Citizens & Northern Corporation — Q3 2019 Form 10-Q
Reporting period: Three and nine months ended September 30, 2019; balance-sheet comparisons are to December 31, 2018. Unaudited interim results may not indicate full-year performance. Unless noted otherwise, dollar amounts below are in millions.
Business context
The regional bank completed its acquisition of Monument Bancorp on April 1, 2019, expanding into southeastern Pennsylvania. Monument’s results are consolidated from that date. Consideration was $42.7 million; the acquisition added $259.3 million of loans, $223.3 million of deposits, $16.7 million of preliminary goodwill and $1.5 million of core deposit intangibles.
Financial performance
| Metric | Q3 2019 | Q3 2018 | Nine months 2019 | Nine months 2018 |
|---|---|---|---|---|
| Interest and dividend income | $17.3 | $12.8 | $47.5 | $37.0 |
| Interest expense | $3.0 | $1.2 | $7.3 | $3.3 |
| Net interest income | $14.3 | $11.6 | $40.2 | $33.7 |
| Provision for loan losses | $1.2 | $0.1 | $0.2 | $0.3 |
| Noninterest income | $5.0 | $5.0 | $14.2 | $15.6 |
| Noninterest expense | $11.7 | $9.8 | $37.4 | $29.4 |
| Net income | $5.3 | $5.6 | $14.0 | $16.3 |
| Diluted earnings per share | $0.39 | $0.45 | $1.06 | $1.33 |
Margins: Net interest margin was 3.81% in Q3 2019 versus 3.87% a year earlier; for the first nine months it was 3.90% versus 3.86%. The nine-month effective tax rate was 16.5% in both years.
Cash flow: Operating cash provided was $16.3 million for the first nine months, versus $18.5 million in 2018. Investing activities provided $57.3 million, compared with $16.7 million used in 2018; financing activities used $59.5 million, compared with $2.8 million. Cash and cash equivalents ended the period at $46.9 million, up from $32.8 million at year-end 2018. Common dividends paid were $10.7 million.
Balance sheet and liquidity: At September 30, total assets were $1.643 billion, net loans $1.130 billion, deposits $1.295 billion, total borrowings including subordinated debt $86.5 million, and stockholders’ equity $242.9 million. Available credit facilities totaled $599.4 million, of which $523.7 million was available. Management stated it believed liquidity was adequate to meet obligations and lending needs.
Capital: C&N Bank reported total capital to risk-weighted assets of 18.75%, Tier 1 capital of 17.87%, common equity Tier 1 of 17.87%, and Tier 1 capital to average assets of 12.25%. Management said the Bank exceeded applicable requirements and expected to remain well-capitalized.
Material changes versus comparable periods
- Loan balances rose substantially, reflecting Monument and further growth: loans were $1.139 billion at September 30, compared with $827.6 million at year-end 2018. Deposits increased to $1.295 billion from $1.034 billion.
- Q3 net interest income increased $2.7 million year over year, but interest expense grew as deposit and borrowing costs rose. Average interest-bearing deposit cost was 0.99% in Q3, versus 0.52% a year earlier.
- Q3 GAAP net income fell $0.3 million year over year. Management’s adjusted, non-GAAP Q3 net income, excluding merger costs and securities gains or losses, was $5.4 million versus $5.3 million. Nine-month adjusted net income was $17.1 million versus $14.9 million; adjusted diluted EPS was $1.31 versus $1.21. These are management-defined non-GAAP measures.
- Nine-month GAAP noninterest expense rose $8.0 million, including $3.8 million of Monument merger costs. Excluding merger costs, expenses still increased $4.4 million, largely reflecting added staff, data processing, and other costs associated with expansion.
- Q3 provision for loan losses was $1.2 million versus $60,000 in Q3 2018, including a $678,000 specific allowance on a commercial real-estate-secured loan. The allowance was $9.3 million, or 0.81% of loans, versus 1.12% at year-end 2018; acquired performing Monument loans carried no allowance at quarter-end under the purchase accounting treatment.
Outlook, risks and unusual items
- No specific earnings or revenue guidance is provided. Management expected additional Monument merger expenses after September 30 to be insignificant and said the acquisition and capital expenditures were not expected to materially harm 2019 financial condition.
- Management cited interest-rate and economic changes, regulation, competition, technology costs, demand in its markets, and successful integration and realization of merger synergies as risks. It also cautioned that forward-looking statements are subject to uncertainty.
- Credit indicators improved from year-end: nonperforming loans were 1.00% of loans versus 1.94%, and nonperforming assets were 0.86% of assets versus 1.37%. However, management noted that a small number of commercial relationships can materially affect provisions and realized losses. TDRs totaled $2.7 million; 11 loans totaling $530,000 that were modified within the previous year defaulted during Q3, all tied to one commercial relationship.
- Unrealized gains on available-for-sale securities contributed $8.5 million of after-tax other comprehensive income in the first nine months, compared with an after-tax loss of $6.6 million in 2018. Management considered identified debt-security impairments temporary.
- The acquired assets and liabilities’ fair values remained preliminary and could be refined for up to one year after acquisition. Goodwill from Monument is not tax-deductible, according to the filing.
- Mortgage-sale representations and warranties may require repurchases or reimbursements. The Bank’s maximum credit-enhancement obligation under its MPF Original program was $4.6 million, with a $260,000 related allowance. Management did not expect pending legal proceedings to have a material adverse effect.
- Disclosure controls were deemed effective, but the assessment excluded Monument-related controls; integration of Monument processes and internal controls was still underway at September 30.
Important facts for investors to verify
- Whether Monument delivers expected growth and operating synergies after integration, and whether any remaining purchase-accounting valuations change.
- Loan quality and reserve adequacy, particularly the commercial real estate exposure behind the new specific allowance, TDR defaults, and the absence of an allowance on acquired performing loans.
- Deposit pricing, time-deposit mix, borrowing costs and resulting net interest margin as rates and funding competition change.
- Underlying expense trends after merger costs, including staffing, data processing, workout costs and servicing-rights valuation changes.
- Liquidity and capital headroom, along with the Bank’s credit-facility availability and the effect of continued loan growth on funding needs.
- Exposure under mortgage representations and warranties and the MPF Original credit-enhancement obligation.