Shore Bancshares, Inc. — Q2 2019 Form 10-Q
Reporting period: Quarter and six months ended June 30, 2019. Shore Bancshares is a Maryland-based bank holding company operating Shore United Bank, principally in Maryland and nearby areas. Unless otherwise noted, amounts below are in millions of dollars.
Financial results and key metrics
| Metric | Q2 2019 | Q2 2018 | Six months 2019 | Six months 2018 |
|---|---|---|---|---|
| Net interest income | $12.3 | $12.6 | $24.7 | $25.0 |
| Provision for credit losses | $0.2 | $0.4 | $0.3 | $0.9 |
| Continuing-operations income | $4.2 | $4.2 | $8.1 | $7.7 |
| Net income | $4.2 | $4.4 | $8.0 | $8.4 |
| Diluted EPS | $0.33 | $0.34 | $0.62 | $0.66 |
- Q2 tax-equivalent net interest margin was 3.54%, down from 3.79% a year earlier and 3.61% in Q1 2019. Six-month margin was 3.57%, versus 3.80% in 2018.
- Q2 interest income rose 7.9% year over year, led by loan growth, but interest expense increased 135.9%, principally from higher deposit rates. Q2 noninterest income rose 13.6%; noninterest expense rose 1.5%.
- At June 30, total assets were $1,488.6; loans were $1,240.3, up $44.9 (3.8%) from year-end; deposits were $1,249.0, up $36.7 (3.0%). Stockholders’ equity was $191.3.
- Cash and cash equivalents were $39.3, versus $67.2 at December 31, 2018. First-half cash flow was $4.4 from operations, $(31.2) from investing and $(1.2) from financing, producing a $27.9 net cash decrease.
- Short-term borrowings fell to $25.5 from $60.8; long-term borrowings remained $15.0. The long-term FHLB borrowing carries a 2.82% fixed rate and matures in April 2020. The Bank reported $212.9 of FHLB credit availability and $15.0 of federal funds lines.
- The allowance for credit losses was $10.3, or 0.83% of loans. First-half net charge-offs were $0.3; Q2 net charge-offs were $0.3, primarily related to foreclosure-auction collateral sales.
- At June 30, nonperforming assets were $15.6, down from $18.0 at year-end; accruing troubled debt restructurings were $7.8, down from $8.7. Nonaccrual loans were $14.6.
- Shore United Bank was reported as well-capitalized: leverage ratio 10.29%, Tier 1 risk-based ratio 12.11%, and total risk-based capital ratio 12.98%.
Changes versus comparable periods
- Q2 net income declined modestly from $4.4 to $4.2, while income from continuing operations was nearly unchanged. Higher noninterest income and a lower credit-loss provision were largely offset by higher funding costs and expenses.
- First-half net income fell from $8.4 to $8.0, partly reflecting discontinued operations: the company sold its insurance agency at the end of 2018 and discontinued its premium finance company. Continuing-operations income increased from $7.7 to $8.1.
- Loan growth was funded in part by deposit growth and by reducing investment securities and short-term borrowings. Deposit interest expense increased substantially year over year.
- Available-for-sale securities had a $3.8 unrealized gain in the first half, versus a $3.4 unrealized loss in the 2018 period; accumulated other comprehensive loss improved to $0.2 from $3.0 at year-end.
Outlook, commentary, risks and unusual items
- The filing provides no specific earnings or financial guidance. Management said it expected liquidity to remain satisfactory and reported no known demands or uncertainties likely to materially impair liquidity.
- Commercial real estate concentration is a major exposure: commercial real estate loans were 45.1% of loans. Non-owner-occupied commercial real estate, including construction, equaled 299.9% of risk-based capital; the portfolio including construction had grown 99.4% over three years. Management described heightened monitoring, underwriting and stress testing. Concentration could require higher capital or loan participations and could affect shareholder returns.
- Management attributed the year-over-year margin pressure to higher deposit costs. Interest-rate fluctuations, local economic conditions, competition, regulation and credit quality remain key risks.
- The company was preparing for CECL, the expected-credit-loss standard, which management anticipated would significantly affect its financial statements and credit-loss methodology. It was testing a vendor model and evaluating the impact; the filing does not provide a quantified estimate.
- On July 19, 2019, the company established SERPs for three senior executives to replace long-term incentive plans whose RSUs were forfeited. The Bank also purchased $14 million of bank-owned life insurance to help fund future SERP contributions.
- Lease accounting adoption in January 2019 resulted in recognition of $3.7 of right-of-use assets and lease liabilities at June 30. The filing reports no legal proceedings expected to have a material adverse impact and no material change in disclosed risk factors.
Important facts for investors to verify
- Whether deposit pricing and funding mix stabilize enough to support net interest margin as loans continue to grow.
- Credit performance in the commercial real estate portfolio, including the large nonaccrual relationship and subsequent collateral recoveries or losses.
- How the high commercial real estate concentration affects regulatory capital requirements and future lending or loan-sale decisions.
- The eventual CECL adoption impact on the allowance, retained earnings and reported results.
- The cost, funding and future obligations associated with the executive SERPs and the $14 million BOLI purchase.
- Whether one-time Q2 fee income recurs; management characterized the increase as driven partly by one-time fees.