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BFIN > SEC Filings for BFIN > Form 10-K on 14-Mar-2014All Recent SEC Filings

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Form 10-K for BANKFINANCIAL CORP


14-Mar-2014

Annual Report


ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS

The discussion and analysis that follows focuses on the factors affecting our consolidated financial condition at December 31, 2013 and 2012, and our consolidated results of operations for the three years ended December 31, 2013. Our consolidated financial statements, the related notes and the discussion of our critical accounting policies appearing elsewhere in this Annual Report should be read in conjunction with this discussion and analysis. Overview of 2013
Total loans increased in 2013 due to increased marketing and deployment of new loan and lease products. Consistent with our practices in previous years, we actively managed our loan portfolio to exit certain multifamily, commercial real estate and commercial loan relationships based on their risk rating. We managed our deposit portfolio to retain higher value core deposit relationships and reduce our cost of funds to the lowest practicable levels. We ended 2013 with our highest-ever core deposit ratio at 78.0% of total deposits and our lowest-ever cost of funds.
We continued to reduce our core noninterest expense in 2013, focusing principally on efficiencies related to staffing, facilities and our ongoing initiatives to utilize technology-based transaction processing and customer information delivery capabilities.
We executed our plan to achieve a material reduction in nonperforming assets and future nonperforming asset expenses during 2013. Our ratio of non-performing assets to total assets was 1.70% at December 31, 2013. Absent currently unforeseen developments, we expect to achieve our goal of restoring our asset quality to its long-term historical levels by the end of 2014. Outlook for 2014
The combined effect of low market interest rates and yields and competitive forces in the Chicago metropolitan area will maintain pressure on asset yields throughout 2014. Continued deployment of excess liquidity through loan growth within our targeted asset classes should enable us to continue to expand our net interest margin gradually in 2014. As we expect the present economic environment in the Chicago metropolitan area to continue for a considerable period of time, we will continue to accelerate the evolution of our loan portfolio towards a configuration that permits better growth rates in multiple, independent segments with comparable risk-adjusted yields.
We expect to release new deposit-related products to improve non-interest income during the course of 2014; in addition, we may also be successful in increasing revenues related to trust, non-deposit wealth management, and commercial property and casualty sales due to new product capabilities and increased dedicated sales capacity. Core non-interest expense is expected to continue to decline despite increases in advertising and marketing expenses related to loan and deposit growth initiatives. Through these actions, we hope to further improve our core operating earnings in 2014 to a level consistent with peer institutions in our market.
Results of Operation
Net Income
Comparison of Year 2013 to 2012. We recorded net income of $3.3 million for the year ended December 31, 2013, compared to a net loss of $27.1 million for 2012. The net loss for 2012 was primarily due to a $31.5 million provision for loan losses and $12.7 million of expense for nonperforming asset management and operations of other real estate owned. The $31.5 million provision for loan losses in 2012 included a $11.5 million charge relating to the consummation of two bulk loan sales and a $5.9 million charge relating to the transfer of loans to the held for sale portfolio in preparation for a bulk sale. Our earnings per share of common stock was $0.16 for the year ended December 31, 2013 per share, compared to loss per share of common stock of $1.36 for the year ended December 31, 2012.
Comparison of Year 2012 to 2011. We recorded a net loss of $27.1 million for the year ended December 31, 2012, compared to a net loss of $48.7 million for 2011. The net loss for 2012 was primarily due to a $31.5 million provision for loan losses and $12.7 million of expense for nonperforming asset management and operations of other real estate owned. The $31.5 million provision for loan losses included a $11.5 million charge relating to the consummation of two bulk loan sales and a $5.9 million charge relating to the transfer of loans to the held for sale portfolio in preparation for a bulk sale. The net loss in 2011 was primarily due to the recording of a goodwill impairment expense of $23.9 million, a $22.6 million valuation allowance for deferred tax assets, a $22.7 million provision for loan losses and $10.8 million of expense for nonperforming asset management and operations of other real estate owned. Our loss per share of common stock for the year ended December 31, 2012 was $1.36 per share, compared to $2.46 per share for the year ended December 31, 2011.


