First National Corporation — 2018 Q3 Form 10-Q Summary
Reporting period: Quarter and nine months ended September 30, 2018. The unaudited consolidated statements cover First National Corporation and its banking subsidiary, First Bank. The company operates 15 Virginia banking offices and provides lending, deposit, and wealth management services.
Financial Performance and Position
| Metric | Three months ended Sept. 30 | Nine months ended Sept. 30 |
|---|---|---|
| Net interest income | $7.1 million, up 10% | $20.5 million, up 10% |
| Noninterest income | $2.2 million, up 8% | $6.9 million, up 16% |
| Noninterest expense | $6.0 million, up 2% | $17.7 million, up 2% |
| Net income | $2.7 million vs. $1.8 million | $7.8 million vs. $5.1 million |
| Diluted earnings per share | $0.54 vs. $0.37 | $1.58 vs. $1.04 |
| Net interest margin, tax-equivalent | 4.02% vs. 3.79% | 3.89% vs. 3.74% |
| Efficiency ratio | 62.68% vs. 66.38% | 63.07% vs. 67.51% |
| Return on average assets | 1.41% vs. 1.00% | 1.38% vs. 0.95% |
| Return on average equity | 16.89% vs. 12.78% | 17.17% vs. 12.47% |
Balance sheet: Total assets were $746.5 million at September 30, 2018, up $7.3 million from December 31, 2017. Net loans rose $18.1 million to $535.0 million, while securities increased $9.5 million to $148.6 million. Deposits increased $2.1 million to $667.1 million. Shareholders’ equity increased $5.5 million to $63.7 million.
Cash flow: Operating activities provided $10.3 million during the first nine months, compared with $5.5 million in the prior-year period. Investing activities used $30.3 million, primarily reflecting loan growth and purchases of available-for-sale securities. Financing activities provided $1.5 million. Cash and cash equivalents declined $18.5 million to $21.4 million.
Credit quality: The allowance for loan losses was $4.8 million, or 0.89% of total loans, compared with $5.3 million, or 1.02%, at December 31, 2017. Net charge-offs were $625 thousand year to date, including $579 thousand in consumer loans. Nonperforming assets increased to $2.7 million, or 0.37% of assets, from $1.3 million, or 0.17%, at year-end. OREO declined to zero from $326 thousand.
Debt and liquidity: The company reported $4.96 million of subordinated debt and $9.28 million of junior subordinated debt. The Bank had no FHLB borrowings and had $130.4 million of unused borrowing lines, including $77.6 million from the FHLB. Liquid assets and loans maturing within one year totaled approximately $91.0 million.
Capital: First Bank remained well capitalized. At September 30, 2018, total risk-based capital was 13.25%, Tier 1 risk-based capital was 12.38%, common equity Tier 1 capital was 12.38%, and Tier 1 leverage was 9.07%.
Material Changes Versus Prior Comparable Period
- Quarterly net income increased 46%; year-to-date net income increased 52%, primarily due to higher net interest income, noninterest income, and lower taxes.
- Average earning assets increased 3% in the quarter and 5% year to date. Higher loan yields and market rates increased the net interest margin, although deposit funding costs also rose.
- The federal corporate tax rate reduction under the Tax Cuts and Jobs Act reduced income tax expense by 20% in the quarter and 21% year to date.
- Loan growth was led by construction and land development, commercial and industrial, and residential real estate loans.
- Noninterest income included a $469 thousand bank-owned life insurance benefit related to an employee death and a $126 thousand one-time benefit associated with termination and distribution of the pension plan.
- Available-for-sale and held-to-maturity securities had higher unrealized losses, primarily due to changes in market interest rates rather than issuer credit concerns. Accumulated other comprehensive loss increased to $2.7 million from $958 thousand at year-end.
- The company adopted ASC Topic 606 on January 1, 2018; management reported no material impact on revenue recognition or opening retained earnings.
Outlook, Risks, Contingencies, and Unusual Items
The filing does not provide formal earnings or revenue guidance. Management expects results to remain sensitive to economic and financial-market conditions, loan and deposit growth, competition for deposits, and interest-rate changes.
- Credit risk is concentrated in real estate lending, including commercial real estate and construction and land development loans. Nonperforming assets and past-due loans increased from year-end levels.
- The allowance for loan losses is judgmental and may require additional provisions if economic conditions, collateral values, loan growth, or borrower performance deteriorate. The company is evaluating the future impact of CECL adoption under ASU 2016-13, which may materially change credit-loss accounting.
- Investment securities carried $5.0 million of total unrealized losses at September 30, 2018. Management considered these losses temporary and did not expect to be required to sell the securities before recovery.
- Off-balance-sheet commitments totaled $111.4 million, including $97.0 million of commitments to extend credit, $10.0 million of standby letters of credit, and $4.4 million of locked-rate mortgage commitments.
- Key risks include interest-rate sensitivity, real estate-market conditions, competition, liquidity and funding availability, cybersecurity and operational disruptions, regulatory changes, and potential insufficiency of the loan-loss allowance.
- There were no material changes to previously disclosed risk factors, no material pending legal proceedings, and management concluded that disclosure controls and internal control over financial reporting were effective.
Important Facts for Investors to Verify
- Whether the increase in nonperforming assets and year-to-date consumer-loan charge-offs continues or results in additional provisioning.
- The sustainability of the 4.02% quarterly net interest margin as deposit costs rise and interest rates change.
- The recurrence or absence of the $469 thousand insurance benefit and $126 thousand pension-related benefit included in 2018 noninterest income.
- The effect of rising unrealized securities losses on tangible capital, liquidity, and future securities sales.
- The company’s implementation plan and eventual quantified impact of CECL, effective for SEC filers after December 15, 2019.
- Future loan and deposit growth, available borrowing capacity, and compliance with capital-conservation-buffer requirements.