Banner Corporation
2018 Annual Report
bannerbank.com
Let’s create tomorrow, together.
Corporate Headquarters
10 South First Ave.
PO Box 907
Walla Walla, WA 99362-0265
509-527-3636
800-272-9933
bannerbank@bannerbank.com
Banner Corporation
2018 Annual Report
Member FDIC
Custom Business Solutions
The world of business is ever-changing. So it’s
essential that we continually help our business
clients stay ahead of the pace, whatever their
size or structure. Our approach is to take time to
understand the companies and industries we serve,
fostering trusting relationships and recommending
solutions tailored to support their success.
Over the years, we’ve gained considerable
expertise serving industries ranging from aerospace
manufacturing to commercial fishing. In ag banking
alone, our specialists grasp the distinct challenges
and product life cycles faced by grape growers as
compared to hop farmers, and would never put
them in the same barrel.
Serving diverse clients well means having many
products and services to draw upon, from
robust credit products and business checking to
competitive deposit and treasury solutions — some
of which are detailed on these pages.
Banking Services for Families
and Individuals
Just as in Banner’s earliest days, we understand that
clients’ financial needs and goals change depending
on where they are in life. By getting to know the
people we serve, our bankers can offer products
that fit our clients’ needs and lifestyle now and into
the future.
Beyond abundant options for checking, savings,
lines of credit and more, we help clients stay
connected to their accounts any time, any place,
with a full suite of competitive digital banking
solutions. We were again honored to earn external
national recognition for our products and services
and overall client satisfaction.
Of course, we continued our commitment to
financial education, from first-time homebuyer
classes to informative blogs on our website. While
technology is essential in banking today, we
experienced many of our finest moments serving
clients face-to-face and again earned external
national recognition for our products and services.
Specialized Capabilities Integral to
Client Growth
Cash Management -
Our compelling line-up of treasury services meets a
multitude of client needs, and is a growing area of our
business. With service offerings including positive pay,
analyzed checking, international wires and more, we
carefully select platforms and vendor partners to assist
us in delivering dynamic, user-friendly applications.
Our team is generating increasing demand from large
corporations and small businesses to municipal and
governmental agencies with complex treasury needs.
Municipal/Public Finance -
Another growing area of our business is municipality
and public finance. For example, in 2018 we provided
the City of Rialto, California, the financing to install
more than 3,800 new LED street lights, projected
to save the city more than $360,000 annually in
energy and maintenance costs – and as much as $4.2
million over 20 years. Our public financing experts
are bringing straight-forward solutions and expertise
like this to cities, towns and special purpose districts
across our footprint.
Leaning in on Affordable Housing -
Banner is actively engaged in helping address the
affordable housing shortage. We take a multifaceted
approach, including partnering with public and
private entities to find creative solutions. Last year,
we provided financing for a 69-unit housing and
office complex in Seattle’s International District. The
developer, Low Income Housing Institute, is one of
western Washington’s largest providers of housing
for veterans, people with disabilities and the elderly,
and is a client we’ve partnered with before on similar
projects.
San Diego County is another area of focus. There, we
teamed up with several agencies and advocacy groups
to provide financing for affordable housing projects,
including a 77-unit complex in Pacific Heights
Ranch that opened in November and several other
collaborations that are under construction.
100 Best Banks in America - Forbes
(2019, 2018, 2017)
Bauer Financial five-star rating
The Best Bank in the Pacific Region
of U.S. - Money Magazine
(Wash., Calif., Ore. & Alaska)
Washington Regional Lender of the
Year & Oregon Star Performer - U.S.
Small Business Administration
Highest Customer Satisfaction with
Retail Banking in the Northwest –
J.D. Power* (two years in a row)
*Banner Bank received the highest score in the
Northwest in the J.D. Power 2017-2018 U.S.
Retail Banking Satisfaction Studies of customers’
satisfaction with their retail bank.
Visit jdpower.com/awards
Community Financial Continues Building
on Expertise and Trust
When it comes to financing construction, land
development and lot purchases in Oregon and
Southwest Washington, Community Financial
Corporation (CFC), a wholly-owned subsidiary of
Banner Bank, is a recognized market leader. Since
it started in April 2000, the company has provided
$5.7 billion in loans to help build homes and housing
developments.
Company founder and president, John Satterberg,
attributes the success to the strong, mutually trusting
relationships the experienced staff has fostered with
builders and other clients over the years.
“We provide easy access to information and
exceptional, consistent service,” he said. “Builders and
other clients know they can rely on us.”
Islanders Excels in Unique
Washington Landscape
Serving clients in a region accessible only by airplane
or boat is no obstacle to the success of Banner
Corporation subsidiary Islanders Bank. In fact, for
more than 35 years, the independently run company
has forged robust relationships with the communities
it serves with branches in Friday Harbor and on Orcas
and Lopez Islands.
“We had a great year,” Islanders President and CEO
Brad Williamson said. “We have a very loyal client
base, and we’ve had a lot of success working with
local businesses, municipalities and nonprofits. Local
decision making and discipline helped us achieve
strong credit metrics and very good overall financial
performance. Plus, our Banner Bank affiliation allows
us to offer a broader range of products and services
further enhancing our competitiveness.”
Custom Business Solutions
The world of business is ever-changing. So it’s
essential that we continually help our business
clients stay ahead of the pace, whatever their
size or structure. Our approach is to take time to
understand the companies and industries we serve,
fostering trusting relationships and recommending
solutions tailored to support their success.
Over the years, we’ve gained considerable
expertise serving industries ranging from aerospace
manufacturing to commercial fishing. In ag banking
alone, our specialists grasp the distinct challenges
and product life cycles faced by grape growers as
compared to hop farmers, and would never put
them in the same barrel.
Serving diverse clients well means having many
products and services to draw upon, from
robust credit products and business checking to
competitive deposit and treasury solutions — some
of which are detailed on these pages.
Banking Services for Families
and Individuals
Just as in Banner’s earliest days, we understand that
clients’ financial needs and goals change depending
on where they are in life. By getting to know the
people we serve, our bankers can offer products
that fit our clients’ needs and lifestyle now and into
the future.
Beyond abundant options for checking, savings,
lines of credit and more, we help clients stay
connected to their accounts any time, any place,
with a full suite of competitive digital banking
solutions. We were again honored to earn external
national recognition for our products and services
and overall client satisfaction.
Of course, we continued our commitment to
financial education, from first-time homebuyer
classes to informative blogs on our website. While
technology is essential in banking today, we
experienced many of our finest moments serving
clients face-to-face and again earned external
national recognition for our products and services.
Specialized Capabilities Integral to
Client Growth
Cash Management -
Our compelling line-up of treasury services meets a
multitude of client needs, and is a growing area of our
business. With service offerings including positive pay,
analyzed checking, international wires and more, we
carefully select platforms and vendor partners to assist
us in delivering dynamic, user-friendly applications.
Our team is generating increasing demand from large
corporations and small businesses to municipal and
governmental agencies with complex treasury needs.
Municipal/Public Finance -
Another growing area of our business is municipality
and public finance. For example, in 2018 we provided
the City of Rialto, California, the financing to install
more than 3,800 new LED street lights, projected
to save the city more than $360,000 annually in
energy and maintenance costs – and as much as $4.2
million over 20 years. Our public financing experts
are bringing straight-forward solutions and expertise
like this to cities, towns and special purpose districts
across our footprint.
Leaning in on Affordable Housing -
Banner is actively engaged in helping address the
affordable housing shortage. We take a multifaceted
approach, including partnering with public and
private entities to find creative solutions. Last year,
we provided financing for a 69-unit housing and
office complex in Seattle’s International District. The
developer, Low Income Housing Institute, is one of
western Washington’s largest providers of housing
for veterans, people with disabilities and the elderly,
and is a client we’ve partnered with before on similar
projects.
San Diego County is another area of focus. There, we
teamed up with several agencies and advocacy groups
to provide financing for affordable housing projects,
including a 77-unit complex in Pacific Heights
Ranch that opened in November and several other
collaborations that are under construction.
100 Best Banks in America - Forbes
(2019, 2018, 2017)
Bauer Financial five-star rating
The Best Bank in the Pacific Region
of U.S. - Money Magazine
(Wash., Calif., Ore. & Alaska)
Washington Regional Lender of the
Year & Oregon Star Performer - U.S.
Small Business Administration
Highest Customer Satisfaction with
Retail Banking in the Northwest –
J.D. Power* (two years in a row)
*Banner Bank received the highest score in the
Northwest in the J.D. Power 2017-2018 U.S.
Retail Banking Satisfaction Studies of customers’
satisfaction with their retail bank.
Visit jdpower.com/awards
Community Financial Continues Building
on Expertise and Trust
When it comes to financing construction, land
development and lot purchases in Oregon and
Southwest Washington, Community Financial
Corporation (CFC), a wholly-owned subsidiary of
Banner Bank, is a recognized market leader. Since
it started in April 2000, the company has provided
$5.7 billion in loans to help build homes and housing
developments.
Company founder and president, John Satterberg,
attributes the success to the strong, mutually trusting
relationships the experienced staff has fostered with
builders and other clients over the years.
“We provide easy access to information and
exceptional, consistent service,” he said. “Builders and
other clients know they can rely on us.”
Islanders Excels in Unique
Washington Landscape
Serving clients in a region accessible only by airplane
or boat is no obstacle to the success of Banner
Corporation subsidiary Islanders Bank. In fact, for
more than 35 years, the independently run company
has forged robust relationships with the communities
it serves with branches in Friday Harbor and on Orcas
and Lopez Islands.
“We had a great year,” Islanders President and CEO
Brad Williamson said. “We have a very loyal client
base, and we’ve had a lot of success working with
local businesses, municipalities and nonprofits. Local
decision making and discipline helped us achieve
strong credit metrics and very good overall financial
performance. Plus, our Banner Bank affiliation allows
us to offer a broader range of products and services
further enhancing our competitiveness.”
Fellow Shareholders,
For yourself, how do you judge if Banner had a
successful year? Do you look at traditional measures
like returns from dividends and price appreciation?
Do you focus on fundamentals like revenue growth,
return on assets, and capital strength? Do you take
a more expansive view and consider the well-being
of clients, communities and employees? These are
all valid ways to measure how your investment has
produced value for you.
Entrusted with leading Banner on your behalf, I deal
with the same questions of measurement. How do
I decide if we just did okay or if we did really well? I
look at the same things you do but with a small twist:
I focus on whether we did what we said we were
going to do and whether we put ourselves in position
to improve the next year.
To judge whether we did what we said we’d do
requires a plan, something that, as I’ve said before, is
taken seriously at Banner. During a rigorous planning
process, one that’s ambitious but realistic, you wrestle
with the realization that the odds of hitting every single
target in the next year are often longer than shorter.
Should that be discouraging? Not at all … if you’re
confident you can accomplish what you’ve settled on
and you continue to gain on your challenges.
Last year, I wrote about the difficult decision to alter
our plan and reduce our assets under $10 billion to
delay for one more year the impact of the Durbin
Amendment cap on debit card interchange fees. I
suggested at the time that the revenue we preserved
might well help us reestablish our growth trajectory
in 2018. I can’t claim cause and effect, but here we
are today, a nearly $12 billion institution, having grown
both organically and through acquisition.
And considering some of the metrics listed above, in
2018, Banner enjoyed:
• Its highest stock price in ten years (split-adjusted),
• More than a 50% increase in its basic dividend
(with a special dividend to boot),
• Its strongest growth in core revenue in ten years
(outside the AmericanWest acquisition),
• Its best return on average assets in six years,
• Retention of its very strong capital position and
loan loss reserve,
• J.D. Power’s highest ranking for retail bank
customer satisfaction in the Pacific Northwest for
two consecutive years,
• Active community volunteer involvement, and
• Surveys confirming our employees are engaged
and like working here.
On November 1, 2018, we closed on our acquisition
of Skagit Bank, a $900 million community bank in the
North Sound region of Washington, a key section of
the I-5 corridor where Banner has long wanted greater
representation. It’s proven to be a superb fit of like-
minded bankers with a client-first culture. It may also
have set new standards for approval speed, integration
effectiveness, and systems conversion efficiency
(completed in February 2019). It’s my privilege to
welcome the Skagit community of clients and bankers
to Banner. I would also like to welcome Skagit’s
former Chief Executive Officer, Cheryl R. Bishop, who
has joined Banner’s board of directors.
We benefitted in 2018 from investments made in 2017
to provide better, more efficient scalability for a larger
Banner. Although a certain level of cost will persist,
we’ve now bridged the bump in expenditures required
to enhance risk management and compliance systems
along with upgrades to technology and service
delivery platforms, all of which will facilitate further
growth in our robust footprint of Washington, Oregon,
California, and Idaho.
At December 31, 2018, Banner Corporation had $11.9
billion in assets, $8.6 billion in net loans and $9.5
billion in deposits. Our balance sheet, which we
leveraged over the $10 billion in assets threshold early
in the year and augmented with the acquisition of
Skagit, exhibits solid core deposit funding, excellent
asset quality and a strong capital base.
For the year ended December 31, 2018, Banner
Corporation reported a net profit available to common
shareholders of $136.5 million or $4.15 per diluted
share, compared to $60.8 million, or $1.84 per diluted
share in 2017. Operating results for the year included
$5.6 million in acquisition-related expenses offset
by $5.5 million of tax benefit adjustments. Results
in 2017 were impacted by several one-time events
including an additional tax expense of $42.6 million
following revaluation of deferred tax assets as a result
of tax reform and the sale of our Utah operations.
Excluding the impact of these items as well as gains
and losses on the sale of securities and changes in fair
value of financial instruments, net income from core
operations for the year ended December 31, 2018 was
a record $134.6 million or $4.09 per diluted share, a
36% increase compared to $98.8 million or $2.99 per
diluted share in 2017.
ti
100 Best Banks in America - Forbes
(2019, 2018, 2017)
Bauer Financial five-star rating
The Best Bank in the Pacific Region
of U.S. - Money Magazine
(Wash., Calif., Ore. & Alaska)
Washington Regional Lender of the
Year & Oregon Star Performer - U.S.
Small Business Administration
Highest Customer Satisfaction with
Retail Banking in the Northwest –
J.D. Power* (two years in a row)
*Banner Bank received the highest score in the
Northwest in the J.D. Power 2017-2018 U.S.
Retail Banking Satisfaction Studies of customers’
satisfaction with their retail bank.
Visit jdpower.com/awards
Community Financial Continues Building
on Expertise and Trust
When it comes to financing construction, land
development and lot purchases in Oregon and
Southwest Washington, Community Financial
Corporation (CFC), a wholly-owned subsidiary of
Banner Bank, is a recognized market leader. Since
it started in April 2000, the company has provided
$5.7 billion in loans to help build homes and housing
developments.
Company founder and president, John Satterberg,
attributes the success to the strong, mutually trusting
relationships the experienced staff has fostered with
builders and other clients over the years.
“We provide easy access to information and
exceptional, consistent service,” he said. “Builders and
other clients know they can rely on us.”
Islanders Excels in Unique
Washington Landscape
Serving clients in a region accessible only by airplane
or boat is no obstacle to the success of Banner
Corporation subsidiary Islanders Bank. In fact, for
more than 35 years, the independently run company
has forged robust relationships with the communities
it serves with branches in Friday Harbor and on Orcas
and Lopez Islands.
“We had a great year,” Islanders President and CEO
Brad Williamson said. “We have a very loyal client
base, and we’ve had a lot of success working with
local businesses, municipalities and nonprofits. Local
decision making and discipline helped us achieve
strong credit metrics and very good overall financial
performance. Plus, our Banner Bank affiliation allows
us to offer a broader range of products and services
further enhancing our competitiveness.”
Fellow Shareholders,
For yourself, how do you judge if Banner had a
successful year? Do you look at traditional measures
like returns from dividends and price appreciation?
Do you focus on fundamentals like revenue growth,
return on assets, and capital strength? Do you take
a more expansive view and consider the well-being
of clients, communities and employees? These are
all valid ways to measure how your investment has
produced value for you.
Entrusted with leading Banner on your behalf, I deal
with the same questions of measurement. How do
I decide if we just did okay or if we did really well? I
look at the same things you do but with a small twist:
I focus on whether we did what we said we were
going to do and whether we put ourselves in position
to improve the next year.
To judge whether we did what we said we’d do
requires a plan, something that, as I’ve said before, is
taken seriously at Banner. During a rigorous planning
process, one that’s ambitious but realistic, you wrestle
with the realization that the odds of hitting every single
target in the next year are often longer than shorter.
Should that be discouraging? Not at all … if you’re
confident you can accomplish what you’ve settled on
and you continue to gain on your challenges.
Last year, I wrote about the difficult decision to alter
our plan and reduce our assets under $10 billion to
delay for one more year the impact of the Durbin
Amendment cap on debit card interchange fees. I
suggested at the time that the revenue we preserved
might well help us reestablish our growth trajectory
in 2018. I can’t claim cause and effect, but here we
are today, a nearly $12 billion institution, having grown
both organically and through acquisition.
And considering some of the metrics listed above, in
2018, Banner enjoyed:
• Its highest stock price in ten years (split-adjusted),
• More than a 50% increase in its basic dividend
(with a special dividend to boot),
• Its strongest growth in core revenue in ten years
(outside the AmericanWest acquisition),
• Its best return on average assets in six years,
• Retention of its very strong capital position and
loan loss reserve,
• J.D. Power’s highest ranking for retail bank
customer satisfaction in the Pacific Northwest for
two consecutive years,
• Active community volunteer involvement, and
• Surveys confirming our employees are engaged
and like working here.
On November 1, 2018, we closed on our acquisition
of Skagit Bank, a $900 million community bank in the
North Sound region of Washington, a key section of
the I-5 corridor where Banner has long wanted greater
representation. It’s proven to be a superb fit of like-
minded bankers with a client-first culture. It may also
have set new standards for approval speed, integration
effectiveness, and systems conversion efficiency
(completed in February 2019). It’s my privilege to
welcome the Skagit community of clients and bankers
to Banner. I would also like to welcome Skagit’s
former Chief Executive Officer, Cheryl R. Bishop, who
has joined Banner’s board of directors.
We benefitted in 2018 from investments made in 2017
to provide better, more efficient scalability for a larger
Banner. Although a certain level of cost will persist,
we’ve now bridged the bump in expenditures required
to enhance risk management and compliance systems
along with upgrades to technology and service
delivery platforms, all of which will facilitate further
growth in our robust footprint of Washington, Oregon,
California, and Idaho.
At December 31, 2018, Banner Corporation had $11.9
billion in assets, $8.6 billion in net loans and $9.5
billion in deposits. Our balance sheet, which we
leveraged over the $10 billion in assets threshold early
in the year and augmented with the acquisition of
Skagit, exhibits solid core deposit funding, excellent
asset quality and a strong capital base.
For the year ended December 31, 2018, Banner
Corporation reported a net profit available to common
shareholders of $136.5 million or $4.15 per diluted
share, compared to $60.8 million, or $1.84 per diluted
share in 2017. Operating results for the year included
$5.6 million in acquisition-related expenses offset
by $5.5 million of tax benefit adjustments. Results
in 2017 were impacted by several one-time events
including an additional tax expense of $42.6 million
following revaluation of deferred tax assets as a result
of tax reform and the sale of our Utah operations.
Excluding the impact of these items as well as gains
and losses on the sale of securities and changes in fair
value of financial instruments, net income from core
operations for the year ended December 31, 2018 was
a record $134.6 million or $4.09 per diluted share, a
36% increase compared to $98.8 million or $2.99 per
diluted share in 2017.
Bob and Gordon have provided excellent leadership
by actively participating on and heading various critical
Board committees. They’ve all provided many years
of sound guidance and expertise, especially during the
credit crisis and Great Recession.
Thank you for your continuing interest in and
commitment to Banner. The world today can look
rather unfamiliar at times, making it even more
imperative that we continue to focus on what’s within
our control. So, I look forward to following our plan
for 2019 and reporting further progress to you next
year.
Mark J. Grescovich
President and Chief Executive Officer
Banner Corporation and Banner Bank
Custom Business Solutions
The world of business is ever-changing. So it’s
essential that we continually help our business
clients stay ahead of the pace, whatever their
size or structure. Our approach is to take time to
understand the companies and industries we serve,
fostering trusting relationships and recommending
solutions tailored to support their success.
Over the years, we’ve gained considerable
expertise serving industries ranging from aerospace
manufacturing to commercial fishing. In ag banking
alone, our specialists grasp the distinct challenges
and product life cycles faced by grape growers as
compared to hop farmers, and would never put
them in the same barrel.
Serving diverse clients well means having many
products and services to draw upon, from
robust credit products and business checking to
competitive deposit and treasury solutions — some
of which are detailed on these pages.
Banking Services for Families
and Individuals
Just as in Banner’s earliest days, we understand that
clients’ financial needs and goals change depending
on where they are in life. By getting to know the
people we serve, our bankers can offer products
that fit our clients’ needs and lifestyle now and into
the future.
Beyond abundant options for checking, savings,
lines of credit and more, we help clients stay
connected to their accounts any time, any place,
with a full suite of competitive digital banking
solutions. We were again honored to earn external
national recognition for our products and services
and overall client satisfaction.
Of course, we continued our commitment to
financial education, from first-time homebuyer
classes to informative blogs on our website. While
technology is essential in banking today, we
experienced many of our finest moments serving
clients face-to-face and again earned external
national recognition for our products and services.
Specialized Capabilities Integral to
Client Growth
Cash Management -
Our compelling line-up of treasury services meets a
multitude of client needs, and is a growing area of our
business. With service offerings including positive pay,
analyzed checking, international wires and more, we
carefully select platforms and vendor partners to assist
us in delivering dynamic, user-friendly applications.
Our team is generating increasing demand from large
corporations and small businesses to municipal and
governmental agencies with complex treasury needs.
Municipal/Public Finance -
Another growing area of our business is municipality
and public finance. For example, in 2018 we provided
the City of Rialto, California, the financing to install
more than 3,800 new LED street lights, projected
to save the city more than $360,000 annually in
energy and maintenance costs – and as much as $4.2
million over 20 years. Our public financing experts
are bringing straight-forward solutions and expertise
like this to cities, towns and special purpose districts
across our footprint.
Leaning in on Affordable Housing -
Banner is actively engaged in helping address the
affordable housing shortage. We take a multifaceted
approach, including partnering with public and
private entities to find creative solutions. Last year,
we provided financing for a 69-unit housing and
office complex in Seattle’s International District. The
developer, Low Income Housing Institute, is one of
western Washington’s largest providers of housing
for veterans, people with disabilities and the elderly,
and is a client we’ve partnered with before on similar
projects.
San Diego County is another area of focus. There, we
teamed up with several agencies and advocacy groups
to provide financing for affordable housing projects,
including a 77-unit complex in Pacific Heights
Ranch that opened in November and several other
collaborations that are under construction.
I would also draw your attention to these measures:
• Our return on average assets improved to 1.29%
compared to 0.60% in 2017,
• Revenues from core operations increased 9% to
$512 million compared to $471 million in 2017,
• Core deposits increased $940 million or 13%
(including $696 of core deposits from Skagit Bank)
and represented 86% of total deposits at year end.
Loans outstanding grew $1.1 billion or 14%
(including $632 million of loans from Skagit Bank),
•
• Our net interest margin improved to 4.43%
supported by growth of $392 million or 12% in
non-interest-bearing deposits, which now
represent 39% of total deposits,
• Deposit fees and other services-based revenues
increased 11%, reflecting substantial growth in our
client base, and
• Our mortgage banking operations continued to
produce solid net revenue.
Credit costs remained exceptionally low with
net charge-offs of only 0.013% of average loans
outstanding and non-performing assets at just 0.16%
of total assets. Our reserve to total loans remained
very strong at 1.11% after recording an $8.5 million
provision for loan losses driven primarily by loan
growth and the reclassification of acquired loans upon
renewal. When combined with our tangible common
equity ratio of 9.62%, we maintain one of the strongest
balance sheets in the industry, providing considerable
flexibility for strategic initiatives.
In addition to increasing the quarterly cash dividends
declared to shareholders from $0.25 per share to
$0.38 per share over the course of the year and paying
a $0.50 special dividend in July, we repurchased
594,711 shares of common stock. The Company’s
tangible book value stood at $31.45 per share at
December 31, 2018.
In summary, through the hard work of my colleagues
throughout Banner, we executed on our strategic plan
and put ourselves in a position to do well in 2019. It’s
from that perspective that I’m confident saying 2018
was a very successful year for Banner.
In closing, I want to thank everyone at Banner for
their extraordinary commitment and hard work, for
being Connected, Knowledgeable, Responsive. And
I especially want to thank Gary Sirmon, Bob Adams
and Gordon Budke, who are leaving the board this
year. Gary took a modest-sized thrift, First Federal
Savings and Loan Association of Walla Walla, and
transformed it into the company you know today..
He’s done yeoman’s duty as chairman for 21 years.
or
Fellow Shareholders,
For yourself, how do you judge if Banner had a
successful year? Do you look at traditional measures
like returns from dividends and price appreciation?
Do you focus on fundamentals like revenue growth,
return on assets, and capital strength? Do you take
a more expansive view and consider the well-being
of clients, communities and employees? These are
all valid ways to measure how your investment has
produced value for you.
Entrusted with leading Banner on your behalf, I deal
with the same questions of measurement. How do
I decide if we just did okay or if we did really well? I
look at the same things you do but with a small twist:
I focus on whether we did what we said we were
going to do and whether we put ourselves in position
to improve the next year.
To judge whether we did what we said we’d do
requires a plan, something that, as I’ve said before, is
taken seriously at Banner. During a rigorous planning
process, one that’s ambitious but realistic, you wrestle
with the realization that the odds of hitting every single
target in the next year are often longer than shorter.
Should that be discouraging? Not at all … if you’re
confident you can accomplish what you’ve settled on
and you continue to gain on your challenges.
Last year, I wrote about the difficult decision to alter
our plan and reduce our assets under $10 billion to
delay for one more year the impact of the Durbin
Amendment cap on debit card interchange fees. I
suggested at the time that the revenue we preserved
might well help us reestablish our growth trajectory
in 2018. I can’t claim cause and effect, but here we
are today, a nearly $12 billion institution, having grown
both organically and through acquisition.
And considering some of the metrics listed above, in
2018, Banner enjoyed:
• Its highest stock price in ten years (split-adjusted),
• More than a 50% increase in its basic dividend
(with a special dividend to boot),
• Its strongest growth in core revenue in ten years
(outside the AmericanWest acquisition),
• Its best return on average assets in six years,
• Retention of its very strong capital position and
loan loss reserve,
• J.D. Power’s highest ranking for retail bank
customer satisfaction in the Pacific Northwest f
two consecutive years,
• Active community volunteer involvement, and
• Surveys confirming our employees are engaged
and like working here.
or
On November 1, 2018, we closed on our acquisition
of Skagit Bank, a $900 million community bank in the
North Sound region of Washington, a key section of
the I-5 corridor where Banner has long wanted greater
representation. It’s proven to be a superb fit of like-
minded bankers with a client-first culture. It may also
have set new standards for approval speed, integration
effectiveness, and systems conversion efficiency
(completed in February 2019). It’s my privilege to
welcome the Skagit community of clients and bankers
to Banner. I would also like to welcome Skagit’s
former Chief Executive Officer, Cheryl R. Bishop, who
has joined Banner’s board of directors.
We benefitted in 2018 from investments made in 2017
to provide better, more efficient scalability for a larger
Banner. Although a certain level of cost will persist,
we’ve now bridged the bump in expenditures required
to enhance risk management and compliance systems
along with upgrades to technology and service
delivery platforms, all of which will facilitate further
growth in our robust footprint of Washington, Oregon,
California, and Idaho.
At December 31, 2018, Banner Corporation had $11.9
billion in assets, $8.6 billion in net loans and $9.5
billion in deposits. Our balance sheet, which we
leveraged over the $10 billion in assets threshold early
in the year and augmented with the acquisition of
Skagit, exhibits solid core deposit funding, excellent
asset quality and a strong capital base.
For the year ended December 31, 2018, Banner
Corporation reported a net profit available to common
shareholders of $136.5 million or $4.15 per diluted
share, compared to $60.8 million, or $1.84 per diluted
share in 2017. Operating results for the year included
$5.6 million in acquisition-related expenses offset
by $5.5 million of tax benefit adjustments. Results
in 2017 were impacted by several one-time events
including an additional tax expense of $42.6 million
following revaluation of deferred tax assets as a result
of tax reform and the sale of our Utah operations.
Excluding the impact of these items as well as gains
and losses on the sale of securities and changes in fair
value of financial instruments, net income from core
operations for the year ended December 31, 2018 was
a record $134.6 million or $4.09 per diluted share, a
36% increase compared to $98.8 million or $2.99 per
diluted share in 2017.
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
[X]
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE
FISCAL YEAR ENDED DECEMBER 31, 2018
OR
[ ]
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 0-26584
BANNER CORPORATION
(Exact name of registrant as specified in its charter)
Washington
(State or other jurisdiction of incorporation
or organization)
91-1691604
(I.R.S. Employer
Identification Number)
10 South First Avenue, Walla Walla, Washington 99362
(Address of principal executive offices and zip code)
Registrant’s telephone number, including area code: (509) 527-3636
Securities registered pursuant to Section 12(b) of the Act:
Common Stock, par value $.01 per share
(Title of Each Class)
The NASDAQ Stock Market LLC
(Name of Each Exchange on Which Registered)
Securities registered pursuant to section 12(g) of the Act:
None.
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act Yes X No _
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act Yes __No X
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 X No ____
Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted 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 such files) Yes X No ____
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulations S-K is not contained herein, and will not be contained,
to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or
any amendment to this Form 10-K. ____
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company
or emerging growth company. See definition of "large accelerated filer," "accelerated filer," "smaller reporting company" and emerging growth
company in Rule 12b-2 of the Exchange Act:
Large accelerated filer X
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 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 Act) Yes ____ No X
The aggregate market value of the voting and non-voting common equity held by nonaffiliates of the registrant based on the closing sales price
of the registrant’s common stock quoted on The NASDAQ Stock Market on June 30, 2018, was:
Common Stock – $1,914,245,405
(The exclusion from such amount of the market value of the shares owned by any person shall not be deemed an admission by the Registrant
that such person is an affiliate of the Registrant.)
The number of shares outstanding of the registrant’s classes of common stock as of January 31, 2019:
Common Stock, $.01 par value – 35,106,227 shares
Non-voting Common Stock, $.01 par value – 74,933 shares
Documents Incorporated by Reference
Portions of Proxy Statement for Annual Meeting of Shareholders to be held April 25, 2019 are incorporated by reference into Part III.
2
Table of Contents
PART I
Item 1.
Business
BANNER CORPORATION AND SUBSIDIARIES
Page
Forward-Looking Statements
Certain matters in this Form 10-K constitute forward-looking statements within the meaning of the Private Securities Litigation Reform Act of
1995. These statements relate to our financial condition, liquidity, results of operations, plans, objectives, future performance or
business. Forward-looking statements are not statements of historical fact, are based on certain assumptions and are generally identified by use
of the words “believes,” “expects,” “anticipates,” “estimates,” “forecasts,” “intends,” “plans,” “targets,” “potentially,” “probably,” “projects,”
“outlook” or similar expressions or future or conditional verbs such as “may,” “will,” “should,” “would” and “could.” Forward-looking statements
include statements with respect to our beliefs, plans, objectives, goals, expectations, assumptions and statements about future economic
performance and projections of financial items. These forward-looking statements are subject to known and unknown risks, uncertainties and
other factors that could cause actual results to differ materially from the results anticipated or implied by our forward-looking statements,
including, but not limited to: expected revenues, cost savings, synergies and other benefits from the merger of Banner and Skagit Bancorp, Inc.
(Skagit) might not be realized within the expected time frames or at all and costs or difficulties relating to integration matters, including but not
limited to customer and employee retention, might be greater than expected; the credit risks of lending activities, including changes in the level
and trend of loan delinquencies and write-offs and changes in estimates of adequacy of the allowance for loan losses and provisions for loan
losses that may be impacted by deterioration in the housing and commercial real estate markets and may lead to increased losses and non-
performing assets, and may result in the allowance for loan losses not being adequate to cover actual losses and require a material increase in
reserves; results of examinations by regulatory authorities, including the possibility that any such regulatory authority may, among other things,
require the writing down of assets or increases in the allowance for loan losses; the ability to manage loan delinquency rates; competitive pressures
among financial services companies; changes in consumer spending or borrowing and spending habits; interest rate movements generally and
the relative differences between short and long-term interest rates, loan and deposit interest rates, net interest margin and funding sources; the
impact of repricing and competitors' pricing initiatives on loan and deposit products; fluctuations in the demand for loans, the number of unsold
homes, land and other properties and fluctuations in real estate values; the ability to adapt successfully to technological changes to meet customers'
needs and developments in the marketplace; the ability to access cost-effective funding; increases in premiums for deposit insurance; the ability
to control operating costs and expenses; the use of estimates in determining fair value of certain assets and liabilities which estimates may prove
to be incorrect and result in significant changes in valuation; staffing fluctuations in response to product demand or the implementation of
corporate strategies that affect employees, and potential associated charges; disruptions, security breaches or other adverse events, failures or
interruptions in, or attacks on information technology systems or on the third-party vendors who perform critical processing functions; changes
in financial markets; changes in economic conditions in general and in Washington, Idaho, Oregon and California in particular; secondary market
conditions for loans and the ability to originate loans for sale and sell loans in the secondary market; the costs effects and outcomes of litigation;
legislation or regulatory changes or reforms, including changes in regulatory policies and principles, or the interpretation of regulatory capital
or other rules, including changes related to Basel III; the impact of the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010
and the implementing regulations; results of safety and soundness and compliance examinations by the Board of Governors of the Federal
Reserve System (the Federal Reserve), the Federal Deposit Insurance Corporation (the FDIC), the Washington State Department of Financial
Institutions, Division of Banks (the Washington DFI) or other regulatory authorities, including the possibility that any such regulatory authority
may, among other things, require restitution or institute an informal or formal enforcement action which could require an increase in reserves
for loan losses, write-downs of assets, or changes in regulatory capital position or affect the ability to borrow funds, or maintain or increase
deposits, or impose additional requirements and restrictions, any of which could adversely affect liquidity and earnings; the availability of
resources to address changes in laws, rules, or regulations or to respond to regulatory actions; adverse changes in the securities markets; the
inability of key third-party providers to perform their obligations; changes in accounting principles, policies or guidelines, including additional
guidance and interpretation on accounting issues and details of the implementation of new accounting methods; the economic impact of war or
any terrorist activities; other economic, competitive, governmental, regulatory, and technological factors affecting our operations, pricing,
products and services; future acquisitions by Banner of other depository institutions or lines of business; and future goodwill impairment due
to changes in Banner's business, changes in market conditions, or other factors; and other risks detailed from time to time in our filings with the
U.S. Securities and Exchange Commission (SEC), including this report on Form 10-K. Any forward-looking statements are based upon
management’s beliefs and assumptions at the time they are made. We do not undertake and specifically disclaim any obligation to update any
forward-looking statements included in this report or the reasons why actual results could differ from those contained in such statements, whether
as a result of new information, future events or otherwise. These risks could cause our actual results to differ materially from those expressed
in any forward-looking statements by, or on behalf of, us. In light of these risks, uncertainties and assumptions, the forward-looking statements
discussed in this report might not occur, and you should not put undue reliance on any forward-looking statements.
As used throughout this report, the terms “we,” “our,” “us,” or the “Company” refer to Banner Corporation and its consolidated subsidiaries,
unless the context otherwise requires. All references to “Banner” refer to Banner Corporation and those to “the Banks” refer to its wholly-owned
subsidiaries, Banner Bank and Islanders Bank, collectively.
4
Item 1 – Business
PART 1
General
Banner Corporation (the Company) is a bank holding company incorporated in the State of Washington. We are primarily engaged in the business
of planning, directing and coordinating the business activities of our wholly-owned subsidiaries, Banner Bank and Islanders Bank. Banner Bank
is a Washington-chartered commercial bank that conducts business from its main office in Walla Walla, Washington and, as of December 31,
2018, its 179 branch offices located in Washington, Oregon, California and Idaho. Banner Bank also has 17 loan production offices located in
Washington, Oregon, California, Idaho and Utah. Islanders Bank is also a Washington-chartered commercial bank that conducts business from
three locations in San Juan County, Washington. Banner Corporation is subject to regulation by the Federal Reserve. Banner Bank and Islanders
Bank (the Banks) are subject to regulation by the Washington DFI and the FDIC. As of December 31, 2018, we had total consolidated assets
of $11.87 billion, net loans of $8.59 billion, total deposits of $9.48 billion and total shareholders’ equity of $1.48 billion. Our voting common
stock is traded on the NASDAQ Global Select Market under the ticker symbol “BANR.”
Banner Bank is a regional bank which offers a wide variety of commercial banking services and financial products to individuals, businesses
and public sector entities in its primary market areas. Islanders Bank is a community bank which offers similar banking services to individuals,
businesses and public entities located primarily in the San Juan Islands. The Banks' primary business is that of traditional banking institutions,
accepting deposits and originating loans in locations surrounding our offices in portions of Washington, Oregon, California and Idaho. Banner
Bank is also an active participant in the secondary market, engaging in mortgage banking operations largely through the origination and sale of
one- to four-family and multi-family residential loans. Lending activities include commercial business and commercial real estate loans,
agriculture business loans, construction and land development loans, one- to four-family residential loans, small business administration (SBA)
loans and consumer loans.
We continue to invest significantly in our delivery platform across the franchise with a primary emphasis on strengthening our presence in the
higher growth regions of our markets including Puget Sound, greater Portland, Boise, Sacramento and Southern California. Recently, our
acquisition activity included the acquisition of Skagit Bancorp, Inc. (Skagit), the holding company for Skagit Bank in 2018 which has strengthened
our market presence along the I-5 corridor between Seattle and the Canadian border. The acquisition of Skagit, which closed on November 1,
2018, included 11 branches and approximately $915.8 million in assets, $632.4 million in loans and $810.2 million in deposits. In addition to
our expansion efforts, we continue to improve the efficiency of our branch delivery channel with on-going branch consolidations and relocations
and investments in streamlining the origination of new loan and deposit accounts.
In addition to bank acquisitions, relocations and consolidations, we also have focused on expanding our product offerings and invested heavily
in marketing campaigns designed to significantly increase the brand awareness for Banner Bank. These investments have been significant
elements in our strategy to grow customer relationships and have increased our market presence, allowing us to better serve existing and future
customers. This has resulted in an elevated level of non-interest expense; however, we believe our branch network, broader product line and
heightened brand awareness have created a franchise that is well positioned for growth and is allowing us to successfully execute on our super
community bank model. That strategy is focused on delivering customers, including middle market and small businesses, business owners, their
families and employees, a compelling value proposition by providing the financial sophistication and breadth of products of a regional bank
while retaining the appeal, responsiveness, and superior service level of a community bank.
Banner Corporation's successful execution of its strategic initiatives and its super community bank model have delivered sustainable growth
and solid profitability. We have made substantial progress on our goals to achieve and maintain the Company's moderate risk profile as well as
to develop and continue strong earnings momentum. Highlights of this success have included continued strong asset quality, new client
acquisitions, significantly increased non-interest-bearing deposit balances and strong revenue generation from core operations.
For the year ended December 31, 2018, our net income increased to $136.5 million, or $4.15 earnings per diluted share, compared to $60.8
million, or $1.84 earnings per diluted share, for the prior year. The prior year's net income was negatively impacted by a $42.6 million, or $1.29
per diluted share, revaluation of our net deferred tax asset as a result of the enactment of the Tax Cuts and Jobs Act (2017 Tax Act) in December
2017, which reduced the marginal federal corporate income tax rate from 35% to 21%. Current year results were positively impacted by growth
in earnings assets, partially offset by acquisition-related expenses of $5.6 million in 2018. Banner had no acquisition-related expenses in 2017.
Our operating results depend primarily on our net interest income, which is the difference between interest income on interest-earning assets,
consisting of loans and investment securities, and interest expense on interest-bearing liabilities, composed primarily of customer deposits,
Federal Home Loan Bank of Des Moines (FHLB) advances, other borrowings and junior subordinated debentures. Net interest income is
primarily a function of our interest rate spread, which is the difference between the yield earned on interest-earning assets and the rate paid on
interest-bearing liabilities, as well as a function of the average balances of interest-earning assets, interest-bearing liabilities, and non-interest-
bearing funding sources including non-interest-bearing deposits. Our net interest income before provision for loan losses increased 10% to
$431.0 million for the year ended December 31, 2018, compared to $393.0 million for the year ended December 31, 2017. The increase in net
interest income in 2018 was driven by renewed growth in interest-earning assets subsequent to the balance sheet restructuring carried out in the
fourth quarter of 2017 to remain below $10.0 billion in assets at December 31, 2017. Remaining below $10.0 billion at year end 2017 had the
beneficial effect of delaying the adverse impact from certain enhanced regulatory requirements and the Durbin Amendment cap on interchange
revenues. For additional information regarding these regulatory consequences, see Item 1A, Risk Factors, "We may be subject to additional
regulatory scrutiny since Banner Bank maintains total assets exceeding $10.0 billion."
5
Our net income also is affected by the level of our non-interest income, including deposit fees and service charges, results of mortgage banking
operations, which includes loan origination and servicing fees and gains and losses on the sale of one- to four-family and multifamily loans, and
gains and losses on the sale of securities, as well as our non-interest expenses, provisions for loan losses and income tax provisions. In addition,
net income is affected by the net change in the value of certain financial instruments carried at fair value.
Our total revenues (net interest income before the provision for loan losses plus non-interest income) for 2018 increased $36.7 million, or 8%,
to $515.0 million, compared to $478.2 million for 2017. Our total non-interest income, which is a component of total revenue and includes the
net gain on sale of securities, changes in the value of financial instruments carried at fair value and gain on sale of branches including related
loans and deposits, was $84.0 million for the year ended December 31, 2018, compared to $85.2 million for the year ended December 31, 2017.
The year ended December 31, 2017 included a $12.2 million net gain on the sale of seven Utah branches including the related loans and deposits
(the Utah Branch Sale).
Although our credit quality metrics continue to reflect our moderate risk profile, we recorded an $8.5 million provision for loan losses in the
year ended December 31, 2018, primarily due to the organic growth in the loan portfolio, the renewal of acquired loans out of the discounted
loan portfolios and net charge-offs, compared to an $8.0 million provision recorded in 2017. Non-performing loans decreased to $15.7 million
at December 31, 2018, compared to $27.0 million a year earlier. Our allowance for loan losses at December 31, 2018 was $96.5 million, or
1.11% of total loans outstanding and 616% of non-performing loans. (See Note 5, Loans Receivable and the Allowance for Loan Losses, of the
Notes to the Consolidated Financial Statements as well as “Asset Quality” below.)
Our non-interest expense increased 7% to $341.4 million for the year ended December 31, 2018, compared to $319.0 million for the year ended
December 31, 2017. The year-over-year increase in non-interest expense was largely attributable to increased salary and employee benefits as
compared to a year ago largely due to inclusion of the acquired Skagit operations for the last two months of 2018, and enhanced regulatory
requirements attributable to compliance and risk management infrastructure build-out along with acquisition-related costs incurred in 2018.
Recent Developments and Significant Events
Acquisition of Skagit Bancorp, Inc.
Effective November 1, 2018, the Company acquired 100% of the outstanding common shares of Skagit and its wholly-owned subsidiary, Skagit
Bank, a Washington State chartered commercial bank headquartered in Burlington, Washington, with 11 branches serving markets along the I-5
corridor from Seattle to the Canadian border. On that date, Skagit merged with and into Banner and Skagit Bank merged with and into Banner
Bank. Pursuant to the previously announced terms of the merger, the equity holders of Skagit received an aggregate of 3.1 million shares of
Banner voting common stock, plus cash in lieu of fractional shares and cash to buy out Skagit stock options for a total consideration paid of
$180.0 million. The acquisition provided $915.8 million in assets, $632.4 million in loans and $810.2 million in deposits. See Note 3 of the
Notes to the Consolidated Financial Statements for additional information.
Sale of Utah Branches
On October 6, 2017, Banner Bank completed the sale of its Utah branches and related assets and liabilities to People’s Intermountain Bank, a
banking subsidiary of People’s Utah Bancorp (NASDAQ: PUB).
Under the terms of the purchase and assumption agreement, the sale included $253.8 million in loans, $160.3 million in deposits and all of
Banner Bank’s seven Utah branches, located in Provo, Orem, Salem, Springville, South Jordan, Salt Lake City and Woods Cross. The sale also
included $4.0 million of property and equipment and $581,000 of accrued interest. In addition, Banner allocated an associated $1.9 million of
goodwill and $1.1 million of other intangible assets with the divestiture, which constituted the disposal of a business. The deposit premium paid
to Banner was $13.8 million based on average daily deposits for a period prior to closing. The net gain recorded on the Utah Branch Sale was
$12.2 million.
Lending Activities
General: All of our lending activities are conducted through Banner Bank, its subsidiary, Community Financial Corporation, a residential
construction lender located in Portland, Oregon, and Islanders Bank. We offer a wide range of loan products to meet the demands of our customers
and our loan portfolio is very diversified by product type, borrower and geographic location within our market area. We originate loans for our
own loan portfolio and for sale in the secondary market. Management’s strategy has been to maintain a well-diversified portfolio with a significant
percentage of assets in the loan portfolio having more frequent interest rate repricing terms or shorter maturities than traditional long-term fixed-
rate mortgage loans. As part of this effort, we offer a variety of floating or adjustable interest rate products that correlate more closely with our
cost of interest-bearing funds, particularly loans for commercial business and real estate, agricultural business, and construction and development
purposes. However, in response to customer demand, we continue to originate fixed-rate loans, including fixed interest rate mortgage loans
with terms of up to 30 years. The relative amount of fixed-rate loans and adjustable-rate loans that can be originated at any time is largely
determined by the demand for each in a competitive environment. At December 31, 2018, our net loan portfolio totaled $8.59 billion compared
to $7.51 billion at December 31, 2017.
6
Our lending activities are primarily directed toward the origination of real estate and commercial loans. Commercial real estate loans include
owner-occupied, investment properties and multifamily residential real estate. Although our level of activity and investment in commercial real
estate loans has been relatively stable for many years, we have experienced an increase in new originations in recent periods. We also originate
construction, land and land development loans, a significant component of which is our residential one- to four-family construction loans.
Originations of one- to four-family construction loans have increased in recent years as builders have expanded production and experienced
strong sales in many of the markets we serve. Our origination of construction and development loans has been significant during this period
and balances in this portion of the portfolio have increased in recent periods but not at the same pace of originations as brisk sales of new homes
have produced rapid turnover through repayments. Our commercial business lending is directed toward meeting the credit and related deposit
and treasury management needs of various small- to medium-sized business and agribusiness borrowers operating in our primary market areas.
In recent years, our commercial business lending has also included participation in certain national syndicated loans. Reflecting the expanding
economy of the western United States, demand for these types of commercial business loans has strengthened and our production levels have
increased in recent periods. Our residential mortgage loan originations have been relatively strong in recent years, as exceptionally low interest
rates have supported demand for loans to refinance existing debt as well as loans to finance home purchases; however, increases in market
interest rates over the last year reduced residential mortgage loan originations in 2018. Most of the one- to four-family loans that we originate
are sold in the secondary markets with net gains on sales and loan servicing fees reflected in our revenues from mortgage banking. Our consumer
loan activity is primarily directed at meeting demand from our existing deposit customers. We have increased our emphasis on consumer lending
in recent years primarily related to increased home equity lines of credit.
For additional information concerning our loan portfolio, see Item 7 of this report, “Management’s Discussion and Analysis of Financial Condition
and Results of Operations—Comparison of Financial Condition at December 31, 2018 and 2017—Loans and Lending” including Tables 4 and
5, which sets forth the composition and geographic concentration of our loan portfolio, and Tables 6 and 7, which contain information regarding
the loans maturing in our portfolio.
One- to Four-Family Residential Real Estate Lending: At both Banner Bank and Islanders Bank, we originate loans secured by first mortgages
on one- to four-family residences in the markets we serve. Through our mortgage banking activities, we sell residential loans on either a servicing-
retained or servicing-released basis. In recent years, we have generally sold a significant portion of our conventional residential mortgage
originations and nearly all of our government insured loans in the secondary market. At December 31, 2018, $973.6 million, or 11% of our loan
portfolio, consisted of permanent loans on one- to four-family residences.
We offer fixed- and adjustable-rate mortgages (ARMs) at rates and terms competitive with market conditions, primarily with the intent of selling
these loans into the secondary market. Fixed-rate loans generally are offered on a fully amortizing basis for terms ranging from 10 to 30 years
at interest rates and fees that reflect current secondary market pricing. Most ARM products offered adjust annually after an initial period ranging
from one to five years, subject to a limitation on the annual adjustment and a lifetime rate cap. For a small portion of the portfolio, where the
initial period exceeds one year, the first interest rate change may exceed the annual limitation on subsequent adjustments. Our ARM products
most frequently adjust based upon the average yield on Treasury securities adjusted to a constant maturity of one year or certain London Interbank
Offered Rate (LIBOR) indices plus a margin or spread above the index. ARM loans held in our portfolio may allow for interest-only payments
for an initial period up to five years but do not provide for negative amortization of principal and carry no prepayment restrictions. The retention
of ARM loans in our loan portfolio can help reduce our exposure to changes in interest rates. However, borrower demand for ARM loans versus
fixed-rate mortgage loans is a function of the level of interest rates, the expectations of changes in the level of interest rates and the difference
between the initial interest rates and fees charged for each type of loan. In recent years, borrower demand for ARM loans has been limited and
we have chosen not to aggressively pursue ARM loans by offering minimally profitable, deeply discounted teaser rates or option-payment ARM
products. As a result, ARM loans have represented only a small portion of our loans originated during recent periods.
Our residential loans are generally underwritten and documented in accordance with the guidelines established by the Federal Home Loan
Mortgage Corporation (Freddie Mac or FHLMC) and the Federal National Mortgage Association (Fannie Mae or FNMA). Government insured
loans are underwritten and documented in accordance with the guidelines established by the Department of Housing and Urban Development
(HUD) and the Veterans Administration (VA). In the loan approval process, we assess the borrower’s ability to repay the loan, the adequacy of
the proposed security, the employment stability of the borrower and the creditworthiness of the borrower. For ARM loans, our standard practice
provides for underwriting based upon fully indexed interest rates and payments. Generally, we will lend up to 95% of the lesser of the appraised
value or purchase price of the property on conventional loans, although higher loan-to-value ratios are available on secondary market
programs. We require private mortgage insurance on conventional residential loans with a loan-to-value ratio at origination exceeding 80%.
Construction and Land Lending: Historically, we have invested a significant portion of our loan portfolio in residential construction and land
loans to professional home builders and developers. We also make construction loans to qualified owner occupants, which upon completion of
the construction phase convert to long-term amortizing one- to four-family residential loans that are eligible for sale in the secondary market.
We regularly monitor our construction and land loan portfolios and the economic conditions and housing inventory in each of our markets and
increase or decrease this type of lending as we observe market conditions change. Our residential construction and land and land development
lending has been recently increasing in select markets and has made a meaningful contribution to our net interest income and profitability. To
a lesser extent, we also originate construction loans for commercial and multifamily real estate. Although well diversified with respect to sub-
markets, price ranges and borrowers, our construction, land and land development loans are significantly concentrated in the greater Puget Sound
region of Washington State and the Portland, Oregon market area. At December 31, 2018, construction, land and land development loans totaled
$1.11 billion, or 13% of total loans; 65% of the balance was comprised of one- to four-family construction and residential land and land
development loans, with the remaining balance comprised of commercial and multifamily real estate construction loans and commercial land
or land development loans.
7
Construction and land lending affords us the opportunity to achieve higher interest rates and fees with shorter terms to maturity than are usually
available on other types of lending. Construction and land lending, however, involves a higher degree of risk than other lending opportunities.
We attempt to address these risks by adhering to strict underwriting policies, disbursement procedures and monitoring practices. For additional
information concerning the risks associated with Construction and land lending, see Item 1A., “Risk Factors—Our loan portfolio includes loans
with a higher risk of loss.”
On a more limited basis, we also make land loans to developers, builders and individuals to finance the acquisition and/or development of
improved lots or unimproved land. In making land loans, we follow underwriting policies and disbursement and monitoring procedures similar
to those for construction loans. The initial term on land loans is typically one to three years with interest only payments, payable monthly, and
provisions for principal reduction as lots are sold and released from the lien of the mortgage.
Commercial and Multifamily Real Estate Lending: We originate loans secured by multifamily and commercial real estate, including loans for
construction of multifamily and commercial real estate projects. Commercial real estate loans are made for both owner-occupied and investor-
owned properties. At December 31, 2018, our loan portfolio included $2.13 billion in non-owner-occupied commercial real estate loans, $1.43
billion in owner-occupied commercial real estate loans and $368.8 million in multifamily loans which in aggregate comprised 45% of our total
loans. Multifamily and commercial real estate lending affords us an opportunity to receive interest at rates higher than those generally available
from one- to four-family residential lending. In originating multifamily and commercial real estate loans, we consider the location, marketability
and overall attractiveness of the properties. Our underwriting guidelines for multifamily and commercial real estate loans require an appraisal
from a qualified independent appraiser and an economic analysis of each property with regard to the annual revenue and expenses, debt service
coverage and fair value to determine the maximum loan amount. In the approval process we assess the borrowers’ willingness and ability to
manage the property and repay the loan and the adequacy of the collateral in relation to the loan amount. For information concerning the risks
associated with commercial and multifamily real estate lending, see Item 1A., “Risk Factors—Our loan portfolio includes loans with a higher
risk of loss.”
Multifamily and commercial real estate loans originated by us are both fixed- and adjustable-rate loans with intermediate terms of generally five
to ten years. A significant portion of our multifamily and commercial real estate loans are linked to various FHLB advance rates, certain prime
rates, US Treasury rates, or other market rate indices. Rates on these adjustable-rate loans generally adjust with a frequency of one to five years
after an initial fixed-rate period ranging from one to ten years. Our commercial real estate portfolio consists of loans on a variety of property
types with no large concentrations by property type, location or borrower. At December 31, 2018, the average size of our commercial real estate
loans was $657,000 and the largest commercial real estate loan, in terms of an outstanding balance, in our portfolio was approximately $16.4
million.
Commercial Business Lending: We are active in small- to medium-sized business lending and are engaged in agricultural lending primarily by
providing crop production loans. Our commercial bankers are focused on local markets and devote a great deal of effort to developing customer
relationships and providing these types of borrowers with a full array of products and services delivered in a thorough and responsive manner. Our
experienced commercial bankers and senior credit staff help us meet our commitment to small business lending while also focusing on corporate
lending opportunities for borrowers with credit needs generally in a $3 million to $25 million range. In addition to providing earning assets,
commercial business lending has helped us increase our deposit base. In recent years, our commercial business lending has included modest
participation in certain national syndicated loans, including shared national credits. We also originate smaller balance business loans principally
through our retail branch network, using our Quick Step business loan program, which is closely aligned with our consumer lending operations
and relies on centralized underwriting procedures. Quick Step business loans and lines of credit are available from $5,000 to $500,000 and
owner-occupied real estate loans are available up to $1.0 million.
Commercial business loans may entail greater risk than other types of loans. Commercial business loans generally provide higher yields or
related revenue opportunities than many other types of loans but also require more administrative and management attention. Loan terms,
including the fixed or adjustable interest rate, the loan maturity and the collateral considerations, vary significantly and are negotiated on an
individual loan basis. For information concerning the risks associated with commercial business lending, see Item 1A., “Risk Factors—Our
loan portfolio includes loans with a higher risk of loss.”
We underwrite our commercial business loans on the basis of the borrower’s cash flow and ability to service the debt from earnings rather than
on the basis of the underlying collateral value. We seek to structure these loans so that they have more than one source of repayment. The
borrower is required to provide us with sufficient information to allow us to make a prudent lending determination. In most instances, this
information consists of at least three years of financial statements, tax returns, a statement of projected cash flows, current financial information
on any guarantor and information about the collateral. Loans to closely held businesses typically require personal guarantees by the
principals. Our commercial business loan portfolio is geographically dispersed across the market areas serviced by our branch network and
there are no significant concentrations by industry or products.
Our commercial business loans may be structured as term loans or as lines of credit. Commercial business term loans are generally made to
finance the purchase of fixed assets and have maturities of five years or less. Commercial business lines of credit are typically made for the
purpose of providing working capital and are usually approved with a term of one year. Adjustable- or floating-rate loans are primarily tied to
various prime rate or LIBOR indices. At December 31, 2018, commercial business loans totaled $1.48 billion, or 17% of our total loans, including
$149.2 million of shared national credits.
Agricultural Lending: Agriculture is a major industry in several of our markets. We make agricultural loans to borrowers with a strong capital
base, sufficient management depth, proven ability to operate through agricultural cycles, reliable cash flows and adequate financial
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reporting. Payments on agricultural loans depend, to a large degree, on the results of operations of the related farm entity. The repayment is
also subject to other economic and weather conditions as well as market prices for agricultural products, which can be highly volatile. At
December 31, 2018, agricultural business loans, including collateral secured loans to purchase farm land and equipment, totaled $404.9 million,
or 5% of our loan portfolio.
Agricultural operating loans generally are made as a percentage of the borrower’s anticipated income to support budgeted operating
expenses. These loans are secured by a blanket lien on all crops, livestock, equipment, accounts and products and proceeds thereof. In the case
of crops, consideration is given to projected yields and prices from each commodity. The interest rate is normally floating based on the prime
rate or a LIBOR index plus a negotiated margin. Because these loans are made to finance a farm or ranch’s annual operations, they are usually
written on a one-year review and renewable basis. The renewal is dependent upon the prior year’s performance and the forthcoming year’s
projections as well as the overall financial strength of the borrower. We carefully monitor these loans and related variance reports on income
and expenses compared to budget estimates. To meet the seasonal operating needs of a farm, borrowers may qualify for single payment notes,
revolving lines of credit and/or non-revolving lines of credit.
In underwriting agricultural operating loans, we consider the cash flow of the borrower based upon the expected operating results as well as the
value of collateral used to secure the loans. Collateral generally consists of cash crops produced by the farm, such as milk, grains, fruit, grass
seed, peas, sugar beets, mint, onions, potatoes, corn and alfalfa or livestock. In addition to considering cash flow and obtaining a blanket security
interest in the farm’s cash crop, we may also collateralize an operating loan with the farm’s operating equipment, breeding stock, real estate and
federal agricultural program payments to the borrower.
We also originate loans to finance the purchase of farm equipment. Loans to purchase farm equipment are made for terms of up to seven
years. On occasion, we also originate agricultural real estate loans secured primarily by first liens on farmland and improvements thereon located
in our market areas, although generally only to service the needs of our existing customers. Loans are written in amounts ranging from 50% to
75% of the tax assessed or appraised value of the property for terms of five to 20 years. These loans generally have interest rates that adjust at
least every five years based upon a Treasury index or FHLB advance rate plus a negotiated margin. Fixed-rate loans are granted on terms usually
not to exceed five years. In originating agricultural real estate loans, we consider the debt service coverage of the borrower’s cash flow, the
appraised value of the underlying property, the experience and knowledge of the borrower, and the borrower’s past performance with us and/or
the market area. These loans normally are not made to start-up businesses and are reserved for existing customers with substantial equity and
a proven history.
Among the more common risks to agricultural lending can be weather conditions and disease. These risks may be mitigated through multi-peril
crop insurance. Commodity prices also present a risk, which may be reduced by the use of set price contracts. Normally, required beginning
and projected operating margins provide for reasonable reserves to offset unexpected yield and price deficiencies. In addition to these risks, we
also consider management succession, life insurance and business continuation plans when evaluating agricultural loans. For additional
information concerning the risks associated with agricultural lending, see Item 1A., “Risk Factors—Our loan portfolio includes loans with a
higher risk of loss.”
Consumer and Other Lending: We originate a variety of consumer loans, including home equity lines of credit, automobile, boat and recreational
vehicle loans and loans secured by deposit accounts. While consumer lending has traditionally been a small part of our business, with loans
made primarily to accommodate our existing customer base, it has received consistent emphasis in recent years. Part of this emphasis includes
a Banner Bank-owned credit card program. Similar to other consumer loan programs, we focus this credit card program on our existing customer
base to add to the depth of our customer relationships. In addition to earning balances, credit card accounts produce non-interest revenues
through interchange fees and other activity-based revenues. Our underwriting of consumer loans is focused on the borrower’s credit history and
ability to repay the debt as evidenced by documented sources of income. At December 31, 2018, we had $785.0 million, or 9% of our loan
portfolio, in consumer related loans, including $569.0 million, or 7% of our loan portfolio, in consumer loans secured by one- to four-family
residences. For information concerning the risks associated with consumer lending, see Item 1A., “Risk Factors—Our loan portfolio includes
loans with a higher risk of loss.”
Loan Solicitation and Processing: We originate real estate loans in our market areas by direct solicitation of real estate brokers, builders,
developers, depositors, walk-in customers and visitors to our Internet website. One- to four-family residential loan applications are taken by
our mortgage loan officers or through our Internet website and are processed in branch or regional locations. In addition, we have specialized
loan origination units, focused on construction and land development, commercial real estate and multifamily loans. Most underwriting and
loan administration functions for our real estate loans are performed by loan personnel at central locations.
In addition to commercial real estate loans, our commercial bankers solicit commercial and agricultural business loans through call programs
focused on local businesses and farmers. While commercial bankers are delegated reasonable commitment authority based upon their
qualifications, credit decisions on significant commercial and agricultural loans are made by senior loan officers or in certain instances by the
Board of Directors of Banner Bank and Islanders Bank.
We originate consumer loans and small business (including Quick Step) commercial business loans through various marketing efforts directed
primarily toward our existing deposit and loan customers. Consumer loans and Quick Step commercial business loan applications are primarily
underwritten and documented by centralized administrative personnel.
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Loan Originations, Sales and Purchases
While we originate a variety of loans, our ability to originate each type of loan is dependent upon the relative customer demand and competition
in each market we serve. For the years ended December 31, 2018 and 2017, we originated loans, net of repayments, including our participation
in syndicated loans and loans held for sale of $1.31 billion and $1.1 billion, respectively. For additional information concerning origination of
portfolio loans by type, see Item 7 in this report, “Management’s Discussion and Analysis of Financial Condition—Comparison of Financial
Condition at December 31, 2018 and 2017—Loans and Lending,” and Table 3 contained therein.
We sell many of our newly originated one- to four-family residential mortgage loans and multifamily loans to secondary market purchasers as
part of our interest rate risk management strategy. Originations of loans for sale increased to $896.5 million for the year ended December 31,
2018 from $807.1 million during 2017. Originations of loans for sale included $372.8 million and $292.3 million of multifamily held for sale
loan production for the years ended December 31, 2018 and December 31, 2017, respectively. Sales of loans generally are beneficial to us
because these sales may generate income at the time of sale, provide funds for additional lending and other investments, increase liquidity or
reduce interest rate risk. During the year ended December 31, 2018, we sold $781.9 million of loans held for sale compared to $1.03 billion for
the year ended December 31, 2017. The held for sale loans sold in 2018 and 2017 included $256.5 million and $475.7 million, respectively, of
multifamily loans held for sale. In addition, we sold $2.5 million of portfolio multifamily loans in 2017, while no portfolio multifamily loans
were sold in 2018. We sell loans on both a servicing-retained and a servicing-released basis. All loans are sold without recourse. The decision
to hold or sell loans is based on asset liability management goals, strategies and policies and on market conditions. For additional information,
see “Loan Servicing.”
We periodically purchase whole loans and loan participation interests or participate in syndicates originating new loans, including shared national
credits, primarily during periods of reduced loan demand in our primary market area and at times to support our Community Reinvestment Act
lending activities. Any such purchases or loan participations are generally made on terms consistent with our underwriting standards; however,
the loans may be located outside of our normal lending area. During the years ended December 31, 2018 and 2017, we purchased $33.7 million
and $126.5 million, respectively, of loans and loan participation interests, principally commercial real estate loans.
Loan Servicing
We receive fees from a variety of institutional owners in return for performing the traditional services of collecting individual payments and
managing portfolios of sold loans. At December 31, 2018, we were servicing $2.81 billion of loans for others. Loan servicing includes processing
payments, accounting for loan funds and collecting and paying real estate taxes, hazard insurance and other loan-related items such as private
mortgage insurance. In addition to earning fee income, we retain certain amounts in escrow for the benefit of the lender for which we incur no
interest expense but are able to invest the funds into earning assets.
Mortgage Servicing Rights: We record mortgage servicing rights (MSRs) with respect to loans we originate and sell in the secondary market
on a servicing-retained basis. The value of MSRs is capitalized and amortized in proportion to, and over the period of, the estimated future net
servicing income. Management periodically evaluates the estimates and assumptions used to determine the carrying values of MSRs and the
amortization of MSRs. MSRs generally are adversely affected by higher levels of current or anticipated prepayments resulting from decreasing
interest rates. MSRs are evaluated for impairment based upon the fair value of the rights as compared to amortized cost. Impairment is recognized
through a valuation allowance, to the extent that fair value is less than the capitalized carrying amount. At December 31, 2018, our MSRs were
carried at a value of $14.6 million, net of amortization. For additional information see Note 17, Goodwill, Other Intangible Assets and Mortgage
Servicing Rights, of the Notes to the Consolidated Financial Statements.
Asset Quality
Classified Assets: State and federal regulations require that the Banks review and classify their problem assets on a regular basis. In addition,
in connection with examinations of insured institutions, state and federal examiners have authority to identify problem assets and, if appropriate,
require them to be classified. Historically, we have not had any meaningful differences of opinion with the examiners with respect to asset
classification. Banner Bank’s Credit Policy Division reviews detailed information with respect to the composition and performance of the loan
portfolios, including information on risk concentrations, delinquencies and classified assets for both Banner Bank and Islanders Bank. The
Credit Policy Division approves all recommendations for new classified loans or, in the case of smaller-balance homogeneous loans including
residential real estate and consumer loans, it has approved policies governing such classifications, or changes in classifications, and develops
and monitors action plans to resolve the problems associated with the assets. The Credit Policy Division also approves recommendations for
establishing the appropriate level of the allowance for loan losses. Significant problem loans are transferred to Banner Bank’s Special Assets
Department for resolution or collection activities. The Banks’ and Banner Corporation’s Boards of Directors are given a detailed report on
classified assets and asset quality at least quarterly. For additional information regarding asset quality and non-performing loans, see Item 7 of
this report, “Management’s Discussion and Analysis of Financial Condition—Comparison of Financial Condition at December 31, 2018 and
2017—Asset Quality,” and Table 12 contained therein.
Allowance for Loan Losses: In originating loans, we recognize that losses will be experienced and that the risk of loss will vary with, among
other things, the type of loan being made, the creditworthiness of the borrower over the term of the loan, general economic conditions and, in
the case of a secured loan, the quality of the security for the loan. As a result, we maintain an allowance for loan losses consistent with U.S.
generally accepted accounting principles (GAAP) guidelines. We increase our allowance for loan losses by charging provisions for probable
loan losses against our income. The allowance for loan losses is maintained at a level which, in management’s judgment, is sufficient to provide
for probable losses based on evaluating known and inherent risks in the loan portfolio and upon continuing analysis of the factors underlying
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the quality of the loan portfolio. In June 2016, Financial Accounting Standards Board issued ASU No. 2016-13, Measurement of Credit Losses
on Financial Instruments, referred to as Current Expected Credit Loss, or CECL, that will be effective for Banner for our first fiscal year beginning
after December 15, 2019. For additional information on CECL see Note 2, Accounting Standards Recently Issued or Adopted, of the Notes to
the Consolidated Financial Statements. For additional information concerning our allowance for loan losses, see Item 7 of this report,
“Management’s Discussion and Analysis of Financial Condition—Comparison of Results of Operations for the Years Ended December 31, 2018
and 2017—Provision and Allowance for Loan Losses,” and Tables 16 and 17 contained therein.
Real Estate Owned: Real estate owned (REO) is property acquired by foreclosure or receiving a deed in lieu of foreclosure, and is recorded at
the estimated fair value of the property, less expected selling costs. Development and improvement costs relating to the property are capitalized
to the extent they add value to the property. The carrying value of the property is periodically evaluated by management and, if necessary,
allowances are established to reduce the carrying value to net realizable value. Gains or losses at the time the property is sold are credited or
charged to operations in the period in which they are realized. The amounts we will ultimately recover from REO may differ substantially from
the carrying value of the assets because of market factors beyond our control or because of changes in our strategies for recovering the
investment. For additional information on REO, see Item 7 of this report, “Management’s Discussion and Analysis of Financial Condition—
Comparison of Financial Condition at December 31, 2018 and 2017—Asset Quality” and Table 12 contained therein and Note 6, Real Estate
Owned, Held for Sale, Net, of the Notes to the Consolidated Financial Statements.
