Isabella Bank Corporation — Q2 2021 Form 10-Q Summary
Business context and reporting period
Isabella Bank Corporation is a Michigan-based bank holding company whose subsidiary, Isabella Bank, serves customers primarily in central Michigan. This unaudited Form 10-Q covers the three and six months ended June 30, 2021, with comparisons to the corresponding 2020 periods and December 31, 2020 balance-sheet data. The company is a smaller reporting company and reported effective disclosure controls with no material changes in internal control over financial reporting.
Key financial metrics
| Metric | Q2 2021 | Q2 2020 | Six months 2021 | Six months 2020 |
|---|---|---|---|---|
| Net income | $4.621 million | $4.187 million | $10.019 million | $7.251 million |
| Diluted EPS | $0.57 | $0.52 | $1.24 | $0.90 |
| Net interest income | $12.713 million | $12.304 million | $25.914 million | $24.306 million |
| Provision for loan losses | $31 thousand | $105 thousand | $(492) thousand | $893 thousand |
| Noninterest income | $3.315 million | $3.246 million | $6.847 million | $6.244 million |
| Noninterest expense | $10.495 million | $10.700 million | $21.312 million | $21.645 million |
| Net interest margin, FTE | 2.79% | 2.92% | 2.88% | 2.95% |
| Return on average assets | 0.91% | 0.89% | 1.00% | 0.78% |
| Return on average equity | 8.35% | 7.63% | 9.06% | 6.67% |
At June 30, 2021, total assets were $2.031 billion, up 3.8% from December 31, 2020. Cash and cash equivalents were $248.2 million, available-for-sale securities were $448.5 million, gross loans were $1.207 billion, and shareholders’ equity was $221.0 million.
Gross loans declined $31.6 million, or 2.6%, from year-end, principally because of lower advances to mortgage brokers and expected runoff of short-term PPP-related lending. Deposits increased $70.2 million, or 4.5%, to $1.637 billion, driven by demand and savings deposits, PPP proceeds, and government stimulus funds. The gross-loans-to-deposits ratio was 73.7%.
Six-month operating cash flow was $15.9 million, compared with $6.6 million in the prior-year period. Investing activities used $81.2 million, primarily reflecting $167.4 million of purchases of available-for-sale securities, partly offset by loan collections. Financing activities provided $66.9 million, including deposit growth and $29.1 million of net subordinated-debt proceeds. Cash and cash equivalents increased $1.5 million during the six months.
Borrowed funds totaled $161.4 million, including $70.0 million of FHLB advances, $62.3 million of repurchase agreements, and $29.1 million of subordinated debt. On June 2, 2021, the company issued $30.0 million of 3.25% fixed-to-floating subordinated notes due 2031. The notes reset after June 15, 2026, at three-month SOFR plus 256 basis points and are intended to qualify as Tier 2 capital.
Liquidity remained strong. Cash and unencumbered available-for-sale securities totaled $571.7 million, or 28.1% of assets. Management reported $248.8 million of available borrowing lines and estimated total cash and liquidity of $797.0 million. The Bank exceeded regulatory well-capitalized thresholds, including a 13.81% common equity Tier 1 ratio, 13.81% Tier 1 risk-based ratio, 17.00% total risk-based capital ratio, and 8.46% Tier 1 leverage ratio.
Material changes versus comparable periods
- Six-month net income increased 38.2%, reflecting lower funding costs, a $1.385 million improvement in the loan-loss provision, higher fee income, and lower operating expenses.
- Net interest income increased $1.608 million for the first six months, although interest income declined $2.140 million because of lower rates and reduced loan balances. Interest expense declined $3.748 million as deposit and borrowing costs fell.
- The FTE net interest margin declined to 2.88% for the first six months from 2.95%, and to 2.79% in Q2 from 2.92%, as the low-rate environment, an elevated cash position, and a flatter yield curve pressured asset yields.
- Noninterest income increased $603 thousand year to date. Service charges and fees increased $786 thousand, wealth-management fees increased $274 thousand, and mortgage-loan sale gains increased $503 thousand. These increases partly offset a $723 thousand decline in gains from corporate-owned life-insurance redemptions.
- Noninterest expense declined $333 thousand year to date, reflecting operating-cost control, although ATM and debit-card expenses increased with higher usage.
- Credit quality improved. Total past-due and nonaccrual loans declined to $3.9 million, or 0.32% of gross loans, from $9.6 million, or 0.78%, at year-end 2020. Nonperforming assets declined to $3.9 million, or 0.19% of assets, from $6.1 million, or 0.31%.
- The allowance for loan and lease losses declined to $9.4 million, or 0.78% of gross loans, from $9.7 million, or 0.79%, as recoveries exceeded charge-offs and credit indicators improved.
- Accumulated other comprehensive income declined to $5.7 million from $7.7 million, primarily because of lower unrealized gains on available-for-sale securities as intermediate- and long-term interest rates increased.
- The company repurchased 87,480 shares for $1.9 million during the first six months and had authorization to repurchase up to 515,476 additional shares at June 30, 2021. Cash dividends remained $0.27 per share quarterly.
Guidance, outlook, risks, contingencies, and unusual items
Management did not provide formal earnings guidance. It expects loan growth to remain challenged by competition, pandemic-related borrower caution, and the runoff of short-term mortgage-broker advances and PPP loans. Residential mortgage and consumer lending are expected to grow, while advances to mortgage brokers are not expected to increase during the remainder of 2021.
Management expects ATM and debit-card fees to continue increasing, service-charge income to approximate 2020 levels, wealth-management fees to exceed 2020 levels, and mortgage-loan sale gains not to exceed 2020 levels. Mortgage servicing-rights income may remain volatile because of prepayment speeds.
COVID-19 remains a material uncertainty. Active loan-payment deferrals declined to $3.7 million, or 0.3% of gross loans, at June 30, 2021, but management cautioned that PPP funding, stimulus payments, and payment-relief programs could mask or delay credit deterioration. Future effects depend on the duration of the pandemic, variants, vaccination progress, economic conditions, and government actions.
Primary market risks are interest-rate and liquidity risk. Management expects margin improvement to be gradual and notes that simulations depend on uncertain assumptions regarding deposit behavior, loan prepayments, securities calls, loan pricing, and PPP repayment characteristics. Other stated risks include economic conditions in the Michigan service area, collateral values, deposit flows, competition, cybersecurity, demand for financial services, and changes in accounting standards.
The company’s adoption of the current expected credit loss standard was deferred to January 1, 2023 because it is a smaller reporting company. Management expects the standard could significantly affect operations and disclosures. No material legal proceedings or subsequent events requiring recognition or disclosure were reported.
Important facts for investors to verify
- Whether the improved credit metrics and reduced loan-loss provision persist after PPP and other government-support effects fade.
- The sustainability of net interest income and margin amid low interest rates, elevated liquidity, securities growth, and a flat yield curve.
- The pace and quality of loan growth as commercial balances and PPP-related lending decline.
- The effect of rising rates on the $448.5 million available-for-sale securities portfolio and accumulated other comprehensive income.
- Future cash interest costs, capital treatment, and refinancing or repricing risk associated with the $30.0 million subordinated notes.
- Whether fee income from mortgage sales, wealth management, ATM usage, and deposit services meets management’s stated outlook.
- The eventual impact of CECL adoption on reserves, capital, earnings, and disclosures beginning in 2023.