WEST BANCORPORATION, INC. Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations.
"SAFE HARBOR" CONCERNING FORWARD-LOOKING STATEMENTS
Certain statements in this report, other than purely historical information, including estimates, projections, statements relating to the Company's business plans, objectives and expected operating results, and the assumptions upon which those statements are based, are "forward-looking statements" within the meanings of the Private Securities Litigation Reform Act of 1995, Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended (the Exchange Act). Forward-looking statements may appear throughout this report. These forward-looking statements are generally identified by the words "believes," "expects," "intends," "anticipates," "projects," "future," "confident," "may," "should," "will," "strategy," "plan," "opportunity," "will be," "will likely result," "will continue" or similar references, or references to estimates, predictions or future events. Such forward-looking statements are based upon certain underlying assumptions, risks and uncertainties. Because of the possibility that the underlying assumptions are incorrect or do not materialize as expected in the future, actual results could differ materially from these forward-looking statements. Risks and uncertainties that may affect future results include: interest rate risk, including the effects of recent rate increases by theFederal Reserve ; fluctuations in the values of the securities held in our investment portfolio, including as a result of rising interest rates, which has resulted in unrealized losses in our portfolio; competitive pressures, including from non-bank competitors such as "fintech" companies and digital asset service providers; pricing pressures on loans and deposits; our ability to successfully manage liquidity risk; changes in credit and other risks posed by the Company's loan portfolio, including declines in commercial or residential real estate values or changes in the allowance for credit losses dictated by new market conditions, accounting standards (including as a result of the implementation of the current expected credit loss (CECL) accounting standard) or regulatory requirements; the concentration of large deposits from certain clients, who have balances above currentFDIC insurance limits and may withdraw deposits to diversify their exposure; changes in local, national and international economic conditions, including rising rates of inflation; the effects of recent developments and events in the financial services industry, including the large-scale deposit withdrawals over a short period of time atSilicon Valley Bank and Signature Bank that resulted in failure of those institutions; changes in legal and regulatory requirements, limitations and costs, including in response to the recent failures ofSilicon Valley Bank and Signature Bank; changes in customers' acceptance of the Company's products and services; cyber-attacks; unexpected outcomes of existing or new litigation involving the Company; the monetary, trade and other regulatory policies of theU.S. government; acts of war or terrorism, including the Russian invasion ofUkraine , widespread disease or pandemics, such as the COVID-19 pandemic, or other adverse external events; risks related to climate change and the negative impact it may have on our customers and their business; developments and uncertainty related to the future use and availability of some reference rates, such as the expected discontinuation of the London Interbank Offered Rate and the development of other alternative reference rates; changes toU.S. tax laws, regulations and guidance; talent and labor shortages; the new 1 percent excise tax on stock buybacks by publicly traded companies; and any other risks described in the "Risk Factors" sections of this and other reports filed by the Company with theSEC . The Company undertakes no obligation to revise or update such forward-looking statements to reflect current or future events or circumstances after the date hereof or to reflect the occurrence of unanticipated events.
CRITICAL ACCOUNTING POLICIES
The discussion and analysis of the Company's financial condition and results of operations are based upon the Company's consolidated financial statements that have been prepared in accordance with GAAP. The preparation of the Company's financial statements requires management to make estimates and judgments that affect the reported amounts of assets, liabilities, income and expenses. These estimates are based upon historical experience and on various other assumptions that management believes are reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions. The estimates and judgments that management believes involve the most complex and subjective estimates and judgments and have the most effect on the Company's reported financial position and results of operations are described as critical accounting policies in the Company's Annual Report on Form 10-K for the year endedDecember 31, 2022 , as filed with theSEC onFebruary 23, 2023 . The Company adopted ASU 2016-13 onJanuary 1, 2023 and replaced the allowance for loan losses "incurred loss" model discussed in the Form 10-K for the year endedDecember 31, 2022 with the allowance for credit losses "current expected credit loss" model, referred to as the CECL model. Refer to Note 1 and 4 for additional information and accounting policies related to the CECL model. 32
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West Bancorporation, Inc. Management's Discussion and Analysis (in thousands, except share and per share data) NON-GAAP FINANCIAL MEASURES This report contains references to financial measures that are not defined in GAAP. Such non-GAAP financial measures include the Company's presentation of net interest income and net interest margin on a fully taxable equivalent (FTE) basis, and the presentation of the efficiency ratio on an adjusted and FTE basis, excluding certain income and expenses. Management believes these non-GAAP financial measures provide useful information to both management and investors to analyze and evaluate the Company's financial performance. These measures are considered standard measures of comparison within the banking industry. Additionally, management believes providing measures on a FTE basis enhances the comparability of income arising from taxable and nontaxable sources. Limitations associated with non-GAAP financial measures include the risks that persons might disagree as to the appropriateness of items included in these measures and that different companies might calculate these measures differently. These non-GAAP disclosures should not be considered an alternative to the Company's GAAP results.
The following table reconciles the non-GAAP financial measures of net interest income and net interest margin on a FTE basis and efficiency ratio on an adjusted and FTE basis to their most directly comparable measures under GAAP.
