Pacific & Western Bank of Canada Announces Results for Its Third Quarter Ended July 31, 2014

LONDON, Ontario--()--Pacific & Western Bank of Canada (TSX:PWB):

THIRD QUARTER HIGHLIGHTS (1)

(compared to the same periods in the prior year unless otherwise noted)

  • Net interest margin or spread of Pacific & Western Bank of Canada (“the Bank”) for the current quarter increased to 1.94% from 1.91% a year ago. For the nine months ended July 31, 2014, net interest margin was 1.96%, a 15% increase from net interest margin of 1.71% for the same period a year ago.
  • Total revenue of the Bank for the three months ended July 31, 2014, increased to $7.3 million from $7.1 million last year. For the nine months ended July 31, 2014, total revenue increased to $22.1 million from $20.8 million for the same period a year ago.
  • Net income for the quarter was $1.0 million or $0.05 per share (basic and diluted) compared to $878,000 or $0.05 per share (basic and diluted) a year ago.
  • Net income for the nine months ended July 31, 2014 was $3.2 million or $0.16 per share (basic and diluted) compared to $2.0 million or $0.12 per share (basic and diluted) for the same period a year ago.
  • Credit quality remains strong with no gross impaired loans at July 31, 2014 compared to $1.8 million a year ago.
  • At July 31, 2014, the Bank’s Common Equity Tier 1 (CET1) ratio compared favourably to the industry with a ratio of 11.93% compared to 10.52% a year ago. In addition, the Bank’s total capital ratio was 13.27% at July 31, 2014 compared to 12.14% last year.

(1) Certain highlights include non-GAAP measures. See definition under ‘Basis of Presentation’ in the attached Management’s Discussion and Analysis.

PRESIDENT’S COMMENTS

I am pleased to report that our Bank continued to improve in all key areas. Loans and leases acquired through our Bulk Purchase Program increased significantly with balances at the end of the quarter totaling $345 million, a 24% increase over the previous quarter and an 84% increase over the previous year end’s balance. We purchase loans and leases from an increasing number of financiers who operate throughout Canada in a variety of industries. Our program provides much needed financing for small businesses and consumers in niche markets. We developed state of the art systems to allow us to process large numbers of these small ticket assets and we are keenly looking forward to this becoming a major portion of the Bank’s total assets and revenue stream.

As discussed in earlier releases, our Commercial Real Estate portfolio’s growth was hampered by the unusually cold winter and spring in Southern Ontario. However, we are now seeing a resurgence of growth in this area and expect balances in this portfolio to return to more normal levels in the quarters to come.

Our custom banking solution for Trustees in Bankruptcy also grew rapidly during the quarter. We now have over 800 accounts with balances totaling over $80 million. This represents a 128% increase over the previous year end’s balance. New regulatory requirements with respect to liquidity have made these types of deposits significantly more attractive to our Bank as a funding vehicle and we are exploring other similar niche markets that may benefit from our state of the art custom banking services.

Our Consumer Lending Division is planning to expand into point of sale financing. We are excited about this new lending opportunity through the utilization of software applications and believe that in conjunction with software partners we will be able to supply economically priced point of sale financing to numerous niche markets across Canada.

Revenue for the quarter decreased slightly to $7.3 million versus $7.5 million in the previous quarter primarily on account of Commercial Real Estate balances being somewhat less than we had targeted. However, total revenue for the nine months ended July 31, 2014 increased by 7% to $22.1 million over the same period a year ago. Net interest margin, although slightly less than our target due to the decline in Commercial Real Estate balances, still increased to 1.96%, a 15% increase from the net interest margin of 1.71% for the same period a year ago. Net income for the quarter was $1 million, a 16% increase over the same quarter a year ago. Net income for the nine month period ending July 31, 2014 was $3.2 million, a 64% increase over the same period a year ago. Cash earnings per share increased 35% from .17 cents to .23 cents over the same period last year.

We have designed a highly leverageable Bank that through utilization of specialized software and well-experienced staff is able to rapidly gather loans and leases and deposits with minimal costs. Although the Bank’s capital ratios presently compare quite favourably to the industry, to provide for future growth we are planning to issue preference shares to accredited investors on similar terms to those that have recently been issued by the other banks. The addition of this non-dilutive capital is essential for our Bank to grow to a size which will produce stellar profitability statistics. We now have the systems, the people and the markets to provide for significant growth and with additional capital will soon be able to make this a reality.

FINANCIAL HIGHLIGHTS

                         
(unaudited)       as at
      July 31   July 31 July 31   July 31
($CDN thousands except per share amounts )     2014     2013     2014     2013
Balance Sheet Summary
Cash and securities $ 145,659 $ 182,849 $ 145,659 $ 182,849
Total loans 1,181,379 1,193,561 1,181,379 1,193,561
Average loans 1,144,364 1,194,443 1,170,156 1,201,936
Total assets 1,355,087 1,407,342 1,355,087 1,407,342
Average assets 1,370,563 1,398,679 1,379,848 1,470,755
Deposits 1,124,602 1,201,593 1,124,602 1,201,593
Subordinated notes payable 13,840 20,297 13,840 20,297
Shareholders' equity 136,382 125,014 136,382 125,014
Capital ratios
Assets-to-capital ratio 9.34 9.75 9.34 9.75
Risk-weighted assets 1,079,231 1,107,029 1,079,231 1,107,029
Common Equity Tier 1 capital 128,755 116,491 128,755 116,491
Common Equity Tier 1 ratio 11.93% 10.52% 11.93% 10.52%
Tier 1 risk-based capital ratio 11.93% 10.52% 11.93% 10.52%
  Total risk-based capital ratio     13.27%     12.14%     13.27%     12.14%
            for the three months ended for the nine months ended
Results of operations
Net interest income $ 6,687 $ 6,733 $ 20,265 $ 18,759
Net interest margin 1.94% 1.91% 1.96% 1.71%
Other income 619 315 1,842 1,995
Total revenue 7,306 7,048 22,107 20,754
Provision for credit losses 303 154 519 399
Non-interest expenses 5,588 5,381 16,704 16,822
Restructuring charges - 287 434 789
Net income 1,017 878 3,200 1,954
Adjusted net income * 1,017 1,088 3,517 2,530
Income per common share:
Basic

$

0.05

$

0.05

$ 0.16 $ 0.12
    Diluted       $ 0.05  

$

0.05   $ 0.16   $ 0.12
Return on average total assets 0.29% 0.25% 0.31% 0.18%
Book value per common share* $ 7.02 $ 6.87 $ 7.02 $ 6.87
Gross impaired loans to total loans 0.00% 0.15% 0.00% 0.15%
  Provision for credit losses as a % of average loans     0.03%     0.01%     0.04%     0.03%
* This is a non-GAAP measure. See definition under 'Basis of Presentation' in the attached Management's
Discussion and Analysis.


MANAGEMENT’S DISCUSSION AND ANALYSIS OF OPERATIONS AND FINANCIAL CONDITION

This management’s discussion and analysis (MD&A) of operations and financial condition for the third quarter of fiscal 2014, dated August 26, 2014, should be read in conjunction with the unaudited interim consolidated financial statements for the period ended July 31, 2014, included herein which have been prepared in accordance with International Financial Reporting Standards (IFRS). This MD&A should also be read in conjunction with the Bank’s MD&A and the audited consolidated financial statements for the year ended October 31, 2013, which are available on SEDAR at www.sedar.com. Except as discussed below, all other factors discussed and referred to in the MD&A for the year ended October 31, 2013, remain substantially unchanged.


Basis of Presentation

Non-GAAP and Additional GAAP Measures

Net Interest Income and Net Interest Margin or Spread

Most banks analyze profitability by net interest income (as presented in the Consolidated Statements of Income) and net interest margin or spread. Net interest margin or spread is defined as net interest income as a percentage of average total assets. Net interest margin or spread does not have a standardized meaning prescribed by IFRS and, therefore, may not be comparable to similar measures presented by other financial institutions.

Book Value Per Common Share

Book value per common share is defined as Shareholders’ Equity divided by the number of common shares outstanding, adjusted for the impact of the Bank’s initial public offering.

Adjusted Net Income

Adjusted net income is defined as net income for the period prior to deducting restructuring charges on an after-tax basis.

                     
(thousands of Canadian dollars)   for the three months ended   for the nine months ended
    July 31   July 31   July 31   July 31
          2014     2013     2014     2013
 
Net income $ 1,017 $ 878 $ 3,200 $ 1,954
 
Restructuring charges, net of tax - 210 317 576
                     
Adjusted net income     $ 1,017   $ 1,088   $ 3,517   $ 2,530


Overview

Pacific & Western Bank of Canada (the “Bank”), provides commercial lending services to selected niche markets and raises its deposits through a diversified deposit broker network across Canada. The Bank has operated as a Schedule I bank under the Bank Act (Canada) since August 1, 2002. Prior to that, the Bank had operated as a provincially licensed trust company since 1979. On August 27, 2013, the Bank’s common shares commenced trading on the Toronto Stock Exchange. The Bank is the principal subsidiary of PWC Capital Inc. (the “Corporation” or “PWC”) whose securities are also listed and trade on the Toronto Stock Exchange.

