West Bancorporation, Inc. — 2019 First-Quarter Form 10-Q
Reporting period: Three months ended March 31, 2019; comparisons are primarily with the three months ended March 31, 2018, or December 31, 2018 for balance-sheet data. The company operates West Bank in central and eastern Iowa and southeastern Minnesota and began loan-production activities in Owatonna, Mankato and St. Cloud, Minnesota, during March 2019.
Financial performance and condition
| Metric | Q1 2019 | Comparable period | Change |
|---|---|---|---|
| Net income | $6.899 million | $7.384 million | Down 6.6% |
| Diluted EPS | $0.42 | $0.45 | Down $0.03 |
| Net interest income | $15.889 million | $15.416 million | Up 3.1% |
| Provision for loan losses | $0 | $0.150 million | Favorable expense variance |
| Noninterest income | $2.119 million | $1.913 million | Up 10.8% |
| Noninterest expense | $9.544 million | $8.287 million | Up 15.2% |
| FTE net interest margin | 2.95% | 3.16% | Down 21 basis points |
| Adjusted FTE efficiency ratio | 53.52% | 47.04% | Up 6.48 percentage points |
| Return on average assets | 1.22% | 1.42% | Down 20 basis points |
| Return on average equity | 14.49% | 16.79% | Down 230 basis points |
Net income declined primarily because higher operating expenses more than offset growth in net interest income, the absence of a loan-loss provision, and higher noninterest income. Income taxes were $1.565 million, representing an 18.5% effective rate versus 17.0% in the prior-year quarter.
- Assets: $2.312 billion at March 31, 2019, versus $2.297 billion at December 31, 2018.
- Loans: $1.749 billion, up $27.0 million, or 1.6%, from year-end; growth was concentrated in construction and land-development loans and commercial loans.
- Investment securities: Available-for-sale securities declined to $434.0 million from $453.8 million. The company sold $62.3 million of securities and purchased $47.1 million.
- Deposits: $1.908 billion, up $13.8 million from year-end. Savings and money-market balances increased $57.1 million, while demand and time deposits declined.
- Cash and cash equivalents: $47.5 million at March 31, 2019, essentially unchanged from year-end.
- Stockholders’ equity: $196.3 million, up from $191.0 million, reflecting net income and other comprehensive income, partially offset by dividends.
- Debt and borrowings: Federal Home Loan Bank advances were $128.2 million, subordinated notes were $20.4 million, long-term debt was $25.0 million, and federal funds purchased were $17.7 million.
- Capital: The company reported a consolidated total risk-based capital ratio of 11.49%, common equity Tier 1 ratio of 9.72%, and Tier 1 leverage ratio of 9.61%. Management stated that the company and West Bank met applicable capital requirements.
- Liquidity: West Bank reported approximately $314 million of additional FHLB borrowing capacity and $67 million of unsecured federal funds lines.
Material changes versus prior comparable periods
- Average interest-earning assets increased 8.7%, and average loans increased 15.9%; loan yields rose 28 basis points.
- Deposit pricing increased materially, with the average rate on total deposits rising 71 basis points. This contributed to a 21-basis-point decline in the FTE net interest margin despite higher net interest income.
- Noninterest expense rose $1.257 million. Salaries and benefits increased $947,000, partly because of the Minnesota expansion; new-market tax-credit project amortization added $230,000; and FDIC insurance expense increased $57,000.
- Noninterest income benefited from a $307,000 gain on sale of the Iowa City branch facility and higher trust-services income, but included an $88,000 net realized loss on investment securities.
- The company adopted lease accounting guidance effective January 1, 2019, recording a $9.549 million right-of-use asset and a $9.785 million lease liability. Management stated that the adoption did not materially affect the other consolidated financial statements.
- Accumulated other comprehensive loss improved to $5.0 million from $6.8 million at year-end, primarily because of unrealized investment-security gains, partly offset by derivative losses.
Credit quality, outlook and risks
- Credit quality remained strong. Nonperforming assets declined to $1.827 million from $1.928 million, and the Texas ratio improved to 0.86% from 0.93%.
- The allowance for loan losses was $16.737 million, or 0.96% of total loans, compared with 1.10% at March 31, 2018. There were no charge-offs in the quarter and $48,000 of recoveries.
- Management expected loan growth to continue across existing markets and the three new Minnesota markets during the remainder of 2019. The Minnesota growth initiative is expected to cost approximately $3.0 million annually, with the timing of break-even uncertain. Eleven employees were hired for the initiative, and related compensation, professional fees and occupancy costs totaled $453,000 in the quarter.
- Management expected the interest-rate environment and a potentially flat or inverted Treasury yield curve to continue pressuring the net interest margin. The company expected short-term interest rates to remain unchanged during 2019.
- Commercial real estate, commercial lending, and construction lending represent significant portfolio concentrations. Repayment depends substantially on borrower operations and collateral values; downturns could increase losses and required provisions.
- The company is developing its methodology for ASU 2016-13, the current expected credit loss standard, which was scheduled for adoption in 2020. Management expected the standard to increase the allowance but could not reasonably estimate the amount.
- Available-for-sale securities included $6.077 million of gross unrealized losses. Management attributed the losses to market conditions, did not intend to sell the securities, and expected full collection of principal and interest.
- Off-balance-sheet commitments totaled approximately $652.9 million, including $646.8 million of commitments to extend credit and $6.1 million of standby letters of credit.
- Management identified interest-rate risk, competitive and pricing pressures, credit and real-estate risk, economic and regulatory changes, cybersecurity, and litigation as material forward-looking risks. No material changes to previously disclosed risk factors were reported, and no material pending legal proceedings were identified.
Investor verification checklist
- Verify whether Minnesota expansion costs and staffing are producing the expected loan growth and when the initiative may reach break-even.
- Monitor deposit pricing, funding costs, the net interest margin, and the impact of the yield curve on future earnings.
- Review loan growth by segment, particularly construction, land-development and commercial real estate exposure, together with nonperforming loans and criticized assets.
- Assess the adequacy of the allowance for loan losses and the eventual capital impact of adopting the current expected credit loss standard.
- Distinguish recurring earnings from the $307,000 branch-sale gain, the $88,000 securities loss, and other investment or tax-credit-related items.
- Confirm liquidity capacity, FHLB advances, interest-rate swap exposures, and the company’s ability to fund continued loan growth.
- Note the April 24, 2019 declaration of a quarterly dividend of $0.21 per common share, payable May 22, 2019.