(Source: Business Wire)
Bank Mutual Corporation (NASDAQ: BKMU) reported net income in the first quarter of 2009 of $7.2 million or $0.15 per diluted share compared to $5.1 million or $0.10 per diluted share during the same period in the prior year. The 2009 amounts represent a $2.1 million or 42.0% increase in net income and a $0.05 or 50.0% increase in diluted earnings per share compared to the 2008 amounts. Net income in these periods represented a return on average assets ("ROA") of 0.82% and 0.58% for the three months ended March 31, 2009 and 2008, respectively, and a return on average equity ("ROE") of 7.16% and 4.73% during the same periods, respectively.
Michael T. Crowley, Jr., Chairman, President, and Chief Executive Officer of Bank Mutual Corporation ("Bank Mutual") commented, "As we expected, a historically low interest rate environment enabled us to significantly increase profits from our mortgage lending operation and to maintain our net interest margin. We were also able to take advantage of opportunities in the securities market to sell certain long-term, fixed-rate investments at significant gains. We felt these actions were prudent in order to prepare our balance sheet for what we believe will be higher interest rates in the future." Mr. Crowley added, "Although we continue to be pleased with the quality of our loan portfolio, we remain concerned about the overall direction of the economy. For that reason, we took steps to increase our allowance for loan losses during the period."
The comparison of Bank Mutual's current quarter results with the same period in 2008 is affected by the following favorable developments in 2009:
a $3.0 million or nearly 375% increase in gain on loan sales activities;
a $2.2 million or 12.7% increase in net interest income;
a $1.8 million one-time tax benefit recorded against income tax expense as a result of a recent change in Wisconsin tax law; and
a $592,000 or over 40% increase in investment gains.
These favorable developments were partially offset by a $3.0 million increase in the provision for loan losses, as well as a larger than expected income tax expense (excluding the impact of the $1.8 million tax benefit mentioned above) caused by a change in Wisconsin tax law that increased Bank Mutual's effective income tax rate. Subsequent paragraphs describe these changes in greater detail, along with other changes in Bank Mutual's results of operations and financial condition during the three months ended March 31, 2009 and 2008.
Net interest income increased by $2.2 million or 12.7% during the three months ended March 31, 2009, compared to the same period in 2008. This increase was principally the result of a 29 basis point improvement in net interest margin, which increased to 2.35% in the most recent quarter compared to 2.06% in the first quarter of 2008. This improvement was primarily attributable to a declining interest rate environment during most of 2008 and into 2009 that resulted in a larger decrease in the cost of Bank Mutual's interest-bearing liabilities than it did in the yield on its earning assets. The impact of this improvement was partially offset by a modest decline in average earning assets in 2009 relative to 2008, as well as a small decline in the ratio of average earning assets to average interest-bearing liabilities between these periods. The decline in this ratio was principally the result of Bank Mutual's stock repurchases in recent periods, which are funded by cash flows from increases in interest-bearing liabilities, decreases in earning assets, or a combination of the two.
The provision for loan losses was $3.2 million in the quarter just ended compared to $156,000 in the same period last year. During the most recent quarter Bank Mutual recorded a $1.3 million provision for loss against a $9.1 million loan secured by a completed condominium development project and a $576,000 loss on an apartment complex for which Bank Mutual accepted a deed in lieu of foreclosure. Bank Mutual also established $466,000 in specific loss allowances on a number of smaller commercial real estate and commercial business loans during the quarter and experienced an overall increase in charge-off activity in its portfolio of residential and consumer loans. The $1.3 million loss on the condominium project was in addition to a separate $1.3 million loss that was recorded against this same loan in the prior year. In the judgment of management, continued deterioration in the market for these condominiums, as evidenced by the lack of unit sales in the project, warranted the additional loss provision. In addition to these specific provisions, Bank Mutual recorded nearly $600,000 in additional loss provision to reflect management's general concerns regarding continued deterioration in economic conditions and declines in real estate values, which are likely to result in increased loan charge-offs in future periods.
