First United Corporation (NASDAQ: FUNC) — Q2 2019 Form 10-Q
Reporting period: Quarter and six months ended June 30, 2019; filed August 8, 2019. Unaudited consolidated results. First United is a bank holding company whose principal subsidiary is First United Bank & Trust, serving markets in Western Maryland and Northeastern West Virginia.
Financial performance
| Metric | Three months ended June 30 | Six months ended June 30 |
|---|---|---|
| Net interest income | 2019: $11.527 million; 2018: $10.868 million | 2019: $22.873 million; 2018: $21.450 million |
| Net interest margin, fully tax-equivalent | 2019: 3.68%; 2018: 3.73% | 2019: 3.70%; 2018: 3.71% |
| Other operating income, including net gains | 2019: $3.939 million; 2018: $3.882 million | 2019: $7.660 million; 2018: $7.592 million |
| Other operating expenses | 2019: $11.741 million; 2018: $10.625 million | 2019: $22.431 million; 2018: $21.316 million |
| Provision for loan losses | 2019: $333,000; 2018: $269,000 | 2019: $682,000; 2018: $716,000 |
| Net income | 2019: $2.602 million; 2018: $3.016 million | 2019: $5.753 million; 2018: $5.522 million |
| Diluted earnings per share | 2019: $0.37; 2018: $0.43 | 2019: $0.81; 2018: $0.78 |
For the six months, reported return on average assets was 0.82% and return on average equity was 9.39%, both annualized. The six-month dividend declared was $0.18 per share; Q2 dividend was $0.09.
Financial condition, cash flow and capital
- At June 30, 2019, total assets were $1.406 billion, net loans $991.6 million, deposits $1.123 billion, and shareholders’ equity $126.2 million.
- Compared with December 31, 2018, assets increased $21.1 million, deposits increased $55.6 million, and gross loans decreased $4.1 million. Cash and cash equivalents rose to $39.0 million from $23.5 million.
- Short-term borrowings declined to $31.2 million from $77.7 million, primarily after the company repaid $40.0 million in overnight borrowings using deposit growth. Long-term borrowings were $100.9 million, unchanged. Repurchase-agreement borrowings were secured by $45.0 million of agency securities.
- For the six months, operating cash flow was $1.9 million, investing cash flow was positive $5.8 million, and financing cash flow was positive $7.8 million; cash increased $15.4 million.
- At June 30, the Bank’s total capital ratio was 15.79%, common equity Tier 1 ratio 14.63%, and Tier 1 leverage ratio 10.87%. All exceeded the filing’s stated well-capitalized thresholds.
- Management reported $115.0 million available on unsecured correspondent lines, $2.1 million at the Fed Discount Window and approximately $144.0 million through the FHLB. It stated liquidity was adequate.
Material changes versus comparable periods
- Q2 net income fell 13.7% year over year, despite higher net interest income. The filing attributes the decline mainly to higher operating expenses, including a $0.7 million increase in Q2 OREO expense from valuation write-downs and a $0.4 million increase in equipment, occupancy and data-processing costs.
- Six-month net income rose 4.2% year over year as higher net interest income and modestly higher noninterest income more than offset expense growth. Q2 and six-month margins narrowed slightly year over year.
- Interest income grew as loan yields and balances increased, but deposit interest expense rose substantially amid higher deposit pricing and growth in interest-bearing deposits.
- Non-accrual loans increased to $13.1 million, or 1.31% of loans, from $4.9 million, or 0.49%, at year-end. A $7.0 million A&D relationship moved to non-accrual after a prospective buyer withdrew; the Bank entered a forbearance agreement. Two additional CRE credits entered non-accrual in Q2.
- The allowance for loan losses rose to $12.0 million, or 1.19% of gross loans, from $11.0 million at year-end. The company recorded $1.7 million in specific A&D allocations during the first half, including a $1.0 million Q2 allocation based on a new appraisal. Net recoveries were $247,000 for the first half, versus net charge-offs of $919,000 in 2018.
Outlook, risks and unusual items
- The filing provides no numerical earnings or revenue guidance. Management says interim results are not necessarily indicative of full-year results and identifies interest-rate changes, deposit flows and funding costs, loan demand and credit quality, competition, economic conditions, and regulatory changes as risks.
- The Bank was asset-sensitive at June 30. Its modeled annual net interest income response was positive $498,000 for a 100-basis-point rate increase and negative $1.493 million for a 100-basis-point decrease. These are scenario estimates subject to assumptions and limitations.
- Nine pooled trust-preferred CDO securities had $18.4 million amortized cost and $14.9 million fair value, measured using Level 3 inputs. Management reported no credit-related OTTI charges in the first half and did not consider unrealized losses other-than-temporary; valuations rely on discounted cash-flow estimates and an independent third party.
- Adoption of lease accounting in January 2019 recognized a $2.6 million right-of-use asset and $3.2 million lease liability at June 30; management said adoption did not materially affect operations or cash flows.
- Management intended to adopt CECL on January 1, 2020 and was assessing its impact. The filing notes that FASB had agreed to propose a delay for certain smaller reporting companies; this was only a proposal, not a final effective-date change.
- Standby letters of credit totaled $8.6 million, up from $3.4 million at year-end. The filing reports no legal proceedings, no material changes to previously disclosed risk factors, and effective disclosure controls.
Important facts for investors to verify
- Progress and repayment prospects for the $7.0 million A&D forbearance credit, the two newer CRE non-accruals, and the adequacy of related collateral and reserves.
- Whether continued deposit repricing and funding competition further compress net interest margin and earnings.
- Assumptions and sensitivity of Level 3 CDO valuations, including underlying issuer deferrals/defaults and collateral support.
- Future OREO appraisal write-downs, property sales and related expenses.
- Final CECL implementation timing and the eventual effect on the allowance and regulatory capital.