BANNER CORP

Comparison of Results of Operations for the Three Months Ended June 30, 2024, and March 31, 2024, and for the Six Months Ended June 30, 2024 and 2023

For the quarter ended June 30, 2024, net income was $39.8 million, or $1.15 per diluted share, compared to $37.6 million, or $1.09 per diluted share, for the preceding quarter. For the six months ended June 30, 2024, our net income was $77.4 million, or $2.24 per diluted share, compared to $95.1 million, or $2.76 per diluted share for the same period a year earlier. The increase in net income for the current quarter compared to the preceding quarter primarily was due to increased non-interest income, partially offset by an increase in the provision for credit losses. The increase in non-interest income was primarily the result of a decrease in the net loss recognized on the sale of securities and, to a lesser extent, a decrease in the net loss recognized for fair value adjustments on financial instruments carried at fair value. Our net income for the six months ended June 30, 2024, included a decrease in net interest income and an increase in non-interest expense, partially offset by an increase in non-interest income and a decrease in the provision for credit losses.

Net interest margin for the current quarter was impacted by an increase in funding costs due to the high interest rate environment and its effect on deposit costs, partially offset by increased yields on loans due to new loans being originated at higher interest rates and adjustable rate loans repricing higher. Total revenue for the quarter ended June 30, 2024, increased compared to the preceding quarter primarily due to a decrease in the net loss recognized on the sale of securities. Total revenue decreased during the six months ended June 30, 2024, compared to the same period a year earlier due to increased funding costs, partially offset by increased interest income, a decrease in the net loss on the sale of securities recorded during the current period and a decrease in the net loss recognized for fair value adjustments on financial instruments carried at fair value.

We recorded a $2.4 million provision for credit losses for the quarter ended June 30, 2024, compared to a $520,000 provision for credit losses in the preceding quarter. The provision for credit losses for the current quarter primarily reflected loan growth and an increase in the reserve for collateral dependent loans. The provision for credit losses for the preceding quarter was primarily related to the loan growth in the construction and one- to four-family loan portfolios, partially offset by a reduction in unfunded loan commitments in the construction portfolio. We recorded a $2.9 million provision for credit losses for the six months ended June 30, 2024, compared to a $6.2 million provision for credit losses for the same period a year ago.

Total non-interest income increased for the quarter ended June 30, 2024, compared to the preceding quarter and increased during the six months ended June 30, 2024, compared to the same period a year ago. The increase in non-interest income during the current quarter compared to the preceding quarter was primarily due to decreases in the net loss recognized on the sale of securities and in the net loss recognized for fair value adjustments on financial instruments carried at fair value. The increase in non-interest income during the six months ended June 30, 2024, compared to the same period last year was also primarily due to a reduction in the net loss recognized on the sale of securities and a decrease in the net loss recognized for fair value adjustments on financial instruments carried at fair value.

Total non-interest expense increased for the quarter ended June 30, 2024, compared to the preceding quarter and increased during the six months ended June 30, 2024, compared to the same period a year ago. The increase in non-interest expense for the current quarter compared to the prior quarter reflects an increase in salary and employee benefits, primarily resulting from normal annual salary and wage increases and an increase in loan production related commission expense, partially offset by an increase in capitalized loan origination costs, also due to increased loan production. The increase in non-interest expense compared to the same period a year ago primarily reflects increases in salary and employee benefits, payment and card processing services expense and deposit insurance expense, partially offset by a decrease in professional and legal expenses.

Net Interest Income. Net interest income decreased for the quarter ended June 30, 2024, compared to the preceding quarter. The decrease was primarily due to an increase in the cost of funding liabilities, partially offset by increases in the average yields on loans and investment securities.

Net interest margin on a tax equivalent basis decreased four basis points to 3.70% for the second quarter of 2024, compared to 3.74% in the preceding quarter. Net interest margin for the current quarter was impacted by increased funding costs reflecting the persistent high interest rate environment, partially offset by increased yields on loans due to new loans being originated at higher interest rates and adjustable rate loans repricing higher. The increase in the overall cost of funding liabilities was primarily due to the increase in rates across all deposits and most borrowing categories due to higher market rates generally, as well as a shift in the average balance of non-interest-bearing deposits to higher costing interest-bearing checking accounts and savings accounts.

Net interest income decreased for the six months ended June 30, 2024, compared to the same period one year earlier, primarily due to increased funding costs, partially offset by an increase in the average yields on interest-earning assets. The higher funding costs and average yields on interest-earning assets compared to same period a year ago was primarily the result of higher interest rates. The higher funding costs was also impacted by a shift in the average balance of non-interest-bearing deposits to higher costing interest-bearing checking accounts, savings accounts and certificates of deposit. The net interest margin on a tax equivalent basis decreased to 3.72% for the six months ended June 30, 2024, compared to 4.15% for the same period in the prior year.