Gains on sales of loans increased by $3.0 million or nearly 375% during the three months ended March 31, 2009, compared to the same period in 2008. Sales of one- to four-family mortgage loans were $182.7 million in the first quarter of 2009 compared to $57.7 million in the first quarter of 2008. Sales increased substantially in the most recent quarter as a result of a historically low interest rate environment that encouraged borrowers to refinance higher-rate fixed-rate loans into fixed-rate loans at lower rates. At the same time, adjustable-rate borrowers were incented to refinance their loans into fixed-rate loans. As a result of this behavior, Bank Mutual's one- to four-family mortgage loan originations were $217.2 million for the first quarter of 2009, compared to $66.6 million for the first quarter of 2008. Most of these originations were fixed-rate mortgages. Bank Mutual's policy is to sell substantially all of its fixed-rate, one- to four-family mortgage loan originations in the secondary market. Management expects gains on sales of loans to continue to be higher than normal in the near term, assuming market interest rates remain at their current levels or decline further.
Loan-related fees and servicing revenue was a negative $332,000 for the three months ended March 31, 2009, compared to a negative $64,000 for the same quarter in 2008. In addition to causing an increase in gains on loans sales, as described above, periods of low or declining interest rates typically have an adverse impact on the carrying value of Bank Mutual's mortgage servicing rights ("MSRs"). Low or declining interest rates typically cause an increase in actual mortgage loan prepayment activity, which results in an increase in MSR amortization expense. During the three months ended March 31, 2009 and 2008, MSR amortization expense, which is netted against loan-related fees and servicing revenue, was $1.0 million and $470,000, respectively. In addition, low or declining interest rates tend to cause an increase in expectations for future loan prepayment activity, which has an adverse impact on the valuation of MSRs. As of March 31, 2009, Bank Mutual had a valuation allowance of $702,000 against MSRs with a gross book value of $5.4 million. These amounts compared to a valuation allowance of $822,000 against a gross book value of $4.5 million as of December 31, 2008. The net recovery of $120,000 during the most recent quarter was caused by an increased level of refinance activity in higher rate loans in Bank Mutual's servicing portfolio. This activity resulted in slightly lower prepayment expectations for the remaining portfolio of lower rate loans that were not refinanced during the period. The $120,000 recovery during the most recent period compared to a loss of $174,000 during the first quarter of 2008. Changes in the valuation allowance on Bank Mutual's MSRs are included as a component of loan-related fees and servicing revenue.
If market interest rates for one- to- four family loans continue to decline and/or loan prepayment expectations increase, Bank Mutual could incur additional losses related to the valuation of its MSRs in future periods, as well as record higher than normal levels of amortization expense. Alternatively, if interest rates increase and/or prepayment expectations decrease, Bank Mutual could potentially recapture through earnings all or a portion of the previously established valuation allowance on its MSRs; in addition, amortization expense would likely decline to more normal levels.
As of March 31, 2009, Bank Mutual serviced $798.3 million in loans for third-party investors compared to $728.4 million at December 31, 2008. This increase was a result of the substantial increase in one- to four-family loans originated and sold in the secondary market, as previously described.
Gains on investment activities were $2.1 million in 2009 compared to $1.5 million in the first quarter of 2008. The amount for 2009 was net of an $831,000 other-than-temporary impairment ("OTTI") loss on one of Bank Mutual's mutual fund investments. This mutual fund invests primarily in mortgage-related securities, none of which are secured by sub-prime mortgages, but a portion of which are secured by interest-only mortgages, option-payment mortgages, and other "Alt-A" mortgages. Bank Mutual has recorded a total of $8.7 million in impairment charges on this mutual fund since the fourth quarter of 2007. Given the significant uncertainty and illiquidity that exists in the markets for securities secured by these types of loans, Bank Mutual may be required to record future impairment charges against this investment, although there can be no assurances. This investment had a remaining book value of $20.8 million at March 31, 2009 (net of impairment charges).
Excluding the OTTI loss, gains on investment activities were $2.9 million in 2009. During the most recent quarter Bank Mutual sold $152.2 million in long-term, fixed-rate, mortgage-related securities, the proceeds of which were reinvested primarily in adjustable-rate mortgage-backed securities ("MBSs"). As previously mentioned, these actions were considered prudent in light of management's anticipation of higher interest rates in the future. Gains on investment activities in 2008 resulted from the sale of $114.0 million in MBSs in that period.
