First Business Reports Second Quarter 2018 Financial Results

Loan growth and robust net interest margin generate record net interest income, tempering elevated credit costs

Company Release - 7/26/2018 4:05 PM ET

MADISON, Wis., July 26, 2018 (GLOBE NEWSWIRE) -- First Business Financial Services, Inc. (the “Company” or “First Business”) (NASDAQ:FBIZ) reported second quarter 2018 net income of $3.3 million highlighted by record net interest income, record trust and investment fee income and well-managed operating expenses. The quarter’s strong operating performance was partially offset by elevated credit costs primarily related to three legacy Small Business Administration (“SBA”) loan relationships.

Summary results for the quarter ended June 30, 2018 include:

  • Net income totaled $3.3 million, compared to $3.6 million in the linked quarter and $1.9 million in the second quarter of 2017.
  • Diluted earnings per common share measured $0.38, compared to $0.42 and $0.22 for the linked and prior year quarters, respectively.
  • Annualized return on average assets and annualized return on average equity measured 0.70% and 7.59%, respectively, compared to 0.78% and 8.88% for the linked quarter and 0.42% and 4.50% for the second quarter of 2017.
  • Net interest margin was 3.77%, compared to 3.65% in the linked quarter and 3.64% for the second quarter of 2017.
  • Net interest income was $16.9 million, compared to $16.2 million in the linked quarter and $15.5 million for the second quarter of 2017.
  • Trust and investment services fee income totaled a record $2.0 million, increasing 4.7% from the linked quarter and 20.6% from the second quarter of 2017.
  • Top line revenue, the sum of net interest income and non-interest income, increased 0.2% to $20.9 million from the linked quarter and 3.4% from the second quarter of 2017.
  • Provision for loan and lease losses was $2.6 million, compared to $2.5 million for the linked quarter and $3.7 million for the second quarter of 2017.
  • SBA recourse provision was an expense of $99,000, compared to a net benefit of $295,000 for the linked quarter and an expense of $774,000 for the second quarter of 2017.
  • The Company’s efficiency ratio measured 67.07%, compared to 67.45% for the linked quarter and 65.39% for the second quarter of 2017.
  • Record period-end gross loans and leases receivable of $1.595 billion grew 8.0% annualized during the second quarter and increased 9.4% from June 30, 2017.
  • Non-performing assets increased to $32.6 million at June 30, 2018, compared to $21.5 million and $39.7 million at March 31, 2018 and June 30, 2017, respectively, principally due to a fully-collateralized $9.1 million asset-based loan which moved to impaired status during the second quarter of 2018. Management believes the collateral will be successfully liquidated in the coming quarters and all contractual principal and interest will be received.

“The strength of First Business’s operating fundamentals enabled us to grow loans, net interest income and trust and investment fees to record levels,” said Corey Chambas, President and Chief Executive Officer. “We believe our operating model is positioned to efficiently drive top line revenue growth in the quarters ahead.” Chambas added, “We are disappointed in the elevated credit costs related to three legacy SBA relationships but remain resolute in our commitment to SBA lending and continue to believe this will be a future earnings catalyst for us. While the legacy SBA portfolio may be a source of volatility to quarterly earnings, the impact is expected to diminish as the legacy portfolio matures and our team of experts adds new relationships which are underwritten consistent with First Business’s quality standards.”

Results of Operations

Net interest income was $16.9 million in the second quarter of 2018, compared to $16.2 million in the linked quarter and $15.5 million in the second quarter of 2017. The increase compared to the linked and prior year quarters was principally due to an increase in both average loans and leases outstanding and average loan and lease yields. Average gross loans and leases of $1.569 billion increased by $23.7 million, or 6.1% annualized, compared to the linked quarter and increased by $99.1 million, or 6.7%, compared to the second quarter of 2017. Both periods of comparison benefited from increases to short-term market rates throughout 2017 and 2018, which management defines as the daily average effective federal funds rate for purposes of estimating interest-earning and interest-bearing betas. The change in the yield of the respective interest-earning asset or the rate paid on interest-bearing liability compared to the change in short-term market rates is commonly referred to as a beta. The daily average effective federal funds rate increased 29 basis points and 79 basis points for the second quarter of 2018 compared to the linked and prior year quarter, respectively.

The yield on average loans and leases improved to 5.42%, up from 5.09% and 4.98% in the linked and prior year quarter, respectively. The average loans and leases beta was 114% from the linked quarter and 56% from the prior year quarter. The increase in yield from the linked quarter was primarily due to higher fees collected in lieu of interest, while both periods of comparison benefited from increases to short-term market rates. Fees collected in lieu of interest were $1.4 million in the second quarter of 2018, compared to $956,000 in the linked quarter and $1.3 million in the second quarter of 2017. Excluding fees collected in lieu of interest, the average loans and leases beta was 72% from the linked quarter and 54% from the prior year quarter. Similarly, the yield on average interest-earning assets improved to 5.01%, up from 4.67% and 4.52% in the linked and prior year quarter, respectively. The average interest-earnings asset beta was 117% from the linked quarter and 62% from the prior year quarter. Also excluding fees collected in lieu of interest, the average interest-earning assets beta was 79% from the linked quarter and 61% from the prior year quarter.

