Auburn National Bancorporation, Inc. — Q2 2018 Form 10-Q
Reporting period: Quarter and six months ended June 30, 2018. AuburnBank provides banking services primarily in Lee County and surrounding areas in East Alabama. Figures are in millions unless otherwise stated.
Financial performance and condition
- Q2 earnings: Net earnings were $2.264 million, up from $1.995 million a year earlier; diluted EPS was $0.62 versus $0.55. Six-month net earnings were $4.459 million versus $3.885 million; EPS was $1.22 versus $1.07.
- Revenue and margin: Q2 GAAP net interest income was $6.317 million, compared with $6.101 million; tax-equivalent net interest income was $6.469 million versus $6.402 million. Six-month tax-equivalent net interest income rose 3% to $12.909 million, and tax-equivalent net interest margin increased to 3.33% from 3.23%. Six-month total revenue, measured using tax-equivalent net interest income, was $14.293 million versus $13.619 million.
- Expenses and taxes: Q2 noninterest expense increased to $4.326 million from $4.015 million, mainly on higher salaries and benefits. Six-month expense was $8.728 million versus $8.133 million. Six-month income tax expense declined to $1.106 million from $1.501 million; the effective tax rate was 19.87% versus 27.87%, primarily reflecting the federal rate reduction under the Tax Cuts and Jobs Act. The six-month efficiency ratio increased to 59.78% from 57.19%.
- Loans and credit: Loans, net of unearned income, were $456.6 million at quarter-end, up $2.9 million from December 31, 2017; average loans increased 4% year over year in the first half. Commercial real estate represented 54% of the portfolio, and 86.3% of loans were secured by real estate. The allowance was $4.750 million, or 1.04% of loans. Nonperforming assets fell to $1.241 million from $3.239 million at year-end, mainly after resolution of a commercial real estate loan; nonaccrual loans were $1.104 million. Potential problem loans were $5.565 million.
- Balance sheet, funding and liquidity: Total assets were $811.8 million, down from $853.4 million at year-end. Deposits declined to $721.0 million from $757.7 million, primarily from a $39.0 million decrease in public depositor balances; noninterest-bearing deposits increased to $199.5 million. Cash and cash equivalents were $65.9 million versus $105.5 million at year-end. The Bank had $248.7 million of available FHLB credit and $41.0 million of federal funds lines available, with none drawn. Management said liquidity was adequate for known obligations and reasonable funding needs over the next 12 months.
- Debt and capital: On April 27, the Company redeemed its trust preferred securities and related junior subordinated debentures; the additional payment for securities not previously purchased was approximately $3.0 million, including accrued distributions. No long-term debt remained at June 30. Capital ratios were strong: total risk-based capital 17.29%, CET1 16.40%, and Tier 1 leverage 10.93%. Stockholders’ equity was $85.7 million versus $86.9 million at year-end.
- Cash flow and securities: First-half operating cash flow was $4.933 million versus $3.692 million. Investing activities used $2.970 million, versus $40.410 million in the prior-year period; financing activities used $41.546 million, including the deposit decline, debt retirement and dividends. Cash and cash equivalents decreased by $39.583 million. Available-for-sale securities were $251.3 million; six-month other comprehensive loss was $3.874 million, largely reflecting market-value declines as rates rose.
Material changes and management outlook
- Improved earnings reflected higher net interest income, loan growth, higher short-term rates and a lower effective tax rate. Mortgage lending income also increased, helped by higher origination and sale volume and lower MSR amortization.
- Management expected net interest income to continue increasing in 2018, primarily from higher average earning-asset volumes, especially loans. It cautioned that competition, funding-cost increases and interest-rate movements could pressure margins; the company anticipated a challenging competitive environment.
- No provision for loan losses was recorded in the first half of 2018, compared with $0.1 million in the prior-year period. Management considered the allowance adequate but noted it depends on estimates and could require increases if local or national economic, real estate or credit conditions weaken. The allowance methodology’s loss look-back period was extended to 37 quarters.
- Unrealized securities losses increased; management attributed them primarily to interest-rate changes rather than credit deterioration and said it did not expect to be forced to sell before recovery. The filing notes future impairment remains possible if issuer conditions deteriorate.
- Off-balance-sheet commitments included $65.1 million of unfunded loan commitments and $6.7 million of standby letters of credit. Mortgage loans serviced for Fannie Mae had $302.5 million unpaid principal; $53,000 of loans were repurchased in the first half, with no pending requests at June 30. Management did not consider this exposure material, while noting requests could increase.
- Management identified risks including interest-rate and liquidity changes, credit deterioration, real estate concentrations and values, competition, regulation, cybersecurity, and uncertainty in accounting estimates. It reported no legal proceedings expected to materially affect results, no material subsequent events, and effective disclosure controls.
Key facts for investors to verify
- Whether deposit outflows—particularly public deposits—and the lower cash balance persist, and how they affect funding costs and liquidity.
- Whether loan growth and margin improvement continue as rates, competition and deposit pricing change.
- Credit trends in commercial real estate and residential mortgage exposures, including potential problem loans, nonaccruals and allowance adequacy.
- Further changes in securities’ unrealized losses, capital and equity after the rate-driven decline in accumulated other comprehensive income.
- Effects of the debt redemption, loan commitments, mortgage repurchase or make-whole claims, and adoption of pending accounting standards, including the expected-credit-loss standard.