First Business Financial Services, Inc. — 2020 Form 10-K
Reporting period: Fiscal year ended December 31, 2020; the filing also reports fourth-quarter results. The company is a Wisconsin-based commercial bank holding company operating primarily through First Business Bank and its specialty-finance businesses, serving commercial clients, private-wealth clients, and other financial institutions.
Financial performance and condition
| Metric | 2020 | 2019 / change |
|---|---|---|
| Net interest income | $77.1 million | $69.9 million; up 10.3% |
| Non-interest income | $26.9 million | $23.4 million; up 15.0% |
| Total revenue | $104.0 million | $93.3 million; up 11.5% |
| Provision for loan and lease losses | $16.8 million | $2.1 million |
| Net income | $17.0 million | $23.3 million; down 27.2% |
| Diluted EPS | $1.97 | $2.68 |
| Net interest margin | 3.40% | 3.61% |
| ROAA / ROAE | 0.70% / 8.64% | 1.14% / 12.55% |
| Adjusted efficiency ratio | 63.09% | 66.59% |
Management’s non-GAAP pre-tax, pre-provision adjusted earnings were $38.4 million, up 23.2% from $31.2 million. Non-interest expense was $68.9 million, up 3.3%. The 2020 effective tax rate was 7.2%, versus 4.8% in 2019, reflecting tax credits and other items.
At year-end, total assets were $2.568 billion, gross loans and leases $2.151 billion, deposits $1.856 billion, and stockholders’ equity $206.2 million. Loans grew 25.2% overall; excluding net PPP loans, gross loans grew 12.0%. Deposits increased 21.2%, while in-market deposits rose 22.1% to $1.683 billion.
Commercial real estate represented 63.2% of gross loans. The allowance for loan and lease losses rose to $28.5 million, or 1.33% of gross loans (1.48% excluding net PPP loans), from $19.5 million, or 1.14%, in 2019. Net charge-offs were $7.8 million, or 0.39% of average loans, versus $3.0 million, or 0.18%, in 2019. Non-performing loans and leases were $26.6 million, or 1.24% of gross loans; non-performing assets were $26.7 million, or 1.04% of total assets.
Operating cash flow was $26.6 million; investing activities used $454.5 million, principally reflecting loan growth; financing activities provided $417.7 million, primarily from deposit growth and FHLB advances. Cash and cash equivalents ended at $56.9 million, compared with $67.1 million a year earlier.
Total borrowings were $429.2 million, including $394.5 million of FHLB advances. The company reported $640.2 million of stated liquidity sources, including $225.3 million of PPPLF availability; excluding PPPLF availability, stated liquidity was $414.9 million. The bank was well-capitalized. Consolidated total capital, Tier 1, common equity Tier 1, and Tier 1 leverage ratios were 11.25%, 8.96%, 8.53%, and 7.99%, respectively.
Material changes and notable items
- Revenue and loan growth were strong, but lower market rates compressed net interest margin and the sharply higher credit-loss provision drove lower net income and returns.
- PPP loans outstanding were $228.9 million at year-end. The company recognized $5.3 million of PPP processing fees in 2020 and excluded PPP loans from its allowance calculation based on the SBA’s 100% guarantee, subject to compliance with program requirements.
- COVID-related loan payment deferrals declined to $27.0 million, or 1.4% of gross loans excluding PPP loans, from $131.5 million at September 30, 2020. Exposure to identified stressed industries totaled $182.6 million, or 9.5% of gross loans excluding PPP loans.
- Non-interest income benefited from commercial swap fees of $6.9 million and SBA loan-sale gains of $2.9 million. PPP fees also contributed to loan-fee income. A $744,000 loss was recorded on early repayment of $59.5 million of FHLB advances.
- The board declared 2020 dividends of $0.66 per share. A new share-repurchase authorization of up to $5 million was approved in January 2021; a prior program had been suspended in March 2020.
Outlook, risks and contingencies
Management said 2020’s record revenue and growth positioned the company for “strong and sustainable earnings growth in 2021 and beyond.” It stated a long-term objective of average net interest margin of at least 3.50%, while cautioning that loan fees, PPP activity, and other items can make quarterly margin volatile. Its five-year strategic plan targets talent, efficiency, deposit growth, and business-line performance; 2023 goals include ROAE of 13.50%, ROAA of 1.15%, and annual top-line revenue growth of at least 10%. These are management targets, not guaranteed results.
Principal risks include pandemic-related borrower stress, the commercial-real-estate concentration, credit-loss estimation, interest-rate and funding pressures, geographic concentration in Wisconsin and the Kansas City area, competition, cybersecurity and third-party operational risks, and regulatory requirements. The company also identified the transition from LIBOR and the future adoption of CECL, then scheduled for 2023, as areas requiring attention. It reported no material pending litigation and no significant subsequent event requiring adjustment to the financial statements. The auditor issued unqualified opinions on the financial statements and internal control over financial reporting; the allowance’s qualitative factors were identified as a critical audit matter.
Investor verification points
- Track subsequent credit performance, charge-offs, allowance adequacy, and migration in criticized loan categories, especially CRE and pandemic-sensitive borrowers.
- Verify repayment or forgiveness of PPP loans, recognition of remaining deferred fees, and the status of the next PPP lending phase.
- Assess whether deposit growth is durable and compare available liquidity excluding PPPLF capacity with upcoming debt maturities and loan funding needs.
- Monitor net interest margin, loan yields, deposit costs, and the contribution and variability of PPP fees, swap fees, and SBA loan sales.
- Review progress toward CECL implementation and LIBOR contract conversion, as well as capital and dividend capacity under changing credit and economic conditions.