Orrstown Financial Services, Inc. — Q3 2022 Form 10-Q
Reporting period: Three and nine months ended September 30, 2022. Orrstown is a Pennsylvania-based community bank holding company serving south-central Pennsylvania and parts of Maryland.
Financial performance
| Metric | Q3 2022 | Nine months 2022 | Comparison |
|---|---|---|---|
| Net interest income | $25.5 million | $72.1 million | Up 23.5% and 12.1%, respectively, year over year |
| Net interest margin, taxable-equivalent | 3.92% | 3.70% | Up 89 and 49 basis points, respectively |
| Provision for loan losses | $1.5 million | $3.6 million | Compared with $0.4 million and a $0.01 million provision release, respectively, in 2021 |
| Noninterest income | $6.1 million | $20.7 million | Down 20.8% and 5.2%, respectively |
| Noninterest expense | $36.4 million | $74.6 million | Includes $13.0 million legal provision and $3.2 million restructuring charge |
| Net income (loss) | $(4.8) million | $12.4 million | 2021: $7.2 million and $26.2 million |
| Diluted EPS | $(0.47) | $1.16 | 2021: $0.65 and $2.36 |
Excluding the legal settlement and restructuring charges, management reported adjusted net income of $7.9 million for Q3 and $25.2 million for the nine months, with adjusted diluted EPS of $0.75 and $2.34. These are non-GAAP measures.
Higher loan and securities yields, loan growth, and deployment of cash into earning assets lifted net interest income. Mortgage banking income weakened substantially amid rising rates and lower housing inventory: Q3 mortgage banking activities recorded a $1.0 million loss, versus $1.3 million of income a year earlier; nine-month income was $0.2 million versus $4.7 million. Nine-month swap fee income rose to $1.9 million from $0.1 million.
Financial position, liquidity and capital
- Total assets were $2.85 billion at September 30, 2022, versus $2.83 billion at year-end 2021. Loans were $2.09 billion, up $107.9 million; growth excluding Paycheck Protection Program loans was 16% for the nine months.
- Deposits totaled $2.51 billion, up $40.9 million from year-end. Cash and cash equivalents fell to $66.9 million from $208.7 million as cash was deployed, including into loans and securities.
- Borrowings were modest: $21.1 million in repurchase agreements, $1.6 million in FHLB advances and other borrowings, and $32.0 million in subordinated notes. The company reported maximum FHLB borrowing capacity of $987.9 million, $99.5 million of unencumbered securities, and no FRB Discount Window borrowings.
- Operating cash flow was $37.8 million for the nine months; investing activities used $197.5 million and financing activities provided $18.0 million. Ending cash and cash equivalents were $66.9 million.
- Shareholders’ equity declined to $217.4 million from $271.7 million, principally reflecting $47.9 million of other comprehensive losses, dividends, and share repurchases, partly offset by earnings. AFS securities had $54.6 million of gross unrealized losses at quarter-end, largely attributed by management to higher interest rates.
- The Bank was classified as well capitalized. Its total risk-based capital ratio was 12.9%, down from 14.0% at year-end; Tier 1 leverage was 9.6%. Book value per share was $20.34, and tangible book value per share was $18.34.
Credit quality, changes and outlook
Nonperforming assets were $5.3 million, or 0.19% of assets, versus $6.4 million, or 0.23%, at year-end. The allowance for loan losses was $24.7 million, equal to 1.18% of loans, compared with 1.07% at year-end. Net charge-offs were low at $46,000 for the nine months. Management cited commercial loan growth as the main driver of the increased provision, while warning that economic conditions could require additional provisions.
The company announced plans to close five branches and adjust staffing to support growth and efficiency in 2023 and thereafter. The $3.2 million restructuring charge included $1.9 million of building and fixed-asset write-offs and $1.3 million of retirement and severance costs. The filing provides no formal earnings or revenue guidance.
On November 7, 2022, the company agreed in a memorandum of understanding to settle a long-running shareholder class action for $15.0 million total, with Orrstown contributing $13.0 million. The company recorded its $13.0 million provision in Q3 as a recognized subsequent event. The settlement remains subject to a formal agreement and court approval; it includes no admission of wrongdoing. A separate customer class action alleges improper overdraft fees; the Bank says the claims lack merit.
Management identified rising rates, inflation, economic uncertainty, credit quality, securities-market volatility, mortgage-market weakness, litigation, cybersecurity and other operational risks. Interest-rate modeling indicated that further rate increases could pressure net interest income because liabilities may reprice faster than assets; the model is assumption-dependent and excludes potential management actions. The company expected to adopt the current expected credit loss standard (CECL) on January 1, 2023 and anticipated a one-time increase to its allowance, with the amount not yet clear.
Key facts for investors to verify
- Whether the $15.0 million shareholder settlement receives court approval and Orrstown’s final $13.0 million payment obligation.
- Progress and realized savings from the five branch closures and staffing changes, including any further restructuring costs.
- CECL adoption impact on the allowance, capital and earnings, and changes in credit quality or loan-loss provisions.
- Deposit pricing and funding trends, liquidity after cash deployment, and net interest margin sensitivity as rates change.
- Potential further declines in AFS securities values and the effect of unrealized losses on equity and capital.
- Outcome and possible financial exposure from the separate overdraft-fee litigation.