Investment Securities
Investment Activities
Under Washington state law and FDIC regulation, banks are permitted to invest in various types of marketable securities. Authorized securities
include but are not limited to Treasury obligations, securities of various federal agencies (including government-sponsored enterprises), mortgage-
backed and asset-backed securities, certain certificates of deposit of insured banks and savings institutions, bankers’ acceptances, repurchase
agreements, federal funds, commercial paper, corporate debt and equity securities and obligations of states and their political subdivisions. Our
investment policies are designed to provide and maintain adequate liquidity and to generate favorable rates of return without incurring undue
interest rate or credit risk. Our policies generally limit investments to U.S. Government and agency (including government-sponsored entities)
securities, municipal bonds, certificates of deposit, corporate debt obligations and mortgage-backed securities. Investment in mortgage-backed
securities may include those issued or guaranteed by Freddie Mac, Fannie Mae, Government National Mortgage Association (Ginnie Mae or
GNMA) and investment grade privately-issued mortgage-backed securities, as well as collateralized mortgage obligations (CMOs). All of our
investment securities, including those that have high credit ratings, are subject to market risk in so far as a change in market rates of interest or
other conditions may cause a change in an investment’s earnings performance and/or market value.
At December 31, 2018, our consolidated investment portfolio totaled $1.90 billion and consisted principally of U.S. Government agency
obligations, mortgage-backed securities, municipal bonds, corporate debt obligations, and asset-backed securities. From time to time, investment
levels may be increased or decreased in order to manage balance sheet liquidity, interest rate risk, market risk and provide appropriate risk
adjusted returns. The investment portfolio was increased in 2018 as a result of the Skagit acquisition along with the Company's renewed leveraging
strategy as it crossed the $10 billion in total assets threshold.
For detailed information on our investment securities, see Item 7, “Management’s Discussion and Analysis of Financial Condition—Comparison
of Financial Condition at December 31, 2018 and 2017—Investments,” and Tables 1 and 2 contained therein.
Derivatives
The Company, through its Banner Bank subsidiary, is party to various derivative instruments that are used for asset and liability management
and customer financing needs. Derivative instruments are contracts between two or more parties that have a notional amount and an underlying
variable, require no net investment and allow for the net settlement of positions. The notional amount serves as the basis for the payment
provision of the contract and takes the form of units, such as shares or dollars. The underlying variable represents a specified interest rate, index,
or other component. The interaction between the notional amount and the underlying variable determines the number of units to be exchanged
between the parties and influences the market value of the derivative contract. We obtain dealer quotations to value our derivative contracts.
Our predominant derivative and hedging activities involve interest rate swaps related to certain term loans, interest rate lock commitments to
borrowers, and forward sales contracts associated with mortgage banking activities. Generally, these instruments help us manage exposure to
market risk and meet customer financing needs. Market risk represents the possibility that economic value or net interest income will be adversely
affected by fluctuations in external factors such as market-driven interest rates and prices or other economic factors.
Derivatives Not Designated in Hedge Relationships
Interest Rate Swaps: Banner Bank uses an interest rate swap program for commercial loan customers, in which we provide the client with a
variable rate loan and enter into an interest rate swap in which the client receives a fixed rate payment in exchange for a variable rate payment.
We offset our risk exposure by entering into an offsetting interest rate swap with a dealer counterparty for the same notional amount and length
of term as the client interest rate swap providing the dealer counterparty with a fixed rate payment in exchange for a variable rate payment. At
December 31, 2018, Banner Bank had $272.4 million in notional amounts of these customer interest rate swaps outstanding that were not
designated in hedge relationships, with an equal amount of offsetting third party swaps also in place. These swaps do not qualify as designated
hedges; therefore, each swap is accounted for as a free standing derivative.
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Mortgage Banking: In the normal course of business, the Company sells originated one- to four-family and multifamily mortgage loans into
the secondary mortgage loan markets. During the period of loan origination and prior to the sale of the loans in the secondary market, the
Company has exposure to movements in interest rates associated with written interest rate lock commitments with potential borrowers to originate
one- to four-family loans that are intended to be sold and for closed one- to four-family and multifamily mortgage loans held for sale that are
awaiting sale and delivery into the secondary market. The Company economically hedges the risk of changing interest rates associated with
these mortgage loan commitments by entering into forward sales contracts to sell one- to four-family and multifamily mortgage loans or mortgage-
backed securities to broker/dealers at specific prices and dates.
We are exposed to credit-related losses in the event of nonperformance by the counterparty to these agreements. Credit risk of the financial
contract is controlled through the credit approval, limits, and monitoring procedures and we do not expect the counterparties to fail their obligations.
In connection with the interest rate swaps between Banner Bank and the dealer counterparties, the agreements contain a provision where if
Banner Bank fails to maintain its status as a well/adequately capitalized institution, then the counterparty could terminate the derivative positions
and Banner Bank would be required to settle its obligations. Similarly, we could be required to settle our obligations under certain of these
agreements if specific regulatory events occur, such as a publicly issued prompt corrective action directive, cease and desist order, or a capital
maintenance agreement that required Banner Bank to maintain a specific capital level. If we had breached any of these provisions at December 31,
2018 or 2017, we could have been required to settle our obligations under the agreements at the termination value. We generally post collateral
against derivative liabilities in the form of government agency-issued bonds, mortgage-backed securities, or commercial mortgage-backed
securities.
Derivative assets and liabilities are recorded at fair value on the balance sheet. Prior to 2018, the recorded derivative assets and liabilities on
the balance sheet did not take into account the effects of master netting agreements. Master netting agreements allow us to settle all derivative
contracts held with a single counterparty on a net basis and to offset net derivative positions with related collateral where applicable.
Derivatives Designated in Hedge Relationships
Our fixed-rate loans result in exposure to losses in value or net interest income as interest rates change. The risk management objective for
hedging fixed-rate loans is to effectively convert the fixed rate received to a floating rate. Under a prior program that is now discontinued we
hedged our exposure to changes in the fair value of certain fixed-rate loans through the use of interest rate swaps. As of December 31, 2018,
Banner Bank was a party to $4.0 million in notional amounts of interest rate swaps designated in a hedge relationship. For a qualifying fair
value hedge, changes in the value of the derivatives are recognized in current period earnings along with the corresponding changes in the fair
value of the designated hedged item attributable to the risk being hedged.
Deposit Activities and Other Sources of Funds
General: Deposits, FHLB advances (or other borrowings) and loan repayments are our major sources of funds for lending and other investment
purposes. Scheduled loan repayments are a relatively stable source of funds, while deposit inflows and outflows and loan prepayments are
influenced by general economic, interest rate and money market conditions and may vary significantly. Borrowings may be used on a short-
term basis to compensate for reductions in the availability of funds from other sources. Borrowings may also be used on a longer-term basis to
fund loans and investments, as well as to manage interest rate risk.
We compete with other financial institutions and financial intermediaries in attracting deposits. There is strong competition for transaction
balances and savings deposits from commercial banks, credit unions and non-bank corporations, such as securities brokerage companies, mutual
funds and other diversified companies, some of which have nationwide networks of offices. Much of the focus of our acquisitions, branch
relocations and renovation and advertising and marketing campaigns has been directed toward attracting additional deposit customer relationships
and balances. In addition, our electronic and digital banking activities including debit card and automated teller machine (ATM) programs, on-
line Internet banking services and, most recently, customer remote deposit and mobile banking capabilities are all directed at providing products
and services that enhance customer relationships and result in growing deposit balances as well as fee income. Growing core deposits (non-
interest-bearing checking and interest-bearing transaction and savings accounts) is a fundamental element of our business strategy. Core deposits
were 86% of total deposits at December 31, 2018 compared to 88% a year earlier and 87% two years ago.
Deposit Accounts: We generally attract deposits from within our primary market areas by offering a broad selection of deposit instruments,
including non-interest-bearing checking accounts, interest-bearing checking accounts, money market deposit accounts, regular savings accounts,
certificates of deposit, treasury management services and retirement savings plans. Deposit account terms vary according to the minimum
balance required, the time periods the funds must remain on deposit and the interest rate, among other factors. In determining the terms of
deposit accounts, we consider current market interest rates, profitability to us, matching deposit and loan products and customer preferences and
concerns. At December 31, 2018, we had $9.48 billion of deposits. For additional information concerning our deposit accounts, see Item 7 in
this report, “Management’s Discussion and Analysis of Financial Condition—Comparison of Financial Condition at December 31, 2018 and
2017—Deposit Accounts,” including Table 8 contained therein, which sets forth the balances of deposits in the various types of accounts, and
Table 9, which sets forth the amount of our certificates of deposit greater than $100,000 by time remaining until maturity as of December 31,
2018. In addition, see Note 8, Deposits of the Notes to the Consolidated Financial Statements.
Borrowings: While deposits are the primary source of funds for our lending and investment activities and for general business purposes, we
also use borrowings to supplement our supply of lendable funds, to meet deposit withdrawal requirements and to more efficiently leverage our
capital position. The FHLB serves as our primary borrowing source. The FHLB provides credit for member financial institutions such as Banner
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Bank and Islanders Bank. As members, the Banks are required to own capital stock in the FHLB and are authorized to apply for advances on
the security of that stock and certain of their mortgage loans and securities provided certain credit worthiness standards have been met. Limitations
on the amount of advances are based on the financial condition of the member institution, the adequacy of collateral pledged to secure the credit,
and FHLB stock ownership requirements. At December 31, 2018, we had $540.2 million of borrowings from the FHLB. At that date, Banner
Bank was authorized by the FHLB to borrow up to $4.59 billion under a blanket floating lien security agreement, while Islanders Bank was
approved to borrow up to $103.5 million under a similar agreement. The Federal Reserve Bank serves as an additional source of borrowing
capacity. The Federal Reserve Bank provides credit based upon acceptable loan collateral, which includes certain loan types not eligible for
pledging to the FHLB. At December 31, 2018, based upon our available unencumbered collateral, Banner Bank was eligible to borrow $1.15
billion from the Federal Reserve Bank, although at that date we had no funds borrowed under this arrangement. Although eligible to participate,
Islanders Bank has not applied for approval to borrow from the Federal Reserve Bank. For additional information concerning our borrowings,
see Item 7 in this report, “Management’s Discussion and Analysis of Financial Condition—Comparison of Financial Condition at December 31,
2018 and 2017—Borrowings,” and Table 11 contained therein, as well as Note 9, Advances from Federal Home Loan Bank of Des Moines and
Note 10, Other Borrowings of the Notes to the Consolidated Financial Statements.
At December 31, 2018, Banner Bank had uncommitted federal funds line of credit agreements with other financial institutions totaling $110.0
million, while Islanders Bank had an uncommitted federal funds line of credit agreement with another financial institution totaling $5.0 million.
No balances were outstanding under these agreements as of December 31, 2018. Availability of lines is subject to federal funds balances available
for loan and continued borrower eligibility. These lines are intended to support short-term liquidity needs and the agreements may restrict
consecutive day usage.
We issue retail repurchase agreements, generally due within 90 days, as an additional source of funds, primarily in connection with treasury
management services provided to our larger deposit customers. At December 31, 2018, we had issued retail repurchase agreements totaling
$119.0 million. We also may borrow funds through the use of secured wholesale repurchase agreements with securities brokers; at December 31,
2018, we had no borrowings outstanding under wholesale repurchase agreements. The retail and wholesale repurchase borrowings were secured
by pledges of certain U.S. Government and agency notes and mortgage-backed securities with a market value of $154.0 million at December
31, 2018.
We have also issued $120.0 million of junior subordinated debentures in connection with the sale of trust preferred securities (TPS). The TPS
were issued from 2002 through 2007 by special purpose business trusts formed by Banner Corporation and were sold in private offerings to
pooled investment vehicles. In addition, Banner has $16.0 million of junior subordinated debentures that were acquired through acquisitions,
for a total of $136.0 million in debentures at December 31, 2018. The junior subordinated debentures associated with the TPS have been recorded
as liabilities and are reported at fair value on our Consolidated Statements of Financial Condition. As of December 31, 2018 the fair value of
the junior subordinate debentures was $114.1 million. All of the debentures issued to the trusts, measured at their fair value, less the common
stock of the trusts, qualified as Tier I capital as of December 31, 2018, under guidance issued by the Federal Reserve Board. We invested
substantially all of the proceeds from the issuance of the TPS as additional paid in capital at Banner Bank. See Note 11, Junior Subordinated
Debentures and Mandatorily Redeemable Trust Preferred Securities, of the Notes to the Consolidated Financial Statements.
As of December 31, 2018, we had 2,187 full time equivalent employees. Banner Corporation has no employees except for those who are also
employees of Banner Bank, its subsidiaries, and Islanders Bank. The employees are not represented by a collective bargaining unit. We believe
our relationship with our employees is good.
Personnel
Tax-Sharing Agreement
Taxation
Banner Corporation files its federal and state income tax returns on a consolidated basis under a tax-sharing agreement between the Company
and each bank subsidiary. The Company prepares each subsidiary’s minimum income tax which would be required if the individual subsidiary
were to file federal and state income tax returns as a separate entity. Each subsidiary pays to the Company an amount equal to the estimated
income tax due if it were to file as a separate entity. The payment is made on or about the time the subsidiary would be required to make such
tax payments to the United States Treasury or the applicable State Departments of Revenue. In the event the computation of the subsidiary’s
federal or state income tax liability, after taking into account any estimated tax payments made, would result in a refund if the subsidiary were
filing income tax returns as a separate entity, then the Company pays to the subsidiary an amount equal to the hypothetical refund. The Company
is an agent for each subsidiary with respect to all matters related to the consolidated tax returns and refunds claims. If Banner's consolidated
federal or state income tax liability is adjusted for any period, the liability of each party under the tax-sharing agreement is recomputed to give
effect to such adjustments and any additional payments required as a result of the adjustments are made within a reasonable time after the
corresponding additional tax payments are made or refunds are received.
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Federal Taxation
General: For tax reporting purposes, we report our income on a calendar year basis using the accrual method of accounting on a consolidated
basis. We are subject to federal income taxation in the same manner as other corporations with some exceptions, including particularly the
reserve for bad debts. See Note 12, Income Taxes, of the Notes to the Consolidated Financial Statements for additional information concerning
the income taxes payable by us.
State Taxation
Washington Taxation: We are subject to a Business and Occupation (B&O) tax which is imposed under Washington on gross receipts. Interest
received on loans secured by mortgages or deeds of trust on residential properties, residential mortgage-backed securities, and certain U.S.
Government and agency securities is not subject to this tax.
California, Oregon, Idaho, Montana and Utah Taxation: Corporations with nexus in the states of California, Oregon, Idaho, Montana and Utah
are subject to a corporate level income tax. As our operations in these states increase, with the exception of our Utah operations which were
sold in October 2017, the state income tax provision will have an increasing effect on our effective tax rate and results of operations.
Competition
We encounter significant competition both in attracting deposits and in originating loans. Our most direct competition for deposits comes from
other commercial and savings banks, savings associations and credit unions with offices in our market areas. We also experience competition
from securities firms, insurance companies, money market and mutual funds, and other investment vehicles. We expect continued strong
competition from such financial institutions and investment vehicles in the foreseeable future, including competition from on-line Internet
banking competitors and "FinTech" companies that rely on technology to provide financial services. Our ability to attract and retain deposits
depends on our ability to provide transaction services and investment opportunities that satisfy the requirements of depositors. We compete for
deposits by offering a variety of accounts and financial services, including electronic banking capabilities, with competitive rates and terms, at
convenient locations and business hours, and delivered with a high level of personal service and expertise.
Competition for loans comes principally from other commercial banks, loan brokers, mortgage banking companies, savings banks and credit
unions and for agricultural loans from the Farm Credit Administration. The competition for loans is intense as a result of the large number of
institutions competing in our market areas. We compete for loans primarily by offering competitive rates and fees and providing timely decisions
and excellent service to borrowers.
Banner Bank and Islanders Bank
Regulation
General: As state-chartered, federally insured commercial banks, Banner Bank and Islanders Bank (the Banks) are subject to extensive regulation
and must comply with various statutory and regulatory requirements, including prescribed minimum capital standards. The Banks are regularly
examined by the FDIC and the Washington DFI and file periodic reports concerning their activities and financial condition with these banking
regulators. The Banks' relationship with depositors and borrowers also is regulated to a great extent by both federal and state law, especially in
such matters as the ownership of deposit accounts and the form and content of mortgage and other loan documents.
Federal and state banking laws and regulations govern all areas of the operation of the Banks, including reserves, loans, investments, deposits,
capital, issuance of securities, payment of dividends and establishment of branches. Federal and state bank regulatory agencies also have the
general authority to limit the dividends paid by insured banks and bank holding companies if such payments should be deemed to constitute an
unsafe and unsound practice and in other circumstances. The Federal Reserve and FDIC as the respective primary federal regulators of Banner
Corporation and each of Banner Bank and Islanders Bank have authority to impose penalties, initiate civil and administrative actions and take
other steps intended to prevent banks from engaging in unsafe or unsound practices.
The laws and regulations affecting banks and bank holding companies have changed significantly, particularly in connection with the enactment
of The Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010 (Dodd-Frank Act). Among other changes, the Dodd-Frank Act
established the Consumer Financial Protection Bureau (CFPB) as an independent bureau of the Federal Reserve. The CFPB assumed responsibility
for the implementation of the federal financial consumer protection and fair lending laws and regulations and has authority to impose new
requirements. Any change in applicable laws, regulations, or regulatory policies may have a material effect on our business, operations, and
prospects. We cannot predict the nature or the extent of the effects on our business and earnings that any fiscal or monetary policies or new
federal or state legislation may have in the future. For additional information concerning the Dodd-Frank Act and the CFPB, see Item 1A., “Risk
Factors—We operate in a highly regulated environment and may be adversely affected by changes in federal and state laws and regulations that
are expected to increase our costs of operation,” and “We will be subject to additional regulatory scrutiny since Banner Bank maintains total
assets exceeding $10.0 billion.” We may also be affected by changes in accounting standards. See "2018 Reforms" below.
The following is a summary discussion of certain laws and regulations applicable to Banner and the Banks which is qualified in its entirety by
reference to the actual laws and regulations.
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State Regulation and Supervision: As a Washington state-chartered commercial bank with branches in the States of Washington, Oregon, Idaho
and California, Banner Bank is subject not only to the applicable provisions of Washington law and regulations, but is also subject to Oregon,
Idaho and California law and regulations. These state laws and regulations govern Banner Bank's ability to take deposits and pay interest thereon,
to make loans on or invest in residential and other real estate, to make consumer loans, to invest in securities, to offer various banking services
to its customers and to establish branch offices. In a similar fashion, Washington state laws and regulations for state-chartered commercial banks
also apply to Islanders Bank.
Deposit Insurance: The Deposit Insurance Fund of the FDIC insures deposit accounts of each of the Banks up to $250,000 per separately insured
deposit relationship category. As insurer, the FDIC imposes deposit insurance premiums and is authorized to conduct examinations of, and to
require reporting by, FDIC-insured institutions.
Under the FDIC's rules the assessment base for a bank is equal to its total average consolidated assets less average tangible capital. As of
December 31, 2018, assessment rates ranged from 3 to 30 basis points for all institutions, subject to adjustments for unsecured debt issued by
the institution, unsecured debt issued by other FDIC-insured institutions, and brokered deposits held by the institution.
Under the current rules, when the reserve ratio for the prior assessment period is equal to, or greater than 2.0% and less than 2.5%, assessment
rates will range from two basis points to 28 basis points and when the reserve ratio for the prior assessment period is greater than 2.5%, assessment
rates will range from one basis point to 25 basis points (in each case subject to adjustments as described above for current rates). No institution
may pay a dividend if it is in default on its federal deposit insurance assessment.
The FDIC conducts examinations of and requires reporting by state non-member banks, such as the Banks. The FDIC also may prohibit any
insured institution from engaging in any activity determined by regulation or order to pose a serious risk to the deposit insurance fund.
The FDIC may terminate the deposit insurance of any insured depository institution if it determines after a hearing that the institution has engaged
or is engaging in unsafe or unsound practices, is in an unsafe or unsound condition to continue operations, or has violated any applicable law,
regulation, order or any condition imposed by an agreement with the FDIC. It also may suspend deposit insurance temporarily during the hearing
process for the permanent termination of insurance if the institution has no tangible capital. If insurance of accounts is terminated, the accounts
at the institution at the time of the termination, less subsequent withdrawals, shall continue to be insured for a period of six months to two years,
as determined by the FDIC. Management is not aware of any existing circumstances which would result in termination of the deposit insurance
of either Banner Bank or Islanders Bank.
Standards for Safety and Soundness: The federal banking regulatory agencies have prescribed, by regulation, guidelines for all insured depository
institutions relating to internal controls, information systems and internal audit systems; loan documentation; credit underwriting; interest rate
risk exposure; asset growth; asset quality; earnings; and compensation, fees and benefits. The guidelines set forth the safety and soundness
standards that the federal banking agencies use to identify and address problems at insured depository institutions. Each insured depository
institution must implement a comprehensive written information security program that includes administrative, technical, and physical safeguards
appropriate to the institution's size and complexity and the nature and scope of its activities. The information security program must be designed
to ensure the security and confidentiality of customer information, protect against any unanticipated threats or hazards to the security or integrity
of such information, protect against unauthorized access to or use of such information that could result in substantial harm or inconvenience to
any customer, and ensure the proper disposal of customer and consumer information. Each insured depository institution must also develop and
implement a risk-based response program to address incidents of unauthorized access to customer information in customer information systems. If
the FDIC determines that an institution fails to meet any of these guidelines, it may require an institution to submit to the FDIC an acceptable
plan to achieve compliance.
Capital Requirements: Bank holding companies, such as Banner Corporation, and federally insured financial institutions, such as Banner Bank
and Islanders Bank, are required to maintain a minimum level of regulatory capital.
Effective January 1, 2015 (with some changes transitioned into full effectiveness over several years), Banner Corporation and the Banks became
subject to new capital regulations adopted by the Federal Reserve and the FDIC, which established minimum required ratios for common equity
Tier 1 (“CET1”) capital, Tier 1 capital, total capital and the leverage ratio; risk-weightings of certain assets and other items for purposes of the
risk-based capital ratios, a required capital conservation buffer over the required capital ratios, and defined what qualifies as capital for purposes
of meeting the capital requirements. These regulations implement the regulatory capital reforms required by the Dodd—Frank Act and the
“Basel III” requirements.
Under the capital regulations, the minimum capital ratios are: (1) a CET1 capital ratio of 4.5% of risk-weighted assets; (2) a Tier 1 capital ratio
of 6.0% of risk-weighted assets; (3) a total risk-based capital ratio of 8.0% of risk-weighted assets; and (4) a leverage ratio (the ratio of Tier 1
capital to average total consolidated assets) of 4.0%. CET1 generally consists of common stock; retained earnings; accumulated other
comprehensive income (“AOCI”) unless an institution elects to exclude AOCI from regulatory capital; and certain minority interests; all subject
to applicable regulatory adjustments and deductions. Tier 1 capital generally consists of CET1 and noncumulative perpetual preferred stock.
Tier 2 capital generally consists of other preferred stock and subordinated debt meeting certain conditions plus an amount of the allowance for
loan and lease losses up to 1.25% of assets. Total capital is the sum of Tier 1 and Tier 2 capital.
There were a number of changes in what constitutes regulatory capital compared to the rules in effect prior to January 1, 2015, some of which
are subject to transition periods. These changes include the phasing-out of certain instruments as qualifying capital and eliminate or significantly
reduce the use of hybrid capital instruments, especially trust preferred securities, as regulatory capital. Trust preferred securities issued by a
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company, such as the Company, with total consolidated assets of less than $15 billion before May 19, 2010 and treated as regulatory capital are
grandfathered, but any such securities issued later are not eligible as regulatory capital under the current regulations. If an institution grows
above $15 billion as a result of an acquisition, the trust preferred securities are excluded from Tier 1 capital and instead included in Tier 2 capital.
Mortgage servicing assets and deferred tax assets over designated percentages of CET1 are deducted from capital. In addition, Tier 1 capital
includes AOCI, which includes all unrealized gains and losses on available for sale debt and equity securities. However, because of our asset
size, we were eligible to elect, and did elect, to permanently opt out of the inclusion of unrealized gains and losses on available for sale debt and
equity securities in our capital calculations.
For purposes of determining risk-based capital, assets and certain off-balance sheet items are risk-weighted from 0% to 1,250%, depending on
the risk characteristics of the asset or item. The regulations changed certain risk-weightings compared to the earlier capital rules, including a
150% risk weight (up from 100%) for certain high volatility commercial real estate acquisition, development and construction loans and for
non-residential mortgage loans that are 90 days past due or otherwise in nonaccrual status; a 20% (up from 0%) credit conversion factor for the
unused portion of a commitment with an original maturity of one year or less that is not unconditionally cancellable (up from 0%); and a 250%
risk weight (up from 100%) for mortgage servicing and deferred tax assets that are not deducted from capital.
In addition to the minimum CET1, Tier 1, leverage ratio and total capital ratios, Banner and each of the Banks must maintain a capital conservation
buffer consisting of additional CET1 capital greater than 2.5% of risk-weighted assets above the required minimum risk-based capital levels in
order to avoid limitations on paying dividends, repurchasing shares, and paying discretionary bonuses. The new capital conservation buffer
requirement was phased in beginning on January 1, 2016 when a buffer greater than 0.625% of risk-weighted assets was required, which amount
increased each year by 0.625% until the buffer requirement was fully implemented on January 1, 2019.
To be considered "well capitalized," a bank holding company must have, on a consolidated basis, a total risk-based capital ratio of 10.0% or
greater and a Tier 1 risk-based capital ratio of 6.0% or greater and must not be subject to an individual order, directive or agreement under which
the FRB requires it to maintain a specific capital level. To be considered “well capitalized,” a depository institution must have a Tier 1 risk-
based capital ratio of at least 8.0%, a total risk-based capital ratio of at least 10.0%, a CET1 capital ratio of at least 6.5% and a leverage ratio of
at least 5.0% and not be subject to an individualized order, directive or agreement under which its primary federal banking regulator requires it
to maintain a specific capital level.
Prompt Corrective Action: Federal statutes establish a supervisory framework for FDIC-insured institutions based on five capital categories: well
capitalized, adequately capitalized, undercapitalized, significantly undercapitalized and critically undercapitalized. An institution's category
depends upon where its capital levels are in relation to relevant capital measures. The well-capitalized category is described above. An institution
that is not well capitalized is subject to certain restrictions on brokered deposits, including restrictions on the rates it can offer on its deposits
generally. To be considered adequately capitalized, an institution must have the minimum capital ratios described above. Any institution which
is neither well capitalized nor adequately capitalized is considered undercapitalized.
Undercapitalized institutions are subject to certain prompt corrective action requirements, regulatory controls and restrictions which become
more extensive as an institution becomes more severely undercapitalized. Failure by either Banner Bank and Islanders Bank to comply with
applicable capital requirements would, if unremedied, result in progressively more severe restrictions on its activities and lead to enforcement
actions, including, but not limited to, the issuance of a capital directive to ensure the maintenance of required capital levels and, ultimately, the
appointment of the FDIC as receiver or conservator. Banking regulators will take prompt corrective action with respect to depository institutions
that do not meet minimum capital requirements. Additionally, approval of any regulatory application filed for their review may be dependent
on compliance with capital requirements.
As of December 31, 2018, Banner Corporation and each of the Banks met the requirements to be "well capitalized" and the fully phased-in
capital conservation buffer requirement. For additional information, see Note 16, Regulatory Capital Requirements, of the Notes to the
Consolidated Financial Statements.
Commercial Real Estate Lending Concentrations: The federal banking agencies have issued guidance on sound risk management practices for
concentrations in commercial real estate lending. The particular focus is on exposure to commercial real estate loans that are dependent on the
cash flow from the real estate held as collateral and that are likely to be sensitive to conditions in the commercial real estate market (as opposed
to real estate collateral held as a secondary source of repayment or as an abundance of caution). The purpose of the guidance is not to limit a
bank's commercial real estate lending but to guide banks in developing risk management practices and capital levels commensurate with the
level and nature of real estate concentrations. The guidance directs the FDIC and other bank regulatory agencies to focus their supervisory
resources on institutions that may have significant commercial real estate loan concentration risk. A bank that has experienced rapid growth in
commercial real estate lending, has notable exposure to a specific type of commercial real estate loan, or is approaching or exceeding the following
supervisory criteria may be identified for further supervisory analysis with respect to real estate concentration risk:
• Total reported loans for construction, land development and other land represent 100% or more of the bank's total regulatory capital;
or
• Total commercial real estate loans (as defined in the guidance) represent 300% or more of the bank's total regulatory capital or the
outstanding balance of the bank's commercial real estate loan portfolio has increased 50% or more during the prior 36 months.
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The guidance provides that the strength of an institution's lending and risk management practices with respect to such concentrations will be
taken into account in supervisory guidance on evaluation of capital adequacy. As of December 31, 2018, Banner Bank's and Islanders Bank's
aggregate recorded loan balances for construction, land development and land loans were 94% and 33% of total regulatory capital, respectively. In
addition, at December 31, 2018, Banner Bank's and Islanders Bank's loans on commercial real estate were 310% and 219% of total regulatory
capital, respectively.
Activities and Investments of Insured State-Chartered Financial Institutions: Federal law generally limits the activities and equity investments
of FDIC insured, state-chartered banks to those that are permissible for national banks. An insured state bank is not prohibited from, among
other things, (1) acquiring or retaining a majority interest in a subsidiary, (2) investing as a limited partner in a partnership the sole purpose of
which is direct or indirect investment in the acquisition, rehabilitation or new construction of a qualified housing project, provided that such
limited partnership investments may not exceed 2% of the bank's total assets, (3) acquiring up to 10% of the voting stock of a company that
solely provides or re-insures directors', trustees' and officers' liability insurance coverage or bankers' blanket bond group insurance coverage for
insured depository institutions, and (4) acquiring or retaining the voting shares of a depository institution if certain requirements are met.
Washington State has enacted laws regarding financial institution parity. These laws afford Washington-chartered commercial banks the same
powers as Washington-chartered savings banks and provide that Washington-chartered commercial banks may exercise any of the powers that
the Federal Reserve has determined to be closely related to the business of banking and the powers of national banks, subject to the approval of
the Director in certain situations. Finally, the law provides additional flexibility for Washington-chartered banks with respect to interest rates
on loans and other extensions of credit. Specifically, they may charge the maximum interest rate allowable for loans and other extensions of
credit by federally-chartered financial institutions.
Environmental Issues Associated With Real Estate Lending: The Comprehensive Environmental Response, Compensation and Liability Act
(CERCLA) is a federal statute that generally imposes strict liability on all prior and present “owners and operators” of sites containing hazardous
waste. However, Congress acted to protect secured creditors by providing that the term “owner and operator” excludes a person whose ownership
is limited to protecting its security interest in the site. Since the enactment of the CERCLA, this “secured creditor exemption” has been the
subject of judicial interpretations which have left open the possibility that lenders could be liable for cleanup costs on contaminated property
that they hold as collateral for a loan. To the extent that legal uncertainty exists in this area, all creditors, including Banner Bank and Islanders
Bank, that have made loans secured by properties with potential hazardous waste contamination (such as petroleum contamination) could be
subject to liability for cleanup costs, which costs often substantially exceed the value of the collateral property.
Federal Reserve System: The Federal Reserve requires that all depository institutions maintain reserves on transaction accounts or non-personal
time deposits. These reserves may be in the form of cash or non-interest-bearing deposits with the regional Federal Reserve Bank. Interest-
bearing checking accounts and other types of accounts that permit payments or transfers to third parties fall within the definition of transaction
accounts and are subject to Regulation D reserve requirements, as are any non-personal time deposits at a bank. At December 31, 2018, the
Banks' deposits with the Federal Reserve Bank and vault cash exceeded their reserve requirements.
Affiliate Transactions: Banner Corporation, Banner Bank and Islanders Bank are separate and distinct legal entities. Each Bank is an affiliate
of the other and Banner Corporation (and any non-bank subsidiary of Banner Corporation) is an affiliate of both Banks. Federal laws strictly
limit the ability of banks to engage in certain transactions with their affiliates. Transactions deemed to be a “covered transaction” under Section
23A of the Federal Reserve Act between a bank and an affiliate are limited to 10% of the bank's capital and surplus and, with respect to all
affiliates, to an aggregate of 20% of the bank's capital and surplus. Further, covered transactions that are loans and extensions of credit generally
are required to be secured by eligible collateral in specified amounts. Federal law also requires that covered transactions and certain other
transactions listed in Section 23B of the Federal Reserve Act between a bank and its affiliates be on terms as favorable to the bank as transactions
with non-affiliates.
Community Reinvestment Act: Banner Bank and Islanders Bank are subject to the provisions of the Community Reinvestment Act of 1977
(CRA), which requires the appropriate federal bank regulatory agency to assess a bank's performance under the CRA in meeting the credit needs
of the community serviced by the bank, including low and moderate income neighborhoods. The regulatory agency's assessment of the bank's
record is made available to the public. Further, a bank's CRA performance rating must be considered in connection with a bank's application
to, among other things, establish a new branch office that will accept deposits, relocate an existing office or merge or consolidate with, or acquire
the assets or assume the liabilities of, a federally regulated financial institution. Both Banner Bank and Islanders Bank received a “satisfactory”
rating during their most recently completed CRA examinations.
Dividends: The amount of dividends payable by the Banks to the Company depends upon their earnings and capital position, and is limited by
federal and state laws, regulations and policies, including the capital conservation buffer requirement. Federal law further provides that no
insured depository institution may make any capital distribution (which includes a cash dividend) if, after making the distribution, the institution
would be “undercapitalized,” as defined in the prompt corrective action regulations. Moreover, the federal bank regulatory agencies also have
the general authority to limit the dividends paid by insured banks if such payments should be deemed to constitute an unsafe and unsound
practice. In addition, under Washington law, no bank may declare or pay any dividend in an amount greater than its retained earnings without
the prior approval of the Washington DFI. The Washington DFI also has the power to require any bank to suspend the payment of any and all
dividends.
Privacy Standards: The Gramm-Leach-Bliley Financial Services Modernization Act of 1999 (GLBA) modernized the financial services industry
by establishing a comprehensive framework to permit affiliations among commercial banks, insurance companies, securities firms and other
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financial service providers. Banner Bank and Islanders Bank are subject to FDIC regulations implementing the privacy protection provisions
of the GLBA. These regulations require the Banks to disclose their privacy policy, including informing consumers of their information sharing
practices and informing consumers of their rights to opt out of certain practices.
Anti-Money Laundering and Customer Identification: The Uniting and Strengthening America by Providing Appropriate Tools Required to
Intercept and Obstruct Terrorism Act of 2001 (USA Patriot Act) was signed into law on October 26, 2001. The USA PATRIOT and Bank Secrecy
Acts require financial institutions to develop programs to prevent financial institutions from being used for money laundering and terrorist
activities. If such activities are detected, financial institutions are obligated to file suspicious activity reports with the U.S. Treasury’s Office of
Financial Crimes Enforcement Network. These rules require financial institutions to establish procedures for identifying and verifying the
identity of customers seeking to open new financial accounts, and, effective in 2018, the beneficial owners of accounts. Bank regulators are
directed to consider an institution's effectiveness in combating money laundering when ruling on Bank Holding Company Act and Bank Merger
Act applications. Banner Bank's and Islanders Bank's policies and procedures comply with the requirements of the USA Patriot Act.
Other Consumer Protection Laws and Regulations: The Dodd-Frank Act established the CFPB and empowered it to exercise broad regulatory,
supervisory and enforcement authority with respect to both new and existing consumer financial protection laws. The quarter ended December
31, 2018, is the fourth consecutive quarter that Banner Bank will have reported assets exceeding $10 billion. Therefore, effective the second
quarter of 2019 Banner Bank and its affiliates and subsidiaries will become subject to CFPB supervisory and enforcement authority. See Item
1A "Risk Factors—We will be subject to additional regulatory scrutiny since Banner Bank maintains total assets exceeding $10.0 billion."
The Banks are subject to a broad array of federal and state consumer protection laws and regulations that govern almost every aspect of their
business relationships with consumers. While the list set forth below is not exhaustive, these include the Truth-in-Lending Act, the Truth in
Savings Act, the Electronic Fund Transfers Act, the Expedited Funds Availability Act, the Equal Credit Opportunity Act, the Fair Housing Act,
the Real Estate Settlement Procedures Act, the Home Mortgage Disclosure Act, the Fair Credit Reporting Act, the Right to Financial Privacy
Act, the Home Ownership and Equity Protection Act, the Fair Credit Billing Act, the Homeowners Protection Act, the Check Clearing for the
21st Century Act, laws governing flood insurance, laws governing consumer protections in connection with the sale of insurance, federal and
state laws prohibiting unfair and deceptive business practices, and various regulations that implement some or all of the foregoing. These laws
and regulations mandate certain disclosure requirements and regulate the manner in which financial institutions must deal with customers when
taking deposits, making loans, collecting loans, and providing other services. Failure to comply with these laws and regulations can subject the
Banks to various penalties, including but not limited to, enforcement actions, injunctions, fines, civil liability, criminal penalties, punitive damages,
and the loss of certain contractual rights.
2018 Reforms
In May 2018, the Economic Growth, Regulatory Relief and Consumer Protection Act (the “Economic Growth Act”) was enacted to modify or
remove certain financial reform rules and regulations, including some of those implemented under the Dodd-Frank Act. While the Act maintains
most of the regulatory structure established by the Dodd-Frank Act, it amends certain aspects of the regulatory framework for small depository
institutions with assets of less than $10 billion and for large banks with assets of more than $50 billion.
The Economic Growth Act, among other matters, expands the definition of qualified mortgages which may be held by a financial institution and
simplifies the regulatory capital rules for depository institutions and their holding companies with total consolidated assets of less than $10
billion by instructing the federal banking regulators to establish a single “Community Bank Leverage Ratio” of between 8 and 10 percent. Any
qualifying depository institution or its holding company that exceeds the “community bank leverage ratio” will be considered to have met
generally applicable leverage and risk-based regulatory capital requirements and any qualifying depository institution that exceeds the new ratio
will be considered to be “well capitalized” under the prompt corrective action rules.
In addition, the Economic Growth Act includes regulatory relief for community banks regarding regulatory examination cycles, call reports, the
Volcker Rule (proprietary trading prohibitions), mortgage disclosures and risk weights for certain high-risk commercial real estate loans.
It is difficult at this time to predict when or how any new standards under the Economic Growth Act will ultimately be applied to us or what
specific impact the Economic Growth Act and the yet-to-be-written implementing rules and regulations implementing the Economic Growth
Act will have.
Current Expected Credit Loss, or CECL, that will be effective for Banner for our first fiscal year beginning after December 15, 2019. Upon
adoption of CECL, a banking organization must record a one-time adjustment to its credit loss allowances as of the beginning of the fiscal year
of adoption equal to the difference, if any, between the amount of credit loss allowances under the current methodology and the amount required
under CECL. In 2018, the federal banking regulators (the Federal Reserve, the OCC and the FDIC) adopted a rule that gives a banking organization
the option to phase in over a three-year period the day-one adverse effects of CECL on its regulatory capital.
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Banner Corporation
General: Banner Corporation, as sole shareholder of Banner Bank and Islanders Bank, is a bank holding company registered with the Federal
Reserve. Bank holding companies are subject to comprehensive regulation by the Federal Reserve under the Bank Holding Company Act of
1956, as amended, or the BHCA, and the regulations of the Federal Reserve. We are required to file quarterly reports with the Federal Reserve
and provide additional information as the Federal Reserve may require. The Federal Reserve may examine us, and any of our subsidiaries, and
charge us for the cost of the examination. The Federal Reserve also has extensive enforcement authority over bank holding companies, including,
among other things, the ability to assess civil money penalties, to issue cease and desist or removal orders and to require that a holding company
divest subsidiaries (including its bank subsidiaries). In general, enforcement actions may be initiated for violations of law and regulations and
unsafe or unsound practices. Banner Corporation is also required to file certain reports with, and otherwise comply with the rules and regulations
of the SEC.
The Bank Holding Company Act: Under the BHCA, Banner Corporation is supervised by the Federal Reserve. The Federal Reserve has a policy
that a bank holding company is required to serve as a source of financial and managerial strength to its subsidiary banks and may not conduct
its operations in an unsafe or unsound manner. In addition, the Dodd-Frank Act provides that a bank holding company must serve as a source
of financial strength to its subsidiary banks. A bank holding company's failure to meet its obligation to serve as a source of strength to its
subsidiary banks will generally be considered by the Federal Reserve to be an unsafe and unsound banking practice or a violation of the Federal
Reserve's regulations or both. No regulations have yet been proposed by the Federal Reserve to implement the source of strength provisions of
the Dodd-Frank Act. Banner Corporation and any subsidiaries that it may control are considered “affiliates” of the Banks within the meaning
of the Federal Reserve Act, and transactions between Banner Bank and affiliates are subject to numerous restrictions. With some exceptions,
Banner Corporation and its subsidiaries are prohibited from tying the provision of various services, such as extensions of credit, to other services
offered by Banner Corporation or by its affiliates.
Acquisitions: The BHCA prohibits a bank holding company, with certain exceptions, from acquiring ownership or control of more than 5% of
the voting shares of any company that is not a bank or bank holding company and from engaging in activities other than those of banking,
managing or controlling banks, or providing services for its subsidiaries. Under the BHCA, the Federal Reserve may approve the ownership of
shares by a bank holding company in any company, the activities of which the Federal Reserve has determined to be so closely related to the
business of banking or managing or controlling banks as to be a proper incident thereto. These activities include: operating a savings institution,
mortgage company, finance company, credit card company or factoring company; performing certain data processing operations; providing
certain investment and financial advice; underwriting and acting as an insurance agent for certain types of credit-related insurance; leasing
property on a full-payout, non-operating basis; selling money orders, travelers' checks and U.S. Savings Bonds; real estate and personal property
appraising; providing tax planning and preparation services; and, subject to certain limitations, providing securities brokerage services for
customers.
Federal Securities Laws: Banner Corporation's common stock is registered with the SEC under Section 12(b) of the Securities Exchange Act
of 1934, as amended. We are subject to information, proxy solicitation, insider trading restrictions and other requirements under the Securities
Exchange Act of 1934 (the Exchange Act).
The Dodd-Frank Act: On July 21, 2010, the Dodd-Frank Act was signed into law. The Dodd-Frank-Act imposes various restrictions and an
expanded framework of regulatory oversight for financial institutions, including depository institutions, and implements certain capital regulations
applicable to Banner Corporation and the Banks that are discussed above under the section entitled "Capital Requirements."
In addition, among other changes, the Dodd-Frank Act requires public companies, like Banner Corporation, to (i) provide their shareholders
with a non-binding vote (a) at least once every three years on the compensation paid to executive officers and (b) at least once every six years
on whether they should have a “say on pay” vote every one, two or three years; (ii) have a separate, non-binding shareholder vote regarding
golden parachutes for named executive officers when a shareholder vote takes place on mergers, acquisitions, dispositions or other transactions
that would trigger the parachute payments; (iii) provide disclosure in annual proxy materials concerning the relationship between the executive
compensation paid and the financial performance of the issuer; and (iv) disclose the ratio of the Chief Executive Officer's annual total compensation
to the median annual total compensation of all other employees.
The regulations to implement the provisions of Section 619 of the Dodd-Frank Act, commonly referred to as the Volcker Rule, contain prohibitions
and restrictions on the ability of financial institutions holding companies and their affiliates to engage in proprietary trading and to hold certain
interests in, or to have certain relationships with, various types of investment funds, including hedge funds and private equity funds. Banner
Corporation is continuously reviewing its investment portfolio to determine if changes in its investment strategies are in compliance with the
various provisions of the Volcker Rule regulations.
For certain of these changes, the implementing regulations have not been promulgated, so the full impact of the Dodd-Frank Act on public
companies cannot be determined at this time. For information on the Economic Growth Act, which amended the Dodd-Frank Act, see "2018
Reforms" above.
Sarbanes-Oxley Act of 2002: As a public company that files periodic reports with the SEC, under the Securities Exchange Act of 1934, Banner
Corporation is subject to the Sarbanes-Oxley Act of 2002 (Sarbanes-Oxley Act), which addresses, among other issues, corporate governance,
auditing and accounting, executive compensation and enhanced and timely disclosure of corporate information. The Sarbanes-Oxley Act
represents significant federal involvement in matters traditionally left to state regulatory systems, such as the regulation of the accounting
19
profession, and to state corporate law, such as the relationship between a board of directors and management and between a board of directors
and its committees. Our policies and procedures are designed to comply with the requirements of the Sarbanes-Oxley Act.
Interstate Banking and Branching: The Federal Reserve must approve an application of a bank holding company to acquire control of, or acquire
all or substantially all of the assets of, a bank located in a state other than the holding company's home state, without regard to whether the
transaction is prohibited by the laws of any state. The Federal Reserve may not approve the acquisition of a bank that has not been in existence
for the minimum time period (not exceeding five years) specified by the statutory law of the host state. Nor may the Federal Reserve approve
an application if the applicant (and its depository institution affiliates) controls or would control more than 10% of the insured deposits in the
United States or 30% or more of the deposits in the target bank's home state or in any state in which the target bank maintains a branch. Federal
law does not affect the authority of states to limit the percentage of total insured deposits in the state which may be held or controlled by a bank
holding company to the extent such limitation does not discriminate against out-of-state banks or bank holding companies. Individual states
may also waive the 30% state-wide concentration limit contained in the federal law.
The federal banking agencies are generally authorized to approve interstate merger transactions without regard to whether the transaction is
prohibited by the law of any state. Interstate acquisitions of branches are permitted only if the law of the state in which the branch is located
permits such acquisitions. Interstate mergers and branch acquisitions are subject to the nationwide and statewide insured deposit concentration
amounts described above. Under the Dodd-Frank Act, the federal banking agencies may generally approve interstate de novo branching.
Dividends: The Federal Reserve has issued a policy statement on the payment of cash dividends by bank holding companies, which expresses
its view that although there are no specific regulations restricting dividend payments by bank holding companies other than state corporate laws,
a bank holding company must maintain an adequate capital position and generally should not pay cash dividends unless the company's net
income for the past year is sufficient to fully fund the cash dividends and that the prospective rate of earnings appears consistent with the
company's capital needs, asset quality, and overall financial condition. The Federal Reserve policy statement also indicates that it would be
inappropriate for a company experiencing serious financial problems to borrow funds to pay dividends. As described above under “Capital
Requirements,” the capital conversion buffer requirement can also restrict Banner Corporation’s and the Banks’ ability to pay dividends. Further,
under Washington law, Banner Corporation is prohibited from paying a dividend if, after making such dividend payment, it would be unable to
pay its debts as they become due in the usual course of business, or if its total liabilities, plus the amount that would be needed in the event
Banner Corporation were to be dissolved at the time of the dividend payment, to satisfy preferential rights on dissolution of holders of preferred
stock ranking senior in right of payment to the capital stock on which the applicable distribution is to be made, exceed our total assets.
Stock Repurchases: A bank holding company, except for certain “well-capitalized” and highly rated bank holding companies, is required to give
the Federal Reserve prior written notice of any purchase or redemption of its outstanding equity securities if the gross consideration for the
purchase or redemption, when combined with the net consideration paid for all such purchases or redemptions during the preceding twelve
months, is equal to 10% or more of its consolidated net worth. The Federal Reserve may disapprove such a purchase or redemption if it determines
that the proposal would constitute an unsafe or unsound practice or would violate any law, regulation, Federal Reserve order or any condition
imposed by, or written agreement with, the Federal Reserve. During the year ended December 31, 2018, Banner Corporation repurchased 594,711
shares of its common stock at an average price of $57.82 per share.
20
Executive Officers
Management Personnel
The following table sets forth information with respect to the executive officers of Banner Corporation and Banner Bank as of December 31,
2018:
Name
Age
Position with Banner Corporation
Position with Banner Bank
Mark J. Grescovich
Richard B. Barton
Peter J. Conner
James P. Garcia
Kenneth W. Johnson
Kayleen R. Kohler
Kenneth A. Larsen
James P. G. McLean
Craig Miller
Cynthia D. Purcell
M. Kirk Quillin
James T. Reed, Jr.
Steven W. Rust
Judith A. Steiner
Gary W. Wagers
Keith A. Western
54
75
53
59
56
46
49
54
67
61
56
56
71
56
58
63
President, Chief Executive Officer,
Director
President, Chief Executive Officer, Director
Executive Vice President
Chief Financial Officer
Treasurer
Executive Vice President,
Chief Credit Officer
Executive Vice President,
Chief Financial Officer
Executive Vice President,
Chief Audit Executive
Executive Vice President
Operations
Executive Vice President
Human Resources
Executive Vice President,
Mortgage Banking
Executive Vice President,
Commercial Real Estate Lending Division
Executive Vice President
General Counsel
Executive Vice President
General Counsel
Executive Vice President,
Retail Banking and Administration
Executive Vice President,
Commercial Executive
Executive Vice President,
Commercial Banking West
Executive Vice President,
Chief Information Officer
Executive Vice President
Chief Risk Officer
Executive Vice President,
Retail Products and Services
Executive Vice President,
Commercial Banking South
Biographical Information
Set forth below is certain information regarding the executive officers of Banner Corporation and Banner Bank. There are no family relationships
among or between the directors or executive officers.
Mark J. Grescovich is President and Chief Executive Officer, and a director, of Banner Corporation and Banner Bank. Mr. Grescovich joined
Banner Bank in April 2010 and became Chief Executive Officer in August 2010 following an extensive banking career specializing in finance,
credit administration and risk management. Under his leadership, Banner has grown from $4.7 billion in assets in 2010 to more than $11 billion
today through organic growth as well as selective acquisition. During that time, Mr. Grescovich has guided the expansion of the Company’s
footprint to nearly 200 locations in four states. Prior to joining the Bank, Mr. Grescovich was the Executive Vice President and Chief Corporate
Banking Officer for Akron, Ohio-based FirstMerit Corporation and FirstMerit Bank N.A., a commercial bank with $14.5 billion in assets and
over 200 branch offices in three states. He assumed the role and responsibility for FirstMerit’s commercial and regional line of business in 2007,
21
having served since 1994 in various commercial and corporate banking positions, including that of Chief Credit Officer. Prior to joining FirstMerit,
Mr. Grescovich was a Managing Partner in corporate finance with Sequoia Financial Group, Inc. of Akron, Ohio and a commercial and corporate
lending officer and credit analyst with Society National Bank of Cleveland, Ohio. He has a Bachelor of Business Administration degree in
finance from Miami University and a Master of Business Administration degree, also in finance, from The University of Akron.
Richard B. Barton joined Banner Bank in 2002 as Chief Credit Officer. Mr. Barton’s banking career began in 1972 with Seafirst Bank and Bank
of America, where he served in a variety of commercial lending and credit risk management positions. In his last positions at Bank of America
before joining Banner Bank, he served as the senior real estate risk management executive for the Pacific Northwest and as the credit risk
management executive for the west coast home builder division.
Peter J. Conner joined Banner Bank in 2015 upon the acquisition of AmericanWest Bank (AmericanWest). Prior to joining Banner, Mr. Conner
was the Chief Financial Officer for SKBHC LLC, the holding company for Starbuck Bancshares, Inc. (Starbuck), the holding company for
AmericanWest, and AmericanWest from 2010 until he joined Banner Bank in 2015. Mr. Conner has 29 years of experience in executive finance
positions at Wells Fargo Bank as well as regional community banks. Additionally, he spent time as a managing director for FSI Group, where
he evaluated and placed equity fund investments in community banks. He earned a B.S. in Quantitative Economics from the University of
California at San Diego and a Master's of Business degree from the Haas School of Business at U.C. Berkeley.
James P. Garcia is the Chief Audit Executive responsible for proactively identifying and mitigating risks as well as providing internal audit
services in the areas of financial compliance, IT Governance, and operations. He has more than 41 years of experience in the financial services
industry. Prior to joining Banner in 2017, Mr. Garcia served for 16 years at the Bank of Hawaii, most recently as Executive Vice President and
Chief Audit Executive, with prior positions as Vice President and Senior Audit Manager. Mr. Garcia also has 24 years of experience at Bank of
America where he held several positions in consumer and commercial operations management and audit, including that of Audit Director. Mr.
Garcia earned his bachelor's degree in management from St. Mary's College of California and is a graduate of the School of Mortgage Banking.
He is a Certified Bank Auditor (CBA), holds a Certification in Risk Management Assurance (CRMA) and is a Certified Information Systems
Auditor (CISA).
Kenneth W. Johnson has over 30 years of banking experience. Prior to joining Skagit Bank in 2015, Mr. Johnson held various executive positions
with Chemical Financial Corporation, including production oversight of commercial, mortgage, consumer and deposit generation. In addition,
while at Chemical, he served nine years as Executive Vice President, Director of Bank Operations, responsible for nine business units including
the branch system, information technology, corporate marketing, loan operations, deposit operations, electronic banking, facilities/purchasing,
card services, and customer care centers. Prior to Chemical, he held leadership roles in retail banking and operations at Shoreline Bank and as
Vice President, Zone Manager for Michigan National Bank. Mr. Johnson holds a Bachelor of Arts Degree in Business Administration from
Michigan State University. He is also a graduate of Stonier Graduate School of Banking.
Kayleen R. Kohler joined Banner Bank in 2016 as Executive Vice President of Human Resources. Ms. Kohler’s focus is on driving organizational
design priorities at Banner Bank including: leadership development, talent acquisition, workforce planning, employee relations, compensation,
benefits, diversity initiatives, payroll, and safety. Prior to joining Banner, Ms. Kohler served 20 years in progressive human resource leadership
roles for Plum Creek Timber Company, now Weyerhaeuser. She holds bachelors’ degrees in Marketing as well as Business Management from
Northwest Missouri State University and a master’s in Organizational Management from the University of Phoenix. Through continuing
education, she maintains her certifications as a Senior Professional in Human Resources or SPHR and a Society of Human Resources Management
Senior Certified Professional or SHRM-SCP.
Kenneth A. Larsen joined Banner Bank in 2005 as the Real Estate Administration Manager and was promoted to Mortgage Banking Director in
2010. Mr. Larsen is responsible for Banner Bank’s mortgage banking activities from origination, administration, secondary marketing, through
loan servicing. Mr. Larsen has had a 27-year career in mortgage banking, including holding positions in all facets of operations and management.
A graduate of Eastern Washington University, he earned a Bachelor of Arts in Education with a degree in Social Science and earned certificates
from the Pacific Coast Banking School and the School of Mortgage Banking. He is also a Certified Mortgage Banker, the highest designation
recognized by the Mortgage Bankers Association. Mr. Larsen began his career at Action Mortgage/Sterling Savings, later moving to Peoples
Bank of Lynden where he managed the mortgage banking operation. Mr. Larsen also served as the 90th President of the Seattle Mortgage
Bankers Association. Formerly he was the Chairman of the Washington Mortgage Bankers Association and currently serves as a commissioner
on the Washington State Housing Finance Commission. He was promoted to Executive Vice President in 2015.
James P.G. McLean joined Banner Bank in November 2010 and is Executive Vice President of the Commercial Real Estate Lending Division,
leading teams within the Multifamily Lending Group, Commercial Real Estate Specialty Unit, Residential Construction and Income Property
Divisions, as well as the loan administration functions related to this division. Mr. McLean has 28 years of real estate finance experience at
large national commercial banks as well as community banks. This experience includes ten years in executive leadership roles and as a principal
of a mid-sized regional commercial real estate development firm. Mr. McLean earned his bachelor’s degree from the University of Washington.
His community volunteering is focused on organizations that serve local youth, including the Boy Scouts of America, Lake Washington School
District and numerous coaching positions.
Craig Miller is the Executive Vice President and General Counsel for Banner Corporation and Banner Bank. He joined Banner in 2016 and is
responsible for overseeing the company’s legal functions. Mr. Miller had previously served as senior litigation partner at Davis Wright Tremaine
LLP in Seattle. Mr. Miller earned his B.A. degree from Grinnell College and his J.D. degree from the University of Southern California Law
School. His community involvement includes board service with the YMCA of Greater Seattle, Childhaven (past board president), King County
Sexual Assault Resource Center, and the Meany Center for the Performing Arts.
22
Cynthia D. Purcell is the Executive Vice President for Retail Banking and Administration. Ms. Purcell is responsible for leading the Retail
Banking business line including Branch Banking, Mortgage Banking, Business Banking and Digital delivery channels, as well as oversight of
administrative and support functions for Banner Bank. She was formerly the Chief Financial Officer of Inland Empire Bank (now Banner Bank),
which she joined in 1981. Over her banking career, Ms. Purcell has been deeply involved in advocating for the industry through leadership roles
on various Boards and committees including State Banking Associations and the American Bankers Association (ABA). She has also taught
banking courses throughout her career, including the ABA Graduate School of Bank Investments and Financial Management, the Northwest
Intermediate Banking School, and the Oregon Bankers Association Directors College.
M. Kirk Quillin joined Banner Bank’s commercial banking group in 2002 as a Senior Vice President and commercial banking manager for the
Spokane, Washington, and Idaho markets. He was named the East Region Commercial Banking Executive in July 2012, responsible for
commercial and specialty banking for all locations in Eastern Washington, Eastern Oregon and Idaho. Currently, he is overseeing a project that
addresses both efficiency and scalability for Banner Bank. Mr. Quillin began his career in the banking industry in 1984 with Idaho First National
Bank, which is now U.S. Bank. His career also included management positions in commercial lending with Washington Mutual. He earned a
B.S. in Finance and Economics from Boise State University and was certified by the Pacific Coast Banking School and Northwest Intermediate
Commercial Lending School.
James T. Reed, Jr. joined Towne Bank (now Banner Bank) as a Vice President and Commercial Branch Manager in July 1995 and was named
to his current position as the West Region Commercial Banking Executive in July 2012. He is responsible for Commercial Banking in Western
Washington and Western Oregon, as well as Treasury Management and Specialty Banking Services. Mr. Reed began his banking career with
Rainier Bank, which later became Security Pacific Bank and later still West One Bank. He earned a Bachelor of Arts in Interdisciplinary Arts
and Sciences from the University of Washington and earned certificates from Pacific Coast Banking School, Northwest Intermediate Banking
School and Northwest Intermediate Commercial Lending School. Currently, Mr. Reed is a member of the University of Washington Bothell
Advisory Board and the Association of Washington Business Board of Directors.
Steven W. Rust joined Banner Bank in October 2005 as Senior Vice President and Chief Information Officer and was named to his current position
as Executive Vice President and Chief Information Officer in September 2007. Mr. Rust has over 39 years of relevant industry experience prior
to joining Banner Bank and was founder and President of InfoSoft Technology, through which he worked for nine years as a technology consultant
and interim Chief Information Officer for banks and insurance companies. He also worked 19 years with US Bank/West One Bancorp as Senior
Vice President & Manager of Information Systems.
Judith A. Steiner joined Banner Bank in 2016 as Executive Vice President and Chief Risk Officer. In this role, Ms. Steiner is responsible for
overseeing the company’s risk and compliance functions as well as Banner Bank’s interactions with industry regulators. Prior to joining Banner,
Ms. Steiner spent 25 years with FirstMerit Corporation in executive leadership positions including Executive Vice President & Chief Risk Officer,
Secretary, and General Counsel. Ms. Steiner earned her bachelor’s degree from the University of Akron and her Juris Doctor degree (JD) from
the Case Western Reserve University School of Law.
Gary W. Wagers joined Banner Bank as Senior Vice President, Consumer Lending Administration in 2002 and was named to his current position
in Retail Products and Services in January 2008. Mr. Wagers began his banking career in 1982 at Idaho First National Bank. Prior to joining
Banner Bank, his career included senior management positions in retail lending and branch banking operations with West One Bank and US
Bank. Mr. Wagers earned his bachelor's degree from Whitman College and his Master's of Business degree from the University of Oregon. He
is also a graduate of the ABA's Stonier School of Banking.
Keith A. Western is Executive Vice President, Commercial Banking South for Banner Bank, joining Banner upon the merger of AmericanWest
and Banner Bank. Prior to the merger, Mr. Western was President of Northwest Banking for AmericanWest since 2011. Mr. Western has 41
years of banking experience across multiple markets including the western, eastern and mid-western United States and Canada. The bulk of
Mr. Western’s career was with Bank of America (approximately 15 years) and Citibank (approximately 12 years) in a variety of assignments
including asset based lending, commercial and business banking, and credit risk management.
Corporate Information
Our principal executive offices are located at 10 South First Avenue, Walla Walla, Washington 99362. Our telephone number is (509)
527-3636. We maintain a website with the address www.bannerbank.com. The information contained on our website is not included as a part
of, or incorporated by reference into, this Annual Report on Form 10-K. Other than an investor’s own Internet access charges, we make available
free of charge through our website our Annual Report on Form 10-K, quarterly reports on Form 10-Q and current reports on Form 8-K, and
amendments to these reports, as soon as reasonably practicable after we have electronically filed such material with, or furnished such material
to, the SEC.
23
Item 1A – Risk Factors
An investment in our common stock is subject to risks inherent in our business. Before making an investment decision, you should
carefully consider the risks and uncertainties described below together with all of the other information included in this report. The
risks described below are not the only ones we face. Additional risks and uncertainties not currently known to us or that we currently
deem to be immaterial also may materially and adversely affect our business, financial condition, capital levels, cash flows, liquidity,
results of operations and prospects. The market price of our common stock could decline significantly due to any of these identified or
other risks, and you could lose some or all of your investment. The risks discussed below also include forward-looking statements, and
our actual results may differ substantially from those discussed in these forward-looking statements. This report is qualified in its
entirety by these risk factors.
Our business may be adversely affected by downturns in the national economy and the regional economies on which we depend.
Our operations are significantly affected by national and regional economic conditions. Weakness in the national economy or the economies of
the markets in which we operate could have a material adverse effect on our financial condition, results of operations and prospects. We provide
banking and financial services primarily to businesses and individuals in the states of Washington, Oregon, California and Idaho. All of our
branches and most of our deposit customers are also located in these four states. Further, as a result of a high concentration of our customer
base in the Puget Sound area and eastern Washington state regions, the deterioration of businesses in these areas, or one or more businesses with
a large employee base in these areas, could have a material adverse effect on our business, financial condition, liquidity, results of operations
and prospects. Weakness in the global economy has adversely affected many businesses operating in our markets that are dependent upon
international trade and it is not known how changes in tariffs being imposed on international trade may also affect these businesses. In addition,
adverse weather conditions as well as decreases in market prices for agricultural products grown in our primary markets can adversely affect
agricultural businesses in our markets. As we expand our presence in areas such as San Diego and Sacramento, and throughout California, we
will be exposed to concentration risks in those areas as well.
While real estate values and unemployment rates in the market areas we serve have generally improved, a deterioration in economic conditions
in these markets, in particular the Puget Sound area of Washington State, the Portland, Oregon metropolitan area, Spokane, Washington, Boise,
Idaho, Eugene and southwest Oregon, San Diego and Sacramento, California and the agricultural regions of the Columbia Basin, could result
in the following consequences, any of which could have a material adverse effect on our business, financial condition, liquidity and results of
operations:
loan delinquencies, problem assets and foreclosures may increase;
• demand for our products and services may decline;
•
• we may increase our allowance for loan losses;
•
collateral for loans, especially real estate, may decline in value, in turn reducing customers’ borrowing power, reducing the value of
assets and collateral associated with existing loans;
the net worth and liquidity of loan guarantors may decline, impairing their ability to honor commitments to us; and
the amount of our low-cost or non-interest-bearing deposits may decrease.
•
•
A decline in local economic conditions may have a greater effect on our earnings and capital than on the earnings and capital of larger financial
institutions whose real estate loans are more geographically diverse. Many of the loans in our portfolio are secured by real estate. Deterioration
in the real estate markets where collateral for a mortgage loan is located could negatively affect the borrower's ability to repay the loan and the
value of the collateral securing the loan. Real estate values are affected by various other factors, including changes in general or regional
economic conditions, governmental rules or policies and natural disasters such as earthquakes, flooding and tornadoes.
Adverse changes in the regional and general economy could reduce our growth rate, impair our ability to collect loans and generally have a
negative effect on our financial condition and results of operations.
Our loan portfolio includes loans with a higher risk of loss.
In addition to first-lien one- to four -family residential real estate lending, we originate construction and land loans, commercial and multifamily
mortgage loans, commercial business loans, agricultural mortgage loans and agricultural loans, and consumer loans, primarily within our market
areas. We had $7.71 billion outstanding in these types of higher risk loans at December 31, 2018, compared to $6.75 billion at December 31,
2017. These loans typically present different risks to us for a number of reasons, including those discussed below:
• Construction and Land Loans. At December 31, 2018, construction and land loans were $1.11 billion, or 13% of our total loan
portfolio. This type of lending is subject to the inherent difficulties in estimating both a property’s value at completion of a project and
the estimated cost (including interest) of the project. Because of the uncertainties inherent in estimating construction costs, as well as
the market value of a completed project and the effects of governmental regulation on real property, it is relatively difficult to evaluate
accurately the total funds required to complete a project and the completed project's loan-to-value ratio. If the estimate of construction
cost proves to be inaccurate, we may be required to advance funds beyond the amount originally committed to ensure completion of
the project. If our appraisal of the value of a completed project proves to be overstated, we may have inadequate security for the
repayment of the loan upon completion of construction of the project and may incur a loss. Disagreements between borrowers and
builders and the failure of builders to pay subcontractors may also jeopardize projects. This type of lending also typically involves
24
higher loan principal amounts and may be concentrated with a small number of builders. A downturn in housing, or the real estate
market, could increase delinquencies, defaults and foreclosures, and significantly impair the value of our collateral and our ability to
sell the collateral upon foreclosure. Some of the builders we deal with have more than one loan outstanding with us. Consequently, an
adverse development with respect to one loan or one credit relationship can expose us to a significantly greater risk of loss. In addition,
during the term of some of our construction loans, no payment from the borrower is required since the accumulated interest is added to
the principal of the loan through an interest reserve. Increases in market rates of interest may have a more pronounced effect on
construction loans by rapidly increasing the end-purchaser's borrowing costs, thereby possibly reducing the homeowner's ability to
finance the home upon completion or the overall demand for the project. Properties under construction are often difficult to sell and
typically must be completed in order to be successfully sold which also complicates the process of managing our problem construction
loans. This may require us to advance additional funds and/or contract with another builder to complete construction and assume the
market risk of selling the project at a future market price, which may or may not enable us to fully recover unpaid loan funds and
associated construction and liquidation costs. In addition, speculative construction loans to a builder are often associated with homes
that are not pre-sold, and thus pose a greater potential risk to us than construction loans to individuals on their personal residences. Loans
on land under development or held for future construction also pose additional risk because of the lack of income being produced by
the property and the potential illiquid nature of the collateral. These risks can be significantly impacted by supply and demand. As a
result, this type of lending often involves the disbursement of substantial funds with repayment dependent on the success of the ultimate
project and the ability of the borrower to sell or lease the property or obtain permanent take-out financing, rather than the ability of the
borrower or guarantor to independently repay principal and interest.
Construction loans made by us include those with a sales contract or permanent loan in place for the finished homes and those for which
purchasers for the finished homes may not be identified either during or following the construction period. We actively monitor the
number of unsold homes in our construction loan portfolio and local housing markets to attempt to maintain an appropriate balance
between home sales and new loan originations. The maximum number of speculative loans (loans that are not pre-sold) approved for
each builder is based on a combination of factors, including the financial capacity of the builder, the market demand for the finished
product and the ratio of sold to unsold inventory the builder maintains. We have attempted to diversify the risk associated with speculative
construction lending by doing business with a large number of small and mid-sized builders spread over a relatively large geographic
region representing numerous sub-markets within our service area.
As a result of the recent improvement in real estate values in certain of our market areas, this category of lending has increased significantly
in recent years and our investment in construction and land loans increased by $200.0 million or 22% in 2018. At December 31, 2018,
construction and land loans that were non-performing were $3.2 million, or 20% of our total non-performing loans.
• Commercial and Multifamily Real Estate Loans. At December 31, 2018, commercial and multifamily real estate loans were $3.93
billion, or 45% of our total loan portfolio. These loans typically involve higher principal amounts than other types of loans and some
of our commercial borrowers have more than one loan outstanding with us. Consequently, an adverse development with respect to one
loan or one credit relationship can expose us to a significantly greater risk of loss compared to an adverse development with respect to
a one- to four-family residential mortgage loan. Repayment of these loans is dependent upon income being generated from the property
securing the loan in amounts sufficient to cover operating expenses and debt service, which may be adversely affected by changes in
the economy or local market conditions. In addition, many of our commercial and multifamily real estate loans are not fully amortizing
and contain large balloon payments upon maturity. Such balloon payments may require the borrower to either sell or refinance the
underlying property in order to make the payment, which may increase the risk of default or non-payment. If we foreclose on a
commercial or multifamily real estate loan, our holding period for the collateral typically is longer than for one-to-four family residential
loans because there are fewer potential purchasers of the collateral. At December 31, 2018, commercial and multifamily real estate
loans that were non-performing were $4.1 million, or 26% of our total non-performing loans.
• Commercial Business Loans. At December 31, 2018, commercial business loans were $1.48 billion, or 17% of our total loan portfolio.
Our commercial business loans are primarily made based on the cash flow of the borrower and secondarily on the underlying collateral
provided by the borrower. A borrower's cash flow may prove to be unpredictable, and collateral securing these loans may fluctuate in
value. Most often, this collateral includes accounts receivable, inventory, equipment or real estate. In the case of loans secured by
accounts receivable, the availability of funds for the repayment of these loans may be substantially dependent on the ability of the
borrower to collect amounts due from its customers. Other collateral securing loans may depreciate over time, may be difficult to
appraise, may be illiquid and may fluctuate in value based on the success of the business. At December 31, 2018, commercial business
loans that were non-performing were $2.9 million, or 19% of our total non-performing loans.
