Business Context and Reporting Period
First National Corporation, a Virginia bank holding company, reported unaudited consolidated results for the three and nine months ended September 30, 2011. Its principal subsidiary, First Bank, serves individuals, small and medium-sized businesses, governmental entities and nonprofit organizations in Virginia’s northern Shenandoah Valley through 10 branches and related banking, trust, investment and advisory services.
Financial Highlights
| Metric | Q3 2011 | Q3 2010 | 9M 2011 | 9M 2010 |
|---|---|---|---|---|
| Net interest income | $5.0 million | $5.2 million | $15.1 million | $15.2 million |
| Net interest margin | 3.98% | 4.10% | 3.96% | 4.07% |
| Provision for loan losses | $5.6 million | $1.2 million | $9.4 million | $2.6 million |
| Net income (loss) | $(2.9) million | $0.7 million | $(2.8) million | $2.5 million |
| Net income (loss) available to common shareholders | $(3.1) million | $0.5 million | $(3.5) million | $1.8 million |
| Basic and diluted EPS | $(1.05) | $0.16 | $(1.18) | $0.61 |
| Noninterest income | $1.5 million | $1.5 million | $4.3 million | $4.4 million |
| Noninterest expense | $5.4 million | $4.5 million | $14.5 million | $13.5 million |
- Total assets were $541.5 million at September 30, 2011, compared with $544.6 million at December 31, 2010.
- Total loans declined to $409.2 million from $435.0 million; net loans declined to $390.7 million from $419.0 million.
- Securities available for sale increased 41% to $85.5 million from $60.4 million.
- Deposits declined to $458.0 million from $463.5 million. Savings and interest-bearing demand deposits increased 7% to $190.4 million, while time deposits declined 10% to $185.8 million.
- The allowance for loan losses increased to $18.5 million, or 4.52% of total loans, from $16.0 million, or 3.69%, at year-end 2010.
- Nonperforming assets were $28.3 million, or 5.22% of total assets, including $22.7 million of nonaccrual loans and $5.6 million of other real estate owned.
- Operating cash flow for the first nine months was $7.7 million, compared with $4.1 million in the prior-year period. Cash and cash equivalents increased to $22.7 million from $16.0 million at year-end 2010.
- Borrowings were $25.1 million, plus $9.3 million of trust preferred capital notes. The Bank had $117.8 million of unused lines of credit and $121.5 million of total available non-deposit funding sources.
- First Bank remained above “well capitalized” thresholds, with total risk-based capital of 13.48%, Tier 1 risk-based capital of 12.19% and Tier 1 leverage capital of 9.43% at September 30, 2011.
Material Changes Versus Prior Comparable Period
- Third-quarter earnings shifted from a $0.7 million profit to a $2.9 million net loss, primarily because the loan-loss provision increased by $4.4 million and the OREO provision increased by $0.8 million.
- For the first nine months, the Company shifted from $2.5 million of net income to a $2.8 million net loss. The increase in loan-loss and OREO provisions was approximately $7.7 million year over year.
- Net charge-offs increased to $6.9 million for the first nine months, from $1.1 million in the comparable period; third-quarter net charge-offs increased to $851 thousand from $240 thousand.
- Nonperforming assets increased to $28.3 million from $15.5 million at September 30, 2010 and $14.8 million at December 31, 2010.
- Impaired loans increased modestly to $45.2 million from $43.9 million at year-end 2010, while related allowance coverage increased to $10.7 million from $8.6 million.
- The loan portfolio remained heavily concentrated in real estate, representing 89% of total loans. Hotel loans totaled $35.1 million, or 9% of total loans and 76% of equity.
- Common cash dividends were suspended in July 2011 to preserve capital. The Company paid $541 thousand of common dividends during the first nine months of 2011, compared with $1.1 million in the prior-year period.
Guidance, Outlook, Risks and Unusual Items
- Management expects noninterest expense, excluding OREO provisions, to remain broadly stable through the remainder of 2011 and 2012.
- Management expects net interest income to decline slightly because of continued pressure on the net interest margin and a shift from loans toward securities.
- Management does not anticipate significant improvement in local economic conditions, loan demand or deposit growth. Noninterest income is expected to increase slightly following changes to deposit service charges.
- Management believes the allowance for loan losses and OREO carrying values are adequate, but future provisions remain sensitive to borrower repayment capacity, real estate values, collateral liquidation results and economic conditions.
- The Bank created a special-assets department and planned to make it fully functional in the fourth quarter of 2011. Lending functions were being centralized with improved underwriting and risk-grading tools.
- At September 30, 2011, troubled debt restructurings totaled $13.2 million, of which $6.2 million were performing under modified terms. The filing reports no TDRs that subsequently defaulted within 12 months of modification.
- Commitments to extend credit, standby letters of credit and rate-lock commitments totaled $57.2 million. Standby letters of credit totaled $8.3 million, and locked-rate mortgage commitments totaled $918 thousand.
- Key risks include concentrated real estate and hotel exposure, deterioration in local economic conditions, additional nonperforming assets, collateral-value declines, allowance estimation uncertainty, dependence on wholesale liquidity sources, interest-rate risk, regulatory changes and the ability to raise capital if needed.
- The filing reports no material litigation, no material changes to previously disclosed risk factors, and effective disclosure controls as of September 30, 2011.
Important Facts for Investors to Verify
- Whether nonperforming assets and impaired loans continued to increase after September 30, 2011, particularly in commercial real estate, residential development and hotel lending.
- Whether the $18.5 million allowance for loan losses ultimately covered realized losses and whether additional provisions were required.
- The performance and liquidation values of the $5.6 million OREO balance and the impact of future write-downs or sale gains and losses.
- Whether the declining loan balance and anticipated shift toward securities further reduced net interest margin and net interest income.
- The sustainability of regulatory capital ratios after additional credit losses and the effect of suspended common dividends and outstanding preferred stock obligations.
- The availability and terms of the Bank’s FHLB advances, correspondent-bank lines and other liquidity sources under stressed conditions.