Business Context and Reporting Period
First Community Corporation, through First Community Bank, provides commercial and retail banking, mortgage banking, investment advisory, and related financial services. This unaudited Form 10-Q covers the three and six months ended June 30, 2020, with comparative periods ended June 30, 2019, and balance-sheet comparisons to December 31, 2019. The filing was signed August 10, 2020.
Key Financial Metrics
| Metric | Q2 2020 | Q2 2019 | Six months 2020 | Six months 2019 |
|---|---|---|---|---|
| Net interest income | $9.7 million | $9.1 million | $19.2 million | $18.1 million |
| Provision for loan losses | $1.3 million | $9 thousand | $2.3 million | $114 thousand |
| Non-interest income | $3.4 million | $3.2 million | $6.3 million | $5.7 million |
| Non-interest expense | $9.1 million | $8.6 million | $18.2 million | $17.0 million |
| Net income | $2.2 million | $2.9 million | $4.0 million | $5.4 million |
| Diluted EPS | $0.30 | $0.37 | $0.54 | $0.70 |
| Net interest margin | 3.35% | 3.64% | 3.43% | 3.66% |
- Net income declined 23.0% in the second quarter and 25.4% for the first six months, primarily because of higher loan-loss provisions and operating expenses.
- Net interest income increased 6.9% in Q2 and 5.6% year to date, despite margin compression from lower interest rates, PPP loans, and excess liquidity invested in lower-yielding assets.
- Mortgage banking income increased to $1.6 million in Q2 and $2.6 million year to date. Investment advisory and non-deposit commissions increased to $671 thousand in Q2 and $1.3 million year to date.
- Total assets were $1.325 billion at June 30, 2020, up from $1.170 billion at December 31, 2019. Gross loans increased 10.9% to $817.4 million, including $47.9 million of net PPP loans.
- Total deposits increased 13.2% to $1.119 billion. Non-interest-bearing deposits increased to $371.6 million from $289.8 million.
- The allowance for loan losses was $8.9 million, or 1.09% of loans, compared with $6.6 million, or 0.90%, at December 31, 2019. Net loans were $808.4 million.
- Cash and cash equivalents were $92.9 million at June 30, 2020, compared with $39.3 million at June 30, 2019. Operating cash flow was negative $11.9 million and investing cash flow was negative $84.3 million for the six months; financing cash flow was positive $141.4 million, primarily from deposit growth.
- Outstanding borrowings included $45.7 million of securities sold under repurchase agreements and $15.0 million of junior subordinated debt. No FHLB advances were outstanding at June 30, 2020.
- Shareholders’ equity increased to $130.8 million from $120.2 million at year-end, primarily from net income and a $7.9 million increase in accumulated other comprehensive income from unrealized securities gains.
- The Bank remained well capitalized: leverage ratio 9.31%, Common Equity Tier 1 ratio 13.02%, Tier 1 capital ratio 13.02%, and total capital ratio 14.03%.
Material Changes Versus Prior Comparable Period
- COVID-19-related qualitative adjustments drove the increase in the loan-loss provision from $114 thousand to $2.3 million for the first six months.
- The net interest margin fell 23 basis points year to date and 29 basis points in Q2. Average earning assets increased 12.5% year to date and 16.5% in Q2, partially offsetting lower asset yields.
- Average loan balances increased 8.7% year to date and 13.2% in Q2, while loan yields declined to 4.55% and 4.40%, respectively.
- Non-interest expense increased primarily from higher salaries and benefits, data processing, remote-work technology, cleaning, personal protective equipment, and other pandemic-related costs.
- Deposit service charges declined because customers held higher balances from PPP proceeds and other stimulus funds. Mortgage production increased to $89.2 million year to date and $53.9 million in Q2.
- Cash flow shifted materially toward financing sources: financing cash inflow increased from $13.0 million in the first six months of 2019 to $141.4 million in 2020, largely reflecting deposit growth.
Outlook, Risks, Contingencies, and Unusual Items
- Management provided no formal earnings or financial guidance. It expects the Bank to remain well capitalized through the pandemic based on capital, underwriting, and internal stress testing, but acknowledged that future credit losses could reduce regulatory capital.
- COVID-19 created substantial uncertainty regarding borrowers, collateral values, demand, interest margins, credit losses, liquidity, operations, and the pace of economic recovery.
- Payment deferrals covered $175.0 million of loans at June 30, 2020, up from $118.3 million at March 31 and $0 at December 31, 2019. Deferrals peaked at $206.9 million during Q2 and declined to $64.3 million at July 31, 2020.
- The Bank funded 770 PPP loans totaling $50.1 million in principal; net of payoffs, 766 loans totaled $49.4 million gross and $47.9 million net of deferred fees and costs. PPP participation creates risks relating to eligibility, forgiveness, SBA guarantees, servicing, litigation, and agent-fee claims.
- The Company disclosed that it was named in a potential class-action lawsuit concerning PPP agent fees. Management believes the claim is meritless and intends to defend it.
- Asset quality remained comparatively strong at June 30: non-performing assets were $3.3 million, or 0.25% of assets; nonaccrual loans were $1.8 million; and loans past due 30 days or more represented 0.04% of total loans.
- Credit concentration remains a risk: approximately 85.6% of loans were secured by real estate. COVID-sensitive exposures included retail of $78.7 million, hotels of $28.8 million, restaurants of $20.7 million, and assisted living of $9.1 million.
- The Company expects to adopt the CECL credit-loss model in 2023 and stated that the adoption could materially increase the allowance and create earnings volatility.
- Unused commitments to extend credit totaled $129.6 million, including $41.3 million of unused home-equity lines. Management stated that liquidity was ample, supported by deposits, $60.0 million of federal-funds purchased lines, a $10.0 million Federal Reserve Discount Window line, FHLB borrowing capacity, and PPPLF eligibility.
- A quarterly cash dividend of $0.12 per share was approved, payable August 17, 2020.
- Management reported no material subsequent events requiring disclosure and no material pending legal proceedings other than ordinary-course claims and the disclosed PPP litigation.
Investor Verification Priorities
- Verify the performance and credit quality of deferred loans as payment accommodations expire, including the subsequent decline in deferred balances reported at July 31, 2020.
- Assess whether the $8.9 million allowance adequately reflects COVID-19 exposure, real-estate collateral risk, hospitality and retail concentrations, and potential future CECL effects.
- Monitor PPP loan forgiveness, SBA reimbursement, deferred-fee recognition, agent-fee litigation, and any SBA challenges to loan eligibility or servicing.
- Reconcile the allowance figures across the filing: the balance sheet and loan note report $8.936 million at June 30, while one MD&A table presents a $8.956 million total.
- Track margin pressure from the low-rate environment, excess liquidity, PPP loan yields, deposit pricing, and changes in interest-rate sensitivity.
- Confirm that regulatory capital remains above well-capitalized thresholds as credit losses, asset growth, dividends, and accumulated other comprehensive income change.