Business Context and Reporting Period
West Bancorporation, Inc. is an Iowa-based bank holding company operating West Bank in central and eastern Iowa and southern Minnesota. This unaudited Form 10-Q covers the three and nine months ended September 30, 2022, with comparisons to the corresponding 2021 periods and to December 31, 2021 for balance-sheet data.
Financial Results and Key Metrics
| Metric | Three Months Ended September 30 | Nine Months Ended September 30 |
|---|---|---|
| Net income | $11.6 million vs. $12.7 million | $37.5 million vs. $37.7 million |
| Diluted EPS | $0.69 vs. $0.76 | $2.23 vs. $2.25 |
| Net interest income | $23.0 million vs. $24.5 million | $71.1 million vs. $70.5 million |
| Net interest margin, FTE | 2.78% vs. 3.06% | 2.85% vs. 3.07% |
| Noninterest income | $3.3 million vs. $2.4 million | $7.9 million vs. $7.4 million |
| Noninterest expense | $11.5 million vs. $10.7 million | $33.4 million vs. $31.5 million |
| Return on average assets | 1.32% vs. 1.52% | 1.43% vs. 1.56% |
| Return on average equity | 21.01% vs. 20.02% | 21.57% vs. 20.98% |
Net income declined 8.7% in the third quarter and 0.6% for the first nine months. The third-quarter decrease primarily reflected lower net interest income and higher salaries and employee benefits, partly offset by higher loan swap fees and lower FDIC insurance expense. Nine-month net interest income increased modestly, but higher noninterest expense and income tax expense offset that growth.
Total assets were $3.52 billion at September 30, 2022, compared with $3.50 billion at December 31, 2021. Loans increased 6.4% to $2.61 billion, or 7.4% excluding PPP loans. Commercial real estate loans increased $131.7 million and commercial loans increased $33.5 million. PPP loans declined to $1.1 million from $22.2 million.
- Allowance for loan losses: $25.4 million, or 0.97% of loans excluding PPP loans, versus 1.17% at December 31, 2021.
- Nonperforming assets: $329,000, or 0.01% of total assets, versus $8.9 million, or 0.26%, at year-end 2021.
- Past-due loans over 30 days: none reported at September 30, 2022.
- Deposits: $2.82 billion, down $193.2 million from year-end; brokered deposits increased to $258.1 million from $130.0 million.
- Securities available for sale: $671.8 million, down $87.1 million; unrealized losses were $148.4 million before tax, primarily reflecting rising interest rates.
- Stockholders’ equity: $198.8 million, down from $260.3 million, primarily because accumulated other comprehensive loss increased to $98.2 million from $10.6 million.
- Tangible common equity to tangible assets was 5.65%, compared with 7.44% at December 31, 2021. Management stated that accumulated other comprehensive losses do not reduce regulatory capital.
Cash Flow, Debt and Liquidity
- Operating cash flow for the first nine months was $48.9 million.
- Investing activities used $235.6 million, including $158.4 million for net loan growth and $120.1 million for securities purchases.
- Financing activities provided $53.2 million, including $201.6 million of increased federal funds purchased and $58.8 million of net subordinated-debt proceeds, partly offset by a $193.2 million deposit decline.
- Cash and cash equivalents decreased to $59.4 million from $192.8 million at year-end.
- On June 14, 2022, the company issued $60.0 million of subordinated notes bearing an initial 5.25% rate, with a floating-rate reset expected in 2027 and maturity in 2032. Proceeds funded a $58.65 million capital injection into West Bank.
- Management reported approximately $430 million of additional FHLB borrowing capacity, $4 million of Federal Reserve discount-window capacity and $67 million of unsecured federal funds lines. Management believed liquidity and capital resources were sufficient for operating and funding needs.
- Regulatory capital ratios exceeded minimum requirements and the capital conservation buffer; West Bank’s total risk-based capital ratio was 13.38% and its CET1 ratio was 12.60%.
Material Changes Versus Prior Comparable Period
- Rising interest rates increased deposit and borrowing costs. Third-quarter interest expense rose to $9.2 million from $3.0 million, reducing net interest income and compressing the FTE net interest margin by 28 basis points.
- Noninterest income benefited from $835,000 of loan swap fees in the third quarter; comparable 2021 fees were immaterial.
- Noninterest expense increased 7.0% in the third quarter and 6.0% year-to-date, led by salaries and employee benefits, occupancy, technology-related costs and business-development spending.
- The company recorded a $2.5 million negative provision for loan losses for the first nine months, compared with a $1.5 million negative provision in 2021. The 2022 reversal reflected improved classified loans, continued performance after COVID-related modifications and settlement of an impaired loan that had a $2.5 million specific reserve.
- Comprehensive loss was $14.1 million for the third quarter and $50.1 million for the first nine months, despite net income, because of after-tax unrealized securities losses.
- Income tax expense included a one-time $671,000 charge related to Iowa bank franchise tax changes. The nine-month effective tax rate was 22.18%; management stated it would have been 20.79% excluding the charge.
Guidance, Outlook, Risks and Unusual Items
The filing does not provide formal earnings or revenue guidance. Management noted that the Federal Reserve had increased the federal funds target rate by 300 basis points during the first nine months of 2022 and expected additional increases into 2023. Management expects higher rates to improve yields on variable-rate loans and reinvestments, but also to increase deposit and borrowing costs and unrealized securities losses.
The company’s interest-rate simulation estimated that a parallel 300-basis-point rate increase would reduce annualized net interest income by approximately 5.87%, or $5.44 million, over the twelve months ending September 30, 2023. Actual results may differ because of timing, magnitude, customer behavior and management responses.
Key risks include interest-rate and securities-market volatility, deposit pricing and liquidity pressure, commercial real estate and construction-loan concentration, declining collateral values, economic weakness, inflation, labor shortages, regulatory and accounting changes including CECL adoption, cyberattacks, competition, reference-rate reform and litigation. Off-balance-sheet commitments totaled $1.12 billion, including $405.1 million of real estate construction commitments, $697.7 million of other credit commitments and $18.4 million of standby letters of credit.
West Bank entered into a construction contract for a new West Des Moines headquarters with a guaranteed maximum price of $42.3 million and anticipated completion in 2024; $1.5 million had been paid by September 30, 2022. No material pending legal proceedings were disclosed. Management reported effective disclosure controls and no material change in internal control over financial reporting.
Facts Investors Should Verify
- Whether deposit outflows and increased reliance on brokered deposits persist as market rates rise.
- Whether loan growth, particularly commercial real estate and construction lending, remains consistent with credit-quality trends and the 0.97% allowance ratio.
- Whether unrealized securities losses and the lower tangible common equity ratio affect investor views of capital, liquidity or securities-sale flexibility.
- Whether higher funding costs continue to compress net interest margin despite loan repricing.
- The timing and cost of the new headquarters project and the effect of the $42.3 million construction commitment on future liquidity.
- The eventual effect of CECL adoption, future economic conditions and regulatory examinations on credit-loss provisions.