Net income of the Bank for the three months ending July 31, 2014, was $1.0 million compared to $1.2 million for the previous quarter and $878,000 for the same period a year ago. Net income for the previous quarter included a gain of $582,000 on the sale of a loan compared to a gain of $225,000 in the current quarter. Net income for the current quarter increased from the same period a year ago primarily due to the gain on the sale of a loan in the current quarter and restructuring charges of $287,000 recorded in the same period last year.

For the nine months ended July 31, 2014, net income of the Bank was $3.2 million compared to $2.0 million for the same period a year ago. Net income for the current period includes restructuring charges of $434,000 compared to restructuring charges of $789,000 in the same period a year ago. Before deducting restructuring charges, adjusted net income was $3.5 million for the current period compared to $2.5 million last year with the increase due to a higher level of net interest income earned in 2014.

Net interest income and net interest margin for the three months ended July 31, 2014 were $6.7 million and 1.94% respectively compared to $6.6 million and 1.93% for the previous quarter and $6.7 million and 1.91% for the same period a year ago. Net interest income and net interest margin for the nine months ended July 31, 2014 were $20.3 million and 1.96% respectively compared to $18.8 million and 1.71% for the same period a year ago with the increases due to a more optimal asset mix as well as a lower interest expense as a result of the repayment of subordinated notes over the past year.

At July 31, 2014, total assets of the Bank were $1.36 billion compared to $1.39 billion at the end of the previous quarter and $1.41 billion a year ago. Lending assets at the end of the current quarter totalled $1.18 billion compared to $1.11 billion at the end of the previous quarter and $1.19 billion a year ago with the increase due primarily to growth in commercial and consumer loan and lease receivables sourced through the bulk purchase program. Cash and securities at July 31, 2014, totalled $146 million compared to $250 million at the end of the previous quarter and $183 million a year ago. The level of cash and securities decreased from the previous quarter as a result of lower funding requirements for deposits maturing in the coming months compared to the end of the previous quarter.

Credit quality remains strong with no gross impaired loans at the end of the current quarter compared to $nil at the end of the previous quarter and $1.8 million a year ago.

At July 31, 2014, the Bank continued to exceed the CET1 capital requirement of 7.0% with a ratio of 11.93% compared to 12.21% at the end of the previous quarter and 10.52% a year ago. In addition, at July 31, 2014, the Bank’s Tier 1 capital ratio was also 11.93% compared to 12.21% at the end of the previous quarter and 10.52% a year ago. At July 31, 2014 its total capital ratio was 13.27% compared to 13.37% at the end of the previous quarter and 12.14% a year ago. Required minimum regulatory capital ratios are a Common Equity Tier 1 (CET1) capital ratio of 7.0%, a Tier 1 capital ratio of 8.5% and a total capital ratio of 10.5%, all of which include a 2.50% capital conservation buffer.

Total Revenue

Total revenue consists of net interest income and other income. For the three months ended July 31, 2014, total revenue of the Bank was $7.3 million compared to $7.5 million for the previous quarter and $7.1 million for the same period last year. Total revenue for the current quarter included a gain of $225,000 from the sale of a loan compared to a gain of $582,000 from loan sales in the previous quarter and $nil in the same period a year ago.

For the nine months ended July 31, 2014, total revenue of the Bank was $22.1 million compared to $20.8 million for the same period last year. Total revenue for the current nine month period includes gains of $807,000 from the sale of loans compared to $1.0 million for the same period a year ago.

Net Interest Income and Net Interest Margin

Net interest income of the Bank for the three months ended July 31, 2014 was $6.7 million compared to $6.6 million for the previous quarter and $6.7 million for the same period last year. Net interest margin for the three months ended July 31, 2014 increased to 1.94% from 1.93% for the previous quarter and from 1.91% for the same period last year. For the nine months ended July 31, 2014, net interest income was $20.3 million compared to $18.8 million for the same period a year ago. This increase was due to a more optimal asset mix as well as a lower interest expense as a result of the repayment of subordinated notes over the past year. Net interest margin for the nine months ended July 31, 2014 increased to 1.96% from 1.71% for the same period last year with the increase due to the factors noted above.

Other Income

Other income for the three months ended July 31, 2014 was $619,000 compared to $886,000 for the previous quarter and $315,000 for the same period a year ago with the change from the previous quarter due primarily to a higher level of gains on the sale of loans in the previous quarter. For the nine months ended July 31, 2014, other income was $1.8 million compared to $2.0 million for the same period a year ago. Other income in the current and previous periods consists primarily of fees from credit cards and gains from loan sales as noted above. The Bank expects that it may sell loans from time to time in the coming periods as market conditions warrant.

Non-Interest Expenses

Non-interest expenses of the Bank, excluding restructuring charges, totalled $5.6 million for the current quarter compared to $5.6 million for the previous quarter and $5.4 million for the same period a year ago. For the nine months ended July 31, 2014, non-interest expenses of the Bank, excluding restructuring charges, totalled $16.7 million compared to $16.8 million for the same period a year ago.

As noted previously, during the nine months ending July 31, 2014, the Bank incurred restructuring charges totalling $434,000 compared to $789,000 for the same period last year. Restructuring charges in the current period relate to the repayment of subordinated notes in December 2013.

Income Taxes

The Bank’s statutory federal and provincial income tax rate is approximately 27%, similar to that of the previous periods. The effective rate is impacted by certain items not being taxable or deductible for income tax purposes.

For the current quarter, the provision for income taxes was $398,000 compared to $348,000 for the same period a year ago with the increase due to a higher level of earnings in the current quarter. For the nine months ended July 31, 2014, the provision for income taxes was $1.3 million compared to $790,000 for the same period a year ago with the increase also due to a higher level of earnings.

At July 31, 2014, the Bank has a deferred income tax asset of $7.4 million compared to $8.3 million a year ago with the decrease due to the tax effect of operating results in the Bank over the past year. The deferred income tax asset is primarily a result of income tax losses totalling approximately $38.0 million from previous periods. The income tax loss carry-forwards in the Bank are not scheduled to begin expiring until 2027 if unutilized.

Comprehensive Income

Comprehensive income (loss) for the three months ended July 31, 2014 was $963,000 compared to $1.2 million for the previous quarter and $876,000 a year ago. The change from a year ago is due to higher net income in the current quarter. Comprehensive income for the nine months ended July 31, 2014 was $3.2 million compared to $1.9 million a year ago. Due to the current composition of the Bank’s treasury portfolio which consists primarily of liquid securities, unrealized gains or losses in the portfolio are not significant and as a result, comprehensive income does not materially differ from net income.

Consolidated Balance Sheet

Total assets of the Bank at July 31, 2014, were $1.36 billion compared to $1.39 billion at the end of the previous quarter and $1.41 billion a year ago with the decrease from the previous quarter due primarily to a lower level of cash and securities. Lending assets increased during the period to $1.18 billion from $1.11 billion at the end of the previous quarter and compared to $1.19 billion a year ago.

Cash and Securities

Cash and cash equivalents consist of deposits with Canadian chartered banks, government treasury bills and bankers acceptances with less than ninety days to maturity from the date of acquisition. Securities in the Bank’s treasury portfolio typically consist of Government of Canada and Canadian provincial and municipal bonds, bankers’ acceptances, term deposits and debt of other financial institutions. Cash and securities, which are held primarily for liquidity purposes, totalled $146 million or 11% of total assets compared to $250 million or 18% of total assets at the end of the previous quarter and $183 million or 13% of total assets a year ago. The level of cash and securities decreased from the previous quarter as a result of lower funding requirements for deposits maturing in the coming months compared to the end of the previous quarter. The Bank expects to maintain the current level of cash and securities as a percentage of total assets in the coming months.

At July 31, 2014, unrealized gains in the Bank’s available-for-sale securities portfolio were $27,000 compared to unrealized gains of $100,000 at the end of the previous quarter and $38,000 a year ago. In addition, there was an unrealized loss of $145,000 at July 31, 2014 relating to a security the Bank classifies as held-to-maturity, compared to an unrealized loss of $210,000 at the end of the previous quarter and $559,000 a year ago. This unrealized loss is due to changes in interest rates rather than due to changes in credit risk and management is of the opinion that no impairment charge is required.

The Basel III Committee on Banking Supervision (the Basel Committee) has issued a framework outlining new liquidity standards. The framework prescribes two new standards being the Liquidity Coverage Ratio (LCR) and the Net Stable Funding Ratio (NSFR) as minimum regulatory standards beginning in 2015 and 2018 respectively. The LCR establishes a common measure of liquidity risk and requires financial institutions to maintain sufficient liquid assets to cover a minimum of 30 days of cash flow in a stressed scenario. The NSFR describes a second common measure of liquidity establishing a minimum acceptable amount of stable funding based on the liquidity characteristics of an institution’s assets and activities over a one year time horizon. Although the Basel Committee has introduced a phase-in period for compliance with the LCR guidelines, banks in Canada will be required to fully comply with the LCR in 2015 with no phase-in. Based on its review of these new liquidity standards, the Bank is of the view that it is well positioned to comply with the new requirements.

Loans

At July 31, 2014 loans totalled $1.18 billion compared to $1.11 billion at the end of the previous quarter, an increase of 7%, and compared to $1.19 billion a year ago. The increase from the previous quarter was due primarily to an increase in commercial and consumer loan and lease receivables sourced through the bulk purchase program.

