The Quarterly
PROV Q4 2016 10-Q

Provident Financial Holdings Inc (PROV) SEC Quarterly Report (10-Q) for Q1 2017

PROV 2017 10-K
PROV Q4 2016 10-Q PROV 2017 10-K

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549


FORM 10-Q

(Mark One)

[   ü  ]

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

For the quarterly period ended

March 31, 2017

[     ]

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 000-28304


PROVIDENT FINANCIAL HOLDINGS, INC.

(Exact name of registrant as specified in its charter)

Delaware

33-0704889

(State or other jurisdiction of 

(I.R.S.  Employer 

incorporation or organization) 

Identification No.) 

3756 Central Avenue, Riverside, California 92506

(Address of principal executive offices and zip code)


(951) 686-6060

(Registrant's telephone number, including area code)


_________________________________________________________

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


Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (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  ü    No       .


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


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


Large accelerated filer ☐ Accelerated filer ☒    Non-accelerated filer ☐ Smaller reporting company ☐   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 Exchange Act).  

Yes      No  ü   .



APPLICABLE ONLY TO CORPORATE ISSUERS


Indicate the number of shares outstanding of each of the issuer's classes of common stock, as of the latest practicable date.

Title of class:

As of April 28, 2017

Common stock, $ 0.01 par value, per share

7,891,547 shares



PROVIDENT FINANCIAL HOLDINGS, INC.


Table of Contents

PART 1  -

FINANCIAL INFORMATION

ITEM 1  -

Financial Statements.  The Unaudited Interim Condensed Consolidated Financial Statements of Provident Financial Holdings, Inc. filed as a part of the report are as follows:

Page

Condensed Consolidated Statements of Financial Condition

as of March 31, 2017 and June 30, 2016

1

Condensed Consolidated Statements of Operations

for the Quarters and Nine Months Ended March 31, 2017 and 2016

2

Condensed Consolidated Statements of Comprehensive Income

for the Quarters and Nine Months Ended March 31, 2017 and 2016

3

Condensed Consolidated Statements of Stockholders' Equity

for the Quarters and Nine Months Ended March 31, 2017 and 2016

4

Condensed Consolidated Statements of Cash Flows

for the Nine Months Ended March 31, 2017 and 2016

6

Notes to Unaudited Interim Condensed Consolidated Financial Statements

7

ITEM 2  -

Management's Discussion and Analysis of Financial Condition and Results of Operations:

General

47

Safe-Harbor Statement

48

Critical Accounting Policies

49

Executive Summary and Operating Strategy

49

Off-Balance Sheet Financing Arrangements and Contractual Obligations

50

Comparison of Financial Condition at March 31, 2017 and June 30, 2016

51

Comparison of Operating Results

for the Quarters and Nine Months Ended March 31, 2017 and 2016

53

Asset Quality

62

Loan Volume Activities

70

Liquidity and Capital Resources

71

Supplemental Information

73

ITEM 3  -

Quantitative and Qualitative Disclosures about Market Risk

73

ITEM 4  -

Controls and Procedures

75

PART II  -

OTHER INFORMATION

ITEM 1  -

Legal Proceedings

75

ITEM 1A -

Risk Factors

75

ITEM 2  -

Unregistered Sales of Equity Securities and Use of Proceeds

76

ITEM 3  -

Defaults Upon Senior Securities

76

ITEM 4  -

Mine Safety Disclosures

76

ITEM 5  -

Other Information

76

ITEM 6  -

Exhibits

76

SIGNATURES

79






PROVIDENT FINANCIAL HOLDINGS, INC.

Condensed Consolidated Statements of Financial Condition

(Unaudited)

In Thousands, Except Share Information

March 31,
2017

June 30,
2016

Assets

Cash and cash equivalents

$

125,298


$

51,206


Investment securities – held to maturity, at cost

41,035


39,979


Investment securities – available for sale, at fair value

9,862


11,543


Loans held for investment, net of allowance for loan losses of

$8,275 and $8,670, respectively; includes $6,250 and $5,159 at fair value, respectively

880,510


840,022


Loans held for sale, at fair value

105,531


189,458


Accrued interest receivable

2,724


2,781


Real estate owned, net

2,768


2,706


Federal Home Loan Bank ("FHLB") – San Francisco stock

8,094


8,094


Premises and equipment, net

6,353


6,043


Prepaid expenses and other assets

17,270


19,549




Total assets

$

1,199,445


$

1,171,381




Liabilities and Stockholders' Equity





Liabilities:



Non interest-bearing deposits

$

76,795


$

71,158


Interest-bearing deposits

861,511


855,226


Total deposits

938,306


926,384




Borrowings

111,244


91,299


Accounts payable, accrued interest and other liabilities

18,304


20,247


Total liabilities

1,067,854


1,037,930




Commitments and Contingencies







Stockholders' equity:



Preferred stock, $.01 par value (2,000,000 shares authorized;

none issued and outstanding)

-


-


Common stock, $.01 par value (40,000,000 shares authorized;

17,931,365 and 17,847,365 shares issued; 7,885,547 and

7,975,250 shares outstanding, respectively)

179


178


Additional paid-in capital

92,775


90,802


Retained earnings

192,816


191,666


Treasury stock at cost (10,045,818 and 9,872,115 shares, respectively)

(154,427

)

(149,508

)

Accumulated other comprehensive income, net of tax

248


313




Total stockholders' equity

131,591


133,451




Total liabilities and stockholders' equity

$

1,199,445


$

1,171,381




The accompanying notes are an integral part of these condensed consolidated financial statements.


1



PROVIDENT FINANCIAL HOLDINGS, INC.

Condensed Consolidated Statements of Operations

(Unaudited)

In Thousands, Except Per Share Information

Quarter Ended    March 31,

Nine Months Ended   March 31,

2017

2016

2017

2016

Interest income:

Loans receivable, net

$

9,704


$

9,204


$

30,300


$

27,673


Investment securities

142


96


354


234


FHLB – San Francisco stock

184


163


827


542


Interest-earning deposits

250


183


406


417


Total interest income

10,280


9,646


31,887


28,866


Interest expense:

Checking and money market deposits

90


116


293


355


Savings deposits

144


170


434


507


Time deposits

686


807


2,189


2,500


Borrowings

713


641


2,151


1,937


Total interest expense

1,633


1,734


5,067


5,299


Net interest income

8,647


7,912


26,820


23,567


Recovery from the allowance for loan losses

(165

)

(694

)

(665

)

(1,094

)

Net interest income, after recovery from the allowance for loan losses

8,812


8,606


27,485


24,661


Non-interest income:

Loan servicing and other fees

362


383


939


800


Gain on sale of loans, net

5,395


7,145


19,869


22,113


Deposit account fees

562


590


1,664


1,790


Loss on sale and operations of real estate owned acquired in the settlement of loans, net

(74

)

(276

)

(240

)

(12

)

Card and processing fees

338


355


1,063


1,069


Other

208


227


580


711


Total non-interest income

6,791


8,424


23,875


26,471


Non-interest expense:

Salaries and employee benefits

10,370


10,630


32,033


31,393


Premises and occupancy

1,241


1,146


3,765


3,424


Equipment

352


349


1,054


1,158


Professional expenses

436


583


1,571


1,555


Sales and marketing expenses

421


356


970


952


     Deposit insurance premiums and regulatory assessments

189


252


614


764


Other

759


1,169


4,061


3,458


Total non-interest expense

13,768


14,485


44,068


42,704


Income before income taxes

1,835


2,545


7,292


8,428


Provision for income taxes

690


1,051


3,049


3,509


Net income

$

1,145


$

1,494


$

4,243


$

4,919


Basic earnings per share

$

0.14


$

0.18


$

0.53


$

0.58


Diluted earnings per share

$

0.14


$

0.18


$

0.52


$

0.57


Cash dividends per share

$

0.13


$

0.12


$

0.39


$

0.36



The accompanying notes are an integral part of these condensed consolidated financial statements.


2



PROVIDENT FINANCIAL HOLDINGS, INC.

Condensed Consolidated Statements of Comprehensive Income

(Unaudited)

In Thousands

For the Quarters Ended    March 31,

For the Nine Months Ended   March 31,

2017

2016

2017

2016

Net income

$

1,145


$

1,494


$

4,243


$

4,919


Change in unrealized holding (loss) gain on securities available for sale

(28

)

28


(112

)

(119

)

Reclassification of (gains) losses to net income

-


-


-


-


Other comprehensive (loss) income, before income taxes

(28

)

28


(112

)

(119

)

Income tax (benefit) provision

(12

)

12


(47

)

(50

)

Other comprehensive (loss) income

(16

)

16


(65

)

(69

)

Total comprehensive income

$

1,129


$

1,510


$

4,178


$

4,850




The accompanying notes are an integral part of these condensed consolidated financial statements.


3



PROVIDENT FINANCIAL HOLDINGS, INC.

Condensed Consolidated Statements of Stockholders' Equity

(Unaudited)

In Thousands, Except Share Information


For the Quarters Ended March 31, 2017 and 2016 :

Common

Stock

Additional
Paid-In Capital

Retained Earnings

Treasury Stock

Accumulated

Other

Comprehensive

Income (Loss),

Net of Tax

Shares

Amount

Total

Balance at December 31, 2016

7,915,116


$

179


$

92,215


$

192,699


$

(152,802

)

$

264


$

132,555


Net income

1,145


1,145


Other comprehensive loss

(16

)

(16

)

Purchase of treasury stock

(89,819

)

(1,678

)

(1,678

)

Exercise of stock options

60,250


-


524


524


Amortization of restricted stock

139


139


Awards of restricted stock

(53

)

53


-


Stock options expense

115


115


Tax effect from stock-based compensation

(165

)

(165

)

Cash dividends (1)

(1,028

)

(1,028

)

Balance at March 31, 2017

7,885,547


$

179


$

92,775


$

192,816


$

(154,427

)

$

248


$

131,591



(1) Cash dividends of $0.13 per share were paid in the quarter ended March 31, 2017.

Common

Stock

Additional
Paid-In Capital

Retained Earnings

Treasury Stock

Accumulated

Other

Comprehensive

Income,

Net of Tax

Shares

Amount

Total

Balance at December 31, 2015

8,345,723


$

178


$

89,604


$

189,590


$

(141,753

)

$

246


$

137,865


Net income

1,494


1,494


Other comprehensive income

16


16


Purchase of treasury stock (1)

(208,840

)

(3,634

)

(3,634

)

Exercise of stock options

57,500


1


420


421


Distribution of restricted stock

7,500


-


Amortization of restricted stock

152


152


Stock options expense

139


139


Tax effect from stock-based compensation

197


197


Cash dividends (2)

(1,000

)

(1,000

)

Balance at March 31, 2016

8,201,883


$

179


$

90,512


$

190,084


$

(145,387

)

$

262


$

135,650



(1) Includes the repurchase of 3,090 shares of distributed restricted stock in settlement of employee withholding tax obligations.

(2) Cash dividends of $0.12 per share were paid in the quarter ended March 31, 2016.




The accompanying notes are an integral part of these condensed consolidated financial statements.


4



For the Nine Months Ended March 31, 2017 and 2016 :


Common

Stock

Additional
Paid-In Capital

Retained Earnings

Treasury Stock

Accumulated

Other

Comprehensive

Income (Loss),

Net of Tax

Shares

Amount

Total

Balance at June 30, 2016

7,975,250


$

178


$

90,802


$

191,666


$

(149,508

)

$

313


$

133,451


Net income

4,243


4,243


Other comprehensive loss

(65

)

(65

)

Purchase of treasury stock (1)

(261,453

)

(4,999

)

(4,999

)

Exercise of stock options

84,000


1


808


809


Distribution of restricted stock

87,750


-


Amortization of restricted stock

634


634


Awards of restricted stock

(214

)

214


-


Forfeitures of restricted stock

134


(134

)

-


Stock options expense

597



597


Tax effect from stock-based compensation

14


14


Cash dividends (2)


(3,093

)

(3,093

)

Balance at March 31, 2017

7,885,547


$

179


$

92,775


$

192,816


$

(154,427

)

$

248


$

131,591



(1) Includes the repurchase of 25,598 shares of distributed restricted stock in settlement of employee withholding tax obligations.

(2) Cash dividends of $0.39 per share were paid during the nine months ended March 31, 2017.


Common

Stock

Additional
Paid-In Capital

Retained Earnings

Treasury Stock

Accumulated

Other

Comprehensive

Income (Loss),

Net of Tax

Shares

Amount

Total

Balance at June 30, 2015

8,634,607


$

177


$

88,893


$

188,206


$

(136,470

)

$

331


$

141,137


Net income

4,919


4,919


Other comprehensive loss

(69

)

(69

)

Purchase of treasury stock (1)

(520,224

)

(8,917

)

(8,917

)

Exercise of stock options

77,500


2


567


569


Distribution of restricted stock

10,000


-


Amortization of restricted stock

446


446


Stock options expense

394


394


Tax effect from stock-based compensation

212


212


Cash dividends (2)

(3,041

)

(3,041

)

Balance at March 31, 2016

8,201,883


$

179


$

90,512


$

190,084


$

(145,387

)

$

262


$

135,650



(1) Includes the repurchase of 4,500 shares from a cashless stock option exercise and the repurchase of 3,090 shares of distributed restricted stock in settlement of employee withholding tax obligations.

(2) Cash dividends of $0.36 per share were paid during the nine months ended March 31, 2016.



The accompanying notes are an integral part of these condensed consolidated financial statements.


5



PROVIDENT FINANCIAL HOLDINGS, INC.

Condensed Consolidated Statements of Cash Flows

(Unaudited - In Thousands)

Nine Months Ended   March 31,

2017

2016

Cash flows from operating activities:

Net income

$

4,243


$

4,919


Adjustments to reconcile net income to net cash provided by operating activities:

Depreciation and amortization

1,948


1,332


Recovery from the allowance for loan losses

(665

)

(1,094

)

Provision (recovery) of losses on real estate owned

145


(80

)

Gain on sale of loans, net

(19,869

)

(22,113

)

Gain on sale of real estate owned, net

(84

)

(12

)

Stock-based compensation

1,231


840


Provision (benefit) for deferred income taxes

1,335


(188

)

Tax effect from stock based compensation

(14

)

(212

)

Increase in accounts payable, accrued interest and other liabilities

1,006


420


Increase in prepaid expenses and other assets

(572

)

(701

)

Loans originated for sale

(1,507,162

)

(1,405,671

)

Proceeds from sale of loans

1,609,636


1,471,958


Net cash provided by operating activities

91,178


49,398


Cash flows from investing activities:

(Increase) decrease in loans held for investment, net

(42,052

)

3,015


Principal payments from investment securities held to maturity

9,398


513


Principal payments from investment securities available for sale

1,434


1,896


Purchase of investment securities held to maturity

(10,970

)

(20,769

)

Proceeds from sale of real estate owned

1,497


4,971


Purchase of premises and equipment

(991

)

(698

)

Net cash used for investing activities

(41,684

)

(11,072

)

Cash flows from financing activities:

Increase in deposits, net

11,922


2,979


Proceeds from long-term borrowings

20,000


-


Repayments of long-term borrowings

(55

)

(50

)

Exercise of stock options

809


569


Tax effect from stock based compensation

14


212


Cash dividends

(3,093

)

(3,041

)

Treasury stock purchases

(4,999

)

(8,917

)

Net cash provided by (used for) financing activities

24,598


(8,248

)

Net increase in cash and cash equivalents

74,092


30,078


Cash and cash equivalents at beginning of period

51,206


81,403


Cash and cash equivalents at end of period

$

125,298


$

111,481


Supplemental information:

Cash paid for interest

$

5,043


$

5,306


Cash paid for income taxes

$

2,384


$

3,845


Transfer of loans held for sale to held for investment

$

2,280


$

3,758


Real estate acquired in the settlement of loans

$

1,845


$

5,083



The accompanying notes are an integral part of these condensed consolidated financial statements.


6



PROVIDENT FINANCIAL HOLDINGS, INC.

NOTES TO UNAUDITED INTERIM CONDENSED CONSOLIDATED FINANCIAL STATEMENTS


March 31, 2017


Note 1: Basis of Presentation


The unaudited interim condensed consolidated financial statements included herein reflect all adjustments which are, in the opinion of management, necessary to present a fair statement of the results of operations for the interim periods presented.  All such adjustments are of a normal, recurring nature.  The condensed consolidated statement of financial condition at June 30, 2016 is derived from the audited consolidated financial statements of Provident Financial Holdings, Inc. and its wholly-owned subsidiary, Provident Savings Bank, F.S.B. (the "Bank") (collectively, the "Corporation").  Certain information and note disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States of America ("GAAP") have been omitted pursuant to the rules and regulations of the United States Securities and Exchange Commission ("SEC") with respect to interim financial reporting.  It is recommended that these unaudited interim condensed consolidated financial statements be read in conjunction with the audited consolidated financial statements and notes thereto included in the Corporation's Annual Report on Form 10-K for the year ended June 30, 2016.  The results of operations for the quarter and nine months ended March 31, 2017 are not necessarily indicative of results that may be expected for the entire fiscal year ending June 30, 2017.



Note 2: Accounting Standard Updates ("ASU")


There have been no accounting standard updates or changes in the status of their adoption that are applicable to the Corporation as previously disclosed in Note 1 of the Corporation's Annual Report on Form 10-K for the year ended June 30, 2016, except the adoption of ASU 2015-05, ASU 2015-10 and ASU 2015-12 beginning in fiscal 2017 which did not have a material impact on its condensed consolidated financial statements and as set forth below.

ASU 2017-07:

In March 2017, the Financial Accounting Standards Board ("FASB") issued ASU 2017-07, "Compensation-Retirement Benefits (Topic 715): Improving the Presentation of Net Periodic Pension Cost and Net Periodic Post-Retirement Benefit Cost." This ASU requires an employer to report the service cost component in the same line item or items as other compensation costs arising from services rendered by the pertinent employees during the period. The other components of net benefit cost as defined in paragraphs 715-30-35-4 and 715-60-35-9 are required to be presented in the income statement separately from the service cost component and outside a subtotal of income from operations, if one is presented. If a separate line item or items are used to present the other components of net benefit cost, that line item or items must be appropriately described. If a separate line item or items are not used, the line item or items used in the income statement to present the other components of net benefit cost must be disclosed. The amendments in this ASU is effective for annual periods beginning after December 15, 2017, including interim periods within those annual periods. The Corporation's adoption of this ASU is not expected to have a material impact on its condensed consolidated financial statements.


ASU 2017-03:

In January 2017, the FASB issued ASU 2017-03, "Accounting Changes and Error Corrections (Topic 250) and Investments - Equity Method and Joint Ventures (Topic 323) and Amendments to SEC Paragraphs Pursuant to Staff Announcements at the September 22, 2016 and November 17, 2016 EITF Meetings." The SEC staff announcement provided the view that a registrant should evaluate ASUs that have not yet been adopted to determine the appropriate financial statement disclosures about the potential material effects of those ASUs on the financial statements when adopted.  This announcement applies to Accounting Standards Update (ASU) No. 2014-09, "Revenue from Contracts with Customers (Topic 606)"; ASU No. 2016-02, "Leases (Topic 842)"; and ASU No. 2016-13, "Financial Instruments-Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments." The amendments in this ASU is effective for annual periods beginning after December 15, 2019, including interim periods within those annual periods. The Corporation has adopted the amendments in this ASU and appropriate disclosures have been included in this Note for each recently issued accounting standard.


ASU 2016-19:

In December 2016, the FASB issued ASU 2016-19, "Technical Corrections and Improvements." The amendments in this ASU cover a wide range of topics in the Codification. The reason is provided before each amendment for clarity and ease of understanding. The amendments in this ASU are generally related to: (1) differences between original guidance and the codification, (2) guidance clarification and reference corrections, (3) simplification and (4) minor improvements. These amendments improve the guidance and are not expected to have a significant effect on current accounting practice or create a significant administrative cost to most


7



entities. The amendments in this ASU are effective upon issuance and the Corporation's adoption of this ASU did not have a material impact on its condensed consolidated financial statements.


ASU 2016-13:

In June 2016, the FASB issued ASU 2016-13, "Financial Instruments - Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments." This ASU requires organizations to measure all expected credit losses for financial instruments held at the reporting date based on historical experience, current conditions and reasonable and supportable forecasts. This ASU will be effective for fiscal years beginning after December 15, 2019, including interim periods within those fiscal years. The Corporation is in the process of identifying required changes to the loan loss estimation models and processes and evaluating the impact of this new guidance. Upon adoption, the Corporation expects the allowance for loan losses to increase, however, until the evaluation is complete the magnitude of the increase will be unknown.


ASU 2016-02:

In February 2016, the FASB issued ASU 2016-02, "Leases (Topic 842)." This ASU introduces a lessee model that brings most leases on the balance sheet and aligns many of the underlying principles of the new lessor model with those in the new revenue recognition standard, ASC 606, Revenue From Contracts With Customers. The new leases standard represents a wholesale change to lease accounting and will most likely result in significant implementation challenges during the transition period and beyond. This ASU will be effective for annual periods beginning after December 15, 2018, and interim periods therein, early adoption is permitted. The Corporation is currently evaluating the provisions of ASU No. 2016-02 to determine the potential impact the new standard will have on the Company's Consolidated Financial Statements. The Corporation leases buildings and offices under non-cancelable operating leases, the majority of which will be subject to this ASU. While the Corporation has not quantified the impact to its balance sheet, upon adoption of this ASU, the Corporation expects to report increased assets and increased liabilities on its Consolidated Statements of Financial Condition as a result of recognizing right-of-use assets and lease liabilities related to these leases and certain equipment under non-cancelable operating lease agreements, which currently are not reflected in its Consolidated Statements of Financial Condition.


ASU 2015-14:

In August 2015, the FASB issued ASU 2015-14, "Revenue from Contracts with Customers (Topic 606)," which defers the effective date of ASU No. 2014-09 one year. ASU No. 2014-09 created Topic 606 and supersedes Topic 605, Revenue Recognition. The core principle of Topic 606 is that an entity recognizes revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. In general, the new guidance requires companies to use more judgment and make more estimates than under current guidance, including identifying performance obligations in the contract, estimating the amount of variable consideration to include in the transaction price and allocating the transaction price to each separate performance obligation. ASU No. 2015-14 is effective for public entities for interim and annual periods beginning after December 15, 2017; early adoption is permitted for interim and annual periods beginning after December 15, 2016. For financial reporting purposes, the standard allows for either full retrospective adoption, meaning the standard is applied to all of the periods presented, or modified retrospective adoption, meaning the standard is applied only to the most current period presented in the financial statements with the cumulative effect of initially applying the standard recognized at the date of initial application. A significant amount of the Corporation's revenues are derived from net interest income on financial assets and liabilities, which are excluded from the scope of the amended guidance. With respect to noninterest income, the Corporation is in its preliminary stages of identifying and evaluating the revenue streams and underlying revenue contracts within the scope of the guidance. The Corporation is expecting to begin developing processes and procedures during 2017 to ensure it is fully compliant with these amendments. To date, the Corporation has not yet identified any significant changes in the timing of revenue recognition when considering the amended accounting guidance; however, the Corporation's implementation efforts are ongoing and such assessments may change prior to the July 1, 2018 implementation date.




8



Note 3: Earnings Per Share


Basic earnings per share ("EPS") excludes dilution and is computed by dividing income available to common shareholders by the weighted-average number of shares outstanding for the period.  Diluted EPS reflects the potential dilution that could occur if securities or other contracts to issue common stock were exercised or converted into common stock or resulted in the issuance of common stock that would then share in the earnings of the entity.


As of March 31, 2017 and 2016, there were outstanding options to purchase 683,250 shares and 943,500 shares of the Corporation's common stock, respectively, of which 76,000 shares and 216,500 shares, respectively, were excluded from the diluted EPS computation as their effect was anti-dilutive. As of March 31, 2017 and 2016, there were outstanding restricted stock awards of 111,000 shares and 190,000 shares, respectively, all of which had a dilutive effect.


The following table provides the basic and diluted EPS computations for the quarters and nine months ended March 31, 2017 and 2016, respectively.

(In Thousands, Except Earnings Per Share)

For the Quarters Ended
March 31,

For the Nine Months Ended
March 31,

2017

2016

2017

2016

Numerator:

Net income – numerator for basic earnings per share and diluted earnings per share - available to common stockholders

$

1,145


$

1,494


$

4,243


$

4,919


Denominator:





Denominator for basic earnings per share:





 Weighted-average shares

7,926


8,318


7,943


8,427


   Effect of dilutive shares:

Stock options

142


132


153


129


Restricted stock

26


66


30


64


Denominator for diluted earnings per share:





Adjusted weighted-average shares and assumed conversions

8,094


8,516


8,126


8,620


Basic earnings per share

$

0.14


$

0.18


$

0.53


$

0.58


Diluted earnings per share

$

0.14


$

0.18


$

0.52


$

0.57





9



Note 4: Operating Segment Reports


The Corporation operates in two business segments: community banking through the Bank and mortgage banking through Provident Bank Mortgage ("PBM"), a division of the Bank.


The following tables set forth condensed consolidated statements of operations and total assets for the Corporation's operating segments for the quarters and nine months ended March 31, 2017 and 2016, respectively.

For the Quarter Ended March 31, 2017

(In Thousands)

Provident
Bank

Provident
Bank
Mortgage

Consolidated
Totals

Net interest income

$

7,940


$

707


$

8,647


Recovery from the allowance for loan losses

(121

)

(44

)

(165

)

Net interest income, after recovery from the allowance for loan losses

8,061


751


8,812


Non-interest income:

     Loan servicing and other fees (1)

125


237


362


     Gain on sale of loans, net (2)

1


5,394


5,395


Deposit account fees

562


-


562


     Loss on sale and operations of real estate owned

        acquired in the settlement of loans, net

(68

)

(6

)

(74

)

Card and processing fees

338


-


338


Other

208


-


208


Total non-interest income

1,166


5,625


6,791


Non-interest expense:

Salaries and employee benefits

4,662


5,708


10,370


Premises and occupancy

784


457


1,241


Operating and administrative expenses

1,333


824


2,157


Total non-interest expense

6,779


6,989


13,768


Income (loss) before income taxes

2,448


(613

)

1,835


Provision (benefit) for income taxes

948


(258

)

690


Net income (loss)

$

1,500


$

(355

)

$

1,145


Total assets, end of period

$

1,093,715


$

105,730


$

1,199,445



(1)

Includes an inter-company charge of $173 credited to PBM by the Bank during the period to compensate PBM for originating loans held for investment.

(2)

Includes an inter-company charge of $48 credited to PBM by the Bank during the period to compensate PBM for servicing fees on loans sold on a servicing retained basis.