The Company’s cost of total average interest-bearing liabilities increased to 1.52% for the second quarter of 2018 from 1.25% and 1.09% in linked and prior year quarters, respectively. The average interest-bearing liabilities beta was 93% from the linked quarter and 54% from the prior year quarter. A shift in funding mix also contributed to the increased cost of total bank funding as average FHLB advances increased $105.3 million from the linked quarter, while lower-cost average interest-bearing in-market deposits decreased $73.7 million. Average interest-bearing deposit costs for the second quarter of 2018 increased to 1.17%, up from 0.95% and 0.85% in the linked and prior year quarter, respectively. The average interest-bearing deposit beta was 76% from the linked quarter and 41% from the prior year quarter.

Management believes an increase in funding costs will continue as the Company looks to grow in-market deposits amid both intense competition and the continued expectation of rising short-term market rates.

Net interest margin measured 3.77% for the second quarter of 2018, compared to 3.65% in the linked quarter and 3.64% in the second quarter of 2017. The increase compared to the linked quarter was principally due to the aforementioned higher fees collected in lieu of interest. Excluding fees in lieu of interest in both periods of comparison, the rate paid on average interest-bearing liabilities increased at a slightly greater rate than the yield on average interest-earning assets. Pricing discipline amid a rising rate environment has contributed to the increased net interest margin compared to the prior year quarter. Over this period of comparison, the increase in the yield on average earning assets has outpaced the corresponding increase in the rate paid on interest-bearing liabilities. Management expects the successful continuation of its strategies will allow the Company to maintain a net interest margin at or above its target of 3.50%.

The Company recorded provision for loan and lease losses totaling $2.6 million in the second quarter of 2018, compared to $2.5 million in the linked quarter and $3.7 million in the second quarter of 2017. Provision for the second quarter of 2018 reflected $1.6 million of additional specific reserves associated with three legacy SBA loan relationships, as well as an increase to general reserves commensurate with loan growth.

Non-interest income totaled $4.0 million, or 19.0% of total revenue, in the second quarter of 2018, compared to $4.7 million, or 22.4% of total revenue, in the linked quarter and $4.7 million, or 23.4% of total revenue, in the prior year quarter. Non–interest income decreased compared to both the linked and prior year quarters primarily due to a decline in loan fee income and fee income related to the Company’s commercial loan swap transactions, which were partially offset by record trust and investment services fee income growth. Also contributing to the decrease compared to the prior year quarter was a decline in gains from the sale of SBA loans.

Trust and investment services fee income continued to boost revenues and remained the Company’s largest source of non-interest income. Trust and investment services fee income totaled $2.0 million in the second quarter of 2018, increasing $89,000, or 4.7%, and $339,000, or 20.6%, compared to the linked and prior year quarters, respectively. Existing client relationships and business development efforts remained strong as trust assets under management and administration reached a record $1.645 billion at June 30, 2018, up $66.3 million, or 16.8% annualized, from the prior quarter and $307.1 million, or 22.9%, from June 30, 2017.

Gains on sale of SBA loans totaled $274,000 in the second quarter of 2018, compared to $269,000 in the linked quarter and $535,000 in the second quarter of 2017.

“Despite a very modest increase in SBA gains during the quarter, we are confident the team and platform we have built is poised for success,” Chambas commented. “Our SBA pipeline of approved loans continues to grow, however, the timing of closings and fundings can be difficult to predict and therefore we expect some variability around SBA gains during the platform's early stages of growth.”

Swap fee income totaled $70,000 in the second quarter of 2018, compared to $633,000 in the linked quarter and $250,000 in the second quarter of 2017. Although management believes additional demand for these types of opportunities will continue in 2018 due to the market’s assumptions of a rising interest rate environment, swap fee income may be a source of non-interest income volatility.

Non-interest expense was $14.5 million for the second quarter of 2018, compared to $13.9 million for the linked quarter and $14.2 million in the second quarter of 2017. Operating expense, as defined in the Efficiency Ratio table included in the Non-GAAP Reconciliations at the end of this release, totaled $14.0 million in the second quarter of 2018, $14.1 million in the linked quarter and $13.2 million in the second quarter of 2017.

Second quarter 2018 compensation expense was $9.1 million, flat in comparison to the linked quarter and up $734,000 compared to the prior year quarter. Growth in compensation expense from the prior year quarter reflects annual merit increases as well as the addition of several new producers across multiple business lines, including commercial lending, SBA lending, equipment finance and wealth management. Full-time equivalent employees were 265 at June 30, 2018, compared to 256 at March 31, 2018 and 250 at June 30, 2017. Management expects to continue strategically investing in talent as opportunities are presented in 2018 and beyond.

In the second quarter of 2018, the Company recorded a $99,000 SBA recourse provision for estimated losses in the outstanding guaranteed portion of SBA loans sold, compared to a net benefit of $295,000 in the linked quarter and a net expense of $774,000 in the prior year quarter. The total recourse reserve balance was $2.4 million, or 2.7% of total sold SBA loans outstanding at June 30, 2018. Changes to SBA recourse reserves may be a source of non-interest expense volatility in future quarters, though the magnitude of this volatility should diminish over time.

