FNWB: A Regional Bank's Strategic Pivot Amidst Credit Headwinds and Fintech Ambitions - FNWB Stock Research Report

## Executive Summary / Key Takeaways * First Northwest Bancorp (NASDAQ: FNWB) is a community-oriented financial institution in western Washington, strategically evolving from a traditional savings and loan to a commercial bank and financial holding company with a focus on diversified lending and fintech partnerships. * The company reported a significant net loss of $9.0 million in Q1 2025, primarily driven by a substantial increase in the provision for credit losses ($7.8 million) and a $5.8 million accrued legal reserve related to specific borrower bankruptcies and litigation. * Despite the loss, net interest income remained relatively stable, and noninterest income saw a notable increase due to non-recurring items like a BOLI death benefit and a gain on debt extinguishment. * FNWB is actively managing its loan portfolio, with a decrease in nonperforming and classified loans due to charge-offs and payments, while strategically pursuing growth in multi-family, auto, and manufactured home loans, complemented by investments in fintech for digital capabilities. * Key factors for investors to monitor include the resolution and financial impact of the legal proceedings, the trajectory of credit quality and future provision needs, the effectiveness of strategic fintech investments, and the ability to manage funding costs in a competitive deposit environment. ## Setting the Scene: Evolution and Strategy in the Pacific Northwest First Northwest Bancorp, headquartered in Port Angeles, Washington, operates primarily through its subsidiary, First Fed Bank. Founded in 1923, the institution has a deep history as a community-oriented financial provider in western Washington. Its journey from a mutual savings and loan to a publicly traded financial holding company, completed in 2015, marked a significant transformation, providing capital for growth and strategic flexibility. Further evolution in 2021 saw the bank convert to a State Commercial Bank Charter, enabling a broader range of lending activities. This strategic shift is evident in the bank's diversified loan portfolio, moving beyond traditional residential mortgages to increase originations in commercial real estate, multi-family, and commercial business loans. The company also actively participates in purchased auto and manufactured home loan programs. While one-to-four family mortgages are still originated, many are sold into the secondary market to manage interest rate risk and generate noninterest income, reflecting a dynamic approach to asset management. In the competitive landscape of regional banking in western Washington, FNWB faces established players like Banner Corporation (TICKER:BANR), Heritage Financial Corporation (TICKER:HFWA), and WaFd Bank (TICKER:WAFD), as well as increasing pressure from fintech firms and larger national banks. These competitors often possess greater scale, which can translate into lower operating costs and broader market reach. For instance, BANR and WAFD generally exhibit stronger profitability metrics and higher market share in core segments compared to FNWB. FNWB's strategic response involves leveraging its community roots while simultaneously embracing technological advancements and pursuing niche market opportunities. The bank aims to differentiate itself through tailored service and specialized lending programs. This positioning is crucial as deposit flows and lending activities are heavily influenced by prevailing interest rates, economic conditions, and the intense competition for both funding and loan demand. ## Embracing the Digital Frontier: Strategic Partnerships and Technological Edge A key component of FNWB's strategy to compete in an increasingly digital financial world is its investment in strategic partnerships, particularly within the fintech sector. The company has made limited partnership investments in entities like Canapi Ventures Funds, BankTech Ventures, and JAM FINTOP Frontier Fund. These investments are explicitly aimed at supporting fintech-related businesses focused on developing digital solutions applicable to the banking industry. While specific performance metrics or quantifiable benefits of these partnerships were not detailed in the recent filing, the strategic intent is clear: to provide modern financial services, including digital payments and marketplace lending capabilities. This focus on digital innovation is intended to enhance the customer experience, improve operational efficiency, and potentially create a competitive moat against rivals, especially those with less advanced digital platforms like HFWA. The competitive analysis suggests that such partnerships could enable faster digital loan processing, a tangible benefit that could improve customer acquisition and retention. Furthermore, FNWB's pursuit of strategic partnerships extends to areas like marketplace lending, as evidenced by its participation in programs like the Northpointe Bank Mortgage Purchase Program (though participation has decreased) and purchases of auto and manufactured home loan pools. While these are not internal technological developments, they represent a strategic use of external platforms to supplement organic growth and diversify the loan portfolio. The "so what" for investors is that these initiatives, if successful, could drive future revenue growth, potentially lower customer acquisition costs over time, and enhance the bank's ability to compete for digitally-savvy customers, offsetting some of the scale disadvantages relative to larger competitors. ## Recent Performance: Headwinds Dominate Q1 2025 The first quarter of 2025 presented significant financial challenges for First Northwest Bancorp, resulting in a net loss of $9.0 million, a stark contrast to the net income of $396 thousand reported in the same period of 2024. This downturn was primarily attributable to two major factors: a substantial increase in the provision for credit losses and the establishment of a significant legal reserve. The provision for credit losses on loans surged to $7.8 million in Q1 2025, a dramatic increase from $1.2 million in Q1 2024. This higher provision was driven by net charge-offs totaling $7.7 million during the quarter, stemming from underlying collateral deficiencies in specific commercial real estate and commercial business loans. Additionally, increases in qualitative factor adjustments within the CECL model, influenced by a mild deterioration in GDP and unemployment estimates, contributed to the higher allowance for pooled loan balances. Adding to the financial pressure was a $5.8 million accrued legal reserve included in other noninterest expense. This reserve was established in connection with an adversary proceeding related to borrower bankruptcies, following the reevaluation of the bank's collateral position due to previously unasserted claims. This one-time charge significantly impacted the quarter's profitability. Despite these headwinds, some areas showed resilience. Net interest income remained relatively stable at $13.8 million compared to $13.9 million in Q1 2024. While average earning asset yields decreased slightly, the average cost of interest-bearing liabilities also declined, resulting in a stable net interest margin of 2.76%. Noninterest income saw a notable increase of 72.6% to $3.8 million, boosted by a $1.1 million BOLI death benefit and an $846 thousand gain on the extinguishment of debt from repurchasing subordinated notes at a discount.

