NSTS BANCORP, INC. This discussion and analysis reflects the consolidated financial statements and other relevant statistical data, and is intended to enhance your understanding of the financial condition and results of operations ofNSTS Bancorp, Inc. andNorth Shore Trust and Savings for the years endedDecember 31, 2022 and 2021. The purpose of this discussion is to provide information about our financial condition and results of operations which is not otherwise apparent from the consolidated financial statements. You should read the information in this section in conjunction with the other business and financial information provided in this annual report. OverviewNorth Shore Trust and Savings is a community-oriented savings institution headquartered inWaukegan, Illinois . We operate as a traditional thrift relying on the origination of long-term one- to four-family residential mortgage loans secured by property inLake County, Illinois and surrounding communities. We also originate multi-family and commercial real estate loans and, to a lesser extent, construction, home equity, and consumer loans. We currently operate three full-service banking offices inLake County, Illinois and one loan production office inChicago . Our primary sources of funds consist of attracting deposits from the general public and using those funds along with funds from the FHLB ofChicago and other sources to originate loans to our customers and invest in securities. As ofDecember 31, 2022 , we had total assets of$264.2 million , including$103.4 million in net loans and$121.2 million of securities available for sale, total deposits of$178.7 million and total equity of$80.5 million . For the year endedDecember 31, 2022 , we had a net income of$27,000 compared to a net loss of$55,000 for the year endedDecember 31, 2021 . Our results of operations depend, to a large extent, on net interest income, which is the difference between the income earned on our loan and investment portfolios and interest expense on deposits and borrowings. Our net interest income is largely determined by our net interest spread, which is the difference between the average yield earned on interest-earning assets and the average rate paid on interest-bearing liabilities, and the relative amounts of interest-earning assets and interest-bearing liabilities. Results of operations are also affected by our provisions for loan losses, fee income and other noninterest income and noninterest expense. Noninterest expense principally consists of compensation, office occupancy and equipment expense, data processing, advertising and business promotion and other expenses. We expect that our noninterest expenses will increase as we grow and expand our operations. In addition, our compensation expense will increase due to the new stock benefit plans we intend to implement. Our results of operations and financial condition are also significantly affected by general economic and competitive conditions, particularly changes in interest rates, changes in accounting guidance, government policies and actions of regulatory authorities. 27
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Table of Contents Critical Accounting Policies In reviewing and understanding financial information forNSTS Bancorp, Inc. , you are encouraged to read and understand the significant accounting policies used in preparing our financial statements. These policies are described in Note 1 of the notes to our consolidated financial statements beginning on page 47 of this filing. Our accounting and financial reporting policies conform to accounting principles generally accepted inthe United States of America and to general practices within the banking industry. Accordingly, the financial statements require certain estimates, judgments, and assumptions, which are believed to be reasonable based upon the information available. These estimates and assumptions affect the reported amounts of assets and liabilities at the date of the financial statements and the reported amounts of income and expenses during the periods presented. The JOBS Act of 2012 contains provisions that, among other things, reduce certain reporting requirements for qualifying public companies. As an "emerging growth company" we may delay adoption of new or revised accounting pronouncements applicable to public companies until such pronouncements are made applicable to private companies. We intend to take advantage of the benefits of this extended transition period. Accordingly, our financial statements may not be comparable to companies that comply with such new or revised accounting standards. The following accounting policies comprise those that management believes are the most critical to aid in fully understanding and evaluating our reported financial results. These policies require numerous estimates or economic assumptions that may prove inaccurate or may be subject to variations which may significantly affect our reported results and financial condition for the period or in future periods. Employee Retention Credit. Under the provisions of the Coronavirus Aid, Relief, and Economic Security Act (the "CARES Act") signed into law onMarch 27, 2020 and the subsequent extension of the CARES Act, the Bank was eligible for a refundable employee retention credit subject to certain criteria. The Bank qualified for the tax credit for the quarters endedJune 30, 2021 andSeptember 30, 2021 under the CARES Act. The Bank utilized the gross receipts method of calculating eligibility. Based on the eligibility, the tax credit is equal to 70% of qualified wages paid to employees during a quarter, and the limit on qualified wages per employee is$10,000 of qualified wages per quarter. The Employee Retention Credit of$503,000 was recorded during the second quarter of 2022, when the Bank determined it was eligible. The credit