Business Context and Reporting Period
Southern Missouri Bancorp, Inc. is the holding company for Southern Bank, a Missouri-based community bank providing retail, commercial, agricultural and real-estate lending, deposit and other financial services. The filing is a Form 10-Q for the quarter ended December 31, 2018, representing the second quarter of fiscal 2019; the request metadata labels it “2018 Q2.” The Bank operated 47 full-service and two limited-service branches at period end.
The November 21, 2018 acquisition of Gideon Bancshares Company and First Commercial Bank materially expanded the balance sheet. The transaction consideration was $22.0 million, consisting of $11.3 million cash and $10.8 million of Southern Missouri common stock.
Key Financial Metrics
| Metric | Three months ended December 31 | Six months ended December 31 |
|---|---|---|
| Net interest income | $18.1 million, up 15.1% | $35.2 million, up 14.4% |
| Net income | $7.5 million, up 44.2% | $14.3 million, up 42.1% |
| Diluted EPS | $0.81 versus $0.60 | $1.57 versus $1.16 |
| Net interest margin | 3.71% versus 3.87% | 3.81% versus 3.83% |
| Return on average assets | 1.41% versus 1.17% | 1.42% versus 1.15% |
| Return on average equity | 13.9% versus 11.6% | 13.6% versus 11.3% |
| Efficiency ratio | 56.7% versus 55.8% | 56.2% versus 57.2% |
Total interest income increased to $24.2 million in the quarter and $46.2 million for the six-month period, driven by loan and securities growth and higher earning-asset yields. Total interest expense increased 74.0% in the quarter and 61.1% year to date as deposit and borrowing costs rose. The effective tax rate declined to 19.5% in the quarter and 19.6% year to date, compared with 33.0% and 30.7%, respectively, in the prior-year periods, primarily reflecting the federal corporate tax rate reduction.
| Balance-sheet metric | December 31, 2018 | Change from June 30, 2018 |
|---|---|---|
| Total assets | $2.206 billion | Up $320.2 million, or 17.0% |
| Net loans | $1.801 billion | Up $238.1 million, or 15.2% |
| Available-for-sale securities | $197.9 million | Up $51.5 million, or 35.2% |
| Deposits | $1.796 billion | Up $216.1 million, or 13.7% |
| FHLB advances | $155.8 million | Up $79.1 million, or 103.2% |
| Stockholders’ equity | $224.0 million | Up $23.3 million, or 11.6% |
Six-month operating cash flow was $16.9 million, compared with $11.5 million in the prior-year period. Investing activities used $105.2 million, mainly because of a $94.7 million net increase in loans, securities purchases, capital expenditures and $8.4 million of cash paid for the Gideon acquisition. Financing activities provided $100.3 million, including net FHLB funding and deposit-related financing. Cash and cash equivalents ended at $38.4 million.
The allowance for loan losses was $19.0 million at December 31, 2018, compared with $18.2 million at June 30, 2018. The six-month provision was $1.0 million, versus $1.5 million in the prior-year period, and net charge-offs were $186,000.
Material Changes and Unusual Items
- The Gideon acquisition added approximately $216.8 million of assets, including $144.3 million of loans and $54.9 million of securities, and $171.2 million of deposits. The acquired business contributed $1.2 million of revenue and $405,000 of earnings from November 21 through December 31, 2018.
- Acquisition-related costs were $595,000 for the six-month period, including $420,000 in the second quarter. The accounting for the business combination remained incomplete at quarter end.
- Noninterest income benefited from a $346,000 nonrecurring bank-owned life insurance item and a $60,000 gain on the sale of banker’s-bank stock. These items reduce the comparability of reported income.
- Loan discount accretion and deposit premium amortization contributed $467,000 to quarterly net interest income and $1.7 million year to date. Management expects legacy acquisition accretion to decline over time, although Gideon-related accretion should provide additional benefit in the second half of fiscal 2019.
- Net interest margin declined as funding costs rose faster than asset yields. The average cost of interest-bearing liabilities increased 46 basis points in the quarter and 41 basis points year to date.
- Nonperforming assets increased to $24.4 million from $13.1 million at June 30, 2018, primarily because the Gideon acquisition contributed $12.9 million of nonperforming loans. Nonaccrual loans increased to $20.5 million from $9.2 million.
Guidance, Outlook, Risks and Contingencies
Management expects continued asset growth through loan originations, occasional loan purchases and investment securities. Anticipated funding sources include retail deposits, brokered funding and short- and long-term FHLB borrowings. Management also expects seasonal deposit growth and a seasonal slowdown in loan growth in the following quarter.
The principal risks are rising funding costs, a flattening or inverted yield curve, interest-rate sensitivity, credit deterioration, real-estate and agricultural market conditions, competition for loans and deposits, reliance on FHLB and brokered funding, regulatory changes, and integration risks associated with acquisitions. The company specifically notes that expected merger synergies and cost savings may not be realized and that acquisition integration could affect customer and employee retention.
At December 31, 2018, outstanding commitments and approvals to extend credit totaled approximately $330.1 million, including $232.0 million of unused lines. FHLB collateral supported approximately $362.4 million of available credit, of which $156.2 million was drawn. Federal Reserve collateral supported $162.6 million of primary credit capacity, none of which was drawn. Management believes liquidity is sufficient.
The Bank was categorized as well capitalized. Its December 31, 2018 regulatory ratios included 12.16% total risk-based capital, 11.10% Tier 1 risk-based capital, 11.10% common equity Tier 1 capital and 10.70% Tier 1 leverage capital. Management reported effective disclosure controls and no material changes in internal control over financial reporting. No material pending legal proceedings or material changes to previously disclosed risk factors were reported.
Management is evaluating adoption of the current expected credit loss standard, which is expected to require a modified-retrospective adjustment but whose eventual impact was not yet reasonably estimable. The company has begun parallel model testing using Sageworks software.
Important Facts for Investors to Verify
- Reconcile reported earnings growth with the Gideon acquisition, purchase-accounting accretion, nonrecurring BOLI income and lower tax rates.
- Monitor deposit pricing, FHLB borrowings, brokered funding and the effect of higher funding costs on the 3.71% quarterly net interest margin.
- Assess the increase in nonperforming assets, nonaccrual loans, classified loans and past-due loans, including the portion attributable to Gideon.
- Review the final purchase-price allocation for Gideon, including acquired loan marks, goodwill, core-deposit intangibles and future accretion.
- Evaluate liquidity against $330.1 million of unfunded loan commitments and the company’s reliance on wholesale funding.
- Confirm the eventual CECL adoption impact on the allowance, retained earnings and regulatory capital.
- Consider the sensitivity of net portfolio value to interest rates: management estimated a 21% decline under an instantaneous 300-basis-point increase and a 35% increase under a 300-basis-point decrease, subject to significant modeling assumptions.