FIRST CAPITAL INC annual report, FY2021

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First Capital, Inc. — 2021 Form 10-K

Business context and reporting period. First Capital is a bank holding company operating through First Harrison Bank, a community bank serving five counties in southern Indiana and Bullitt County, Kentucky. This annual report covers the fiscal year ended December 31, 2021, with comparisons primarily to 2020. The bank focuses on real estate, commercial business and consumer lending, deposits, and mortgage loans sold into the secondary market.

Financial performance and condition

  • Earnings: Net income attributable to First Capital was $11.4 million, or $3.41 diluted EPS, up from $10.1 million, or $3.02, in 2020. Fourth-quarter attributable net income was $2.8 million and diluted EPS was $0.83.
  • Income and margins: Net interest income increased 0.9% to $28.3 million; noninterest income rose 11.1% to $9.6 million. Interest income was $29.5 million and noninterest expense was $24.5 million. Net interest margin declined to 2.84% from 3.39%, the interest-rate spread to 2.80% from 3.32%, and the efficiency ratio rose to 64.8% from 62.8%.
  • Profitability: Return on average assets was 1.05%, down from 1.12%; return on average equity increased to 10.15% from 9.64%. The effective tax rate rose to 16.4% from 14.3%, partly reflecting Kentucky tax changes.
  • Credit costs and asset quality: The company recorded a $325,000 credit to the loan-loss provision, versus a $1.8 million provision in 2020. The allowance was $6.1 million, or 1.25% of loans, versus $6.6 million, or 1.31%. Net charge-offs were $217,000 (0.04% of average loans). Nonperforming loans were $1.33 million; nonperforming assets were reported at $1.4 million, or 0.12% of assets.
  • Balance sheet and funding: Total assets grew 13.7% to $1.16 billion. Deposits increased 15.0% to $1.04 billion; net loans declined to $483.3 million from $500.3 million, largely as PPP loans were repaid. Available-for-sale securities grew to $447.3 million from $283.5 million. The bank reported no FHLB advances or other borrowings at year-end.
  • Liquidity and cash flow: Cash and cash equivalents were $172.5 million at year-end; the bank also held $446.7 million of available-for-sale securities at fair value. Operating cash flow was $21.6 million, investing cash outflow was $156.5 million, and financing cash inflow was $131.5 million; cash decreased $3.4 million. Total lending commitments were $157.1 million.
  • Capital and equity: The bank’s Community Bank Leverage Ratio was 8.84%, above the 8.50% minimum applicable in 2021; regulators categorized it as well capitalized. First Capital stockholders’ equity was $113.8 million. A $5.1 million after-tax unrealized loss on available-for-sale securities reduced accumulated other comprehensive income during the year.

Material changes versus 2020

  • Net income increased by $1.3 million as lower credit provisioning and higher noninterest income more than offset higher operating expenses and a narrower net interest margin.
  • Noninterest income benefited from higher ATM and debit-card fees and a $328,000 unrealized equity-securities gain; 2020 had a $194,000 unrealized loss. Gain on loan sales fell to $2.4 million from $2.7 million.
  • Noninterest expense increased $1.5 million, notably from compensation, data processing and professional fees. Management cited expiration of digital-platform contract credits and fees for a profitability study.
  • Deposits increased $135.1 million, while securities purchases of $252.3 million helped drive the $163.8 million increase in the available-for-sale portfolio. Total loans fell $18.4 million; commercial business loans, including PPP, declined $30.5 million.
  • The company’s share price fell from $60.56 to $40.50 during 2021. Including $1.04 per share of dividends, reported annual shareholder return was -31.4%, versus -15.7% in 2020.

Outlook, commentary, and risks

  • Management gave no numerical earnings or revenue guidance. For 2022, it said it would focus on loan growth, secondary-market mortgage lending, lower-cost demand deposits, asset quality, efficiency, technology, and possible market expansion. A consulting-led profitability improvement project was expected to conclude in the first quarter of 2022.
  • COVID-19 uncertainty remained. The bank had approved extensions on approximately $68.1 million of loans; all such loans had resumed payments or been paid off by year-end. Hotel and restaurant credits were being monitored; reported balances were $10.1 million and $11.1 million, respectively, with none more than 30 days past due at year-end.
  • Key exposures include interest-rate risk and fixed-rate lending: $216.5 million, or 41.8% of loans, had fixed rates. Commercial real estate was 26.8% of loans, and management identifies commercial, construction and consumer lending as relatively higher-risk categories.
  • Uninsured deposits were estimated at $413.0 million, about 40% of deposits. Liquidity was supported by cash, securities and available borrowing facilities, but deposit flows and securities values may be sensitive to market conditions.
  • Interest-rate simulations projected higher one-year net interest income under rate increases and lower income under declines; results depend on model assumptions and are not guarantees. A rising-rate environment could also affect borrowers, credit quality and securities values.
  • Other stated risks include local economic concentration, competition, cybersecurity and third-party technology dependence, regulatory changes, and potential credit losses exceeding estimates. Management reported immaterial cyber incidents during the year and no material pending litigation.

Most important facts for investors to verify

  1. Whether the reduced loan-loss provision and lower allowance remain appropriate as COVID-related assistance expires and economic or borrower conditions change; the allowance includes substantial qualitative adjustments.
  2. Credit quality and collateral values in commercial real estate, construction, hotel and restaurant exposures, including the movement of classified, nonperforming and restructured loans.
  3. The sustainability of net interest income and deposit costs as rates change, given the falling net interest margin, fixed-rate assets and large deposit base.
  4. The liquidity and value implications of the enlarged securities portfolio, including the effect of further rate movements on unrealized losses and equity.
  5. Whether deposit growth, including the estimated uninsured portion, and the bank’s 8.84% leverage ratio remain adequate under stress; also verify the timing and results of the planned profitability initiative and CECL adoption, expected after 2022.