First National Corporation — Form 10-Q Summary
Business Context and Reporting Period
First National Corporation is a Virginia bank holding company whose principal subsidiary, First Bank, provides commercial, residential, consumer, deposit, and wealth management services through 15 branches and related banking channels in Virginia. This unaudited Form 10-Q covers the three and six months ended June 30, 2018, with comparisons to June 30, 2017, and balance-sheet comparisons to December 31, 2017.
Key Financial Metrics
| Metric | Three Months Ended June 30, 2018 | Six Months Ended June 30, 2018 |
|---|---|---|
| Total interest and dividend income | $7.7 million | $15.0 million |
| Net interest income | $6.8 million | $13.4 million |
| Provision for loan losses | None | $100 thousand |
| Noninterest income | $2.1 million | $4.7 million |
| Noninterest expense | $5.9 million | $11.7 million |
| Net income | $2.5 million | $5.1 million |
| Diluted earnings per share | $0.49 | $1.04 |
| Net interest margin | 3.86% | 3.83% |
| Return on average assets | 1.29% | 1.37% |
| Return on average equity | 16.23% | 17.33% |
| Efficiency ratio | 64.17% | 63.27% |
At June 30, 2018, total assets were $763.4 million, including $530.9 million of gross loans and $525.9 million of loans net of the allowance. Total deposits were $686.5 million, shareholders’ equity was $61.6 million, and cash and cash equivalents were $41.3 million. The allowance for loan losses was $5.0 million, or 0.95% of total loans.
Six-month operating cash flow was $5.8 million, compared with $3.2 million in the prior-year period. Investing activities used $25.6 million, primarily for a $9.2 million net increase in loans and $27.1 million of securities purchases. Financing activities provided $21.1 million, principally from growth in demand and savings deposits. Cash and cash equivalents increased $1.3 million year to date.
Debt consisted of approximately $5.0 million of subordinated debt and $9.3 million of junior subordinated debt. The Bank had no FHLB borrowings and reported $130.0 million of unused non-deposit funding capacity, including $77.2 million from the FHLB. The Bank was categorized as well capitalized, with total risk-based capital of 13.47%, common equity Tier 1 capital of 12.52%, and Tier 1 leverage capital of 8.66%.
Material Changes Versus Prior Comparable Period
- Second-quarter net income increased $695 thousand, or 40%, to $2.5 million; six-month net income increased $1.8 million, or 56%, to $5.1 million.
- Second-quarter net interest income increased 9% to $6.8 million, while the net interest margin rose 13 basis points to 3.86%. For the first six months, net interest income increased 9% and the margin rose 12 basis points to 3.83%.
- Average earning assets increased approximately 5%. Loan yields benefited from higher market rates, while deposit costs also increased, particularly for checking and money-market accounts.
- Six-month noninterest income increased 20% to $4.7 million, including a $441 thousand increase in bank-owned life insurance income and a $126 thousand one-time benefit related to termination and distribution of the pension plan.
- Noninterest expense increased 3% in the quarter and 2% year to date, primarily because of higher salaries, occupancy, and other operating expenses associated with the Richmond branch opened in the fourth quarter of 2017.
- Income tax expense declined 24% in the quarter and 21% year to date, primarily reflecting the reduction in the federal corporate tax rate under the Tax Cuts and Jobs Act.
- Total assets increased $24.3 million, or 3%, from year-end 2017. Net loans increased $9.0 million, securities increased approximately $15.0 million, and deposits increased $21.5 million.
- Credit indicators were mixed: nonperforming assets increased to $2.4 million, or 0.31% of assets, from $1.3 million, or 0.17%, at year-end. Non-accrual loans increased to $2.3 million from $937 thousand, while OREO declined to $68 thousand from $326 thousand.
- Unrealized securities losses increased to $4.2 million from $2.1 million, primarily because of changes in market interest rates. Management considered the securities temporarily impaired and reported no credit-related impairment.
Guidance, Outlook, Risks, Contingencies, and Unusual Items
The filing does not provide specific earnings, revenue, margin, or balance-sheet guidance. Management states that quarterly and year-to-date results are not necessarily indicative of full-year results and expects financial performance to remain sensitive to interest rates, loan growth, deposit pricing, credit quality, and economic conditions.
- Management believes liquidity is sufficient. Liquid assets and loans maturing within one year totaled $97.9 million, and total available non-deposit funding was $130.0 million.
- Commitments to extend credit, standby letters of credit, and rate-lock commitments totaled approximately $99.2 million at June 30, 2018. Commitments to extend credit were $85.4 million, standby letters of credit were $10.3 million, and locked-rate mortgage commitments were $3.5 million.
- Loan concentrations in residential and commercial real estate expose the Bank to changes in property values, project performance, borrower cash flows, and regional economic conditions. The allowance is based on estimates and may require additional provisions if conditions deteriorate.
- Management identified interest-rate risk, deposit competition, credit losses, nonperforming assets, cybersecurity, operational disruptions, regulatory changes, tax-law uncertainty, limited trading liquidity in the common stock, and dependence on key personnel as material risks.
- The Company adopted the revenue recognition standard in 2018 without a material impact. The expected-credit-loss standard, effective for the Company after December 15, 2019, may materially change credit-loss accounting; the Company was still assessing its impact.
- The defined benefit pension plan was terminated and assets were distributed in March 2018. The ESOP was approved for termination and was expected to be completed before December 31, 2018.
- No material pending legal proceedings, material changes to previously disclosed risk factors, or material changes to contractual obligations were reported. Management concluded disclosure controls were effective.
Important Facts for Investors to Verify
- Whether the increase in non-accrual loans and nonperforming assets is temporary or signals broader deterioration in the commercial real estate and residential portfolios.
- Whether the $5.0 million allowance remains adequate as loan growth continues and the expected-credit-loss standard approaches adoption.
- Whether higher deposit costs will compress the net interest margin as interest rates and funding competition increase.
- The sustainability of one-time or irregular income, including the $441 thousand increase in bank-owned life insurance income and the $126 thousand pension-related benefit.
- The effect of the Richmond branch expansion on future revenue growth, operating expenses, and efficiency.
- The magnitude and duration of unrealized securities losses and the potential effect of interest-rate movements on capital and liquidity.
- The utilization and credit quality of the $130.0 million in unused funding capacity and the approximately $99.2 million of off-balance-sheet commitments.