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| CRFN > SEC Filings for CRFN > Form 10-Q on 14-Aug-2009 | All Recent SEC Filings |
14-Aug-2009
Quarterly Report
Management's discussion and analysis is intended to assist readers in the understanding and evaluation of the financial condition and consolidated results of operations of Crescent Financial Corporation (the "Company"). The analysis includes detailed discussions for each of the factors affecting Crescent Financial Corporation's operating results and financial condition for the periods ended June 30, 2009 and 2008. It should be read in conjunction with the unaudited consolidated financial statements and accompanying notes included in this report and the supplemental financial data appearing throughout this discussion and analysis. Because the Company has no operations and conducts no business on its own other than owning Crescent State Bank, the discussion contained in this Management's Discussion and Analysis concerns primarily the business of the Bank. However, for ease of reading and because the financial statements are presented on a consolidated basis, the Company and the Bank are collectively referred to herein as the Company unless otherwise noted. All significant intercompany transactions and balances are eliminated in consolidation.
Total assets increased by $105.0 million to $1.1 billion at June 30, 2009 from $968.3 million at December 31, 2008. Earning assets are $999.3 million or 93% of total assets compared to $898.7 million or 92% at December 31, 2008. Components of earning assets at June 30, 2009 are $775.3 million in gross loans, $205.5 million in investment securities and Federal Home Loan Bank (FHLB) stock and $18.5 in overnight investments and interest-earning deposits with correspondent banks. Earning assets at December 31, 2008 consisted of $785.4 million in gross loans, $112.9 million in investment securities and FHLB stock and $366,000 in overnight investments and interest-earning deposits. Total deposits and stockholders' equity at June 30, 2009 were $706.7 million and $121.2 million, respectively, compared to $714.9 million and $95.1 million at December 31, 2008.
Gross loans outstanding declined by $10.1 million over the first six months of 2009. In conjunction with a core data processing conversion occurring in early March, the Company reclassified certain loans within the portfolio so that reporting is more consistent with the collateral of a particular loan rather than the purpose. For instance, loans secured by homes purchased as investment property were previously reported as commercial real estate whereas they are now reported as residential real estate mortgages. Loans secured by commercial building lots were previously reported as commercial real estate and are now reported as construction and land development. As a result, the comparison of the loan compositions at June 30, 2009 and December 31, 2008 can be misleading. Reclassifications of loan types through the conversion process resulted in $164.6 million of commercial real estate loans and $2.1 million consumer loans being shifted to $81.8 million of construction and land development, $70.7 million residential mortgages, $9.3 million home equity loans and $4.9 million commercial and industrial. When considering these reclassifications, the net growth in the portfolio for the first half of 2009 by category was as follows: increases in commercial real estate, residential mortgage and consumer loans of $8.2 million, $5.9 million and $1.3 million, respectively, and decreases in construction and land development, home equity loans and lines and commercial and industrial loans of $21.9 million, $2.7 million and $0.9 million, respectively. The composition of the loan portfolio, by category, as of June 30, 2009 is 40% commercial mortgage loans, 28% construction loans, 12% residential mortgage loans. 10% commercial loans, 8% home equity loans and lines, and 1% consumer loans. The composition of the loan portfolio, by category, as of December 31, 2008 and before conversion was 60% commercial mortgage loans, 20% construction loans, 10% commercial loans, 7% home equity loans and lines, 2% residential real estate mortgage loans and 1% consumer loans.
The Company had an allowance for loan losses at June 30, 2009 of $13.1 million or 1.70% of outstanding loans compared to $12.6 million or 1.60% at December 31, 2008. At June 30, 2009, there were eighty-three loans totaling $13.3 million in non-accrual status. Thirty-one loans totaling $4.3 million represent one borrowing relationship. Of the $13.3 million in non-accrual loans, $4.9 million are one-to-four family residential related including mortgages, home equity loans and lines or construction loans. There were no loans past due 90 days or more still accruing interest at June 30, 2009. Non-performing loans as a percentage of total loans at June 30, 2009 were 1.72%. At December 31, 2008, there were fifty loans totaling approximately $13.1 million in non-accrual status. Thirty-five of those loans totaling approximately $5.7 million represent one borrowing relationship. Of the remaining $7.4 million, an additional $4.5 million of loans were to land developers or residential builders. The remaining $2.9 million of non-accrual loans were spread between commercial loans and residential investment properties. The percentage of non-performing loans to total loans at December 31, 2008 was 1.67%. For a more detailed discussion, see the section entitled Non-Performing Assets.