10




For the Quarter Ended March 31, 2016

(In Thousands)

Provident
Bank

Provident
Bank
Mortgage

Consolidated
Totals

Net interest income

$

6,915


$

997


$

7,912


Recovery from the allowance for loan losses

(690

)

(4

)

(694

)

Net interest income after recovery from the allowance for loan losses

7,605


1,001


8,606


Non-interest income:

     Loan servicing and other fees (1)

126


257


383


     Gain on sale of loans, net (2)

34


7,111


7,145


Deposit account fees

590


-


590


     Loss on sale and operations of real estate owned

        acquired in the settlement of loans, net

(231

)

(45

)

(276

)

Card and processing fees

355


-


355


Other

227


-


227


Total non-interest income

1,101


7,323


8,424


Non-interest expense:

Salaries and employee benefits

4,761


5,869


10,630


Premises and occupancy

720


426


1,146


Operating and administrative expenses

1,232


1,477


2,709


Total non-interest expense

6,713


7,772


14,485


Income before income taxes

1,993


552


2,545


Provision for income taxes

819


232


1,051


Net income

$

1,174


$

320


$

1,494


Total assets, end of period

$

989,538


$

184,213


$

1,173,751



(1)

Includes an inter-company charge of $135 credited to PBM by the Bank during the period to compensate PBM for originating loans held for investment.

(2)

Includes an inter-company charge of $53 credited to PBM by the Bank during the period to compensate PBM for servicing fees on loans sold on a servicing retained basis.


11



For the Nine Months Ended March 31, 2017

(In Thousands)

Provident
Bank

Provident
Bank
Mortgage

Consolidated
Totals

Net interest income

$

23,336


$

3,484


$

26,820


Recovery from the allowance for loan losses

(431

)

(234

)

(665

)

Net interest income, after recovery from the allowance for loan losses

23,767


3,718


27,485


Non-interest income:

     Loan servicing and other fees (1)

444


495


939


     Gain on sale of loans, net (2)

39


19,830


19,869


Deposit account fees

1,664


-


1,664


     Loss on sale and operations of real estate owned

        acquired in the settlement of loans, net

(231

)

(9

)

(240

)

Card and processing fees

1,063


-


1,063


Other

580


-


580


Total non-interest income

3,559


20,316


23,875


Non-interest expense:

Salaries and employee benefits

14,198


17,835


32,033


Premises and occupancy

2,432


1,333


3,765


Operating and administrative expenses

3,632


4,638


8,270


Total non-interest expense

20,262


23,806


44,068


Income before income taxes

7,064


228


7,292


Provision for income taxes

2,953


96


3,049


Net income

$

4,111


$

132


$

4,243


Total assets, end of period

$

1,093,715


$

105,730


$

1,199,445



(1)

Includes an inter-company charge of $396 credited to PBM by the Bank during the period to compensate PBM for originating loans held for investment.

(2)

Includes an inter-company charge of $216 credited to PBM by the Bank during the period to compensate PBM for servicing fees on loans sold on a servicing retained basis.



12



For the Nine Months Ended March 31, 2016

(In Thousands)

Provident
Bank

Provident
Bank
Mortgage

Consolidated
Totals

Net interest income

$

20,519


$

3,048


$

23,567


Recovery from the allowance for loan losses

(1,031

)

(63

)

(1,094

)

Net interest income, after recovery from the allowance for loan losses

21,550


3,111


24,661


Non-interest income:

     Loan servicing and other fees (1)

458


342


800


     Gain on sale of loans, net (2)

34


22,079


22,113


Deposit account fees

1,790


-


1,790


     Gain (loss) on sale and operations of real estate owned

        acquired in the settlement of loans, net

28


(40

)

(12

)

Card and processing fees

1,069


-


1,069


Other

711


-


711


Total non-interest income

4,090


22,381


26,471


Non-interest expense:

Salaries and employee benefits

13,569


17,824


31,393


Premises and occupancy

2,164


1,260


3,424


Operating and administrative expenses

3,467


4,420


7,887


Total non-interest expense

19,200


23,504


42,704


Income before income taxes

6,440


1,988


8,428


Provision for income taxes

2,673


836


3,509


Net income

$

3,767


$

1,152


$

4,919


Total assets, end of period

$

989,538


$

184,213


$

1,173,751



(1)

Includes an inter-company charge of $303 credited to PBM by the Bank during the period to compensate PBM for originating loans held for investment.

(2)

Includes an inter-company charge of $352 credited to PBM by the Bank during the period to compensate PBM for servicing fees on loans sold on a servicing retained basis.




13



Note 5: Investment Securities


The amortized cost and estimated fair value of investment securities as of March 31, 2017 and June 30, 2016 were as follows:

March 31, 2017

Amortized

Cost

Gross

Unrealized

Gains

Gross

Unrealized

(Losses)

Estimated

Fair

Value

Carrying

Value

(In Thousands)

Held to maturity:

Certificates of deposit

$

800


$

-


$

-


$

800


$

800


U.S. government sponsored enterprise MBS (1)

40,235


241


(6

)

40,470


40,235


Total investment securities - held to maturity

$

41,035


$

241


$

(6

)

$

41,270


$

41,035


Available for sale:

U.S. government agency MBS

$

5,499


$

201


$

-


$

5,700


$

5,700


U.S. government sponsored enterprise MBS

3,474


187


-


3,661


3,661


Private issue CMO (2)

497


4


-


501


501


Total investment securities - available for sale

$

9,470


$

392


$

-


$

9,862


$

9,862


Total investment securities

$

50,505


$

633


$

(6

)

$

51,132


$

50,897



(1)

Mortgage-Backed Securities ("MBS").

(2)

Collateralized Mortgage Obligations ("CMO").


June 30, 2016

Amortized

Cost

Gross

Unrealized

Gains

Gross

Unrealized

(Losses)

Estimated

Fair

Value

Carrying

Value

(In Thousands)

Held to maturity:

Certificates of deposit

$

800


$

-


$

-


$

800


$

800


U.S. government sponsored enterprise MBS

39,179


459


-


39,638


39,179


Total investment securities - held to maturity

$

39,979


$

459


$

-


$

40,438


$

39,979


Available for sale:

U.S. government agency MBS

$

6,308


$

264


$

-


$

6,572


$

6,572


U.S. government sponsored enterprise MBS

3,998


225


-


4,223


4,223


Private issue CMO

598


4


(1

)

601


601


Common stock - community development financial institution

147


-


-


147


147


Total investment securities - available for sale

$

11,051


$

493


$

(1

)

$

11,543


$

11,543


Total investment securities

$

51,030


$

952


$

(1

)

$

51,981


$

51,522



In the third quarters of fiscal 2017 and 2016, the Corporation received MBS principal payments of $3.5 million and $1.1 million , respectively, and there were no sales of investment securities during these periods. In the third quarters of fiscal 2017 and 2016, the Corporation purchased U.S. government sponsored enterprise MBS totaling $11.0 million and $10.6 million to be held to maturity, respectively. For the first nine months of fiscal 2017 and 2016, the Corporation received MBS principal payments of $10.8 million and $2.4 million , respectively, and there were no sales of investment securities during these periods. In the first nine months of fiscal 2017 and 2016, the Corporation purchased U.S. government sponsored enterprise MBS totaling $11.0 million and $20.8 million to be held to maturity, respectively. In July 2016, the Corporation received the cash proceeds from its equity investment in a community development financial institution, consistent with the purchase agreement between the acquiring institution and the community development financial institution.


14



The Corporation held investments with an unrealized loss position of $6,000 at March 31, 2017 and $1,000 at June 30, 2016.

As of March 31, 2017

Unrealized Holding Losses

Unrealized Holding Losses

Unrealized Holding Losses

(In Thousands)

Less Than 12 Months

12 Months or More

Total

Fair

Unrealized

Fair

Unrealized

Fair

Unrealized

Description of Securities

Value

Losses

Value

Losses

Value

Losses

Held to maturity:

U.S. government sponsored enterprise MBS

$

11,548


$

6


$

-


$

-


$

11,548


$

6


Total investment securities

$

11,548


$

6


$

-


$

-



$

11,548


$

6



As of June 30, 2016

Unrealized Holding Losses

Unrealized Holding Losses

Unrealized Holding Losses

(In Thousands)

Less Than 12 Months

12 Months or More

Total

Fair

Unrealized

Fair

Unrealized

Fair

Unrealized

Description of Securities

Value

Losses

Value

Losses

Value

Losses

Available for sale:

Private issue CMO

$

103


$

1


$

-


$

-


$

103


$

1


Total investment securities

$

103


$

1


$

-


$

-



$

103


$

1



The Corporation evaluates individual investment securities quarterly for other-than-temporary declines in market value.  As of March 31, 2017 and June 30, 2016, the unrealized holding loss was less than 12 months. The Corporation does not believe that there are any other-than-temporary impairments on the investment securities at March 31, 2017 and 2016; therefore, no impairment losses were recorded for the quarters and nine months ended March 31, 2017 and 2016.


Contractual maturities of investment securities as of March 31, 2017 and June 30, 2016 were as follows:

March 31, 2017

June 30, 2016

(In Thousands)

Amortized
Cost

Estimated
Fair
Value

Amortized
Cost

Estimated
Fair
Value

Held to maturity:

Due in one year or less

$

800


$

800


$

800


$

800


Due after one through five years

-


-


-


-


Due after five through ten years

25,286


25,290


18,904


19,203


Due after ten years

14,949


15,180


20,275


20,435


Total investment securities - held to maturity

$

41,035


$

41,270


$

39,979


$

40,438


Available for sale:

Due in one year or less

$

-


$

-


$

-


$

-


Due after one through five years

-


-


-


-


Due after five through ten years

-


-


-


-


Due after ten years

9,470


9,862


10,904


11,396


No stated maturity (common stock)

-


-


147


147


Total investment securities - available for sale

$

9,470


$

9,862


$

11,051


$

11,543


Total investment securities

$

50,505


$

51,132


$

51,030


$

51,981





15



Note 6: Loans Held for Investment

Loans held for investment, net of fair value adjustments, consisted of the following:

(In Thousands)

March 31,
2017

June 30,
2016

Mortgage loans:

Single-family

$

319,714


$

324,497


Multi-family

459,180


415,627


Commercial real estate

96,364


99,528


Construction

16,552


14,653


Other

241


332


Commercial business loans

668


636


Consumer loans

126


203


Total loans held for investment, gross

892,845


855,476


Undisbursed loan funds

(9,468

)

(11,258

)

Advance payments of escrows

165


56


Deferred loan costs, net

5,243


4,418


Allowance for loan losses

(8,275

)

(8,670

)

Total loans held for investment, net

$

880,510


$

840,022



As of March 31, 2017, the Corporation had $9.1 million in mortgage loans that are subject to negative amortization, consisting of $6.3 million in multi-family loans, $2.7 million in single-family loans and $125,000 in commercial real estate loans.  This compares to $10.2 million of negative amortization mortgage loans at June 30, 2016, consisting of $6.9 million in multi-family loans, $3.1 million in single-family loans and $170,000 in commercial real estate loans.  During the third quarters and nine months of fiscal 2017 and 2016, no loan interest income was added to the negative amortization loan balance.  Negative amortization involves a greater risk to the Corporation because the loan principal balance may increase by a range of 110% to 115% of the original loan amount during the period of negative amortization and because the loan payment may increase beyond the means of the borrower when loan principal amortization is required.  Also, the Corporation has originated interest-only adjustable rate mortgage ("ARM") loans, which typically have a fixed interest rate for the first two to five years coupled with an interest only payment, followed by a periodic adjustable rate and a fully amortizing loan payment.  As of March 31, 2017 and June 30, 2016, the interest-only ARM loans were $23.8 million and $64.7 million , or 2.7% and 7.6% of loans held for investment, respectively. As of March 31, 2017, the Corporation had $6.3 million of single-family loans, 19 loans, held for investment which were originated for sale but were subsequently transferred to loans held for investment and are carried at fair value. This compares to $5.2 million of single-family loans, 18 loans, held for investment at June 30, 2016 which were originated for sale but were subsequently transferred to loans held for investment and carried at fair value.


The following table sets forth information at March 31, 2017 regarding the dollar amount of loans held for investment that are contractually repricing during the periods indicated, segregated between adjustable rate loans and fixed rate loans.  Fixed-rate loans comprised 3% of loans held for investment at both March 31, 2017 and June 30, 2016.  Adjustable rate loans having no stated repricing dates that reprice when the index they are tied to reprices (e.g. prime rate index) and checking account overdrafts are reported as repricing within one year.  The table does not include any estimate of prepayments which may cause the Corporation's actual repricing experience to differ materially from that shown.



16



Adjustable Rate

(In Thousands)

Within One Year

After
One Year
Through 3 Years

After
3 Years
Through 5 Years

After
5 Years
Through 10 Years

Fixed Rate

Total

Mortgage loans:

Single-family

$

196,477


$

18,222


$

65,837


$

26,031


$

13,147


$

319,714


Multi-family

83,750


176,173


172,985


23,626


2,646


459,180


Commercial real estate

20,923


39,087


34,256


-


2,098


96,364


Construction

12,774


-


-


-


3,778


16,552


Other

-


-


-


-


241


241


Commercial business loans

167


-


-


-


501


668


Consumer loans

126


-


-


-


-


126


Total loans held for investment, gross

$

314,217


$

233,482


$

273,078


$

49,657


$

22,411


$

892,845



The Corporation has developed an internal loan grading system to evaluate and quantify the Bank's loans held for investment portfolio with respect to quality and risk. Management continually evaluates the credit quality of the Corporation's loan portfolio and conducts a quarterly review of the adequacy of the allowance for loan losses using quantitative and qualitative methods. The Corporation has adopted an internal risk rating policy in which each loan is rated for credit quality with a rating of pass, special mention, substandard, doubtful or loss. The two primary components that are used during the loan review process to determine the proper allowance levels are individually evaluated allowances and collectively evaluated allowances. Quantitative loan loss factors are developed by determining the historical loss experience, expected future cash flows, discount rates and collateral fair values, among others. Qualitative loan loss factors are developed by assessing general economic indicators such as gross domestic product, retail sales, unemployment rates, employment growth, California home sales and median California home prices. The Corporation assigns individual factors for the quantitative and qualitative methods for each loan category and each internal risk rating.


The Corporation categorizes all of the loans held for investment into risk categories based on relevant information about the ability of the borrower to service their debt such as current financial information, historical payment experience, credit documentation, public information, and current economic trends, among other factors. A description of the general characteristics of the risk grades is as follows:

Pass - These loans range from minimal credit risk to average, but still acceptable, credit risk. The likelihood of loss is considered remote.

Special Mention - A Special Mention asset has potential weaknesses that may be temporary or, if left uncorrected, may result in a loss. While concerns exist, the bank is currently protected and loss is considered unlikely and not imminent.

Substandard - A substandard loan is inadequately protected by the current sound worth and paying capacity of the borrower or of the collateral pledged, if any. Loans so classified must have a well-defined weakness, or weaknesses, that may jeopardize the liquidation of the debt. A substandard loan is characterized by the distinct possibility that the Bank will sustain some loss if the deficiencies are not corrected.

Doubtful - A doubtful loan has all of the weaknesses inherent in one classified as substandard with the added characteristic that the weaknesses make collection or liquidation in full, on the basis of the currently existing facts, conditions and values, highly questionable and improbable.

Loss - A loss loan is considered uncollectible and of such little value that continuance as an asset of the institution is not warranted.



17



The following tables summarize gross loans held for investment, net of fair value adjustments, by loan types and risk category at the dates indicated:

March 31, 2017

(In Thousands)

Single-family

Multi-family

Commercial Real Estate

Construction

Other Mortgage

Commercial Business

Consumer

Total

Pass

$

307,365


$

455,543


$

96,163


$

16,552


$

241


$

585


$

126


$

876,575


Special Mention

3,816


3,265


-


-


-


-


-


7,081


Substandard

8,533


372


201


-


-


83


-


9,189


Total loans held for

   investment, gross

$

319,714


$

459,180


$

96,364


$

16,552


$

241


$

668


$

126


$

892,845



June 30, 2016

(In Thousands)

Single-family

Multi-family

Commercial Real Estate

Construction

Other Mortgage

Commercial Business

Consumer

Total

Pass

$

309,380


$

410,804


$

99,528


$

14,653


$

332


$

540


$

203


$

835,440


Special Mention

4,858


3,974


-


-


-


-


-


8,832


Substandard

10,259


849


-


-


-


96


-


11,204


Total loans held for

   investment, gross

$

324,497


$

415,627


$

99,528


$

14,653


$

332


$

636


$

203


$

855,476



The allowance for loan losses is maintained at a level sufficient to provide for estimated losses based on evaluating known and inherent risks in the loans held for investment and upon management's continuing analysis of the factors underlying the quality of the loans held for investment.  These factors include changes in the size and composition of the loans held for investment, actual loan loss experience, current economic conditions, detailed analysis of individual loans for which full collectability may not be assured, and determination of the realizable value of the collateral securing the loans.  The provision (recovery) for (from) the allowance for loan losses is charged (credited) against operations on a quarterly basis, as necessary, to maintain the allowance at appropriate levels.  Although management believes it uses the best information available to make such determinations, there can be no assurance that regulators, in reviewing the Corporation's loans held for investment, will not request a significant increase in its allowance for loan losses.  Future adjustments to the allowance for loan losses may be necessary and results of operations could be significantly and adversely affected as a result of economic, operating, regulatory, and other conditions beyond the Corporation's control.


Non-performing loans are charged-off to their fair market values in the period the loans, or portion thereof, are deemed uncollectible, generally after the loan becomes 150 days delinquent for real estate secured first trust deed loans and 120 days delinquent for commercial business or real estate secured second trust deed loans.  For loans that were modified from their original terms, were re-underwritten and identified in the Corporation's asset quality reports as troubled debt restructurings ("restructured loans"), the charge-off occurs when the loan becomes 90 days delinquent; and where borrowers file bankruptcy, the charge-off occurs when the loan becomes 60 days delinquent.  The amount of the charge-off is determined by comparing the loan balance to the estimated fair value of the underlying collateral, less disposition costs, with the loan balance in excess of the estimated fair value charged-off against the allowance for loan losses.  The allowance for loan losses for non-performing loans is determined by applying Accounting Standards Codification ("ASC") 310 , "Receivables."  For restructured loans that are less than 90 days delinquent, the allowance for loan losses are segregated into (a) individually evaluated allowances for those loans with applicable discounted cash flow calculations still in their restructuring period, classified lower than pass, and containing an embedded loss component or (b) collectively evaluated allowances based on the aggregated pooling method.  For non-performing loans less than 60 days delinquent where the borrower has filed bankruptcy, the collectively evaluated allowances are assigned based on the aggregated pooling method. For non-performing commercial real estate loans, an individually evaluated allowance is derived based on the loan's discounted cash flow fair value (for restructured loans) or collateral fair value less estimated selling costs and if the fair value is higher than the loan balance, no allowance is required.



18



The following table summarizes the Corporation's allowance for loan losses at March 31, 2017 and June 30, 2016:

(In Thousands)

March 31, 2017

June 30, 2016

Collectively evaluated for impairment:

Mortgage loans:

Single-family

$

3,909


$

4,933


Multi-family

3,367


2,800


Commercial real estate

868


848


Construction

80


31


Other

5


7


Commercial business loans

24


23


Consumer loans

7


8


Total collectively evaluated allowance

8,260


8,650


Individually evaluated for impairment:

Commercial business loans

15


20


Total individually evaluated allowance

15


20


Total loan loss allowance

$

8,275


$

8,670




19



The following table is provided to disclose additional details on the Corporation's allowance for loan losses:

For the Quarters Ended
March 31,

For the Nine Months Ended
March 31,

(Dollars in Thousands)

2017

2016

2017

2016

Allowance at beginning of period

$

8,391


$

8,768


$

8,670


$

8,724


Recovery from the allowance for loan losses

(165

)

(694

)

(665

)

(1,094

)

Recoveries:





Mortgage loans:





Single-family

83


129


379


356


Multi-family

3


53


16


167


Commercial real estate

-


-


-


216


Commercial business loans

75


-


75


85


Consumer loans

1


1


2


1


Total recoveries

162


183


472


825


Charge-offs:





Mortgage loans:





Single-family

(112

)

(57

)

(199

)

(253

)

Consumer loans

(1

)

-


(3

)

(2

)

Total charge-offs

(113

)

(57

)

(202

)

(255

)

Net recoveries

49


126


270


570


Balance at end of period

$

8,275


$

8,200


$

8,275


$

8,200






Allowance for loan losses as a percentage of gross loans held for investment at the end of the period

0.93

 %

1.01

 %

0.93

 %

1.01

 %

Net recoveries as a percentage of average loans receivable, net, during the period (annualized)

(0.02

)%

(0.05

)%

(0.03

)%

(0.08

)%




20



The following tables denote the past due status of the Corporation's gross loans held for investment, net of fair value adjustments, at the dates indicated.

March 31, 2017

(In Thousands)

Current

30-89 Days Past Due

Non-Accrual (1)

Total Loans Held for Investment

Mortgage loans:

Single-family

$

310,203


$

978


$

8,533


$

319,714


Multi-family

458,808


-


372


459,180


Commercial real estate

96,163


-


201


96,364


Construction

16,552


-


-


16,552


Other

241


-


-


241


Commercial business loans

585


-


83


668


Consumer loans

126


-


-


126


Total loans held for investment, gross

$

882,678


$

978


$

9,189


$

892,845



(1) All loans 90 days or greater past due are placed on non-accrual status.

June 30, 2016

(In Thousands)

Current

30-89 Days Past Due

Non-Accrual (1)

Total Loans Held for Investment

Mortgage loans:

Single-family

$

312,595


$

1,644


$

10,258


$

324,497


Multi-family

414,777


-


850


415,627


Commercial real estate

99,528


-


-


99,528


Construction

14,653


-


-


14,653


Other

332


-


-


332


Commercial business loans

540


-


96


636


Consumer loans

203


-


-


203


Total loans held for investment, gross

$

842,628


$

1,644


$

11,204


$

855,476


(1) All loans 90 days or greater past due are placed on non-accrual status.




21



The following tables summarize the Corporation's allowance for loan losses and recorded investment in gross loans, by portfolio type, at the dates and for the periods indicated.

Quarter Ended March 31, 2017

(In Thousands)

Single-family

Multi-family

Commercial Real Estate

Construction

Other Mortgage

Commercial Business

Consumer

Total

Allowance for loan losses:

Allowance at beginning of

  period

$

4,283


$

3,156


$

836


$

65


$

6


$

37


$

8


$

8,391


(Recovery) provision for

  loan losses

(345

)

208


32


15


(1

)

(73

)

(1

)

(165

)

Recoveries

83


3


-


-


-


75


1


162


Charge-offs

(112

)

-


-


-


-


-


(1

)

(113

)

Allowance for loan losses,

  end of period

$

3,909


$

3,367


$

868


$

80


$

5


$

39


$

7


$

8,275


Allowance for loan losses:

Individually evaluated for

  impairment

$

-


$

-


$

-


$

-


$

-


$

15


$

-


$

15


Collectively evaluated for

  impairment

3,909


3,367


868


80


5


24


7


8,260


Allowance for loan losses,

  end of period

$

3,909


$

3,367


$

868


$

80


$

5


$

39


$

7


$

8,275


Loans held for investment:

Individually evaluated for

  impairment

$

6,849


$

372


$

201


$

-


$

-


$

83


$

-


$

7,505


Collectively evaluated for

  impairment

312,865


458,808


96,163


16,552


241


585


126


885,340


Total loans held for

  investment, gross

$

319,714


$

459,180


$

96,364


$

16,552


$

241


$

668


$

126


$

892,845


Allowance for loan losses as

  a percentage of gross loans

  held for investment

1.22

%

0.73

%

0.90

%

0.48

%

2.07

%

5.84

%

5.56

%

0.93

%



22



Quarter Ended March 31, 2016

(In Thousands)

Single-family

Multi-family

Commercial Real Estate

Construction

Other Mortgage

Commercial Business

Consumer

Total

Allowance for loan losses:

Allowance at beginning of

  period

$

5,720


$

1,919


$

778


$

304


$

1


$

37


$

9


$

8,768


Recovery from the allowance

  for loan losses

(285

)

(74

)

(37

)

(294

)

-


(2

)

(2

)

(694

)

Recoveries

129


53


-


-


-


-


1


183


Charge-offs

(57

)

-


-


-


-


-


-


(57

)

Allowance for loan losses,

  end of period

$

5,507


$

1,898


$

741


$

10


$

1


$

35


$

8


$

8,200


Allowance for loan losses:

Individually evaluated for

  impairment

$

-


$

-


$

-


$

-


$

-


$

20


$

-


$

20


Collectively evaluated for

  impairment

5,507


1,898


741


10


1


15


8


8,180


Allowance for loan losses,

  end of period

$

5,507


$

1,898


$

741


$

10


$

1


$

35


$

8


$

8,200


Loans held for investment:

Individually evaluated for

  impairment

$

7,638


$

1,933


$

-


$

-


$

-


$

98


$

-


$

9,669


Collectively evaluated for

  impairment

328,159


376,938


93,384


9,679


72


354


230


808,816


Total loans held for

  investment, gross

$

335,797


$

378,871


$

93,384


$

9,679


$

72


$

452


$

230


$

818,485


Allowance for loan losses as

  a percentage of gross loans

  held for investment

1.64

%

0.50

%

0.79

%

0.10

%

1.39

%

7.74

%

3.48

%

1.01

%


23



Nine Months Ended March 31, 2017

(In Thousands)

Single-family

Multi-family

Commercial Real Estate

Construction

Other Mortgage

Commercial Business

Consumer

Total

Allowance for loan losses:

Allowance at beginning of

  period

$

4,933


$

2,800


$

848


$

31


$

7


$

43


$

8


$

8,670


(Recovery) provision for

  loan losses

(1,204

)

551


20


49


(2

)

(79

)

-


(665

)

Recoveries

379


16


-


-


-


75


2


472


Charge-offs

(199

)

-


-


-


-


-


(3

)

(202

)

Allowance for loan losses,

  end of period

$

3,909


$

3,367


$

868


$

80


$

5


$

39


$

7


$

8,275


Allowance for loan losses:

Individually evaluated for

  impairment

$

-


$

-


$

-


$

-


$

-


$

15


$

-


$

15


Collectively evaluated for

  impairment

3,909


3,367


868


80


5


24


7


8,260


Allowance for loan losses,

  end of period

$

3,909


$

3,367


$

868


$

80


$

5


$

39


$

7


$

8,275


Loans held for investment:

Individually evaluated for

  impairment

$

6,849


$

372


$

201


$

-


$

-


$

83


$

-


$

7,505


Collectively evaluated for

  impairment

312,865


458,808


96,163


16,552


241


585


126


885,340


Total loans held for

  investment, gross

$

319,714


$

459,180


$

96,364


$

16,552


$

241


$

668


$

126


$

892,845


Allowance for loan losses as

  a percentage of gross loans

  held for investment

1.22

%

0.73

%

0.90

%

0.48

%

2.07

%

5.84

%

5.56

%

0.93

%


24





Nine Months Ended March 31, 2016

(In Thousands)

Single-family

Multi-family

Commercial Real Estate

Construction

Other Mortgage

Commercial Business

Consumer

Total

Allowance for loan losses:









Allowance at beginning of

  period

$

5,280


$

2,616


$

734


$

42


$

-


$

43


$

9


$

8,724


Provision (recovery) for loan
losses

124


(885

)

(209

)

(32

)

1


(93

)

-


(1,094

)

Recoveries

356


167


216


-


-


85


1


825


Charge-offs

(253

)

-


-


-


-


-


(2

)

(255

)

Allowance for loan losses, end of

  period

$

5,507


$

1,898


$

741


$

10


$

1


$

35


$

8


$

8,200












Allowance for loan losses:









Individually evaluated for

  impairment

$

-


$

-


$

-


$

-


$

-


$

20


$

-


$

20


Collectively evaluated for

  impairment

5,507


1,898


741


10


1


15


8


8,180


Allowance for loan losses,

  end of period

$

5,507


$

1,898


$

741


$

10


$

1


$

35


$

8


$

8,200










Loans held for investment:

Individually evaluated for

  impairment

$

7,638


$

1,933


$

-


$

-


$

-


$

98


$

-


$

9,669


Collectively evaluated for

  impairment

328,159


376,938


93,384


9,679


72


354


230


808,816


Total loans held for

  investment, gross

$

335,797


$

378,871


$

93,384


$

9,679


$

72


$

452


$

230


$

818,485


Allowance for loan losses as

  a percentage of gross loans

  held for investment

1.64

%

0.50

%

0.79

%

0.10

%

1.39

%

7.74

%

3.48

%

1.01

%


The following tables identify the Corporation's total recorded investment in non-performing loans by type at the dates and for the periods indicated. Generally, a loan is placed on non-accrual status when it becomes 90 days past due as to principal or interest or if the loan is deemed impaired, after considering economic and business conditions and collection efforts, where the borrower's financial condition is such that collection of the contractual principal or interest on the loan is doubtful. In addition, interest income is not recognized on any loan where management has determined that collection is not reasonably assured. A non-performing loan may be restored to accrual status when delinquent principal and interest payments are brought current, the borrower(s) has demonstrated sustained payment performance and future monthly principal and interest payments are expected to be collected on a timely basis. Loans with a related allowance reserve have been individually evaluated for impairment using either a discounted cash flow analysis or, for collateral dependent loans, current appraisals less costs to sell, to establish realizable value. This analysis may identify a specific impairment amount needed or may conclude that no reserve is needed. Loans that are not individually evaluated for impairment are included in pools of homogeneous loans for evaluation of related allowance reserves.


