First National Corporation 10-Q Summary
Business Context and Reporting Period
First National Corporation is a Virginia bank holding company for First Bank, serving individuals, small and medium-sized businesses, governmental entities and nonprofit organizations in Virginia’s northern Shenandoah Valley. The bank operates 10 branches, 30 ATMs and online and mobile banking services, with lending, deposits, trust, investment advisory and brokerage offerings.
This unaudited Form 10-Q covers the three and six months ended June 30, 2011, with comparisons to the corresponding 2010 periods. The company is a smaller reporting company. It had 2,955,649 common shares outstanding as of August 11, 2011.
Financial Performance and Condition
| Metric | Three Months Ended June 30, 2011 | Three Months Ended June 30, 2010 | Six Months Ended June 30, 2011 | Six Months Ended June 30, 2010 |
|---|---|---|---|---|
| Net interest income | $5.1 million | $5.1 million | $10.0 million | $10.1 million |
| Provision for loan losses | $3.6 million | $1.0 million | $3.8 million | $1.4 million |
| Noninterest income | $1.5 million | $1.5 million | $2.8 million | $2.9 million |
| Noninterest expense | $4.5 million | $4.5 million | $9.1 million | $9.0 million |
| Net income | $(0.9) million | $0.8 million | $0.1 million | $1.8 million |
| Net income (loss) available to common shareholders | $(1.2) million | $0.5 million | $(0.4) million | $1.3 million |
| Basic and diluted EPS | $(0.40) | $0.18 | $(0.13) | $0.45 |
- Second-quarter net interest margin was 4.00%, compared with 4.11% in the prior-year quarter. The six-month margin was 3.94%, compared with 4.06%.
- Second-quarter return on assets was negative 0.69% and return on equity was negative 7.68%, compared with 0.55% and 5.41%, respectively, in the prior-year quarter.
- Six-month return on assets was 0.02% and return on equity was 0.24%, compared with 0.65% and 6.42% in the 2010 period.
- The second-quarter efficiency ratio was 67.58%, compared with 67.22% in the prior-year quarter.
- Total assets increased to $555.2 million at June 30, 2011, from $544.6 million at December 31, 2010. Securities available for sale increased 37% to $82.8 million, while net loans declined to $401.7 million from $419.0 million.
- Total loans declined to $415.5 million from $435.0 million. Real estate loans represented approximately 88% of total loans, including $195.8 million of other real estate loans, $120.6 million of residential loans and $50.7 million of construction loans.
- Deposits increased to $476.5 million from $463.5 million. Other borrowings were $18.1 million, and company-obligated trust preferred securities were $9.3 million.
- Cash and cash equivalents were $29.5 million at June 30, 2011, compared with $23.5 million at December 31, 2010. The company reported $5.2 million of operating cash flow and a $13.5 million increase in cash and cash equivalents during the first six months.
- Available non-deposit funding totaled $131.3 million, including $87.4 million from the Federal Home Loan Bank, $40.0 million of unsecured correspondent-bank federal funds lines and $3.9 million through the Federal Reserve Discount Window. Unused bank credit lines totaled $131.1 million.
- Consolidated total capital and Tier 1 risk-based capital ratios were 14.33% and 13.06%, respectively, at June 30, 2011. First Bank’s ratios were 14.20% and 12.93%; the bank therefore exceeded “well capitalized” thresholds.
Material Changes Versus Prior Comparable Period
- The primary deterioration was credit-related. The loan-loss provision increased by $2.6 million in the second quarter and by $2.4 million for the six-month period.
- Second-quarter net charge-offs were $2.9 million, compared with $0.5 million in the prior-year quarter. Six-month net charge-offs were $6.1 million, compared with $0.9 million in 2010.
- The allowance for loan losses was $13.8 million, or 3.32% of total loans, at June 30, 2011, compared with $16.0 million, or 3.69%, at December 31, 2010. The lower allowance balance reflects charge-offs despite the substantial provision.
- Nonperforming assets increased to $19.3 million, or 3.48% of total assets, from $14.8 million, or 2.71%, at year-end 2010. Nonaccrual loans were $13.6 million and other real estate owned was $5.7 million.
- Impaired loans declined to $33.9 million from $43.9 million at December 31, 2010, while other potential problem loans declined to $54.7 million from $73.3 million.
- Noninterest income was broadly stable. Higher ATM, check-card, trust and investment advisory fees offset lower deposit service-charge income, particularly overdraft fees.
- Cash flow from investing activities changed from $4.3 million provided in the first half of 2010 to $1.8 million used in 2011, primarily because of $31.0 million of securities purchases. Financing activities provided $10.1 million in 2011, compared with $9.6 million used in 2010.
Guidance, Outlook, Risks and Unusual Items
Management does not expect significant changes in net interest income, noninterest income or noninterest expense, excluding other-real-estate-owned provisions, for the remainder of 2011. It expects stable average earning assets and net interest margin, although the shift from loans to securities is expected to create some margin pressure. Management does not anticipate significant improvement in local economic conditions, implying low loan demand and limited deposit growth. Interest-bearing liabilities are expected to reprice modestly lower.
- Future loan-loss and other-real-estate-owned provisions remain dependent on collateral values, charge-offs, local economic conditions and borrower performance. Management believes current reserves and OREO carrying values are appropriate, but acknowledges that additional provisions may be required.
- Credit exposure is concentrated in real estate, including $42.3 million of hotel loans, equal to 10% of total loans and approximately 87% of shareholders’ equity. The company charged down $1.5 million related to this concentration during the first six months of 2011.
- The company reported $58.8 million of commitments, standby letters of credit and rate-lock commitments at June 30, 2011, including $52.1 million of commitments to extend credit and $6.5 million of standby letters of credit.
- The company has $9.3 million of trust preferred securities. One $4.0 million issuance had a fixed 7.26% rate through July 31, 2011 and then converts to a LIBOR-indexed floating rate.
- The board suspended cash dividends on common stock in July 2011 to preserve capital. Preferred stock dividends remained cumulative and totaled $446 thousand for the first six months.
- The portfolio was entirely investment grade, with $82.8 million of available-for-sale securities and only $32 thousand of unrealized losses. Management did not identify other-than-temporary impairment.
- The filing identifies risks from local economic conditions, real estate and hotel concentrations, collateral deterioration, liquidity reliance on wholesale funding, interest-rate movements, access to capital, regulatory changes and market conditions. It also identifies potential adverse effects from the August 2011 U.S. sovereign and agency debt downgrades.
- No material pending legal proceedings were reported. Management concluded that disclosure controls and procedures were effective as of June 30, 2011, with no material changes to internal control over financial reporting.
Most Important Facts for Investors to Verify
- Whether elevated charge-offs, nonperforming assets and hotel and real-estate exposure lead to additional provisions or capital pressure.
- Whether the allowance for loan losses remains adequate after the methodology change to a three-year historical loss period and after further collateral-value changes.
- Whether the planned shift from loans to securities stabilizes earnings or causes further net-interest-margin compression.
- The effect of the common-dividend suspension on capital retention and shareholder returns.
- Availability and cost of Federal Home Loan Bank, correspondent-bank and Federal Reserve funding, particularly during market stress.
- Interest-rate effects from the July 2011 repricing of trust preferred securities and other floating-rate liabilities.
- Potential valuation changes in agency, mortgage-backed, municipal and other securities following the U.S. credit-rating downgrades.