Old Second Bancorp, Inc. — Q3 2023 Form 10-Q
Reporting period: Three and nine months ended September 30, 2023. Old Second Bancorp is an Illinois-based bank holding company operating Old Second National Bank, with 48 banking centers. Financial amounts below are in U.S. dollars; “million” and “billion” are used for readability.
Financial results and key metrics
| Metric | Q3 2023 | Q3 2022 | Change |
|---|---|---|---|
| Net interest and dividend income | $63.0 million | $55.6 million | +13.4% |
| Provision for credit losses | $3.0 million | $4.5 million | Down $1.5 million |
| Noninterest income | $9.9 million | $11.5 million | -14.1% |
| Noninterest expense | $37.4 million | $36.0 million | +4.0% |
| Net income | $24.3 million | $19.5 million | +24.6% |
| Diluted earnings per share | $0.54 | $0.43 | +$0.11 |
| Net interest margin (GAAP) | 4.64% | 3.93% | +71 basis points |
- For the first nine months, net income was $73.5 million versus $43.8 million; diluted EPS was $1.62 versus $0.97. Net interest income was $190.7 million versus $142.1 million, and the GAAP net interest margin was 4.66% versus 3.31%.
- At September 30, 2023, total assets were $5.76 billion, down 2.2% from year-end 2022. Loans were $4.03 billion, up 4.1%; deposits were $4.61 billion, down 9.7%.
- Cash and cash equivalents were $109.0 million. Nine-month operating cash flow was $87.3 million, investing cash flow was positive $124.5 million, and financing cash flow was negative $218.0 million.
- Total borrowings were $546.0 million, compared with $260.8 million at year-end 2022. Other short-term borrowings, primarily FHLB advances, were $435.0 million versus $90.0 million. The company redeemed $45.0 million of senior notes and repaid a $9.0 million term-note balance during 2023.
- The Bank’s September 30 regulatory capital ratios included 12.49% common equity tier 1, 13.57% total risk-based capital, and 10.43% Tier 1 leverage. The company reported a 7.71% non-GAAP tangible common equity to tangible assets ratio.
Changes versus comparable periods
- Q3 earnings benefited primarily from loan growth and higher loan and securities yields. Higher deposit costs and increased FHLB borrowing costs partially offset the benefit.
- Q3 noninterest income fell year over year, reflecting $0.9 million of securities losses and lower other income, including the absence of prior-year Visa and land-trust portfolio sale gains. Nine-month noninterest income declined 25.5%, including $4.1 million of securities losses and lower mortgage banking revenue.
- Q3 noninterest expense rose 4.0%, including higher salaries and $629,000 of Visa portfolio liquidation and deconversion costs. Nine-month expense declined 3.0%, largely because 2022 included West Suburban acquisition-related costs.
- Unrealized losses on available-for-sale securities were $120.7 million before tax at September 30; accumulated other comprehensive loss was $90.6 million. The securities portfolio’s fair value was $1.23 billion, down from $1.54 billion at year-end 2022.
Outlook, risks and unusual items
- Management said loan growth is expected to continue, likely at a slower pace. The filing provides no formal earnings or financial guidance.
- Management described liquidity as strong and said it actively monitors cash and funding daily. It reported access to the Federal Reserve Bank Term Funding Program but no use of it, and $18.7 million of unused Discount Window capacity. FHLB collateral excess available to secure borrowings was $581.7 million.
- Deposits decreased substantially, including $1.16 billion of estimated uninsured deposits at quarter-end. Management attributed deposit runoff to seasonal factors, customer spending and transfers to higher-yielding alternatives; it also noted migration into time deposits.
- Credit quality weakened on several measures: nonperforming loans were $63.3 million, or 1.6% of loans, versus $32.9 million and 0.9% at year-end 2022. Classified assets were $153.7 million, up 39.1% since year-end. Q3 net charge-offs were $6.6 million, mainly three commercial real estate investor loans totaling $6.8 million.
- The allowance for loan losses was $51.7 million, or 1.3% of loans. Management cited loan growth, higher historical loss rates, risk-rating migration and nonperforming-loan trends in its provision assessment. It cautioned that future economic conditions and collateral values could cause actual losses to exceed estimates.
- Real estate-related lending was 69.8% of the loan portfolio. Management identified office buildings, a healthcare facility and construction credits among problem-loan additions. It reported no securities credit losses identified at September 30 despite significant unrealized market-value losses.
- The company’s modeled annual pretax income sensitivity to an immediate 2% rate increase was +14.5%; a 2% decrease was -14.6%. Management noted the model is not a forecast and actual outcomes may differ.
- Other risks include interest-rate and funding-cost changes, inflation, recession, competition, regulatory costs including potential FDIC assessments, and operational, cyber, legal and counterparty risks. Management said no material changes had been made to previously disclosed risk factors. No material adverse effect from ordinary-course legal proceedings was expected.
Important facts for investors to verify
- Whether deposit outflows continue and how the uninsured-deposit base and deposit pricing evolve.
- Whether increased FHLB borrowing and securities sales remain necessary to fund loan growth and liquidity needs.
- Performance of the commercial real estate, office, healthcare and construction credits; trends in nonaccrual loans, classified assets and charge-offs.
- Whether the allowance for credit losses remains adequate as loan growth and credit migration develop.
- How securities losses, future realized sale losses and interest-rate movements affect equity, liquidity and earnings.
- Whether loan growth, net interest margin and funding costs track management’s expectation of slower loan growth and a higher-for-longer rate environment.