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Net Interest Income
Net interest income is our primary source of revenue. Net interest income equals the excess of interest income (including discount accretion on purchased impaired loans) plus fees earned on interest earning assets over interest expense incurred on interest-bearing liabilities. The level of interest rates and the volume and mix of interest-earning assets and interest-bearing liabilities impact net interest income. Interest rate spread and net interest margin are utilized to measure and explain changes in net interest income. Interest rate spread is the difference between the yield on interest-earning assets and the rate paid for interest-bearing liabilities that fund those assets. The net interest margin is expressed as the percentage of net interest income to average interest-earning assets. The net interest margin exceeds the interest rate spread because noninterest-bearing sources of funds, principally noninterest-bearing demand deposits and stockholders' equity, also support interest-earning assets.
The accounting policies underlying the recognition of interest income on loans, securities, and other interest-earning assets are included in Note 1 of "Notes to Consolidated Financial Statements" in Item 8 of this Form 10-K.


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Average Balance Sheets
The following table sets forth average balance sheets, average yields and costs,
and certain other information. No tax-equivalent yield adjustments were made, as
the effect of these adjustments would not be material. Average balances are
daily average balances. Nonaccrual loans are included in the computation of
average balances, but have been reflected in the table as loans carrying a zero
yield. The yields set forth below include the effect of deferred fees and
expenses, discounts and premiums, purchase accounting adjustments that are
amortized or accreted to interest income or expense.
                                                                        Years Ended December 31,
                                      2013                                        2012                                        2011
                       Average                                     Average                                     Average
                     Outstanding                                 Outstanding                                 Outstanding
                       Balance       Interest     Yield/Rate       Balance       Interest     Yield/Rate       Balance       Interest     Yield/Rate
                                                                         (Dollars in thousands)
Interest-earning
Assets:
Loans               $ 1,031,240     $  47,691         4.62 %    $ 1,155,820     $  58,716         5.08 %    $ 1,261,704     $  66,706         5.29 %
Securities               72,699           981         1.35           80,030         1,485         1.86          106,060         2,665         2.51
Stock in FHLBC            6,736            22         0.33           10,729            29         0.27           16,243            16         0.10
Other                   262,425           698         0.27          185,963           497         0.27          112,063           321         0.29
Total
interest-earning
assets                1,373,100        49,392         3.60        1,432,542        60,727         4.24        1,496,070        69,708         4.66
Noninterest-earning
assets                   78,461                                      86,191                                     125,937
Total assets        $ 1,451,561                                 $ 1,518,733                                 $ 1,622,007
Interest-bearing
Liabilities:
Savings deposits    $   147,444           152         0.10      $   144,684           148         0.10      $   135,127           211         0.16
Money market
accounts                343,823         1,169         0.34          346,118         1,262         0.36          350,228         1,593         0.45
NOW accounts            347,528           379         0.11          335,552           416         0.12          323,295           500         0.15
Certificates of
deposit                 288,351         1,939         0.67          328,529         2,517         0.77          398,059         4,389         1.10
Total deposits        1,127,146         3,639         0.32        1,154,883         4,343         0.38        1,206,709         6,693         0.55
Borrowings                2,964            14         0.47            8,162           104         1.27           12,758           222         1.74
Total
interest-bearing
liabilities           1,130,110         3,653         0.32        1,163,045         4,447         0.38        1,219,467         6,915         0.57
Noninterest-bearing
deposits                129,755                                     134,807                                     131,695
Noninterest-bearing
liabilities              16,818                                      18,036                                      20,695
Total liabilities     1,276,683                                   1,315,888                                   1,371,857
Equity                  174,878                                     202,845                                     250,150
Total liabilities
and equity          $ 1,451,561                                 $ 1,518,733                                 $ 1,622,007
Net interest income                 $  45,739                                   $  56,280                                   $  62,793
Net interest rate
spread (1)                                            3.28 %                                      3.86 %                                      4.09 %
Net
interest-earning
assets (2)          $   242,990                                 $   269,497                                 $   276,603
Net interest margin
(3)                                                   3.33 %                                      3.93 %                                      4.20 %
Ratio of
interest-earning
assets to
interest-bearing
liabilities              121.50 %                                    123.17 %                                    122.68 %


_________________


(1) Net interest rate spread represents the difference between the yield on average interest-earning assets and the cost of average interest-bearing liabilities.

