SmartFinancial, Inc. 2017 Third-Quarter Form 10-Q Summary
Business context and reporting period
SmartFinancial, Inc. is a Tennessee bank holding company whose wholly owned subsidiary, SmartBank, provides commercial, residential, consumer and deposit services through operations in eastern Tennessee, northwest Florida and north Georgia. This unaudited Form 10-Q covers the three and nine months ended September 30, 2017. The company was a smaller reporting company with 8,243,717 common shares outstanding as of October 31, 2017.
SmartBank completed the acquisition of an Atlantic Capital Bank branch in Cleveland, Tennessee, on May 19, 2017. SmartFinancial and Capstone Bancshares announced their merger on May 22, 2017; the merger was consummated on November 1, 2017, after the reporting date.
Financial performance and key metrics
| Metric | Q3 2017 | Q3 2016 | 9M 2017 | 9M 2016 |
|---|---|---|---|---|
| Net interest income before provision | $10.9 million | $9.7 million | $31.0 million | $28.4 million |
| Provision for loan losses | $30 thousand | $261 thousand | $340 thousand | $617 thousand |
| Net income | $1.7 million | $1.6 million | $5.0 million | $4.2 million |
| Net income available to common shareholders | $1.7 million | $1.3 million | $4.8 million | $3.4 million |
| Diluted earnings per share | $0.20 | $0.22 | $0.59 | $0.56 |
| Total noninterest income | $1.2 million | $1.2 million | $3.4 million | $3.2 million |
| Total noninterest expense | $9.5 million | $8.0 million | $26.5 million | $24.5 million |
- Tax-equivalent net interest margin was 4.17% in the third quarter, compared with 4.03% in the prior-year quarter, and 4.13% for the first nine months, compared with 4.06% in the prior-year period.
- Annualized return on average assets for the first nine months was 0.61%, versus 0.55% in 2016.
- Average earning assets increased to $1.042 billion in the third quarter from $954 million in the prior-year quarter. Average loans increased by $79.8 million.
- Net loans were $866.3 million at September 30, 2017, up from $808.3 million at December 31, 2016. Gross loan growth was $58.3 million, including purchased loans.
- Total assets were $1.136 billion, up from $1.062 billion at year-end 2016. Total deposits were $960.2 million, up $53.1 million from year-end.
- Cash and cash equivalents were $84.1 million, compared with $68.7 million at December 31, 2016. Securities available for sale were $115.5 million, down from $129.4 million.
- Stockholders’ equity increased to $136.6 million from $105.2 million, primarily reflecting common-stock issuance and option exercises, in addition to earnings.
Cash flow, debt and liquidity
Operating activities provided $8.6 million of cash during the first nine months of 2017, compared with $12.2 million in 2016. Investing activities used $32.5 million, including $34.0 million of net loan originations and collections, a $10.0 million bank-owned life insurance purchase, and $1.0 million for the Cleveland branch acquisition. Financing activities provided $39.3 million, including $37.8 million from common-stock issuance and a $26.2 million increase in deposits, partly offset by net repayments of borrowings and redemption of preferred stock.
FHLB advances and other borrowings were $6.0 million at September 30, 2017, down from $18.5 million at December 31, 2016. No long-term debt was outstanding at either date. Brokered deposits represented approximately 10.3% of total deposits. The company reported $166.8 million of unused commitments to extend credit and $3.2 million of standby letters of credit.
Material changes versus prior comparable periods
- Third-quarter net income available to common shareholders increased 26% year over year, but diluted EPS declined from $0.22 to $0.20 because the average common share count increased substantially.
- First-nine-month net income available to common shareholders increased from $3.4 million to $4.8 million, while diluted EPS rose from $0.56 to $0.59.
- Net interest income benefited from loan growth, higher earning-asset yields and increased average deposits. Interest-bearing deposit costs rose to 0.68% in the quarter and 0.65% for the nine months, versus 0.58% and 0.56%, respectively.
- Noninterest expense increased $1.5 million in the quarter and $2.0 million year to date. Management attributed the increase primarily to higher compensation and merger and conversion costs of $303 thousand in the quarter and $723 thousand year to date.
- The company completed a public offering of 2,010,084 common shares in January 2017, receiving approximately $33.2 million of net proceeds. It used $12.0 million of those proceeds to redeem all preferred stock and paid $195 thousand of accrued preferred dividends.
- Nonperforming loans declined to $1.3 million from $2.1 million at year-end 2016, while total nonperforming assets declined to $4.2 million from $4.5 million.
Asset quality, outlook, risks and unusual items
The allowance for loan losses was $5.4 million, or 0.62% of total loans, compared with 0.63% at year-end 2016. Net charge-offs were $52 thousand for the first nine months. Management considered the allowance adequate, but noted that estimates are sensitive to local economic conditions, collateral values, portfolio composition, credit quality and regulatory review.
Management highlighted preparation for the November 1, 2017 Capstone acquisition, which was expected to increase assets to more than $1.6 billion. The filing does not provide formal earnings or revenue guidance. Forward-looking risks include realizing merger synergies and cost savings, integration and customer or employee disruption, merger-related costs, credit risk, interest-rate changes, loan demand, real-estate values, competition, regulation and broader economic conditions.
On October 31, 2017, the company entered into a $15.0 million revolving line of credit with CapStar Bank and borrowed $10.0 million to fund part of the Capstone merger consideration and for general corporate purposes. The facility converts to a term loan in January 2019 and matures in October 2022. It is secured by the stock of SmartBank and includes financial, asset-quality, liquidity and capital covenants, as well as customary events of default.
The company reported $2.9 million of foreclosed assets and $534 thousand of impaired loans measured using Level 3 fair-value inputs. Management stated that pending legal claims are not expected to have a material effect on the consolidated financial statements. Disclosure controls were deemed effective, and no material changes to internal control over financial reporting were reported.
Most important facts for investors to verify
- Final accounting, purchase-price allocation, goodwill, costs and capital effects of the Capstone merger completed November 1, 2017.
- Post-merger asset quality, deposit retention, integration execution and realization of anticipated synergies.
- Compliance with the CapStar credit-facility covenants, particularly nonperforming-asset, Texas-ratio, liquidity, return-on-assets and debt-service-coverage requirements.
- Sustainability of loan growth and net interest margin as funding costs and interest rates rise.
- Adequacy of the allowance for loan losses given the concentration in commercial and real-estate lending and reliance on local economic and collateral conditions.
- Effect of higher compensation, merger and conversion costs on future operating leverage.
- Liquidity implications of $166.8 million in unfunded lending commitments, $3.2 million in standby letters of credit and the post-period $10.0 million borrowing.