• Agricultural Loans. At December 31, 2018, agricultural loans were $404.9 million, or 5% of our total loan portfolio. Agricultural
lending involves a greater degree of risk and typically involves higher principal amounts than other types of loans. Repayment is
dependent upon the successful operation of the business, which is greatly dependent on many things outside the control of either us or
the borrowers. These factors include adverse weather conditions that prevent the planting of a crops or limit crop yields (such as hail,
drought and floods), loss of livestock due to disease or other factors, declines in market prices for agricultural products (both domestically
and internationally) and the impact of government regulations (including changes in price supports, subsidies, tariffs and environmental
regulations). In addition, many farms are dependent on a limited number of key individuals whose injury or death may significantly
affect the successful operation of the farm. If the cash flow from a farming operation is diminished, the borrower's ability to repay the
loan may be impaired. Consequently, agricultural loans may involve a greater degree of risk than other types of loans, particularly in
the case of loans that are unsecured or secured by rapidly depreciating assets such as farm equipment (some of which is highly specialized
with a limited or no market for resale), or assets such as livestock or crops. In such cases, any repossessed collateral for a defaulted
25
agricultural operating loan may not provide an adequate source of repayment of the outstanding loan balance as a result of the greater
likelihood of damage, loss or depreciation or because the assessed value of the collateral exceeds the eventual realization value. At
December 31, 2018, there were $1.8 million of agricultural loans that were non-performing, or 11% of total non-performing loans.
• Consumer Loans. At December 31, 2018, consumer loans were $785.0 million, or 9% of our total loan portfolio. Our consumer loans
often entail greater risk than first-lien residential mortgage loans. Home equity lines of credit generally entail greater risk than do one-
to four-family residential mortgage loans where we are in the first lien position. For those home equity lines secured by a second
mortgage, it is less likely that we will be successful in recovering all of our loan proceeds in the event of default. Our foreclosure on
these loans requires that the value of the property be sufficient to cover the repayment of the first mortgage loan, as well as the costs
associated with foreclosure. In the case of consumer loans that are unsecured or secured by rapidly depreciating assets such as automobiles,
any repossessed collateral for a defaulted consumer loan may not provide an adequate source of repayment of the outstanding loan
balance as a result of the greater likelihood of damage, loss or depreciation. The remaining deficiency often does not warrant further
substantial collection efforts against the borrower. In addition, consumer loan collections are dependent on the borrower’s continuing
financial stability, and thus are more likely to be adversely affected by job loss, divorce, illness or personal bankruptcy. Furthermore,
the application of various federal and state laws, including federal and state bankruptcy and insolvency laws, may limit the amount
which can be recovered on these consumer loans. Loans that we purchased, or indirectly originated, may also give rise to claims and
defenses by a consumer loan borrower against an assignee of such loans such as us, and a borrower may be able to assert against the
assignee claims and defenses that it has against the seller of the underlying collateral. At December 31, 2018, consumer loans that were
non-performing were $1.5 million, or 10% of our total non-performing loans.
Our allowance for loan losses may prove to be insufficient to absorb losses in our loan portfolio, which would cause our results of
operations, liquidity and financial condition to be adversely affected.
Lending money is a substantial part of our business and each loan carries a certain risk that it will not be repaid in accordance with its terms or
that any underlying collateral will not be sufficient to assure repayment. This risk is affected by, among other things:
•
•
•
•
•
•
cash flow of the borrower and/or the project being financed;
in the case of a collateralized loan, the changes and uncertainties as to the future value of the collateral;
the duration of the loan;
the character and creditworthiness of a particular borrower;
changes in economic and industry conditions; and
the duration of the loan.
We maintain an allowance for loan losses, which is a reserve established through a provision for loan losses charged to expense, which we believe
is appropriate to provide for probable losses in our loan portfolio. The amount of this allowance is determined by our management through
periodic reviews and consideration of several factors, including, but not limited to:
• our general reserve, based on our historical default and loss experience, certain macroeconomic factors, regulatory requirements and
management’s expectations of future events;
• our specific reserve, based on our evaluation of non-performing loans and their underlying collateral; and
•
an unallocated reserve to provide for other credit losses inherent in our portfolio that may not have been contemplated in the other loss
factors.
The determination of the appropriate level of the allowance for loan losses inherently involves a high degree of subjectivity and requires us to
make significant estimates of current credit risks and future trends, all of which may undergo material changes. If our estimates are incorrect,
the allowance for loan losses may not be sufficient to cover losses inherent in our loan portfolio, resulting in the need for increases in our
allowance for loan losses through the provision for losses on loans which is recorded as charged against income. Management also recognizes
that significant new growth in loan portfolios, new loan products and the refinancing of existing loans can result in portfolios comprised of
unseasoned loans that may not perform in a historical or projected manner and will increase the risk that our allowance may be insufficient to
absorb losses without significant additional provisions.
Deterioration in economic conditions affecting borrowers, new information regarding existing loans, identification of additional problem loans
and other factors, both within and outside of our control, may require an increase in the allowance for loan losses. If current conditions in the
housing and real estate markets weaken, we expect we will experience increased delinquencies and credit losses.
The Financial Accounting Standards Board has adopted a new accounting standard referred to as Current Expected Credit Loss (CECL) which
will require financial institutions to determine periodic estimates of lifetime expected credit losses on loans and recognize the expected credit
losses as allowances for credit losses. This will change the current method of providing allowances for credit losses only when they have been
incurred and are probable, which may require us to increase our allowance for loan losses, and may greatly increase the types of data we would
need to collect and review to determine the appropriate level of the allowance for credit losses. This accounting pronouncement is expected to
be applicable to us for our first fiscal year after December 15, 2019. We are evaluating the impact the CECL accounting model will have on our
accounting, but expect to recognize a onetime cumulative-effect adjustment to the allowance for loan losses as of the beginning of the first
reporting period in which the new standard is effective. We cannot yet determine the magnitude of any such one-time cumulative adjustment or
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of the overall impact of the new standard on our financial condition or results of operations. The federal banking regulators, including the Federal
Reserve and the FDIC, have adopted a rule that gives a banking organization the option to phase in over a three-year period the day-one adverse
effects of CECL on its regulatory capital.
In addition, bank regulatory agencies periodically review our allowance for loan losses and may require an increase in the provision for possible
loan losses or the recognition of further loan charge-offs, based on judgments different than those of management. If charge-offs in future periods
exceed the allowance for loan losses, we may need additional provisions to increase the allowance for loan losses. Any increases in the allowance
for loan losses will result in a decrease in net income and, most likely, capital, and may have a material negative effect on our financial condition
and results of operations.
We pursue a strategy of supplementing internal growth by acquiring other financial companies or their assets and liabilities that we
believe will help us fulfill our strategic objectives and enhance our earnings. We may be adversely affected by risks associated with
potential acquisitions.
As part of our general growth strategy, we have recently expanded our business through acquisitions. During the fourth quarter of 2018, we
acquired Skagit, and expect system integration to be completed in the first quarter of 2019. Although our business strategy emphasizes organic
expansion, we continue, from time to time in the ordinary course of business, to engage in preliminary discussions with potential acquisition
targets. There can be no assurance that, in the future, we will successfully identify suitable acquisition candidates, complete acquisitions and
successfully integrate acquired operations into our existing operations or expand into new markets. The consummation of any future acquisitions
may dilute shareholder value or may have an adverse effect upon our operating results while the operations of the acquired business are being
integrated into our operations. In addition, once integrated, acquired operations may not achieve levels of profitability comparable to those
achieved by Banner’s existing operations, or otherwise perform as expected. Further, transaction-related expenses may adversely affect our
earnings. These adverse effects on our earnings and results of operations may have a negative impact on the value of Banner’s stock. Acquiring
banks, bank branches or businesses involves risks commonly associated with acquisitions, including:
• We may be exposed to potential asset quality issues or unknown or contingent liabilities of the banks, businesses, assets, and liabilities
we acquire. If these issues or liabilities exceed our estimates, our results of operations and financial condition may be materially
negatively affected;
• Higher than expected deposit attrition;
• Potential diversion of our management's time and attention;
• Prices at which acquisitions can be made fluctuate with market conditions. We have experienced times during which acquisitions could
not be made in specific markets at prices we considered acceptable and expect that we will experience this situation in the future;
• The acquisition of other entities generally requires integration of systems, procedures and personnel of the acquired entity into our
company to make the transaction economically successful. This integration process is complicated and time consuming and can also
be disruptive to the customers of the acquired business. If the integration process is not conducted successfully and with minimal
adverse effect on the acquired business and its customers, we may not realize the anticipated economic benefits of particular acquisitions
within the expected time frame, and we may lose customers or employees of the acquired business. We may also experience greater
than anticipated customer losses even if the integration process is successful;
• To finance an acquisition, we may borrow funds, thereby increasing our leverage and diminishing our liquidity, or raise additional
capital, which could dilute the interests of our existing shareholders;
• We have completed various acquisitions in the past few years that enhanced our rate of growth. We may not be able to continue to
sustain our past rate of growth or to grow at all in the future; and
• To the extent our costs of an acquisition exceed the fair value of the net assets acquired, the acquisition will generate goodwill. As
discussed below under “-If the goodwill we have recorded in connection with acquisitions become impaired, our earnings and capital
could be reduced,” we are required to assess our goodwill for impairment at least annually, and any goodwill impairment charge could
have a material adverse effect on our results of operations and financial condition.
The required accounting treatment of loans we acquire through acquisitions including purchase credit impaired loans could result in
higher net interest margins and interest income in current periods and lower net interest margins and interest income in future periods.
Under GAAP, we are required to record loans acquired through acquisitions, including purchase credit impaired loans, at fair value. Estimating
the fair value of such loans requires management to make estimates based on available information and facts and circumstances as of the
acquisition date. Actual performance could differ from management’s initial estimates. If these loans outperform our original fair value estimates,
the difference between our original estimate and the actual performance of the loan (the “discount”) is accreted into net interest income. Thus,
our net interest margins may initially increase due to the discount accretion. We expect the yields on our loans to decline as our acquired loan
portfolio pays down or matures and the discount decreases, and we could experience downward pressure on our interest income to the extent
that the runoff on our acquired loan portfolio is not replaced with comparable high-yielding loans. This could result in higher net interest margins
and interest income in current periods and lower net interest rate margins and lower interest income in future periods.
We may be adversely affected by recent changes in U.S. tax laws.
Changes in tax laws contained in the 2017 Tax Act, which was enacted in December 2017, include a number of provisions that will have an
impact on the banking industry, borrowers and the market for single-family residential real estate. Changes include (i) a lower limit on the
deductibility of mortgage interest on single-family residential mortgage loans, (ii) limitations on interest deductions for home equity loans, (iii)
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a limitation on the deductibility of business interest expense and (iv) a limitation on the deductibility of property taxes and state and local income
taxes. The recent changes in the tax laws may have an adverse effect on the market for, and valuation of, residential properties, and on the demand
for such loans in the future and could make it harder for borrowers to make their loan payments. If home ownership becomes less attractive,
demand for mortgage loans could decrease. The value of the properties securing loans in our loan portfolio may be adversely impacted as a result
of the changing economics of home ownership, which could require an increase in our provision for loan losses, which would reduce our
profitability and could materially adversely affect our business, financial condition and results of operations.
Severe weather, natural disasters, or other catastrophes could significantly impact our business.
Severe weather, natural disasters, widespread disease or pandemics, acts of war or terrorism or other adverse external events could have a
significant impact on our ability to conduct business. In addition, such events could affect the stability of our deposit base, impair the ability of
borrowers to repay outstanding loans and leases, impair the value of collateral securing loans, cause significant property damage, result in loss
of revenue or cause us to incur additional expenses. The occurrence of any of these events in the future could have a material adverse effect on
our business, financial condition or results of operations.
Our growth or future losses may require us to raise additional capital in the future, but that capital may not be available when it is
needed or the cost of that capital may be very high.
We are required by federal regulatory authorities to maintain adequate levels of capital to support our operations. We may at some point, however,
need to raise additional capital to support continued growth or be required by our regulators to increase our capital resources. Any capital we
obtain may result in the dilution of the interests of existing holders of our common stock. Our ability to raise additional capital, if needed, will
depend on conditions in the capital markets at that time, which are outside our control, and on our financial condition and
performance. Accordingly, we cannot make assurances that we will be able to raise additional capital if needed on terms that are acceptable to
us, or at all. If we cannot raise additional capital when needed, our ability to further expand our operations could be materially impaired and
our financial condition and liquidity could be materially and adversely affected. In addition, if we are unable to raise additional capital when
required by our bank regulators, we may be subject to adverse regulatory action.
If our investments in real estate are not properly valued or sufficiently reserved to cover actual losses, or if we are required to increase
our valuation reserves, our earnings could be reduced.
We obtain updated valuations in the form of appraisals and broker price opinions when a loan has been foreclosed and the property taken in as
REO and at certain other times during the assets holding period. Our net book value (NBV) in the loan at the time of foreclosure and thereafter
is compared to the updated market value of the foreclosed property less estimated selling costs (fair value). A charge-off is recorded for any
excess in the asset’s NBV over its fair value. If our valuation process is incorrect, or if property values decline, the fair value of the investments
in real estate may not be sufficient to recover our carrying value in such assets, resulting in the need for additional write-downs. Significant
write-downs to our investments in real estate could have a material adverse effect on our financial condition, liquidity and results of operations.
In addition, bank regulators periodically review our REO and may require us to recognize further write-downs. Any increase in our write-downs,
as required by the bank regulators, may have a material adverse effect on our financial condition, liquidity and results of operations.
Our securities portfolio may be negatively impacted by fluctuations in market value and interest rates.
Our securities portfolio may be impacted by fluctuations in market value, potentially reducing accumulated other comprehensive income and/
or earnings. Fluctuations in market value may be caused by changes in market interest rates, rating agency actions in respect of the securities,
defaults by the issuer or with respect to the underlying securities, lower market prices for securities and limited investor demand. Our securities
portfolio is evaluated for other-than-temporary impairment. If this evaluation shows impairment to the actual or projected cash flows associated
with one or more securities, a potential loss to earnings may occur. Changes in interest rates can also have an adverse effect on our financial
condition, as our available-for-sale securities are reported at their estimated fair value, and therefore are impacted by fluctuations in interest
rates. We increase or decrease our shareholders' equity by the amount of change in the estimated fair value of the available-for-sale securities,
net of taxes. There can be no assurance that the declines in market value will not result in other-than-temporary impairments of these assets,
which would lead to accounting charges that could have a material adverse effect on our net income and capital levels.
An increase in interest rates, change in the programs offered by secondary market purchasers or our ability to qualify for their programs
may reduce our mortgage banking revenues, which would negatively impact our non-interest income.
Our mortgage banking operations provide a significant portion of our non-interest income. We generate mortgage banking revenues primarily
from gains on the sale of one- to four-family and multifamily mortgage loans. The one- to four-family mortgage loans are sold pursuant to
programs currently offered by Fannie Mae, Freddie Mac, Ginnie Mae and non-Government Sponsored Enterprise (GSE) investors. These entities
account for a substantial portion of the secondary market in residential one- to four-family mortgage loans. Multifamily mortgage loans are sold
primarily to non-GSE investors.
Any future changes in the one- to four-family programs, our eligibility to participate in these programs, the criteria for loans to be accepted or
laws that significantly affect the activity of such entities, or a reduction in the size of the secondary market for multifamily loans could, in turn,
materially adversely affect our results of operations. Mortgage banking is generally considered a volatile source of income because it depends
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largely on the level of loan volume which, in turn, depends largely on prevailing market interest rates. In a rising or higher interest rate environment,
our originations of mortgage loans may decrease, resulting in fewer loans that are available to be sold to investors. This would result in a decrease
in mortgage banking revenues and a corresponding decrease in non-interest income. In addition, our results of operations are affected by the
amount of non-interest expense associated with mortgage banking activities, such as salaries and employee benefits, occupancy, equipment and
data processing expense and other operating costs. During periods of reduced loan demand, our results of operations may be adversely affected
to the extent that we are unable to reduce expenses commensurate with the decline in loan originations. In addition, although we sell loans into
the secondary market without recourse, we are required to give customary representations and warranties about the loans to the buyers. If we
breach those representations and warranties, the buyers may require us to repurchase the loans and we may incur a loss on the repurchase.
Certain hedging strategies that we use to manage investment in mortgage servicing rights, mortgage loans held for sale and interest rate
lock commitments may be ineffective to offset any adverse changes in the fair value of these assets due to changes in interest rates and
market liquidity.
We use derivative instruments to economically hedge mortgage servicing rights, mortgage loans held for sale and interest rate lock commitments
to offset changes in fair value resulting from changing interest rate environments. Our hedging strategies are susceptible to prepayment risk,
basis risk, market volatility and changes in the shape of the yield curve, among other factors. In addition, hedging strategies rely on assumptions
and projections regarding assets and general market factors. If these assumptions and projections prove to be incorrect or our hedging strategies
do not adequately mitigate the impact of changes in interest rates, we may incur losses that would adversely impact earnings.
Our results of operations, liquidity and cash flows are subject to interest rate risk.
Our earnings and cash flows are largely dependent upon our net interest income. Interest rates are highly sensitive to many factors that are
beyond our control, including general economic conditions and policies of various governmental and regulatory agencies and, in particular, the
Federal Reserve. The Federal Reserve has steadily increased the targeted federal funds rate over the last three fiscal years to 2.50% at December
31, 2018. The Federal Reserve could make additional increases in interest rates during 2019 subject to economic conditions. If the Federal
Reserve increases the targeted federal funds rates, overall interest rates will likely rise, which may negatively impact both the housing markets
by reducing refinancing activity and new home purchases and the U.S. economic recovery.
We principally manage interest rate risk by managing our volume and mix of our earning assets and funding liabilities. Changes in monetary
policy, including changes in interest rates, could influence not only the interest we receive on loans and investments and the amount of interest
we pay on deposits and borrowings, but these changes could also affect (i) our ability to originate and/or sell loans and obtain deposits, (ii) the
fair value of our financial assets and liabilities, which could negatively impact shareholders’ equity, and our ability to realize gains from the sale
of such assets, (iii) our ability to obtain and retain deposits in competition with other available investment alternatives, (iv) the ability of our
borrowers to repay adjustable or variable rate loans, and (v) the average duration of our investment securities portfolio and other interest-earning
assets. In a changing interest rate environment, we may not be able to manage this risk effectively. If we are unable to manage interest rate risk
effectively, our business, financial condition and results of operations could be materially affected.
Changes in interest rates could also have a negative impact on our results of operations by reducing the ability of borrowers to repay their current
loan obligations or by reducing our margins and profitability. Our net interest margin is the difference between the yield we earn on our assets
and the interest rate we pay for deposits and our other sources of funding. Changes in interest rates—up or down—could adversely affect our
net interest margin and, as a result, our net interest income. Although the yield we earn on our assets and our funding costs tend to move in the
same direction in response to changes in interest rates, one can rise or fall faster than the other, causing our net interest margin to expand or
contract. Our liabilities tend to be shorter in duration than our assets, so they may adjust faster in response to changes in interest rates. As a
result, when interest rates rise, our funding costs may rise faster than the yield we earn on our assets, causing our net interest margin to contract
until the yield catches up. Changes in the slope of the “yield curve”—or the spread between short-term and long-term interest rates—could also
reduce our net interest margin. Normally, the yield curve is upward sloping, meaning short-term rates are lower than long-term rates. Because
our liabilities tend to be shorter in duration than our assets, when the yield curve flattens or even inverts, we could experience pressure on our
net interest margin as our cost of funds increases relative to the yield we can earn on our assets. Also, interest rate decreases can lead to increased
prepayments of loans and mortgage-backed securities as borrowers refinance their loans to reduce borrowing costs. Under these circumstances,
we are subject to reinvestment risk as we may have to redeploy such repayment proceeds into lower yielding investments, which would likely
hurt our income.
An increasing percentage of our deposits have been comprised of deposits bearing no or a relatively low rate of interest and having a shorter
duration than our assets. We would incur a higher cost of funds to retain these deposits in a rising interest rate environment. If the interest rates
paid on deposits and other borrowings increase at a faster rate than the interest rates received on loans and other investments, our net interest
income, and therefore earnings, could be adversely affected.
In addition, a substantial amount of our loans have adjustable interest rates. As a result, these loans may experience a higher rate of default in
a rising interest rate environment. Further, a significant portion of our adjustable rate loans have interest rate floors below which the loan’s
contractual interest rate may not adjust. Approximately 66% of our loan portfolio was comprised of adjustable or floating-rate loans at
December 31, 2018, and approximately $2.81 billion, or 49%, of those loans contained interest rate floors, below which the loans’ contractual
interest rate may not adjust. At December 31, 2018, the weighted average floor interest rate of these loans was 4.71%. At that date, approximately
$845.8 million, or 30%, of these loans were at their floor interest rate. The inability of our loans to adjust downward can contribute to increased
income in periods of declining interest rates, although this result is subject to the risks that borrowers may refinance these loans during periods
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of declining interest rates. Also, when loans are at their floors, there is a further risk that our interest income may not increase as rapidly as our
cost of funds during periods of increasing interest rates which could have a material adverse effect on our results of operations.
Changes in interest rates also affect the value of our interest-earning assets and in particular our securities portfolio. Generally, the fair value
of fixed-rate securities fluctuates inversely with changes in interest rates. Unrealized gains and losses on securities available for sale are reported
as a separate component of equity, net of tax. Decreases in the fair value of securities available for sale resulting from increases in interest rates
could have an adverse effect on stockholders’ equity.
Although management believes it has implemented effective asset and liability management strategies to reduce the potential effects of changes
in interest rates on our results of operations, any substantial, unexpected, prolonged change in market interest rates could have a material adverse
effect on our financial condition, liquidity and results of operations. Also, our interest rate risk modeling techniques and assumptions may not
fully predict or capture the impact of actual interest rate changes on our balance sheet or projected operating results. For further discussion of
how changes in interest rates could impact us, see "Part II, Item 7A. Quantitative and Qualitative Disclosures About Market Risk" for additional
information about our interest rate risk management.
Uncertainty relating to the London Interbank Offered Rate (LIBOR) calculation process and potential phasing out of LIBOR may
adversely affect our results of operations.
On July 27, 2017, the Chief Executive of the United Kingdom Financial Conduct Authority, which regulates LIBOR, announced that it intends
to stop persuading or compelling banks to submit rates for the calibration of LIBOR to the administrator of LIBOR after 2021. The announcement
indicates that the continuation of LIBOR on the current basis cannot and will not be guaranteed after 2021. It is impossible to predict whether
and to what extent banks will continue to provide LIBOR submissions to the administrator of LIBOR or whether any additional reforms to
LIBOR may be enacted in the United Kingdom or elsewhere. At this time, no consensus exists as to what rate or rates may become acceptable
alternatives to LIBOR and it is impossible to predict the effect of any such alternatives on the value of LIBOR-based securities and variable rate
loans, subordinated debentures, or other securities or financial arrangements, given LIBOR's role in determining market interest rates globally.
Uncertainty as to the nature of alternative reference rates and as to potential changes or other reforms to LIBOR may adversely affect LIBOR
rates and the value of LIBOR-based loans, and to a lesser extent, securities in our portfolio, and may impact the availability and cost of hedging
instruments and borrowings, including the rates we pay on our subordinated debentures and trust preferred securities. If LIBOR rates are no
longer available, and we are required to implement substitute indices for the calculation of interest rates under our loan agreements with our
borrowers or our existing borrowings, we may incur significant expenses in effecting the transition, and may be subject to disputes or litigation
with customers and creditors over the appropriateness or comparability to LIBOR of the substitute indices, which could have an adverse effect
on our results of operations.
We will be subject to additional regulatory scrutiny since Banner Bank maintains total assets exceeding $10.0 billion.
Banner Bank's total assets were $11.58 billion at December 31, 2018, the fourth consecutive quarter where the total assets of Banner Bank
exceeded $10 billion. As a result, Banner Bank and its affiliates will become subject to a number of additional requirements (such as general
oversight by the CFPB) that will impose additional compliance costs on our business. As a result, there may also be additional higher expectations
from regulators. The CFPB has supervision authority, including examination authority, over such institutions and their affiliates to assess
compliance with federal consumer financial laws, to obtain information about the institutions’ activities and compliance systems and procedures,
and to detect and assess risks to consumers and markets.
Since Banner Bank has exceeded $10 billion in assets for four consecutive quarters, the method for determining its federal deposit insurance
assessments will change from the method for smaller institutions (based on CAMELS ratings and certain financial ratios) to a scorecard method.
The scorecard method uses a performance score and a loss severity score, which are combined and converted into an initial base assessment
rate. The performance score is based on measures of the bank’s ability to withstand asset-related stress and funding-related stress and weighted
CAMELS ratings, which are ratings ascribed under the CAMELS supervisory rating system and assigned based on a supervisory authority’s
analysis of a bank’s financial statements and on-site examinations. The loss severity score is a measure of potential losses to the FDIC in the
event of the bank’s failure. Under a formula, the performance score and loss severity score are combined and converted to a total score that
determines the bank’s initial base assessment rate. The FDIC has the discretion to alter the total score based on factors not captured by the
scorecard. The resulting initial base assessment rate is also subject to adjustments downward based on long-term unsecured debt issued by the
bank, to adjustment upward based on long-term unsecured debt held by the bank that is issued by other FDIC-insured institutions, and to further
adjustment upward if the bank’s brokered deposits exceed 10% of its domestic deposits.
The Dodd-Frank Act also requires publicly-traded bank holding companies with average assets of $10 billion or more for four consecutive
quarters to establish a risk committee responsible for enterprise-wide risk management practices, comprised of independent directors, including
one risk management expert.
As a result of the above, now that Banner's and Banner Bank’s total assets exceed $10 billion deposit insurance assessments, expenses related
to regulatory compliance are likely to increase, and interchange fee income will decrease, the cumulative effect of which may be significant.
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Reductions in interchange income could negatively impact our earnings.
Banner Bank and Islanders Bank expect to be affected by the Durbin Amendment to the Dodd-Frank Act regarding limits on debit card interchange
fees. The Durbin Amendment gave the Federal Reserve the authority to establish rules regarding interchange fees charged for electronic debit
transactions by a payment card issuer that, together with its affiliates, has assets of $10 billion or more at year end and to enforce a new statutory
requirement that such fees be reasonable and proportional to the actual cost of a transaction to the issuer. Banner and Banner Bank exceeded
$10 billion in assets as of December 31, 2018 and therefore Banner Bank and Islanders Bank will be subject to the Durbin Amendment interchange
fee limitation effective July 1, 2019. The Federal Reserve has adopted rules under this provision that limit the swipe fees that a debit card issuer
can charge a merchant for a transaction to the sum of 21 cents and five basis points times the value of the transaction, plus up to one cent for
fraud prevention costs. Based on current debit card volume, we believe we will experience a reduction of approximately $15 million a year in
debit card related fee income and pre-tax earnings following the application of the Durbin Amendment to Banner Bank and and Islanders Bank
beginning July 1, 2019.
Interchange income is derived from fees paid by merchants to the interchange network in exchange for the use of the network's infrastructure
and payment facilitation. These fees are paid to card issuers to compensate them for the costs associated with issuance and operation. We earned
interchange fees on card transactions from our debit cards, including $23.2 million during the year ended December 31, 2018. Merchants have
attempted to negotiate lower interchange rates, and the Durbin Amendment to the Dodd-Frank Act, which we are subject to now that our total
assets exceed $10.0 billion, limits the amount of interchange fees that may be charged for certain debit card transactions. See “We will be subject
to additional regulatory scrutiny since Banner Bank maintains total assets exceeding $10.0 billion.” As the financial services industry evolves,
consumers may find debit financial services to be less attractive than traditional or other financial services. Consumers might not use debit card
financial services for any number of reasons, including the general perception of our industry. If consumers do not continue or increase their
usage of debit cards, including making changes in the way debit cards are loaded, our operating revenues and debit card deposits may remain
at current levels or decline. Any projected growth for the industry may not occur or may occur more slowly than estimated. If consumer acceptance
of debit financial services does not continue to develop or develops more slowly than expected or if there is a shift in the mix of payment forms,
such as cash, credit cards, traditional debit cards and debit cards, away from our products and services, it could have a material adverse effect
on our financial position and results of operations. Merchants may also continue to pursue alternative payment platforms, such as Apple Pay,
to lower their processing costs. Any such new payment system may reduce our interchange income. Our failure to comply with the operating
regulations set forth by payment card networks, which may change, could subject us to penalties, fees or the termination of our license to use
the networks. Any of these scenarios could have a material impact on our business, financial condition and results of operations.
Our business and financial results could be impacted materially by adverse results in legal proceedings.
Legal proceedings could result in judgments, significant time and attention from our management, or other adverse effects on our business and
financial results. We establish estimated liabilities for legal claims when payments associated with claims become probable and the amount of
loss can be reasonably estimated. We may still incur losses for a matter even if we have not established an estimated liability. In addition, the
actual cost of resolving a legal claim may be substantially higher than any amounts accrued for that matter. The ultimate resolution of any legal
proceeding, depending on the remedy sought and granted, could materially adversely affect our results of operations and financial condition.
New or changing tax, accounting, and regulatory rules and interpretations could significantly impact strategic initiatives, results of
operations, cash flows, and financial condition.
The financial services industry is extensively regulated. Federal and state banking regulations are designed primarily to protect the deposit
insurance funds and consumers, not to benefit our shareholders. These regulations may sometimes impose significant limitations on operations.
Regulatory authorities have extensive discretion in connection with their supervisory and enforcement activities, including the imposition of
restrictions on the operation of an institution, the classification of assets by the institution and the adequacy of an institution's allowance for loan
losses. These bank regulators also have the ability to impose conditions in the approval of merger and acquisition transactions.
Additionally, actions by regulatory agencies or significant litigation against us and may lead to penalties that materially affect us. These regulations,
along with the currently existing tax, accounting, securities, insurance, and monetary laws, regulations, rules, standards, policies, and
interpretations control the methods by which financial institutions conduct business, implement strategic initiatives and tax compliance, and
govern financial reporting and disclosures. These laws, regulations, rules, standards, policies, and interpretations are constantly evolving and
may change significantly over time. Any new regulations or legislation, change in existing regulations or oversight, whether a change in regulatory
policy or a change in a regulator's interpretation of a law or regulation, could have a material impact on our operations, increase our costs of
regulatory compliance and of doing business and/or otherwise adversely affect us and our profitability. Further, changes in accounting standards
can be both difficult to predict and involve judgment and discretion in their interpretation by us and our independent registered public accounting
firm. These changes could materially impact, potentially even retroactively, how we report our financial condition and results of our operations
as could our interpretation of those changes. We cannot predict what restrictions may be imposed upon us with future legislation.
Non-compliance with the USA PATRIOT Act, Bank Secrecy Act, or other laws and regulations could result in fines or sanctions and
limit our ability to get regulatory approval of acquisitions.
The USA PATRIOT and Bank Secrecy Acts require financial institutions to develop programs to prevent financial institutions from being used
for money laundering and terrorist activities. If such activities are detected, financial institutions are obligated to file suspicious activity reports
with the U.S. Treasury’s Office of Financial Crimes Enforcement Network. These rules require financial institutions to establish procedures for
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identifying and verifying the identity of customers seeking to open new financial accounts. Failure to comply with these regulations could result
in fines or sanctions and limit our ability to get regulatory approval of acquisitions. Recently several banking institutions have received large
fines for non-compliance with these laws and regulations. While we have developed policies and procedures designed to assist in compliance
with these laws and regulations, no assurance can be given that these policies and procedures will be effective in preventing violations of these
laws and regulations.
Development of new products and services may impose additional costs on us and may expose us to increased operational risk.
Our financial performance depends, in part, on our ability to develop and market new and innovative services and to adopt or develop new
technologies that differentiate our products or provide cost efficiencies, while avoiding increased related expenses. This dependency is exacerbated
in the current “FinTech” environment, where financial institutions are investing significantly in evaluating new technologies, such as
“Blockchain,” and developing potentially industry-changing new products, services and industry standards. The introduction of new products
and services can entail significant time and resources, including regulatory approvals. Substantial risks and uncertainties are associated with the
introduction of new products and services, including technical and control requirements that may need to be developed and implemented, rapid
technological change in the industry, our ability to access technical and other information from our clients, the significant and ongoing investments
required to bring new products and services to market in a timely manner at competitive prices and the preparation of marketing, sales and other
materials that fully and accurately describe the product or service and its underlying risks. Our failure to manage these risks and uncertainties
also exposes us to enhanced risk of operational lapses which may result in the recognition of financial statement liabilities. Regulatory and
internal control requirements, capital requirements, competitive alternatives, vendor relationships and shifting market preferences may also
determine if such initiatives can be brought to market in a manner that is timely and attractive to our clients. Failure to successfully manage
these risks in the development and implementation of new products or services could have a material adverse effect on our business and reputation,
as well as on our consolidated results of operations and financial condition.
If the goodwill we have recorded in connection with acquisitions become impaired, our earnings and capital could be reduced.
In accordance with GAAP, we record assets acquired and liabilities assumed at their fair value with the excess of the purchase consideration
over the net assets acquired resulting in the recognition of goodwill. As a result, acquisitions typically result in recording goodwill. We perform
a goodwill evaluation at least annually to test for goodwill impairment. As part of our testing, we first assess qualitative factors to determine
whether it is more likely than not that the fair value of a reporting unit is less than its carrying amount. If we determine the fair value of a
reporting unit is less than its carrying amount using these qualitative factors, we then compare the fair value of goodwill with its carrying amount
and measure impairment loss by comparing the implied fair value of goodwill with the carrying amount of that goodwill. Adverse conditions
in our business climate, including a significant decline in future operating cash flows, a significant change in our stock price or market
capitalization, or a deviation from our expected growth rate and performance may significantly affect the fair value of our goodwill and may
trigger additional impairment losses, which could be materially adverse to our operating results and financial position.
We cannot provide assurance that we will not be required to take an impairment charge in the future. Any impairment charge would have an
adverse effect on our results of shareholders’ equity and financial results and could cause a decline in our stock price. The acquisitions of Skagit
Bancorp, Inc, and its subsidiary, Skagit Bank have increased our goodwill.
Liquidity risk could impair our ability to fund operations and jeopardize our financial condition, growth and prospects.
Liquidity is essential to our business. We rely on a number of different sources in order to meet our potential liquidity demands. We require
sufficient liquidity to meet customer loan requests, customer deposit maturities and withdrawals, payments on our debt obligations as they come
due and other cash commitments under both normal operating conditions and other unpredictable circumstances, including events causing
industry or general financial market stress. A tightening of the credit markets resulting in our inability to obtain adequate funding may negatively
affect our liquidity, asset growth and, consequently, our earnings capability and capital levels. In addition to any deposit growth, and the sale of
loans or investment securities, maturity of investment securities and loan payments, we rely from time to time on advances from the FHLB of
Des Moines, and certain other wholesale funding sources to meet liquidity demands. Our liquidity position could be significantly constrained
if we were unable to access funds from the FHLB of Des Moines or other wholesale funding sources. Factors that could detrimentally impact
our access to liquidity sources include a decrease in the level of our business activity as a result of a downturn in the markets in which our loans
are concentrated, negative operating results, or adverse regulatory action against us. Our ability to borrow could also be impaired by factors
that are not specific to us, such as a disruption in the financial markets or negative views and expectations about the prospects for the financial
services industry or deterioration in credit markets. Any decline in available funding in amounts adequate to finance our activities or on terms
which are acceptable to us could adversely impact our ability to originate loans, invest in securities, meet our expenses, or fulfill obligations
such as repaying our borrowings or meeting deposit withdrawal demands, any of which could, in turn, have a material adverse effect on our
business, financial condition and results of operations
Additionally, our liquidity is affected by our collateralized public funds, which are bank deposits of state and local municipalities. These deposits
are required to be secured by certain investment grade securities to ensure repayment, which on the one hand tends to reduce our contingent
liquidity risk by making these funds somewhat less credit sensitive, but on the other hand reduces standby liquidity by restricting the potential
liquidity of the pledged collateral. Although these funds historically have been a relatively stable source of funds for us, availability depends
on the individual municipality's fiscal policies and cash flow needs.
We are dependent on key personnel and the loss of one or more of those key personnel may materially and adversely affect our prospects.
32
Competition for qualified employees and personnel in the banking industry is intense and there are a limited number of qualified persons with
knowledge of, and experience in, the community banking industry where the Banks conduct their business. The process of recruiting personnel
with the combination of skills and attributes required to carry out our strategies is often lengthy. Our success depends to a significant degree
upon our ability to attract and retain qualified management, loan origination, finance, administrative, marketing and technical personnel and
upon the continued contributions of our management and personnel. In particular, our success has been and continues to be highly dependent
upon the abilities of key executives, including our President, and certain other employees. We could undergo a difficult transition period if we
were to lose the services of any of these individuals. Our success also depends on the experience of our banking facilities’ managers and bankers
and on their relationships with the customers and communities they serve. In addition, our success has been and continues to be highly dependent
upon the services of our directors, many of whom are at or nearing retirement age, and we may not be able to identify and attract suitable
candidates to replace such directors. The loss of these key persons could negatively impact the affected banking operations.
Our operations rely on numerous external vendors.
We rely on numerous external vendors to provide us with products and services necessary to maintain our day-to-day operations. Accordingly,
our operations are exposed to risk that these vendors will not perform in accordance with the contracted arrangements under service level
agreements. The failure of an external vendor to perform in accordance with the contracted arrangements under service level agreements because
of changes in the vendor's organizational structure, financial condition, support for existing products and services or strategic focus or for any
other reason, could be disruptive to our operations, which in turn could have a material negative impact on our financial condition and results
of operations. We also could be adversely affected to the extent such an agreement is not renewed by the third party vendor or is renewed on
terms less favorable to us.
Any inaccurate assumptions in our analytical and forecasting models could cause us to miscalculate our projected revenue or losses,
which could adversely affect us.
We use analytical and forecasting models to estimate the effects of economic conditions on our financial assets and liabilities as well as our
mortgage servicing rights. Those models include assumptions about interest rates and consumer behavior that may be incorrect. If our model
assumptions are incorrect, improperly applied or inadequate, we may record higher than expected losses or lower than expected revenues which
could have a material adverse effect on our business, financial condition and results of operations.
Our business may be adversely affected by an increasing prevalence of fraud and other financial crimes.
Our loans to businesses and individuals and our deposit relationships and related transactions are subject to exposure to the risk of loss due to
fraud and other financial crimes. Nationally, reported incidents of fraud and other financial crimes have increased. We have also experienced
losses due to apparent fraud and other financial crimes. While we have policies and procedures designed to prevent such losses, there can be
no assurance that such losses will not occur.
Managing reputational risk is important to attracting and maintaining customers, investors and employees.
Threats to our reputation can come from many sources, including adverse sentiment about financial institutions generally, unethical practices,
employee misconduct, failure to deliver minimum standards of service or quality or operational failures due to integration or conversion challenges
as a result of acquisitions we undertake, compliance deficiencies, and questionable or fraudulent activities of our customers. We have policies
and procedures in place to protect our reputation and promote ethical conduct, but these policies and procedures may not be fully
effective. Negative publicity regarding our business, employees, or customers, with or without merit, may result in the loss of customers,
investors and employees, costly litigation, a decline in revenues and increased governmental regulation.
If our enterprise risk management framework is not effective at mitigating risk and loss to us, we could suffer unexpected losses and
our results of operations could be materially adversely affected.
Our enterprise risk management framework seeks to achieve an appropriate balance between risk and return, which is critical to optimizing
stockholder value. We have established processes and procedures intended to identify, measure, monitor, report, analyze and control the types
of risk to which we are subject. These risks include liquidity risk, credit risk, market risk, interest rate risk, operational risk, legal and compliance
risk, and reputational risk, among others. We also maintain a compliance program to identify, measure, assess, and report on our adherence to
applicable laws, policies and procedures. While we assess and improve these programs on an ongoing basis, there can be no assurance that our
risk management or compliance programs, along with other related controls, will effectively mitigate all risk and limit losses in our business.
However, as with any risk management framework, there are inherent limitations to our risk management strategies as there may exist, or develop
in the future, risks that we have not appropriately anticipated or identified. If our risk management framework proves ineffective, we could
suffer unexpected losses and our business financial condition and results of operations could be materially adversely affected.
We are subject to certain risks in connection with our use of technology.
Our security measures may not be sufficient to mitigate the risk of a cyber attack. Communications and information systems are essential to the
conduct of our business, as we use such systems to manage our customer relationships, our general ledger and virtually all other aspects of our
business. Our operations rely on the secure processing, storage, and transmission of confidential and other information in our computer systems
33
and networks. Although we take protective measures and endeavor to modify them as circumstances warrant, the security of our computer
systems, software, and networks may be vulnerable to breaches, fraudulent or unauthorized access, denial or degradation of service attacks,
misuse, computer viruses, malware or other malicious code and cyber-attacks that could have a security impact. If one or more of these events
occur, this could jeopardize our or our customers' confidential and other information processed and stored in, and transmitted through, our
computer systems and networks, or otherwise cause interruptions or malfunctions in our operations or the operations of our customers or
counterparties. We may be required to expend significant additional resources to modify our protective measures or to investigate and remediate
vulnerabilities or other exposures, and we may be subject to litigation and financial losses that are either not insured against or not fully covered
through any insurance maintained by us. We could also suffer significant reputational damage.
Security breaches in our internet banking activities could further expose us to possible liability and damage our reputation. Increases in criminal
activity levels and sophistication, advances in computer capabilities, new discoveries, vulnerabilities in third party technologies (including
browsers and operating systems) or other developments could result in a compromise or breach of the technology, processes and controls that
we use to prevent fraudulent transactions and to protect data about us, our clients and underlying transactions. Any compromise of our security
could deter customers from using our internet banking services that involve the transmission of confidential information. We rely on standard
internet security systems to provide the security and authentication necessary to effect secure transmission of data. Although we have developed
and continue to invest in systems and processes that are designed to detect and prevent security breaches and cyber-attacks and periodically test
our security, these precautions may not protect our systems from compromises or breaches of our security measures, and could result in losses
to us or our customers, our loss of business and/or customers, damage to our reputation, the incurrence of additional expenses, disruption to our
business, our inability to grow our online services or other businesses, additional regulatory scrutiny or penalties, or our exposure to civil litigation
and possible financial liability, any of which could have a material adverse effect on our business, financial condition and results of operations.
Our security measures may not protect us from system failures or interruptions. While we have established policies and procedures to prevent
or limit the impact of systems failures and interruptions, there can be no assurance that such events will not occur or that they will be adequately
addressed if they do. In addition, we outsource certain aspects of our data processing and other operational functions to certain third-party
providers. While we select third-party vendors carefully, we do not control their actions. If our third-party providers encounter difficulties
including those resulting from breakdowns or other disruptions in communication services provided by a vendor, failure of a vendor to handle
current or higher transaction volumes, cyber-attacks and security breaches or if we otherwise have difficulty in communicating with them, our
ability to adequately process and account for transactions could be affected, and our ability to deliver products and services to our customers
and otherwise conduct business operations could be adversely impacted. Replacing these third-party vendors could also entail significant delay
and expense. Threats to information security also exist in the processing of customer information through various other vendors and their
personnel.
We cannot assure you that such breaches, failures or interruptions will not occur or, if they do occur, that they will be adequately addressed by
us or the third parties on which we rely. We may not be insured against all types of losses as a result of third party failures and insurance coverage
may be inadequate to cover all losses resulting from breaches, system failures or other disruptions. If any of our third-party service providers
experience financial, operational or technological difficulties, or if there is any other disruption in our relationships with them, we may be required
to identify alternative sources of such services, and we cannot assure you that we could negotiate terms that are as favorable to us, or could
obtain services with similar functionality as found in our existing systems without the need to expend substantial resources, if at all. Further, the
occurrence of any systems failure or interruption could damage our reputation and result in a loss of customers and business, could subject us
to additional regulatory scrutiny, or could expose us to legal liability. Any of these occurrences could have a material adverse effect on our
financial condition and results of operations.
The board of directors oversees the risk management process, including the risk of cybersecurity breaches, and engages with management on
cybersecurity issues.
We are subject to certain risks in connection with our data management or aggregation.
We are reliant on our ability to manage data and our ability to aggregate data in an accurate and timely manner to ensure effective risk reporting
and management. Our ability to manage data and aggregate data may be limited by the effectiveness of our policies, programs, processes and
practices that govern how data is acquired, validated, stored, protected and processed. While we continuously update our policies, programs,
processes and practices, many of our data management and aggregation processes are manual and subject to human error or system failure.
Failure to manage data effectively and to aggregate data in an accurate and timely manner may limit our ability to manage current and emerging
risks, as well as to manage changing business needs.
We rely on dividends from Banner Bank for substantially all of our revenue at the holding company level.
We are an entity separate and distinct from our principal subsidiary, Banner Bank, and derive substantially all of our revenue at the holding
company level in the form of dividends from that subsidiary. Accordingly, we are, and will be, dependent upon dividends from Banner Bank
to pay the principal of and interest on our indebtedness, to satisfy our other cash needs and to pay dividends on our common stock. Banner
Bank's ability to pay dividends is subject to its ability to earn net income and to meet certain regulatory requirements. In the event Banner Bank
is unable to pay dividends to us, we may not be able to pay dividends on our common stock. Also, our right to participate in a distribution of
assets upon a subsidiary's liquidation or reorganization is subject to the prior claims of the subsidiary's creditors.
34
Our articles of incorporation contain a provision which could limit the voting rights of a holder of our common stock.
Our charter provides that any person or group who acquires beneficial ownership of our common stock in excess of 10.0% of the outstanding
shares may not vote the excess shares. Accordingly, if you acquire beneficial ownership of more than 10.0% of the outstanding shares of our
common stock, your voting rights with respect to our common stock will not be commensurate with your economic interest in our company.
Anti-takeover provisions could negatively affect our shareholders.
Provisions in our articles of incorporation and bylaws, the corporate laws of the state of Washington and federal laws and regulations could delay
or prevent a third party from acquiring us, despite the possible benefit to our shareholders, or otherwise negatively affect the market value of
our stock. These provisions, among others, include: a prohibition on voting shares of our common stock beneficially owned in excess of 10.0%
of total shares outstanding; advance notice requirements for nominations for election to our board of directors and for proposing matters that
shareholders may act on at shareholder meetings; and staggered three-year terms for directors. Our articles of incorporation also authorize our
board of directors to issue preferred or other stock, and preferred or other stock could be issued as a defensive measure in response to a takeover
proposal. In addition, because we are a bank holding company, the ability of a third party to acquire us is limited by applicable banking laws
and regulations. The Bank Holding Company Act requires any bank holding company to obtain the approval of the Federal Reserve before
acquiring 5% or more of any class of our voting securities. Any entity that is a holder of 25% or more of any class of our voting securities, or
in some circumstances a holder of a lesser percentage, is subject to regulation as a bank holding company under the Bank Holding Company
Act. Under the Change in Bank Control Act of 1978, as amended, any person (or persons acting in concert), other than a bank holding company,
is required to notify the Federal Reserve before acquiring 10% or more of any class of our voting securities.
Item 1B – Unresolved Staff Comments
None.
Item 2 – Properties
Banner Corporation maintains its administrative offices and main branch office, which is owned by us, in Walla Walla, Washington. In total, as
of December 31, 2018, we have 182 branch offices located in Washington, Oregon, California, and Idaho. The 182 branches include 179
Banner Bank branches and three Islanders Bank branches. Geographically we have 93 branches are located in Washington, 43 in Oregon, 32
in California and 14 in Idaho. Of these branch locations, approximately half are owned and the other half are leased facilities. In addition to
the branch locations, we also have 17 loan production offices, ten of which are located in Washington, three in California, two in Oregon, and
one each in Idaho and Utah. All loan production offices are leased facilities. The lease terms for our branch and loan production offices are not
individually material. Lease expirations range from one to 25 years. Administrative support offices are primarily in Washington, where we have
ten facilities, of which we own six and lease two. Additionally, we have two leased administrative support offices in both Idaho and Oregon. In
the opinion of management, all properties are adequately covered by insurance, are in a good state of repair and are appropriately designed for
their present and future use.
Item 3 – Legal Proceedings
In the normal course of our business, we have various legal proceedings and other contingent matters pending. These proceedings and the
associated legal claims are often contested and the outcome of individual matters is not always predictable. Furthermore, in some matters, it is
difficult to assess potential exposure because the legal proceeding is still in the pretrial stage. We are not a party to any pending legal proceedings
that we believe would have a material adverse effect on our financial condition, operations or cash flows.
Item 4 – Mine Safety Disclosures
Not applicable.
35
PART II
Item 5 – Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities
Our voting common stock is principally traded on the NASDAQ Global Select Market under the symbol “BANR.” Shareholders of record as
of December 31, 2018 totaled 2,141 based upon securities position listings furnished to us by our transfer agent. This total does not reflect the
number of persons or entities who hold stock in nominee or “street” name through various brokerage firms.
Issuer Purchases of Equity Securities
The following table provides information about repurchases of common stock by the Company during the quarter ended December 31, 2018:
Period
Total Number of
Common Shares
Purchased
Average Price
Paid per
Common Share
Total Number of
Shares Purchased as
Part of Publicly
Announced Plan
Maximum Number of
Remaining Shares that May
be Purchased at Period End
under the Board
Authorization
October 1, 2018 - October 31, 2018
2,833 $
November 1, 2018 - November 30, 2018
December 1, 2018 - December 31, 2018
Total for quarter
137,975
187,046
327,854
62.37
59.86
57.62
58.60
—
137,975
187,025
325,000
1,621,549
1,483,574
1,296,549
1,296,549
On March 28, 2018, the Company announced that its Board of Directors had renewed its authorization to repurchase up to 5% of the Company's
common stock, or 1,621,549 of the Company's outstanding shares. Under the authorization, shares may be repurchased by the Company in open
market purchases. The extent to which the Company repurchases its shares and the timing of such repurchases will depend upon market conditions
and other corporate considerations. During the quarter end December 31, 2018, the Company repurchased 325,000 shares under the 2018 stock
repurchase authorization, leaving 1,296,549 shares available under this authorization for future repurchase. In addition, during the first quarter
of 2018, the Company repurchased 269,711 shares under the previously announced 2017 stock repurchase authorization.
In addition, 2,854 shares were surrendered by employees to satisfy tax withholding obligations upon the vesting of restricted stock grants in the
fourth quarter of 2018.
Equity Compensation Plan Information
The following table sets forth information about equity compensation plans that provide for the award of securities or the grant of options to
purchase securities to employees and directors of Banner and its subsidiaries that were in effect at December 31, 2018:
Plan category
Equity compensation plans approved by security holders
2012 Restricted Stock and Incentive Bonus Plan
2014 Omnibus Incentive Plan
2018 Omnibus Incentive Plan
Equity compensation plans not approved by security holders
Total
(A)
(B)
(C)
Number of securities
to be issued upon
exercise of
outstanding options
or vesting of
outstanding restricted
stock and unit grants
Weighted average
exercise price of
outstanding options
and rights
Number of securities
remaining available for
future issuance under
equity compensation
plans excluding
securities reflected in
column (A)
8,014
307,287
—
315,301
—
315,301
n/a
n/a
30,137
376,260
—
406,397
—
406,397
There were no shares tendered in connection with option exercises during the years ended December 31, 2018 and 2017, respectively. Restricted
shares canceled to pay withholding taxes totaled 27,653 and 29,579 during the years ended December 31, 2018 and 2017, respectively.
36
Performance Graph
The following graph compares the cumulative total shareholder return on Banner Corporation common stock with the cumulative total return
on the NASDAQ (U.S. Stock) Index, a peer group of the SNL $5 Billion to $10 Billion Asset Bank Index and a peer group of the SNL NASDAQ
Bank Index. Total return assumes the reinvestment of all dividends.
Index
Banner Corporation
NASDAQ Composite
SNL Bank $5B-$10B
SNL Bank NASDAQ
Year Ended
12/31/13
12/31/14
12/31/15
12/31/16
12/31/17
12/31/18
100.00
100.00
100.00
100.00
97.70
114.75
103.01
103.57
105.76
122.74
117.34
111.80
130.72
133.62
168.11
155.02
133.67
173.22
167.48
163.20
133.73
168.30
151.57
137.56
*Assumes $100 invested in Banner Corporation common stock and each index at the close of business on December 31, 2013 and that all
dividends were reinvested. Information for the graph was provided by SNL Financial L.C. © 2019.
Our ability to pay dividends on our common stock depends primarily on dividends we receive from Banner Bank and Islanders Bank. The
timing and amount of cash dividends paid on our common stock depends on our earnings, capital requirements, financial condition and other
relevant factors, including required payments on our TPS, and is subject to the discretion of our board of directors. As a result of continued
strong earnings, levels of capital, asset quality and financial condition during 2018, we increased our regular quarterly dividend to $0.35 per
share for the first quarter of 2018 with a second increase to $0.38 per share for the third quarter of 2018 and declared a special dividend of $0.50
in the second quarter 2018. There can be no assurance that we will pay dividends on our common stock in the future. For additional information
on our ability to pay dividends, see Item 1 of this report, “Business–Regulation–Banner Bank and Islanders Bank–Dividends” and “Banner
Corporation–Dividends.”
37
Item 6 – Selected Financial Data
The following condensed consolidated statements of financial condition and operations and selected performance ratios as of December 31,
2018, 2017, 2016, 2015, and 2014 and for the years then ended have been derived from our audited consolidated financial statements.
The information below is qualified in its entirety by the detailed information included elsewhere herein and should be read along with “Item 7.
Management’s Discussion and Analysis of Financial Condition and Results of Operations” and “Item 8, Financial Statement and Supplementary
Data.”
FINANCIAL CONDITION DATA:
(In thousands)
Total assets
Cash and securities (1)
Loans receivable, net
Deposits
Borrowings
Common shareholders’ equity
Total shareholders’ equity
Shares outstanding
OPERATING DATA:
(In thousands)
Interest income
Interest expense
2018
2017
$ 11,871,317
2,168,535
8,588,110
9,477,048
773,275
1,478,595
1,478,595
35,183
$ 9,763,209
1,473,608
7,509,856
8,183,431
194,769
1,272,626
1,272,626
32,726
December 31
2016
$ 9,793,688
1,353,583
7,365,151
8,121,414
255,101
1,305,710
1,305,710
33,193
2015
2014
$ 9,796,298
1,655,290
7,236,496
8,055,068
324,186
1,300,059
1,300,059
34,242
$ 4,723,163
708,609
3,755,127
3,898,950
187,436
582,888
582,888
19,572
2018
For the Year Ended December 31
2016
2015
2017
$
$
463,632
32,659
$
412,284
19,250
$
391,477
16,408
$
254,433
12,154
2014
190,661
10,789
179,872
—
179,872
25,634
10,249
1,374
12,815
50,072
(446)
149,268
148,822
81,122
27,052
Net interest income before provision for loan losses
Provision for loan losses
Net interest income
Deposit fees and other service charges
Mortgage banking operations revenue
Net change in valuation of financial instruments carried at
fair value
All other non-interest income
Total non-interest income
REO operations expense (recoveries), net
All other non-interest expenses
Total non-interest expense
Income before provision for income tax expense
Provision for income tax expense
430,973
8,500
422,473
48,074
21,343
3,775
10,816
84,008
804
340,567
341,371
165,110
28,595
393,034
8,000
385,034
43,452
20,880
(2,844)
23,712
85,200
(2,030)
321,000
318,970
151,264
90,488
375,069
6,030
369,039
41,911
25,552
(2,620)
11,382
76,225
175
315,449
315,624
129,640
44,255
242,279
—
242,279
33,767
17,720
(813)
4,778
55,452
397
229,363
229,760
67,971
22,749
Net income
$
136,515
$
60,776
$
85,385
$
45,222
$
54,070
(footnotes follow)
38
PER COMMON SHARE DATA:
Net income:
Basic
Diluted
Common shareholders’ equity per share (2)
Common shareholders’ tangible equity per share (2)(9)
Cash dividends
2018
At or For the Years Ended December 31
2016
2017
2015
2014
$
$
4.16
4.15
42.03
31.45
1.96
$
1.85
1.84
38.89
30.78
2.00
$
2.52
2.52
39.34
31.06
0.88
$
1.90
1.89
37.97
29.64
0.72
2.79
2.79
29.78
29.64
0.72
Dividend payout ratio (basic)
Dividend payout ratio (diluted)
47.12%
47.23%
108.11%
108.70%
34.92%
34.92%
37.89%
38.10%
25.78%
25.84%
OTHER DATA:
Full time equivalent employees
Number of branches
2,187
182
2,078
178
2,078
190
2,063
202
1,150
93
2018
2017
As of December 31
2016
2015
2014
(footnotes follow)
39
KEY FINANCIAL RATIOS:
Performance Ratios:
Return on average assets (3)
Return on average common equity (4)
Average common equity to average assets
Interest rate spread (5)
Net interest margin (6)
Non-interest income to average assets
Non-interest expense to average assets
Efficiency ratio (7)
Average interest-earning assets to funding liabilities
Selected Financial Ratios:
Net (charge-offs) recoveries as a percent of average
outstanding loans during the period
Non-performing assets as a percent of total assets
Allowance for loan losses as a percent of non-
performing loans (8)
Common shareholders’ tangible equity to tangible
assets (9)
Consolidated Capital Ratios:
2018
At or For the Years Ended December 31
2016
2017
2015
2014
1.29%
10.45
12.37
4.40
4.43
0.80
3.23
66.29
106.09
0.60%
4.57
13.09
4.23
4.24
0.84
3.14
66.70
105.69
(0.01)
0.16
(0.07)
0.28
0.87%
6.41
13.54
4.19
4.20
0.78
3.21
69.94
105.84
1.15
0.03
0.35
0.72%
5.56
12.87
4.09
4.10
0.88
3.64
77.17
107.59
1.07
0.04
0.28
1.17%
9.59
12.20
4.04
4.07
1.08
3.22
64.72
108.78
1.98
0.05
0.43
616.36
329.38
380.87
512.47
453.56
9.62
10.61
10.83
10.68
12.29
Allowance for loan losses as a percent of total loans at
end of period
1.11
1.17
Total capital to risk-weighted assets
Tier 1 capital to risk-weighted assets
Tier 1 capital to average leverage assets
Common equity tier I capital to risk-weighted assets
13.12
12.12
10.98
10.75
13.81
12.77
11.34
11.30
13.40
12.41
11.83
11.19
13.63
12.65
11.06
12.13
16.80
15.54
13.41
na
Includes securities available-for-sale and held-to-maturity.
(1)
(2) Calculated using shares outstanding, excluding unearned restricted shares held in ESOP.
(3) Net income divided by average assets.
(4) Net income divided by average common equity.
(5) Difference between the average yield on interest-earning assets and the average cost of interest-bearing liabilities.
(6) Net interest income before provision for loan losses as a percent of average interest-earning assets.
(7) Non-interest expenses divided by the total of net interest income before loan losses and non-interest income.
(8) Non-performing loans consist of nonaccrual and 90 days past due loans still accruing interest.
(9) Common shareholders’ tangible equity per share and the ratio of tangible common shareholders’ equity to tangible assets are non-GAAP
financial measures. We calculate tangible common equity by excluding the balance of goodwill and other intangible assets from
shareholders’ equity. We calculate tangible assets by excluding the balance of goodwill and other intangible assets from total assets. We
believe that this is consistent with the treatment by our bank regulatory agencies, which exclude goodwill and other intangible assets from
the calculation of risk-based capital ratios. Management believes that these non-GAAP financial measures provide information to investors
that is useful in understanding the basis of our capital position. However, these non-GAAP financial measures are supplemental and are
not a substitute for any analysis based on GAAP. Because not all companies use the same calculation of tangible common equity and
tangible assets, this presentation may not be comparable to other similarly titled measures as calculated by other companies. For a
reconciliation of these non–GAAP measures, see Item 7 of this report, "Management's Discussion and Analysis of Financial Condition
and Results of Operations—Executive Overview."
40
Item 7 – Management’s Discussion and Analysis of Financial Condition and Results of Operations
Management’s discussion and analysis of results of operations is intended to assist in understanding our financial condition and results of
operations. The information contained in this section should be read in conjunction with the Consolidated Financial Statements and accompanying
Notes to the Consolidated Financial Statements of this Form 10-K.
Executive Overview
Banner Corporation's successful execution of its strategic plan and operating initiatives continued in 2018, as evidenced by our solid core
operating results and profitability. We have made substantial progress on our goals to achieve and maintain the Company's moderate risk profile
as well as to develop and continue consistent and sustainable earnings momentum. Highlights for the year included continued strong asset
quality, outstanding client acquisition, strong revenue generation from core operations and the Skagit acquisition.
For the year ended December 31, 2018, our net income was $136.5 million, or $4.15 per diluted share, compared to net income of $60.8 million,
or $1.84 per diluted share for the year ended December 31, 2017 and $85.4 million, or $2.52 per diluted share for the year ended December 31,
2016. Current year results were positively impacted by growth in interest-earning assets. Net income for both 2018 and 2017 were impacted
by one-time tax adjustments primarily as a result of the enactment of the 2017 Tax Act, which reduced the marginal federal corporate income
tax rate from 35% to 21%. Our net income for the year ended December 31, 2018, was increased by $5.5 million of tax benefit adjustments,
which included the release of a $4.2 million valuation reserve previously recorded as a provisional amount related to the 2017 Tax Act. Our net
income for 2017 was reduced by a $42.6 million, or $1.29 per diluted share, related to revaluation of our net deferred tax asset as a result of the
2017 Tax Act. In 2017, our results also included a net gain of $12.2 million as a result of the Utah Branch Sale. Our results for the years ended
December 31, 2018 and 2016 were also impacted by $5.6 million and $11.7 million of acquisition-related expenses, respectively. There were
no acquisition-related expenses in 2017.
Our operating results depend primarily on our net interest income, which is the difference between interest income on interest-earning assets,
consisting of loans and investment securities, and interest expense on interest-bearing liabilities, composed primarily of customer deposits, FHLB
advances, other borrowings and junior subordinated debentures. Net interest income is primarily a function of our interest rate spread, which
is the difference between the yield earned on interest-earning assets and the rate paid on interest-bearing liabilities, as well as a function of the
average balances of interest-earning assets and interest-bearing liabilities. Our net interest income before provision for loan losses increased
10% to $431.0 million for the year ended December 31, 2018, compared to $393.0 million for the prior year. This increase in net interest income
reflects growth in average interest-earning assets, mostly loans, as well as increased yields. During the year ended December 31, 2018, our
interest spread increased to 4.40% from 4.23% for the prior year while our net interest margin increased to 4.43% compared to 4.24% for the
prior year. Our net interest margin was enhanced 10 basis points in both 2018 and 2017 by acquisition accounting adjustments, primarily the
amortization of acquisition accounting discounts on purchased loans obtained from acquisitions, which are accreted into loan interest income.
Although our credit quality metrics continue to reflect our moderate risk profile, we recorded an $8.5 million provision for loan losses in the
year ended December 31, 2018, primarily due to the organic growth in the loan portfolio, the renewal of acquired loans out of the discounted
loan portfolios and net charge-offs, compared to an $8.0 million provision for loan losses recorded in 2017 and $6.0 million in 2016. Non-
performing loans decreased to $15.7 million at December 31, 2018, compared to $27.0 million a year earlier. Our allowance for loan losses at
December 31, 2018 was $96.5 million, representing 616% of non-performing loans. (See Note 5, Loans Receivable and the Allowance for Loan
Losses, of the Notes to the Consolidated Financial Statements as well as “Asset Quality” below in this Form 10-K.)
Our net income also is affected by the level of our non-interest income, including deposit fees and other service charges, results of mortgage
banking operations, which includes loan origination and servicing fees and gains and losses on the sale of loans, and gains and losses on the sale
securities, as well as our non-interest expense and income tax provisions. In addition, our net income is affected by the net change in the value
of certain financial instruments carried at fair value. Our total non-interest income was $84.0 million for the year ended December 31, 2018,
compared to $85.2 million for the year ended December 31, 2017. For the year ended December 31, 2018, we recorded a net gain of $3.8 million
for fair value adjustments and $837,000 in net losses on the sale of securities. In comparison, for the year ended December 31, 2017, we recorded
a net loss of $2.8 million for fair value adjustments and $2.1 million in net losses on the sale of securities, offset by a $12.2 million gain on the
Utah Branch Sale.
Our total revenues (net interest income before the provision for loan losses plus total non-interest income) for the year ended December 31, 2018
increased $36.7 million, or 8%, to $515.0 million, compared to $478.2 million for the same period a year earlier, largely as a result of increased
interest income. Our total revenues from core operations (a non-GAAP financial measure), which excludes net gains and losses on sale of
securities, fair value adjustments, and gains on sale of branches, including related loans and deposits, increased by $41.1 million, or 9%, to
$512.0 million for the year ended December 31, 2018, compared to $471.0 million a year earlier.
For the year ended December 31, 2018, non-interest expense increased 7% to $341.4 million, compared to $319.0 million for the year ended
December 31, 2017. The increase was largely attributable to the inclusion of acquired Skagit operations in the last two months of 2018, along
with higher salary and employee benefits mostly due to the build-out of the Company's risk management and delivery platform infrastructure,
and $5.6 million of merger and acquisition-related expenses in 2018.
Non-GAAP financial measures: Non-interest income, revenues and other earnings information excluding fair value adjustments, net gains or
losses on sale of securities and, in certain periods gain on the sale of branches including related loans and deposits and acquisition-related costs,
and non-interest expenses, excluding state/municipal business and occupational tax expense, CDI amortization, REO net gain or loss and
41
acquisition-related costs, are non-GAAP financial measures. Management has presented these non-GAAP financial measures in this discussion
and analysis because it believes that they provide useful and comparative information to assess trends in our core operations and in understanding
our capital position. However, these non-GAAP financial measures are supplemental and are not a substitute for any analysis based on GAAP.
Where applicable, we have also presented comparable earnings information using GAAP financial measures. For a reconciliation of these non-
GAAP financial measures, see the tables below. Because not all companies use the same calculations, our presentation may not be comparable
to other similarly titled measures as calculated by other companies. See “Comparison of Results of Operations for the Years Ended December 31,
2018 and 2017” for more detailed information about our financial performance.
The following tables set forth reconciliations of non-GAAP financial measures discussed in this report (dollars in thousands, except share and
per share data):
REVENUE FROM CORE OPERATIONS:
Net interest income before provision for loan losses (GAAP)
Total non-interest income
Total GAAP revenue
Exclude net loss (gain) on sale of securities
Exclude change in valuation of financial instruments carried at fair value
Exclude gain on sale of branches, including related loans and deposits
Revenue from core operations (non-GAAP)
EARNINGS FROM CORE OPERATIONS:
Net income (GAAP)
Exclude net loss (gain) on sale of securities
Exclude change in valuation of financial instruments carried at fair value
Exclude gain on sale of branches, including related loans and deposits
Exclude acquisition related costs
Exclude related tax (benefit) expense
Exclude tax adjustments related to tax reform and valuation reserves
Total earnings from core operations (non-GAAP)
Diluted earnings per share (GAAP)
Diluted core earnings per share (non-GAAP)
For the Years Ended December 31
2018
2017
2016
$
$
$
$
$
$
$
430,973
84,008
514,981
837
(3,775)
—
$
393,034
85,200
478,234
2,080
2,844
(12,189)
375,069
76,225
451,294
(843)
2,620
—
512,043
$
470,969
$
453,071
$
136,515
837
(3,775)
—
5,607
(426)
(4,207)
134,551
4.15
4.09
$
$
$
$
60,776
2,080
2,844
(12,189)
—
2,615
42,630
98,756
1.84
2.99
$
$
$
85,385
(843)
2,620
—
11,733
(4,857)
—
94,038
2.52
2.78
42
ADJUSTED EFFICIENCY RATIO:
Non-interest expense (GAAP)
Exclude acquisition-related costs
Exclude CDI amortization
Exclude state/municipal tax expense
Exclude REO (loss) gain
Adjusted non-interest expense (non-GAAP)
Net interest income before provision for loan losses (GAAP)
Non-interest income (GAAP)
Total revenue
Exclude net loss (gain) on sale of securities
Exclude net change in valuation of financial instruments carried at fair value
Exclude gain on sale of branches, including related loans and deposits
December 31
2018
2017
2016
$
341,371
$
318,970
$
315,624
$
$
$
$
(5,607)
(6,047)
(3,284)
(804)
325,629
430,973
84,008
514,981
837
(3,775)
—
$
$
—
(6,246)
(2,594)
2,030
312,160
393,034
85,200
478,234
2,080
2,844
(12,189)
(11,733)
(7,061)
(3,516)
(175)
293,139
375,069
76,225
451,294
(843)
2,620
—
Adjusted revenue (non-GAAP)
$
512,043
$
470,969
$
453,071
Efficiency ratio (GAAP)
Adjusted efficiency ratio (non-GAAP)
66.29%
63.59%
66.70%
66.28%
69.94%
64.70%
Common shareholders' tangible equity per share and the ratio of common shareholders' tangible equity to tangible assets referred to in footnote
(9) to Item 6, Selected Financial Data above are also non-GAAP financial measures. We calculate common shareholders' tangible equity by
excluding goodwill and other intangible assets from common shareholders' equity. We calculate tangible assets by excluding the balance of
goodwill and other intangible assets from total assets. We believe that this is consistent with the treatment by our bank regulatory agencies,
which exclude goodwill and other intangible assets from the calculation of risk-based capital ratios. Management believes that this non-GAAP
financial measure provides information to investors that is useful in understanding our capital position (dollars in thousands).
