Shore Bancshares, Inc. — Q2 2020 Form 10-Q
Reporting period: Quarter and six months ended June 30, 2020. Dollar amounts below are in millions unless noted. Shore Bancshares is a Maryland-based bank holding company operating Shore United Bank, with 22 branches across Maryland, Delaware and Virginia.
Financial performance
| Metric | Q2 2020 | Q2 2019 | Six months 2020 | Six months 2019 |
|---|---|---|---|---|
| Net interest income | $13.0 | $12.3 | $25.5 | $24.7 |
| Provision for credit losses | $1.0 | $0.2 | $1.4 | $0.3 |
| Noninterest income | $2.8 | $2.6 | $5.1 | $4.8 |
| Noninterest expense | $7.7 | $9.0 | $18.0 | $18.3 |
| Net income | $5.3 | $4.2 | $8.5 | $8.0 |
| Diluted EPS | $0.43 | $0.33 | $0.68 | $0.62 |
- Q2 net income rose about 26% year over year. Management attributed the improvement mainly to lower noninterest expense and higher net interest income, partly offset by an $0.8 million increase in credit-loss provision.
- Q2 net interest margin was 3.41%, down 13 basis points year over year and 7 basis points from Q1 2020. Tax-equivalent net interest income was $13.1 million for Q2, versus $12.3 million a year earlier.
- Q2 noninterest expense fell 14.7% year over year. Management cited lower reported salary expense associated with deferring PPP loan origination costs; $2.6 million of net PPP fees, after related costs, are being recognized over loan lives and may accelerate upon forgiveness or repayment. Management does not expect PPP originations at Q2 volume to produce similar expense reductions in future quarters.
- Q2 service charges on deposit accounts declined to $0.5 million from $1.0 million, with reduced consumer spending cited as a factor. A $0.35 million securities gain supported Q2 noninterest income.
Financial position, liquidity and capital
- At June 30, 2020, total assets were $1.720 billion, up from $1.559 billion at December 31, 2019. Loans were $1.407 billion, up 12.7%; deposits were $1.505 billion, up 12.2%. Loan growth included $123.0 million of PPP loans and $35.6 million of organic growth.
- Cash and cash equivalents were $126.3 million, compared with $95.0 million at year-end. For the first half, operating cash flow was $9.8 million, investing cash outflow was $123.7 million, financing cash inflow was $145.3 million, and cash increased $31.3 million.
- Long-term borrowings were zero at quarter-end after repayment of $15.0 million in April; short-term borrowings were $1.1 million. Stockholders’ equity was $200.1 million, versus $192.8 million at year-end.
- The Bank’s June 30 regulatory ratios were 10.66% Tier 1 leverage, 13.26% common equity Tier 1, 13.26% Tier 1 risk-based capital and 14.14% total risk-based capital. The filing says the Bank was well-capitalized and exceeded applicable requirements.
- The Bank reported $15 million of federal funds lines and additional FHLB borrowing capacity supported by approximately $293.4 million of pledged collateral. Management said it had not needed to tap these sources but was monitoring liquidity as the pandemic evolved.
Credit quality, changes and significant items
- The allowance for credit losses was $11.1 million, or 0.79% of period-end loans; excluding PPP loans, the ratio was 0.86%. Provision was $1.35 million for the first half, versus $0.30 million a year earlier. Management increased qualitative reserves in response to unemployment and COVID-19 uncertainty.
- Nonperforming assets were $12.3 million, or 0.87% of loans plus other real estate owned, compared with $12.0 million and 0.96% at year-end. Nonaccrual loans rose to $11.6 million from $10.6 million, including a monitored residential relationship; the ratio of nonaccrual loans plus accruing TDRs to loans declined to 1.35% from 1.45%.
- COVID-19-related principal and/or interest deferrals totaled $221.1 million at June 30, or 15.7% of loans. The company said these short-term modifications met applicable relief criteria and were not treated as TDRs. The filing cautions that the eventual financial impact is not yet quantifiable.
- The company processed 1,427 PPP loans totaling approximately $123.0 million through June 30. PPP loans are SBA-guaranteed, but the filing identifies potential compliance, litigation, reputational and guarantee risks if loan origination, funding or servicing deficiencies are found.
- Commercial real estate, including construction, was a substantial concentration: non-owner-occupied CRE including construction was 291.0% of risk-based capital at June 30, near the regulatory concentration benchmark cited in the filing. Management said it applies heightened monitoring and underwriting practices.
- Available-for-sale securities declined to $86.0 million from $122.8 million at year-end, as securities were called or sold and proceeds were used primarily to support loan growth. The company recorded $0.35 million of gains on securities sales.
- Management conducted a qualitative goodwill review and found no impairment indicated at June 30; goodwill remained $17.5 million. It warned that worsening economic conditions could lead to future impairment charges.
Outlook, risks and contingencies
- The filing provides no quantified earnings or margin guidance. Management said it expected to maintain the quarterly cash dividend based on capital strength, while noting that pandemic-related deterioration could constrain future dividends. Share repurchases were suspended until further notice.
- Management warned that COVID-19 duration and severity, borrower repayment capacity, real-estate collateral values, unemployment, loan deferrals and interest rates could materially affect credit losses, earnings, liquidity and capital. A near-zero federal funds rate could pressure asset yields and net interest margin; remote work also raises cybersecurity and continuity risks.
- The company had no legal proceedings it believed would materially adversely affect financial condition or earnings. Management reported disclosure controls were effective at the reasonable-assurance level and no material Q2 change in internal control over financial reporting.
Key facts for investors to verify
- Performance and credit trends as COVID-19 deferrals expire, particularly borrower repayment behavior, delinquencies, nonaccruals and charge-offs.
- Allowance adequacy and provisioning assumptions, including the impact of unemployment, collateral values and the transition to the expected-credit-loss standard.
- PPP loan forgiveness, fee recognition and SBA-guarantee compliance exposure, as well as the possible runoff of deposits associated with PPP proceeds.
- CRE concentration, related stress testing and capital implications; confirm whether credit deterioration or impairment indicators emerge.
- Whether deposit growth, liquidity availability, net interest margin and the dividend remain sustainable under changing pandemic and rate conditions.