(2) Net interest-earning assets represents total interest-earning assets less total interest-bearing liabilities.

(3) Net interest margin represents net interest income divided by average total interest-earning assets.


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Comparison of Year 2013 to 2012. Net interest income decreased by $10.5 million, or 18.7%, to $45.7 million for the year ended December 31, 2013, from $56.3 million for the year ended December 31, 2012. Our net interest rate spread decreased 58 basis points to 3.28% for the year ended December 31, 2013, compared to 3.86% for 2012. Our net interest margin decreased by 60 basis points to 3.33% for the year ended December 31, 2013, from 3.93% for 2012. Our average interest-earning assets decreased $59.4 million to $1.373 billion for the year ended December 31, 2013, from $1.433 billion for the year ended 2012, and our average interest-bearing liabilities decreased $32.9 million to $1.130 billion for the year ended December 31, 2013, from $1.163 billion for 2012. Comparison of Year 2012 to 2011. Net interest income decreased by $6.5 million, or 10.4%, to $56.3 million for the year ended December 31, 2012, from $62.8 million for the year ended December 31, 2011. Our net interest rate spread decreased 23 basis points to 3.86% for the year ended December 31, 2012, compared to 4.09% for 2011. Our net interest margin decreased by 27 basis points to 3.93% December 31, 2012 from 4.20% for 2011. Our average interest-earning assets decreased $63.5 million to $1.433 billion for the year ended December 31, 2012, from $1.496 billion for 2011, and our average interest-bearing liabilities decreased $56.4 million to $1.163 billion for the year ended December 31, 2012, from $1.219 billion for 2011.
Rate/Volume Analysis
The following table presents the dollar amount of changes in interest income and interest expense for the major categories of our interest-earning assets and interest-bearing liabilities. Information is provided for each category of interest-earning assets and interest-bearing liabilities with respect to changes attributable to changes in volume (i.e., changes in average balances multiplied by the prior-period average rate), and changes attributable to rate (i.e., changes in average rate multiplied by prior-period average balances). For purposes of this table, changes attributable to both rate and volume that cannot be segregated have been allocated proportionately to the change due to volume and the change due to rate.

                                                                     Years Ended December 31,
                                                2013 vs. 2012                                         2012 vs. 2011
                                 Increase (Decrease) Due to                            Increase (Decrease) Due to
                                                                       Total                                                 Total
                                                                     Increase                                              Increase
                                  Volume              Rate          (Decrease)          Volume              Rate          (Decrease)
                                                                      (Dollars in thousands)
Interest-earning assets:
Loans                        $      (5,991 )     $      (5,034 )   $   (11,025 )   $      (5,424 )     $      (2,566 )   $    (7,990 )
Securities                            (126 )              (378 )          (504 )            (574 )              (606 )        (1,180 )
Stock in FHLBC                         (12 )                 5              (7 )              (7 )                20              13
Other                                  201                   -             201               200                 (24 )           176
Total interest-earning
assets                              (5,928 )            (5,407 )       (11,335 )          (5,805 )            (3,176 )        (8,981 )
Interest-bearing
liabilities:
Savings deposits                         4                   -               4                16                 (79 )           (63 )
Money market accounts                  (10 )               (83 )           (93 )             (18 )              (313 )          (331 )
NOW accounts                             9                 (46 )           (37 )              18                (102 )           (84 )
Certificates of deposit               (280 )              (298 )          (578 )            (689 )            (1,183 )        (1,872 )
Borrowings                             (45 )               (45 )           (90 )             (67 )               (51 )          (118 )
Total interest-bearing
liabilities                           (322 )              (472 )          (794 )            (740 )            (1,728 )        (2,468 )
Change in net interest
income                       $      (5,606 )     $      (4,935 )   $   (10,541 )   $      (5,065 )     $      (1,448 )   $    (6,513 )


