Bank of Marin Bancorp — 2018 Form 10-K Summary
Reporting period: Fiscal year ended December 31, 2018. This is an annual report, not a standalone fourth-quarter report; comparisons below are primarily with fiscal 2017. The company is a California community banking holding company operating through Bank of Marin, focused on businesses, professionals, nonprofits and individuals in the San Francisco Bay Area.
Financial performance and condition
| Metric | 2018 | 2017 |
|---|---|---|
| Net interest income | $91.5 million | $74.9 million |
| Non-interest income | $10.1 million | $8.3 million |
| Non-interest expense | $58.3 million | $53.8 million |
| Provision for loan losses | None | $0.5 million |
| Income before taxes | $43.4 million | $28.8 million |
| Income tax provision / effective rate | $10.8 million / 24.9% | $12.9 million / 44.6% |
| Net income | $32.6 million | $16.0 million |
| Diluted earnings per share | $2.33 | $1.27 |
| Tax-equivalent net interest margin | 3.90% | 3.80% |
| Return on average assets / equity | 1.31% / 10.73% | 0.75% / 6.49% |
| Efficiency ratio | 57.3% | 64.7% |
- Balance sheet at year-end: Assets were $2.521 billion, up from $2.468 billion; gross loans were $1.764 billion, up 5.1%; deposits were $2.175 billion, up $26.1 million; and stockholders’ equity was $316.4 million.
- Funding and liquidity: Non-interest-bearing deposits were 49% of year-end deposits; full-year total deposit cost was 0.10%. Liquid assets, defined by the company as cash plus unencumbered available-for-sale securities, totaled $433.2 million. Cash and cash equivalents fell by $169.3 million to $34.2 million. The Bank had $629.4 million available under FHLB lines and $69.7 million under its Federal Reserve line; only $7.0 million of FHLB overnight borrowings was outstanding at year-end.
- Cash flow: Net cash provided by operating activities was $42.1 million; investing activities used $225.3 million, largely reflecting securities purchases; financing activities provided $13.9 million. Net cash and cash equivalents declined $169.3 million.
- Debt and capital: Year-end borrowings were $9.6 million, including $7.0 million of FHLB borrowing and $2.6 million of subordinated debentures. Bancorp’s total risk-based capital ratio was 14.93%; the Bank’s was 13.98%. Both were above applicable requirements, and the Bank was classified as well capitalized.
- Credit quality: The allowance for loan losses was $15.8 million, or 0.90% of loans, versus 0.94% in 2017. Non-accrual loans were $697,000, or 0.04% of loans. Net recoveries were $54,000.
Changes versus 2017
- Net income more than doubled, rising $16.6 million. Higher average earning assets and asset yields drove higher net interest income; the lower tax rate following the Tax Cuts and Jobs Act also contributed to the earnings comparison. 2017 included a $3.0 million write-down of deferred tax assets due to the tax-law change.
- Average earning assets increased $337.7 million, and the tax-equivalent net interest margin rose 10 basis points. Interest expense also increased, including accelerated accretion associated with an early subordinated-debt redemption.
- Non-interest income increased 22.6%, including a $956,000 pretax gain on sale of Visa Class B shares and higher deposit-network income. Non-interest expense increased 8.3%, mainly from salaries and benefits, consulting, amortization and acquisition-related costs.
- Loans grew $84.9 million and deposits grew $26.1 million. Non-interest-bearing deposits increased $51.9 million. The loan-to-deposit ratio rose to 81.10% from 78.14%.
- The investment securities portfolio’s amortized cost increased 28.4% to $623.1 million. The company purchased $237.9 million of securities and sold $17.1 million, with sales primarily reflecting less favorable municipal-security yields following tax-law changes.
Outlook, commentary, risks and unusual items
- Management provided no quantified earnings or financial guidance. It said the low-cost deposit base, loan-growth opportunities, liquidity and capital position support continued performance in 2019, and that acquisitions remain part of its strategy. It expected salaries and benefits to rise as commercial banking positions were filled; data-processing savings were expected to be partly offset by mobile-banking implementation costs in the first half of 2019.
- Interest-rate exposure is material. Management’s model showed year-one net interest income declining 0.8% under an immediate 100-basis-point rise and 4.5% under a 100-basis-point decline; the filing cautions that model results depend on assumptions and are not forecasts. Management noted the yield curve flattened in 2018 and the Federal Reserve signaled patience on future rate hikes in early 2019.
- Real-estate lending is concentrated: approximately 88% of loans were secured by real estate, 67% were commercial real estate, and CRE loans equaled 340% of total risk-based capital under regulatory concentration definitions. Management stated it was managing the concentration and considered its underwriting and monitoring adequate.
- Other risks include Bay Area economic and property-market weakness, borrower and depositor concentration/volatility, deposit competition and rising funding costs, wildfires and other disasters, cyber and vendor risks, regulatory changes, and the planned LIBOR transition. The top ten depositor relationships represented about 11% of deposits; no individual depositor exceeded 5%.
- The allowance was assessed under the incurred-loss model. CECL was scheduled to take effect in 2020; management could not quantify its impact and said adoption could increase the allowance. The filing also reports implementation of lease accounting in January 2019, adding an estimated $13.4 million right-of-use asset and $15.4 million lease liability.
- Unusual items include the $956,000 Visa-share sale gain and $916,000 accelerated accretion expense upon redemption of one subordinated debenture. Visa-related litigation remained ongoing; management did not expect cash settlement payments while the Visa escrow remains available, but the final impact on the conversion value of remaining shares was uncertain.
- The company repurchased 171,217 shares for $7.0 million under a $25.0 million authorization expiring May 1, 2019, and paid $8.9 million in common dividends. A two-for-one stock split occurred in November 2018; reported share and per-share data reflect the split.
- The auditor issued unqualified opinions on the financial statements and internal control over financial reporting; management and the auditor concluded controls were effective. Management reported no pending legal proceedings expected to have a material adverse effect.
Important facts for investors to verify
- Whether loan and deposit growth, non-interest-bearing deposit mix, and funding costs remain favorable as competition and market rates change.
- The composition, collateral quality and performance of the CRE portfolio, including progress in managing CRE concentration and any change in criticized or impaired loans.
- Whether the $15.8 million allowance remains adequate and the eventual CECL transition effect on reserves, earnings and capital.
- How securities valuation and interest-rate sensitivity evolve, especially given unrealized securities losses and the disclosed limitations of the company’s rate-simulation assumptions.
- The realized cost savings and implementation costs from processing and mobile-banking initiatives, and the effect of staffing growth on expenses.
- Remaining authorization and actual pace of share repurchases, dividend capacity at the Bank and holding company, and capital levels after distributions.
- Resolution of Visa litigation and its effect on the value of remaining Visa Class B shares; progress in replacing LIBOR-linked contracts ahead of the announced phaseout.