Three Months Ended March
31,
2023 2022Reconciliation of net interest income and net interest margin on a FTE basis to GAAP: Net interest income (GAAP)
$ 18,695 $ 23,828 Tax-equivalent adjustment (1) 161 329 Net interest income on a FTE basis (non-GAAP) 18,856 24,157 Average interest-earning assets 3,435,988 3,432,114 Net interest margin on a FTE basis (non-GAAP) 2.23 % 2.85 %
Reconciliation of efficiency ratio on an adjusted and FTE basis to GAAP: Net interest income on a FTE basis (non-GAAP)
$ 18,856 $ 24,157 Noninterest income 2,957 2,389 Adjustment for losses on disposal of premises and equipment, net - 18 Adjusted income 21,813 26,564 Noninterest expense 12,071 10,662 Efficiency ratio on an adjusted and FTE basis (non-GAAP) (2) 55.34 % 40.14 % (1) Computed on a tax-equivalent basis using a federal income tax rate of 21 percent, adjusted to reflect the effect of the nondeductible interest expense associated with owning tax-exempt securities and loans. Management believes the presentation of this non-GAAP measure provides supplemental useful information for proper understanding of the financial results, as it enhances the comparability of income arising from taxable and nontaxable sources. (2) The efficiency ratio expresses noninterest expense as a percent of fully taxable equivalent net interest income and noninterest income, excluding specific noninterest income and expenses. Management believes the presentation of this non-GAAP measure provides supplemental useful information for proper understanding of the Company's financial performance. It is a standard measure of comparison within the banking industry. A lower ratio is more desirable. 33
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West Bancorporation, Inc. Management's Discussion and Analysis (in thousands, except share and per share data) OVERVIEW The following discussion describes the consolidated operations and financial condition of the Company,West Bank andWest Bank's special purpose subsidiaries (which are invested in new markets tax credit activities). Results of operations for the three months endedMarch 31, 2023 are compared to the results for the same period in 2022, and the consolidated financial condition of the Company as ofMarch 31, 2023 is compared to that as ofDecember 31, 2022 . This discussion and analysis should be read in conjunction with Management's Discussion and Analysis of Financial Condition and Results of Operations included in the Company's Annual Report on Form 10-K for the year endedDecember 31, 2022 , filed with theSEC onFebruary 23, 2023 . The Company conducts business from its main office inWest Des Moines, Iowa and through its branch offices in centralIowa , which is generally the greaterDes Moines metropolitan area; easternIowa , which is the area including and surroundingIowa City andCoralville ; and southernMinnesota , which includes the cities ofRochester ,Owatonna ,Mankato andSt. Cloud . Net income for the three months endedMarch 31, 2023 was$7,844 , or$0.47 per diluted common share, compared to$13,184 , or$0.78 per diluted common share, for the three months endedMarch 31, 2022 . The Company's annualized return on average assets and return on average equity for the three months endedMarch 31, 2023 were 0.88 percent and 14.77 percent, respectively, compared to 1.51 percent and 20.96 percent, respectively, for the three months endedMarch 31, 2022 . The decrease in net income for the three months endedMarch 31, 2023 compared to the same period in 2022 was primarily due to a decrease in net interest income and increase in salaries and employee benefits, partially offset by an increase in gain from bank-owned life insurance. Net interest income for the three months endedMarch 31, 2023 declined$5,133 , or 21.5 percent, compared to the three months endedMarch 31, 2022 . The decrease in net interest income was primarily due to the increase in interest expense on deposits and other borrowings resulting from rapidly rising interest rates and inverted yield curve, and changes in funding mix, partially offset by an increase in interest income on loans and securities. Noninterest income increased$568 for the three months endedMarch 31, 2023 compared to the same period in 2022 due to a gain from bank-owned life insurance. Noninterest expense increased$1,409 during the three months endedMarch 31, 2023 compared to the three months endedMarch 31, 2022 , primarily due to increases in salaries and employee benefits and occupancy and equipment expense. Total loans outstanding increased$13,349 , or 0.5 percent, during the first three months of 2023. The credit quality of the loan portfolio remained strong, as evidenced by the Company's ratio of nonperforming loans to total assets of 0.01 percent as of bothMarch 31, 2023 andDecember 31, 2022 . As ofMarch 31, 2023 , the allowance for credit losses was 1.01 percent of total outstanding loans, compared to 0.93 percent as ofDecember 31, 2022 . Management believed the allowance for credit losses atMarch 31, 2023 was adequate to absorb expected losses in the loan portfolio as of that date. 34
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West Bancorporation, Inc. Management's Discussion and Analysis (in thousands, except share and per share data) On a quarterly basis, the Company compares three key performance metrics to those of our identified peer group. The peer group for 2023 consists of 22 Midwestern, publicly traded financial institutions, including Bank First Corporation, Bridgewater Bancshares Inc., ChoiceOne Financial Services, Inc., Civista Bancshares, Inc., CrossFirst Bankshares, Inc., Equity Bancshares, Inc., Farmers National Banc Corp., Farmers & Merchants Bancorp., First Business Financial Services, Inc., First Financial Corp., First Mid Bancshares, Inc., German American Bancorp, Inc., HBT Financial Inc., Hills Bancorporation, Isabella Bank Corporation, LCNB Corp., Macatawa Bank Corporation, Mercantile Bank Corporation, MidWestOne Financial Group, Inc., Nicolet Bankshares, Inc., Peoples Bancorp, Inc., and Southern Missouri Bancorp, Inc. The Company is in the middle of the group in terms of asset size. The Company's goal is to perform at or near the top of this peer group relative to what we consider to be three key metrics: return on average equity, efficiency ratio and nonperforming assets to total assets. We believe these measures encompass the factors that define the performance of a community bank. Company and peer results for the key financial performance measures are summarized below. West Bancorporation, Inc. Peer Group Range(2) As of and for the three As of and for the year months ended March 31, As of and for the year ended ended December 31, 2023 ended December 31, 2022 2022 Return on average equity 14.77% 20.71% 9.97% - 17.24% Efficiency ratio(1) 55.34% 43.70% 41.14% - 63.37% Nonperforming assets to total assets 0.01% 0.01% 0.02% - 1.08%
(1) The efficiency ratio is a non-GAAP financial measure. For further information, refer to the Non-GAAP Financial Measures section of this report. (2) Latest data available.