Total non-interest expense increased by $859,000 or 5.5% during the three months ended March 31, 2009, compared to the same period in the previous year. A portion of this increase was due to higher deposit insurance premiums as described in the next paragraph. The remaining increase was due to normal annual increases in employee compensation and benefit expenses, an increase in the number of personnel employed by Bank Mutual, and an increase in expenses associated with increased residential loan production, as previously discussed. Also contributing was an increase in expenses related to the number of Bank Mutual office locations. Bank Mutual opened one new office in the third quarter of 2008. In addition, it relocated a second office to a new location in the fourth quarter of that year.
The Federal Deposit Insurance Corporation ("FDIC") increased deposit insurance rates for all financial institutions beginning in 2009. As a result of this increase, deposit insurance premium expense, which is included as a component of other non-interest expense, increased from $62,000 in the first quarter of 2008 to $362,000 in the first quarter of 2009. Further, as a result of the FDIC's expected implementation of a new risk-based premium assessment in the second quarter of 2009, as well as the expiration of certain premium credits in the first quarter, Bank Mutual expects that its regular deposit insurance premiums for the remaining nine months of 2009 will total approximately $2.5 million. Finally, in February 2009 the FDIC announced its intention to charge all insured financial institutions a special assessment in the third quarter of 2009. As currently proposed this assessment would be 20 basis points or $4.2 million for Bank Mutual. However, there can be no assurances this charge will be imposed on financial institutions as currently proposed or that there will not be additional charges imposed in the future.
Income tax expense was $1.7 million during the first quarter of 2009 compared to $2.5 million in the same quarter of 2008. The current year period amount is net of $1.8 million in tax benefit related to the elimination of a valuation allowance Bank Mutual established against a deferred tax asset in prior years. The deferred tax asset related to Wisconsin net operating loss carryovers for which management was unable to determine whether it was more likely than not that the tax benefits would be realized in future periods. In February 2009 Wisconsin law was amended subjecting business entities to combined reporting. As a result of this change, management determined that Bank Mutual's Wisconsin net operating losses that had not been recognized in prior periods would be realizable, resulting in a one-time tax benefit of $1.8 million in the current period.
Excluding the impact of the tax benefit described in the previous paragraph, Bank Mutual's income tax expense for the first quarter of 2009 would have been $3.5 million. This amount represents an effective tax rate ("ETR") of 39.2% compared to 33.1% in the same period last year. This increase was caused by the enactment of the new Wisconsin law described above, which became effective January 1, 2009. Prior to enactment of this law, the state of Wisconsin imposed a corporate franchise tax on the separate taxable incomes of the members of Bank Mutual's consolidated income tax group, excluding its out-of-state investment subsidiaries. However, beginning January 1, 2009, Bank Mutual's consolidated income tax group is subject to combined reporting, which results in state income taxes being imposed on the earnings of its out-of-state investment subsidiaries. Accordingly, Bank Mutual's ETR increased relative to prior periods. Management expects the current period ETR to be representative of the rate in future periods, although there can be no assurances.
As previously discussed, originations of one- to four-family mortgage loans increased significantly during the three months ended March 31, 2009. Despite this development, Bank Mutual's portfolio of one- to four-family loans declined from $881.3 at December 31, 2008, to $805.0 million at March 31, 2009. This decline was caused by increased refinancing of adjustable-rate mortgage loans by borrowers (which Bank Mutual typically retains in portfolio) into fixed-rate mortgage loans (which Bank Mutual generally sells in the secondary market). Bank Mutual expects this trend to continue in the near term assuming interest rates remain at their current levels or decline further.
Multi-family and commercial real estate mortgage loan originations were $19.0 million in the aggregate for the first quarter of 2009 compared to $28.2 million for the first quarter of 2008. In addition, commercial business loan originations for the first quarter of 2009 were $8.8 million compared to $10.8 million in the first quarter of 2008. Although Bank Mutual continues to emphasize originations of these types of loans, originations have declined in recent periods due to a general deterioration in economic conditions, as well as Bank Mutual's conservative underwriting standards. Primarily as a result of lower origination activity, Bank Mutual's aggregate portfolio of multi-family and commercial real estate mortgage loans declined from $466.3 million at December 31, 2008, to $446.8 million at March 31, 2009. Furthermore, its portfolio of construction and development loans declined by $3.7 million or 2.3%. Bank Mutual's portfolio of commercial business loans increased modestly, from $49.6 million to $50.3 million during the most recent quarter.
