Peoples Financial Services Corp. — Q2 2022 Form 10-Q
Reporting period: Quarter and six months ended June 30, 2022. Peoples is a Pennsylvania bank holding company operating through Peoples Security Bank and Trust, with 28 community banking offices in Pennsylvania, New Jersey and New York. Unless noted, dollar amounts below are in millions.
Financial performance and position
- Q2 earnings: Net income was $9.35 million, or $1.30 per diluted share, versus $8.53 million, or $1.18, in Q2 2021. Six-month net income was $18.98 million, or $2.63 per diluted share, versus $18.01 million, or $2.49.
- Interest income and margins: Q2 net interest income was $23.71 million, up from $20.29 million; fully tax-equivalent (FTE) net interest income was $24.17 million versus $20.66 million. Q2 FTE net interest margin rose to 3.06% from 2.96%. For the first half, net interest income was $46.34 million versus $41.06 million, while FTE margin was 3.01% versus 3.05%.
- Other income, credit costs and expenses: Q2 noninterest income was $3.88 million, up from $3.39 million; noninterest expense rose to $15.49 million from $13.46 million. The loan-loss provision was $0.95 million versus $0.10 million. First-half noninterest income was $7.30 million versus $6.90 million; expenses were $29.78 million versus $26.09 million, and the provision was $1.25 million compared with a $0.40 million provision credit in 2021. The efficiency ratio was 54.9% for Q2 (55.5% prior year) and 54.3% for the half-year (53.2% prior year).
- Returns and dividends: Q2 return on average assets was 1.12% (1.14% prior year) and return on average equity was 11.71% (10.71%). Dividends declared were $0.39 per share in Q2 and $0.78 for the first half; the board subsequently declared $0.40 per share for Q3.
- Balance sheet and funding: Assets were $3.42 billion, up $52.1 million from year-end 2021. Loans grew $236.4 million to $2.57 billion; excluding PPP loan runoff, management reported first-half growth of $278.3 million, or 24.8% annualized. Deposits fell $52.1 million to $2.91 billion, while short-term borrowings rose from zero at year-end to $129.2 million, primarily to fund loan growth and deposit outflows. Total borrowings, including long-term and subordinated debt, were $163.8 million. Cash and cash equivalents declined to $47.7 million from $279.9 million.
- Credit and capital: The allowance for loan losses was $29.4 million, or 1.14% of loans; nonperforming assets were $4.58 million, or 0.14% of assets. Stockholders’ equity was $311.9 million, down from $340.1 million, primarily reflecting securities-related accumulated other comprehensive losses and dividends. The Bank reported a 9.78% Tier 1 leverage ratio, 12.81% Tier 1 risk-based and common equity Tier 1 ratios, and a 13.97% total risk-based capital ratio; it remained well-capitalized.
- Cash flow: First-half operating cash flow was $18.7 million and financing cash flow was $69.8 million; investing activities used $320.7 million. The resulting net decrease in cash and cash equivalents was $232.2 million.
Material changes and management commentary
- Q2 earnings improved as higher net interest income and noninterest income more than offset greater credit provisions and operating costs. Management attributed expense growth in part to expansion into Pittsburgh and Piscataway and investments in digital banking technology.
- Rapidly rising market rates reduced the fair value of available-for-sale securities. The portfolio had $53.1 million of gross unrealized losses at June 30, compared with $1.8 million at year-end; the after-tax accumulated securities loss was $41.9 million. Management attributed the losses to higher rates, stated it did not intend to sell the securities and did not consider them other-than-temporarily impaired.
- Management said loan growth momentum and improving business activity continued, but cautioned that first-half loan growth might not continue at the same pace in the second half. It expected most remaining PPP loans to be forgiven by year-end. Deposit competition, inflation, higher rates and recession risk were identified as operating considerations. No formal earnings guidance was provided.
- Management described liquidity as strong, citing $224.9 million available at the Federal Reserve discount window, $614.9 million of unused FHLB borrowing capacity, and $348.5 million of unencumbered available-for-sale securities. However, deposit outflows and use of short-term funding increased reliance on noncore funding.
- The Bank’s rate-risk analysis showed a positive one-year static gap, but its simulation estimated that an instantaneous +100 basis-point rate shift would reduce projected 12-month net interest income by 1.7%. Management said funding costs could rise as rates and local deposit competition increase; a sustained falling-rate environment was identified as the greater modeled earnings exposure.
- Management was preparing for adoption of the expected-credit-loss standard (CECL) on January 1, 2023; the adoption impact was not quantified. The company was also transitioning LIBOR-linked contracts ahead of the U.S. dollar LIBOR discontinuation.
Risks, contingencies and unusual items
- Key stated risks include economic deterioration or recession, inflation and interest-rate changes, deposit competition and flows, credit quality and collateral values, regulation, cybersecurity and third-party service-provider performance.
- Unfunded loan commitments and standby letters of credit totaled $676.6 million. Management said many commitments may expire undrawn and expected actual draws to be funded in the normal course.
- Derivative agreements include termination provisions tied to certain defaults or loss of well-capitalized status. Management reported a $3.4 million termination value for derivatives in a net liability position subject to the cited agreements.
- The filing reported no legal proceedings expected to have a material effect and no material changes to previously disclosed risk factors. Management concluded disclosure controls were effective.
Important facts for investors to verify
- How deposit trends, brokered deposits and short-term FHLB funding develop, and their effects on funding costs and margins.
- Whether loan growth moderates as management anticipated, and whether credit downgrades, delinquencies or charge-offs increase.
- Whether the unrealized securities losses remain manageable and whether the portfolio can be held until recovery without liquidity or capital pressure.
- The company’s CECL adoption estimate and any subsequent change in allowance methodology or reported credit costs.
- How rising rates affect realized net interest income, given the disclosed short-term simulation result and potential deposit repricing.