Alerus Financial Corporation — Q3 2019 Form 10-Q
Reporting period: Three and nine months ended September 30, 2019; unaudited. Alerus is a diversified financial services company with banking, retirement and benefit services, wealth management, and mortgage businesses.
Financial results and condition
| Metric | Q3 2019 | Q3 2018 | Nine months 2019 | Nine months 2018 |
|---|---|---|---|---|
| Net interest income | $18.7 million | $18.9 million | $56.1 million | $56.0 million |
| Provision for loan losses | $1.5 million | $1.5 million | $5.5 million | $7.1 million |
| Noninterest income | $29.6 million | $26.3 million | $84.6 million | $76.6 million |
| Noninterest expense | $37.3 million | $34.3 million | $106.1 million | $100.4 million |
| Net income | $7.1 million | $7.4 million | $21.9 million | $19.8 million |
| Diluted EPS | $0.48 | $0.52 | $1.49 | $1.41 |
| Net interest margin, tax-equivalent | 3.69% | 3.80% | 3.72% | 3.85% |
| Efficiency ratio | 75.17% | 73.16% | 73.06% | 72.84% |
Q3 net income declined $0.3 million year over year as higher noninterest income was offset by higher expenses, taxes, and lower net interest income. Nine-month net income rose $2.1 million, reflecting higher noninterest income and lower loan-loss provision, partly offset by increased expenses and taxes. Mortgage banking revenue was a key contributor to fee-income growth.
At September 30, 2019, total assets were $2.23 billion, net loans were $1.66 billion, deposits were $1.83 billion, and stockholders’ equity was $281.4 million. Loans declined 0.9% and deposits increased 3.3% from December 31, 2018. Cash and cash equivalents were $61.2 million. Total long-term debt was $58.8 million; short-term borrowings were zero, versus $93.5 million at year-end. On-balance-sheet liquidity was $192.7 million. The Bank reported capital ratios above well-capitalized thresholds.
For the first nine months, operating cash flow was $1.9 million, investing cash flow was $4.4 million, and financing cash flow was $14.1 million; cash increased $20.5 million to $61.2 million. Operating cash flow was substantially lower than the prior-year $27.3 million, including because loans held for sale increased.
Material changes and management commentary
- Net interest margin fell year over year as funding costs rose. Q3 average cost of interest-bearing liabilities increased to 1.39% from 0.94%; average loan yield increased to 5.06% from 4.77%.
- Nine-month mortgage banking income increased $6.2 million, alongside higher mortgage originations and the move to mandatory delivery of mortgage loans to the secondary market. Nine-month mortgage originations were $685.2 million, versus $609.9 million.
- Expenses rose with compensation, employee benefits, and technology investment. Management attributed staffing growth and investment in client relationship and digital delivery systems to the increases.
- Criticized loans fell to $60.1 million, or 3.57% of loans, from $87.5 million, or 5.14%, at year-end. Nonperforming loans were $5.2 million, or 0.31% of loans. The allowance was $23.0 million, or 1.36% of loans; nine-month net charge-offs were $4.7 million.
Outlook, risks, and unusual items
- The filing provides no specific earnings or financial guidance. Management cautions that interim results are not necessarily indicative of full-year results.
- The September IPO raised $62.8 million net from 3.289 million shares. Proceeds were held at the Bank and used to pay down short-term borrowings. The offering increased capital and shares outstanding.
- The Duluth branch sale closed April 26, 2019, generating a $1.5 million pretax gain; a Grand Forks land sale produced a $542,000 gain. These are unusual items within noninterest income.
- Commitments to extend credit and standby letters of credit totaled $578.2 million. Management said available liquidity was adequate to fund commitments; contingent funding sources included up to $545.7 million of additional FHLB borrowing capacity and $87.0 million in unsecured bank lines.
- Interest-rate simulation estimated that a 100-basis-point decline would reduce net interest income 5.4% over 12 months; a 400-basis-point increase would raise it 4.4%. Economic value of equity sensitivity ranged from a 26.5% decline under a 100-basis-point decrease to an 18.5% increase under a 400-basis-point increase. These model estimates depend on assumptions.
- Key disclosed risks include credit quality and loan-loss estimates, funding costs and liquidity, interest-rate exposure, mortgage activity and repurchases, cybersecurity and technology disruptions, competition, regulation, and execution of growth plans. The company reported no material changes to previously disclosed risk factors and no material pending legal proceedings.
Important facts for investors to verify
- Whether mortgage revenue growth and recent gains are repeatable, and how mortgage volumes and secondary-market execution develop.
- Whether deposit repricing continues to pressure net interest margin and profitability.
- Credit trends behind lower criticized balances, including the elevated nine-month net charge-offs and allowance adequacy.
- How IPO proceeds, increased share count, and repayment of short-term borrowings affect future returns and per-share results.
- The assumptions behind liquidity resources and interest-rate sensitivity models, and the potential use of substantial unfunded credit commitments.