First National Corporation — Form 10-Q Summary
Business Context and Reporting Period
First National Corporation is a Virginia bank holding company for First Bank, serving individuals, small and medium-sized businesses, governmental entities and nonprofit organizations in the northern Shenandoah Valley. Products include commercial and residential lending, deposits, trust and investment advisory services, brokerage and electronic banking. The filing covers the three and six months ended June 30, 2013; financial statements are unaudited.
Key Financial Metrics
| Metric | Three Months Ended June 30, 2013 | Six Months Ended June 30, 2013 |
|---|---|---|
| Total interest and dividend income | $5.4 million | $10.8 million |
| Net interest income | $4.7 million | $9.3 million |
| Provision for loan losses | $2.5 million | $2.3 million |
| Noninterest income | $2.0 million | $3.5 million |
| Noninterest expense | $4.8 million | $9.9 million |
| Net income | $261 thousand | $1.244 million |
| Net income available to common shareholders | $31 thousand | $789 thousand |
| Basic and diluted EPS | $0.01 | $0.16 |
| Net interest margin | 3.71% | 3.75% |
| Return on average assets | 0.19% | 0.47% |
| Return on average equity | 2.32% | 5.57% |
At June 30, 2013, total assets were $540.7 million, gross loans were $377.5 million, loans net of allowance were $365.0 million, securities available for sale were $105.2 million, deposits were $476.0 million and shareholders’ equity was $43.1 million.
Cash and cash equivalents ended the first six months at $31.1 million. Operating activities provided $5.4 million of cash, investing activities used $13.9 million and financing activities provided $8.7 million. The company had $106.4 million of available non-deposit funding sources, including $66.6 million from the Federal Home Loan Bank, $37.0 million in unsecured correspondent-bank lines and $2.8 million through the Federal Reserve Discount Window.
Other borrowings were $6.1 million and trust preferred capital notes were $9.3 million. The company and bank remained well capitalized: consolidated total risk-based capital was 15.94%, consolidated Tier 1 risk-based capital was 14.66%, and First Bank’s corresponding ratios were 14.26% and 12.99%.
Material Changes Versus Prior Comparable Period
- Second-quarter net income declined to $261 thousand from $694 thousand, while net income available to common shareholders declined to $31 thousand from $467 thousand.
- Six-month net income increased modestly to $1.244 million from $1.169 million, but EPS declined to $0.16 from $0.24 because the prior-year share count was substantially lower.
- Net interest income declined 3% in the quarter and 6% year to date. Net interest margin fell from 3.88% to 3.71% in the quarter and from 4.01% to 3.75% year to date, primarily because asset yields declined more than funding costs.
- The second-quarter provision for loan losses increased to $2.5 million from $650 thousand, primarily due to a $2.3 million charge-off on one large loan relationship. Net charge-offs increased to $2.8 million from $287 thousand.
- Noninterest income increased 39% in the quarter, largely because of a one-time $543 thousand gain from terminating the split-dollar life insurance liability. Six-month noninterest income declined 11%, primarily because the prior-year period included $1.1 million of securities gains.
- Noninterest expense increased 7% in the quarter and 6% year to date. Second-quarter OREO expense rose to $376 thousand from $106 thousand; year-to-date expense included a $209 thousand loss on terminating a land lease.
- Gross loans declined $6.1 million from year-end, driven mainly by a $16.7 million decline in other real estate loans, partly offset by an $10.7 million increase in 1-4 family residential loans.
- Deposits increased $9.1 million, as demand and savings deposits rose $18.0 million while time deposits declined $9.0 million.
- Accumulated other comprehensive loss increased to $3.6 million from $859 thousand, reflecting a $2.7 million unrealized loss on available-for-sale securities caused by changes in market interest rates.
Outlook, Risks, Contingencies and Unusual Items
The filing provides no quantitative earnings guidance. Management states that quarterly results are not necessarily indicative of full-year results and expresses confidence that liquidity and capital are sufficient to support depositors and customer borrowing needs.
- Nonperforming assets were $13.2 million, or 2.44% of assets, consisting of $9.1 million of nonaccrual loans and $4.1 million of net OREO. Construction and land development loans contributed to increases in nonaccrual and seriously past-due loans.
- Other potential problem loans totaled $34.5 million, down from $44.6 million at year-end. Management cautions that these loans could become nonperforming depending on economic and borrower conditions.
- The allowance for loan losses was $12.5 million, or 3.31% of total loans. Management believes reserves are adequate, but acknowledges that additional provisions could be required because of economic conditions, collateral values or borrower performance.
- The full $7.0 million valuation allowance on net deferred tax assets remained in place. Reversal depends on sustainable profitability and could affect future earnings, although limitations would remain on using deferred tax assets for regulatory capital purposes.
- Interest-rate changes may reduce net interest income, affect securities valuations and impair borrowers’ ability to repay. The investment portfolio remained investment grade, but gross unrealized losses increased to $2.2 million.
- Liquidity depends partly on secondary sources, including Federal Home Loan Bank advances, securities and loan sales, correspondent-bank lines and out-of-market time deposits.
- Off-balance-sheet commitments included $57.6 million of commitments to extend credit, $8.1 million of standby letters of credit and $2.2 million of locked-rate mortgage commitments. Total commitments to extend credit, standby letters of credit and rate-lock commitments were $65.9 million.
- The company does not pay common-stock cash dividends in order to preserve capital. Preferred-stock dividends were current, and preferred stock has a 5% dividend rate until March 13, 2014, increasing to 9% thereafter for Series A; Series B carries a 9% rate.
- There were no material changes to previously reported risk factors, no material pending legal proceedings beyond routine litigation and no material changes to contractual obligations.
Important Facts for Investors to Verify
- Whether the large-loan charge-off and elevated second-quarter provision represent an isolated event or indicate further deterioration in construction and commercial real estate exposure.
- Trends in nonaccrual loans, OREO, potential problem loans, troubled debt restructurings and net charge-offs.
- The adequacy of the $12.5 million allowance for loan losses and the $2.1 million OREO valuation allowance under changing local real estate conditions.
- The sustainability of earnings excluding the $543 thousand split-dollar termination gain and other unusual items.
- The effect of declining asset yields, rising market rates and the securities portfolio’s $2.2 million unrealized loss on future margins, liquidity and capital.
- The company’s ability to generate sufficient taxable income to reverse the $7.0 million deferred-tax-asset valuation allowance.
- Future preferred-stock dividend costs after the Series A rate increases in March 2014 and the company’s continued decision not to pay common dividends.