Unity Bancorp, Inc. — 2017 Third-Quarter Form 10-Q
Reporting period: Three and nine months ended September 30, 2017. Unaudited consolidated results include Unity Bank. Unless stated otherwise, dollar amounts below are in millions.
Business context
Unity Bancorp is a New Jersey bank holding company operating Unity Bank, which provides commercial and retail banking services through 17 branches in New Jersey and Pennsylvania. Its main activities are deposit-taking and commercial, real estate, SBA and consumer lending.
Financial performance and condition
| Metric | Q3 2017 | Q3 2016 | Nine months 2017 | Nine months 2016 |
|---|---|---|---|---|
| Net interest income | $11.8 | $9.9 | $33.4 | $28.2 |
| Provision for loan losses | $0.5 | $0.4 | $1.2 | $1.0 |
| Noninterest income | $2.0 | $2.2 | $6.2 | $8.7 |
| Noninterest expense | $7.6 | $7.0 | $22.4 | $20.3 |
| Net income | $3.8 | $3.0 | $10.4 | $10.0 |
| Diluted earnings per share | $0.35 | $0.32 | $0.97 | $1.06 |
| Net interest margin | 3.88% | 3.63% | 3.79% | 3.58% |
- Q3 diluted EPS increased year over year; nine-month diluted EPS declined, reflecting higher shares outstanding following the December 2016 capital offering. The 2016 nine-month result also included a $2.3 million pretax gain from repurchasing subordinated debentures. Excluding that gain, the company reported 2016 nine-month net income of $8.6 million and diluted EPS of $0.91.
- Q3 return on average assets was 1.17% and return on average equity was 13.00%, versus 1.05% and 13.90% a year earlier. Nine-month figures were 1.12% and 12.51%, respectively, compared with 1.20% and 16.09% reported in 2016.
- At September 30, total assets were $1.330 billion, up 11.8% from year-end 2016. Total loans were $1.093 billion, up 12.3%; deposits were $1.044 billion, up 10.4%. Shareholders’ equity was $115.8 million, versus $106.3 million at year-end.
- Loan growth was broad: commercial loans rose $59.6 million, residential mortgages $41.7 million and consumer loans $17.8 million from year-end. Management attributed higher net interest income and margin to earning-asset growth, stronger loan yields and the rising-rate environment.
- Noninterest expense increased, chiefly from compensation and benefits, as the company expanded branch, lending and support staff; technology investment and OREO-related costs also contributed. Q3 noninterest income fell year over year, mainly due to lower SBA and mortgage loan-sale activity.
- Cash and cash equivalents were $104.8 million. For the nine months, operating activities provided $12.7 million, investing activities used $141.3 million, and financing activities provided $127.5 million; cash declined $1.1 million from year-end.
- Total borrowed funds and subordinated debentures were $162.3 million, including $152.0 million borrowed funds and $10.3 million subordinated debentures; this was up $31.0 million from year-end, primarily from overnight FHLB advances. The $47.0 million overnight advance outstanding at quarter-end was repaid October 2, 2017.
- Regulatory capital ratios at September 30 included company leverage of 9.70%, CET1 of 11.27%, Tier 1 risk-based capital of 12.26% and total risk-based capital of 13.30%. The Bank’s respective ratios were 9.38%, 11.86%, 11.86% and 12.95%.
Material changes, outlook and risks
- Credit indicators improved overall: nonperforming loans fell to $3.7 million from $7.2 million at year-end 2016; nonperforming assets were $4.4 million. The allowance for loan losses was $13.1 million, or 1.20% of loans, versus 1.29% at year-end. Nine-month net charge-offs were $0.6 million, compared with $1.1 million in 2016.
- Areas to monitor include $2.2 million of loans at least 90 days past due but still accruing, and potential problem loans of $4.0 million, up $2.8 million from year-end. Approximately 95% of the loan portfolio was secured by real estate, exposing the company to collateral-value and regional economic risks. Management said future allowance additions may be needed if economic conditions or collateral values change.
- Unfunded loan commitments were approximately $263.5 million, of which $153.7 million expire within one year; management believed liquidity was adequate to honor them. The company reported $217.9 million of additional FHLB borrowing capacity. Government deposits totaled $96.5 million and were described as short-duration and price-sensitive.
- Interest-rate, economic, competitive, legislative and regulatory changes could affect margins, funding and operating results. The company’s modeled economic value of equity declined 0.57% under a 200-basis-point rate increase and 0.63% under a 200-basis-point decrease, within board limits. About 87% of the investment portfolio had fixed interest rates.
- Unusual items included a $253,000 loss on OREO sales and $151,000 in OREO valuation adjustments during the nine months. The company also purchased $10.0 million of bank-owned life insurance. It reported no pending legal proceedings expected by management to materially affect the company.
- No specific earnings or financial guidance was provided. Management’s discussion describes expected growth and risk factors but does not provide quantified forward guidance. The company said it was evaluating several forthcoming accounting standards; it did not expect material effects from adopting the revenue-recognition standard or ASU 2016-01, while the lease and credit-loss standards were still under evaluation.
Important facts for investors to verify
- Whether loan growth and margin expansion can continue without materially higher deposit costs, borrowing needs or credit losses.
- The trend in potential problem loans, past-due accruing loans, consumer charge-offs and real-estate collateral values, and whether the allowance remains adequate.
- Funding stability and pricing, including municipal and other government deposits, overnight borrowings, and the use of available FHLB capacity.
- Whether higher personnel, technology and OREO costs are offset by ongoing revenue growth, and how much earnings depend on loan-sale gains and other noninterest income.
- The full-period impact of share dilution and the accounting and capital effects of pending standards, especially expected credit losses and lease accounting.