At its meeting onApril 26, 2023 , the Company's Board of Directors declared a quarterly cash dividend of$0.25 per common share. The dividend is payable onMay 24, 2023 , to stockholders of record onMay 10, 2023 . 35
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West Bancorporation, Inc. Management's Discussion and Analysis (in thousands, except share and per share data) RESULTS OF OPERATIONS
The following table shows selected financial results and measures for the three
months ended
Three Months Ended March 31,
2023 2022 Change Change %
Net income $ 7,844 $ 13,184 $ (5,340) (40.50) %
Average assets 3,617,458 3,544,564 72,894 2.06 %
Average stockholders' equity 215,391 255,130 (39,739) (15.58) %
Return on average assets 0.88 % 1.51 % (0.63) %
Return on average equity 14.77 % 20.96 % (6.19) %
Net interest margin (1) 2.23 % 2.85 % (0.62) %
Efficiency ratio (1) (2) 55.34 % 40.14 % 15.20 %
Dividend payout ratio 52.31 % 31.39 % 20.92 %
Average equity to average assets ratio 5.95 % 7.20 % (1.25) %
As of March 31,
2023 2022 Change
Nonperforming assets to total assets (2) 0.01 % 0.25 % (0.24) %
Equity to assets ratio 5.99 % 6.67 % (0.68) %
Tangible common equity ratio 5.99 % 6.67 % (0.68) %
(1) Amounts are presented on a FTE basis. These are non-GAAP financial measures.
For further information, refer to the Non-GAAP Financial Measures section of
this report.
(2) A lower ratio is more desirable.
Definitions of ratios:
•Return on average assets - annualized net income divided by average assets.
•Return on average equity - annualized net income divided by average
stockholders' equity.
•Net interest margin - annualized tax-equivalent net interest income divided by
average interest-earning assets.
•Efficiency ratio - noninterest expense (excluding other real estate owned
expense and write-down of premises) divided by noninterest income (excluding net
securities gains/losses and gains/losses on disposition of premises and
equipment) plus tax-equivalent net interest income.
•Dividend payout ratio - dividends paid to common stockholders divided by net
income.
•Average equity to average assets ratio - average equity divided by average
assets.
•Nonperforming assets to total assets - total nonperforming assets divided by
total assets.
•Equity to assets ratio - equity divided by assets.
•Tangible common equity ratio - common equity less intangible assets (none held)
divided by tangible assets.
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West Bancorporation, Inc. Management's Discussion and Analysis (in thousands, except share and per share data) Net Interest Income The following table presents average balances and related interest income or interest expense, with the resulting annualized average yield or rate by category of interest-earning assets or interest-bearing liabilities. Interest income and the resulting net interest income are shown on a FTE basis.
Data for the three months ended
Average Balance Interest Income/Expense Yield/Rate
Change- Change-
2023 2022 Change % 2023 2022 Change % 2023 2022 Change
Interest-earning assets:
Loans: (1) (2)
Commercial $ 522,034 $ 470,105 $ 51,929 11.05 % $ 7,567 $ 4,658 $ 2,909 62.45 % 5.88 % 4.02 % 1.86 %
Real estate (3) 2,215,355 1,975,858 239,497 12.12 % 25,333 18,725 6,608 35.29 % 4.64 % 3.84 % 0.80 %
Consumer and other 7,992 3,558 4,434 124.62 % 125 34 91 267.65 % 6.35 % 3.90 % 2.45 %
Total loans 2,745,381 2,449,521 295,860 12.08 % 33,025 23,417 9,608 41.03 % 4.88 % 3.88 % 1.00 %
Securities:
Taxable 538,158 633,654 (95,496) (15.07) % 3,316 2,889 427 14.78 % 2.46 % 1.82 % 0.64 %
Tax-exempt (3) 150,311 170,898 (20,587) (12.05) % 974 1,056 (82) (7.77) % 2.59 % 2.47 % 0.12 %
Total securities 688,469 804,552 (116,083) (14.43) % 4,290 3,945 345 8.75 % 2.49 % 1.96 % 0.53 %
Interest-bearing deposits 2,138 178,041 (175,903) (98.80) % 25 82 (57) (69.51) % 4.81 % 0.19 % 4.62 %
Total interest-earning assets (3)
$ 3,874 0.11 % 37,340 27,444 9,896 36.06 % 4.41 % 3.24 % 1.17 % Interest-bearing liabilities: Deposits: Interest-bearing demand$ 500,392 $ 546,237 $ (45,845) (8.39) % 1,570 250 1,320 528.00 % 1.27 % 0.19 % 1.08 % Savings and money market 1,277,676 1,610,639 (332,963) (20.67) % 8,655 1,620 7,035 434.26 % 2.75 % 0.41 % 2.34 % Time 417,427 195,638 221,789 113.37 % 3,114 281 2,833 1,008.19 % 3.03 % 0.58 % 2.45 % Total deposits 2,195,495 2,352,514 (157,019) (6.67) % 13,339 2,151 11,188 520.13 % 2.46 % 0.37 % 2.09 % Borrowed funds: Federal funds purchased and other short-term borrowings 186,333 1,506 184,827 12,272.71 % 2,079 - 2,079 N/A 4.53 % 0.05 % 4.48 % Subordinated notes, net 79,400 20,467 58,933 287.94 % 1,106 248 858 345.97 % 5.65 % 4.91 % 0.74 %Federal Home Loan Bank advances 203,722 125,000 78,722 62.98 % 1,262 630 632 100.32 % 2.51 % 2.04 % 0.47 % Long-term debt 51,486 51,497 (11) (0.02) % 698 258 440 170.54 % 5.50 % 2.03 % 3.47 % Total borrowed funds 520,941 198,470 322,471 162.48 % 5,145 1,136 4,009 352.90 % 4.01 % 2.32 % 1.69 % Total interest-bearing liabilities$ 2,716,436 $ 2,550,984 $ 165,452 6.49 % 18,484 3,287 15,197 462.34 % 2.76 % 0.52 % 2.24 % Net interest income (FTE) (4)$ 18,856 $ 24,157 $ (5,301) (21.94) % Net interest spread (FTE) 1.65 % 2.72 % (1.07) % Net interest margin (FTE) (4) 2.23 % 2.85 % (0.62) % (1)Average loan balances include nonaccrual loans. Interest income recognized on nonaccrual loans has been included. (2)Interest income on loans includes amortization of loan fees and costs and prepayment penalties collected, which are not material. (3)Tax-exempt income has been adjusted to a tax-equivalent basis using a federal income tax rate of 21 percent and is adjusted to reflect the effect of the nondeductible interest expense associated with owning tax-exempt securities and loans. (4)Net interest income (FTE) and net interest margin (FTE) are non-GAAP financial measures. For further information, refer to the Non-GAAP Financial Measures section of this report. 37
