Business Context and Reporting Period
West Bancorporation, Inc. is an Iowa bank holding company operating primarily through West Bank, a business-focused community bank serving central and eastern Iowa and Rochester, Minnesota. The Form 10-K covers the fiscal year ended December 31, 2015; fourth-quarter results are also presented in the filing. Dollar amounts are in thousands except per-share data.
West Bank operates one banking segment and provides commercial, real estate, consumer, deposit, trust, treasury management, internet and mobile banking services. The company had approximately 174 full-time equivalent employees at year-end.
Financial Performance and Condition
| Metric | 2015 | 2014 | Change or commentary |
|---|---|---|---|
| Net income | $21,742 | $20,040 | Increased 8.5%; record annual earnings |
| Basic and diluted EPS | $1.35 | $1.25 | Increased from $1.25 |
| Net interest income | $54,154 | $49,145 | Increased 10.2% |
| Provision for loan losses | $850 | $750 | Increased with loan growth |
| Noninterest income | $8,203 | $10,296 | Declined 20.3% |
| Noninterest expense | $30,068 | $32,002 | Declined 6.0% |
| Net interest margin | 3.59% | 3.59% | Stable |
| Return on average assets | 1.30% | 1.32% | Slightly lower |
| Return on average equity | 14.88% | 15.19% | Slightly lower |
| Efficiency ratio | 46.30% | 49.93% | Improved |
| Total assets | $1,748,640 | $1,615,833 | Increased 8.2% |
| Loans, net of deferred fees | $1,246,688 | $1,184,045 | Increased 5.3% |
| Total deposits | $1,440,729 | $1,270,462 | Increased 13.4% |
| Stockholders’ equity | $152,377 | $140,175 | Increased 8.7% |
Fourth-quarter 2015 net income was $5,941, or $0.37 per diluted share, compared with $5,838, or $0.36 per diluted share, in the fourth quarter of 2014.
Net interest income benefited from higher average earning-asset balances, particularly loans, and lower deposit costs. Average loans increased to $1,213,454 from $1,065,235, while the average loan yield declined 11 basis points. Interest expense decreased to $5,993 from $6,156.
Credit quality improved materially. Nonperforming assets declined to $1,461, or 0.08% of total assets, from $4,172, or 0.26%, and nonperforming loans declined to $1,461 from $1,937. The allowance for loan losses was $14,967, or 1.20% of total loans. The company recorded net recoveries equal to 0.04% of average loans in 2015, compared with net charge-offs of 0.09% in 2014.
Cash and cash equivalents increased to $72,651 from $39,781. Net cash provided by operating activities was $31,042, compared with $26,287 in 2014. Investing activities used $106,400, primarily reflecting loan growth and securities purchases, while financing activities provided $108,228, principally from deposit growth.
At year-end, West Bank had approximately $200,000 of additional FHLB borrowing capacity and $67,000 of unused unsecured federal funds lines. Outstanding borrowings included $149,179 of federal funds purchased, short-term borrowings, subordinated notes, FHLB advances and long-term debt. The company also had $20,619 of junior subordinated debentures outstanding.
Capital remained strong. The consolidated total risk-based capital ratio was 12.12%, Tier 1 capital ratio was 11.15%, Common Equity Tier 1 ratio was 9.86%, and Tier 1 leverage ratio was 9.91%. West Bank was well-capitalized, and the company’s tangible common equity ratio was 8.71%.
Material Changes Versus the Prior Comparable Period
- Net income increased primarily because of a $5,009 increase in net interest income, lower other-real-estate-owned expense and a gain on the sale of SmartyPig, LLC.
- Noninterest income decreased by $2,093. Residential mortgage banking revenue fell $1,231 after underwriting and processing were outsourced, and 2014 included a $1,069 gain on the sale of an Iowa City office.
- Noninterest expense decreased by $1,934, primarily because 2014 included $1,786 of other-real-estate-owned write-downs.
- The company recognized a nonrecurring $590 gain on the November 2015 sale of its SmartyPig investment, approximately $0.5 million after tax.
- The Rochester, Minnesota, office reached approximately $87,220 of loans at year-end, an increase of approximately $35,880 from year-end 2014.
- The company opened its new Coralville, Iowa, eastern Iowa main office in January 2015 and began construction of a permanent Rochester facility expected to open in the third quarter of 2016.
- Common dividends increased to $0.62 per share from $0.49 per share. A $0.16 per-share dividend was declared for payment in February 2016.
Guidance, Outlook, Risks and Unusual Items
Management stated that the earnings outlook was positive and expected the company to remain profitable in 2016 at a level that compares favorably with peers. Management expected additional loan growth and believed the net interest margin would remain approximately stable if loan balances remained similar and Federal Reserve policies were unchanged. Management also expected borrowing costs to increase in 2016.
The principal earnings sensitivities are future loan losses, continued loan growth, deposit pricing, interest-rate movements and competitive conditions. The company estimates that an immediate 300-basis-point increase in interest rates could increase 2016 net interest income by approximately 4.18%, or $2,455, although such modeling is subject to significant assumptions.
- Commercial real estate loans exceeded the regulatory 300% of capital guideline; additional monitoring processes were implemented.
- Commercial and real estate concentration exposes the company to borrower performance, refinancing and collateral-value risk.
- Liquidity depends substantially on customer deposits, FHLB advances and other short-term funding sources; approximately 71% of time deposits were scheduled to mature within one year.
- Basel III capital conservation buffer requirements began phasing in during 2016. Management stated that year-end capital ratios were sufficient to meet the fully phased-in buffer.
- The allowance for loan losses and investment-security impairment evaluations involve significant management estimates. The prospective current expected credit loss model could increase allowance requirements and earnings volatility once finalized and effective.
- The company had $558,633 of commitments to extend credit and $8,720 of standby letters of credit at year-end; management did not expect significant losses from these commitments.
- A class action concerning debit-card nonsufficient-funds fees and transaction-posting practices remained pending. The Iowa Supreme Court dismissed the usury and unjust-enrichment claims but allowed a breach-of-contract claim to proceed. Potential loss was not reasonably estimable.
- The company identified approximately $1,805 of potential problem loans to one commercial customer, with approximately $435 guaranteed by the Small Business Administration.
- Other key risks include cybersecurity, third-party service providers, regulatory costs, interest-rate risk, competition, economic conditions and possible changes in FDIC insurance assessments.
Important Facts for Investors to Verify
- Whether loan growth remains profitable without deterioration in commercial real estate and construction credit quality.
- Whether the unusually low nonperforming-asset and Texas ratios are sustained and whether recoveries continue to offset charge-offs.
- The recurring earnings base after excluding the approximately $590 SmartyPig gain and the benefit from sharply lower other-real-estate-owned expense.
- The effect of reduced mortgage-banking revenue and the company’s reliance on net interest income.
- Deposit retention and repricing, particularly the renewal rate for time deposits maturing in 2016.
- The effect of rising interest rates on deposit costs, borrowing costs, securities values and net interest income.
- Progress and final costs for the Rochester facility and the February 2016 purchase of a previously leased branch.
- Developments, potential exposure and insurance coverage related to the pending debit-card class action.
- Future allowance requirements under the current expected credit loss model and any impact on capital or dividends.