25



At March 31, 2017

Unpaid

Net

Principal

Related

Recorded

Recorded

(In Thousands)

Balance

Charge-offs

Investment

Allowance (1)

Investment

Mortgage loans:

Single-family:

With a related allowance

$

1,722


$

-


$

1,722


$

(360

)

$

1,362


Without a related allowance (2)

7,863


(1,014

)

6,849


-


6,849


Total single-family

9,585


(1,014

)

8,571


(360

)

8,211


Multi-family:

Without a related allowance (2)

374


(2

)

372


-


372


Total multi-family

374


(2

)

372


-


372


Commercial real estate:

Without a related allowance (2)

201


-


201


-


201


Total commercial real estate

201


-


201


-


201


Commercial business loans:

With a related allowance

83


-


83


(15

)

68


Total commercial business loans

83


-


83


(15

)

68


Consumer loans:

Without a related allowance (2)

11


(11

)

-


-


-


Total consumer loans

11


(11

)

-


-


-


Total non-performing loans

$

10,254


$

(1,027

)

$

9,227


$

(375

)

$

8,852



(1) Consists of collectively and individually evaluated allowances, specifically assigned to the individual loan, and fair value credit adjustments.

(2) There was no related allowance for loan losses because the loans have been charged-off to their fair value or the fair value of the collateral is higher than the loan balance.


26



At June 30, 2016

Unpaid

Net

Principal

Related

Recorded

Recorded

(In Thousands)

Balance

Charge-offs

Investment

Allowance (1)

Investment

Mortgage loans:

Single-family:

With a related allowance

$

3,328


$

-


$

3,328


$

(773

)

$

2,555


Without a related allowance (2)

8,339


(1,370

)

6,969


-


6,969


Total single-family

11,667


(1,370

)

10,297


(773

)

9,524


Multi-family:

With a related allowance

468


-


468


(141

)

327


Without a related allowance (2)

400


(18

)

382


-


382


Total multi-family

868


(18

)

850


(141

)

709


Commercial business loans:

With a related allowance

96


-


96


(20

)

76


Total commercial business loans

96


-


96


(20

)

76


Consumer loans:






Without a related allowance (2)

13


(13

)

-


-


-


Total consumer loans

13


(13

)

-


-


-


Total non-performing loans

$

12,644


$

(1,401

)

$

11,243


$

(934

)

$

10,309



(1) Consists of collectively and individually evaluated allowances, specifically assigned to the individual loan.

(2) There was no related allowance for loan losses because the loans have been charged-off to their fair value or the fair value of the collateral is higher than the loan balance.


At both March 31, 2017 and June 30, 2016, there were no commitments to lend additional funds to those borrowers whose loans were classified as non-performing.


For the quarters ended March 31, 2017 and 2016, the Corporation's average recorded investment in non-performing loans was $9.3 million and $12.8 million , respectively.  The Corporation records payments on non-performing loans utilizing the cash basis or cost recovery method of accounting during the periods when the loans are on non-performing status.  For both quarters ended March 31, 2017 and 2016, interest income of $132,000 and $50,000 , respectively, was recognized, based on cash receipts from loan payments on non-performing loans and $60,000 and $125,000 , respectively, was collected and applied to reduce the loan balances under the cost recovery method. Foregone interest income, which would have been recorded had the non-performing loans been current in accordance with their original terms, amounted to $29,000 and $19,000 for the quarters ended March 31, 2017 and 2016, respectively, and was not included in the results of operations.  


For the nine months ended March 31, 2017 and 2016, the Corporation's average investment in non-performing loans was $10.5 million and $14.0 million , respectively.  For the nine months ended March 31, 2017 and 2016, interest income of $235,000 and $187,000 , respectively, was recognized, based on cash receipts from loan payments on non-performing loans; and $196,000 and $314,000 , respectively, was collected and applied to the net loan balances under the cost recovery method. Foregone interest income, which would have been recorded had the non-performing loans been current in accordance with their original terms, amounted to $105,000 and $123,000 for the nine months ended March 31, 2017 and 2016, respectively, and was not included in the results of operations.  


27



The following table presents the average recorded investment in non-performing loans and the related interest income recognized for the quarters and nine months ended March 31, 2017 and 2016:

Quarter Ended March 31,

2017

2016

Average

Interest

Average

Interest

Recorded

Income

Recorded

Income

Investment

Recognized

Investment

Recognized

Without related allowances:

Mortgage loans:

Single-family

$

7,325


$

115


$

7,870


$

19


Multi-family

373


4


1,941


-


Commercial real estate

134


1


-


-


7,832


120


9,811


19


With related allowances:

Mortgage loans:

Single-family

1,398


10


2,529


22


Multi-family

-


-


314


7


Commercial business loans

84


2


98


2


1,482


12


2,941


31


Total

$

9,314


$

132


$

12,752


$

50



Nine Months Ended March 31,

2017

2016

Average

Interest

Average

Interest

Recorded

Income

Recorded

Income

Investment

Recognized

Investment

Recognized

Without related allowances:

Mortgage loans:

Single-family

$

8,480


$

152


$

8,544


$

22


Multi-family

406


4


1,988


66


Commercial real estate

45


1


666


28


8,931


157


11,198


116


With related allowances:

Mortgage loans:

Single-family

1,287


56


2,594


58


Multi-family

156


17


105


7


Commercial business loans

88


5


102


6


1,531


78


2,801


71


Total

$

10,462


$

235


$

13,999


$

187




28



For the quarters and nine months ended March 31, 2017 and 2016, there were no loans that were newly modified from their original terms, re-underwritten or identified in the Corporation's asset quality reports as restructured loans. During the quarters and nine months ended March 31, 2017 and 2016, no restructured loans were in default within a 12-month period subsequent to their original restructuring.  Additionally, during the quarters and nine months ended March 31, 2017 and 2016, there were no loans whose modification was extended beyond the initial maturity of the modification, except for one commercial business loan with an outstanding balance of $85,000 which was extended for two years during the second quarter of fiscal 2017. At both March 31, 2017 and June 30, 2016, there were no commitments to lend additional funds to those borrowers whose loans were restructured.


As of March 31, 2017, the Corporation held 10 restructured loans with a net outstanding balance of $3.6 million : all were classified as substandard and on non-accrual.  As of June 30, 2016, the Corporation held 13 restructured loans with a net outstanding balance of $4.6 million :   three were classified as special mention on accrual status ( $1.3 million ); and 10 were classified as substandard ( $3.3 million , all on non-accrual status). Substandard assets have one or more defined weaknesses and are characterized by the distinct possibility that the Corporation will sustain some loss if the deficiencies are not corrected.  Assets that do not currently expose the Corporation to sufficient risk to warrant adverse classification but possess weaknesses are designated as special mention and are closely monitored by the Corporation.  As of March 31, 2017 and June 30, 2016, $1.3 million or 38% , and $1.9 million or 41% , respectively, of the restructured loans were current with respect to their modified payment terms.


The Corporation upgrades restructured single-family loans to the pass category if the borrower has demonstrated satisfactory contractual payments for at least six consecutive months; 12 months for those loans that were restructured more than once; and if the borrower has demonstrated satisfactory contractual payments beyond 12 consecutive months, the loan is no longer categorized as a restructured loan.  In addition to the payment history described above, multi-family, commercial real estate, construction and commercial business loans (which are sometimes referred to in this report as "preferred loans") must also demonstrate a combination of the following characteristics to be upgraded: satisfactory cash flow, satisfactory guarantor support, and additional collateral support, among others.


To qualify for restructuring, a borrower must provide evidence of their creditworthiness such as, current financial statements, their most recent income tax returns, current paystubs, current W-2s, and most recent bank statements, among other documents, which are then verified by the Corporation.  The Corporation re-underwrites the loan with the borrower's updated financial information, new credit report, current loan balance, new interest rate, remaining loan term, updated property value and modified payment schedule, among other considerations, to determine if the borrower qualifies.


The following table summarizes at the dates indicated the restructured loan balances, net of allowance for loan losses, by loan type and non-accrual versus accrual status:

At

At

(In Thousands)

March 31, 2017

June 30, 2016

Restructured loans on non-accrual status:

Mortgage loans:

Single-family

$

3,507


$

3,232


Commercial business loans

68


76


Total

3,575


3,308


Restructured loans on accrual status:



Mortgage loans:



Single-family

-


1,290


Total

-


1,290


Total restructured loans

$

3,575


$

4,598




29



The following tables identify the Corporation's total recorded investment in restructured loans by type at the dates and for the periods indicated.

At March 31, 2017

Unpaid

Net

Principal

Related

Recorded

Recorded

(In Thousands)

Balance

Charge-offs

Investment

Allowance (1)

Investment

Mortgage loans:

Single-family:

With a related allowance

$

923


$

-


$

923


$

(185

)

$

738


Without a related allowance (2)

3,274


(505

)

2,769


-


2,769


Total single-family

4,197


(505

)

3,692


(185

)

3,507


Commercial business loans:

With a related allowance

83


-


83


(15

)

68


Total commercial business loans

83


-


83


(15

)

68


Total restructured loans

$

4,280


$

(505

)

$

3,775


$

(200

)

$

3,575



(1) Consists of collectively and individually evaluated allowances, specifically assigned to the individual loan.

(2) There was no related allowance for loan losses because the loans have been charged-off to their fair value or the fair value of the collateral is higher than the loan balance.


At June 30, 2016

Unpaid

Net

Principal

Related

Recorded

Recorded

(In Thousands)

Balance

Charge-offs

Investment

Allowance (1)

Investment

Mortgage loans:

Single-family

With a related allowance

$

999


$

-


$

999


$

(200

)

$

799


Without a related allowance (2)

4,507


(784

)

3,723


-


3,723


Total single-family

5,506


(784

)

4,722


(200

)

4,522


Commercial business loans:

With a related allowance

96


-


96


(20

)

76


Total commercial business loans

96


-


96


(20

)

76


Total restructured loans

$

5,602


$

(784

)

$

4,818


$

(220

)

$

4,598



(1) Consists of collectively and individually evaluated allowances, specifically assigned to the individual loan.

(2) There was no related allowance for loan losses because the loans have been charged-off to their fair value or the fair value of the collateral is higher than the loan balance.


During the quarter ended March 31, 2017, two properties were acquired in the settlement of loans, while one previously foreclosed upon property was sold.  This compares to the quarter ended March 31, 2016 when two properties were acquired in the settlement of loans, while three previously foreclosed upon properties were sold. For the nine months ended March 31, 2017, five properties were acquired in the settlement of loans, while four previously foreclosed upon properties were sold.  This compares to the nine months ended March 31, 2016 when eight properties were acquired in the settlement of loans, while six previously foreclosed


30



upon properties were sold. As of March 31, 2017, the net fair value of real estate owned was $2.8 million , comprised of four properties located in California and one property located in Arizona.  This compares to the real estate owned net fair value of $2.7 million at June 30, 2016, comprised of three properties located in California and one property located in Arizona.  A new appraisal was obtained on each of the properties at the time of foreclosure and fair value was derived by using the lower of the appraised value or the listing price of the property, net of selling costs.  Any initial loss was recorded as a charge to the allowance for loan losses before being transferred to real estate owned.  Subsequent to transfer to real estate owned, if there is further deterioration in real estate values, specific real estate owned loss reserves are established and charged to the statement of operations.  In addition, the Corporation records costs to carry real estate owned as real estate operating expenses as incurred.



Note 7: Derivative and Other Financial Instruments with Off-Balance Sheet Risks


The Corporation is a party to financial instruments with off-balance sheet risk in the normal course of business to meet the financing needs of its customers.  These financial instruments include commitments to extend credit in the form of originating loans or providing funds under existing lines of credit, loan sale commitments to third parties and option contracts.  These instruments involve, to varying degrees, elements of credit and interest-rate risk in excess of the amount recognized in the accompanying Condensed Consolidated Statements of Financial Condition.  The Corporation's exposure to credit loss, in the event of non-performance by the counterparty to these financial instruments, is represented by the contractual amount of these instruments.  The Corporation uses the same credit policies in entering into financial instruments with off-balance sheet risk as it does for on-balance sheet instruments.  As of March 31, 2017 and June 30, 2016, the Corporation had commitments to extend credit (on loans to be held for investment and loans to be held for sale) of $138.2 million and $191.7 million , respectively.


The following table provides information at the dates indicated regarding undisbursed funds to borrowers on existing lines of credit with the Corporation as well as commitments to originate loans to be held for investment at the dates indicated below.

Commitments

March 31, 2017

June 30, 2016

(In Thousands)

Undisbursed loan funds - Construction loans

$

9,468


$

11,258


Undisbursed lines of credit – Mortgage loans

-


20


Undisbursed lines of credit – Commercial business loans

618


821


Undisbursed lines of credit – Consumer loans

565


674


Commitments to extend credit on loans to be held for investment

20,247


9,955


Total

$

30,898


$

22,728



The following table provides information regarding the allowance for loan losses for the undisbursed funds and commitments to extend credit on loans to be held for investment for the quarters and nine months ended March 31, 2017 and 2016.

For the Quarters
Ended
March 31,

For the Nine Months
Ended
March 31,

(In Thousands)

2017

2016

2017

2016

Balance, beginning of the period

$

173


$

149


$

204


$

76


Provision

67


4


36


77


Balance, end of the period

$

240


$

153


$

240


$

153



In accordance with ASC 815, "Derivatives and Hedging," and interpretations of the Derivatives Implementation Group of the FASB, the fair value of the commitments to extend credit on loans to be held for sale, loan sale commitments, to be announced ("TBA") MBS trades, put option contracts and call option contracts are recorded at fair value on the Condensed Consolidated Statements of Financial Condition.  At March 31, 2017, $2.1 million was included in other assets and $1.1 million was included in other liabilities; at June 30, 2016, $3.8 million was included in other assets and $3.2 million was included in other liabilities.  The Corporation does not apply hedge accounting to its derivative financial instruments; therefore, all changes in fair value are recorded in earnings.



31



The net impact of derivative financial instruments is recorded within the gain on sale of loans contained in the Condensed Consolidated Statements of Operations during the quarters and nine months ended March 31, 2017 and 2016 was as follows:

For the Quarters
Ended
March 31,

 For the Nine Months
Ended
March 31,

Derivative Financial Instruments

2017

2016

2017

2016

(In Thousands)

Commitments to extend credit on loans to be held for sale

$

628


$

1,866


$

(1,681

)

$

1,537


Mandatory loan sale commitments and TBA MBS trades

(760

)

(1,435

)

2,105


(2,531

)

Option contracts, net

(11

)

85


333


(87

)

Total net (loss) gain

$

(143

)

$

516


$

757


$

(1,081

)


The outstanding derivative financial instruments and other loan sale agreements at the dates indicated were as follows:

March 31, 2017

June 30, 2016

Derivative Financial Instruments

Amount

Fair
Value

Amount

Fair
Value

(In Thousands)

Commitments to extend credit on loans to be held for sale (1)

$

117,993


$

2,104


$

181,780


$

3,785


Best efforts loan sale commitments

(15,372

)

-


(29,576

)

-


Mandatory loan sale commitments and TBA MBS trades

(194,040

)

(1,091

)

(302,727

)

(3,196

)

Option contracts, net

(5,000

)

31


(5,000

)

-


Total

$

(96,419

)

$

1,044


$

(155,523

)

$

589



(1)

Net of 27.8% at March 31, 2017 and 37.5% at June 30, 2016 of commitments which management has estimated may not fund.



Note 8: Fair Value of Financial Instruments


The Corporation adopted ASC 820, "Fair Value Measurements and Disclosures," and elected the fair value option pursuant to ASC 825, "Financial Instruments" on loans originated for sale by PBM.  ASC 820 defines fair value, establishes a framework for measuring fair value, and expands disclosures about fair value measurements.  ASC 825 permits entities to elect to measure many financial instruments and certain other assets and liabilities at fair value on an instrument-by-instrument basis (the "Fair Value Option") at specified election dates.  At each subsequent reporting date, an entity is required to report unrealized gains and losses on items in earnings for which the fair value option has been elected.  The objective of the Fair Value Option is to improve financial reporting by providing entities with the opportunity to mitigate volatility in reported earnings caused by measuring related assets and liabilities differently without having to apply complex hedge accounting provisions.


The following table describes the difference at the dates indicated between the aggregate fair value and the aggregate unpaid principal balance of loans held for investment at fair value and loans held for sale at fair value:

(In Thousands)

Aggregate

Fair Value

Aggregate

Unpaid

Principal

Balance

Net

Unrealized

(Loss) Gain

As of March 31, 2017:

Loans held for investment, at fair value

$

6,250


$

6,526


$

(276

)

Loans held for sale, at fair value

$

105,531


$

101,887


$

3,644


As of June 30, 2016:

Loans held for investment, at fair value

$

5,159


$

5,324


$

(165

)

Loans held for sale, at fair value

$

189,458


$

181,380


$

8,078




32



ASC 820-10-65-4, "Determining Fair Value When the Volume and Level of Activity for the Asset or Liability Have Significantly Decreased and Identifying Transactions That Are Not Orderly," provides additional guidance for estimating fair value in accordance with ASC 820, "Fair Value Measurements," when the volume and level of activity for the asset or liability have significantly decreased.


ASC 820 establishes a three-level valuation hierarchy that prioritizes inputs to valuation techniques used in fair value calculations.  The three levels of inputs are defined as follows:

Level 1

-

Unadjusted quoted prices in active markets for identical assets or liabilities that the Corporation has the ability to access at the measurement date.

Level 2

-

Observable inputs other than Level 1 such as: quoted prices for similar assets or liabilities in active markets, quoted prices for identical or similar assets or liabilities in markets that are not active, or other inputs that are observable or can be corroborated to observable market data for substantially the full term of the asset or liability.

Level 3

-

Unobservable inputs for the asset or liability that use significant assumptions, including assumptions of risks.  These unobservable assumptions reflect the Corporation's estimate of assumptions that market participants would use in pricing the asset or liability.  Valuation techniques include the use of pricing models, discounted cash flow models and similar techniques.


ASC 820 requires the Corporation to maximize the use of observable inputs and minimize the use of unobservable inputs.  If a financial instrument uses inputs that fall in different levels of the hierarchy, the instrument will be categorized based upon the lowest level of input that is significant to the fair value calculation.


The Corporation's financial assets and liabilities measured at fair value on a recurring basis consist of investment securities available for sale, loans held for investment at fair value, loans held for sale at fair value, interest-only strips and derivative financial instruments; while non-performing loans, mortgage servicing assets ("MSA") and real estate owned are measured at fair value on a nonrecurring basis.


Investment securities - available for sale are primarily comprised of U.S. government agency MBS and U.S. government sponsored enterprise MBS.  The Corporation utilizes quoted prices in active and less than active markets for similar securities for its fair value measurement of MBS and debt securities (Level 2) and broker price indications for similar securities in non-active markets for its fair value measurement of the CMO (Level 3).


Derivative financial instruments are comprised of commitments to extend credit on loans to be held for sale, mandatory loan sale commitments, TBA MBS trades and option contracts.  The fair value of TBA MBS trades is determined using quoted secondary-market prices (Level 2).  The fair values of other derivative financial instruments are determined by quoted prices for a similar commitment or commitments, adjusted for the specific attributes of each commitment (Level 3).


Loans held for investment at fair value are primarily single-family loans which have been transferred from loans held for sale.  The fair value is determined by the quoted secondary-market prices which account for interest rate characteristics, and are then adjusted for management estimates of the specific credit risk attributes of each loan (Level 3).


Loans held for sale at fair value are primarily single-family loans.  The fair value is determined, when possible, using quoted secondary-market prices such as mandatory loan sale commitments.  If no such quoted price exists, the fair value of a loan is determined by quoted prices for a similar loan or loans, adjusted for the specific attributes of each loan (Level 2).


Non-performing loans are loans which are inadequately protected by the current net worth and paying capacity of the borrowers or of the collateral pledged.  The non-performing loans are characterized by the distinct possibility that the Corporation will sustain some loss if the deficiencies are not corrected.  The fair value of a non-performing loan is determined based on an observable market price or current appraised value of the underlying collateral.  Appraised and reported values may be discounted based on management's historical knowledge, changes in market conditions from the time of valuation, and/or management's expertise and knowledge of the borrower.  For non-performing loans which are restructured loans, the fair value is derived from discounted cash flow analysis (Level 3), except those which are in the process of foreclosure or 90 days delinquent for which the fair value is derived from the appraised value of its collateral (Level 2).  For other non-performing loans which are not restructured loans, other than non-performing commercial real estate loans, the fair value is derived from relative value analysis: historical experience and management estimates by loan type for which collectively evaluated allowances are assigned (Level 3); or the appraised value of its collateral for loans which are in the process of foreclosure or where borrowers file bankruptcy (Level 2).  For non-performing commercial real estate loans, the fair value is derived from the appraised value of its collateral (Level 2). Non-performing loans


33



are reviewed and evaluated on at least a quarterly basis for additional allowance and adjusted accordingly, based on the same factors identified above.  This loss is not recorded directly as an adjustment to current earnings or other comprehensive income (loss), but rather as a component in determining the overall adequacy of the allowance for loan losses.  These adjustments to the estimated fair value of non-performing loans may result in increases or decreases to the provision for loan losses recorded in current earnings.


The Corporation uses the amortization method for its MSA, which amortizes the MSA in proportion to and over the period of estimated net servicing income and assesses the MSA for impairment based on fair value at each reporting date.  The fair value of MSA is derived using the present value method; which includes a third party's prepayment projections of similar instruments, weighted-average coupon rates and the estimated average life (Level 3).


The rights to future income from serviced loans that exceed contractually specified servicing fees are recorded as interest-only strips.  The fair value of interest-only strips is derived using the same assumptions that are used to value the related MSA (Level 3).


The fair value of real estate owned is derived from the lower of the appraised value or the listing price, net of estimated selling costs (Level 2).


The Corporation's valuation methodologies may produce a fair value calculation that may not be indicative of net realizable value or reflective of future fair values.  While management believes the Corporation's valuation methodologies are appropriate and consistent with other market participants, the use of different methodologies or assumptions to determine the fair value of certain financial instruments could result in a different estimate of fair value at the reporting date.


The following fair value hierarchy tables present information at the dates indicated about the Corporation's assets measured at fair value on a recurring basis:

Fair Value Measurement at March 31, 2017 Using:

(In Thousands)

Level 1

Level 2

Level 3

Total

Assets:

Investment securities - available for sale:

U.S. government agency MBS

$

-


$

5,700


$

-


$

5,700


U.S. government sponsored enterprise MBS

-


3,661


-


3,661


Private issue CMO

-


-


501


501


Investment securities - available for sale

-


9,361


501


9,862


Loans held for investment, at fair value

-


-


6,250


6,250


Loans held for sale, at fair value

-


105,531


-


105,531


Interest-only strips

-


-


35


35


Derivative assets:

Commitments to extend credit on loans to be held for sale

-


-


2,116


2,116


Option contracts

-


-


31


31


Derivative assets

-


-


2,147


2,147


Total assets

$

-


$

114,892


$

8,933


$

123,825


Liabilities:

Derivative liabilities:

Commitments to extend credit on loans to be held for sale

$

-


$

-


$

12


$

12


Mandatory loan sale commitments

-


-


59


59


TBA MBS trades

-


1,032


-


1,032


Derivative liabilities

-


1,032


71


1,103


Total liabilities

$

-


$

1,032


$

71


$

1,103



34






Fair Value Measurement at June 30, 2016 Using:

(In Thousands)

Level 1

Level 2

Level 3

Total

Assets:

Investment securities - available for sale:

U.S. government agency MBS

$

-


$

6,572


$

-


$

6,572


U.S. government sponsored enterprise MBS

-


4,223


-


4,223


Private issue CMO

-


-


601


601


Common stock - community development financial institution

-


147


-


147


Investment securities - available for sale

-


10,942


601


11,543


Loans held for investment, at fair value

-


-


5,159


5,159


Loans held for sale, at fair value

-


189,458


-


189,458


Interest-only strips

-


-


47


47


Derivative assets:

Commitments to extend credit on loans to be held for sale

-


-


3,788


3,788


Derivative assets

-


-


3,788


3,788


Total assets

$

-


$

200,400


$

9,595


$

209,995


Liabilities:

Derivative liabilities:

Commitments to extend credit on loans to be held for sale

$

-


$

-


$

3


$

3


Mandatory loan sale commitments

-


-


31


31


TBA MBS trades

-


3,165


-


3,165


Derivative liabilities

-


3,165


34


3,199


Total liabilities

$

-


$

3,165


$

34


$

3,199




35



The following tables summarize reconciliations of the beginning and ending balances during the periods shown of recurring fair value measurements recognized in the Condensed Consolidated Statements of Financial Condition using Level 3 inputs:

For the Quarter Ended March 31, 2017

Fair Value Measurement

Using Significant Other Unobservable Inputs

(Level 3)

(In Thousands)

Private

Issue

CMO

Loans Held For Investment, at fair value (1)

Interest-

Only

Strips

Loan

Commit-

ments to

Originate (2)

Manda-

tory

Commit-

ments (3)

Option

Contracts

Total

Beginning balance at December 31, 2016

$

538


$

5,964


$

37


$

1,476


$

(280

)

$

-


$

7,735


Total gains or losses (realized/unrealized):


Included in earnings

-


(10

)

-


628


216


(11

)

823


Included in other comprehensive

 income (loss)

-


-


(2

)

-


-


-


(2

)

Purchases

-


-


-


-


-


42


42


Issuances

-


-


-


-


-


-


-


Settlements

(37

)

(399

)

-


-


5


-


(431

)

Transfers in and/or out of Level 3

-


695


-


-


-


-


695


Ending balance at March 31, 2017

$

501


$

6,250


$

35


$

2,104


$

(59

)

$

31


$

8,862



(1)

The valuation of loans held for investment at fair value includes the management estimates of the specific credit risk attributes of each loan (Level 3), in addition to the quoted secondary-market prices which account for interest rate characteristics.

