Farmers National Banc Corp: Growth And Yield (NASDAQ:FMNB)

One sector that has been surprisingly crushed is the financials. Rates are on the rise as we all know, and that is good for banks. But during this transitional period, there have been concerns about the rate spreads between what the bank pays on deposits vs. lends out. There are also concerns with a stretched consumer, and small businesses being under pressure from rising labor costs, supply costs, and, most importantly, inflation. As time moves on, however, these higher rates are a big windfall for the banks. We think you can start to buy some of these beaten-down names. Specifically, there are opportunities in the regional banks. Farmers National Banc Corp. (NASDAQ:FMNB) stock is one that we like in the mid-teens. Trading at $14.79, we think it is a good buy at these levels. We want to own quality regional banks as interest rates are rising, and profit from the big increase in net interest income that will be realized in future quarters. As rates rise, the bank will have more earnings power potential. Essentially, the spread on money it lends its customers relative to what it pays out on interest on deposits will widen, feeding the bottom line ultimately. While there have been concerns on the economic front that have hurt lending short term, we believe the regional banks will be winner. We like this bank and its operations are happy with recent decisions for growth. A recent merger with Cortland Bancorp in a $124 million acquisition deal brought four dozen branches throughout Ohio and western Pennsylvania under Farmers’ umbrella. We think that you want to own shares that now yield 4.2% and wait for the turnaround. In this article, we discuss just reported performance and why we like the bank.

Recent performance strong

In the recently reported first quarter, the bank saw increased deposits through a flat loan portfolio. Still, the earnings power of the bank is impressive. Revenues jumped in Q1, with Farmers National bringing in $49.8 million. These revenues of $49.8 million were 28.9% increase year-over-year. This was mostly due to the acquisition of Cortland Bancorp. Now, one issue that had impacted many small regional banks had been high loan loss provisions last year with the COVID crisis. This year, loan loss provisions swung to a credit of $358,000. In 2020 and in early 2021, there were sizable loss provisions. This was a major benefit combined with the growth in revenues. Farmers National saw its net income actually widen hitting $17.2 million or $0.51 per share on an adjusted basis compared to $14.6 million or $0.51 per share in the same quarter of 2021. This was well above consensus expectations, beating them by $0.05. It was a strong quarter, even with some rate shock impacting demand somewhat for loans.

Movement in deposits and loans

Farmers National continues to massively grow its deposits. Having more deposits helps fund more loans. This is especially true long term when the spread eventually widens on what the bank pays interest on for deposits vs. what it collects on loan fees and interests. As rates increase, they can make better-termed loans. That said, deposits increased 3.9% to $3.69 billion from $3.55 billion to start the year.

Over on the loan front, much like deposits, the acquisition of Cortland made these amounts jump vs. a year ago, so we are comparing to the sequential quarter. Loans fell ever so slightly from the start of the year. Gross loans were $2.30 billion at the end of the quarter vs. $2.33 billion to start the quarter, minimally.

Digging into the numbers, we find that there was a loss of some commercial loan originators, which weighed on the results in Q1. However, in the release, we learned that “loan the pipelines are solid as the Company enters the second quarter and the Company expects to hit mid-single digit loan growth for fiscal year 2022”.

Asset quality

Although loans declined a bit, we like to have a sense of asset quality. In short, we need to ensure the bank is not sitting on assets that are simply not performing. We see that the ratio of the non-performing loans to total loans declined to 0.61% to end the quarter compared to 0.69% at the start. That is a win. Further, there are improvements in delinquencies despite the pain that was felt in Q1 with rates and inflation. Delinquencies (30-89 days late) were $7.3 million, or 0.32% of total loans at quarter end. This compares to $8.9 million, or 0.38% of total loans to start the year. Further, the allowance for credit losses was 1.17% of all loans to end the quarter, down from 1.26% at the start. We like what we are seeing, including efficiency metrics.

Efficiency is key

Farmers National is still a pretty highly efficient bank. When we look at banks at the regional level, we like to target a textbook 50% efficiency ratio as being very strong, or highly efficient. Well, the efficiency ratio was 48.2% compared to 47.4% in the sequential quarter, excluding one-time items. This is still a very strong result, despite the slight dip.

Further, both the return on average assets and equity improved markedly. The return on average assets improved to 1.52% vs. 0.58% in the sequential quarter. This is a sizable improvement. The return on average equity is also trending higher, and we see it remaining high as we move forward as rates have stabilized, and it came in at 13.9% vs 5.2% in Q4.

Valuation is still attractive

You should consider buying bank stocks when they are near (or even below) book value. The bank’s stock is $14.79, falling in recent weeks. That said, these share prices are now above book value. Book value per share was $11.58 to end the quarter and fell from Q4. Still, the premium is not too expensive here. Tangible book was even lower at $8.58. We think shares would be much more attractive at $13, based on these valuation metrics; however, they are still attractive given the improved outlook for the future in our opinion.

A nice dividend

The bank also pays a dividend and is currently yielding 4.2%. The dividend paid is $0.16 quarterly and is in no danger of being cut based on the payout ratio being some 30%. Things look good.

CEO commentary and another acquisition

The bank is also acquiring Emclaire Financial Corp. (EMCF), which will add more assets to the balance sheet. This is a positive, and the bank continues to grow. Kevin J. Helmick, President and CEO, commented in the release:

We produced outstanding results again in the first quarter amidst an increasingly volatile economic landscape. Our loan pipelines are very strong as we enter the second quarter and, as always, we will continue to look for opportunities to effectively manage our balance sheet and expense levels while looking to expand our fee based businesses. Our recently announced acquisition of Emclaire Financial Corp. opens up growth opportunities in Pennsylvania, including the attractive Pittsburgh markets, and we look forward to welcoming Emclaire’s team into the Farmers family. We also demonstrated our continued commitment to the communities in which we serve with a significant contribution to the Farmers Charitable Foundation which was established several years ago. We are extremely proud of the work that is done through the foundation.”

The latest acquisition highlights Farmers’ expansion into Pennsylvania including getting into the very busy Pittsburgh market. Emclaire operates 19 branches in ten counties throughout western Pennsylvania and had total assets of $1.1 billion in Q1.

Final thoughts

The bank is improving and rates rising will immediately fuel the bottom line. Further, there will be growth through more acquisitions. The dividend is solid and large. Asset quality has improved dramatically, and we expect shares to rally as interest rates rally into 2022.