Consumer loan originations, including fixed-term home equity loans and lines of credit, were $19.3 million for the first quarter of 2009 compared to $21.0 million for the first quarter of 2008. Lower origination activity in 2009 was primarily the result of declining demand due to slower economic growth, as well as smaller increases, or even decreases, in home values, which has had a negative impact on homeowners' equity. This reduced origination activity resulted in a decline in Bank Mutual's consumer loan portfolio from $338.1 million at December 31, 2008, to $314.2 million at March 31, 2009. Also contributing to this decline was a historically low interest rate environment which encouraged many borrowers to refinance their home equity loans or lines of credit and other consumer loans into first mortgage loans during the period. Many of these borrowers reestablished home equity lines of credit with Bank Mutual in accordance with its established lending standards, but had not drawn substantial amounts on these lines as of the end of the first quarter.
In light of current economic conditions and recent loan origination activity, management expects growth in all categories of Bank Mutual's loan portfolio to be slow or negative in the near term, although there can be no assurances.
Bank Mutual's cash and cash equivalents increased from $112.9 million at December 31, 2008, to $151.4 million at March 31, 2009. This increase was purposeful and reflects management's belief that it is prudent to increase Bank Mutual's liquidity and future flexibility in light of recent developments in financial markets, as well as management's expectations for higher interest rates in the future.
Bank Mutual's investment securities portfolio decreased by $45.3 million or 10.8% and its mortgage-related securities portfolio increased by $122.4 million or 14.4% during the three months ended March 31, 2009. The decrease in the investment securities portfolio was primarily caused by securities that were called by issuers during the period. The increase in the mortgage-related securities portfolio was primarily caused by the purchase of $327.2 million in securities consisting principally of adjustable-rate Freddie Mac and Fannie Mae MBSs. These purchases were offset in part by $152.2 million in sales of long-term, fixed-rate MBSs, as previously described.
Bank Mutual classifies all of its securities as available-for-sale. Changes in the fair value of such securities are recorded through accumulated other comprehensive loss (net of deferred income taxes), which is a component of shareholders' equity. During the first quarter of 2009 the fair value adjustment on Bank Mutual's available-for-sale securities improved from a net unrealized loss of $19.7 million at December 31, 2008, to a net unrealized loss of $15.0 million at March 31, 2009. This improvement was due in part to an increase in the fair value of Bank Mutual's portfolio of private-label collateralized mortgage obligations ("CMOs"). At March 31, 2009, Bank Mutual's portfolio of private-label CMOs had a carrying value of $126.3 million, net of unrealized losses of $23.2 million. These amounts compared to a carrying value of $128.6 million at December 31, 2008, net of unrealized losses of $29.1 million. Bank Mutual's private-label CMOs were originally purchased from 2004 to early 2006 and are secured by prime residential mortgage loans. The securities were all rated "triple-A" by various credit rating agencies at the time of their original purchase. However, in recent periods, a portion of the portfolio with a carrying value of $17.6 million was downgraded to "double-A," or in one instance, less than "double-A." Although the fair value of Bank Mutual's private-label CMOs improved in the most recent quarter, the market for these securities has remained depressed during the past six months in response to increased stress and illiquidity in the financial markets and a general deterioration in economic conditions. Although mindful of these developments, management has determined that it is unlikely Bank Mutual will not collect all amounts due according to the contractual terms of these securities. As such, management has determined that none of Bank Mutual's private-label CMOs are other-than-temporarily impaired as of March 31, 2009. However, collection is subject to numerous factors outside of Bank Mutual's control and a future determination of OTTI could result in significant losses being recorded through earnings in future periods.
Deposits increased $22.6 million or 1.1% during the three months ended March 31, 2009, to $2.15 billion compared to $2.13 billion at December 31, 2008. Within the deposit portfolio, core deposits (checking, savings, and money market accounts) increased $19.1 million or 2.4% and certificates of deposit increased $3.5 million or 0.3%. The weighted average cost of deposits declined by 26 basis points at March 31, 2009, compared to December 31, 2008.