At July 31, 2014, the balances of individual loan categories remained comparable with those from the previous quarter with the exception of decreases in uninsured residential and commercial term mortgages and government financings, offset by increases in commercial and consumer loans and leases. The decrease in government financings was due to market conditions and the Bank shifting its focus to commercial and consumer lending opportunities. The decrease in uninsured residential and commercial term mortgages was due primarily to several large repayments and loan sales in the current year. After delays in funding new construction loans due to the longer than normal winter season, loan fundings in this category have rebounded in the current quarter and outstanding balances have increased from previous quarters.

Commercial and consumer loan and lease receivables sourced through the bulk purchase program showed significant growth during the quarter and from a year ago, totalling $345 million at July 31, 2014 compared to $279 million at the end of the previous quarter and $172 million a year ago. The bulk purchase program which consists of individual loan and lease receivables continues to be a key initiative for the Bank and the primary driver for growth of the Bank’s lending portfolio in the coming years.

Overall, new lending for the quarter was very strong totalling $209 million compared to $170 million for the previous quarter and $152 million a year ago. Loan repayments, including loan sales, for the quarter totalled $124 million compared to $198 million for the previous quarter and $154 million a year ago. On a year-to-date basis, new lending totalled $518 million and loan repayments, including loan sales, totalled $493 million. At July 31, 2014, loan commitments, excluding those related to credit cards, totalled $161 million compared to $127 million at the end of the previous quarter and $129 million a year ago.

Residential mortgage exposure

In accordance with OSFI Guideline B-20 – Residential Mortgage Underwriting Practices and Procedures, additional information is provided regarding the Bank’s residential mortgage exposure. For the purposes of the Guideline, a residential mortgage is defined as a loan to an individual that is secured by residential property (one to four unit dwellings) and includes home equity lines of credit (HELOC’s). This differs from the classification of residential mortgages by the Bank which also includes multi-family mortgages.

Under OSFI’s definition, the Bank’s exposure to residential mortgages is not significant and at July 31, 2014 totalled $1.1 million compared to $1.1 million at the end of the previous quarter and $1.7 million a year ago. The Bank did not have any HELOC’s outstanding at July 31, 2014 or a year ago.

Credit Quality

The Bank has maintained its high credit quality and strong underwriting standards and traditionally requires minimal provisions for credit losses. Gross impaired loans at July 31, 2014, were $nil, unchanged from the end of the previous quarter and compared to $1.8 million a year ago. The provision for credit losses in the current quarter was $303,000 compared to $267,000 for the previous quarter and $154,000 a year ago. For the nine months ended July 31, 2014, the provision for credit losses totalled $519,000 compared to $399,000 for the same period last year. The provision for credit losses increased from previous periods due to higher level of write-offs in the credit card program as the portfolio matures.

At July 31, 2014, the Bank’s collective allowance totalled $2.8 million compared to $2.9 million at the end of previous quarter and $3.2 million a year ago with the decrease due primarily to growth in commercial and consumer loan and lease receivables sourced through the bulk purchase program as a percentage of total lending assets. These loan and lease receivables normally attract a lower collective allowance due to the higher quality of the receivables comprising the portfolio. Included in the Bank’s collective allowance at July 31, 2014 was $941,000 relating to credit card receivables, compared to $859,000 at the end of the previous quarter and $744,000 a year ago. The increase from a year ago was due to the growth and maturation of credit card balances.

Based on results from ongoing stress testing of the loan portfolio under various scenarios and the secured nature of the existing loan portfolio, the Bank is of the view that any credit losses which exist but cannot be specifically identified at this time are adequately provided for.

Other Assets

Other assets totalled $28.0 million at July 31, 2014, compared to $28.3 million at the end of the previous quarter and $30.9 million a year ago. Included in other assets is the deferred income tax asset of $7.4 million compared to $7.8 million at the end of the previous quarter and $8.3 million a year ago. Also included in other assets are capital assets and prepaid expenses of $15.3 million compared to $15.6 million at the end of the previous quarter and $18.3 million a year ago.

Deposits and Other Liabilities

Deposits are used as a primary source of financing growth in assets and are raised primarily through a well established and well diversified deposit broker network across Canada. Deposits at July 31, 2014 totalled $1.12 billion compared to $1.16 billion at the end of the previous quarter and $1.20 billion a year ago, and consist primarily of guaranteed investment certificates. Of the total amount of deposits outstanding, $20.0 million or approximately 1.8% of total deposits at the end of the current quarter were in the form of savings accounts compared to $20.5 million or 1.8% of total deposits at the end of the previous quarter and $23.5 million or approximately 2.0% of total deposits a year ago. In addition, the Bank has chequing accounts related to trustees in the bankruptcy industry as discussed below.

In order to diversify its sources of deposits and reduce its cost of new deposits, the Bank identified another source, that being chequing accounts of trustees in the Canadian bankruptcy industry. The Bank developed banking software to enable this market to efficiently administer its chequing accounts and launched this product in April 2012. These services are being offered to trustees in the bankruptcy industry across Canada and at July 31, 2014, outstanding balances from this source totalled $76.3 million compared to $62.0 million at the end of the previous quarter and $14.7 million a year ago.

An additional source of financing growth in assets and a source of liquidity is the use of margin lines and securities sold under repurchase agreements. From time to time, the Bank uses these sources of short-term financing when the cost of borrowing is less than the interest rates that would have to be paid on new deposits. At July 31, 2014, the Bank did not have any amounts outstanding relating to margin lines or securities sold under repurchase agreements nor were any amounts outstanding over the past year.

Other liabilities consist primarily of accounts payable and accruals. At July 31, 2014, other liabilities totalled $36.7 million compared to $28.6 million at the end of the previous quarter and $16.9 million a year ago with the increase from the previous periods due to larger holdbacks associated with the loan and lease receivables sourced through the bulk financing program which have shown significant growth over the past year.

Securitization Liabilities

The Bank has securitization liabilities outstanding which relate to amounts payable to counterparties for cash received upon initiation of securitization transactions. At July 31, 2014, securitization liabilities totalled $43.6 million compared to $43.4 million at the end of the previous quarter and $43.5 million a year ago. The Bank has not entered into any securitization transactions in the past year. The amounts payable to counterparties bear interest at rates ranging from 1.97% - 3.95% and mature between 2016 and 2020. Securitized insured mortgages with a carrying value of $40.2 million are pledged as collateral for these liabilities.

Subordinated Notes Payable

Subordinated notes payable, net of issue costs, totalled $13.8 million at July 31, 2014 compared to $20.3 million at October 31, 2013 and $20.3 million a year ago. The decrease in subordinated notes payable was a result of the Bank repaying $7.0 million of subordinated notes that were due to an unrelated party in December 2013. On repayment, these subordinated notes payable had a carrying value of $6.6 million with the difference of $434,000 relating to unamortized note issue costs being included in restructuring charges. Excluding issue costs, subordinated notes payable consist of $14.5 million issued by the Bank to an unrelated party. These subordinated notes, of which $4.5 million are currently callable and $10 million are callable beginning in 2016, bear interest at rates ranging from 8.00% to 11.00% and mature between 2019 and 2021.

Shareholders’ Equity

At July 31, 2014, shareholders’ equity was $136.4 million compared to $135.4 million at the end of the previous quarter and $125.0 million a year ago. The increase from the previous quarter was due to earnings and the increase from a year ago was due to earnings and shares issued under the Bank’s Initial Public Offering (IPO).

Common shares outstanding at July 31, 2014 totalled 19,437,171, unchanged from the previous quarter and compared to 17,387,368 a year ago with the increase from a year ago as a result of the IPO. Common share options totalled 40,000 at July 31, 2014, unchanged from the previous quarter.

The Bank’s book value per common share at July 31, 2014 was $7.02 compared to $6.97 at the end of the previous quarter and $6.87 a year ago.

Updated Share Information

As at August 26, 2014, there were no changes since July 31, 2014 in the number of outstanding common shares and common share options.

Off-Balance Sheet Arrangements

As at July 31, 2014, the Bank does not have any significant off-balance sheet arrangements other than loan commitments and letters of credit resulting from normal course business activities. See Note 10 to the unaudited interim consolidated financial statements for more information.

Related Party Transactions

During the three and nine months ended July 31, 2014, the Bank incurred management and other fees totalling $300,000 (July 31, 2013 - $300,000) and $900,000 (July 31, 2013 - $900,000) respectively to PWC and a subsidiary of PWC.

The Bank’s and PWC’s Board of Directors and Senior Executive Officers represent key management personnel. Other than key management personnel, the Bank has no other related parties for which there were transactions or outstanding balances during the period. See Note 11 to the unaudited interim consolidated financial statements for additional information on related party transactions and balances.

Risk Management

The risk management policies and procedures of the Bank are provided in its annual MD&A for the year ended October 31, 2013, and are found on pages 40 to 46 of the Bank’s 2013 Annual Report.

Capital Management and Capital Resources

The Basel Committee on Banking Supervision has published the Basel III rules supporting more stringent global standards on capital adequacy and liquidity (Basel III). Significant changes under Basel III that are most relevant to the Bank include:

  • Increased focus on tangible common equity.
  • All forms of non-common equity such as the Bank’s conventional subordinated notes must be non-viability contingent capital (NVCC) compliant. NVCC compliant means the subordinated notes must include a clause that would require conversion to common equity in the event that OSFI deems the institution to be insolvent or a government is ready to inject a “bail out” payment.
  • Changes in the risk-weighting of certain assets.
  • Additional capital buffers.
  • New requirements for levels of liquidity and new liquidity measurements.