is recorded as other non-interest income and offsets$503,000 of salaries and employee benefits expense previously recorded during 2021. Subsequent toDecember 31, 2022 , the Bank has received$259,000 of the Employee Retention Credit, which represents the tax credit for the quarter endedJune 30, 2021 . The Bank cannot reasonably estimate when it will receive the remaining refunds. A receivable is recorded in other assets on the consolidated balance sheets to reflect the remaining amount of the credit yet to be received. The CARES Act and related Employee Retention Credit was terminated as ofSeptember 30, 2021 , and therefore the Company does not expect to file for any additional refunds. Allowance for Loan Losses. We have identified the evaluation of the allowance for loan losses as a critical accounting policy where amounts are sensitive to material variation. The allowance for loan losses represents management's estimate for probable losses that are inherent in our loan portfolio but which have not yet been realized as of the date of our balance sheet. It is established through a provision for loan losses charged to earnings. Loans are charged against the allowance for loan losses when management believes that the collectability of the principal is unlikely. Subsequent recoveries are added to the allowance. The allowance is an amount that management believes will cover known and inherent losses in the loan portfolio based on evaluations of the collectability of loans. The evaluations take into consideration such factors as changes in the types and amount of loans in the loan portfolio, historical loss experience, adverse situations that may affect the borrower's ability to repay, estimated value of any underlying collateral, estimated losses relating to specifically identified loans, and current economic conditions. This evaluation is inherently subjective as it requires material estimates including, among others, exposure at default, the amount and timing of expected future cash flows on impacted loans, value of collateral, estimated losses on our commercial and residential loan portfolios, and general amounts for historical loss experience. All of these estimates may be susceptible to significant changes as more information becomes available. While management uses the best information available to make loan loss allowance evaluations, adjustments to the allowance may be necessary based on changes in economic and other conditions or changes in accounting guidance. Historically, our estimates of the allowance for loan loss have not required significant adjustments from management's initial estimates. In addition, the OCC as an integral part of their examination processes periodically reviews our allowance for loan losses. The OCC may require the recognition of adjustments to the allowance for loan losses based on its judgment of information available to them at the time of their examinations. To the extent that actual outcomes differ from management's estimates, additional provisions to the allowance for loan losses may be required that would adversely impact earnings in future periods. 28
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Comparison of Financial Condition atDecember 31, 2022 andDecember 31, 2021 At December 31, 2022 2021 (Dollars in thousands) Selected Consolidated Financial Condition Data: Total assets$ 264,206 $ 340,869 Cash and cash equivalents 13,147 121,611 Securities available for sale 121,205 100,950 Federal Home Loan Bank stock 550 550 Loans, net 103,359 96,534 Total deposits 178,714 285,621 Other borrowings - 5,000 Total equity$ 80,542 $ 45,183 Total Assets. Total assets decreased$76.7 million , or 22.5%, to$264.2 million atDecember 31, 2022 compared to$340.9 million atDecember 31, 2021 . The decrease is a direct result of a decrease in cash and cash equivalents as a result of refunds issued due to the oversubscription of stock purchases related to the stock offering and conversion. Cash and cash equivalents. The funds received as part of the conversion were primarily held in cash and cash equivalents atDecember 31, 2021 , and excess funds were disbursed during the first quarter of 2022. The disbursement resulted in a decrease in cash and cash equivalents during the period. Additionally, management continued to deploy the remaining funds from the stock offering primarily in securities available for sale, resulting in a further decrease to the balance of cash and cash equivalents as ofDecember 31, 2022 compared toDecember 31, 2021 . The Bank monitors our liquidity position on a daily basis and continues to maintain levels of liquid assets deemed adequate by management. Securities Available for Sale. Securities available for sale increased$20.2 million , or 20.0%, to$121.2 million atDecember 31, 2022 compared to$101.0 million atDecember 31, 2021 . This increase was the result of management's efforts to reduce the cash and cash equivalents balance by investing in higher yielding assets. During the year endedDecember 31, 2022 , the Bank purchased$59.5 million in securities available for sale, which was partially offset by principal repayments and maturities of$22.9 million , an increase in the unrealized loss on available for sale securities of$15.4 million , due to increases in market interest rates, and amortization and accretion of premiums and discounts of$958,000 . During the year endedDecember 31, 2022 , the Bank purchasedU.S. Treasury Notes of$12.3 million , resulting in a slight adjustment to the mix of the securities available-for-sale as well as reducing the duration of the portfolio while maintaining a higher yielding portfolio. Loans, net. Our loans, net, increased by$6.8 million , or 7.0%, to$103.4 million atDecember 31, 2022 compared to$96.5 million atDecember 31, 2021 . The increase in loans was primarily driven by the purchase of a loan