(2)

Consists of commitments to extend credit on loans to be held for sale.

(3)

Consists of mandatory loan sale commitments.


For the Quarter Ended March 31, 2016

Fair Value Measurement

Using Significant Other Unobservable Inputs

(Level 3)

(In Thousands)

Private

Issue

CMO

Common stock (1)

Loans Held For Investment, at fair value (2)

Interest-

Only

Strips

Loan

Commit-

ments to

 Originate (3)

Manda-

tory

Commit-

ments (4)

Option

Contracts

Total

Beginning balance at December 31,

  2015

$

654


$

143


$

4,210


$

54


$

1,170


$

(51

)

$

24


$

6,204


Total gains or losses (realized/

   unrealized):



Included in earnings

-


-


59


-


1,866


(105

)

85


1,905


Included in other

  comprehensive (loss) income

(5

)

4


-


(4

)

-


-


-


(5

)

Purchases

-


-


-


-


-


-


82


82


Issuances

-


-


-


-


-


-


-


-


Settlements

(32

)

-


(1,165

)

-


-


31


(167

)

(1,333

)

Transfers in and/or out of Level 3

-


(147

)

1,479


-


-


-


-


1,332


Ending balance at March 31, 2016

$

617


$

-


$

4,583


$

50


$

3,036


$

(125

)

$

24


$

8,185



(1)

Common stock of a community development financial institution.

(2)

The valuation of loans held for investment at fair value includes the management estimates of the specific credit risk attributes of each loan (Level 3), in addition to the quoted secondary-market prices which account for interest rate characteristics.

(3)

Consists of commitments to extend credit on loans to be held for sale.

(4)

Consists of mandatory loan sale commitments.


36



For the Nine Months Ended March 31, 2017

Fair Value Measurement

Using Significant Other Unobservable Inputs

(Level 3)

(In Thousands)

Private

Issue

CMO

Loans Held For Investment, at fair value (1)

Interest-

Only

Strips

Loan

Commit-

ments to

Originate (2)

Manda-

tory

Commit-

ments (3)

Option

Contracts

Total

Beginning balance at June 30, 2016

$

601


$

5,159


$

47


$

3,785


$

(31

)

$

-


$

9,561


Total gains or losses (realized/unrealized):







Included in earnings

-


(111

)

-


(1,681

)

(39

)

333


(1,498

)

Included in other comprehensive loss

1


-


(12

)

-


-


-


(11

)

Purchases

-


-


-


-


-


180


180


Issuances

-


-


-


-


-


-


-


Settlements

(101

)

(1,077

)

-


-


11


(482

)

(1,649

)

Transfers in and/or out of Level 3

-


2,279


-


-


-


-


2,279


Ending balance at March 31, 2017

$

501


$

6,250


$

35


$

2,104


$

(59

)

$

31


$

8,862



(1)

The valuation of loans held for investment at fair value includes the management estimates of the specific credit risk attributes of each loan (Level 3), in addition to the quoted secondary-market prices which account for interest rate characteristics.

(2)

Consists of commitments to extend credit on loans to be held for sale.

(3)

Consists of mandatory loan sale commitments.


For the Nine Months Ended March 31, 2016

Fair Value Measurement

Using Significant Other Unobservable Inputs

(Level 3)

(In Thousands)

Private

Issue

CMO

Common stock (1)

Loans Held For Investment, at fair value (2)

Interest-

Only

Strips

Loan

Commit-

ments to

originate (3)

Manda-

tory

Commit-

ments (4)

Option

Contracts

Total

Beginning balance at June 30, 2015

$

717


$

151


$

-


$

63


$

1,499


$

(71

)

$

192


$

2,551


Total gains or losses (realized/

   unrealized):


Included in earnings

-


-


(149

)

-


1,537


(101

)

(87

)

1,200


Included in other comprehensive

  (loss) income

(7

)

(4

)

-


(13

)

-


-


-


(24

)

Purchases

-


-


-


-


-


-


222


222


Issuances

-


-


-


-


-


-


-


-


Settlements

(93

)

-


(1,816

)

-


-


47


(303

)

(2,165

)

Transfers in and/or out of Level 3

-


(147

)

6,548


-


-


-


-


6,401


Ending balance at March 31, 2016

$

617


$

-


$

4,583


$

50


$

3,036


$

(125

)

$

24


$

8,185



(1)

Common stock of a community development financial institution.

(2)

The valuation of loans held for investment at fair value includes the management estimates of the specific credit risk attributes of each loan (Level 3), in addition to the quoted secondary-market prices which account for interest rate characteristics.

(3)

Consists of commitments to extend credit on loans to be held for sale.

(4)

Consists of mandatory loan sale commitments.



37



The following fair value hierarchy tables present information about the Corporation's assets measured at fair value at the dates indicated on a nonrecurring basis:

Fair Value Measurement at March 31, 2017 Using:

(In Thousands)

Level 1

Level 2

Level 3

Total

Non-performing loans 

$

-


$

7,423


$

1,429


$

8,852


MSA

-


-


137


137


Real estate owned, net 

-


2,768


-


2,768


Total

$

-


$

10,191


$

1,566


$

11,757



Fair Value Measurement at June 30, 2016 Using:

(In Thousands)

Level 1

Level 2

Level 3

Total

Non-performing loans 

$

-


$

7,350


$

2,959


$

10,309


MSA

-


-


627


627


Real estate owned, net 

-


2,706


-


2,706


Total

$

-


$

10,056


$

3,586


$

13,642




38



The following table presents additional information about valuation techniques and inputs used for assets and liabilities, including derivative financial instruments, which are measured at fair value and categorized within Level 3 as of March 31, 2017:

(Dollars In Thousands)

Fair Value
As of
March 31,
2017

Valuation

Techniques

Unobservable Inputs

Range (1)

(Weighted Average)

Impact to

Valuation

from an

Increase in

Inputs (2)

Assets:

Securities available - for sale: Private issue CMO

$

501


Market comparable pricing

Comparability adjustment

0.2% – 1.0% (0.9%)

Increase

Loans held for investment,

    at fair value

$

6,250


Relative value
analysis

Broker quotes
Credit risk factors

97.6% –  105.0%
(100.9%) of par
1.2% - 100.0% (5.1%)

Increase
Decrease

Non-performing loans

$

68


Discounted cash flow

Default rates

5.0%

Decrease

Non-performing loans

$

1,361


Relative value analysis

Loss severity

20.0% - 30.0% (18.9%)

Decrease

MSA

$

137


Discounted cash flow

Prepayment speed (CPR)

Discount rate

9.8% - 60.0% (24.9%)
9.0% - 10.5% (9.3%)

Decrease
Decrease

Interest-only strips

$

35


Discounted cash flow

Prepayment speed (CPR)

Discount rate

14.4% - 23.4% (22.3%)
9.0%

Decrease
Decrease

Commitments to extend credit on loans to be held for sale

$

2,116


Relative value analysis

TBA-MBS broker quotes

Fall-out ratio (3)

98.1% –  104.9%
(101.8%) of par
21.1% - 28.2% (27.7%)

Increase
Decrease

Option contracts

$

31


Relative value analysis

Broker quotes

124.6% of par

Increase

Liabilities:

Commitments to extend credit on loans to be held for sale

$

12


Relative value analysis

TBA-MBS broker quotes

Fall-out ratio (3)

100.4% –  104.3%
(101.9%) of par
21.1% - 28.2% (27.7%)

Increase
Decrease

Mandatory loan sale commitments

$

59


Relative value analysis

TBA MBS broker quotes 


Roll-forward costs (4)

100.8% - 105.7%
(104.0%) of par
0.020%

Decrease 
Decrease

(1)

The range is based on the estimated fair values and management estimates.

(2)

Unless otherwise noted, this column represents the directional change in the fair value of the Level 3 investments that would result from an increase to the corresponding unobservable input. A decrease to the unobservable input would have the opposite effect. Significant changes in these inputs in isolation could result in significantly higher or lower fair value measurements.

(3)

The percentage of commitments to extend credit on loans to be held for sale which management has estimated may not fund.

(4)

An estimated cost to roll forward the mandatory loan sale commitments which management has estimated may not be delivered to the corresponding investors in a timely manner.


The significant unobservable inputs used in the fair value measurement of the Corporation's assets and liabilities include the following: prepayment speeds, discount rates, MBS – TBA quotes, fallout ratios, broker quotes and roll-forward costs, among others.  Significant increases or decreases in any of these inputs in isolation could result in significantly lower or higher fair value measurement. The various unobservable inputs used to determine valuations may have similar or diverging impacts on valuation.



39



The carrying amount and fair value of the Corporation's other financial instruments as of March 31, 2017 and June 30, 2016 was as follows:

March 31, 2017

(In Thousands)

Carrying
Amount

Fair
Value


Level 1


Level 2


Level 3

Financial assets:

Investment securities - held to maturity

$

41,035


$

41,270


-


$

41,270


$

-


Loans held for investment, not recorded at fair value

$

874,260


$

859,852


-


-


$

859,852


FHLB – San Francisco stock

$

8,094


$

8,094


-


$

8,094


-


Financial liabilities:

Deposits

$

938,306


$

909,920


-


-


$

909,920


Borrowings

$

111,244


$

111,673


-


-


$

111,673



June 30, 2016

(In Thousands)

Carrying
Amount

Fair
Value


Level 1


Level 2


Level 3

Financial assets:

Investment securities - held to maturity

$

39,979


$

40,438


-


$

40,438


-


Loans held for investment, not recorded at fair value

$

834,863


$

844,124


-


-


$

844,124


FHLB – San Francisco stock

$

8,094


$

8,094


-


$

8,094


-


Financial liabilities:

Deposits

$

926,384


$

896,033


-


-


$

896,033


Borrowings

$

91,299


$

95,898


-


-


$

95,898



Investment securities - held to maturity: The investment securities - held to maturity consist of time deposits at CRA qualified minority financial institutions and U.S. government sponsored enterprise MBS. Due to the short-term nature of the time deposits, the principal balances approximated fair value (Level 2). For the MBS, the Corporation utilizes quoted prices in active and less than active markets for similar securities for its fair value measurement of MBS and debt securities (Level 2).


Loans held for investment, not recorded at fair value: For loans that reprice frequently at market rates, the carrying amount approximates the fair value.  For fixed-rate loans, the fair value is determined by either (i) discounting the estimated future cash flows of such loans over their estimated remaining contractual maturities using a current interest rate at which such loans would be made to borrowers, or (ii) quoted market prices. The allowance for loan losses is subtracted as an estimate of the underlying credit risk.


FHLB – San Francisco stock: The carrying amount reported for FHLB – San Francisco stock approximates fair value. When redeemed, the Corporation will receive an amount equal to the par value of the stock.


Deposits: The fair value of time deposits is estimated using a discounted cash flow calculation. The discount rate is based upon rates currently offered for deposits of similar remaining maturities.  The fair value of transaction accounts (checking, money market and savings accounts) is estimated using a discounted cash flow calculation and management estimates of current market conditions.


Borrowings: The fair value of borrowings has been estimated using a discounted cash flow calculation.  The discount rate on such borrowings is based upon rates currently offered for borrowings of similar remaining maturities.


The Corporation has various processes and controls in place to ensure that fair value is reasonably estimated.  The Corporation generally determines fair value of their Level 3 assets and liabilities by using internally developed models which primarily utilize discounted cash flow techniques and prices obtained from independent management services or brokers.  The Corporation performs due diligence procedures over third-party pricing service providers in order to support their use in the valuation process.  The fair values of investment securities, commitments to extend credit on loans held for sale, mandatory commitments and option contracts are determined from the independent management services or brokers; while the fair value of MSA and interest-only strips are


40



determined using the internally developed models which are based on discounted cash flow analysis.  The fair value of non-performing loans is determined by calculating discounted cash flows, relative value analysis or collateral value, less selling costs.


While the Corporation believes its valuation methods are appropriate and consistent with other market participants, the use of different methodologies or assumptions to determine the fair value of certain financial instruments could result in a different estimate of fair value at the reporting date.  During the quarter ended March 31, 2017, there were no significant changes to the Corporation's valuation techniques that had, or are expected to have, a material impact on its consolidated financial position or results of operations.



Note 9: Incentive Plans


As of March 31, 2017, the Corporation had two active share-based compensation plans, which are described below.  These plans are the 2013 Equity Incentive Plan ("2013 Plan") and the 2010 Equity Incentive Plan ("2010 Plan"). Additionally, the Corporation had two inactive share-based compensation plans - the 2006 Equity Incentive Plan ("2006 Plan") and the 2003 Stock Option Plan ("the Stock Option Plan") where no new awards can be granted but previously awarded grants that are still outstanding remain eligible for exercise.


For the quarters ended March 31, 2017 and 2016, the compensation cost for these plans was $254,000 and $291,000 , respectively.  Net income tax (benefit) expense recognized in the Condensed Consolidated Statements of Operations for share-based compensation plans for the quarter ended March 31, 2017 and 2016 was $165,000 and $(197,000) , respectively.


For the nine months ended March 31, 2017 and 2016, the compensation cost for these plans was $1.2 million and $840,000 , respectively.  Net income tax (benefit) expense recognized in the Condensed Consolidated Statements of Operations for share-based compensation plans for the nine months ended March 31, 2017 and 2016 was $(14,000) and $(212,000) , respectively.


Equity Incentive Plan.   The Corporation established and the shareholders approved the 2013 Plan, the 2010 Plan and the 2006 Plan (collectively, "the Plans") for directors, advisory directors, directors emeriti, officers and employees of the Corporation and its subsidiary.  The 2013 Plan authorizes 300,000 stock options and 300,000 shares of restricted stock.  The 2013 Plan also provides that no person may be granted more than 60,000 stock options or 45,000 shares of restricted stock in any one year. The 2010 Plan authorizes 586,250 stock options and 288,750 shares of restricted stock.  The 2010 Plan also provides that no person may be granted more than 117,250 stock options or 43,312 shares of restricted stock in any one year.  The 2006 Plan authorizes 365,000 stock options and 185,000 shares of restricted stock.  The 2006 Plan also provides that no person may be granted more than 73,000 stock options or 27,750 shares of restricted stock in any one year.


Equity Incentive Plan - Stock Options.   Under the Plans, options may not be granted at a price less than the fair market value at the date of the grant.  Options typically vest over a five -year or shorter period as long as the director, advisory director, director emeritus, officer or employee remains in service to the Corporation.  The options are exercisable after vesting for up to the remaining term of the original grant.  The maximum term of the options granted is 10 years .


The fair value of each option grant is estimated on the date of the grant using the Black-Scholes option valuation model with the following assumptions.  The expected volatility is based on implied volatility from historical common stock closing prices for the prior 84 months.  The expected dividend yield is based on the most recent quarterly dividend on an annualized basis.  The expected term is based on the historical experience of all fully vested stock option grants and is reviewed annually.  The risk-free interest rate is based on the U.S. Treasury note rate with a term similar to the underlying stock option on the particular grant date.


For the Quarter
Ended
March 31, 2017

For the Nine Months
Ended
March 31, 2017

Expected volatility range

41.4

%

41.4% - 41.7%


Weighted-average volatility

41.4

%

41.7

%

Expected dividend yield

2.8

%

2.7

%

Expected term (in years)

7.4


7.4


Risk-free interest rate

1.6

%

1.5

%


During the third quarter of fiscal 2017, no options were granted, while 60,250 options were exercised and 159,500 options were forfeited.  This compares to the third quarter of fiscal 2016 when no options were granted, while 57,500 options were exercised


41



and no options were forfeited. For the first nine months of fiscal 2017, 26,000 options were granted, while 84,000 options were exercised and 186,750 options were forfeited.  This compares to the first nine months of fiscal 2016 when no options were granted, while 77,500 options were exercised and 3,000 options were forfeited. As of March 31, 2017 and 2016, there were 145,000 and 136,750 stock options available for future grants under the Plans, respectively.


The following tables summarize the stock option activity in the Plans for the quarter and nine months ended March 31, 2017.


For the Quarter Ended March 31, 2017

Options

Shares

Weighted-

Average

Exercise

Price

Weighted-

Average

Remaining

Contractual

Term (Years)

Aggregate

Intrinsic

Value

($000)

Outstanding at December 31, 2016

853,000


$14.63

Granted

-


$-

Exercised

(60,250

)

$8.71

Forfeited

(159,500

)

$27.31

Outstanding at March 31, 2017

633,250


$12.00

5.94

$4,233

Vested and expected to vest at March 31, 2017

592,600


$11.78

5.82

$4,090

Exercisable at March 31, 2017

430,000


$10.47

5.10

$3,519


For the Nine Months Ended March 31, 2017

Options

Shares

Weighted-

Average

Exercise

Price

Weighted-

Average

Remaining

Contractual

Term (Years)

Aggregate

Intrinsic

Value

($000)

Outstanding at June 30, 2016

878,000


$14.43

Granted

26,000


$19.58

Exercised

(84,000

)

$9.63

Forfeited

(186,750

)

$25.52

Outstanding at March 31, 2017

633,250


$12.00

5.94

$4,233

Vested and expected to vest at March 31, 2017

592,600


$11.78

5.82

$4,090

Exercisable at March 31, 2017

430,000


$10.47

5.10

$3,519


As of March 31, 2017 and 2016, there was $1.0 million and $1.7 million of unrecognized compensation expense, respectively, related to unvested share-based compensation arrangements under the Plans.  The expense is expected to be recognized over a weighted-average period of 1.8 years and 2.4 years , respectively.  The forfeiture rate during the first nine months of fiscal 2017 and 2016 was 20 percent for both periods, and was calculated by using the historical forfeiture experience of all fully vested stock option grants and is reviewed annually.


Equity Incentive Plan – Restricted Stock.   The Corporation used 300,000 shares, 288,750 shares and 185,000 shares of its treasury stock to fund the 2013 Plan, the 2010 Plan and the 2006 Plan, respectively.  Awarded shares typically vest over a five -year or shorter period as long as the director, advisory director, director emeriti, officer or employee remains in service to the Corporation.  Once vested, a recipient of restricted stock will have all rights of a shareholder, including the power to vote and the right to receive dividends.  The Corporation recognizes compensation expense for the restricted stock awards based on the fair value of the shares at the award date.


There was no restricted stock activity in the third quarter of fiscal 2017 and 2016, other than the award of 6,000 shares in the third quarter of fiscal 2017 and the vesting of 7,500 shares in the third quarter of fiscal 2016. For the first nine months of fiscal 2017, there were awards of 24,000 shares, forfeitures of 15,250 shares and 87,750 vested shares of restricted stock. This compares to no activity of restricted stock, other than the vesting of 10,000 shares of restricted stock in the first nine months of fiscal 2016. As of March 31, 2017 and 2016, there were 265,750 shares and 268,850 shares of restricted stock, respectively available for future awards under the Plans.


42




The following tables summarize the unvested restricted stock activity in the quarter and nine months ended March 31, 2017.


For the Quarter Ended March 31, 2017

Unvested Shares

Shares

Weighted-Average

Award Date

Fair Value

Unvested at December 31, 2016

105,000


$13.89

Granted

6,000


$18.90

Vested

-


$-

Forfeited

-


$-

Unvested at March 31, 2017

111,000


$14.16

Expected to vest at March 31, 2017

88,800


$14.16


For the Nine Months Ended March 31, 2017

Unvested Shares

Shares

Weighted-Average

Award Date

Fair Value

Unvested at June 30, 2016

190,000


$13.33

Granted

24,000


$17.06

Vested

(87,750

)

$13.30

Forfeited

(15,250

)

$13.30

Unvested at March 31, 2017

111,000


$14.16

Expected to vest at March 31, 2017

88,800


$14.16


As of March 31, 2017 and 2016, the unrecognized compensation expense was $1.3 million and $1.8 million , respectively, related to unvested share-based compensation arrangements under the Plans, and reported as a reduction to stockholders' equity.  This expense is expected to be recognized over a weighted-average period of 1.9 years and 2.5 years , respectively.  Similar to stock options, a forfeiture rate of 20 percent has been applied for the restricted stock compensation expense calculations in the first nine months of fiscal 2017 and 2016.


Stock Option Plan.   The Corporation established the Stock Option Plan for key employees and eligible directors under which options to acquire up to 352,500 shares of common stock may be granted.  Under the Stock Option Plan, stock options may not be granted at a price less than the fair market value at the date of the grant.  Stock options typically vest over a five -year period on a pro-rata basis as long as the employee or director remains in service to the Corporation.  The stock options are exercisable after vesting for up to the remaining term of the original grant.  The maximum term of the stock options granted is 10 years .  As of March 31, 2017, no stock options remain available for future grants under the Stock Option Plan, which expired in November 2013.


The fair value of each stock option grant was estimated on the date of the grant using the Black-Scholes option valuation model with the following assumptions.  The expected volatility was based on implied volatility from historical common stock closing prices for the prior 84 months.  The expected dividend yield was based on the most recent quarterly dividend on an annualized basis.  The expected term was based on the historical experience of all fully vested stock option grants and is reviewed annually.  The risk-free interest rate was based on the U.S. Treasury note rate with a term similar to the underlying stock option on the particular grant date.


For the third quarter of fiscal 2017 and 2016, there was no activity in the Stock Option Plan. For the first nine months of fiscal 2017 and 2016, there was no activity in the Stock Option Plan, except forfeitures of 12,500 shares and 7,500 shares, respectively. As of March 31, 2017 and 2016, there were no stock options available for future grants under the Stock Option Plan.


The following tables summarize the activity in the Stock Option Plan for the quarter and nine months ended March 31, 2017.


43




For the Quarter Ended March 31, 2017

Options

Shares

Weighted-

Average

Exercise

Price

Weighted-

Average

Remaining

Contractual

Term (Years)

Aggregate

Intrinsic

Value

($000)

Outstanding at December 31, 2016

50,000


$19.92

Granted

-


$-

Exercised

-


$-

Forfeited

-


$-

Outstanding at March 31, 2017

50,000


$19.92

0.32

$-

Vested and expected to vest at March 31, 2017

50,000


$19.92

0.32

$-

Exercisable at March 31, 2017

50,000


$19.92

0.32

$-


For the Nine Months Ended March 31, 2017

Options

Shares

Weighted-

Average

Exercise

Price

Weighted-

Average

Remaining

Contractual

Term (Years)

Aggregate

Intrinsic

Value

($000)

Outstanding at June 30, 2016

62,500


$21.95

Granted

-


$-

Exercised

-


$-

Forfeited

(12,500

)

$30.08

Outstanding at March 31, 2017

50,000


$19.92

0.32

$-

Vested and expected to vest at March 31, 2017

50,000


$19.92

0.32

$-

Exercisable at March 31, 2017

50,000


$19.92

0.32

$-


As of March 31, 2017 and 2016, there was no unrecognized compensation expense at either date, related to unvested share-based compensation arrangements under the Stock Option Plan.



Note 10: Reclassification adjustment of Accumulated Other Comprehensive Income ("AOCI")


The following tables provide the changes in AOCI by component for the quarters and nine months ended March 31, 2017 and 2016.

For the Quarter Ended March 31, 2017

Unrealized gains and losses on

(In Thousands)

Investment securities available for sale

Interest-only strips

Total

Beginning balance at December 31, 2016

$

242


$

22


$

264


Other comprehensive loss before reclassifications

(14

)

(2

)

(16

)

Amount reclassified from accumulated other comprehensive income

-


-


-


Net other comprehensive loss

(14

)

(2

)

(16

)

Ending balance at March 31, 2017

$

228


$

20


$

248




44



For the Quarter Ended March 31, 2016

Unrealized gains and losses on

(In Thousands)

Investment securities available for sale

Interest-only strips

Total

Beginning balance at December 31, 2015

$

215


$

31


$

246


Other comprehensive income (loss) before reclassifications

76


(60

)

16


Amount reclassified from accumulated other comprehensive income

-


-


-


Net other comprehensive income (loss)

76


(60

)

16


Ending balance at March 31, 2016

$

291


$

(29

)

$

262



For the Nine Months Ended March 31, 2017

Unrealized gains and losses on

(In Thousands)

Investment securities available for sale

Interest-only strips

Total

Beginning balance at June 30, 2016

$

286


$

27


$

313


Other comprehensive loss before reclassifications

(58

)

(7

)

(65

)

Amount reclassified from accumulated other comprehensive income

-


-


-


Net other comprehensive loss

(58

)

(7

)

(65

)

Ending balance at March 31, 2017

$

228


$

20


$

248



For the Nine Months Ended March 31, 2016

Unrealized gains and losses on

(In Thousands)

Investment securities available for sale

Interest-only strips

Total

Beginning balance at June 30, 2015

$

294


$

37


$

331


Other comprehensive loss before reclassifications

(3

)

(66

)

(69

)

Amount reclassified from accumulated other comprehensive income

-


-


-


Net other comprehensive loss

(3

)

(66

)

(69

)

Ending balance at March 31, 2016

$

291


$

(29

)

$

262




Note 11: Offsetting Derivative and Other Financial Instruments


The Corporation's derivative transactions are generally governed by International Swaps and Derivatives Association Master Agreements and similar arrangements, which include provisions governing the setoff of assets and liabilities between the parties. When the Corporation has more than one outstanding derivative transaction with a single counterparty, the setoff provisions contained within these agreements generally allow the non-defaulting party the right to reduce its liability to the defaulting party by amounts eligible for setoff, including the collateral received as well as eligible offsetting transactions with that counterparty, irrespective of the currency, place of payment, or booking office. The Corporation's policy is to present its derivative assets and derivative liabilities on the Condensed Consolidated Statements of Financial Condition on a net basis for each type of derivative. The derivative assets and liabilities are comprised of mandatory loan sale commitments, TBA MBS trades and option contracts.


