First National Corporation — Q1 2019 Form 10-Q Summary
Business Context and Reporting Period
First National Corporation is a Virginia bank holding company for First Bank, which provides commercial, residential, consumer, deposit, and wealth-management services through 14 branch offices, a loan production office, and digital channels in Virginia. This unaudited Form 10-Q covers the three months ended March 31, 2019, with comparisons to the three months ended March 31, 2018 and the December 31, 2018 balance sheet.
Key Financial Metrics
| Metric | Q1 2019 | Comparable Period / Change |
|---|---|---|
| Net income | $2.261 million | Down $426 thousand, or 16%, from Q1 2018 |
| Basic and diluted EPS | $0.46 | Down from $0.54 |
| Net interest income | $6.899 million | Up $352 thousand, or 5% |
| Net interest margin | 3.97% | Up 18 basis points from 3.79% |
| Noninterest income | $1.985 million | Down $648 thousand, or 25% |
| Noninterest expense | $6.098 million | Up $232 thousand, or 4% |
| Provision for loan losses | None | Compared with $100 thousand in Q1 2018 |
| Efficiency ratio | 67.23% | Up from 62.39% |
| Return on average assets | 1.21% | Down from 1.45% |
| Return on average equity | 13.47% | Down from 18.47% |
| Total assets | $775.1 million | Up $22.1 million from December 31, 2018 |
| Net loans | $545.5 million | Up $7.7 million from December 31, 2018 |
| Total deposits | $684.2 million | Up $13.7 million from December 31, 2018 |
| Shareholders’ equity | $69.7 million | Up $3.1 million from December 31, 2018 |
Cash Flow, Debt, Liquidity, and Capital
- Cash and cash equivalents ended the quarter at $42.7 million, up $14.1 million during the quarter. Operating activities provided $3.1 million, investing activities used $7.3 million, and financing activities provided $18.2 million.
- The Company had $5.0 million of other borrowings under an unsecured line of credit bearing interest at the Wall Street Journal Prime Rate plus 0.25%, maturing March 28, 2025.
- Subordinated debt was $5.0 million and junior subordinated debt was $9.3 million. The Company was current on related interest payments.
- The Bank had $142.7 million of unused borrowing capacity, including $85.9 million from the Federal Home Loan Bank of Atlanta, $45.0 million in unsecured federal funds lines, and $11.8 million through the Federal Reserve Discount Window.
- Liquid assets and loans maturing within one year totaled $123.3 million. Management stated that liquidity was sufficient to meet depositor requirements and customer borrowing needs.
- The Bank remained well capitalized. March 31, 2019 regulatory ratios were 14.49% total capital, 13.60% Tier 1 capital, 13.60% common equity Tier 1 capital, and 10.01% Tier 1 leverage, all above applicable minimums.
Material Changes Versus Prior Comparable Period
- Profitability declined despite stronger net interest income. The principal unfavorable drivers were a 25% decline in noninterest income and a 4% increase in noninterest expense.
- Noninterest income fell primarily because Q1 2018 included $469 thousand of bank-owned life insurance benefits following an employee death and a $126 thousand one-time benefit related to pension-plan termination and asset distribution. Service-charge income also declined by $61 thousand.
- Net interest income benefited from higher yields and a 1% increase in average earning assets. Loan yields increased 29 basis points, while deposit costs increased as competition and short-term market rates raised rates paid on checking and money-market accounts.
- Loans grew approximately 1.4% from year-end, led by construction, commercial real estate, residential real estate, and commercial and industrial loans. Consumer loans declined modestly.
- Asset quality improved overall. Nonperforming assets declined to $1.9 million, or 0.25% of assets, from $3.2 million, or 0.42%, at year-end. Impaired loans declined to $2.2 million from $3.4 million.
- The allowance for loan losses declined to $4.946 million, or 0.90% of total loans, from $5.009 million, or 0.92%, at year-end. Net charge-offs were $63 thousand versus $154 thousand in Q1 2018.
- Available-for-sale securities increased to $121.2 million from $99.9 million, while held-to-maturity securities declined to $19.5 million from $43.4 million. On January 1, 2019, the Company reclassified securities with amortized costs of approximately $23.4 million from held to maturity to available for sale.
Guidance, Outlook, Commentary, Risks, and Unusual Items
- The filing provides no specific earnings, revenue, margin, or growth guidance. Management cautions that first-quarter results are not necessarily indicative of full-year 2019 results.
- Management expects performance to remain sensitive to interest rates, deposit pricing, loan growth, competition, asset quality, and economic conditions in the Bank’s Virginia markets.
- The loan portfolio is concentrated in real estate-related lending. Risks include declining collateral values, construction delays or cost overruns, weaker property cash flows, and broader economic deterioration.
- Commitments to extend credit, standby letters of credit, and rate-lock commitments totaled $112.8 million at March 31, 2019. Commitments to extend credit were $98.4 million, standby letters of credit were $10.0 million, and locked-rate mortgage commitments were $4.4 million.
- The Company adopted the new lease standard on January 1, 2019, recognizing a right-of-use asset and lease liability of approximately $390 thousand at adoption. Management reported no material effect on the consolidated financial statements.
- The Company also adopted updated guidance for premium amortization on callable debt securities and hedge accounting. The hedge-accounting adoption enabled the securities reclassification and resulted in a $431 thousand unrealized loss recorded in accumulated other comprehensive loss.
- The Company is preparing for the current expected credit loss standard, which becomes effective for the Company in 2020. Management states that adoption may result in material changes to credit-loss accounting, but the ultimate impact was not yet quantified.
- Additional risks include cybersecurity and operational disruptions, reliance on third-party infrastructure, regulatory and accounting changes, potential credit losses, interest-rate risk, competition for deposits and loans, and litigation. No material changes to previously disclosed risk factors or material legal proceedings were reported.
Investor Verification Items
- Verify whether the improvement in net interest margin can offset continued deposit-cost pressure and the reduced noninterest-income base.
- Assess the sustainability of loan growth, particularly in construction and commercial real estate, and monitor concentrations and collateral values.
- Track nonperforming loans, troubled debt restructurings, charge-offs, and the allowance methodology ahead of the 2020 expected-credit-loss adoption.
- Review liquidity usage and the $5.0 million unsecured borrowing, including interest-rate exposure and available borrowing capacity.
- Evaluate the decline in operating efficiency, with the efficiency ratio rising to 67.23%, and whether expense growth moderates.
- Consider the effect of unrealized securities gains and losses, including the January 2019 portfolio reclassification, on comprehensive income and tangible capital.