Shareholders’ equity (GAAP)
Exclude goodwill and other intangible assets, net
Common shareholders’ tangible equity (non-GAAP)
Total assets (GAAP)
Exclude goodwill and other intangible assets, net
December 31
2018
2017
2016
$
1,478,595
372,078
$
1,106,517
$ 11,871,317
372,078
$
$
$
1,272,626
265,314
1,007,312
9,763,209
265,314
$
$
$
1,305,710
274,745
1,030,965
9,793,668
274,745
Total tangible assets (non-GAAP)
$ 11,499,239
$
9,497,895
$
9,518,923
Common shareholders' equity to total assets (GAAP)
Common shareholders’ tangible equity to tangible assets (non-GAAP)
12.46%
9.62%
13.03%
10.61%
13.33%
10.83%
Common shares outstanding
35,182,772
32,726,485
33,193,387
Common shareholders' equity per share (GAAP)
Common shareholders' tangible equity per share (non-GAAP)
$
$
42.03
31.45
$
$
38.89
30.78
$
$
39.34
31.06
Management's Discussion and Analysis of Financial Condition and Results of Operations is intended to assist in understanding our financial
condition and results of operations. The information contained in this section should be read in conjunction with the Consolidated Financial
Statements and accompanying Notes to the Consolidated Financial Statements contained in Item IV of this Form 10-K.
43
Critical Accounting Policies
In the opinion of management, the accompanying Consolidated Statements of Financial Condition and related Consolidated Statements of
Operations, Comprehensive Income, Changes in Shareholders’ Equity and Cash Flows reflect all adjustments (which include reclassification
and normal recurring adjustments) that are necessary for a fair presentation in conformity with GAAP. The preparation of financial statements
in conformity with GAAP requires management to make estimates and assumptions that affect amounts reported in the financial statements.
Various elements of our accounting policies, by their nature, are inherently subject to estimation techniques, valuation assumptions and other
subjective assessments. In particular, management has identified several accounting policies that, due to the judgments, estimates and assumptions
inherent in those policies, are critical to an understanding of our financial statements. These policies relate to (i) the methodology for the
recognition of interest income, (ii) determination of the provision and allowance for loan losses, (iii) the valuation of financial assets and liabilities
recorded at fair value, including OTTI losses, (iv) the valuation of intangibles, such as goodwill, core deposit intangibles, favorable leasehold
intangibles and mortgage servicing rights, (v) the valuation of real estate held for sale, (vi) the valuation of assets and liabilities acquired in
business combinations and subsequent recognition of related income and expense, and (vii) the valuation of or recognition of deferred tax assets
and liabilities. These policies and judgments, estimates and assumptions are described in greater detail below. Management believes the
judgments, estimates and assumptions used in the preparation of the financial statements are appropriate based on the factual circumstances at
the time. However, given the sensitivity of the financial statements to these critical accounting policies, the use of other judgments, estimates
and assumptions could result in material differences in our results of operations or financial condition. Further, subsequent changes in economic
or market conditions could have a material impact on these estimates and our financial condition and operating results in future periods. There
have been no significant changes in our application of accounting policies since December 31, 2017. For additional information concerning
critical accounting policies, see Notes 1, 3, 5, 12, 17 and 18 of the Notes to the Consolidated Financial Statements and the following:
Interest Income: (Notes 1 and 5) Interest on loans and securities is accrued as earned unless management doubts the collectability of the asset
or the unpaid interest. Interest accruals on loans are generally discontinued when loans become 90 days past due for payment of interest and
the loans are then placed on nonaccrual status. All previously accrued but uncollected interest is deducted from interest income upon transfer
to nonaccrual status. For any future payments collected, interest income is recognized only upon management’s assessment that there is a strong
likelihood that the full amount of a loan will be repaid or recovered. Management's assessment of the likelihood of full repayment involves
judgment including determining the fair value of the underlying collateral which can be impacted by the economic environment. A loan may
be put on nonaccrual status sooner than this policy would dictate if, in management’s judgment, the amounts owed, principal or interest, may
be uncollectable. While less common, similar interest reversal and nonaccrual treatment is applied to investment securities if their ultimate
collectability becomes questionable.
Provision and Allowance for Loan Losses: (Notes 1 and 5) The methodology for determining the allowance for loan losses is considered a
critical accounting policy by management because of the high degree of judgment involved, the subjectivity of the assumptions used, and the
potential for changes in the economic environment that could result in changes to the amount of the recorded allowance for loan losses. The
provision for loan losses reflects the amount required to maintain the allowance loan for losses at an appropriate level based upon management’s
evaluation of the adequacy of general and specific loss reserves. Determining the amount of the allowance for loan losses involves a high degree
of judgment. Among the material estimates required to establish the allowance for loan losses are: overall economic conditions; value of collateral;
strength of guarantors; loss exposure at default; the amount and timing of future cash flows on impaired loans; and determination of loss factors
to be applied to the various elements of the portfolio. All of these estimates are susceptible to significant change. We have established systematic
methodologies for the determination of the adequacy of our allowance for loan losses. The methodologies are set forth in a formal policy and
take into consideration the need for an overall general valuation allowance as well as specific allowances that are tied to individual problem
loans. We increase our allowance for loan losses by charging provisions for probable loan losses against our income.
The allowance for loan losses is maintained at a level sufficient to provide for probable losses based on evaluating known and inherent risks in
the loan portfolio and upon our continuing analysis of the factors underlying the quality of the loan portfolio. These factors include, among
others, changes in the size and composition of the loan portfolio, delinquency rates, actual loan loss experience, current and economic conditions,
detailed analysis of individual loans for which full collectability may not be assured, and determination of the existence and realizable value of
the collateral and guarantees securing the loans. Realized losses related to specific assets are applied as a reduction of the carrying value of the
assets and charged immediately against the allowance for loan loss reserve. Recoveries on previously charged off loans are credited to the
allowance for loan losses. The reserve is based upon factors and trends identified by us at the time financial statements are prepared. Although
we use the best information available, future adjustments to the allowance for loan losses may be necessary due to economic, operating, regulatory
and other conditions beyond our control. The adequacy of general and specific reserves is based on our continuing evaluation of the pertinent
factors underlying the quality of the loan portfolio as well as individual review of certain large balance loans. Loans are considered impaired
when, based on current information and events, we determine that it is probable that we will be unable to collect all amounts due according to
the contractual terms of the loan agreement. Factors involved in determining impairment include, but are not limited to, the financial condition
of the borrower, the value of the underlying collateral less selling costs and the current status of the economy. Impaired loans are measured
based on the present value of expected future cash flows discounted at the loan’s effective interest rate or, as a practical expedient, at the loan’s
observable market price or the fair value of collateral if the loan is collateral dependent. We continue to assess the collateral of these loans and
update our appraisals on large balance impaired loans on an annual basis. To the extent the property values continue to decline, there could be
additional losses on these impaired loans, which may be material. Subsequent changes in the value of impaired loans are included within the
provision for loan losses in the same manner in which impairment initially was recognized or as a reduction in the provision that would otherwise
be reported. Large groups of smaller-balance homogeneous loans are collectively evaluated for impairment. Loans that are collectively evaluated
for impairment include residential real estate and consumer loans and, as appropriate, smaller balance non-homogeneous loans. Larger balance
44
non-homogeneous residential construction and land, commercial real estate, commercial business loans and unsecured loans are individually
evaluated for impairment.
Our methodology for assessing the appropriateness of the allowance for loan losses consists of several key elements, which include specific
allowances, an allocated formula allowance and an unallocated allowance. Losses on specific loans are provided for when the losses are probable
and estimable. General loan loss reserves are established to provide for inherent loan portfolio risks not specifically provided for. The level of
general reserves is based on analysis of potential exposures existing in our loan portfolio including evaluation of historical trends, current market
conditions and other relevant factors identified by us at the time the financial statements are prepared. The formula allowance is calculated by
applying loss factors to outstanding loans, excluding those loans that are subject to individual analysis for specific allowances. Loss factors are
based on our historical loss experience adjusted for significant environmental considerations, including the experience of other banking
organizations, which in our judgment affect the collectability of the loan portfolio as of the evaluation date. The unallocated allowance is based
upon our evaluation of various factors that are not directly measured in the determination of the formula and specific allowances. This
methodology may result in actual losses or recoveries differing significantly from the allowance for loan losses in the Consolidated Financial
Statements.
While we believe the estimates and assumptions used in our determination of the adequacy of the allowance for loan losses are reasonable, there
can be no assurance that such estimates and assumptions will not be proven incorrect in the future, or that the actual amount of future provisions
will not exceed the amount of past provisions or that any increased provisions that may be required will not adversely impact our financial
condition and results of operations. In addition, the determination of the amount of the Banks’ allowance for loan losses is subject to review by
bank regulators as part of the routine examination process, which may result in the adjustment of reserves based upon their judgment of information
available to them at the time of their examination.
Fair Value Accounting and Measurement: (Notes 1 and 18) We use fair value measurements to record fair value adjustments to certain financial
assets and liabilities and to determine fair value disclosures. We include in the Notes to the Consolidated Financial Statements information about
the extent to which fair value is used to measure financial assets and liabilities, the valuation methodologies used and the impact on our results
of operations and financial condition. Additionally, for financial instruments not recorded at fair value we disclose, where required, our estimate
of their fair value. For more information regarding fair value accounting, please refer to Note 18 in the Notes to the Consolidated Financial
Statements.
Business Combinations: (Notes 1 and 3) Business combinations are accounted for using the acquisition method of accounting and, accordingly,
assets acquired and liabilities assumed, both tangible and intangible, and consideration exchanged are recorded at acquisition date fair values.
The determination of the fair value of assets acquired and liabilities assumed involves a significant amount of judgment. The excess purchase
consideration over the fair value of net assets acquired is recorded as goodwill. In the event that the fair value of net assets acquired exceeds
the purchase price, including fair value of liabilities assumed, a bargain purchase gain is recorded on that acquisition. Expenses incurred in
connection with a business combination are expensed as incurred. Changes in deferred tax asset valuation allowances related to acquired tax
uncertainties are recognized in net income after the measurement period.
Acquired Loans: (Notes 3 and 5) Purchased loans, including loans acquired in business combinations, are recorded at their fair value at the
acquisition date. Credit discounts are included in the determination of fair value; therefore, an allowance for loan losses is not recorded at the
acquisition date. Establishing the fair value of acquired loans involves a significant amount of judgment, including determining the credit
discount based upon historical data adjusted for current economic conditions and other factors. If any of these assumptions are inaccurate actual
credit losses could vary significantly from the credit discount used to calculate the fair value of the acquired loans. Acquired loans are evaluated
upon acquisition and classified as either purchased credit-impaired or purchased non-credit-impaired. Purchased credit-impaired (PCI) loans
reflect credit deterioration since origination such that it is probable at acquisition that the Company will be unable to collect all contractually
required payments. The accounting for PCI loans is periodically updated for changes in cash flow expectations, and reflected in interest income
over the life of the loans as accretable yield. Any subsequent decreases in expected cash flows attributable to credit deterioration are recognized
by recording a provision for loan losses.
For purchased non-credit-impaired loans, the difference between the fair value and unpaid principal balance of the loan at the acquisition date
is amortized or accreted to interest income over the life of the loans. Any subsequent deterioration in credit quality is recognized by recording
a provision for loan losses.
Goodwill: (Notes 1 and 17) Goodwill represents the excess of the purchase consideration paid over the fair value of the assets acquired, net of
the fair values of liabilities assumed in a business combination and is not amortized but is reviewed annually, or more frequently as current
circumstances and conditions warrant, for impairment. The Company completes is annual review of goodwill as of December 31. An assessment
of qualitative factors is completed to determine if it is more likely than not that the fair value of a reporting unit is less than its carrying amount.
The qualitative assessment involves judgment by management on determining whether there have been any triggering events that have occurred
which would indicate potential impairment. If the qualitative analysis concludes that further analysis is required, then a quantitative impairment
test would be completed. The quantitative goodwill impairment test is used to identify the existence of impairment and the amount of impairment
loss and compares the reporting unit's estimated fair value, including goodwill, to its carrying amount. If the fair value exceeds the carrying
amount then goodwill is not considered impaired. If the carrying amount exceeds its fair value, an impairment loss would be recognized equal
to the amount of excess, limited to the amount of total goodwill allocated to the reporting unit. The impairment loss would be recognized as a
charge to earnings.
45
Other Intangible Assets: (Notes 1 and 17) Other intangible assets consists primarily of core deposit intangibles (CDI), which are amounts
recorded in business combinations or deposit purchase transactions related to the value of transaction-related deposits and the value of the
customer relationships associated with the deposits. Core deposit intangibles are being amortized on an accelerated basis over a weighted average
estimated useful life of eight years. The determination of the estimated useful life of the core deposit intangible involves judgment by management.
The actual life of the core deposit intangible could vary significantly from the estimated life. These assets are reviewed at least annually for
events or circumstances that could impact their recoverability. These events could include loss of the underlying core deposits, increased
competition or adverse changes in the economy. To the extent other identifiable intangible assets are deemed unrecoverable, impairment losses
are recorded in other non-interest expense to reduce the carrying amount of the assets.
Other intangibles also include favorable leasehold intangibles (LHI). LHI represents the value assigned to leases assumed in an acquisition in
which the lease terms are favorable compared to a market lease at the date of acquisition. LHI is amortized over the underlying lease term and
is reviewed at least annually for events or circumstances that could impair the value.
Mortgage Servicing Rights: (Note 17) Mortgage servicing rights (MSRs) are recognized as separate assets when rights are acquired through
purchase or through sale of loans. Generally, purchased MSRs are capitalized at the cost to acquire the rights. For sales of mortgage loans, the
value of the MSR is estimated and capitalized. Fair value is based on market prices for comparable mortgage servicing contracts. The fair value
of the MSRs includes an estimate of the life of the underlying loans which is affected by estimated prepayment speeds. The estimate of prepayment
speeds is based on current market conditions. Actual market conditions could vary significantly from current conditions which could result in
the estimated life of the underlying loans being different which would change the fair value of the MSR. Capitalized MSRs are reported in other
assets and are amortized into non-interest income in proportion to, and over the period of, the estimated future net servicing income of the
underlying financial assets.
Real Estate Owned Held for Sale: (Notes 1 and 6) Property acquired by foreclosure or deed in lieu of foreclosure is recorded at the estimated
fair value of the property, less expected selling costs. Development and improvement costs relating to the property may be capitalized, while
other holding costs are expensed. The carrying value of the property is periodically evaluated by management, property values are influenced
by current economic and market conditions, changes in economic conditions could result in a decline in property value. To the extent that
property values decline, allowances are established to reduce the carrying value to net realizable value. Gains or losses at the time the property
is sold are charged or credited to operations in the period in which they are realized. The amounts the Banks will ultimately recover from real
estate held for sale may differ substantially from the carrying value of the assets because of market factors beyond the Banks’ control or because
of changes in the Banks’ strategies for recovering the investment.
Income Taxes and Deferred Taxes: (Note 12) The Company and its wholly-owned subsidiaries file consolidated U.S. federal income tax returns,
as well as state income tax returns in Oregon, California, Idaho, Utah and Montana. Income taxes are accounted for using the asset and liability
method. Under this method a deferred tax asset or liability is determined based on the enacted tax rates which are expected to be in effect when
the differences between the financial statement carrying amounts and tax basis of existing assets and liabilities are expected to be reported in
the Company’s income tax returns. The effect on deferred taxes of a change in tax rates is recognized in income in the period that includes the
enactment date. The Company assesses the appropriate tax treatment of transactions and filing positions after considering statutes, regulations,
judicial precedent and other pertinent information and maintain tax accruals consistent with its evaluation. Changes in the estimate of accrued
taxes occur periodically due to changes in tax rates, interpretations of tax laws, the status of examinations by the tax authorities and newly enacted
statutory, judicial and regulatory guidance that could impact the relative merits of tax positions. These changes, when they occur, impact accrued
taxes and can materially affect our operating results. A valuation allowance is required to be recognized if it is “more likely than not” that all
or a portion of our deferred tax assets will not be realized. The evaluation pertaining to the tax expense and related deferred tax asset and liability
balances involves a high degree of judgment and subjectivity around the measurement and resolution of these matters. The ultimate realization
of the deferred tax assets is dependent upon the existence, or generation, of taxable income in the periods when those temporary differences and
net operating loss and credit carryforwards are deductible.
In December 2017, the federal government enacted the 2017 Tax Act, which among other provisions, reduced the federal marginal corporate
income tax rate from 35% to 21%. As a result of the passage of the 2017 Tax Act, the Company recorded a $42.6 million charge for the revaluation
of its net deferred tax to account for the future impact of the decrease in the corporate income tax rate and other provisions of the legislation.
The charge was recorded as an increase to tax expense and reduction of the net deferred asset for the year ended December 31, 2017. The
Company’s 2017 financial results reflected the income tax effects of the 2017 Tax Act for which the accounting was complete and provisional
amounts for those specific income tax effects of the 2017 Tax Act for which the accounting was incomplete but a reasonable estimate could be
determined. The $42.6 million charge recorded in 2017 by the Company included $4.2 million of provisional income tax expense related to
Alternative Minimum Tax (AMT) credits that are limited under Internal Revenue Code of 1986 (Code) Section 383, which resulted in a reduction
in the AMT deferred tax asset. The utilization of the limited AMT credits under the refundable AMT credit law was uncertain as of December
31, 2017. Subsequently, in 2018 the Company determined it could use the AMT credits and reversed the previously recorded $4.2 million
provisional tax expense.
Legal Contingencies: In the normal course of our business, we have various legal proceedings and other contingent matters pending. We
determine whether an estimated loss from a contingency should be accrued by assessing whether a loss is deemed probable and can be reasonably
estimated. We assess our potential liability by analyzing our litigation and regulatory matters using available information. We develop our views
on estimated losses in consultation with outside counsel handling our defense in these matters, which involves an analysis of potential results,
assuming a combination of litigation and settlement strategies. The estimated losses often involve a level of subjectivity and usually are a range
of reasonable losses and not an exact number, in those situations we accrue the best estimate within the range or the low end of the range if no
estimate within the range is better than another.
46
Accounting Standards Recently Adopted or Issued - See Note 2 of the Notes to the Consolidated Financial Statements for a description of
recently adopted and new accounting pronouncements, including the respective dates of adoption and expected effects on the Company's financial
position and results of operations.
Comparison of Financial Condition at December 31, 2018 and 2017
General. Total assets increased to $11.87 billion at December 31, 2018, compared to $9.76 billion at December 31, 2017. The increase in assets
in 2018 reflects the assets acquired in the Skagit acquisition as well as the re-leveraging of the investment portfolio and organic loan and deposit
growth.
Net loans receivable (gross loans less deferred fees and discounts, and allowance for loan losses and excluding loans held for sale) increased
$1.08 billion, or 14%, to $8.59 billion at December 31, 2018, from $7.51 billion at December 31, 2017. The increase in loans receivable in 2018
included $631.7 million of portfolio loans acquired in the Skagit acquisition as well as $454.0 million of organic loan growth. The increase in
net loans included increases of $339.4 million in commercial real estate loans, $203.7 million in commercial business loans, $200.0 million in
construction loans, $125.3 million in one- to four-family loans, $66.5 million in agricultural loans and $54.6 million in multifamily real estate
loans. The increase in construction loans was particularly helpful to the net interest margin as interest rates, loan fees and the velocity of turnover
in this lending activity are generally higher than for most other categories of loans. Loans held for sale increased to $171.0 million at December 31,
2018, compared to $40.7 million at December 31, 2017, principally as a result of multifamily loan originations exceeding multifamily loan sales.
Loans held for sale at December 31, 2018 included $130.7 million of multifamily loans and $40.3 million of one- to four-family loans.
Securities increased to $1.90 billion at December 31, 2018, from $1.20 billion at December 31, 2017, and the aggregate total of securities and
interest-bearing deposits increased $673.9 million, or 53%, to $1.94 billion at December 31, 2018, compared to $1.26 billion a year earlier. The
increase in securities balances reflects securities acquired from Skagit along with securities purchases in 2018 to re-leverage the balance sheet
following the sales of securities during the fourth quarter of 2017 as the Company deleveraged the balance sheet consistent with its strategy to
remain below $10 billion in assets at December 31, 2017. The average effective duration of Banner's securities portfolio was approximately 3.5
years at December 31, 2018. The fair value of our trading securities was $1.3 million less than their amortized cost at December 31, 2018. In
addition, fair value adjustments for securities designated as available-for-sale reflected a decrease of $6.5 million for the year ended December 31,
2018, which was included as a component of other comprehensive income and largely occurred as a result of slightly increased market interest
rates. Periodically, we also acquire securities (primarily municipal bonds) which are designated as held-to-maturity and this portfolio decreased
by $26.1 million from the prior year-end balance. (See Notes 4 and 18 of the Notes to the Consolidated Financial Statements.)
Goodwill increased $96.5 million to $339.2 million at December 31, 2018, compared to $242.7 million at December 31, 2017 as a result of the
Skagit acquisition. Other intangibles increased $10.3 million to $32.9 million at December 31, 2018, compared to $22.7 million at December 31,
2017, primarily due to CDI recorded in the Skagit acquisition, partially offset by scheduled amortization of CDI and leasehold intangibles.
Deposits increased $1.29 billion, or 16%, to $9.48 billion at December 31, 2018, from $8.18 billion at December 31, 2017, largely as a result
of $810.2 million of deposits acquired in the Skagit acquisition as well as organic growth in deposits. Core deposits were 86% of total deposits
at December 31, 2018, compared to 88% of total deposits one year earlier. Non-interest-bearing deposits increased by $392.3 million, or 12%,
to $3.66 billion from $3.27 billion at December 31, 2017, interest-bearing transaction and savings accounts increased by $548.0 million, to $4.50
billion at December 31, 2018 from $3.95 billion at December 31, 2017, and certificates of deposit increased $353.3 million, or 37%, to $1.32
billion at December 31, 2018 from $966.9 million at December 31, 2017. Brokered deposits increased to $377.3 million at December 31, 2018,
compared to $57.2 million a year earlier. Brokered deposits increased during 2018 in connection with our re-leveraging strategy as higher
yielding investment securities were purchased along with organic and seasonal growth in loan outstandings.
FHLB advances increased $540.0 million, to $540.2 million at December 31, 2018 from $202,000 at December 31, 2017, as borrowings were
used to fund a portion of the growth in the securities and loan portfolios. Other borrowings, consisting of retail and wholesale repurchase
agreements primarily related to customer cash management accounts, increased $23.1 million to $119.0 million at December 31, 2018, compared
to $95.9 million at December 31, 2017. Junior subordinated debentures, which are carried at fair value, increased $15.4 million to $114.1 million
at December 31, 2018 from $98.7 million a year ago, primarily due to changes in the fair value. For more information, see Notes 9, 10 and 11
of the Notes to the Consolidated Financial Statements.
Total shareholders’ equity increased $206.0 million, to $1.48 billion at December 31, 2018, compared to $1.27 billion at December 31, 2017.
The increase in equity primarily reflects 3.1 million of common shares issued in connection with the Skagit acquisition and net income of $136.5
million, partially offset by the accrual of $64.8 million of dividends to common shareholders and the repurchase of $34.4 million of common
stock. In the year ended December 31, 2018, we repurchased 594,711 shares of our common stock at an average price of $57.82 per share.
Tangible common shareholders' equity, which excludes goodwill and other intangible assets was $1.11 billion, or 9.62% of tangible assets at
December 31, 2018, compared to $1.01 billion, or 10.61% at December 31, 2017. Banner's tangible book value per share was $31.45 at
December 31, 2018, compared to $30.78 per share a year ago.
Investments. At December 31, 2018, our consolidated investment securities portfolio totaled $1.90 billion and consisted principally of U.S.
Government and agency obligations, mortgage-backed and mortgage-related securities, municipal bonds, corporate debt obligations, and asset-
backed securities. From time to time, our investment levels may be increased or decreased depending upon yields available on investment
alternatives and management’s projections as to the demand for funds to be used in our loan origination, deposit and other activities. During
the year ended December 31, 2018, our aggregate investment in securities increased $694.3 million, as we purchased securities in connection
47
with our renewed leveraging strategy following the sale of securities during the fourth quarter of 2017 to reduce assets below $10 billion at
December 31, 2017. Holdings of mortgage-backed securities increased $591.7 million, U.S. Government and agency obligations increased
$76.6 million and municipal bonds increased $35.8 million. Partially offsetting these increases was a decrease in asset-backed securities of $5.8
million.
U.S. Government and Agency Obligations: Our portfolio of U.S. Government and agency obligations had a carrying value of $150.1 million
(with an amortized cost of $152.0 million) at December 31, 2018, a weighted average contractual maturity of 13.5 years and a weighted average
coupon rate of 4.18%. Many of the U.S. Government and agency obligations we own include call features which allow the issuing agency the
right to call the securities at various dates prior to the final maturity.
Mortgage-Backed Obligations: At December 31, 2018, our mortgage-backed and mortgage-related securities had a carrying value of $1.40
billion ($1.41 billion at amortized cost, with a net fair value adjustment of $11.4 million). The weighted average coupon rate of these securities
was 3.36% and the weighted average contractual maturity was 20.4 years, although we receive principal payments on these securities each month
resulting in a much shorter expected average life. As of December 31, 2018, 90% of the mortgage-backed and mortgage-related securities pay
interest at a fixed rate and 10% pay at an adjustable interest rate.
Municipal Bonds: The carrying value of our tax-exempt bonds at December 31, 2018 was $240.6 million ($239.3 million at amortized cost),
comprised of general obligation bonds (i.e., backed by the general credit of the issuer) and revenue bonds (i.e., backed by revenues from the
specific project being financed) issued by cities and counties and various housing authorities, and hospital, school, water and sanitation
districts. We also had taxable bonds in our municipal bond portfolio, which at December 31, 2018 had a carrying value of $53.9 million (also
$53.9 million at amortized cost). Many of our qualifying municipal bonds are not rated by a nationally recognized credit rating agency due to
the smaller size of the total issuance and a portion of these bonds have been acquired through direct private placement by the issuers. We have
not experienced any defaults or payment deferrals on our current portfolio of municipal bonds. Our combined municipal bond portfolio is
geographically diverse, with the majority within Washington, Oregon, Idaho and California. At December 31, 2018, our municipal bond portfolio,
including taxable and tax-exempt, had a weighted average maturity of approximately 11.3 years and a weighted average coupon rate of 4.07%.
Corporate Bonds: Our corporate bond portfolio had a carrying value of $33.1 million ($34.5 million at amortized cost, with a net fair value
adjustment of $1.4 million) at December 31, 2018. Long-term adjustable-rate capital securities issued by financial institutions make up over
half of our corporate bond portfolio. (See “Critical Accounting Policies” above and Note 18 of the Notes to the Consolidated Financial
Statements.) At December 31, 2018, the portfolio had a weighted average maturity of 16.9 years and a weighted average coupon rate of 4.04%.
Asset-Backed Securities: At December 31, 2018, our asset-backed securities portfolio had a carrying value of $21.9 million (with an amortized
cost of $22.0 million), and was comprised of securitized pools of student loans issued or guaranteed by the Student Loan Marketing Association
(SLMA) and credit card receivables. The weighted average coupon rate of these securities was 2.97% and the weighted average contractual
maturity was 6.0 years. Approximately 55% of these securities have adjustable interest rates tied to three-month LIBOR while the remaining
securities have fixed interest rates.
48
The following tables set forth certain information regarding carrying values and percentage of total carrying values of our portfolio of securities
—trading and securities—available-for-sale, both carried at estimated fair market value, and securities—held-to-maturity, carried at amortized
cost as of December 31, 2018, 2017 and 2016 (dollars in thousands):
Table 1: Securities
2018
December 31
2017
2016
Carrying
Value
Percent of
Total
Carrying
Value
Percent of
Total
Carrying
Value
Percent of
Total
Trading
U.S. Government and agency obligations
$
Municipal bonds
Corporate bonds
Mortgage-backed or related securities
Equity securities
—
—
25,896
—
—
—% $
—
100.0
—
—
—
100
22,058
—
160
—% $
0.5
98.8
—
0.7
1,326
335
21,143
1,641
123
5.4%
1.4
86.0
6.7
0.5
Total securities—trading
$
25,896
100.0% $
22,318
100.0% $
24,568
100.0%
Available-for-Sale
U.S. Government and agency obligations
$
149,112
9.1% $
Municipal bonds
Corporate bonds
Mortgage-backed or related securities
Asset-backed securities
Equity securities
117,822
3,495
1,343,861
21,933
—
7.2
0.2
82.1
1.4
—
72,466
68,733
5,393
739,557
27,758
5,578
7.9% $
56,978
7.1%
7.5
0.6
80.4
3.0
0.6
109,853
10,283
594,712
28,993
5,609
13.6
1.3
73.7
3.6
0.7
Total securities—available-for-sale
$ 1,636,223
100.0% $
919,485
100.0% $
806,428
100.0%
Held-to-Maturity
U.S. Government and agency obligations
$
1,006
0.4% $
1,024
0.4% $
1,065
0.4%
Municipal bonds
Corporate bonds
Mortgage-backed or related securities
Total securities—held-to-maturity
Estimated market value
176,663
3,736
52,815
75.5
1.6
22.5
189,860
3,978
65,409
73.0
1.5
25.1
196,989
3,876
65,943
73.5
1.5
24.6
234,220
100.0% $
260,271
100.0% $
267,873
100.0%
232,537
$
262,188
$
270,528
$
$
49
The following table shows the maturity or period to repricing of our consolidated portfolio of securities as of December 31, 2018 (dollars in thousands):
Table 2: Securities—Maturity/Repricing and Rates
One Year or Less
After One to Five
Years
After Five to Ten
Years
After Ten to Twenty
Years
After Twenty Years
Total
Carrying
Value
Weighted
Average
Yield
Carrying
Value
Weighted
Average
Yield
Carrying
Value
Weighted
Average
Yield
Carrying
Value
Weighted
Average
Yield
Carrying
Value
Weighted
Average
Yield
Carrying
Value
Weighted
Average
Yield
December 31, 2018
$
4,097
100,706
104,803
2.48% $
3.18
3.15
7,126
—
7,126
2.21% $ 19,568
—
19,568
—
2.21
2.64% $ 18,621
—
18,621
—
2.64
662
8,016
490
—
9,168
748
28,609
29,357
—
49,314
49,314
—
12,021
12,021
—
0.02
1.42
0.03
—
1.25
1.19
5.38
5.28
—
2.97
2.97
—
3.23
3.23
—
27,760
27,382
—
803
55,945
1,834
—
1,834
46,759
45,913
92,672
9,912
—
9,912
—
1.93
1.80
—
0.04
1.84
2.02
—
2.02
2.61
3.03
2.82
1.65
—
1.65
—
20,819
57,766
—
—
78,585
—
—
—
291,268
48,925
340,193
—
—
—
—
3.15
2.69
—
—
2.81
—
—
—
3.08
3.60
3.15
—
—
—
—
4,187
114,330
—
—
118,517
—
—
—
77,278
—
77,278
—
—
—
—
2.67% $
—
2.67
3.74
2.91
—
—
2.94
—
—
—
3.02
—
3.02
—
—
—
—
—
—
—
—% $
—
—
49,412
100,706
150,118
2.58%
3.18
2.98
—
32,270
—
—
32,270
1,936
—
1,936
837,219
—
837,219
—
—
—
—
—
2.72
—
—
2.72
—
—
—
2.89
—
2.89
—
—
—
—
53,428
239,764
490
803
294,485
4,518
28,609
33,127
1,252,524
144,152
1,396,676
9,912
12,021
21,933
—
2.53
2.65
0.03
0.04
2.62
1.02
5.38
4.81
2.93
3.20
2.96
1.65
3.23
2.51
—
U.S. Government and agency
obligations:
Fixed-rate
Adjustable-rate
Municipal bonds:
Fixed-rate taxable
Fixed-rate tax exempt
Adjustable-rate taxable
Adjustable-rate tax exempt
Corporate bonds:
Fixed-rate
Adjustable-rate
Mortgage-backed or related
securities:
Fixed-rate
Adjustable-rate
Asset-backed securities:
Fixed-rate
Adjustable-rate
Equity securities
Total securities—carrying value
$ 204,663
3.34
$ 167,489
2.39
$ 438,346
3.07
$ 214,416
2.94
$ 871,425
2.88
$ 1,896,339
2.94
Total securities—estimated market
value
$ 204,640
$ 166,940
$ 438,769
$ 214,844
$ 869,815
$ 1,895,008
50
Loans and Lending. Loans are our most significant and generally highest yielding earning assets. We attempt to maintain a portfolio of loans
in a range of 90% to 95% of total deposits to enhance our revenues, while adhering to sound underwriting practices and appropriate diversification
guidelines in order to maintain a moderate risk profile. At December 31, 2018, our net loan portfolio totaled $8.59 billion compared to $7.51
billion at December 31, 2017. Our total loan portfolio increased $1.09 billion, or 14%, during the year ended December 31, 2018, compared to
an increase of $147.7 million, or 2.0%, during the year ended December 31, 2017. The increase included $631.7 million of portfolio loans
acquired in the Skagit acquisition as well as organic loan growth. While we originate a variety of loans, our ability to originate each type of
loan is dependent upon the relative customer demand and competition in each market we serve. We have implemented strategies designed to
capture more market share and achieve increases in targeted loans resulting in strong loan originations in 2018 and 2017. Nonetheless, looking
forward, new loan originations and portfolio balances will continue to be significantly affected by the course of economic activity and changes
in interest rates. For the years ended December 31, 2018, 2017 and 2016, we originated loans, net of repayments and charge-offs, of $1.31
billion, $1.10 billion and $1.14 billion, respectively. The level of net originations during all three years was significantly impacted by a substantial
amount of loan repayments.
Originations of loans for sale increased to $896.5 million for the year ended December 31, 2018 from $807.1 million during 2017. Originations
of loans for sale included $372.8 million and $292.3 million of multifamily held-for-sale loan production for the years ended December 31, 2018
and December 31, 2017, respectively. We generally sell a significant portion of our newly originated one- to four-family residential mortgage
loans and multifamily loans to secondary market purchasers. Proceeds from sales of loans for the years ended December 31, 2018, 2017 and
2016 totaled $791.7 million, $1.05 billion and $1.07 billion, respectively. See “Loan Servicing Portfolio” below. Loans held for sale increased
$130.3 million to $171.0 million at December 31, 2018, compared to $40.7 million at December 31, 2017. The increase in loans held for sale
was primarily due to the increased volume of originations of multifamily loans held-for-sale, which exceeded sales during the year.
The following table shows loan origination (excluding loans held for sale) activity for the years ended December 31, 2018 and 2017 (in
thousands):
Table 3: Loan Origination
Commercial real estate
Multifamily real estate
Construction and land
Commercial business
Agricultural business
One-to four- family residential
Consumer
Total loan originations (excluding loans held for sale)
Years Ended
Dec 31, 2018
Dec 31, 2017
$
536,784
$
537,825
25,771
77,409
1,460,536
1,216,227
839,290
123,702
177,332
331,661
647,079
117,186
249,558
344,407
$
3,495,076
$
3,189,691
The loan origination table above includes loan participations and loan purchases. During the years ended December 31, 2018, and 2017 , we
purchased $33.7 million and $126.5 million, respectively, of loans. The loan purchases in 2018 were one- to four-family loans compared to the
loan purchases in 2017 which included both one- to four-family and commercial real estate loans.
One- to Four-Family Residential Real Estate Lending: At December 31, 2018, $973.6 million, or 11% of our loan portfolio, consisted of
permanent loans on one- to four-family residences. Our residential mortgage loan originations have been relatively strong in recent years, as
interest rates have supported demand for loans to finance home purchases as well as loans to refinance existing debt, although starting in 2017
refinance activity declined as interest rates have increased. We are active originators of one- to four-family residential loans in most communities
where we have established offices in Washington, Oregon, California and Idaho. Most of the one- to four-family loans that we originate are
sold in the secondary markets with net gains on sales and loan servicing fees reflected in our revenues from mortgage banking. Our balance of
loans for one- to four-family residences increased by $125.3 million in 2018, largely as a result of us holding a larger percentage of our originations
for our portfolio.
Construction and Land Lending: Our construction loan originations have increased in recent years as builders have expanded production and
experienced strong sales in many markets where we operate. As a result, one-to four-family construction loans have increased by $97.2 million
in 2016, $39.6 million in 2017 and $119.4 million in 2018, to total $534.7 million at December 31, 2018. During the year ended December 31,
2018, land and land development loans (both residential and commercial) increased by $26.7 million to $215.8 million at December 31, 2018. At
December 31, 2018, construction, land and land development loans totaled $1.11 billion (including $534.7 million of one- to four-family
construction loans, $188.5 million of residential land or land development loans, $357.0 million of commercial and multifamily real estate
construction loans and $27.3 million of commercial land or land development loans), or 13% of total loans, compared to $907.5 million, or 12%,
at December 31, 2017.
Commercial and Multifamily Real Estate Lending: We also originate loans secured by commercial and multifamily real estate. Commercial
and multifamily real estate loans originated by us are both fixed- and adjustable-rate loans with intermediate terms of generally five to ten
51
years. Our commercial real estate portfolio consists of loans on a variety of property types with no significant concentrations by property type,
borrowers or locations. At December 31, 2018, our loan portfolio included $3.56 billion of commercial real estate loans, or 41% of the total
loan portfolio, compared to $3.22 billion, or 42%, at December 31, 2017. Our portfolio of multifamily real estate loans was $368.8 million, or
4% of total loans at December 31, 2018, compared to $314.2 million, or 4%, at December 31, 2017. The increases in commercial real estate
loans and multifamily real estate loans during 2018 were due to $292.2 million of commercial and multifamily loans acquired in the Skagit
acquisition as well as organic growth.
Commercial Business Lending: Our commercial business lending is directed toward meeting the credit and related deposit needs of various
small- to medium-sized business and agribusiness borrowers operating in our primary market areas. In addition to providing earning assets, this
type of lending has helped increase our deposit base. At December 31, 2018, commercial business loans totaled $1.48 billion, or 17% of total
loans, compared to $1.28 billion, or 17%, at December 31, 2017. This increase was due to $93.4 million of commercial business loans acquired
in the Skagit acquisition as well as organic growth. In recent years our commercial lending has also included participation in certain national
syndicated loans, including shared national credits, which totaled $149.2 million at December 31, 2018.
Agricultural Lending: Agriculture is a major industry in many Washington, Oregon, California and Idaho locations in our service area. While
agricultural loans are not a large part of our portfolio, we routinely make agricultural loans to borrowers with a strong capital base, sufficient
management depth, proven ability to operate through agricultural cycles, reliable cash flows and adequate financial reporting. Payments on
agricultural loans depend, to a large degree, on the results of operation of the related farm entity. The repayment is also subject to other economic
and weather conditions as well as market prices for agricultural products, which can be highly volatile at times. At December 31, 2018, agricultural
loans totaled $404.9 million, or 5% of the loan portfolio, compared to $338.4 million, or 4%, at December 31, 2017.
Consumer and Other Lending: Consumer lending has traditionally been a modest part of our business with loans made primarily to accommodate
our existing customer base. Outstanding balances increased during 2018 due to $77.4 million of consumer loans acquired in the Skagit acquisition
as well as organic loan growth. At December 31, 2018, our consumer loans increased $96.2 million to $785.0 million, or 9% of our loan portfolio,
compared to $688.8 million, or 9%, at December 31, 2017. As of December 31, 2018, 72% of our consumer loans were secured by one- to four-
family real estate, including home equity lines of credit. Credit card balances totaled $39.0 million at December 31, 2018 compared to $37.1
million a year earlier.
Loan Servicing Portfolio: At December 31, 2018, we were servicing $2.81 billion of loans for others and held $11.7 million in escrow for our
portfolio of loans serviced for others. The loan servicing portfolio at December 31, 2018 was composed of $1.14 billion of Freddie Mac residential
mortgage loans, $1.05 billion of Fannie Mae residential mortgage loans, $327.0 million of Oregon Housing residential mortgage loans and
$286.0 million of other loans serviced for a variety of investors. The portfolio included loans secured by property located primarily in the states
of Washington, Oregon, Idaho and California. For the year ended December 31, 2018, we recognized $2.7 million of loan servicing fees in our
results of operations, which was net of $3.9 million of amortization for MSRs and included no impairment charges or reversals for a valuation
adjustment to MSRs.
Mortgage Servicing Rights: For the years ended December 31, 2018, 2017 and 2016, we capitalized $3.6 million, $3.4 million, and $6.0 million,
respectively, of MSRs relating to loans sold with servicing retained. Amortization of MSRs for the years ended December 31, 2018, 2017 and
2016 was $3.9 million, $4.0 million, and $4.0 million, respectively. Management periodically evaluates the estimates and assumptions used to
determine the carrying values of MSRs and the amortization of MSRs. At December 31, 2018, our MSRs were carried at a value of $14.6
million, net of amortization, compared to $14.7 million at December 31, 2017.
52
The following table sets forth the composition of the Company’s loan portfolio, net of discounts and deferred fees and costs, by type of loan as of the dates indicated (dollars in thousands):
Table 4: Loan Portfolio Analysis
Commercial real estate:
Owner-occupied
Investment properties
Multifamily real estate
Commercial construction
Multifamily construction
One- to four-family construction
Land and land development:
2018
2017
December 31
2016
2015
2014
Amount
Percent
of Total
Amount
Percent
of Total
Amount
Percent
of Total
Amount
Percent
of Total
Amount
Percent
of Total
$ 1,430,097
2,131,059
368,836
172,410
184,630
534,678
16.4% $ 1,284,363
1,937,423
24.5
314,188
4.2
148,435
2.0
154,662
2.1
415,327
6.2
16.9% $ 1,352,999
1,986,336
25.5
248,150
4.1
124,068
2.0
124,126
2.0
375,704
5.5
18.1% $ 1,327,807
1,765,353
26.7
472,976
3.3
72,103
1.7
63,846
1.7
278,469
5.0
18.2% $
24.1
6.5
1.0
0.9
3.8
Residential
Commercial
Commercial business
Agricultural business, including secured by
farmland
One- to four-family real estate
Consumer secured by one- to four-family real
estate
Consumer—other
188,508
27,278
1,483,614
404,873
973,616
568,979
216,017
2.2
0.3
17.1
4.7
11.2
6.6
2.5
164,516
24,583
1,279,894
338,388
848,289
522,931
165,885
2.2
0.3
16.8
4.4
11.2
6.9
2.2
170,004
29,184
1,207,879
369,156
813,077
493,211
157,254
2.3
0.4
16.2
5.0
10.9
6.6
2.1
126,773
33,179
1,207,944
376,531
952,633
478,420
158,470
1.7
0.5
16.5
5.1
13.0
6.5
2.2
Total loans outstanding
8,684,595
100.0%
7,598,884
100.0%
7,451,148
100.0%
7,314,504
100.0%
3,831,034
100.0%
Less allowance for loan losses
(96,485)
(89,028)
(85,997)
(78,008)
(75,907)
Net loans
$ 8,588,110
$ 7,509,856
$ 7,365,151
$ 7,236,496
$ 3,755,127
53
546,783
856,942
167,524
17,337
60,193
219,889
102,435
11,152
723,964
238,499
537,108
222,205
127,003
14.3%
22.3
4.4
0.5
1.6
5.7
2.7
0.3
18.9
6.2
14.0
5.8
3.3
The following table sets forth the Company’s loans by geographic concentration at December 31, 2018, 2017 and 2016 (dollars in thousands):
Table 5: Loans by Geographic Concentration
Washington
Oregon
California
Idaho
Utah
Other
Total
December 31, 2018
December 31, 2017
December 31, 2016
Amount
Percent
Amount
Percent
Amount
Percent
$
$
4,324,588
1,636,152
1,596,604
521,026
57,318
548,907
8,684,595
49.8% $
18.8
18.4
6.0
0.7
6.3
100.0% $
3,508,542
1,590,233
1,415,076
492,603
73,382
519,048
7,598,884
46.2% $
20.9
18.6
6.5
1.0
6.8
100.0% $
3,433,617
1,505,369
1,239,989
495,992
283,890
492,291
7,451,148
46.1%
20.2
16.6
6.7
3.8
6.6
100.0%
The following table sets forth certain information at December 31, 2018 regarding the dollar amount of loans maturing in our portfolio based
on their contractual terms to maturity, but does not include scheduled payments or potential prepayments. Demand loans, loans having no stated
schedule of repayments and no stated maturity, and overdrafts are reported as due in one year or less. Loan balances are net of unamortized
premiums and discounts, and exclude loans held for sale and the allowance for loan losses (in thousands):
Table 6: Loans by Maturity
Maturing in
One Year or
Less
Maturing
After One to
Three Years
Maturing
After Three
to Five Years
Maturing
After Five to
Ten Years
Maturing
After Ten
Years
$
Commercial real estate:
Owner-occupied
Investment properties
Multifamily real estate
Commercial construction
Multifamily construction
One- to four-family construction
Land and land development:
Residential
Commercial
Commercial business
Agricultural business, including secured
by farmland
One- to four-family real estate
Consumer secured by one- to four-family
real estate
Consumer—other
$
58,823
82,465
7,443
90,292
121,403
498,576
119,097
10,734
531,846
145,557
12,316
5,723
37,785
$
91,268
119,179
20,748
37,601
59,487
30,853
61,909
9,542
254,643
43,265
7,654
5,974
21,288
207,181
319,643
41,068
662
—
216
3,113
2,056
288,488
49,112
13,379
14,444
38,117
$
$
767,751
1,046,254
148,263
37,167
—
161
4,389
4,223
228,566
142,776
68,997
32,032
42,421
305,074
563,518
151,314
6,688
3,740
4,872
—
723
180,071
24,163
871,270
510,806
76,406
Total
$ 1,430,097
2,131,059
368,836
172,410
184,630
534,678
188,508
27,278
1,483,614
404,873
973,616
568,979
216,017
Total loans
$ 1,722,060
$
763,411
$
977,479
$ 2,523,000
$ 2,698,645
$ 8,684,595
Contractual maturities of loans do not necessarily reflect the actual life of such assets. The average life of loans typically is substantially less
than their contractual maturities because of principal repayments and prepayments. In addition, due-on-sale clauses on certain mortgage loans
generally give us the right to declare loans immediately due and payable in the event that the borrower sells the real property subject to the
mortgage and the loan is not repaid. The average life of mortgage loans tends to increase however when current mortgage loan market rates are
substantially higher than rates on existing mortgage loans and, conversely, decreases when rates on existing mortgage loans are substantially
higher than current mortgage loan market rates.
54
The following table sets forth the dollar amount of all loans maturing after December 31, 2019 which have fixed interest rates and floating or
adjustable interest rates (in thousands):
Table 7: Loans Maturing after One Year
Commercial real estate:
Owner-occupied
Investment properties
Multifamily real estate
Commercial construction
Multifamily construction
One- to four-family construction
Land and land development:
Residential
Commercial
Commercial business
Agricultural business, including secured by farmland
One- to four-family real estate
Consumer secured by one- to four-family real estate
Consumer—other
Fixed Rates
Floating or
Adjustable
Rates
$
324,835
486,729
160,073
18,755
50,674
6,025
5,538
5,191
568,671
87,555
672,728
17,318
124,203
$
$
1,046,439
1,561,865
201,320
63,363
12,553
30,077
63,873
11,353
383,097
171,761
288,572
545,938
54,029
Total
1,371,274
2,048,594
361,393
82,118
63,227
36,102
69,411
16,544
951,768
259,316
961,300
563,256
178,232
Total loans maturing after one year
$
2,528,295
$
4,434,240
$
6,962,535
Deposits. We compete with other financial institutions and financial intermediaries in attracting deposits and we generally attract deposits within
our primary market areas. Much of the focus of our expansion and current marketing efforts have been directed toward attracting additional
deposit customer relationships and balances. This effort has been particularly directed towards increasing transaction and savings accounts
which has contributed to us being very successful in increasing these core deposit balances. The long-term success of our deposit gathering
activities is reflected not only in the growth of deposit balances, but also in increases in the level of deposit fees, service charges and other
payment processing revenues.
One of our key strategies is to strengthen our franchise by emphasizing core deposit activity in non-interest-bearing and other transaction and
savings accounts with less reliance on higher cost certificates of deposit. Increasing core deposits is a fundamental element of our business
strategy. This strategy continues to help control our cost of funds and increase the opportunity for deposit fee revenues, while stabilizing our
funding base. Total deposits increased $1.29 billion, or 16%, to $9.48 billion at December 31, 2018 from $8.18 billion at December 31, 2017.
Deposit growth for 2018 included $810.2 million of deposits acquired in the Skagit acquisition and a $320.1 million increase in brokered deposits,
as well as organic deposit growth. Non-interest-bearing deposits increased by $392.3 million, or 12%, to $3.66 billion at year end from $3.27
billion at December 31, 2017. Interest-bearing transaction and savings accounts increased by $548.0 million, to $4.50 billion at December 31,
2018 compared to $3.95 billion a year earlier. Certificates of deposit increased $353.3 million, or 37%, to $1.32 billion at December 31, 2018
from $966.9 million at December 31, 2017. The increase in certificate balances in 2018 was largely due to the $320.1 million increase in brokered
deposits to $377.3 million at December 31, 2018.
55
The following table sets forth the balances of deposits in the various types of accounts offered by the Banks at the dates indicated (dollars in thousands):
Table 8: Deposits
2018
Percent of
Total
Amount
Increase
(Decrease)
Amount
2017
Percent of
Total
2016
Increase
(Decrease)
Amount
Percent of
Total
December 31
Non-interest-bearing checking
$ 3,657,817
38.6% $
392,273
$ 3,265,544
39.9% $
125,093
$ 3,140,451
38.6%
Interest-bearing checking
Regular savings
Money market
Total interest-bearing transaction and savings
accounts
Certificates maturing:
Within one year
After one year, but within two years
After two years, but within five years
After five years
Total certificate accounts
1,191,016
1,842,581
1,465,369
4,498,966
1,001,206
201,919
114,893
2,247
1,320,265
12.6
19.4
15.5
47.5
10.6
2.1
1.2
—
13.9
219,879
285,081
43,056
971,137
1,557,500
1,422,313
548,016
3,950,950
315,614
103,662
(65,993)
45
353,328
685,592
98,257
180,886
2,202
966,937
11.9
19.0
17.4
48.3
8.4
1.2
2.2
—
11.8
56,653
34,109
(75,442)
914,484
1,523,391
1,497,755
15,320
3,935,630
(79,814)
(61,179)
63,804
(1,207)
(78,396)
765,406
159,436
117,082
3,409
1,045,333
11.3
18.8
18.4
48.5
9.4
2.0
1.4
—
12.9
Total Deposits
$ 9,477,048
100.0% $ 1,293,617
$ 8,183,431
100.0% $
62,017
$ 8,121,414
100.0%
Included in Total Deposits:
Public transaction accounts
Public interest-bearing certificates
Total public deposits
Total brokered deposits
$
$
$
217,401
30,089
247,490
2.3% $
0.3
$
18,682
6,404
198,719
23,685
2.5% $
0.3
(23,046) $
(1,965)
221,765
25,650
2.6% $
25,086
$
222,404
2.8% $
(25,011) $
247,415
2.7%
0.3
3.0%
377,347
4.0% $
320,119
$
57,228
0.7% $
23,154
$
34,074
0.4%
56
The following table indicates the amount of the Banks’ certificates of deposit with balances equal to or greater than $100,000 by time remaining
until maturity as of December 31, 2018 (in thousands):
Table 9: Maturity Period—$100,000 or greater CDs
Maturing in three months or less
Maturing after three months through six months
Maturing after six months through twelve months
Maturing after twelve months
Total
Certificates of
Deposit $100,000
or Greater
$
$
123,775
60,326
101,430
152,388
437,919
The following table provides additional detail on geographic concentrations of our deposits at December 31, 2018 (in thousands):
Table 10: Geographic Concentration of Deposits
Washington
Oregon
California
Idaho
Utah
Total deposits
December 31, 2018
December 31, 2017
December 31, 2016
Amount
Percent
Amount
Percent
Amount
Percent
$
5,674,328
59.9% $
4,506,249
55.0% $
4,347,644
53.6%
1,891,145
1,434,033
477,542
—
20.0
15.1
5.0
—
1,797,147
1,432,819
447,216
—
22.0
17.5
5.5
—
1,708,973
1,469,748
447,019
148,030
21.0
18.1
5.5
1.8
$
9,477,048
100.0% $
8,183,431
100.0% $
8,121,414
100.0%
Borrowings. The FHLB-Des Moines serves as our primary borrowing source. To access funds, we are required to own a sufficient level of
capital stock in the FHLB-Des Moines and may apply for advances on the security of such stock and certain of our mortgage loans and securities
provided that certain creditworthiness standards have been met. At December 31, 2018, we had $540.2 million of FHLB advances outstanding
at a weighted average rate of 2.64%, an increase of $540.0 million compared to a year earlier. Also, at December 31, 2018, we had an investment
of $32.0 million in FHLB capital stock. At that date, Banner Bank was authorized by the FHLB-Des Moines to borrow up to $4.59 billion under
a blanket floating lien security agreement, while Islanders Bank was approved to borrow up to $103.5 million under a similar agreement.
The following table provides additional detail on our FHLB advances as of December 31, 2018 and 2017 (dollars in thousands):
Table 11: FHLB Advances Outstanding
December 31
2018
2017
Amount
Weighted
Average Rate
Amount
Weighted
Average Rate
Maturing in one year or less
Maturing after one year through three years
Maturing after three years through five years
Maturing after five years
Total FHLB advances
$
$
540,000
—
—
189
540,189
2.64% $
—
—
5.94
2.64% $
—
—
—
202
202
—%
—
—
5.94
5.94%
At certain times the Federal Reserve Bank has also served as an important source of borrowings. The Federal Reserve Bank provides credit
based upon acceptable loan collateral, which includes certain loan types not eligible for pledging to the FHLB-Des Moines. At December 31,
2018, based upon our available unencumbered collateral, Banner Bank was eligible to borrow $1.15 billion from the Federal Reserve Bank;
however, at that date we had no funds borrowed under this arrangement.
We also issue retail repurchase agreements to customers that are primarily related to customer cash management accounts and in the past have
borrowed funds through the use of secured wholesale repurchase agreements with securities brokers. In each case, the repurchase agreements
are generally due within 90 days. At December 31, 2018, retail and wholesale repurchase agreements totaling $119.0 million, with a weighted
average rate of 0.21%, were secured by pledges of certain mortgage-backed securities and agency securities. Retail repurchase agreement
balances, which are primarily associated with customer sweep account arrangements, increased $28.1 million, or 31%, from the 2017 year-end
57
balance. We had no and $5.0 million of borrowings under wholesale repurchase agreements at December 31, 2018 and December 31, 2017,
respectively.
We have an aggregate of $136.0 million, net of repayments, of TPS. This includes $120.0 million issued by us and $16.0 million acquired in
our bank acquisitions. The junior subordinated debentures associated with the TPS have been recorded as liabilities on our Consolidated
Statements of Financial Condition, although the TPS qualifies as Tier 1 capital for regulatory capital purposes. The junior subordinated debentures
are carried at fair value on our Consolidated Statements of Financial Condition and had an estimated fair value of $114.1 million at December 31,
2018. At December 31, 2018, the TPS had a weighted average rate of 4.71%. See Note 11, Junior Subordinated Debentures and Mandatorily
Redeemable Trust Preferred Trust Preferred Securities, of the Notes to the Consolidated Financial Statements for additional information with
respect to the TPS.
Asset Quality. Achieving and maintaining a moderate risk profile by employing appropriate underwriting standards, avoiding excessive asset
concentrations and aggressively managing troubled assets has been and will continue to be a primary focus for us. During 2018, we continued
to be actively engaged with our borrowers in resolving remaining problem assets and with the effective management of real estate owned as a
result of foreclosures.
Non-performing assets decreased to $18.9 million, or 0.16% of total assets, at December 31, 2018, from $27.5 million, or 0.28% of total assets,
at December 31, 2017, and from $33.8 million, or 0.35% of total assets, at December 31, 2016. At December 31, 2018, our allowance for loan
losses was $96.5 million, or 616% of non-performing loans, compared to $89.0 million, or 329% of non-performing loans at December 31, 2017
and $86.0 million, or 381% of non-performing loans at December 31, 2016. We continue to believe our level of non-performing loans and assets
is manageable and further believe that we have sufficient capital and human resources to manage the collection of our non-performing assets in
an orderly fashion.
Loans are reported as restructured when we grant concessions to a borrower experiencing financial difficulties that we would not otherwise
consider. As a result of these concessions, restructured loans, or troubled debt restructures (TDRs), are considered impaired as the Banks will
not collect all amounts of principal and interest due in accordance with the terms of the original loan agreement. If any restructured loan becomes
delinquent or other matters call into question the borrower's ability to repay full interest and principal in accordance with the restructured terms,
the restructured loan(s) would be reclassified as nonaccrual. At December 31, 2018, we had $13.4 million of restructured loans currently
performing under their restructured terms.
The loans acquired in Banner's merger transactions that are determined to have deteriorated credit quality for which it is probable that all
contractual payments will not be collected are accounted for as purchased credit-impaired pools. Typically this would include loans that were
considered non-performing or restructured as of the acquisition date. Accordingly, subsequent to acquisition, loans included in the purchased
credit-impaired pools are not reported as non-performing loans based upon their individual performance status, so the categories of nonaccrual,
impaired and 90 day past due and accruing do not include any purchased credit-impaired loans. Purchased credit-impaired loans were $14.4
million at December 31, 2018, compared to $21.3 million at December 31, 2017.
58
The following table sets forth information with respect to our non-performing assets and restructured loans, at the dates indicated (dollars in
thousands):
Table 12: Non-Performing Assets
Nonaccrual loans: (1)
Secured by real estate:
Commercial
Construction/land
One- to four-family
Commercial business
Agricultural business, including secured by farmland
Consumer
Loans more than 90 days delinquent, still on accrual:
Secured by real estate:
Commercial
Multifamily
Construction/land
One- to four-family
Commercial business
Agricultural business, including secured by farmland
Consumer
Total non-performing loans
REO assets held for sale, net (2)
Other repossessed assets held for sale, net
2018
2017
2016
2015
2014
December 31
$
$
4,088
3,188
1,544
2,936
1,751
1,241
14,748
—
—
—
658
1
—
247
906
15,654
2,611
592
10,646
798
3,264
3,406
6,132
1,297
25,543
—
—
298
1,085
18
—
85
1,486
27,029
360
107
$
8,237
1,748
2,263
3,074
3,229
1,875
20,426
701
147
—
1,233
—
—
72
2,153
22,579
11,081
166
$
$
3,751
2,260
4,700
2,159
697
703
14,270
—
—
—
899
8
—
45
952
15,222
11,627
268
1,132
1,275
8,834
537
1,597
1,187
14,562
—
—
—
2,095
—
—
79
2,174
16,736
3,352
76
Total non-performing assets
$
18,857
$
27,496
$
33,826
$
27,117
$
20,164
Total non-performing loans to net loans before allowance for
loan losses
Total non-performing loans to total assets
Total non-performing assets to total assets
Restructured loans (3)
Loans 30-89 days past due and on accrual
0.18%
0.13%
0.16%
0.36%
0.28%
0.28%
0.30%
0.23%
0.35%
0.21%
0.16%
0.28%
0.44%
0.35%
0.43%
$
$
13,422
25,108
$
$
16,115
29,278
$
$
18,907
11,571
$
$
21,777
18,834
$
$
29,154
8,387
Includes $317,000 of nonaccrual restructured loans as of December 31, 2018.
(1)
(2) Real estate acquired by us as a result of foreclosure or by deed-in-lieu of foreclosure is classified as real estate held for sale until it is
sold. When property is acquired, it is recorded at the lower of the estimated fair value of the property, less expected selling costs, or the
carrying value of the defaulted loan. Subsequent to foreclosure, the property is carried at the lower of the foreclosed amount or net
realizable value. Upon receipt of a new appraisal and market analysis, the carrying value is written down through the establishment of
a specific reserve to the anticipated sales price, less selling and holding costs.
(3) These loans were performing under their restructured terms.
In addition to the non-performing loans noted in Table 12 and purchased credit-impaired loans as of December 31, 2018 and 2017, we had other
classified loans with an aggregate outstanding balance of $68.6 million and $80.8 million, respectively, that are not on nonaccrual status with
respect to which known information concerning possible credit problems with the borrowers or the cash flows of the properties securing the
respective loans has caused management to be concerned about the ability of the borrowers to comply with present loan repayment terms. This
may result in the future inclusion of such loans in the nonaccrual loan category.
59
The following table presents the REO activity for the years ended December 31, 2018, 2017 and 2016 (in thousands):
Table 13: REO
Balance, beginning of the period
$
Additions from loan foreclosures
Additions from acquisitions
Additions from capitalized costs
Proceeds from dispositions of REO
Gain on sale of REO
Valuation adjustments in period
For the years ended December 31,
2018
2017
2016
360
641
2,593
—
(838)
242
(387)
$
11,081
$
46
—
54
11,627
8,909
400
—
(13,474)
(10,812)
2,909
(256)
1,833
(876)
Balance, end of period
$
2,611
$
360
$
11,081
REO increased $2.3 million, to $2.6 million at December 31, 2018 compared to $360,000 at December 31, 2017 and $11.1 million at December 31,
2016. The increase during 2018 primarily reflects REO properties acquired in the Skagit acquisition.
From time to time, non-recurring fair value adjustments to REO are recorded to reflect partial write-downs based on an observable market price
or current appraised value of property. The individual carrying values of these assets are reviewed for impairment at least annually and any
additional impairment charges are expensed to operations.
Comparison of Results of Operations for the Years Ended December 31, 2018 and 2017
For the year ended December 31, 2018, we had net income of $136.5 million, or $4.15 per diluted share. This compares to net income of $60.8
million, or $1.84 per diluted share, for the year ended December 31, 2017. The 2018 results primarily reflect growth in average interest-earning
assets from re-leveraging our investment portfolio, organic loan and deposit growth and to a lesser extent the acquisition of Skagit. Net income
for both 2018 and 2017 were impacted by one-time tax adjustments primarily as a result of the enactment of the 2017 Tax Act, which reduced
the marginal federal corporate income tax rate from 35% to 21%. Our net income for the year ended December 31, 2018, was positively impacted
by $5.5 million of tax benefit adjustments, which included the release of a $4.2 million valuation reserve previously recorded as a provisional
amount related to the 2017 Tax Act, while 2017 was negatively impacted by a $42.6 million, or $1.29 per diluted share, revaluation of our net
deferred tax asset as a result of the 2017 Tax Act. In 2017, our results also included a net gain of $12.2 million as a result of the Utah Branch
Sale. Our results for the year ended December 31, 2018 included $5.6 million of acquisition-related expenses. There were no acquisition-related
expenses in 2017.
Our operating results depend largely on our net interest income which increased by $37.9 million to $431.0 million, primarily reflecting growth
in both the loan and investment securities portfolios as well increased yields on interest-earning assets. Our operating results for the year ended
December 31, 2018 also reflected a decrease in non-interest income, as the $4.6 million increase in deposit fees and other service charges and
positive changes in the fair value of financial instruments carried at fair value in 2018 were offset by the absence of a similar $12.2 million gain
from the Utah Branch Sale in 2017. The increase in net interest income contributed to an increase of $41.1 million, or 9%, in revenue from core
operations to $512.0 million for the year ended December 31, 2018 compared to $471.0 million for the year ended December 31, 2017. Non-
interest expense increased to $341.4 million for the year ended December 31, 2018 compared with $319.0 million for the year ended December 31,
2017, largely as a result of higher salary and employee benefits related primarily to enhanced regulatory requirements attributable to compliance
and risk management infrastructure build-out, acquisition-related expenses, higher REO operations expenses, and other expenses associated
with operating the branches acquired in the Skagit acquisition.
Net Interest Income. Net interest income before provision for loan losses increased by $37.9 million, or 10%, to $431.0 million for the year
ended December 31, 2018, compared to $393.0 million one year earlier, largely reflecting organic client acquisition and to a lesser extent the
contribution from the Skagit acquisition in the fourth quarter of 2018. Our net interest margin was enhanced by the amortization of acquisition
accounting discounts on purchased loans acquired from bank acquisitions, which are accreted into loan interest income. The net interest margin
of 4.43% for the year ended December 31, 2018 was 19 basis points higher than the prior year and both 2018 and 2017 included ten basis points
from acquisition accounting adjustments. The average yield on interest-earning assets of 4.76% for the year ended December 31, 2018 increased
31 basis points compared to the prior year due to higher contractual yields on loans and securities. Funding costs were higher, as the average
cost of funding liabilities increased by 14 basis points to 0.36% as compared to the prior year. As a result, the net interest spread increased to
4.40% for the year ended December 31, 2018 compared to 4.23% for the prior year.
Interest Income. Interest income for the year ended December 31, 2018 was $463.6 million, compared to $412.3 million for the prior year, an
increase of $51.3 million, or 12%. The increase in interest income occurred as a result of increases in both the average balances and yields of
interest-earning assets. The average balance of interest-earning assets was $9.73 billion for the year ended December 31, 2018, an increase of
60
$473.4 million, or 5%, compared to $9.26 billion one year earlier. The yield on average interest-earning assets was 4.76% for the year ended
December 31, 2018, compared to 4.45% for the year ended December 31, 2017. The increased yield on interest-earning assets reflects
improvement in yields on loans and securities. Loan yields increased 34 basis points to 5.21% for the year ended December 31, 2018 compared
to 4.87% in the preceding year, reflecting the positive impact of increases in the prime rate, LIBOR and other market rates on adjustable-rate
and recently originated loans and a one basis point increase in acquisition accounting loan discount accretion to 13 basis points in 2018 from 12
basis points in 2017. Average loans receivable for the year ended December 31, 2018 increased $251.9 million, or 3%, to $7.94 billion, compared
to $7.69 billion for the prior year. Interest income on loans increased by $38.9 million, or 10%, to $413.4 million for the year ended December 31,
2018, from $374.4 million for the prior year, reflecting the impact of the $251.9 million increase in average loan balances and the 34 basis point
increase in the average yield on total loans.
The combined average balance of mortgage-backed securities, other investment securities, daily interest-bearing deposits and FHLB stock
increased to $1.80 billion for the year ended December 31, 2018 (excluding the effect of fair value adjustments), compared to $1.57 billion for
the year ended December 31, 2017, contributing to the $12.4 million increase in interest and dividend income compared to the prior year. The
average yield on the combined portfolio increased to 2.80% for the year ended December 31, 2018, from 2.40% for the prior year. Portfolio
yields improved primarily as a result of security purchases in 2018 at higher yields than our existing portfolio. For the year ended December 31,
2018, the average yield on mortgage-backed securities increased 46 basis points to 2.81% compared to the prior year, while the yield on other
securities increased 17 basis points to 2.85% compared to the prior year.
Interest Expense. Interest expense for the year ended December 31, 2018 was $32.7 million, compared to $19.3 million for the prior year, an
increase of $13.4 million, or 70%. The increase in interest expense occurred as a result of a $413.8 million, or 5%, increase in average funding
liabilities and a 14 basis point increase in the average cost of all funding liabilities to 0.36% for the year ended December 31, 2018, compared
to 0.22% for the year ended December 31, 2017. This increase in average funding liabilities reflects increases in core deposits, including non-
interest-bearing deposits and interest-bearing transaction and savings accounts, as well as increases in FHLB advances. Our strong base of non-
interest-bearing deposits and other core deposits have lessened the impact of the increases in market interest rates resulting from changes in
Federal Reserve monetary policy actions during 2018 and 2017.
Deposit interest expense increased $8.4 million, or 68%, to $20.6 million for the year ended December 31, 2018 compared to $12.3 million for
the prior year as a result of a $314.7 million, or 4%, increase in the average balance of deposits and a nine basis point increase in the average
cost of deposits. Average deposit balances increased to $8.67 billion for the year ended December 31, 2018, from $8.36 billion for the year
ended December 31, 2017, while the average rate paid on deposit balances increased to 0.24% in the current year from 0.15% for the prior
year. The cost of interest-bearing deposits increased by 15 basis points to 0.39% for the year ended December 31, 2018 compared to 0.24% in
the prior year. The $177.1 million increase in the average balance of non-interest-bearing accounts during 2018 reduced the increase in total
deposit costs. Deposit costs are significantly affected by changes in the level of market interest rates; however, changes in the average rate paid
for interest-bearing deposits frequently tend to lag changes in market interest rates.
