National Bankshares, Inc. — Form 10-Q Summary
Business context and reporting period
National Bankshares, Inc. is a Virginia financial holding company operating primarily through The National Bank of Blacksburg, a community bank serving southwest Virginia through 24 branches and a loan production office. The filing covers the unaudited three and nine months ended September 30, 2018, compared with the corresponding 2017 periods. Amounts are in thousands except per-share data.
Financial results and key metrics
| Metric | Q3 2018 | Q3 2017 | 9M 2018 | 9M 2017 |
|---|---|---|---|---|
| Net interest income | $9,700 | $9,280 | $28,684 | $27,737 |
| Provision for loan losses | $223 | $201 | $93 | $724 |
| Noninterest income | $1,914 | $1,884 | $5,805 | $5,465 |
| Noninterest expense | $6,463 | $6,031 | $21,051 | $18,288 |
| Net income | $4,251 | $3,785 | $11,588 | $11,004 |
| Basic and diluted EPS | $0.61 | $0.54 | $1.67 | $1.58 |
| Net interest margin | 3.38% | 3.44% | 3.37% | 3.45% |
| Return on average assets | 1.34% | 1.22% | 1.28% | 1.19% |
| Return on average equity | 8.97% | 8.07% | 8.61% | 8.02% |
Net income increased 12.3% in the third quarter and 5.3% for the first nine months. The nine-month effective tax rate declined to 13.17% from 22.45%, primarily reflecting the Tax Cuts and Jobs Act and its reduction of the statutory tax rate from 35% to 21%.
- Total assets were $1.258 billion at September 30, 2018, broadly unchanged from December 31, 2017.
- Loans, net of unearned income and deferred fees and costs, increased 5.05% from year-end 2017 to $701.8 million. Growth was led by real estate construction and public-sector and industrial-development loans.
- Total deposits declined 3.54% to $1.022 billion, driven by lower interest-bearing demand and time deposits; noninterest-bearing demand deposits increased 9.56%.
- Stockholders’ equity increased 1.76% to $188.2 million. Nine-month dividends paid were $4.036 million, or $0.58 per share.
- Cash flow from operating activities was $14.245 million. Investing activities used $9.044 million and financing activities used $6.594 million, producing a $1.393 million decline in cash and due from banks.
Material changes versus comparable periods
- Net interest income rose, but the net interest margin declined 6 basis points in Q3 and 8 basis points year to date. Management attributed the pressure primarily to lower income from nontaxable securities and higher funding costs.
- Noninterest income increased modestly. Nine-month credit and debit card fees rose 25.4%, and BOLI income rose 29.9%; service charges and other service fees declined.
- Noninterest expense increased 7.2% in Q3 and 15.1% year to date. The nine-month increase included a $2.010 million write-down of an insurance receivable related to cybersecurity incidents, higher data-processing and ATM costs, and increased other real estate owned costs.
- The securities portfolio was materially repositioned: all $119.790 million of held-to-maturity securities were transferred to available-for-sale during the second quarter. The transfer produced an after-tax unrealized gain of $891 thousand in accumulated other comprehensive income.
- Accumulated other comprehensive loss increased to $13.986 million from $9.695 million at year-end, principally because of unrealized securities losses.
- Asset quality remained generally strong, although total troubled debt restructurings increased to $10.700 million from $7.897 million at December 31, 2017. Nonperforming assets were $5.290 million, or 0.75% of loans plus OREO, versus 0.83% at year-end.
Debt, liquidity, outlook, risks and unusual items
- The Company had $35.0 million of short-term Federal Home Loan Bank advances at September 30, 2018, compared with none at year-end. Management expects securities maturities and seasonal deposit increases to replace the borrowings in the near term.
- The loan-to-deposit ratio was 68.66%, within the Company’s stated policy range of 65% to 75%. Management reported sufficient liquidity under stress scenarios and access to Federal Reserve and FHLB borrowing sources.
- The Company and bank subsidiary were well capitalized. The consolidated common equity Tier 1, Tier 1, total capital and leverage ratios were 23.66%, 23.66%, 24.59% and 15.82%, respectively.
- Management provided no specific earnings or revenue guidance. The filing identifies interest rates, economic conditions, unemployment, deposit flows, loan demand, real estate conditions, competition, regulation, technology and cybersecurity as key uncertainties.
- Two cybersecurity intrusions in 2016 and 2017 resulted in $2.408 million of stolen funds, all of which were restored to customers. The Company recorded a cumulative $2.010 million write-down of the related insurance receivable during 2018 and is pursuing litigation against the insurer. Any recovery above the recorded receivable would be recognized when received.
- The allowance for loan losses was $7.713 million, or 1.10% of loans, versus 1.19% at year-end. Nine-month net charge-offs were $305 thousand, or 0.06% annualized.
- The filing states that no material legal proceedings, control deficiencies or material changes in off-balance-sheet arrangements were identified. Future losses could arise from unfunded loan commitments, letters of credit, mortgage-sale recourse, cybersecurity events or changes in collateral values.
- The Company adopted revenue-recognition and financial-instrument accounting updates in 2018 without a material effect on net income. It was assessing the future effects of lease accounting and the current expected credit loss standard.
Important facts for investors to verify
- Confirm the status, amount and expected timing of recovery from the cybersecurity insurance litigation, including whether the $337 thousand recorded receivable remains recoverable.
- Monitor deposit trends, reliance on the $35.0 million of FHLB borrowing, securities maturities and the loan-to-deposit ratio.
- Evaluate the effect of rising interest rates on deposit costs, securities values, net interest margin and variable-rate borrowers.
- Review growth and concentration in commercial real estate, construction and public-sector loans, together with the increase in troubled debt restructurings.
- Assess the potential impact of securities unrealized losses and the transfer from held-to-maturity to available-for-sale classification on capital and future earnings.
- Track implementation of the expected credit loss standard and any resulting change to the allowance for loan losses.