AUBURN NATIONAL BANCORPORATION, INC quarterly report, Q2 FY2019

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Auburn National Bancorporation, Inc. — Q2 2019 Form 10-Q

Reporting period: Quarter and six months ended June 30, 2019. The company provides banking services primarily in East Alabama through AuburnBank. Financial amounts below are in millions of dollars unless otherwise noted.

Financial results and condition

  • Second-quarter results: Net interest income (GAAP) was $6.60 million, versus $6.32 million a year earlier; noninterest income was $0.89 million; net earnings were $2.31 million, or $0.64 per share, versus $2.26 million, or $0.62 per share.
  • First-half results: GAAP net interest income was $13.22 million, up 4.9%; total revenue, including tax-equivalent net interest income, was $15.26 million, up 6.8%; net earnings were $4.85 million, up 8.8%, and earnings per share were $1.35 versus $1.22.
  • Margins and expenses: First-half net interest margin was 3.52% on a tax-equivalent basis, compared with 3.33%. Noninterest expense increased 5.9% to $9.24 million, mainly from higher salaries and benefits. The efficiency ratio was 59.41%, compared with 59.78%.
  • Loans and deposits: Period-end loans, net of unearned income, were $476.1 million, slightly below $476.9 million at year-end 2018; average loans rose 6% year over year in the first half. Deposits increased to $740.5 million from $724.2 million, including $206.9 million of noninterest-bearing deposits.
  • Credit quality: The allowance for loan losses was $4.85 million, or 1.02% of loans; no loan-loss provision was recorded in the first half. Nonperforming assets were $0.43 million (0.05% of assets). Potential problem loans totaled $5.05 million, down from $6.53 million at year-end. Commercial real estate represented 56% of loans; 86.7% of the portfolio was secured by real estate.
  • Liquidity, debt and capital: Cash and cash equivalents were $75.7 million, versus $65.1 million at year-end. The company had no long-term debt; short-term repurchase-agreement borrowings were $1.1 million. AuburnBank reported a 17.14% total risk-based capital ratio, 16.26% CET1 ratio and 11.14% tier 1 leverage ratio, all above the stated well-capitalized minimums.
  • Cash flow and shareholder returns: First-half operating cash flow was $4.32 million, compared with $4.93 million; cash increased by $10.59 million, versus a $39.58 million decrease in the prior-year period. The company paid $0.50 per share in dividends and repurchased 72,205 shares for $2.5 million.

Material changes and unusual items

  • First-half noninterest income rose to $2.05 million from $1.69 million, primarily reflecting a $0.3 million insurance recovery related to a $0.4 million pretax loss from a 2018 misappropriation of assets.
  • First-half stockholders’ equity rose to $94.1 million from $89.1 million, supported by earnings and $4.4 million of after-tax other comprehensive income, partly offset by dividends and share repurchases. Available-for-sale securities’ unrealized losses fell to $1.25 million from $5.63 million at year-end; management attributed losses primarily to interest rates, not credit quality.
  • The company adopted lease and hedge-accounting updates in 2019, with no material financial-statement impact. The expected-credit-loss standard (CECL) was still under evaluation; management expected it to affect the credit-loss reserve, with the extent dependent on portfolio composition and economic conditions.

Outlook, commentary and risks

  • Management expected net interest margin to decrease slightly during the rest of 2019 but expected net interest income to increase year over year, primarily because of higher average loan volumes. Management cited competitive pricing for creditworthy borrowers and deposits, and said rate cuts could pressure margin if deposit costs decline more slowly than asset yields.
  • Management stated that liquidity was adequate for known obligations and commitments over the next 12 months. At June 30, the Bank had $246.7 million of available FHLB credit and $41.0 million of federal-funds lines, with none outstanding on those lines.
  • Outstanding unfunded loan commitments were $59.6 million and standby letters of credit were $5.6 million. Mortgage repurchase or make-whole claims are possible under loan-sale representations and warranties; none were pending at quarter-end, and no loans were repurchased in the first half. The company said the exposure was not material and reported 99% of Fannie Mae-serviced residential loans current.
  • Key risks include interest-rate and funding-cost changes, local economic and real-estate conditions, borrower credit deterioration, and concentrations in commercial real estate and other property-related lending. Management noted that allowance estimates are subjective and may be affected by regulators’ reviews. No pending or threatened legal proceedings were expected to have a material adverse effect.

Important facts for investors to verify

  1. Whether loan growth, deposit pricing and any interest-rate changes produce the expected second-half net interest income and margin.
  2. Credit trends in the real-estate-heavy portfolio, including potential problem loans, nonperforming assets and the adequacy of the $4.85 million allowance.
  3. The eventual CECL adoption impact on the allowance and earnings, which the filing does not quantify.
  4. How sustainable earnings are excluding the one-time insurance recovery, and whether compensation expense continues to rise.
  5. Capital, liquidity and shareholder-return capacity after dividends and repurchases, alongside the $59.6 million of unfunded loan commitments.