Unity Bancorp, Inc. — Q3 2011 Form 10-Q
Reporting period: Quarter and nine months ended September 30, 2011. Unaudited consolidated results include Unity Bank. Unity operates 14 branches in New Jersey and Pennsylvania.
Financial performance and condition
| Metric | Q3 2011 | Nine months 2011 |
|---|---|---|
| Net interest income | $7.35 million | $22.30 million |
| Provision for loan losses | $1.40 million | $5.65 million |
| Noninterest income | $1.65 million | $4.36 million |
| Noninterest expense | $6.10 million | $18.51 million |
| Net income | $1.09 million | $1.95 million |
| Income available to common shareholders | $700,000; $0.09 diluted EPS | $786,000; $0.10 diluted EPS |
- Quarterly comparison: Net income available to common shareholders rose from $341,000 ($0.05 diluted EPS) in Q3 2010. Management attributed the improvement to higher noninterest income, lower expenses—especially FDIC insurance—and a lower loan-loss provision.
- Year-to-date comparison: Common income fell from $1.02 million ($0.14 diluted EPS) in the first nine months of 2010. Higher loan-loss provision and OREO expenses, plus $215,000 of branch closure costs, offset lower FDIC assessments and stronger fee and securities-sale income.
- Interest margin: Net interest margin was 3.85% in Q3, up from 3.66% a year earlier; it was 3.88% year to date, up from 3.58%. Reported net interest income was nearly flat year over year in Q3 and increased modestly year to date as funding costs fell faster than asset yields.
- Balance sheet at September 30: Assets were $820.7 million; total loans $603.6 million; deposits $654.2 million; and shareholders’ equity $73.1 million. Total borrowings and subordinated debentures were $90.5 million.
- Cash flow and liquidity: Cash and cash equivalents increased $46.2 million to $90.1 million. Nine-month operating cash flow was $13.6 million and investing cash flow $33.5 million; financing used $945,000. The company reported $66.9 million of additional FHLB borrowing capacity.
- Capital: Unity Bank reported a 9.19% leverage ratio, 11.93% Tier 1 risk-based capital ratio and 14.57% total risk-based capital ratio, exceeding the filing’s “well-capitalized” thresholds.
Material changes and credit quality
- Total loans declined 2.0% from year-end 2010; assets were up 0.3%. Deposits were nearly unchanged, while the mix shifted toward savings deposits and away from time deposits.
- The allowance for loan losses rose to $16.4 million, or 2.72% of loans, from $14.4 million, or 2.33%, at year-end. Nine-month provision increased to $5.65 million from $4.50 million, while net charge-offs declined to $3.57 million from $4.18 million.
- Nonperforming loans were $20.6 million, down from $21.7 million at year-end and $27.3 million a year earlier. Nonperforming assets were $24.2 million, including $3.6 million of OREO. Nonperforming loans were 3.41% of loans, including TDRs.
- Troubled debt restructurings totaled $21.3 million across 23 loans; $3.8 million were nonaccrual. No principal forgiveness was reported. OREO increased $1.2 million from year-end, reflecting transfers into OREO partly offset by property sales.
- Commercial lending and residential mortgages increased from year-end, while SBA, SBA 504 and consumer balances declined. Hotel/motel loans represented approximately 10.3% of total loans; the company said it was no longer financing such properties.
Outlook, commentary and risks
- The filing provides no quantified earnings or business guidance. Management cited historically low interest rates, weak loan demand and continuing recession-related borrower stress as operating conditions.
- Management said it was holding elevated cash balances because available bond-market returns did not justify the duration and pricing risk. Approximately 95% of the investment portfolio had fixed rates.
- Two underperforming branches were closed during Q3; related residual lease and fixed-asset disposal expenses were recorded in Q2. The FDIC’s change to an assets-based assessment method reduced deposit insurance expense.
- Nine-month tax expense included a $258,000 reversal of a valuation reserve on a net operating loss deferred tax asset; excluding it, management reported an effective tax rate of 32.3%, versus the reported 21.9%.
- The company cited risks from economic and real-estate weakness, credit quality and collateral values, interest-rate changes, and possible disruption following the U.S. credit-rating downgrade. It also noted the risk that SBA loan guarantees may not be honored if underwriting requirements are not met.
- The company had received $20.6 million of Treasury CPP preferred stock. It said it was preserving capital and would resume common dividends when earnings and credit quality improve; CPP terms restrict dividends. Management reported no known legal proceedings expected to have a material adverse effect.
Key facts for investors to verify
- Whether the higher allowance and lower nonperforming-loan balance adequately reflect continued stress, including the $21.3 million TDR portfolio and rising OREO balance.
- Performance and collateral exposure of commercial real-estate, hotel/motel and SBA loans, including the collectability of SBA guarantees.
- Sustainability of margin improvement in a prolonged low-rate environment and the effect of declining loan balances and demand.
- How much earnings depend on securities and loan-sale gains, FDIC assessment savings, and the one-time tax valuation-reserve reversal.
- Liquidity and funding sensitivity to short-duration government and municipal deposits, and the availability of pledged collateral for additional FHLB borrowing.
- Progress on restoring consistent common earnings and the conditions required to resume dividends under CPP restrictions.