Loading interactive chart...

## Balance Sheet Dynamics and Credit Quality Focus As of March 31, 2025, total assets decreased slightly to $2.17 billion from $2.23 billion at December 31, 2024. This decrease was influenced by a reduction in investment securities and net loans, partially offset by an increase in cash and other assets. The investment securities portfolio decreased by $24.9 million, primarily due to maturities and redemptions, although it benefited from a $3.1 million market value increase during the quarter. The portfolio's effective duration was 4.3 years, indicating moderate sensitivity to interest rate changes.

Loading interactive chart...

Net loans receivable decreased by $37.6 million to $1.64 billion. This decline was led by a significant reduction in commercial business loans, including a decrease in participation program balances. Construction and land loans also saw a notable decrease due to repayments and conversions to permanent financing. Conversely, multi-family loans and auto/other consumer loans increased, reflecting the bank's strategic focus on these segments. Credit quality metrics showed mixed signals. Nonperforming loans decreased significantly by $10.2 million to $20.4 million, representing 1.23% of total loans, down from 1.80% at year-end 2024. This improvement was largely due to the charge-offs mentioned earlier and payments received on certain commercial construction loans. Classified loans also decreased, driven by charge-offs and payments. However, the substantial increase in the allowance for credit losses, while increasing coverage of nonaccrual loans to 101.0%, highlights management's response to identified weaknesses and macroeconomic forecasts. The bank is actively pursuing legal remedies, including foreclosure, on certain collateral-dependent classified loans. ## Liquidity, Capital, and Strategic Outlook Liquidity remains a key focus. Total liabilities decreased due to lower brokered deposits and borrowings, partially offset by an increase in customer deposits. While overall deposit balances declined slightly, customer deposits increased, driven by growth in savings and money market accounts as customers sought higher rates. Brokered CDs decreased, reflecting a strategic decision to manage funding costs and reduce reliance on wholesale funding. The bank continues to use deposit rate specials to attract and retain funds in a competitive environment.

Loading interactive chart...

Borrowings from the Federal Home Loan Bank (FHLB) decreased by $30.0 million, with a reduction in short-term advances. The company also redeemed $5.0 million of subordinated debt at a discount, generating a gain. FNWB maintains substantial available borrowing capacity from the FHLB and the Federal Reserve Bank discount window, providing ample liquidity resources. Capital levels remain strong, with the bank exceeding all regulatory capital requirements and being considered well capitalized. Shareholders' equity decreased due to the net loss and dividends, partially offset by an increase in the fair value of available-for-sale securities. Book value per share was $15.52 at quarter-end.

Loading interactive chart...

Looking ahead, management has indicated a continued focus on assessing lending strategies and evaluating opportunities to supplement organic growth through wholesale acquisitions, aiming to improve earnings while prudently managing credit risk. Controlling compensation and other discretionary expenses remains a priority. While specific quantitative guidance was not provided, the strategic emphasis on niche lending, fintech integration, and expense management represents the company's approach to navigating the current challenging environment and positioning itself for future profitability. The resolution of the legal matter and the trajectory of credit quality will be critical determinants of near-term financial performance. ## Conclusion First Northwest Bancorp finds itself at a pivotal juncture, grappling with significant credit quality issues and a material legal expense that overshadowed its first-quarter 2025 results. The substantial net loss highlights the challenges inherent in the current economic climate and specific loan exposures. However, beneath these headwinds, the company is actively pursuing a strategic evolution, diversifying its loan portfolio into potentially higher-yielding segments like multi-family and commercial business loans, and leveraging fintech partnerships to enhance its operational capabilities and customer offerings. The investment thesis for FNWB hinges on its ability to successfully navigate the current credit cycle and resolve the outstanding legal matter while executing on its strategic initiatives. The strength of its capital position and available liquidity provide a buffer against near-term pressures. Investors should closely monitor trends in asset quality, the outcome of the legal proceedings, the effectiveness of its niche lending and fintech strategies in driving sustainable earnings growth, and the bank's ability to manage funding costs in a competitive deposit market. The path forward is not without obstacles, but the strategic direction points towards building a more diversified and technologically capable regional bank.