Chemung Financial Corporation — Q3 2018 Form 10-Q
Business context and reporting period
Unaudited consolidated results for the quarter and nine months ended September 30, 2018, compared with the corresponding 2017 periods. Chemung provides banking and wealth-management services, primarily through Chemung Canal Trust Company and its Capital Bank division. Amounts below are in millions unless otherwise noted.
Financial performance and condition
| Metric | Q3 2018 | Q3 2017 | 9M 2018 | 9M 2017 |
|---|---|---|---|---|
| Net interest income | $15.1 | $14.8 | $45.0 | $42.2 |
| Net interest margin, fully taxable equivalent | 3.71% | 3.68% | 3.73% | 3.53% |
| Noninterest income | $7.4 | $5.2 | $18.2 | $15.0 |
| Noninterest expense | $13.4 | $13.3 | $42.6 | $40.7 |
| Provision for loan losses | $0.3 | $1.3 | $3.4 | $2.8 |
| Net income | $6.9 | $3.7 | $13.9 | $9.6 |
| Diluted EPS | $1.43 | $0.76 | $2.88 | $2.00 |
- Q3 net income rose 89.7%; nine-month net income rose 44.9%. Q3 return on average assets was 1.61% and return on average equity was 17.81%; nine-month figures were 1.09% and 12.22%, respectively.
- Q3 efficiency ratio was 64.72%, compared with 64.83% a year earlier; nine-month ratio was 66.80%, compared with 67.72%.
- At September 30, total assets were $1.754 billion, loans net of allowance were $1.301 billion, deposits were $1.576 billion, and shareholders’ equity was $156.5 million. Total assets grew 2.7% and deposits grew 7.4% from year-end 2017; net loans grew 0.8%.
- Cash and cash equivalents were $113.9 million, up $83.2 million from year-end. Nine-month operating cash flow was $20.1 million; investing activities provided $27.6 million and financing activities provided $35.4 million.
- Borrowings declined from $74.2 million at year-end to $4.4 million, consisting of a capital lease obligation; there were no FHLBNY advances or repurchase-agreement borrowings at September 30. Available FHLBNY borrowing capacity was $116.3 million, and the company had $28.0 million of unsecured credit lines.
- The Bank was categorized as well-capitalized. At September 30, its total risk-based capital ratio was 12.12%, common equity Tier 1 ratio 10.87%, and Tier 1 leverage ratio 8.36%.
Material changes versus comparable periods
- Higher loan interest income supported net interest income growth; deposit and borrowing costs also increased. Nine-month fully taxable equivalent net interest margin improved by 20 basis points.
- Noninterest income included a $2.1 million fair-value gain on equity investments, primarily related to the third-quarter sale of Visa Class B shares. This materially contributed to reported income growth and is unusual in nature.
- Nine-month net charge-offs increased to $4.9 million from $1.3 million, largely due to $3.6 million of charge-offs on multiple commercial loans to one borrower. The allowance was $19.6 million, or 1.49% of loans, versus $21.2 million and 1.61% at year-end 2017.
- Nonperforming loans fell to $12.6 million (0.96% of loans) from $17.3 million (1.32%) at year-end; nonperforming assets fell to $13.4 million from $19.3 million. Commercial real estate-related loans represented 46.1% of total loans, down from 48.1%.
- The company settled the Fane v. Chemung Canal Trust Company action for $3.3 million. A $2.3 million reserve had been recorded at March 31, 2018, with an additional $1.0 million legal expense recognized in Q2. Management reported no other pending legal, arbitration, or regulatory matter expected to materially affect results or liquidity.
- Available-for-sale securities declined to $246.5 million from $293.1 million at year-end, with unrealized losses contributing to a $4.9 million increase in accumulated other comprehensive loss. Management attributed most securities losses to interest rates rather than credit quality and did not consider them other-than-temporary impairment.
Outlook, risks, and contingencies
- Management anticipates future portfolio-loan growth in commercial mortgages and commercial and industrial lending, particularly in the Capital Bank division; this is an expectation, not quantified guidance.
- Management identifies interest-rate risk as its principal market risk. A modeled immediate 200-basis-point rate decrease would reduce next-12-month net interest income by 12.99%; a 200-basis-point increase would raise it by 6.83%. Both estimates were within the company’s 15% policy limit.
- Management says liquidity resources, operating cash flows, and borrowing capacity are sufficient for operating needs. Deposit growth helped reduce wholesale borrowings; time-deposit promotions and municipal balances contributed to deposit growth.
- The company expects adoption of CECL on January 1, 2020 to increase its allowance for loan losses; implementation work was underway. It expected lease accounting adoption in 2019 to create a right-of-use asset and corresponding obligation of less than $15 million.
- Forward-looking results remain subject to economic and interest-rate changes, credit risk, competition, growth-management challenges, and legal or regulatory changes. The filing reports no material change in risk factors from the 2017 Form 10-K. Management assessed disclosure controls as effective and reported no material quarterly change in internal control over financial reporting.
Important facts for investors to verify
- How much of earnings growth persists after excluding the $2.1 million equity fair-value gain, and what portion of that gain is tied to the Visa share sale?
- Whether credit costs remain elevated following the large borrower charge-offs, and how commercial credit ratings, criticized loans, and allowance adequacy develop.
- Whether loan growth and deposit growth continue without increased reliance on promotional or higher-cost funding, and how rising deposit costs affect net interest margin.
- How securities valuation losses, interest-rate sensitivity, and the planned CECL transition affect capital, earnings, and the allowance.
- Whether the $3.3 million settlement fully resolves the Fane matter and whether any additional material legal or regulatory contingencies arise.