pool consisting of 9 loans totaling$5.3 million . The loan pool was purchased with a$113,000 premium that is amortized over the life of the loans. The loans included in the loan pool followed the same underwriting standards required for loans originated by the Bank and are 1-4 family residential mortgages located inCook County . Additionally, this pool has a weighted average coupon of 4.13%, with adjustable rates set to adjust in 3-7 years. The Bank originated$16.5 million in loans for the portfolio during the year, offset by loan repayments of$15.3 million . AtDecember 31, 2022 , the allowance for loan losses was$624,000 , a decrease of$155,000 compared toDecember 31, 2021 , primarily due to a decrease in specific reserves on troubled debt restructurings as a result of payoffs, and general economic improvements during 2022. During the year endingDecember 31, 2022 , six impaired loans, totaling$302,000 as ofDecember 31, 2021 , with a combined specific reserve of$29,000 as ofDecember 31, 2021 paid off in full. The rolling average unemployment rate in Kenosha/Lake Counties continues to decline, resulting in a reduction to qualitative adjustments in the allowance for loan losses. Additionally, the Bank has reduced its qualitative adjustment due to reduced COVID-19 uncertainties. The Bank has not experienced losses specific to COVID-19 during the pandemic. Non-performing loans, consisting of 2 loans, were$154,000 atDecember 31, 2022 compared to$143,000 atDecember 31, 2021 . Deposits. Our total deposits were$178.7 million atDecember 31, 2022 , a decrease of$106.9 million , or 37.4%, from$285.6 million atDecember 31, 2021 . The decrease in deposits was primarily the result of refunds issued due to the oversubscription of stock purchases related to the stock offering and a capital infusion into the Bank in the amount of half the net proceeds received as part of the conversion. As ofDecember 31, 2021 , prior to the conversion, the Company held a deposit account at the Bank of approximately$87.3 million . Subsequent to the conversion, the balance of the deposit account held at the Bank is eliminated during consolidation. Additionally, prior toSeptember 30, 2021 , the Bank received an increase in funds within the deposit accounts as individuals opened accounts to receive priority in purchasing stock as part of the offering. Subsequent to the conversion, approximately$10.0 million in funds remaining in those accounts were withdrawn by depositors. A majority of these funds were held in short-term time deposits and were subject to interest penalties upon withdrawal. Additionally, during the fourth quarter, deposits continued to decrease as a result of various large customers moving money to high yielding accounts outside the Bank. Management continues to actively monitor the deposit balances and interest rates offered to maintain an adequate level of liquidity. 29
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Other Borrowings. During the year endedDecember 31, 2022 , the Bank repaid the 0% interest FHLB Advance of$5.0 million , resulting in no Other Borrowings as ofDecember 31, 2022 . Total Equity. Total equity increased$35.3 million , or 78.1%, to$80.5 million atDecember 31, 2022 , from$45.2 million atDecember 31, 2021 . The increase in total equity is the result of the net proceeds of the conversion stock offering, less unallocated shares of the ESOP, offset by the increase in the unrealized loss on securities available for sale. AtDecember 31, 2022 , our ratio of total equity to total assets was 30.5%. Average Balances, Net Interest Income, and Yields Earned and Rates Paid. The following table shows for the periods indicated the total dollar amount of interest from average interest-earning assets and the resulting yields, as well as the interest expense on average interest-bearing liabilities, expressed both in dollars and rates, and the net interest margin. All average balances are based on daily balances. The table also reflects the yields onNorth Shore Trust and Savings' interest-earning assets and costs of interest-bearing liabilities for the periods shown. At or For the Year Ended December 31, 2022 2021 Average Average Outstanding Average Outstanding Average Balance Interest Yield/ Rate Balance Interest Yield/ Rate (Dollars in thousands) Interest-earning assets: Loans$ 97,714 $ 3,618 3.70 %$ 98,409 $ 3,569 3.63 % Interest-bearing bank deposits 38,061 259 0.68 % 33,384 35 0.10 % Time deposits with other financial institutions 3,926 41 1.04 % 6,889 66 0.96 % Securities available for sale 118,988 2,415 2.03 % 94,289 1,355 1.44 %Federal Home Loan Bank stock 550 15 2.73 % 540 13 2.41 % Total interest-earning assets$ 259,239 $ 6,348 2.45 %$ 233,511 $ 5,038 2.16 % Noninterest-earning assets 21,010 16,159 Total assets$ 280,249 $ 249,670 Interest-bearing liabilities: Interest-bearing demand$ 17,817 $ 9 0.05 %$ 17,738 $ 8 0.05 % Money market 45,328 96 0.21 % 46,985 96 0.20 % Savings 48,787 73 0.15 % 45,609 68 0.15 % Time deposits 61,414 586 0.95 % 67,253 768 1.14 % Total interest-bearing deposits$ 173,346 $ 764 0.44 %$ 177,585 $ 940 0.53 % Other borrowings(1) 1,945 - 0.00 % 4,616 - 0.00 % Total interest-bearing liabilities$ 175,291 $ 764 0.44 %$ 182,201 $ 940 0.52 % Noninterest-bearing liabilities 23,038 21,417 Total liabilities$ 198,329 $ 203,618 Equity 81,920 46,052 Total liabilities and equity$ 280,249 $ 249,670 Net interest income$ 5,584 $ 4,098 Interest rate spread(2) 2.01 % 1.64 % Net interest-earning assets(3) 83,948 51,310 Net interest margin(4) 2.15 % 1.75 % Average interest-earning assets to average-interest bearing liabilities 147.89 % 128.16 %
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(1) Other borrowing consists of 0% interest rate FHLB of
(2) Equals the difference between the yield on average earning-assets and the
cost of average interest-bearing liabilities.
