Sierra Bancorp — Q3 2020 Form 10-Q
Reporting period: Quarter and nine months ended September 30, 2020. Sierra Bancorp is a California bank holding company whose principal subsidiary, Bank of the Sierra, serves communities across California.
Financial results and position
- Q3 earnings: Net income was $10.4 million, or $0.68 per diluted share, versus $9.0 million, or $0.58, a year earlier. Nine-month net income was $26.5 million, or $1.73 per diluted share, compared with $26.7 million, or $1.73.
- Interest income and margin: Q3 net interest income increased 15% to $28.1 million; nine-month net interest income rose 5% to $76.0 million. Tax-equivalent net interest margin was 3.98% for Q3 (4.09% in 2019) and 3.97% year to date (4.20% in 2019). Lower funding costs and loan growth supported income, while lower asset yields pressured margin.
- Credit provision and asset quality: Loan-loss provision was $2.4 million for Q3 and $6.4 million for the first nine months, compared with $1.4 million and $2.1 million, respectively, in 2019. The allowance was $15.6 million, or 0.65% of gross loans. Nonperforming assets were $10.2 million, including $7.2 million of nonperforming loans; the nonperforming-asset ratio was 0.43%.
- Other income and expenses: Noninterest income was $7.1 million for Q3 and $20.1 million year to date. Noninterest expense was $19.3 million and $55.2 million, respectively. The efficiency ratio improved to 53.74% for Q3 and 56.64% year to date, from 55.64% and 57.51%. Q3 income included a gain related to the wrap-up of a low-income housing tax credit investment.
- Cash flow: Nine-month operating cash flow was $27.2 million; investing cash outflow was $579.2 million, principally reflecting net loan growth; financing cash inflow was $560.8 million, mainly from deposit growth and borrowings. Cash and equivalents ended at $88.9 million.
- Balance sheet and funding: Assets were $3.20 billion, up from $2.59 billion at year-end 2019. Gross loans rose 35% to $2.38 billion, notably commercial real estate, mortgage warehouse, and PPP lending. Deposits increased 20% to $2.59 billion, with noninterest-bearing deposits at 37.7% of deposits. Short-term borrowings rose to $158.0 million from $20.0 million; subordinated debentures were $35.1 million. Shareholders’ equity was $336.2 million.
- Capital and liquidity: The Bank reported a 11.73% leverage ratio under the Community Bank Leverage Ratio framework; the filing identifies a temporary 8% minimum. Management reported $1.02 billion in primary and secondary liquidity sources and said liquidity remained adequate.
Material changes and management commentary
- Loan growth included $123.6 million of PPP loans and a $532.8 million increase in non-owner-occupied commercial real estate loans. Commercial real estate loans represented 364% of regulatory capital under the cited concentration measure; management said enhanced monitoring and underwriting controls were in place.
- At September 30, 314 customers had loans totaling $424.0 million under COVID-related payment modifications. Management reported $9.0 million of accrued interest on deferred loans, and said some modified loans could require further review. Hospitality accounted for $163.8 million of modifications. Subsequent borrower performance may affect credit classifications, interest recognition, and losses.
- Management deferred CECL implementation under the CARES Act until the earlier of the end of the national emergency or December 31, 2020. It estimated a potential one-time adoption adjustment of approximately $12 million, while warning that the ultimate impact was uncertain and could materially reduce allowance-related equity.
- Management expected low rates to continue pressuring net interest margin and anticipated possible further declines in deposit fee income. It also noted the potential for the efficiency ratio to rise. No numerical earnings guidance was provided.
- COVID-19, economic conditions, loan deferral expirations, CRE exposure, interest-rate movements, and CECL estimates were identified as key risks. The filing states that goodwill was not impaired at September 30, 2020. A CRE property in foreclosed assets was under contract with an expected Q4 2020 closing.
Important facts for investors to verify
- Whether borrowers with COVID-related deferrals resume payments, especially hospitality borrowers, and whether the reported $9.0 million in accrued interest is collected.
- The final CECL adoption date and actual transition adjustment compared with management’s approximately $12 million estimate.
- Credit performance, allowance adequacy, and concentration risk as non-owner-occupied CRE and total loans expand.
- Whether deposit growth and low funding costs persist, and how rates affect net interest margin and liquidity needs.
- Regulatory capital ratios and the applicable Community Bank Leverage Ratio requirements as temporary relief provisions change.