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West Bancorporation, Inc. Management's Discussion and Analysis (in thousands, except share and per share data) The Company's largest component of net income is net interest income, which is the difference between interest earned on interest-earning assets, consisting primarily of loans and securities, and interest paid on interest-bearing liabilities, consisting of deposits and borrowings. Fluctuations in net interest income can result from the combination of changes in the average balances of asset and liability categories and changes in interest rates. Interest rates earned and paid are also affected by general economic conditions, particularly changes in market interest rates, and by competitive factors, government policies and actions of regulatory authorities. TheFederal Reserve increased the target federal funds interest rate by a total of 425 basis points in 2022 and 50 basis points during the first three months of 2023. At this time it is unknown whether additional target federal funds interest rate changes will occur during the remainder of 2023. The increases that occurred throughout 2022 and 2023 will have an impact on the comparability of net interest income between 2023 and 2022. Net interest margin on a FTE basis, a non-GAAP financial measure, is a measure of the net return on interest-earning assets and is computed by dividing annualized tax-equivalent net interest income by total average interest-earning assets for the period. The net interest margin for the three months endedMarch 31, 2023 decreased by 62 basis points compared to the three months endedMarch 31, 2022 . The primary driver of the decrease in the net interest margin was an increase in rates paid on deposits and borrowed funds, which have repriced faster than loans and securities, and an increase in average borrowed funds balances. Tax-equivalent net interest income decreased$5,301 for the three months endedMarch 31, 2023 compared to the same time period in 2022. Tax-equivalent interest income on loans increased$9,603 for the three months endedMarch 31, 2023 compared to the three months endedMarch 31, 2022 . This increase in interest income on loans was driven by a combination of an increase in the average balance of loans and an increase in loan yields. The average balance of loans for the three months endedMarch 31, 2023 increased$295,860 compared to the three months endedMarch 31, 2022 , while loan yields increased 100 basis points. Rising market interest rates have resulted in increasing rates on variable-rate loans and higher interest rates on renewed and originated loans. The Company continues to focus on expanding existing and entering into new customer relationships while maintaining strong credit quality. The yield on the Company's loan portfolio is affected by the portfolio's loan mix, the interest rate environment, the effects of competition, the level of nonaccrual loans and reversals of previously accrued interest on charged-off loans. The yield on the loan portfolio is expected to increase in a rising rate environment as variable-rate loans and loan renewals reprice at higher rates. The political and economic environments can also influence the volume of new loan originations and the mix of variable-rate versus fixed-rate loans. The average balance of deposits decreased$157,019 for the three months endedMarch 31, 2023 , compared to the three months endedMarch 31, 2022 . The rates paid on deposits increased 209 basis points for the three months endedMarch 31, 2023 compared to the same period in 2022. The increase in the cost of deposits was primarily due to higher deposit interest rates in response to increases in the target federal funds rate and market interest rates, increased competition for deposit balances, and changes in deposit mix. TheFederal Reserve increased the target federal funds rate by a total of 425 basis points in 2022 and 50 basis points in the first three months of 2023. These increases have had a direct impact on the cost of deposits and market competition. Interest expense on borrowed funds increased$4,009 for the three months endedMarch 31, 2023 compared to the three months endedMarch 31, 2022 . The average balance of borrowed funds increased$322,471 for the three months endedMarch 31, 2023 compared to the three months endedMarch 31, 2022 . The Company issued$60,000 of subordinated debt inJune 2022 . Additionally, average balances of federal funds purchased and other short-term borrowings increased$184,827 for the three months endedMarch 31, 2023 compared to the same period in 2022. The average rate of the federal funds purchased and other short-term borrowings increased by 448 basis points in the three months endedMarch 31, 2023 compared to the three months endedMarch 31, 2022 . This increase in average rates paid on federal funds purchased and other short-term borrowings was driven by the increases in the target federal funds rate by theFederal Reserve .
Credit Loss Expense and the Related Allowance for Credit Losses
The Company adopted ASU No. 2016-13 using the modified retrospective method for financial assets measured at amortized cost and off-balance-sheet credit exposures. See Notes 1 and 4 to the Financial Statements for additional information.
