First Business Financial Services, Inc. — Q1 2014 Form 10-Q
Business context and reporting period. The Wisconsin bank holding company operates commercial banking and trust businesses through First Business Bank and First Business Bank–Milwaukee, primarily serving businesses and individuals in Wisconsin. This unaudited report covers the three months ended March 31, 2014; comparisons are with Q1 2013 for income and cash-flow measures and December 31, 2013 for balance-sheet measures. Dollar amounts below are in millions unless stated otherwise.
Financial performance and condition
| Metric | Q1 2014 / March 31, 2014 | Comparable period / date |
|---|---|---|
| Total assets | $1,273.8 | $1,268.7 at Dec. 31, 2013 |
| Net income | $3.34 | $3.24 in Q1 2013 |
| Diluted EPS | $0.84 | $0.83 in Q1 2013 |
| Net interest income | $10.80 | $10.23 in Q1 2013 |
| Net interest margin | 3.58% | 3.53% in Q1 2013 |
| Non-interest income | $2.32 | $1.95 in Q1 2013 |
| Non-interest expense | $7.85 | $7.18 in Q1 2013 |
| Cash and cash equivalents | $76.4 | $81.3 at Dec. 31, 2013 |
| Deposits | $1,136.7 | $1,129.9 at Dec. 31, 2013 |
| Stockholders’ equity | $112.2 | $109.3 at Dec. 31, 2013 |
- Revenue, earnings and margins: Top-line revenue (net interest income plus non-interest income) rose 7.7% to $13.12 million. Net income increased about 2.9%. Net interest margin improved five basis points, while the net interest spread increased to 3.40% from 3.32%. The efficiency ratio, a company-defined non-GAAP measure, rose to 59.84% from 59.17%.
- Profitability: Annualized return on average assets was 1.06%, unchanged year over year; return on average equity declined to 12.01% from 12.80%. The effective tax rate was 34.4%, versus 34.1%.
- Loans and credit: Net loans and leases grew 0.4% from year-end to $971.2 million. Gross loans were $986.2 million; commercial real estate represented about 65% of the portfolio. Commercial and industrial loans rose 3.4% from year-end to $303.6 million, while commercial real estate loans declined 1.0% to $638.7 million. The allowance was $14.1 million, or 1.43% of gross loans, versus 1.42% at year-end. Q1 provision was $180,000, compared with $80,000 a year earlier; the company reported no charge-offs and $20,000 of recoveries.
- Asset quality: Non-accrual loans and leases declined to $14.1 million from $15.9 million; non-performing assets were $14.4 million, or 1.13% of total assets, versus $16.2 million, or 1.28%, at year-end. About 99% of the loan and lease portfolio was current. Total impaired assets, including performing troubled debt restructurings, were $15.0 million. No new impaired loans were identified in the quarter.
- Funding, debt and liquidity: Deposits increased $6.8 million, primarily from a $12.0 million increase in brokered CDs, partly offset by lower in-market deposits. Brokered CDs were $405.5 million, or 35.7% of deposits; company policy sets a 75% limit and a 50% or lower operating goal. FHLB and other borrowings declined $4.0 million to $7.9 million after repayment of subordinated debt; junior subordinated notes remained $10.3 million. The company reported $256.5 million of immediate on-balance-sheet liquidity and approximately 35 months of brokered-CD maturity coverage. The banks were reported well capitalized; First Business Bank’s total capital ratio was 12.61% and First Business Bank–Milwaukee’s was 14.30%.
- Cash flow and shareholder returns: Operating activities provided $3.0 million; investing activities used $9.9 million and financing activities provided $2.0 million. Cash and cash equivalents decreased $4.9 million during the quarter. Dividends declared were $0.21 per share, versus $0.14 in Q1 2013.
Material changes and management outlook
- Net interest income rose 5.6%, mainly because loan and lease growth and lower deposit funding costs more than offset lower loan yields. Management cited competitive pricing and repricing of commercial real estate loans as pressures on asset yields.
- Non-interest income increased 18.8%, led by a 29.1% increase in trust and investment services fees and higher deposit service charges. Trust assets under management were $787.6 million at quarter-end, up from $660.6 million a year earlier.
- Non-interest expense increased 9.4%, primarily from higher compensation and collateral liquidation costs. Full-time equivalent employees increased to 151 from 143 year over year.
- Management expects loan growth to continue, with new lending expected to exceed normal amortization, while stating it will not relax underwriting standards to pursue growth. It plans to focus on asset quality, in-market transaction deposits, fee revenue and expense efficiency, and may consider opportunistic acquisitions. No numerical earnings or revenue guidance was provided.
- Management expects occasional additions to non-accrual loans and cautions that further improvement may be slower and uneven. It cites risks including local economic conditions, borrower defaults, competition, interest-rate changes, deposit flows and regulatory policy. Loan-loss estimates, collateral values and securities valuations involve judgment; additional provisions or charge-offs may result if conditions or credit assessments change.
- Unusual or notable items: the company repaid $4.0 million of subordinated debt; collateral liquidation costs were $159,000, compared with a $14,000 net recovery in Q1 2013. Securities generated $349,000 of pre-tax unrealized gains in other comprehensive income; no securities sales or other-than-temporary impairment were reported. Management reported no significant subsequent events, no material changes to previously disclosed risk factors or off-balance-sheet arrangements, and effective disclosure controls.
Important facts for investors to verify
- Whether loan growth and improving non-performing asset trends persist, particularly within the commercial real estate and commercial and industrial portfolios.
- Whether the $14.1 million allowance remains adequate as impaired-loan specific reserves, credit conditions and collateral values change.
- How brokered-CD reliance, in-market deposit gathering and the reported 35 months of maturity coverage evolve, including under funding-market stress.
- Whether deposit-cost savings can continue to offset competitive pressure and lower yields on loans, and whether expense growth moderates.
- Whether capital and liquidity remain sufficient to support loan growth, debt service and dividends; dividend capacity is subject to regulatory and bank-level restrictions.