Mercantile Bank Corporation — 2011 Form 10-K
Reporting period: Fiscal year ended December 31, 2011; comparisons are primarily with 2010. Mercantile is a Michigan bank holding company focused on commercial banking in the Grand Rapids, Holland and Lansing markets. Its loan book is predominantly commercial and real-estate-related.
Financial performance and condition
| Metric | 2011 | 2010 |
|---|---|---|
| Interest income | $71.1 million | $88.1 million |
| Net interest income | $51.2 million | $56.3 million |
| Net interest margin | 3.60% | 3.31% |
| Provision for loan losses | $6.9 million | $31.8 million |
| Noninterest income | $7.3 million | $9.2 million |
| Noninterest expense | $41.5 million | $47.2 million |
| Pre-tax income (loss) | $10.1 million | $(13.4) million |
| Net income (loss) | $37.5 million | $(13.3) million |
| Net income (loss) attributable to common shares | $36.1 million; $4.20 basic EPS | $(14.6) million; $(1.72) basic EPS |
- 2011 net income includes a $27.4 million income-tax benefit from reversing the deferred-tax-asset valuation allowance. The reversal was based on management’s conclusion that sustainable future profitability was more likely than not; it substantially increased reported after-tax earnings.
- Net cash from operating activities was $22.5 million. Investing activities provided $227.7 million, principally reflecting net loan repayments and security maturities; financing activities used $238.1 million. Cash and cash equivalents increased $12.2 million to $76.4 million.
- Year-end assets were $1.433 billion, down 12.2%; loans were $1.072 billion, down 15.1%; deposits were $1.112 billion, down 12.7%. Management attributed the balance-sheet contraction largely to deliberate reductions in lending exposure, particularly non-owner-occupied commercial real estate, and sluggish business activity.
- Allowance for loan losses was $36.5 million, or 3.41% of loans, versus $45.4 million, or 3.59%, in 2010. Net charge-offs declined to $15.7 million (1.37% of average loans) from $34.3 million (2.43%). Nonperforming loans fell to $45.1 million, or 4.20% of loans, from $69.4 million, or 5.50%. Nonperforming assets were $60.4 million, down from $86.1 million.
- Capital strengthened: the bank’s total risk-based capital ratio was 15.5% at year-end, versus 12.5% in 2010; the bank was classified as well capitalized. Cash, cash equivalents and available-for-sale securities totaled about $249.4 million.
- Funding liabilities included $72.6 million of repurchase agreements, $45.0 million of FHLB advances and $33.0 million of subordinated debentures. Wholesale funding was 30.5% of deposits and borrowed funds, down from 39.8% in 2010. The bank reported $50.9 million of additional FHLB borrowing availability.
Material changes and management commentary
- Profitability returned after losses in 2008–2010. Lower loan-loss provisioning was the principal driver; a higher net interest margin and reduced overhead also helped. Despite lower net interest income, funding costs fell faster than asset yields.
- Asset quality improved overall, but non-owner-occupied CRE remained a key concern. Nonperforming assets rose in the fourth quarter, primarily because one larger non-owner-occupied CRE loan entered nonaccrual status.
- Commercial loans were 93.0% of the loan portfolio. Non-owner-occupied CRE loans declined $114.9 million during 2011; management said it was intentionally reducing selected exposures. Approximately 73% of commercial loans were primarily secured by real estate.
- Management expected continued improvement in economic and collateral conditions to reduce future provision expense and problem-asset administration costs, while cautioning that charge-offs could remain elevated for at least the next few quarters and that stressed conditions persisted in non-owner-occupied CRE. No quantified earnings or revenue guidance is provided.
- Common dividends remained suspended; no common dividend was paid in 2011. The company had deferred subordinated-debenture interest and preferred dividends beginning in 2010, but brought accrued amounts current in October 2011 and reported making scheduled payments thereafter. The Treasury’s $21.0 million Capital Purchase Program preferred investment carries restrictions, including limits on common dividends and repurchases without Treasury consent.
- Unfunded loan commitments and standby letters of credit totaled $254.1 million, including $30.9 million of commitments to make loans. A $0.4 million provision was recorded for a particular standby letter of credit.
- Risks include continued weakness in Michigan and commercial real estate, borrower and collateral deterioration, reliance on out-of-area and brokered deposits, interest-rate and liquidity exposure, and evolving bank regulation. The filing reports no material pending legal proceeding. BDO issued unqualified opinions on the financial statements and internal control over financial reporting; management also concluded controls were effective.
Important facts for investors to verify
- How much of 2011’s earnings improvement is sustainable without the $27.4 million deferred-tax valuation-allowance reversal?
- Whether CRE problem loans, nonaccruals, foreclosed assets and charge-offs continue to decline, especially after the fourth-quarter CRE deterioration.
- Whether the $36.5 million allowance remains adequate against impaired loans, collateral valuations and the portfolio’s real-estate concentration.
- Deposit stability and composition, including brokered/out-of-area funding, large time-deposit maturities, and the availability and terms of contingent liquidity.
- The status of common-dividend restrictions, Treasury preferred stock, and ongoing subordinated-debenture and preferred-stock payments.