ChoiceOne Financial Services, Inc. — Q1 2018 Form 10-Q
Business context and reporting period. ChoiceOne Financial Services is a Michigan-based bank holding company. This unaudited filing covers the three months ended March 31, 2018; balance-sheet comparisons are with December 31, 2017. Dollar amounts are in millions unless otherwise stated.
Financial performance and condition
- Earnings: Net income was $1.658 million, up 15% from $1.446 million in Q1 2017. Basic and diluted EPS were both $0.46 versus $0.40. Return on average assets was 1.06% (0.94% prior year) and return on average equity was 8.74% (7.95%).
- Interest income and margins: Interest income rose to $5.699 million from $5.161 million; interest expense increased to $0.392 million from $0.306 million. Net interest income was $5.307 million, up 9%. Tax-equivalent net interest margin was 3.78% versus 3.60%; net interest spread was 3.66% versus 3.52%.
- Other income and expenses: Noninterest income declined to $1.648 million from $1.732 million, mainly because insurance and investment commissions fell after the sale of most of the Bank’s investment book of business in Q4 2017. Noninterest expense rose to $4.964 million from $4.669 million, including higher compensation and training and loan-related costs.
- Taxes and dividends: Income tax expense was $0.298 million, compared with $0.472 million; the effective tax rate fell to 15.2% from 24.6%, primarily reflecting the Tax Cuts and Jobs Act’s reduction of the statutory federal rate to 21%. Cash dividends declared were $0.17 per share, versus $0.15; the payout ratio was 37% versus 39%. Per-share figures reflect applicable 5% stock dividends.
- Assets and loans: Total assets were $622.742 million, down from $646.544 million at year-end. Gross loans were $386.440 million, down $12.345 million; seasonal agricultural loan paydowns were the principal stated factor. Net loans were $381.731 million. Available-for-sale securities were $164.195 million, up from $155.591 million.
- Credit quality: The allowance for loan losses was $4.709 million, or 1.22% of loans, compared with $4.577 million and 1.15% at year-end. Q1 provision was $35,000; net recoveries were $97,000. Nonperforming loans totaled $4.102 million, down from $4.250 million. Impaired loans were $4.438 million, up from $4.140 million. Management said the allowance for nonperforming loans was sufficient.
- Deposits, borrowings and equity: Deposits totaled $532.274 million, down $7.579 million. Repurchase agreements were $2.461 million, down from $7.148 million, and Federal Home Loan Bank advances were $10.259 million, down from $20.268 million. Shareholders’ equity was $75.614 million, down from $76.550 million.
- Cash flow and liquidity: Operating cash flow was $1.684 million versus $2.119 million in Q1 2017; investing activities used $1.408 million versus $13.628 million; financing activities used $23.128 million versus providing $8.015 million. Cash and due from banks fell to $13.985 million from $36.837 million at year-end. Management said liquidity was sufficient for normal operating needs, citing deposits, securities maturities, loan repayments, correspondent-bank funding and available Federal Reserve and FHLB facilities.
- Capital: The Bank reported a 13.4% total risk-based capital ratio, 12.4% CET1 ratio and 9.6% Tier 1 leverage ratio. Each exceeded the filing’s well-capitalized thresholds.
Material changes versus the prior comparable period
- Net interest income increased $452,000, while tax-equivalent net interest income increased $363,000. Higher average loan balances and rates contributed; growth in deposit costs partly offset the benefit.
- Net income rose $212,000 despite lower noninterest income and higher noninterest expense. The lower effective tax rate supported the increase.
- Average loans grew year over year, although period-end loans declined from December 31, 2017. The company reported two additional branch locations were scheduled to open later in 2018, with staffing additions contributing to compensation growth.
- Comprehensive income was a loss of $166,000 versus income of $2.053 million in Q1 2017. Q1 2018 other comprehensive loss was $1.824 million, reflecting declines in available-for-sale securities’ market values amid higher interest rates; accumulated other comprehensive loss was $1.831 million at quarter-end.
Outlook, commentary, risks and unusual items
- The filing provides no specific earnings or revenue guidance. Management cautioned that Q1 results are not necessarily indicative of full-year results and said the loan-loss allowance will be reassessed as portfolio and economic conditions change.
- Management cited Michigan economic conditions as a factor affecting borrowers and described continued work with delinquent borrowers. A mortgage-loan participation arrangement is concentrated among eight mortgage bankers; the largest represented 60% of the total at March 31, 2018. One participation of $118,000 was more than 30 days outstanding; the filing reported no participation with payments delinquent over 30 days.
- Rising interest rates affected securities values and funding costs. Management considered available-for-sale security losses temporary and recorded no other-than-temporary impairment in Q1. It also identified estimates for loan losses, goodwill and securities impairment as judgmental and subject to change.
- Effective January 1, 2018, the company adopted ASU 2016-01, reclassifying $244,000 of unrealized equity-security gains from accumulated other comprehensive income to retained earnings and measuring certain equity securities at fair value through net income. It also adopted the new revenue standard; management said adoption did not significantly change the timing or amount of affected revenue.
- There were no material changes to the risk factors identified in the 2017 Form 10-K, no material pending legal proceedings reported, and no material change in internal control over financial reporting. Management reported disclosure controls were effective.
Important facts for investors to verify
- Whether net interest margin gains persist as deposit and certificate-of-deposit rates respond to rate changes.
- The direction of loan growth, seasonal agricultural repayments, nonperforming and impaired loans, and adequacy of the allowance.
- The mortgage-participation concentration and status of the $118,000 participation noted as over 30 days outstanding.
- Available-for-sale securities’ market-value sensitivity, accumulated other comprehensive loss and any subsequent changes in rates or impairment assessments.
- Deposit trends, cash levels and funding needs, including the effect of planned branch openings on expenses and liquidity.
- Future capital and dividend decisions; the filing says they depend on market conditions and the company’s cash and capital requirements.