Arrow Financial Corporation — FY2016 Form 10-K
Reporting period: Year ended December 31, 2016; fourth-quarter results are also summarized. Arrow is a New York bank holding company operating Glens Falls National Bank and Saratoga National Bank, primarily in northeastern New York. It provides community banking, lending, trust and investment, and insurance services.
Financial results and condition
| Metric | FY2016 / year-end | Comparison |
|---|---|---|
| Net income | $26.5 million | Up 7.6% from $24.7 million |
| Diluted EPS | $1.97 | Up 6.5% from $1.85 |
| Net interest income (GAAP) | $71.6 million | Up 8.5% from $65.9 million |
| Net interest margin | 3.15% tax-equivalent | Up 2 basis points from 3.13% |
| Noninterest income | $27.8 million | Down 1.0% |
| Noninterest expense | $59.6 million | Up 3.8%; efficiency ratio 57.51%, improved from 58.62% |
| Return on average assets / equity | 1.06% / 11.79% | Versus 1.05% / 11.86% |
| Total assets | $2.61 billion | Up 6.5% |
| Loans / deposits | $1.75 billion / $2.12 billion | Loans up 11.4%; deposits up 4.2% |
| Stockholders’ equity | $232.9 million | Up 8.8%; book value per share $17.27 |
| Net cash from operating activities | $34.7 million | Cash increased $6.3 million to $57.4 million |
Net cash used in investing activities was $157.8 million, largely reflecting loan growth; financing activities provided $129.4 million, including deposit and borrowing growth. The filing does not provide a separate cash-flow forecast.
At year-end, short-term borrowings were $158.8 million, FHLBNY term advances were $55.0 million, and junior subordinated obligations were $20.0 million. Total deposits were $2.12 billion. Management reported no liquidity constraints; available liquidity, including FHLBNY borrowing capacity, was 11.2% of assets, above its 4% internal minimum. The company and both banks were well-capitalized: Arrow’s CET1 ratio was 13.0% and total risk-based capital ratio 15.2%.
Material changes and notable items
- Loan growth drove higher interest income and net interest income. Average earning assets rose 7.6%, led by loans, while tax-equivalent NIM improved modestly.
- Provision for loan losses increased to $2.0 million from $1.3 million, primarily due to portfolio growth. Net charge-offs were $1.1 million; the allowance was $17.0 million, or 0.97% of loans, versus 1.02% a year earlier.
- Asset quality improved overall: nonperforming loans declined to $5.5 million (0.31% of loans) from $6.9 million (0.44%). However, identified performing commercial potential problem loans increased to $34.8 million from $24.6 million.
- Noninterest income eased, including lower insurance commissions and a $22,000 securities loss versus a $129,000 gain in 2015. Noninterest expense rose, notably from compensation and technology costs.
- Fourth-quarter net income was $6.6 million, up 0.5% year over year; diluted EPS remained $0.49. Higher net interest income was largely offset by higher expenses.
- Cash dividends were $0.98 per share for 2016, and the company distributed a 3% stock dividend. A $5 million repurchase authorization was approved for 2017.
- The 2016 operating cash flow was $34.7 million; cash dividends paid were $13.1 million. Cash flow was also affected by loan and securities activity and borrowings.
Outlook, risks and contingencies
Management gave no specific earnings or growth guidance. It cautioned that margin compression may continue as higher-yielding assets mature and reprice, even if market rates rise gradually; it therefore made no assurance of higher net interest income or earnings in 2017. Loan growth, deposit pricing, competition, local economic conditions and Federal Reserve actions are key uncertainties.
- Credit exposure is concentrated geographically in upstate New York, and tourism materially affects the regional economy. A downturn could increase delinquencies, charge-offs and loan-loss provisions. Automobile lending showed a modest shift toward borrowers with lower credit scores and longer maturities.
- Interest-rate simulations estimated net interest income would decline 3.3% under a 200-basis-point increase and 0.3% under the filing’s adjusted 100-basis-point decrease scenario. These are hypothetical sensitivities, not forecasts.
- Unfunded commitments to extend credit were $383.6 million; standby letters of credit totaled $3.4 million. These amounts are contingent and are not necessarily expected cash outflows.
- Arrow disclosed indirect contingent exposure related to Visa Class B shares and covered litigation, but recognized no economic value for its 45,686 shares and considered Visa’s escrow substantially sufficient for remaining claims.
- Cybersecurity, third-party service providers, evolving regulation, capital requirements, and competition are material risks. Management reported no significant cybersecurity compromise or material cyber-related financial loss to date.
- No material pending legal proceedings were reported. KPMG issued unqualified opinions on the financial statements and internal control over financial reporting.
- Subsequent to year-end, CFO Terry Goodemote announced his intention to retire and remain in his role until a successor is selected. The filing also notes new accounting standards, including the expected-credit-loss standard effective in 2020, whose impact was not yet quantified.
Important facts for investors to verify
- Whether loan growth and improved nonperforming-loan metrics persist, and how the $34.8 million potential-problem-loan balance develops.
- Whether net interest margin and funding costs withstand further rate changes and repricing of existing loans and securities.
- The sustainability of revenue and expense trends, particularly insurance commissions, fiduciary fees, compensation and technology spending.
- Capital and liquidity headroom as regulatory buffers phase in, and the effect of borrowing growth and shareholder distributions.
- Potential outcomes from Visa-related claims, unfunded lending commitments, cybersecurity exposures and forthcoming accounting changes.