OSFI requires that all Canadian banks must comply with the Basel III standards on an “all-in” basis for purposes of determining its risk-based capital ratios. Required minimum regulatory capital ratios are a 7.0% Common Equity Tier 1 (CET1) capital ratio and effective January 1, 2014, an 8.5% Tier 1 capital ratio and 10.5% total capital ratio, all of which include a 2.5% capital conservation buffer. The Basel III rules provide for “transitional” adjustments whereby certain aspects of the new rules will be phased in between 2013 and 2019. The only available transition allowed by OSFI for capital ratios is related to the 10 year phase out of non-qualifying capital instruments. However, OSFI has allowed Canadian banks to calculate their asset to capital ratios on a transitional basis between 2013 and 2019.

Under the Basel III standards, total capital of the Bank was $143.3 million at July 31, 2014 compared to $139.5 million at the end of the previous quarter and $134.4 million a year ago. The increase in total capital from the previous quarter was due primarily to earnings in the Bank during the period and changes in amounts of prescribed regulatory adjustments. At July 31, 2014, the Bank exceeded the current regulatory capital requirements with a CET1 ratio of 11.93% compared to 12.21% at the end of the previous quarter and 10.52% a year ago. In addition, the Bank’s total capital ratio was 13.27% at July 31, 2014 compared to 13.37% at the end of the previous quarter, exceeding the capital requirements that became effective January 1, 2014. The Bank’s assets-to-capital ratio at July 31, 2014 was 9.34 compared to 9.60 at the end of the previous quarter and 9.75 a year ago.

See note 12 to the interim consolidated financial statements for more information regarding capital management.

Capital Assets

The operations of the Bank are not dependent upon significant amounts of capital assets to generate revenue. Currently, the Bank does not have any commitments for capital expenditures or for significant additions to its level of capital assets.

Interest Rate Risk Management

The Bank is subject to interest rate risk which is the risk that a movement in interest rates could negatively impact net interest margin, net interest income and the economic value of assets, liabilities and shareholders’ equity. The following table provides the duration difference between the Bank’s assets and liabilities and the potential after-tax impact of a 100 basis point shift in interest rates on the Bank’s earnings during a 12 month period and the potential after-tax impact of a 100 basis point shift in interest rates on the Bank’s shareholders’ equity over a 60 month period if no remedial actions are taken.

                       
        July 31, 2014         July 31, 2013    
       

Increase 100
bps

 

Decrease 100
bps

 

Increase 100
bps

 

Decrease 100
bps

         
Impact on projected net interest
income during a 12 month period $ 2,999 $ (2,966) $ 5,049 $ (4,997)
Impact on reported equity
during a 60 month period $ (1,701) $ 1,941 $ 2,906 $ (2,890)
                       
Duration difference between assets and
liabilities (months)       0.7           2.9    

The change in exposure to a 100 basis point shift in interest rates in a 60 month period and the change in the duration difference between assets and liabilities from a year ago was due primarily to the decrease in cash and securities and lending assets as well as the change in the mix of lending assets, all of which resulted in a decrease in the duration of assets at the end of the current quarter. The duration of liabilities has remained relatively the same since last year.

Liquidity

The unaudited Consolidated Statement of Cash Flows for the Bank for the nine months ended July 31, 2014 shows cash provided by (used in) operations of ($63.8 million) compared to ($113.9 million) for the same period last year. The Bank’s operating cash flow is primarily affected by the change in the balance of its deposits (a positive change in deposits has a positive impact on cash flow and a negative change in deposits has a negative impact on cash flow) as compared to the change in the balance of its loans (a positive change in loans has a negative impact on cash flow and a negative change in loans has a positive impact on cash flow). Based on factors such as liquidity requirements and opportunities for investment in loans and securities, the Bank may manage the amount of deposits it receives and loans it funds in ways that result in the balances of these items giving rise to either negative or positive cash flow from operations. The Bank will continue to fund its operations and meet contractual obligations as they become due from cash on hand and from managing the amount of deposits it receives as compared to the amount of loans it funds.

Contractual Obligations

Contractual obligations of the Bank as disclosed in its MD&A and audited consolidated financial statements for the year ended October 31, 2013, have not changed significantly as at July 31, 2014.

Summary of Quarterly Results

                                 
($CDN thousands except per share amounts)   2014     2013       2012 *
Q3   Q2   Q1 Q4   Q3   Q2   Q1 Q4
 
Results of operations:
Total interest income $ 14,158 $ 13,978 $ 14,949 $ 15,210 $ 15,242 $ 14,776 $ 15,695 $ 15,620
Yield on assets (%) 4.10% 4.06% 4.21% 4.30% 4.32% 4.29% 4.20% 4.04%
Interest expense 7,469 7,335 8,014 8,314 8,509 8,679 9,766 10,117
Cost of funds (%) 2.16% 2.13% 2.26% 2.35% 2.41% 2.52% 2.61% 2.62%
Net interest income 6,687 6,643 6,935 6,896 6,733 6,097 5,929 5,503
Net interest margin (%) 1.94% 1.93% 1.95% 1.95% 1.91% 1.77% 1.59% 1.42%
Other income 619 886 337 325 315 400 1,280 2,370
Total revenue 7,306 7,529 7,272 7,221 7,048 6,497 7,209 7,873
Provision for (recovery of) credit losses 303 267 (51) 125 154 266 (21) 28
Non-interest expenses 5,588 5,582 5,534 6,060 5,381 5,761 5,680 6,819
Restructuring charges - - 434 1,275 287 502 - -
Income (loss) before income taxes 1,415 1,680 1,355 (239) 1,226 (32) 1,550 1,026
Income tax provision (recovery) 398 472 380 (49) 348 7 435 1,933
Net income (loss) $ 1,017 $ 1,208 $ 975 $ (190) $ 878 $ (39) $ 1,115 $ (907)
Income (loss) per share *
-basic $ 0.05 $ 0.06 $ 0.05 $ (0.01) $ 0.05 $ 0.00 $ 0.08 $ (0.06)
-diluted   $ 0.05   $ 0.06   $ 0.05   $ (0.01)   $ 0.05   $ 0.00   $ 0.08   $ (0.06)
 
* EPS for all periods have been adjusted to reflect the 8:1 share consolidation which took place on December 31, 2012.


The financial results of the Bank for each of the last eight quarters are summarized above. The Bank’s results, particularly total interest income and net interest income, are comparable between quarters and over the past eight quarters reflect seasonality occurring in residential construction lending. Total interest income and yield decreased in 2014 due primarily to a decrease in lending assets since last year as a result of several large loan repayments and loan sales that took place during the periods. Interest expense decreased in the 2014 as a result of the repayment of $7.0 million in subordinated notes in the first quarter and decreased over the past year as a result of the repayment of $30.0 million in subordinated notes in March, 2013.

Other income during the quarters shows variability due to the level of gains realized on the sale of loans. The other component of other income consists primarily of credit card fees which have been comparable over the quarters.

Non-interest expenses reflect a strategy to reduce overhead expenses, primarily with respect to the credit card program and the timing of expenses. Restructuring charges in the first quarter of 2014 resulted from the write-off of unamortized issue costs related to the repayment of subordinated notes and in the fourth quarter of 2013, relate to expenses incurred from the IPO.

The provision for income taxes in each of the quarters reflects the effective statutory income tax rate applied to earnings (losses). The provision for income taxes in the fourth quarter of 2012 included an income tax adjustment of $1.9 million relating to a change in the estimate of previously recognized deferred income tax assets.

Significant Accounting Policies and Use of Estimates and Judgments

Significant accounting policies are detailed in Note 3 of the Bank’s 2013 Audited Consolidated Financial Statements. There has been no change in accounting policies except that segment disclosure is no longer provided as the Bank determined that credit card operations are not a significant part of its business. The impact of new standards adopted during the current period was not material.

In preparing the consolidated financial statements, management has exercised judgment and developed estimates in applying accounting policies and generating reported amounts of assets and liabilities at the date of the financial statements and income and expenses during the reporting periods. Areas where significant judgment was applied or estimates were developed include assessments of fair value and impairments of financial instruments, the calculation of the allowance for credit losses, and the measurement of deferred income taxes.

It is reasonably possible, on the basis of existing knowledge, that actual results may vary from that expected in the generation of these estimates. This could result in material adjustments to the carrying amounts of assets and/or liabilities affected in the future.

Estimates and their underlying assumptions are reviewed on an ongoing basis. Revisions to accounting estimates are applied prospectively once they are recognized.

The policies discussed below are considered particularly significant as they require management to make estimates or judgements, some of which may relate to matters that are inherently uncertain.

Financial Instruments

All financial assets are classified as one of the following: held-to-maturity, loans and receivables, or available-for-sale. All financial liabilities are classified as other liabilities. Financial assets held-to-maturity, loans and receivables and financial liabilities are measured at amortized cost based on the effective interest method. Available-for-sale instruments are measured at fair value with gains and losses, net of tax, recognized in other comprehensive income.

