Citizens Financial Services, Inc. — FY 2011 Form 10-K
Business context and reporting period
The filing reports the fiscal year ended December 31, 2011, with 2010 as the principal comparison. Citizens is a Pennsylvania bank holding company whose results are driven mainly by First Citizens National Bank, a community bank serving north-central Pennsylvania and southern New York. Its activities include retail and commercial banking, lending, trust and investment services, and insurance brokerage.
Financial performance and condition
| Metric | FY 2011 | FY 2010 |
|---|---|---|
| Interest income | $38.293 million | $39.000 million |
| Net interest income | $28.610 million | $27.660 million |
| Net interest margin | 3.94% | 4.19% |
| Provision for loan losses | $0.675 million | $1.255 million |
| Net income | $12.832 million | $11.502 million |
| Earnings per share | $4.40 | $3.93 |
| Return on assets / return on equity | 1.52% / 17.86% | 1.50% / 18.13% |
| Total assets | $878.6 million | $812.5 million |
| Loans, gross | $487.5 million | $473.5 million |
| Deposits | $734.0 million | $680.7 million |
| Borrowed funds | $53.9 million | $56.0 million |
| Stockholders’ equity | $81.5 million | $68.7 million |
Non-interest income was $7.029 million including $0.334 million of net securities gains; the filing’s selected financial data presents $6.695 million excluding those gains. Non-interest expense was $18.522 million, up 2.2%. Net interest income on a tax-equivalent basis increased 4.3% to $31.343 million, while the reported GAAP amount was $28.610 million.
Operating cash flow was $15.564 million; investing activities used $76.137 million and financing activities provided $47.010 million. Cash and cash equivalents declined $13.563 million to $30.432 million. Management cited deposit growth, liquid available-for-sale securities and borrowing capacity as liquidity sources, including up to approximately $246 million of FHLB borrowing capacity. The Bank was classified as well capitalized: total risk-based capital was 15.29%, Tier 1 risk-based capital 14.03%, and Tier 1 leverage 8.28%.
Material changes versus the prior comparable period
- Net income rose 11.6%, supported by higher net interest income, increased fee income and a lower loan-loss provision.
- Interest expense fell $1.657 million, but interest income also declined $0.707 million as asset yields fell. The net interest margin contracted 25 basis points to 3.94%.
- Deposits grew 7.8%; loans grew 3.0%, led by commercial real estate and municipal lending. The investment portfolio increased 26.9% to $318.8 million, while cash declined.
- Nonperforming loans fell 24.8% to $9.440 million, and nonperforming assets were $10.300 million. However, total troubled debt restructurings rose to $5.613 million from $0.130 million.
- Shareholders’ equity increased 18.6%, including a $3.895 million increase in accumulated other comprehensive income, largely from unrealized gains on securities.
Outlook, management commentary, risks and unusual items
- Management provided no specific earnings or growth guidance. It anticipated continued pressure on margins if the yield curve flattened further or inverted, and said its short-term securities reinvestment strategy was intended to preserve future reinvestment flexibility.
- Management expected a national-bank-to-Pennsylvania-chartered bank conversion, subject to regulatory approval, in the second or third quarter of 2012; the application was submitted in January 2012.
- Local results are meaningfully exposed to the Marcellus Shale gas industry, which supported deposits and real estate values but creates concentration risk if drilling activity, prices or regulation weaken. The bank is also geographically concentrated and has substantial commercial real estate exposure.
- Credit risk remains important: 56.9% of nonperforming loans were associated with one restructured customer relationship, and three customer relationships represented approximately 86.3% of nonperforming loans. The allowance was $6.487 million, or 1.33% of loans and 68.7% of nonperforming loans.
- Other risks include interest-rate movements, competitive pressure, regulatory and compliance costs, and possible increases in FDIC assessments. The filing reports $1.4 million of prepaid FDIC assessments remaining to be charged against future earnings at year-end.
- Unusual items included a $54,000 other-than-temporary impairment charge on an equity security, net securities gains of $334,000, and a $135,000 provision for off-balance-sheet items. The filing also reports a $5.4 million commercial relationship restructured under a forbearance agreement and classified as a TDR.
- The company declared $1.16 per share in cash dividends and distributed a 1% stock dividend. The board authorized an additional repurchase program of up to 140,000 shares in January 2012.
Most important facts for investors to verify
- Whether the decline in net interest margin persists and how deposit costs and asset yields respond to interest-rate changes.
- The status, collateral and repayment performance of the large nonperforming and restructured commercial credits, including the major TDR relationship.
- Whether Marcellus Shale activity remains supportive of local borrowers, deposit flows and collateral values, and the extent of related credit concentrations.
- Whether deposit growth and available borrowing facilities continue to support liquidity as the bank invests and lends.
- The effect of the proposed charter conversion, evolving banking regulation and FDIC assessment costs on operations and capital distributions.
The independent auditor issued an unqualified opinion on the consolidated financial statements and internal controls; management reported no material weaknesses.