Stock Yards Bancorp, Inc. quarterly report, Q1 FY2018

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Stock Yards Bancorp, Inc. — Q1 2018 Form 10-Q

Reporting period: Three months ended March 31, 2018; balance-sheet comparisons are with December 31, 2017. Stock Yards Bancorp is a bank holding company whose principal businesses are commercial banking and wealth management and trust services. Amounts below are in U.S. dollars; financial statement amounts are generally in millions unless otherwise noted.

Financial performance and condition

  • Revenue and earnings: Net interest income was $27.3 million, up 8.4% year over year. Non-interest income was $10.9 million, up 2.6%. Net income rose 24.2% to $13.4 million; diluted EPS increased to $0.58 from $0.47.
  • Margins and returns: Net interest margin increased to 3.79% from 3.63%. The efficiency ratio improved to 54.9% from 58.3%; excluding tax-credit partnership amortization, the adjusted ratio was 54.9% versus 56.6%. Annualized return on average assets was 1.76%, and return on average equity was 16.15%.
  • Revenue mix: Wealth management and trust fees grew 8.0% to $5.5 million. Assets under management reached $2.88 billion, up 10.3% year over year. Mortgage banking revenue fell 17.9% to $0.6 million, mainly reflecting lower volume and refinancing activity.
  • Costs and taxes: Non-interest expense was nearly flat at $21.0 million, up 0.2%. Technology and communication expense rose 18.8%, while marketing and business development expense rose 45.2%; the latter was partly due to timing of community donations. The effective tax rate declined to 18.5% from 22.6%, reflecting the federal tax-rate reduction under the Tax Cuts and Jobs Act.
  • Balance sheet and lending: Total assets were $3.29 billion, up from $3.24 billion at year-end. Loans grew 4.3% since year-end to $2.51 billion, with commercial and industrial lending a major contributor. Deposits were $2.57 billion, down 0.2%; stockholders’ equity was $337.7 million.
  • Credit quality: The allowance for loan losses was $24.2 million, or 0.96% of period-end loans, versus 1.03% at year-end. First-quarter provision was $0.7 million; net charge-offs were $1.4 million versus $0.4 million a year earlier. Non-performing loans increased to $12.3 million, or 0.49% of loans, from $7.4 million, or 0.31%, at year-end. Management attributed the increase primarily to one commercial relationship.
  • Cash flow and liquidity: Operating cash flow was $10.9 million, compared with $15.6 million in Q1 2017. Investing activities used $132.6 million, principally reflecting net loan growth and securities purchases; financing activities provided $39.3 million. Cash and cash equivalents fell to $56.9 million from $139.2 million at year-end. Management cited $257.6 million of unpledged available-for-sale securities, $292.4 million of available FHLB credit and $105 million of correspondent-bank federal funds lines.
  • Borrowings and capital: Repurchase agreements were $67.9 million and FHLB advances were $49.1 million. Federal funds purchased and other short-term borrowings were $215.2 million, including a $200 million FHLB cash-management advance that matured in early April. The consolidated total risk-based capital ratio was 13.04%, common equity Tier 1 was 12.16%, and leverage was 11.05%; the company reported that Bancorp and the Bank met applicable capital requirements.

Material changes and management commentary

  • Management described loan growth as strong and cited higher loan yields and volumes as primary drivers of increased net interest income. Deposit and borrowing costs also increased: total interest expense rose 68% year over year, to $2.4 million.
  • The allowance methodology’s historical loss look-back period was extended from 28 to 32 quarters to include a full economic cycle. This change and other model updates reduced the allowance by $682,000. Management considered the allowance adequate but noted that changes in estimates or conditions could materially affect future provisions.
  • Unrealized securities losses increased as interest rates changed; other comprehensive income was negative $3.4 million for the quarter, and accumulated other comprehensive loss was $5.8 million at March 31. Management stated the securities declines reflected interest-rate movements, not credit concerns, and did not expect to have to sell the securities before recovery or maturity.
  • Management expected wealth management and trust revenue growth to moderate to 5%–6% for 2018. It also expected greater deposit-cost pressure and competition through the rest of the year, noting that future prime-rate increases could be revenue neutral. No overall earnings or revenue guidance was provided.
  • The company’s interest-rate simulation estimated that an immediate 200-basis-point increase would raise one-year net interest income by 2.31%, while a 200-basis-point decrease would reduce it by 9.10%. Management cautioned that the model is an estimate, not a forecast of actual results.

Risks, contingencies and unusual items

  • Non-performing loans rose notably during the quarter. One $4.7 million commercial relationship placed on non-accrual accounted for 38% of non-accrual loans at March 31. The filing also reports three consumer mortgage loans in formal foreclosure proceedings, totaling $412,000.
  • Commitments to extend credit totaled $692.4 million, including $18.9 million of standby letters of credit. These are largely undrawn commitments and do not necessarily represent future cash needs; the company recorded $350,000 in other liabilities for risks related to unfunded commitments.
  • Tax-reform accounting remained provisional in certain areas, including deferred tax assets related to tax-credit investments and compensation deductions, pending additional information. Management expected to complete the measurement-period accounting by December 22, 2018.
  • The expected adoption of the credit-loss standard (CECL) in 2020 could materially change credit-loss recognition; the filing states its impact could not yet be quantified. The company expected to recognize an approximately $11 million right-of-use asset and lease liability upon adoption of the new lease standard.
  • Management said pending legal actions were not expected to have a material adverse effect. It identified economic conditions, competition, interest rates, customer financial changes, and regulation as factors that could cause actual results to differ from forward-looking statements.

Important facts for investors to verify

  • Whether the increase in non-accrual and non-performing loans is concentrated in the disclosed commercial relationship or signals broader deterioration.
  • Whether loan growth remains sustainable and whether deposit growth and funding costs support net interest income and liquidity.
  • How the extended loss-history period, charge-offs and future portfolio performance affect allowance adequacy and provision expense.
  • Whether wealth-management growth, the tax-rate benefit and expense trends persist, and how final tax-reform accounting affects reported results.
  • The timing and repayment of short-term borrowings, including the $200 million FHLB cash-management advance, and the effect of interest-rate changes on margins and securities values.