45




The following tables present the gross and net amounts of derivative assets and liabilities and other financial instruments as reported in the Corporation's Condensed Consolidated Statement of Financial Condition, and the gross amount not offset in the Corporation's Condensed Consolidated Statement of Financial Condition as of the dates indicated.


As of March 31, 2017:

Gross

Net

Amount

Amount

Offset in the

of Assets in

Gross Amount Not Offset in

Condensed

the Condensed

the Condensed Consolidated

Gross

Consolidated

Consolidated

Statements of Financial Condition

Amount of

Statements

Statements

Cash

Recognized

of Financial

of Financial

Financial

Collateral

Net

(In Thousands)

Assets

Condition

Condition

Instruments

Received

Amount

Assets

   Derivatives

$

31


$

31


$

-


$

-


$

-


$

-


Total

$

31


$

31


$

-


$

-


$

-


$

-



Gross

Net

Amount

Amount

Offset in the

of Liabilities in

Gross Amount Not Offset in

Condensed

the Condensed

the Condensed Consolidated

Gross

Consolidated

Consolidated

Statements of Financial Condition

Amount of

Statements

Statements

Cash

Recognized

of Financial

of Financial

Financial

Collateral

Net

(In Thousands)

Liabilities

Condition

Condition

Instruments

Received

Amount

Liabilities

   Derivatives

$

1,091


$

31


$

1,060


$

-


$

-


$

1,060


Total

$

1,091


$

31


$

1,060


$

-


$

-


$

1,060




46



As of June 30, 2016:

Gross

Net

Amount

Amount

Offset in the

of Assets in

Gross Amount Not Offset in

Condensed

the Condensed

the Condensed Consolidated

Gross

Consolidated

Consolidated

Statements of Financial Condition

Amount of

Statements

Statements

Cash

Recognized

of Financial

of Financial

Financial

Collateral

Net

(In Thousands)

Assets

Condition

Condition

Instruments

Received

Amount

Assets

   Derivatives

$

-


$

-


$

-


$

-


$

-


$

-


Total

$

-


$

-


$

-


$

-


$

-


$

-



Gross

Net

Amount

Amount

Offset in the

of Liabilities in

Gross Amount Not Offset in

Condensed

the Condensed

the Condensed Consolidated

Gross

Consolidated

Consolidated

Statements of Financial Condition

Amount of

Statements

Statements

Cash

Recognized

of Financial

of Financial

Financial

Collateral

Net

(In Thousands)

Liabilities

Condition

Condition

Instruments

Received

Amount

Liabilities

   Derivatives

$

3,196


$

-


$

3,196


$

-


$

-


$

3,196


Total

$

3,196


$

-


$

3,196


$

-


$

-


$

3,196




Note 12: Subsequent Events


On April 28, 2017, the Corporation announced that the Corporation's Board of Directors declared a quarterly cash dividend of $0.13 per share.  Shareholders of the Corporation's common stock at the close of business on May 19, 2017 will be entitled to receive the cash dividend.  The cash dividend will be payable on June 9, 2017.


On April 28, 2017, the Corporation announced that the Corporation's Board of Directors extended the May 2016 stock repurchase plan for a period of one year or until all available shares are purchased, whichever occurs first.



ITEM 2 – Management's Discussion and Analysis of Financial Condition and Results of Operations


General


Provident Financial Holdings, Inc., a Delaware corporation, was organized in January 1996 for the purpose of becoming the holding company of Provident Savings Bank, F.S.B. ("the Bank") upon the Bank's conversion from a federal mutual to a federal stock savings bank ("Conversion").  The Conversion was completed on June 27, 1996.  The Corporation is regulated by the Federal Reserve Board ("FRB").  At March 31, 2017, the Corporation had total assets of $1.20 billion, total deposits of $938.3 million and total stockholders' equity of $131.6 million.  The Corporation has not engaged in any significant activity other than holding the stock of the Bank.  Accordingly, the information set forth in this report, including financial statements and related data, relates primarily to the Bank and its subsidiaries.  As used in this report, the terms "we," "our," "us," and "Corporation" refer to Provident Financial Holdings, Inc. and its consolidated subsidiaries, unless the context indicates otherwise.


The Bank, founded in 1956, is a federally chartered stock savings bank headquartered in Riverside, California.  The Bank is regulated by the Office of the Comptroller of the Currency ("OCC"), its primary federal regulator, and the Federal Deposit Insurance


47



Corporation ("FDIC"), the insurer of its deposits.  The Bank's deposits are federally insured up to applicable limits by the FDIC.  The Bank has been a member of the Federal Home Loan Bank System since 1956.


The Corporation's business consists of community banking activities and mortgage banking activities, conducted by Provident Bank and Provident Bank Mortgage ("PBM"), a division of the Bank.  Community banking activities primarily consist of accepting deposits from customers within the communities surrounding the Bank's full service offices and investing those funds in single-family loans, multi-family loans, commercial real estate loans, construction loans, commercial business loans, consumer loans and other real estate loans.  The Bank also offers business checking accounts, other business banking services, and services loans for others.  Mortgage banking activities consist of the origination, purchase and sale of mortgage loans secured primarily by single-family residences.  The Bank currently operates 14 retail/business banking offices in Riverside County and San Bernardino County (commonly known as the Inland Empire).  Provident Bank Mortgage operates two wholesale loan production offices: one in Pleasanton and one in Rancho Cucamonga, California; and 12 retail loan production offices located throughout California.  The Corporation's revenues are derived principally from interest on its loans and investment securities and fees generated through its community banking and mortgage banking activities.  There are various risks inherent in the Corporation's business including, among others, the general business environment, interest rates, the California real estate market, the demand for loans, the prepayment of loans, the repurchase of loans previously sold to investors, the secondary market conditions to sell loans, competitive conditions, legislative and regulatory changes, fraud and other risks.


The Corporation began to distribute quarterly cash dividends in the quarter ended December 31, 2002.  On January 25, 2017, the Corporation declared a quarterly cash dividend of $0.13 per share for the Corporation's shareholders of record at the close of business on February 15, 2017, which was paid on March 8, 2017.  Future declarations or payments of dividends will be subject to the consideration of the Corporation's Board of Directors, which will take into account the Corporation's financial condition, results of operations, tax considerations, capital requirements, industry standards, legal restrictions, economic conditions and other factors, including the regulatory restrictions which affect the payment of dividends by the Bank to the Corporation.  Under Delaware law, dividends may be paid either out of surplus or, if there is no surplus, out of net profits for the current fiscal year and/or the preceding fiscal year in which the dividend is declared. For further discussion, see Note 12 of the Notes to Unaudited Interim Condensed Consolidated Financial Statements.


Management's Discussion and Analysis of Financial Condition and Results of Operations is intended to assist in understanding the financial condition and results of operations of the Corporation.  The information contained in this section should be read in conjunction with the Unaudited Interim Condensed Consolidated Financial Statements and accompanying selected Notes to Unaudited Interim Condensed Consolidated Financial Statements.



Safe-Harbor Statement


Certain matters in this Form 10-Q constitute forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995.  This Form 10-Q contains statements that the Corporation believes are "forward-looking statements."  These statements relate to the Corporation's financial condition, results of operations, plans, objectives, future performance or business.  When considering these forward-looking statements, you should keep in mind these risks and uncertainties, as well as any cautionary statements the Corporation may make.  Moreover, you should treat these statements as speaking only as of the date they are made and based only on information then actually known to the Corporation.  There are a number of important factors that could cause future results to differ materially from historical performance and these forward-looking statements.  Factors which could cause actual results to differ materially include, but are not limited to, the credit risks of lending activities, including changes in the level and trend of loan delinquencies and charge-offs and changes in our allowance for loan losses and provision for loan losses that may be impacted by deterioration in the residential and commercial real estate markets and may lead to increased losses and non-performing assets and may result in our allowance for loan losses not being adequate to cover actual losses and require us to materially increase our reserve; changes in general economic conditions, either nationally or in our market areas; changes in the levels of general interest rates, and the relative differences between short and long term interest rates, deposit interest rates, our net interest margin and funding sources; fluctuations in the demand for loans, the number of unsold homes, land and other properties and fluctuations in real estate values in our market areas; secondary market conditions for loans and our ability to sell loans in the secondary market; results of examinations of the Corporation by the FRB or of the Bank by the OCC or other regulatory authorities, including the possibility that any such regulatory authority may, among other things, require us to enter into a formal enforcement action or to increase our allowance for loan losses, write-down assets, change our regulatory capital position or affect our ability to borrow funds or maintain or increase deposits, or impose additional requirements and restrictions on us, any of which could adversely affect our liquidity and earnings; legislative or regulatory changes that adversely affect our business including changes in regulatory policies and principles, including the interpretation of regulatory capital or other rules, including as a result of Basel III; the impact of the Dodd-Frank Wall Street Reform and Consumer Protection Act (the "Dodd Frank Act") and the implementing regulations; the availability of resources to address changes in laws, rules, or regulations or to


48



respond to regulatory actions; adverse changes in the securities markets; our ability to attract and retain deposits; increases in premiums for deposit insurance; our ability to control operating costs and expenses; the use of estimates in determining fair value of certain of our assets, which estimates may prove to be incorrect and result in significant declines in valuation; difficulties in reducing risk associated with the loans on our balance sheet; staffing fluctuations in response to product demand or the implementation of corporate strategies that affect our workforce and potential associated charges; computer systems on which we depend could fail or experience a security breach; our ability to implement our branch expansion strategy; our ability to successfully integrate any assets, liabilities, customers, systems, and management personnel we have acquired or may in the future acquire into our operations and our ability to realize related revenue synergies and cost savings within expected time frames and any goodwill charges related thereto; our ability to manage loan delinquency rates; our ability to retain key members of our senior management team; costs and effects of litigation, including settlements and judgments; increased competitive pressures among financial services companies; changes in consumer spending, borrowing and savings habits; the availability of resources to address changes in laws, rules, or regulations or to respond to regulatory actions; our ability to pay dividends on our common stock;  adverse changes in the securities markets; the inability of key third-party providers to perform their obligations to us; changes in accounting policies and practices, as may be adopted by the financial institution regulatory agencies or the Financial Accounting Standards Board, including additional guidance and interpretation on accounting issues and details of the implementation of new accounting methods; war or terrorist activities; and other economic, competitive, governmental, regulatory, and technological factors affecting our operations, pricing, products and services and other risks detailed in this report and in the Corporation's other reports filed with or furnished to the SEC, including its Annual Report on Form 10-K for the fiscal year ended June 30, 2016. These developments could have an adverse impact on our financial position and our results of operations.  Forward-looking statements are based upon management's beliefs and assumptions at the time they are made. We undertake no obligation to publicly update or revise any forward-looking statements included in this document or to update the reasons why actual results could differ from those contained in such statements, whether as a result of new information, future events or otherwise. In light of these risks, uncertainties and assumptions, the forward-looking statements discussed in this document might not occur, and you should not put undue reliance on any forward-looking statements. 



Critical Accounting Policies


The discussion and analysis of the Corporation's financial condition and results of operations is based upon the Corporation's condensed consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America.  The preparation of these financial statements requires management to make estimates and judgments that affect the reported amounts of assets and liabilities, revenues and expenses, and related disclosures of contingent assets and liabilities at the date of the condensed consolidated financial statements.  Actual results may differ from these estimates under different assumptions or conditions.


The Corporation's critical accounting policies are described in the Corporation's 2016 Annual Report on Form 10-K for the year ended June 30, 2016 in the Critical Accounting Policies section of Management's Discussion and Analysis of Financial Condition and Results of Operations and in Note 1 - Organization and Significant Accounting Policies. There have been no significant changes during the nine months ended March 31, 2017 to the critical accounting policies as described in the Corporation's 2016 Annual Report on Form 10-K for the period ended June 30, 2016.



Executive Summary and Operating Strategy


Provident Savings Bank, F.S.B., established in 1956, is a financial services company committed to serving consumers and small to mid-sized businesses in the Inland Empire region of Southern California.  The Bank conducts its business operations as Provident Bank, Provident Bank Mortgage, a division of the Bank, and through its subsidiary, Provident Financial Corp.  The business activities of the Corporation, primarily through the Bank and its subsidiary, consist of community banking, mortgage banking and, to a lesser degree, investment services for customers and trustee services on behalf of the Bank.


Community banking operations primarily consist of accepting deposits from customers within the communities surrounding the Corporation's full service offices and investing those funds in single-family, multi-family and commercial real estate loans.  Also, to a lesser extent, the Corporation makes construction, commercial business, consumer and other mortgage loans.  The primary source of income in community banking is net interest income, which is the difference between the interest income earned on loans and investment securities, and the interest expense paid on interest-bearing deposits and borrowed funds.  Additionally, certain fees are collected from depositors, such as returned check fees, deposit account service charges, ATM fees, IRA/KEOGH fees, safe deposit box fees, travelers check fees, wire transfer fees and overdraft protection fees, among others.



49



During the next three years, subject to market conditions, the Corporation intends to improve its community banking business by moderately increasing total assets; by increasing single-family mortgage loans and higher yielding preferred loans (i.e., multi-family, commercial real estate, construction and commercial business loans).  In addition, the Corporation intends to decrease the percentage of time deposits in its deposit base and to increase the percentage of lower cost checking and savings accounts.  This strategy is intended to improve core revenue through a higher net interest margin and ultimately, coupled with the growth of the Corporation, an increase in net interest income.  While the Corporation's long-term strategy is for moderate growth, management recognizes that growth may not occur as a result of weaknesses in general economic conditions.


Mortgage banking operations primarily consist of the origination, purchase and sale of mortgage loans secured by single-family residences.  The primary sources of income in mortgage banking are gain on sale of loans and certain fees collected from borrowers in connection with the loan origination process.  The Corporation will continue to modify its operations, including the number of mortgage banking personnel, in response to the rapidly changing mortgage banking environment.  Changes may include a different product mix, further tightening of underwriting standards, variations in its operating expenses or a combination of these and other changes.


Provident Financial Corp performs trustee services for the Bank's real estate secured loan transactions and has in the past held, and may in the future hold, real estate for investment.  Investment services operations primarily consist of selling alternative investment products such as annuities and mutual funds to the Bank's depositors.  Investment services and trustee services contribute a very small percentage of gross revenue.


There are a number of risks associated with the business activities of the Corporation, many of which are beyond the Corporation's control, including: changes in accounting principles, laws, regulation, interest rates and the economy, among others.  The Corporation attempts to mitigate many of these risks through prudent banking practices, such as interest rate risk management, credit risk management, operational risk management, and liquidity risk management.  The California economic environment presents heightened risk for the Corporation primarily with respect to real estate values and loan delinquencies. Since the majority of the Corporation's loans are secured by real estate located within California, significant declines in the value of California real estate may also inhibit the Corporation's ability to recover on defaulted loans by selling the underlying real estate.  In addition, the Corporation's operating costs may increase significantly as a result of the Dodd-Frank Act.   Many aspects of the Dodd-Frank Act are subject to rulemaking and will take effect over several years, making it difficult to anticipate the overall financial impact on the Corporation.



Off-Balance Sheet Financing Arrangements and Contractual Obligations


Commitments and Derivative Financial Instruments. The Corporation is a party to financial instruments with off-balance sheet risk in the normal course of business to meet the financing needs of its customers.  These financial instruments include commitments to extend credit, in the form of originating loans or providing funds under existing lines of credit, loan sale agreements to third parties and option contracts.  These instruments involve, to varying degrees, elements of credit and interest-rate risk in excess of the amount recognized in the accompanying Condensed Consolidated Statements of Financial Condition.  The Corporation's exposure to credit loss, in the event of non-performance by the counterparty to these financial instruments, is represented by the contractual amount of these instruments.  The Corporation uses the same credit policies in entering into financial instruments with off-balance sheet risk as it does for on-balance sheet instruments.  For a discussion on commitments and derivative financial instruments, see Note 7 of the Notes to Unaudited Interim Condensed Consolidated Financial Statements.



50



Contractual Obligations. The following table summarizes the Corporation's contractual obligations at March 31, 2017 and the effect these obligations are expected to have on the Corporation's liquidity and cash flows in future periods:


Payments Due by Period

(In Thousands)

Less than

1 year

1 to less

than  3 years

3 to

5 years

Over

5 years

Total

Operating obligations

$

2,736


$

4,007


$

2,024


$

1,193


$

9,960


Pension benefits

241


482


482


6,824


8,029


Time deposits

132,659


109,130


34,592


10,331


286,712


FHLB – San Francisco advances

12,807


14,970


44,910


52,601


125,288


FHLB – San Francisco letter of credit

7,000


-


-


-


7,000


FHLB – San Francisco MPF credit enhancement (1)

31


62


62


2,303


2,458


Total

$

155,474


$

128,651


$

82,070


$

73,252


$

439,447



(1)

Represents the potential future obligation for loans previously sold by the Bank to the FHLB – San Francisco under its Mortgage Partnership Finance ("MPF") program.  As of March 31, 2017, the Bank serviced $16.5 million of loans under this program. The estimated amounts by period are based on historical loss experience.


The expected obligation for time deposits and FHLB – San Francisco advances include anticipated interest accruals based on the respective contractual terms.


In addition to the off-balance sheet financing arrangements and contractual obligations mentioned above, the Corporation has derivatives and other financial instruments with off-balance sheet risks as described in Note 7 of the Notes to Unaudited Interim Condensed Consolidated Financial Statements.

Comparison of Financial Condition at March 31, 2017 and June 30, 2016


Total assets increased $28.1 million, or two percent, to $1.20 billion at March 31, 2017 from $1.17 billion at June 30, 2016.  The increase was primarily attributable to increases in loans held for investment and cash and cash equivalents, partly offset by a decrease in loans held for sale.


Total cash and cash equivalents, primarily excess cash deposited with the Federal Reserve Bank of San Francisco, increased $74.1 million, or 145 percent, to $125.3 million at March 31, 2017 from $51.2 million at June 30, 2016.  The increase in the total cash and cash equivalents was primarily attributable to a decrease in loans held for sale and increases in borrowings and customer deposits, partly offset by an increase in loans held for investment.


Loans held for investment increased $40.5 million, or five percent, to $880.5 million at March 31, 2017 from $840.0 million at June 30, 2016.  During the first nine months of fiscal 2017, the Corporation originated $120.4 million of loans held for investment, consisting primarily of single-family and multi-family loans.  During the first nine months of fiscal 2017, the Corporation also purchased $59.3 million of loans held for investment, primarily multi-family loans. Total loan principal payments during the first nine months of fiscal 2017 were $151.5 million, up eight percent from $139.9 million during the comparable period in fiscal 2016, due primarily to higher loan refinance activity.  In addition, real estate owned acquired in the settlement of loans in the first nine months of fiscal 2017 and 2016 was $1.8 million and $5.1 million, respectively.  The balance of preferred loans increased $44.1 million, or eight percent, to $563.3 million at March 31, 2017, compared to $519.2 million at June 30, 2016, net of undisbursed loan funds of $9.5 million and $11.3 million, respectively, and represented 64 percent and 61 percent of loans held for investment, respectively.  The balance of single-family loans held for investment decreased $4.8 million, or one percent, to $319.7 million at March 31, 2017, compared to $324.5 million at June 30, 2016, and represented approximately 36 percent and 38 percent of loans held for investment, respectively. The change in the mix between the preferred loans and single-family loans during the nine months ended March 31, 2017 was primarily the result of lower single-family loan origination volume because current market conditions favor fixed-rate mortgage loans which the Corporation does not retain in its portfolio.



51



The tables below describe the geographic dispersion of gross real estate secured loans held for investment at March 31, 2017 and June 30, 2016, as a percentage of the total dollar amount outstanding:


As of March 31, 2017

(Dollars In Thousands)

Inland

Empire

Southern

California (1)

Other

California

Other

States

Total

Loan Category

Balance

%

Balance

%

Balance

%

Balance

%

Balance

%

Single-family

$

97,296


30

%

$

162,558


51

%

$

58,628


18

%

$

1,232


1

%

$

319,714


100

%

Multi-family

73,091


16

%

275,585


60

%

107,716


23

%

2,788


1

%

459,180


100

%

Commercial real estate

33,412


35

%

39,855


41

%

23,097


24

%

-


-

%

96,364


100

%

Construction

4,143


25

%

8,874


54

%

3,535


21

%

-


-

%

16,552


100

%

Other

220


91

%

21


9

%

-


-

%

-


-

%

241


100

%

Total

$

208,162


23

%

$

486,893


54

%

$

192,976


22

%

$

4,020


1

%

$

892,051


100

%


(1)

Other than the Inland Empire.


As of June 30, 2016

(Dollars In Thousands)

Inland

Empire

Southern

California (1)

Other

California

Other

States

Total

Loan Category

Balance


%

Balance


%

Balance


%

Balance


%

Balance


%

Single-family

$

100,148


31

%

$

167,574


51

%

$

55,277


17

%

$

1,498


1

%

$

324,497


100

%

Multi-family

77,075


18

%

245,301


59

%

90,409


22

%

2,842


1

%

415,627


100

%

Commercial real estate

34,162


34

%

40,066


40

%

25,300


26

%

-


-

%

99,528


100

%

Construction

1,457


10

%

10,514


72

%

2,682


18

%

-


-

%

14,653


100

%

Other

260


78

%

72


22

%

-


-

%

-


-

%

332


100

%

Total

$

213,102


25

%

$

463,527


54

%

$

173,668


20

%

$

4,340


1

%

$

854,637


100

%


(1)

Other than the Inland Empire.


Loans held for sale decreased $84.0 million, or 44 percent, to $105.5 million at March 31, 2017 from $189.5 million at June 30, 2016.  The decrease was primarily due to the lower volume of loans originated and purchased for sale of $317.9 million during the quarter ended March 31, 2017 as compared to $557.2 million during the quarter ended June 30, 2016 and the timing difference between loan fundings and loan sale settlements. The decrease of the volume of loans originated and purchased for sale was primarily due to increased mortgage interest rates which reduced refinance activity.


Total deposits increased by $11.9 million, or one percent, to $938.3 million at March 31, 2017 from $926.4 million at June 30, 2016.  Transaction accounts increased $40.3 million, or seven percent, to $657.8 million at March 31, 2017 from $617.5 million at June 30, 2016, while time deposits decreased $28.4 million, or nine percent, to $280.5 million at March 31, 2017 from $308.9 million at June 30, 2016. The change in deposit mix was consistent with the Corporation's marketing strategy to promote transaction accounts and the strategic decision to increase the percentage of lower cost checking and savings accounts in its deposit base and decrease the percentage of time deposits by competing less aggressively for time deposits.


Total borrowings increased $19.9 million, or 22 percent, to $111.2 million at March 31, 2017 as compared to $91.3 million at June 30, 2016, and were primarily comprised of long-term FHLB - San Francisco advances for interest rate risk management purposes.

Total stockholders' equity decreased $1.9 million, or one percent, to $131.6 million at March 31, 2017 from $133.5 million at June 30, 2016, primarily as a result of stock repurchases totaling $5.0 million (see Part II, Item 2, "Unregistered Sales of Equity Securities and Use of Proceeds") and $3.1 million of quarterly cash dividends paid to shareholders, partly offset by net income of $4.2 million and the amortization of stock-based compensation benefits during the first nine months of fiscal 2017.


52






Comparison of Operating Results for the Quarters and Nine Months Ended March 31, 2017 and 2016


The Corporation's net income for the third quarter of fiscal 2017 was $1.1 million, a decrease of $349,000, or 23 percent, as compared to the same period of fiscal 2016. The decrease in net income for the third quarter of fiscal 2017 was primarily attributable to decreases in the recovery from the allowance for loan losses and non-interest income, partly offset by an increase in net interest income and a decrease in non-interest expense, compared to the same period one year ago. For the first nine months of fiscal 2017, the Corporation's net income was $4.2 million, a decrease of $676,000, or 14 percent, from $4.9 million in the same period of fiscal 2016. The decrease in net income for the first nine months was primarily attributable to a decrease in non-interest income and an increase in non-interest expense partly offset by an increase in net interest income.

The Corporation's efficiency ratio, defined as non-interest expense divided by the sum of net interest income and non-interest income, remained unchanged at 89 percent for the third quarter of fiscal 2017 as compared to the same period of fiscal 2016.  However, for the first nine months of fiscal 2017, the Corporation's efficiency ratio deteriorated slightly to 87 percent from 85 percent for the same period of fiscal 2016.


Return on average assets decreased 12 basis points to 0.39 percent in the third quarter of fiscal 2017 from 0.51 percent in the same period last year. For the first nine months of fiscal 2017, return on average assets was 0.47 percent, down nine basis points from 0.56 percent in the same period last year.


Return on average equity decreased to 3.46 percent in the third quarter of fiscal 2017 from 4.36 percent in the same period last year. For the first nine months of fiscal 2017, return on average equity was 4.26 percent compared to 4.73 percent for the same period last year.


Diluted earnings per share for the third quarter of fiscal 2017 were $0.14, a 22 percent decrease from $0.18 in the same period last year. For the first nine months of fiscal 2017, diluted earnings per share were $0.52, a nine percent decrease from $0.57 in the same period last year. The lower percentage decrease in the diluted earnings per share in comparison to the percentage decrease in the net income between each period was primarily attributable to stock repurchases during the prior 12 months.

Net Interest Income:


For the Quarters Ended March 31, 2017 and 2016.   Net interest income increased $735,000, or nine percent, to $8.6 million for the third quarter of fiscal 2017 from $7.9 million for the comparable period in fiscal 2016, due to a higher net interest margin and a higher average earning asset balance.  The net interest margin increased 20 basis points to 3.00 percent in the third quarter of fiscal 2017 from 2.80 percent in the same period of fiscal 2016, primarily due to a significant increase in the average yield on interest-earning assets reflecting a change in the interest-earning asset mix into additional higher yielding assets and a small decrease in the average cost of interest-bearing liabilities. The weighted-average yield on interest-earning assets increased by 15 basis points to 3.56 percent from 3.41 percent in the same quarter last year, while the weighted-average cost of interest-bearing liabilities decreased by five basis points to 0.64 percent for the third quarter of fiscal 2017 as compared to 0.69 percent in the same quarter last year. The increase in the average yield of interest-earning assets was primarily due to the utilization of interest-earning deposits earning a nominal yield to fund higher balances of loans receivable and investment securities, which earned a significantly higher yield. The average balance of interest-earning assets increased $24.2 million, or two percent, to $1.15 billion in the third quarter of fiscal 2017 from $1.13 billion in the comparable period of fiscal 2016, primarily reflecting increases in average net loans receivable and investment securities, partly offset by a decrease in average interest-earning deposits. The decrease in average interest-earning deposits was primarily due to the deployment of excess cash to fund originations of loans held for investment and purchases of investment securities.