The Company has investment securities with an amortized cost of $191.9 million at June 30, 2009. All investments are accounted for as available for sale and are presented at their fair market value of $193.8 million compared with $105.6 million at year-end 2008. The Company's investment securities at June 30, 2009, consist of U.S. Government agency securities, collateralized mortgage obligations, mortgage-backed securities, municipal bonds and marketable equity securities. The increase during the first half of 2009 was the net result of $107.4 million in new purchases, a $797,000 increase in the fair value of the portfolio, less $19.6 million in principal re-payments and called principal and $457,000 in net amortization of premiums. The Company implemented a leverage strategy to offset the impact on earnings per share anticipated as a result of having to pay dividends on the investment made by the US Treasury pursuant to the Capital Purchase Plan (CPP). While the funds received through the CPP has been allocated for the purpose of making loans to purchasers of completed properties held in inventory by residential construction customers, an amount equal to the CPP funds was leveraged four times and used to purchase investment securities. The additional spread earned on the strategy will offset reduction in earnings per share for common shareholders due to payment of the preferred dividend.
The Company owns $11.8 million of Federal Home Loan Bank stock at June 30, 2009 compared to $7.3 million at December 31, 2008. The increase was required due to the increased level of borrowing necessitated by the leverage strategy discussed above.
There were $15.3 million in Federal funds sold at June 30, 2009 compared to $99,000 at December 31, 2008. The increase in Fed funds sold reflects on-balance sheet liquidity used to fund loans, redeem maturing deposits and borrowings and for deposit fluctuations of non-maturing deposit types.
Interest-earning deposits held at correspondent banks increased by approximately $2.9 million from $267,000 at December 31, 2008 to $3.2 million at June 30, 2009. Interest-earning funds held at correspondent bank accounts are used primarily for the purchase of new investment securities and for other liquidity purposes.
Non-earning and other assets increased by approximately $4.9 million between December 31, 2008 and June 30, 2009. Bank premises and equipment had a net increase of $1.2 million as the Company completed building construction and finished the build-out on two branches opened during the second quarter. Interest receivable on loans, securities and other interest-earning assets increased by $1.0 million to $4.3 million. Non-interest bearing cash due from banks, the majority of which represents checks in the process of being collected through the Federal Reserve payment system, increased by $477,000. For more details regarding the increase in cash and cash equivalents, see the Consolidated Statement of Cash Flows. There was a net increase in other real estate owned of $2.7 million which was comprised of new foreclosed property of $5.5 million, proceeds from the sale of properties of $2.8 million and losses recognized on the disposals of $40,000. The Company wrote-off a non-marketable equity investment of $407,000 during the six month period ended June 30, 2009.
Total deposits decreased by $8.2 million between December 31, 2008 and June 30, 2009 from $714.9 million to $706.7 million. The Company has been focusing its efforts on improving core deposit volumes and introduced a new interest-bearing checking account that rewards depositors with a higher rate of interest if they modify their account activity behavior to include more electronic methods of transactions and statement receipt. As a result, interest-bearing checking balances have increased by $20.0 million between December 31, 2008 and June 30, 2009. The new account product has resulted in some disintermediation between product types and therefore savings balances have declined by $683,000. Money market account balances have declined by $13.9 million; however, the Company lost one account in the amount of $14.0 million in January and an escrow account in the amount of $10.1 million for a denovo financial institution in April. Time deposit account balances have declined by $17.0 million over the first six months of 2009, reflecting a decrease in brokered time deposits of $32.0 million, which was partially offset by an increase of $15.0 million in other time deposits. The renewed focus on relationships, core deposit generation and a more conservative growth strategy has resulted in reduced dependence on brokered money.
The composition of the deposit base, by category, at June 30, 2009 is as follows: 63% time deposits, 10% money market, 10% non-interest-bearing demand deposits, 9% interest-bearing demand deposits and 8% statement savings accounts. The composition of the deposit base, by category, at December 31, 2008 was 65% time deposits, 12% money market, 9% non-interest-bearing demand deposits, 8% in statement savings and 6% in interest-bearing demand deposits. Time deposits of $100,000 or more totaled $350.9 million at June 30, 2009 compared to $359.3 million at December 31, 2008. The Company uses brokered certificates of deposit as an alternative funding source. Brokered deposits represent a source of fixed rate funds priced competitively with FHLB borrowings, but do not require collateralization like FHLB borrowings. Brokered deposits were $224.1 million at June 30, 2009 compared with $256.1 million at December 31, 2008.