(3) Equals total interest-earning assets less total interest-bearing liabilities.
(4) Equals net interest income divided by average interest-earning assets.
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Rate/Volume Analysis. The following table shows the extent to which changes in
interest rates and changes in volume of interest-earning assets and
interest-bearing liabilities affected our interest income and expense during the
periods indicated. For each category of interest-earning assets and
interest-bearing liabilities, information is provided on changes attributable to
(1) changes in rate, which is the change in rate multiplied by prior year
volume, and (2) changes in volume, which is the change in volume multiplied by
prior year rate. The combined effect of changes in both rate and volume has been
allocated proportionately to the change due to rate and the change due to
volume.
Years Ended December 31, 2022 vs. 2021
Total
Increase (Decrease) Due to Increase
Volume Rate (Decrease)
(Dollars in thousands)
Interest-earning assets:
Loans $ (25 ) $ 74 $ 49
Federal funds sold and interest-bearing
deposits in other banks 6 218 224
Time deposits in other banks (31 ) 6 (25 )
Investment securities 412 648 1,060
FHLB of Chicago stock - 2 2
Total interest-earning assets $ 362 $ 948 $ 1,310
Interest-bearing liabilities:
Interest-bearing demand $ - $ 1 $ 1
Money market (3 ) 3 -
Savings 5 - 5
Time deposit (63 ) (119 ) (182 )
Total interest-bearing liabilities $ (61 ) $ (115 ) $ (176 )
Change in net interest income $ 423 $ 1,063 $ 1,486 Comparison of Operating Results for the Years Ended
General. For the year endedDecember 31, 2022 , we had net income of$27,000 , compared to a net loss of$55,000 for the year endedDecember 31, 2021 . The increase in net income is primarily the result of an increase in interest income on securities available-for-sale, a decrease in interest expense on deposits, recognition of the Employee Retention Credit and a higher reversal of the provision for loan losses, offset by an increase in noninterest expense. Net Interest Income. Net interest income increased$1.5 million , or 36.6%, to$5.6 million for the year endedDecember 31, 2022 compared to$4.1 million for the year endedDecember 31, 2021 . Our interest rate spread increased to 2.01% for the year endedDecember 31, 2022 from 1.64% for the year endedDecember 31, 2021 , and our net interest margin increased to 2.15% for the year endedDecember 31, 2022 from 1.75% for the year endedDecember 31, 2021 . The increase in interest rate spread and net interest margin was primarily the result of the deployment of funds from the conversion into higher yielding assets, such as securities available-for-sale, while maintaining deposit rates. Average interest-earning assets of$259.2 million in 2022 increased$25.7 million compared to 2021. The increase in average earning assets was driven by the funds received as part of the conversion. With the additional funds we had a$24.7 million , or 26.2%, increase in average securities available for sale, as a result of the decision to invest available cash in securities available for sale to achieve a higher yield. The average outstanding balance of loans decreased$695,000 , or 0.7%, in 2022; however, due to higher interest rates earned on the loan portfolio of 7 basis points, interest earned increased$49,000 , or 1.4%. Notwithstanding a general increase in market interest rates during 2022, the cost of interest-bearing liabilities decreased 8 basis points for the year endedDecember 31, 2022 compared to the year endedDecember 31, 2021 . The net decrease in our funding costs was primarily driven by a decrease in the average yield of time deposits. During the first quarter of 2022, subsequent to the conversion closing, certain customers withdrew their funds held in time deposits prior to the maturity of these deposits. Upon the withdrawal of these funds, the customers were charged an interest penalty which resulted in a lower overall funding cost during the quarter. During the fourth quarter of 2022, management increased interest rates on premium money market accounts and new time deposits to stay competitive with rates offered in our market area. 31
