First United Corporation — Q3 2014 Form 10-Q
Reporting period: Quarter and nine months ended September 30, 2014. Unaudited consolidated results; comparisons are with the corresponding 2013 periods unless otherwise noted. Amounts below are in millions of dollars except per-share data and ratios.
Business context
First United is a bank holding company whose principal operating subsidiary is First United Bank & Trust. At September 30, 2014, the Corporation reported $1.332 billion in assets, $812.9 million in net loans, $973.0 million in deposits, and $112.3 million in shareholders’ equity.
Financial performance
| Metric | Q3 2014 | Q3 2013 | Nine months 2014 | Nine months 2013 |
|---|---|---|---|---|
| Interest income | $11.5 | $14.0 | $34.9 | $38.3 |
| Net interest income | $8.8 | $11.0 | $26.7 | $29.5 |
| Provision for loan losses | $0.7 | $(1.1) credit | $1.6 | $(0.2) credit |
| Other operating income | $3.3 | $3.4 | $10.6 | $10.1 |
| Operating expenses | $9.9 | $13.0 | $30.7 | $32.3 |
| Net income | $1.3 | $1.8 | $3.9 | $5.6 |
| Net income available to common shareholders | $0.7 | $1.4 | $2.0 | $4.3 |
| Basic and diluted EPS | $0.10 | $0.22 | $0.32 | $0.69 |
| Fully taxable-equivalent net interest margin | 2.96% | 3.77% | 3.02% | 3.37% |
Management attributed lower earnings mainly to reduced loan interest income and margin compression, plus higher loan-loss provision expense. Lower operating expenses—particularly lower other-real-estate-owned (OREO) costs—partly offset the decline. Nine-month return on average assets was 0.39% and return on average equity was 4.79%, versus 0.56% and 7.52%, respectively, in 2013.
Cash flow: For the first nine months, operating activities provided $3.4 million, investing activities provided $13.2 million, and financing activities used $8.5 million. Cash and cash equivalents increased $8.1 million to $51.1 million. Financing cash flows included $8.4 million of preferred dividends paid.
Financial condition, credit, and capital
| Metric | September 30, 2014 | December 31, 2013 |
|---|---|---|
| Total assets | $1,331.9 | $1,333.5 |
| Gross loans | $824.9 | $810.2 |
| Allowance for loan losses | $12.1 | $13.6 |
| Total deposits | $973.0 | $977.4 |
| Short-term borrowings | $48.0 | $43.7 |
| Long-term borrowings | $182.6 | $182.7 |
| Other real estate owned | $11.6 | $17.0 |
| Shareholders’ equity | $112.3 | $101.3 |
- Loans grew 1.8%; growth in commercial and industrial and residential mortgage lending more than offset declines in commercial real estate and acquisition-and-development loans.
- Non-accrual loans fell to $13.9 million, or 1.69% of loans, from $17.4 million, or 2.15%, at year-end. Loans 30 or more days past due and accruing were 1.11% of loans, down from 2.10%.
- Net charge-offs were $3.2 million for the nine months, versus $0.7 million a year earlier; the annualized net charge-off ratio rose to 0.52% from 0.12%. The allowance was 1.46% of loans, down from 1.81% a year earlier.
- OREO declined by $5.4 million. The company recorded $0.9 million of OREO valuation write-downs during the nine-month period.
- The Corporation and Bank were reported as well capitalized. At September 30, consolidated total risk-based capital was 15.43%, Tier 1 risk-based capital 14.06%, and Tier 1 leverage 11.04%. Bank ratios were 15.73%, 14.56%, and 11.42%, respectively.
- Reported available liquidity included $51.1 million of cash and cash equivalents. The Bank also had $70.0 million available on unsecured correspondent lines, $28.9 million at the Fed Discount Window, and approximately $0.1 million at the FHLB.
Material changes and unusual items
- On June 1, 2014, the Corporation reclassified approximately $107.6 million amortized cost of available-for-sale securities to held-to-maturity. This reduced the available-for-sale portfolio; the transfer-date unrealized loss of about $4.0 million remains in accumulated other comprehensive income and is amortized over the securities’ remaining lives.
- The CDO portfolio had $37.1 million amortized cost and $24.4 million fair value, with $12.7 million net unrealized loss. It is Level 3 and valued using discounted cash-flow estimates and significant unobservable inputs. Management reported no credit-related OTTI charges in the first nine months of 2014.
- The preferred stock dividend rate increased from 5% to 9% on February 15, 2014. The Corporation paid approximately $6.5 million of accumulated preferred dividends in May and resumed quarterly payments after regulatory approval. Common-stock dividends remained suspended.
- The Corporation ended its deferral of interest on trust-preferred debentures in March 2014 and paid accumulated deferred interest. Future trust-preferred interest and Series A preferred dividends remained subject to prior Federal Reserve approval, and Bank dividends to the parent required regulatory approval. In November 2014, the Federal Reserve approved the December payments; future approvals were not assured.
- The company terminated its financial-holding-company election effective September 24, 2014, stating that it did not expect a material financial impact.
Outlook, management commentary, and risks
- Management expected its shift from higher-cost certificates of deposit toward lower-cost money-market and transaction accounts to continue through the rest of 2014. No quantitative earnings or revenue guidance was provided.
- Management said the investment portfolio restructuring better positioned the Corporation for a rising-rate environment. The company was asset-sensitive at quarter-end, but identified interest-rate movements, deposit flows and funding costs, loan demand, competition, and credit quality as key uncertainties.
- Management considered the allowance adequate, but future provision expense depends on loan balances and mix, credit trends, recoveries, collateral values, and qualitative factors. A&D loans had elevated charge-offs during the period.
- Liquidity and capital depend in part on regulatory access and approvals. Failure to obtain approvals for parent-company payments could require renewed deferral of trust-preferred interest or preferred dividends; preferred dividend suspension also restricts common dividends.
- Off-balance-sheet commitments included $104.1 million of loan commitments and $0.9 million of standby letters of credit. Management said it expected most commitments to expire without being drawn.
- The filing reported no legal proceedings, defaults upon senior securities, or material changes in risk factors. Management concluded disclosure controls were effective at a reasonable-assurance level and reported no material change in internal control over financial reporting.
Important facts for investors to verify
- Whether margin pressure and lower loan yields persist, and how the loan and deposit mix affects future net interest income.
- Whether the increase in net charge-offs—particularly in acquisition-and-development lending—signals further credit deterioration despite lower non-accrual loans and OREO.
- The valuation assumptions, liquidity, and potential credit losses in the Level 3 CDO portfolio, including the effect of its substantial unrealized losses.
- Regulatory approval requirements and the Corporation’s capacity to sustain trust-preferred interest and Series A preferred dividends; common dividends remained suspended.
- Whether reported available borrowing capacity and liquidity remain accessible under changing funding, collateral, and regulatory conditions.