Virginia National Bankshares Corporation — Q2 2016 Form 10-Q
Reporting period: Quarter and six months ended June 30, 2016. Unaudited consolidated results include Virginia National Bank and VNB Wealth. The filing cautions that interim results are not necessarily indicative of full-year performance.
Financial performance and position
| Metric | Q2 / June 30, 2016 | Comparison |
|---|---|---|
| Net income | $1.51 million; diluted EPS $0.63 | Up 96.9% from $0.77 million and $0.30 diluted EPS in Q2 2015 |
| Six-month net income | $2.87 million; diluted EPS $1.20 | From $1.18 million and $0.45 in first-half 2015 |
| Net interest income | $4.43 million for Q2; $8.94 million for six months | Q2 up $452,000; first half up 15.4% year over year |
| Net interest margin | 3.50% Q2; 3.49% first half | Up 32 basis points and 40 basis points, respectively, year over year; tax-equivalent basis |
| Noninterest income / expense | $1.25 million / $3.76 million Q2 | Q2 income approximately flat; expense down $416,000. First-half income $2.37 million, down $65,000; expense $7.56 million, down $737,000 |
| Efficiency ratio | 65.7% Q2; 66.3% first half | Compared with 78.9% and 80.5%, respectively |
| Assets / loans | $545.7 million / $424.6 million | Assets down $21.8 million from year-end but up $15.3 million year over year; loans up $0.9 million from year-end and $57.5 million year over year |
| Deposits / repurchase funding | $470.4 million / $15.7 million | Deposits down $16.1 million and repurchase balances down $7.4 million from year-end |
| Allowance for loan losses | $3.19 million, or 0.75% of loans | Down from $3.57 million and 0.84% at year-end; 0.94% at June 2015 |
| Cash flow, six months | Operating +$2.63 million; investing +$4.14 million; financing −$25.18 million | Cash and cash equivalents fell $18.41 million to $25.11 million |
| Equity and capital | Shareholders’ equity $58.1 million | Common equity Tier 1 and Tier 1 ratios 12.51%; total capital 13.21%; leverage 10.37% |
Interest income benefited from a shift toward higher-yielding loans and away from lower-yielding securities. Interest expense remained low, at 0.18% of average earning assets in Q2 and the first half. No conventional borrowings are reported in the presented balance sheet; repurchase agreements were $15.7 million.
Material changes versus comparable periods
- Q2 earnings rose primarily with higher net interest income, a $275,000 recovery rather than provision for loan losses, and lower noninterest expense. For the first half, the $1.68 million earnings increase reflected higher net interest income, a $712,000 year-over-year provision improvement, and lower expenses.
- Management attributed expense reductions largely to lower salaries and benefits, including the end of guaranteed bonuses previously used during the VNB Wealth team transition.
- The securities portfolio declined to $71.3 million from $121.7 million a year earlier as securities were sold to fund higher-yielding loans. Loans grew strongly year over year but increased only $929,000 in the first half of 2016.
- Deposits and repurchase balances declined from December 2015; however, total deposits and repurchase balances were 2.6% above June 2015.
- Shareholders’ equity increased from $56.3 million at year-end, reflecting net income and other comprehensive income, partly offset by dividends and $1.26 million of share repurchases.
Outlook, management commentary, risks and unusual items
- Management said the larger loan mix should continue to support 2016 earnings and described the new allowance approach as a more robust way to assess portfolio risk. No specific earnings or financial guidance was provided.
- In Q2, the company changed its allowance methodology to a loan-level loss-migration analysis, expanded loan classes, separated “Watch” credits from “Pass,” and applied a nominal reserve to “Good” credits. Management’s comparison indicates the new method produced $290,000 more recovery of provision for the first half than the prior method would have produced. The reported first-half recovery was $395,000.
- Following regulatory guidance, 38 purchased student loans totaling $713,000 were classified as performing troubled debt restructurings. The loans are fully insured, and management does not expect losses; interest continues to accrue during deferment or forbearance.
- VNB Wealth purchased a client-relationship book with $31.5 million in associated assets under management. The $1.2 million purchase price is payable over five years; $445,000 remained as a contingent liability at June 30. Related goodwill was $372,000 and finite-lived intangibles were $731,000 net.
- The company reported $86,000 of unrealized losses on securities in loss positions and concluded they were temporary, with no impairment loss recognized. It reported no other real estate owned and no legal proceedings.
- The Loudoun Mall branch in Winchester was expected to close on or about October 28, 2016, with accounts and staff transferring to the Creekside office; the company was searching for at least one new Winchester location.
- Principal risks cited include interest-rate and market changes, economic conditions in local markets, borrower financial condition, loan and deposit pricing competition, regulatory and accounting changes, and technology and customer behavior. Management reported disclosure controls were effective and no material change in internal control over financial reporting during the quarter.
Important facts for investors to verify
- Whether the improved earnings and margins persist as loan growth, funding costs, and deposit levels evolve.
- How the revised allowance methodology performs, including its assumptions and sensitivity to credit migration; the filing notes the estimate is judgmental and subject to change.
- Credit quality trends, especially commercial real estate and syndicated lending, student-loan delinquencies, and the recently classified student-loan TDRs.
- Liquidity and funding trends after the first-half decline in cash, deposits, and repurchase balances, alongside the company’s securities pledged as collateral.
- Future costs and revenue associated with the wealth-book acquisition, including the remaining purchase payments and intangible amortization.
- Whether share repurchases continue: 56,441 shares remained available under the program through September 18, 2016.