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Table of Contents Reversal of Provision for Loan Losses. The allowance for loan losses is established through a provision for loan losses charged to earnings as losses are estimated to have occurred in our loan portfolio. Loan losses are charged against the allowance when management believes the collectability of a loan balance is confirmed. Subsequent recoveries, if any, are credited to the allowance. The allowance for loan losses is evaluated on a regular basis by management and is based upon management's periodic review of the collectability of the loans in light of historical experience, the nature and volume of the loan portfolio, adverse situations that may affect the borrower's ability to repay, estimated value of the underlying collateral, and prevailing economic conditions. The evaluation is inherently subjective as it requires estimates that are susceptible to significant revision as more information becomes available. A loan is considered impaired when, based on current information or events, it is probable that we will be unable to collect the scheduled payments of principal and interest when due according to the contractual terms of the loan agreement. When a loan is impaired, the measurement of such impairment is based upon the fair value of the collateral of the loan. If the fair value of the collateral is less than the recorded investment in the loan, we will recognize the impairment by creating a valuation allowance with a corresponding charge against earnings. An allowance is also established for uncollectible interest on loans classified as substandard. The allowance is established by a charge to interest income equal to all interest previously accrued, and income is subsequently recognized only to the extent that cash payments are received. When, in management's judgment, the borrower's ability to make interest and principal payments is back to normal, the loan is returned to accrual status. During the year endedDecember 31, 2022 , a reversal of the provision for loan losses of$230,000 was recorded due to a decrease in specific reserves on troubled debt restructurings as a result of payoffs and general economic improvements during 2022. The rolling average unemployment rate in Kenosha/Lake Counties continues to decline. Additionally, the Bank has reduced its qualitative adjustment due to reduced COVID-19 uncertainties. The Bank has not experienced losses specific to COVID-19 during the pandemic. Additionally, we recorded net recoveries of$75,000 for the year endedDecember 31, 2022 compared to net charge-offs of$68,000 for the year endedDecember 31, 2021 . The establishment of the allowance for loan losses is significantly affected by uncertainties and management judgment and there is a likelihood that different amounts would be reported under different conditions or assumptions. Various regulatory agencies, as an integral part of their examination process, periodically review our allowance for loan losses. Such agencies may require us to make additional provisions for estimated loan losses based upon judgments different from those of management. 32
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Noninterest Income. The following table shows the components of noninterest income for the periods presented.
For the Year Ended December 31,
2022 2021
(Dollars in thousands)
Noninterest income:
Gain on sale of mortgage loans $ 106 $ 410
Gain on sale of securities -
131
Rental income on office building 53
42
Service charges on deposits 291
289
Increase in cash surrender value of BOLI 178 181 Other 608 156 Total noninterest income $ 1,236 $ 1,209 Noninterest income stayed flat at$1.2 million for the years endedDecember 31, 2022 and 2021. During the year endedDecember 31, 2022 , the Bank recognized a one time Employee Retention Credit of$503,000 . The Employee Retention Credit was recorded during the second quarter of 2022, when management determined the Bank was eligible. The credit is recorded as other non-interest income and offsets$503,000 of salaries and employee benefits expense previously recorded during 2021. The CARES Act and related Employee Retention Credit was terminated as ofSeptember 30, 2021 , and therefore the Company does not expect to file for any additional refunds. This increase in other non-interest income was offset by a decrease in gain on sale of securities and gain on sale of loans. During the year endedDecember 31, 2022 , the Bank did not sell any securities available for sale, primarily as a result of the unrealized loss position of the securities. Management does not currently intend to sell securities in an unrealized loss position. Additionally, during 2022, we sold$8.6 million in loans compared to$21.2 million during 2021. The decrease in the sale of mortgage loans was partially due to the decision to originate a higher percentage of loans for the portfolio, as well as an overall decrease in total loans originated during 2022.
Noninterest Expense. The following table shows the components of noninterest expense for the periods presented.
