Farmers National Banc Corp. — Q2 2013 Form 10-Q
Business context and period. The Ohio-based bank holding company provides banking, trust and insurance services, primarily in northeastern Ohio. This unaudited report covers the quarter and six months ended June 30, 2013; balance-sheet comparisons are to December 31, 2012 unless otherwise noted. Amounts below are in millions except per-share data and ratios.
Financial performance
| Metric | Q2 2013 | Q2 2012 | Six months 2013 | Six months 2012 |
|---|---|---|---|---|
| Net interest income | $9.0 | $9.3 | $18.0 | $18.5 |
| Provision for loan losses | $0.17 | $0.40 | $0.43 | $0.40 |
| Noninterest income | $3.2 | $2.8 | $6.1 | $5.5 |
| Noninterest expense | $9.8 | $8.8 | $18.9 | $17.4 |
| Net income | $1.87 | $2.29 | $3.87 | $4.81 |
| Diluted EPS | $0.10 | $0.12 | $0.21 | $0.26 |
| Tax-equivalent net interest margin | 3.63% | 3.80% | 3.65% | 3.85% |
| Tax-equivalent efficiency ratio | 77.16% | 68.66% | 74.88% | 68.48% |
Net income fell 18% year over year in Q2 and 19% for the first half. Lower net interest income and higher operating costs more than offset growth in noninterest income. Salaries and benefits rose, reflecting higher healthcare costs and staffing; merger-related expense was $0.22 million in Q2 and $0.26 million year to date. Q2 noninterest income included $0.24 million of securities gains from selling Fannie Mae preferred stock.
Financial position, liquidity and capital
- At June 30, total assets were $1.123 billion, down 1.4% from year-end but up from $1.117 billion at June 30, 2012. Gross loans were $596.8 million, up $10.2 million from year-end; net loans were $589.2 million.
- Available-for-sale securities were $443.8 million, down $20.3 million from year-end. Management attributed about $12 million of the decline to lower fair value, primarily from higher long-term interest rates rather than credit deterioration.
- Deposits totaled $901.9 million, down $17.1 million from year-end. Short-term borrowings rose $11.5 million to $91.4 million; long-term borrowings were $10.2 million. The company reported cash and cash equivalents of $26.6 million, down $11.2 million in the first half.
- First-half cash flow: operating activities provided $0.8 million, investing activities used $3.4 million, and financing activities used $8.6 million. Cash dividends paid were $1.1 million; treasury-stock purchases used $1.6 million.
- Stockholders’ equity was $114.3 million, down from $120.8 million at year-end, mainly due to securities-related accumulated other comprehensive losses, partly offset by retained earnings. The reported equity-to-assets ratio was 10.18% and tangible common equity ratio 9.71%. Regulatory capital ratios were 17.25% total risk-based, 16.08% Tier 1 risk-based and 9.64% Tier 1 leverage.
- Management considered liquidity adequate. The Bank reported $24.5 million of available bank lines, unused at quarter-end; a $1.5 million revolving line had $0.35 million outstanding. FHLB borrowings were $10.2 million with approximately $87.4 million additional capacity.
Material changes, outlook and risks
- Asset quality improved year over year but showed a modest sequential increase in nonperforming loans: $8.1 million, or 1.35% of loans, at June 30, versus $9.9 million, or 1.73%, a year earlier. The allowance was $7.6 million, 1.27% of loans and 93.95% of nonperforming loans. First-half net charge-offs were $0.46 million; Q2 net charge-offs were $0.09 million.
- Available-for-sale securities produced a $6.0 million after-tax other comprehensive loss in Q2 and a $7.6 million loss for the first half, versus gains in the comparable 2012 periods. Management said the unrealized losses largely reflected interest-rate movements and did not consider them other-than-temporary impairments.
- On July 1, 2013, after quarter-end, the company completed its $5.0 million cash-and-stock acquisition of National Associates, Inc., a Cleveland retirement-plan consultancy. Preliminary net assets acquired were $0.3 million, with estimated goodwill and other intangibles of $4.7 million; purchase-price allocation remained under evaluation. The quarter’s results exclude the acquired business.
- Management plans to close branches in Leetonia and Warren, Ohio, on October 1, 2013, citing declining transactions and customer movement to online banking. It expects any closure losses, if any, to be immaterial. Management also said cash levels were expected to remain steady over the next few months; no earnings or revenue guidance was provided.
- Interest-rate risk is a key exposure. The company described its balance sheet as liability-sensitive; its simulation showed net interest income down 3.1% under a 100-basis-point rate decline, while net present value of equity fell 13.0%, exceeding internal policy limits. Management considered that rate-decline scenario unrealistic in the current environment. It also warned that Basel III requirements apply beginning in 2015, with some provisions phased in through 2019, and that regulatory compliance may increase costs.
- Other cited risks include local and broader economic conditions, loan demand and credit quality, competition, regulation, technology and interest-rate fluctuations. Management reported effective disclosure controls, no material change in internal controls, and no material legal proceedings or changes to previously disclosed risk factors.
Most important facts for investors to verify
- Whether loan growth and credit quality remain sound, and whether the allowance keeps pace with portfolio risk and nonperforming loans.
- How rising rates affect securities values, accumulated other comprehensive income, capital, and net interest income; note the disclosed rate-decline sensitivity breach.
- Whether deposit trends, short-term borrowing reliance and available liquidity capacity remain adequate.
- The completed acquisition’s final purchase accounting, goodwill and intangible allocation, integration costs, and contribution to earnings.
- Whether branch closures and management’s expense initiatives improve the efficiency ratio, which deteriorated year over year.
- The effect of Basel III implementation on regulatory capital and distributions, including dividends.