The Company’s second quarter 2018 efficiency ratio was 67.07%, compared to 67.45% for the linked quarter and 65.39% for the second quarter of 2017. Over time, the Company intends to achieve its target efficiency ratio range of 58-62% through proactive expense management and revenue growth efforts. These efforts include the recently completed charter consolidation and core conversion, an expected normalization of loan workout costs, as well as long-term revenue initiatives. These initiatives include efforts to increase SBA lending production and to increase commercial banking market share, particularly in our less mature markets, by continuing to invest in production talent.

The effective tax rate for the second quarter of 2018 was 14.9%, compared to 18.7% in the linked quarter. The lower effective tax rate was due to recognizing a state historic tax credit during the second quarter, which reduced income tax expense by $245,000.

Balance Sheet

Period-end gross loans and leases receivable totaled a record $1.595 billion at June 30, 2018, increasing $31.5 million, or 8.0% annualized, from March 31, 2018 and increasing $136.8 million, or 9.4%, from June 30, 2017.

”Loan growth in our Wisconsin markets continued to impress during the second quarter, driven by successful business development efforts and funding of existing construction projects,” commented Chambas. “We have also seen recent growth in outstanding asset-based loan and factored receivables,” Chambas added. “While these specialty finance lines remain a relatively small percentage of our loan portfolio, the associated high yields are key contributors to our revenue diversification strategy.”

Period-end in-market deposits, which consist of all transaction accounts, money market accounts and non-wholesale deposits, totaled $1.056 billion, or 62.9% of total bank funding at June 30, 2018, compared to $1.079 billion, or 65.1%, at March 31, 2018 and $1.120 billion, or 72.0%, at June 30, 2017. Period-end wholesale bank funds were $622.4 million at June 30, 2018, including FHLB advances of $341.0 million, brokered certificates of deposit of $275.4 million and deposits gathered through internet deposit listing services of $6.0 million. Consistent with the Company’s longstanding funding strategy to manage risk and use the most efficient and cost effective source of wholesale funds, management intends to maintain a ratio of in-market deposits to total bank funding sources in line with the Company's target range of 60%-70%.

Asset Quality

Total non-performing assets were $32.6 million at June 30, 2018, increasing by $11.1 million, or 51.4%, compared to $21.5 million at March 31, 2018, and decreasing by $7.2 million, or 18.0%, compared to $39.7 million at June 30, 2017. The increase from the linked quarter primarily reflects the aforementioned $9.1 million asset-based loan that was moved to impaired status during the current quarter. The loan is fully-collateralized and management believes they will successfully liquidate the collateral and receive all contractual principal and interest. Non-performing assets also increased approximately $2.7 million from the migration of two legacy SBA loan relationships to impaired status during the second quarter. As a percent of total assets, non-performing assets measured 1.71% at June 30, 2018, compared to 1.15% and 2.25% at the end of the linked quarter and second quarter of 2017, respectively.

Capital Strength

The Company's capital ratios continued to exceed the highest required regulatory benchmark levels. As of June 30, 2018, total capital to risk-weighted assets was 11.87%, tier 1 capital to risk-weighted assets was 9.34%, tier 1 leverage capital to adjusted average assets was 9.25% and common equity tier 1 capital to risk-weighted assets was 8.80%. In addition, as of June 30, 2018, tangible common equity to tangible assets was 8.55%.

Quarterly Dividend

As previously announced, during the second quarter of 2018, the Company's Board of Directors declared a regular quarterly dividend of $0.14 per share. The dividend was paid on May 17, 2018 to stockholders of record at the close of business on May 7, 2018. Measured against second quarter 2018 diluted earnings per share of $0.38, the dividend represents a 36.8% payout ratio. The Board of Directors routinely considers dividend declarations as part of its normal course of business.

About First Business Financial Services, Inc.

First Business Financial Services, Inc. (NASDAQ:FBIZ) is a Wisconsin-based bank holding company focused on the unique needs of businesses, business executives and high net worth individuals. First Business offers commercial banking, specialty finance and private wealth management solutions, and because of its niche focus, is able to provide its clients with unmatched expertise, accessibility and responsiveness. For additional information, visit www.firstbusiness.com or call 608-238-8008.

This release may include forward-looking statements as defined in the Private Securities Litigation Reform Act of 1995, which reflect First Business’s current views with respect to future events and financial performance. Forward-looking statements are not based on historical information, but rather are related to future operations, strategies, financial results or other developments. Forward-looking statements are based on management’s expectations as well as certain assumptions and estimates made by, and information available to, management at the time the statements are made. Those statements are based on general assumptions and are subject to various risks, uncertainties and other factors that may cause actual results to differ materially from the views, beliefs and projections expressed in such statements. Such statements are subject to risks and uncertainties, including among other things:

  • Competitive pressures among depository and other financial institutions nationally and in our markets.
  • Adverse changes in the economy or business conditions, either nationally or in our markets.
  • Increases in defaults by borrowers and other delinquencies.
  • Our ability to manage growth effectively, including the successful expansion of our client support, administrative infrastructure and internal management systems.
  • Fluctuations in interest rates and market prices.
  • The consequences of continued bank acquisitions and mergers in our markets, resulting in fewer but much larger and financially stronger competitors.
  • Changes in legislative or regulatory requirements applicable to us and our subsidiaries.
  • Changes in tax requirements, including tax rate changes, new tax laws and revised tax law interpretations.
  • Fraud, including client and system failure or breaches of our network security, including our internet banking activities.
  • Failure to comply with the applicable SBA regulations in order to maintain the eligibility of the guaranteed portion of SBA loans.