For the year ended December 31,
2022 2021
(Dollars in thousands)
Noninterest expense:
Salaries and employee benefits $ 3,846 $ 3,141
Equipment and occupancy 658 665
Data processing 632 613
Professional services 500 139
Advertising 90 71
Supervisory fees and assessments 142 126
Loan expenses 86 129
Deposit expenses 203 183
Director fees 223 225
Other 497 307
Total noninterest expense $ 6,877 $ 5,599
Noninterest expense increased $1.3 million , or 23.2%, to $6.9 million for the
year ended December 31, 2022 , compared to $5.6 million for the year ended
December 31, 2021 . The primary drivers for the increase in noninterest expense
are salaries and employee benefits and professional services expenses. Salaries
and employee benefits increased $705,000 as a result of a continued investment
in our employees, including an increase in average headcount from 35 employees
during 2021 to 37 employees during 2022 primarily in management roles, $246,000
in expenses related to the Employee Stock Ownership Plan, annual raises and
merit increases. Professional service fees increased $361,000 to $500,000 during
the year ended December 31, 2022 . This increase is the result of additional
expenses associated with being a public company and are expected to reoccur in
future periods. Other noninterest expense increased $190,000 during the year
ended December 31, 2022 primarily due to additional expenses associated with the
filing for the Employee Retention Credit.
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We expect noninterest expense to increase because of costs associated with operating as a newly public company, including the increased compensation expenses associated with the purchase of shares of common stock by our employee stock ownership plan and the implementation of stock-based benefit plans, if approved by our stockholders. In addition, we will incur increased noninterest expense related to the implementation of our business strategy related to planned additions to our employee base and potential new loan production office openings. Provision for Income Tax Expense (Benefit). During the year endedDecember 31, 2022 , the Bank recorded income tax expense of$146,000 , consisting of$133,000 current tax benefit,$64,000 deferred tax expense and$215,000 change in valuation allowance. Federal net operating losses as ofDecember 31, 2022 and 2021 are$1.7 million and$1.5 million , respectively, and do not expire. During 2022, management assessed the available positive and negative evidence to estimate whether sufficient future taxable income will be generated to permit use of the existing deferred tax assets. A significant piece of objective negative evidence evaluated is the cumulative taxable loss incurred over the three-year period endedDecember 31, 2022 . Such objective evidence limits the ability to consider other subjective evidence, such as our projections for future growth. On the basis of this evaluation, as ofDecember 31, 2022 , a valuation allowance of$150,000 on federal net operating losses has been recorded to recognize only the portion of the deferred tax asset that is more likely than not to be realized. The amount of the deferred tax asset considered realizable, however, could be adjusted, and an additional valuation allowance recorded, if estimates of future taxable income during the carryforward period are reduced or if objective negative evidence in the form of cumulative losses is present and additional weight cannot be given to subjective evidence such as our projections for growth. NOL carryforwards for state income tax purposes were approximately$3.9 million and$3.2 million atDecember 31, 2022 and 2021, respectively, and will begin expiring in 2023. Due to the uncertainty that the Bank will be able to generate future state taxable income sufficient to utilize the net operating loss carryforwards, a full valuation allowance of$371,000 has been recorded on the related deferred tax asset. There were no uncertain tax positions outstanding as ofDecember 31, 2022 and 2021. As ofDecember 31, 2022 , tax years remaining open forState of Illinois andWisconsin were 2018 through 2021. Federal tax years that remained open were 2019 through 2021. As ofDecember 31, 2022 , there were also no unrecognized tax benefits that are expected to significantly increase or decrease within the next twelve months.
Exposure to Changes in Interest Rates
Our ability to maintain net interest income depends upon our ability to earn a
higher yield on interest-earning assets than the rates we pay on deposits and
borrowings. Our interest-earning assets consist primarily of securities
available-for-sale and long-term residential and commercial mortgage loans,
which generally have fixed rates of interest. Consequently, our ability to
maintain a positive spread between the interest earned on assets and the
interest paid on deposits and borrowings will be adversely affected as market
rates of interest continue to rise.
Net Portfolio Value Analysis. Our interest rate sensitivity is monitored by
management through the use of models which generate estimates of the change in
its net portfolio value ("NPV") over a range of interest rate scenarios. NPV
represents the market value of portfolio equity, which is different from book
value, and is equal to the market value of assets minus the market value of
liabilities (that is, the difference between incoming and outgoing discounted
cash flows of assets and liabilities) with adjustments made for off-balance
sheet items. The NPV ratio, under any interest rate scenario, is defined as the
NPV in that scenario divided by the market value of assets in the same scenario.
