PEOPLES FINANCIAL SERVICES CORP. quarterly report, Q2 FY2023

Business context and reporting period

Peoples Financial Services Corp. is a Pennsylvania bank holding company operating Peoples Security Bank and Trust Company, with 28 community banking offices in Pennsylvania, New Jersey and New York. This unaudited Form 10-Q covers the quarter and six months ended June 30, 2023; comparisons are to the corresponding 2022 periods unless otherwise noted. Dollar amounts below are in millions unless stated otherwise.

Financial performance and condition

MetricQ2 2023Q2 2022Six months 2023Six months 2022
Net interest income (GAAP)$22.1$23.7$45.2$46.3
Net income$9.4$9.4$17.0$19.0
Diluted EPS$1.31$1.30$2.37$2.63
Noninterest income$3.6$3.9$7.2$7.3
Noninterest expense$16.6$15.5$33.2$29.8
Credit loss provision (credit)$(2.2)$1.0$(0.9)$1.3
  • Margins and returns: Q2 tax-equivalent net interest margin was 2.61%, versus 3.06%; the six-month margin was 2.72%, versus 3.01%. Q2 annualized return on average assets was 1.04% (1.12% prior year) and return on average equity was 11.42% (11.71%). The non-GAAP efficiency ratio rose to 63.5% in Q2 from 54.8%, and to 62.1% for six months from 54.2%.
  • Balance sheet at June 30: Assets were $3,681.8, up $128.3 from year-end 2022. Gross loans were $2,843.2, up $113.1; deposits were $3,229.5, up $182.9; stockholders’ equity was $331.8, up $16.4.
  • Funding and debt: Interest-bearing deposits were $2,516.1 and noninterest-bearing deposits $713.4. Short-term borrowings were $19.5, long-term debt $25.0 and subordinated debentures $33.0. Short-term borrowings declined from $114.9 at year-end; long-term debt rose from $0.6.
  • Credit quality: Allowance for credit losses was $23.2, or 0.82% of loans, compared with $27.5, or 1.01%, at year-end. Nonperforming loans were $2.1 (0.07% of loans), versus $4.1 (0.15%) at year-end. Six-month net charge-offs were $34, less than 0.01% of average loans.
  • Liquidity and cash flow: Cash and cash equivalents were $136.7 at June 30. For six months, operating cash flow was $17.6, investing cash flow $(22.9), and financing cash flow $104.2; cash increased $98.8. Management reported $269.7 of unencumbered available-for-sale securities, $927.6 of unused FHLB borrowing capacity and $272.1 available at the Federal Reserve discount window.
  • Capital: The Bank reported Tier 1 leverage of 9.61%, Tier 1 risk-based capital of 12.23%, total risk-based capital of 13.04% and CET1 of 12.23%; it met requirements and was considered well-capitalized.

Material changes versus the prior comparable period

  • Q2 net income was nearly flat year over year, while six-month net income fell 10.4%. Higher asset yields were outweighed by sharply higher deposit and funding costs: Q2 interest expense increased to $14.6 from $2.2, and six-month interest expense to $25.8 from $4.1.
  • Loans grew, led by commercial real estate and residential real estate. Management said loan growth slowed in Q2 as higher rates and economic and liquidity concerns tempered demand.
  • Deposits increased overall, but the mix shifted: noninterest-bearing deposits declined $59.4 from year-end, while brokered deposits increased $248.0. The company added $259.0 of longer-term callable brokered CDs to strengthen on-balance-sheet liquidity.
  • Available-for-sale securities declined to $395.8 from $477.7, including $65.6 par value of securities sold for net proceeds of $67.4; proceeds helped repay higher-cost short-term borrowings. Net unrealized AFS losses were $47.6 after tax, down from $52.0 at year-end. Held-to-maturity securities had fair value of $74.0 versus $88.2 carrying value.
  • The company adopted CECL on January 1, 2023, recording a $3.0 million decrease in the loan allowance and a $2.4 million after-tax increase to equity. In Q2 it identified an immaterial Q1 allowance overstatement of $1.5 million, corrected in the current quarter; the filing says no amendment to the Q1 10-Q was required.

Outlook, commentary and risks

  • No formal numerical earnings or revenue guidance is provided. Management expects funding costs to continue rising amid rate increases and deposit competition; it also notes loan demand may moderate and mortgage originations have weakened. Higher asset repricing may support income, but simulations indicate a 100-basis-point parallel rate increase would reduce projected 12-month net interest income by 0.7%; the filing says rate simulations remained within ALCO policy limits.
  • Management described the operating environment as uncertain, citing inflation, recession concerns, interest-rate changes and volatility following regional bank failures. It said it actively monitors deposit flows, balance-sheet trends and liquidity, and considers its liquidity position strong.
  • Key exposures include deposit outflows and reliance on brokered/noncore funding; uninsured deposits were estimated at $820.6 (25.4% of deposits), down from $1.1 billion (36.9%) at year-end. A portion of municipal deposits is collateralized, and customers can use IntraFi deposit programs.
  • Rising rates have reduced securities fair values. Management says it does not intend to sell the securities, but a forced sale to meet liquidity needs could realize losses and impair capital or results. The company reported $60.6 of gross unrealized AFS losses and $14.2 of HTM unrealized losses at June 30.
  • Other disclosed risks include credit deterioration, economic weakness, real-estate collateral values, increased regulatory scrutiny and FDIC assessment costs, competition, third-party service interruptions and cybersecurity. The filing reports no legal proceedings expected to have a material effect and no defaults on senior securities.
  • The board declared a Q3 dividend of $0.41 per share, payable September 15, 2023. Share repurchases were briefly suspended in April and restarted in May; the company repurchased 25,555 shares during Q2.

Important facts for investors to verify

  1. Whether deposit growth and mix remain stable, particularly given brokered funding growth, higher deposit costs and the $820.6 of estimated uninsured deposits.
  2. Whether continued repricing of deposits and other funding outpaces loan and securities yield increases, affecting net interest margin and earnings.
  3. Whether securities unrealized losses, pledged collateral and liquidity resources leave the company able to meet funding needs without realizing losses.
  4. Whether loan growth, delinquencies, commercial real-estate exposures and the CECL allowance remain consistent with management’s credit assumptions, including the Q1 allowance correction.
  5. Whether capital ratios, dividend payments and repurchases remain appropriate if earnings, liquidity or asset quality weaken.