Farmers & Merchants Bancorp, Inc. — Q3 2017 Form 10-Q
Business context and period: Community bank holding company serving northwest Ohio and northeast Indiana, with one reportable segment. This unaudited filing covers the quarter and nine months ended September 30, 2017; balance-sheet comparisons are to December 31, 2016. Unless stated otherwise, financial amounts below are in millions of dollars. Share data reflects the September 20 two-for-one stock split.
Financial results and position
| Metric | Q3 2017 | Q3 2016 | Nine months 2017 | Nine months 2016 |
|---|---|---|---|---|
| Total interest income | $10.535 | $9.590 | $30.380 | $27.981 |
| Net interest income, before provision | $9.202 | $8.491 | $26.615 | $24.839 |
| Provision for loan losses | $0.099 | $0.308 | $0.197 | $0.924 |
| Noninterest income | $2.635 | $2.915 | $7.992 | $8.469 |
| Noninterest expense | $7.357 | $6.922 | $21.526 | $20.565 |
| Net income | $3.222 | $3.015 | $9.284 | $8.470 |
| Basic and diluted EPS | $0.35 | $0.33 | $1.00 | $0.92 |
- Q3 net income rose 6.9% year over year; nine-month net income increased 9.6%. Declared dividends were $0.13 per share for Q3 and $0.37 year to date.
- Reported Q3 net interest margin was 3.71%, versus 3.57% a year earlier; nine-month margin was 3.61%, versus 3.56%. The filing attributes improvement mainly to higher loan balances and yields. Year-to-date cost of funds rose to 0.68% from 0.59%.
- At September 30, total assets were $1,090.2, loans net of allowance were $788.3, deposits were $903.4, and stockholders’ equity was $132.9. Compared with year-end, assets grew 3.2%, loans increased $37.0, deposits increased $61.2, and equity rose $7.3.
- Cash and cash equivalents were $49.1, up from $28.3 at year-end. Nine-month operating cash flow was $12.3; investing activities used $14.4 and financing activities provided $22.9.
- Total deposits increased 7.3% from year-end. Federal funds purchased and repurchase-agreement balances declined to $35.6 from $70.3; FHLB advances remained $10.0. The Bank reported $114.8 of unsecured correspondent borrowing capacity.
- Reported capital ratios: Tier 1 leverage 12.02%, Tier 1 risk-based 14.71%, total risk-based 15.51%, and capital conservation buffer 7.51%. Management said the Company and Bank were above the 2019 capital-buffer requirement.
Material changes and management commentary
- Net loans grew 7.9% year over year to $795.2 million before the allowance and deferred fees/costs. Commercial real estate and commercial and industrial lending were key growth areas; consumer real estate lending declined as secondary-market sales exceeded originations.
- Q3 net interest income increased $0.711 million year over year. Higher loan interest income more than offset increased funding costs. Noninterest income fell $0.280 million, including lower securities-sale gains and mortgage activity; combined service-fee lines increased. Noninterest expense rose $0.435 million, primarily from salaries, benefits, and occupancy, partly offset by lower data-processing expense.
- Nine-month net income increased $0.814 million. Lower loan-loss provision and higher net interest income were partly offset by lower noninterest income and higher operating costs. Management noted that offices opened in 2016 continued to weigh on near-term expenses.
- The allowance for loan losses was $6.870 million; the total allowance for credit losses, including unfunded commitments, was $7.098 million. Nine-month net charge-offs were $0.111 million, compared with $0.369 million in 2016. Nonaccrual loans were $1.729 million, up from $1.384 million at year-end 2016; no loans more than 90 days past due were still accruing. Past-due loans were higher year over year, according to management.
- Available-for-sale securities were $192.8 million, down $25.7 million from year-end, with $1.1 million of net unrealized losses. Management said losses primarily reflected interest-rate changes and that it had the intent and ability to hold the securities; it reported no securities with other-than-temporary impairment.
- Management described variable crop conditions after a wet planting season, but said borrowers remained well capitalized and land-value declines were slight. It continued to emphasize loan and deposit growth, particularly in newer markets and business checking products. No quantified earnings or revenue guidance was provided; management cautioned that nine-month results are not necessarily indicative of full-year results.
Risks, contingencies, and unusual items
- Key exposures include interest-rate risk, credit quality and loan concentrations, local economic and agricultural conditions, competition, deposit flows, and regulatory compliance. The filing’s sensitivity analysis indicates that a rising-rate scenario could modestly tighten net interest margin over the next 12 months; actual results may differ from modeled outcomes.
- Management identifies the allowance for credit losses, mortgage servicing rights, and foreclosed real estate valuations as areas involving significant estimates and judgment. The company reported $615,000 of other real estate owned at September 30.
- The company completed a two-for-one stock split in September 2017. Management also noted that the higher share price could increase the expense associated with 2017 restricted-stock awards.
- The company said it was assessing the future credit-loss accounting standard (ASU 2016-13), effective for it in 2020, and had formed a committee to develop its methodology. It expected no material effect from several other accounting updates discussed in the filing.
- The filing reports no legal proceedings and no material changes to previously disclosed risk factors. Management concluded disclosure controls were effective as of September 30, 2017.
Important facts for investors to verify
- Whether loan growth and improved asset yields can continue to offset rising deposit and borrowing costs.
- Trends in past-due and nonaccrual loans, charge-offs, and allowance adequacy, particularly across commercial real estate and agricultural lending.
- Whether deposit growth remains sufficient to fund lending while limiting reliance on repurchase agreements and other borrowings.
- The sustainability of fee income and operating costs, including expansion-related, medical-benefit, and stock-award expenses.
- Actual sensitivity of earnings and capital to interest-rate changes, securities valuations, and implementation of the expected-credit-loss standard.