Interest Income. Interest income for the quarter ended June 30, 2024 was $189.1 million, compared to $184.7 million for the preceding quarter. The increase in interest income occurred primarily as a result of average yields on total interest-earning assets increasing nine basis points. The increased yield on interest-earning assets primarily reflects increases in both the average yields and average balances of loans.

The increased interest income on loans for the current quarter compared to the preceding quarter was due to the average loan yields increasing to 5.96% for the quarter ended June 30, 2024, from 5.87% in the preceding quarter, reflecting new loans being originated at higher interest rates and adjustable rate loans repricing higher. The average balance of loans receivable for the quarter ended June 30, 2024 increased compared to the preceding quarter, primarily reflecting increases in the average balances of multifamily construction and one- to four-family loans.

Interest and dividend income on total investment securities for the current quarter decreased from the preceding quarter due to a decrease in the average balance of total investment securities, partially offset by a higher average yield earned on total investment securities during the current quarter compared to the preceding quarter. The average balance of total investment securities decreased to $3.71 billion for the quarter ended June 30, 2024 (excluding the effect of fair value adjustments), compared to $3.78 billion for the preceding quarter. The average yield on the combined portfolio increased to 3.14% for the quarter ended June 30, 2024, from 3.11% in the preceding quarter.

Interest income for the six months ended June 30, 2024 was $373.8 million, compared to $338.8 million for the same period in the prior year, primarily reflecting an increase in the average yield on interest-earning assets, mostly due to rising interest rates, as well as an increase in the average balance of interest-earning assets.

Interest Expense. Interest expense for the quarter ended June 30, 2024 increased $4.9 million, or 9%, compared to the preceding quarter. The increase occurred as a result of a 13 basis point increase in the average cost of all funding liabilities to 1.66% and an increase in the average balance of funding liabilities during the current quarter. The average balance of funding liabilities increased primarily due to higher average balances of interest-bearing transaction and savings accounts and FHLB advances, partially offset by a decrease in the average balance of non-interest-bearing deposits.

Interest expense for the six months ended June 30, 2024 was $108.3 million, compared to $42.9 million for the same period in the prior year. The increase occurred as a result of an increase in the average cost of all funding liabilities compared to the same period in the prior year, partially offset by a decrease in average balances of funding liabilities. The decrease in the average balance of funding liabilities reflects decreases in non-interest-bearing deposits and money market accounts, partially offset by higher average balances of interest-bearing transaction checking and savings accounts and certificates of deposit.

Deposit interest expense for the quarter ended June 30, 2024 increased $4.2 million, or 9%, compared to the preceding quarter. The increase was the result of a larger percentage of core deposits being in interest-bearing accounts and an increase in higher cost certificates of deposit, as well as an overall increase in the average rate paid on interest-bearing deposits. The cost of interest-bearing deposits increased to 2.32% for the quarter ended June 30, 2024, compared to 2.15% in the preceding quarter. The increase in the average cost of interest-bearing deposits was primarily the result of an increase in the cost of certificates of deposit. The average rate paid on total deposits, which includes non-interest-bearing deposits, was 1.50% for the quarter ended June 30, 2024, compared to 1.37% in the preceding quarter. Average deposit balances increased to $13.10 billion for the quarter ended June 30, 2024, from $13.06 billion for the preceding quarter.

Deposit interest expense for the six months ended June 30, 2024 increased to $93.5 million, compared to $29.8 million for the same period in the prior year. Average deposit balances decreased to $13.08 billion for the six months ended June 30, 2024, from $13.13 billion for the same period a year earlier, while the average rate paid on deposits increased to 1.44% for the six months ended June 30, 2024 from 0.46% for the same period in the prior year. The average cost of interest-bearing deposits increased by 143 basis points to 2.24% for the six months ended June 30, 2024, compared to 0.81% in the same period a year earlier. The increase in the cost of interest-bearing deposits was the result of an overall increase in the average rate paid on interest-bearing deposits, reflecting the increase in market interest rates.

Interest expense on total borrowings for the quarter ended June 30, 2024 increased $626,000, or 9%, compared to the prior quarter, due to an increase in both the average balance of and rate paid on total borrowings. The average balance of total borrowings was $614.2 million for the quarter ended June 30, 2024, compared to $575.3 million for the preceding quarter, largely due to an increase in the average balance of FHLB advances. The average rate paid on total borrowings for the quarter ended June 30, 2024 increased to 5.07% from 4.98% for the preceding quarter.

