CNB Financial Corporation — Q2 2018 Form 10-Q
Reporting period: Quarter and six months ended June 30, 2018. Financial statements are unaudited; balance-sheet comparisons are with December 31, 2017. Amounts are in millions unless noted.
Business context and results
CNB Financial is a regional bank holding company operating through CNB Bank and specialty subsidiaries across Pennsylvania, Ohio, and western New York. In the second quarter, net income was $8.4 million and diluted EPS was $0.55, compared with $6.7 million and $0.44 a year earlier. For the first half, net income was $15.5 million and diluted EPS was $1.02, versus $13.2 million and $0.87.
Key financial metrics
| Metric | Q2 / June 30, 2018 | Comparison |
|---|---|---|
| Interest and dividend income | $32.1 million for Q2; $61.5 million for six months | Q2 +18.9%; six months +18.0% year over year |
| Net interest income | $25.8 million for Q2; $49.9 million for six months | Q2 +12.3%; six months +13.0% year over year |
| Net interest margin, fully tax-equivalent | 3.74% for Q2 and six months | Q2 3.87%; six-month 3.77% in 2017 |
| Provision for loan losses | $1.9 million for Q2; $3.5 million for six months | Q2 $1.1 million; six-month $2.2 million in 2017 |
| Non-interest income / expense | $5.6 million / $19.5 million for Q2; $10.4 million / $38.5 million for six months | Six-month income declined from $10.9 million; expenses rose from $34.8 million |
| Assets / loans, net of unearned discount | $3,009.6 million / $2,335.3 million | Assets +8.7%; loans +8.8% since year-end |
| Deposits / cash and cash equivalents | $2,401.6 million / $42.3 million | Deposits +10.8%; cash was $35.3 million at year-end |
| Borrowings | $328.4 million total; no short-term borrowings | Year-end included $34.4 million short-term borrowings |
| Shareholders’ equity | $249.9 million | $243.9 million at year-end; accumulated other comprehensive loss widened to $5.3 million from $0.3 million |
First-half operating cash flow was $17.9 million, investing cash outflow was $239.7 million, and financing cash inflow was $228.7 million. Financing included $50.0 million of long-term borrowing and substantial deposit growth. The allowance for loan losses was $22.1 million, or 0.95% of loans net of unearned discount, versus $19.7 million and 0.92% at year-end. Net charge-offs were $1.1 million for the first half.
Capital ratios at June 30 were 13.67% total risk-based capital, 10.49% Tier 1, 9.61% common equity Tier 1, and 8.14% leverage, all lower than at year-end. Tangible common equity to tangible assets was 7.07%, down from 7.46%.
Material changes and management commentary
- Loan growth was concentrated in commercial lending, including commercial mortgages. Commercial mortgages rose to 30% of loans from 28% at year-end; commercial, industrial, and agricultural loans remained 35%.
- Deposit growth was attributed primarily to western New York and the Private Client Solutions division. Savings balances increased notably; non-interest-bearing deposits declined 2.2%.
- Higher funding costs pressured margin: Q2 cost of interest-bearing liabilities rose to 1.09% from 0.70%, while earning-asset yield increased to 4.64% from 4.47%.
- First-half non-interest income comparisons were affected by $1.5 million of securities gains and a $0.5 million branch-sale gain in 2017, neither repeated in 2018. Excluding securities transactions and the branch gain, management reported non-interest income of $10.1 million versus $8.5 million.
- Income tax expense fell with the lower federal statutory rate following the 2017 Tax Cuts and Jobs Act. The six-month effective tax rate was 14.6%, compared with 27.2% in 2017.
Outlook, risks, and unusual items
Management expected solid loan demand and loan growth through the remainder of 2018, and stated it believed the company was positioned to sustain core earnings. It also expected growth-related non-interest costs to rise, while anticipating earning-asset growth and non-interest income to more than offset those increases. These are forward-looking expectations, not guarantees.
- Credit: A commercial real estate borrower deteriorated, prompting an additional $623,000 provision in the first half. A commercial and industrial relationship filed for bankruptcy despite being current on payments; its balance was $5.5 million, with a $758,000 specific reserve. Nonperforming assets were $25.1 million, or 0.83% of assets, versus $20.4 million and 0.74% at year-end.
- Tax assessment: Pennsylvania assessed $1.163 million, including interest and penalties, for sales taxes covering 2013 through July 2016. The company accrued $96,000; management and counsel disputed the remaining assessment. Resolution could result in up to the full assessed amount becoming an additional expense.
- Interest-rate risk: The company cited interest rates as a key earnings risk. Its model estimated one-year net interest income changes of +4.0% to +8.2% for rate increases of 100 to 400 basis points, and -4.2% to -6.5% for decreases of 100 to 200 basis points. Management cautioned that actual results could vary and model assumptions are uncertain.
- Other risks: Forward-looking risk factors include economic and competitive conditions, rate and funding-cost changes, deposit attrition, loan quality and loss-reserve adequacy, regulation, technology, and integration or acquisition execution. The filing reported no material changes to the risk factors in the 2017 Form 10-K and no legal proceedings.
- Other items: CNB Risk Management, a captive insurance subsidiary, began operations June 1, 2018. The company adopted revenue-recognition guidance without a material accounting change. It said the expected impact of the new credit-loss standard remained undetermined.
Important facts for investors to verify
- Whether the bankrupt commercial and industrial relationship and impaired commercial real estate exposure result in further losses or reserve increases.
- How loan growth, deposit pricing, and borrowing costs affect net interest margin and earnings in subsequent quarters.
- The outcome and potential financial exposure from the Pennsylvania sales-tax assessment.
- Whether nonperforming assets, allowance coverage, and regulatory capital ratios stabilize or continue to deteriorate.
- Whether management’s loan-growth and core-earnings expectations are borne out; the filing states interim results are not necessarily indicative of full-year performance.