Business Context and Reporting Period
National Bankshares, Inc. is a Virginia-based financial holding company whose principal subsidiary, The National Bank of Blacksburg, operates as a community bank in southwest Virginia. The filing reports unaudited results for the three and six months ended June 30, 2017, compared with the corresponding 2016 periods. The company had 6,957,974 common shares outstanding as of August 3, 2017.
Key Financial Metrics
| Metric | Three Months Ended June 30 | Six Months Ended June 30 |
|---|---|---|
| Net income | $3.570 million vs. $3.865 million | $7.219 million vs. $7.644 million |
| Diluted EPS | $0.51 vs. $0.56 | $1.04 vs. $1.10 |
| Net interest income | $9.247 million vs. $9.229 million | $18.457 million vs. $18.645 million |
| Provision for loan losses | $0.464 million vs. $0.654 million | $0.523 million vs. $0.857 million |
| Noninterest income | $2.455 million vs. $2.618 million | $4.959 million vs. $4.959 million |
| Noninterest expense | $6.698 million vs. $6.238 million | $13.635 million vs. $12.922 million |
| Net interest margin | 3.42% vs. 3.52% | 3.46% vs. 3.59% |
| Return on average assets | 1.15% vs. 1.28% | 1.18% vs. 1.28% |
| Return on average equity | 7.78% vs. 8.66% | 7.98% vs. 8.65% |
- Total assets were $1.259 billion at June 30, 2017, up 2.06% from December 31, 2016.
- Loans, net of unearned income and deferred fees, were $654.734 million, up 1.08% from year-end 2016. Growth was concentrated in commercial non-real-estate and public-sector loans.
- Total deposits were $1.062 billion, up 1.81% from year-end 2016. Demand and savings deposits increased while time deposits declined 6.64%.
- Stockholders’ equity was $184.286 million, up 3.38% from December 31, 2016. The company declared dividends of $0.56 per share, compared with $0.55 in the prior-year periods.
- The allowance for loan losses was $8.372 million, or 1.28% of loans. The annualized net charge-off ratio declined to 0.14% from 0.31% in the first six months of 2016.
- Nonperforming assets were $6.205 million, or 0.94% of loans plus other real estate owned, compared with $9.011 million and 1.38% at December 31, 2016.
- Cash provided by operating activities was $6.020 million. Investing activities used $22.076 million, principally reflecting a $10.000 million BOLI purchase and other investment activity. Financing activities provided $15.018 million, resulting in a $1.038 million decrease in cash and due from banks.
- The company had no long-term debt, purchased deposits, discount-window borrowings, short-term borrowings, or FHLB advances at June 30, 2017. The loan-to-deposit ratio was 61.75%, below management’s stated 65% to 75% policy range.
- Regulatory capital remained strong: Common Equity Tier 1 and Tier 1 ratios were 24.09%, total capital was 25.17%, and the leverage ratio was 15.07%. The company was considered well capitalized.
Material Changes Versus Prior Comparable Period
- Second-quarter net income declined 7.6%, and first-half net income declined 5.6%, primarily because of lower noninterest income and higher operating expenses.
- Net interest income was essentially stable in the second quarter but declined 1.0% for the first half. Management attributed the lower margin to declining yields on earning assets, particularly loans and taxable securities, partially offset by lower funding costs.
- Noninterest expense increased 7.4% in the second quarter and 5.5% for the first half. Salary and employee benefit costs were the principal driver; technology and infrastructure spending also increased year to date.
- Service charges on deposit accounts increased substantially, reflecting a new overdraft privilege program implemented in the third quarter of 2016. Other income declined because the second quarter of 2016 included one-time vendor signing incentives.
- Credit quality improved, with lower nonperforming loans, nonaccrual loans, criticized loans, and net charge-offs. Total troubled debt restructurings declined to $6.899 million from $8.456 million at December 31, 2016.
- The company reclassified certain deposits among time, interest-bearing demand, and savings categories; prior periods were restated for comparability, with no effect on net income or shareholders’ equity.
Outlook, Risks, Contingencies, and Unusual Items
- No specific earnings, revenue, margin, or balance-sheet guidance was provided. Management cautioned that interim results are not necessarily indicative of full-year results.
- Key risks include interest-rate movements, economic and employment conditions in the southwest Virginia market, real estate values, loan demand, deposit flows, competition, regulatory changes, and the quality of the loan and investment portfolios.
- The company disclosed digital-system intrusions in May 2016 and January 2017. Reported ATM-related thefts totaled $570,000 and $1.838 million, respectively. Customer funds were restored, insurance claims were pending, and potential litigation, investigation, and remediation costs could not yet be reasonably estimated. The company stated that the breaches had been appropriately accounted for as of June 30, 2017.
- Other real estate owned was $3.008 million. Real estate-secured loans totaling $133,000 were in foreclosure and could affect future OREO levels.
- Three loans totaling $250,000 were modified as troubled debt restructurings during the second quarter; none received a specific allowance allocation.
- The company reported no material pending or threatened legal proceedings and stated that disclosure controls and procedures were effective as of June 30, 2017.
- Future accounting changes under the new credit-loss, lease, financial-instrument, and other FASB standards were being evaluated. Management did not expect certain listed standards to have a material effect, but the filing did not quantify the potential impact of all pending changes.
Facts Investors Should Verify
- Whether continued compression in loan and securities yields will further reduce net interest margin and profitability.
- The ultimate insurance recoveries and total litigation, remediation, and customer-related costs associated with the cybersecurity incidents.
- Whether improvements in nonperforming assets and charge-offs persist, particularly within the commercial real estate portfolio.
- The sustainability of deposit growth and the effect of migration from time deposits to lower-cost or potentially rate-sensitive deposit categories.
- The impact of higher salary, technology, and other operating costs on efficiency and future earnings.
- Potential changes in the allowance for loan losses as economic conditions, interest rates, bankruptcy rates, and the local real estate market evolve.