The Company had total borrowings of $241.7 million at June 30, 2009 compared with $154.5 million at December 31, 2008. The composition of borrowings at June 30, 2009 is $98.0 million in long-term advances and $53.0 million in short-term advances from the Federal Home Loan Bank of Atlanta (FHLB), $75.0 million in Federal Reserve Bank discount window funds, $8.2 million in junior subordinated debt issued to an unconsolidated subsidiary and $7.5 million in a subordinated term loan issued to a non-affiliated financial institution. Borrowings at December 31, 2008 included $99.0 million in long-term FHLB advances, $29.0 million in short-term FHLB advances, $8.2 million in junior subordinated debt, $7.5 million in a subordinated term loan, $2.0 million outstanding on a holding company line of credit and $8.7 million in federal funds purchased. Of the $99.0 million increase in total borrowings, $75.0 million in short-term advances were attributable to the leverage strategy previously discussed.
Accrued interest payable and other liabilities decreased by $203,000 and were $3.7 million and $3.9 million at June 30, 2009 and December 31, 2008, respectively.
Between December 31, 2008 and June 30, 2009, total stockholders' equity increased by $26.1 million. On January 9, 2009, the Company issued $24.9 million in Fixed Rate Cumulative Perpetual Preferred Stock, Series A under the US Treasury's Capital Purchase Program. In addition, the Company issued a warrant to purchase 833,705 shares of the Company's common stock at an exercise price of $4.48 per share. The warrant is immediately exercisable and expires ten years from the date of issuance. The preferred stock is non-voting, other than having class voting rights on certain matters, and pays cumulative dividends quarterly at a rate of 5% per annum for the first five years and 9% thereafter. The preferred shares are redeemable at the option of the Company subject to regulatory approval.
Net Income. Net income for the three-month period ended June 30, 2009, before adjusting for the effective dividend on preferred stock, was $574,000 compared to $1.0 million for the prior year three-month period ended June 30, 2008. After adjusting for $422,000 in dividends and discount accretion on preferred stock, net income available for common shareholders for the current period was $152,000 or $0.02 per diluted share compared with $0.11 per diluted share for the quarter ended June 30, 2008. Annualized return on average assets declined to 0.21% from 0.46% for the prior period. Earnings in the current period were impacted by net interest margin compression resulting from the lower interest rate environment, higher loan loss provisions in response to current economic conditions and an increase in non-interest operating expenses. Return on average equity for the current period was 1.89% compared to 4.37% for the prior period. The decline in return on average equity is due to the lower level of earnings combined with higher capital from the issuance of the preferred stock.
Net Interest Income. Net interest income increased by 16% or $977,000 from $6.3 million for the prior three-month period to $7.3 million for the three-month period ended June 30, 2009. The additional interest income generated by a higher volume of earning assets more than offset the impact of declining interest rates. Total interest expense from deposits and other borrowings was slightly lower due to a continuing decline in cost of funds despite a sharp increase in volume to fund earning assets. Despite the improvement, the Company's net interest margin decreased from 3.05% to 2.92% due to a greater percentage of earning assets coming from lower yielding investment securities and other interest-earning categories.
Total interest income increased by 7% or $907,000 to $14.1 million for the current three-month period compared to $13.2 million for the prior year period. The net improvement resulted from a $2.1 million increase due to growth in earning assets and a $1.2 million decrease due to lower yields realized on those assets. Total interest expense for the current period declined by $70,000 from $6.9 million to $6.8 million. The decrease was the net result of a $1.1 million decline due to the lower cost of funding and a $1.0 million increase due to growth in interest-bearing funds.
Total average earning assets increased $168.8 million or 20% from an average of $830.1 million to an average of $998.9 million for the current three-month period. The average balance of loans outstanding increased by 8% or $58.9 million from $724.0 million to $782.9 million. The average balance of the investment securities portfolio for the three-month period ended June 30, 2009 was $208.0 million, increasing by $104.8 million or 102% compared to an average of $103.2 million at June 30, 2008. During the first quarter of 2009, the Company implemented the leverage strategy previously discussed to offset the impact on earnings available to common shareholders from paying the effective dividend on the preferred stock. As a result, the percentage of loans to average earning assets for the current period declined by 9 basis points to 78% compared to 87% for the prior period. The average balance of federal funds sold and other earning assets increased to $8.0 million for the current three-month period compared to $2.9 million for the prior period.
