National Bankshares, Inc. 2017 Form 10-K Summary
Business context and reporting period
National Bankshares, Inc. is a Virginia financial holding company whose principal operating subsidiary, National Bank of Blacksburg, operates a community banking business across southwest Virginia. The company provides commercial, real estate, public-sector and consumer lending, deposit, card, trust, investment and insurance services. The filing covers the fiscal year ended December 31, 2017, with quarterly information including the fourth quarter.
At year-end, NBB operated 24 branches and one loan production office. NBB reported $1.254 billion of assets, $1.060 billion of deposits and $14.575 million of net income for 2017. Consolidated NBI net income was $14.092 million.
Key financial metrics
| Metric | 2017 | 2016 | Change |
|---|---|---|---|
| Total assets | $1,256.8 million | $1,233.9 million | Up 1.85% |
| Loans, net | $660.1 million | $639.5 million | Up 3.24% |
| Securities | $459.8 million | $440.4 million | Up 4.39% |
| Total deposits | $1,059.7 million | $1,043.4 million | Up 1.56% |
| Net interest income | $37.1 million | $36.8 million | Up 1.01% |
| Provision for loan losses | $0.2 million | $1.7 million | Down $1.5 million |
| Noninterest income | $10.4 million | $9.9 million | Up 4.50% |
| Noninterest expense | $27.0 million | $26.2 million | Up 3.13% |
| Net income | $14.1 million | $14.9 million | Down 5.69% |
| Basic and diluted EPS | $2.03 | $2.15 | Down 5.58% |
| Book value per share | $26.57 | $25.62 | Up 3.71% |
| Cash dividends per share | $1.17 | $1.16 | Up $0.01 |
Return on average assets was 1.14%, return on average equity was 7.64%, net interest margin was 3.45%, and the efficiency ratio was 53.08%. The filing does not present a consolidated free-cash-flow measure. Net cash provided by operating activities was $11.0 million, compared with $17.5 million in 2016. Investing activities used $20.2 million, while financing activities provided $8.2 million.
At December 31, 2017, cash and due from banks totaled $12.9 million and interest-bearing deposits totaled $51.2 million. The company had no discount-window borrowings, short-term borrowings or Federal Home Loan Bank advances. The loan-to-deposit ratio was 63.04%, below the company’s internal policy range of 65% to 75%. Management stated that liquidity was sufficient under tested scenarios.
Capital remained strong. Consolidated common equity Tier 1 and Tier 1 capital ratios were 23.562%, total capital was 24.542%, and the leverage ratio was 15.424%. NBB was categorized as well capitalized. The company reported no material commitments for long-term debt or capital expenditures.
Material changes versus the prior comparable period
- Net income declined $0.85 million, primarily because income tax expense increased by $2.34 million, including a $1.56 million deferred-tax-asset revaluation charge related to the Tax Cuts and Jobs Act.
- Net interest income increased modestly despite a decline in net interest margin from 3.51% to 3.45%. Loan growth and higher yields on interest-bearing deposits offset lower loan and securities yields.
- Noninterest income rose $0.45 million, supported by higher deposit service charges, credit-card fees, trust fees and bank-owned life insurance income. The company purchased an additional $10 million of BOLI in June 2017.
- Noninterest expense increased $0.82 million. Salaries and benefits rose $0.95 million, including higher health-insurance costs and a new senior-employee incentive program. Other operating expenses included a $0.19 million wire-fraud loss.
- Credit metrics improved. Nonperforming loans declined to $2.8 million from $5.9 million, nonperforming assets declined to $5.6 million from $9.0 million, and net charge-offs fell to $0.5 million from $1.6 million.
- The allowance for loan losses declined to $7.9 million, or 1.19% of loans, from $8.3 million, or 1.28%. The provision declined to $0.2 million from $1.7 million.
- Fourth-quarter net income was $3.1 million, or $0.46 per share, compared with $3.5 million, or $0.51 per share, in the fourth quarter of 2016. Fourth-quarter income tax expense was $3.1 million, reflecting the tax-law revaluation charge.
- James G. Rakes retired as president and chief executive officer on August 31, 2017. F. Brad Denardo became president and chief executive officer on September 1, 2017; Mr. Rakes remained chairman.
Outlook, risks, contingencies and unusual items
Management did not provide quantitative earnings or revenue guidance. Management expected future interest-rate increases could benefit net interest income, but cautioned that loan repricing, deposit competition, the timing of rate movements and asset-liability mismatches could adversely affect margins. The company remains exposed to economic conditions in southwest Virginia, including employment and funding trends at Virginia Tech and Radford University, commercial real estate values, business bankruptcies and loan demand.
The principal credit concentration is commercial real estate, which represented approximately 51% of the loan portfolio at year-end. College housing and professional office-building loans totaled $247.2 million, or approximately 37% of the loan portfolio. Other risks include rising interest rates, securities-market losses, allowance-estimation uncertainty, regulatory and compliance costs, competition, dependence on deposits and dividends from NBB, pension obligations and lower liquidity in the company’s common stock.
The company experienced cybersecurity intrusions in May 2016 and January 2017. Customer accounts were accessed and funds were stolen or account balances were artificially inflated; the company restored customer funds and reported no customer losses. Theft totaled $0.6 million in 2016 and $1.8 million in 2017. The company recognized an estimated $0.3 million loss in 2016, incurred $0.4 million of investigation, remediation and legal costs in 2017, and recorded a $2.1 million insurance receivable while awaiting the insurer’s response. No related litigation had been filed as of the filing date.
Off-balance-sheet exposures included $161.2 million of commitments to extend credit, $16.4 million of standby letters of credit and $14.1 million of mortgage loans sold with potential recourse. The company stated that the potential recourse reserve was not material and that no recourse provisions had been invoked.
The company expects the current expected credit loss standard to affect credit reserves, capital and earnings when implemented. The filing also discusses upcoming lease and financial-instrument accounting changes, but management did not expect most of the other listed standards to have a material impact. The company reported no material pending legal proceedings, no unresolved SEC staff comments and effective internal control over financial reporting. The independent auditor issued unqualified opinions.
Most important facts for investors to verify
- Reconcile the $1.56 million tax revaluation charge and assess its effect on 2017 earnings, deferred taxes and future tax rates.
- Monitor commercial real estate and college-housing concentrations, collateral values, criticized loans and the $7.9 million allowance for loan losses.
- Confirm the status and collectability of the $2.1 million cybersecurity insurance receivable and any further remediation, litigation or regulatory costs.
- Assess whether deposit growth and the 63.04% loan-to-deposit ratio can support planned loan growth without increasing funding costs.
- Evaluate sensitivity of net interest income and margin to additional Federal Reserve rate increases, deposit repricing and competitive loan pricing.
- Review the implementation impact of the expected-credit-loss standard, including potential reserve increases and capital effects.
- Verify dividend capacity because NBI depends substantially on dividends from NBB, which are subject to regulatory restrictions.
- Track the new chief executive officer transition, cybersecurity controls and the company’s continued dependence on a concentrated southwest Virginia market.