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West Bancorporation, Inc. Management's Discussion and Analysis (in thousands, except share and per share data) The credit loss expense recorded on the income statement represents a charge made to earnings to maintain an adequate allowance for credit losses. The adequacy of the allowance for credit losses is evaluated quarterly by management and reviewed by the Board of Directors. The allowance for credit losses is management's estimate of expected lifetime losses in the loan portfolio as of the balance sheet date. There was no provision for credit losses for the three months endedMarch 31, 2023 . The credit loss expense was negative$750 for the three months endedMarch 31, 2022 . The negative credit loss expense recorded in 2022 was due to the sustained performance of loans after the expiration of COVID modifications and improvement in classified loans. Factors management considers in establishing an appropriate allowance include: the borrower's financial condition; the value and adequacy of loan collateral; the condition of the local economy and the borrower's specific industry; the levels and trends of loans by segment; and a review of delinquent and classified loans. The quarterly evaluation of the allowance focuses on factors such as specific loan reviews, changes in the components of the loan portfolio given the current and forecasted economic conditions, and historical loss experience. Any one of the following conditions may result in the review of a specific loan: concern about whether the customer's cash flow or net worth is sufficient to repay the loan; delinquency status; criticism of the loan in a regulatory examination; the suspension of interest accrual; or other factors, including whether the loan has other special or unusual characteristics that suggest special monitoring is warranted. The Company's concentration risks include geographic concentrations in central and easternIowa and southernMinnesota . The local economies in those markets are composed primarily of major financial service companies, healthcare providers, educational institutions, technology and agribusiness companies, and state and local governments.West Bank has a significant portion of its loan portfolio in commercial real estate loans, commercial lines of credit, commercial term loans, and construction and land development loans.West Bank's typical commercial borrower is a small- or medium-sized, privately owned business entity. Compared to residential mortgages or consumer loans, commercial loans typically have larger balances and repayment usually depends on the borrowers' successful business operations. Commercial loans generally are not fully repaid over the loan period and may require refinancing or a large payoff at maturity. When the economy turns downward, commercial borrowers may not be able to repay their loans, and the value of their assets, which are usually pledged as collateral, may decrease rapidly and significantly. While management uses available information to recognize losses on loans, further reduction in the carrying amounts of loans may be necessary based on changes in circumstances, changes in the overall economy in the markets we currently serve, or later acquired information. Identifiable sectors within the general economy are subject to additional volatility, which at any time may have a substantial impact on the loan portfolio. In addition, regulatory agencies, as integral parts of their examination processes, periodically review the credit quality of the loan portfolio and the level of the allowance for credit losses. Such agencies may requireWest Bank to recognize additional charge-offs or provision for credit losses based on such agencies' review of information available to them at the time of their examinations. 39
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West Bancorporation, Inc. Management's Discussion and Analysis (in thousands, except share and per share data)West Bank's policy is to charge off loans when, in management's opinion, a loan or a portion of a loan is deemed uncollectible. Commercially reasonable efforts are made to maximize subsequent recoveries. The following table summarizes the activity in the Company's allowance for credit losses on loans for the three months endedMarch 31, 2023 and 2022 and related ratios. Three
Months Ended
2023 2022 Change
Balance at beginning of period $ 25,473 $ 28,364 $ (2,891)
Adoption of CECL 2,458 - 2,458
Charge-offs - - -
Recoveries 10 9 1
Net (charge-offs) recoveries 10 9 1
Provision for credit losses charged (credited) to
operations - (750) 750
Balance at end of period Average loans outstanding
Ratio of annualized net (charge-offs) recoveries during the period to average loans outstanding
- % - %
Ratio of allowance for credit losses for loans to average loans outstanding
1.02 % 1.13 %
Ratio of allowance for credit losses for loans to total
loans at end of period 1.01 % 1.11 %
The U.S. economy continues to be affected by federal government programs and the
Federal Reserve's accommodative monetary policies initiated during the COVID-19
pandemic. Current economic concerns include the impact of sharp increases in
interest rates as the Federal Reserve responds to inflationary trends, labor
shortages and wage pressures, and the uncertainty of additional increases in the
Federal Reserve target federal funds rate. In response to increasing inflation
rates, the Federal Reserve increased the target federal funds rate by a total of
425 basis points in 2022 and 50 basis points in the first three months of 2023.
The forecast for future rate increases is uncertain at this time. Management
believed the allowance for credit losses at March 31, 2023 was adequate to
absorb expected losses in the loan portfolio as of that date.
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West Bancorporation, Inc. Management's Discussion and Analysis (in thousands, except share and per share data) Noninterest Income
The following table shows the variance from the prior year in the noninterest income categories shown in the Consolidated Statements of Income.
Three Months Ended March 31,
Noninterest income: 2023 2022 Change Change %
Service charges on deposit accounts $ 462 $ 580 $ (118) (20.34) %
Debit card usage fees 486 472 14 2.97 %
Trust services 706 629 77 12.24 %
Increase in cash value of bank-owned life
insurance 257 227 30 13.22 %
Gain from bank-owned life insurance 691 - 691 N/A
Other income:
All other income 355 481 (126) (26.20) %
Total other income 355 481 (126) (26.20) %
Total noninterest income $ 2,957 $ 2,389 $ 568 23.78 %
Revenue from trust services was higher for the three months ended March 31, 2023
compared to the three months ended March 31, 2022 primarily due to an increase
in one-time estate fees. An increase in trust assets and accounts since March
31, 2022 also contributed to the increase in trust service fees. The gain from
bank-owned life insurance was from a death benefit claim. The decrease in other
income was primarily due to $97 of income recognized in the three months ended
March 31, 2022 related to the purchase of discounted transferable state income
tax credits.
