Orrstown Financial Services, Inc. — FY2021 Form 10-K
Business context and reporting period. This is the annual report for the fiscal year ended December 31, 2021, not a standalone fourth-quarter filing. Orrstown is a community bank serving south-central Pennsylvania and parts of Maryland, with commercial lending, deposits, residential and consumer lending, and wealth-management services. Unless otherwise stated, figures below are in U.S. dollars; financial amounts are in millions.
Key financial results
| Metric | FY2021 / year-end | FY2020 / prior year-end |
|---|---|---|
| Net income | $32.9 million | $26.5 million |
| Diluted earnings per share | $2.96 | $2.40 |
| Net interest income | $87.0 million | $83.6 million |
| Taxable-equivalent net interest margin | 3.25% | 3.44% |
| Provision for loan losses | $1.1 million | $5.3 million |
| Noninterest income | $29.2 million | $28.3 million |
| Noninterest expense | $74.1 million | $74.1 million |
| Total assets | $2,834.6 million | $2,750.6 million |
| Total deposits | $2,464.9 million | $2,356.9 million |
| Total loans | $1,980.0 million | $1,979.7 million |
| Cash and cash equivalents | $208.7 million | $125.3 million |
| Shareholders’ equity | $271.7 million | $246.2 million |
| Operating cash flow | $40.8 million | $30.2 million |
Net interest income was $87.0 million on a GAAP basis; taxable-equivalent net interest income was $87.9 million. The company reported return on average equity of 12.54%, versus 11.66% in 2020. Cash dividends were $0.74 per share, up from $0.68.
Material changes versus FY2020
- Net income increased to $32.9 million, reflecting higher net interest income and a substantially lower loan-loss provision, alongside continued fee-income growth.
- Reported year-end loans were nearly unchanged, but excluding PPP loans, loans grew $213.7 million, or 14%. PPP loan balances declined as forgiveness proceeded.
- PPP-related interest income was $16.8 million, compared with $10.9 million in 2020. The company had $5.5 million of deferred PPP fees remaining for future recognition at year-end.
- Net interest margin declined 19 basis points to 3.25%. Lower funding costs helped net interest income, while yields on loans and securities also fell.
- Nonperforming assets decreased to $6.4 million from $10.3 million; nonperforming loans were 0.33% of loans, compared with 0.52%.
- Deposits increased $108.0 million. Cash and cash equivalents rose $83.5 million, while FHLB advances and other borrowings fell substantially. The company reported no short-term borrowings at year-end, apart from $23.3 million in repurchase agreements.
- Noninterest expenses were essentially flat. The $1.3 million of branch-consolidation expenses recorded in 2020 did not recur; 2021 expenses included higher technology, compensation and marketing costs.
Credit, capital, liquidity and debt
- The allowance for loan losses was $21.2 million, or 1.07% of loans, compared with $20.2 million, or 1.02%, at year-end 2020. Net charge-offs were $61,000 in 2021. Management said the allowance was adequate, but the estimate relies on judgment and assumptions.
- Commercial real estate lending is a material concentration. CRE loans were 270% of risk-based capital and had grown 99% over the prior 36 months; construction, land-development and other land loans were 38% of risk-based capital. The filing describes heightened risk-management expectations for such concentrations.
- Regulatory capital ratios exceeded applicable well-capitalized standards. The Bank’s total risk-based capital ratio was 14.0%, and its Tier 1 leverage ratio was 8.9%. Its capital conservation buffer was 6.0%, above the 2.5% requirement.
- Liquidity included $208.7 million of cash and cash equivalents, $176.9 million of available-for-sale securities net of pledges, up to $873.1 million of FHLB borrowing capacity, and $30.0 million of available unsecured bank lines. Outstanding loan commitments totaled $825.1 million.
- Subordinated notes were approximately $32.0 million, with a 6.0% fixed rate through December 2023 and a floating rate thereafter through 2028. Long-term FHLB debt was $1.9 million; repurchase agreements were $23.3 million.
Outlook, risks and unusual items
- The filing gives no formal numerical earnings or balance-sheet guidance. Management cited competitive pressure for quality loans and deposits, a flattening yield curve, and challenges to growing margin while managing overhead.
- Management expected PPP interest income to decline as loans were forgiven and said replacement income from loan growth or other sources would be important. PPP forgiveness timing also affects recognition of the remaining deferred fees.
- The company’s interest-rate sensitivity analysis indicated that a 100-basis-point increase could raise modeled 12-month net interest income by 3.7%; a 100-basis-point decrease could reduce it by 1.4%. These are model estimates, not forecasts, and depend on assumptions about balance-sheet behavior and repricing.
- Management discussed pandemic-related uncertainty, inflation, supply-chain and workforce pressures, interest-rate changes, credit quality, commercial real estate exposure, cybersecurity, competition, and the transition away from LIBOR. New LIBOR loans ceased by year-end 2021; transition work remained in progress.
- A securities class action brought by SEPTA remains pending. The Third Circuit affirmed permission to file the operative third amended complaint; motions to dismiss remained pending. The company disputes the claims, and said it could not reasonably estimate possible losses or a range of losses.
- The company recorded $638,000 in net securities gains in 2021 and a $514,000 loss related to terminating a cash-flow hedge. It reported no securities impairment expense. Management expects adoption of the current expected credit losses standard (CECL) on January 1, 2023, with a one-time allowance adjustment; the amount was not provided.
- The financial statements received an unqualified audit opinion, and management and the auditor concluded internal control over financial reporting was effective at December 31, 2021.
Important facts for investors to verify
- How much FY2021 earnings depended on PPP fee and interest income, and how quickly that income will run off.
- Whether loan growth excluding PPP continues, and whether funding growth can keep pace without higher deposit costs or wholesale borrowing.
- CRE concentration, particularly the rapid portfolio growth, underwriting quality, criticized-loan trends and performance of office, hospitality and other concentrated sectors.
- The adequacy of the allowance and the eventual CECL transition impact; confirm the reported allowance and loan figures in the financial-statement notes.
- The potential financial and legal consequences of the SEPTA litigation, for which the company disclosed no estimable loss range.
- Whether modeled benefits from rising rates are realized, given deposit repricing, loan demand, securities values and other assumptions.
- Capacity to maintain dividends and repurchases in light of regulatory limits, the Bank’s capital needs and parent-company dependence on Bank dividends.