For the Nine Months Ended March 31, 2017 and 2016.   Net interest income increased $3.2 million, or 14 percent, to $26.8 million for the first nine months of fiscal 2017 from $23.6 million for the comparable period in fiscal 2016, due to a higher net interest margin and a higher average earning assets balance.  The net interest margin was 3.06 percent in the first nine months of fiscal 2017, up 29 basis points from 2.77 percent in the same period of fiscal 2016 due to a significant increase in the average yield on interest-earning assets and a small decrease in the average cost of interest-bearing liabilities.  The weighted-average yield on interest-earning assets increased by 24 basis points to 3.63 percent, while the weighted-average cost of interest-bearing liabilities decreased by six basis points to 0.64 percent for the first nine months of fiscal 2017 as compared to the same period last year. The average balance of interest-earning assets increased $35.0 million, or three percent, to $1.17 billion in the first nine months of fiscal 2017 from $1.14 billion in the comparable period of fiscal 2016, primarily reflecting increases in average loans receivable and investment securities, partly offset by a decrease in average interest-earning deposits. The decrease in average interest-earning


53



deposits was primarily due to the deployment of excess cash to fund originations of loans held for sale and loans held for investment and purchases of investment securities.


Interest Income:


For the Quarters Ended March 31, 2017 and 2016.   Total interest income increased by $634,000, or seven percent, to $10.3 million for the third quarter of fiscal 2017 from $9.6 million in the same quarter of fiscal 2016.  The increase was primarily due to higher interest income on loans receivable.


Interest income on loans receivable increased $500,000, or five percent, to $9.7 million in the third quarter of fiscal 2017 from $9.2 million for the same quarter of fiscal 2016.  This increase was attributable to a higher average loan balance and a higher average loan yield.  The average balance of loans receivable, including loans held for sale, increased by $22.2 million, or two percent, to $974.2 million for the third quarter of fiscal 2017 from $952.0 million in the same quarter of fiscal 2016, primarily due to an increase in average loans held for investment, which was partly offset by a decrease in average loans held for sale attributable to a decrease in mortgage banking activity.  The average loan yield, including loans held for sale, during the third quarter of fiscal 2017 increased 11 basis points to 3.98 percent from 3.87 percent during the same quarter last year, primarily due to an increase in the average yield of loans held for sale and an increase in the average yield of loans held for investment.


Loans receivable is comprised of loans held for investment and loans held for sale. The average balance of loans held for investment increased $63.7 million, or eight percent, to $869.5 million during the third quarter of fiscal 2017 from $805.8 million in the same quarter of fiscal 2016. The average yield on the loans held for investment increased by 11 basis points to 4.00 percent in the third quarter of fiscal 2017 from 3.89 percent in the same quarter of fiscal 2016. The average balance of loans held for sale, however, decreased $41.5 million, or 28 percent, to $104.7 million during the third quarter of fiscal 2017 from $146.2 million in the same quarter of fiscal 2016. The average yield on the loans held for sale increased by 12 basis points to 3.87 percent in the third quarter of fiscal 2017 from 3.75 percent in the same quarter of fiscal 2016.

Interest income from investment securities increased $46,000, or 48 percent, to $142,000 in the third quarter of fiscal 2017 from $96,000 for the same quarter of fiscal 2016. This increase was attributable to a higher average balance, partly offset by a lower average yield. The average balance of investment securities increased $22.4 million, or 90 percent, to $47.3 million in the third quarter of fiscal 2017 from $24.9 million in the same quarter of fiscal 2016. The increase in average balance of investment securities was primarily the result of purchases of mortgage-backed securities, partly offset by scheduled and accelerated principal payments on mortgage-backed securities. The average investment securities yield decreased 34 basis points to 1.20 percent in the third quarter of fiscal 2017 from 1.54 percent in the same quarter of fiscal 2016. The decrease in the average investment securities yield was primarily attributable to the purchases of investment securities which had lower average yields than the existing portfolio and accelerated amortization of purchase premiums resulting from accelerated principal payments.


The FHLB – San Francisco cash dividend received in the third quarter of fiscal 2017 was $184,000, up 13 percent from $163,000 in the same quarter of fiscal 2016. The average yield increased 103 basis points to 9.09 percent in the third quarter of fiscal 2017 as compared to 8.06 percent in the comparable quarter last year.


Interest income from interest-earning deposits, primarily cash deposited at the Federal Reserve Bank of San Francisco, was $250,000 in the third quarter of fiscal 2017, up 37 percent from $183,000 in the same quarter of fiscal 2016.  The increase was due to a higher average yield, partly offset by a lower average balance in the third quarter of fiscal 2017 as compared to the same quarter last year.  The average yield earned on interest-earning deposits increased 30 basis points to 0.80 percent in the third quarter of fiscal 2017 from 0.50 percent in the comparable quarter last year, due primarily to the recent increases in the federal funds rate.  The average balance of the interest-earning deposits in the third quarter of fiscal 2017 was $125.2 million, a decrease of $20.4 million or 14 percent, from $145.6 million in the same quarter of fiscal 2016. The decrease in interest-earning deposits was primarily due to the deployment of excess cash to fund increased originations of loans held for investment and purchases of investment securities, consistent with the Corporation's interest rate risk management strategy.


For the Nine Months Ended March 31, 2017 and 2016.   Total interest income increased by $3.0 million, or 10 percent, to $31.9 million for the first nine months of fiscal 2017 from $28.9 million in the same period of fiscal 2016.  The increase was primarily due to higher interest income on loans receivable.


Loans receivable interest income increased $2.6 million, or nine percent, to $30.3 million in the first nine months of fiscal 2017 from $27.7 million for the same period of fiscal 2016.  The increase was attributable to a higher average loan balance, while the average loan yield remained unchanged between the periods.  The average balance of loans receivable, including loans held for sale, increased $88.9 million to $1.03 billion for the first nine months of fiscal 2017 from $945.8 million in the same period of


54



fiscal 2016. The average loan yield, including loans held for sale, during the first nine months of fiscal 2017 remained unchanged at 3.90 percent as compared to the same period last year.


Loans receivable is comprised of loans held for investment and loans held for sale. The average balance of loans held for investment increased $50.8 million, or six percent, to $856.5 million during the first nine months of fiscal 2017 from $806.7 million in the same quarter of fiscal 2016. The average yield on the loans held for investment increased by four basis points to 3.96 percent in the first nine months of fiscal 2017 from 3.92 percent in the same quarter of fiscal 2016. The average balance of loans held for sale increased by $39.0 million, or 28 percent, to $178.1 million during the first nine months of fiscal 2017 from $139.1 million in the the same period of fiscal 2016. The average yield on the loans held for sale decreased by 18 basis points to 3.63 percent in the first nine months of fiscal 2017 from 3.81 percent in the same period of fiscal 2016.


Interest income from investment securities increased $120,000, or 51 percent, to $354,000 in the first nine months of fiscal 2017 from $234,000 for the same period of fiscal 2016. This increase was attributable to a higher average balance, partly offset by a lower average yield. The average balance of investment securities increased $29.1 million, or158 percent, to $47.5 million in the first nine months of fiscal 2017 from $18.4 million in the same period of fiscal 2016. The increase in average balance of investment securities was primarily the result of purchases of mortgage-backed securities, partly offset by scheduled and accelerated principal payments on mortgage-backed securities. The average investment securities yield decreased 71 basis points to 0.99 percent in the first nine months of fiscal 2017 from 1.70 percent in the same period of fiscal 2016. The decrease in the average investment securities yield was primarily attributable to the purchases of investment securities which had lower average yields than the existing portfolio and accelerated amortization of purchase premiums resulting from accelerated principal payments.


The FHLB – San Francisco cash dividend received in the first nine months of fiscal 2017 was $827,000, up 53 percent from $542,000 in the same period of fiscal 2016.   The cash dividend received in the first nine months of fiscal 2017 includes a special cash dividend received in the second quarter of fiscal 2017. The average yield increased to 13.62 percent in the first nine months of fiscal 2017 as compared to 8.93 percent in the comparable period last year.


Interest income from interest-earning deposits, primarily cash deposited at the Federal Reserve Bank of San Francisco, was $406,000 in the first nine months of fiscal 2017, down three percent from $417,000 in the same period of fiscal 2016.  The decrease was due to a lower average balance and, partly offset by a higher average yield in the first nine months of fiscal 2017 as compared to the same period last year.  The average balance of the interest-earning deposits in the first nine months of fiscal 2017 was $79.8 million, a decrease of $83.0 million or 51 percent, from $162.8 million in the same period of fiscal 2016. The decrease in interest-earning deposits was primarily due to the deployment of excess cash to fund increased originations of loans held for investment and loans held for sale and purchases of investment securities, consistent with the Corporation's growth strategy. The average yield increased 33 basis points to 0.67 percent in the first nine months of fiscal 2017 from 0.34 percent in the comparable period last year, due primarily to the recent increases in the federal funds rate.


Interest Expense:


For the Quarters Ended March 31, 2017 and 2016.   Total interest expense for the third quarter of fiscal 2017 was $1.6 million as compared to $1.7 million for the same period last year, a decrease of $101,000, or six percent.  This decrease was attributable to a lower interest expense on deposits, partly offset by a higher interest expense on borrowings.


Interest expense on deposits for the third quarter of fiscal 2017 was $920,000 as compared to $1.1 million for the same period last year, a decrease of $173,000, or 16 percent.  The decrease in interest expense on deposits was primarily attributable to a lower average cost of deposits, partly offset by a higher average balance.  The average cost of deposits decreased eight basis points to 0.40 percent during the third quarter of fiscal 2017 from 0.48 percent during the same quarter last year.  The decrease in the average cost of deposits was attributable primarily to a lower average cost of transaction accounts and time deposits and a lower percentage of time deposits to the total deposit balance. The average balance of deposits increased $7.7 million, or one percent, to $928.0 million during the quarter ended March 31, 2017 from $920.3 million during the same period last year.  The increase in the average balance was primarily attributable to an increase in transaction accounts, partly offset by a decrease in time deposits.  Strategically, the Corporation has been promoting transaction accounts and competing less aggressively for time deposits.  The Corporation believes the increase in transaction accounts was also attributable to the impact of depositors seeking an alternative to lower yielding time deposits in anticipation of higher interest rates.  The average balance of transaction accounts to total deposits in the third quarter of fiscal 2017 was 69 percent, compared to 65 percent in the same period of fiscal 2016.


Interest expense on borrowings, consisting of FHLB – San Francisco advances, for the third quarter of fiscal 2017 increased $72,000, or 11 percent, to $713,000 from $641,000 for the same period last year.  The increase in interest expense on borrowings was the result of a higher average balance, partly offset by a lower average cost.  The average balance of borrowings increased $20.0 million, or 22 percent, to $111.3 million during the quarter ended March 31, 2017 from $91.3 million during the same period


55



last year. The average cost of borrowings decreased 22 basis points to 2.60 percent for the quarter ended March 31, 2017 from 2.82 percent in the same quarter last year.  The decrease in average cost of advances was primarily due to additional long-term advances in August and September 2016 totaling $20.0 million with an average cost of 1.59 percent, well below the average cost of existing borrowings.


For the Nine Months Ended March 31, 2017 and 2016.   Total interest expense for the first nine months of fiscal 2017 was $5.1 million as compared to $5.3 million for the same period last year, a decrease of $232,000, or four percent.  This decrease was attributable to a lower interest expense on deposits, partly offset by a higher interest expense on borrowings.


Interest expense on deposits for the first nine months of fiscal 2017 was $2.9 million as compared to $3.4 million for the same period last year, a decrease of $446,000, or 13 percent.  The decrease in interest expense on deposits was primarily attributable to a lower average cost of deposits, partly offset by a higher average balance.  The average cost of deposits decreased six basis points to 0.42 percent during the first nine months of fiscal 2017 from 0.48 percent during the same period last year.  The decrease in the average cost of deposits was attributable primarily to a lower average cost of transaction accounts and a lower percentage of time deposits to the total deposit balance.  The average balance of deposits increased $10.7 million, or one percent, to $933.4 million during the nine months ended March 31, 2017 from $922.7 million during the same period last year.  The increase in the average balance was primarily attributable to an increase in transaction accounts, partly offset by a decrease in time deposits.  The average balance of transaction accounts to total deposits in the first nine months of fiscal 2017 was 68 percent, compared to 64 percent in the same period of fiscal 2016.


Interest expense on borrowings, consisting of FHLB – San Francisco advances, for the first nine months of fiscal 2017 increased $214,000, or 11 percent, to $2.2 million from $1.9 million for the same period last year.  The increase in interest expense on borrowings was the result of a higher average balance, partly offset by a lower average cost.  The average balance of borrowings increased by $28.0 million, or 31 percent, to $119.3 million during the nine months ended March 31, 2017 from $91.3 million during the same period last year.  The average cost of borrowings decreased 42 basis points to 2.40 percent for the nine months ended March 31, 2017 from 2.82 percent in the same period last year.  The decrease in average cost of advances was primarily due to the increased utilization of overnight borrowings and short-term advances with a much lower average cost than long-term FHLB advances.



56



The following tables present the average balance sheets for the quarters and nine months ended March 31, 2017 and 2016, respectively:


Average Balance Sheets

Quarter Ended
March 31, 2017

Quarter Ended
March 31, 2016

(Dollars In Thousands)

Average
Balance

Interest

Yield/
Cost

Average
Balance

Interest

Yield/
Cost

Interest-earning assets:

Loans receivable, net (1)

$

974,207


$

9,704


3.98

%

$

951,996


$

9,204


3.87

%

Investment securities

47,283


142


1.20

%

24,861


96


1.54

%

FHLB – San Francisco stock

8,094


184


9.09

%

8,094


163


8.06

%

Interest-earning deposits

125,155


250


0.80

%

145,602


183


0.50

%

Total interest-earning assets

1,154,739


10,280


3.56

%

1,130,553


9,646


3.41

%

Non interest-earning assets

31,970


34,857


Total assets

$

1,186,709


$

1,165,410


Interest-bearing liabilities:

Checking and money market accounts (2)

$

356,116


90


0.10

%

$

335,240


116


0.14

%

Savings accounts

287,423


144


0.20

%

266,679


170


0.26

%

Time deposits

284,455


686


0.98

%

318,393


807


1.02

%

Total deposits

927,994


920


0.40

%

920,312


1,093


0.48

%

Borrowings

111,251


713


2.60

%

91,322


641


2.82

%

Total interest-bearing liabilities

1,039,245


1,633


0.64

%

1,011,634


1,734


0.69

%

Non interest-bearing liabilities

15,246


16,665


Total liabilities

1,054,491


1,028,299


Stockholders' equity

132,218


137,111


Total liabilities and stockholders' equity

$

1,186,709


$

1,165,410


Net interest income

$

8,647


$

7,912


Interest rate spread (3)

2.92

%

2.72

%

Net interest margin (4)

3.00

%

2.80

%

Ratio of average interest-earning assets to

   average interest-bearing liabilities

111.11

%

111.76

%

Return on average assets

0.39

%

0.51

%

Return on average equity

3.46

%

4.36

%

(1)

Includes loans held for sale and non-performing loans, as well as net deferred loan cost amortization of $207 and $197 for the quarters ended March 31, 2017 and 2016, respectively.

(2)

Includes the average balance of non interest-bearing checking accounts of $72.9 million and $64.8 million during the quarters ended March 31, 2017 and 2016, respectively.

(3)

Represents the difference between the weighted-average yield on all interest-earning assets and the weighted-average rate on all interest-bearing liabilities.

(4)

Represents net interest income before provision for loan losses as a percentage of average interest-earning assets.


57



Nine Months Ended
March 31, 2017

Nine Months Ended
March 31, 2016

Average
Balance

Interest

Yield/
Cost

Average
Balance

Interest

Yield/
Cost

Interest-earning assets:

Loans receivable, net (1)

$

1,034,671


$

30,300


3.90

%

$

945,761


$

27,673


3.90

%

Investment securities

47,495


354


0.99

%

18,350


234


1.70

%

FHLB – San Francisco stock

8,094


827


13.62

%

8,094


542


8.93

%

Interest-earning deposits

79,813


406


0.67

%

162,829


417


0.34

%

Total interest-earning assets

1,170,073


31,887


3.63

%

1,135,034


28,866


3.39

%

Non interest-earning assets

32,063


34,645


Total assets

$

1,202,136


$

1,169,679


Interest-bearing liabilities:

Checking and money market accounts (2)

$

355,826


293


0.11

%

$

332,465


355


0.14

%

Savings accounts

282,407


434


0.20

%

261,091


507


0.26

%

Time deposits

295,173


2,189


0.99

%

329,190


2,500


1.01

%

Total deposits

933,406


2,916


0.42

%

922,746


3,362


0.48

%

Borrowings

119,299


2,151


2.40

%

91,340


1,937


2.82

%

Total interest-bearing liabilities

1,052,705


5,067


0.64

%

1,014,086


5,299


0.70

%

Non interest-bearing liabilities

16,662


16,787


Total liabilities

1,069,367


1,030,873


Stockholders' equity

132,769


138,806


Total liabilities and stockholders' equity

$

1,202,136


$

1,169,679


Net interest income

$

26,820


$

23,567


Interest rate spread (3)

2.99

%

2.69

%

Net interest margin (4)

3.06

%

2.77

%

Ratio of average interest-earning assets to

   average interest-bearing liabilities

111.15

%

111.93

%

Return on average assets

0.47

%

0.56

%

Return on average equity

4.26

%

4.73

%


(1)

Includes loans held for sale and non-performing loans, as well as net deferred loan cost amortization of $609 and $417 for the nine months ended March 31, 2017 and 2016, respectively.

(2)

Includes the average balance of non interest-bearing checking accounts of $72.5 million and $65.6 million during the nine months ended March 31, 2017 and 2016, respectively.

(3)

Represents the difference between the weighted-average yield on all interest-earning assets and the weighted-average rate on all interest-bearing liabilities.

(4)

Represents net interest income before provision for loan losses as a percentage of average interest-earning assets.



58



The following tables set forth the effects of changing rates and volumes on interest income and expense for the quarters and nine months ended March 31, 2017 and 2016, respectively. Information is provided with respect to the effects attributable to changes in volume (changes in volume multiplied by prior rate), the effects attributable to changes in rate (changes in rate multiplied by prior volume) and the effects attributable to changes that cannot be allocated between rate and volume.


Rate/Volume Variance

Quarter Ended March 31, 2017 Compared
To Quarter Ended March 31, 2016
Increase (Decrease) Due to

(In Thousands)

Rate

Volume

Rate/
Volume

Net

Interest-earning assets:

     Loans receivable (1)

$

279


$

215


$

6


$

500


Investment securities

(21

)

86


(19

)

46


FHLB – San Francisco stock

21


-


-


21


Interest-bearing deposits

108


(26

)

(15

)

67


Total net change in income on interest-earning assets

387


275


(28

)

634


Interest-bearing liabilities:

Checking and money market accounts

(31

)

7


(2

)

(26

)

Savings accounts

(36

)

13


(3

)

(26

)

Time deposits

(39

)

(85

)

3


(121

)

Borrowings

(56

)

139


(11

)

72


Total net change in expense on interest-bearing liabilities

(162

)

74


(13

)

(101

)

Net increase (decrease) in net interest income

$

549


$

201


$

(15

)

$

735


(1)

Includes loans held for sale and non-performing loans.  For purposes of calculating volume, rate and rate/volume variances, non-performing loans were included in the weighted-average balance outstanding.


Nine Months Ended March 31, 2017 Compared
To Nine Months Ended March 31, 2016
Increase (Decrease) Due to

(In Thousands)

Rate

Volume

Rate/
Volume

Net

Interest-earning assets:

     Loans receivable (1)

$

-


$

2,627


$

-


$

2,627


Investment securities

(97

)

372


(155

)

120


FHLB – San Francisco stock

285


-


-


285


Interest-bearing deposits

406


(212

)

(205

)

(11

)

Total net change in income on interest-earning assets

594


2,787


(360

)

3,021


Interest-bearing liabilities:

Checking and money market accounts

(82

)

25


(5

)

(62

)

Savings accounts

(105

)

42


(10

)

(73

)

Time deposits

(58

)

(258

)

5


(311

)

Borrowings

(290

)

592


(88

)

214


Total net change in expense on interest-bearing liabilities

(535

)

401


(98

)

(232

)

Net increase (decrease) in net interest income

$

1,129


$

2,386


$

(262

)

$

3,253



(1)

Includes loans held for sale and non-performing loans.  For purposes of calculating volume, rate and rate/volume variances, non-performing loans were included in the weighted-average balance outstanding.


59





Recovery from the Allowance for Loan Losses:


For the Quarters Ended March 31, 2017 and 2016.   During the third quarter of fiscal 2017, the Corporation recorded a recovery from the allowance for loan losses of $165,000, a 76 percent decrease from the $694,000 recovery from the allowance for loan losses in the same period of fiscal 2016.  The decrease in the recovery was primarily attributable to an increase in the outstanding balance of loans held for investment, partly offset by further improvement in credit quality. Non-performing loans, net of the allowance for loan losses and fair value adjustments, decreased $1.4 million, or 14 percent, to $8.9 million at March 31, 2017 as compared to $10.3 million at June 30, 2016 and $12.3 million at March 31, 2016.  Net recoveries in the third quarter of fiscal 2017 were $49,000 or 0.02 percent (annualized) of average loans receivable, compared to net recoveries of $126,000 or 0.05 percent (annualized) of average loans receivable in the same quarter of fiscal 2016.  Total classified loans, net of the allowance for loan losses and fair value adjustments, consisting of special mention and substandard loans, were $15.9 million at March 31, 2017 as compared to $19.2 million at June 30, 2016 and to $19.9 million at March 31, 2016.


For the Nine Months Ended March 31, 2017 and 2016.   During the first nine months of fiscal 2017, the Corporation recorded a recovery from the allowance for loan losses of $665,000, down 39 percent from the recovery from the allowance for loan losses of $1.1 million in the same period of fiscal 2016.  The decrease in the recovery was primarily attributable to an increase in the outstanding balance of loans held for investment, partly offset by further improvement in credit quality. Net recoveries in the first nine months of fiscal 2017 were $270,000 or 0.03 percent (annualized) of average loans receivable, compared to net recoveries of $570,000 or 0.08 percent (annualized) of average loans receivable in the same period of fiscal 2016.

The allowance for loan losses was determined through quantitative and qualitative adjustments including the Bank's charge-off experience and reflects the impact on loans held for investment from the current general economic conditions of the U.S. and California economies such as the improving unemployment rate and higher home prices in California.  See related discussion of "Asset Quality" below.


At March 31, 2017, the allowance for loan losses was $8.3 million, comprised of collectively evaluated allowances of $8.3 million and individually evaluated allowances of $15,000; in comparison to the allowance for loan losses of $8.7 million at June 30, 2016, comprised of collectively evaluated allowances of $8.7 million and individually evaluated allowances of $20,000.  The allowance for loan losses as a percentage of gross loans held for investment was 0.93 percent at March 31, 2017 compared to 1.02 percent at June 30, 2016.  Management considers, based on currently available information, the allowance for loan losses sufficient to absorb potential losses inherent in loans held for investment.  For further analysis on the allowance for loan losses, see Note 6 of the Notes to Unaudited Interim Condensed Consolidated Financial Statements.


Non-Interest Income:


For the Quarters Ended March 31, 2017 and 2016.   Total non-interest income decreased $1.6 million, or 19 percent, to $6.8 million for the quarter ended March 31, 2017 from $8.4 million for the same period last year.  The decrease was primarily attributable to a decrease in the net gain on sale of loans, partly offset by a decrease in net loss on sale and operations of real estate owned during the current quarter as compared to the comparable period last year.


The net gain on sale of loans decreased $1.7 million, or 24 percent, to $5.4 million for the third quarter of fiscal 2017 from $7.1 million in the same quarter of fiscal 2016 reflecting the impact of a lower loan sale volume, partly offset by a slightly higher average loan sale margin.  Total loan sale volume, which includes the net change in commitments to extend credit on loans to be held for sale, decreased $109.5 million or 24 percent to $342.2 million in the quarter ended March 31, 2017 from $451.7 million in the comparable quarter last year. The decrease in loan sale volume was attributable to the decrease in refinance activity as compared to the same period last year. The total refinance loans as a percentage of total loans originated by PBM during the third quarter of fiscal 2017 was 38 percent, down from 48 percent in the same quarter of fiscal 2016. The average loan sale margin for PBM increased slightly to 1.58 percent in the third quarter of fiscal 2017, up one basis point from 1.57 percent in the same period of fiscal 2016.  The gain on sale of loans includes a favorable fair-value adjustment on loans held for sale and derivative financial instruments (commitments to extend credit, commitments to sell loans, commitments to sell mortgage-backed securities, and option contracts) pursuant to ASC 815 and ASC 825 that amounted to a net gain of $635,000 in the third quarter of fiscal 2017 as compared to a favorable fair-value adjustment net gain of $2.4 million in the same period last year.  The fair-value adjustment on loans held for sale and derivative financial instruments is consistent with the Bank's mortgage banking activity and the volatility of mortgage interest rates. As of March 31, 2017, the fair value of derivative financial instruments pursuant to ASC 815 and ASC 825 was $4.7 million, compared to $8.7 million at June 30, 2016 and $8.2 million at March 31, 2016.  



60



The net loss on sale and operations of real estate owned acquired in the settlement of loans decreased $202,000 or 73 percent to a net loss of $74,000 in the third quarter of fiscal 2017 from a net loss of $276,000 in the same period last year. One real estate owned property was sold in the third quarter of fiscal 2017, compared to three real estate owned properties sold in the same period last year. Two real estate owned properties were acquired in the settlement of loans during the third quarter of fiscal 2017, the same number of properties acquired in the comparable period last year. As of March 31, 2017, the real estate owned balance was $2.8 million (five properties), compared to $2.7 million (four properties) at June 30, 2016 and $3.2 million (five properties) at March 31, 2016.


For the Nine Months Ended March 31, 2017 and 2016.   Total non-interest income decreased $2.6 million, or 10 percent, to $23.9 million for the nine months ended March 31, 2017 from $26.5 million for the same period last year.  The decrease was primarily attributable to a decrease in the gain on sale of loans and an increase in the net loss on sale and operations of real estate owned.


The net gain on sale of loans decreased $2.2 million, or 10 percent, to $19.9 million for the first nine months of fiscal 2017 from $22.1 million in the same period of fiscal 2016 reflecting the impact of a lower average loan sale margin, partly offset by a higher loan sale volume.  The average loan sale margin for PBM during the first nine months of fiscal 2017 was 1.37 percent, down 18 basis points from 1.55 percent for the same period of fiscal 2016.  The decrease in the average loan sale margin for the nine months ended March 31, 2017 was primarily attributable to volatility in loan servicing premiums in the cash markets. Additionally, product composition was less favorable with a higher percentage of loan sales comprised of lower margin products. Refinance transactions rose as a percentage of total volume, particularly from the wholesale channel, and volume also consisted of a higher percentage of conventional high balance product. Total loan sale volume was $1.45 billion in the first nine months ended March 31, 2017, up $21.9 million, or two percent, from $1.42 billion in the comparable quarter last year.  The increase in loan sale volume was attributable to the increase in the refinance market as compared to the same period last year. The total refinance loans as percentage of total loans originated by PBM during the first nine months of fiscal 2017 was 52 percent, up from 46 percent in the same period of fiscal 2016. The gain on sale of loans includes an unfavorable fair-value adjustment on derivative financial instruments pursuant to ASC 815 and ASC 825, a net loss of $3.7 million in the first nine months of fiscal 2017 as compared to a favorable fair-value adjustment, a net gain of $284,000, in the same period last year.  