Noninterest Expense
The following table shows the variance from the prior year period in the noninterest expense categories shown in the Consolidated Statements of Income. In addition, accounts within the "other expenses" category that represent a significant portion of the total or a significant variance are shown below.
Three Months Ended March 31,
Noninterest expense: 2023 2022 Change Change %
Salaries and employee benefits $ 6,867 $ 6,298 $ 569 9.03 %
Occupancy and equipment 1,327 1,086 241 22.19 %
Data processing 635 624 11 1.76 %
Technology and software 513 476 37 7.77 %
FDIC insurance 416 337 79 23.44 %
Professional fees 250 217 33 15.21 %
Director fees 205 168 37 22.02 %
Other expenses:
Business development 333 236 97 41.10 %
Insurance expense 215 151 64 42.38 %
Trust 165 137 28 20.44 %
Charitable contributions 60 - 60 N/A
Consulting fees 49 50 (1) (2.00) %
Marketing 41 54 (13) (24.07) %
Low income housing projects amortization 161 142 19 13.38 %
New markets tax credit project amortization and
management
fees 230 230 - - %
All other 604 456 148 32.46 %
Total other expenses 1,858 1,456 402 27.61 %
Total noninterest expense $ 12,071 $ 10,662 $ 1,409 13.22 %
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West Bancorporation, Inc. Management's Discussion and Analysis (in thousands, except share and per share data) Salaries and employee benefits increased for the three months endedMarch 31, 2023 when compared to the three months endedMarch 31, 2022 , due to wage increases that have been higher than recent historical averages in response to market conditions and competition in retaining and recruiting talent. Additionally, there has been an increase in full-time equivalent employees with growth in our commercial banking team and information technology department. Occupancy and equipment expense increased for the three months endedMarch 31, 2023 compared to the same period in 2022 primarily due to an increase in depreciation expense related to the new building inSt. Cloud, Minnesota which opened inMarch 2022 and scheduled increases in rent expense on existing leases.FDIC insurance expense increased during the three months endedMarch 31, 2023 when compared to the same time period in 2022 primarily due to theFDIC's increase in the minimum assessment rate, announced in 2022 and effective for the first quarter of 2023. Business development expenses increased in 2023 compared to 2022 due to an increase in the size of our commercial banking team and a general increase in sponsorships and business development activity. Insurance expense increased for the three months endedMarch 31, 2023 compared to the same period in 2022 primarily due to insurance costs related to bank buildings that are under construction.
Income Tax Expense
The Company recorded income tax expense of$1,737 (18.1 percent of pre-tax income) for the three months endedMarch 31, 2023 , compared with$3,121 (19.1 percent of pre-tax income) for the three months endedMarch 31, 2022 . The Company's consolidated income tax rate differs from the federal statutory income tax rate in each period, primarily due to tax-exempt interest income, the tax-exempt increase in cash value of bank-owned life insurance, gain from bank-owned life insurance, disallowed interest expense, and state income taxes. Additionally, for the three months endedMarch 31, 2023 and 2022, a tax benefit of$11 and$377 , respectively, was recorded as a result of the increase in fair value of restricted stock over the vesting period. The tax rates for the first three months of 2023 and 2022 were also impacted by year-to-date federal low income housing tax credits and a new markets tax credit of approximately$375 and$367 , respectively. FINANCIAL CONDITION The Company had total assets of$3,624,943 as ofMarch 31, 2023 , compared to total assets of$3,613,218 as ofDecember 31, 2022 . Fluctuations in the balance sheet included increases in loans, premises and equipment, and borrowed funds and a decrease in deposits.
Securities
Securities available for sale increased by$1,243 during the three months endedMarch 31, 2023 . This slight increase was primarily attributable to the decrease in unrealized losses in the securities portfolio, partially offset by principal paydowns on securities. In the first three months of 2023, net unrealized losses on the available for sale securities portfolio decreased by$11,667 . This was primarily due to falling market yields sinceDecember 31, 2022 . Management concluded the unrealized losses are primarily attributed to increases in risk-free market interest rates since these securities were purchased and were not credit-related losses. Unrealized losses are recorded in accumulated other comprehensive loss, net of tax. The Company expects the securities portfolio as a percentage of total assets to decrease over time as the proceeds from paydowns and maturities may be used for loan growth or repayment of borrowed funds.
As of
Loans and Nonperforming Assets
Loans outstanding increased$13,349 from$2,742,836 as ofDecember 31, 2022 to$2,756,185 as ofMarch 31, 2023 . Changes in the loan portfolio during the first three months of 2023 included an increase of$38,218 in commercial real estate loans and a decrease of$26,275 in construction, land and land development loans. The Company continues to focus on business development efforts in all of its markets. 42
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West Bancorporation, Inc. Management's Discussion and Analysis (in thousands, except share and per share data) In accordance with regulatory guidelines, the Company exercises heightened risk management practices when non-owner occupied commercial real estate lending exceeds 300 percent of total risk-based capital or construction, land development, and other land loans exceed 100 percent of total risk-based capital. Although the commercial real estate portfolio exceeds these regulatory guidelines, they are within the Company's established policy limits and the Company has appropriate risk management policies and procedures to regularly monitor the commercial real estate portfolio. An analysis of the Company's non-owner occupied commercial real estate portfolio as ofDecember 31, 2022 was presented in the Company's Form 10-K filed with theSEC onFebruary 23, 2023 , and the Company has not experienced any material changes to that portfolio sinceDecember 31, 2022 . The following table sets forth the amount of nonperforming assets held by the Company and common ratio measurements of those assets as of the dates shown. March 31, 2023 December 31, 2022 Change Nonaccrual loans $ 316 $ 322$ (6) Loans past due 90 days and still accruing interest - - - Loan restructurings (1) - - - Total nonperforming loans 316 322 (6) Other real estate owned - - - Total nonperforming assets $ 316 $ 322$ (6) Nonperforming loans to total loans 0.01 % 0.01 % - % Nonperforming assets to total assets 0.01 % 0.01 % - % (1)While loan restructurings made to borrowers experiencing financial difficulty (loan restructurings) are commonly reported by the industry as nonperforming, those not classified in the nonaccrual category are accruing interest due to payment performance. Loan restructurings on nonaccrual status are categorized as nonaccrual. There were no loan restructurings categorized as nonaccrual as ofMarch 31, 2023 orDecember 31, 2022 .
