National Bankshares, Inc. — Q1 2013 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 in southwest Virginia. National Bankshares Financial Services provides investment and insurance services but is not a significant contributor to revenue. The filing covers the unaudited three months ended March 31, 2013, compared primarily with the three months ended March 31, 2012 and December 31, 2012 balance-sheet amounts. Dollar amounts are in thousands except per-share data.
Financial performance and condition
| Metric | Q1 2013 | Comparable period or date |
|---|---|---|
| Total assets | $1,098,503 | $1,104,361 at Dec. 31, 2012 |
| Net interest income | $9,885 | $9,997 in Q1 2012 |
| Provision for loan losses | $671 | $672 in Q1 2012 |
| Noninterest income | $2,110 | $2,152 in Q1 2012 |
| Noninterest expense | $5,946 | $5,711 in Q1 2012 |
| Net income | $4,216 | $4,429 in Q1 2012 |
| Basic diluted EPS | $0.61 / $0.60 | $0.64 / $0.64 in Q1 2012 |
| Net interest margin | 4.28% | 4.36% in Q1 2012; 4.38% for FY 2012 |
| Return on average assets | 1.56% | 1.64% for FY 2012 |
| Return on average equity | 11.26% | 12.01% for FY 2012 |
| Net cash from operating activities | $8,631 | $7,657 in Q1 2012 |
| Net cash used in investing activities | $3,093 | $19,772 used in Q1 2012 |
| Net cash used in financing activities | $9,647 | $12,459 provided in Q1 2012 |
At March 31, 2013, net loans were $566,667, securities were $358,487, interest-bearing deposits were $107,176, and total deposits were $937,119. Stockholders’ equity was $153,360. The company had no long-term debt, purchased deposits, discount-window borrowings, short-term borrowings, or Federal Home Loan Bank advances. The loan-to-deposit ratio was 61.35%, below the company’s internal 65% to 75% policy range. Management stated that liquidity was sufficient under tested scenarios, and the company was considered well capitalized. Tier I and Tier II risk-based capital ratios were 22.40% and 23.65%, respectively.
Material changes versus prior comparable periods
- Net income declined 4.8% from $4,429 to $4,216, while basic EPS declined from $0.64 to $0.61.
- Net interest income decreased 1.1%, primarily because lower asset yields more than offset lower funding costs. The yield on loans declined 29 basis points, and the cost of interest-bearing liabilities declined 23 basis points.
- Noninterest income decreased 2.0%. Deposit service charges, credit card fees, trust income, and bank-owned life insurance income declined; realized securities gains increased to $95 from $53.
- Noninterest expense increased 4.1% to $5,946, led by higher franchise taxes, other operating expenses, FDIC assessments, occupancy costs, and other real estate owned costs.
- Net loans declined 2.91% from December 31, 2012, primarily because of lower commercial real estate, consumer real estate, commercial non-real-estate, and consumer non-real-estate balances. Securities increased 2.23%, and interest-bearing deposits increased 10.95% as liquidity expanded.
- Total deposits declined 1.02%; time deposits declined 2.83% as customers favored more liquid deposit products in the low-rate environment.
- Nonperforming loans were $12,425, compared with $5,328 at March 31, 2012 and $13,021 at December 31, 2012. Nonperforming assets were $13,519, or 2.35% of loans plus other real estate owned.
- The allowance for loan losses was $8,291, or 1.44% of loans, versus 1.38% at March 31, 2012 and 1.41% at December 31, 2012. The annualized net charge-off ratio was 0.50%, compared with 0.46% in Q1 2012.
- Accumulated other comprehensive loss increased to $3,703, primarily from after-tax unrealized losses on available-for-sale securities.
Guidance, outlook, risks, contingencies, and unusual items
- The filing does not provide formal earnings or revenue guidance. Management expects results to remain sensitive to interest rates, asset yields, deposit pricing, loan demand, credit quality, securities markets, and economic conditions.
- Management described the economic recovery as mixed, with continued high unemployment and diminished real estate values. Weakness affecting state-funded universities, employment, consumer demand, or local real estate could increase delinquencies and foreclosures.
- Two troubled debt restructurings occurred during Q1 2013 with post-modification balances totaling $3,739. Total troubled debt restructurings were $7,423 at March 31, 2013, with specific allocations of $1. Four previously restructured loans totaling $1,071 defaulted during the quarter.
- Approximately $190 of properties were in various stages of foreclosure and could affect future other real estate owned balances. Future levels cannot be predicted precisely because properties may be sold or acquired by third parties.
- The company revised and formalized its allowance methodology in Q1 2013, including separate historical loss rates for classified and non-classified loans and additional factors for lending-policy and loan-review changes. Management stated that the changes did not have a significant impact on the allowance.
- The company identified a material weakness in disclosure controls and internal control over financial reporting involving the timely classification of certain loans as impaired and nonaccrual. Management implemented additional review procedures, segregated duties, and established a task force to review commercial relationships over $500. The filing states that controls were ineffective as of March 31, 2013.
- Available-for-sale securities included $2,539 of total unrealized losses on 137 temporarily impaired securities. Management concluded the securities were not other-than-temporarily impaired because it did not intend, and was not expected, to sell them before recovery of amortized cost.
- No material legal proceedings, material subsequent events, or material changes in off-balance-sheet arrangements were reported. Mortgage loan sale recourse exposure was described as not material, and no recourse provisions had been invoked.
Most important facts for investors to verify
- Remediation and eventual resolution of the material weakness in loan impairment and nonaccrual classification controls.
- Trends in nonperforming loans, restructured loans, charge-offs, foreclosures, and the adequacy of the $8,291 allowance.
- Whether declining loan balances and deposit balances persist and how the 61.35% loan-to-deposit ratio affects earnings and liquidity deployment.
- Pressure on net interest margin from low market rates, loan repricing, competition, and reinvestment of securities at lower yields.
- Potential effects of local unemployment, university funding, real estate values, and broader economic conditions on credit quality.
- Future changes in securities’ unrealized losses and the availability of unpledged securities for liquidity needs.