PEOPLES BANCORP OF NORTH CAROLINA INC quarterly report, Q3 FY2018

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Peoples Bancorp of North Carolina, Inc. — Q3 2018 Form 10-Q

Business context and reporting period

Community bank holding company serving North Carolina markets, with lending concentrated in real estate and commercial loans. This unaudited quarterly report covers the three and nine months ended September 30, 2018; balance-sheet comparisons are to December 31, 2017.

Financial results and condition

Amounts are in millions unless stated otherwise.

  • Q3 earnings: Net earnings were $3.47 million, up 6.9% from $3.24 million. Diluted EPS was $0.57 versus $0.52; dividends declared were $0.13 per share versus $0.11.
  • Year-to-date earnings: Net earnings were $9.95 million, up 20.4% from $8.26 million. Diluted EPS was $1.65 versus $1.35.
  • Revenue and net interest: Q3 interest income was $11.61 million and noninterest income $3.92 million; net interest income was $11.05 million, up 10.0% year over year. For nine months, interest income was $33.43 million, noninterest income $11.67 million, and net interest income $31.89 million, up 8.6% year over year.
  • Net interest metrics: Q3 net interest spread was 4.32% and net yield on interest-earning assets was 4.43%, compared with 4.09% and 4.20%, respectively, in Q3 2017. Nine-month net yield was 4.34% versus 4.15%.
  • Costs and credit provision: Q3 noninterest expense rose 7.0% to $10.70 million; nine-month expense rose 3.1% to $31.30 million. Loan-loss provision was $110,000 in Q3 versus a $218,000 credit a year earlier, and $372,000 year to date versus a $405,000 credit.
  • Profitability: Annualized Q3 return on average assets was 1.25% and return on average equity 11.49%, versus 1.17% and 11.14%. Nine-month figures were 1.21% and 10.97%, versus 1.01% and 9.59%.
  • Assets and loans: Total assets were $1.10 billion, up 0.7% from year-end. Loans were $786.7 million, up 3.5%; net loans were $780.4 million. Available-for-sale securities fell to $206.0 million from $229.3 million.
  • Deposits and borrowings: Deposits declined 1.5% to $893.5 million. Repurchase-agreement funding increased to $55.8 million from $37.8 million. Junior subordinated debentures remained $20.6 million; there were no FHLB borrowings outstanding.
  • Liquidity and cash flow: Cash and cash equivalents were $57.0 million, little changed from year-end. Nine-month operating cash flow was $12.1 million versus $14.3 million in 2017; investing used $14.5 million and financing provided $2.2 million. The Bank’s liquidity ratio was 18.61%, above its 10% policy minimum; available FHLB line capacity was $84.3 million.
  • Capital: Shareholders’ equity was $119.7 million, or 10.88% of assets. Company Tier 1, total risk-based, common equity Tier 1, and leverage ratios were 15.42%, 16.11%, 13.21%, and 12.67%, respectively. The Bank was classified as well capitalized.

Material changes and management commentary

  • Higher loan balances and yields, alongside the 1.00% increase in prime since September 2017, lifted interest income. The payoff of remaining FHLB borrowings in October 2017 reduced interest expense. Management said Fed rate increases had supported recent earnings and could continue to benefit net interest income.
  • Q3 noninterest income declined 5.9%, mainly from lower mortgage banking and miscellaneous income. Nine-month noninterest income increased slightly, partly because 2017 included a write-down/loss on other real estate; mortgage banking income fell 28.9% as higher mortgage rates reduced volume.
  • Higher staffing and annual salary increases drove much of the compensation expense growth; management also cited increased occupancy and consulting costs for the nine-month period.
  • The effective tax rate fell to 17% for Q3 and 16% year to date, from 27% and 25%, respectively, primarily reflecting the Tax Cuts and Jobs Act’s reduction of the federal corporate rate.
  • Available-for-sale securities had $2.5 million of unrealized losses at quarter-end, which management considered temporary and attributed to changing interest rates. The resulting nine-month other comprehensive loss was $3.85 million after tax.

Outlook, risks, and contingencies

  • The filing provides no specific earnings or growth guidance. Management described local businesses as growing and investing, while noting uncertainty in local, national, and international markets. The company intends to pursue growth in existing and nearby markets and does not consider acquisitions necessary.
  • Key exposures include competition, interest-rate changes, local economic weakness and related credit deterioration, regulatory/accounting changes, and real estate values. Real estate secures a substantial portion of loans; commercial real estate repayment can depend on property income, refinancing, or sale.
  • Credit indicators: nonperforming assets were $3.9 million, or 0.36% of assets, versus $3.8 million and 0.35% at year-end. Nonaccrual loans were $3.9 million, or 0.50% of loans, versus $3.7 million and 0.49%. Past-due loans totaled $7.6 million; none were 90 days past due and still accruing. The allowance was $6.3 million, 0.80% of loans, versus 0.84% at year-end.
  • Off-balance-sheet commitments included $251.9 million to extend credit and $3.5 million in standby letters of credit; actual funding needs may be lower because not all commitments will be drawn.
  • Tax dispute: After quarter-end, the North Carolina Department of Revenue proposed approximately $1.4 million of tax, penalties, and interest related to credits claimed in 2014–2016. The Bank disputes the proposed adjustments and intends to challenge them. Management believes a tax-credit guaranty could limit exposure to approximately $150,000.
  • The company adopted the new revenue-recognition standard in 2018 with no material retained-earnings adjustment. It was evaluating the forthcoming lease standard; future minimum lease payments were $4.8 million at December 31, 2017. The filing says the expected impact of the forthcoming credit-loss standard was still under evaluation.

Most important facts for investors to verify

  1. Whether loan growth and improved net interest yield persist as deposit costs and market rates change.
  2. Credit quality, particularly real-estate concentration, nonaccrual trends, allowance adequacy, and the performance of the former Banco nontraditional mortgage portfolio.
  3. The outcome and recoverability of the $1.4 million state tax-credit assessment, including whether the guaranty limits the Bank’s ultimate exposure as management expects.
  4. Liquidity under potential commitment drawdowns, deposit outflows, and changes in repurchase funding; review the $251.9 million of credit commitments and available borrowing capacity.
  5. The effect of unrealized securities losses and upcoming lease and credit-loss accounting standards on capital, earnings, and reported balances.