Franklin Financial Services Corporation — Form 10-Q Summary
Business context and reporting period
Franklin Financial Services Corporation is a Pennsylvania-based bank holding company whose principal subsidiary is Farmers and Merchants Trust Company of Chambersburg. The filing covers the quarter and nine months ended September 30, 2012. Financial statements are unaudited and presented in thousands, except per-share data.
Key financial metrics
| Metric | Three months ended September 30, 2012 | Nine months ended September 30, 2012 |
|---|---|---|
| Total interest income | $9.7 million | $29.7 million |
| Net interest income | $8.0 million | $24.2 million |
| Provision for loan losses | $825 thousand | $3.6 million |
| Noninterest income | $2.2 million | $7.3 million |
| Noninterest expense | $7.4 million | $22.0 million |
| Net income | $1.7 million | $5.0 million |
| Diluted EPS | $0.43 | $1.24 |
| Cash dividends declared per share | $0.17 | $0.61 |
At September 30, 2012, total assets were $1.057 billion, gross loans were $752.6 million, net loans were $742.5 million, investment securities were $134.3 million, total deposits were $857.8 million, long-term debt was $37.9 million, and shareholders’ equity was $91.7 million.
Year-to-date cash flow from operating activities was $10.7 million, investing activities used $1.6 million, and financing activities provided $61.0 million. Cash and cash equivalents increased to $104.2 million from $34.1 million at year-end 2011.
Reported year-to-date performance ratios included a 3.51% net interest margin, 67.09% efficiency ratio, 0.65% return on average assets, and 7.56% return on average equity. Capital remained strong: the Corporation reported an 8.20% Tier 1 leverage ratio and a 12.66% total risk-based capital ratio and was considered well capitalized.
Material changes versus comparable periods
- Third-quarter net income increased to $1.7 million from $1.1 million; year-to-date net income increased 7.6% to $5.0 million from $4.7 million.
- Year-to-date net interest income increased $116 thousand despite a 16-basis-point decline in net interest margin, as lower funding costs and higher average earning assets offset lower asset yields.
- The loan-loss provision declined to $3.6 million year-to-date from $5.4 million, while net charge-offs declined to $3.2 million from $5.0 million.
- Noninterest income declined 1.3% year-to-date, principally because of lower deposit service charges and lower securities gains. Noninterest expense increased 2.4%, primarily from salaries, benefits, and pension expense.
- Deposits increased $69.8 million, or 8.9%, from year-end, while net loans declined $14.2 million, or 1.9%. Investment securities increased $9.0 million.
- Nonperforming loans increased to $36.0 million from $22.5 million at year-end, and total nonperforming assets increased to $42.2 million from $25.8 million. Other real estate owned increased to $6.2 million from $3.2 million.
- The allowance for loan losses increased to $10.1 million, or 1.34% of loans, from $9.7 million, or 1.20% of loans. Nonperforming loans represented 4.78% of gross loans versus 2.94% at year-end.
Outlook, commentary, risks, and unusual items
- Management expects interest rates to remain at historically low levels through 2015 and does not expect asset yields to increase materially. It expects to reduce deposit costs to help preserve the net interest margin.
- Management expects continued pressure on investment-portfolio yields as higher-yielding securities mature or pay down and are reinvested at lower rates.
- Credit risk increased, particularly in commercial real estate and residential real estate development. One $8.1 million nonaccrual relationship, including a $2.8 million doubtful loan, may require a further write-down if additional collateral is not provided and a new appraisal does not support the carrying value.
- One agricultural borrower with a $1.8 million current balance filed for bankruptcy in October 2012. Management stated it did not expect a loss based on the facts available at filing.
- The Bank recorded a $50 thousand other-than-temporary impairment charge on two private-label mortgage-backed securities during the quarter. Cumulative impairment charges on that portfolio totaled $440 thousand, and additional write-downs remain possible.
- The Bank held $4.7 million of trust-preferred securities at fair value with $1.2 million of unrealized losses. Management believed principal and interest remained collectible and recorded no other-than-temporary impairment on those securities.
- The Bank held $6.2 million of other real estate owned, including $3.7 million of property added during the third quarter through a deed-in-lieu of foreclosure.
- Liquidity was considered adequate. Available sources included approximately $47 million under an FHLB line, $16 million of unsecured correspondent-bank lines, and approximately $56 million at the Federal Reserve Discount Window. Approximately 94% of the debt investment portfolio was pledged as collateral.
- Unused loan commitments and standby letters of credit totaled $237.8 million. Standby letters of credit were $28.1 million, with no material related liability recorded.
- Management identified no material litigation, no material changes in risk factors, and effective disclosure controls as of September 30, 2012.
- The Board declared a regular fourth-quarter dividend of $0.17 per share, payable November 28, 2012. The filing did not provide formal earnings guidance.
Important facts for investors to verify
- Whether elevated nonperforming loans, impaired loans, OREO, and residential development exposures lead to additional charge-offs, provisions, or valuation losses.
- The updated appraisal and collateral outcome for the $8.1 million nonaccrual relationship and the effect of the related borrower workout.
- The performance and impairment status of the trust-preferred and private-label mortgage-backed securities portfolios.
- Whether deposit growth can be sustained and whether low interest rates further compress the net interest margin.
- The impact of the October 2012 FHLB debt prepayment, related penalties, and the expiration of the FDIC Transaction Account Guarantee program after December 31, 2012.
- The eventual effect of proposed regulatory capital rules and the extent to which pledged collateral limits incremental borrowing capacity.