Average total borrowings increased to $502.6 million for the year end December 31, 2018, compared to $403.4 million for the prior year. The
increase in average total borrowings was largely due to a $102.4 million increase in average FHLB advances. The average rate paid on total
borrowings increased 66 basis points to 2.39% from 1.73% reflecting the 99 basis point increase in the average cost for our junior subordinated
debentures (which reprice every three months based on changes in the three-month LIBOR index) and a 96 basis point increase in the average
cost of FHLB advances reflecting increases to the Fed Funds target rate over the last two years. The increase in the average cost of total borrowings
was the primary reason for the $5.0 million increase in the related interest expense to $12.0 million for the year ended December 31, 2018, from
$7.0 million in the prior year.
Table 14, Analysis of Net Interest Spread, presents, for the periods indicated, our condensed average balance sheet information, together with
interest income and yields earned on average interest-earning assets and interest expense and rates paid on average interest-bearing
liabilities. Average balances are computed using daily average balances. (See the footnotes to the tables for more information on average
balances.)
61
The following table provides an analysis of our net interest spread for the last three years (dollars in thousands):
Table 14: Analysis of Net Interest Spread
Interest-earning assets:
Held for sale loans
Mortgage loans
Commercial/agricultural loans
Consumer and other loans
Total loans (1)
Mortgage-backed securities
Other securities
Interest-bearing deposits with banks
FHLB stock
Total investment securities
Total interest-earning assets
Non-interest-earning assets
Total assets
Deposits:
Interest-bearing checking accounts
Savings accounts
Money market accounts
Certificates of deposit
Total interest-bearing deposits
Non-interest-bearing deposits
Total deposits
Other interest-bearing liabilities:
FHLB advances
Other borrowings
Junior subordinated debentures
Total borrowings
Total funding liabilities
Other non-interest-bearing liabilities (2)
Total liabilities
Shareholders’ equity
Total liabilities and shareholders’ equity
Net interest income/rate spread
Net interest margin
Average interest-earning assets / average interest-
bearing liabilities
Average interest-earning assets / average funding
liabilities
Year Ended December 31, 2018
Year Ended December 31, 2017
Year Ended December 31, 2016
Average
Balance
Interest and
Dividends
Yield/
Cost (3)
Average
Balance
Interest and
Dividends
Yield/
Cost (3)
Average
Balance
Interest and
Dividends
Yield/
Cost (3)
3,926
320,264
79,605
9,575
413,370
35,076
13,332
1,080
774
50,262
463,632
1,200
3,944
4,107
11,391
20,642
—
20,642
5,636
245
6,136
12,017
32,659
$
$
$
81,873
6,188,279
1,519,871
149,184
7,939,207
1,247,758
468,416
59,031
20,496
1,795,701
9,734,908
828,184
$ 10,563,092
$ 1,048,327
1,665,608
1,421,161
1,127,612
5,262,708
3,411,010
8,673,718
253,661
108,730
140,212
502,603
9,176,321
79,901
9,256,222
1,306,870
$ 10,563,092
5,245
290,132
70,266
8,806
374,449
24,535
12,448
583
269
37,835
412,284
850
2,138
2,638
6,647
12,273
—
12,273
1,908
317
4,752
6,977
19,250
$
$
4.80% $
5.18
5.24
6.42
5.21
2.81
2.85
1.83
3.78
2.80
4.76
128,480
5,932,300
1,485,985
140,500
7,687,265
1,043,599
464,680
49,573
16,379
1,574,231
9,261,496
892,052
$ 10,153,548
0.11
0.24
0.29
1.01
0.39
—
0.24
2.22
0.23
4.38
2.39
0.36
$
933,978
1,559,042
1,515,854
1,116,304
5,125,178
3,233,889
8,359,067
151,295
111,903
140,212
403,410
8,762,477
61,592
8,824,069
1,329,479
$ 10,153,548
3,984
278,435
68,405
8,788
359,612
19,328
11,814
395
328
31,865
391,477
767
1,796
3,098
5,444
11,105
—
11,105
953
310
4,040
5,303
16,408
$
$
4.08% $
4.89
4.73
6.27
4.87
2.35
2.68
1.18
1.64
2.40
4.45
107,018
5,700,379
1,485,390
141,460
7,434,247
931,111
454,977
94,456
16,119
1,496,663
8,930,910
904,181
$ 9,835,091
0.09
0.14
0.17
0.60
0.24
—
0.15
1.26
0.28
3.39
1.73
0.22
$
859,621
1,370,014
1,575,877
1,208,702
5,014,214
3,033,604
8,047,818
141,885
108,427
140,212
390,524
8,438,342
65,508
8,503,850
1,331,241
$ 9,835,091
3.72%
4.88
4.61
6.21
4.84
2.08
2.60
0.42
2.03
2.13
4.38
0.09
0.13
0.20
0.45
0.22
—
0.14
0.67
0.29
2.88
1.36
0.19
$
430,973
4.40%
4.43%
168.85%
106.09%
(footnotes follow)
62
$
393,034
4.23%
4.24%
167.52%
105.69%
$
375,069
4.19%
4.20%
165.24%
105.84%
(1) Average balances include loans accounted for on a nonaccrual basis and loans 90 days or more past due. Amortization of net deferred
loan fees/costs is included with interest on loans.
(2) Average other non-interest-bearing liabilities include fair value adjustments related to FHLB advances and junior subordinated debentures.
(3) Yields and costs have not been adjusted for the effect of tax-exempt interest.
The following table sets forth the effects of changing rates and volumes on our net interest income during the periods shown (in
thousands). Information is provided with respect to (i) effects on interest income attributable to changes in volume (changes in volume multiplied
by prior rate) and (ii) effects on interest income attributable to changes in rate (changes in rate multiplied by prior volume). Effects on interest
income attributable to changes in rate and volume (changes in rate multiplied by changes in volume) have been allocated between changes in
rate and changes in volume (in thousands):
Table 15: Rate/Volume Analysis
Interest-earning assets:
Mortgage loans
Commercial/agricultural loans
Consumer and other loans
Total loans (1)
Mortgage-backed securities
Other securities
Interest-bearing deposits with banks
FHLB stock
Total investment securities
Year Ended December 31, 2018
Compared to Year Ended
December 31, 2017
Increase (Decrease) in
Income/Expense Due to
Year Ended December 31, 2017
Compared to Year Ended
December 31, 2016
Increase (Decrease) in
Income/Expense Due to
Rate
Volume
Net
Rate
Volume
Net
$
$
18,384
7,707
215
26,306
5,271
784
370
350
6,775
$
10,429
1,632
554
12,615
5,270
100
127
155
5,652
$
28,813
9,339
769
38,921
10,541
884
497
505
12,427
610
1,834
78
2,522
2,725
379
447
(63)
3,488
$
$
12,348
27
(60)
12,315
12,958
1,861
18
14,837
2,483
254
(259)
4
2,482
5,208
633
188
(59)
5,970
Total net change in interest income on interest-earning
assets
33,081
18,267
51,348
6,010
14,797
20,807
Interest-bearing liabilities:
Deposits (2)
FHLB advances
Other borrowings
Junior subordinated debentures
Total borrowings
8,259
1,974
(63)
1,384
3,295
110
8,369
1,412
(244)
1,754
(9)
—
1,745
3,728
(72)
1,384
5,040
888
(3)
712
1,597
67
10
—
77
1,168
955
7
712
1,674
Total net change in interest expense on interest-bearing
liabilities
11,554
1,855
13,409
3,009
(167)
2,842
Net change in net interest income
$
21,527
$
16,412
$
37,939
$
3,001
$
14,964
$
17,965
(1)
(2)
Includes loans accounted for on a nonaccrual basis and loans 90 days or more past due. Amortization of net deferred loan fees/costs is
included with interest on loans.
Includes non-interest-bearing deposits.
Provision and Allowance for Loan Losses. Although our credit quality metrics continue to reflect strong performance and our moderate risk
profile, we recorded an $8.5 million provision for loan losses in the year ended December 31, 2018, primarily due to the organic growth in the
loan portfolio, the maturity, subsequent renewal and migration of acquired loans out of the discounted loan portfolios and increased net charge-
offs, compared to the $8.0 million provision for loan losses recorded in 2017. As discussed in the “Summary of Critical Accounting Policies”
section above and in Note 1 of the Notes to the Consolidated Financial Statements, the provision and allowance for loan losses is one of the
most critical accounting estimates included in our Consolidated Financial Statements.
The provision for loan losses reflects the amount required to maintain the allowance for losses at an appropriate level based upon management’s
evaluation of the adequacy of general and specific loss reserves, trends in delinquencies, net charge-offs and current economic conditions. We
continue to maintain a strong allowance for loan losses at December 31, 2018.
63
In accordance with acquisition accounting, loans acquired from acquisitions were recorded at their estimated fair value, which resulted in a net
discount to the contractual amounts of the loans, of which a portion reflects a discount for possible credit losses. Credit discounts are included
in the determination of fair value and as a result no allowance for loan and lease losses is recorded for acquired loans at the acquisition date.
Although the discount recorded on the acquired loans is not reflected in the allowance for loan losses, or related allowance coverage ratios, we
believe it should be considered when comparing the current ratios to similar ratios in periods prior to the acquisitions. The discount on acquired
loans was $25.7 million at December 31, 2018 compared to $21.1 million at December 31, 2017. The increase in the discount on acquired loans
during 2018 was due to the discount recorded on the loans acquired in the Skagit acquisition, partially offset by discount accretion.
We recorded net charge-offs of $1.0 million for the year ended December 31, 2018, compared to net charge-offs of $5.0 million for the prior
year. Non-performing loans decreased by $11.4 million during the year to $15.7 million at December 31, 2018, compared to $27.0 million at
December 31, 2017. A comparison of the allowance for loan losses at December 31, 2018 and 2017 reflects an increase of $7.5 million, or 8%,
to $96.5 million at December 31, 2018, from $89.0 million at December 31, 2017. Included in our allowance at December 31, 2018 was an
unallocated portion of $5.2 million, which was based upon our evaluation of various factors that were not directly measured in the determination
of the formula and specific allowances. The allowance for loan losses as a percentage of total loans (loans receivable excluding allowance for
losses) decreased to 1.11% at December 31, 2018, compared to 1.17% at December 31, 2017.
We believe that the allowance for loan losses was adequate to absorb the known and inherent risks of loss in the loan portfolio as of December 31,
2018. While we believe the estimates and assumptions used in our determination of the adequacy of the allowance are reasonable, there can be
no assurance that these estimates and assumptions will not be proven incorrect in the future, or that the actual amount of future provisions will
not exceed the amount of past provisions or that any increased provisions that may be required will not adversely impact our financial condition
and results of operations. In addition, the determination of the amount of the allowance for loan losses is subject to review by bank regulators
as part of the routine examination process, which may result in the establishment of additional reserves based upon their judgment of information
available to them at the time of their examination.
64
The following table sets forth an analysis of our allowance for loan losses for the periods indicated (dollars in thousands):
Table 16: Changes in Allowance for Loan Losses
Balance, beginning of period
$
89,028
$
85,997
$
78,008
$
75,907
$
74,258
Provision
8,500
8,000
6,030
—
—
Years Ended December 31
2018
2017
2016
2015
2014
Recoveries of loans previously charged off:
Commercial real estate
Multifamily real estate
Construction and land
Commercial business
Agricultural business, including secured by farmland
One- to four-family real estate
Consumer
Loans charged off:
Commercial real estate
Multifamily real estate
Construction and land
Commercial business
Agricultural business, including secured by farmland
One- to four-family real estate
Consumer
Net (charge-offs) recoveries
1,646
—
213
1,049
64
750
366
4,088
(401)
—
(479)
(2,051)
(756)
(43)
(1,401)
(5,131)
(1,043)
372
11
1,237
1,226
134
270
481
3,731
(1,180)
—
—
(3,803)
(2,374)
(38)
(1,305)
(8,700)
(4,969)
582
—
2,171
1,993
59
1,283
610
6,698
(746)
—
(616)
(948)
(567)
(375)
(1,487)
(4,739)
1,959
819
113
1,811
772
948
1,927
570
6,960
(64)
—
(891)
(419)
(746)
(1,225)
(1,514)
(4,859)
2,101
1,507
—
1,776
988
1,576
618
528
6,993
(1,239)
(20)
(207)
(1,344)
(179)
(885)
(1,470)
(5,344)
1,649
Balance, end of period
$
96,485
$
89,028
$
85,997
$
78,008
$
75,907
Allowance for loan losses as a percent of total loans
Net loan (charge-offs) recoveries as a percent of average
outstanding loans during the period
Allowance for loan losses as a percent of non-performing
loans
1.11 %
1.17 %
(0.01)%
(0.06)%
616 %
329 %
1.15%
0.03%
381%
1.07%
0.04%
512%
1.98%
0.04%
454%
65
The following table sets forth the breakdown of the allowance for loan losses by loan category at the dates indicated (dollars in thousands):
Table 17: Allocation of Allowance for Loan Losses
2018
2017
December 31
2016
2015
2014
Specific or allocated loss allowances (1):
Commercial real estate
Multifamily real estate
Construction and land
Commercial business
Agricultural business, including secured by
farmland
One-to-four-family real estate
Consumer
Total allocated
Unallocated (1)
Amount
$
27,132
3,818
24,442
19,438
3,778
4,714
7,972
91,294
5,191
Percent
of Loans
in Each
Category
to Total
Loans
Amount
Percent
of Loans
in Each
Category
to Total
Loans
Amount
Percent
of Loans
in Each
Category
to Total
Loans
Amount
Percent
of Loans
in Each
Category
to Total
Loans
Amount
Percent
of Loans
in Each
Category
to Total
Loans
41.0% $
4.2
12.8
17.1
4.7
11.2
9.0
22,824
1,633
27,568
18,311
4,053
2,055
3,866
80,310
42.4% $
4.1
12.0
16.8
4.4
11.2
9.1
20,993
1,360
34,252
16,533
2,967
2,238
4,104
82,447
44.9% $
3.3
11.0
16.2
5.0
10.9
8.7
20,716
4,195
27,131
13,856
3,645
4,732
902
75,177
42.3% $
6.5
7.9
16.5
5.1
13.0
8.7
18,784
4,562
23,545
36.6%
4.4
10.8
2,821
18.9
8,447
12,043
483
70,685
6.2
14.0
9.1
n/a
8,718
n/a
3,550
n/a
2,831
n/a
5,222
n/a
Total allowance for loan losses
$
96,485
100.0% $
89,028
100.0% $
85,997
100.0% $
78,008
100.0% $
75,907
100.0%
(1) We establish specific loss allowances when individual loans are identified that present a possibility of loss (i.e., that full collectability is not reasonably assured). The remainder of the
allocated and unallocated allowance for loan losses is established for the purpose of providing for estimated losses which are inherent in the loan portfolio.
66
Non-interest Income. The following table presents the key components of non-interest income for the years ended December 31, 2018, 2017,
2016 (dollars in thousands):
Table 18: Non-interest Income
2018 compared to 2017
2017 compared to 2016
2018
2017
Change
Amount
Change
Percent
2017
2016
Change
Amount
Change
Percent
Deposit fees and other service
charges
$ 48,074
$ 43,452
$
4,622
10.6 % $ 43,452
$ 41,911
$
1,541
3.7 %
Mortgage banking operations
21,343
20,880
Bank owned life insurance
Miscellaneous
4,505
7,148
4,618
8,985
463
(113)
2.2 %
(2.4)%
(1,837)
(20.4)%
20,880
25,552
(4,672)
(18.3)%
4,618
8,985
4,538
6,001
80
2,984
1.8 %
49.7 %
Net (loss) gain on sale of
securities
Net change in valuation of
financial instruments carried at
fair value
Gain on sale of branches,
including related loans and
deposits
81,070
77,935
3,135
4.0 %
77,935
78,002
(67)
(0.1)%
(837)
(2,080)
1,243
(59.8)%
(2,080)
843
(2,923)
(346.7)%
3,775
(2,844)
6,619
(232.7)%
(2,844)
(2,620)
(224)
8.5 %
Total non-interest income
$ 84,008
$ 85,200
$ (1,192)
(1.4)% $ 85,200
$ 76,225
$
8,975
—
12,189
(12,189)
(100.0)%
12,189
—
12,189
— %
11.8 %
Non-interest income, which includes deposit fees and other service charges, mortgage banking operations, bank owned life insurance as well
as changes in the valuation of financial instruments carried at fair value, net (loss) gain on sale of securities and, in 2017, the gain on sale of the
Utah branches, decreased $1.2 million, or 1%, to $84.0 million for the year ended December 31, 2018, compared to $85.2 million for the year
ended December 31, 2017. This decrease was despite the strong growth in deposit fees and other service charges, positive changes in financial
instruments carried at fair value and lower losses on the sale of securities as the prior year included a $12.2 million gain on the Utah Branch
Sale. Income from deposit fees and other service charges increased by $4.6 million, or 11%, to $48.1 million for the year ended December 31,
2018, compared to $43.5 million for the prior year reflecting growth in the number of deposit accounts and increased transaction activity.
Mortgage banking revenues, including gains on one- to four-family and multifamily loan sales and loan servicing fees, increased by $463,000
to $21.3 million for the year ended December 31, 2018, compared to $20.9 million in the prior year. Sales of one- to four-family loans held for
sale for the year ended December 31, 2018 resulted in gains of $14.9 million, compared to $15.2 million for the year ended December 31, 2017.
In addition, for the year ended December 31, 2018, mortgage banking revenues included $3.8 million of gains on the sale of multifamily loans,
compared to $3.1 million for the year ended December 31, 2017. The $1.8 million decrease in miscellaneous income was primarily driven by
a prior year, one-time gain of $2.5 million on the sale of a single loan that had been acquired previously as a partial settlement on a non-performing
credit relationship and was carried at a significant discount to its contractual amount and eventual sale price. Securities sales for the year ended
December 31, 2018 resulted in a loss of $837,000 compared to a $2.1 million loss for securities sold for the year ended December 31, 2017.
For the year ended December 31, 2018, we recorded a net gain of $3.8 million for changes in the valuation of financial instruments carried at
fair value, compared to a net loss of $2.8 million for the year ended December 31, 2017. The adjustments in 2018 primarily reflected changes
in the valuation of certain corporate bonds largely as a result of a combination of both increased market interest rates and increased spreads. The
net fair value losses in 2017 primarily reflected changes in the valuation of certain investment securities resulting in $658,000 in net gains.
Following the adoption of new accounting guidance, beginning in the first quarter of 2018, Banner no longer reflects changes in the fair value
of its junior subordinated debentures related to instrument-specific credit risk in the Consolidated Statements of Operations, but rather reports
such changes in the Consolidated Statements of Comprehensive Income and includes them in total shareholders’ equity in the Consolidated
Statements of Financial Condition. During 2017, $3.5 million in charges were recorded in the Consolidated Statement of Operations for changes
in the valuation of the junior subordinated debentures. As discussed more thoroughly in Note 18 of the Notes to the Consolidated Financial
Statements, the valuation for many of these financial instruments has been difficult and more subjective in recent periods as current and reliable
observable transaction data is very limited.
67
Non-interest Expense. The following table represents key elements of non-interest expense for the years ended December 31, 2018, 2017,
2016 (dollars in thousands).
Table 19: Non-interest Expense
2018 compared to 2017
2017 compared to 2016
2018
2017
Change
Amount
Change
Percent
2017
2016
Change
Amount
Change
Percent
Salary and employee benefits
$ 202,613
$ 192,096
$ 10,517
5.5 % $ 192,096
$ 180,883
$
11,213
6.2 %
Less capitalized loan origination
costs
(17,925)
(17,379)
Occupancy and equipment
49,215
47,866
(546)
1,349
3.1 %
2.8 %
(17,379)
(18,895)
47,866
45,000
1,516
2,866
(8.0)%
6.4 %
Information/computer data
services
Payment and card processing
expenses
18,823
17,245
1,578
9.2 %
17,245
19,281
(2,036)
(10.6)%
15,412
14,330
1,082
7.6 %
14,330
14,359
(29)
(0.2)%
Professional and legal expenses
17,945
17,534
411
2.3 %
17,534
8,120
9,414
115.9 %
Advertising and marketing
8,346
8,637
(291)
(3.4)%
8,637
9,709
(1,072)
(11.0)%
Deposit insurance
4,446
4,689
(243)
(5.2)%
4,689
4,551
138
3.0 %
State/Municipal business and use
taxes
REO operations
Amortization of core deposit
intangibles
Miscellaneous
3,284
804
6,047
26,754
2,594
690
26.6 %
2,594
(2,030)
2,834
(139.6)%
(2,030)
6,246
27,142
(199)
(388)
(3.2)%
(1.4)%
6,246
27,142
3,516
175
7,061
30,131
$ 335,764
$ 318,970
$ 16,794
5.3 % $ 318,970
$ 303,891
$
15,079
(922)
(26.2)%
(2,205)
(1,260.0)%
(815)
(11.5)%
(2,989)
(9.9)%
5.0 %
Acquisition-related costs
$
5,607
$
— $
5,607
nm $
— $ 11,733
$ (11,733)
(100.0)%
Total non-interest expense
$ 341,371
$ 318,970
$ 22,401
7.0 % $ 318,970
$ 315,624
$
3,346
1.1 %
Non-interest expense for the year ended December 31, 2018 was $341.4 million, an increase of $22.4 million, or 7%, as compared to the same
period in 2017. The increase was largely attributable to the inclusion of acquired Skagit operations in the last two months of 2018, higher salary
and employee benefits due to the build-out of the Company's risk and delivery infrastructure, as well as acquisition-related expenses in 2018,
and a loss in REO operations in 2018 versus a gain in 2017. Salaries and employee benefits expenses increased $10.5 million to $202.6 million
for the year ended December 31, 2018 from $192.1 million for the year ended December 31, 2017, primarily reflecting incremental staffing
associated with the build-out of the Company's risk management infrastructure, normal salary and wage adjustments, increased medical insurance
costs and additional staffing related to the operations acquired from the acquisition of Skagit on November 1, 2018. Occupancy and equipment
expenses increased $1.3 million, or 3%, to $49.2 million in 2018, compared to $47.9 million in 2017. The increase in occupancy and equipment
expense reflects costs associated with the consolidation of six branches during the third quarter of 2018 and expenses associated with operating
the branches acquired in the Skagit acquisition. Information and computer data services expense increased $1.6 million, or 9%, to $18.8 million
in the current year, compared to $17.2 million in the prior year, reflecting incremental costs as the Company continued to grow. Professional
and legal expense increased $411,000 to $17.9 million for the year ended December 31, 2018 from $17.5 million for the year ended December 31,
2017. The current year period included a $4.0 million accrual for pending litigation, recorded in the fourth quarter of 2018, partially offset by
decreases in professional fees as projects associated with the build-out compliance and risk management infrastructure were completed during
2018. REO operations for the year ended December 31, 2018 resulted in expense of $804,000, compared to income of $2.0 million in the prior
year. The income in 2017 resulted primarily from $2.9 million of net gains on the sale of properties compared to net gains of $242,000 on the
sale of properties in 2018. There were $5.6 million of acquisition-related costs added to non-interest expense in the current year, and there were
none in the year ended December 31, 2017.
Income Taxes. For the year ended December 31, 2018, we recognized $28.6 million in income tax expense for an effective rate of 17.3%, which
reflects the new lower federal corporate income tax rate effective beginning in 2018, as well as the benefits from tax exempt income sources.
In addition, Banner recorded $5.5 million of tax benefit adjustments in the fourth quarter of 2018, which included the release of a $4.2 million
valuation reserve previously recorded in the fourth quarter of 2017 as a provisional amount related to the enactment of the 2017 Tax Act. Our
normal expected blended federal and state statutory income tax rate is 23.7%, representing a blend of the statutory federal income tax rate of
21.0% and apportioned effects of the state and local jurisdictions where we do business. For the year ended December 31, 2017, we recognized
$90.5 million in income tax expense for an effective tax rate of 59.8%, which included a $42.6 million charge for the revaluation of our deferred
68
tax assets as a result of the passage of the 2017 Tax Act. For more information on income taxes and deferred taxes, see Note 12 of the Notes to
the Consolidated Financial Statements.
Comparison of Results of Operations for the Years Ended December 31, 2017 and 2016
For the year ended December 31, 2017, we had net income of $60.8 million, or $1.84 per diluted share. This compared to net income of $85.4
million, or $2.52 per diluted share, for the year ended December 31, 2016. The reduced 2017 results reflected a $42.6 million, or $1.29 per
diluted share, net charge related to the revaluation of our deferred tax assets and liabilities as a result of the enactment of the 2017 Tax Act, which
reduced the marginal federal corporate income tax rate from 35% to 21%. In addition, there were no acquisition-related expenses in 2017,
compared to acquisition-related expenses of $11.7 million in 2016. By contrast, our net income before provision for income taxes increased to
$151.3 million in 2017, compared to $129.6 million in 2016, reflecting improved earnings from core operations as well as a gain on the Utah
Branch Sale.
Our net interest income increased by $18.0 million to $393.0 million for the year ended December 31, 2017, primarily reflecting loan and deposit
growth as well as increased yields on earning assets. Our operating results for the year ended December 31, 2017 also reflected an increase in
non-interest income, as growth in deposit fees and other service charges and gains from the sale of the Utah branches more than offset decreases
in revenues from mortgage banking operations, losses on sales of securities and an adverse variance from changes in valuation of financial
instruments carried at fair value. Excluding fair value adjustments, net gains and losses on the sale of securities and the gain on the sale of the
Utah branches, our non-interest income from core operations increased by $1.0 million to $86.3 million for the year ended December 31, 2017,
compared to $85.2 million for the preceding year, primarily as a result of a $2.6 million increase in deposit fees and other service charges as
well as increases in miscellaneous income, partially offset by a $4.7 million decrease in mortgage banking operations. This increase in non-
interest income from core operations, coupled with the increase in net interest income, produced an increase of $19.0 million, or 4%, in revenue
from core operations to $479.3 million for the year ended December 31, 2017, compared to $460.3 million for the year ended December 31,
2016. Non-interest expense increased to $327.3 million for the year ended December 31, 2017, compared with $322.9 million for the year ended
December 31, 2016, largely as a result of higher salary and employee benefits and costs for professional services mostly due to enhanced
regulatory requirements attributable to the build-out of compliance and risk management infrastructure.
Net Interest Income. Net interest income before provision for loan losses increased by $18.0 million, or 5%, to $393.0 million for the year
ended December 31, 2017, compared to $375.1 million one year earlier, largely reflecting continued new client acquisition. The net interest
margin was enhanced by the amortization of acquisition accounting discounts on purchased loans acquired from bank acquisitions that are
accreted into loan interest income, as well as by net premiums on non-market-rate certificate of deposit liabilities assumed which were amortized
as a reduction to deposit interest expense. The net interest margin of 4.24% for the year ended December 31, 2017 was four basis points higher
than the prior year and included ten basis points from acquisition accounting adjustments compared to sixteen basis points from acquisition
accounting adjustments in 2016. The average yield on interest-earning assets of 4.45% for the year ended December 31, 2017 increased seven
basis points compared to the prior year as higher contractual yields on loans and securities offset the lower acquisition accounting adjustments.
Funding costs were higher for the year ended December 31, 2017, as the average cost of funding liabilities increased by three basis points to
0.22% as compared to the prior year. As a result, the net interest spread increased to 4.23% for the year ended December 31, 2017, compared
to 4.19% for the prior year.
Interest Income. Interest income for the year ended December 31, 2017 was $412.3 million, compared to $391.5 million for the prior year, an
increase of $20.8 million, or 5%. The increase in interest income occurred as a result of increases in both the average balances and yields of
interest-earning assets. The average balance of interest-earning assets was $9.26 billion for the year ended December 31, 2017, an increase of
$330.6 million, or 4%, compared to $8.93 billion one year earlier. The yield on average interest-earning assets was 4.45% for the year ended
December 31, 2017, compared to 4.38% for the year ended December 31, 2016. The increased yield on interest-earning assets reflected
improvement in yields on loans and securities, partially offset by less positive impact from acquisition accounting loan discount accretion. Loan
yields increased three basis points to 4.87% for the year ended December 31, 2017, compared to 4.84% in the preceding year, reflecting the
positive impact of increases in the prime rate and other market rates on adjustable-rate loans, partially offset by a decrease in acquisition accounting
loan discount accretion to 11 basis points in 2017 from 17 basis points in 2016. Average loans receivable for the year ended December 31, 2017
increased $253.0 million, or 3%, to $7.69 billion, compared to $7.43 billion for the prior year. Interest income on loans increased by $14.8
million, or 4%, to $374.4 million for the year ended December 31, 2017, from $359.6 million for the prior year, reflecting the impact of the $253
million increase in average loan balances and the three basis point increase in the average yield on total loans.
The combined average balance of mortgage-backed securities, other investment securities, daily interest-bearing deposits and FHLB stock
increased to $1.57 billion for the year ended December 31, 2017 (excluding the effect of fair value adjustments), compared to $1.50 billion for
the year ended December 31, 2016, contributing to the $6.0 million increase in interest and dividend income compared to the prior year. The
average yield on the combined portfolio increased to 2.40% for the year ended December 31, 2017, from 2.13% for the prior year. Portfolio
yields improved primarily as a result of security purchases in 2017 at higher yields than our existing portfolio. For the year ended December 31,
2017, the average yield on mortgage-backed securities increased 27 basis points to 2.35% compared to the prior year, while the yield on other
securities increased eight basis points to 2.68% compared to the prior year.
Interest Expense. Interest expense for the year ended December 31, 2017 was $19.3 million, compared to $16.4 million for the prior year, an
increase of $2.8 million, or 17%. The increase in interest expense occurred as a result of a $324.1 million, or 4%, increase in average funding
liabilities and a three basis point increase in the average cost of all funding liabilities to 0.22% for the year ended December 31, 2017, compared
to 0.19% for the year ended December 31, 2016. This increase in average funding liabilities reflected increases in core deposits, including non-
interest-bearing deposits and interest-bearing transaction and savings accounts. The growth in non-interest-bearing deposits and other core
69
deposits continued to significantly contribute to our low funding costs despite increases in market interest rates resulting from changes in Federal
Reserve monetary policy actions during 2017 and 2016.
Deposit interest expense increased $1.2 million, or 11%, to $12.3 million for the year ended December 31, 2017, compared to $11.1 million for
the prior year as a result of a $311.2 million, or 4%, increase in the average balance of deposits and a one basis point increase in the average
cost of deposits. Average deposit balances increased to $8.36 billion for the year ended December 31, 2017, from $8.05 billion for the year
ended December 31, 2016, while the average rate paid on deposit balances increased to 0.15% in the year ended December 31, 2017 from 0.14%
for the prior year. The cost of interest-bearing deposits increased by two basis points to 0.24% for the year ended December 31, 2017, compared
to 0.22% in the prior year. The $200.3 million increase in the average balance of non-interest-bearing accounts during 2017 reduced the increase
in total deposit costs. In addition, amortization of acquisition accounting net premiums on certificates of deposit reduced the cost of deposits
by less than one basis point in 2017, compared to two basis points in 2016. Continuing changes in our deposit mix, especially growth in lower
cost transaction and savings accounts, in particular non-interest-bearing deposits, through organic growth meaningfully contributed to our low
funding costs for the year ended December 31, 2017.
Average total borrowings increased to $403.4 million for the year end December 31, 2017, compared to $390.5 million for the prior year. The
increase in average total borrowings was largely due to a $9.4 million increase in average FHLB advances. The average rate paid on total
borrowings increased 37 basis points from 1.36% to 1.73%, reflecting the 51 basis point increase in the average cost for our junior subordinated
debentures (which reprice every three months based on changes in the three-month LIBOR index) and a 59 basis point increase in the average
cost of FHLB advances reflecting increases to the Fed Funds target rate during 2017. The increase in the average cost of total borrowing was
the primary reason for the $1.7 million increase in the related interest expense to $7.0 million for the year ended December 31, 2017, from $5.3
million in the prior year.
Provision and Allowance for Loan Losses. We recorded net charge-offs of $5.0 million for the year ended December 31, 2017, compared to
net recoveries of $2.0 million for the prior year. Non-performing loans modestly increased by $4.5 million during the year to $27.0 million at
December 31, 2017, compared to $22.6 million at December 31, 2016. A comparison of the allowance for loan losses at December 31, 2017
and 2016 reflects an increase of $3.0 million, or 4%, to $89.0 million at December 31, 2017, from $86.0 million at December 31, 2016. Included
in our allowance at December 31, 2017 was an unallocated portion of $8.7 million, which was based upon our evaluation of various factors that
were not directly measured in the determination of the formula and specific allowances. The allowance for loan losses as a percentage of total
loans (loans receivable excluding allowance for losses) increased to 1.17% at December 31, 2017, compared to 1.15% at December 31, 2016.
Non-interest Income. Non-interest income, including changes in the valuation of financial instruments carried at fair value, net gain on sale
of securities and gain on the Utah Branch Sale, as well as non-interest revenues from core operations, increased $10.1 million, or 12%, to $93.5
million for the year ended December 31, 2017, compared to $83.5 million for the year ended December 31, 2016. This increase was primarily
due to the strong growth in deposit fees and other service charges and the gain on the sale of the Utah branches, partially offset by the decline
in income from mortgage banking operations. Excluding fair value adjustments, net gains on the sale of securities and the gain on the Utah
Branch Sale, non-interest income from core operations increased $1.0 million to $86.3 million for the year ended December 31, 2017, compared
to $85.2 million at December 31, 2016. Income from deposit fees and other service charges increased by $2.6 million, or 5%, to $51.8 million
for the year ended December 31, 2017, compared to $49.2 million for the prior year. Mortgage banking revenues, including gains on one- to
four-family and multifamily loan sales and loan servicing fees, decreased by $4.7 million to $20.9 million for the year ended December 31,
2017, compared to $25.6 million in the prior year. Sales of one- to four-family loans held for sale for the year ended December 31, 2017 resulted
in gains of $15.2 million compared to $20.3 million for the year ended December 31, 2016. The decrease in gains on the sales of one- to four-
family loans was primarily due to a decline in the volume of loans sold as well as both the increase in loans held for portfolio and decreased
loan originations reflecting reduced refinancing activity. For the year ended December 31, 2017 sales of one- to four-family loans totaled $552.5
million compared to $682.8 million for the year ended December 31, 2016. In addition, for the year ended December 31, 2017, mortgage banking
revenues included $3.1 million of gains on the sale of multifamily loans compared to $3.3 million for the year ended December 31, 2016.
Securities sales for the year ended December 31, 2017, largely related to the year-end balance sheet restructuring strategy, resulted in a loss of
$2.1 million compared to a $843,000 gain for securities sold for the year ended December 31, 2016. For the year ended December 31, 2017,
we recorded a net loss of $2.8 million for changes in the valuation of financial instruments carried at fair value, compared to a net loss of $2.6
million for the year ended December 31, 2016. The adjustments in 2017 primarily reflected changes in the valuation of certain investment
securities, which resulted in $658,000 in net gains, as well as changes in the valuation of the junior subordinated debentures we had issued,
which resulted in $3.5 million in charges, in each case largely as a result of increased market interest rates. The net fair value losses in 2016
primarily reflected changes in the valuation of certain investment securities resulting in $376,000 in net losses and changes in the valuation of
the junior subordinated debentures, which resulted in $2.7 million in charges.
Non-interest Expense. Non-interest expense for the year ended December 31, 2017 was $327.3 million, an increase of $4.4 million, or 1%, as
compared to the same period in 2016. The increase was largely attributable to higher salary and employee benefits and costs for professional
services mostly due to enhanced regulatory requirements attributable to the build-out of compliance and risk management infrastructure, which
were partially offset by a decrease in acquisition-related costs. There were no acquisition-related costs added to non-interest expense for the year
ended December 31, 2017, compared to $11.7 million in the year ended December 31, 2016. Salaries and employee benefits expenses increased
$11.2 million to $192.1 million for the year ended December 31, 2017 from $180.9 million for the year ended December 31, 2016, primarily
reflecting incremental staffing associated with the build-out of the Company's compliance and risk management infrastructure as well as to a
lesser extent normal salary and wage adjustments. Occupancy and equipment expenses increased $2.9 million, or 6%, to $47.9 million in 2017,
compared to $45.0 million in 2016. The increase in occupancy and equipment expense primarily reflected increased depreciation associated
with equipment purchased for acquired locations and increased seasonal building repair and maintenance. Information and computer data services
expense decreased $2.0 million, or 11%, to $17.2 million in 2017, compared to $19.3 million in the prior year, reflecting savings from post-
70
acquisition systems integrations. Professional and legal expense increased $9.4 million to $17.5 million for the year ended December 31, 2017
from $8.1 million for the year ended December 31, 2016, largely due to increased consulting services related to enhanced regulatory requirements
attributable to our build-out of compliance and risk management infrastructure. REO operations for the year ended December 31, 2017 resulted
in income of $2.0 million, compared to an expense of $175,000 in the prior year. The income in 2017 resulted primarily from $2.9 million of
net gains on the sale of properties, offset by the carrying costs related to repossessed properties. Miscellaneous expense decreased $3.0 million
to $27.1 million for the year ended December 31, 2017 from $30.1 million for the prior year, primarily due to the release of a $1.2 million reserve
for possible losses on an unfunded commitment for a single credit relationship that was terminated in 2017.
Income Taxes. For the year ended December 31, 2017, we recognized $90.5 million in income tax expense for an effective rate of 59.8%, which
reflected a $42.6 million revaluation of our net deferred tax asset as a result the passage of the 2017 Tax Act which reduced the federal statutory
corporate income tax rate from 35% to 21% and higher pre-tax income. For the year ended December 31, 2016, we recognized $44.3 million
in income tax expense for an effective tax rate of 34.1%.
Market Risk and Asset/Liability Management
Our financial condition and operations are influenced significantly by general economic conditions, including the absolute level of interest rates
as well as changes in interest rates and the slope of the yield curve. Our profitability is dependent to a large extent on our net interest income,
which is the difference between the interest received from our interest-earning assets and the interest expense incurred on our interest-bearing
liabilities.
Our activities, like all financial institutions, inherently involve the assumption of interest rate risk. Interest rate risk is the risk that changes in
market interest rates will have an adverse impact on the institution’s earnings and underlying economic value. Interest rate risk is determined
by the maturity and repricing characteristics of an institution’s assets, liabilities and off-balance-sheet contracts. Interest rate risk is measured
by the variability of financial performance and economic value resulting from changes in interest rates. Interest rate risk is the primary market
risk affecting our financial performance.
The greatest source of interest rate risk to us results from the mismatch of maturities or repricing intervals for rate sensitive assets, liabilities
and off-balance sheet contracts. This mismatch or gap is generally characterized by a substantially shorter maturity structure for interest-bearing
liabilities than interest-earning assets, although our floating-rate assets tend to be more immediately responsive to changes in market rates than
most funding deposit liabilities. Additional interest rate risk results from mismatched repricing indices and formula (basis risk and yield curve
risk), and product caps and floors and early repayment or withdrawal provisions (option risk), which may be contractual or market driven, that
are generally more favorable to customers than to us. An exception to this generalization is the beneficial effect of interest rate floors on a
substantial portion of our performing floating-rate loans, which help us maintain higher loan yields in periods when market interest rates decline
significantly. However, in a declining interest rate environment, as loans with floors are repaid they generally are replaced with new loans which
have lower interest rate floors. As of December 31, 2018, our loans with interest rate floors totaled approximately $2.81 billion and had a
weighted average floor rate of 4.71% compared to a current average note rate of 5.55%.
The principal objectives of asset/liability management are: to evaluate the interest rate risk exposure; to determine the level of risk appropriate
given our operating environment, business plan strategies, performance objectives, capital and liquidity constraints, and asset and liability
allocation alternatives; and to manage our interest rate risk consistent with regulatory guidelines and policies approved by the Board of
Directors. Through such management, we seek to reduce the vulnerability of our earnings and capital position to changes in the level of interest
rates. Our actions in this regard are taken under the guidance of the Asset/Liability Management Committee, which is comprised of members
of our senior management. The Committee closely monitors our interest sensitivity exposure, asset and liability allocation decisions, liquidity
and capital positions, and local and national economic conditions and attempts to structure the loan and investment portfolios and funding sources
to maximize earnings within acceptable risk tolerances.
Sensitivity Analysis
Our primary monitoring tool for assessing interest rate risk is asset/liability simulation modeling, which is designed to capture the dynamics of
balance sheet, interest rate and spread movements and to quantify variations in net interest income resulting from those movements under different
rate environments. The sensitivity of net interest income to changes in the modeled interest rate environments provides a measurement of interest
rate risk. We also utilize economic value analysis, which addresses changes in estimated net economic value of equity arising from changes in
the level of interest rates. The net economic value of equity is estimated by separately valuing our assets and liabilities under varying interest
rate environments. The extent to which assets gain or lose value in relation to the gains or losses of liability values under the various interest
rate assumptions determines the sensitivity of net economic value to changes in interest rates and provides an additional measure of interest rate
risk.
The interest rate sensitivity analysis performed by us incorporates beginning-of-the-period rate, balance and maturity data, using various levels
of aggregation of that data, as well as certain assumptions concerning the maturity, repricing, amortization and prepayment characteristics of
loans and other interest-earning assets and the repricing and withdrawal of deposits and other interest-bearing liabilities into an asset/liability
computer simulation model. We update and prepare simulation modeling at least quarterly for review by senior management and the directors.
We believe the data and assumptions are realistic representations of our portfolio and possible outcomes under the various interest rate
scenarios. Nonetheless, the interest rate sensitivity of our net interest income and net economic value of equity could vary substantially if
different assumptions were used or if actual experience differs from the assumptions used.
71
The following table sets forth as of December 31, 2018, the estimated changes in our net interest income over one-year and two-year time
horizons and the estimated changes in economic value of equity based on the indicated interest rate environments (dollars in thousands):
Table 20: Interest Rate Risk Indicators
Change (in Basis Points) in Interest Rates (1)
Net Interest Income
Next 12 Months
Net Interest Income
Next 24 Months
Economic Value of
Equity
December 31, 2018
Estimated Increase (Decrease) in
+400
+300
+200
+100
0
-50
-100
$ (13,958)
(2.9)% $
(6,832)
(0.7)% $ (223,963)
(8.4)%
(3,203)
(0.7)
1,876
3,100
—
(7,824)
(16,634)
0.4
0.7
—
(1.7)
(3.5)
11,754
17,892
14,748
—
(22,434)
(47,491)
1.2
1.9
1.5
—
(2.3)
(5.0)
(141,721)
(56,625)
(715)
—
(59,399)
(113,625)
(5.3)
(2.1)
—
—
(2.2)
(4.2)
(1) Assumes an instantaneous and sustained uniform change in market interest rates at all maturities; however, no rates are allowed to go
below zero. The current targeted federal funds rate is between 2.25% and 2.50%.
Another (although less reliable) monitoring tool for assessing interest rate risk is gap analysis. The matching of the repricing characteristics of
assets and liabilities may be analyzed by examining the extent to which assets and liabilities are interest sensitive and by monitoring an institution’s
interest sensitivity gap. An asset or liability is said to be interest sensitive within a specific time period if it will mature or reprice within that
time period. The interest rate sensitivity gap is defined as the difference between the amount of interest-earning assets anticipated, based upon
certain assumptions, to mature or reprice within a specific time period and the amount of interest-bearing liabilities anticipated to mature or
reprice, based upon certain assumptions, within that same time period. A gap is considered positive when the amount of interest-sensitive assets
exceeds the amount of interest-sensitive liabilities. A gap is considered negative when the amount of interest-sensitive liabilities exceeds the
amount of interest-sensitive assets. Generally, during a period of rising rates, a negative gap would tend to adversely affect net interest income
while a positive gap would tend to result in an increase in net interest income. During a period of falling interest rates, a negative gap would
tend to result in an increase in net interest income while a positive gap would tend to adversely affect net interest income.
Certain shortcomings are inherent in gap analysis. For example, although certain assets and liabilities may have similar maturities or periods
of repricing, they may react in different degrees to changes in market rates. Also, the interest rates on certain types of assets and liabilities may
fluctuate in advance of changes in market rates, while interest rates on other types may lag behind changes in market 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, prepayment and early withdrawal levels would likely deviate significantly from those assumed in calculating
the table. Finally, the ability of some borrowers to service their debt may decrease in the event of a severe change in market rates.
Table 20, Interest Sensitivity Gap, presents our interest sensitivity gap between interest-earning assets and interest-bearing liabilities at
December 31, 2018 and 2017. The following table sets forth the amounts of interest-earning assets and interest-bearing liabilities which are
anticipated by us, based upon certain assumptions, to reprice or mature in each of the future periods shown. At December 31, 2018, total interest-
earning assets maturing or repricing within one year exceeded total interest-bearing liabilities maturing or repricing in the same time period by
$2.12 billion, representing a one-year cumulative gap to total assets ratio of 17.84%.
Management is aware of the sources of interest rate risk and in its opinion actively monitors and manages it to the extent possible. The interest
rate risk indicators and interest sensitivity gaps as of December 31, 2018 and 2017 are within our internal policy guidelines and management
considers that our current level of interest rate risk is reasonable.
72
The following table provides a GAP analysis as of December 31, 2018 (dollars in thousands):
Table 21: Interest Sensitivity Gap
Interest-earning assets: (1)
Construction loans
Fixed-rate mortgage loans
Adjustable-rate mortgage loans
Fixed-rate mortgage-backed securities
Adjustable-rate mortgage-backed securities
Fixed-rate commercial/agricultural loans
Adjustable-rate commercial/agricultural loans
Consumer and other loans
Investment securities and interest-earning deposits
Total rate sensitive assets
Interest-bearing liabilities: (2)
Interest-bearing checking accounts
Regular savings
Money market deposit accounts
Certificates of deposit
FHLB advances
Other borrowings
Trust preferred securities
Retail repurchase agreements
Total rate sensitive liabilities
Within
6 Months
After 6
Months
Within 1 Year
After 1 Year
Within 3
Years
After 3 Years
Within 5
Years
After 5 Years
Within 10
Years
Over
10 Years
Total
December 31, 2018
$
664,994
323,795
1,027,644
65,600
163,446
121,434
910,466
483,573
110,177
3,871,129
156,751
227,143
164,492
687,701
540,006
—
140,212
116,588
2,032,893
$
83,786
163,282
353,938
77,600
5,156
106,689
36,215
58,625
16,850
902,141
72,360
122,183
108,770
316,778
6
—
—
2,407
622,504
$
121,660
501,327
1,139,661
260,626
22,381
239,659
70,903
95,389
56,851
2,508,457
227,701
378,874
342,832
289,582
26
—
—
—
1,239,015
$
14,180
416,279
794,057
233,986
39,059
74,524
38,296
31,528
63,506
1,705,415
$
4,768
521,821
255,670
519,370
21,645
57,617
18,311
17,075
98,394
1,514,671
$
589
48,342
955
119,869
—
28,962
—
41,251
70,226
310,194
$
889,977
1,974,846
3,571,925
1,277,051
251,687
628,885
1,074,191
727,441
416,004
10,812,007
162,676
262,339
237,077
24,666
30
—
—
—
686,788
246,309
381,877
328,063
2,100
91
—
—
—
958,440
325,218
470,166
284,135
—
30
—
—
—
1,079,549
1,191,015
1,842,582
1,465,369
1,320,827
540,189
—
140,212
118,995
6,619,189
Excess (deficiency) of interest-sensitive assets over interest-sensitive
liabilities
$ 1,838,236
$
279,637
$ 1,269,442
$ 1,018,627
$
556,231
$ (769,355)
$ 4,192,818
Cumulative excess of interest-sensitive assets
$ 1,838,236
$ 2,117,873
$ 3,387,315
$ 4,405,942
$ 4,962,173
$ 4,192,818
$ 4,192,818
Cumulative ratio of interest-earning assets to interest-bearing liabilities
190.42%
179.76%
186.98%
196.17%
189.58%
163.34 %
163.34%
Interest sensitivity gap to total assets
15.48%
2.36%
10.69%
8.58%
4.69%
(6.48)%
35.32%
Ratio of cumulative gap to total assets
15.48%
17.84%
28.53%
37.11%
41.80%
35.32 %
35.32%
(footnotes follow)
73
(1) Adjustable-rate assets are included in the period in which interest rates are next scheduled to adjust rather than in the period in which
they are due to mature, and fixed-rate assets are included in the period in which they are scheduled to be repaid based upon scheduled
amortization, in each case adjusted to take into account estimated prepayments. Mortgage loans and other loans are not reduced for
allowances for loan losses and non-performing loans. Mortgage loans, mortgage-backed securities, other loans and investment securities
are not adjusted for deferred fees and unamortized acquisition premiums and discounts.
(2) Adjustable-rate liabilities are included in the period in which interest rates are next scheduled to adjust rather than in the period they are
due to mature. Although regular savings, demand, interest-bearing checking, and money market deposit accounts are subject to immediate
withdrawal, based on historical experience management considers a substantial amount of such accounts to be core deposits having
significantly longer maturities. For the purpose of the gap analysis, these accounts have been assigned decay rates to reflect their longer
effective maturities. If all of these accounts had been assumed to be short-term, the one-year cumulative gap of interest-sensitive assets
would have been $(1.53) billion, or (12.89%) of total assets at December 31, 2018. Interest-bearing liabilities for this table exclude
certain non-interest-bearing deposits that are included in the average balance calculations reflected in Table 17, Analysis of Net Interest
Spread.
Liquidity and Capital Resources
Our primary sources of funds are deposits, borrowings, proceeds from loan principal and interest payments and sales of loans, and the maturity
of and interest income on mortgage-backed and investment securities. While maturities and scheduled amortization of loans and mortgage-
backed securities are a predictable source of funds, deposit flows and mortgage prepayments are greatly influenced by market interest rates,
economic conditions, competition and our pricing strategies.
Our primary investing activity is the origination and purchase of loans and, in certain periods, the purchase of securities. During the years ended
December 31, 2018, 2017 and 2016, our loan originations exceeded our loan repayments by $1.31 billion, $1.10 billion and $1.14 billion,
respectively. During those periods we purchased loans of $33.7 million, $126.5 million and $235.5 million, respectively. This activity was
funded primarily by increased deposits, the sale of loans and additional borrowings in 2018. During the years ended December 31, 2018, 2017
and 2016, we sold $791.7 million, $1.05 billion, and $1.07 billion, respectively, of loans. Securities purchased during the years ended
December 31, 2018, 2017 and 2016 totaled $923.6 million, $844.7 million, and $305.2 million, respectively, and securities repayments, maturities
and sales in those periods were $421.3 million, $724.6 million, and $583.9 million, respectively.
Our primary financing activity is gathering deposits. Largely as a result of $810.2 million of deposits acquired in the Skagit acquisition as well
as organic growth in deposits, our deposits increased by $1.29 billion during the year ended December 31, 2018. Deposits increased by $62.0
million during the year ended December 31, 2017. Our core deposits have continued to increase as a result of our marketing focus on retail
deposits. In addition, core deposits were positively impacted during 2018 by the acquisition of Skagit. At December 31, 2018, core deposits
amounted to $8.16 billion, or 86% of total deposits, compared with 7.22 billion, or 88% of total deposits at December 31, 2017, and $7.08 billion,
or 87% of total deposits at December 31, 2016. Certificates of deposits are generally more price sensitive than other retail deposits and our
pricing of those deposits varies significantly based upon our liquidity management strategies at any point in time. At December 31, 2018,
certificates of deposit amounted to $1.32 billion, or 14% of our total deposits, including $1.00 billion which were scheduled to mature within
one year. Certificates of deposit increased from 12% of our total deposits at December 31, 2017, and 13% of total deposits at December 31,
2016, reflecting an increase in brokered certificates of deposit. While no assurance can be given as to future periods, historically, we have been
able to retain a significant amount of our deposits as they mature.
FHLB advances (excluding fair value adjustments) increased $540.0 million for the year ended December 31, 2018, after decreasing $54.0
million for the year ended December 31, 2017. Other borrowings at December 31, 2018 increased $23.1 million to $119.0 million following a
decrease of $9.8 million in 2017.
We must maintain an adequate level of liquidity to ensure the availability of sufficient funds to accommodate deposit withdrawals, to support
loan growth, to satisfy financial commitments and to take advantage of investment opportunities. During the years ended December 31, 2018,
2017 and 2016, we used our sources of funds primarily to fund loan commitments, purchase securities and pay maturing savings certificates and
deposit withdrawals. At December 31, 2018, we had outstanding commitments to extend credit, originate loans and for letters of credit totaling
$2.94 billion. While representing potential growth in the loan portfolio and lending activities, this level of commitments is proportionally
consistent with our historical experience and does not represent a departure from normal operations.
We generally maintain sufficient cash and readily marketable securities to meet short-term liquidity needs; however, our primary liquidity
management practice to supplement deposits is to increase or decrease short-term borrowings, including FHLB advances and Federal Reserve
Bank of San Francisco (FRBSF) borrowings. We maintain credit facilities with the FHLB–Des Moines, that at December 31, 2018 provided
for advances that in the aggregate may equal the lesser of 45% of Banner Bank’s assets or adjusted qualifying collateral (subject to a sufficient
level of ownership of FHLB stock), up to a total possible credit line of $4.59 billion, and 35% of Islanders Bank’s assets or adjusted qualifying
collateral, up to a total possible credit line of $103.5 million. Advances under these credit facilities (excluding fair value adjustments) totaled
$540.2 million at December 31, 2018. In addition, Banner Bank has been approved for participation in the FRBSF's Borrower-In-Custody (BIC)
program. Under this program Banner Bank had available lines of credit of approximately $1.15 billion as of December 31, 2018, subject to
certain collateral requirements, namely the collateral type and risk rating of eligible pledged loans. We had no funds borrowed from the FRBSF
at December 31, 2018 or 2017. At December 31, 2018, Banner Bank also had uncommitted federal funds line of credit agreements with other
financial institutions totaling $110.0 million, while Islanders Bank had an uncommitted federal funds line of credit agreement with another
financial institution totaling $5.0 million. No balances were outstanding under these agreements as of December 31, 2018. Availability of lines
is subject to federal funds balances available for loan and continued borrower eligibility. These lines are intended to support short-term liquidity
74
needs and the agreements may restrict consecutive day usage. Management believes it has adequate resources and funding potential to meet
our foreseeable liquidity requirements.
Banner Corporation is a separate legal entity from the Banks and, on a stand-alone level, must provide for its own liquidity and pay its own
operating expenses and cash dividends. Banner's primary sources of funds consist of capital raised through dividends or capital distributions
from the Banks, although there are regulatory restrictions on the ability of the Banks to pay dividends. At December 31, 2018, Banner Corporation
(on an unconsolidated basis) had liquid assets of $38.0 million.
As noted below, Banner Corporation and its subsidiary banks continued to maintain capital levels in excess of the requirements to be categorized
as “Well-Capitalized” under applicable regulatory standards. During the year ended December 31, 2018, total equity increased $206.0 million
to $1.48 billion. At December 31, 2018, tangible common shareholders’ equity, which excludes goodwill and other intangible assets, was $1.11
billion, or 9.62% of tangible assets. See the discussion and reconciliation of non-GAAP financial information above in the Executive Overview
section of this Management’s Discussion and Analysis of Financial Condition and Results of Operation for more detailed information with
respect to tangible common shareholders’ equity. Also, see the capital requirements discussion and table below with respect to our regulatory
capital positions.
Capital Requirements
Banner Corporation is a bank holding company registered with the Federal Reserve. Bank holding companies are subject to capital adequacy
requirements of the Federal Reserve under the Bank Holding Company Act of 1956, as amended (BHCA), and the regulations of the Federal
Reserve. Banner Bank and Islanders Bank, as state-chartered, federally insured commercial banks, are subject to the capital requirements
established by the FDIC.
The capital adequacy requirements are quantitative measures established by regulation that require Banner Corporation and the Banks to maintain
minimum amounts and ratios of capital. The Federal Reserve requires Banner Corporation to maintain capital adequacy that generally parallels
the FDIC requirements. The FDIC requires the Banks to maintain minimum ratios of Total Capital, Tier 1 Capital, and Common Equity Tier 1
Capital to risk-weighted assets as well as Tier 1 leverage capital to average assets. In addition to the minimum capital ratios, the Banks now
have to maintain a capital conservation buffer consisting of additional Common Equity Tier 1 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 capital conservation buffer requirement was phased in starting in January 2016
at 0.625% of risk-weighted assets and increased each year to an amount greater than 2.5% of risk-weighted assets in January 2019. At December 31,
2018, Banner Corporation and the Banks each exceeded all current regulatory capital requirements.
The following table shows the regulatory capital ratios of Banner Corporation and its subsidiaries, Banner Bank and Islanders Bank, as of
December 31, 2018.
Table 22: Regulatory Capital Ratios
Capital Ratios
Banner Corporation
Banner Bank
Islanders Bank
Total capital to risk-weighted assets
Tier 1 capital to risk-weighted assets
Tier 1 capital to average leverage assets
Tier 1 common equity to risk-weighted assets
13.12%
12.12
10.98
10.75
12.50%
11.51
10.50
11.51
18.26%
17.01
11.16
17.01
(See Item 1, “Business–Regulation,” and Note 16 of the Notes to the Consolidated Financial Statements for additional information regarding
Banner Corporation’s and Banner Bank’s regulatory capital requirements.)
Effect of Inflation and Changing Prices
The Consolidated Financial Statements and related financial data presented herein have been prepared in accordance with accounting principles
generally accepted in the United States of America, which require the measurement of financial position and operating results in terms of historical
dollars, without considering the changes in relative purchasing power of money over time due to inflation. The primary effect of inflation on
our operations is reflected in increased operating costs. Unlike most industrial companies, virtually all the assets and liabilities of a financial
institution are monetary in nature. As a result, interest rates generally have a more significant effect on a financial institution’s performance
than do general levels of inflation. Interest rates do not necessarily move in the same direction or to the same extent as the prices of goods and
services.
75
Contractual Obligations
The following table shows the obligations of Banner Corporation and its subsidiaries as of December 31, 2018 by maturity (in thousands):
Table 23: Contractual Obligations
One Year or
Less
After One to
Three Years
After Three to
Five Years
After Five
Years
Advances from Federal Home Loan Bank
$
540,000
$
Junior subordinated debentures
Repurchase agreements
Certificates of Deposit
Operating lease obligations
Purchase obligation
—
118,995
1,001,206
10,876
20,760
— $
—
— $
—
—
292,166
19,935
33,731
—
24,646
10,964
8,651
189
$
140,212
—
2,247
11,225
610
Total
540,189
140,212
118,995
1,320,265
53,000
63,752
Total
$
1,691,837
$
345,832
$
44,261
$
154,483
$
2,236,413
In addition, we have contracts with various vendors to provide services, including information processing, for periods generally ranging from
one to five years, for which our financial obligations are dependent upon acceptable performance by the vendor. For additional information
regarding future financial commitments, this discussion should be read in conjunction with our Consolidated Financial Statements and related
notes included elsewhere in this filing, including Note 23: “Commitments and Contingencies.”
ITEM 7A – Quantitative and Qualitative Disclosures About Market Risk
See pages 70–74 of Management’s Discussion and Analysis of Financial Condition and Results of Operations.
ITEM 8 – Financial Statements and Supplementary Data
For financial statements, see index on page 83.
ITEM 9 – Changes in and Disagreements with Accountants on Accounting and Financial Disclosure
Not applicable.
ITEM 9A – Controls and Procedures
The management of Banner Corporation is responsible for establishing and maintaining adequate internal control over financial reporting, as
such term is defined in Rule 13a-15(f) of the Securities Exchange Act of 1934 (Exchange Act). A control procedure, no matter how well conceived
and operated, can provide only reasonable, not absolute, assurance that its objectives 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
Company have been detected. Additionally, in designing disclosure controls and procedures, our 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 also is 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. As a result of these inherent limitations, internal control over
financial reporting may not prevent or detect misstatements. Further, projections of any evaluation of effectiveness to future periods are subject
to risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures
may deteriorate.
(a) Evaluation of Disclosure Controls and Procedures: An evaluation of our disclosure controls and procedures (as defined in Rule 13a-15(e)
of the Exchange Act) was carried out under the supervision and with the participation of our Chief Executive Officer, Chief Financial Officer
and several other members of our senior management as of the end of the period covered by this report. Based on their evaluation, our Chief
Executive Officer and Chief Financial Officer concluded that, as of December 31, 2018, our disclosure controls and procedures were effective
in ensuring that the information required to be disclosed by us in the reports we file or submit under the Exchange Act is (i) accumulated and
communicated to our 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. The scope of management’s assessment of
the effectiveness of the design and operation of the Company’s disclosure controls and procedures as of December 31, 2018 includes all of the
Company’s consolidated operations except for those disclosure controls and procedures of Skagit that are subsumed by internal control over
financial reporting.
(b) Changes in Internal Controls Over Financial Reporting: For the year ended December 31, 2018, there was no change in our internal control
over financial reporting that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.
76
Management’s Annual Report on Internal Control over Financial Reporting: Pursuant to Section 404 of the Sarbanes-Oxley Act of 2002, we
included a report of management’s assessment of the effectiveness of its internal controls as part of this Annual Report on Form 10-K for the
year ended December 31, 2018. We are in the process of evaluating the existing controls and procedures of Skagit and integrating Skagit into
our internal control over financial reporting. In accordance with SEC Staff guidance permitting a company to exclude an acquired business
from management’s assessment of the effectiveness of internal control over financial reporting for the year in which the acquisition is completed,
we have elected to exclude the non-integrated branches, systems, operations and related loans and deposits of Skagit, and Skagit Bank, from
management's assessment of the effectiveness of the Company's internal control over financial reporting as of December 31, 2018. The loans
and deposits of Skagit and Skagit Bank represented $628 million, or 7%, and $798 million, or 8%, respectively, of the Company’s total loans
and deposits as reported in our consolidated financial statements as of December 31, 2018. Our assessment of the internal control over financial
reporting of the Company also excluded an evaluation of the internal control over financial reporting of the non-integrated branches, systems,
operations and related loans and deposits that were formerly part of Skagit and Skagit Bank.
ITEM 9B – Other Information
None.
77
ITEM 10 – Directors, Executive Officers and Corporate Governance
PART III
The information required by this item contained under the section captioned “Proposal 1– Election of Directors,” “Meetings and Committees
of the Board of Directors” and “Shareholder Proposals” in the Proxy Statement for the Annual Meeting of Shareholders, which will be filed with
the SEC no later than 120 days after the end of our fiscal year, is incorporated herein by reference.
Information regarding the executive officers of the Registrant is provided herein in Part I, Item 1 hereof.
The information regarding our Audit Committee and Financial Expert included under the sections captioned “Meetings and Committees of the
Board of Directors” and “Audit Committee Matters” in the Proxy Statement for the Annual Meeting of Shareholders, which will be filed with
the SEC no later than 120 days after the end of our fiscal year, is incorporated herein by reference.
Reference is made to the cover page of this Annual Report and the section captioned “Section 16(a) Beneficial Ownership Reporting Compliance”
of the Proxy Statement for the Annual Meeting of the Shareholders, which will be filed with the SEC no later than 120 days after the end of our
fiscal year, regarding compliance with Section 16(a) of the Securities Exchange Act of 1934.
Code of Ethics
The Board of Directors adopted a Code of Ethics and Business Conduct for our officers (including its senior financial officers), directors, and
employees. The Code of Ethics and Business Conduct requires our officers, directors, and employees to maintain the highest standards of
professional conduct. A copy of the Code of Ethics and Business Conduct was filed as an exhibit with Form 8-K on July 20, 2018 and is available
without charge, upon request to Investor Relations, Banner Corporation, P.O. Box 907, Walla Walla, WA 99362. The Code is also available on
Banner's website at www.bannerbank.com.
Whistleblower Program and Protections
We subscribe to the Ethicspoint reporting system and encourage employees, customers, and vendors to call the Ethicspoint hotline at 1-866-
ETHICSP (384-4277) or visit its website at www.Ethicspoint.com to report any concerns regarding financial statement disclosures, accounting,
internal controls, or auditing matters. We will not retaliate against any of our officers or employees who raise legitimate concerns or questions
about an ethics matter or a suspected accounting, internal control, financial reporting, or auditing discrepancy or otherwise assists in investigations
regarding conduct that the employee reasonably believes to be a violation of Federal Securities Laws or any rule or regulation of the SEC, Federal
Securities Laws relating to fraud against shareholders or violations of applicable banking laws. Non-retaliation against employees is fundamental
to our Code of Ethics and there are strong legal protections for those who, in good faith, raise an ethical concern or a complaint about their
employer.
ITEM 11 – Executive Compensation
Information required by this item regarding management compensation and employment contracts, director compensation, and Compensation
Committee interlocks and insider participation in compensation decisions is incorporated by reference to the sections captioned “Executive
Compensation,” “Directors’ Compensation,” and “Compensation Discussion and Analysis,” respectively, in the Proxy Statement for the Annual
Meeting of Shareholders, which will be filed with the SEC no later than 120 days after the end of our fiscal year.
ITEM 12 – Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters
(a) Security Ownership of Certain Beneficial Owners and Management
Information required by this item is incorporated herein by reference to the section captioned "Security Ownership of Certain Beneficial Owners
and Management" in the proxy statement for the Annual Meeting of Shareholders, which will be filed with the Securities and Exchange
Commission no later than 120 days after the end of our fiscal year.
(b) Security Ownership of Management
Information required by this item is incorporated herein by reference to the section captioned "Security Ownership of Certain Beneficial Owners
and Management" in the proxy statement for the Annual Meeting of Shareholders, which will be filed with the Securities and Exchange
Commission no later than 120 days after the end of our fiscal year.
(c) Change in Control
Banner Corporation is not aware of any arrangements, including any pledge by any person of securities of Banner Corporation, the operation
of which may at a subsequent date result in a change in control of Banner Corporation.
78
ITEM 13 – Certain Relationships and Related Transactions, and Director Independence
The information required by this item contained under the sections captioned “Related Party Transactions” and “Director Independence” in the
Proxy Statement for the Annual Meeting of Shareholders, which will be filed with the SEC no later than 120 days after the end of our fiscal year,
is incorporated herein by reference.
ITEM 14 – Principal Accounting Fees and Services
The information required by this item contained under the section captioned “Proposal 4– Ratification of Selection of Independent Registered
Public Accounting Firm” in the Proxy Statement for the Annual Meeting of Shareholders, which will be filed with the SEC no later than 120
days after the end of our fiscal year, is incorporated herein by reference.
79
ITEM 15 – Exhibits and Financial Statement Schedules
PART IV
(a)
(1)
Financial Statements
See Index to Consolidated Financial Statements on page 83.
(2)
Financial Statement Schedules
All financial statement schedules are omitted because they are not applicable or not required, or because the required information
is included in the Consolidated Financial Statements or the Notes thereto or in Part 1, Item 1.
(3)
Exhibits
See Index of Exhibits on page 148.
(b)
Exhibits
See Index of Exhibits on page 148.
80
Item 16 - Form 10-K Summary.
None.
81
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.
Date: February 25, 2019
Banner Corporation
/s/ Mark J. Grescovich
Mark J. Grescovich
President and Chief Executive Officer
(Principal Executive Officer)
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of
the registrant and in the capacities and on the dates indicated.
/s/ Mark J. Grescovich
Mark J. Grescovich
President and Chief Executive Officer; Director
(Principal Executive Officer)
/s/ Peter J. Conner
Peter J. Conner
Executive Vice President and Chief Financial Officer
(Principal Financial and Accounting Officer)
Date: February 25, 2019
/s/ John R. Layman
John R. Layman
Director
Date: February 25, 2019
/s/ Connie R. Collingsworth
Connie R. Collingsworth
Director
Date: February 25, 2019
/s/ Gary Sirmon
Gary Sirmon
Chairman of the Board
Date: February 25, 2019
/s/ Brent A. Orrico
Brent A. Orrico
Director
Date: February 25, 2019
/s/ Cheryl R. Bishop
Cheryl R. Bishop
Director
Date: February 25, 2019
/s/ Roberto R. Herencia
Roberto R. Herencia
Director
Date: February 25, 2019
/s/ Terry Schwakopf
Terry Schwakopf
Director
Date: February 25, 2019
Date: February 25, 2019
/s/ Robert D. Adams
Robert D. Adams
Director
Date: February 25, 2019
/s/ David I. Matson
David I. Matson
Director
Date: February 25, 2019
/s/ Merline Saintil
Merline Saintil
Director
Date: February 25, 2019
/s/ Gordon E. Budke
Gordon E. Budke
Director
Date: February 25, 2019
/s/ David A. Klaue
David A. Klaue
Director
Date: February 25, 2019
/s/ Kevin F. Riordan
Kevin F. Riordan
Director
Date: February 25, 2019
82
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
BANNER CORPORATION AND SUBSIDIARIES
(Item 8 and Item 15(a)(1))
Report of Management
Management Report on Internal Control Over Financial Reporting
Report of Independent Registered Public Accounting Firm
Consolidated Statements of Financial Condition as of December 31, 2018 and 2017
Consolidated Statements of Operations for the Years Ended December 31, 2018, 2017 and 2016
Consolidated Statements of Comprehensive Income for the Years Ended December 31, 2018, 2017 and 2016
Consolidated Statements of Changes in Shareholders’ Equity for the Years Ended December 31, 2018, 2017 and 2016
Consolidated Statements of Cash Flows for the Years Ended December 31, 2018, 2017 and 2016
Notes to the Consolidated Financial Statements
Page
84
84
86
88
89
90
91
93
95
83
February 25, 2019
Report of Management
To the Shareholders:
The management of Banner Corporation (the Company) is responsible for the preparation, integrity, and fair presentation of its published financial
statements and all other information presented in this annual report. The financial statements have been prepared in accordance with accounting
principles generally accepted in the United States of America and, as such, include amounts based on informed judgments and estimates made
by management. In the opinion of management, the financial statements and other information herein present fairly the financial condition and
operations of the Company at the dates indicated in conformity with accounting principles generally accepted in the United States of America.
