Auburn National Bancorporation, Inc. — Q3 2018 Form 10-Q
Reporting period: Quarter and nine months ended September 30, 2018. AuburnBank serves East Alabama, including Lee County and surrounding areas. Amounts below are in U.S. dollars; financial statement amounts are generally in millions unless stated otherwise.
Financial performance and position
| Metric | Q3 2018 | Q3 2017 | Nine months 2018 | Nine months 2017 |
|---|---|---|---|---|
| Net interest income, GAAP | $6.42 | $6.26 | $19.02 | $18.25 |
| Net interest income, tax-equivalent | $6.58 | $6.57 | $19.48 | $19.16 |
| Net interest margin, tax-equivalent | 3.41% | 3.32% | 3.36% | 3.26% |
| Noninterest income | $0.79 | $0.97 | $2.48 | $2.60 |
| Noninterest expense | $4.75 | $4.23 | $13.48 | $12.36 |
| Net earnings | $1.98 | $2.14 | $6.43 | $6.02 |
| Diluted earnings per share | $0.54 | $0.59 | $1.77 | $1.65 |
- For the first nine months, total revenue was $21.51 million, up 3.2%; net earnings rose 6.9%. For Q3, revenue was $7.21 million, approximately flat, while net earnings declined 7.5% year over year.
- No loan-loss provision was recorded in Q3 or the first nine months of 2018; the comparable 2017 nine-month provision was $0.10 million. The allowance was $4.79 million, or 1.04% of loans, at September 30.
- At September 30, total assets were $808.95 million, loans net of unearned income were $460.33 million, deposits were $719.31 million, and stockholders’ equity was $85.46 million. Versus December 31, 2017, loans increased $6.68 million, while assets declined $44.43 million and deposits declined $38.35 million.
- Cash and cash equivalents were $67.16 million, down from $105.53 million at year-end. Nine-month operating cash flow was $7.82 million; investing activities used $1.22 million and financing activities used $44.96 million. The financing outflow chiefly reflected a $38.35 million net deposit decline and $2.62 million of dividends.
- Long-term debt was zero at September 30, following the April 2018 redemption of $3.22 million of junior subordinated debentures and the associated trust preferred securities. Short-term repurchase-agreement borrowings were $1.89 million. The Bank reported $41.0 million of available federal funds lines and a $239.5 million available FHLB line.
- The Bank’s September 30 regulatory capital ratios were 17.21% total risk-based capital, 16.31% CET1, and 11.01% Tier 1 leverage; management said these exceeded well-capitalized minimums.
Material changes and management commentary
- Management attributed nine-month tax-equivalent net interest income growth to loan growth and higher short-term rates. Average loans increased 4% year over year to $452.6 million, and management expected 2018 net interest income to increase from 2017, primarily because of higher average loan balances.
- Expense growth weighed on earnings: nine-month noninterest expense increased $1.12 million, including $0.67 million higher salaries and benefits and a $0.4 million loss related to misappropriation of assets. The company filed an insurance claim; recovery was not established in the filing.
- Q3 noninterest income fell $0.18 million, principally because mortgage lending income declined as refinance activity and mortgage originations fell. Nine-month noninterest income declined $0.11 million.
- The effective tax rate fell to 19.86% for the nine months from 28.24%, primarily reflecting the Tax Cuts and Jobs Act reduction in the federal statutory rate from 34% to 21%.
- Available-for-sale securities declined to $243.34 million from $257.70 million at year-end. Management attributed lower fair values primarily to rising long-term interest rates. Accumulated other comprehensive loss widened to $5.83 million from $0.57 million; management reported no intent or expected need to sell securities before recovery and no credit-impaired debt securities.
- Asset quality improved from year-end: nonperforming assets were $1.07 million, versus $2.97 million, largely following resolution of a $1.3 million nonperforming commercial real estate loan. Nonaccrual loans were $0.93 million; potential problem loans were $5.65 million. Real estate-secured loans represented approximately 86.5% of the portfolio, with commercial real estate concentrated at 54% of loans.
- Management said the competitive environment and possible increases in funding costs could pressure margins, while loan competition and changing interest rates remain concerns. It reported compliance with its interest-rate-risk policy limits and believed liquidity was adequate for known obligations and commitments over the next 12 months.
Risks, contingencies, and other items
- Outstanding commitments included $61.1 million of unfunded loan commitments and $7.1 million of standby letters of credit. Management noted that commitments may expire undrawn and cited liquid assets and credit facilities as potential funding sources.
- Mortgage loans sold with servicing retained had $296.1 million unpaid principal balance. The company repurchased $53,000 of loans during the first nine months and had no pending repurchase requests at quarter-end; it warned that investor claims could increase. It reported 99% of those serviced loans were current.
- Management identified risks from economic and real estate conditions, borrower credit, interest-rate changes, deposit costs, competition, regulatory and accounting changes, cybersecurity, and estimation uncertainty in loan-loss allowances and asset valuations. The allowance methodology uses a 38-quarter loss look-back period and is inherently judgmental.
- The filing reports no pending or threatened legal or regulatory proceedings expected to have a material adverse effect, no material subsequent events identified, and effective disclosure controls. No specific quantified full-year earnings guidance was provided.
Important facts for investors to verify
- Whether the $0.4 million misappropriation loss is recoverable under the insurance claim, and whether any further losses or control issues arose.
- Whether deposit balances—especially public deposits—stabilize, and how the decline in cash and deposits affects funding costs and liquidity.
- Trends in commercial real estate concentrations, potential problem loans, nonaccruals, and the adequacy of the allowance, particularly given zero provision expense in 2018 to date.
- How rising rates, securities valuation losses, and deposit repricing affect net interest margin and capital; distinguish tax-equivalent figures from GAAP results.
- Whether mortgage origination weakness and mortgage repurchase or servicing claims change, and whether management’s expectation for higher 2018 net interest income is achieved.