Estimates of fair value are developed using a variety of valuation methods and assumptions. The Bank follows a fair value hierarchy to categorize the inputs used to measure fair value for its financial instruments. The fair value hierarchy is based on quoted prices in active markets (Level 1), valuation techniques using inputs other than quoted prices but with observable market data (Level 2), or valuation techniques using inputs that are not based on observable market data (Level 3). Valuation techniques may require the use of inputs, transaction values derived from models and input assumptions sourced from pricing services. Valuation inputs are either observable or unobservable. The Bank looks to external readily observable market inputs when available and may include certain prices and rates for shorter-dated Canadian yield curves and bankers acceptances. Unobservable inputs may include credit spreads, probability of default and recovery rates.

Fair value measurements that fall into Level 2 of the fair value hierarchy include Canadian municipal bonds. For Canadian municipal bonds, fair value measurement is primarily based on quotes received from brokers that represent transaction prices in markets for identical instruments.

Securities

The Bank holds securities primarily for liquidity purposes with the intention of holding the securities to maturity or until market conditions render alternative investments more attractive. Settlement date accounting is used for all securities transactions.

At the end of each reporting period, the Bank assesses whether or not there is any objective evidence to suggest that a security may be impaired. Objective evidence of impairment results from one or more events that occur after the initial recognition of the security which has an impact that can be reliably estimated on the estimated future cash flows of the security such as financial difficulty of the issuer. An impairment loss is recognized for an equity instrument if the decline in fair value is significant or prolonged, as such circumstances provide objective evidence of impairment.

Impairment losses on a held-to-maturity security are recognized in income and loss in the period they are identified. When there is objective evidence of impairment of an available-for-sale security, the cumulative loss that has been recorded in accumulated other comprehensive income is reclassified to income or loss. For available-for-sale debt securities, if in a subsequent period the impairment loss decreases and the decrease can be related objectively to an event occurring after the impairment was first recognized, then the previously recognized impairment loss is adjusted through income or loss to reflect the net recoverable amount of the impaired security. No adjustments of impairment losses are recognized for available-for-sale equity securities.

Loans

Loans are initially measured at fair value plus incremental direct transaction costs. Loans are subsequently measured at amortized cost, net of allowance for credit losses, using the effective interest method. On a monthly basis, the Bank assesses whether or not there is any objective evidence to suggest that the carrying value of the loans may be impaired. Impairment assessments are facilitated through the identification of loss events and assessments of their impact on the estimated future cash flows of the loans.

A loan is classified as impaired when, in management's opinion, there has been deterioration in credit quality to the extent that there is no longer reasonable assurance as to the timely collection of the full amount of principal and interest. Loans, except credit cards, where interest or principal is contractually past due 90 days are automatically recognized as impaired, unless management determines that the loan is fully secured, in the process of collection and the collection efforts are reasonably expected to result in either repayment of the loan or restoring it to current status. All loans, except credit cards, are classified as impaired when interest or principal is past due 180 days, except for loans guaranteed or insured by the Canadian government, provinces, territories, or a Canadian government agency, which are classified as impaired when interest or principal is contractually 365 days in arrears. Credit card receivables are written off when payments are 180 days past due, or upon receipt of a bankruptcy notification.

As loans are classified as loans and receivables and measured at amortized cost, an impairment loss is measured as the difference between the carrying amount and the present value of future cash flows discounted using the effective interest rate computed at initial recognition, if future cash flows can be reasonably estimated. When the amounts and timing of cash flows cannot be reasonably estimated, the carrying amount of the loan is reduced to its estimated net realizable value based on either:

(i) the fair value of any security underlying the loan, net of expected costs of realization,
or,
(ii) observable market prices for the loan.

Impairment losses are recognized in income or loss. If, in a subsequent period, the impairment loss decreases and the decrease can be related objectively to an event occurring after the impairment was first recognized, then a recovery of a portion or all of the previously recognized impairment loss is adjusted through income or loss to reflect the net recoverable amount of the impaired loan.

Real estate held for resale is recorded at the lower of cost and fair value, less costs to sell.

Allowance for Credit Losses

The Bank maintains an allowance for credit losses which, in management's opinion, is adequate to absorb all credit related losses in its loan portfolio. The allowance for credit losses consists of both individual and collective allowances and is reviewed on a monthly basis. The allowance is presented as a component of loans on the Bank’s consolidated balance sheets.

The Bank considers evidence of impairment for loans at both an individual asset and collective level. All individually significant loans are assessed for impairment first. All individually significant loans found not to be specifically impaired and all loans which are not individually significant are then collectively assessed for impairment by aggregating them into groups with similar credit risk characteristics.

The collective impairment allowance is determined by reviewing factors including historical loss experience in portfolios of similar credit risk characteristics, current portfolio credit quality trends, probability of default and recovery rates, and business and economic conditions. Historical loss experience is adjusted based on current observable data to reflect effects of current conditions that did not affect the period in which the historical loss experience is based. The collective impairment allowance may also be adjusted by management using its judgment taking into account other observable and unobservable factors.

Corporate Income Taxes

Current income taxes are calculated based on taxable income at the reporting period end. Taxable income differs from accounting income because of differences in the inclusion and deductibility of certain components of income which are established by Canadian taxation authorities. Current income taxes are measured at the amount expected to be recovered or paid using statutory tax rates at the reporting period end.

The Bank follows the asset and liability method of accounting for deferred income taxes. Deferred income tax assets and liabilities arise from temporary differences between financial statement carrying values and the respective tax base of those assets and liabilities. Deferred income tax assets and liabilities are measured using enacted or substantively enacted tax rates expected to apply to taxable income in the years when temporary differences are expected to be recovered or settled.

Deferred income tax assets are recognized in the Bank’s consolidated financial statements to the extent that it is probable that the Bank will have sufficient taxable income to enable the benefit of the deferred income tax asset to be realized. Unrecognized deferred income tax assets are reassessed for recoverability at each reporting period end.

The realization of the deferred income tax asset is dependent upon the Bank being able to generate taxable income during the carry-forward period sufficient to offset the income tax losses and deductible temporary timing differences. While management is of the opinion that it is probable that the Bank will be able to realize the deferred income tax asset, there is no guarantee the Bank will be able to generate sufficient taxable income during the carry-forward period. The realization of the deferred income tax asset is dependent upon the Bank being able to generate taxable income in future years sufficient to offset the income tax losses.

Future Change in Accounting Policies

IFRS 9: Financial instruments (IFRS 9)

In November 2009, the IASB issued IFRS 9 as the first phase of an ongoing project to replace IAS 39. This first issuance of IFRS 9 introduced new requirements for classifying and measuring financial assets. IFRS 9 was then re-issued in October 2010, incorporating new requirements for the accounting of financial liabilities, and carrying over from IAS 39 the requirements for de-recognition of financial assets and financial liabilities. The mandatory effective date for the adoption of IFRS 9 was set for annual periods beginning on or after January 1, 2015, with earlier application permitted. In July 2013, the IASB deferred the mandatory effective date for the adoption of IFRS 9 to a date yet to be determined and to allow entities to early adopt only certain requirements in IFRS 9. The IASB continues to deliberate on the content of IFRS 9 and intends to expand the existing standard by adding new requirements for the impairment of financial assets measured at amortized cost and hedge accounting. On completion of these various projects, IFRS 9 will represent a complete replacement of IAS 39. The IASB has decided that IFRS 9 will be effective for annual periods beginning on or after January 1, 2018.

The most significant changes expected under IFRS 9 relate to decreases in the classification categories available for financial instruments, a requirement that debt instruments meet a business model and cash flow characteristic test before being eligible for measurement at amortized cost, and a requirement that changes in the fair value of equity instruments be reported in profit or loss (unless an irrevocable election is made at initial recognition to recognize such changes in other comprehensive income). Management has performed preliminary evaluations of the impact of IFRS 9, however the impact on the Bank’s Consolidated Financial Statements is not determinable at this time as it is dependent upon the nature of financial instruments held by the Bank when IFRS 9 becomes effective. The Bank is choosing not to early adopt the own credit requirement of IFRS 9.

Controls and Procedures

During the most recent interim period, there have been no changes in the Bank’s policies and procedures and other processes that comprise its internal control over financial reporting, that have materially affected, or are reasonably likely to materially affect, the Bank’s internal control over financial reporting.

Forward-Looking Statements

The statements in this management’s discussion and analysis that relate to the future are forward-looking statements. By their very nature, forward-looking statements involve inherent risks and uncertainties, both general and specific, many of which are out of our control. Risks exist that predictions, forecasts, projections and other forward-looking statements will not be achieved. Readers are cautioned not to place undue reliance on these forward-looking statements as a number of important factors could cause actual results to differ materially from the plans, objectives, expectations, estimates and intentions expressed in such forward-looking statements. These factors include, but are not limited to, the strength of the Canadian economy in general and the strength of the local economies within Canada in which we conduct operations; the effects of changes in monetary and fiscal policy, including changes in interest rate policies of the Bank of Canada; the effects of competition in the markets in which we operate; inflation; capital market fluctuations; the timely development and introduction of new products in receptive markets; the impact of changes in the laws and regulations regulating financial services; changes in tax laws; technological changes; unexpected judicial or regulatory proceedings; unexpected changes in consumer spending and savings habits; and our anticipation of and success in managing the risks implicated by the foregoing. For a detailed discussion of certain key factors that may affect future results, please see page 47 of our 2013 Annual Report.