Average interest-bearing liabilities increased by $147.9 million or 20% from $734.2 million for the quarter ended June 30, 2008 to $882.1 million for the current quarter. Total interest-bearing deposits increased by $47.1 million or 8% from $594.3 million to $641.4 million. Time deposits experienced the largest increase averaging $455.2 million during the current year period compared to $394.0 million for the prior period. Total borrowings increased by 72% or $100.8 million from $139.8 million to $240.7 million. A significant portion of the increase resulted from the leverage strategy and rates on FHLB advances have been attractive in comparison to alternative forms of funding.
Net interest margin is interest income earned on loans, securities and other earning assets, less interest expense paid on deposits and borrowings, expressed as a percentage of total average earning assets. The net interest margin for the three-month period ended June 30, 2009 was 2.92% compared to 3.05% for the three-month period ended June 30, 2008. The average yield on earning assets for the current three-month period decreased 72 basis points to 5.66% compared with 6.68% for the prior year period, while the average cost of interest-bearing funds decreased by 67 basis points to 3.10% from 3.77%. The interest rate spread, which is the difference between the average yield on earning assets and the cost of interest-bearing funds, decreased by 5 basis points from 2.61% to 2.56%. The percentage of interest earning assets to average interest-bearing liabilities increased from 113.06% for the prior year period to 113.24% for the three months ended June 30, 2009. An increase in the ratio of average earning assets to average interest-bearing liabilities indicates a decreased dependency on interest-bearing forms of funding to meet the demand of earning asset growth. The Company issued the preferred stock to the US Treasury which reduced the dependency on interest-bearing liabilities.
In the short period of time between mid September 2007 and April 30, 2008, the Federal Reserve (the "Fed") cut short-term interest rates seven times for a total of 325 basis points. After a waiting a period to determine the impact of those decreases, the Fed resumed the cuts by lowering short-term rates another 175 basis points between October 2008 and December 2008. The interest rate cuts were in response to weakness being experienced in the US economy.
Approximately 46% of the Company's loan portfolio has variable rate pricing based on the Prime lending rate or LIBOR (London Inter Bank Offering Rate). The percentage of variable rate to total loans has declined from 51% at June 30, 2008. As short-term rates have declined, variable rate loans repriced downward and new loans were made at the lower interest rate levels. The Company has shifted its strategic focus from a growth orientation to a more performance-related, relationship orientation. The Company is being more disciplined with loan pricing and implementing interest rate floors on variable rate loans when feasible. As a result, the loan portfolio will not experience the same growth rates as has been seen to in recent years, but should provide better yields. This should also ease reliance on wholesale forms of funding. While there is an attempt to focus on local market relationships, wholesale forms of funding will continue to make more sense from an economic standpoint at certain times.
The Company expects that net interest margin will expand in the coming months as approximately 62% of the time deposit portfolio carrying a weighted average rate of 3.80% matures in the next year and is subject to being renewed at lower rates. The Company entered into interest rate swap agreements on $7.5 million subordinated loan agreement and $8.0 million trust preferred securities. These two borrowings carry variable rates of interest based on three-month LIBOR. We have swapped these variable cash flows for fixed rate cash flows for an average period of three and a half years. In addition to adopting a funding strategy that pushes funding maturities further out into the future, these swaps will further protect the Company when rates do begin to rise.
Provision for Loan Losses. The Company's provision for loan losses for the three-month period ended June 30, 2009 was $1.1 million compared to $459,000 for the same period in 2008. Provision for loan losses is charged to income to bring the allowance for loan losses to a level deemed appropriate by management based on factors discussed under "Analysis of Allowance for Loan Losses." The increase in the loan loss provision is primarily due to continuing credit quality issues resulting from the current economic conditions. The allowance for loan losses was $13.1 million at June 30, 2009, representing 1.70% of total outstanding loans. See the sections on Nonperforming Assets and Analysis of Allowance for Loan Losses for additional details.
Non-Interest Income. For the three-month period ended June 30, 2009, non-interest income decreased by $129,000 to $752,000 compared to $881,000 for the same period in 2008. The primary reason for the decline was a $219,000 write-down of a non-marketable equity security where the impairment was deemed to be other-than-temporary. The following categories experienced increases over the prior period: earnings on cash value of bank owned life insurance, 58% or $84,000; mortgage loan origination fees, 43% or $65,000; and fees on deposit accounts, 4% or $14,000. The increase in mortgage loan origination fee income is attributable to increasing the number of loan officers over the past twelve months and the increase in bank owned life insurance cash value is attributable to exchanging several older policies into higher yielding products. During the second quarter of 2008, there were $45,000 of miscellaneous non-recurring fees included in other non-interest income and the Company recorded a $15,000 gain on the disposition of available for sale securities. We reclassified $64,000 of net losses on the sale of other real estate owned for the three month period ended June 30, 2008 to other loan collection expenses.