For further information about the factors that could affect the Company’s future results, please see the Company’s annual report on Form 10-K for the year ended December 31, 2017 and other filings with the Securities and Exchange Commission.

   
CONTACT: First Business Financial Services, Inc.
  Edward G. Sloane, Jr.
  Chief Financial Officer
  608-232-5970
  esloane@firstbusiness.com
   

SELECTED FINANCIAL CONDITION DATA

   
(Unaudited) As of
(in thousands) June 30,
2018
 March 31,
2018
 December 31,
 2017
 September 30,
 2017
 June 30,
 2017
Assets          
Cash and cash equivalents $45,803  $61,322  $52,539  $73,196  $63,745 
Securities available-for-sale, at fair value 135,470  127,961  126,005  131,130  136,834 
Securities held-to-maturity, at amortized cost 40,946  41,885  37,778  38,873  37,806 
Loans held for sale 4,976  3,429  2,194    3,491 
Loans and leases receivable 1,594,953  1,563,490  1,501,595  1,466,713  1,458,175 
Allowance for loan and lease losses (20,932) (18,638) (18,763) (19,923) (21,677)
Loans and leases receivable, net 1,574,021  1,544,852  1,482,832  1,446,790  1,436,498 
Premises and equipment, net 3,358  3,247  3,156  3,048  2,930 
Foreclosed properties 1,484  1,484  1,069  2,585  2,585 
Bank-owned life insurance 40,912  40,614  40,323  39,988  39,674 
Federal Home Loan Bank stock, at cost 9,295  8,650  5,670  5,083  2,815 
Goodwill and other intangible assets 12,380  12,579  12,652  12,735  12,760 
Accrued interest receivable and other assets 31,142  32,194  29,848  32,228  29,790 
Total assets $1,899,787  $1,878,217  $1,794,066  $1,785,656  $1,768,928 
Liabilities and Stockholders’ Equity          
In-market deposits $1,056,294  $1,078,605  $1,086,346  $1,090,524  $1,120,205 
Wholesale deposits 281,431  292,553  307,985  333,200  354,393 
Total deposits 1,337,725  1,371,158  1,394,331  1,423,724  1,474,598 
Federal Home Loan Bank advances and other borrowings 365,416  308,912  207,898  167,884  106,395 
Junior subordinated notes 10,026  10,022  10,019  10,015  10,012 
Accrued interest payable and other liabilities 12,948  16,645  12,540  17,252  12,689 
Total liabilities 1,726,115  1,706,737  1,624,788  1,618,875  1,603,694 
Total stockholders’ equity 173,672  171,480  169,278  166,781  165,234 
Total liabilities and stockholders’ equity $1,899,787  $1,878,217  $1,794,066  $1,785,656  $1,768,928 
                     

STATEMENTS OF INCOME

     
(Unaudited) As of and for the Three Months Ended As of and for the Six
Months Ended
(Dollars in thousands, except per share amounts) June 30,
 2018
 March 31,
 2018
 December 31,
 2017
 September 30,
 2017
 June 30,
 2017
 June 30,
 2018
 June 30,
 2017
Total interest income $22,468  $20,722  $19,504  $18,634  $19,225  $43,189  $37,672 
Total interest expense 5,537  4,520  4,146  3,751  3,746  10,057  7,305 
Net interest income 16,931  16,202  15,358  14,883  15,479  33,132  30,367 
Provision for loan and lease losses 2,579  2,476  473  1,471  3,656  5,054  4,228 
Net interest income after provision for loan and lease losses 14,352  13,726  14,885  13,412  11,823  28,078  26,139 
Trust and investment service fees 1,987  1,898  1,739  1,653  1,648  3,884  3,277 
Gain on sale of SBA loans 274  269  90  606  535  543  895 
Service charges on deposits 720  784  727  756  766  1,504  1,531 
Loan fees 389  527  463  391  675  917  1,133 
Net (loss) gain on sale of securities     (409) 5  1    1 
Swap fees 70  633  42  418  250  703  449 
Other non-interest income 542  556  873  510  863  1,097  1,515 
Total non-interest income 3,982  4,667  3,525  4,339  4,738  8,648  8,801 
Compensation 9,116  9,071  6,953  7,645  8,382  18,187  17,065 
Occupancy 544  529  567  527  519  1,073  994 
Professional fees 928  1,035  1,017  995  1,041  1,963  2,051 
Data processing 626  611  891  592  635  1,236  1,219 
Marketing 591  333  563  594  582  925  952 
Equipment 343  343  342  285  300  686  583 
Computer software 679  742  686  715  639  1,420  1,322 
FDIC insurance 369  299  307  320  381  668  761 
Collateral liquidation costs 222  1  273  371  77  223  185 
Net gain on foreclosed properties     (143)        
Impairment of tax credit investments 329  113  2,447  112  112  442  225 
SBA recourse provision (benefit) 99  (295) 145  1,315  774  (196) 780 
Other non-interest expense 621  1,125  811  760  779  1,747  1,644 
Total non-interest expense 14,467  13,907  14,859  14,231  14,221  28,374  27,781 
Income before income tax expense (benefit) 3,867  4,486  3,551  3,520  2,340  8,352  7,159 
Income tax expense (benefit) 578  837  (486) 936  454  1,414  1,876 
Net income $3,289  $3,649  $4,037  $2,584  $1,886  $6,938  $5,283 
               
