First United Corporation — 2012 Form 10-K
Reporting period: Fiscal year ended December 31, 2012; comparisons are primarily with fiscal 2011. This is an annual filing, not a standalone fourth-quarter report. First United is a community banking holding company operating through First United Bank & Trust in Western Maryland and Northeastern West Virginia. The company reported 27 banking offices. Its insurance agency sold substantially all assets effective January 1, 2012.
Financial performance and condition
| Metric | 2012 | 2011 | Change / context |
|---|---|---|---|
| Total assets | $1.321 billion | $1.391 billion | Down 5.0% |
| Net loans | $858.8 million | $919.2 million | Down $60.4 million |
| Deposits | $976.9 million | $1.028 billion | Down $50.9 million |
| Total borrowings | $222.0 million | $243.9 million | Down $21.9 million |
| Shareholders’ equity | $98.9 million | $96.7 million | Up $2.2 million |
| Net interest income | $39.1 million | $38.3 million | Up $0.9 million |
| Net income | $4.7 million | $3.6 million | Common-shareholder income was $3.0 million versus $2.0 million |
| Net income per common share | $0.48 | $0.33 | Basic and diluted |
| Net interest margin, FTE | 3.30% | 2.96% | Up 34 basis points |
| Return on average assets / equity | 0.34% / 4.79% | 0.24% / 3.71% | Improved, but remained modest |
Interest income declined $6.4 million to $53.1 million, while interest expense fell $7.2 million to $14.0 million, supporting higher net interest income and margin. Provision for loan losses was $9.4 million, slightly above $9.2 million in 2011. Other operating expenses declined 9.0% to $39.5 million; other operating income was $13.6 million, excluding net gains. Income tax expense was $0.9 million, compared with a $0.6 million benefit in 2011.
Cash flow: Operating activities provided $15.2 million, down from $63.0 million in 2011. Investing activities provided $75.6 million and financing activities used $72.8 million. Cash and cash equivalents increased $18.0 million to $83.1 million. The filing attributes cash-flow movements in part to loan and securities activity, deposit outflows, and repayment of borrowings.
Capital and liquidity: At year-end, consolidated total risk-based capital was 14.13%, Tier 1 risk-based capital 12.54%, and Tier 1 leverage 10.32%; the Bank was also categorized as well capitalized. Management cited $23.9 million of additional FHLB borrowing capacity, $16 million in unused bank lines, a $36 million unused Federal Reserve line, and approximately $48 million available through wholesale money-market funds. The Bank was subject to regulatory agreements requiring prior approval for dividends to the holding company.
Material changes and credit trends
- Total loans declined 6.8%, primarily from repayments, charge-offs, and scheduled amortization. Commercial real estate loans fell $37.4 million and acquisition-and-development loans fell $14.5 million.
- Net charge-offs rose to $12.8 million from $11.8 million; the allowance for loan losses declined to $16.0 million from $19.5 million, or 1.83% of loans versus 2.08%.
- A $9.0 million charge-off on a shared national credit for a Pennsylvania ethanol plant was the principal unusual credit item. Additional large charge-offs included a $1.1 million hotel participation loan and a $0.9 million motel loan. Excluding the ethanol credit charge-off, management reported a 0.41% net charge-off ratio.
- Non-accrual loans decreased to $19.9 million from $38.2 million, partly reflecting charge-offs and loan repayments. Loans past due 30 days or more declined to 2.39% of the portfolio from 2.86%.
- OREO was $17.5 million, up from $16.7 million. The company reported $1.5 million of OREO write-downs and $1.0 million of gains on property sales during 2012.
- The insurance agency sale reduced insurance commissions by approximately $2.4 million. Offsetting items included a one-time, tax-free $0.7 million BOLI death benefit and $1.5 million of net gains on investment-security sales.
Outlook, risks, and significant items
- Management identified local economic conditions, real-estate and credit-market weakness, yield compression, interest-rate changes, competition, and regulatory developments as continuing risks. Lending is geographically concentrated, and about 15% of total loans—$128 million—were real-estate acquisition, construction, and development loans.
- The investment portfolio included $11.4 million fair value of pooled trust-preferred CDOs, classified as Level 3, against $36.8 million amortized cost. The portfolio had $25.4 million of unrealized losses; management reported no credit-related OTTI charge in 2012 and relied on valuation models and an independent third party.
- Management concluded goodwill of $11.0 million was not impaired, although the stock traded below book value during 2012 and the conclusion depends on estimates and assumptions. Net deferred tax assets were $28.9 million; realizability depends partly on future taxable income and tax-planning strategies.
- First United deferred Series A preferred dividends beginning in November 2010 and interest on trust-preferred debentures beginning in March 2011. At year-end, accrued unpaid preferred dividends were $3.5 million and deferred debenture interest was approximately $4.4 million. These deferrals prohibit common dividends; the company stated it had no present intention to resume common dividends in the foreseeable future. Preferred holders had rights to elect up to two additional directors after six missed quarterly dividend periods.
- Proposed Basel III capital rules were delayed pending further agency consideration. The filing notes that trust-preferred securities contributed $40.2 million to reported Tier 1 capital and could be phased out under applicable rules. Dodd-Frank implementation and other regulation could increase compliance costs or constrain products and capital distributions.
- Management reported effective disclosure controls and internal control over financial reporting. The independent auditor issued an unqualified opinion on the consolidated financial statements.
Important facts for investors to verify
- Whether credit quality continues to improve, particularly in CRE and acquisition-and-development exposures, and whether the $16.0 million allowance adequately covers losses.
- Actual performance and repayment prospects for the major charged-off and impaired credits, TDRs, and the $17.5 million OREO portfolio.
- The assumptions and valuation sensitivity underlying the $11.4 million Level 3 CDO value and the $28.9 million net deferred tax asset.
- Capital treatment of trust-preferred debentures under finalized regulations, and the company’s capacity to meet capital requirements without diluting shareholders.
- Accrual and eventual payment of deferred preferred dividends and debenture interest, regulatory dividend restrictions, and any change to the common-dividend outlook.
- Deposit trends, wholesale funding reliance, borrowing availability, and whether lower loan balances and low rates continue to pressure revenue and margins.