Management is responsible for establishing and maintaining an effective system of internal control over financial reporting. The internal control
system is augmented by written policies and procedures and by audits performed by an internal audit staff (assisted in certain instances by
contracted external audit resources other than the independent registered public accounting firm), which reports to the Audit Committee of the
Board of Directors. Internal auditors monitor the operation of the internal and external control system and report findings to management and
the Audit Committee. When appropriate, corrective actions are taken to address identified control deficiencies and other opportunities for
improving the system. The Audit Committee provides oversight to the financial reporting process. There are inherent limitations in the
effectiveness of any system of internal control, including the possibility of human error and circumvention or overriding of controls. Accordingly,
even an effective internal control system can provide only reasonable assurance with respect to financial statement preparation. Further, because
of changes in conditions, the effectiveness of an internal control system may vary over time.
The Audit Committee of the Board of Directors is comprised entirely of outside directors who are independent of the Company’s management. The
Audit Committee is responsible for the selection of the independent auditors. It meets periodically with management, the independent auditors
and the internal auditors to ensure that they are carrying out their responsibilities. The Committee is also responsible for performing an oversight
role by reviewing and monitoring the financial, accounting, and auditing procedures of the Company in addition to reviewing the Company’s
financial reports. The independent auditors and the internal auditors have full and free access to the Audit Committee, with or without the
presence of management, to discuss the adequacy of the internal control structure for financial reporting and any other matters which they believe
should be brought to the attention of the Committee.
Mark J. Grescovich, Chief Executive Officer
Peter J. Conner, Chief Financial Officer
Management Report on Internal Control over Financial Reporting
February 25, 2019
The management of Banner Corporation is responsible for establishing and maintaining adequate internal control over financial reporting as
defined in Rule 13a-15(f) under the Securities Exchange Act of 1934. The Company's internal control system is designed to provide
reasonable assurance to our management and Board of Directors regarding the reliability of financial reporting and the preparation of
financial statements for external purposes in accordance with generally accepted accounting principles. The Company's internal control over
financial reporting includes those policies and procedures that:
Pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the
Company's assets;
Provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in
accordance with generally accepted accounting principles, and that receipts and expenditures of the Company are being made only
in accordance with the authorizations of management and directors of the Company; and
Provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use or disposition of the
Company's assets that could have a material effect on the financial statements.
Because of its inherent limitations, including the possibility of human error and circumvention or overriding of controls, internal control over
financial reporting may not prevent or detect misstatements. Also projections of any evaluation of effectiveness to future periods are subject
to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or
procedures may deteriorate.
Management assessed the effectiveness of the Company's internal control over financial reporting as of December 31, 2018. This assessment
was based on the criteria set forth by the Committee of Sponsoring Organizations of the Treadway Commission in Internal Control -
84
Integrated Framework (2013). Based on this assessment and those criteria, management believes that, as of December 31, 2018, the
Company maintained effective internal control over financial reporting.
On November 1, 2018, the Company completed its acquisition of Skagit Bancorp, Inc. (Skagit) and its subsidiary, Skagit Bank. Skagit Bank
was merged into Banner Bank, a wholly owned subsidiary of the Company, on November 1, 2018. As of December 31, 2018, the majority of
the acquired systems and operations of Skagit and Skagit Bank, including the branches, loans, deposits and core operating system, had not
been converted to the Company’s systems or integrated into its operations. As permitted by the Securities and Exchange Commission,
management elected to exclude the non-integrated branches, systems, operations and related loans and deposits of Skagit, and Skagit Bank,
from management's assessment of the effectiveness of the Company's internal control over financial reporting as of December 31, 2018. The
loans and deposits of Skagit and Skagit Bank represented $628 million, or 7%, and $798 million, or 8%, respectively, of the Company’s total
loans and deposits as reported in our consolidated financial statements as of December 31, 2018. Our assessment of the internal control over
financial reporting of the Company also excluded an evaluation of the internal control over financial reporting of the non-integrated branches,
systems, operations and related loans and deposits that were formerly part of Skagit and Skagit Bank.
The Company's independent registered public accounting firm has audited the Company's consolidated financial statements that are included
in this annual report and the effectiveness of our internal control over financial reporting as of December 31, 2018 and issued their Report of
Independent Registered Public Accounting Firm, appearing under Item 8. The audit report expresses an unqualified opinion on the
effectiveness of the Company's internal control over financial reporting as of December 31, 2018.
85
Report of Independent Registered Public Accounting Firm
To the Shareholders and the Board of Directors of
Banner Corporation and Subsidiaries
Opinions on the Financial Statements and Internal Control over Financial Reporting
We have audited the accompanying consolidated statements of financial condition of Banner Corporation and Subsidiaries (the “Company”)
as of December 31, 2018 and 2017, the related consolidated statements of operations, comprehensive income, changes in shareholders’
equity, and cash flows for each of the three years in the period ended December 31, 2018, and the related notes (collectively referred to as the
“consolidated financial statements”). We also have audited the Company’s internal control over financial reporting as of December 31, 2018,
based on criteria established in Internal Control - Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the
Treadway Commission (COSO).
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the consolidated financial
position of the Company as of December 31, 2018 and 2017, and the consolidated results of its operations and its cash flows for each of the
three years in the period ended December 31, 2018, in conformity with accounting principles generally accepted in the United States of
America. Also in our opinion, the Company maintained, in all material respects, effective internal control over financial reporting as of
December 31, 2018, based on criteria established in Internal Control - Integrated Framework (2013) issued by COSO.
Basis for Opinions
The Company’s management is responsible for these consolidated financial statements, for maintaining effective internal control over
financial reporting, and for its assessment of the effectiveness of internal control over financial reporting, included in the accompanying
Management Report on Internal Control over Financial Reporting. Our responsibility is to express an opinion on the Company’s
consolidated financial statements and an opinion on the Company’s internal control over financial reporting based on our audits. We are a
public accounting firm registered with the Public Company Accounting Oversight Board (United States) (“PCAOB”) and are required to be
independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the
Securities and Exchange Commission and the PCAOB.
We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audits to
obtain reasonable assurance about whether the consolidated financial statements are free of material misstatement, whether due to error or
fraud, and whether effective internal control over financial reporting was maintained in all material respects.
Our audits of the consolidated financial statements included performing procedures to assess the risks of material misstatement of the
consolidated financial statements, whether due to error or fraud, and performing procedures to respond to those risks. Such procedures
included examining, on a test basis, evidence regarding the amounts and disclosures in the consolidated financial statements. Our audits also
included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall
presentation of the consolidated financial statements. Our audit of internal control over financial reporting included obtaining an
understanding of internal control over financial reporting, assessing the risk that a material weakness exists, and testing and evaluating the
design and operating effectiveness of internal control based on the assessed risk. Our audits also included performing such other procedures
as we considered necessary in the circumstances. We believe that our audits provide a reasonable basis for our opinions.
As discussed in Management’s Report on Internal Control Over Financial Reporting, on November 1, 2018, the Company acquired Skagit
Bancorp, Inc. and its subsidiary, Skagit Bank (“Skagit”). For the purposes of assessing internal control over financial reporting, management
excluded the non-integrated branches, systems, operations and related loans and deposits of Skagit. The loans and deposits of Skagit
represented $628 million, or 7%, and $798 million, or 8%, respectively, of the Company’s consolidated total loans and deposits as reported in
the consolidated financial statements as of December 31, 2018. Accordingly, our audit did not include the internal control over financial
reporting of the non-integrated branches, systems, operations and related loans and deposits of Skagit.
Definition and Limitations of Internal Control Over Financial Reporting
A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of
financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting
principles. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of
records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide
reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally
accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of
management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized
acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.
86
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any
evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or
that the degree of compliance with the policies or procedures may deteriorate.
/s/ Moss Adams LLP
Portland, Oregon
February 25, 2019
We have served as the Company’s auditor since 2004.
87
BANNER CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION
(in thousands, except shares)
December 31, 2018 and 2017
ASSETS
Cash and due from banks
Interest bearing deposits
Total cash and cash equivalents
Securities—trading, amortized cost $27,203 and $27,246, respectively
Securities—available-for-sale, amortized cost $1,648,421 and $926,112, respectively
Securities—held-to-maturity, fair value $232,537 and $262,188, respectively
Federal Home Loan Bank (FHLB) stock
Loans held for sale (includes $164.8 million and $32.4 million, respectively, at fair value)
Loans receivable
Allowance for loan losses
Net loans
Accrued interest receivable
Real estate owned (REO), held for sale, net
Property and equipment, net
Goodwill
Other intangible assets, net
Bank-owned life insurance (BOLI)
Deferred tax assets, net
Other assets
Total assets
LIABILITIES
Deposits:
Non-interest-bearing
Interest-bearing transaction and savings accounts
Interest-bearing certificates
Total deposits
Advances from FHLB
Other borrowings
Junior subordinated debentures at fair value (issued in connection with Trust Preferred Securities)
Accrued expenses and other liabilities
Deferred compensation
Total liabilities
COMMITMENTS AND CONTINGENCIES (Note 23)
SHAREHOLDERS’ EQUITY
Preferred stock - $0.01 par value per share, 500,000 shares authorized; no shares issued and outstanding
at December 31, 2018 and December 31, 2017
Common stock and paid in capital - $0.01 par value per share, 50,000,000 shares authorized,
35,107,839 shares issued and outstanding at December 31, 2018; 32,626,456 shares issued and
outstanding at December 31, 2017
Common stock (non-voting) and paid in capital - $0.01 par value per share, 5,000,000 shares
authorized; 74,933 shares issued and outstanding at December 31, 2018; 100,029 shares issued and
outstanding at December 31, 2017
Retained earnings
Accumulated other comprehensive income (loss)
Carrying value of shares held in trust for stock related compensation plans
Liability for common stock issued for stock related compensation plans
Total shareholders' equity
Total liabilities and shareholders' equity
See notes to consolidated financial statements
88
2018
2017
$
$
231,029
41,167
272,196
25,896
1,636,223
234,220
31,955
171,031
8,684,595
(96,485)
8,588,110
38,593
2,611
171,809
339,154
32,924
177,467
75,020
74,108
199,624
61,576
261,200
22,318
919,485
260,271
10,334
40,725
7,598,884
(89,028)
7,509,856
31,259
360
154,815
242,659
22,655
162,668
71,427
53,177
$
11,871,317
$
9,763,209
$
$
3,657,817
4,498,966
1,320,265
9,477,048
540,189
118,995
114,091
102,061
40,338
10,392,722
3,265,544
3,950,950
966,937
8,183,431
202
95,860
98,707
71,344
41,039
8,490,583
—
—
1,336,030
1,185,919
1,406
134,055
7,104
(7,289)
7,289
1,478,595
1,208
90,535
(5,036)
(7,351)
7,351
1,272,626
$
11,871,317
$
9,763,209
BANNER CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(in thousands except for per share amounts)
For the Years Ended December 31, 2018, 2017 and 2016
2018
2017
2016
INTEREST INCOME:
Loans receivable
Mortgage-backed securities
Securities and cash equivalents
Total interest income
INTEREST EXPENSE:
Deposits
FHLB advances
Other borrowings
Junior subordinated debentures
Total interest expense
Net interest income before provision for loan losses
PROVISION FOR LOAN LOSSES
Net interest income
NON-INTEREST INCOME
Deposit fees and other service charges
Mortgage banking operations
BOLI
Miscellaneous
Net (loss) gain on sale of securities
Net change in valuation of financial instruments carried at fair value
Gain on sale of branches, including related loans and deposits
Total non-interest income
NON-INTEREST EXPENSE:
Salary and employee benefits
Less capitalized loan origination costs
Occupancy and equipment
Information/computer data services
Payment and card processing expenses
Professional and legal expenses
Advertising and marketing
Deposit insurance
State/municipal business and use taxes
REO operations
Amortization of core deposit intangibles
Miscellaneous
Acquisition related costs
Total non-interest expense
Income before provision for income taxes
PROVISION FOR INCOME TAXES
NET INCOME
Earnings per common share
Basic
Diluted
Cumulative dividends declared per common share
$
$
$
$
$
413,370
35,076
15,186
463,632
20,642
5,636
245
6,136
32,659
430,973
8,500
422,473
48,074
21,343
4,505
7,148
81,070
(837)
3,775
—
84,008
202,613
(17,925)
49,215
18,823
15,412
17,945
8,346
4,446
3,284
804
6,047
26,754
335,764
5,607
341,371
165,110
28,595
136,515
4.16
4.15
1.96
$
$
$
$
$
374,449
24,535
13,300
412,284
12,273
1,908
317
4,752
19,250
393,034
8,000
385,034
43,452
20,880
4,618
8,985
77,935
(2,080)
(2,844)
12,189
85,200
192,096
(17,379)
47,866
17,245
14,330
17,534
8,637
4,689
2,594
(2,030)
6,246
27,142
318,970
—
318,970
151,264
90,488
60,776
1.85
1.84
2.00
$
$
$
$
$
359,612
19,328
12,537
391,477
11,105
953
310
4,040
16,408
375,069
6,030
369,039
41,911
25,552
4,538
6,001
78,002
843
(2,620)
—
76,225
180,883
(18,895)
45,000
19,281
14,359
8,120
9,709
4,551
3,516
175
7,061
30,131
303,891
11,733
315,624
129,640
44,255
85,385
2.52
2.52
0.88
Weighted average number of common shares outstanding:
Basic
Diluted
32,784,724
32,894,425
32,888,007
32,986,707
33,820,148
33,853,511
See notes to the consolidated financial statements
89
BANNER CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(in thousands)
For the Years Ended December 31, 2018, 2017 and 2016
2018
2017
2016
NET INCOME
$
136,515
$
60,776
$
85,385
OTHER COMPREHENSIVE LOSS, NET OF INCOME TAXES:
Unrealized holding loss on securities—available-for-sale arising during the period
Reclassification for net losses (gains) on securities—available-for-sale realized in
earnings
Changes in fair value of junior subordinated debentures related to instrument
specific credit risk
Income tax related to other comprehensive income (loss)
Other comprehensive loss
COMPREHENSIVE INCOME
(6,547)
839
(15,384)
5,028
(16,064)
(3,318)
2,109
—
423
(786)
(3,940)
(311)
—
1,526
(2,725)
$
120,451
$
59,990
$
82,660
See notes to the consolidated financial statements
90
BANNER CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS’ EQUITY
(in thousands, except shares)
For the Years Ended December 31, 2018, 2017 and 2016
Common Stock
and Paid in Capital
Shares
Amount
Retained
Earnings
Accumulated
Other
Comprehensive
Loss
Shareholders'
Equity
34,242,255
$
1,261,174
$
39,615
$
(730) $
1,300,059
Balance, January 1, 2016
Net income
Other comprehensive loss
Accrual of dividends on common stock ($0.88/share-cumulative)
Repurchase of common stock
Amortization of stock-based compensation related to restricted stock grants, net of shares
surrendered
Excess tax benefits on stock-based compensation
(1,145,250)
(50,772)
96,382
3,401
34
85,385
(29,672)
(2,725)
85,385
(2,725)
(29,672)
(50,772)
3,401
34
Balance, December 31, 2016
Balance, January 1, 2017
Net income
Other comprehensive loss
Reclassification of stranded tax effects from accumulated other comprehensive loss to
retained earnings
Accrual of dividends on common stock ($2.00/share-cumulative)
Repurchase of common stock
Amortization of stock-based compensation related to restricted stock grants, net of shares
surrendered
Balance, December 31, 2017
33,193,387
$
1,213,837
$
95,328
$
(3,455) $
1,305,710
33,193,387
$
1,213,837
$
95,328
$
(3,455) $
1,305,710
60,776
795
(66,364)
(786)
(795)
60,776
(786)
—
(66,364)
(31,045)
4,335
(545,166)
(31,045)
78,264
4,335
32,726,485
$
1,187,127
$
90,535
$
(5,036) $
1,272,626
(Continued on next page)
91
BANNER CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS’ EQUITY
(continued) (in thousands, except shares)
For the Years Ended December 31, 2018, 2017 and 2016
Common Stock
and Paid in Capital
Shares
Amount
Retained
Earnings
Accumulated
Other
Comprehensive
Income (Loss)
Shareholders'
Equity
Balance, January 1, 2018
32,726,485
$
1,187,127
$
90,535
$
(5,036) $
1,272,626
Cumulative effect of reclassification of the instrument-specific credit risk portion of junior
subordinated debentures fair value adjustments and reclassification of equity securities from
available-for-sale
Net income
Other comprehensive loss
(28,204)
28,204
—
136,515
136,515
(16,064)
(16,064)
Accrual of dividends on common stock ($1.96/share-cumulative)
(64,791)
Repurchase of common stock
Amortization of stock-based compensation related to restricted stock grants, net of shares
surrendered
(594,711)
(34,401)
(57,073)
5,001
3,108,071
179,709
Issuance of shares for acquisition
Balance, December 31, 2018
(64,791)
(34,401)
5,001
179,709
35,182,772
$
1,337,436
$
134,055
$
7,104
$
1,478,595
See notes to the consolidated financial statements
92
BANNER CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)
For the Years Ended December 31, 2018, 2017 and 2016
OPERATING ACTIVITIES:
Net income
Adjustments to reconcile net income to net cash provided from (used by) operating
activities:
2018
2017
2016
$
136,515
$
60,776
$
85,385
Depreciation
Deferred income and expense, net of amortization
Amortization of core deposit intangibles
Loss (gain) on sale of securities, net
Net change in valuation of financial instruments carried at fair value
Purchases of securities—trading
Proceeds from sales of securities—trading
Principal repayments and maturities of securities—trading
Gain on sale of branches, including related loans and deposits
(Increase) decrease in deferred taxes
Increase (decrease) in current taxes payable
Equity-based compensation
Increase in cash surrender value of BOLI
Gain on sale of loans, net of capitalized servicing rights
Gain on disposal of real estate held for sale and property and equipment
Provision for loan loss
Provision for real estate held for sale
Origination of loans held for sale
Proceeds from sales of loans held for sale
Net change in:
Other assets
Other liabilities
Net cash provided from (used by) operating activities
INVESTING ACTIVITIES:
15,232
(6,571)
6,047
837
(3,775)
—
—
100
—
(3,498)
3,938
6,554
(4,471)
(15,066)
(833)
8,500
387
(896,461)
781,879
(15,861)
17,322
30,775
14,701
1,972
6,246
2,080
2,844
—
1,258
1,849
(12,189)
56,267
(2,965)
5,965
(4,057)
(15,225)
(4,295)
8,000
256
(807,137)
1,027,989
2,546
(179)
346,702
13,464
(1,323)
7,061
(843)
2,620
(1,725)
7,839
3,746
—
7,883
(2,184)
4,305
(4,507)
(17,713)
(1,389)
6,030
876
(1,063,328)
880,890
3,759
(6,664)
(75,818)
Purchases of securities—available-for-sale
(913,951)
(838,247)
(243,115)
Principal repayments and maturities of securities—available-for-sale
Proceeds from sales of securities—available-for-sale
Purchases of securities—held-to-maturity
Principal repayments and maturities of securities—held-to-maturity
Loan originations, net of repayments
Purchases of loans and participating interest in loans
Proceeds from sales of other loans
Net cash (paid) received from acquisitions and branch divestitures
Purchases of property and equipment
Proceeds from sale of real estate held for sale and sale of other property
Proceeds from FHLB stock repurchase program
Purchase of FHLB stock
Other
173,454
214,609
(9,612)
33,152
(416,218)
(33,680)
9,853
(1,574)
(23,094)
7,768
143,175
(163,683)
3,583
187,080
522,564
(6,490)
11,817
(288,951)
(126,508)
21,923
113,222
(12,244)
20,121
118,304
(116,132)
254
Net cash (used by) provided from investing activities
(976,218)
(393,287)
191,534
369,755
(60,344)
11,009
(75,922)
(235,527)
184,525
—
(16,239)
14,513
80,681
(77,130)
2,707
146,447
(Continued on next page)
93
BANNER CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(continued) (in thousands)
For the Years Ended December 31, 2018, 2017 and 2016
2018
2017
2016
FINANCING ACTIVITIES:
Increase in deposits, net
Repayment of long term FHLB borrowing
Advances, net of (repayments) of overnight and short-term FHLB borrowings
Increase (decrease) in other borrowings, net
Cash dividends paid
Cash paid for repurchase of common stock
Taxes paid related to net share settlement for equity awards
Net cash provided from (used by) financing activities
NET CHANGE IN CASH AND CASH EQUIVALENTS
CASH AND CASH EQUIVALENTS, BEGINNING OF YEAR
503,814
(10)
540,000
7,870
(59,280)
(34,401)
(1,554)
956,439
10,996
261,200
222,334
(9)
(54,000)
(9,825)
(65,759)
(31,045)
(1,630)
60,066
13,481
247,719
CASH AND CASH EQUIVALENTS, END OF YEAR
$
272,196
$
261,200
$
66,346
(95,009)
16,400
7,360
(28,282)
(50,772)
(870)
(84,827)
(14,198)
261,917
247,719
2018
2017
2016
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:
Interest paid in cash
Taxes paid in cash
$
28,098
$
18,875
$
21,664
35,500
NON-CASH INVESTING AND FINANCING TRANSACTIONS:
Loans, net of discounts, specific loss allowances and unearned income, transferred to
real estate owned and other repossessed assets
Dividends accrued but not paid until after period end
ACQUISITIONS (DISPOSITIONS):
Assets acquired (disposed)
Liabilities assumed (transferred)
1,645
13,778
915,821
832,278
10
8,226
(259,398)
(160,465)
16,722
36,153
9,146
7,662
—
—
See notes to consolidated financial statements
94
BANNER CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Note 1: BASIS OF PRESENTATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Nature of Business: Banner Corporation (Banner or the Company) is a bank holding company incorporated in the State of Washington. The
Company is primarily engaged in the business of planning, directing and coordinating the business activities of two wholly-owned subsidiaries,
Banner Bank and Islanders Bank. Banner Bank is a Washington-chartered commercial bank that conducts business from its headquarters in
Walla Walla, Washington and, as of December 31, 2018, its 179 branch offices located in Washington, Oregon, California and Idaho. Banner
Bank also has 17 loan production offices located in Washington, Oregon, California, Idaho and Utah. Islanders Bank is also a Washington-
chartered commercial bank that conducts business from three locations in San Juan County, Washington. Banner Corporation is subject to
regulation by the Board of Governors of the Federal Reserve System (Federal Reserve Board). Banner Bank and Islanders Bank (the Banks)
are subject to regulation by the Washington State Department of Financial Institutions, Division of Banks (DFI) and the Federal Deposit Insurance
Corporation (the FDIC).
The Company’s operating results depend primarily on its net interest income, which is the difference between interest income on interest-earning
assets, consisting of loans and investment securities, and interest expense on interest-bearing liabilities, composed primarily of customer deposits,
FHLB advances, other borrowings and junior subordinated debentures. Net income also is affected by the level of the Company’s non-interest
income, including deposit fees and other service charges, gains and losses on the sale of securities, results of mortgage banking operations, which
includes loan origination and servicing fees and gains and losses on the sale of loans, as well as non-interest expense, provisions for loan losses
and income tax provisions. In addition, net income is affected by the net change in the value of certain financial instruments carried at fair value.
Basis of Presentation and Principles of Consolidation: The consolidated financial statements include the accounts of the Company and its
wholly-owned subsidiaries. All material intercompany transactions, profits and balances have been eliminated. The consolidated financial
statements of the Company have been prepared in accordance with generally accepted accounting principles in the United States (GAAP) and
under the rules and regulations of the U.S. Securities and Exchange Commission (the SEC). At December 31, 2018, the Company had nine
wholly-owned subsidiary grantor trusts (the Trusts), which issued trust preferred securities and related common securities of the trusts. The
Trust subsidiaries are not included in the Company’s consolidated financial statements.
Subsequent Events: The Company has evaluated events and transactions subsequent to December 31, 2018 for potential recognition or disclosure.
Cash and Cash Equivalents: Cash and cash equivalents include cash and due from banks and temporary investments which are federal funds
sold and interest bearing balances due from other banks. Cash and cash equivalents generally have maturities of three months or less at the date
of purchase.
Business Combinations: Business combinations are accounted for using the acquisition method of accounting and, accordingly, assets acquired
and liabilities assumed, both tangible and intangible, and consideration exchanged are recorded at acquisition date fair values. The excess
purchase consideration over fair value of net assets acquired is recorded as goodwill. In the event that the fair value of net assets acquired
exceeds the purchase price, including fair value of liabilities assumed, a bargain purchase gain is recorded on that acquisition. Expenses incurred
in connection with a business combination are expensed as incurred, except for those items permitted to be capitalized under other GAAP.
Changes in deferred tax asset valuation allowances related to acquired tax uncertainties are recognized in net income after the measurement
period.
Use of Estimates: In the opinion of management, the accompanying consolidated statements of financial condition and related consolidated
statements of operations, comprehensive income, changes in shareholders’ equity and cash flows reflect all adjustments (which include
reclassification and normal recurring adjustments) that are necessary for a fair presentation in conformity with GAAP. The preparation of
financial statements in conformity with GAAP requires management to make estimates and assumptions that affect amounts reported in the
financial statements. Various elements of the Company’s accounting policies, by their nature, are inherently subject to estimation techniques,
valuation assumptions and other subjective assessments. In particular, management has identified several accounting policies that, due to the
judgments, estimates and assumptions inherent in those policies, are critical to an understanding of Banner’s financial statements. These policies
relate to (i) the methodology for the recognition of interest income, (ii) determination of the provision and allowance for loan and lease losses,
(iii) the valuation of financial assets and liabilities measured at fair value, including other-than-temporary impairment (OTTI) losses, (iv) the
valuation of intangible assets, such as goodwill, core deposit intangibles (CDI) and mortgage servicing rights, (v) the valuation of real estate
held for sale, (vi) the valuation or recognition of deferred tax assets and liabilities and (vii) the valuation of assets and liabilities acquired in
business combinations and subsequent recognition of related income and expense. These policies and judgments, estimates and assumptions
are described in greater detail in subsequent Notes to the Consolidated Financial Statements. Management believes that the judgments, estimates
and assumptions used in the preparation of the financial statements are appropriate based on the factual circumstances at the time. However,
given the sensitivity of the financial statements to these critical accounting policies, the use of other judgments, estimates and assumptions could
result in material differences in the Company’s results of operations or financial condition. Further, subsequent changes in economic or market
conditions could have a material impact on these estimates and the Company’s financial condition and operating results in future periods.
Securities: Debt securities are classified as held-to-maturity when the Company has the ability and positive intent to hold them to maturity. Debt
securities classified as available-for-sale are available for future liquidity requirements and may be sold prior to maturity. Debt securities classified
as trading are also available for future liquidity requirements and may be sold prior to maturity. Purchase premiums and discounts are recognized
in interest income using the interest method over the terms of the securities. Debt securities classified as held-to-maturity are carried at cost,
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adjusted for amortization of premiums and accretion of discounts to maturity and, if appropriate, any other-than-temporary impairment
losses. Debt securities classified as available-for-sale are measured at fair value. Unrealized holding gains and losses on debt securities classified
as available-for-sale are excluded from earnings and are reported net of tax as accumulated other comprehensive income (loss) (AOCI), a
component of shareholders’ equity, until realized. Debt securities classified as trading are also measured at fair value. Unrealized holding gains
and losses on securities classified as trading are included in earnings. (See Note 18 for a more complete discussion of accounting for the fair
value of financial instruments.) Declines in the fair value of debt securities below their cost that are deemed to be other-than-temporary are
recognized in earnings as realized losses. Realized gains and losses on sale are computed on the specific identification method and are included
in earnings on the trade date sold.
Beginning January 1, 2018, equity securities were required to be measured at fair value with changes in the fair value recognized through net
income. Prior to January 1, 2018 the Company had classified its equity securities as available-for-sale, subsequent to this date equity securities
are reported in other assets.
The Company reviews investment securities on an ongoing basis for the presence of OTTI or permanent impairment, taking into consideration
current market conditions, fair value in relationship to cost, extent and nature of the change in fair value, issuer rating changes and trends, whether
the Company intends to sell a security or if it is likely that it will be required to sell the security before recovery of the amortized cost basis of
the investment, which may be maturity, and other factors.
For debt securities, if the Company intends to sell the security or it is likely that the Company will be required to sell the security before recovering
its cost basis, the entire impairment loss would be recognized in earnings as an OTTI. If the Company does not intend to sell the security and
it is not likely that the Company will be required to sell the security but the Company does not expect to recover the entire amortized cost basis
of the security, only the portion of the impairment loss representing credit losses would be recognized in earnings. The credit loss on a security
is measured as the difference between the amortized cost basis and the present value of the cash flows expected to be collected. Projected cash
flows are discounted by the original or current effective interest rate depending on the nature of the security being measured for potential
OTTI. The remaining impairment related to all other factors, the difference between the present value of the cash flows expected to be collected
and fair value, is recognized as a charge to AOCI. Impairment losses related to all other factors are presented as separate categories within
AOCI.
For debt securities transferred from held-to-maturity to available-for-sale, unrealized gains or losses from the time of transfer are accreted or
amortized over the remaining life of the debt security based on the amount and timing of future estimated cash flows. The accretion or amortization
of the amount recorded in AOCI increases the carrying value of the investment and does not affect earnings.
Investment in FHLB Stock: At December 31, 2018, the Banks had $32.0 million in FHLB of Des Moines stock (FHLB stock), compared to
$10.3 million at December 31, 2017. FHLB stock does not have a readily determinable fair value. The Banks' investments in FHLB stock is
carried at cost or par value ($100 per share) adjusted for observable changes in market prices minus impairment. Ownership of FHLB stock is
restricted to the FHLB and member institutions and can only be purchased and redeemed at par, therefore they has been no observable changes
in market prices. As members of the FHLB system, the Banks are required to maintain a minimum level of investment in FHLB stock based
on specific percentages of their outstanding FHLB advances.
Management periodically evaluates FHLB stock for impairment. Management's determination of whether these investments are impaired is
based on its assessment of the ultimate recoverability of cost rather than by recognizing temporary declines in value. The determination of
whether a decline affects the ultimate recoverability of cost is influenced by criteria such as (1) the significance of any decline in net assets of
the FHLB as compared to the capital stock amount for the FHLB and the length of time this situation has persisted, (2) commitments by the
FHLB to make payments required by law or regulation and the level of such payments in relation to the operating performance of the FHLB,
(3) the impact of legislative and regulatory changes on institutions and, accordingly, the customer base of the FHLB, and (4) the liquidity position
of the FHLB. The Company has determined there is no impairment on the FHLB stock investment as of December 31, 2018.
Loans Receivable: The Banks originate residential one- to four-family and multifamily mortgage loans for both portfolio investment and sale
in the secondary market. The Banks also originate construction and land development, commercial real estate, commercial business, agricultural
and consumer loans for portfolio investment. Loans receivable not designated as held for sale are recorded at the principal amount outstanding,
net of allowance for loan losses, deferred fees, discounts and premiums. Premiums, discounts and deferred loan fees are amortized to maturity
using the level-yield methodology.
Some of the Company’s loans are reported as troubled debt restructures (TDRs). Loans are reported as TDRs when the Banks grant a concession(s)
to a borrower experiencing financial difficulties that it would not otherwise consider. Examples of such concessions include forgiveness of
principal or accrued interest, extending the maturity date(s) or providing a lower interest rate than would be normally available for a transaction
of similar risk. As a result of these concessions, loans identified as TDRs are impaired as the Banks will not collect all amounts due, both
principal and interest, in accordance with the terms of the original loan agreement. TDRs are accounted for in accordance with the Banks’
impaired loan accounting policies.
Loans Held for Sale. Residential one- to four-family and multifamily mortgage loans originated with the intent to be sold in the secondary
market are considered held for sale. Residential one- to four-family loans under best effort delivery commitments are carried at the lower of
aggregate cost or estimated market value. Residential one- to four-family loans under mandatory delivery commitments are carried at fair value
in order to match changes in the value of the loans with the value of the economic hedges on the loans. Fair values for residential mortgage
loans held for sale are determined by comparing actual loan rates to current secondary market prices for similar loans. During 2017, the Company
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elected fair value accounting on newly originated multifamily held-for-sale loans in order to match changes in the value of the loans with the
value of the economic hedges on the loans; as a result, multifamily held-for-sale loans are carried at fair value as of December 31, 2017 and
December 31, 2018. Fair values for multifamily loans held for sale are calculated based on discounted cash flows using a discount rate that is
a combination of market spreads for similar loan types added to selected index rates. Net unrealized losses on loans held for sale that are carried
at lower of cost or market are recognized through the valuation allowance by charges to income. Non-refundable fees and direct loan origination
costs related to loans held for sale are recognized as part of the cost basis of the loan. Gains and losses on sales of loans held for sale are
determined using the specific identification method and are recorded in the mortgage banking operations component of non-interest income.
Acquired Loans: Purchased loans, including loans acquired in business combinations, are recorded at their fair value at the acquisition date.
Credit discounts are included in the determination of fair value; therefore, an allowance for loan and lease losses is not recorded at the acquisition
date. Acquired loans are evaluated upon acquisition and classified as either purchased credit-impaired or purchased non-credit-impaired.
Purchased credit-impaired (PCI) loans reflect credit deterioration since origination such that it is probable at acquisition that the Company will
be unable to collect all contractually required payments. The excess of the cash flows expected to be collected over a PCI pool's carrying value
is considered to be the accretable yield and is recognized as interest income over the estimated life of the pool using the effective yield method.
The excess of the undiscounted contractual balances due over the cash flows expected to be collected is considered to be the nonaccretable
difference. The nonaccretable difference represents the Company's estimate of the credit losses expected to occur and was considered in
determining the fair value of the loans as of the acquisition date. Subsequent to the acquisition date, any increases in expected cash flows over
those expected at the purchase date are adjusted through a change to the accretable yield on a prospective basis. Any subsequent decreases in
expected cash flows attributable to credit deterioration are recognized by recording a provision for loan losses.
For purchased non-credit-impaired loans, the difference between the fair value and unpaid principal balance of the loan at the acquisition date
is amortized or accreted to interest income over the life of the loans. Any subsequent deterioration in credit quality is recognized by recording
a provision for loan losses.
Income Recognition on Nonaccrual and Impaired Loans and Securities: Interest on loans and securities is accrued as earned unless management
doubts the collectability of the asset or the unpaid interest. Interest accruals on loans are generally discontinued when loans become 90 days
past due for payment of interest or principal and the loans are then placed on nonaccrual status. All previously accrued but uncollected interest
is deducted from interest income upon transfer to nonaccrual status. For any future payments collected, interest income is recognized only upon
management’s assessment that there is a strong likelihood that the full amount of a loan will be repaid or recovered. A loan may be put on
nonaccrual status sooner than this policy would dictate if, in management’s judgment, the interest may be uncollectable. While less common,
similar interest reversal and nonaccrual treatment is applied to investment securities if their ultimate collectability becomes questionable.
Provision and Allowance for Loan Losses: The provision for loan losses reflects the amount required to maintain the allowance for loan losses
at an appropriate level based upon management’s evaluation of the adequacy of general and specific loss reserves. The Company maintains an
allowance for loan losses consistent in all material respects with GAAP. The Company has established systematic methodologies for the
determination of the adequacy of the Company’s allowance for loan losses. The methodologies are set forth in a formal policy and take into
consideration the need for a general valuation allowance as well as specific allowances that are tied to individual problem loans. The Company
increases its allowance for loan losses by charging provisions for probable loan losses against its income and values impaired loans consistent
with accounting guidelines.
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 loan portfolio and upon the Company’s continuing analysis of the factors underlying the quality of the loan portfolio. These factors include,
among others, changes in the size and composition of the loan portfolio, delinquency rates, actual loan loss experience, current economic
conditions, detailed analysis of individual loans for which full collectability may not be assured, and determination of the existence and realizable
value of the collateral and guarantees securing the loans. Realized losses related to specific assets are applied as a reduction of the carrying
value of the assets and charged immediately against the allowance for loan loss reserve. Recoveries on previously charged off loans are credited
to the allowance for loan losses. The reserve is based upon factors and trends identified by Banner at the time financial statements are
prepared. Although the Company uses the best information available, future adjustments to the allowance for loan losses may be necessary due
to economic, operating, regulatory and other conditions beyond the Company’s control. The adequacy of general and specific reserves is based
on a continuing evaluation of the pertinent factors underlying the quality of the loan portfolio as well as individual review of certain large balance
loans. Large groups of smaller-balance homogeneous loans are collectively evaluated for impairment. Loans that are collectively evaluated for
impairment include residential real estate and consumer loans and, as appropriate, smaller balance non-homogeneous loans. Larger balance
non-homogeneous residential construction and land, commercial real estate, commercial business loans and unsecured loans are individually
evaluated for impairment. Loans are considered impaired when, based on current information and events, the Company determines that it is
probable that it will be unable to collect all amounts due according to the contractual terms of the loan agreement. Factors involved in determining
impairment include, but are not limited to, the financial condition of the borrower and the value of the underlying collateral. Impaired loans are
measured based on the present value of expected future cash flows discounted at the loan’s effective interest rate or, as a practical expedient, at
the loan’s observable market price, or if the loan is collateral dependent, at the fair value of collateral less selling costs. Subsequent changes in
the value of impaired loans are included within the provision for loan losses in the same manner in which impairment initially was recognized
or as a reduction in the provision that would otherwise be reported.
The Company’s methodology for assessing the appropriateness of the allowance for loan losses consists of several key elements, which include
specific allowances, an allocated formula allowance and an unallocated allowance. Losses on specific loans are provided for when the losses
are probable and estimable. General loan loss reserves are established to provide for inherent loan portfolio risks not specifically provided
for. The level of general reserves is based on analysis of potential exposures existing in the loan portfolio including evaluation of historical
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trends, current market conditions and other relevant factors identified by us at the time the financial statements are prepared. The formula
allowance is calculated by applying loss factors to outstanding loans, excluding those loans that are subject to individual analysis for specific
allowances. Loss factors are based on the Company’s historical loss experience adjusted for significant environmental considerations, including
the experience of other banking organizations, which in the judgment of management affects the collectability of the loan portfolio as of the
evaluation date. The unallocated allowance is based upon the Company’s evaluation of various factors that are not directly measured in the
determination of the formula and specific allowances.
While the Company believes the estimates and assumptions used in the determination of the adequacy of the allowance for loan losses are
reasonable, there can be no assurance that such estimates and assumptions will not be proved incorrect in the future, or that the actual amount
of future provisions will not exceed the amount of past provisions or that any increased provisions that may be required will not adversely impact
the financial condition and results of operations of the Company. In addition, the determination of the amount of the allowance for loan losses
is subject to review by bank regulators as part of the routine examination process, which may result in the adjustment of reserves based upon
their judgment of information available to them at the time of their examination.
Loan Origination and Commitment Fees: Loan origination fees, net of certain specifically defined direct loan origination costs, are deferred
and recognized as an adjustment of the loans’ interest yield using the level-yield method over the contractual term of each loan adjusted for
actual loan prepayment experience. Net deferred fees or costs related to loans held for sale are recognized as part of the cost basis of the
loan. Loan commitment fees are deferred until the expiration of the commitment period unless management believes there is a remote likelihood
that the underlying commitment will be exercised, in which case the fees are amortized to fee income using the straight-line method over the
commitment period. If a loan commitment is exercised, the deferred commitment fee is accounted for in the same manner as a loan origination
fee. Deferred commitment fees associated with expired commitments are recognized as fee income.
Reserve for Unfunded Commitments: A reserve for unfunded commitments is maintained at a level that, in the opinion of management, is
adequate to absorb probable losses associated with the Banks' commitments to lend funds under existing agreements such as letters or lines of
credit. Management determines the adequacy of the reserve for unfunded commitments based upon reviews of individual credit facilities, current
economic conditions, the risk characteristics of the various categories of commitments and other relevant factors. The reserve is based on
estimates and ultimate losses may vary from the current estimates. These estimates are evaluated on a regular basis and, as adjustments become
necessary, they are reported in earnings in the periods in which they become known. Draws on unfunded commitments that are considered
uncollectible at the time funds are advanced are charged to the allowance for loan losses. Provisions for unfunded commitment losses are
recognized in non-interest expense and added to the reserve for unfunded commitments, which is included in other liabilities.
Real Estate Owned: Property acquired by foreclosure or deed in lieu of foreclosure is initially recorded at the estimated fair value of the property,
less expected selling costs. Development and improvement costs relating to the property are capitalized while direct holding costs are
expensed. The carrying value of the property is periodically evaluated by management and, if necessary, allowances are established to reduce
the carrying value to net realizable value. Gains or losses at the time the property is sold are charged or credited to operations in the period in
which they are realized. The amounts the Banks will ultimately recover from real estate held for sale may differ substantially from the carrying
value of the assets because of market factors beyond the Banks’ control or because of changes in the Banks’ strategies for recovering the
investment.
Property and Equipment: Property and equipment is carried at cost less accumulated depreciation. Depreciation is based upon the straight-
line method applied to individual assets and groups of assets acquired in the same year over the lesser of their estimated useful lives or the related
lease terms of the assets:
Buildings and leased improvements
Furniture and equipment
10–39 years
3–10 years
Routine maintenance, repairs and replacement costs are expensed as incurred. Expenditures which significantly increase values or extend useful
lives are capitalized. The Company reviews buildings, leasehold improvements and equipment for impairment whenever events or changes in
circumstances indicate that the undiscounted cash flows for the property are less than its carrying value. If identified, an impairment loss is
recognized through a charge to earnings based on the fair value of the property.
Property is classified as held for sale when the Company commits to plan to sale the property and is actively marketing the property for sale.
Held for sale property is recorded at the lower of the estimated fair value of the property, less expected selling costs, or the book value at the
date the property is transferred to held for sale. Depreciation is not recorded on held for sale property.
Goodwill: Goodwill represents the excess of the purchase consideration over the fair value of the assets acquired, net of the fair values of
liabilities assumed in a business combination and is not amortized but is reviewed annually, or more frequently as current circumstances and
conditions warrant, for impairment. The Company completes is annual review of goodwill as of December 31. An assessment of qualitative
factors is completed to determine if it is more likely than not that the fair value of a reporting unit is less than its carrying amount. If the qualitative
analysis concludes that further analysis is required, then a quantitative impairment test would be completed. The quantitative goodwill impairment
test is used to identify the existence of impairment and the amount of impairment loss and compares the reporting unit's estimated fair value,
including goodwill, to its carrying amount. If the fair value exceeds the carrying amount then goodwill is not considered impaired. If the carrying
amount exceeds its fair value, an impairment loss would be recognized equal to the amount of excess, limited to the amount of total goodwill
allocated to that reporting unit. The impairment loss would be recognized as a charge to earnings. The disposal of a portion of a reporting unit
that meets the definition of a business requires goodwill to be allocated for purposes of determining the gain or loss on disposal. Since the sale
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of the Utah branches in 2017 met the definition of a business, goodwill was allocated to the sale based on the fair value of the Utah branches
compared to the relative fair value of the reporting unit.
Other Intangible Assets: Other intangible assets consist primarily of core deposit intangibles (CDI), which are amounts recorded in business
combinations or deposit purchase transactions related to the value of transaction-related deposits and the value of the customer relationships
associated with the deposits. CDI is being amortized on an accelerated basis over a weighted average estimated useful life of three to ten
years. These assets are reviewed at least annually for events or circumstances that could impact their recoverability. These events could include
loss of the underlying core deposits, increased competition or adverse changes in the economy. To the extent other identifiable intangible assets
are deemed unrecoverable, impairment losses are recorded in other non-interest expense to reduce the carrying amount of the assets.
Other intangibles also include favorable leasehold intangibles (LHI). LHI represents the value assigned to leases assumed in an acquisition in
which the lease terms are favorable compared to a market lease at the date of acquisition. LHI is amortized over the underlying lease term and
is reviewed at least annually for events or circumstances that could impair the value.
Mortgage Servicing Rights: Servicing assets are recognized as separate assets when rights are acquired through purchase or sale of
loans. Generally, purchased servicing rights are capitalized at the cost to acquire the rights. For sales of mortgage loans, the value of the servicing
right is estimated and capitalized. Fair values are estimated based on an independent dealer analysis of discounted cash flows. Capitalized
servicing rights are reported in other assets and are amortized into mortgage banking operations in proportion to, and over the period of, the
estimated future net servicing income of the underlying financial assets.
Servicing assets are evaluated for impairment based upon the fair value of the rights as compared to amortized cost. Impairment is determined
by stratifying rights into tranches based on predominant risk characteristics for the underlying loans, such as interest rate, balance outstanding,
loan type, age and remaining term, and investor type. Impairment is recognized through a valuation allowance for an individual tranche, to the
extent that fair value is less than the capitalized amount for the tranche. If the Company later determines that all or a portion of the impairment
no longer exists for a particular tranche, a reduction of the allowance may be recorded as an increase to income.
Servicing fee income is recorded for fees earned for servicing loans and is reflected in mortgage banking operations on the Consolidated Statements
of Operations. The fees are based on a contractual percentage of the outstanding principal or a fixed amount per loan and are recorded as income
when earned. The amortization of mortgage servicing rights is netted against loan servicing fee income.
Bank-Owned Life Insurance (BOLI): The Banks have purchased, or acquired through mergers, life insurance policies in connection with the
implementation of certain executive supplemental income, salary continuation and deferred compensation retirement plans. These policies
provide protection against the adverse financial effects that could result from the death of a key employee and provide tax-exempt income to
offset expenses associated with the plans. It is the Banks’ intent to hold these policies as a long-term investment; however, there may be an
income tax impact if the Bank chooses to surrender certain policies. Although the lives of individual current or former management-level
employees are insured, the Banks are the respective owners and sole or partial beneficiaries. BOLI is carried at the cash surrender value (CSV)
of the underlying insurance contract. Changes in the CSV and any death benefits received in excess of the CSV are recognized as non-interest
income.
Derivative Instruments: Derivatives include “off-balance-sheet” financial products, the value of which is dependent on the value of underlying
financial assets, such as stock, bonds, foreign currency, or a reference rate or index. Such derivatives include “forwards,” “futures,” “options”
or “swaps.” Banner Bank is a party to $4.0 million (all of which is designated in a hedge relationship) in notional amounts of interest rate swaps
at December 31, 2018. Some of these swaps serve as hedges to an equal amount of fixed rate loans which include market value prepayment
penalties that mirror the provision of the specifically matched interest rate swaps. In addition, Banner Bank uses an interest rate swap program
for commercial loan customers that provides the client with a variable rate loan and enters into an interest rate swap allowing them to effectively
fix their loan interest rates. These customer swaps are matched with third party swaps with qualified broker/dealer or banks to offset the risk. At
December 31, 2018, Banner Bank had $272.4 million in notional amounts of these customer interest rate swaps outstanding, with an equal
amount of offsetting third party swaps also in place. The fair value adjustments for these swaps are reflected in other assets or other liabilities
as appropriate.
Further, as a part of its mortgage banking activities, the Company issues “rate lock” commitments to one- to four-family loan borrowers and
obtains offsetting “best efforts” delivery commitments from purchasers of loans. The Company uses forward contracts for the sale of mortgage-
backed securities and mandatory delivery commitments for the sale of loans to hedge one- to four-family loan "rate lock" commitments and one-
to four-family loans held for sale. The Company also uses forward contracts for the sale of mortgage backed securities to hedge multifamily
loans held for sale. The commitments to originate mortgage loans held for sale and the related delivery contracts are considered derivatives. The
Company recognizes all derivatives as either assets or liabilities in the balance sheet and requires measurement of those instruments at fair value
through adjustments to current earnings. None of these residential mortgage loan related derivatives are designated as hedging instruments for
accounting purposes. Rather, they are accounted for as free-standing derivatives, or economic hedges, and the Company reports changes in fair
values of its derivatives in current period net income. The fair values for these instruments, which generally change as a result of changes in
the level of market interest rates, are estimated based on dealer quotes and secondary market sources. Assumptions used include rate assumptions
based on historical information, current mortgage interest rates, the stage of completion of the underlying application and underwriting process,
the time remaining until the expiration of the derivative loan commitment, and the expected net future cash flows related to the associated
servicing of the loan (see Note 24 for a more complete discussion of derivatives and hedging).
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Transfers of Financial Assets: Transfers of financial assets are accounted for as sales when control over the assets has been surrendered. Control
over transferred assets is deemed to be surrendered when (1) the assets have been isolated from the Banks, (2) the transferee obtains the right
(free of conditions that constrain it from taking advantage of that right) to pledge or exchange the transferred assets, and (3) the Banks do not
maintain effective control over the transferred assets through an agreement to repurchase them before their maturity.
Advertising Expenses: Advertising costs are expensed as incurred. Costs related to production of advertising are considered incurred when the
advertising is first used.
Income Taxes: The Company files a consolidated income tax return including all of its wholly-owned subsidiaries on a calendar year
basis. Income taxes are accounted for using the asset and liability method. Under this method, a deferred tax asset or liability is determined
based on the enacted tax rates which will be in effect when the differences between the financial statement carrying amounts and tax basis of
existing assets and liabilities are expected to be reported in the Company’s income tax returns. The effect on deferred taxes of a change in tax
rates is recognized in income in the period of change. A valuation allowance is recognized as a reduction to deferred tax assets when management
determines it is more likely than not that deferred tax assets will not be available to offset future income tax liabilities.
In December 2017, the federal government enacted the Tax Cuts and Jobs Act (the 2017 Tax Act). Among other provisions, the 2017 Tax Act
reduced the federal marginal corporate income tax rate from 35% to21%. As a result of the passage of the 2017 Tax Act, the Company recorded
a $42.6 million charge for the revaluation of its net deferred tax asset to account for the future impact of the decrease in the corporate income
tax rate and other provisions of the legislation. The charge was recorded as an increase to tax expense and reduction of the net deferred asset
for the year ended December 31, 2017. The Company’s 2017 financial results reflect the income tax effects of the 2017 Tax Act for which the
accounting was complete and provisional amounts for those specific income tax effects of the 2017 Tax Act for which the accounting was
incomplete but a reasonable estimate could be determined. The $42.6 million charge recorded by the Company included a $4.2 million of
provisional income tax expense related to Alternative Minimum Tax (AMT) credits that are limited under Section 383 of the Internal Revenue
Code of 1986 (Code), which resulted in a reduction in the AMT deferred tax asset. The utilization of the limited AMT credits under the refundable
AMT credit law was uncertain as of December 31, 2017. Subsequently, in 2018 the Company determined it could use the AMT credits and
reversed the previously recorded $4.2 million provisional income tax expense.
Accounting standards for income taxes prescribe a recognition threshold and measurement process for financial statement recognition and
measurement of uncertain tax positions taken or expected to be taken in a tax return, and also provides guidance on the de-recognition of
previously recorded benefits and their classification, as well as the proper recording of interest and penalties, accounting in interim periods,
disclosures and transition. The Company periodically reviews its income tax positions based on tax laws and regulations and financial reporting
considerations, and records adjustments as appropriate. This review takes into consideration the status of current taxing authorities’ examinations
of the Company’s tax returns, recent positions taken by the taxing authorities on similar transactions, if any, and the overall tax environment.
As of December 31, 2018, the Company had an insignificant amount of unrecognized tax benefits for uncertain tax positions, none of which if
recognized would materially affect the effective tax rate. The Company does not anticipate that the amount of unrecognized tax benefits will
significantly increase or decrease in the next twelve months. The Company’s policy is to recognize interest and penalties on unrecognized tax
benefits in income tax expense. The amount of interest and penalties accrued for the years ended December 31, 2018, 2017 and 2016 is immaterial.
The Company files consolidated income tax returns in Oregon, California, Utah, Montana and Idaho and for federal purposes. The Company
has tax years 2015–2017 open for tax examination under the statute of limitation provisions of the Code.
Stock-Based Compensation: The Company maintains a number of stock-based incentive plans, which are discussed in more detail in Note 14,
Stock-Based Compensation Plans. Under these plans, the Company compensates employees and directors with time-based restricted stock and
restricted stock unit grants. Some restricted stock awards include performance-based and market-based goals that impact the number of shares
that ultimately vest based on the level of goal achievement. The Company measures the cost of employee or director services received in
exchange for an award of equity instruments based on the fair value of the award, which is the intrinsic value on the grant date. This cost is
recognized as expense in the Consolidated Statements of Operations ratably over the vesting period of the award. Any tax benefit or deficiency
is recorded as income tax benefit or expense in the period the shares vest. Excess tax benefits are classified along with other income tax cash
flows as an operating activity. The Company issues restricted stock and restricted stock unit awards which vest over a one or three year period
during which time the employee or director accrues or receives dividends and may have full voting rights depending on the terms of the grant.
Earnings Per Share: Earnings per common share is computed under the two-class method. Pursuant to the two-class method, nonvested stock-
based payment awards that contain nonforfeitable rights to dividends or dividend equivalents are participating securities and are included in the
computation of EPS. The two-class method is an earnings allocation formula that determines earnings per share for each class of common stock
and participating security according to dividends declared (or accumulated) and participation rights in undistributed earnings. Application of
the two-class method resulted in the equivalent earnings per share to the treasury method.
Basic earnings per common share is computed by dividing net earnings allocated to common shareholders by the weighted-average number of
common shares outstanding during the applicable period, excluding outstanding participating securities. Diluted earnings per common share is
computed using the weighted-average number of shares determined for the basic earnings per common share computation plus the dilutive effect
of stock compensation using the treasury stock method.
Comprehensive Income: Accounting principles generally require that recognized revenue, expenses, gains and losses be included in net
income. In addition, certain changes in assets and liabilities, such as unrealized gains and losses on available-for-sale securities, are reported as
100
a separate component of the equity section of the Consolidated Statements of Financial Condition, and such items, along with net income, are
components of comprehensive income which is reported in the Consolidated Statements of Comprehensive Income.
Business Segments: The Company is managed by legal entity and not by lines of business. Each of the Banks is a community oriented commercial
bank chartered in the State of Washington. The Banks’ primary business is that of a traditional banking institution, gathering deposits and
originating loans for portfolio in its respective primary market areas. The Banks offer a wide variety of deposit products to their consumer and
commercial customers. Lending activities include the origination of real estate, commercial/agriculture business and consumer loans. Banner
Bank is also an active participant in the secondary market, originating residential loans for sale on both a servicing released and servicing retained
basis. In addition to interest income on loans and investment securities, the Banks receive other income from deposit service charges, loan
servicing fees and from the sale of loans and investments. The performance of the Banks is reviewed by the Company’s executive management
and Board of Directors on a monthly basis. All of the executive officers of the Company are members of Banner Bank’s management team.
Generally Accepted Accounting Principles establish standards to report information about operating segments in annual financial statements and
require reporting of selected information about operating segments in interim reports to shareholders. The Company has determined that its
current business and operations consist of a single business segment and a single reporting unit.
Reclassification: Certain reclassifications have been made to the prior years’ consolidated financial statements and/or schedules to conform to
the current year’s presentation. These reclassifications may have affected certain reported amounts and ratios for the prior periods. These
reclassifications had no effect on retained earnings or net income as previously presented and the effect of these reclassifications is considered
immaterial.
Note 2: ACCOUNTING STANDARDS RECENTLY ISSUED OR ADOPTED
Revenue from Contracts with Customers
In May 2014, the Financial Accounting Standards Board (FASB) issued Accounting Standards Update (ASU) No. 2014-09, Revenue from
Contracts with Customers, which creates Topic 606 and supersedes Topic 605, Revenue Recognition. Subsequent to the issuance of ASU 2014-09,
FASB issued ASU 2016-10 in April 2016 and issued ASU 2016-12 in May 2016. Both of these ASUs amend or clarify aspects of Topic 606.
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. The Company adopted Topic 606 on January 1, 2018 using the full retrospective method, meaning the standard
is applied to all periods presented in the financial statements with the cumulative effect of initially applying the standard recognized at the
beginning of the earliest period presented. In adopting Topic 606, the Company applied the following five steps in determining the correct
treatment for the applicable revenue streams:
Identify the contract with a customer;
Identify the performance obligations in the contract;
1.
2.
3. Determine the transaction price;
4. Allocate the transaction price to performance obligations in the contract, and
5. Recognize revenue when or as the Company satisfies the performance obligation.
The majority of the Company’s revenue streams including interest income, deferred loan fee accretion, premium/discount accretion, gains on
sales of loans and investments, loan servicing income and other loan fee income are outside the scope of Topic 606. Revenue streams reported
as deposit fees and other service charges include transaction based deposit fees, non-transaction based deposit fees, interchange fees on credit
and debit cards and merchant service fees which are within the scope of Topic 606. The Company applied the requirements of Topic 606 to the
revenue streams that are within its scope. The adoption of Topic 606 did not result in any changes in either the timing or amount of recognized
revenue in prior periods by the Company; however, the presentation of certain costs associated with our merchant services are offset against
deposit fees and other service charges in non-interest income. The Company previously recognized payment network related fees that were
collected by the Company and passed through to another party related to its merchant services as non-interest expense. The change in presentation
resulted in $7.8 million of expenses for the year ended December 31, 2018 being netted against deposit fees and other services charges and
reported in non-interest income instead of as payment and card processing expenses in non-interest expense. In addition, to conform to the
current period presentation, $8.3 million of merchant services related expenses for the year ended December 31, 2017, and $7.2 million of
merchant services related expenses for the year ended December 31, 2016, were reclassified from payment and card processing expense in non-
interest expense to being netted against deposit fees and other service charges in non-interest income. The Company elected to apply the practical
expedient and therefore does not disclose information about remaining performance obligations that have an original expected term of one year
or less and allows the Company to expense costs related to obtaining a contract as incurred when the amortization period would have been one
year or less.
101
The following table presents the impact of adopting of the new revenue standard on our Consolidated Statements of Operations for the years
ended December 31, 2018, 2017 and 2016 (in thousands):
For the year ended
December 31, 2018
For the year ended
December 31, 2017
For the year ended
December 31, 2016
Balance
without
Adoption
of ASC
606
As
Reported
Effect of
Change
As
Reported
Balance
without
Adoption
of ASC
606
Effect
of
Change
As
Reported
Balance
without
Adoption
of ASC
606
Effect
of
Change
Non-interest
income:
Deposit fees and
other service
charges
Non-interest
expense:
Payment and card
processing
expenses
$
48,074
$
55,841
$ (7,767) $
43,452
$
51,787
$ (8,335) $
41,911
$
49,156
$ (7,245)
$
15,412
$
23,179
$ (7,767) $
14,330
$
22,665
$ (8,335) $
14,359
$
21,604
$ (7,245)
Recognition and Measurement of Financial Assets and Financial Liabilities
In January 2016, FASB issued ASU No. 2016-01, Recognition and Measurement of Financial Assets and Financial Liabilities. The amendments
in this ASU require equity securities to be measured at fair value with changes in the fair value recognized through net income. The amendments
allow equity investments that do not have readily determinable fair values to be remeasured at fair value under certain circumstances and require
enhanced disclosures about those investments. This ASU simplifies the impairment assessment of equity investments without readily determinable
fair values. This ASU also eliminates the requirement to disclose the method(s) and significant assumptions used to estimate the fair value that
is required to be disclosed for financial instruments measured at amortized cost on the balance sheet. The amendments in this ASU require
separate presentation in other comprehensive income of the portion of the total change in the fair value of a liability resulting from a change in
the instrument-specific credit risk when the entity has elected to measure the liability at fair value in accordance with the fair value option for
financial instruments. This ASU excludes from net income gains or losses that the entity may not realize because those financial liabilities are
not usually transferred or settled at their fair values before maturity. The amendments in this ASU require separate presentation of financial
assets and financial liabilities by measurement category and form of financial asset (that is, securities or loans and receivables) on the balance
sheet or in the accompanying notes to the financial statements. The Company adopted this ASU on January 1, 2018. The adoption of this ASU
resulted in the Company reclassifying $28.1 million from retained earnings to AOCI for the cumulative fair value adjustments on its junior
subordinated debentures related to instrument specific credit risk. During the year ended December 31, 2018, the Company recorded a $11.7
million, net of tax, reduction in other comprehensive income (loss) for the change in instrument specific credit risk on its junior subordinated
debentures. Prior to the adoption of this ASU this amount would have been recorded in the Consolidated Statement of Operations. In addition,
as a result of adopting this ASU the Company recorded a $137,000 reduction in retained earnings representing the unrealized loss on available
for sale equity securities at the date of adoption. Any future changes in fair value on equity securities will be recorded in the Consolidated
Statement of Operations. During the year ended December 31, 2018, the Company recorded a $5,000 gain for the increase in fair value of its
equity securities as a component of the net change in financial instruments carried at fair value in the Consolidated Statement of Operations. At
December 31, 2018, the Company held $352,000 of equity investment securities which were previously reported as available-for-sale securities
and are now reported in other assets.
In addition, the adoption of this ASU resulted in changing how the Company estimates the fair value of portfolio loans for disclosure purposes.
Fair values are estimated first by stratifying the portfolios of loans with similar financial characteristics. Loans are segregated by type such as
multifamily real estate, residential mortgage, nonresidential mortgage, commercial/agricultural, consumer and other. Each loan category is
further segmented into fixed- and adjustable-rate interest terms. An estimate of fair value is then calculated based on discounted cash flows
using as a discount rate based on the current rate offered on similar products, plus an adjustment for liquidity to reflect the non-homogeneous
nature of the loans, as well as a quarterly loss rate based on historical losses to arrive at an estimated exit price fair value. Fair value for impaired
loans is also based on recent appraisals or estimated cash flows discounted using rates commensurate with risk associated with the estimated
cash flows. Assumptions regarding credit risk, cash flows and discount rates are judgmentally determined using available market information
and specific borrower information.
In February 2018, FASB issued ASU No. 2018-03, Technical Corrections and Improvements to Financial Instruments—Overall (Subtopic
825-10): Recognition and Measurement of Financial Assets and Financial Liabilities. The amendments in this ASU do not change the core
principle of the guidance in Subtopic 825-10. Rather, the amendments in this ASU clarify the application of the guidance regarding the fair
value measurement of equity securities without readily determinable fair value. The Company adopted this ASU upon its issuance. The impact
of the Company's adoption of this ASU is described in the preceding paragraph.
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Leases (Topic 842)
In February 2016, FASB issued ASU No. 2016-02, Leases (Topic 842). The amendments in this ASU require lessees to recognize the following
for all leases (with the exception of short-term) at the commencement date; a lease liability, which is a lessee‘s obligation to make lease payments
arising from a lease, measured on a discounted basis; and a right-of-use asset, which is an asset that represents the lessee’s right to use, or control
the use of, a specified asset for the lease term. The amendments in this ASU leave lessor accounting largely unchanged, although certain targeted
improvements were made to align lessor accounting with the lessee accounting model. This ASU simplifies the accounting for sale and leaseback
transactions primarily because lessees must recognize lease assets and lease liabilities. Lessees will no longer be provided with a source of off-
balance sheet financing. ASU No. 2016-02 is effective for interim and annual reporting periods beginning after December 15, 2018, and entities
are required to use a modified retrospective approach for leases. The Company adopted the new guidance effective January 1, 2019. The
Company elected the transition option provided in ASU No. 2018-11 and applied the modified retrospective approach. The Company also
elected certain relief options for practical expedients: the option to not separate lease and non-lease components and instead to account for them
as a single lease component, and the option to not recognize right-of-use assets and lease liabilities that arise from short-term leases (i.e. leases
terms of twelve months or less). The Company has 113 real property leases under non-cancelable operating leases, the majority of which will
be subject to this ASU that will result in the recognition of right-of-use assets and lease liabilities. All of the Company’s equipment is owned
or on short-term leases. The Company implemented a third party software solution to meet the new requirements of this ASU. The Company
compiled a complete inventory of arrangements containing leases and analyzed the lease data necessary to meet the new requirements and has
entered the leases into the new leasing software solution. In connection with the adoption of this ASU, as of January 1, 2019, the Company
recorded a $51 million right of use asset and a $53 million lease liability on its Consolidated Statements of Financial Condition.
In July 2018, FASB issued ASU No. 2018-11, Targeted Improvements. The amendments in this ASU provide entities with an additional (and
optional) transition method to adopt the new leases standard. Under this new transition method, an entity initially applies the new leases standard
at the adoption date and recognizes a cumulative-effect adjustment to the opening balance of retained earnings in the period of adoption.
Consequently, an entity’s reporting for the comparative periods presented in the financial statements in which it adopts the new leases standard
will continue to be in accordance with current GAAP (Topic 840, Leases). In addition, the amendments in this ASU provide lessors with a
practical expedient, by class of underlying asset, to not separate nonlease components from the associated lease component and, instead, to
account for those components as a single component if the nonlease components otherwise would be accounted for under the new revenue
guidance (Topic 606). The amendments of this ASU became effective for the Company on January 1, 2019.
Derivatives and Hedging (Topic 815)
In August 2017, FASB issued ASU No. 2017-12, Targeted Improvements to Accounting for Hedging Activities. The amendments in this ASU
are intended to provide investors better insight to an entity's risk management hedging strategies by permitting a company to recognize the
economic results of its hedging strategies in its financial statements. The amendments in this ASU permit hedge accounting for hedging
relationships involving nonfinancial risk and interest rate risk by removing certain limitations in cash flow and fair value hedging relationships.
In addition, the ASU requires an entity to present the earnings effect of the hedging instrument in the same income statement line item in which
the earnings effect of the hedged item is reported. The Company adopted this ASU effective January 1, 2019. The adoption of this ASU did
not have a material impact on the Company's Consolidated Financial Statements.
In October 2018, FASB issued ASU No. 2018-16, Inclusion of the Secured Overnight Financing Rate (SOFR) Overnight Index Swap (OIS) Rate
as a Benchmark Interest Rate for Hedge Accounting. In the United States, eligible benchmark interest rates under Topic 815 are interest rates
on direct Treasury obligations of the U.S. government, the London Interbank Offered Rate (LIBOR) swap rate, and the Overnight Index Swap
Rate based on the Fed Funds Effective Rate. ASU 2017-12 introduced the Securities Industry and Financial Markets Association Municipal
Swap Rate as the fourth permissible U.S. benchmark rate. ASU 2018-16 adds the OIS rate based on SOFR as a U.S. benchmark interest rate to
facilitate the LIBOR to SOFR transition and provide sufficient lead time for entities to prepare for changes to interest rate hedging strategies for
both risk management and hedge accounting purposes. The Company adopted amendments in this ASU effective concurrently with its adoption
of ASU 2017-12, effective January 1, 2019. Adoption of ASU 2018-16 did not have a material impact on the Company's Consolidated Financial
Statements.
103
Financial Instruments—Credit Losses (Topic 326)
In June 2016, FASB issued ASU No. 2016-13, Measurement of Credit Losses on Financial Instruments. Current GAAP requires an “incurred
loss” methodology for recognizing credit losses that delays recognition until it is probable a loss has been incurred. The main objective of this
ASU is to provide financial statement users with more decision-useful information about the expected credit losses on financial instruments and
other commitments to extend credit held by a reporting entity at each reporting date. The ASU affects loans, debt securities, trade receivables,
net investments in leases, off-balance-sheet credit exposures, reinsurance receivables, and any other financial asset not excluded from the scope
that have the contractual right to receive cash. The ASU replaces the incurred loss impairment methodology in current GAAP with a methodology
that reflects expected credit losses and requires consideration of a broader range of reasonable and supportable information to inform credit loss
estimates. This ASU requires a financial asset (or group of financial assets) measured at amortized cost basis to be presented at the net amount
expected to be collected. The allowance for credit losses is a valuation account that is deducted from the amortized cost basis of the financial
asset(s) to present the net carrying value at the amount expected to be collected on the financial asset. The measurement of expected credit
losses will be based on relevant information about past events, including historical experience, current conditions, and reasonable and supportable
forecasts that affect the collectability of the reported amount. This ASU broadens the information that an entity must consider in developing its
expected credit loss estimate for assets measured either collectively or individually. The use of forecasted information incorporates more timely
information in the estimate of expected credit loss, which will be more decision useful to users of the financial statements. This ASU will be
effective for fiscal years beginning after December 15, 2019, including interim periods within those fiscal years. The Company is still evaluating
the effects this ASU will have on the Company’s Consolidated Financial Statements. The Company has formed an internal committee to oversee
the project, engaged a third-party vendor to assist with the project and has completed its gap analysis phase of the project. In addition, the
Company has selected a second third-party vendor to assist with building and developing the required models and has completed the initial build
out of the required models. The Company is evaluating different third party alternatives for providing a reasonable a supportable forecast. Once
a source for the forecast has been selected, the Company will begin to add a reasonable and supportable forecast and qualitative factors into the
models. Upon adoption, the Company expects changes in the processes and procedures used to calculate the allowance for loan losses, including
changes in assumptions and estimates to consider expected credit losses over the life of the loan versus the current accounting practice that
utilizes the incurred loss model. The new guidance may result in an increase in the allowance for loan losses which will also reflect the new
requirement to include the nonaccretable principal differences on purchased credit-impaired loans; however, the Company is still in the process
of determining the magnitude of the change and its impact on the Consolidated Financial Statements. In addition, the current accounting policy
and procedures for other-than-temporary impairment on investment securities available-for-sale will be replaced with an allowance approach.
