Business context and reporting period
Union Bankshares, Inc. is a Vermont bank holding company whose sole subsidiary, Union Bank, operates a community bank serving northern Vermont and New Hampshire. This Form 10-K covers the fiscal year ended December 31, 2017; comparative results are for 2016 and 2015. The company reported one business segment.
Financial results and condition
| Metric | 2017 | 2016 | Change |
|---|---|---|---|
| Net interest income | $26.8 million | $24.8 million | Up 8.0% |
| Net interest margin | 4.22% | 4.17% | Up 5 basis points |
| Provision for loan losses | $0.2 million | $0.15 million | Up $0.05 million |
| Noninterest income | $9.4 million | $10.1 million | Down 7.3% |
| Noninterest expense | $23.9 million | $23.7 million | Up 1.1% |
| Net income | $8.45 million | $8.51 million | Down 0.7% |
| Diluted/basic earnings per share | $1.89 | $1.91 | Down $0.02 |
Return on average assets was 1.21% (1.30% in 2016), return on average equity was 14.53% (15.25%), and the efficiency ratio improved to 64.52% from 67.97%. The 2017 effective tax rate was 29.9%, compared with 23.4% in 2016.
At year-end, total assets were $745.8 million, up 7.9%; gross loans and loans held for sale were $594.6 million, up 9.9%; deposits were $647.6 million, up 8.4%; borrowed funds were $31.6 million, essentially unchanged; and stockholders’ equity was $58.7 million, up 4.2%. The total loans-to-deposits ratio was 91.81%, and equity-to-assets was 7.87%.
Cash and cash equivalents ended the year at $38.5 million, down $0.8 million. Operating cash flow was $9.9 million; investing activities used $55.3 million, principally reflecting $53.6 million of net loan growth; financing activities provided $44.7 million, including deposit growth. Union reported $39.8 million of remaining FHLB borrowing capacity, a separate $10 million correspondent-bank federal funds line, and access to the Federal Reserve discount window. Union was well capitalized: total risk-based capital was 13.64%, Tier 1 risk-based capital 12.52%, and leverage capital 8.43%.
Material changes versus the prior comparable period
- Net interest income increased with loan and earning-asset growth and a modestly higher net interest margin. Average funding cost edged up to 0.43% from 0.42%.
- Noninterest income fell mainly because gains on sales of loans declined $0.6 million, reflecting lower loan-sale volume and premiums. Loan-sale gains were $2.3 million, versus $2.9 million in 2016.
- Net income was slightly lower despite improved pre-tax income: income taxes rose $1.0 million, including a one-time $447,000 charge to revalue deferred tax assets after federal corporate tax rates were reduced from 34% to 21% beginning in 2018.
- Credit quality improved: nonperforming assets declined to $1.72 million from $4.39 million; nonperforming loans were 0.28% of loans versus 0.81%; and net charge-offs were 0.01% of average loans. The allowance for loan losses was $5.41 million, or 0.92% of loans not held for sale.
- Commercial and commercial real estate loans represented approximately 52% of the loan portfolio. Municipal loans grew to $55.8 million from $31.4 million.
Outlook, management commentary, risks and unusual items
Management described loan demand as strong, reported deposit growth, and expressed cautious optimism about credit quality. It characterized the company as asset-sensitive and said it was positioned to benefit from potential rate increases. No quantified earnings or revenue guidance was provided.
The board voted in October 2017 to terminate the defined-benefit pension plan. The company estimated a $1.1 million contribution in 2018 and an approximately $3.2 million reduction in net income in fourth-quarter 2018 from settlement; the final cost depends on interest rates and participant elections. Management expected the plan settlement to eliminate remaining pension obligations and periodic pension expense thereafter.
Interest-rate disclosure merits attention: management’s narrative anticipates benefit from possible rate increases, while the December 31 simulation reports next-12-month net interest income declines of 14% for a 200-basis-point rise and 21% for a 300-basis-point rise. The filing cautions that the simulation is not a forecast and depends on assumptions.
Principal risks include geographic and real-estate concentration in Vermont and New Hampshire; commercial, commercial real-estate and construction credit risk; interest-rate and liquidity risk; competition for deposits and loans; regulatory and capital requirements; cybersecurity and third-party system disruptions; and possible changes in credit-loss estimates. Off-balance-sheet commitments totaled $117.5 million, including $85.9 million of unused lines of credit and $25.4 million of commitments to originate loans; amounts expected to be drawn are uncertain. The maximum contingent liability under the mortgage loss-sharing program was $665,000, with a $25,000 reserve. Management said ordinary-course legal proceedings were not expected to have a material effect. The independent auditor gave unqualified opinions on the financial statements and internal controls; management also concluded controls were effective.
Important facts for investors to verify
- Reconcile the stated asset-sensitive outlook with the modeled net-interest-income declines in the rising-rate scenarios, and review the assumptions behind the sensitivity analysis.
- Track the pension-plan settlement: the estimated $3.2 million fourth-quarter 2018 net-income impact and $1.1 million contribution are estimates, not final amounts.
- Assess whether the allowance and improved 2017 credit metrics remain adequate given loan growth, local-market concentration, and the increase in performing substandard loans to $3.0 million from $1.8 million.
- Monitor deposit pricing and funding mix as rates change, including reliance on ICS balances and FHLB borrowing capacity.
- Separate recurring earnings from the $447,000 tax revaluation charge and assess the realized benefit of the lower 21% federal tax rate.
- Review the $117.5 million of off-balance-sheet commitments and the potential for drawdowns or credit losses.