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Provision for Loan Losses
We establish provisions for loan losses, which are charged to operations in order to maintain the allowance for loan losses at a level we consider necessary to absorb probable incurred credit losses in the loan portfolio. In determining the level of the allowance for loan losses, we consider past and current loss experience, evaluations of real estate collateral, current economic conditions, volume and type of lending, adverse situations that may affect a borrower's ability to repay a loan and the levels of nonperforming and other classified loans. The amount of the allowance is based on estimates and the ultimate losses may vary from such estimates as more information becomes available or events change. We assess the allowance for loan losses on a quarterly basis and make provisions for loan losses in order to maintain the allowance. We recorded a recovery of loan losses of $687,000 for the year ended December 31, 2013, compared to a provision for loan losses of $31.5 million in 2012 and $22.7 million in 2011. The provision for loan losses is a function of the allowance for loan loss methodology we use to determine the appropriate level of the allowance for inherent loan losses after net charge-offs have been deducted. The portion of the allowance for loan losses attributable to loans collectively evaluated for impairment decreased $2.6 million, or 15.7%, to $13.8 million at December 31, 2013, compared to $16.3 million at December 31, 2012. The primary reason for this decrease is that the growth that occurred in our loan portfolio in 2013 focused on loan types that had lower loss ratios based on our historical loss experience. Net charge-offs were $3.2 million in 2013, compared to $45.2 million in 2012 and $13.2 million in 2011. Net charge-offs for 2012 included a $10.8 million charge-off relating to compliance with the OCC's regulatory transition guidance concerning the elimination of special valuation allowances, as well as a $17.4 million charge relating to the consummation of two bulk loan sales and the transfer of loans to the held for sale portfolio in preparation for a bulk sale. For further analysis and information on how we determine the appropriate level for the allowance for loan losses and analysis of credit quality, see "Critical Accounting Policies" and "Risk Classification of Loans and Allowance for Loan Losses."

Noninterest Income
                                          Years Ended December 31,                       Change
                                       2013          2012         2011       2013 vs. 2012     2012 vs. 2011
                                                             (Dollars in thousands)
Deposit service charges and fees    $   2,005     $  2,176     $  2,667     $        (171 )   $        (491 )
Other fee income                        2,250        2,393        2,425              (143 )             (32 )
Insurance commissions and annuities
income                                    474          510          659               (36 )            (149 )
Gain on sale of loans, net              1,469          841          340               628               501
Loss on disposition of premises and
equipment                                 (43 )       (156 )        (19 )             113              (137 )
Loan servicing fees                       461          486          538               (25 )             (52 )
Amortization of servicing assets         (233 )       (265 )       (252 )              32               (13 )
Recovery (impairment) of servicing
assets                                     65          (55 )        (15 )             120               (40 )
Earnings on bank owned life
insurance                                 313          438          626              (125 )            (188 )
Trust income                              711          733          676               (22 )              57
Other                                     662          622          499                40               123
Total noninterest income            $   8,134     $  7,723     $  8,144     $         411     $        (421 )

Comparison of Year 2013 to 2012. Our noninterest income increased by $411,000 to $8.1 million for the year ended December 31, 2013, from $7.7 million for the year ended December 31, 2012. Noninterest income for the year ended December 31, 2013 included a $1.5 million gain on sale of loans, which included recurring loan sale activity combined with the completion of the sale of the owner-occupied and investor-owned one-to four family residential loans that we designated as held for sale at December 31, 2012. The completion of this sale represented approximately $1.3 million of the $1.5 million gain on sale of loans that we recorded for the year ended December 31, 2013. We recorded a recovery of an impairment of servicing assets of $65,000 for the year ended December 31, 2013, compared to an impairment of $55,000 in 2012. Bank-owned life insurance produced earnings of $313,000 for 2013, a decrease of $125,000, or 28.5%, compared to a $438,000 for 2012 due to decreased annualized policy returns. Comparison of Year 2012 to 2011. Our noninterest income decreased by $421,000 to $7.7 million for the year ended December 31, 2012, from $8.1 million for the year ended December 31, 2011. Factors affecting the change in noninterest income included a $491,000, or 18.4%, decrease in deposit service charges and fees to $2.2 million, from $2.7 million for 2011, primarily attributable to the impact that the Dodd-Frank Act had on certain deposit service charges and fees. Bank-owned life insurance produced earnings of $438,000 for the year ended December 31, 2012, a decrease of $188,000, or 30.0%, compared to a $626,000 for 2011.


