation allowance is required against deferred tax assets, management assesses historical and forecasted operating results, including a review of eligible carryforward periods, tax planning opportunities and other relevant considerations. We believe the accounting estimate related to the valuation allowance is a critical estimate because the underlying assumptions can change from period to period. For example, tax law changes or variances in future projected operating performance could result in a change in the valuation allowance. Should actual factors and conditions differ materially from those used by management, the actual realization of net deferred tax assets could differ materially from the amounts recorded in the financial statements. If we were not able to realize all or part of our deferred tax assets in the future, an adjustment to the related valuation allowance would be charged to income tax expense in the period such determination was made and could have a negative impact on earnings. In addition, if actual factors and conditions differ materially from those used by management, we could incur penalties and interest imposed by taxing authorities.

Balance Sheet Analysis

General. Total assets increased $72.9 million, or 24.0%, from $303.1 million at December 31, 2011 to $376.0 million at December 31, 2012. Total assets increased primarily due to an increase in net loans of $72.2 million, or 32.5%, and an increase in loans held for sale of $9.1 million. Total cash and short-term investments decreased $15.3 million to $18.2 million at December 31, 2012, primarily due to funding loan growth.


Total assets increased $41.1 million, or 15.7%, from $262.0 million at December 31, 2010 to $303.1 million at December 31, 2011 due primarily to an increase in securities of $10.5 million, or 41.2%, and an increase in total net loans of $17.7 million, or 8.7%.

Loans. Net loans increased $72.2 million, or 32.5%, from $221.9 million at December 31, 2011 to $294.1 million at December 31, 2012. The increase in loans was due primarily to an increase of $50.3 million, or 62.7%, in residential real estate loans. We have expanded our residential lending activity through the addition of a commissioned loan originator, and the expansion of our CRA assessment area. Adjustable-rate residential mortgage loans increased $47.2 million, or 74.0%, to $111.0 million while fixed-rate residential loans increased $3.1 million, or 19.0%, and ended the year at $19.5 million. We continue to sell conforming longer-term fixed-rate residential loans that we have originated, while retaining adjustable-rate mortgages in portfolio. The expansion of our residential lending activity is also reflected in the increase in loans held for sale as of December 31, 2012. For the years ending December 31, 2012 and 2011, loans sold to investors totaled $25.4 million and $4.5 million, respectively. Commercial real estate loans increased $8.3 million, or 11.6%, to $80.2 million, and construction loans increased $8.9 million, or 22.6% to $48.2 million. The increase in commercial real estate loans and construction loans reflects our continued emphasis on originating these types of loans and increased loan demand.

Total loans, net, increased by $17.7 million, or 8.7%, from $204.1 million at December 31, 2010 to $221.8 million at December 31, 2011. The increase in loans was due primarily to an increase of $18.0 million, or 33.3%, in commercial real estate loans. These increases reflected our continued emphasis on originating these types of loans and increased loan demand.

The following table sets forth the composition of our loan portfolio at the dates indicated.

                                                        At December 31,
                                 2012                        2011                        2010
(Dollars in
thousands)               Amount        Percent       Amount        Percent       Amount        Percent
Real estate loans:
Residential mortgage    $ 130,565         43.78 %   $  80,226         35.56 %   $  72,890         35.18 %
Commercial real
estate                     80,200         26.89        71,880         31.86        53,907         26.02
Construction               48,158         16.15        39,267         17.40        40,770         19.68
Total real estate
loans                     258,923         86.82       191,373         84.82       167,567         80.88

Commercial loans           15,725          5.28        13,262          5.88        14,905          7.20
Consumer loans:
Home equity lines of
credit                     23,111          7.75        20,463          9.07        24,198         11.68
Other                         455          0.15           512          0.23           503          0.24
Total loans               298,214        100.00 %     225,610        100.00 %     207,173        100.00 %
Less:
Deferred loan
origination fees, net        (279 )                      (381 )                      (366 )
Allowance for loan
losses                     (3,844 )                    (3,396 )                    (2,690 )
Net loans               $ 294,091                   $ 221,833                   $ 204,117


                                                          At December 31,
                                                  2009                       2008
   (Dollars in thousands)                 Amount       Percent       Amount       Percent
   Real estate loans:
   Residential mortgage                  $  73,443        39.32 %   $  84,784        43.02 %
   Commercial real estate                   49,911        26.72        42,282        21.46
   Construction                             31,223        16.71        40,115        20.36
   Total real estate loans                 154,577        82.75       167,181        84.84

   Commercial loans                         13,880         7.43        12,564         6.37
   Consumer loans:
   Home equity lines of credit              17,805         9.53        16,745         8.50
   Other                                       539         0.29           578         0.29
   Total loans                             186,801       100.00 %     197,068       100.00 %
   Less:
   Deferred loan origination fees, net        (371 )                     (382 )
   Allowance for loan losses                (2,060 )                   (2,047 )
   Net loans                             $ 184,370                  $ 194,639

Loan Maturity. The following table sets forth certain information at December 31, 2012 regarding scheduled contractual maturities. The table does not include any estimate of prepayments which significantly shorten the average life of all loans and may cause our actual repayment experience to differ from that shown below. Demand loans having no stated schedule of repayments and no stated maturity are reported as due in one year or less. The amounts shown below exclude net deferred loan fees.

