Norwood Financial Corp. — Q3 2017 Form 10-Q
Reporting period: Quarter and nine months ended September 30, 2017. Dollar amounts are in millions unless stated otherwise. Norwood is a bank holding company operating through Wayne Bank, primarily in northeastern Pennsylvania and parts of New York. The prior-year comparison includes the effects of the July 2016 acquisition of Delaware Bancshares, so year-over-year results reflect both acquired scale and organic activity.
Financial results and condition
| Metric | Q3 2017 | Q3 2016 | Nine months 2017 | Nine months 2016 |
|---|---|---|---|---|
| Net interest income, GAAP | $8.87 | $7.57 | $26.02 | $20.14 |
| Provision for loan losses | $0.60 | $0.45 | $1.80 | $1.60 |
| Other income | $1.86 | $1.40 | $5.16 | $3.69 |
| Other expenses | $6.24 | $7.68 | $18.98 | $16.56 |
| Net income | $2.94 | $0.61 | $8.04 | $4.37 |
| Basic / diluted EPS | $0.47 / $0.47 | $0.10 / $0.10 | $1.29 / $1.28 | $0.77 / $0.77 |
EPS is restated for the 50% stock dividend declared in August 2017. Q3 return on average assets/equity was 1.03%/9.85%; nine-month returns were 0.96%/9.30%. The tax-equivalent net interest margin was 3.60% in Q3 (3.50% prior year) and 3.55% year to date (3.65% prior year). The nine-month effective tax rate was 22.7%, versus 23.0%.
At September 30, 2017, total assets were $1.132 billion, up from $1.111 billion at year-end 2016. Loans were $756.0 million, up $42.1 million; securities available for sale were $285.7 million, down $16.9 million. Deposits were $924.0 million, nearly unchanged from year-end. Stockholders’ equity was $117.7 million, versus $111.1 million.
Cash and cash equivalents were $14.3 million. Management reported $300.0 million of cash and available-for-sale securities as liquidity, equal to 26.5% of assets, compared with $319.8 million and 28.8% at year-end. Nine-month cash flow was $12.4 million provided by operations, $23.8 million used in investing, and $8.5 million provided by financing; cash declined $2.9 million.
Borrowings totaled $79.0 million: $47.2 million short-term and $31.8 million other borrowings. Short-term borrowings increased $14.4 million from year-end; other borrowings were nearly unchanged. Regulatory capital ratios included Tier 1 capital to average assets of 9.39%, Tier 1 and Common Equity Tier 1 to risk-weighted assets of 13.15%, and total capital to risk-weighted assets of 14.12%. The company said it and the Bank complied with applicable capital requirements, including the capital conservation buffer.
Material changes and operating drivers
- Net income rose substantially year over year, largely reflecting higher net interest income after the Delaware acquisition and $1.7 million of merger-related expenses in Q3 2016. Q3 2017 had no merger-related expense.
- Nine-month net interest income increased $5.9 million, while average earning assets increased $258.1 million, primarily from the acquisition. The nine-month margin declined year over year as the acquired balance-sheet mix affected yields; Q3 margin improved.
- Loan growth included increases in commercial real estate and consumer lending. Nonperforming loans were $2.0 million, or 0.27% of loans, versus $1.9 million and 0.27% at year-end. Nonperforming assets declined to $6.25 million, or 0.55% of assets, from $7.23 million, or 0.64%.
- The allowance for loan losses increased to $7.76 million, or 1.03% of loans, from $6.46 million, or 0.91%. Nine-month net charge-offs were $0.50 million, down from $2.73 million in the prior-year period.
- Deposits fell $1.4 million since year-end, including a $22.5 million decline in large time deposits, partly offset by growth in other deposits. The Bank sold a community office and $13.7 million of deposits in Q1; the sale contributed a reported $0.21 million gain.
Outlook, risks and unusual items
- No specific earnings or financial guidance was provided. Management said liquidity and the allowance for loan losses were adequate, while cautioning that future losses could exceed the allowance.
- Interest-rate exposure merits attention: a modeled 200-basis-point decline exceeded the company’s policy limit by 0.09%; a 200-basis-point rise was within policy limits. Management described the 90-day interest-sensitivity gap as positive $26.7 million.
- Key disclosed risks include commercial lending and real-estate collateral, regional economic conditions, interest-rate and liquidity risk, acquisition integration and goodwill impairment, cybersecurity, regulation, competition, and availability of capital.
- Commercial rental and hospitality/lodging loans were concentrations of $81.3 million (10.8% of loans) and $53.8 million (7.1%), respectively. Off-balance-sheet commitments and letters of credit totaled $108.1 million, including $42.0 million of loan commitments and $60.2 million of unfunded credit lines.
- Available-for-sale securities had $4.08 million of gross unrealized losses at quarter-end. Management attributed these to interest-rate changes, considered them temporary, and recorded no other-than-temporary impairment in 2017.
- The company expected the new credit-loss standard (CECL) to require a one-time allowance adjustment upon adoption, but said the amount and overall impact could not yet be determined. It estimated the future lease-standard effect at less than a 1% increase in assets and liabilities.
- Management reported effective disclosure controls and no material change in internal control over financial reporting during the quarter. The filing reported no material changes to previously disclosed risk factors.
Important facts for investors to verify
- How much of earnings growth reflects sustainable organic performance versus acquisition-related scale and the absence of prior-year merger costs.
- Whether loan growth, criticized commercial real estate exposure, charge-offs, and the allowance remain consistent with management’s credit-risk assumptions.
- How deposit mix, funding costs, borrowing reliance, and available liquidity respond to interest-rate changes and deposit competition.
- The sensitivity of net interest income and securities values to rate movements, especially the modeled downside-policy exception and unrealized securities losses.
- The eventual CECL adoption adjustment, and whether goodwill or other acquired assets require impairment or valuation changes.