Nicolet Bankshares, Inc. — Q3 2013 Form 10-Q
Reporting period: Quarter and nine months ended September 30, 2013; filed November 12, 2013. Amounts are in U.S. dollars; financial statement amounts are in millions unless otherwise indicated.
Business context and reporting period
Nicolet is a Wisconsin bank holding company offering banking and wealth-management services. Results reflect major expansion through the April 26 acquisition of Mid-Wisconsin Financial Services and the August 9 FDIC-assisted acquisition of selected Bank of Wausau assets and deposits. Acquired companies’ results are included only from their respective acquisition dates. Nicolet operated 23 branches at period-end.
Financial results and condition
- Q3 earnings: Net income was $2.9 million versus $1.0 million in Q3 2012. Net income available to common shareholders was $2.6 million, or $0.62 diluted EPS, versus $0.7 million, or $0.19.
- Nine-month earnings: Net income was $15.2 million versus $2.1 million. Net income available to common shareholders was $14.2 million, or $3.65 diluted EPS, versus $1.2 million, or $0.34.
- Net interest income: $11.8 million for Q3 versus $5.7 million; $26.4 million for nine months versus $16.1 million. Tax-equivalent net interest margin was 4.63% for Q3 (3.70% in 2012) and 4.09% year to date (3.58%). Management attributed improvement primarily to acquisition-driven volume, lower funding costs, and acquired-loan accretion.
- Noninterest income and expense: Nine-month noninterest income was $22.3 million, including $11.9 million in bargain-purchase gains; excluding those gains, it was $10.3 million versus $8.0 million. Noninterest expense was $26.2 million versus $17.7 million, including approximately $1.9 million of nonrecurring merger costs.
- Loans and credit quality: Loans totaled $871.9 million, up 58% from year-end 2012, including $284 million acquired; management reported 6% organic growth from year-end. The allowance for loan losses was $9.2 million, or 1.05% of loans, compared with $7.1 million, or 1.29%, at year-end. Nine-month provision was $3.9 million and net charge-offs were $1.9 million.
- Problem assets: Nonaccrual loans were $17.4 million (2.00% of loans), up from $7.0 million at year-end; $9.0 million related to acquired loans. Nonperforming assets were $21.3 million, or 1.88% of assets, versus $7.2 million, or 0.97%. The allowance-to-nonperforming-assets ratio was 43%, compared with 99% at year-end; acquisition accounting added acquired loans without an allowance at acquisition.
- Balance sheet and liquidity: Total assets were $1.135 billion, compared with $745.3 million at year-end. Deposits were $960.2 million, up from $616.1 million, largely reflecting acquisitions; excluding acquired deposits, management reported deposits down 4% from year-end. Cash and cash equivalents were $49.5 million versus $82.0 million. Management said liquidity was sufficient to fund loans and other cash needs.
- Debt and capital: Period-end short-term borrowings were $17.7 million, notes payable $32.5 million, and junior subordinated debentures $12.1 million. Nicolet’s total capital ratio was 13.1%, Tier 1 ratio 12.1%, and leverage ratio 9.8%; the bank’s corresponding ratios were 12.3%, 11.3%, and 9.1%. Management said minimum capital levels were maintained.
- Cash flow: For the first nine months, operating cash flow was $15.4 million, investing cash flow was positive $47.3 million, and financing cash flow was negative $95.2 million. Cash and cash equivalents declined $32.5 million to $49.5 million.
Material changes versus prior comparable periods
- Reported earnings and balance-sheet growth were materially affected by the acquisitions; year-to-year comparisons are not on a like-for-like basis.
- Nine-month net interest income increased $10.3 million. The tax-equivalent margin improved 51 basis points year over year, with average interest-bearing-liability cost down 47 basis points and average earning-asset yield up 12 basis points.
- Acquisitions contributed $11.9 million of nine-month bargain-purchase gains. Q3 also included $1.5 million of bargain-purchase gains and $1.3 million of net gains on asset sales. Two acquired-loan resolutions generated approximately $1.0 million more income than their carrying values.
- Mortgage income declined 14% for the nine months, with management citing a sharp Q3 slowdown amid higher mortgage rates and economic and political uncertainty.
- Nonperforming assets rose substantially from year-end, in significant part because acquired loans and real estate were added. A new $3.9 million troubled debt restructuring was recorded, with a $3.2 million specific reserve.
Outlook, commentary, risks and unusual items
- No quantified earnings or revenue guidance was provided. Management said it expects further cost savings and other synergies from Mid-Wisconsin, but those expected benefits were not reflected in the pro forma figures; realization and timing are uncertain.
- Management warned of underlying net-interest-margin pressure as assets reprice or mature in a prolonged low-rate environment. Its model estimated net interest income would decline about 5.2% over 12 months under either a 100-basis-point rate increase or decrease; management described the position as becoming more liability-sensitive.
- The allowance depends on estimates and may need adjustment as acquired-loan cash flows, collateral values, borrower performance, economic conditions, or regulatory assessments change. Commercial real estate, construction and land-development exposures, and regional economic conditions are notable credit risks.
- A pre-existing legal matter acquired with Mid-Wisconsin led to a subsequent-event change in the estimated loss of $0.9 million, net of tax, recorded against the bargain-purchase gain and charged back to Q3 earnings.
- Other stated risks include integration of the acquisitions, competition, interest rates and economic conditions, and banking regulation, including Basel III implementation. Management reported disclosure controls were effective; it reported no legal proceedings expected to have a material adverse effect.
Important facts for investors to verify
- How acquired-loan fair-value marks, accretion, and future cash-flow revisions affect interest income and credit-loss provisions.
- Whether acquired and originated nonperforming loans, the troubled debt restructuring, and OREO resolve as expected, and whether the allowance remains adequate.
- The final amount and timing of the Mid-Wisconsin litigation exposure and any further purchase-accounting adjustments.
- Whether integration produces the anticipated cost savings without further material merger expenses.
- How interest-rate changes, deposit pricing and retention, and the company’s modeled rate sensitivity affect margins, liquidity, and capital.
- The sustainability of reported earnings after excluding bargain-purchase gains, unusual loan-resolution income, and other nonrecurring items.