Premises and Equipment
The Company purchased land in the first quarter of 2022 for its new corporate headquarters to be located inWest Des Moines, Iowa and construction began in the second quarter of 2022. Construction is expected to be completed in 2024. Additionally, construction of a new office inMankato, Minnesota also began in the first quarter of 2022 and is expected to be completed in 2023.
Deposits
Deposits decreased$82,015 , or 2.8 percent, during the first three months of 2023. A large part of this decrease was attributbale to a decrease in brokered deposits. Brokered deposits decreased to$234,213 atMarch 31, 2023 , from$272,691 atDecember 31, 2022 . Excluding brokered deposits, deposits decreased$43,537 , or 1.5 percent, during the first three months of 2023. Deposit inflows and outflows are influenced by prevailing market interest rates, competition, local and national economic conditions, and fluctuations in our business customers' own liquidity needs and may also be influenced by recent developments in the financial services industry. Significant competition for deposits driven by high interest rate alternatives for depositors is currently impacting deposit fluctuations and increasing our cost of deposits.West Bank participates in the IntraFi® ICS and CDARS reciprocal deposit network which enables depositors to receiveFDIC insurance coverage on deposits otherwise exceeding the maximum insurable amount. As ofMarch 31, 2023 , estimated uninsured deposits, which excludes deposits in the IntraFi® reciprocal network and public funds protected by state programs, were approximately 33.3 percent of total deposits, compared to approximately 34.9 percent as ofDecember 31, 2022 . Borrowed Funds Federal funds purchased and other short-term borrowings increased from$200,000 atDecember 31, 2022 to$229,290 as ofMarch 31, 2023 . The fluctuations in the balances of federal funds purchased and other short-term borrowings is based on customer loan and deposit activity and the Company's balance sheet management objectives, which from time to time may require the Company to draw on the federal funds purchased lines with our correspondent banks or FHLB advances. 43
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West Bancorporation, Inc. Management's Discussion and Analysis (in thousands, except share and per share data) The Company had$220,000 of short-term FHLB advances outstanding atMarch 31, 2023 associated with long-term interest rate swaps, which is an increase of$65,000 fromDecember 31, 2022 . In the first quarter of 2023, the Company entered into four additional long-term interest rate swap agreements with a total notional amount of$65,000 . As ofMarch 31, 2023 , the Company has long-term interest rate swap agreements with a total notional amount of$220,000 to hedge the interest payments of one-month rolling funding consisting of FHLB advances or brokered deposits. These interest rate swaps have maturity dates ranging fromSeptember 2023 throughJune 2029 and fixed rates ranging from 1.63 percent to 3.64 percent. This strategy of hedging short-term rolling funding effectively provides fixed cost wholesale funding through the maturity dates of the various interest rate swaps.
Liquidity
The objectives of liquidity management are to ensure the availability of sufficient cash flows to meet all financial commitments and to capitalize on opportunities for profitable business expansion. The Company's principal source of funds is deposits. Other sources include loan principal repayments, proceeds from the maturity and sale of securities, principal payments on amortizing securities, federal funds purchased, advances from the FHLB, other wholesale funding and funds provided by operations. Liquidity management is conducted on both a daily and a long-term basis. Investments in liquid assets are adjusted based on expected loan demand, projected loan and securities maturities and payments, expected deposit flows and the objectives set by the Company's asset-liability management policy. The Company had liquid assets (cash and cash equivalents) of$22,480 as ofMarch 31, 2023 compared with$26,539 as ofDecember 31, 2022 . Our deposit growth strategy emphasizes core deposit growth. Deposit inflows and outflows can vary widely and are influenced by prevailing market interest rates, competition, local and national economic conditions and fluctuations in our business customers' own liquidity needs and may also be influenced by recent developments in the financial services industry. The Company utilizes brokered deposits to supplement core deposit fluctuations and loan growth. Brokered deposits are obtained through various programs administered by IntraFi, including IntraFi Network Deposits and IntraFi Funding, and through other third parties. AtMarch 31, 2023 , the Company had$234,213 in brokered deposits, which included fixed-rate deposits with terms throughSeptember 2024 and variable-rate deposits with terms throughFebruary 2024 . As ofMarch 31, 2023 ,West Bank had additional borrowing capacity available from the FHLB of approximately$434,000 , as well as approximately$3,000 through theFederal Reserve discount window,$35,000 through unsecured federal funds lines of credit with correspondent banks, and$14,067 through the newFederal Reserve Bank Term Funding Program. The Bank Term Funding Program was established by theFederal Reserve inMarch 2023 to provide an additional source of liquidity against high-quality securities. As ofMarch 31, 2023 ,West Bank had pledged$14,067 in eligible securities to facilitate participation in the program. No funds were borrowed from theFederal Reserve discount window or Bank Term Funding Program during the three months endedMarch 31, 2023 . Net cash from operating activities contributed$2,494 to liquidity for the three months endedMarch 31, 2023 . Management believed that the combination of high levels of potentially liquid assets, unencumbered securities, cash flows from operations, and additional borrowing capacity are sufficient to meet our liquidity and capital needs. The Company had remaining commitments to invest in qualified affordable housing projects totaling$3,012 and$3,431 as ofMarch 31, 2023 andDecember 31, 2022 , respectively.West Bank entered into a construction contract in 2022 for the construction of a new headquarters building inWest Des Moines, Iowa .West Bank will pay the contractor a contract price consisting of the cost of work plus a fee, subject to a guaranteed maximum price of$42,309 , with anticipated construction completed in 2024. As ofMarch 31, 2023 , there was a remaining commitment of$30,415 under this contract.West Bank is also building a new office inMankato, Minnesota to be completed in the fall of 2023, which had a remaining commitment of$5,426 as ofMarch 31, 2023 .