Per common share:              
Basic earnings $0.38  $0.42  $0.46  $0.30  $0.22  $0.79  $0.61 
Diluted earnings 0.38  0.42  0.46  0.30  0.22  0.79  0.61 
Dividends declared 0.14  0.14  0.13  0.13  0.13  0.28  0.26 
Book value 19.83  19.57  19.32  19.04  18.96  19.83  18.96 
Tangible book value 18.41  18.13  17.87  17.59  17.49  18.41  17.49 
Weighted-average common shares outstanding(1) 8,631,189  8,633,278  8,631,554  8,621,311  8,601,379  8,631,664  8,601,002 
Weighted-average diluted common shares outstanding(1) 8,631,189  8,633,278  8,631,554  8,621,311  8,601,379  8,631,664  8,601,002 
                      

(1) Excluding participating securities.

NET INTEREST INCOME ANALYSIS

   
(Unaudited) For the Three Months Ended
(Dollars in thousands) June 30, 2018 March 31, 2018 June 30, 2017
  Average 
Balance
 Interest Average 
Yield/
Rate(4)
 Average
Balance
 Interest Average 
Yield/
Rate(4)
 Average 
Balance
 Interest Average 
Yield/
Rate(4)
Interest-earning assets                  
Commercial real estate and other mortgage loans(1) $1,073,326  $13,264  4.94% $1,046,751  $12,341  4.72% $959,176  $10,620  4.43%
Commercial and industrial loans(1) 434,657  7,347  6.76% 439,491  6,702  6.10% 453,578  7,081  6.24%
Direct financing leases(1) 31,284  313  4.00% 29,871  303  4.06% 28,728  306  4.26%
Consumer and other loans(1) 29,914  319  4.27% 29,361  315  4.29% 28,580  277  3.88%
Total loans and leases receivable(1) 1,569,181  21,243  5.42% 1,545,474  19,661  5.09% 1,470,062  18,284  4.98%
Mortgage-related securities(2) 136,982  775  2.26% 128,061  687  2.15% 140,086  615  1.76%
Other investment securities(3) 34,391  163  1.90% 36,392  169  1.86% 37,765  161  1.70%
FHLB and FRB stock 8,392  66  3.15% 6,717  49  2.92% 4,229  24  2.26%
Short-term investments 45,473  221  1.94% 57,291  156  1.09% 49,584  141  1.14%
Total interest-earning assets 1,794,419  22,468  5.01% 1,773,935  20,722  4.67% 1,701,726  19,225  4.52%
Non-interest-earning assets 94,923      88,750      81,798     
Total assets $1,889,342      $1,862,685      $1,783,524     
Interest-bearing liabilities                  
Transaction accounts $272,840  628  0.92% $297,730  408  0.55% $231,720  288  0.50%
Money market 474,943  1,067  0.90% 514,837  851  0.66% 588,787  659  0.45%
Certificates of deposit 71,994  239  1.33% 80,904  239  1.18% 54,530  133  0.98%
Wholesale deposits 278,496  1,275  1.83% 300,855  1,332  1.77% 375,530  1,578  1.68%
Total interest-bearing deposits 1,098,273  3,209  1.17% 1,194,326  2,830  0.95% 1,250,567  2,658  0.85%
FHLB advances 322,791  1,637  2.03% 217,517  1,003  1.84% 87,386  279  1.28%
Other borrowings 24,889  414  6.65% 24,403  413  6.77% 24,494  532  8.69%
Junior subordinated notes 10,023  277  11.05% 10,020  274  10.94% 10,009  277  11.08%
Total interest-bearing liabilities 1,455,976  5,537  1.52% 1,446,266  4,520  1.25% 1,372,456  3,746  1.09%
Non-interest-bearing demand deposit accounts 240,352      228,557      229,051     
Other non-interest-bearing liabilities 19,752      23,553      14,531     
Total liabilities 1,716,080      1,698,376      1,616,038     
Stockholders’ equity 173,262      164,309      167,486     
Total liabilities and stockholders’ equity $1,889,342      $1,862,685      $1,783,524     
Net interest income   $16,931      $16,202      $15,479   
Interest rate spread     3.49%     3.42%     3.43%
Net interest-earning assets $338,443      $327,669      $329,270     
Net interest margin     3.77%     3.65%     3.64%
                      

(1) The average balances of loans and leases include non-accrual loans and leases and loans held for sale. Interest income related to non-accrual loans and leases is recognized when collected. Interest income includes net loan fees collected in lieu of interest.

