Business Context and Reporting Period
Equity Bancshares, Inc. is a Wichita, Kansas-based bank holding company whose wholly owned subsidiary, Equity Bank, provides commercial, consumer, mortgage and treasury services through 49 branches in Arkansas, Kansas, Missouri and Oklahoma. This Form 10-K covers the fiscal year ended December 31, 2018, with audited comparisons for 2017 and 2016. The company remained an emerging growth company.
Growth was driven by organic commercial banking and three 2018 acquisitions: Kansas Bank Corporation and Adams Dairy Bancshares on May 4, and City Bank and Trust on August 23. The company also completed the acquisition of three MidFirst Bank branches on February 8, 2019.
Key Financial Metrics
| Metric | 2018 | 2017 | Change |
|---|---|---|---|
| Net income | $35.8 million | $20.6 million | +73.5% |
| Diluted EPS | $2.28 | $1.62 | +40.7% |
| Net interest income | $124.8 million | $86.0 million | +45.1% |
| Provision for loan losses | $4.0 million | $3.0 million | +$1.0 million |
| Total non-interest income | $19.7 million | $15.4 million | +27.8% |
| Total non-interest expense | $94.4 million | $67.5 million | +39.9% |
| Total assets | $4.06 billion | $3.17 billion | +28.1% |
| Total deposits | $3.12 billion | $2.38 billion | +31.1% |
| Net loans held for investment | $2.56 billion | $2.11 billion | +21.6% |
| Total stockholders’ equity | $455.9 million | $374.1 million | +21.9% |
Net interest margin was 3.81%, down slightly from 3.83%, as funding costs increased faster than asset yields. Loan yield increased to 5.74% from 5.43%, while the cost of interest-bearing liabilities increased to 1.34% from 0.88%. The efficiency ratio improved to 60.14% from 61.39%, excluding merger-related and other specified items. Return on average assets was 1.00%, return on average equity was 8.52%, and return on average tangible common equity was 13.43%.
Loan quality improved in several headline measures: nonperforming assets declined to $39.6 million, or 0.97% of assets, from $48.2 million, or 1.52%; net charge-offs were $1.0 million, or 0.05% of average loans; and the allowance for loan losses increased to $11.5 million, or 0.44% of loans, from $8.5 million, or 0.40%. Potential problem loans increased to $52.9 million from $21.1 million.
Cash Flow, Debt and Liquidity
- Net cash provided by operating activities was $36.7 million.
- Net cash used in investing activities was $171.5 million, primarily reflecting loan growth, securities purchases and capital expenditures.
- Net cash provided by financing activities was $275.4 million, supported by deposit growth and additional borrowings.
- Cash and cash equivalents increased to $192.8 million from $52.2 million.
- Borrowings totaled approximately $464.7 million, including $384.9 million of Federal Home Loan Bank advances, $50.1 million of repurchase agreements, a $15.5 million bank stock loan and $14.3 million of subordinated debentures.
- The bank stock loan is secured by all of the stock of Equity Bank; the facility had a $40.0 million maximum commitment after a March 2019 amendment.
- Off-balance-sheet commitments totaled $477.7 million, including $470.5 million of commitments to extend credit and $7.2 million of standby and performance letters of credit.
Material Changes and Unusual Items
- Acquisitions added approximately $619 million of assets, $319 million of loans and $512 million of deposits at closing, before purchase accounting effects. Consideration included cash and 1.16 million shares of Class A common stock for KBC and Adams, and $18.9 million of cash for City Bank.
- Merger expense increased to $7.5 million from $5.4 million. Salaries and employee benefits increased 41.4%, and data-processing expense increased 64.3%, reflecting acquisition integration and expansion.
- Goodwill increased to $131.7 million from $104.9 million, and core deposit intangibles increased to $21.7 million from $10.7 million.
- Income tax expense was $10.4 million, with an effective rate of 22.4%, compared with 33.5% in 2017. The 2017 period included a $1.1 million tax reform-related charge.
- Fourth-quarter 2018 net income was $9.9 million, or $0.62 diluted EPS, compared with $4.3 million, or $0.31 diluted EPS, in fourth-quarter 2017.
- After year-end, two related borrowers filed for Chapter 11 bankruptcy. The company had approximately $28.3 million of exposure, recorded no specific impairment as of December 31, 2018, and stated that ultimate repayment was expected based on asset values, while acknowledging uncertainty.
Guidance, Outlook and Principal Risks
The filing provides no formal earnings, revenue or margin guidance. Management expects to continue pursuing selective community-bank acquisitions, commercial loan growth in metropolitan markets and deposit growth in community markets. Management states that the allowance was adequate for probable incurred losses at year-end, but future losses could be substantial relative to the allowance.
- Credit risk is concentrated geographically in Arkansas, Kansas, Missouri and Oklahoma and by portfolio mix, with approximately 71% of loans in commercial real estate and commercial and industrial categories.
- The ten largest loan relationships totaled approximately $240.3 million, or 9.3% of loans. The ten largest non-brokered depositors represented approximately $322.5 million, or 10.3% of deposits.
- Rising interest rates could pressure net interest income through higher deposit and borrowing costs. The filing’s modeled immediate impact on twelve-month net interest income was negative 3.8% for a 100-basis-point increase and negative 13.0% for a 300-basis-point increase.
- CECL adoption is required beginning in the first quarter of 2020. Management expects a cumulative adjustment to the allowance but had not determined the amount and indicated that the allowance may increase materially.
- Acquisition integration, goodwill impairment, deposit retention, liquidity, regulatory capital, cybersecurity, third-party technology providers, legal proceedings and changes in banking regulation remain material risks.
- The company has not historically paid common-stock dividends and does not expect to do so in the foreseeable future.
Important Facts for Investors to Verify
- Review the subsequent-event accounting and collectability assumptions for the approximately $28.3 million exposure to borrowers that filed for bankruptcy.
- Assess the sustainability of earnings growth after excluding acquisition-related expenses, purchase-accounting accretion and other nonrecurring items.
- Evaluate CECL implementation progress and the eventual effect on the allowance, retained earnings and regulatory capital.
- Monitor commercial real estate concentrations, classified loans and the increase in potential problem loans.
- Verify deposit concentration, brokered and CDARS funding, FHLB borrowing capacity and the company’s ability to maintain liquidity as loan growth continues.
- Review the terms and collateralization of the $15.5 million bank stock loan and related capital-ratio covenants.
- Review the CitiMortgage litigation and potential future mortgage repurchase or indemnification claims.