Alerus Financial Corporation — Q1 2020 Form 10-Q
Reporting period: Three months ended March 31, 2020. Alerus is a diversified financial services company operating in banking, retirement and benefit services, wealth management, and mortgage. Comparisons below are to Q1 2019 for income and cash flow, and to December 31, 2019 for balance-sheet figures, unless otherwise noted. Dollar amounts are in millions except per-share data.
Key financial results
| Metric | Q1 2020 / March 31, 2020 | Comparable |
|---|---|---|
| Net interest income | $18.8 | $19.1 in Q1 2019 |
| Provision for loan losses | $2.5 | $2.2 in Q1 2019 |
| Noninterest income | $27.2 | $25.1 in Q1 2019 |
| Noninterest expense | $36.7 | $33.5 in Q1 2019 |
| Income before taxes | $6.8 | $8.5 in Q1 2019 |
| Net income | $5.4 | $6.4 in Q1 2019 |
| Diluted earnings per share | $0.30 | $0.46 in Q1 2019 |
| Net interest margin, tax-equivalent | 3.35% | 3.86% in Q1 2019 |
| Efficiency ratio | 77.47% | 73.30% in Q1 2019 |
| Cash and cash equivalents | $198.5 | $144.0 at December 31, 2019 |
| Total assets | $2,512.1 | $2,356.9 at December 31, 2019 |
| Total loans | $1,758.3 | $1,721.3 at December 31, 2019 |
| Total deposits | $2,121.5 | $1,971.3 at December 31, 2019 |
| Allowance for loan losses | $27.0, or 1.54% of loans | $23.9, or 1.39%, at December 31, 2019 |
| Long-term debt | $58.8 | $58.8 at December 31, 2019 |
Cash flow, liquidity, and capital
- Operating cash flow was negative $21.2 million, investing cash flow was negative $71.6 million, and financing cash flow was positive $147.2 million. Cash increased $54.5 million, chiefly alongside $150.2 million of deposit growth; operating cash use included a $25.4 million increase in loans held for sale.
- Management reported on-balance-sheet liquidity of $364.3 million, up from $250.7 million at year-end. Alerus also reported potential FHLB borrowing capacity of $573.3 million and unsecured lines totaling $102.0 million; it said liquidity was adequate for commitments.
- No short-term borrowings were outstanding at March 31. Long-term debt was primarily $50 million of subordinated notes, plus junior subordinated debentures and a finance lease liability.
- Regulatory capital remained above well-capitalized thresholds: consolidated common equity tier 1 ratio was 12.36%, and the Bank’s was 11.80%. Stockholders’ equity was $293.6 million.
Material changes and operating drivers
- Net income declined $1.1 million year over year. Higher expenses and loan-loss provision, together with lower net interest income, more than offset growth in fee income.
- Noninterest income rose 8.4%, led by retirement and benefit services, mortgage banking, and wealth management. Noninterest expense increased 9.6%, including higher compensation, technology and software, and mortgage and lending costs.
- Net interest margin fell 51 basis points year over year. Management attributed the pressure to lower earning-asset yields and higher average interest-bearing deposit balances; the March Federal Reserve rate cuts are expected to weigh on future results.
- Commercial loans increased $50.0 million from year-end, partly offset by a $13.0 million decline in consumer loans. Criticized loans were $67.4 million, or 3.83% of loans, versus $66.6 million, or 3.87%, at year-end. Nonperforming loans were 0.40% of loans, compared with 0.45%.
- Assets under administration and management in retirement and benefit services were $27.7 billion, compared with $31.9 billion at year-end; wealth management assets were $2.7 billion, compared with $3.1 billion. Mortgage originations were $228.6 million.
Outlook, COVID-19, and other risks
- Management said COVID-19’s full impact was unknown and could not be reasonably estimated. It expected significant adverse effects on credit quality, net interest income and margin, fee income, mortgage activity, capital, and results in future periods; no quantified earnings guidance was provided.
- The company had executed 325 COVID-related payment deferrals on $97.4 million of loans as of April 21, 2020. These short-term deferrals were generally no longer than 90 days and were not treated as troubled debt restructurings under interagency guidance.
- As of April 21, Alerus had helped more than 900 clients secure approximately $300 million of Paycheck Protection Program loans. It estimated about $8.9 million of net processing fees, to be deferred and recognized as interest income over the loans’ lives. The filing cautions about PPP compliance, litigation, and SBA-guarantee risks.
- Management anticipated slower loan growth, increased line-of-credit utilization, possible deposit declines, higher credit losses, reduced assets-based fees, and weaker mortgage originations. It noted particular exposure among retail, restaurant, and hospitality borrowers and related commercial real estate.
- The Board declared a $0.15 quarterly dividend, paid April 10, 2020. Management stated the Board’s current intent was to continue quarterly dividends, subject to capital and regulatory constraints.
- Other notable items: mortgage servicing rights declined to $3.3 million after a $0.4 million impairment; available-for-sale securities generated $5.2 million of after-tax other comprehensive income. Management reported no material pending legal proceedings and effective disclosure controls.
Important facts for investors to verify
- Subsequent-quarter loan deferral balances, delinquencies, criticized credits, charge-offs, and the adequacy of the allowance as pandemic effects develop.
- Whether deposit levels and available liquidity remain sufficient if borrower line utilization rises or funding conditions change.
- The realized effects of lower rates on net interest margin, and the timing and recognition of PPP processing fees and forgiveness.
- Changes in retirement and wealth assets under administration, mortgage originations, servicing-rights valuation, and related fee revenue.
- Capital ratios, dividend capacity, and any material developments in PPP compliance, SBA guarantees, or related litigation.