Table of Contents

Noninterest Expense
                                          Years Ended December 31,                        Change
                                       2013          2012         2011       2013 vs. 2012     2012 vs. 2011
                                                              (Dollars in thousands)
Compensation and benefits           $  26,195     $ 25,791     $ 26,106     $         404     $         (315 )
Office occupancy and equipment          7,547        8,060        8,541              (513 )             (481 )
Advertising and public relations          925          733          895               192               (162 )
Information technology                  3,091        3,062        2,775                29                287
Supplies, telephone and postage         1,697        1,840        1,829              (143 )               11
Amortization of intangibles               605          633        1,689               (28 )           (1,056 )
Nonperforming asset management          2,638        5,211        4,431            (2,573 )              780
Loss on sale other real estate
owned                                     148          252           15              (104 )              237
Valuation adjustments of other real
estate owned                              550        5,560        3,970            (5,010 )            1,590
Operations of other real estate
owned                                     915        1,679        2,350              (764 )             (671 )
FDIC insurance premiums                 1,913        1,779        1,441               134                338
Acquisition costs                           -            -        1,761                 -             (1,761 )
Goodwill impairment                         -            -       23,862                 -            (23,862 )
Other                                   5,038        4,990        4,870                48                120
Total noninterest expense           $  51,262     $ 59,590     $ 84,535     $      (8,328 )   $      (24,945 )

Comparison of Year 2013 to 2012. For the year ended December 31, 2013, noninterest expense decreased by $8.3 million, or 14.0%, to $51.3 million, from $59.6 million for 2012. Compensation and benefits expense included $175,000 in severance expense for the year ended December 31, 2013, compared to $147,000 for 2012. Loan-related incentive compensation was $500,000 for the year ended December 31, 2013, compared to $187,000 for the year ended December 31, 2012. Stock-based compensation for the year ended December 31, 2013 was $933,000, an increase of $206,000, or 28.3%, compared to $727,000 for the year ended December 31, 2012. This increase is a result of 2013 restricted stock grants combined with increased ESOP expense as a result of a higher stock price at year end. Noninterest expense for 2013 included $4.3 million of nonperforming asset management and OREO expenses, compared to $12.7 million for 2012. Nonperforming asset management expenses decreased $2.6 million to $2.6 million for the year ended December 31, 2013, compared to $5.2 million in 2012. OREO expenses for the year ended December 31, 2013 included a $550,000 valuation adjustment to OREO properties compared to a $5.6 million valuation adjustment in 2012. Other noninterest expense for the year ended December 31, 2013 included the payment of $203,000 of settlements concerning two sold mortgage loans. Other noninterest expense for the year ended December 31, 2013 also included a provision of $118,000 for the establishment of a mortgage representation and warranty reserve for mortgage loans sold. The amount of the representation and warranty reserve was calculated by applying published Fannie Mae data relating to the percentage of loans that it required to be repurchased due to breaches of representations and warranties to the Bank's outstanding sold loans.
Comparison of Year 2012 to 2011. For the year ended December 31, 2012, noninterest expense decreased by $24.9 million, or 29.5%, to $59.6 million from $84.5 million for 2011. The decrease was primarily due to the recording of a $23.9 million goodwill impairment expense in 2011, increased nonperforming asset management and OREO operations expenses, and expenses recorded in connection with acquisitions. Noninterest expense for 2012 included $12.7 million of nonperforming asset management and OREO expenses, compared to $10.8 million for 2011. OREO expenses for the year ended December 31, 2012 included a $5.6 million valuation adjustment to OREO properties compared to a $4.0 million valuation adjustment in 2011. The increase in valuation adjustments was due in part to a revision of our disposition strategy for certain income-producing OREO properties from an ordinary-liquidation pricing model to an aggressive pricing model designed to stimulate market demand. Acquisition expenses reflected a $1.4 million expense relating to the acquisition of Downers Grove National Bank, including $518,000 for data processing contracts and operational expenses and $675,000 contract and severance payments, and a $396,000 expense relating to our Chicago area multi-family loan purchase from Citibank. Income Taxes
Comparison of Year 2013 to 2012. For the years ended December 31, 2013 and 2012, we recorded no income tax expense or benefit due to the full valuation allowance we established for deferred tax assets.


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Comparison of Year 2012 to 2011. For the year ended December 31, 2012 we recorded no income tax expense or benefit due to the full valuation allowance we . . .

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