(2) Includes amortized cost basis of assets available for sale and held to maturity.

(3) Yields on tax-exempt municipal obligations are not presented on a tax-equivalent basis in this table.

(4) Represents annualized yields/rates.

NET INTEREST INCOME ANALYSIS

   
(Unaudited) For the Six Months Ended
(Dollars in thousands) June 30, 2018 June 30, 2017
  Average
Balance
 Interest Average 
Yield/
Rate(4)
 Average 
Balance
 Interest Average 
Yield/
Rate(4)
Interest-earning assets            
Commercial real estate and other mortgage loans(1) $1,060,112  $25,605  4.83% $952,679  $20,939  4.40%
Commercial and industrial loans(1) 437,061  14,049  6.43% 452,570  13,675  6.04%
Direct financing leases(1) 30,582  617  4.04% 29,422  629  4.28%
Consumer and other loans(1) 29,639  633  4.27% 28,392  563  3.97%
Total loans and leases receivable(1) 1,557,394  40,904  5.25% 1,463,063  35,806  4.89%
Mortgage-related securities(2) 132,546  1,462  2.21% 142,929  1,233  1.73%
Other investment securities(3) 35,386  332  1.88% 38,157  322  1.69%
FHLB and FRB stock 7,559  114  3.02% 3,693  47  2.57%
Short-term investments 51,349  377  1.47% 50,356  264  1.05%
Total interest-earning assets 1,784,234  43,189  4.84% 1,698,198  37,672  4.44%
Non-interest-earning assets 91,853      81,031     
Total assets $1,876,087      $1,779,229     
Interest-bearing liabilities            
Transaction accounts $285,216  1,036  0.73% $212,118  520  0.49%
Money market 494,779  1,918  0.78% 607,882  1,319  0.43%
Certificates of deposit 76,424  478  1.25% 54,959  265  0.96%
Wholesale deposits 289,614  2,606  1.80% 388,031  3,227  1.66%
Total interest-bearing deposits 1,146,033  6,038  1.05% 1,262,990  5,331  0.84%
FHLB advances 270,445  2,641  1.95% 74,118  432  1.17%
Other borrowings 24,647  826  6.70% 25,204  990  7.86%
Junior subordinated notes 10,022  552  11.02% 10,007  552  11.03%
Total interest-bearing liabilities 1,451,147  10,057  1.39% 1,372,319  7,305  1.06%
Non-interest-bearing demand deposit accounts 234,487      228,536     
Other non-interest-bearing liabilities 21,643      12,886     
Total liabilities 1,707,277      1,613,741     
Stockholders’ equity 168,810      165,488     
Total liabilities and stockholders’ equity $1,876,087      $1,779,229     
Net interest income   $33,132      $30,367   
Interest rate spread     3.45%     3.37%
Net interest-earning assets $333,087      $325,879     
Net interest margin     3.71%     3.58%
               

(1) The average balances of loans and leases include non-accrual loans and leases and loans held for sale. Interest income related to non-accrual loans and leases is recognized when collected. Interest income includes net loan fees collected in lieu of interest.

(2) Includes amortized cost basis of assets available for sale and held to maturity.

(3) Yields on tax-exempt municipal obligations are not presented on a tax-equivalent basis in this table.

(4) Represents annualized yields/rates.

PERFORMANCE RATIOS

     
  For the Three Months Ended For the Six Months Ended
(Unaudited) June 30,
 2018
 March 31,
 2018
 December 31,
 2017
 September 30,
 2017
 June 30,
 2017
 June 30,
 2018
 June 30,
 2017
Return on average assets (annualized) 0.70% 0.78% 0.91% 0.58% 0.42% 0.74% 0.59%
Return on average equity (annualized) 7.59% 8.88% 9.57% 6.22% 4.50% 8.22% 6.38%
Efficiency ratio 67.07% 67.45% 63.23% 66.56% 65.39% 67.27% 68.03%
Interest rate spread 3.49% 3.42% 3.39% 3.32% 3.43% 3.45% 3.37%
Net interest margin 3.77% 3.65% 3.63% 3.52% 3.64% 3.71% 3.58%
Average interest-earning assets to average interest-bearing liabilities 123.25% 122.66% 124.66% 123.39% 123.99% 122.95% 123.75%
                      

ASSET QUALITY RATIOS

   
(Unaudited) As of
(Dollars in thousands) June 30,
 2018
 March 31,
 2018
 December 31,
 2017
 September 30,
 2017
 June 30,
 2017
Non-accrual loans and leases $31,091  $20,030  $26,389  $33,232  $37,162 
Foreclosed properties 1,484  1,484  1,069  2,585  2,585 
Total non-performing assets 32,575  21,514  27,458  35,817  39,747 
Performing troubled debt restructurings 249  261  332  275  702 
Total impaired assets $32,824  $21,775  $27,790  $36,092  $40,449 
           