The foregoing list of important factors is not exhaustive. When relying on forward-looking statements to make decisions, investors and others should carefully consider the foregoing factors and other uncertainties and potential events. The forward-looking information contained in the management’s discussion and analysis is presented to assist our shareholders in understanding our financial position and may not be appropriate for any other purposes. Except as required by securities law, we do not undertake to update any forward-looking statement that is contained in this management’s discussion and analysis or made from time to time by the Bank or on its behalf.



PACIFIC & WESTERN BANK OF CANADA
Consolidated Balance Sheets
(Unaudited)

(thousands of Canadian dollars)                
  July 31   October 31   July 31
As at             2014     2013     2013
 
Assets
 
Cash and cash equivalents $ 97,017 $ 176,323 $ 94,370
Securities (note 4) 48,642 39,891 88,479
Loans, net of allowance for credit losses (note 5) 1,181,379 1,158,933 1,193,561
Other assets 28,049 29,461 30,932
                     
            $ 1,355,087   $ 1,404,608   $ 1,407,342
 
Liabilities and Shareholders' Equity
 
Deposits $ 1,124,602 $ 1,187,404 $ 1,201,593
Subordinated notes payable (note 6) 13,840 20,332 20,297
Securitization liabilities (note 7) 43,567 43,410 43,511
Other liabilities           36,696     20,329     16,927
1,218,705 1,271,475 1,282,328
 
Shareholders' equity:
Share capital (note 8) 142,332 142,278 133,965
Retained earnings (deficit) (5,969) (9,169) (8,979)
Accumulated other comprehensive income   19     24     28
136,382 133,133 125,014
                     
            $ 1,355,087   $ 1,404,608   $ 1,407,342

The accompanying notes are an integral part of these interim Consolidated Financial Statements.



PACIFIC & WESTERN BANK OF CANADA
Consolidated Statements of Income
(Unaudited)

(thousands of Canadian dollars, except per share amounts)      
          for the three months ended   for the nine months ended
    July 31   July 31 July 31   July 31
            2014     2013     2014     2013
 
Interest income:
Loans $ 12,624 $ 13,366 $ 38,095 $ 40,125
Securities 777 662 2,322 2,136
Loan fees         755     1,214     2,666     3,452
14,156 15,242 43,083 45,713
 
Interest expense:
Deposits and other 7,121 7,954 21,647 24,165
Subordinated notes       348     555     1,171     2,789
7,469 8,509 22,818 26,954
                       
Net interest income 6,687 6,733 20,265 18,759
 
Other income (note 9)       619     315     1,842     1,995
Total revenue 7,306 7,048 22,107 20,754
 
Provision for credit losses (note 5b)     303     154     519     399
7,003 6,894 21,588 20,355
 
Non-interest expenses:
Salaries and benefits 2,791 2,679 8,246 8,055
General and administrative 2,293 2,133 6,931 7,101
Premises and equipment     504     569     1,527     1,666
5,588 5,381 16,704 16,822
Restructuring charges (note 6)     -     287     434     789
5,588 5,668 17,138 17,611
                       
Income before income taxes 1,415 1,226 4,450 2,744
 
Income tax provision 398 348 1,250 790
                       
Net income       $ 1,017   $ 878   $ 3,200   $ 1,954
 
Basic income per share $ 0.05 $ 0.05 $ 0.16 $ 0.12
 
Diluted income per share $ 0.05 $ 0.05 $ 0.16 $ 0.12
 
Weighted average number of
common shares outstanding 19,437,000 17,387,000 19,437,000 15,825,000

The accompanying notes are an integral part of these interim Consolidated Financial Statements.



PACIFIC & WESTERN BANK OF CANADA
Consolidated Statements of Comprehensive Income (Loss)
(Unaudited)

(thousands of Canadian dollars)                
          for the three months ended   for the nine months ended
  July 31   July 31   July 31   July 31
            2014     2013     2014     2013
 
Net income $ 1,017 $ 878 $ 3,200 $ 1,954
 
Other comprehensive loss, net of tax
Net unrealized gains (losses) on assets held as available-for-sale (1) (54) (1) (5) (18)
Amount transferred to net income (loss) on disposal of available-for-sale assets (2)   -     (1)     -     (26)
(54) (2) (5) (44)
                       
Comprehensive income     $ 963   $ 876   $ 3,195   $ 1,910

(1) Net of income tax benefit for the three months of $20 (2013 – $nil) and nine months of $2 (2013 – $7)

(2) Net of income tax benefit for the three months of $nil (2013 – $9) and nine months of $nil (2013 – $10)

The accompanying notes are an integral part of these interim Consolidated Financial Statements.



PACIFIC & WESTERN BANK OF CANADA
Consolidated Statements of Changes in Shareholders’ Equity
(Unaudited)

(thousands of Canadian dollars)                  
          for the three months ended   for the nine months ended
  July 31   July 31   July 31   July 31
            2014     2013     2014     2013
 
Common shares (note 8):
 
Balance, beginning of the period $ 142,224 $ 133,965 $ 142,224 $ 103,965
Issued during the period, net of issue costs - - - 30,000
                       
Balance, beginning and end of the period $ 142,224   $ 133,965   $ 142,224   $ 133,965
 
Contributed surplus (note 8):
 
Balance, beginning of the period $ 90 $ - $ 54 $ -
Fair value of stock options granted 18 - 54 -
                       
Balance, end of the period     $ 108   $ -   $ 108   $ -
                       
Total share capital       $ 142,332   $ 133,965   $ 142,332   $ 133,965
 
Retained earnings (deficit):
 
Balance, beginning of the period $ (6,986) $ (9,857) $ (9,169) $ (10,933)
Net income 1,017 878 3,200 1,954
                       
Balance, end of the period     $ (5,969)   $ (8,979)   $ (5,969)   $ (8,979)
 
Accumulated other comprehensive income, net of taxes:
 
Balance, beginning of the period $ 73 $ 30 $ 24 $ 72
Other comprehensive loss (54) (2) (5) (44)
                       
Balance, end of the period     $ 19   $ 28   $ 19   $ 28
                       
Total shareholders' equity     $ 136,382   $ 125,014   $ 136,382   $ 125,014

The accompanying notes are an integral part of these interim Consolidated Financial Statements.



PACIFIC & WESTERN BANK OF CANADA
Consolidated Statements of Cash Flows
(Unaudited)

(thousands of Canadian dollars)            
    July 31   July 31
For the nine months ended         2014     2013
 
Cash provided (used in):
 
Operations:
Net income $ 3,200 $ 1,954
Items not involving cash:
Provision for credit losses 519 399
Stock-based compensation 54 -
Income tax provision 1,250 790
Gain on sale of loans (807) (1,009)
Interest income (43,083) (45,713)
Interest expense 22,818 26,954
Restructuring charges 434 789
Interest received 42,563 44,175
Interest paid (25,563) (31,228)
Mortgages and loans (21,778) 17,557
Deposits (59,715) (115,705)
Change in other assets and liabilities       16,324     (12,888)
(63,784) (113,925)
Investing:
Purchase of securities (34,894) (27,985)
Proceeds from sale and maturity of securities     26,372     106,814
(8,522) 78,829
Financing:
Repayment of subordinated notes (7,000) (30,000)
Proceeds from shares issued, net of costs       -     30,000
(7,000) -
                   
Decrease in cash and cash equivalents (79,306) (35,096)
 
Cash and cash equivalents, beginning of the period 176,323 129,466
                   
Cash and cash equivalents, end of the period     $ 97,017   $ 94,370
 
Cash and cash equivalents is represented by:
Cash $ 37,258 $ 94,370
Cash equivalents 59,759 -
                   
Cash and cash equivalents, end of the period     $ 97,017   $ 94,370

The accompanying notes are an integral part of these interim Consolidated Financial Statements.



PACIFIC & WESTERN BANK OF CANADA
Notes to Interim Consolidated Financial Statements
(Unaudited)

Three and nine month periods ended July 31, 2014 and 2013


1. Reporting entity:

Pacific & Western Bank of Canada (the “Bank”) operates as a Schedule I bank under the Bank Act (Canada) and is regulated by the Office of the Superintendent of Financial Institutions (OSFI). The Bank, whose shares commenced trading on the Toronto Stock Exchange on August 27, 2013, is involved in the business of providing commercial lending services to selected niche markets.

The Bank is incorporated and domiciled in Canada, and maintains its registered office at Suite 2002, 140 Fullarton Street, London, Ontario, Canada, N6A 5P2. It is the principal subsidiary of PWC Capital Inc. (“PWC”) whose shares also trade on the Toronto Stock Exchange. At July 31, 2014 PWC owned approximately 89% of the Bank.

2. Basis of preparation:

a) Statement of compliance:

These interim Consolidated Financial Statements have been prepared in accordance with International Financial Reporting Standards (IFRS) as issued by the International Accounting Standards Board (IASB) and have been prepared in accordance with International Accounting Standard (IAS) 34 – Interim Financial Reporting and do not include all of the information required for full annual financial statements. These interim Consolidated Financial Statements should be read in conjunction with the Bank’s audited Consolidated Financial Statements for the year ended October 31, 2013.

