National Bankshares, Inc. — Form 10-Q Summary
Business Context and Reporting Period
National Bankshares, Inc. is a Virginia financial holding company whose principal subsidiary, The National Bank of Blacksburg, operates as a community bank through 25 offices and one loan production office in southwest Virginia. The filing covers the unaudited three and nine months ended September 30, 2020, compared primarily with the same 2019 periods and December 31, 2019.
Results were materially affected by the COVID-19 pandemic, including lower interest rates, reduced loan demand, borrower payment accommodations, weaker fee activity, increased credit-loss provisioning, and participation in the SBA Paycheck Protection Program.
Financial Performance and Key Metrics
| Metric | Q3 2020 | Q3 2019 | 9M 2020 | 9M 2019 |
|---|---|---|---|---|
| Total interest income | $10.708 million | $11.288 million | $32.846 million | $33.719 million |
| Net interest income | $9.288 million | $9.423 million | $28.032 million | $28.147 million |
| Provision for loan losses | $154 thousand | $95 thousand | $1.985 million | $350 thousand |
| Noninterest income | $1.926 million | $2.098 million | $5.806 million | $6.443 million |
| Noninterest expense | $6.120 million | $6.386 million | $18.664 million | $19.304 million |
| Net income | $4.168 million | $4.252 million | $11.129 million | $12.689 million |
| Diluted EPS | $0.64 | $0.65 | $1.71 | $1.92 |
| Net interest margin | 2.84% | 3.30% | 2.98% | 3.31% |
| Return on average assets | 1.16% | 1.32% | 1.08% | 1.34% |
| Return on average equity | 8.32% | 9.00% | 7.65% | 9.10% |
Q3 net income declined approximately 2.0% year over year, while nine-month net income declined approximately 12.3%. The nine-month decline primarily reflected the substantially higher loan-loss provision and lower noninterest income.
Balance Sheet, Liquidity, Capital and Cash Flow
- Total assets were $1.435 billion at September 30, 2020, up 8.6% from December 31, 2019.
- Loans, net of unearned income and deferred fees and costs, were $800.654 million, up 9.2% from year-end 2019. Commercial non-real-estate loans increased significantly, principally because of PPP lending.
- Deposits were $1.214 billion, up 8.4% from year-end 2019. Noninterest-bearing demand deposits increased 33.9%, while time deposits declined 19.5%. The company reported no brokered deposits.
- Securities available for sale increased to $487.351 million from $435.263 million, with $15.330 million of gross unrealized gains and $439 thousand of gross unrealized losses.
- Stockholders’ equity was $202.194 million, up 10.1% from year-end 2019, aided by net income and $11.687 million of other comprehensive income, primarily unrealized securities gains.
- The company had no long-term debt, finance lease obligations, discount-window borrowings, short-term borrowings, or FHLB advances at September 30, 2020.
- Nine-month net cash provided by operating activities was $10.150 million. Investing activities used $99.328 million, primarily from securities purchases and net loan originations. Financing activities provided $89.481 million, primarily from deposit growth. Cash and due from banks ended at $10.593 million.
- The Bank’s loan-to-deposit ratio was 65.97%, within the company’s stated 65% to 75% policy range. Management reported adequate liquidity under stress scenarios and access to multiple funding sources.
- The Bank was well capitalized, with Common Equity Tier 1, Tier 1, total capital, and leverage ratios of 20.52%, 20.52%, 21.44%, and 13.31%, respectively.
Material Changes Versus Comparable Periods
- Net interest margin declined 46 basis points in Q3 and 33 basis points for the nine months, driven by lower yields on loans and securities in the low-rate environment. Lower deposit costs partially offset the decline.
- Loan-loss provision increased from $350 thousand to $1.985 million for the nine months, reflecting COVID-19 economic uncertainty and related reserve adjustments.
- Noninterest income declined 8.2% in Q3 and 9.9% for the nine months. Deposit service charges were particularly weak because of lower overdraft and nonsufficient-funds activity. Q3 other income increased because of mortgage-related activity, while 2019 benefited from a $538 thousand insurance recovery.
- Noninterest expense declined 4.2% in Q3 and 3.3% for the nine months, reflecting lower salaries, occupancy costs, and other operating expenses, partly offset by a Q3 FDIC assessment and higher data-processing costs year to date.
- The allowance for loan losses increased to $8.428 million from $6.863 million at year-end 2019. The allowance ratio increased to 1.05% from 0.94%, or 1.13% excluding government-guaranteed PPP loans.
- Nonperforming assets were $5.155 million, or 0.64% of loans plus other real estate owned, compared with $4.987 million and 0.68% at year-end 2019. Nonperforming loans increased to $3.602 million from $3.375 million.
COVID-19, Outlook, Risks and Unusual Items
- As of September 30, 2020, the company had provided COVID-19 accommodations on 361 loans totaling $160.230 million, including payment extensions, interest-only periods, and rate reductions. These qualifying short-term modifications were not treated as TDRs under the CARES Act and regulatory guidance.
- The company held $56.260 million of PPP loans, net of deferred fees and costs. Management believed most would ultimately be forgiven by the SBA and that the loans were fully government guaranteed; a change in that assumption could require additional provisions.
- Management expects fee income and interest income to remain under pressure because of lower overdraft activity, waived fees, low interest rates, refinancing, payment accommodations, and potential borrower distress. No formal quantitative earnings guidance was provided.
- Management added a COVID-19-related unemployment factor equal to 20 basis points in the allowance calculation and maintained a $371 thousand unallocated reserve surplus. Future deterioration after accommodation periods could increase delinquencies, nonaccruals, TDRs, charge-offs, and provisions.
- COVID-19-related stock-market volatility constituted a goodwill impairment triggering event. Interim quantitative analyses were performed as of March 30 and June 30, 2020, and a third-party quantitative analysis as of September 30 was scheduled for completion during the fourth quarter. The filing does not provide a clear value for any resulting impairment charge.
- The company reported two historical cybersecurity intrusions, in 2016 and 2017. Related litigation was settled in 2019, and management continues to identify cybersecurity, fraud, operational continuity, and reputational risks.
- Management stated that controls remained effective, no material operational or internal-control challenges had been identified from the pandemic response, and no material legal proceedings were pending or threatened.
Investor Verification Items
- Verify the outcome of the September 30, 2020 goodwill impairment analysis and whether any impairment charge was recorded after the filing date.
- Track performance of the $160.230 million of COVID-19-modified loans as payment relief expires, including subsequent modifications, TDR designations, nonaccruals, and charge-offs.
- Assess whether the $8.428 million allowance, including the 1.13% ratio excluding PPP loans, remains adequate as economic conditions and unemployment trends evolve.
- Monitor the sustainability of deposit growth, the 65.97% loan-to-deposit ratio, and the effect of prolonged low rates on net interest margin.
- Evaluate PPP forgiveness timing, fee recognition, government-guarantee assumptions, and any related operational, credit, legal, or reputational exposure.
- Review future fee income, mortgage refinancing gains, securities values, and the potential impact of additional government relief or its expiration.