Non-accrual loans and leases as a percent of total gross loans and leases 1.95% 1.28% 1.76% 2.26% 2.55%
Non-performing assets as a percent of total gross loans and leases plus foreclosed properties 2.04% 1.37% 1.83% 2.44% 2.72%
Non-performing assets as a percent of total assets 1.71% 1.15% 1.53% 2.01% 2.25%
Allowance for loan and lease losses as a percent of total gross loans and leases 1.31% 1.19% 1.25% 1.36% 1.49%
Allowance for loan and lease losses as a percent of non-accrual loans and leases 67.32% 93.05% 71.10% 59.95% 58.33%
           
Criticized assets:          
Substandard $42,477  $30,622  $32,687  $36,747  $39,011 
Doubtful     4,692  5,055  6,658 
Foreclosed properties 1,484  1,484  1,069  2,585  2,585 
Total criticized assets $43,961  $32,106  $38,448  $44,387  $48,254 
Criticized assets to total assets 2.31% 1.71% 2.14% 2.49% 2.73%
                

NET CHARGE-OFFS (RECOVERIES)

     
(Unaudited) For the Three Months Ended For the Six Months Ended
(Dollars in thousands) June 30,
 2018
 March 31,
 2018
 December 31,
 2017
 September 30,
 2017
 June 30,
 2017
 June 30,
 2018
 June 30,
 2017
Charge-offs $306  $2,685  $1,643  $3,230  $3,757  $2,990  $3,966 
Recoveries (21) (84) (11) (5) (112) (105) (503)
Net charge-offs $285  $2,601  $1,632  $3,225  $3,645  $2,885  $3,463 
Net charge-offs as a percent of average gross loans and leases (annualized) 0.07% 0.67% 0.44% 0.88% 0.99% 0.37% 0.47%
                      

CAPITAL RATIOS

   
  As of and for the Three Months Ended
(Unaudited) June 30,
 2018
 March 31,
 2018
 December 31,
 2017
 September 30,
 2017
 June 30,
 2017
Total capital to risk-weighted assets 11.87% 11.78% 11.98% 11.91% 11.91%
Tier I capital to risk-weighted assets 9.34% 9.33% 9.45% 9.43% 9.33%
Common equity tier I capital to risk-weighted assets 8.80% 8.79% 8.89% 8.86% 8.77%
Tier I capital to adjusted assets 9.25% 9.26% 9.54% 9.39% 9.28%
Tangible common equity to tangible assets 8.55% 8.52% 8.79% 8.69% 8.68%
                

LOAN AND LEASE RECEIVABLE COMPOSITION

   
(Unaudited) As of
(in thousands) June 30,
 2018
 March 31,
 2018
 December 31,
 2017
 September 30,
 2017
 June 30,
 2017
Commercial real estate:          
Commercial real estate - owner occupied $196,032  $197,268  $200,387  $182,755  $183,161 
Commercial real estate - non-owner occupied 485,962  484,151  470,236  461,586  468,778 
Land development 45,033  46,379  40,154  41,499  46,500 
Construction 188,036  156,020  125,157  115,660  104,515 
Multi-family 137,388  136,098  136,978  125,080  124,488 
1-4 family 35,569  41,866  44,976  40,173  38,922 
Total commercial real estate 1,088,020  1,061,782  1,017,888  966,753  966,364 
Commercial and industrial 447,540  443,005  429,002  447,223  437,955 
Direct financing leases, net 32,001  31,387  30,787  28,868  29,216 
Consumer and other:          
Home equity and second mortgages 7,962  8,270  7,262  7,776  7,973 
Other 21,075  20,717  18,099  17,447  17,976 
Total consumer and other 29,037  28,987  25,361  25,223  25,949 
Total gross loans and leases receivable 1,596,598  1,565,161  1,503,038  1,468,067  1,459,484 
Less:          
Allowance for loan and lease losses 20,932  18,638  18,763  19,923  21,677 
Deferred loan fees 1,645  1,671  1,443  1,354  1,309 
Loans and leases receivable, net $1,574,021  $1,544,852  $1,482,832  $1,446,790  $1,436,498 
                     

DEPOSIT COMPOSITION

   
(Unaudited) As of
(in thousands) June 30,
 2018
 March 31,
 2018
 December 31,
 2017
 September 30,
 2017
 June 30,
 2017
Non-interest-bearing transaction accounts $255,521  $240,422  $277,445  $253,320  $241,577 
Interest-bearing transaction accounts 272,057  262,766  217,625  251,355  231,074 
Money market accounts 450,654  498,310  515,077  527,705  593,487 
Certificates of deposit 78,062  77,107  76,199  58,144  54,067 
Wholesale deposits 281,431  292,553  307,985  333,200  354,393 
Total deposits $1,337,725  $1,371,158  $1,394,331  $1,423,724  $1,474,598 
                     

TRUST ASSETS COMPOSITION

   
(Unaudited) As of
(in thousands) June 30,
 2018
 March 31,
 2018
 December 31,
 2017
 September 30,
 2017
 June 30,
 2017
Trust assets under management $1,465,101  $1,393,654  $1,350,025  $1,240,014  $1,164,433 
Trust assets under administration 180,320  185,463  186,383  176,472  173,931 
Total trust assets $1,645,421  $1,579,117  $1,536,408  $1,416,486  $1,338,364 
                     

NON-GAAP RECONCILIATIONS

Certain financial information provided in this release is determined by methods other than in accordance with generally accepted accounting principles (United States) (“GAAP”). Although the Company’s management believes that these non-GAAP financial measures provide a greater understanding of its business, these measures are not necessarily comparable to similar measures that may be presented by other companies.