Receivables—Nonrefundable Fees and Other Costs (Subtopic 310-20)
In March 2017, FASB issued ASU No. 2017-08, Premium Amortization on Purchased Callable Debt Securities. This ASU shortens the
amortization period for certain callable debt securities held at a premium. Specifically, the ASU requires the premium to be amortized to the
earliest call date. Under current GAAP, premiums and discounts on callable debt securities generally are amortized to the maturity date. The
ASU does not require an accounting change for securities held at a discount; the discount continues to be amortized to the maturity date. This
ASU more closely align the amortization period of premiums and discounts to expectations incorporated in market pricing on the underlying
securities. The Company adopted this ASU effective January 1, 2019. The adoption of this ASU did not have a material impact on the Company's
Consolidated Financial Statements.
Income Statement - Reporting Comprehensive Income (Topic 220)
In February 2018, FASB issued ASU 2018-02, Reclassification of Certain Tax Effects from Accumulated Other Comprehensive Income. This
ASU allows a reclassification from AOCI to retained earnings for the stranded tax effects on available-for-sale securities resulting from the 2017
Tax Act. The ASU eliminates the stranded tax effects resulting from the 2017 Tax Act and improves the usefulness of information reported to
financial statement users. The ASU also requires certain disclosures about the stranded tax effects. This ASU is effective for all entities for
fiscal years beginning after December 15, 2018. Early adoption is permitted, including adoption in any interim period, for reporting periods for
which financial statements have not yet been issued. The ASU should be applied either in the period of adoption or retrospectively to each
period in which the effect of the change in the federal corporate tax rate is recognized. The Company elected to early adopt this ASU and to
reclassify $795,000 of stranded tax effects from AOCI to retained earnings in the fourth quarter of 2017.
Income Taxes (Topic 740)
In March 2018, FASB issued ASU No. 2018-05, Income Taxes (Topic 740). This ASU was issued to provide guidance on the income tax accounting
implications of the 2017 Tax Act and allows entities to report provisional amounts for specific income tax effects of the Act for which the
accounting under ASC Topic 740 was not yet complete but a reasonable estimate could be determined. A measurement period of one year is
allowed to complete the accounting effects under ASC Topic 740 and revise any previous estimates reported. Any provisional amounts or
subsequent adjustments included in an entity’s financial statements during the measurement period should be included in income from continuing
operations as an adjustment to tax expense in the reporting period the amounts are determined. The Company adopted this ASU with the
provisional adjustments as reported in the Consolidated Financial Statements in the 2017 Form 10-K. During 2018, the Company recorded a
$4.2 million decrease to tax expense related to provisional amounts recorded in 2017.
Intangibles-Goodwill and Other-Internal-Use Software (Subtopic 350-40)
In August 2018, FASB issued ASU 2018-15, Customer’s Accounting for Implementation Costs Incurred in a Cloud Computing Arrangement
That Is a Service Contract. The amendments in this ASU broaden the scope of ASC Subtopic 350-40 to include costs incurred to implement a
104
hosting arrangement that is a service contract. The amendments align the requirements for capitalizing implementation costs incurred in a hosting
arrangement that is a service contract with the requirements for capitalizing implementation costs incurred to develop or obtain internal-use
software (and hosting arrangements that include an internal-use software license). The costs are capitalized or expensed depending on the nature
of the costs and the project stage during which they are incurred, consistent with the accounting for costs for internal-use software. The
amendments in this ASU result in consistent capitalization of implementation costs of a hosting arrangement that is a service contract and
implementation costs incurred to develop or obtain internal-use software (and hosting arrangements that include an internal-use software license).
The accounting for the service element of a hosting arrangement that is a service contract is not affected by the amendments in this ASU. This
ASU is effective for fiscal years beginning after December 15, 2019 and interim periods within those fiscal years. The amendments in this ASU
should be applied either retrospectively or prospectively to all implementation costs incurred after the date of adoption. Adoption of ASU
2018-15 is not expected to have a material impact on the Company’s Consolidated Financial Statements.
Fair Value Measurement (Topic 820)
In August 2018, FASB issued ASU 2018-13, Disclosure Framework-Changes to the Disclosure Requirements for Fair Value Measurement. The
amendments in this ASU modify the disclosure requirements on fair value measurements in Topic 820, Fair Value Measurement. The ASU
removes, modifies and adds disclosure requirements in Topic 820. The following disclosure requirements were removed: 1) the amount and
reasons for transfers between Level 1 and Level 2 of the fair value hierarchy, 2) the policy for timing of transfers between levels, and 3) the
valuation processes for Level 3 fair value measurements. This ASU modified disclosure requirements by requiring that the measurement
uncertainty disclosure communicates information about the uncertainty in measurement as of the reporting date. The following disclosure
requirements were added: 1) changes in unrealized gains and losses for the period included in other comprehensive income for the recurring
Level 3 fair value measurements held at the end of the reporting period, and 2) the range and weighted average of significant unobservable inputs
used to develop Level 3 fair value measurements. The amendments in this ASU are effective for all entities for fiscal years, and interim periods
within those fiscal years, beginning after December 15, 2019. An entity is permitted to early adopt any removed or modified disclosures upon
issuance of this ASU and delay adoption of the additional disclosures until their effective date. Adoption of ASU 2018-13 is not expected to
have a material impact on the Company’s Consolidated Financial Statements.
Note 3: BUSINESS COMBINATION AND BRANCH DIVESTITURE
Acquisition of Skagit Bancorp, Inc.
Effective as of the close of business on November 1, 2018, the Company acquired 100% of the outstanding common shares of Skagit Bancorp,
Inc. (“Skagit”) and its wholly-owned subsidiary, Skagit Bank, a Washington state chartered commercial bank headquartered in Burlington,
Washington, with 11 branches serving markets along the I-5 corridor from Seattle to the Canadian border. On that date, Skagit merged with and
into Banner and Skagit Bank merged with and into Banner Bank. The merged banks will operate as Banner Bank post system conversion.
Pursuant to the previously announced terms of the merger, the equity holders of Skagit received an aggregate of 3.1 million shares of Banner
voting common stock, plus cash in lieu of fractional shares and cash to buyout Skagit stock options for total consideration paid of $180.0 million.
The acquisition provided $915.8 million in assets, $810.2 million in deposits and $632.4 million in loans to Banner.
The application of the acquisition method of accounting resulted in recognition of a CDI asset of $16.4 million and goodwill of $96.5 million.
The acquired CDI has been determined to have a useful life of approximately nine years and will be amortized on an accelerated basis. Goodwill
is not amortized but will be evaluated for impairment on an annual basis or more often if circumstances dictate to determine if the carrying value
remains appropriate. Goodwill will not be deductible for income tax purposes as the acquisition is accounted for as a tax-free exchange for tax
purposes.
105
The following table presents a summary of the consideration paid and the estimated fair values as of the acquisition date for each major class
of assets acquired and liabilities assumed (in thousands):
Consideration to Skagit equity holders:
Cash paid
Fair value of common shares issued
Total consideration
Fair value of assets acquired:
Cash and cash equivalents
Securities
Loans receivable (contractual amount of $645.6 million)
Real estate owned held for sale
$
Property and equipment
Core deposit intangible
Deferred tax asset
Other assets
Total assets acquired
Fair value of liabilities assumed:
Deposits
Other liabilities
Total liabilities assumed
Net assets acquired
Goodwill
Skagit
November 1, 2018
$
$
19,167
210,326
632,374
2,593
15,788
16,368
95
19,110
915,821
810,209
22,069
832,278
329
179,709
180,038
83,543
96,495
Acquired goodwill represents the premium the Company paid over the fair value of the net tangible and intangible assets acquired. The primary
reason for the acquisition was to expand the Company’s presence and density in the North Sound region of the Pacific Northwest along the I-5
corridor. The Company paid this premium for a number of reasons, including growing the Company's customer base, acquiring assembled
workforces, and expanding its presence in existing markets. See Note 17, Goodwill, Other Intangible Assets and Mortgage Servicing Rights for
the accounting for goodwill and other intangible assets.
Fair values are preliminary and subject to refinement for up to one year after the closing date of the acquisition as additional information regarding
the closing date fair values becomes available. Additional adjustments to the acquisition accounting that may be required would most likely
involve loans, property and equipment, or the deferred tax asset. As of November 1, 2018, the unpaid principal balance on purchased non-credit-
impaired loans was $637.4 million. The fair value of the purchased non-credit-impaired loans was $625.2 million, resulting in a discount of
$12.2 million recorded on these loans, which includes $7.9 million of a credit related discount. This discount is being accreted into income over
the life of the loans on an effective yield basis.
106
The following table presents the acquired PCI loans as of the acquisition date (in thousands):
Acquired PCI loans:
Contractually required principal and interest payments
Nonaccretable difference
Cash flows expected to be collected
Accretable yield
Fair value of PCI loans
Skagit
November 1, 2018
$
$
9,897
(1,915)
7,982
(995)
6,987
The operating results of the Company include the operating results produced by the acquired assets and assumed liabilities of Skagit for the
period November 1, 2018 to December 31, 2018. Disclosure of the amount of Skagit’s revenue and net income (excluding integration costs)
included in the Company’s Consolidated Statements of Operations is impracticable due to the integration of the operations and accounting for
this acquisition. The pro forma impact of the Skagit acquisition to the historical financial results was determined to not be significant.
Branch Divestiture
On October 6, 2017, Banner Bank completed the sale of its Utah branches and related assets and liabilities to People’s Intermountain Bank, a
banking subsidiary of People’s Utah Bancorp (NASDAQ: PUB).
Under the terms of the purchase and assumption agreement, the sale included $253.8 million in loans, $160.3 million in deposits and all of
Banner Bank’s seven Utah bank branches located in Provo, Orem, Salem, Springville, South Jordan, Salt Lake City and Woods Cross. The sale
also included $4.0 million of property and equipment and $581,000 of accrued interest. In addition, Banner allocated an associated $1.9 million
of goodwill and $1.1 million of other intangible assets with the divestiture, which constituted the disposal of a business. The deposit premium
paid to Banner was $13.8 million based on average daily deposits for a period prior to closing. The net gain recorded on the sale was $12.2
million.
107
Note 4: SECURITIES
The amortized cost, gross unrealized gains and losses and estimated fair value of securities at December 31, 2018 and 2017 are summarized as
follows (in thousands):
Trading:
Corporate bonds
Available-for-Sale:
U.S. Government and agency obligations
Municipal bonds
Corporate bonds
Mortgage-backed or related securities
Asset-backed securities
Held-to-Maturity:
U.S. Government and agency obligations
Municipal bonds:
Corporate bonds
Mortgage-backed or related securities
Trading:
Municipal bonds
Corporate bonds
Equity securities
Available-for-Sale:
U.S. Government and agency obligations
Municipal bonds
Corporate bonds
Mortgage-backed or related securities
Asset-backed securities
Equity securities
Held-to-Maturity:
U.S. Government and agency obligations
Municipal bonds:
Corporate bonds
Mortgage-backed or related securities
December 31, 2018
Gross
Unrealized
Gains
Gross
Unrealized
Losses
Amortized
Cost
27,203
Fair Value
$
25,896
$
151,012
116,548
3,556
1,355,258
22,047
$
149
1,806
—
5,210
6
(2,049) $
(532)
(61)
(16,607)
(120)
149,112
117,822
3,495
1,343,861
21,933
$
$
$ 1,648,421
$
7,171
$
(19,369) $ 1,636,223
$
$
1,006
176,663
3,736
52,815
14
1,727
—
66
$
(1) $
(2,578)
(13)
(898)
1,019
175,812
3,723
51,983
$
234,220
$
1,807
$
(3,490) $
232,537
December 31, 2017
Gross
Unrealized
Gains
Gross
Unrealized
Losses
Amortized
Cost
Fair Value
$
$
$
$
$
100
27,132
14
27,246
72,829
68,513
5,431
745,956
27,667
5,716
926,112
1,024
189,860
3,978
65,409
$
$
$
$
$
$
100
22,058
160
22,318
72,466
68,733
5,393
739,557
27,758
5,578
(431)
(445)
(44)
(7,402)
(93)
(148)
(8,563)
$
919,485
— $
(1,252)
—
(518)
1,053
191,993
3,985
65,157
$
$
$
68
665
6
1,003
184
10
1,936
29
3,385
7
266
$
260,271
$
3,687
$
(1,770)
$
262,188
108
At December 31, 2018 and 2017, the gross unrealized losses and the fair value for securities available-for-sale and held-to-maturity aggregated
by the length of time that individual securities have been in a continuous unrealized loss position was as follows (in thousands):
December 31, 2018
Less Than 12 Months
12 Months or More
Total
Fair Value
Unrealized
Losses
Fair Value
Unrealized
Losses
Fair Value
Unrealized
Losses
Available-for-Sale:
U.S. Government and agency obligations
Municipal bonds
Corporate bonds
Mortgage-backed or related securities
Asset-backed securities
$
$
75,885
6,422
3,199
316,074
10,582
$
(1,240) $
(54)
(56)
(2,939)
(24)
50,508
27,231
295
571,989
9,913
$
(809) $
(478)
(5)
(13,668)
(96)
126,393
33,653
3,494
888,063
20,495
(2,049)
(532)
(61)
(16,607)
(120)
$
412,162
$
(4,313) $
659,936
$
(15,056) $ 1,072,098
$
(19,369)
Held-to-Maturity:
U.S. Government and agency obligations
Municipal bonds
Corporate bonds
Mortgage-backed or related securities
$
145
29,898
—
10,761
$
(1) $
— $
— $
(274)
—
(220)
44,637
487
30,035
(2,304)
(13)
(678)
$
145
74,535
487
40,796
(1)
(2,578)
(13)
(898)
$
40,804
$
(495) $
75,159
$
(2,995) $
115,963
$
(3,490)
Available-for-Sale:
U.S. Government and agency obligations
Municipal bonds
Corporate bonds
Mortgage-backed or related securities
Asset-backed securities
Equity securities
Held-to-Maturity:
Municipal bonds
Mortgage-backed or related securities
December 31, 2017
Less Than 12 Months
12 Months or More
Total
Fair Value
Unrealized
Losses
Fair Value
Unrealized
Losses
Fair Value
Unrealized
Losses
$
$
$
$
31,276
20,879
296
559,916
—
5,480
617,847
21,839
38,023
$
$
$
(211) $
(185)
(4)
(5,138)
—
(148)
23,341
13,360
4,682
100,662
9,926
—
(5,686) $
151,971
(171) $
(378)
34,314
4,434
$
$
$
(220) $
(260)
(40)
(2,264)
(93)
—
54,617
34,239
4,978
660,578
9,926
5,480
(2,877) $
769,818
(1,081) $
(140)
56,153
42,457
$
$
$
(431)
(445)
(44)
(7,402)
(93)
(148)
(8,563)
(1,252)
(518)
59,862
$
(549) $
38,748
$
(1,221) $
98,610
$
(1,770)
At December 31, 2018, there were 271 securities—available-for-sale with unrealized losses, compared to 226 at December 31, 2017. At
December 31, 2018, there were 90 securities—held-to-maturity with unrealized losses, compared to 66 at December 31, 2017. Management
does not believe that any individual unrealized loss as of December 31, 2018 or 2017 represented OTTI. The decline in fair market value of
these securities was generally due to changes in interest rates.
There were no sales of securities—trading for the year ended December 31, 2018. Sales of securities—trading totaled $1.3 million with a
resulting net gain of $28,000 for the year ended December 31, 2017. Sales of securities—trading for the year ended December 31, 2016 totaled
$7.8 million with a resulting net gain of $530,000. There were no securities—trading in a nonaccrual status at both December 31, 2018 and
2017. Net unrealized holding gains of $3.8 million and $658,000 were recognized in 2018 and 2017, respectively.
Sales of securities—available-for-sale totaled $214.6 million with a resulting net loss of $839,000 for the year ended December 31, 2018. Sales
of securities—available-for-sale totaled $522.6 million with a resulting net loss of $2.1 million for the year ended December 31, 2017. Sales
of securities—available-for-sale totaled $369.8 million with a resulting net gain of $311,000 for the year ended December 31, 2016. There were
no securities—available-for-sale in a nonaccrual status at December 31, 2018 and 2017.
There were no sales of securities—held-to-maturity during the years ended December 31, 2018, 2017 or 2016. There were no securities—held-
to-maturity in a nonaccrual status at December 31, 2018 and 2017 although there were partial calls of securities that resulted in a net gain of
$2,000 for the year ended December 31, 2018.
109
The amortized cost and estimated fair value of securities at December 31, 2018, by contractual maturity, are shown below (in thousands). Expected
maturities will differ from contractual maturities because some securities may be called or prepaid with or without call or prepayment penalties.
December 31, 2018
Trading
Available-for-Sale
Held-to-Maturity
Amortized
Cost
Fair Value
Amortized
Cost
Fair Value
Amortized
Cost
Fair Value
Maturing in one year or less
$
— $
— $
10,680
$
10,661
$
2,885
$
Maturing after one year through five years
Maturing after five years through ten years
—
—
—
—
Maturing after ten years through twenty years
27,203
25,896
Maturing after twenty years
—
—
84,333
383,987
210,917
958,504
84,140
381,628
210,883
948,911
60,124
62,942
70,968
37,301
2,875
59,591
63,352
71,378
35,341
$
27,203
$
25,896
$ 1,648,421
$ 1,636,223
$
234,220
$
232,537
The following table presents, as of December 31, 2018, investment securities which were pledged to secure borrowings, public deposits or other
obligations as permitted or required by law (in thousands):
Purpose or beneficiary:
State and local governments public deposits
$
143,336
$
143,505
$
143,887
Carrying
Value
Amortized
Cost
Fair Value
Interest rate swap counterparties
Repurchase transaction accounts
Other
Total pledged securities
11,356
154,042
3,827
11,576
155,014
3,827
11,344
154,042
3,719
$
312,561
$
313,922
$
312,992
Note 5: LOANS RECEIVABLE AND THE ALLOWANCE FOR LOAN LOSSES
Loans receivable at December 31, 2018 and 2017 are summarized as follows (dollars in thousands):
Commercial real estate:
Owner-occupied
Investment properties
Multifamily real estate
Commercial construction
Multifamily construction
One- to four-family construction
Land and land development:
Residential
Commercial
Commercial business
Agricultural business, including secured by farmland
One- to four-family residential
Consumer:
Consumer secured by one- to four-family
Consumer—other
Total loans outstanding
Less allowance for loan losses
December 31, 2018
December 31, 2017
Amount
Percent of Total
Amount
Percent of Total
$
1,430,097
2,131,059
368,836
172,410
184,630
534,678
188,508
27,278
1,483,614
404,873
973,616
568,979
216,017
16.4% $
24.5
4.2
2.0
2.1
6.2
2.2
0.3
17.1
4.7
11.2
6.6
2.5
1,284,363
1,937,423
314,188
148,435
154,662
415,327
164,516
24,583
1,279,894
338,388
848,289
522,931
165,885
16.9%
25.5
4.1
2.0
2.0
5.5
2.2
0.3
16.8
4.4
11.2
6.9
2.2
8,684,595
100.0%
7,598,884
100.0%
(96,485)
(89,028)
Net loans
$
8,588,110
$
7,509,856
110
Loan amounts are net of unearned loan fees in excess of unamortized costs of $1.4 million as of December 31, 2018 and included net unamortized
costs of $158,000 at December 31, 2017. Net loans include net discounts on acquired loans of $25.7 million and $21.1 million as of December 31,
2018 and 2017, respectively.
The Company’s loans to directors, executive officers and related entities are on substantially the same terms and underwriting as those prevailing
at the time for comparable transactions with unrelated persons and do not involve more than normal risk of collectability. Such loans had balances
of $3.5 million and $3.5 million at December 31, 2018 and 2017, respectively.
Purchased credit-impaired loans: The outstanding contractual unpaid principal balance of PCI loans, excluding acquisition accounting
adjustments, was $22.0 million at December 31, 2018 and $32.5 million at December 31, 2017. The carrying balance of PCI loans was $14.4
million at December 31, 2018 and $21.3 million at December 31, 2017.
The following table presents the changes in the accretable yield for PCI loans for the years ended December 31, 2018 and 2017 (in thousands):
Balance, beginning of period
Additions
Accretion to interest income
Disposals and other
Reclassifications from non-accretable difference
Balance, end of period
Years Ended December 31
2018
6,520
$
995
(7,509)
58
5,152
5,216
$
2017
8,717
—
(5,929)
(564)
4,296
6,520
$
$
As of December 31, 2018 and December 31, 2017, the non-accretable difference between the contractually required payments and cash flows
expected to be collected was $7.1 million and $11.3 million, respectively.
Impaired Loans and the Allowance for Loan Losses: A loan is considered impaired when, based on current information and circumstances, the
Company determines it is probable that it will be unable to collect all amounts due according to the contractual terms of the loan agreement,
including scheduled interest payments. Factors involved in determining impairment include, but are not limited to, the financial condition of
the borrower, the value of the underlying collateral and the current status of the economy. Impaired loans are comprised of loans on nonaccrual,
TDRs, and loans that are 90 days or more past due, but are still on accrual. Purchased credit-impaired loans are considered performing within
the scope of the PCI accounting guidance and are not included in the impaired loan tables.
111
The following tables provide additional information on impaired loans, excluding PCI loans, with and without specific allowance reserves at
December 31, 2018 and 2017. Recorded investment includes the unpaid principal balance or the carrying amount of loans less charge-offs and
net deferred loan fees (in thousands):
Commercial real estate:
Owner-occupied
Investment properties
Multifamily construction
One- to four-family construction
Land and land development:
Residential
Commercial
Commercial business
Agricultural business/farmland
One- to four-family residential
Consumer:
Consumer secured by one- to four-family
Consumer—other
Commercial real estate:
Owner-occupied
Investment properties
One- to four-family construction
Land and land development:
Residential
Commercial business
Agricultural business/farmland
One- to four-family residential
Consumer:
Consumer secured by one- to four-family
Consumer—other
December 31, 2018
Recorded Investment
Without
Allowance (1)
With
Allowance (2)
Related
Allowance
Unpaid
Principal
Balance
$
$
3,193
7,287
1,901
919
1,134
44
4,014
4,863
6,724
1,622
112
$
2,768
1,320
1,427
919
798
44
2,937
1,751
4,314
1,438
49
$
200
5,606
—
—
—
—
391
2,561
2,358
133
62
19
226
—
—
—
—
16
96
51
6
2
$
31,813
$
17,765
$
11,311
$
416
December 31, 2017
Recorded Investment
Without
Allowance (1)
With
Allowance (2)
Related
Allowance
Unpaid
Principal
Balance
$
$
7,807
11,296
298
1,134
4,441
9,388
9,547
1,498
134
$
6,447
4,200
298
798
3,424
6,230
3,709
1,324
58
$
199
6,884
—
—
555
3,031
5,775
139
73
$
45,543
$
26,488
$
16,656
$
18
263
—
—
50
264
178
7
2
782
(1)
Includes loans without an allowance reserve that have been individually evaluated for impairment and that evaluation concluded that
no reserve was needed, and $9.0 million and $10.6 million of homogenous and small balance loans as of December 31, 2018 and
December 31, 2017, respectively, that are collectively evaluated for impairment for which a general reserve has been established.
(2) Loans with a specific 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.
112
The following table summarizes our average recorded investment and interest income recognized on impaired loans by loan class for the years
ended December 31, 2018, 2017 and 2016 (in thousands):
Commercial real estate:
Owner-occupied
Investment properties
Multifamily real estate
Commercial construction
One- to four-family construction
Land and land development:
Residential
Commercial
Commercial business
Agricultural business/farmland
One- to four-family residential
Consumer:
Consumer secured by one- to four-family
Consumer—other
Year Ended December 31,
2018
Year Ended December 31,
2017
Year Ended December 31,
2016
Average
Recorded
Investment
Interest
Income
Recognized
Average
Recorded
Investment
Interest
Income
Recognized
Average
Recorded
Investment
Interest
Income
Recognized
$
$
3,806
7,822
—
115
778
994
4
3,443
5,501
7,845
1,583
142
$
11
314
—
—
6
10
—
21
102
302
17
4
$
3,697
9,136
251
—
418
1,396
867
5,996
6,184
9,499
1,635
184
$
11
195
10
—
27
42
—
68
207
322
9
7
$
2,721
18,529
513
—
1,158
1,948
1,003
4,290
5,004
11,976
1,778
615
2
242
21
—
75
85
—
37
119
441
17
17
$
32,033
$
787
$
39,263
$
898
$
49,535
$
1,056
The following table presents TDRs by accrual and nonaccrual status at December 31, 2018 and 2017 (in thousands):
Commercial real estate:
Owner-occupied
Investment properties
Commercial business
Agricultural business/farmland
One- to four-family residential
Consumer:
Consumer secured by one- to four-
family
Consumer—other
December 31, 2018
December 31, 2017
Accrual
Status
Nonaccrual
Status
Total
TDRs
Accrual
Status
Nonaccrual
Status
Total
TDRs
$
$
200
5,606
391
2,561
4,469
133
62
$
78
—
—
—
239
—
—
$
278
5,606
391
2,561
4,708
133
62
$
199
6,884
555
3,129
5,136
139
73
$
87
—
—
29
801
—
—
286
6,884
555
3,158
5,937
139
73
$
13,422
$
317
$
13,739
$
16,115
$
917
$
17,032
As of December 31, 2018 and 2017, the Company had commitments to advance funds up to an additional amount of none and $45,000,
respectively, related to TDRs.
113
There were no new TDRs that occurred during the year ended December 31, 2018. The following table presents new TDRs that occurred
during the years ended December 31, 2017 and 2016 (dollars in thousands):
Year Ended December 31, 2017
Recorded Investment (1) (2)
Commercial real estate:
Investment properties
Total
Year Ended December 31, 2016
Recorded Investment (1) (2)
Commercial real estate:
Owner-occupied
One- to four-family residential
Total
Pre-
modification
Outstanding
Recorded
Investment
Post-
modification
Outstanding
Recorded
Investment
Number of
Contracts
1
1
$
$
3,714
3,714
$
$
3,714
3,714
1
1
2
$
$
$
194
78
272
$
$
$
194
78
272
(1) Since most loans were already considered classified and/or on non-accrual status prior to restructuring, the modifications did not have
a material effect on the Company’s determination of the allowance for loan losses.
(2) Generally, these modifications do not fit into one separate type, such as rate, term, amount, interest-only or payment, but instead are a
combination of multiple types of modifications; therefore, they are disclosed in aggregate.
There were no TDRs which incurred a payment default within the years ended December 31, 2018 and December 31, 2017 for which the payment
default occurred within twelve months of the restructure date. A default on a restructured loan results in a transfer to nonaccrual status, a charge-
off or a combination of both.
Credit Quality Indicators: To appropriately and effectively manage the ongoing credit quality of the Company’s loan portfolio, management
has implemented a risk-rating or loan grading system for its loans. The system is a tool to evaluate portfolio asset quality throughout each
applicable loan’s life as an asset of the Company. Generally, loans and leases are risk rated on an aggregate borrower/relationship basis with
individual loans sharing similar ratings. There are some instances when specific situations relating to individual loans will provide the basis for
different risk ratings within the aggregate relationship. Loans are graded on a scale of 1 to 9. A description of the general characteristics of
these categories is shown below:
Overall Risk Rating Definitions: Risk-ratings contain both qualitative and quantitative measurements and take into account the financial strength
of a borrower and the structure of the loan or lease. Consequently, the definitions are to be applied in the context of each lending transaction
and judgment must also be used to determine the appropriate risk rating, as it is not unusual for a loan or lease to exhibit characteristics of more
than one risk-rating category. Consideration for the final rating is centered in the borrower’s ability to repay, in a timely fashion, both principal
and interest. There were no material changes in the risk-rating or loan grading system in 2018.
Risk Rating 1: Exceptional
A credit supported by exceptional financial strength, stability, and liquidity. The risk rating of 1 is reserved for the Company’s top quality loans,
generally reserved for investment grade credits underwritten to the standards of institutional credit providers.
Risk Rating 2: Excellent
A credit supported by excellent financial strength, stability and liquidity. The risk rating of 2 is reserved for very strong and highly stable
customers with ready access to alternative financing sources.
Risk Rating 3: Strong
A credit supported by good overall financial strength and stability. Collateral margins are strong, cash flow is stable although susceptible to
cyclical market changes.
Risk Rating 4: Acceptable
A credit supported by the borrower’s adequate financial strength and stability. Assets and cash flow are reasonably sound and provide for orderly
debt reduction. Access to alternative financing sources will be more difficult to obtain.
Risk Rating 5: Watch
A credit with the characteristics of an acceptable credit but one which requires more than the normal level of supervision and warrants formal
quarterly management reporting. Credits in this category are not yet criticized or classified, but due to adverse events or aspects of underwriting
114
require closer than normal supervision. Generally, credits should be watch credits in most cases for six months or less as the impact of stress
factors are analyzed.
Risk Rating 6: Special Mention
A credit with potential weaknesses that deserves management’s close attention is risk rated a 6. If left uncorrected, these potential weaknesses
will result in deterioration in the capacity to repay debt. A key distinction between Special Mention and Substandard is that in a Special Mention
credit, there are identified weaknesses that pose potential risk(s) to the repayment sources, versus well defined weaknesses that pose risk(s) to
the repayment sources. Assets in this category are expected to be in this category no more than 9-12 months as the potential weaknesses in the
credit are resolved.
Risk Rating 7: Substandard
A credit with well defined weaknesses that jeopardize the ability to repay in full is risk rated a 7. These credits are inadequately protected by
either the sound net worth and payment capacity of the borrower or the value of pledged collateral. These are credits with a distinct possibility
of loss. Loans headed for foreclosure and/or legal action due to deterioration are rated 7 or worse.
Risk Rating 8: Doubtful
A credit with an extremely high probability of loss is risk rated 8. These credits have all the same critical weaknesses that are found in a
substandard loan; however, the weaknesses are elevated to the point that based upon current information, collection or liquidation in full is
improbable. While some loss on doubtful credits is expected, pending events may strengthen a credit making the amount and timing of any loss
indeterminate. In these situations taking the loss is inappropriate until it is clear that the pending event has failed to strengthen the credit and
improve the capacity to repay debt.
Risk Rating 9: Loss
A credit that is considered to be currently uncollectible or of such little value that it is no longer a viable Bank asset is risk rated 9. Losses are
taken in the accounting period in which the credit is determined to be uncollectible. Taking a loss does not mean that a credit has absolutely no
recovery or salvage value but, rather, it is not practical or desirable to defer writing off the credit, even though partial recovery may occur in the
future.
115
The following tables show Banner’s portfolio of risk-rated loans and non-risk-rated loans by grade or other characteristic as of December 31, 2018 and 2017 (in thousands):
By class:
Commercial real estate:
Owner-occupied
Investment properties
Multifamily real estate
Commercial construction
Multifamily construction
One- to four-family construction
Land and land development:
Residential
Commercial
Commercial business
Agricultural business, including secured by farmland
One- to four-family residential
Consumer:
Consumer secured by one- to four-family
Consumer—other
Total
Pass (Risk
Ratings 1-5)(1)
Special
Mention
Substandard
Doubtful
Loss
Total Loans
December 31, 2018
$
$
1,396,721
2,122,621
368,262
159,167
184,630
533,759
187,710
27,200
1,436,733
392,318
969,011
$
6,963
—
—
11,816
—
—
—
—
7,661
4,214
499
564,001
215,706
8,557,839
$
$
—
9
31,162
$
26,413
8,438
574
1,427
—
919
798
78
39,133
8,341
4,106
4,978
302
95,507
$
$
— $
—
—
—
—
—
—
—
87
—
—
—
—
87
$
— $
—
—
—
—
—
—
—
—
—
—
—
—
— $
1,430,097
2,131,059
368,836
172,410
184,630
534,678
188,508
27,278
1,483,614
404,873
973,616
568,979
216,017
8,684,595
116
By class:
Commercial real estate:
Owner-occupied
Investment properties
Multifamily real estate
Commercial construction
Multifamily construction
One- to four-family construction
Land and land development:
Residential
Commercial
Commercial business
Agricultural business, including secured by farmland
One- to four-family residential
Consumer:
Consumer secured by one- to four-family
Consumer—other
Total
Pass (Risk
Ratings 1-5)(1)
Special
Mention
Substandard
Doubtful
Loss
Total Loans
December 31, 2017
$
$
1,246,125
1,918,940
313,432
148,435
154,662
411,802
153,073
21,665
1,213,365
321,110
842,304
520,675
165,594
7,431,182
$
$
12,227
9,118
—
—
—
—
10,554
—
12,135
3,852
569
—
13
48,468
$
$
$
26,011
9,365
756
—
—
3,525
889
2,918
54,282
13,426
5,416
2,256
278
119,122
$
— $
—
—
—
—
—
—
—
112
—
—
—
—
112
$
— $
—
—
—
—
—
—
—
—
—
—
—
—
— $
1,284,363
1,937,423
314,188
148,435
154,662
415,327
164,516
24,583
1,279,894
338,388
848,289
522,931
165,885
7,598,884
(1) The Pass category includes some performing loans that are part of homogenous pools which are not individually risk-rated. This includes all consumer loans, all one- to four-family residential
loans and, as of December 31, 2018 and 2017, in the commercial business category, $590.9 million and $296.8 million, respectively, of credit-scored small business loans. As loans in these
homogeneous pools become non-accrual, they are individually risk-rated.
117
The following tables provide additional detail on the age analysis of Banner’s past due loans as of December 31, 2018 and 2017 (in thousands):
30–59
Days Past
Due
60–89
Days Past
Due
90 Days
or More
Past Due
Total Past
Due
Purchased
Credit-
Impaired
Current
Total Loans
Loans 90 Days
or More Past
Due and
Accruing
Non-accrual
December 31, 2018
Commercial real estate:
Owner-occupied
Investment properties
Multifamily real estate
Commercial construction
Multifamily construction
One- to four-family construction
Land and land development:
Residential
Commercial
Commercial business
Agricultural business/farmland
One- to four-family residential
Consumer:
$
$
785
91
317
—
—
4,781
450
34
3,982
343
5,440
Consumer secured by one- to four-family
Consumer—other
Total
1,136
911
18,270
$
$
519
498
—
—
—
1,078
—
—
1,305
1,518
1,790
765
385
7,858
$
$
2,223
934
—
1,427
—
919
798
44
1,756
1,601
1,657
$
3,527
1,523
317
1,427
—
6,778
1,248
78
7,043
3,462
8,887
8,531
3,462
138
—
—
137
—
—
1,028
493
101
$
$ 1,418,039
2,126,074
368,381
170,983
184,630
527,763
$ 1,430,097
2,131,059
368,836
172,410
184,630
534,678
— $
—
—
—
—
—
187,260
27,200
1,475,543
400,918
964,628
188,508
27,278
1,483,614
404,873
973,616
2,768
1,320
—
1,427
—
919
798
44
2,936
1,751
1,544
—
—
1
—
658
238
9
906
1,201
40
14,748
$
706
9
12,074
2,607
1,305
38,202
$
$
$
432
91
14,413
565,940
214,621
$ 8,631,980
568,979
216,017
$ 8,684,595
$
118
30–59
Days Past
Due
60–89
Days Past
Due
90 Days
or More
Past Due
Total Past
Due
Purchased
Credit-
Impaired
Current
Total Loans
Loans 90 Days
or More Past
Due and
Accruing
Non-accrual
December 31, 2017
Commercial real estate:
Owner-occupied
Investment properties
Multifamily real estate
Commercial construction
Multifamily construction
One- to four-family construction
Land and land development:
Residential
Commercial
Commercial business
Agricultural business/farmland
One- to four-family residential
Consumer:
$
$
5,323
1,737
105
—
3,416
4,892
—
—
1,574
598
4,475
Consumer secured by one- to four-family
Consumer—other
Total
1,355
609
24,084
$
$
76
—
—
—
—
725
—
—
404
533
1,241
62
136
3,177
$
$
5,490
4,096
—
—
—
298
798
—
2,577
2,017
2,715
$
10,889
5,833
105
—
3,416
5,915
798
—
4,555
3,148
8,431
7,682
7,166
169
—
—
446
—
2,919
2,159
565
136
$
$ 1,265,792
1,924,424
313,914
148,435
151,246
408,966
$ 1,284,363
1,937,423
314,188
148,435
154,662
415,327
— $
—
—
—
—
298
163,718
21,664
1,273,180
334,675
839,722
164,516
24,583
1,279,894
338,388
848,289
6,447
4,199
—
—
—
—
798
—
3,406
6,132
3,264
—
—
18
—
1,085
85
—
1,486
1,239
58
25,543
$
713
15
18,719
$
2,130
760
45,980
$
$
—
68
21,310
520,801
165,057
$ 7,531,594
522,931
165,885
$ 7,598,884
$
119
The following tables provide additional information on the allowance for loan losses and loan balances individually and collectively evaluated for impairment at or for the year ended December 31,
2018 (in thousands):
Commercial
Real Estate
Multifamily
Real Estate
Construction
and Land
Commercial
Business
Agricultural
Business
One- to Four-
Family
Residential
Consumer
Unallocated
Total
For the Year Ended December 31, 2018
Allowance for loan losses:
Beginning balance
$
Provision for loan losses
Recoveries
Charge-offs
$
22,824
3,063
1,646
(401)
$
1,633
2,185
—
—
$
27,568
(2,860)
213
(479)
$
18,311
2,129
1,049
(2,051)
$
4,053
417
64
(756)
$
2,055
1,952
750
(43)
$
3,866
5,141
366
(1,401)
$
8,718
(3,527)
—
—
89,028
8,500
4,088
(5,131)
Ending balance
$
27,132
$
3,818
$
24,442
$
19,438
$
3,778
$
4,714
$
7,972
$
5,191
$
96,485
Commercial
Real Estate
Multifamily
Real Estate
Construction
and Land
Commercial
Business
Agricultural
Business
One- to Four-
Family
Residential
Consumer
Unallocated
Total
December 31, 2018
Allowance individually evaluated
for impairment
$
246
$
— $
— $
16
$
96
$
51
$
7
$
— $
416
Allowance collectively evaluated
for impairment
Allowance for purchased credit-
impaired loans
26,886
3,818
24,442
19,399
3,622
4,663
7,965
5,191
95,986
—
—
—
23
60
—
—
—
83
Total allowance for loan losses
$
27,132
$
3,818
$
24,442
$
19,438
$
3,778
$
4,714
$
7,972
$
5,191
$
96,485
Commercial
Real Estate
Multifamily
Real Estate
Construction
and Land
Commercial
Business
Agricultural
Business
One- to Four-
Family
Residential
Consumer
Unallocated
Total
December 31, 2018
$
8,625
$
— $
3,096
$
391
$
3,298
$
4,469
$
196
$
— $
20,075
3,540,538
368,698
1,104,271
1,482,195
401,082
969,046
784,277
Loan balances:
Loans individually evaluated for
impairment
Loans collectively evaluated for
impairment
Purchased credit-impaired loans
11,993
138
137
1,028
493
101
523
—
—
8,650,107
14,413
Total loans
$
3,561,156
$
368,836
$
1,107,504
$
1,483,614
$
404,873
$
973,616
$
784,996
$
— $
8,684,595
120
The following tables provide additional information on the allowance for loan losses and loan balances individually and collectively evaluated for impairment at or for the year ended December 31,
2017 (in thousands):
Commercial
Real Estate
Multifamily
Real Estate
Construction
and Land
Commercial
Business
Agricultural
Business
One- to Four-
Family
Residential
Consumer
Unallocated
Total
For the Year Ended December 31, 2017
Allowance for loan losses:
Beginning balance
$
Provision for loan losses
Recoveries
Charge-offs
$
20,993
2,639
372
(1,180)
$
1,360
262
11
—
$
34,252
(7,921)
1,237
—
$
16,533
4,355
1,226
(3,803)
$
2,967
3,326
134
(2,374)
$
2,238
(415)
270
(38)
$
4,104
586
481
(1,305)
$
3,550
5,168
—
—
85,997
8,000
3,731
(8,700)
Ending balance
$
22,824
$
1,633
$
27,568
$
18,311
$
4,053
$
2,055
$
3,866
$
8,718
$
89,028
Commercial
Real Estate
Multifamily
Real Estate
Construction
and Land
Commercial
Business
Agricultural
Business
One- to Four-
Family
Residential
Consumer
Unallocated
Total
December 31, 2017
Allowance individually evaluated
for impairment
$
281
$
— $
— $
50
$
264
$
178
$
9
$
— $
782
Allowance collectively evaluated
for impairment
Allowance for purchased credit-
impaired loans
22,543
1,633
27,567
18,214
—
—
1
47
3,676
113
1,877
3,857
8,718
88,085
—
—
—
161
Total allowance for loan losses
$
22,824
$
1,633
$
27,568
$
18,311
$
4,053
$
2,055
$
3,866
$
8,718
$
89,028
Commercial
Real Estate
Multifamily
Real Estate
Construction
and Land
Commercial
Business
Agricultural
Business
One- to Four-
Family
Residential
Consumer
Unallocated
Total
December 31, 2017
$
16,017
$
— $
750
$
1,812
$
8,585
$
5,136
$
212
$
— $
32,512
3,190,921
314,019
903,408
1,275,923
329,238
843,017
688,536
Loan balances:
Loans individually evaluated for
impairment
Loans collectively evaluated
for impairment
Purchased credit-impaired loans
14,848
169
3,365
2,159
565
136
68
—
—
7,545,062
21,310
Total loans
$
3,221,786
$
314,188
$
907,523
$
1,279,894
$
338,388
$
848,289
$
688,816
$
— $
7,598,884
121
The following table provides additional information on the allowance for loan losses for the year ended December 31, 2016 (in thousands):
Commercial
Real Estate
Multifamily
Real Estate
Construction
and Land
Commercial
Business
Agricultural
Business
One- to Four-
Family
Residential
Consumer
Unallocated
Total
For the Year Ended December 31, 2016
Allowance for loan losses:
Beginning balance
$
Provision for loan losses
Recoveries
Charge-offs
$
20,716
441
582
(746)
$
4,195
(2,835)
—
—
$
27,131
5,566
2,171
(616)
$
13,856
1,632
1,993
(948)
$
3,645
(170)
59
(567)
$
4,732
(3,402)
1,283
(375)
$
902
4,079
610
(1,487)
$
2,831
719
—
—
78,008
6,030
6,698
(4,739)
Ending balance
$
20,993
$
1,360
$
34,252
$
16,533
$
2,967
$
2,238
$
4,104
$
3,550
$
85,997
122
Note 6: REAL ESTATE OWNED, HELD FOR SALE, NET
The following table presents the changes in REO, net of valuation allowance, for the years ended December 31, 2018, 2017 and 2016 (in
thousands):
Balance, beginning of period
$
360
$
11,081
$
11,627
Years Ended December 31
2018
2017
2016
Additions from loan foreclosures
Additions from capitalized costs
Additions from acquisitions
Proceeds from dispositions of REO
Gain on sale of REO
Valuation adjustments in the period
641
—
2,593
(838)
242
(387)
46
54
—
(13,474)
2,909
(256)
8,909
—
400
(10,812)
1,833
(876)
Balance, end of period
$
2,611
$
360
$
11,081
The Company had no foreclosed residential real estate properties held as REO at December 31, 2018 or December 31, 2017. The recorded
investment in one- to four-family residential loans in the process of foreclosure was $1.2 million at December 31, 2018 and $2.0 million at
December 31, 2017.
Note 7: PROPERTY AND EQUIPMENT, NET
Land, buildings and equipment owned by the Company and its subsidiaries at December 31, 2018 and 2017 are summarized as follows (in
thousands):
Land(1)
Buildings and leasehold improvements(1)
Furniture and equipment
Less accumulated depreciation
December 31
2018
2017
$
$
37,835
163,813
122,614
324,262
35,080
154,374
105,643
295,097
(152,453)
(140,282)
Property and equipment, net
154,815
(1) The Company had $557,000 and $3.8 million of properties held for sale that were included in land and buildings at December 31, 2018 and
2017, respectively.
171,809
$
$
The Company’s depreciation expense related to property and equipment was $15.2 million, $14.7 million, and $13.5 million for the years ended
December 31, 2018, 2017 and 2016, respectively. The Company’s rental expense was $17.2 million, $16.4 million, and $16.7 million for the
years ended December 31, 2018, 2017 and 2016, respectively.
The Company’s obligations under long-term property leases are as follows (in thousands):
Year
2019
2020
2021
2022
2023
Thereafter
$
Amount
10,876
10,450
9,485
6,716
4,248
11,225
Total
$
53,000
123
Note 8: DEPOSITS
Deposits consist of the following at December 31, 2018 and 2017 (in thousands):
Non-interest-bearing checking
Interest-bearing checking
Regular savings accounts
Money market accounts
Total interest-bearing transaction and savings accounts
Certificates of deposit:
Certificates of deposit less than or equal to $250,000
Certificates of deposit greater than $250,000
Total certificates of deposit(1)
Total deposits
Included in total deposits:
Public fund transaction accounts
Public fund interest-bearing certificates
Total public deposits
December 31
2018
2017
$
3,657,817
$
3,265,544
1,191,016
1,842,581
1,465,369
4,498,966
1,143,303
176,962
1,320,265
971,137
1,557,500
1,422,313
3,950,950
813,997
152,940
966,937
$
$
$
9,477,048
$
8,183,431
217,401
30,089
$
198,719
23,685
247,490
$
222,404
Total brokered deposits
57,228
(1)Certificates of deposit included $563,000 of acquisition discounts at December 31, 2018 and $11,000 of acquisition premiums at December 31,
2017.
377,347
$
$
Deposits at December 31, 2018 and 2017 included deposits from the Company’s directors, executive officers and related entities totaling $8.3
million and $10.0 million, respectively. At December 31, 2018 and 2017, the Company had certificates of deposit of $180.5 million and $155.9
million, respectively, that were equal to or greater than $250,000.
Scheduled maturities and weighted average interest rates of certificate accounts at December 31, 2018 are as follows (dollars in thousands):
Maturing in one year or less
Maturing after one year through two years
Maturing after two years through three years
Maturing after three years through four years
Maturing after four years through five years
Maturing after five years
Total certificates of deposit
December 31, 2018
Amount
Weighted
Average Rate
$
1,001,206
201,919
90,247
13,364
11,282
2,247
$
1,320,265
1.15%
1.09
1.57
1.22
1.75
1.07
1.17%
124
Note 9: ADVANCES FROM FEDERAL HOME LOAN BANK OF DES MOINES
Utilizing a blanket pledge, qualifying loans receivable at December 31, 2018 and 2017, were pledged as security for FHLB borrowings and there
were no securities pledged as collateral as of December 31, 2018 or 2017. At December 31, 2018 and 2017, FHLB advances were scheduled
to mature as follows (in thousands):
At or for the Years Ended December 31
2018
2017
Amount
Weighted
Average Rate
Amount
Weighted
Average Rate
Maturing in one year or less
Maturing after one year through three years
Maturing after three years through five years
Maturing after five years
$
540,000
—
—
189
2.64% $
—
—
5.94
Total FHLB advances
$
540,189
2.64% $
—
—
—
202
202
—%
—
—
5.94
5.94%
The maximum amount outstanding from the FHLB advances at any month end for the years ended December 31, 2018 and 2017 was $540.2
million and $453.2 million, respectively. The average FHLB advances balance outstanding for the years ended December 31, 2018 and 2017
was $253.7 million and $151.3 million, respectively. The average contractual interest rate on the FHLB advances for the years ended December 31,
2018 and 2017 was 2.22% and 1.26%, respectively. As of December 31, 2018, Banner Bank has established a borrowing line with the FHLB
to borrow up to 45% of its total assets, contingent on having sufficient qualifying collateral and ownership of FHLB stock. Islanders Bank
similarly may borrow up to 35% of its total assets, also contingent on collateral and FHLB stock. At December 31, 2018, the maximum total
FHLB credit line was $4.59 billion and $103.5 million for Banner Bank and Islanders Bank, respectively.
Note 10: OTHER BORROWINGS
Other borrowings consist of retail and wholesale repurchase agreements, other term borrowings and Federal Reserve Bank borrowings.
Repurchase Agreements: At December 31, 2018, retail repurchase agreements carry interest rates ranging from 0.10% to 0.55%. These
repurchase agreements are secured by the pledge of certain mortgage-backed and agency securities with a carrying value of $154.0 million. Banner
Bank has the right to pledge or sell these securities, but it must replace them with substantially the same securities. Banner Bank had no
borrowings under wholesale repurchase agreements at December 31, 2018 or December 31, 2017.
Federal Reserve Bank of San Francisco and Other Borrowings: Banner Bank periodically borrows funds on an overnight basis from the Federal
Reserve Bank through the Borrower-In-Custody program. Such borrowings are secured by a pledge of eligible loans. At December 31, 2018,
based upon available unencumbered collateral, Banner Bank was eligible to borrow $1.15 billion from the Federal Reserve Bank, although, at
that date, as well as at December 31, 2017, Banner Bank had no funds borrowed under this or other borrowing arrangements.
At December 31, 2018, Banner Bank had uncommitted federal funds lines of credit agreements with other financial institutions totaling $110.0
million, while Islanders Bank had an uncommitted federal funds line of credit agreement with another financial institution totaling $5.0 million.
No balances were outstanding under these agreements as of December 31, 2018 and 2017. Availability of lines is subject to federal funds balances
available for loan and continued borrower eligibility. These lines are intended to support short-term liquidity needs and the agreements may
restrict consecutive day usage.
A summary of all other borrowings at December 31, 2018 and 2017 by the period remaining to maturity is as follows (dollars in thousands):
Repurchase agreements:
Maturing in one year or less
Maturing after one year through two years
Maturing after two years
Total year-end outstanding
Average outstanding
Maximum outstanding at any month-end
At or for the Years Ended December 31
2018
2017
Amount
Weighted
Average Rate
Amount
Weighted
Average Rate
0.21% $
—
—
0.21% $
95,860
—
—
95,860
0.21% $
111,872
n/a
$
120,245
0.29%
—
—
0.29%
0.28%
n/a
118,995
—
—
118,995
108,065
121,766
$
$
$
$
125
NOTE 11: JUNIOR SUBORDINATED DEBENTURES AND MANDATORILY REDEEMABLE TRUST PREFERRED SECURITIES
At December 31, 2018, the Company had nine wholly-owned subsidiary grantor trusts (the Trusts), which had issued $136.0 million of trust preferred securities to third parties, as well as $4.2
million of common capital securities, carried among other assets, which were issued to the Company. Trust preferred securities and common capital securities accrue and pay distributions
periodically at specified annual rates as provided in the indentures. The Trusts used the proceeds from the offerings to purchase a like amount of junior subordinated debentures (the Debentures)
of the Company. The Debentures are the sole assets of the Trusts. The Company’s obligations under the debentures and related documents, taken together, constitute a full and unconditional
guarantee by the Company of the obligations of the Trusts. The trust preferred securities (TPS) are mandatorily redeemable upon the maturity of the Debentures, or upon earlier redemption as
provided in the indentures. The Company has the right to redeem the Debentures in whole on or after specific dates, at a redemption price specified in the indentures plus any accrued but unpaid
interest to the redemption date. All of the trust preferred securities issued by the Trusts qualified as Tier 1 capital as of December 31, 2018. At December 31, 2018, the Trusts comprised $136.0
million, or 10.4% of the Company’s total risk-based capital.
The following table is a summary of trust preferred securities at December 31, 2018 (dollars in thousands):
Name of Trust
Aggregate
Liquidation
Amount of
Trust Preferred
Securities
Aggregate
Liquidation
Amount of
Common Capital
Securities
Aggregate
Principal Amount
of Junior
Subordinated
Debentures
Stated
Maturity (1)
Current
Interest
Rate
Reset
Period
Interest Rate Spread
Banner Capital Trust II
$
15,000
$
464
$
15,464
2033
5.79% Quarterly
Three-month LIBOR + 3.35%
Banner Capital Trust III
Banner Capital Trust IV
Banner Capital Trust V
Banner Capital Trust VI
Banner Capital Trust VII
Siuslaw Statutory Trust I
Greater Sacramento Bancorp Statutory Trust I
Greater Sacramento Bancorp Statutory Trust II
15,000
15,000
25,000
25,000
25,000
8,000
4,000
4,000
465
465
774
774
774
248
124
124
15,465
2033
5.34
Quarterly
Three-month LIBOR + 2.90%
15,465
2034
5.29
Quarterly
Three-month LIBOR + 2.85%
25,774
2035
4.22
Quarterly
Three-month LIBOR + 1.57%
25,774
2037
4.36
Quarterly
Three-month LIBOR + 1.62%
25,774
2037
3.78
Quarterly
Three-month LIBOR + 1.38%
8,248
2034
5.49
Quarterly
Three-month LIBOR + 2.70%
4,124
2033
5.79
Quarterly
Three-month LIBOR + 3.35%
4,124
2035
4.47
Quarterly
Three-month LIBOR + 1.68%
Total TPS liability at par
$
136,000
$
4,212
140,212
4.71%
Fair value adjustment(2)
Total TPS liability at fair value(2)
(1) All of the Company's trust preferred securities are eligible for redemption.
(2) The Company has elected to use fair value accounting on its TPS.
(26,121)
$
114,091
126
Note 12: INCOME TAXES
The following table presents the components of the provision for income taxes included in the Consolidated Statements of Operations for the
years ended December 31, 2018, 2017 and 2016 (in thousands):
Current
Federal
State
Total Current
Deferred
Federal
State
Total Deferred
Years Ended December 31
2018
2017
2016
$
21,869
$
30,961
$
4,130
25,999
2,021
575
2,596
3,085
34,046
58,646
(2,204)
56,442
29,787
2,477
32,264
9,908
2,083
11,991
Provision for income taxes
$
28,595
$
90,488
$
44,255
The following table presents the reconciliation of the federal statutory rate to the actual effective rate for the years ended December 31, 2018,
2017 and 2016:
Federal income tax statutory rate
Increase (decrease) in tax rate due to:
Tax-exempt interest
Investment in life insurance
State income taxes, net of federal tax offset
Tax credits
Merger and acquisition costs
Valuation reserve release
Federal law change
Other
Years Ended December 31
2018
21.0%
(2.0)
(0.6)
2.3
(0.8)
0.1
(2.5)
—
(0.2)
2017
35.0%
(2.6)
(1.1)
2.0
(0.6)
—
—
28.2
(1.1)
2016
35.0%
(2.6)
(1.2)
2.2
(0.8)
—
—
—
1.5
Effective income tax rate
17.3%
59.8%
34.1%
127
The following table reflects the effect of temporary differences that gave rise to the components of the net deferred tax asset as of December 31,
2018 and 2017 (in thousands):
Deferred tax assets:
Loan loss and REO
Deferred compensation
Net operating loss carryforward
Federal and state tax credits
State net operating losses
Loan discount
Other
Total deferred tax assets
Deferred tax liabilities:
Depreciation
Deferred loan fees, servicing rights and loan origination costs
Intangibles
Financial instruments accounted for under fair value accounting
Other
Total deferred tax liabilities
Deferred income tax asset
Valuation allowance
Deferred tax asset, net
$
December 31
2018
2017
$
24,156
15,991
37,828
7,614
6,105
5,756
983
98,433
(3,771)
(10,196)
(8,428)
(833)
—
(23,228)
75,205
(184)
22,294
13,045
43,721
7,614
6,706
4,736
4,326
102,442
(1,343)
(9,564)
(5,690)
(9,702)
(325)
(26,624)
75,818
(4,391)
$
75,021
$
71,427
Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary
differences are expected to be recognized or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in
income tax expense in the period of enactment. In December 2017, the federal government enacted the 2017 Tax Act. Among other provisions,
the 2017 Tax Act reduced the federal marginal corporate income tax rate from 35% to 21%. As a result of the passage of the 2017 Tax Act, the
Company recorded a $42.6 million charge for the revaluation of its net deferred tax asset to account for the future impact of the decrease in the
corporate income tax rate and other provisions of the legislation. The charge was recorded as an increase to tax expense and reduction of the
net deferred tax asset for the year ending December 31, 2017. The $42.6 million charge recorded by the Company included $4.2 million of
provisional income tax expense related to AMT credits that are limited under Section 382 of the Code, which resulted in a reduction in the AMT
deferred tax asset. The adjustments to deferred tax assets and receivables related to the refundable nature of AMT credits were provisional
amounts estimated based on information available as of December 31, 2017. During 2018, the Company determined the Section 382 alternative
minimum tax credits carryforward indefinitely and therefore released the provisional $4.2 million valuation reserve recorded in 2017 against
the tax credits. The release was recorded as a reduction to current tax expense and an increase to the net deferred tax assets.
At December 31, 2018, the Company has federal net operating loss carryforwards of approximately $180.1 million. The Company also has
$86.8 million of state net operating loss carryforwards, against which the Company has established a $184,000 valuation reserve. The federal
and state net operating losses will expire, if unused, by the end of 2034. The Company has federal general business credit carryforwards at
December 31, 2018 of $3.4 million, which will expire, if unused, by the end of 2031. The Company also has federal alternative minimum tax
credit carryforwards of $4.2 million, which are available to reduce future federal regular income taxes, if any, over an indefinite period. At
December 31, 2017, the Company had federal and state net operating loss carryforwards of approximately $208.2 million and $94.6 million,
respectively, and federal general business credits carryforwards of $3.4 million. At that same date, the Company also had federal alternative
minimum tax credit carryforwards of approximately $4.2 million.
As a consequence of our 2015 acquisition of Starbuck Bancshares, Inc., the Company experienced a change in control within the meaning of
Section 382 of the Code. In addition, the underlying Section 382 limitations at Starbuck Bancshares, Inc.'s level continue to apply to the Company.
Section 382 limits the ability of a corporate taxpayer to use net operating loss carryforwards, general business credits, and recognized built-in-
losses, on an annual basis, incurred prior to the change in control against income earned after the change in control. As a result of the Section
382 limitations, the Company is limited to utilizing $21.5 million on an annual basis (after the application of the Section 382 limitations carried
over from Starbuck Bancshares, Inc.) of federal net operating loss carryforwards, general business credits, and recognized built-in losses. The
applicable state Section 382 limitations range from $525,000 to $21.5 million. The Company has provided a $184,000 valuation reserve against
the portion of its various state net operating loss carryforwards and tax credits that it believes it is more likely than not that it will not realize the
benefit because the application of the Section 382 limitations at the state level is based on future apportionment rates.
In addition, as a consequence of Banner's capital raise in June 2010, the Company experienced a change in control within the meaning of Section
382 of the Code. As a result of the Section 382 limitations, the Company is limited to utilizing $6.9 million of net operating loss carryforwards
128
which existed prior to the acquisition of Starbuck Bancshares, Inc., on an annual basis. Based on its analysis, the Company believes it is more
likely than not that the June 2010 change in control will not impact its ability to utilize all of the related available net operating loss carryforwards,
general business credits, and recognized built-in-losses.
Retained earnings at December 31, 2018 and 2017 included approximately $5.4 million in tax basis bad debt reserves for which no income tax
liability has been recorded. In the future, if this tax bad debt reserve is used for purposes other than to absorb bad debts or the Company no
longer qualifies as a bank or is completely liquidated, the Company will incur a federal tax liability at the then-prevailing corporate tax rate,
established as $1.1 million at December 31, 2018.
Tax credit investments: The Company invests in low income housing tax credit funds that are designed to generate a return primarily through
the realization of federal tax credits. The Company accounts for these investments by amortizing the cost of tax credit investments over the life
of the investment using a proportional amortization method and tax credit investment amortization expense is a component of the provision for
income taxes.
The following table presents the balances of the Company's tax credit investments and related unfunded commitments at December 31, 2018
and 2017 (in thousands):
Tax credit investments
Unfunded commitments—tax credit investments
December 31, 2018
December 31, 2017
$
17,360
$
12,726
7,311
4,417
The following table presents other information related to the Company's tax credit investments for the years ended December 31, 2018, 2017
and 2016 (in thousands):
Tax credits and other tax benefits recognized
Tax credit amortization expense included in provision for income taxes
Note 13: EMPLOYEE BENEFIT PLANS
For the years ended December 31,
2018
2017
2016
$
1,456
$
1,140
$
1,136
1,151
1,144
672
Employee Retirement Plans: Substantially all of the Company’s and the Banks' employees are eligible to participate in its 401(k)/Profit Sharing
Plan, a defined contribution and profit sharing plan sponsored by the Company. Employees may elect to have a portion of their salary contributed
to the plan in conformity with Section 401(k) of the Internal Revenue Code. At the discretion of the Company’s Board of Directors, the Company
may elect to make matching and/or profit sharing contributions for the employees’ benefit. For the years ended December 31, 2018, 2017 and
2016, $5.4 million, $4.8 million and $4.6 million, respectively, was expensed for 401(k) contributions. The Board of Directors has elected to
make a 4% of eligible compensation matching contribution for 2019.
Supplemental Retirement and Salary Continuation Plans: Through the Banks, the Company is obligated under various non-qualified deferred
compensation plans to help supplement the retirement income of certain executives, including certain retired executives, selected by resolution
of the Banks’ Boards of Directors or in certain cases by the former directors of acquired banks. These plans are unfunded, include both defined
benefit and defined contribution plans, and provide for payments after the executive’s retirement. In the event of a participant employee’s death
prior to or during retirement, the Company is obligated to pay to the designated beneficiary the benefits set forth under the plan. For the years
ended December 31, 2018, 2017 and 2016, expense recorded for supplemental retirement and salary continuation plan benefits totaled $2.3
million, $3.5 million, and $2.7 million, respectively. At December 31, 2018 and 2017, liabilities recorded for the various supplemental retirement
and salary continuation plan benefits totaled $37.5 million and $38.6 million, respectively, and are recorded in a deferred compensation liability
account.
Deferred Compensation Plans and Rabbi Trusts: The Company and the Banks also offer non-qualified deferred compensation plans to members
of their Boards of Directors and certain employees. The plans permit each participant to defer a portion of director fees, non-qualified retirement
contributions, salary or bonuses for future receipt. Compensation is charged to expense in the period earned. In connection with its acquisitions,
the Company also assumed liability for certain deferred compensation plans for key employees, retired employees and directors.
In order to fund the plans’ future obligations, the Company has purchased life insurance policies or other investments, including Banner
Corporation common stock, which in certain instances are held in irrevocable trusts commonly referred to as “Rabbi Trusts.” As the Company
is the owner of the investments and the beneficiary of the insurance policies, and in order to reflect the Company’s policy to pay benefits equal
to the accumulations, the assets and liabilities are reflected in the Consolidated Statements of Financial Condition. Banner Corporation common
stock held for such plans is reported as a contra-equity account and was recorded at an original cost of $7.3 million at December 31, 2018 and
129
$7.4 million at December 31, 2017. At December 31, 2018 and 2017, liabilities recorded in connection with deferred compensation plan benefits
totaled $9.0 million ($7.3 million in contra-equity) and $9.9 million ($7.4 million in contra-equity), respectively, and are recorded in deferred
compensation or equity as appropriate.
The Banks have purchased, or acquired through mergers, life insurance policies in connection with the implementation of certain executive
supplemental retirement, salary continuation and deferred compensation retirement plans, as well as additional policies not related to any specific
plan. These policies provide protection against the adverse financial effects that could result from the death of a key employee and provide tax-
exempt income to offset expenses associated with the plans. It is the Banks’ intent to hold these policies as a long-term investment. However,
there will be an income tax impact if the Banks choose to surrender certain policies. Although the lives of individual current or former management-
level employees are insured, the Banks are the owners and sole or partial beneficiaries. At December 31, 2018 and 2017, the cash surrender
value of these policies was $177.5 million and $162.7 million, respectively. The Banks are exposed to credit risk to the extent an insurance
company is unable to fulfill its financial obligations under a policy. In order to mitigate this risk, the Banks use a variety of insurance companies
and regularly monitor their financial condition.
Note 14: STOCK-BASED COMPENSATION PLANS
The Company operates the following stock-based compensation plans as approved by its shareholders:
•
•
•
2012 Restricted Stock and Incentive Bonus Plan (2012 Restricted Stock Plan).
2014 Omnibus Incentive Plan (the 2014 Plan).
2018 Omnibus Incentive Plan (the 2018 Plan).
The purpose of these plans is to promote the success and enhance the value of the Company by providing a means for attracting and retaining
highly skilled employees, officers and directors of Banner Corporation and its affiliates and linking their personal interests with those of the
Company's shareholders. Under these plans the Company currently has outstanding restricted stock share grants and restricted stock unit grants.
2012 Restricted Stock and Incentive Bonus Plan
Under the 2012 Restricted Stock Plan, which was approved by shareholders on April 24, 2012, the Company is authorized to issue up to 300,000
shares of its common stock. Shares granted under the 2012 Restricted Stock Plan have a minimum vesting period of three years. The 2012
Restricted Stock Plan will continue in effect for a term of ten years, after which no further awards may be granted.
The 2012 Restricted Stock Plan was amended on April 23, 2013 to provide for the ability to grant (1) cash-denominated incentive-based awards
payable in cash or common stock, including those that are eligible to qualify as qualified performance-based compensation for the purposes of
Section 162(m) of the Code and (2) restricted stock awards that qualify as qualified performance-based compensation for the purposes of Section
162(m) of the Code. Vesting requirements may include time-based conditions, operation-based conditions, and/or market-based conditions.
As of December 31, 2018, the Company had granted 269,863 shares of restricted stock from the 2012 Restricted Stock Plan (as amended and
restated), of which 261,849 shares had vested and 8,014 shares remain unvested.
2014 Omnibus Incentive Plan
The 2014 Plan was approved by shareholders on April 22, 2014. The 2014 Plan provides for the grant of incentive stock options, non-qualified
stock options, stock appreciation rights, restricted stock, restricted stock units, performance shares, performance units, other stock-based awards
and other cash awards, and provides for vesting requirements which may include time-based or performance-based conditions. The Company
has reserved 900,000 shares of its common stock for issuance under the 2014 Plan in connection with the exercise of awards. As of December 31,
2018, 340,163 restricted stock shares and 186,373 restricted stock units have been granted under the 2014 Plan of which 181,478 restricted stock
shares and 34,975 restricted stock units have vested.
2018 Omnibus Incentive Plan
The 2018 Plan was approved by shareholders on April 24, 2018. The 2018 Plan provides for the grant of incentive stock options, non-qualified
stock options, stock appreciation rights, restricted stock, restricted stock units, performance shares, performance units, other stock-based awards
and other cash awards, and provides for vesting requirements which may include time-based or performance-based conditions. The Company
reserved 900,000 shares of common stock for issuance under the 2018 Plan in connection with the exercise of awards. As of December 31,
2018, no shares have been granted under the 2018 Plan.
The expense associated with all restricted stock and unit grants was $6.6 million, $6.0 million and $4.5 million respectively, for the years ended
December 31, 2018, 2017 and 2016. Unrecognized compensation expense for these awards as of December 31, 2018 was $9.0 million and will
be amortized over the next 34 months.
130
A summary of the Company's Restricted Stock/Unit award activity during the years ended December 31, 2018, 2017 and 2016 follows:
Unvested at January 1, 2016
Granted (38,934 non-voting)
Vested
Forfeited
Unvested at December 31, 2016
Granted (41,318 non-voting)
Vested
Forfeited
Unvested at December 31, 2017
Granted (159,541 non-voting)
Vested
Forfeited
Unvested at December 31, 2018
Weighted
Average
Grant-Date
Fair Value
42.33
47.74
41.47
42.54
42.26
55.86
43.81
39.83
48.97
55.04
48.60
47.05
52.43
Shares/Units
231,562
$
177,775
(104,297)
(14,321)
290,719
153,777
(103,259)
(39,160)
302,077
161,598
(103,363)
(42,215)
318,097
Note 15: PREFERRED STOCK AND RELATED WARRANT
On November 21, 2008, as part of the Capital Purchase Program, the Company entered into a Purchase Agreement with U.S. Treasury pursuant
to which the Company issued and sold 124,000 shares of Series A Preferred Stock, having a liquidation preference of $1,000 per share ($124
million liquidation preference in the aggregate) and a ten-year warrant to purchase up to 243,998 shares of the Company’s common stock, par
value $0.01 per share, at an initial exercise price of $76.23 per share (post reverse-split), for an aggregate purchase price of $18.6 million in
cash.
During the year ended December 31, 2012, the Company repurchased or redeemed its Series A Preferred Stock. The related warrants to purchase
up to $18.6 million in Banner common stock (243,998 shares) were sold by the U.S. Treasury at public auction in June 2013. That sale did not
change the Company's capital position and did not have any impact on the financial accounting and reporting for these securities.
On November 21, 2018 the warrants expired unexercised.
131
Note 16: REGULATORY CAPITAL REQUIREMENTS
Banner Corporation is a bank holding company registered with the Federal Reserve. Bank holding companies are subject to capital adequacy
requirements of the Federal Reserve under the Bank Holding Company Act of 1956, as amended (BHCA), and the regulations of the Federal
Reserve. Banner Bank and Islanders Bank, as state-chartered federally insured commercial banks, are subject to the capital requirements
established by the FDIC. The Federal Reserve requires Banner to maintain capital adequacy that generally parallels the FDIC requirements.
