Timberland Bancorp, Inc. — Form 10-Q Summary
Reporting period: Three months ended December 31, 2018, the company’s fiscal first quarter of 2019. Financial statements are unaudited. Unless otherwise noted, dollar amounts are in U.S. dollars.
Business context and reporting period
Timberland is a community bank operating in western Washington. On October 1, 2018, it completed its acquisition of South Sound Bank to expand its presence along the I-5 corridor. The quarter includes South Sound’s results from the acquisition date, so year-over-year comparisons reflect both acquired operations and organic performance.
Key financial metrics
| Metric | Quarter ended Dec. 31, 2018 | Comparable period |
|---|---|---|
| Net interest income | $12.34 million | $9.43 million |
| Non-interest income | $3.27 million | $3.14 million |
| Net income | $5.62 million | $3.61 million |
| Diluted earnings per share | $0.66 | $0.48 |
| Net interest margin | 4.47% | 4.19% |
| Efficiency ratio | 54.85% | 57.08% |
| Return on average assets / equity | 1.88% / 14.56% | 1.50% / 12.90% |
At December 31, 2018, total assets were $1.20 billion, net loans were $857.07 million, deposits were $1.04 billion, and shareholders’ equity was $156.91 million. Total assets increased 17.9% from September 30, 2018, primarily due to the acquisition. The loan portfolio was predominantly real-estate secured; commercial mortgage loans represented 43.9% of gross loans.
Cash and cash equivalents were $161.74 million; cash plus investment CDs held for investment totaled $227.57 million. Quarterly operating cash flow was $6.77 million, investing cash flow was $13.81 million, and financing cash flow was negative $7.71 million. Investing cash flow included cash acquired in the merger. Ending cash and cash equivalents were $161.74 million.
Total liabilities were $1.04 billion, principally deposits. The filing does not report an outstanding balance for the FRB or PCBB borrowing lines; it reports $287.49 million of additional FHLB borrowing capacity and $74.20 million available from the FRB. The bank’s regulatory liquidity ratio was 23.12%. The bank was classified as well-capitalized; its reported total risk-based capital ratio was 18.10% and leverage ratio was 11.74%.
Changes versus comparable periods
- Net income rose 55.4% and diluted EPS rose 37.5% year over year. Management attributed the earnings increase mainly to higher net interest income and a lower effective tax rate, partly offset by higher operating expenses.
- Net interest income increased 30.8%, reflecting a 22.7% increase in average interest-earning assets, largely from the merger, and improved asset yields. Net interest margin increased 28 basis points.
- Interest expense rose 61.6% as average interest-bearing deposits and deposit costs increased. Average cost of interest-bearing liabilities rose to 0.51% from 0.38%.
- Non-interest expense increased 19.3% to $8.56 million, including higher compensation, data-processing, premises and equipment costs, and $109,000 of acquired core-deposit intangible amortization.
- The effective tax rate declined to 20.33% from 33.01%. The prior-year quarter included a one-time $548,000 tax expense related to remeasurement of deferred tax assets under the Tax Act.
- Compared with September 30, 2018, net loans increased 18.2% and deposits increased 16.4%, with the merger the primary driver. Shareholders’ equity rose 25.9%, including $28.27 million of stock issued in the transaction.
Outlook, management commentary, risks and unusual items
- The merger’s preliminary purchase accounting recorded $8.97 million of goodwill and $2.48 million of core deposit intangible. The purchase price allocation remained subject to refinement; management expected to finalize it by March 31, 2019.
- South Sound contributed a reported $1.19 million pretax net effect for the quarter. This measure excludes certain management compensation and other expenses that were impracticable to determine amid integration, and includes $64,000 of acquisition-related costs.
- Management expected additional merger-related IT conversion costs of approximately $580,000 over the next two quarters. The company scheduled its core-system conversion for February 21, 2019, with acquired branches to be integrated in July 2019. The MD&A separately estimates conversion expenses of approximately $450,000 and $580,000 in the quarters ending March 31 and June 30, respectively.
- No loan-loss provision was recorded in either comparison quarter. The allowance was $9.53 million, or 1.10% of loans; management considered it adequate but cautioned that deterioration in borrowers or collateral, or regulatory review, could require a material increase. Acquired loans were recorded at fair value with credit discounts, and no acquisition-date allowance was recorded on them.
- Non-performing assets were $3.99 million, or 0.33% of assets, versus $3.64 million and 0.36% at September 30, 2018. Non-accrual loans rose to $1.59 million; delinquent and non-accrual loans together increased to $3.26 million. The lower non-performing-asset ratio partly reflects the enlarged asset base.
- The company identified risks including merger integration and realizing expected synergies, credit quality and allowance adequacy, interest-rate and deposit competition effects, real-estate market conditions, regulatory actions, technology and cybersecurity disruptions, and its ability to control expenses. It gave no specific earnings or revenue guidance.
- Investment securities had unrealized losses that management assessed as temporary, primarily due to interest rates and market spreads; management stated it had the ability and intent to hold affected securities until recovery. No material legal proceedings or material changes to previously disclosed risk factors were reported.
- The company adopted ASC 606 without a material effect on revenue recognition. It anticipated adoption of the expected-credit-loss standard would increase the allowance, but the amount was not yet determinable.
Most important facts for investors to verify
- Whether post-merger integration proceeds on schedule and whether anticipated cost savings and revenue synergies materialize.
- The final purchase-price allocation, acquired-loan discount accretion, and any subsequent credit deterioration in acquired loans.
- Credit trends, including non-accrual and delinquent loans, commercial real-estate exposure, OREO, and allowance adequacy.
- Deposit pricing, funding costs, loan yields, and net interest margin as market rates and competition change.
- Actual IT conversion expenses versus the filing’s estimates, and the timing and effect of the expected credit-loss accounting adoption.