First Business Reports Fourth Quarter 2017 Financial Results

MADISON, Wis., Jan. 25, 2018 (GLOBE NEWSWIRE) -- First Business Financial Services, Inc. (the “Company” or “First Business”) (NASDAQ:FBIZ) reported fourth quarter 2017 results highlighted by markedly improved credit metrics, stable net interest margin and solid loan growth. Loan loss provision declined by $1.0 million, or 67.8%, from the linked quarter, marking the lowest level of provision in nine quarters.

Summary results for the quarter ended December 31, 2017 include:

  • Net income totaled $4.0 million, compared to $2.6 million in the linked quarter and $4.0 million in the fourth quarter of 2016. Net income reflected $629,000 in a one-time tax expense related to the enactment of the Tax Cuts and Jobs Act (the “Act”) during the fourth quarter of 2017.
  • During the fourth quarter of 2017, the Company recognized a $3.0 million federal historic tax credit that resulted in a net benefit totaling $674,000, or $0.08 per share, after consideration of the $2.3 million impairment of the underlying tax credit investment.
  • Diluted earnings per common share measured $0.46, compared to $0.30 and $0.46 for the linked and prior year quarters, respectively.
  • Annualized return on average assets and annualized return on average equity measured 0.91% and 9.57%, respectively, for the fourth quarter of 2017, compared to 0.58% and 6.22% for the linked quarter and 0.89% and 9.82% for the fourth quarter of 2016.
  • Net interest margin was 3.63%, compared to 3.52% in the linked quarter and 3.91% for the fourth quarter of 2016.
  • Trust and investment services fee income totaled a record $1.7 million, growing 5.2% from the linked quarter and 26.5% from the fourth quarter of 2016.
  • Provision for loan and lease losses decreased to $473,000, compared to $1.5 million for the linked quarter and $1.0 million for the fourth quarter of 2016.
  • SBA recourse provision decreased to $145,000, compared to $1.3 million for the linked quarter and $1.6 million for the fourth quarter of 2016.
  • The Company’s efficiency ratio measured 63.23%, compared to 66.56% for the linked quarter and 57.52% for the fourth quarter of 2016.
  • Record period-end gross loans and leases receivable of $1.502 billion grew 9.5% annualized during the fourth quarter and up 3.5% from December 31, 2016.
  • Non-performing loans and leases as a percent of total gross loans and leases receivable measured 1.76% at December 31, 2017, compared to 2.26% and 1.74% at the end of the linked and prior year quarters, respectively.

“Fourth quarter results reflect a positive trajectory for First Business,” said Corey Chambas, President and Chief Executive Officer. “Non-performing loans declined for the third consecutive quarter, total loans grew meaningfully, and core net interest margin remained above our 3.50% target, aided by well-managed funding amid a rising rate and highly competitive environment. In addition, our trust business again posted record levels of assets and revenue, and we continued to exercise discipline in our operating expenses.”

Chambas added, “While a lack of SBA loan sales muted fourth quarter revenue, we believe our strengthening pipeline positions us well for 2018. We rebuilt our SBA production staff during the second half of 2017 and expect to add additional producers in 2018. We begin the new year encouraged by the outcomes of significant work on our SBA platform, which positions us for growth as we move through 2018.”

Results of Operations

Net interest income was $15.4 million in the fourth quarter of 2017, compared to $14.9 million in the linked quarter and $16.8 million in the fourth quarter of 2016. Non-accrual interest received upon full repayment of $4.3 million of impaired loans outstanding from four borrowers boosted net interest income by $440,000 during the quarter. Elevated fourth quarter 2016 fees collected in lieu of interest from loan payoffs (“prepayment fees”) of $2.0 million significantly increased net interest income in the prior year quarter. Additionally, net interest income in the fourth quarter of 2017 continued to reflect a shift in the mix of loan originations toward lower-yielding conventional commercial loans. This was partially offset by successful efforts to manage deposit rates and utilize an efficient mix of wholesale funding sources, as well as the increase in rates on certain variable-rate loans following the Federal Open Market Committee’s increases in the targeted federal funds rate since December 2016.

Average total deposit costs for the fourth quarter of 2017 increased to 0.79%, compared to 0.74% in the linked quarter and 0.71% in the prior year quarter. Similarly, the Company’s cost of total bank funding increased to 0.88% for the fourth quarter of 2017, compared to 0.78% in the linked quarter and 0.72% in the prior year quarter. Total bank funding is defined as total deposits plus FHLB advances. Management believes a modest increase in average total deposit costs will continue as the Company looks to effectively manage deposit relationships amid intense competition and continued expectation of a rising rate environment.