Interest expense on total borrowings for the six months ended June 30, 2024 increased to $14.9 million from $13.2 million for the same period a year earlier due to an increase in the rate paid on total borrowings, partially offset by a decrease in the average balance of total borrowings. The average balance of total borrowings was $594.8 million for the six months ended June 30, 2024, compared to $645.9 million for the same period a year earlier. The decrease was due to a $12.9 million decrease in the average balance of FHLB advances and a $30.5 million decrease in the average balance of other borrowings. The average rate paid on total borrowings for the six months ended June 30, 2024 increased to 5.02% from 4.11% for the same period a year earlier.

Analysis of Net Interest Spread. The following table 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 with additional comparative data on our operating performance (dollars in thousands). Average balances are computed using daily average balances.

(1)Average balances include loans accounted for on a nonaccrual basis and accruing 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 junior subordinated debentures.

(3)Tax-exempt income is calculated on a tax equivalent basis. The tax equivalent yield adjustment to interest earned on loans was $2.2 million and $2.0 million for the quarters ended June 30, 2024 and March 31, 2024, respectively. The tax equivalent yield adjustment to interest earned on tax exempt securities was $1.0 million for both the quarters ended June 30, 2024 and March 31, 2024.

(4)Represents non-GAAP financial measures. See non-GAAP financial measure reconciliations presented above following Second Quarter 2024 Highlights.

(1)Average balances include loans accounted for on a nonaccrual basis and accruing 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 junior subordinated debentures.

(3)Tax-exempt income is calculated on a tax equivalent basis. The tax equivalent yield adjustment to interest earned on loans was $4.2 million and $3.5 million for the six months ended June 30, 2024 and June 30, 2023, respectively. The tax equivalent yield adjustment to interest earned on tax exempt securities was $2.1 million and $2.3 million for the six months ended June 30, 2024 and June 30, 2023, respectively.

(4)Represents non-GAAP financial measures. See non-GAAP financial measure reconciliations presented above following Second Quarter 2024 Highlights.

Provision and Allowance for Credit Losses. Management estimates the allowance for credit losses using relevant information, from internal and external sources, relating to past events, current conditions, and reasonable and supportable forecasts. The allowance for credit losses is maintained at a level sufficient to provide for expected credit losses over the life of the loan based on evaluating historical credit loss experience and making adjustments to historical loss information for differences in the specific risk characteristics in the current loan portfolio. These factors include, among others, changes in the size and composition of the loan portfolio, differences in underwriting standards, delinquency rates, actual loss experience and current economic conditions. The following table sets forth an analysis of our allowance for credit losses - loans for the periods indicated (dollars in thousands):

The provision for credit losses - loans reflects the amount required to maintain the allowance for credit losses - loans at an appropriate level based upon management’s evaluation of the adequacy of collective and individual loss reserves. During the quarter ended June 30, 2024, we recorded a provision for credit losses - loans of $2.0 million, compared to a provision for credit losses - loans of $1.4 million during the preceding quarter. The provision for credit losses - loans for the current quarter primarily reflects loan growth and an increase in the reserve for collateral dependent loans. The provision for credit losses - loans for the preceding quarter primarily reflected loan growth in the construction and one- to four-family loan portfolios. Future assessments of the expected credit losses will not only be impacted by changes in both the composition and amount of loans, and to the reasonable and supportable forecast, but will also include an updated assessment of qualitative factors, as well as consideration of any required changes in the reasonable and supportable forecast reversion period.

The provision for credit losses - unfunded loan commitments reflects the amount required to maintain the allowance for credit losses - unfunded loan commitments at an appropriate level based upon management’s evaluation of the adequacy of collective and individual loss reserves. The following table sets forth an analysis of our allowance for credit losses - unfunded loan commitments for the periods indicated (dollars in thousands):

The increase in the allowance for credit losses - unfunded loan commitments for the current quarter primarily reflects an increase in unfunded loan commitments in the one- to four-family construction portfolio as well as an increase in the forecast model related to construction, land and land development loans.

Non-interest Income. The following table presents the key components of non-interest income for the periods indicated (dollars in thousands):

The increase in non-interest income during the current quarter compared to the preceding quarter was primarily due to an increase in mortgage banking operations revenue and decreases in the net loss recognized on the sale of securities and the net loss recognized on the valuation of financial instruments carried at fair value, partially offset by a decrease in deposit fees and other service charges. The increase in non-interest income for the six months ended June 30, 2024, compared to the same period a year earlier was primarily due to decreases in the net loss recognized on the sale of securities and the net loss recognized on the valuation of financial instruments carried at fair value, as well as increases in revenue from mortgage banking operations.

