Finward Bancorp quarterly report, Q3 FY2017

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Business context and reporting period

NorthWest Indiana Bancorp (the registrant named in this filing) filed this unaudited Form 10-Q for the quarter ended September 30, 2017. The Indiana-based bank holding company’s earnings primarily depend on Peoples Bank SB. Dollar amounts below are in millions unless stated otherwise.

Financial performance and condition

  • Third quarter: Net income was $2.25 million, down 3.4% from $2.33 million; diluted EPS was $0.78 versus $0.81. Net interest income rose 2.5% to $7.77 million, while noninterest income declined 5.1% to $2.08 million and noninterest expense increased 5.8% to $6.93 million.
  • First nine months: Net income was $7.08 million, up 3.8% from $6.81 million; diluted EPS was $2.47 versus $2.38. Net interest income increased 2.1% to $22.95 million; noninterest income rose 2.2% to $5.82 million; noninterest expense increased 3.5% to $19.25 million.
  • Margins and returns: Q3 net interest margin was 3.63% versus 3.58% a year earlier; nine-month margin was 3.60% versus 3.62%. Efficiency ratios increased to 70.3% for Q3 from 67.0%, and to 66.9% year to date from 66.0%. Q3 ROA and ROE were 0.98% and 9.80%; nine-month ROA and ROE were 1.04% and 10.54%.
  • Balance sheet: At September 30, total assets were $916.3 million, up 0.3% from year-end 2016; net loans were $600.9 million, up 4.3%; and available-for-sale securities were $243.6 million, up 4.3%. Deposits declined 2.8% to $757.6 million. Stockholders’ equity increased 8.3% to $91.1 million, or 9.94% of assets; book value per share was $31.82.
  • Funding and liquidity: Cash and cash equivalents fell to $14.1 million from $45.1 million. Nine-month operating cash flow was $9.1 million; investing cash outflow was $33.0 million and financing cash outflow was $7.1 million. Borrowed funds rose 60.4% to $41.4 million; repurchase agreements were $15.9 million. Management said cash flow and borrowing capacity were sufficient for commitments and liquidity needs. Loan commitments were $130.8 million, about 51% variable rate; standby letters of credit totaled $10.2 million.
  • Credit quality: The allowance for loan losses was $7.1 million, or 1.16% of loans, versus 1.32% at year-end; coverage of nonperforming loans was 126.3%. Nonperforming loans were $5.6 million (0.92% of loans), down from $6.1 million (1.05%). Net charge-offs were $1.36 million for nine months, including a $829,000 partial charge-off on 26 investor-owned residential loans. Watch loans increased 10.6% to $11.7 million.
  • Capital and shareholder returns: Bancorp regulatory capital ratios included 13.0% common equity Tier 1, 13.0% Tier 1, and 14.1% total capital; all exceeded well-capitalized thresholds. Dividends declared were $0.29 per share for Q3 and $0.87 per share for nine months. No shares were repurchased during the period.

Material changes versus comparable periods

  • Q3 earnings declined despite higher net interest income, mainly alongside lower noninterest income and higher expenses. Higher compensation, other operating costs, and deposit interest expense contributed; lower tax expense partly offset the impact.
  • Nine-month earnings improved modestly as higher net interest and noninterest income exceeded increased operating expenses. The effective tax rate fell to 19.5% from 22.0%, which management attributed to investments in low-income housing projects, a real estate investment trust, and the captive insurance program.
  • Loans grew while deposits contracted, and total borrowed funds increased 44.0% to $57.4 million. Management attributed deposit and cash movements partly to municipality-account seasonality and timing of customer flows.
  • Nonperforming loans and foreclosed real estate declined, but net charge-offs rose substantially from $295,000 in the first nine months of 2016 to $1.36 million in 2017, primarily reflecting the residential partial charge-off and commercial business loan charge-offs.

Outlook, commentary, risks, and unusual items

  • The filing provides no quantified earnings or financial guidance. Management stated that nine-month results are not necessarily indicative of full-year results and that it did not expect identified nonperforming or classified loans to materially affect future operations, liquidity, or capital resources.
  • Credit risk is concentrated in the bank’s northwest Indiana lending market; the portfolio is primarily real-estate-secured. Management’s allowance assessment depends on estimates and judgments, and the filing identifies loan-loss allowances, collateral values, securities, deferred taxes, goodwill, and contingencies as estimates susceptible to near-term change.
  • The Bancorp held four pooled trust preferred securities with a $4.9 million cost basis; three were below investment grade, and three securities with a $3.6 million cost basis remained in payment-in-kind status. A $271,000 credit-loss impairment balance remained, with no additional impairment recorded at September 30. Management cited projected cash flows and its intent and ability to hold securities, but these holdings entail credit and valuation uncertainty.
  • Available-for-sale securities had $2.6 million of gross unrealized losses, including $1.6 million on collateralized debt obligations. Management attributed unrealized declines to interest rates and market volatility and expected values to recover as securities approach maturity.
  • Forward-looking results remain subject to risks including interest income and expense, business prospects, liquidity, and capital needs. The filing reported no material change in internal controls, no reportable legal proceedings, and no market-risk disclosures under Item 3.

Important facts for investors to verify

  1. Confirm the drivers and sustainability of Q3’s lower net income, higher efficiency ratio, and rising expense base.
  2. Review the composition, seasoning, and future performance of the $11.7 million watch-loan balance, nonperforming loans, and collateral supporting the allowance.
  3. Assess the cause and potential recurrence of the $1.36 million in year-to-date net charge-offs, including the acquired residential loan pool and commercial business credits.
  4. Monitor deposit trends, funding costs, cash levels, and reliance on borrowings as loan balances grow faster than deposits.
  5. Evaluate the credit, valuation, and capital implications of the pooled trust preferred securities, including payment-in-kind status and any future impairment analysis.
  6. Check subsequent disclosures for updated regulatory capital, loan commitments, dividend capacity, and the adoption impact of forthcoming accounting standards.