First United Corporation — Q1 2020 Form 10-Q
Reporting period: Three months ended March 31, 2020; balance-sheet figures are as of March 31, 2020 unless noted. First United is a bank holding company whose primary subsidiary is First United Bank & Trust. Financial statement amounts below are in millions unless otherwise indicated.
Financial performance and position
- Earnings: Net income was $1.755 million, down 44% from $3.151 million in Q1 2019. Basic and diluted EPS were $0.25 versus $0.44. Annualized return on average assets was 0.49% (0.91% prior year); return on average equity was 5.62% (10.49%).
- Interest income and margins: Net interest income rose to $11.887 million from $11.346 million. GAAP net interest margin was 3.66% versus 3.65%; fully taxable-equivalent margin was 3.69% versus 3.72%. Interest expense was nearly unchanged at $2.729 million.
- Credit costs: Provision for loan losses increased to $2.654 million from $0.349 million. The allowance for loan losses rose to $15.012 million, or 1.42% of loans, from $12.537 million, or 1.19%, at year-end. Management attributed $2.4 million of Q1 provision to COVID-19-related qualitative adjustments.
- Other income and expenses: Other operating income, including gains, increased to $4.049 million from $3.721 million. Operating expenses rose to $11.005 million from $10.690 million; professional services increased $0.519 million, partly offset by lower salaries and benefits.
- Cash flow: Operating activities provided $3.669 million, investing activities provided $0.934 million, and financing activities provided $17.426 million. Cash and cash equivalents ended the quarter at $72.008 million, up from $49.979 million at December 31, 2019.
- Balance sheet and funding: Total assets were $1.462 billion, up $19.5 million from year-end. Loans were $1.054 billion, broadly stable; deposits increased $30.4 million to $1.172 billion. Short-term borrowings declined $9.3 million to $39.4 million; long-term borrowings remained $100.9 million. Shareholders’ equity fell $7.4 million to $118.5 million, including the impact of other comprehensive loss and share repurchases.
- Capital and liquidity: Management said the Corporation and Bank were well-capitalized. At March 31, consolidated total capital/risk-weighted assets was 16.01%, common equity Tier 1 was 12.43%, and Tier 1 capital/average assets was 11.52%. Available funding included $115.0 million in unsecured correspondent lines, $2.1 million at the Federal Reserve Discount Window, and approximately $158.2 million of FHLB borrowing capacity.
Changes versus comparable periods
- Net income declined $1.396 million year over year, principally because of the $2.305 million increase in loan-loss provision and higher operating expenses; higher net interest income and other income and lower income tax expense partly offset the decline.
- Gross loans increased $1.6 million from December 31, 2019. Commercial real estate, acquisition and development, and commercial and industrial balances grew, while residential mortgage balances declined $5.2 million as longer-term fixed-rate loans were sold to Fannie Mae.
- Deposits grew $30.4 million from year-end, while short-term borrowings decreased. Available-for-sale securities had a $3.5 million net unrealized loss at quarter-end; the held-to-maturity portfolio’s fair value exceeded its carrying amount.
- Other comprehensive loss was $5.632 million, compared with $2.715 million of other comprehensive income in Q1 2019, largely reflecting a $4.915 million net pension-plan loss and a $0.963 million cash-flow-hedge loss.
Outlook, risks, and unusual items
- COVID-19 and credit: Management cited substantial uncertainty about pandemic effects on borrowers, local economic conditions, and future credit losses. The allowance increase reflected that uncertainty. Through May 6, 508 loans totaling $161.2 million, or 15.3% of the loan portfolio, had COVID-related modifications; commercial modifications represented 19.8% of commercial balances, and mortgage/consumer modifications 9.8% of those balances.
- PPP: By March 31, the Bank had funded 428 PPP applications for approximately $111 million. After additional program funding, it had approval for 492 more applications totaling approximately $29 million through May 1. Management reported more than $140 million approved for 920 businesses and anticipated approximately $3.5 million in processing fees. These later approvals and related disbursements occurred after quarter-end; the Bank had not yet accessed the Federal Reserve’s PPP Liquidity Facility.
- Rates and revenue outlook: Management said the Federal Reserve’s March rate reductions and historically low Treasury yields could reduce future net interest margin and spread. It anticipated reduced loan demand for the remainder of 2020 and potentially lower trust income, which is affected by market values. No specific earnings or margin guidance was provided.
- Credit and operations: Non-accrual loans were $11.0 million, or 1.05% of loans, versus $10.8 million at year-end. A large A&D participation loan remained under forbearance; a related sale process was delayed by COVID-19. Foreclosure and repossession activity was temporarily suspended. Total loan commitments rose $25.9 million to $182.9 million, and management said the pandemic had slowed projects and disbursements.
- Investments and estimates: The $12.4 million fair value of the nine pooled trust-preferred CDO securities was based on Level 3 valuation inputs; their amortized cost was $18.5 million. Management reported no credit-related OTTI charge in Q1 and no impairment of goodwill after interim testing, but noted that prolonged economic uncertainty could require further goodwill assessments.
- Capital actions: The Corporation repurchased 145,291 shares in March for $2.754 million at an average $18.96 per share. It declared a $0.13-per-share dividend, versus $0.09 in Q1 2019.
Most important facts for investors to verify
- How pandemic-related borrower stress, loan modifications, delinquencies, and charge-offs develop, and whether the $15.0 million allowance remains adequate.
- Whether PPP loans are disbursed, forgiven, and repaid as expected, and when the anticipated processing fees are recognized.
- How the rapid deposit growth, funding mix, and lower-rate environment affect net interest margin and liquidity.
- Whether trust and brokerage income, loan demand, and loan commitments change materially in subsequent quarters.
- Updated valuation and credit performance of the Level 3 CDO portfolio, pension-plan assets and obligations, and goodwill under continued economic stress.