Revenue from mortgage banking operations increased $671,000 for the quarter ended June 30, 2024, compared to the preceding quarter and increased $964,000 for the six months ended June 30, 2024, compared to the same period a year earlier. The increase from the preceding quarter and the prior year included a $284,000 gain related to the sale of $19.8 million of one- to four-family portfolio loans during the second quarter of 2024. The increase from the preceding quarter also reflects an increase in the percentage of loans sold servicing retained. The prior year period also reflected a downward lower of cost or market adjustment on multifamily loans held for sale. In 2023, the Bank discontinued the origination of multifamily loans for sale into the secondary market. All of the multifamily loans held for sale were transferred to the held for investment loan portfolio and the related lower of cost or market adjustment was reversed in the fourth quarter of 2023. Gains on sales of one- to four-family loans resulted in income of $2.0 million and $3.3 million for the quarter and six months ended June 30, 2024, respectively, compared to $1.3 million in the preceding quarter, and $2.7 million for the six months ended June 30, 2023. Home purchase activity accounted for 89% of one- to four-family mortgage loan originations in both the second quarter of 2024 and the preceding quarter.

Miscellaneous income increased for the six months ended June 30, 2024, compared to the same period a year earlier, primarily as a result of an increase in the gain on sale of SBA loans.

The net loss on sale of securities recognized for the prior quarter and the six months ended June 30, 2023 reflected strategic sales of securities to minimize the impact of increasing rates on our securities portfolio. The net loss for fair value adjustments for changes in the valuation of financial instruments carried at fair value for the prior quarter and the six months ended June 30, 2023 were due to declines in the current market valuation of limited partnership investments. The net loss for fair value adjustments for changes in the valuation of financial instruments carried at fair value for the six months ended June 30, 2023 was also impacted by declines in the market valuation of investment securities held for trading.

Non-interest Expense. The following table represents key elements of non-interest expense for the periods indicated (dollars in thousands):

The slight increase in non-interest expense for the current quarter compared to the prior quarter primarily reflects an increase in salary and employee benefits, an increase in real estate operations, net expense, offset by an increase in capitalized loan origination costs. The increase in non-interest expense for the six months ended June 30, 2024, compared to the same period a year earlier primarily reflects increases in salary and employee benefits, payment and card processing services expense and deposit insurance expense, partially offset by a decrease in professional and legal expenses.

Salary and employee benefits increased for the quarter and six months ended June 30, 2024, compared to the quarter ended March 31, 2024 and the six months ended June 30, 2023, primarily as the result of normal annual salary and wage increases and an increase in loan production related commission expense.

Payment and card processing services expense increased for the six months ended June 30, 2024, compared to the same period a year earlier, primarily due to an increase in online banking costs and operational losses.

Professional and legal expense decreased for the six months ended June 30, 2024, compared to the same period a year ago, primarily due to a reduction in legal and consulting expenses as well as one-time reductions in litigation settlement costs.

Expenses related to real estate operations, net increased for the quarter ended June 30, 2024, primarily due to an increase in property tax expense related to a real estate foreclosure that occurred during the second quarter of 2024, compared to a gain recognized on the sale of foreclosed properties in the prior quarter.

Our efficiency ratio was 65.53% for the current quarter, compared to 67.55% in the preceding quarter. Our adjusted efficiency ratio, a non-GAAP financial measure, was 63.60% for the current quarter, compared to 63.70% in the preceding quarter. The efficiency ratio for the current quarter reflects an increase in total revenues. See non-GAAP financial measure reconciliations presented above under “Second Quarter 2024 Financial Highlights.”

Income Taxes. For the quarter ended June 30, 2024, we recognized $9.5 million in income tax expense for an effective tax rate of 19.2%, which reflects our blended statutory tax rate reduced by the effect of tax-exempt income, certain tax credits, and tax benefits related to restricted stock vesting. Our statutory income tax rate is 23.7%, representing a statutory federal income tax rate of 21.0% and apportioned effects of the state income tax rates. For the quarter ended March 31, 2024, we recognized $8.8 million in income tax expense for an effective tax rate of 19.0%. For the six months ended June 30, 2024, we recognized $18.3 million in income tax expense for an effective tax rate of 19.1%, compared to $22.1 million in income tax expense for an effective tax rate of 18.9% for the same period in the prior year.