Business context and reporting period
First Northern Community Bancorp’s Form 10-K covers the fiscal year ended December 31, 2017, with comparisons to 2016 and 2015. The California bank holding company provides community banking, lending, deposit, mortgage, trust and related services in Northern California, principally through First Northern Bank of Dixon.
Financial performance and condition
| Metric | 2017 | 2016 |
|---|---|---|
| Interest and dividend income | $40.0 million | $36.0 million |
| Net interest income | $38.9 million | $34.8 million |
| Net interest margin | 3.48% | 3.37% |
| Provision for loan losses | $0.6 million | $1.8 million |
| Non-interest income | $8.1 million | $7.3 million |
| Non-interest expense | $29.4 million | $27.4 million |
| Net income | $8.75 million | $8.05 million |
| Diluted earnings per share | $0.75 | $0.70 |
Net income rose 7.4%; net interest income increased 11.8%, reflecting loan and securities growth, improved yields and lower deposit costs. Return on average assets was 0.74%, and return on average equity was 8.88%, broadly unchanged from 2016.
At year-end, total assets were $1.218 billion (+4.4%), deposits $1.105 billion (+3.9%), net loans including loans held for sale $740.2 million (+10.0%), and stockholders’ equity $100.0 million (+8.4%). Commercial real estate loans were $398.3 million, up 15.7%, and represented 53.2% of the loan portfolio; agriculture loans were $113.6 million, up 11.5%.
Cash and cash equivalents were $152.9 million and available-for-sale securities were $280.7 million. The company had no short- or long-term borrowings at year-end. It reported $308.7 million of FHLB borrowing capacity and $80.0 million in correspondent-bank lines. Operating cash flow was $16.1 million; investing activities used $64.0 million and financing activities provided $41.1 million, resulting in a $6.8 million net decrease in cash.
Regulatory capital remained above well-capitalized thresholds: the Bank’s Tier 1 leverage ratio was 8.4%, common equity Tier 1 ratio 12.0%, and total risk-based capital ratio 13.2%. The allowance for loan losses was $11.1 million, or 1.49% of loans. Non-performing assets net of guarantees were $3.7 million (0.3% of assets), down from $4.2 million in 2016; allowance coverage of non-performing loans was 300.1%.
Material changes versus the prior comparable period
- Net interest margin improved to 3.48% from 3.37%; net interest income increased $4.1 million.
- Loan growth was concentrated in commercial real estate and agriculture; total loans increased 10.0%.
- Provision expense declined by $1.2 million, while net charge-offs increased to $366,000 from $152,000.
- Non-performing loans declined to $3.8 million gross from $6.3 million; troubled debt restructurings totaled $5.9 million versus $9.7 million.
- Non-interest expense increased 7.5%, principally from salary and benefits and data-processing costs.
- Cash fell by $6.8 million, while deposits increased $41.0 million.
Outlook, commentary, risks and unusual items
Management provided no specific earnings guidance. It expected continued growth in existing markets and said liquidity should remain strong in 2018. Management described liquidity as adequate at year-end. The Bank was asset-sensitive in its interest-rate model: a 100-basis-point increase was estimated to raise net interest income 2.9% in year one and 6.9% in year two; a 100-basis-point decrease was estimated to reduce it 2.2% and 6.6%, respectively. Management cautioned that actual outcomes may differ from model assumptions.
The 2017 results included a $1.187 million pre-tax gain recognized on a sale-leaseback of branch property; an additional $495,000 of the $1.682 million total gain was deferred and is being recognized as a reduction of occupancy expense over the six-year lease term. The Tax Cuts and Jobs Act required remeasurement of deferred taxes, adding approximately $1.7 million of 2017 tax expense ($0.14 per diluted share). The fourth-quarter tax provision was $3.429 million and quarterly net income was $887,000, compared with $2.266 million of fourth-quarter 2016 net income.
Key risks include the concentration of lending in Northern California real estate, especially commercial real estate; borrower, collateral and agricultural/weather risks; interest-rate and deposit behavior; competition; regulatory and compliance costs; cybersecurity and technology disruptions; and potential securities impairment. The company reported $4.5 million of unrealized securities losses at year-end but considered none other-than-temporary. Commitments to extend credit, sell loans and issue standby letters of credit totaled $224.8 million; expected draws are uncertain. Management reported no material pending legal proceedings. The independent auditor gave an unqualified opinion and concluded internal control over financial reporting was effective.
The company did not expect to pay cash dividends in the foreseeable future. It declared a 4% stock dividend payable in March 2018. Its common stock traded on OTC Markets, not a national exchange, and the filing cautions that trading liquidity is limited.
Important facts for investors to verify
- Review the deferred-tax remeasurement and its effect on 2017 earnings, capital and post-tax-reform results.
- Assess commercial real estate concentration and the quality, collateral and performance of the rapidly growing loan portfolio.
- Reconcile declining non-performing loans with higher net charge-offs and evaluate the adequacy of the $11.1 million loan-loss allowance.
- Check whether the one-time sale-leaseback gain and ongoing lease costs affect future operating comparisons.
- Monitor net interest margin, deposit pricing and actual sensitivity to changing rates against the model estimates.
- Confirm liquidity and capital remain sufficient as loans grow and $224.8 million of off-balance-sheet commitments may be drawn.
- Review the expected effects of the forthcoming expected-credit-loss and lease accounting standards; management had not quantified their full impact.