SB Financial Group, Inc. — Q2 2018 Form 10-Q
Business context and period: Ohio bank holding company, primarily operating through The State Bank and Trust Company. This unaudited report covers the quarter and six months ended June 30, 2018; balance-sheet comparisons are with December 31, 2017. Unless stated otherwise, dollar amounts below are in millions.
Financial performance and position
| Metric | Q2 2018 | Q2 2017 | Six months 2018 | Six months 2017 |
|---|---|---|---|---|
| Total revenue (net interest income plus noninterest income) | $12.7 | $11.4 | $24.6 | $21.7 |
| Net interest income | $8.4 | $7.0 | $16.1 | $13.5 |
| Net interest margin, FTE | 4.14% | 3.73% | 3.89% | 3.66% |
| Noninterest income | $4.2 | $4.5 | $8.5 | $8.3 |
| Noninterest expense | $8.6 | $7.8 | $17.2 | $15.2 |
| Provision for loan losses | $0.3 | $0.2 | $0.6 | $0.2 |
| Net income | $3.1 | $2.3 | $5.6 | $4.3 |
| Diluted EPS | $0.40 | $0.37 | $0.75 | $0.68 |
- At June 30, total assets were $944.8, loans net of unearned income were $753.3, deposits were $752.9, and stockholders’ equity was $125.1 (13.2% of assets). Since year-end 2017, assets rose 7.8%, loans 8.1%, deposits 3.3%, and equity increased from $94.0, primarily reflecting the February share offering.
- Allowance for loan losses was $8.5, or 1.13% of loans, versus $7.9 at year-end. Nonperforming assets were $3.2, or 0.34% of assets, versus $3.9, or 0.46%, a year earlier. Delinquent loans totaled $1.7; six-month net charge-offs were $0.04.
- Six-month cash flows: operating activities provided $11.7 (versus $0.4 used in 2017); investing activities used $74.7 (versus $21.9); financing activities provided $60.9 (versus $26.7). Cash and equivalents were $24.4 at period-end, down $2.2 from year-end.
- Liquid assets were $121.9. FHLB advances were $26.5, repurchase agreements $18.2, and trust preferred securities $10.3. Management reported approximately $69.7 of additional FHLB borrowing capacity and $29.2 of unpledged securities. The State Bank was classified as well capitalized; its total risk-based capital ratio was 12.89%.
Material changes and management commentary
- Q2 net income increased 34% year over year; first-half net income increased 29%. Higher earning assets and yields lifted net interest income, while higher funding costs partly offset the benefit. FTE net interest margin expanded year over year.
- Noninterest expense rose, which management attributed mainly to staffing growth in mortgage, wealth management, retail and SBA activities, plus tax initiatives and compliance spending in the first half. The federal tax-rate reduction enacted in December 2017 contributed to lower effective tax rates: 18.1% in Q2 and 18.4% for the first half, compared with 32.2% and 32.1%.
- On February 9, the company issued 1,666,666 common shares at $18 per share, generating $30.0 gross and $27.9 net proceeds for general corporate purposes, potentially including bank capital. The offering increased equity and average shares outstanding.
- Effective January 1, 2018, the company sold customer contracts and certain assets of RDSI’s remaining DCM processing business. A 180-day transition agreement followed; the transaction had minimal positive impact in the first half.
- Mortgage originations were $109.5 in Q2; $79.2 was sold. Mortgage gains were $2.1, approximately unchanged year over year. The company reported a small Q2 mortgage servicing rights valuation impairment; first-half servicing-rights valuation included a $0.07 recovery.
Outlook, risks and contingencies
- The filing provides no specific earnings or revenue guidance. Management said current liquidity was sufficient for its needs and that it could access additional FHLB and correspondent funding if required.
- Management identified interest-rate, liquidity, credit, economic, regulatory, competitive and other banking risks. Its economic value of equity analysis showed a 10.59% increase under a +400-basis-point shock and a 4.95% decrease under a -100-basis-point shock from the June base case. Management reported no material change in market risk from its 2017 Form 10-K.
- Management considered securities’ unrealized losses temporary and reported no other-than-temporary impairment. Unrealized losses were $1.90 at June 30, up from $0.78 at year-end 2017; changes in rates and the ability or need to sell securities could affect future results.
- The expected-credit-loss standard (ASU 2016-13) is effective for the company after December 15, 2019. Management said adoption is likely to increase the loan-loss allowance, but it could not yet reasonably estimate the impact; the standard will also require an allowance for expected credit losses on debt securities.
- There was no new troubled-debt-restructuring activity in the quarter or first half. One residential TDR with a recorded balance of $61,000 had defaulted on its modified agreement during the preceding 12 months. Management said ordinary-course legal matters and regulatory examinations were not expected to have a material adverse effect. No material changes to previously disclosed risk factors were reported.
- Disclosure controls were reported effective, with no material change in internal control over financial reporting during the quarter.
Important facts for investors to verify
- Whether loan growth and improved reported asset-quality measures are sustainable, and whether the $8.5 allowance remains adequate as the portfolio expands.
- How rising funding costs, loan pricing and interest-rate sensitivity affect future net interest margin and earnings.
- Whether staffing, compliance and other expense growth can be contained relative to revenue growth.
- The eventual impact and implementation readiness for the expected-credit-loss standard, including any allowance increase.
- How the $27.9 net offering proceeds are deployed and how share issuance and convertible preferred shares affect common shareholders’ diluted EPS.
- Whether the unrealized securities losses remain temporary and whether available liquidity and borrowing capacity remain adequate under stressed conditions.