The net loss on sale and operations of real estate owned acquired in the settlement of loans increased $228,000 or 1,900 percent to a net loss of $240,000 in the first nine months of fiscal 2017 from a net loss of $12,000 in the same period last year. Four real estate owned properties were sold in the first nine months of fiscal 2017, compared to six real estate owned properties sold in the same period last year. Five real estate owned properties were acquired in the settlement of loans during the first nine months of fiscal 2017, compared to eight properties acquired in the comparable period last year.


Non-Interest Expense:


For the Quarters Ended March 31, 2017 and 2016.   Total non-interest expense in the quarter ended March 31, 2017 was $13.8 million, a decrease of $717,000, or five percent, as compared to $14.5 million in the quarter ended March 31, 2016.  The decrease in non-interest expense was primarily due to decreases in salaries and employee benefits expenses, professional expenses and other non-interest expenses primarily related to mortgage banking operations.


Total salaries and employee benefits expense decreased $260,000, or two percent, to $10.4 million in the third quarter of fiscal 2017 from $10.6 million in the same period of fiscal 2016.  The decrease was primarily attributable to lower incentive compensation costs related to lower mortgage banking loan originations. Total loan originations and purchases (including loans originated and purchased for investment and loans originated and purchased for sale) decreased $63.6 million, or 14 percent, to $375.9 million in the third quarter of fiscal 2017 from $439.5 million in the comparable quarter of fiscal 2016.


Total professional expenses decreased $147,000, or 25 percent, to $436,000 in the third quarter of fiscal 2017 from $583,000 in the same period of fiscal 2016, primarily due to lower legal expenses.


Total other non-interest expenses decreased $410,000, or 35 percent, to $759,000 in the third quarter of fiscal 2017 from $1.2 million in the same period of fiscal 2016. The decrease was primarily attributable to a $668,000 reversal of loan origination liability accruals recorded in prior periods that were no longer required because the potential exposure was mitigated.


For the Nine Months Ended March 31, 2017 and 2016.   Total non-interest expense in the nine months ended March 31, 2017 was $44.1 million, an increase of $1.4 million as compared to $42.7 million in the same period ended March 31, 2016.  The increase in non-interest expense was primarily due to increases in salaries and employee benefits, premises and occupancy expenses and other non-interest expenses primarily related to mortgage banking operations.



61



Total salaries and employee benefits expense increased $640,000, or two percent, to $32.0 million in the first nine months of fiscal 2017 from $31.4 million in the same period of fiscal 2016.  The increase was primarily attributable to higher incentive compensation costs related to higher mortgage banking loan originations. Total loan originations and purchases (including loans originated and purchased for investment and loans originated and purchased for sale) increased $146.9 million, or 10 percent, to $1.69 billion in the first nine months of fiscal 2017 from $1.54 billion in the comparable period of fiscal 2016.


Total premises and occupancy expenses increased $341,000, or 10 percent, to $3.8 million in the first nine months of fiscal 2017 from $3.4 million in the same period of fiscal 2016. The increase was primarily attributable to the relocation of the retail banking home office.


Total other non-interest expenses increased $603,000, or 17 percent, to $4.1 million in the first nine months of fiscal 2017 from $3.5 million in the same period of fiscal 2016. The increase was primarily attributable to higher expenses related to mortgage banking operations, partly offset by a $414,000 reversal of loan origination liability accruals recorded in the prior fiscal year and no longer required because the potential exposure was mitigated.


Provision for Income Taxes:


The income tax provision reflects accruals for taxes at the applicable rates for federal income tax and California franchise tax based upon reported pre-tax income, adjusted for the effect of all permanent differences between income for tax and financial reporting purposes, such as non-deductible stock-based compensation, bank-owned life insurance policies and certain California tax-exempt loans, among others.  Therefore, there are fluctuations in the effective income tax rate from period to period based on the relationship of net permanent differences to income before tax.


For the Quarters Ended March 31, 2017 and 2016.   The income tax provision was $690,000 for the quarter ended March 31, 2017 as compared to $1.1 million for the same quarter last year as a result of the decrease in income before taxes and a lower effective income tax rate.  The effective income tax rate for the quarter ended March 31, 2017 was 37.6 percent as compared to 41.3 percent in the same quarter last year.  The decrease in the effective tax rate was attributable to the tax effect from stock-based compensation in the third quarter of fiscal 2017. The Corporation believes that the effective income tax rate applied in the third quarter of fiscal 2017 reflects its current income tax obligations.


For the Nine Months Ended March 31, 2017 and 2016.   The income tax provision was $3.0 million for the nine months ended March 31, 2017 as compared to $3.5 million for the same period last year as a result of the decrease in income before taxes.  The effective income tax rate for the nine months ended March 31, 2017 was 41.8 percent as compared to 41.6 percent in the same period last year.  The Corporation believes that the effective income tax rate applied in the first nine months of fiscal 2017 reflects its current income tax obligations.



Asset Quality


Non-performing loans, net of the allowance for loan losses and fair value adjustments, consisting of loans with collateral primarily located in California, decreased $1.4 million, or 14 percent, to $8.9 million at March 31, 2017 from $10.3 million at June 30, 2016.  Non-performing loans as a percentage of loans held for investment improved to 1.01 percent at March 31, 2017 from 1.23 percent at June 30, 2016.  The non-performing loans at March 31, 2017 were primarily comprised of 29 single-family loans ($8.2 million); one multi-family loan ($372,000); one commercial real estate loan ($201,000); one commercial business loan ($68,000); and one consumer loan (fully reserved).  This compares to the $10.3 million of non-performing loans at June 30, 2016 which were primarily comprised of 35 single-family loans ($9.5 million); two multi-family loans ($709,000); one commercial business loan ($76,000); and one consumer loan (fully reserved). No interest accruals were made for loans that were past due 90 days or more or if the loans were deemed non-performing.


As of March 31, 2017, total restructured loans decreased $1.0 million, or 22 percent, to $3.6 million from $4.6 million at June 30, 2016.  At March 31, 2017 and June 30, 2016, $3.6 million and $3.3 million, respectively, of these restructured loans were classified as non-performing.  As of March 31, 2017, $1.3 million, or 38 percent, of the restructured loans have a current payment status, consistent with their modified payment terms; this compares to $1.9 million, or 41 percent, of restructured loans that had a current payment status, consistent with their modified payment terms as of June 30, 2016.


Real estate owned was $2.8 million at March 31, 2017, an increase of $62,000 or two percent from $2.7 million at June 30, 2016.  Real estate owned at March 31, 2017 was comprised of five single-family properties, four located in California and one located in Arizona.  The Corporation has not suspended foreclosure activity at any time through the most recent credit cycle because, to date, the Corporation has not been in a situation where its foreclosure documentation, process or legal standing has


62



been challenged by a court.  The Corporation maintains the original promissory note and deed of trust for loans held for investment.  As a result, the Corporation does not rely on lost-note affidavits to fulfill foreclosure filing requirements.


Non-performing assets, which includes non-performing loans and real estate owned, decreased $1.4 million to $11.6 million or 0.97 percent of total assets at March 31, 2017 from $13.0 million or 1.11 percent of total assets at June 30, 2016.  Restructured loans which are performing in accordance with their modified terms and are not otherwise classified non-accrual are not included in non-performing assets.  For further analysis on non-performing loans and restructured loans, see Note 6 of the Notes to Unaudited Interim Condensed Consolidated Financial Statements.


Occasionally, the Corporation is required to repurchase loans sold to Freddie Mac, Fannie Mae or other institutional investors if it is determined that such loans do not meet the credit requirements of the investor, or if one of the parties involved in the loan misrepresented pertinent facts, committed fraud, or if such loans were 90-days past due within 120 days of the loan funding date. During the first nine months of fiscal 2017, the Corporation repurchased one loan of $389,000 from an investor pursuant to the recourse/repurchase covenants contained in the loan sale agreement which was subsequently paid off.  This compares to the first nine months of fiscal 2016 when the Corporation repurchased seven loans, totaling $1.7 million, from investors pursuant to the recourse/repurchase covenants contained in the loan sale agreements. Additional repurchase requests were settled that did not result in the repurchase of the loan itself.  The primary reasons for honoring the repurchase requests are borrower fraud, undisclosed liabilities on borrower applications, and documentation, verification and appraisal disputes.  For the first nine months of fiscal 2017, the Corporation recorded a recourse recovery of $39,000 and settled claims for $11,000.  This compares to the first nine months of fiscal 2016 when the Corporation had a recourse provision of $152,000 and settled claims for $33,000. As of March 31, 2017, the total recourse reserve for loans sold that are subject to repurchase was $403,000, down from $453,000 at June 30, 2016 and down from $887,000 at March 31, 2016.

Beginning in 2008, in connection with the downturn in the real estate market, the Corporation implemented tighter underwriting standards to reduce potential loan repurchase requests, including requiring higher credit scores, generally lower debt-to-income ratios, and verification of income and assets, among other criteria.  Despite management's diligent estimate of the recourse reserve, the Corporation is still subject to risks and uncertainties associated with potentially higher loan repurchase claims from investors, and there are no assurances that the current recourse reserve will be sufficient to cover all future recourse claims.


The following table shows the summary of the recourse liability for the quarters and nine months ended March 31, 2017 and 2016:

For the Quarters Ended March 31,

 For the Nine Months Ended
March 31,

Recourse Liability

2017

2016

2017

2016

(In Thousands)

Balance, beginning of the period

$

412


$

768


$

453


$

768


(Recovery) provision for recourse liability

(9

)

119


(39

)

152


Net settlements in lieu of loan repurchases

-


-


(11

)

(33

)

Balance, end of the period

$

403


$

887


$

403


$

887



A decline in real estate values subsequent to the time of origination of the Corporation's real estate secured loans could result in higher loan delinquency levels, foreclosures, provisions for loan losses and net charge-offs.  Real estate values and real estate markets are beyond the Corporation's control and are generally affected by changes in national, regional or local economic conditions and other factors.  These factors include fluctuations in interest rates and the availability of loans to potential purchasers, changes in tax laws and other governmental statutes, regulations and policies and acts of nature, such as earthquakes and national disasters particular to California where substantially all of the Corporation's real estate collateral is located.  If real estate values decline from the levels described in the following tables (which were derived at the time of loan origination), the value of the real estate collateral securing the Corporation's loans as set forth in the table could be significantly overstated.  The Corporation's ability to recover on defaulted loans by foreclosing and selling the real estate collateral would then be diminished and it would be more likely to suffer losses on defaulted loans.  The Corporation generally does not update the loan-to-value ratio ("LTV") on its loans held for investment by obtaining new appraisals or broker price opinions (nor does the Corporation intend to do so in the future as a result of the costs and inefficiencies associated with completing the task) unless a specific loan has demonstrated deterioration or the Corporation receives a loan modification request from a borrower (in which case individually evaluated allowances are established, if required).  Therefore, it is reasonable to assume that the LTV ratios disclosed in the following tables may be understated or overstated in comparison to their current LTV ratios as a result of their year of


63



origination, the subsequent general decline or improvement in real estate values that occurred and the specific location of the individual properties.  The Corporation has not quantified the current LTVs of its loans held for investment nor the impact the decline or improvement in real estate values has had on the original LTVs of its loans held for investment.


The following table describes certain credit risk characteristics of the Corporation's single-family, first trust deed, mortgage loans held for investment as of March 31, 2017:

(Dollars In Thousands)

Outstanding

Balance (1)

Weighted-

Average

FICO (2)

Weighted-

Average

LTV (3)

Weighted-

Average

Seasoning (4)

Interest only

$

23,776


734

76%

9.40 years

Stated income (5)

$

111,934


729

63%

11.23 years

FICO less than or equal to 660

$

9,442


645

61%

9.76 years

Over 30-year amortization

$

10,637


728

64%

11.50 years


(1)

The outstanding balance presented on this table may overlap more than one category.  Of the outstanding balance, $451,000 of "interest only," $5.9 million of "stated income," $350,000 of "FICO less than or equal to 660," and $221,000 of "over 30-year amortization" balances were non-performing.

(2)

Based on borrower's FICO scores at the time of loan origination.  The FICO score represents the creditworthiness of a borrower based on the borrower's credit history, as reported by an independent third party.  A higher FICO score indicates a greater degree of creditworthiness.  Bank regulators have issued guidance stating that a FICO score of 660 and below is indicative of a "subprime" borrower.

(3)

LTV is the ratio derived by dividing the current loan balance by the lower of the original appraised value or purchase price of the real estate collateral.

(4)

Seasoning describes the number of years since the funding date of the loan.

(5)

Stated income is defined as borrower stated income on his/her loan application which was not subject to verification during the loan origination process.


The following table summarizes the amortization schedule of the Corporation's interest only single-family, first trust deed, mortgage loans held for investment, including the percentage of those which are identified as non-performing or 30 – 89 days delinquent as of March 31, 2017:

(Dollars In Thousands)

Balance

Non-Performing (1)

30 - 89 Days

Delinquent (1)

Fully amortize in the next 12 months

$

18,613


2%

-%

Fully amortize between 1 year and 5 years

5,163


-%

-%

Fully amortize after 5 years

-


-%

-%

Total

$

23,776


2%

-%


(1)

As a percentage of each category.


The following table summarizes the interest rate reset (repricing) schedule of the Corporation's stated income single-family, first trust deed, mortgage loans held for investment, including the percentage of those which are identified as non-performing or 30 – 89 days delinquent as of March 31, 2017:

(Dollars In Thousands)

Balance (1)


Non-Performing (1)

30 - 89 Days

Delinquent (1)

Interest rate reset in the next 12 months

$

109,731


5%

-%

Interest rate reset between 1 year and 5 years

2,203


-%

-%

Interest rate reset after 5 years

-


-%

-%

Total

$

111,934


5%

-%


(1)

As a percentage of each category.  Also, the loan balances and percentages on this table may overlap with the interest only single-family, first trust deed, mortgage loans held for investment table.


The reset of payment terms on adjustable rate mortgage loans (primarily interest only single-family loans) to a fully amortizing status from their interest-only period has started to accelerate and may create a payment shock for some of the Corporation's


64



borrowers as the loans adjust to a higher monthly payment consisting of both principal and interest, which may result in an increase in non-performing loans. To date, the Corporation has not experienced an elevated level of delinquencies or defaults related to payment shocks.

The following table describes certain credit risk characteristics, geographic locations and the calendar year of loan origination of the Corporation's single-family, first trust deed, mortgage loans held for investment, at March 31, 2017:

Calendar Year of Origination

(Dollars In Thousands)

2009 &
Prior


2010


2011


2012


2013


2014


2015


2016

YTD
2017


Total

Loan balance (in thousands)

$195,502

$118

$982

$3,203

$2,815

$12,844

$15,455

$49,305

$26,902

$307,126

Weighted-average LTV (1)

64%

67%

62%

57%

45%

67%

69%

67%

74%

65%

Weighted-average age (in years)

11.28

6.37

5.67

4.68

3.75

2.66

1.79

0.75

0.07

7.61

Weighted-average FICO (2)

730

700

711

742

756

746

740

746

750

736

Number of loans

623

1

4

15

22

29

22

83

40

839

Geographic breakdown (%)

Inland Empire

32%

100%

58%

11%

43%

49%

21%

25%

23%

30%

Southern California (3)

55%

-%

42%

37%

28%

24%

51%

44%

61%

52%

Other California (4)

12%

-%

-%

52%

29%

27%

28%

31%

16%

18%

Other States

1%

-%

-%

-%

-%

-%

-%

-%

-%

-%

Total

100%

100%

100%

100%

100%

100%

100%

100%

100%

100%


(1)

LTV is the ratio derived by dividing the current loan balance by the lower of the original appraised value or purchase price of the real estate collateral.

(2)

At time of loan origination.

(3)

Other than the Inland Empire.

(4)

Other than the Inland Empire and Southern California.



65



The following table describes certain credit risk characteristics, geographic locations and the calendar year of loan origination of the Corporation's multi-family loans held for investment, at March 31, 2017:

Calendar Year of Origination

(Dollars In Thousands)

2009 &
Prior


2010


2011


2012


2013


2014


2015


2016

YTD
2017


Total

Loan balance (in thousands)

$28,071

$-

$6,862

$21,618

$71,783

$82,859

$87,376

$138,367

$22,244

$459,180

Weighted-average LTV (1)

44%

-%

53%

52%

54%

54%

54%

49%

60%

52%

Weighted-average DCR (2)

1.54x

-

1.57x

1.75x

1.68x

1.66x

1.62x

1.67x

1.59x

1.65x

Weighted-average age (in years)

11.64

-

5.49

4.57

3.65

2.71

1.74

0.74

0.09

2.63

Weighted-average FICO (3)

693

-

768

722

763

765

757

756

762

753

Number of loans

60

-

9

24

97

101

127

155

30

603

Geographic breakdown (%)

Inland Empire

29%

-%

7%

16%

31%

12%

17%

9%

10%

16%

Southern California (4)

53%

-%

78%

50%

49%

54%

64%

66%

81%

60%

Other California (5)

8%

-%

15%

34%

20%

34%

19%

25%

9%

23%

Other States

10%

-%

-%

-%

-%

-%

-%

-%

-%

1%

Total

100%

-%

100%

100%

100%

100%

100%

100%

100%

100%


(1)

LTV is the ratio derived by dividing the current loan balance by the lower of the original appraised value or purchase price of the real estate collateral.

(2)

Debt Coverage Ratio ("DCR") at time of origination.

(3)

At time of loan origination.

(4)

Other than the Inland Empire.

(5)

Other than the Inland Empire and Southern California.


The following table summarizes the interest rate reset or maturity schedule of the Corporation's multi-family loans held for investment, including the percentage of those which are identified as non-performing, 30 – 89 days delinquent or not fully amortizing as of March 31, 2017:

(Dollars In Thousands)

Balance

Non-

Performing (1)

30 - 89 Days

Delinquent

Percentage

Not Fully

Amortizing (1)

Interest rate reset or mature in the next 12 months

$

84,857


-%

-%

9%

Interest rate reset or mature between 1 year and 5 years

350,450


-%

-%

5%

Interest rate reset or mature after 5 years

23,873


-%

-%

-%

Total

$

459,180


-%

-%

5%


(1)

As a percentage of each category.



66



The following table describes certain credit risk characteristics, geographic locations and the calendar year of loan origination of the Corporation's commercial real estate loans held for investment, at March 31, 2017:

Calendar Year of Origination

(Dollars In Thousands)

2009 &
Prior


2010


2011


2012


2013


2014


2015


2016

YTD
2017

Total (5)(6)

Loan balance (in thousands)

$2,952

$344

$-

$12,959

$13,737

$22,613

$22,320

$18,254

$3,185

$96,364

Weighted-average LTV (1)

45%

54%

-%

48%

46%

45%

42%

51%

42%

46%

Weighted-average DCR (2)

1.47x

1.25x

-

1.89x

1.70x

1.94x

1.79x

1.58x

1.88x

1.78x

Weighted-average age (in years)

12.74

6.85

-

4.49

3.69

2.65

1.71

0.85

0.19

2.73

Weighted-average FICO (2)

696

703

-

752

759

756

755

759

778

755

Number of loans

8

2

-

11

19

28

28

24

4

124

Geographic breakdown (%):

Inland Empire

87%

50%

-%

74%

26%

36%

28%

11%

31%

35%

Southern California (3)

13%

50%

-%

26%

45%

45%

32%

63%

31%

41%

Other California (4)

-%

-%

-%

-%

29%

19%

40%

26%

38%

24%

Other States

-%

-%

-%

-%

-%

-%

-%

-%

-%

-%

Total

100%

100%

-%

100%

100%

100%

100%

100%

100%

100%


(1)

LTV is the ratio derived by dividing the current loan balance by the lower of the original appraised value or purchase price of the real estate collateral.

(2)

At time of loan origination.

(3)

Other than the Inland Empire.

(4)

Other than the Inland Empire and Southern California.

(5)

Comprised of the following: $39.1 million in Mixed Use; $14.7 million in Retail; $11.6 million in Office; $9.9 million in Mobile Home Parks; $6.0 million in Warehouse; $5.0 million in Medical/Dental Office; $4.1 million in Mini-Storage; $2.7 million in Restaurant/Fast Food; $1.7 million in Light Industrial/Manufacturing and $1.6 million in Automotive – Non Gasoline.

(6)

Consisting of $88.9 million or 92.3 percent in investment properties and $7.5 million or 7.7 percent in owner occupied properties.


The following table summarizes the interest rate reset or maturity schedule of the Corporation's commercial real estate loans held for investment, including the percentage of those which are identified as non-performing, 30 – 89 days delinquent or not fully amortizing as of March 31, 2017:

(Dollars In Thousands)

Balance

Non-

Performing (1)

30 - 89 Days

Delinquent

Percentage

Not Fully

Amortizing (1)

Interest rate reset or mature in the next 12 months

$

22,414


1%

-%

72%

Interest rate reset or mature between 1 year and 5 years

73,950


-%

-%

88%

Interest rate reset or mature after 5 years

-


-%

-%

-%

Total

$

96,364


-%

-%

84%


(1)

As a percentage of each category.



67



The following table sets forth information with respect to the Corporation's non-performing assets, net of allowance for loan losses and fair value adjustments, at the dates indicated:

(In Thousands)

At March 31,
2017

At June 30,
2016

Loans on non-accrual status (excluding restructured loans):

Mortgage loans:

Single-family

$

4,704


$

6,292


Multi-family

372


709


Commercial real estate

201


-


Total

5,277


7,001


Accruing loans past due 90 days or more

-


-


Restructured loans on non-accrual status:

Mortgage loans:

Single-family

3,507


3,232


Commercial business loans

68


76


Total

3,575


3,308


Total non-performing loans

8,852


10,309


Real estate owned, net

2,768


2,706


Total non-performing assets

$

11,620


$

13,015


Non-performing loans as a percentage of loans held for investment, net

   of allowance for loan losses

1.01

%

1.23

%

Non-performing loans as a percentage of total assets

0.74

%

0.88

%

Non-performing assets as a percentage of total assets

0.97

%

1.11

%


The following table describes the non-performing loans, net of allowance for loan losses and fair value adjustments, by the calendar year of origination as of March 31, 2017:

Calendar Year of Origination

(In Thousands)

2009 &
Prior


2010


2011


2012


2013


2014


2015


2016

YTD
2017


Total

Mortgage loans:

Single-family

$

8,122


$

-


$

-


$

89


$

-


$

-


$

-


$

-


$

-


$

8,211


Multi-family

372


-


-


-


-


-


-


-


-


372


Commercial real estate

201


-


-


-


-


-


-


-


-


201


Commercial business loans

68


-


-


-


-


-


-


-


-


68


Total

$

8,763


$

-


$

-


$

89


$

-


$

-


$

-


$

-


$

-


$

8,852




68



The following table describes the non-performing loans, net of allowance for loan losses and fair value adjustments, by the geographic location as of March 31, 2017:

(In Thousands)

Inland Empire

Southern

California (1)

Other

California (2)

Other States

Total

Mortgage loans:

Single-family

$

2,660


$

3,957


$

1,594


$

-


$

8,211


Multi-family

-


-


-


372


372


Commercial real estate

201


-


-


-


201


Commercial business loans

-


68


-


-


68


Total

$

2,861


$

4,025


$

1,594


$

372


$

8,852



(1)

Other than the Inland Empire.

(2)

Other than the Inland Empire and Southern California.


The following table summarizes classified assets, which is comprised of classified loans, net of allowance for loan losses and fair value adjustments, and real estate owned at the dates indicated:

At March 31,
2017

At June 30,
2016

(Dollars In Thousands)

Balance

Count

Balance

Count

Special mention loans:

Mortgage loans:

Single-family

$

3,816


10


$

4,896


14


Multi-family

3,265


3


3,974


4


Total special mention loans

7,081


13


8,870


18


Substandard loans:

Mortgage loans:

Single-family

8,211


31


9,524


37


Multi-family

372


1


709


2


Commercial real estate

201


1


-


-


Commercial business loans

68


1


76


1


Consumer loans

-


1


-


1


Total substandard loans

8,852


35


10,309


41


Total classified loans

15,933


48


19,179


59


Real estate owned:

Single-family

2,768


5


2,706


4


Total real estate owned

2,768


5


2,706


4


Total classified assets

$

18,701


53


$

21,885


63





69



Loan Volume Activities


The following table is provided to disclose details related to the volume of loans originated, purchased and sold for the quarters and nine months indicated:

For the Quarters Ended
March 31,

For the Nine Months Ended
March 31,

(In Thousands)

2017

2016

2017

2016

Loans originated and purchased for sale:

Retail originations

$

185,668


$

214,294


$

769,495


$

737,681


Wholesale originations and purchases

132,241


178,585


737,667


667,990


        Total loans originated and purchased for sale (1)

317,909


392,879


1,507,162


1,405,671


Loans sold:

Servicing released

(363,443

)

(376,291

)

(1,547,435

)

(1,403,456

)

Servicing retained

(6,074

)

(7,356

)

(28,895

)

(39,621

)

        Total loans sold (2)

(369,517

)

(383,647

)

(1,576,330

)

(1,443,077

)

Loans originated for investment:

Mortgage loans:

Single-family

19,480


13,244


49,236


25,862


Multi-family

22,306


23,869


56,765


70,637


Commercial real estate

3,196


5,303


8,044


15,417


Construction

3,017


4,183


6,313


9,273


Other

-


-


-


72


Commercial business loans

45


-


45


-


Consumer loans

-


-


1


-


        Total loans originated for investment   (3)

48,044


46,599


120,404


121,261


Loans purchased for investment:

Mortgage loans:

Single-family

9,989


-


19,516


2,142


Multi-family

-


-


39,764


8,868


Commercial real estate

-


-


-


1,950


Total loans purchased for investment (3)

9,989


-


59,280


12,960


Mortgage loan principal payments

(46,225

)

(56,315

)

(151,489

)

(139,904

)

Real estate acquired in settlement of loans

(547

)

(852

)

(1,845

)

(5,083

)

Increase (decrease) in other items, net (4)

1,576


1,042


(621

)

(1,185

)

Net decrease in loans held for investment and loans held for sale at fair value

$

(38,771

)

$

(294

)

$

(43,439

)

$

(49,357

)


(1)

Includes PBM loans originated and purchased for sale during the quarters and nine months ended March 31, 2017 and 2016 totaling $317.9 million, $392.9 million, $1.51 billion and $1.41 billion, respectively.

(2)

Includes PBM loans sold during the quarters and nine months ended March 31, 2017 and 2016 totaling $369.5 million, $383.6 million, $1.58 billion and $1.44 billion, respectively.

(3)

Includes PBM loans originated and purchased for investment during the quarters and nine months ended March 31, 2017 and 2016 totaling $18.7 million, $11.6 million, $45.5 million and $24.9 million, respectively.

