Chemung Financial Corporation — FY 2017 Form 10-K
Business context and reporting period. This annual report covers the year ended December 31, 2017, with comparisons primarily to 2016. Chemung is a New York-based community banking holding company operating through Chemung Canal Trust Company, wealth management and other financial-services subsidiaries. It reported $1.708 billion in assets and operated 34 branches across New York and Pennsylvania.
Financial performance and condition
| Metric | 2017 | 2016 |
|---|---|---|
| Total assets | $1.708 billion | $1.657 billion |
| Loans, net of deferred fees | $1.312 billion | $1.200 billion |
| Deposits | $1.467 billion | $1.456 billion |
| Net interest income | $56.987 million | $52.329 million |
| Non-interest income | $20.491 million | $21.149 million |
| Provision for loan losses | $9.022 million | $2.437 million |
| Net income | $7.430 million | $10.027 million |
| Diluted EPS | $1.55 | $2.11 |
| Net interest margin, fully taxable equivalent | 3.56% | 3.37% |
| Return on average assets / equity | 0.43% / 4.91% | 0.60% / 7.02% |
| Operating cash flow | $23.645 million | $22.141 million |
- Net interest income grew 8.9%, supported by loan growth and a 19-basis-point increase in fully taxable equivalent net interest margin. Non-interest expenses fell 5.0% to $53.764 million; the reported efficiency ratio improved to 66.60% from 74.43%.
- Cash and cash equivalents declined to $30.729 million from $74.162 million, as loan growth drove $106.642 million of cash used in investing activities. Financing activities provided $39.564 million.
- Year-end borrowings included $59.7 million of FHLBNY advances, $10.0 million of repurchase agreements and a $2.0 million FHLBNY term advance; capital lease obligations were $4.517 million. FHLBNY advances and other debt increased $32.8 million year over year.
- Shareholders’ equity was $149.813 million; the year-end equity-to-assets ratio was 8.77%. The Bank and Corporation exceeded applicable regulatory capital requirements; the Bank was categorized as well capitalized.
- Net charge-offs were $2.114 million, down from $2.444 million. The allowance for loan losses rose to $21.161 million, or 1.61% of loans, from $14.253 million, or 1.19%.
Material changes versus 2016
- Net income declined 25.9% and EPS declined 26.5%, despite higher net interest income and lower operating expenses. The principal pressures were the higher loan-loss provision and a one-time tax expense.
- The provision increase reflected specific reserves of $4.9 million for eight commercial loans tied to two long-standing Southern Tier relationships, portfolio growth, and higher loss factors for indirect and consumer lending.
- Non-performing loans rose to $17.324 million, or 1.32% of loans, from $12.043 million, or 1.00%; non-performing assets increased to $19.264 million, or 1.13% of assets, from $12.431 million, or 0.75%. OREO rose to $1.940 million, primarily following the addition of eight commercial properties.
- Loans grew 9.3%, particularly commercial mortgages and indirect auto loans. Deposits increased only 0.8%; FHLBNY advances rose as loan growth outpaced deposit growth. Non-interest income fell 3.1%, partly because 2016 included larger securities gains and a debit-card volume bonus.
- The Tax Act prompted a $2.927 million deferred-tax-asset remeasurement charge. The reported effective tax rate was 49.4%; excluding that one-time remeasurement, management reported an effective rate of 29.5%.
Outlook, risks and unusual items
- Management anticipates continued loan growth, particularly commercial mortgages and commercial and industrial lending in the Capital Bank division. The filing provides no specific earnings, revenue or margin guidance.
- In fourth-quarter 2017, Chemung reported a $2.159 million net loss, or $0.45 per share. The quarter included a $6.272 million loan-loss provision, including the $4.9 million specific reserves, and the $2.927 million tax remeasurement.
- The Bank recorded an additional $850,000 reserve in 2017 for litigation concerning a vacated Ithaca branch lease. Its total reserve for the matter was $2.3 million; damages remained for determination after the court decisions described in the filing.
- Key disclosed risks include commercial real estate and business-credit concentrations, indirect auto lending, loan-loss estimation, interest-rate changes, competition, regulatory and compliance costs, technology and cybersecurity, and dependence on subsidiary dividends. Commercial real estate and business loans totaled $843.3 million, or 64.3% of loans; real estate-related commercial borrowers represented 48.1% of total loans.
- Management’s rate scenarios estimated that an immediate 200-basis-point rise or decline would reduce next-12-month net interest income by 7.91% or 9.35%, respectively; both estimates were within its 15% policy limit. The filing also warns that the Tax Act could affect regional home values and mortgage demand.
- Management said it expects adoption of the expected-credit-loss (CECL) standard to increase the allowance; adoption was planned for January 1, 2020. The company reported effective disclosure controls and internal control over financial reporting, and the auditor issued unqualified opinions on the financial statements and controls.
Important facts for investors to verify
- Progress and ultimate recoveries on the eight commercial loans and two relationships driving the specific reserves; subsequent changes in non-performing loans, TDRs and OREO.
- Whether loan and deposit growth can be balanced without continued reliance on overnight FHLBNY borrowing, and the effect of funding costs on margins and liquidity.
- Final damages, payments and any additional accruals related to the Ithaca lease litigation.
- The assumptions and likely balance-sheet impact of CECL implementation, as well as the effect of the lower federal tax rate on future earnings.
- Capacity to sustain the $1.04 annual dividend per share while funding growth and maintaining capital buffers; the 2017 dividend payout ratio was 66.30% of reported net income.