Citizens Financial Services, Inc. — Q3 2015 Form 10-Q
Reporting period: Three and nine months ended September 30, 2015. Financial amounts below are in millions of dollars unless otherwise noted. The company is a Pennsylvania bank holding company whose principal subsidiary, First Citizens Community Bank, operates in north-central Pennsylvania and southern New York.
Financial performance and position
| Metric | Q3 2015 | Q3 2014 | Nine months 2015 | Nine months 2014 |
|---|---|---|---|---|
| Net interest income | $7.645 | $7.574 | $22.793 | $22.736 |
| Provision for loan losses | $0.120 | $0.150 | $0.360 | $0.480 |
| Noninterest income | $1.865 | $1.924 | $5.548 | $5.466 |
| Noninterest expense | $5.852 | $5.067 | $16.615 | $15.158 |
| Net income | $2.857 | $3.368 | $9.166 | $9.909 |
| Diluted earnings per share | $0.95 | $1.11 | $3.03 | $3.26 |
- Net income declined 15.2% in Q3 and 7.5% for the first nine months. Management attributed the declines primarily to staffing and strategic-plan costs, foreclosed-property expenses, and costs preparing for the pending acquisition.
- Tax-equivalent net interest margin was 3.73% in Q3 versus 3.84% a year earlier, and 3.78% for the nine months versus 3.85%. The nine-month net interest spread was 3.66%, down from 3.72%.
- Annualized return on assets and return on equity were 1.21% and 11.00% for Q3, compared with 1.48% and 13.59%. For the nine months, they were 1.31% and 11.93%, compared with 1.46% and 13.64%.
- Effective tax rates were 19.3% for Q3 and 19.4% for the nine months, below the 34% statutory rate, primarily reflecting tax-exempt income and affordable-housing tax credits.
- Nine-month operating cash flow was $8.906 million, versus $11.287 million in 2014. Investing activities used $30.690 million, principally reflecting $29.148 million of net loan growth; financing activities provided $20.675 million. Cash and cash equivalents decreased $1.109 million to $10.314 million.
- At September 30, total assets were $953.977 million, up 3.1% from year-end 2014. Net loans were $575.964 million, up 5.2%; available-for-sale securities were $300.630 million, down 1.8%; deposits were $797.848 million, up 3.1%; borrowed funds were $44.657 million, up $2.858 million; and stockholders’ equity was $103.904 million.
- Capital remained above regulatory “well capitalized” thresholds: company total risk-based capital was 18.67% and Tier 1 leverage was 10.99%; bank ratios were 17.51% and 10.26%, respectively.
Material changes and credit quality
- Loan growth was concentrated in agricultural real estate (+46.7%), construction (+59.9%), and state and political subdivision lending (+9.7%) from year-end 2014. The new Mill Hall branch, opened in February, had $11.2 million of loans outstanding by September 30.
- Deposits rose $23.915 million, including $22.2 million from local municipalities. Management linked municipal growth partly to Pennsylvania Act 13 impact-fee receipts. No brokered certificates of deposit were outstanding.
- Noninterest expense increased 9.6% year to date. Salaries and benefits rose 6.0%; other notable increases included foreclosed-property expenses, up $0.443 million, and merger and acquisition costs, up $0.168 million.
- Nonperforming loans declined to $6.987 million from $7.435 million at year-end; nonperforming assets were $8.416 million. The allowance for loan losses was $7.045 million, or 1.21% of loans, versus $6.815 million, or 1.23%, at year-end. Net charge-offs for the nine months were $0.130 million.
- About 62% of nonperforming loans were associated with three commercial relationships. One relationship of approximately $3.3 million was in bankruptcy-related litigation over reduced payments; management reported no specific reserve for it. Nonaccrual loans totaled $6.319 million.
Outlook, risks and unusual items
- No specific earnings or financial guidance was provided. Management said nine-month results are not necessarily indicative of full-year results and expected its liquidity sources to meet cash needs and commitments.
- The company agreed in Q2 to acquire The First National Bank of Fredericksburg; closing was expected in Q4 2015, subject to customary conditions. Merger-related expenses were $0.405 million for the first nine months.
- Management cited the prolonged low-rate environment and competition as pressures on asset yields and margins. Its interest-rate model projected one-year net interest income declines of 3.29% under a parallel 100-basis-point rate increase and 12.61% under a 400-basis-point increase; management cautioned that actual results may differ because the model depends on assumptions.
- Key risks include local and regional economic conditions, agricultural price and input-cost volatility, natural-gas exploration activity and prices, borrower delinquencies, fraud and information theft, interest-rate changes, competition, regulation, and acquisition execution. Management noted increased local unemployment and weaker agricultural economics as allowance considerations.
- Foreclosed-property write-downs totaled $0.262 million for the first nine months, including $0.153 million in Q3. Management also cited customer debit-card fraud charge-offs as a major contributor to higher “other” expenses. The filing reports no litigation expected to have a material adverse effect and no material change in reported risk factors.
Important facts for investors to verify
- Whether the Fredericksburg acquisition closed as expected, its final cost, and the anticipated contribution to earnings.
- Whether loan growth and deposit funding—particularly municipal deposits—remain durable, and how much liquidity is available under the disclosed borrowing facilities.
- Developments in the large nonperforming commercial relationships, bankruptcy litigation, collateral values, and the adequacy of the loan-loss allowance.
- Whether higher operating costs, foreclosed-property expenses, fraud losses, and margin pressure persist, and how actual interest-rate outcomes compare with the model.
- The filing’s share-repurchase table contains an apparent date inconsistency (“8/1/15 to 9/31/15”); verify the reported period and repurchase figures against the original filing.