National Bankshares, Inc. 2019 Q3 Form 10-Q Summary
Business context and reporting period
National Bankshares, Inc. is a Virginia financial holding company whose principal subsidiary, The National Bank of Blacksburg, operates as a community bank through 25 offices and a loan production office in southwest Virginia. The company provides commercial, real estate, consumer, municipal, deposit, trust, investment and insurance services. This unaudited Form 10-Q covers the three and nine months ended September 30, 2019, compared with the corresponding 2018 periods and December 31, 2018 balance-sheet data.
Financial performance and condition
| Metric | Q3 2019 | Q3 2018 | Change |
|---|
| Total interest income | $11.288 million | $10.945 million | Up $343 thousand |
| Net interest income | $9.423 million | $9.700 million | Down $277 thousand |
| Provision for loan losses | $95 thousand | $223 thousand | Down $128 thousand |
| Noninterest income | $2.098 million | $1.914 million | Up $184 thousand |
| Noninterest expense | $6.386 million | $6.463 million | Down $77 thousand |
| Net income | $4.252 million | $4.251 million | Essentially unchanged |
| Diluted EPS | $0.65 | $0.61 | Up $0.04 |
| Net interest margin | 3.30% | 3.38% | Down 8 basis points |
| Return on average assets | 1.35% | 1.34% | Up 1 basis point |
| Return on average equity | 9.20% | 8.97% | Up 23 basis points |
| Metric | Nine months 2019 | Nine months 2018 | Change |
|---|
| Total interest income | $33.719 million | $32.155 million | Up $1.564 million |
| Net interest income | $28.147 million | $28.684 million | Down $537 thousand |
| Provision for loan losses | $350 thousand | $93 thousand | Up $257 thousand |
| Noninterest income | $6.443 million | $5.805 million | Up $638 thousand |
| Noninterest expense | $19.304 million | $21.051 million | Down $1.747 million |
| Income before taxes | $14.936 million | $13.345 million | Up $1.591 million |
| Net income | $12.689 million | $11.588 million | Up $1.101 million, or approximately 9.5% |
| Diluted EPS | $1.92 | $1.67 | Up $0.25 |
| Net interest margin | 3.31% | 3.37% | Down 6 basis points |
- Total assets were $1.273 billion at September 30, 2019, up 1.33% from December 31, 2018.
- Net loans were $715.025 million, while loans before the allowance were $722.287 million, up 1.76% from year-end. Real estate construction loans increased 13.55%, and commercial real estate loans increased 1.96%.
- Total deposits were $1.068 billion, up 1.53% from year-end. Noninterest-bearing demand deposits and time deposits increased, while interest-bearing demand deposits declined.
- The allowance for loan losses was $7.262 million, or 1.01% of loans, compared with $7.390 million, or 1.04%, at December 31, 2018.
- Nonperforming assets were $5.546 million, or 0.77% of loans plus OREO. Nonperforming loans increased to $4.076 million from $3.420 million at year-end, while OREO declined to $1.470 million from $2.052 million.
- Cash provided by operating activities was $12.361 million for the first nine months, compared with $14.245 million in 2018. Cash used in investing activities was $4.238 million and cash used in financing activities was $6.799 million. Cash and due from banks ended at $14.206 million.
- The bank had no discount-window borrowings, short-term borrowings or FHLB advances at September 30, 2019. The reported loan-to-deposit ratio was 67.63%, within management’s stated 65% to 75% policy range.
- The subsidiary bank remained well capitalized, with a common equity Tier 1 ratio of 22.48%, total capital ratio of 23.39% and leverage ratio of 14.64%.
Material changes versus comparable periods
- Interest income increased, principally from higher loan balances and yields and increased interest-bearing deposits, but higher deposit costs reduced net interest income and compressed the net interest margin.
- Interest expense rose to $5.572 million for the first nine months from $3.471 million in 2018. The largest increases were in interest on time deposits and other deposits.
- Noninterest income benefited from a $538 thousand recovery related to a previously recognized insurance loss and $182 thousand of realized securities gains. The company had no securities gains in the comparable 2018 period.
- Noninterest expense benefited from the absence of the $2.010 million insurance-receivable write-down recorded in 2018, lower OREO costs and completed amortization of core deposit intangibles. These benefits were partly offset by higher salaries and employee benefits and increased data-processing and ATM costs.
- Share repurchases totaled 468,400 shares during the first nine months, including 452,400 shares in March and 16,000 shares in August, reducing equity by $18.525 million. Nine-month dividends were $0.67 per share, compared with $0.58 in 2018.
- Accumulated other comprehensive loss improved to $4.140 million from $12.085 million at year-end, primarily because of gains on available-for-sale securities.
Outlook, commentary, risks and unusual items
- Management expected to complete a securities-portfolio restructuring during the fourth quarter of 2019, intended to increase yields and reduce interest-rate risk.
- Management stated that liquidity was sufficient under tested scenarios and that the bank had adequate borrowing capacity. The company had no long-term debt at September 30, 2019.
- Credit conditions were mixed. Business and personal bankruptcies, housing inventory, unemployment and nonaccrual loans increased from year-end, while interest rates, high-risk loans and special-mention loans provided some offsets. Management concluded that the allowance was reasonable, but emphasized the subjectivity of loss estimates and the potential for higher losses in an economic downturn.
- Loans in process of foreclosure totaled $891 thousand and could increase OREO in future periods. The company cannot accurately predict the amount of future OREO.
- The company reported two prior cybersecurity intrusions, in May 2016 and January 2017. Litigation against the insurance carrier was settled in the first quarter of 2019. Cybersecurity insurance may not fully cover financial, legal, reputational or customer-g goodwill losses.
- Management identified interest rates, economic conditions, regulation, unemployment, loan and investment portfolio quality, deposit flows, competition, local real estate conditions, technology and accounting standards as material risks.
- The company adopted the new lease standard prospectively on January 1, 2019, recognizing a $2.351 million right-of-use asset and $2.358 million lease liability at September 30, 2019, with no material cumulative-effect adjustment.
- The company was preparing for the expected adoption of the current expected credit loss standard, ASU 2016-13. The filing states that the impact had not yet been determined.
- No material pending or threatened legal proceedings were reported. Management concluded that disclosure controls and procedures were effective as of September 30, 2019.
Investor verification priorities
- Verify whether deposit repricing and further interest-rate changes continue to compress the net interest margin.
- Monitor nonperforming loans, nonaccrual loans, foreclosure activity, OREO and net charge-offs relative to the $7.262 million allowance.
- Assess the effect of the securities-portfolio restructuring on yield, duration, liquidity and accumulated other comprehensive income.
- Confirm the ultimate impact and implementation timing of CECL and related accounting updates.
- Review the sustainability of earnings excluding the $538 thousand insurance recovery and securities gains.
- Track the remaining share-repurchase authorization, capital ratios and the effect of additional repurchases or dividends on equity and liquidity.
- Evaluate cybersecurity exposure, insurance recoverability and any future litigation or remediation costs.