Capital
The Company's total stockholders' equity increased to$216,992 atMarch 31, 2023 from$211,112 atDecember 31, 2022 . The increase was primarily the result of the decrease in accumulated other comprehensive loss and net income less dividends paid, partially offset by the adjustment made upon the adoption of ASU 2016-13. The decrease in accumulated other comprehensive loss is primarily the result of falling market yields sinceDecember 31, 2022 . AtMarch 31, 2023 , the Company's tangible common equity as a percent of tangible assets was 5.99 percent compared to 5.84 percent as ofDecember 31, 2022 . While accumulated other comprehensive losses reduce tangible common equity, they have no impact on regulatory capital. 44
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West Bancorporation, Inc. Management's Discussion and Analysis (in thousands, except share and per share data) The Company andWest Bank are subject to various regulatory capital requirements administered by federal and state banking agencies. Failure to meet minimum capital requirements (as shown in the following table) can result in certain mandatory and possibly additional discretionary actions by regulators, which, if undertaken, could have a direct material effect on the Company's consolidated financial statements. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, the Company andWest Bank must meet specific capital guidelines that involve quantitative measures of their assets, liabilities and certain off-balance sheet items as calculated under regulatory accounting practices. The Company's andWest Bank's capital amounts and classifications are also subject to qualitative judgments by the regulators about components, risk weightings and other factors. Management believed the Company andWest Bank met all capital adequacy requirements to which they were subject as ofMarch 31, 2023 . The Company's andWest Bank's capital amounts and ratios are presented in the following table. For Capital For Capital Adequacy Purposes With Capital Actual Adequacy Purposes Conservation Buffer To Be Well-Capitalized Amount Ratio Amount Ratio Amount Ratio Amount Ratio As ofMarch 31, 2023 : Total Capital (to Risk-Weighted Assets) Consolidated$ 412,702 12.17 %$ 271,365 8.00 %$ 356,167 10.50 % $ 339,207 10.00 %West Bank 446,026 13.16 % 271,226 8.00 % 355,984 10.50 % 339,032 10.00 % Tier 1 Capital (to Risk-Weighted Assets) Consolidated 322,417 9.51 % 203,524 6.00 % 288,326 8.50 % 271,365 8.00 %West Bank 415,741 12.26 % 203,419 6.00 % 288,177 8.50 % 271,226 8.00 % Common Equity Tier 1 Capital (to Risk-Weighted Assets) Consolidated 302,417 8.92 % 152,643 4.50 % 237,445 7.00 % 220,484 6.50 %West Bank 415,741 12.26 % 152,564 4.50 % 237,322 7.00 % 220,371 6.50 % Tier 1 Capital (to Average Assets) Consolidated 322,417 8.60 % 149,898 4.00 % 149,898 4.00 % 187,373 5.00 %West Bank 415,741 11.10 % 149,816 4.00 % 149,816 4.00 % 187,270 5.00 % As ofDecember 31, 2022 : Total Capital (to Risk-Weighted Assets) Consolidated$ 408,056 12.08 %$ 270,221 8.00 %$ 354,665 10.50 % $ 337,776 10.00 %West Bank 441,628 13.08 % 270,053 8.00 % 354,445 10.50 % 337,566 10.00 % Tier 1 Capital (to Risk-Weighted Assets) Consolidated 322,583 9.55 % 202,666 6.00 % 287,110 8.50 % 270,221 8.00 %West Bank 416,155 12.33 % 202,540 6.00 % 286,931 8.50 % 270,053 8.00 % Common Equity Tier 1 Capital (to Risk-Weighted Assets) Consolidated 302,583 8.96 % 151,999 4.50 % 236,443 7.00 % 219,555 6.50 %West Bank 416,155 12.33 % 151,905 4.50 % 236,296 7.00 % 219,418 6.50 % Tier 1 Capital (to Average Assets) Consolidated 322,583 8.81 % 146,439 4.00 % 146,439 4.00 % 183,049 5.00 %West Bank 416,155 11.37 % 146,367 4.00 % 146,367 4.00 % 182,958 5.00 % 45
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West Bancorporation, Inc. Management's Discussion and Analysis (in thousands, except share and per share data) The Company andWest Bank are subject to a 2.5 percent capital conservation buffer that is added to the minimum requirements for capital adequacy purposes. A banking organization with a capital conservation buffer of less than the required amount will be subject to limitations on capital distributions, including dividend payments, and certain discretionary bonus payments to executive officers. AtMarch 31, 2023 , the capital ratios for the Company andWest Bank were sufficient to meet the conservation buffer. 46
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