The OCC provides a quarterly report on the potential impact of interest rate
changes upon the market value of portfolio equity. Management reviews the
quarterly reports from the OCC, which show the impact of changing interest rates
on net portfolio value. The following table sets forth our NPV as of December
31, 2022 and reflects the changes to NPV as a result of immediate and sustained
changes in interest rates as indicated.
Change in Interest NPV as % of
Rates In Basis Points Net Portfolio Value Portfolio Value of Assets
(Rate Shock) Amount $ Change % Change NPV Ratio Change
(Dollars in thousands)
300bp $ 63,320 $ (15,081 ) (19.2 )% 27.4 % (3.1 )%
200 68,051 (10,350 ) (13.2 )% 28.5 % (2.0 )%
100 73,189 (5,212 ) (6.6 )% 29.6 % (0.9 )%
Static 78,401 - - 30.5 % -
-100 81,297 2,896 3.7 % 30.5 % 0.0 %
-200 83,505 5,104 6.5 % 30.3 % (0.2 )%
Net Interest Income Analysis. In addition to modeling changes in NPV, we also
analyze potential changes to net interest income ("NII") for a 12-month period
under rising and falling interest rate scenarios. The following table shows our
NII model as of December 31, 2022 .
Change in Interest
Rates in Basis Points Net Interest
(Rate Shock) Income $ Change % Change
(Dollars in thousands)
300bp $ 6,442 $ (736 ) (10.3 )%
200 6,805 (373 ) (5.2 )%
100 7,067 (111 ) (1.5 )%
Static 7,178 - 0.0 %
-100 6,898 (280 ) (3.9 )%
-200 6,633 (545 ) (7.6 )%
The table above indicates that as of
Certain shortcomings are inherent in the methodologies used in the above
interest rate risk measurements. Modeling changes require making certain
assumptions that may or may not reflect the manner in which actual yields and
costs respond to changes in market interest rates. The above table assumes that
the composition of our interest sensitive assets and liabilities existing at the
date indicated remains constant uniformly across the yield curve regardless of
the duration or repricing of specific assets and liabilities. Accordingly,
although the table provides an indication of our interest rate risk exposure at
a particular point in time, such measurements are not intended to and do not
provide a precise forecast of the effect of changes in market interest rates on
our NPV and will differ from actual results.
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Liquidity and Capital Resources
North Shore Trust and Savings maintains levels of liquid assets deemed adequate by management. We adjust our liquidity levels to fund deposit outflows, repay our borrowings, and to fund loan commitments. We also adjust liquidity, as appropriate, to meet asset and liability management objectives. Liquidity describes our ability to meet the financial obligations that arise in the ordinary course of business. Liquidity is primarily needed to meet the borrowing and deposit withdrawal requirements of our customers and to fund current and planned expenditures. Our primary sources of funds are deposits, principal and interest payments on loans and securities, and proceeds from the sale and maturities of securities. We also have the ability to borrow from the FHLB ofChicago and a$10.0 million unsecured Fed Funds facility withBMO Harris Bank . AtDecember 31, 2022 , we had no outstanding advances from the FHLB ofChicago and had the capacity to borrow approximately$68.6 million from the FHLB ofChicago . Additionally, we had no outstanding balance withBMO Harris Bank . While maturities and scheduled amortization of loans and securities are predictable sources of funds, deposit flows and loan prepayments are greatly influenced by general interest rates, economic conditions, and competition. Our most liquid assets are cash and short-term investments. The levels of these assets are dependent on our operating, financing, lending, and investing activities during any given period. Our cash flows are comprised of three primary classifications: cash flows from operating activities, investing activities, and financing activities. Net cash provided by operating activities was$3.0 million and$1.5 million for the year endedDecember 31, 2022 and 2021, respectively. Net cash used in investing activities, which consists primarily of net change in loans receivable and net change in investment securities, was$44.5 million and$11.8 million for the years endedDecember 31, 2022 and 2021, respectively. Net cash (used in) provided by financing activities, consisting primarily of the activity in deposit accounts, proceeds from the issuance of common stock and FHLB ofChicago advances, was$(67.0) million and$100.1 million for the years endedDecember 31, 2022 and 2021, respectively. We are committed to maintaining a strong liquidity position. We monitor our liquidity position on a daily basis. We anticipate that we will have sufficient funds to meet our current funding commitments. Time deposits that are scheduled to mature in less than one year fromDecember 31, 2022 , totaled$30.6 million . Based on our deposit retention experience and current pricing strategy, we anticipate that a significant portion of maturing time deposits will be retained. However, if a substantial portion of these deposits is not retained, we may utilize FHLB ofChicago advances or raise interest rates on deposits to attract new accounts, which may result in higher levels of interest expense. As ofDecember 31, 2022 ,North Shore Trust and Savings was well capitalized under the regulatory framework for prompt corrective action. During the year endedDecember 31, 2020 ,North Shore Trust and Savings elected to begin using the CBLR. Under CBLR, if a qualifying depository institution or depository institution holding company elects to use such measure, such institution or holding company will be considered well capitalized if its ratio of Tier 1 capital to average total consolidated assets (i.e., leverage ratio) exceeds 8% in 2020, 8.5% in 2021 and 9% in 2022, subject to a limited two quarter grace period, during which the leverage ratio cannot go 100 basis points below the then applicable threshold, and will not be required to calculate and report risk-based capital ratios.North Shore Trust and Savings' Tier 1 capital to Average Assets was 24.81% and 16.11% atDecember 31, 2022 and 2021, respectively.
