KBRA Affirms Ratings for Northern Bancorp, Inc.

KBRA affirms the senior unsecured debt rating of BBB+, the subordinated debt rating of BBB, and the short-term debt rating of K2 for Woburn, Massachusetts-based Northern Bancorp, Inc. (“Northern” or “the company”). KBRA also affirms the deposit and senior unsecured debt ratings of A-, the subordinated debt rating of BBB+, and the short-term deposit and debt ratings of K2 for the subsidiary, Northern Bank & Trust Company. The Outlook for all long-term ratings is Stable.

Key Credit Considerations

The ratings are supported by Northern's disciplined capital management and demonstrated ability to accrete capital at a pace greater than asset growth. While we recognize the company’s comparatively higher risk appetite (i.e., elevated balance sheet leverage, higher construction exposure and RWA density), regulatory capital levels, specifically the consolidated CET1 ratio (13.0% at 2Q23), continue to track above the average of similarly-rated peers. Capital growth has been bolstered by strong earnings generation (ROA of ~2.20% in 1H23), modest dividend payouts, and limited external pressures for shareholder distributions given the company’s closely-held private ownership structure. Greater earnings retention capacity reinforced with higher reserve coverage (~1.80% of total loans) and above peer regulatory capital ratios reflect solid overall loss absorption buffers for the risk profile. Additionally, overall investor CRE (~200% of RBC) has consistently been managed well below regulatory guidance with minimal office CRE exposure (~3% of total loans). Outperformance in earnings has been driven by a comparatively strong NIM despite a funding profile that has historically contained an elevated mix of more price sensitive and higher costing sources, underpinned by defensible, above average, loan yields derived from competitive scale in a niche C&I segment (QSR franchisees) as well as the higher C&D lending mix. Managing consolidated capital ratios moderately above the average of similarly rated peers is necessary, in KBRA's view, due, in part to some loan relationship concentrations which have led to NPA ratio volatility in recent years. Additionally, core earnings will likely contract to some extent in the near term as the bank’s elevated balance of noncore deposits reprice higher in the coming quarters. However, the bank’s capacity to protect margins is partly supported by prospective loan yields that are largely underpinned by the aforementioned franchisee lending niche that we believe will be more durable through the cycle. With that said, the Stable Outlook considers KBRA’s expectation that the NPA ratio, which surged to ~2.80% in 2Q23, will improve substantially by YE23 based on management guidance. On the latter, a large multifamily loan (~$40 million) that was foreclosed in 2Q23 due to idiosyncratic events which we do not consider indicative of systemic credit concerns, was sold for a meaningful gain in 3Q23. Loan recapitalizations or payoffs on additional nonperforming credits are also expected in 4Q23, with charge-offs projected to be immaterial. Owing to management’s proactive credit administration practices and solid recourse protection, credit losses have been minimal historically. The ratings are constrained by a funding profile that has historically been less favorable than similarly-rated peers given greater sensitivity to interest rate volatility. Further regression in funding measures will remain a heightened rating sensitivity given a spread-reliant revenue profile and marginally adequate balance sheet liquidity, although reported uninsured deposits were comparatively low.

Rating Sensitivities

A rating upgrade is unlikely in the intermediate term. Should credit quality measures deteriorate beyond expectations in 2H23 or exhibit meaningful losses or unfavorable trends going forward, adverse rating action could ensue. Additionally, inability to maintain earnings moderately above peers, further degradation in funding, particularly relative to pre-pandemic periods, or regression in capital or double leverage could pressure the ratings.

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