Five Star Bancorp — Q3 2023 Form 10-Q
Business and period: Five Star Bancorp is a California bank holding company operating Five Star Bank, serving businesses, professionals and individuals primarily in Northern California. This unaudited report covers the quarter and nine months ended September 30, 2023; balance-sheet comparisons are to December 31, 2022. Amounts below are in U.S. dollars.
Financial performance and position
- Q3 earnings: Net interest income was $27.5 million, essentially unchanged year over year. Net income was $11.0 million versus $11.7 million; diluted EPS was $0.64 versus $0.68. Noninterest expense rose 18.1% to $12.0 million, while provision for credit losses declined to $1.1 million from $2.3 million.
- Nine-month earnings: Net interest income increased 13.9% to $84.2 million and net income increased to $36.9 million from $31.5 million; diluted EPS was $2.15 versus $1.84. Noninterest expense rose 17.2% to $35.1 million.
- Margins and returns: Net interest margin was 3.31% for Q3 (3.86% a year earlier) and 3.50% for the first nine months (3.73% a year earlier). Q3 efficiency ratio increased to 41.63% from 35.13%; nine-month ratio increased to 39.11% from 37.68%.
- Balance sheet: Total assets were $3.51 billion, up 8.6% from year-end. Loans held for investment were $3.01 billion, up 7.8%; deposits were $3.03 billion, up 9.0%. Shareholders’ equity was $274.0 million, versus $252.8 million at year-end.
- Funding and liquidity: Cash and cash equivalents totaled $323.5 million. Nine-month cash flows were $40.5 million provided by operations, $207.7 million used in investing and $230.7 million provided by financing. Management reported approximately $859.7 million of total liquidity, including cash and immediately available borrowing capacity. The loan-to-deposit ratio was 99.57%.
- Debt and capital: The Bank had $90.0 million of FHLB advances; the company had $73.7 million of subordinated debt, bearing 6.00% fixed interest through September 2027 and then floating at Term SOFR plus 329 basis points. Company total risk-based capital was 12.37%; the Bank’s was 11.97%. The Bank met the regulatory “well-capitalized” thresholds.
- Credit and securities: The loan allowance was $34.0 million, or 1.13% of loans, versus $28.4 million and 1.02% at year-end. Nine-month net charge-offs were $2.5 million. Available-for-sale securities had $22.7 million of gross unrealized losses; accumulated other comprehensive loss was $15.9 million.
Changes, outlook and principal risks
- Higher loan balances and yields supported interest income, but deposit costs increased sharply: Q3 cost of interest-bearing deposits rose 228 basis points year over year. Noninterest-bearing deposits fell $135.3 million from year-end and declined to 27.49% of deposits from 34.82%.
- Management attributed higher expenses to staffing, technology and FDIC insurance costs, among other items. It expects expenses to grow as the business expands and said it expects the efficiency ratio to improve over time. Management expects continued loan growth; the filing provides no specific earnings, margin or growth guidance.
- Real estate-related loans represented 92.71% of the loan portfolio; commercial real estate loans equaled 682.70% of risk-based capital. Most lending is concentrated in California, leaving the bank exposed to regional economic and property-market weakness.
- Large-depositor concentration is material: 86 relationships above $5 million totaled $1.9 billion, or about 61.64% of deposits; the largest relationship was $250 million, or 8.24%. Uninsured and uncollateralized deposits totaled $1.0 billion. About $405 million of time deposits were expected to mature within the following 12 months.
- Nonaccrual loans rose to $2.0 million from $0.4 million at year-end; watch and substandard loans increased to $35.6 million from $22.3 million. There were no loans over 90 days past due and still accruing. Management cited challenges affecting a small subset of borrowers.
- The company adopted CECL on January 1, 2023, increasing the opening loan allowance by $5.3 million and reducing retained earnings by $4.5 million after tax; this limits direct comparison with 2022. Management considered the AFS securities’ unrealized losses rate- and market-related rather than credit-related.
- Other risks include interest-rate and funding-cost changes, liquidity needs, regulatory changes following recent bank failures, and the potential impact of new CRA requirements. Management stated that pending ordinary-course litigation was not expected to materially affect the company. The board authorized a $0.20-per-share dividend for payment in November 2023; future dividends remain at board discretion.
Important facts for investors to verify
- Whether deposit pricing, deposit mix and large-depositor retention continue to pressure net interest margin and liquidity.
- How commercial real estate concentrations, rising watch/substandard balances and nonaccrual loans develop, and whether the allowance remains adequate.
- Whether management’s expected efficiency-ratio improvement materializes as staffing, technology and regulatory expenses rise.
- The sensitivity of capital and reported equity to interest rates, including the substantial unrealized losses in the securities portfolio.
- Future time-deposit renewal rates, funding availability and the effect of regulatory changes on capital, liquidity and operating costs.