                                                                 December 31, 2012
                           Residential       Commercial
                            Mortgage         Real Estate       Construction       Commercial       Consumer        Total
(In thousands)                Loans             Loans             Loans             Loans           Loans          Loans
Amounts due in:
One year or less          $           -     $       7,270     $       31,322     $      4,518     $    3,219     $  46,329
More than one year to
five years                            -               688             16,836            6,133          8,114        31,771
More than five years            130,565            72,242                  -            5,074         12,233       220,114
Total                     $     130,565     $      80,200     $       48,158     $     15,725     $   23,566     $ 298,214

Fixed vs. Adjustable Rate Loans. The following table sets forth the dollar amount of all scheduled maturities of loans at December 31, 2012 that are due after December 31, 2013 and have either fixed interest rates or adjustable interest rates. The amounts shown below exclude net deferred loan fees.

                                                   Floating or
                                      Fixed        Adjustable
            (In thousands)            Rates           Rates           Total
            Real estate loans:
            Residential mortgage     $ 19,524     $     111,041     $ 130,565
            Commercial real estate     14,374            58,556        72,930
            Construction               16,836                 -        16,836
            Commercial loans           10,462               745        11,207
            Consumer loans             19,897               450        20,347
            Total                    $ 81,093     $     170,792     $ 251,885

Securities. Our securities portfolio consists primarily of residential mortgage-backed securities issued by U.S. government agencies and government sponsored enterprises and state and municipal bonds. Securities available for sale increased by $3.2 million, or 8.8%, in the year ended December 31, 2012 reflective of Bank growth and reinvestment of funds from maturing securities. Securities available for sale increased by $10.5 million, or 41.2%, in the year ended December 31, 2011 primarily due to the purchase of additional securities resulting from excess liquidity.


The following table sets forth the amortized cost and fair values of our securities portfolio at the dates indicated.

                                                             At December 31,
                                    2012                          2011                          2010
                           Amortized        Fair         Amortized        Fair         Amortized        Fair
(In thousands)               Cost           Value          Cost           Value          Cost           Value
Residential
mortgage-backed
securities:
Government National
Mortgage Association      $     9,235     $   9,546     $    10,861     $  11,126     $    11,418     $  11,614
Government-sponsored
enterprises                    10,841        11,213          10,627        10,866           4,503         4,671
SBA and other
asset-backed securities         3,988         4,127           2,402         2,507           2,700         2,711
State and municipal
bonds                           5,604         5,963           7,815         8,246           5,606         5,713
Government-sponsored
enterprise obligations          2,105         2,115           2,349         2,364             422           443
Corporate bonds                 6,186         6,292             999           979             401           413
Total securities
available for sale        $    37,959     $  39,256     $    35,053     $  36,088     $    25,050     $  25,565

At December 31, 2012, we had no investments in a single company or entity (other than the U.S. Government or an agency of the U.S. Government) that had an aggregate book value in excess of 10% of equity.

The following table sets forth the stated maturities and weighted average yields of debt securities at December 31, 2012. Weighted average yields on tax-exempt securities are not presented on a tax equivalent basis. Certain mortgage related securities have adjustable interest rates and will reprice annually within the various maturity ranges. These repricing schedules, as well as monthly principal payments on mortgage- and asset-backed securities, are not reflected in the table below.

                                                                                                      More than Five
                                                                    More than One Year                     Years
                                    One Year or Less                  to Five Years                    to Ten Years                 More than Ten Years                    Total
                                                 Weighted                         Weighted                        Weighted                         Weighted                       Weighted
                               Amortized         Average        Amortized         Average        Amortized        Average        Amortized         Average        Amortized       Average
(Dollars in thousands)           Cost             Yield           Cost             Yield            Cost           Yield            Cost            Yield           Cost           Yield
Residential mortgage-
  backed securities:
Government National
   Mortgage Association       $         -                - %   $         -                - %   $          -              - %   $      9,235            1.29 %   $     9,235           1.29 %
Government-sponsored
   enterprises                          -                -               -                -              863           0.66            9,978            1.01          10,841           0.98
SBA and other asset-backed
   securities                           -                -               -                -              210           1.83            3,778            2.64           3,988           2.60
State and municipal bonds               -                -           1,422             3.21            1,807           3.86            2,375            4.09           5,604           3.79
Government-sponsored
   enterprise obligations               -                -               -                -            1,105           1.40            1,000            1.25           2,105           1.33
Corporate bonds                       154             2.65           6,032             1.73                -              -                -               -           6,186           1.75
Total debt securities         $       154             2.65 %   $     7,454             2.01 %   $      3,985           2.38 %   $     26,366            1.63 %   $    37,959           1.79 %

Deposits. Our primary sources of funds are retail deposit accounts held primarily by individuals and businesses within our market area. Deposits increased $52.8 million, or 21.5%, in the year ended December 31, 2012 primarily due to an increase in money market accounts of $4.3 million, or 8.5%, regular and other savings accounts of $13.8 million, or 49.5%, noninterest bearing demand deposits of $8.3 million, or 26.9%, and term certificates of deposit of $16.8 million, or 14.0%. Deposits increased $22.8 million, or 10.3%, during the year ended December 31, 2011 due primarily to an increase in money market accounts of $8.1 million, or 19.0%, regular savings accounts of $4.3 million, or 18.0%, noninterest bearing demand deposits of $2.1 million, or 7.3%, and term certificates of deposit of $5.1 million, or 4.4%. Both periods reflect our continuing efforts to decrease our reliance on certificates of deposit as well as customers shifting their certificates of deposit to more liquid deposit accounts due to low interest rates. In addition, increases in our core deposits during both periods reflects our success in expanding services to small business customers.


The following table sets forth the balances of our deposit products at the dates indicated.

. . .

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