The interim Consolidated Financial Statements for the three and nine months ended July 31, 2014 and 2013 were approved by the Audit Committee of the Board of Directors on August 26, 2014.

b) Basis of measurement:

These interim Consolidated Financial Statements have been prepared on the historical cost basis except for securities designated as available-for-sale that are measured at fair value in the Consolidated Balance Sheets.

c) Functional and presentation currency:

These interim Consolidated Financial Statements are presented in Canadian dollars which is the Bank’s functional currency. Except as indicated, the financial information presented has been rounded to the nearest thousand.

d) Use of estimates and judgments:

In preparing these interim Consolidated Financial Statements, management has exercised judgment and developed estimates in applying accounting policies and generating reported amounts of assets and liabilities at the date of the financial statements and income and expenses during the reporting period. Areas where significant judgment was applied or estimates were developed include the calculation of the allowance for credit losses, assessments of fair value and impairments of financial instruments and the measurement of deferred income taxes.

It is reasonably possible, on the basis of existing knowledge, that actual results may vary from that expected in the generation of these estimates. This could result in material adjustments to the carrying amounts of assets and/or liabilities affected in the future.

Estimates and their underlying assumptions are reviewed on an ongoing basis. Revisions to accounting estimates are applied prospectively once they are recognized.

3. Significant accounting policies:

The accounting policies applied by the Bank in these interim Consolidated Financial Statements are the same as those applied by the Bank as at and for the year ended October 31, 2013 and are detailed in Note 3 of the Bank’s 2013 Audited Consolidated Financial Statements. There have been no changes in accounting policies except that segment disclosure is no longer provided as the Bank determined that credit card operations are not a significant part of its business. The impact of new standards adopted during the current period was not material.

4. Securities:

Portfolio analysis:

             
  July 31   October 31   July 31
      2014     2013     2013
 
Available-for-sale securities
Securities issued or guaranteed by:
Canadian federal government $ - $ 5,025 $ 28,360
Canadian provincial governments 9,486 18,724 18,609
Canadian municipal governments 606 892 965
Term deposits     25,926     50     25,329
Total available-for-sale securities   $ 36,018   $ 24,691   $ 73,263
 
Held-to-maturity security
Debt of other financial institutions   $ 12,624   $ 15,200   $ 15,216
Total securities   $ 48,642   $ 39,891   $ 88,479


All available-for-sale securities are carried at fair value based on quoted market prices (Level 1) except for Canadian municipal bonds and term deposits which fall into Level 2 of the fair value hierarchy. See Note 3 (c) of the October 31, 2013 consolidated financial statements for more information.

5. Loans:

a) Portfolio analysis:

             
July 31   October 31   July 31
      2014     2013     2013
 
Residential mortgages
Insured $ 22,980 $ 24,094 $ 24,921
Uninsured 244,788 273,436 247,403
Securitized mortgages 40,348 41,028 41,245
Government financing 103,726 129,782 143,419
Commercial and consumer loans 560,927 564,382 616,553
Commercial and consumer leases 176,671 92,234 90,433
Other loans 3,992 3,948 3,869
Credit card receivables     26,635     28,934     26,226
1,180,067 1,157,838 1,194,069
 
Allowance for credit losses:
Collective (2,807) (3,275) (3,235)
Individual     -     -     (1,662)
(2,807) (3,275) (4,897)
             
1,177,260 1,154,563 1,189,172
 
Accrued interest 4,119 4,370 4,389
             
Total loans, net of allowance for credit losses $ 1,181,379   $ 1,158,933   $ 1,193,561


The collective allowance for credit losses relates to the following loan portfolios:

             
July 31   October 31   July 31
      2014     2013     2013
 
Residential mortgages $ 618 $ 575 $ 564
Commercial, consumer and government loans 1,223 1,879 1,919
Other loans 25 12 8
Credit card receivables     941     809     744
    $ 2,807   $ 3,275   $ 3,235

The Bank holds collateral against the majority of its loans in the form of mortgage interests over property, other registered securities over assets, cash held for holdbacks on the bulk purchase program and guarantees.

b) Allowance for credit losses:

The allowance for credit losses results from the following:

                   
      July 31   July 31
2014 2013
For the three months ended   Collective   Individual   Total Allowance   Total Allowance
 
Balance, beginning of the period $ 2,862 $ - $ 2,862 $ 4,924
Provision for credit losses 303 - 303 154
Write-offs (358) - (358) (181)
                   
Balance, end of the period   $ 2,807   $ -   $ 2,807   $ 4,897
 
                   
July 31 July 31
2014 2013
for the nine months ended   Collective   Individual   Total Allowance   Total Allowance
 
Balance, beginning of the period $ 3,275 $ - $ 3,275 $ 4,862
Provision for credit losses 519 - 519 399
Write-offs (987) - (987) (364)
                   
Balance, end of the period   $ 2,807   $ -   $ 2,807   $ 4,897



c) Impaired loans:

             
  July 31, 2014
    Gross impaired   Individual allowance   Net impaired
   
Residential mortgages $ - $ - $ -
Other loans   -   -   -
    $ -   $ -   $ -
 
             
July 31, 2013
    Gross impaired   Individual allowance   Net impaired
 
Residential mortgages $ 1,749 $ 1,662 $ 87
Other loans   6   -   6
    $ 1,755   $ 1,662   $ 93


Interest income recognized on impaired loans for the three and nine months ended July 31, 2014 was $nil (July 31, 2013 - $40,000) and $nil (July 31, 2013 - $117,000) respectively.

At July 31, 2014, loans, other than credit card receivables, past due but not impaired totalled $nil (October 31, 2013 - $nil). At July 31, 2014, credit card receivables overdue by one day or more but not impaired totalled $2,786,000 (October 31, 2013 - $2,432,000).

6. Subordinated notes payable:

                     
          July 31   October 31   July 31
              2014     2013     2013
 

Ten year term, unsecured, callable, subordinated notes

payable by the Bank to an unrelated party, maturing between

2019 and 2021, net of issue costs of $660 (October 31, 2013

- $1,168, July 31, 2013 - $1,203) effective interest of 10.06%

$ 13,840 $ 20,332 $ 20,297
                     
            $ 13,840   $ 20,332   $ 20,297


During the nine months ended July 31, 2014, the Bank repaid $7,000,000 (2013 - $30,000,000) in subordinated notes which had a carrying value of $6,566,000 (2013 - $29,617,000). The difference of $434,000 (2013 - $383,000) relating to unamortized note issue costs was included in restructuring charges in the Consolidated Statements of Income.

7. Securitization liabilities:

Securitization liabilities include amounts payable to counterparties for cash received upon initiation of securitization transactions, accrued interest on amounts payable to counterparties, and the unamortized balance of deferred costs and discounts which arose upon initiation of the securitization transactions.

The amounts payable to counterparties bear interest at rates ranging from 1.97% - 3.95% and mature between 2016 and 2020. Securitized insured mortgages with a carrying value of $40,195,000 (October 31, 2013 - $40,832,000) are pledged as collateral for these liabilities.

8. Share capital:

At July 31, 2014, there were 19,437,171 (October 31, 2013 – 19,437,171) common shares outstanding. During the three and nine months ended July 31, 2014, no common shares were issued. During the nine months ended July 31, 2013, 4,137,937 common shares were issued for cash proceeds of $30,000,000 to PWC.

During the three and nine months ended July 31, 2014, the Bank recognized compensation expense of $18,000 (July 31, 2013 - $nil) and $54,000 (July 31, 2013 - $nil) respectively, relating to the estimated fair value of stock options granted in prior periods. No stock options were granted during the current periods.

9. Other income:

                 
    for the three months ended   for the nine months ended
July 31   July 31   July 31   July 31
      2014     2013     2014     2013
 
Gain on sale of loans $ 225 $ - $ 807 $ 1,009
Credit card non-interest revenue 378 306 991 823
Other income 16 9 44 163
                 
    $ 619   $ 315   $ 1,842   $ 1,995


10. Commitments and contingencies:

The amount of credit related commitments represents the maximum amount of additional credit that the Bank could be obligated to extend. Under certain circumstances, the Bank may cancel loan commitments at its option. The amounts with respect to the letters of credit are not necessarily indicative of credit risk as many of these arrangements are contracted for a limited period of usually less than one year and will expire or terminate without being drawn upon.

             
  July 31   October 31   July 31
      2014     2013     2013
 
Loan commitments $ 160,997 $ 141,251 $ 129,009
Undrawn credit card lines 159,614 147,990 139,481
Letters of credit 42,143 38,565 20,529
             
    $ 362,754   $ 327,806   $ 289,019


Cash totalling $10,408,000 (October 31, 2013 - $10,380,000) is pledged as collateral against liabilities and off-balance sheet items.

11. Related party transactions:

During the three and nine months ended July 31, 2014, the Bank incurred management and other fees totalling $300,000 (July 31, 2013 - $300,000) and $900,000 (July 31, 2013 - $900,000) respectively to PWC and a subsidiary of PWC.

The Bank’s and PWC’s Board of Directors and Senior Executive Officers represent key management personnel. Other than key management personnel, the Bank has no other related parties for which there were transactions or balances outstanding during the periods.