Off-Balance Sheet Arrangements. At
Commitments. The following table summarizes our outstanding commitments to
originate loans and to advance additional amounts pursuant to outstanding
letters of credit, lines of credit and undisbursed construction loans at
Total Amounts
Committed at Amount of Commitment Expiration - Per Period
December 31,
2022 To 1 Year 1-3 Years 4-5 Years After 5 Years
(Dollars in thousands)
Unused line of credit $ 2,872 $ 125 $ 650 $ 852 $ 1,245
Commitments to originate loans 793 793 - - -
Total commitments $ 3,665 $ 918 $ 650 $ 852 $ 1,245
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Contractual Cash Obligations. The following table summarizes our contractual
cash obligations at
Total at Payments Due By Period
December 31,
2022 To 1 Year 1-3 Years 4-5 Years After 5 Years
(Dollars in thousands)
Time deposits $ 55,386 $ 30,618 $ 20,078 $ 4,690 $ -
Total contractual obligations $ 55,386 $ 30,618 $ 20,078 $ 4,690 $ -
Impact of Inflation and Changing Prices
The financial statements and related financial data presented herein have been prepared in accordance with accounting principles generally accepted inthe United States of America , which generally require the measurement of financial position and operating results in terms of historical dollars, without considering changes in relative purchasing power over time due to inflation. Unlike most industrial companies, virtually all of our assets and liabilities are monetary in nature. As a result, interest rates generally have a more significant impact on our performance than does the effect of inflation. Interest rates do not necessarily move in the same direction or in the same magnitude as the prices of goods and services, since such prices are affected by inflation to a larger extent than interest rates.
Current Accounting Developments
The following ASU has been issued by the FASB but is not yet effective.
The FASB issued ASU No. 2016-13, Financial Instruments- Credit Losses (Topic
326). The ASU introduces a new credit loss model, the current expected credit
loss model ("CECL"), which requires earlier recognition of credit losses, while
also providing additional transparency about credit risk.
The CECL model utilizes a lifetime "expected credit loss" measurement objective
for the recognition of credit losses for loans, held-to-maturity securities, and
other receivables at the time the financial asset is originated or acquired. The
expected credit losses are adjusted each period for changes in expected lifetime
credit losses. For available for-sale securities where fair value is less than
cost, credit-related impairment, if any, will be recognized in an allowance for
credit losses and adjusted each period for changes in expected credit risk. This
model replaces the multiple existing impairment models, which generally require
that a loss be incurred before it is recognized.
The CECL model represents a significant change from existing practice and may
result in material changes to our accounting for financial instruments. We
are evaluating the effect ASU 2016-13 will have on our consolidated financial
statements and related disclosures. The impact of the ASU will depend upon the
state of the economy, and the nature of our loan portfolio at the date of
adoption. The new standard is effective January 1, 2023 for emerging growth
companies.
Management has developed a CECL allowance model which calculates reserves over
the life of the loan and is largely driven by peer data adjusted for portfolio
characteristics unique to us. Management will periodically refine the model as
needed. We expect to incur a $250,000 to $300,000 after-tax charge, during the
first quarter of 2023 as a result of the adoption of CECL, which will decrease
the opening stockholders' equity balance as of January 1, 2023 . The total
estimated impact equates to a 9 to 12 basis point decrease to the tangible
common equity ratio. Management is in the process of finalizing the review of
the most recent model run and finalizing assumptions including qualitative
adjustments and economic forecasts.
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