Business context and reporting period
Peoples Financial Services Corp. is a Pennsylvania bank holding company operating Peoples Security Bank and Trust Company, with 28 community banking offices in Pennsylvania, New Jersey and New York. This unaudited Form 10-Q covers the quarter and six months ended June 30, 2023; comparisons are to the corresponding 2022 periods unless otherwise noted. Dollar amounts below are in millions unless stated otherwise.
Financial performance and condition
| Metric | Q2 2023 | Q2 2022 | Six months 2023 | Six months 2022 |
|---|---|---|---|---|
| Net interest income (GAAP) | $22.1 | $23.7 | $45.2 | $46.3 |
| Net income | $9.4 | $9.4 | $17.0 | $19.0 |
| Diluted EPS | $1.31 | $1.30 | $2.37 | $2.63 |
| Noninterest income | $3.6 | $3.9 | $7.2 | $7.3 |
| Noninterest expense | $16.6 | $15.5 | $33.2 | $29.8 |
| Credit loss provision (credit) | $(2.2) | $1.0 | $(0.9) | $1.3 |
- Margins and returns: Q2 tax-equivalent net interest margin was 2.61%, versus 3.06%; the six-month margin was 2.72%, versus 3.01%. Q2 annualized return on average assets was 1.04% (1.12% prior year) and return on average equity was 11.42% (11.71%). The non-GAAP efficiency ratio rose to 63.5% in Q2 from 54.8%, and to 62.1% for six months from 54.2%.
- Balance sheet at June 30: Assets were $3,681.8, up $128.3 from year-end 2022. Gross loans were $2,843.2, up $113.1; deposits were $3,229.5, up $182.9; stockholders’ equity was $331.8, up $16.4.
- Funding and debt: Interest-bearing deposits were $2,516.1 and noninterest-bearing deposits $713.4. Short-term borrowings were $19.5, long-term debt $25.0 and subordinated debentures $33.0. Short-term borrowings declined from $114.9 at year-end; long-term debt rose from $0.6.
- Credit quality: Allowance for credit losses was $23.2, or 0.82% of loans, compared with $27.5, or 1.01%, at year-end. Nonperforming loans were $2.1 (0.07% of loans), versus $4.1 (0.15%) at year-end. Six-month net charge-offs were $34, less than 0.01% of average loans.
- Liquidity and cash flow: Cash and cash equivalents were $136.7 at June 30. For six months, operating cash flow was $17.6, investing cash flow $(22.9), and financing cash flow $104.2; cash increased $98.8. Management reported $269.7 of unencumbered available-for-sale securities, $927.6 of unused FHLB borrowing capacity and $272.1 available at the Federal Reserve discount window.
- Capital: The Bank reported Tier 1 leverage of 9.61%, Tier 1 risk-based capital of 12.23%, total risk-based capital of 13.04% and CET1 of 12.23%; it met requirements and was considered well-capitalized.
Material changes versus the prior comparable period
- Q2 net income was nearly flat year over year, while six-month net income fell 10.4%. Higher asset yields were outweighed by sharply higher deposit and funding costs: Q2 interest expense increased to $14.6 from $2.2, and six-month interest expense to $25.8 from $4.1.
- Loans grew, led by commercial real estate and residential real estate. Management said loan growth slowed in Q2 as higher rates and economic and liquidity concerns tempered demand.
- Deposits increased overall, but the mix shifted: noninterest-bearing deposits declined $59.4 from year-end, while brokered deposits increased $248.0. The company added $259.0 of longer-term callable brokered CDs to strengthen on-balance-sheet liquidity.
- Available-for-sale securities declined to $395.8 from $477.7, including $65.6 par value of securities sold for net proceeds of $67.4; proceeds helped repay higher-cost short-term borrowings. Net unrealized AFS losses were $47.6 after tax, down from $52.0 at year-end. Held-to-maturity securities had fair value of $74.0 versus $88.2 carrying value.
- The company adopted CECL on January 1, 2023, recording a $3.0 million decrease in the loan allowance and a $2.4 million after-tax increase to equity. In Q2 it identified an immaterial Q1 allowance overstatement of $1.5 million, corrected in the current quarter; the filing says no amendment to the Q1 10-Q was required.
Outlook, commentary and risks
- No formal numerical earnings or revenue guidance is provided. Management expects funding costs to continue rising amid rate increases and deposit competition; it also notes loan demand may moderate and mortgage originations have weakened. Higher asset repricing may support income, but simulations indicate a 100-basis-point parallel rate increase would reduce projected 12-month net interest income by 0.7%; the filing says rate simulations remained within ALCO policy limits.
- Management described the operating environment as uncertain, citing inflation, recession concerns, interest-rate changes and volatility following regional bank failures. It said it actively monitors deposit flows, balance-sheet trends and liquidity, and considers its liquidity position strong.
- Key exposures include deposit outflows and reliance on brokered/noncore funding; uninsured deposits were estimated at $820.6 (25.4% of deposits), down from $1.1 billion (36.9%) at year-end. A portion of municipal deposits is collateralized, and customers can use IntraFi deposit programs.
- Rising rates have reduced securities fair values. Management says it does not intend to sell the securities, but a forced sale to meet liquidity needs could realize losses and impair capital or results. The company reported $60.6 of gross unrealized AFS losses and $14.2 of HTM unrealized losses at June 30.
- Other disclosed risks include credit deterioration, economic weakness, real-estate collateral values, increased regulatory scrutiny and FDIC assessment costs, competition, third-party service interruptions and cybersecurity. The filing reports no legal proceedings expected to have a material effect and no defaults on senior securities.
- The board declared a Q3 dividend of $0.41 per share, payable September 15, 2023. Share repurchases were briefly suspended in April and restarted in May; the company repurchased 25,555 shares during Q2.
Important facts for investors to verify
- Whether deposit growth and mix remain stable, particularly given brokered funding growth, higher deposit costs and the $820.6 of estimated uninsured deposits.
- Whether continued repricing of deposits and other funding outpaces loan and securities yield increases, affecting net interest margin and earnings.
- Whether securities unrealized losses, pledged collateral and liquidity resources leave the company able to meet funding needs without realizing losses.
- Whether loan growth, delinquencies, commercial real-estate exposures and the CECL allowance remain consistent with management’s credit assumptions, including the Q1 allowance correction.
- Whether capital ratios, dividend payments and repurchases remain appropriate if earnings, liquidity or asset quality weaken.