The Bank issues mortgages and personal loans to employees and key management personnel. At July 31, 2014, amounts due from key management personnel totalled $2,301,000 (October 31, 2013 - $2,322,000) and are unsecured. The interest rates charged on these loans are similar to those charged in an arms-length transaction. Interest income earned on the above loans for the three and nine months ended July 31, 2014 was $20,000 (July 31, 2013 - $9,000) and $60,000 (July 31, 2013 - $28,000) respectively. There was no provision for credit losses related to loans issued to key management personnel for the three and nine months ended July 31, 2014 and 2013.

12. Capital management:

a) Overview:

The Bank’s policy is to maintain a strong capital base so as to maintain investor, creditor and market confidence and to sustain future development of the business. The impact of the level of capital on shareholders’ return is also important and the Bank recognizes the need to maintain a balance between the higher returns that might be possible with greater leverage and the advantages and security afforded by a sound capital position.

The Bank operates as a bank under the Bank Act (Canada) and is regulated by the Office of the Superintendent of Financial Institutions Canada (OSFI). OSFI sets and monitors capital requirements for the Bank.

Capital is managed in accordance with policies and plans that are regularly reviewed and approved by the Board of Directors and take into account forecasted capital needs and conditions in financial markets.

The goal is to maintain adequate regulatory capital to be considered well capitalized, protect consumer deposits and provide capacity for internally generated growth and strategic opportunities that do not otherwise require accessing the public capital markets, all the while providing a satisfactory return to shareholders. The Bank’s regulatory capital is comprised of share capital, retained earnings (deficit) and unrealized gains and losses on available-for-sale securities (Common Equity Tier 1 capital) and the face value of subordinated notes (Tier 2 capital).

The Bank monitors its capital adequacy and related capital ratios on a daily basis and has policies setting internal maximum and minimum amounts for its capital ratios. These capital ratios consist of the assets-to-capital multiple and the risk-based capital ratios.

During the period ended July 31, 2014, there were no material changes in the Bank’s management of capital.

b) Risk-Based Capital Ratios:

The Basel Committee on Banking Supervision has published the Basel III rules supporting more stringent global standards on capital adequacy and liquidity (Basel III).

OSFI requires that all Canadian banks must comply with the Basel III standards on an “all-in” basis that became effective January 1, 2013 for purposes of determining its risk-based capital ratios. Required minimum regulatory capital ratios are a 7.0% Common Equity Tier 1 (CET1) capital ratio and effective January 1, 2014, an 8.5% Tier 1 capital ratio and 10.5% total capital ratio, all of which include a 2.50% capital conservation buffer. The Basel III rules provide for “transitional” adjustments whereby certain aspects of the new rules will be phased in between 2013 and 2019. The only available transition allowed by OSFI for capital ratios is related to the 10 year phase out of non-qualifying capital instruments. However, OSFI has allowed Canadian banks to calculate their asset-to-capital ratios on a transitional basis between 2013 and 2019.

OSFI also requires banks to measure capital adequacy in accordance with guidelines for determining risk adjusted capital and risk-weighted assets including off-balance sheet credit instruments as specified in the Basel III regulations. Based on the deemed credit risk for each type of asset, assets held by the Bank are assigned a weighting of 0% to 150% to determine the risk-based capital ratios.

The Bank’s risk-based capital ratios are calculated as follows:

                         
            July 31, 2014   July 31, 2013
            "All-in"   "Transitional"   "All-in"   "Transitional"
         
Common Equity Tier 1 (CET1) capital
Directly issued qualifying common share capital $ 142,332 $ 142,332 $ 133,965 $ 133,965
Retained earnings (deficit) (5,969) (5,969) (8,979) (8,979)
  Accumulated other comprehensive income     19     19     28     28
CET1 capital before regulatory adjustments 136,382 136,382 125,014 125,014
  Total regulatory adjustments to CET1     (7,627)     (1,526)     (8,523)     -
Common Equity Tier 1 capital   $ 128,755 $ 134,856   $ 116,491 $ 125,014
 
Additional Tier 1 (AT1) capital
  Directly issued qualifying AT1 instruments     -     -     -     -
Tier 1 capital     $ 128,755 $ 134,856   $ 116,491 $ 125,014
 
Tier 2 capital
Directly issued capital instruments subject to
  phase out from Tier 2     $ 14,500   $ 14,500   $ 21,500   $ 21,500
Tier 2 capital before regulatory adjustments 14,500 14,500 21,500 21,500
  Total regulatory adjustments to Tier 2 capital     -     -     (3,545)     -
Tier 2 capital         $ 14,500   $ 14,500   $ 17,955   $ 21,500
Total capital         $ 143,255   $ 149,356   $ 134,446   $ 146,514
Total risk-weighted assets     $ 1,079,231   $ 1,085,333   $ 1,107,029   $ 1,119,096
Capital ratios
CET1 Ratio 11.93% 12.43% 10.52% 11.17%
Tier 1 Capital Ratio 11.93% 12.43% 10.52% 11.17%
  Total Capital Ratio         13.27%     13.76%     12.14%     13.09%


c) Assets-to-Capital Multiple:

The Bank’s growth in total assets is governed by a permitted assets-to-capital multiple which is prescribed by OSFI and is defined as the ratio of the total assets of the Bank to its regulatory capital. The Bank’s assets-to-capital multiple is calculated as follows:

         
  July 31   July 31
      2014     2013
 
Total assets (on and off-balance sheet)   $ 1,395,705   $ 1,427,871
Capital
Common shares $ 142,332 $ 133,965
Retained earnings (deficit) (5,969) (8,979)
Accumulated other comprehensive income 19 28
Subordinated notes 14,500 21,500
Regulatory adjustments     (1,526)     -
Total regulatory capital   $ 149,356   $ 146,514
 
Assets-to-capital ratio     9.34     9.75


The Bank was in compliance with the assets-to-capital multiple prescribed by OSFI throughout the periods presented.

13. Interest rate position:

The Bank is subject to interest rate risk which is the risk that a movement in interest rates could negatively impact net interest margin, net interest income and the economic value of assets, liabilities and shareholders’ equity. The following table provides the duration difference between the Bank’s assets and liabilities and the potential after-tax impact of a 100 basis point shift in interest rates on the Bank’s earnings during a 12 month period and the potential after-tax impact of a 100 basis point shift in interest rates on the Bank’s shareholders’ equity over a 60 month period if no remedial actions are taken.

                       
        July 31, 2014     July 31, 2013
        Increase 100 bps   Decrease 100 bps   Increase 100 bps   Decrease 100 bps
         
Impact on projected net interest
income during a 12 month period $ 2,999 $ (2,966) $ 5,049 $ (4,997)
Impact on reported equity
during a 60 month period $ (1,701) $ 1,941 $ 2,906 $ (2,890)
                       
Duration difference between assets and
liabilities (months)       0.7           2.9    


14. Fair Value of Financial Instruments:

Fair values are based on management’s best estimates of market conditions and valuation policies at a certain point in time. The estimates are subjective and involve particular assumptions and matters of judgment and as such, may not be reflective of future fair values. The Bank’s loans and deposits lack an available market as they are not typically exchanged. Therefore, they are not necessarily representative of amounts realizable upon immediate settlement. See Note 23 to the October 31, 2013 consolidated financial statements for more information on fair values.

                       
  July 31, 2014   October 31, 2013
  Fair value   Fair value     Fair value   Fair value
Book of assets over (under) Book of assets over (under)
  Value   and liabilities   book value   Value   and liabilities   book value
 
Assets
 
Cash and cash equivalents $ 97,017 $ 97,017 $ - $ 176,323 $ 176,323 $ -
Securities 48,642 48,497 (145) 39,891 39,456 (435)
Loans 1,181,379 1,181,706 327 1,158,933 1,157,047 (1,886)
Other financial assets 4,942 4,942 - 4,134 4,134 -
                       
  $ 1,331,980   $ 1,332,162   $ 182   $ 1,379,281   $ 1,376,960   $ (2,321)
 
Liabilities
 
Deposits $ 1,124,602 $ 1,130,498 $ 5,896 $ 1,187,404 $ 1,190,127 $ 2,723
Subordinated notes payable 13,840 14,500 660 20,332 21,500 1,168
Securitization liabilities 43,567 46,890 3,323 43,410 46,325 2,915
Other financial liabilities 36,696 36,696 - 20,329 20,329 -
                       
  $ 1,218,705   $ 1,228,584   $ 9,879   $ 1,271,475   $ 1,278,281   $ 6,806



Pacific & Western Bank of Canada (PWBank), a Schedule I chartered bank, is a branchless financial institution with over $1.3 billion in assets. PWBank specializes in providing commercial lending services to selected niche markets and receives its deposits through a diversified deposit broker network across Canada.

Pacific & Western Bank of Canada shares trade on the TSX under the symbol PWB.

On behalf of the Board of Directors: David R. Taylor, President & C.E.O.

To receive company news releases, please contact:
Wade MacBain at wadem@pwbank.com (519) 675-4201

Contacts

Pacific & Western Bank of Canada
Investor Relations:
800-244-1509
wadem@pwbank.com
or
Public Relations & Media:
Tel Matrundola, 416-203-0882
Vice-President
telm@pwbank.com
Visit our website at: http://www.pwbank.com

Contacts

Pacific & Western Bank of Canada
Investor Relations:
800-244-1509
wadem@pwbank.com
or
Public Relations & Media:
Tel Matrundola, 416-203-0882
Vice-President
telm@pwbank.com
Visit our website at: http://www.pwbank.com