TANGIBLE BOOK VALUE

“Tangible book value per share” is a non-GAAP measure representing tangible common equity divided by total common shares outstanding. “Tangible common equity” itself is a non-GAAP measure representing common stockholders’ equity reduced by intangible assets, if any. The Company’s management believes that this measure is important to many investors in the marketplace who are interested in period-to-period changes in book value per common share exclusive of changes in intangible assets. The information provided below reconciles tangible book value per share and tangible common equity to their most comparable GAAP measures.

   
(Unaudited) As of
(Dollars in thousands, except per share amounts) June 30,
 2018
 March 31,
 2018
 December 31,
 2017
 September 30,
 2017
 June 30,
 2017
Common stockholders’ equity $173,672  $171,480  $169,278  $166,781  $165,234 
Goodwill and other intangible assets (12,380) (12,579) (12,652) (12,735) (12,760)
Tangible common equity $161,292  $158,901  $156,626  $154,046  $152,474 
Common shares outstanding 8,760,103  8,764,420  8,763,539  8,758,923  8,716,018 
Book value per share $19.83  $19.57  $19.32  $19.04  $18.96 
Tangible book value per share 18.41  18.13  17.87  17.59  17.49 
                

TANGIBLE COMMON EQUITY TO TANGIBLE ASSETS

‘‘Tangible common equity to tangible assets’’ is defined as the ratio of common stockholders’ equity reduced by intangible assets, if any, divided by total assets reduced by intangible assets, if any. The Company’s management believes that this measure is important to many investors in the marketplace who are interested in the relative changes from period to period in common equity and total assets, each exclusive of changes in intangible assets. The information below reconciles tangible common equity and tangible assets to their most comparable GAAP measures.

   
(Unaudited) As of
(Dollars in thousands) June 30,
 2018
 March 31,
 2018
 December 31,
 2017
 September 30,
 2017
 June 30,
 2017
Common stockholders’ equity $173,672  $171,480  $169,278  $166,781  $165,234 
Goodwill and other intangible assets (12,380) (12,579) (12,652) (12,735) (12,760)
Tangible common equity $161,292  $158,901  $156,626  $154,046  $152,474 
Total assets $1,899,787  $1,878,217  $1,794,066  $1,785,656  $1,768,928 
Goodwill and other intangible assets (12,380) (12,579) (12,652) (12,735) (12,760)
Tangible assets $1,887,407  $1,865,638  $1,781,414  $1,772,921  $1,756,168 
Tangible common equity to tangible assets 8.55% 8.52% 8.79% 8.69% 8.68%
                

EFFICIENCY RATIO

“Efficiency ratio” is a non-GAAP measure representing non-interest expense excluding the effects of the SBA recourse provision, impairment of tax credit investments, losses or gains on foreclosed properties, amortization of other intangible assets and other discrete items, if any, divided by operating revenue, which is equal to net interest income plus non-interest income less realized gains or losses on securities, if any. In the judgment of the Company’s management, the adjustments made to non-interest expense and operating revenue allow investors and analysts to better assess the Company’s operating expenses in relation to its core operating revenue by removing the volatility that is associated with certain one-time items and other discrete items. The information provided below reconciles the efficiency ratio to its most comparable GAAP measure. 

     
(Unaudited) For the Three Months Ended For the Sixth Months Ended
(Dollars in thousands) June 30,
 2018
 March 31,
 2018
 December 31,
 2017
 September 30,
 2017
 June 30,
 2017
 June 30,
 2018
 June 30,
 2017
Total non-interest expense $14,467  $13,907  $14,859  $14,231  $14,221  $28,374  $27,781 
Less:              
Net gain on foreclosed properties     (143)        
Amortization of other intangible assets 12  12  13  14  14  24  28 
SBA recourse provision (benefit) 99  (295) 145  1,315  774  (196) 780 
Impairment of tax credit investments 329  113  2,447  112  112  442  225 
Deconversion fees     199    101    101 
Total operating expense $14,027  $14,077  $12,198  $12,790  $13,220  $28,104  $26,647 
Net interest income $16,931  $16,202  $15,358  $14,883  $15,479  $33,132  $30,367 
Total non-interest income 3,982  4,667  3,525  4,339  4,738  8,648  8,801 
Less:              
Net (loss) gain on sale of securities     (409) 5  1    1 
Total operating revenue $20,913  $20,869  $19,292  $19,217  $20,216  $41,780  $39,167 
Efficiency ratio 67.07% 67.45% 63.23% 66.56% 65.39% 67.27% 68.03%

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Source: First Business Financial Services, Inc.