The following table shows the regulatory capital ratios of the Company and the Banks and the minimum regulatory requirements (dollars in
thousands):
Actual
Minimum for Capital
Adequacy Purposes
Minimum to be
Categorized as “Well-
Capitalized” Under
Prompt Corrective Action
Provisions
Amount
Ratio
Amount
Ratio
Amount
Ratio
December 31, 2018:
The Company—consolidated:
Total capital to risk-weighted assets
Tier 1 capital to risk-weighted assets
Tier 1 common equity to risk-weighted assets
Tier 1 capital to average leverage assets
$ 1,302,239
1,203,155
1,067,155
1,203,155
13.12% $
12.12
10.75
10.98
Banner Bank:
Total capital to risk- weighted assets
Tier 1 capital to risk- weighted assets
Tier 1 common equity to risk-weighted assets
Tier 1 capital to average leverage assets
1,217,173
1,120,523
1,120,523
1,120,523
Islanders Bank:
Total capital to risk- weighted assets
Tier 1 capital to risk- weighted assets
Tier 1 common equity to risk-weighted assets
Tier 1 capital to average leverage assets
34,567
32,200
32,200
32,200
12.50
11.51
11.51
10.50
18.26
17.01
17.01
11.16
December 31, 2017:
The Company—consolidated:
Total capital to risk-weighted assets
Tier 1 capital to risk-weighted assets
Tier 1 common equity to risk-weighted assets
Tier 1 capital to average leverage assets
$ 1,214,631
1,123,154
994,080
1,123,154
13.81% $
12.77
11.30
11.34
Banner Bank:
Total capital to risk- weighted assets
Tier 1 capital to risk- weighted assets
Tier 1 common equity to risk-weighted assets
Tier 1 capital to average leverage assets
1,102,195
1,013,079
1,013,079
1,013,079
Islanders Bank:
Total capital to risk- weighted assets
Tier 1 capital to risk- weighted assets
Tier 1 common equity to risk-weighted assets
Tier 1 capital to average leverage assets
32,122
29,761
29,761
29,761
12.83
11.79
11.79
10.53
16.39
15.18
15.18
10.65
794,072
595,554
446,665
438,379
778,766
584,074
438,056
426,799
15,142
11,357
8,518
11,543
703,508
527,631
395,723
396,313
687,266
515,450
386,587
384,920
15,681
11,761
8,821
11,183
8.00% $
6.00
4.50
4.00
8.00
6.00
4.50
4.00
8.00
6.00
4.50
4.00
8.00% $
6.00
4.50
4.00
8.00
6.00
4.50
4.00
8.00
6.00
4.50
4.00
992,590
595,554
n/a
n/a
973,457
778,766
632,747
533,498
18,928
15,142
12,303
14,428
879,385
527,631
n/a
n/a
859,083
687,266
558,404
481,150
19,602
15,681
12,741
13,979
10.00%
6.00
n/a
n/a
10.00
8.00
6.50
5.00
10.00
8.00
6.50
5.00
10.00%
6.00
n/a
n/a
10.00
8.00
6.50
5.00
10.00
8.00
6.50
5.00
At December 31, 2018, Banner Corporation and the Banks each exceeded all regulatory capital adequacy requirements. There have been no
conditions or events since December 31, 2018 that have materially adversely changed the Tier 1 or Tier 2 capital of the Company or the
Banks. However, events beyond the control of the Banks, such as weak or depressed economic conditions in areas where the Banks have most
of their loans, could adversely affect future earnings and, consequently, the ability of the Banks to meet their respective capital requirements. The
Company may not declare or pay cash dividends on, or repurchase, any of its shares of common stock if the effect thereof would cause equity
to be reduced below applicable regulatory capital maintenance requirements or if such declaration and payment would otherwise violate regulatory
requirements.
132
Effective January 1, 2015 (with some changes transitioned into full effectiveness over several years), Banner Corporation and the Banks became
subject to new capital regulations adopted by the Federal Reserve and the FDIC, which established minimum required ratios for common equity
Tier 1 (“CET1”) capital, Tier 1 capital, total capital and the leverage ratio; risk-weightings of certain assets and other items for purposes of the
risk-based capital ratios, a required capital conservation buffer over the required capital ratios, and defined what qualifies as capital for purposes
of meeting the capital requirements. These regulations implement the regulatory capital reforms required by the Dodd-Frank Act and the “Basel
III” regulatory capital requirements.
Under the capital regulations, the minimum capital ratios are: (1) a CET1 capital ratio of 4.5% of risk-weighted assets; (2) a Tier 1 capital ratio
of 6.0% of risk-weighted assets; (3) a total risk-based capital ratio of 8.0% of risk-weighted assets; and (4) a leverage ratio (the ratio of Tier 1
capital to average total consolidated assets) of 4.0%. CET1 generally consists of common stock; retained earnings; accumulated other
comprehensive income (“AOCI”) unless an institution elects to exclude AOCI from regulatory capital; and certain minority interests; all subject
to applicable regulatory adjustments and deductions. Tier 1 capital generally consists of CET1 and noncumulative perpetual preferred stock.
Tier 2 capital generally consists of other preferred stock and subordinated debt meeting certain conditions plus an amount of the allowance for
loan and lease losses up to 1.25% of assets. Total capital is the sum of Tier 1 and Tier 2 capital.
For purposes of determining risk-based capital, assets and certain off-balance sheet items are risk-weighted from 0% to 1,250%, depending on
the risk characteristics of the asset or item. The regulations changed certain risk-weightings compared to the earlier capital rules, including a
150% risk weight (up from 100%) for certain high volatility commercial real estate acquisition, development and construction loans and for
non-residential mortgage loans that are 90 days past due or otherwise in nonaccrual status; a 20% (up from 0%) credit conversion factor for the
unused portion of a commitment with an original maturity of one year or less that is not unconditionally cancellable (up from 0%); and a 250%
risk weight (up from 100%) for mortgage servicing and deferred tax assets that are not deducted from capital.
In addition to the minimum CET1, Tier 1, leverage ratio and total capital ratios, Banner and each of the Banks must maintain a capital conservation
buffer consisting of additional CET1 capital greater than 2.5% of risk-weighted assets above the required minimum risk-based capital levels in
order to avoid limitations on paying dividends, repurchasing shares, and paying discretionary bonuses. The new capital conservation buffer
requirement was phased in beginning on January 1, 2016 when a buffer greater than 0.625% of risk-weighted assets was required, which amount
increased each year by 0.625% until the buffer requirement was fully implemented at 2.5% on January 1, 2019. The capital conservation
requirement at December 31, 2018 was an amount greater than 1.875% of risk-weighted assets.
Note 17: GOODWILL, OTHER INTANGIBLE ASSETS AND MORTGAGE SERVICING RIGHTS
Goodwill and Other Intangible Assets: At December 31, 2018, intangible assets are comprised of goodwill, CDI, and LHI acquired in business
combinations. Goodwill represents the excess of the total purchase consideration paid over the fair value of the assets acquired, net of the fair
values of liabilities assumed, and is not amortized but is reviewed annually for impairment. Banner has identified one reporting unit for purposes
of evaluating goodwill for impairment. At December 31, 2018, the Company completed a qualitative assessment of goodwill and concluded
that it is more likely than not that the fair value of Banner, the reporting unit, exceeds the carrying value.
CDI represents the value of transaction-related deposits and the value of the customer relationships associated with the deposits. LHI represents
the value ascribed to leases assumed in an acquisition in which the lease terms are favorable compared to a market lease at the date of acquisition.
The Company amortizes CDI and LHI over their estimated useful lives and reviews them at least annually for events or circumstances that could
impair their value. The CDI assets shown in the table below represent the value ascribed to the long-term deposit relationships acquired in
various bank acquisitions. These intangible assets are being amortized using an accelerated method over estimated useful lives of three to ten
years. The CDI and LHI assets are not estimated to have a significant residual value.
The following table summarizes the changes in the Company’s goodwill, CDI and LHI for the years ended December 31, 2018, 2017 and 2016
(in thousands):
Balance, January 1, 2016
Amortization
Other changes (1)
Balance, December 31, 2016
Amortization
Adjustments to goodwill(2)
Balance, December 31, 2017
Additions through acquisition(3)
Amortization
Goodwill
CDI
LHI
Total
$
$
247,738
—
(3,155)
244,583
—
(1,924)
242,659
96,495
—
$
36,762
(7,061)
—
29,701
(6,247)
(1,076)
22,378
16,368
(6,047)
$
710
(249)
—
461
(184)
—
277
—
(52)
285,210
(7,310)
(3,155)
274,745
(6,431)
(3,000)
265,314
112,863
(6,099)
Balance, December 31, 2018
$
339,154
$
32,699
$
225
$
372,078
133
(1) The adjustments to goodwill in 2016 related to changes in the preliminary goodwill recorded for the Starbuck Bancshares, Inc. acquisition
including adjustments to loan discount, deferred taxes and REO valuations.
(2) Acquired Goodwill and CDI were adjusted for the sale of the Utah branches in 2017.
(3) The additions to goodwill and CDI in 2018 relate to the acquisition of Skagit.
Estimated amortization expense in future years with respect to CDI as of December 31, 2018 (in thousands):
Year ended:
2019
2020
2021
2022
Thereafter
Net carrying amount
Estimated
Amortization
$
$
7,957
6,888
5,816
4,651
7,387
32,699
Mortgage servicing rights are reported in other assets. Mortgage servicing rights are initially recognized at fair value and are amortized in
proportion to, and over the period of, the estimated future net servicing income of the underlying financial assets. Mortgage servicing rights are
subsequently evaluated for impairment based upon the fair value of the rights compared to the amortized cost (remaining unamortized initial
fair value). If the fair value is less than the amortized cost, a valuation allowance is created through an impairment charge to servicing fee
income. However, if the fair value is greater than the amortized cost, the amount above the amortized cost is not recognized in the carrying
value. In 2018, 2017 and 2016, the Company did not record any impairment charges or recoveries against mortgage servicing rights. Unpaid
principal balance of loans for which mortgage servicing rights have been recognized totaled $2.36 billion and $2.19 billion at December 31,
2018 and 2017, respectively. Custodial accounts maintained in connection with this servicing totaled $11.1 million and $10.2 million at
December 31, 2018 and 2017, respectively.
An analysis of the mortgage servicing rights for the years ended December 31, 2018, 2017 and 2016 is presented below (in thousands):
Balance, beginning of the year
Amounts capitalized
Additions through purchase
Amortization (1)
Balance, end of the year (2)
Years Ended December 31
2018
2017
2016
$
$
14,738
$
15,249
$
3,623
166
(3,889)
3,361
94
(3,966)
14,638
$
14,738
$
13,295
5,965
—
(4,011)
15,249
(1) Amortization of mortgage servicing rights is recorded as a reduction of loan servicing income and any unamortized balance is fully
written off if the loan repays in full.
(2) There was no valuation allowance as of December 31, 2018 and 2017.
134
Note 18: FAIR VALUE
The following table presents estimated fair values of the Company’s financial instruments as of December 31, 2018 and 2017, whether or not
recognized or recorded in the Consolidated Statements of Financial Condition (in thousands):
Assets:
Cash and cash equivalents
Securities—trading
Securities—available-for-sale
Securities—held-to-maturity
Securities—held-to-maturity
Loans receivable held for sale
Loans receivable
FHLB stock
Bank-owned life insurance
Mortgage servicing rights
Equity securities
Derivatives:
Interest rate swaps
Interest rate lock and forward sales
commitments
Liabilities:
Demand, interest-bearing checking and money
market
Regular savings
Certificates of deposit
Advances from FHLB
Junior subordinated debentures at fair value
Other borrowings
Derivatives:
Interest rate swaps
Interest rate lock and forward sales
commitments
December 31, 2018
December 31, 2017
Level
Carrying
Value
Estimated
Fair Value
Carrying
Value
Estimated
Fair Value
1
2,3
2
2
3
2
3
3
1
3
1
2
2
2
2
2
2
3
2
2
2
$ 272,196
25,896
1,636,223
230,984
3,236
171,031
8,684,595
31,955
177,467
14,638
352
$ 272,196
25,896
1,636,223
229,301
3,236
171,157
8,629,450
31,955
177,467
25,813
352
$ 261,200
22,318
919,485
256,793
3,478
40,725
7,598,884
10,334
162,668
14,738
—
$ 261,200
22,318
919,485
258,710
3,478
40,923
7,445,990
10,334
162,668
19,835
—
3,138
3,138
5,083
5,083
471
471
523
523
6,314,202
1,842,581
1,320,265
540,189
114,091
118,995
6,314,202
1,842,581
1,298,238
540,189
114,091
118,995
5,658,994
1,557,500
966,937
202
98,707
95,860
5,658,994
1,557,500
947,517
202
98,707
95,860
3,138
3,138
5,083
5,083
1,654
1,654
201
201
The Company measures and discloses certain assets and liabilities at fair value. Fair value is defined as the price that would be received to sell
an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date (that is, not a forced liquidation
or distressed sale). GAAP establishes a consistent framework for measuring fair value and disclosure requirements about fair value measurements.
Among other things, the standard requires us to maximize the use of observable inputs and minimize the use of unobservable inputs when
measuring fair value. Observable inputs reflect market data obtained from independent sources, while unobservable inputs reflect the Company’s
estimates for market assumptions. These two types of inputs create the following fair value hierarchy:
• Level 1 – Quoted prices in active markets for identical instruments. An active market is a market in which transactions occur with
sufficient frequency and volume to provide pricing information on an ongoing basis. A quoted price in an active market provides the
most reliable evidence of fair value and shall be used to measure fair value whenever available.
• Level 2 – Observable inputs other than Level 1 including quoted prices in active markets for similar instruments, quoted prices in less
active markets for identical or similar instruments, or other observable inputs that can be corroborated by observable market data.
• Level 3 – Unobservable inputs supported by little or no market activity for financial instruments whose value is determined using pricing
models, discounted cash flow methodologies, or similar techniques, as well as instruments for which the determination of fair value
requires significant management judgment or estimation; also includes observable inputs from non-binding single dealer quotes not
corroborated by observable market data. In developing Level 3 measurements, management incorporates whatever market data might
be available and uses discounted cash flow models where appropriate. These calculations include projections of future cash flows,
including appropriate default and loss assumptions, and market based discount rates.
135
The estimated fair value amounts of financial instruments have been determined by the Company using available market information and
appropriate valuation methodologies. However, considerable judgment is required to interpret data to develop the estimates of fair
value. Accordingly, the estimates presented herein are not necessarily indicative of the amounts the Company could realize at a future date. The
use of different market assumptions and/or estimation methodologies may have a material effect on the estimated fair value amounts. In addition,
reasonable comparability between financial institutions may not be likely due to the wide range of permitted valuation techniques and numerous
estimates that must be made given the absence of active secondary markets for many of the financial instruments. This lack of uniform valuation
methodologies also introduces a greater degree of subjectivity to these estimated fair values. Transfers between levels of the fair value hierarchy
are deemed to occur at the end of the reporting period.
Items Measured at Fair Value on a Recurring Basis:
The following tables present financial assets and liabilities measured at fair value on a recurring basis and the level within the fair value hierarchy
of the fair value measurements for those assets and liabilities as of December 31, 2018 and 2017 (in thousands):
Assets:
Securities—trading
Corporate Bonds (TPS securities)
$
— $
—
— $
—
$
25,896
25,896
25,896
25,896
December 31, 2018
Level 1
Level 2
Level 3
Total
Securities—available-for-sale
U.S. Government and agency
Municipal bonds
Corporate bonds
Mortgage-backed securities
Asset-backed securities
Loans held for sale
Equity securities
Derivatives
Interest rate swaps
Interest rate lock and forward sales commitments
Liabilities
Junior subordinated debentures at fair value
Derivatives
Interest rate swaps
Interest rate lock and forward sales commitments
—
—
—
—
—
—
—
—
—
—
149,112
117,822
3,495
1,343,861
21,933
1,636,223
164,767
352
3,138
471
—
—
—
—
—
—
—
—
—
—
149,112
117,822
3,495
1,343,861
21,933
1,636,223
164,767
352
3,138
471
— $
1,804,951
$
25,896
$
1,830,847
— $
— $
114,091
$
114,091
—
—
3,138
1,654
—
—
3,138
1,654
— $
4,792
$
114,091
$
118,883
$
$
$
136
Assets:
Securities—trading
Municipal bonds
Corporate Bonds (TPS securities)
Equity securities
Securities—available-for-sale
U.S. Government and agency
Municipal bonds
Corporate bonds
Mortgage-backed securities
Asset-backed securities
Equity securities
Loans held for sale
Derivatives
Interest rate swaps
Interest rate lock and forward sales commitments
Liabilities
Junior subordinated debentures at fair value
Derivatives
Interest rate swaps
Interest rate lock and forward sales commitments
December 31, 2017
Level 1
Level 2
Level 3
Total
$
$
$
$
— $
—
—
—
—
—
—
—
—
—
—
—
—
—
100
—
160
260
72,466
68,733
5,393
739,557
27,758
5,578
919,485
32,392
5,083
523
$
— $
22,058
—
22,058
—
—
—
—
—
—
—
—
—
—
100
22,058
160
22,318
72,466
68,733
5,393
739,557
27,758
5,578
919,485
32,392
5,083
523
— $
957,743
$
22,058
$
979,801
— $
— $
98,707
$
98,707
—
—
5,083
201
—
—
5,083
201
— $
5,284
$
98,707
$
103,991
The following methods were used to estimate the fair value of each class of financial instruments:
Securities: The estimated fair values of investment securities and mortgaged-backed securities are priced using current active market quotes, if
available, which are considered Level 1 measurements. For most of the portfolio, matrix pricing based on the securities’ relationship to other
benchmark quoted prices is used to establish the fair value. These measurements are considered Level 2. Due to the continued limited activity
in the trust preferred markets that have limited the observability of market spreads for some of the Company’s TPS securities, management has
classified these securities as a Level 3 fair value measure. Management periodically reviews the pricing information received from third-party
pricing services and tests those prices against other sources to validate the reported fair values.
Loans Held for Sale: Fair values for residential mortgage loans held for sale are determined by comparing actual loan rates to current secondary
market prices for similar loans. Fair values for multifamily loans held for sale are calculated based on discounted cash flows using as a discount
rate a combination of market spreads for similar loan types added to selected index rates.
Mortgage Servicing Rights: Fair values are estimated based on an independent dealer analysis of discounted cash flows. The evaluation utilizes
assumptions market participants would use in determining fair value including prepayment speeds, delinquency and foreclosure rates, the discount
rate, servicing costs, and the timing of cash flows. The mortgage servicing portfolio is stratified by loan type and fair value estimates are adjusted
up or down based on the serviced loan interest rates versus current rates on new loan originations since the most recent independent analysis.
Junior Subordinated Debentures: The fair value of junior subordinated debentures is estimated using an income approach technique. The
significant inputs included in the estimation of fair value are the credit risk adjusted spread and three month LIBOR. The credit risk adjusted
spread represents the nonperformance risk of the liability. The Company utilizes an external valuation firm to validate the reasonableness of the
credit risk adjusted spread used to determine the fair value. The junior subordinated debentures are carried at fair value which represents the
estimated amount that would be paid to transfer these liabilities in an orderly transaction amongst market participants. Due to credit concerns
in the capital markets and inactivity in the trust preferred markets that have limited the observability of market spreads, management has classified
this as a Level 3 fair value measure.
137
Derivatives: Derivatives include interest rate swap agreements, interest rate lock commitments to originate loans held for sale and forward sales
contracts to sell loans and securities related to mortgage banking activities. Fair values for these instruments, which generally change as a result
of changes in the level of market interest rates, are estimated based on dealer quotes and secondary market sources.
Off-Balance Sheet Items: Off-balance sheet financial instruments include unfunded commitments to extend credit, including standby letters of
credit, and commitments to purchase investment securities. The fair value of these instruments is not considered to be material.
Limitations: The fair value estimates presented herein are based on pertinent information available to management as of December 31, 2018
and 2017. The factors used in the fair value estimates are subject to change subsequent to the dates the fair value estimates are completed,
therefore, current estimates of fair value may differ significantly from the amounts presented herein.
Assets and Liabilities Measured at Fair Value Using Significant Unobservable Inputs (Level 3)
The following table provides a description of the valuation technique, unobservable inputs, quantitative and qualitative information about the
unobservable inputs for the Company's assets and liabilities classified as Level 3 and measured at fair value on a recurring and nonrecurring
basis at December 31, 2018 and 2017:
Financial Instruments
Valuation Technique
Unobservable Inputs
Corporate bonds (TPS securities)
Junior subordinated debentures
Impaired loans
REO
Discounted cash flows
Discount rate
Discounted cash flows
Discount rate
Collateral Valuations
Appraisals
Discount to appraised
value
Discount to appraised
value
December 31
2018
2017
Weighted
Average Rate
Weighted
Average Rate
6.81%
6.81%
6.69%
6.69%
0.0% to
8.5%
8.5% to
20.0%
69.2%
42.0%
TPS Securities: Management believes that the credit risk-adjusted spread used to develop the discount rate utilized in the fair value measurement
of TPS securities is indicative of the risk premium a willing market participant would require under current market conditions for instruments
with similar contractual rates, terms and conditions and issuers with similar credit risk profiles and with similar expected probability of default.
Management attributes the change in fair value of these instruments, compared to their par value, primarily to perceived general market adjustments
to the risk premiums for these types of assets subsequent to their issuance.
Junior subordinated debentures: Similar to the TPS securities discussed above, management believes that the credit risk-adjusted spread utilized
in the fair value measurement of the junior subordinated debentures is indicative of the risk premium a willing market participant would require
under current market conditions for an issuer with Banner's credit risk profile. Management attributes the change in fair value of the junior
subordinated debentures, compared to their par value, primarily to perceived general market adjustments to the risk premiums for these types of
liabilities subsequent to their issuance. Future contractions in the risk adjusted spread relative to the spread currently utilized to measure the
Company's junior subordinated debentures at fair value as of December 31, 2018, or the passage of time, will result in negative fair value
adjustments. At December 31, 2018, the discount rate utilized was based on a credit spread of 400 basis points and three month LIBOR of 281
basis points.
The following table provides a reconciliation of the assets and liabilities measured at fair value using significant unobservable inputs (Level 3)
on a recurring basis during the years ended December 31, 2018 and 2017 (in thousands):
Balance at January 1, 2017
Total gains or losses recognized
Assets gains
Liabilities losses
Balance at December 31, 2017
Total gains or losses recognized
Assets gains
Liabilities losses
Balance at December 31, 2018
Level 3 Fair Value Inputs
TPS Securities
Borrowings—
Junior Subordinated
Debentures
$
21,143
$
95,200
915
—
22,058
3,838
—
—
3,507
98,707
—
15,384
$
25,896
$
114,091
138
The Company has elected to continue to recognize the interest income and dividends from the securities reclassified to fair value as a component
of interest income as was done in prior years when they were classified as available-for-sale. Interest expense related to the junior subordinated
debentures continues to be measured based on contractual interest rates and reported in interest expense. The change in fair market value on
TPS securities and on junior subordinated debentures prior to 2018 has been recorded as a component of non-interest income. Beginning in 2018,
the change in fair value of the junior subordinated debentures, which represents changes in instrument specific credit risk, is recorded in other
comprehensive income (loss).
Items Measured at Fair Value on a Non-recurring Basis
The following table presents financial assets and liabilities measured at fair value on a non-recurring basis and the level within the fair value
hierarchy of the fair value measurements for those assets at December 31, 2018 and 2017 (in thousands):
Impaired loans
REO
Impaired loans
REO
Level 1
Level 2
Level 3
Total
December 31, 2018
— $
— $
— $
— $
2,915
2,611
$
$
2,915
2,611
Level 1
Level 2
Level 3
Total
December 31, 2017
— $
—
— $
—
$
6,535
360
6,535
360
$
$
$
The following table presents the losses resulting from non-recurring fair value adjustments for the years ended December 31, 2018, 2017 and
2016 (in thousands):
For the years ended December 31,
2018
2017
2016
Impaired loans
REO
Total loss from nonrecurring measurements
$
$
(910) $
(387)
(1,297) $
(2,852) $
(256)
(3,108) $
(182)
(876)
(1,058)
Impaired loans: Impaired loans are measured based on the present value of expected future cash flows discounted at the loan's effective interest
rate or, as a practical expedient, at the loan's observable market price or the fair value of collateral if the loan is collateral dependent. If this
practical expedient is used, the impaired loans are considered to be held at fair value. Subsequent changes in the value of impaired loans are
included within the provision for loan losses in the same manner in which impairment initially was recognized or as a reduction in the provision
that would otherwise be reported. Impaired loans are periodically evaluated to determine if valuation adjustments, or partial write-downs, should
be recorded. The need for valuation adjustments arises when observable market prices or current appraised values of collateral indicate a shortfall
in collateral value compared to current carrying values of the related loan. If the Company determines that the value of the impaired loan is less
than the carrying value of the loan, the Company either establishes an impairment reserve as a specific component of the allowance for loan
losses or charges off the impaired amount. These valuation adjustments are considered non-recurring fair value adjustments.
REO: The Company records REO (acquired through a lending relationship) at fair value on a non-recurring basis. Fair value adjustments on
REO are based on updated real estate appraisals which are based on current market conditions. All REO properties are recorded at the estimated
fair value of the real estate, less expected selling costs. From time to time, non-recurring fair value adjustments to REO are recorded to reflect
partial write-downs based on an observable market price or current appraised value of property. Banner considers any valuation inputs related
to REO to be Level 3 inputs. The individual carrying values of these assets are reviewed for impairment at least annually and any additional
impairment charges are expensed to operations.
139
Note 19: BANNER CORPORATION (PARENT COMPANY ONLY)
Summary financial information is as follows (in thousands):
Statements of Financial Condition
ASSETS
Cash
Investment in trust equities
Investment in subsidiaries
Other assets
Total assets
LIABILITIES AND SHAREHOLDERS’ EQUITY
Miscellaneous liabilities
Deferred tax liability
Junior subordinated debentures at fair value
Shareholders’ equity
Total liabilities and shareholders' equity
Statements of Operations
INTEREST INCOME:
Interest-bearing deposits
OTHER INCOME (EXPENSE):
Dividend income from subsidiaries
Equity in undistributed income of subsidiaries
Other income
Net change in valuation of financial instruments carried at fair value
Interest on other borrowings
Other expenses
Net income before taxes
BENEFIT FROM INCOME TAXES
NET INCOME
December 31
2018
2017
$
38,029
4,212
1,540,251
25,267
44,887
4,212
1,329,165
3,072
1,607,759
$
1,381,336
$
15,073
—
114,091
1,478,595
9,607
396
98,707
1,272,626
1,607,759
$
1,381,336
$
$
$
$
Years Ended December 31
2018
2017
2016
$
49
$
62
$
127
72,604
72,419
56
—
(6,136)
(4,761)
134,231
(2,284)
40,570
27,477
53
(3,507)
(4,752)
(3,291)
56,612
(4,164)
$
136,515
$
60,776
$
50,971
40,852
60
(2,720)
(4,040)
(3,450)
81,800
(3,585)
85,385
140
Statements of Cash Flows
OPERATING ACTIVITIES:
Net income
Adjustments to reconcile net income to net cash provided by operating
activities:
Equity in undistributed income of subsidiaries
Decrease (increase) in deferred taxes
Net change in valuation of financial instruments carried at fair value
Share-based compensation
(Increase) decrease in other assets
Increase (decrease) in other liabilities
Net cash provided from operating activities
INVESTING ACTIVITIES:
Funds transferred to deferred compensation trust
Reduction in investment in subsidiaries
Acquisitions
Net cash provided from investing activities
FINANCING ACTIVITIES:
Withholding taxes paid on share-based compensation
Repurchase of common stock
Cash dividends paid
Net cash used by financing activities
NET CHANGE IN CASH
CASH, BEGINNING OF PERIOD
CASH, END OF PERIOD
Note 20: STOCK REPURCHASES
Years Ended December 31
2018
2017
2016
$
136,515
$
60,776
$
85,385
(72,419)
150
—
6,554
(19,268)
201
51,733
(27)
37,000
(329)
36,644
(1,554)
(34,401)
(59,280)
(95,235)
(6,858)
44,887
(27,477)
(1,442)
3,507
5,965
10,684
69
52,082
(29)
5,000
—
4,971
(1,630)
(31,045)
(65,759)
(98,434)
(41,381)
86,268
$
38,029
$
44,887
$
(40,852)
(702)
2,720
4,305
7,332
(202)
57,986
(26)
50,000
—
49,974
(870)
(50,772)
(28,282)
(79,924)
28,036
58,232
86,268
On April 4, 2016, the Company announced that its Board of Directors had authorized the repurchase of up to 1,711,540 shares of the Company's
common stock, or 5% of the Company's outstanding shares. On March 31, 2017 the Company announced that its Board of Directors had renewed
its authorization to repurchase up to 5% of the Company's common stock, or 1,658,245 of the Company's outstanding shares. Under the
authorization, shares were repurchased by the Company in open market purchases. The extent to which the Company repurchased its shares
and the timing of such repurchases depended upon market conditions and other corporate considerations. During the year ended December 31,
2017, the Company repurchased 545,166 common shares under the authorization leaving 1,113,079 shares available for future repurchase. In
addition to the shares repurchased under the authorization, there were 29,579 shares surrendered during 2017 by employees to satisfy tax
withholding obligations upon vesting of restricted stock grants.
On March 28, 2018 the Company announced that its Board of Directors had renewed its authorization to repurchase up to 5% of the Company's
common stock, or 1,621,549 of the Company's outstanding shares. Under the authorization, shares could be repurchased by the Company in
open market purchases. The extent to which the Company repurchases its shares and the timing of such repurchases depends upon market
conditions and other corporate considerations. During the year ended December 31, 2018, the Company repurchased 594,711 common shares.
Of the total shares repurchased, 269,711 shares were repurchased prior to March 28, 2018 and were therefore accounted for under the 2017
authorization. The remaining 325,000 shares were repurchased subsequent to March 28, 2018 and are accounted for under the 2018 authorization
leaving 1,296,549 shares available for future repurchase. In addition to the shares repurchased under the authorization, there were 27,653 shares
surrendered during 2018 by employees to satisfy tax withholding obligations upon vesting of restricted stock grants.
141
Note 21: CALCULATION OF EARNINGS PER COMMON SHARE
The following tables show the calculation of earnings per common share (in thousands, except per share data):
Years Ended December 31
2018
2017
2016
Net income
$
136,515
$
60,776
$
85,385
Weighted average number of common shares outstanding
Basic
Diluted
Earnings per common share
Basic
Diluted
32,784,724
32,894,425
32,888,007
32,986,707
33,820,148
33,853,511
$
$
4.16
4.15
$
$
1.85
1.84
$
$
2.52
2.52
At December 31, 2018, 2017 and 2016 there were 315,301, 302,077, and 290,719, respectively, of issued but unvested restricted stock shares
and units that were included in the computation of diluted earnings per share.
At December 31, 2016 there were options to purchase an additional 5,000 shares of common stock that were not included in the computation
of diluted earnings per share because their exercise price resulted in them being anti-dilutive. At December 31, 2017 and 2016 there was a
warrant to purchase up to 243,998 shares of common stock and these shares were not included in the computation of diluted earnings per share
because their exercise price resulted in them being anti-dilutive.
Note 22: SELECTED QUARTERLY FINANCIAL DATA (UNAUDITED)
Results of operations on a quarterly basis for the years ended December 31, 2018, 2017 and 2016 were as follows (dollars in thousands except
for per share data):
Interest income
Interest expense
Net interest income before provision for loan losses
Provision for loan losses
Net interest income
Non-interest income
Non-interest expense
Income before provision for income taxes
Provision for income taxes
Net income
Basic earnings per share
Diluted earnings per share
Dividends declared
Year Ended December 31, 2018
First
Quarter
Second
Quarter
Third
Quarter
Fourth
Quarter
$
$
$
$
$
$
104,820
5,447
99,373
2,000
97,373
21,362
81,706
37,029
8,239
28,790
0.89
0.89
0.35
$
$
$
112,423
7,360
105,063
2,000
103,063
21,217
82,637
41,643
9,219
32,424
1.01
1.00
0.85
$
$
$
117,648
8,570
109,078
2,000
107,078
20,411
81,632
45,857
8,084
37,773
1.17
1.17
0.38
128,741
11,282
117,459
2,500
114,959
21,018
95,396
40,581
3,053
37,528
1.10
1.09
0.38
142
Interest income
Interest expense
Net interest income before provision for loan losses
Provision for loan losses
Net interest income
Non-interest income
Non-interest expense
Income before provision for income taxes
Provision for income taxes
Net income (loss)
Basic earnings (loss) per share
Diluted earnings (loss) per share
Dividends declared
Interest income
Interest expense
Net interest income before provision for loan losses
Provision for loan losses
Net interest income
Non-interest income
Non-interest expense
Income before provision for income taxes
Provision for income taxes
Net income
Basic earnings per share
Diluted earnings per share
Dividends declared
Year Ended December 31, 2017
First
Quarter
Second
Quarter
Third
Quarter
Fourth
Quarter
$
$
$
$
$
$
$
$
$
$
$
$
99,096
4,242
94,854
2,000
92,854
19,048
76,281
35,621
11,828
23,793
0.72
0.72
0.25
First
Quarter
95,301
4,258
91,043
—
91,043
19,959
84,034
26,968
9,194
17,774
0.52
0.52
0.21
$
$
$
104,436
4,730
99,706
2,000
97,706
20,396
79,857
38,245
12,791
25,454
0.77
0.77
1.25
105,278
5,068
100,210
2,000
98,210
18,081
80,331
35,960
10,883
25,077
0.76
0.76
0.25
Year Ended December 31, 2016
Second
Quarter
Third
Quarter
$
$
$
97,321
4,173
93,148
2,000
91,148
20,537
79,887
31,798
10,841
20,957
0.62
0.61
0.21
97,849
4,141
93,708
2,000
91,708
23,512
79,092
36,128
12,277
23,851
0.70
0.70
0.23
$
$
$
$
$
$
103,475
5,211
98,264
2,000
96,264
27,675
82,501
41,438
54,986
(13,548)
(0.41)
(0.41)
0.25
Fourth
Quarter
101,007
3,836
97,171
2,030
95,141
19,463
79,857
34,747
11,943
22,804
0.69
0.69
0.23
The quarterly amounts shown above for 2018 and 2017 reflect the adoption of the Accounting Standards Update, Revenue From
Contracts with Customers (see Note 2 in this Form 10-K for additional information). The quarterly amounts for 2016 are not
updated.
Note 23: COMMITMENTS AND CONTINGENCIES
Lease Commitments—The Company leases 113 buildings and offices under non-cancelable operating leases. The leases contain various
provisions for increases in rental rates, based either on changes in the published Consumer Price Index or a predetermined escalation schedule.
Substantially all of the leases provide the Company with the option to extend the lease term one or more times following expiration of the initial
term.
Financial Instruments with Off-Balance Sheet Risk—The Company has financial instruments with off-balance-sheet risk generated in the normal
course of business to meet the financing needs of its customers. These financial instruments include commitments to extend credit, commitments
related to standby letters of credit, commitments to originate loans, commitments to sell loans, and commitments to buy or sell securities. These
instruments involve, to varying degrees, elements of credit and interest rate risk similar to the risk involved in on-balance sheet items recognized
in our Consolidated Statements of Financial Condition.
Our exposure to credit loss in the event of nonperformance by the other party to the financial instrument from commitments to extend credit and
standby letters of credit is represented by the contractual notional amount of those instruments. We use the same credit policies in making
commitments and conditional obligations as for on-balance sheet instruments.
143
Outstanding commitments for which no asset or liability for the notional amount has been recorded consisted of the following at the dates
indicated (in thousands):
Commitments to extend credit
Standby letters of credit and financial guarantees
Commitments to originate loans
Risk participation agreement
Derivatives also included in Note 24:
Commitments to originate loans held for sale
Commitments to sell loans secured by one- to four-family residential properties
Commitments to sell securities related to mortgage banking activities
Contract or Notional Amount
December 31, 2018
December 31, 2017
$
$
2,837,981
17,784
32,145
24,091
31,728
18,328
144,250
2,300,593
14,579
56,030
11,451
48,091
22,097
57,000
In addition to the commitments disclosed in the table above, the Company is committed to funding its' unfunded tax credit investments (see
Note 12, Income Taxes).
Commitments to extend credit are agreements to lend to a customer, as long as there is no violation of any condition established in the
contract. Commitments generally have fixed expiration dates or other termination clauses and may require payment of a fee. Many of the
commitments may expire without being drawn upon; therefore, the total commitment amounts do not necessarily represent future cash
requirements. Each customer’s creditworthiness is evaluated on a case-by-case basis. The amount of collateral obtained, if deemed necessary
upon extension of credit, is based on management’s credit evaluation of the customer. Collateral held varies, but may include accounts receivable,
inventory, property, plant and equipment, and income producing commercial properties. The Company's reserve for unfunded loan commitments
was $2.6 million and $2.4 million, at December 31, 2018 and 2017, respectively.
Standby letters of credit are conditional commitments issued to guarantee a customer’s performance or payment to a third party. The credit risk
involved in issuing letters of credit is essentially the same as that involved in extending loan facilities to customers. Under a risk participation
agreement, Banner Bank guarantees the financial performance of a borrower on the participated portion of a interest rate swap on a loan.
Interest rates on residential one- to four-family mortgage loan applications are typically rate locked (committed) to customers during the application
stage for periods ranging from 30 to 60 days, the most typical period being 45 days. Traditionally, these loan applications with rate lock
commitments had the pricing for the sale of these loans locked with various qualified investors under a best-efforts delivery program at or near
the time the interest rate is locked with the customer. The Bank then attempts to deliver these loans before their rate locks expired. This
arrangement generally required delivery of the loans prior to the expiration of the rate lock. Delays in funding the loans would require a lock
extension. The cost of a lock extension at times was borne by the customer and at times by the Bank. These lock extension costs have not had
a material impact to our operations. For mandatory delivery commitments the Company enters into forward commitments at specific prices and
settlement dates to deliver either: (1) residential mortgage loans for purchase by secondary market investors (i.e., Freddie Mac or Fannie Mae),
or (2) mortgage-backed securities to broker/dealers. The purpose of these forward commitments is to offset the movement in interest rates
between the execution of its residential mortgage rate lock commitments with borrowers and the sale of those loans to the secondary market
investor. There were no counterparty default losses on forward contracts during 2018 or 2017. Market risk with respect to forward contracts
arises principally from changes in the value of contractual positions due to changes in interest rates. The Company limits its exposure to market
risk by monitoring differences between commitments to customers and forward contracts with market investors and securities broker/dealers.
In the event the Company has forward delivery contract commitments in excess of available mortgage loans, the transaction is completed by
either paying or receiving a fee to or from the investor or broker/dealer equal to the increase or decrease in the market value of the forward
contract. Changes in the value of rate lock commitments are recorded as assets and liabilities as explained in Note 1: “Derivative Instruments.”
In the normal course of business, the Company and/or its subsidiaries have various legal proceedings and other contingent matters
outstanding. These proceedings and the associated legal claims are often contested and the outcome of individual matters is not always
predictable. These claims and counter-claims typically arise during the course of collection efforts on problem loans or with respect to action
to enforce liens on properties in which the Banks hold a security interest. Based upon the information known to management at this time, the
Company and the Banks are not a party to any legal proceedings that management believes would have a material adverse effect on the results
of operations or consolidated financial position at December 31, 2018.
In connection with certain asset sales, the Banks typically make representations and warranties about the underlying assets conforming to specified
guidelines. If the underlying assets do not conform to the specifications, the Bank may have an obligation to repurchase the assets or indemnify
the purchaser against any loss. The Banks believe that the potential for material loss under these arrangements is remote. Accordingly, the fair
value of such obligations is not material.
NOTE 24: DERIVATIVES AND HEDGING
The Company, through its Banner Bank subsidiary, is party to various derivative instruments that are used for asset and liability management
and customer financing needs. Derivative instruments are contracts between two or more parties that have a notional amount and an underlying
144
variable, require no net investment and allow for the net settlement of positions. The notional amount serves as the basis for the payment
provision of the contract and takes the form of units, such as shares or dollars. The underlying variable represents a specified interest rate, index,
or other component. The interaction between the notional amount and the underlying variable determines the number of units to be exchanged
between the parties and influences the market value of the derivative contract. The Company obtains dealer quotations to value its derivative
contracts.
The Company's predominant derivative and hedging activities involve interest rate swaps related to certain term loans and forward sales contracts
associated with mortgage banking activities. Generally, these instruments help the Company manage exposure to market risk and meet customer
financing needs. Market risk represents the possibility that economic value or net interest income will be adversely affected by fluctuations in
external factors such as market-driven interest rates and prices or other economic factors.
Derivatives Designated in Hedge Relationships
The Company's fixed-rate loans result in exposure to losses in value or net interest income as interest rates change. The risk management
objective for hedging fixed-rate loans is to effectively convert the fixed-rate received to a floating rate. The Company has hedged exposure to
changes in the fair value of certain fixed-rate loans through the use of interest rate swaps. For a qualifying fair value hedge, changes in the value
of the derivatives are recognized in current period earnings along with the corresponding changes in the fair value of the designated hedged item
attributable to the risk being hedged.
Under a prior program, customers received fixed interest rate commercial loans and Banner Bank subsequently hedged that fixed-rate loan by
entering into an interest rate swap with a dealer counterparty. Banner Bank receives fixed-rate payments from the customers on the loans and
makes similar fixed-rate payments to the dealer counterparty on the swaps in exchange for variable-rate payments based on the one-month
LIBOR index. Some of these interest rate swaps are designated as fair value hedges. Through application of the “short cut method of accounting,”
there is an assumption that the hedges are effective. Banner Bank discontinued originating interest rate swaps under this program in 2008.
As of December 31, 2018 and December 31, 2017, the notional values or contractual amounts and fair values of the Company's derivatives
designated in hedge relationships were as follows (in thousands):
Asset Derivatives
Liability Derivatives
December 31, 2018
December 31, 2017
December 31, 2018
December 31, 2017
Notional/
Contract
Amount
Fair
Value (1)
Notional/
Contract
Amount
Fair
Value (1)
Notional/
Contract
Amount
Fair
Value (2)
Notional/
Contract
Amount
Fair
Value (2)
Interest rate swaps
$
3,973
$
270
$
4,350
$
447
$
3,973
$
270
$
4,350
$
447
(1)
(2)
Included in Loans Receivable on the Consolidated Statements of Financial Condition.
Included in Other Liabilities on the Consolidated Statements of Financial Condition.
Derivatives Not Designated in Hedge Relationships
Interest Rate Swaps: Banner Bank uses an interest rate swap program for commercial loan customers, that provides the client with a variable-
rate loan and enters into an interest rate swap in which the client receives a variable-rate payment in exchange for a fixed-rate payment. The
Bank offsets its risk exposure by entering into an offsetting interest rate swap with a dealer counterparty for the same notional amount and length
of term as the client interest rate swap providing the dealer counterparty with a fixed-rate payment in exchange for a variable-rate payment.
These swaps do not qualify as designated hedges; therefore, each swap is accounted for as a free standing derivative.
Mortgage Banking: The Company sells originated one- to four-family and multifamily mortgage loans into the secondary mortgage loan markets.
During the period of loan origination and prior to the sale of the loans in the secondary market, the Company has exposure to movements in
interest rates associated with written interest rate lock commitments with potential borrowers to originate one- to four-family loans that are
intended to be sold and for closed one- to four-family and multifamily mortgage loans held for sale that are awaiting sale and delivery into the
secondary market. The Company economically hedges the risk of changing interest rates associated with these mortgage loan commitments by
entering into forward sales contracts to sell one- to four-family and multifamily mortgage loans or mortgage-backed securities to broker/dealers
at specific prices and dates.
145
As of December 31, 2018 and December 31, 2017, the notional values or contractual amounts and fair values of the Company's derivatives not
designated in hedge relationships were as follows (in thousands):
Asset Derivatives
Liability Derivatives
December 31, 2018
December 31, 2017
December 31, 2018
December 31, 2017
Notional/
Contract
Amount
Fair
Value (1)
Notional/
Contract
Amount
Fair
Value (1)
Notional/
Contract
Amount
Fair
Value (2)
Notional/
Contract
Amount
Fair
Value (2)
Interest rate swaps
$
272,374
$
2,868
$
285,047
$
4,636
$
272,374
$
2,868
$
285,047
$
4,636
Mortgage loan
commitments
Forward sales
contracts
20,229
18,328
273
198
29,739
43,069
225
298
17,763
187
13,763
144,250
1,467
47,000
153
48
$
310,931
$
3,339
$
357,855
$
5,159
$
434,387
$
4,522
$
345,810
$
4,837
(1)
(2)
Included in Other Assets on the Consolidated Statements of Financial Condition, with the exception of those interest rate swaps from
prior to 2009 that were not designated in hedge relationships (with a fair value of $270,000 at December 31, 2018 and $499,000 at
December 31, 2017), which are included in Loans Receivable.
Included in Other Liabilities on the Consolidated Statements of Financial Condition.
Gains (losses) recognized in income on non-designated hedging instruments for the years ended December 31, 2018, 2017 and 2016 were as
follows (in thousands):
Location on Income Statement
2018
2017
For the Years Ended December 31
Mortgage loan commitments
Forward sales contracts
Mortgage banking operations
Mortgage banking operations
$
$
$
47
(775)
$
195
(491)
(728) $
(296) $
2016
(348)
296
(52)
The Company is exposed to credit-related losses in the event of nonperformance by the counterparty to these agreements. Credit risk of the
financial contract is controlled through the credit approval, limits, and monitoring procedures and management does not expect the counterparties
to fail their obligations.
In connection with the interest rate swaps between Banner Bank and the dealer counterparties, the agreements contain a provision where if
Banner Bank fails to maintain its status as a well/adequately capitalized institution, then the counterparty could terminate the derivative positions
and Banner Bank would be required to settle its obligations. Similarly, Banner Bank could be required to settle its obligations under certain of
its agreements if specific regulatory events occur, such as a publicly issued prompt corrective action directive, cease and desist order, or a capital
maintenance agreement that required Banner Bank to maintain a specific capital level. If Banner Bank had breached any of these provisions at
December 31, 2018 or December 31, 2017, it could have been required to settle its obligations under the agreements at the termination value.
As of December 31, 2018 and 2017, the termination value of derivatives in a net liability position related to these agreements was $1.3 million
and $3.7 million, respectively. The Company generally posts collateral against derivative liabilities in the form of government agency-issued
bonds, mortgage-backed securities, or commercial mortgage-backed securities. Collateral posted against derivative liabilities was $13.6 million
and $16.9 million as of December 31, 2018 and 2017, respectively.
Derivative assets and liabilities are recorded at fair value on the balance sheet. Prior to 2018, the recorded derivative assets and liabilities on
the balance sheet did not take into account the effects of master netting agreements. Master netting agreements allow the Company to settle all
derivative contracts held with a single counterparty on a net basis and to offset net derivative positions with related collateral where applicable.
146
The following presents additional information related to the Company's derivative contracts, by type of financial instrument, as of December 31,
2018 and December 31, 2017 (in thousands):
December 31, 2018
Gross Amounts of Financial
Instruments Not Offset in the
Statement of Financial Condition
Gross
Amounts
Recognized
Amounts
offset in the
Statement
of Financial
Condition
Net Amounts
in the
Statement
of Financial
Condition
Derivative
Amount
Fair Value
of Financial
Collateral
in the Statement
of Financial
Condition
Net Amount
$
$
$
$
5,038
5,038
5,038
5,038
$
$
$
$
(1,900) $
(1,900) $
(1,900) $
(1,900) $
3,138
3,138
3,138
3,138
$
$
$
$
— $
— $
— $
— $
— $
— $
(1,320) $
(1,320) $
3,138
3,138
1,818
1,818
December 31, 2017
Gross Amounts of Financial
Instruments Not Offset in the
Statement of Financial Condition
Gross
Amounts
Recognized
Amounts
offset in the
Statement
of Financial
Condition
Net Amounts
in the
Statement
of Financial
Condition
Derivative
Amount
Fair Value
of Financial
Collateral
in the Statement
of Financial
Condition
Net Amount
$
$
$
$
5,083
5,083
5,083
5,083
$
$
$
$
— $
— $
— $
— $
5,083
5,083
5,083
5,083
$
$
$
$
(656) $
(656) $
— $
— $
4,427
4,427
(656) $
(3,467) $
(656) $
(3,467) $
960
960
Derivative assets
Interest rate swaps
Derivative liabilities
Interest rate swaps
Derivative assets
Interest rate swaps
Derivative liabilities
Interest rate swaps
147
NOTE 25: REVENUE FROM CONTRACTS WITH CUSTOMERS
Disaggregation of Revenue:
Deposit fees and other service charges for the years ended December 31, 2018, 2017 and 2016 are summarized as follows (in thousands):
Deposit service charges
Debit and credit interchange fees
Debit and credit card expense
Merchant services income
Merchant services expenses
Other service charges
Total deposit fees and other service charges
Deposit fees and other service charges
Years Ended
December 31
2017
16,725
28,358
(7,390)
10,159
(8,335)
3,935
43,452
2018
18,089
31,713
(8,511)
10,226
(7,767)
4,324
48,074
2016
16,863
22,578
(3,078)
9,052
(7,245)
3,741
41,911
Deposit fees and other service charges include transaction and non-transaction based deposit fees. Transaction based fees on deposit accounts
are charged to deposit customers for specific services provided to the customer. These fees include such items as wire fees, official check fees,
and overdraft fees. These are contract specific to each individual transaction and do not extend beyond the individual transaction. The performance
obligation is completed and the fees are recognized at the time the specific transactional service is provided to the customer. Non-transactional
deposit fees are typically monthly account maintenance fees charged on deposit accounts. These are day-to-day contracts that can be canceled
by either party without notice. The performance obligation is satisfied and the fees are recognized on a monthly basis after the service period
is completed.
Debit and credit card interchange income and expenses
Debit and credit card interchange income represent fees earned when a credit or debit card issued by the Banks is used to purchase goods or
services at a merchant. The merchant's bank pays the Banks a default interchange rate set by MasterCard on a transaction by transaction basis.
The merchant acquiring bank can stop accepting the Banks’ cards at any time and the Banks can stop further use of cards issued by them at any
time. The performance obligation is satisfied and the fees are earned when the cost of the transaction is charged to the Banks cardholders’ card.
Direct expenses associated with the credit and debit card are recorded as a net reduction against the interchange income.
Merchant services income
Merchant services income represents fees earned by the Banks for card payment services provided to its merchant customers. The Banks have
a contract with a third party to provide card payment services to the Banks’ merchants that contract for those services. The third party provider
has contracts with the Banks’ merchants to provide the card payment services. The Banks do not have a direct contractual relationship with its
merchants for these services. The Banks set the rates for the services provided by the third party. The third party provider passes the payments
made by the Banks’ merchants through to the Banks. The Banks, in turn, pay the third party provider for the services it provides to the Banks’
merchants. These payments to the third party provider are recorded as expenses as a net reduction against fee income. In addition, a portion of
the payment received by the Banks represents interchange fees which are passed through to the card issuing bank. Income is primarily earned
based on the dollar volume and number of transactions processed. The performance obligation is satisfied and the related fee is earned when
each payment is accepted by the processing network.
BANNER CORPORATION
Exhibit
2 {a}
3{a}
3{b}
3{c}
Index of Exhibits
Agreement and Plan of Merger, dated as of July 25, 2018, by and between Banner Corporation and Skagit Bancorp, Inc.
(incorporated herein by reference to Exhibit 2.1 to the Registrant's Current Report on Form 8-K filed with the SEC on July 27,
2018 (File No. 000-26584)).
Amended and Restated Articles of Incorporation of Registrant [incorporated by reference to the Registrant's Current Report on
Form 8-K filed on April 29, 2010 (File No. 000-26584)], as amended on May 26, 2011 [incorporated by reference to the Current
Report on Form 8-K filed on June 1, 2011 (File No. 000-26584)].
Articles of Amendment to Amended and Restated Articles of Incorporation of Banner Corporation for nonvoting common stock
(incorporated herein by reference to Exhibit 3.1 to the Current Report on Form 8-K filed on March 18, 2015 (File No. 00026584)).
Bylaws of Registrant [incorporated by reference to Exhibit 3.2 to the Current Report on Form 8-K filed on December 20, 2016
(File No. 000-26584)].
148
10{a}
10{b}
10{c}
10{d}
10{e}
10{f}
10{g}
10{h}
10{i}
10{j}
10{k}
10{l}
10{m}
10{n}
14
21
23.1
31.1
31.2
32
101
Executive Salary Continuation Agreement with Gary L. Sirmon [incorporated by reference to exhibits filed with the Annual Report
on Form 10-K for the year ended March 31, 1996 (File No. 000-26584)].
Amended and Restated Employment Agreement, with Mark J. Grescovich [incorporated by reference to Exhibit 10.1 to the Current
Report on Form 8-K filed on June 4, 2013 (File No. 000-26584].
Form of Supplemental Executive Retirement Program Agreement with Gary Sirmon, Michael K. Larsen, Lloyd W. Baker, Cynthia
D. Purcell and Richard B. Barton [incorporated by reference to exhibits filed with the Annual Report on Form 10-K for the year
ended December 31, 2001 and the exhibits filed with the Form 8-K on May 6, 2008 (File No. 000-26584)].
Form of Employment Contract entered into with Lloyd W. Baker, Cynthia D. Purcell and Richard B. Barton [incorporated by
reference to exhibits filed with the Form 8-K on June 25, 2014 (File No. 000-26584)].
Long-Term Incentive Plan and Form of Repricing Agreement [incorporated by reference to the exhibits filed with the Form 8-K
on May 6, 2008 (File No. 000-26584)].
2005 Executive Officer and Director Stock Account Deferred Compensation Plan [incorporated by reference to exhibits filed with
the Annual Report on Form 10-K for the year ended December 31, 2008 (File No. 000-26584)].
Entry into an Indemnification Agreement with each of the Registrant's Directors [incorporated by reference to exhibits filed with
the Form 8-K on January 29, 2010 (File No. 000-26584)].
2012 Restricted Stock and Incentive Bonus Plan [incorporated by reference to Appendix B to the Registrant's Definitive Proxy
Statement on Schedule 14A filed on March 19, 2013 (File No. 000-26584)].
Form of Performance-Based Restricted Stock Award Agreement [incorporated by reference to Exhibit 10.1 included in the
Registrant's Current Report on Form 8-K filed on June 4, 2013 (File No. 000-26584)].
Form of Time-Based Restricted Stock Award Agreement [incorporated by reference to Exhibit 10.1 included in the Registrant's
Current Report on Form 8-K filed on June 4, 2013 (File No. 000-26584)].
2014 Omnibus Incentive Plan [incorporated by reference as Appendix C to the Registrant's Definitive Proxy Statement on Schedule
14A filed on March 24, 2014 (File No. 000-26584)] and amendments [incorporated by reference to the Form 8-K filed on March
25, 2015 (File No. 000-26534)].
Forms of Equity-Based Award Agreements: Incentive Stock Option Award Agreement, Non-Qualified Stock Option Award
Agreement, Restricted Stock Award Agreement, Restricted Stock Unit Award Agreement, Stock Appreciation Right Award
Agreement, and Performance Unit Award Agreement [incorporated by reference to Exhibits 10.2 - 10.7 included in the Registration
Statement on Form S-8 dated May 9, 2014 (File No. 333-195835)].
2018 Omnibus Incentive Plan [incorporated by reference as Appendix D to the Registrant's Definitive Proxy Statement on Schedule
14A filed on March 23, 2018 (File No. 000-26584)]
Forms of Equity-Based Award Agreements: Incentive Stock Option Award Agreement, Non-Qualified Stock Option Award
Agreement under the Banner Corporation 2018 Omnibus Incentive Plan; Director Restricted Stock Award Agreement; Director
Restricted Stock Unit Award Agreement; Employee Time-based Restricted Stock Unit Award Agreement; Employee performance-
based Restricted Stock Unit Award Agreement; Stock Appreciation Right Award Agreement; and Performance Unit Award
Agreement [incorporated by reference to Exhibits 10.2 - 10.9 included in the Registration Statement on Form S-8 dated May 4,
2018 (File No. 333-224693)]
Code of Ethics [incorporated by reference to Exhibit 10.1 included in the Registrant's Current Report on Form 8-K filed on July
19, 2018 (File No. 000-26584)]
Subsidiaries of the Registrant.
Consent of Registered Independent Public Accounting Firm – Moss Adams LLP.
Certification of Chief Executive Officer pursuant to the Securities Exchange Act Rules 13a-14(a) and 15d-14(a) as adopted pursuant
to Section 302 of the Sarbanes-Oxley Act of 2002.
Certification of Chief Financial Officer pursuant to the Securities Exchange Act Rules 13a-14(a) and 15d-14(a) as adopted pursuant
to Section 302 of the Sarbanes-Oxley Act of 2002.
Certificate of Chief Executive Officer and Chief Financial Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
The following materials from Banner Corporation’s Annual Report on Form 10-K for the year ended December 31, 2018, formatted
in Extensible Business Reporting Language (XBRL): (a) Consolidated Statements of Financial Condition; (b) Consolidated
Statements of Operations; (c) Consolidated Statements of Comprehensive Income; (d) Consolidated Statements of Shareholders'
Equity; (e) Consolidated Statements of Cash Flows; and (f) Notes to Consolidated Financial Statements.
149
SUBSIDIARIES OF THE REGISTRANT
EXHIBIT 21
Parent
Banner Corporation
Subsidiaries
Banner Bank (1)
Islanders Bank (1)
Banner Capital Trusts II, III, IV, V, VI, and VII (1)
Springer Development LLC (2)
Community Financial Corporation (2)
Northwest Financial Corporation (2)
Banner Investment Advisors, LLC (2)
Siuslaw Statutory Trust I (1)
Greater Sacramento Bancorp Statutory Trust I (1)
Greater Sacramento Bancorp Statutory Trust II (1)
Skagit Bank (1)
(1) Wholly-owned by Banner Corporation.
(2) Wholly-owned by Banner Bank.
Percentage of
Ownership
Jurisdiction of State of
Incorporation
100%
100%
100%
100%
100%
100%
100%
100%
100%
100%
100%
Washington
Washington
Washington
Washington
Oregon
Washington
Washington
Connecticut
Delaware
Delaware
Washington
150
EXHIBIT 23.1
Consent of Independent Registered Public Accounting Firm
We consent to the incorporation by reference in Registration Statement Nos. 333-187256, 333-195835, and 333-224693 on Form S-8, Registration
Statement No. 333-226991 on Form S-4, and Registration Statement No. 333-211332 on Form S-3 of our report dated February 25, 2019, with
respect to the consolidated statements of financial condition of Banner Corporation and Subsidiaries as of December 31, 2018 and 2017, and
the related consolidated statements of operations, comprehensive income, changes in shareholders’ equity, and cash flows for each of the three
years in the period ended December 31, 2018, and the effectiveness of internal control over financial reporting as of December 31, 2018, which
reports appear in this Annual Report on Form 10-K of Banner Corporation for the year ended December 31, 2018.
/s/ Moss Adams LLP
Portland, Oregon
February 25, 2019
151
EXHIBIT 31.1
CERTIFICATION OF CHIEF EXECUTIVE OFFICER OF BANNER CORPORATION
PURSUANT TO RULES 13a-14(a) AND 15d-14(a) UNDER THE SECURITIES ACT OF 1934
I, Mark J. Grescovich, certify that:
1.
2.
3.
4.
I have reviewed this Annual Report on Form 10-K of Banner Corporation;
Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary
to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to
the period covered by this report;
Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material
respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report;
The registrant’s other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as
defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (as defined in Exchange Act
Rules 13a-15(f) and 15d-15(f)) for the registrant and have:
a)
b)
c)
d)
Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under
our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made
known to us by others within those entities, particularly during the period in which this report is being prepared;
Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed
under our supervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparation
of financial statements for external purposes in accordance with generally accepted accounting principles;
Evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this report our conclusions
about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on
such evaluation; and
Disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the
registrant’s most recent fiscal quarter (the registrant's fourth fiscal quarter in the case of an annual report) that has materially
affected, or is reasonably likely to materially affect, the registrant’s internal control over financial reporting; and
5.
The registrant’s other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial
reporting, to the registrant’s auditors and the audit committee of registrant’s board of directors (or persons performing the equivalent
functions):
a)
b)
All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting
which are reasonably likely to adversely affect the registrant’s ability to record, process, summarize and report financial
information; and
Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s
internal control over financial reporting.
February 25, 2019
/s/Mark J. Grescovich
Mark J. Grescovich
Chief Executive Officer
152
EXHIBIT 31.2
CERTIFICATION OF CHIEF FINANCIAL OFFICER OF BANNER CORPORATION
PURSUANT TO RULES 13a-14(a) AND 15d-14(a) UNDER THE SECURITIES ACT OF 1934
I, Peter J. Conner, certify that:
1.
2.
3.
4.
I have reviewed this Annual Report on Form 10-K of Banner Corporation;
Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary
to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to
the period covered by this report;
Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material
respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report;
The registrant’s other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as
defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (as defined in Exchange Act
Rules 13a-15(f) and 15d-15(f)) for the registrant and have:
a)
b)
c)
d)
Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under
our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made
known to us by others within those entities, particularly during the period in which this report is being prepared;
Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed
under our supervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparation
of financial statements for external purposes in accordance with generally accepted accounting principles;
Evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this report our conclusions
about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on
such evaluation; and
Disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the
registrant’s most recent fiscal quarter (the registrant's fourth fiscal quarter in the case of an annual report) that has materially
affected, or is reasonably likely to materially affect, the registrant’s internal control over financial reporting; and
5.
The registrant’s other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial
reporting, to the registrant’s auditors and the audit committee of registrant’s board of directors (or persons performing the equivalent
functions):
a)
b)
All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting
which are reasonably likely to adversely affect the registrant’s ability to record, process, summarize and report financial
information; and
Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s
internal control over financial reporting.
February 25, 2019
/s/ Peter J. Conner
Peter J. Conner
Chief Financial Officer
153
EXHIBIT 32
CERTIFICATION OF CHIEF EXECUTIVE OFFICER AND CHIEF FINANCIAL OFFICER
OF BANNER CORPORATION
PURSUANT TO SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002
The undersigned hereby certify in his capacity as an officer of Banner Corporation, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to
Section 906 of the Sarbanes-Oxley Act of 2002 and in connection with this Annual Report on Form 10-K, that:
•
•
the report fully complies with the requirements of Sections 13(a) and 15(d) of the Securities Exchange Act of 1934, as amended, and
the information contained in the report fairly presents, in all material respects, the Company’s financial condition and results of
operations as of the dates and for the periods presented in the financial statements included in such report.
February 25, 2019
February 25, 2019
/s/ Mark J. Grescovich
Mark J. Grescovich
Chief Executive Officer
/s/ Peter J. Conner
Peter J. Conner
Chief Financial Officer
154
Branch banking
From thoughtfully designed personal banking services to full-service, leading-edge
commercial banking solutions, we’re proud to earn your business and help you
locations
dream big and achieve more.
Client Voices
As a team, we build our reputation one interaction at a time. We take our work – and our role in the
communities we serve – seriously. We always enjoy hearing client feedback, especially when it shows our
efforts make a difference in people’s lives. Below is a sampling of more than 4,000 verbatim comments
gathered during a recent client satisfaction survey.
I can’t tell you how much we appreciate the
information related to our recent challenges. We
always know Banner Bank will be there for us.
- Treasury Management Services Client in
Southern Oregon
I like banking with Banner. They have excellent
customer service. The representatives are
knowledgeable and friendly.
- Western Oregon client
I have had this same checking account since I
was 16 years old. I am now 62. I have always been
treated very well by all the bank employees, many
of them have been there for years. Any issues I have
had, which have been very few, have been taken
care of immediately. I would highly recommend
this bank.
- Central Oregon Coast client
I have never had a financial institution as good
as Banner Bank. Not only is my service excellent,
the entire staff is very personable. When I need
a business loan or a new home mortgage I am
professionally helped and get great rates to boot. I
think Banner Bank is my most positive experience
of any professional I deal with.
- Boise area client
Our Vision Statement
BANNER BANK provides exemplary products,
service and execution for real estate transactions. At
first concept, Banner takes the time to understand
the transaction, review proposed budgets and
provide clear and thorough letters of interest that
assist feasibility analysis at a very early stage of
development. Banner's staff offers the ingredients
that make a closing transaction run smooth, and
diligence that greatly assists a project's schedule.
Banner's construction loan administration team
provides exemplary skill and timely draw processing
and payments. Most importantly, we encounter
enthusiasm, knowledge and trust in every
interaction and transaction with Banner Bank.
- Seattle area affordable housing developer
We have been with Banner since 2006, we have
had or do have 6 mortgages with Banner and have
operated or do operate 4 businesses with Banner
and Banner gets it right EVERY time. EVERY time!
- Eastern Washington client
I have been banking with the people of the
Riverside branch for more than 20 years and I
feel comfortable with them. I even transferred my
business account to Banner Bank.
- Southern California client
We strive to be the bank of choice in the markets we serve.
We are committed to being the best provider of financial services
in the West.
Values
Our Mission Statement
Banner Corporation is a dynamic full service financial institution,
operating safely and profitably within a framework of shared
integrity. Working as a team, we will deliver superior products and
services to our valued clients. We will emphasize strong client
relationships and a high level of community involvement. We will
provide a culture which attracts, empowers, rewards and provides
growth opportunities for our employees. Our success will build
long-term shareholder value.
Our Value Proposition
Connected. Knowledgeable. Responsive.
It’s not only what we do, it’s how we do it - with relentless effort.
“Do the Right Thing.”
This means we believe in:
• Honesty and Integrity
• Mutual Respect
• Quality
Trust
•
Teamwork
•
Accountability
•
Corporate Headquarters
10 South First Avenue
PO Box 907
Walla Walla, WA 99362-0265
509-527-3636
800-272-9933
Website: bannerbank.com
Email: bannerbank@bannerbank.com
Subsidiaries
Banner Bank – bannerbank.com
Islanders Bank – islandersbank.com
Community Financial Corporation
Transfer Agent and Registrar
Computershare Trust Company, N.A.
PO Box 505000
Louisville, KY 40233-5000
Independent Public Accountants and Auditors
Moss Adams LLP
805 SW Broadway, Suite 1200
Portland, OR 97205
Special Counsel
Breyer & Associates PC
8180 Greensboro Drive, Suite 785
McLean, VA 22102
Annual Meeting of Shareholders
10 a.m., Thursday, April 25, 2019
Marcus Whitman Hotel
6 West Rose Street
Walla Walla, WA 99362
Dividend Payments Sent Quarterly
Dividend payments are reviewed quarterly by the
board of directors and, if appropriate and authorized,
have historically been paid during the months of
January, April, July and October. To avoid delay or
lost mail, and to reduce costs, we encourage you
to request direct deposit of dividend payments to
your bank account. To enroll in the Direct Deposit
Plan, telephone the Company’s Investor Services
Department at 800-272-9933.
Dividend Reinvestment and Stock Purchase Plan
Banner Corporation offers a dividend reinvestment
program whereby shareholders may reinvest all or a
portion of their dividends in additional shares of the
Company’s common stock. Information concerning
this optional program is available from the Investor
Services Department or from Computershare Investor
Services at 800-697-8924.
Investor Information
Shareholders and others will find the Company’s
financial information, press releases and other
information on the Company’s website at
www.bannerbank.com. There is a direct link from the
website to the Securities and Exchange Commission
(SEC) filings via the EDGAR database, including
Forms 10-K, 10-Q and 8-K.
Shareholders May Contact:
Investor Relations, Banner Corporation
PO Box 907
Walla Walla, WA 99362
Or call 800-272-9933 to obtain a hard copy of these
reports without charge.
Directors
Robert D. Adams
Cheryl R. Bishop
Gordon E. Budke
David A. Klaue
John R. Layman
David I. Matson
Connie R. Collingsworth
Merline Saintil
Brent A. Orrico
Kevin F. Riordan
Mark J. Grescovich
Roberto R. Herencia
Gary Sirmon
Terry Schwakopf
Executive Officers
Mark J. Grescovich
President and Chief Executive Officers
Richard B. Barton
EVP, Chief Credit Officer
Peter J. Conner
EVP, Chief Financial Officer
James P. Garcia
EVP, Chief Audit Executive
Kenneth W. Johnson
EVP, Operations
Kayleen R. Kohler
EVP, Human Resources
Kenneth A. Larsen
EVP, Mortgage Banking
James P.G. McLean
EVP, Real Estate Lending Operations
Craig Miller
EVP, General Counsel
Cynthia D. Purcell
EVP, Retail Banking and Administration
M. Kirk Quillin
EVP, Commercial Banking
James T. Reed, Jr.
EVP, Commercial Banking West
Steven W. Rust
EVP, Chief Information Officer
Judith A. Steiner
EVP, Chief Risk Officer
Gary W. Wagers
EVP, Retail Products and Services
Keith A. Western
EVP, Commercial Banking South
Banner Corporation
2018 Annual Report
bannerbank.com
Let’s create tomorrow, together.
Corporate Headquarters
10 South First Ave.
PO Box 907
Walla Walla, WA 99362-0265
509-527-3636
800-272-9933
bannerbank@bannerbank.com
Banner Corporation
2018 Annual Report
Member FDIC