Non-Interest Expenses. For the current three-month period, non-interest expenses increased by $1.1 million or 22% from $5.1 million to $6.3 million. The categories experiencing the greatest increases were personnel, occupancy and FDIC deposit insurance premium expense. FDIC deposit insurance premiums increased by 700% or $676,000. The increase reflects higher insurance rates on deposits as well as the estimated special assessment of $493,000. Total occupancy expenses have increased by 38% or $248,000 to $904,000 from $656,000. The Company opened two new facilities during the second quarter of 2009, one of which serves as our main location in the City of Raleigh, North Carolina and houses a branch, the Raleigh Commercial Lending team, our mortgage and investment divisions as well as human resource staff. Despite opening two new offices during the quarter and hiring additional support staff, total personnel expenses have increased by a modest 3% or $100,000 to $3.0 million for the quarter ended June 30, 2009. During the three-month period ended June 30, 2008, the Company received a reimbursement for previously incurred expenses causing non-interest expenses to be $65,000 lower than normal. As previously mentioned, $64,000 in losses on the sale of other real estate was reclassified from non-interest income to non-interest expense for the three month period ended June 30, 2008.
Provision for Income Taxes. The Company recorded income tax expense of $20,000 for the three-months ended June 30, 2009 compared with $526,000 for the prior year period. The effective tax rate for the three-month period ended June 30, 2009 was 3.3% compared with 33.8% for the prior year period. The significant decrease in the effective tax rate is attributable to lower pre-tax income and a larger percentage of income coming from tax exempt sources in the current quarter.
Net Income. Net income for the six-month period ended June 30, 2009, before adjusting for the effective dividend on preferred stock, was $1.2 million compared to $2.0 million for the six-month period ended June 30, 2008. After adjusting for $590,000 in dividends and discount accretion on preferred stock, net income available for common shareholders for the current period was $595,000 or $0.06 per diluted share compared with $0.21 per diluted share for the quarter ended June 30, 2008. Annualized return on average assets declined to 0.22% from 0.46% for the prior period. Earnings in the current period were negatively impacted by a declining net interest margin, higher loan loss provisions due to an increase in credit quality issues and an increase in non-interest operating expenses. Return on average equity for the current period was 1.98% compared to 4.35% for the prior period. The decline in return on average equity is due to the lower level of earnings combined with higher capital from the issuance of the preferred stock.
Net Interest Income. Net interest income increased by 13% or $1.7 million to $14.5 million for the current period compared to $12.8 million for the prior six-month period. Increased interest income from strong growth in earning assets was only partially offset by the impact of the lower interest rate environment and the increased volume of high cost deposits to fund the asset growth.
Total interest income was $28.2 million for the current six-month period compared to $26.9 million for the prior year period, an increase of $1.3 million or 5%. The increase was comprised of a $4.6 million increase due to growth in average earning assets and a $3.3 million decrease due to the lower average yield earned on those assets. Total interest expense declined by $421,000 or 3% from $14.1 million for the prior year period to $13.7 million for the current period. The decrease was the net result of a $2.9 million decrease due to the lower interest rate environment partially offset by a $2.5 million increase due to growth in interest-bearing liabilities.
Total average earning assets increased $176.3 million or 22% from an average of $816.0 million as of June 30, 2008 to an average of $992.4 million as of June 30, 2009. The average balance of loans outstanding during the current six-month period was $785.8 million reflecting a $75.4 million or 11% increase over the $710.4 million for the prior year period. The average balance of the investment securities portfolio for the current period was $200.0 million, increasing by $98.5 million or 97% compared to an average of $101.5 million at June 30, 2007. The average balance of federal funds sold and other earning assets increased to $6.5 million for the six-month period ended June 30, 2009 compared to $4.2 million for the prior period.
Total average interest-bearing liabilities increased by $159.2 million or 22% from an average of $717.9 million for the prior period to $877.1 million for the current period. Average interest-bearing deposits increased by $62.2 million or 11% growing from an average of $580.8 million at June 30, 2008 to $643.0 million . . .
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