First Capital, Inc. — 2015 Form 10-K
Business context and reporting period. This is the annual report for the fiscal year ended December 31, 2015, not a standalone fourth-quarter filing. First Capital is a bank holding company operating primarily through First Harrison Bank, serving southern Indiana and the Louisville, Kentucky area. On December 4, 2015, it acquired Peoples Bancorp of Bullitt County, expanding into Bullitt County, Kentucky; acquired results are included only from that date.
Financial results and condition
| Metric | 2015 | 2014 |
|---|---|---|
| Total assets at year-end | $715.8 million | $472.8 million |
| Net loans at year-end | $359.2 million | $300.6 million |
| Deposits at year-end | $637.2 million | $412.6 million |
| Interest income | $18.7 million | $18.4 million |
| Net interest income | $17.7 million | $17.3 million |
| Provision for loan losses | $50,000 | $190,000 |
| Net income attributable to First Capital | $5.2 million | $5.6 million |
| Diluted earnings per share | $1.87 | $2.03 |
| Net cash provided by operating activities | $6.0 million | $6.9 million |
- Profitability and margins: Net interest margin was 4.03%, down from 4.14%; return on average assets was 1.06% versus 1.22%, and return on average equity was 8.65% versus 10.09%. The efficiency ratio rose to 68.4% from 63.5%.
- Acquisition-adjusted performance: Management said 2015 net income would have been $6.0 million, or $2.16 per diluted share, excluding one-time acquisition-related expenses and purchase-accounting effects. The filing does not provide a standalone, fully comparable pro forma measure on that same adjusted basis for 2014.
- Cash and liquidity: Year-end cash and cash equivalents were $109.2 million; including interest-bearing time deposits, cash and deposits with banks totaled $125.8 million. Available-for-sale securities had a fair value of $186.8 million. Management intended to invest excess liquidity in loans and securities in 2016.
- Funding and debt: Deposits were the primary funding source. There were no FHLB advances or retail repurchase agreements outstanding at year-end; the Bank also had an unused $5.0 million federal funds line. The parent had no balance on its $1.0 million revolving line of credit. Nearly $48.8 million of time deposits were scheduled to mature within one year.
- Capital: The Bank reported a 12.15% Tier 1 leverage ratio, 15.26% Tier 1 risk-based and common equity Tier 1 ratios, and a 16.07% total risk-based capital ratio. It was categorized as well capitalized.
- Dividends: The annual dividend remained $0.84 per share. Payment remains subject to earnings, capital, legal and regulatory restrictions.
Material changes versus 2014
- The Peoples acquisition added $240.5 million of assets and $209.1 million of deposits at acquisition, and was funded with $14.7 million cash and 580,017 First Capital shares valued at $14.8 million. It generated $1.1 million of goodwill and a $1.4 million core deposit intangible. Acquisition costs were $1.0 million.
- Net income fell by about 7%, despite net interest income increasing 2.6%. Higher noninterest expense, including acquisition and integration costs, was the main reported pressure; noninterest expense rose 10.8% to $15.6 million.
- Loans grew by $58.7 million and deposits by $224.5 million, largely reflecting acquired Peoples balances. Securities available for sale increased to $186.8 million from $100.2 million, while cash and cash equivalents rose to $109.2 million from $33.2 million.
- Net charge-offs increased to $1.5 million from $266,000, chiefly due to a $1.2 million commercial-loan charge-off that had been fully reserved in prior periods. The allowance declined to $3.4 million from $4.8 million, or 0.93% of gross loans versus 1.57%; acquired loans were recorded at fair value without a carried-over allowance.
- Nonperforming assets increased to $9.5 million, or 1.32% of total assets, from $3.3 million, or 0.70%. The acquired Peoples portfolio accounted for $6.3 million of year-end nonperforming assets, including $4.3 million of foreclosed real estate.
- The fourth-quarter unaudited net income attributable to First Capital was $1.106 million ($0.38 diluted per share), compared with $1.255 million ($0.45) in fourth-quarter 2014.
Outlook, commentary, risks and unusual items
- No formal earnings or revenue guidance is provided. Management identified 2016 priorities as integrating Peoples, growing loans and demand deposits, expanding secondary-market mortgage lending in Bullitt County, and reducing nonperforming assets through collections and sales of foreclosed property.
- The Bank’s principal risks include interest-rate sensitivity, credit losses, commercial real estate and business lending, local economic conditions, deposit competition, regulatory change, cybersecurity and third-party technology dependence. Fixed-rate loans were 54.9% of loans at year-end. The interest-rate simulation projected a 1% rate increase would lift one-year net interest income by 1.86%, while a 1% decrease would reduce it by 5.44%; management cautioned that model results are not guarantees.
- Management said it expected the Bank to meet Basel III capital requirements on a fully phased-in basis. The 2015 financial statements were audited, and the auditor issued an unqualified opinion; the auditor did not attest to internal control effectiveness. Management reported controls were effective.
- The acquisition included foreclosed properties valued at $3.75 million subject to potential additional cash consideration: former Peoples shareholders may receive half of sale proceeds above that value if specified sale conditions are met within the contractual period. No sale contract or contingent consideration was anticipated at year-end.
- Following the acquisition, the Bank expected to meet the tax definition of a “large bank” in 2016 and switch bad-debt deduction methods. Its experience-method reserves were expected to be recaptured into taxable income over four years through 2019.
- Management disclosed immaterial cyber-attacks or breaches during the year, with no material losses reported. It also cited economic weakness and elevated past-due loan levels in its market as factors in credit-loss estimates.
Important facts for investors to verify
- How much of post-acquisition asset-quality deterioration and charge-offs is resolved, and whether the allowance remains adequate as acquired loans season.
- Progress in selling Peoples-related foreclosed real estate, including any contingent payment obligation tied to the $3.75 million property valuation.
- Whether integration costs, deposit retention, loan growth and expected cost savings develop as management anticipated; 2015 includes Peoples for only the final weeks.
- The sustainability of earnings and net interest margin amid low rates, fixed-rate loan exposure, competition and the modeled downside in a rate-decrease scenario.
- The effect of the expected 2016 tax-method change and four-year bad-debt reserve recapture on tax expense and cash taxes.
- Regulatory capital and dividend capacity, including the Bank’s ability to upstream dividends to the parent company.