(4)

Includes net changes in undisbursed loan funds, deferred loan fees or costs, allowance for loan losses, fair vale of loans held for investment, fair value of loans held for sale, advance payments of escrows and repurchases.



70



Loans that the Corporation has originated for sale are primarily sold on a servicing released basis.  Clear ownership is conveyed to the investor by endorsing the original note in favor of the investor; transferring the servicing to a new servicer consistent with investor instructions; communicating the servicing transfer to the borrower as required by law; and sending the loan file and collateral instruments electronically to the investor contemporaneous with receiving the cash proceeds from the sale of the loan.  Additionally, the Corporation registers the change of ownership in the mortgage electronic registration system known as MERS as required by the contractual terms of the loan sale agreement.  The Corporation does not believe that completing this additional registration clouds ownership of the note since the steps previously described have also been taken.  Also, the Corporation retains an imaged copy of the entire loan file and collateral instruments as an abundance of caution in the event questions arise that can only be answered by reviewing the loan file.  Additionally, the Corporation does not originate or sponsor mortgage-backed securities.



Liquidity and Capital Resources


The Corporation's primary sources of funds are deposits, proceeds from the sale of loans originated and purchased for sale, proceeds from principal and interest payments on loans, proceeds from the maturity and sale of investment securities, FHLB – San Francisco advances, access to the discount window facility at the Federal Reserve Bank of San Francisco and access to a federal funds facility with its correspondent bank.  While maturities and scheduled amortization of loans and investment securities are a relatively predictable source of funds, deposit flows, mortgage prepayments and loan sales are greatly influenced by general interest rates, economic conditions and competition.


The primary investing activity of the Corporation is the origination and purchase of loans held for investment and loans held for sale.  During the first nine months of fiscal 2017 and 2016, the Corporation originated and purchased $1.69 billion and $1.54 billion of loans, respectively.  The total loans sold in the first nine months of fiscal 2017 and 2016 were $1.58 billion and $1.44 billion, respectively.  At March 31, 2017, the Corporation had loan origination commitments totaling $138.2 million, undisbursed lines of credit totaling $1.2 million and undisbursed construction loan funds totaling $9.5 million.  The Corporation anticipates that it will have sufficient funds available to meet its current loan commitments.


The Corporation's primary financing activity is gathering deposits.  During the first nine months of fiscal 2017, the net increase in deposits was $11.9 million, primarily due to the increase in transaction accounts, partly offset by non-renewing scheduled maturities in time deposits. The increase in transaction accounts and the decrease in time deposits were consistent with the Corporation's operating strategy. As of March 31, 2017, total deposits were $938.3 million. At March 31, 2017, time deposits scheduled to mature in one year or less were $130.7 million and total time deposits with a principal amount of $100,000 or higher were $139.6 million.   Historically, the Corporation has been able to retain a significant percentage of its time deposits as they mature by adjusting deposit rates to the current interest rate environment.


The Corporation must maintain an adequate level of liquidity to ensure the availability of sufficient funds to support loan growth and deposit withdrawals, to satisfy financial commitments and to take advantage of investment opportunities.  The Corporation generally maintains sufficient cash and cash equivalents to meet short-term liquidity needs.  At March 31, 2017, total cash and cash equivalents were $125.3 million, or 10 percent of total assets.  Depending on market conditions and the pricing of deposit products and FHLB – San Francisco advances, the Bank may rely on FHLB – San Francisco advances for part of its liquidity needs.  As of March 31, 2017, total borrowings were $111.2 million and the financing availability at FHLB – San Francisco was limited to 35 percent of total assets; the remaining borrowing facility was $296.5 million and the remaining available collateral was $494.4 million.  In addition, the Bank has secured a $45.8 million discount window facility at the Federal Reserve Bank of San Francisco, collateralized by investment securities with a fair market value of $48.8 million.  As of March 31, 2017, the Bank also has a borrowing arrangement in the form of a federal funds facility with its correspondent bank for $17.0 million that matures on June 30, 2017 which the Bank intends to renew upon maturity. The Bank had no advances under its correspondent bank or discount window facility as of March 31, 2017.


Regulations require thrifts to maintain adequate liquidity to assure safe and sound operations. The Bank's average liquidity ratio (defined as the ratio of average qualifying liquid assets to average deposits and borrowings) for the quarter ended March 31, 2017 decreased to 25.9 percent from 31.2 percent for the quarter ended June 30, 2016.


The Bank, as a federally-chartered, federally insured savings bank, is subject to the capital requirements established by the OCC. Under the OCC's capital adequacy guidelines and the regulatory framework for prompt corrective action, the Bank must meet specific capital guidelines that involve quantitative measures of the Bank's assets, liabilities and certain off-balance-sheet items as calculated under regulatory accounting practices. The Bank's capital amounts and classification are also subject to qualitative judgments by the regulators about components, risk weighting and other factors. In addition, Provident Financial Holdings, Inc.


71



as a savings and loan holding company registered with the FRB, is required by the FRB to maintain capital adequacy that generally parallels the OCC requirements.


At March 31, 2017, Provident Financial Holdings, Inc. and the Bank each exceeded all regulatory capital requirements. The Bank was categorized "well-capitalized" at March 31, 2017 under the regulations of the OCC.


Provident Financial Holdings, Inc. and the Bank's actual and required minimum capital amounts and ratios at the dates indicated are as follows (dollars in thousands):

Regulatory Requirements

Actual

Minimum for Capital

Adequacy Purposes

Minimum to Be

Well Capitalized

Amount

Ratio

Amount

Ratio

Amount

Ratio

Provident Financial Holdings, Inc.:

As of March 31, 2017

Tier 1 leverage capital (to adjusted average assets)

$

131,296

11.07

%

$

47,455

4.00

%

$

59,318

5.00

%

Common Equity Tier 1 ("CET1") capital (to risk-

  weighted assets)

$

131,296

18.20

%

$

41,490

5.75

%

$

46,902

6.50

%

Tier 1 capital (to risk-weighted assets)

$

131,296

18.20

%

$

52,314

7.25

%

$

57,725

8.00

%

Total capital (to risk-weighted assets)

$

139,811

19.38

%

$

66,745

9.25

%

$

72,157

10.00

%

As of June 30, 2016

Tier 1 leverage capital (to adjusted assets)

$

133,081

11.40

%

$

46,706

4.00

%

$

58,382

5.00

%

CET1 capital (to risk-weighted assets)

$

133,081

17.89

%

$

38,117

5.13

%

$

48,343

6.50

%

Tier 1 capital (to risk-weighted assets)

$

133,081

17.89

%

$

49,273

6.63

%

$

59,500

8.00

%

Total capital (to risk-weighted assets)

$

141,955

19.09

%

$

64,148

8.63

%

$

74,375

10.00

%

Provident Savings Bank, F.S.B.:

As of March 31, 2017

Tier 1 leverage capital (to adjusted average assets)

$

116,126

9.79

%

$

47,455

4.00

%

$

59,318

5.00

%

CET1 capital (to risk-weighted assets)

$

116,126

16.10

%

$

41,482

5.75

%

$

46,893

6.50

%

Tier 1 capital (to risk-weighted assets)

$

116,126

16.10

%

$

52,304

7.25

%

$

57,715

8.00

%

Total capital (to risk-weighted assets)

$

124,641

17.28

%

$

66,733

9.25

%

$

72,143

10.00

%

As of June 30, 2016

Tier 1 leverage capital (to adjusted assets)

$

120,192

10.29

%


$

46,706

4.00

%


$

58,382

5.00

%

CET1 capital (to risk-weighted assets)

$

120,192

16.16

%


$

38,112

5.13

%


$

48,337

6.50

%

Tier 1 capital (to risk-weighted assets)

$

120,192

16.16

%


$

49,266

6.63

%


$

59,491

8.00

%

Total capital (to risk-weighted assets)

$

129,066

17.36

%


$

64,139

8.63

%


$

74,364

10.00

%


In addition to the minimum CET1, Tier 1 and total capital ratios, Provident Financial Holdings, Inc. and the Bank will have to maintain a capital conservation buffer consisting of additional CET1 capital above the required minimum levels in order to avoid limitations on paying dividends, engaging in share repurchases, and paying discretionary bonuses based on percentages of eligible retained income that could be utilized for such actions. This new requirement began to be phased in on January 1, 2016 at 0.625 percent of risk-weighted assets and will increase each year to an amount equal to 2.5 percent of risk-weighted assets when fully implemented in January 2019.


The ability of the Corporation to pay dividends to stockholders depends primarily on the ability of the Bank to pay dividends to the Corporation.  The Bank may not declare or pay a cash dividend if the effect thereof would cause its net worth to be reduced below the regulatory capital requirements imposed by federal regulation.  In the first nine months of fiscal 2017, the Bank paid a cash dividend of $10.0 million to the Corporation; while the Corporation paid $3.1 million of cash dividends to its shareholders.



72




Supplemental Information

At
March 31,
2017

At
June 30,
2016

At
March 31,
2016

Loans serviced for others (in thousands)

$116,171

$105,469

$104,947

Book value per share

$16.69

$16.73

$16.54



ITEM 3 – Quantitative and Qualitative Disclosures about Market Risk.


One of the Corporation's principal financial objectives is to achieve long-term profitability while reducing its exposure to fluctuating interest rates.  The Corporation has sought to reduce the exposure of its earnings to changes in interest rates by attempting to manage the repricing mismatch between interest-earning assets and interest-bearing liabilities.  The principal element in achieving this objective is to increase the interest-rate sensitivity of the Corporation's interest-earning assets by retaining for its portfolio new loan originations with interest rates subject to periodic adjustment to market conditions and by selling fixed-rate, single-family mortgage loans.  In addition, the Corporation maintains an investment portfolio, which is largely in U.S. government agency MBS and U.S. government sponsored enterprise MBS with contractual maturities of up to 30 years that reprice frequently or have a relatively short-average life.  The Corporation relies on retail deposits as its primary source of funds while utilizing FHLB – San Francisco advances as a secondary source of funding.  Management believes retail deposits, unlike brokered deposits, reduces the effects of interest rate fluctuations because they generally represent a more stable source of funds.  As part of its interest rate risk management strategy, the Corporation promotes transaction accounts and time deposits with terms up to seven years.


Through the use of an internal interest rate risk model, the Corporation is able to analyze its interest rate risk exposure by measuring the change in net portfolio value ("NPV") over a variety of interest rate scenarios.  NPV is defined as the net present value of expected future cash flows from assets, liabilities and off-balance sheet contracts.  The calculation is intended to illustrate the change in NPV that would occur in the event of an immediate change in interest rates of -100, +100, +200, +300 and +400 basis points ("bp") with no effect given to steps that management might take to counter the effect of the interest rate movement. The current federal funds rate is 1.00 percent making an immediate change of -200 and -300 basis points improbable.


The following table is derived from the internal interest rate risk model and represents the NPV based on the indicated changes in interest rates as of March 31, 2017 (dollars in thousands).

Basis Points ("bp")

Change in Rates

Net

Portfolio

Value

NPV

Change (1)

Portfolio

Value of

Assets

NPV as Percentage

of Portfolio Value

Assets (2)

Sensitivity

Measure (3)

+400 bp

$

269,478


$

135,003


$

1,323,781


20.36%

+934 bp

+300 bp

$

242,867


$

108,392


$

1,304,215


18.62%

+760 bp

+200 bp

$

212,576


$

78,101


$

1,281,291


16.59%

+557 bp

+100 bp

$

176,686


$

42,211


$

1,253,724


14.09%

+307 bp

      0 bp

$

134,475


$

-


$

1,220,431


11.02%

0 bp

-100 bp

$

116,005


$

(18,470

)

$

1,206,953


9.61%

-141 bp


(1)

Represents the increase (decrease) of the NPV at the indicated interest rate change in comparison to the NPV at March 31, 2017 ("base case").

(2)

Derived as the NPV divided by the portfolio value of total assets.

(3)

Derived as the change in the NPV ratio from the base case amount assuming the indicated change in interest rates (expressed in basis points).



73



The following table is derived from the internal interest rate risk model and represents the change in the NPV at a -100 basis point rate shock at March 31, 2017 and June 30, 2016.

At March 31, 2017

At June 30, 2016

(-100 bp rate shock)

(-100 bp rate shock)

Pre-Shock NPV Ratio: NPV as a % of PV Assets

11.02%

13.28%

Post-Shock NPV Ratio: NPV as a % of PV Assets

9.61%

11.59%

Sensitivity Measure: Change in NPV Ratio

-141 bp

-169 bp


The pre-shock NPV ratio declined 226 basis points to 11.02 percent at March 31, 2017 from 13.28 percent at June 30, 2016 and the post-shock NPV ratio declined 198 basis points to 9.61 percent at March 31, 2017 from 11.59 percent at June 30, 2016. The decline of the NPV ratios was primarily attributable to a $10.0 million cash dividend distribution from the Bank to the Corporation in September 2016 and the periodic and routine changes in the interest rate risk model during the third quarter of fiscal 2017 reflecting adjustments for the current market conditions, partly offset by the net income in the first nine months of fiscal 2017.


As with any method of measuring interest rate risk, certain shortcomings are inherent in the method of analysis presented in the foregoing tables.  For example, although certain assets and liabilities may have similar maturities or periods to repricing, they may react in different degrees to changes in market interest rates.  Also, the interest rates on certain types of assets and liabilities may fluctuate in advance of changes in market interest rates, while interest rates on other types of assets and liabilities may lag behind changes in market interest rates.  Additionally, certain assets, such as ARM loans, have features that restrict changes in interest rates on a short-term basis and over the life of the asset.  Further, in the event of a change in interest rates, expected rates of prepayments on loans and early withdrawals from time deposits could likely deviate significantly from those assumed when calculating the results described in the tables above.  It is also possible that, as a result of an interest rate increase, the higher mortgage payments required from ARM borrowers could result in an increase in delinquencies and defaults.  Changes in market interest rates may also affect the volume and profitability of the Corporation's mortgage banking operations.  Accordingly, the data presented in the tables in this section should not be relied upon as indicative of actual results in the event of changes in interest rates.  Furthermore, the NPV presented in the foregoing tables is not intended to present the fair market value of the Corporation, nor does it represent amounts that would be available for distribution to shareholders in the event of the liquidation of the Corporation.


The Corporation also models the sensitivity of net interest income for the 12-month period subsequent to any given month-end assuming a dynamic balance sheet (accounting for the Corporation's current balance sheet, 12-month business plan, embedded options, rate floors, periodic caps, lifetime caps, and loan, investment, deposit and borrowing cash flows, among others), and immediate, permanent and parallel movements in interest rates of plus 400, 300, 200 and 100 and minus 100 basis points.  The following table describes the results of the analysis at March 31, 2017 and June 30, 2016.

At March 31, 2017

At June 30, 2016

Basis Point (bp)

Change in Rates

Change in

Net Interest Income

Basis Point (bp)

Change in Rates

Change in

Net Interest Income

+400 bp

17.38%

+400 bp

(5.20)%

+300 bp

13.93%

+300 bp

4.00%

+200 bp

10.28%

+200 bp

2.05%

+100 bp

5.75%

+100 bp

(1.48)%

-100 bp

(8.22)%

-100 bp

(16.10)%


At both March 31, 2017 and June 30, 2016, the Corporation was asset sensitive as its interest-earning assets are expected to reprice more quickly than its interest-bearing liabilities during the subsequent 12-month period.  Therefore at March 31, 2017, in a rising interest rate environment, the model projects an increase in net interest income over the subsequent 12-month period, except under plus 100 basis point and plus 400 basis point scenarios at June 30, 2016.  In a falling interest rate environment, the results project a decrease in net interest income over the subsequent 12-month period.


Management believes that the assumptions used to complete the analysis described in the table above are reasonable.  However, past experience has shown that immediate, permanent and parallel movements in interest rates will not necessarily occur.  Additionally, while the analysis provides a tool to evaluate the projected net interest income to changes in interest rates, actual results may be substantially different if actual experience differs from the assumptions used to complete the analysis, particularly with respect to the 12-month business plan when asset growth is forecast.  Therefore, the model results that the


74



Corporation discloses should be thought of as a risk management tool to compare the trends of the Corporation's current disclosure to previous disclosures, over time, within the context of the actual performance of the treasury yield curve.



ITEM 4 – Controls and Procedures.


a) An evaluation of the Corporation's disclosure controls and procedures (as defined in Section 13a-15(e) or 15d-15(e) of the Securities Exchange Act of 1934 (the "Act")) was carried out under the supervision and with the participation of the Corporation's Chief Executive Officer, Chief Financial Officer and the Corporation's Disclosure Committee as of the end of the period covered by this quarterly report.  In designing and evaluating the Corporation's disclosure controls and procedures, management recognizes that disclosure controls and procedures, no matter how well conceived and operated, can provide only reasonable, not absolute, assurance that the objectives of the disclosure controls and procedures are met.  Also, because of the inherent limitations in all control procedures, no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, within the Corporation have been detected.  Additionally, in designing disclosure controls and procedures, management necessarily was required to apply its judgment in evaluating the cost-benefit relationship of possible disclosure controls and procedures. The design of any disclosure controls and procedures is also based in part upon certain assumptions about the likelihood of future events, and there can be no assurance that any design will succeed in achieving its stated goals under all potential future conditions.  Based on their evaluation, the Corporation's Chief Executive Officer and Chief Financial Officer concluded that the Corporation's disclosure controls and procedures as of March 31, 2017 are effective, at the reasonable assurance level, in ensuring that the information required to be disclosed by the Corporation in the reports it files or submits under the Act is (i) accumulated and communicated to the Corporation's management (including the Chief Executive Officer and Chief Financial Officer) in a timely manner, and (ii) recorded, processed, summarized and reported within the time periods specified in the SEC's rules and forms.


b) There have been no changes in the Corporation's internal control over financial reporting (as defined in Rule 13a-15(f) of the Act) that occurred during the quarter ended March 31, 2017, that has materially affected, or is reasonably likely to materially affect, the Corporation's internal control over financial reporting.  The Corporation does not expect that its internal control over financial reporting will prevent all error and all fraud.  A control procedure, no matter how well conceived and operated, can provide only reasonable, not absolute, assurance that the objectives of the control procedure are met.  Because of the inherent limitations in all control procedures, no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, within the Corporation have been detected.  These inherent limitations include the realities that judgments in decision-making can be faulty, and that breakdowns can occur because of simple error or mistake.  Additionally, controls can be circumvented by the individual acts of some persons, by collusion of two or more people, or by management override of the control.  The design of any control procedure is also based in part upon certain assumptions about the likelihood of future events, and there can be no assurance that any design will succeed in achieving its stated goals under all potential future conditions; over time, controls may become inadequate because of changes in conditions, or the degree of compliance with the policies or procedures may deteriorate.  Because of the inherent limitations in a cost-effective control procedure, misstatements due to error or fraud may occur and not be detected.



PART II – OTHER INFORMATION


Item 1.  Legal Proceedings.


From time to time, the Corporation or its subsidiaries are engaged in legal proceedings in the ordinary course of business, none of which are currently considered to have a material impact on the Corporation's financial position or results of operations, except as previously disclosed in Part I, Item 3 of the Corporation's Annual Report on Form 10-K for the year ended June 30, 2016.



Item 1A.  Risk Factors.


There have been no material changes in the risk factors previously disclosed in Part I, Item 1A of the Corporation's Annual Report on Form 10-K for the year ended June 30, 2016.




75



Item 2.  Unregistered Sales of Equity Securities and Use of Proceeds.


The table below represents the Corporation's purchases of its equity securities for the third quarter of fiscal 2017.

Period

(a) Total

Number of

Shares Purchased

(b) Average

Price Paid

per Share

(c) Total Number of

Shares Purchased as

Part of Publicly

Announced Plan

(d) Maximum

Number of Shares

that May Yet Be

Purchased Under the

Plan (1)

January 1 – 31, 2017

25,400


$

18.63


25,400


253,914


February 1 – 28, 2017

10,439


18.48


10,439


243,475


March 1 – 31, 2017

53,980


18.74


53,980


189,495


Total

89,819


$

18.68


89,819


189,495



(1)

Represents the remaining shares available for future purchases under the May 2016 stock repurchase plan.


During the quarter ended March 31, 2017, the Corporation purchased 89,819 shares of the Corporation's common stock at an average cost of $18.68 per share. For the nine months ended March 31, 2017, the Corporation purchased 261,453 shares of the Corporation's common stock at an average cost of $19.12 per share, including the repurchase of 25,598 shares of distributed restricted stock at an average cost of $19.56 per share to cover employee withholding tax obligations, consistent with the distribution. As of March 31, 2017, a total of 207,505 shares or 52 percent of the shares authorized in the May 2016 stock repurchase plan have been purchased at an average cost of $19.04 per share, leaving 189,495 shares available for future purchases. During the quarter and nine months ended March 31, 2017, the Corporation did not sell any securities that were not registered under the Securities Act of 1933.


The Corporation is subject to regulatory capital requirements adopted by the Federal Reserve Board, which generally are the same as the capital requirements for the Bank. These capital requirements include provisions that limit the ability of the Corporation to pay dividends to its stockholders or repurchase its shares.



Item 3.  Defaults Upon Senior Securities.


Not applicable.



Item 4.  Mine Safety Disclosures.


Not applicable.



Item 5.  Other Information.


Not applicable.



Item 6.  Exhibits.


Exhibits:     

3.1 (a)

Certificate of Incorporation of Provident Financial Holdings, Inc. (incorporated by reference to Exhibit 3.1 to the Corporation's Registration Statement on Form S-1 (File No. 333-2230))

3.1 (b)

Certificate of Amendment to Certificate of Incorporation of Provident Financial Holdings, Inc. as filed with the Delaware Secretary of State on November 24, 2009 (incorporated by reference to Exhibit 3.1 to the Corporation's Quarterly Report on Form 10-Q filed on November 9, 2010)

3.1 (c)

Amended and Restated Bylaws of Provident Financial Holdings, Inc. (incorporated by reference to Exhibit 3.1 to the Corporation's Current Report on Form 8-K filed on December 1, 2014)


76



10.1

Employment Agreement with Craig G. Blunden (incorporated by reference to Exhibit 10.1 to the Corporation's Form 8-K dated December 19, 2005)

10.2

Post-Retirement Compensation Agreement with Craig G. Blunden (incorporated by reference to Exhibit 10.2 to the Corporation's Form 8-K dated December 19, 2005)

10.3

Post-Retirement Compensation Agreement with Donavon P. Ternes (incorporated by reference to Exhibit 10.13 to the Corporation's Form 8-K dated July 7, 2009)

10.4

Form of Severance Agreement with Deborah L. Hill, Robert "Scott" Ritter, Lilian Salter, Donavon P. Ternes, David S. Weiant and Gwendolyn L. Wertz (incorporated by reference to Exhibit 10.1 in the Corporation's Form 8-K dated February 24, 2012)

10.5

2006 Equity Incentive Plan (incorporated by reference to Exhibit A to the Corporation's proxy statement dated October 12, 2006)

10.6

Form of Incentive Stock Option Agreement for options granted under the 2006 Equity Incentive Plan (incorporated by reference to Exhibit 10.10 in the Corporation's Form 10-Q for the quarter ended December 31, 2006)

10.7

Form of Non-Qualified Stock Option Agreement for options granted under the 2006 Equity Incentive Plan (incorporated by reference to Exhibit 10.11 in the Corporation's Form 10-Q for the quarter ended December 31, 2006)

10.8

Form of Restricted Stock Agreement for restricted shares awarded under the 2006 Equity Incentive Plan (incorporated by reference to Exhibit 10.12 in the Corporation's Form 10-Q for the quarter ended December 31, 2006)

10.9

2010 Equity Incentive Plan (incorporated by reference to Exhibit A to the Corporation's proxy statement dated October 28, 2010)

10.10

Form of Incentive Stock Option Agreement for options granted under the 2010 Equity Incentive Plan (incorporated by reference to Exhibit 10.1 in the Corporation's Form 8-K dated November 30, 2010)

10.11

Form of Non-Qualified Stock Option Agreement for options granted under the 2010 Equity Incentive Plan (incorporated by reference to Exhibit 10.2 in the Corporation's Form 8-K dated November 30, 2010)

10.12

Form of Restricted Stock Agreement for restricted shares awarded under the 2010 Equity Incentive Plan (incorporated by reference to Exhibit 10.3 in the Corporation's Form 8-K dated November 30, 2010)

10.13

2013 Equity Incentive Plan (incorporated by reference to Exhibit A to the Corporation's proxy statement dated October 24, 2013)

10.14

Form of Incentive Stock Option Agreement for options granted under the 2013 Equity Incentive Plan (incorporated by reference to Exhibit 10.1 in the Corporation's Form 8-K dated November 30, 2013)

10.15

Form of Non-Qualified Stock Option Agreement for options granted under the 2013 Equity Incentive Plan (incorporated by reference to Exhibit 10.2 in the Corporation's Form 8-K dated November 30, 2013)

10.16

Form of Restricted Stock Agreement for restricted shares awarded under the 2013 Equity Incentive Plan (incorporated by reference to Exhibit 10.3 in the Corporation's Form 8-K dated November 30, 2013)

31.1

Certification of Chief Executive Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002


77



31.2

Certification of Chief Financial Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002

32.1

Certification of Chief Executive Officer Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002

32.2

Certification of Chief Financial Officer Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002

101

The following materials from the Corporation's Quarterly Report on Form 10-Q for the quarter ended March 31, 2017, formatted in Extensible Business Reporting Language (XBRL): (1) Condensed Consolidated Statements of Financial Condition; (2) Condensed Consolidated Statements of Operations; (3) Condensed Consolidated Statements of Comprehensive Income; (4) Condensed Consolidated Statements of Stockholders' Equity; (5) Condensed Consolidated Statements of Cash Flows; and (6) Selected Notes to Condensed Consolidated Financial Statements.





78



SIGNATURES


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


Provident Financial Holdings, Inc. 

Date: May 8, 2017

/s/ Craig G. Blunden                                        

Craig G. Blunden

Chairman and Chief Executive Officer

(Principal Executive Officer)

Date: May 8, 2017

/s/ Donavon P. Ternes                                       

Donavon P. Ternes 

President, Chief Operating Officer and

Chief Financial Officer

(Principal Financial and Accounting Officer)



































79



Exhibit Index


31.1

Certification of Chief Executive Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002

31.2

Certification of Chief Financial Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002

32.1

Certification of Chief Executive Officer Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002

32.2

Certification of Chief Financial Officer Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002

101

The following materials from the Corporation's Quarterly Report on Form 10-Q for the quarter ended March 31, 2017, formatted in Extensible Business Reporting Language (XBRL): (1) Condensed Consolidated Statements of Financial Condition; (2) Condensed Consolidated Statements of Operations; (3) Condensed Consolidated Statements of Comprehensive Income; (4) Condensed Consolidated Statements of Stockholders' Equity; (5) Condensed Consolidated Statements of Cash Flows; and (6) Selected Notes to Condensed Consolidated Financial Statements.



80