Net interest margin measured 3.63% for the fourth quarter of 2017, compared to 3.52% in the linked quarter and 3.91% in the fourth quarter of 2016. The full repayment of the aforementioned non-performing credits contributed 10 basis points to net interest margin during the fourth quarter of 2017. Third quarter of 2017 was not materially affected by volatile sources of net interest income. Elevated prepayment fees drove the net interest margin increase in the fourth quarter of 2016. The collection of interest on loans previously in non-accrual status, prepayment fees, and the accumulation of significant short-term deposit inflows are, and will continue to be, expected sources of volatility to quarterly net interest income and net interest margin. Management expects the successful continuation of its strategies will allow the Company to maintain a net interest margin within its target of 3.50% or better.

The Company recorded provision for loan and lease losses totaling $473,000 in the fourth quarter of 2017, compared to $1.5 million in the linked quarter and $1.0 million in the fourth quarter of 2016. Provision for the fourth quarter of 2017 primarily reflects an increase to the general reserve commensurate with loan growth during the quarter.

Non-interest income totaled $3.5 million, or 18.7% of total revenue, for the fourth quarter of 2017, compared to $4.3 million, or 22.6%, for the linked quarter and $3.9 million, or 19.0%, for the fourth quarter of 2016. Non-interest income was reduced by the sale of certain securities at a net loss of $409,000 late in December 2017, ahead of the 2018 reduction in corporate tax rates. The Company reinvested the cash into securities within the portfolio’s existing risk profile while adding approximately 130 basis points in yield. Additionally, fourth quarter of 2017 non-interest income decreased as gains on the sale of SBA loans decreased to $90,000 for the fourth quarter of 2017, compared to $606,000 and $546,000 in the linked and year ago quarters, respectively.

“The SBA loans originated through our revamped nationwide SBA platform continue to meet our quality, compliance and profitability expectations,” Chambas commented. “While we anticipate some volatility in our SBA business line, we are pleased with our recent hires of production staff and low level of fourth quarter recourse reserve expense. Moving forward, we anticipate high quality growth will continue at a moderate pace as recently hired talent and anticipated hires gain momentum.”

The linked quarter comparison additionally reflected lower swap fees resulting from transactions in which the Company offers the client a floating rate loan and interest rate swap and then offsets the interest rate risk through an interest rate swap with a counter-party dealer. Although we believe 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 based on the needs of our clients.

Record 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 $1.7 million in the fourth quarter of 2017, increasing $86,000, or 5.2%, and $364,000, or 26.5%, 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 $1.536 billion at December 31, 2017, up $119.9 million, or 33.9% annualized, from the prior quarter and $332.0 million, or 27.6%, from December 31, 2016.

Non-interest expense was $14.9 million for the fourth quarter of 2017, compared to $14.2 million for the linked quarter and $14.5 million in the fourth quarter of 2016. Significant non-operating, one-time items impacted expenses across these periods. During the fourth quarter of 2017, the Company recognized $2.3 million in nonrecurring expense due to impairment of a federal historic tax credit investment, which corresponded with the recognition of $3.0 million in tax credits during the quarter. Additionally, during the fourth quarter of 2017 the Company recognized $199,000 in final deconversion costs related to Alterra Bank’s core banking system, following $794,000 in one-time fees recognized in the fourth quarter of 2016 to terminate its core banking system vendor agreement. The Company also recorded $145,000 in SBA recourse provision for estimated losses in the outstanding guaranteed portion of SBA loans sold, down from $1.3 million and $1.6 million recorded in the linked and prior year quarters, respectively. The total recourse reserve balance was $2.8 million, or 2.8% of total sold SBA loans outstanding at December 31, 2017. Changes to SBA recourse reserves may be a source of non-interest expense volatility in future quarters.

Operating expense totaled $12.2 million in the fourth quarter of 2017, $12.8 million in the linked quarter and $11.9 million in the fourth quarter of 2016. Operating expenses for the periods of comparison are defined in the Efficiency Ratio table included in the Non-GAAP Reconciliations at the end of this release.

Lower full year 2017 incentive compensation, which is tied to the Company’s overall performance, is reflected in total compensation expense for the fourth quarter. Consequently, total compensation expense decreased by $692,000 and $138,000 compared to the linked and prior year quarters, respectively.

The Company’s fourth quarter 2017 efficiency ratio was 63.23%, compared to 66.56% for the linked quarter and 57.52% for the fourth quarter of 2016. Over time, the Company intends to achieve its target efficiency ratio range of 58-62% through proactive expense management efforts, including through its recently completed charter consolidation and core conversion, as well as long-term revenue initiatives, such as efforts to increase sustainable and high-quality SBA lending production.

Income Tax Expense

Effective January 1, 2018, the Act reduced the corporate federal income tax rate to 21% from 35%, which required the Company to revalue deferred taxes as of December 31, 2017. The revaluation resulted in an additional $629,000 income tax expense during the fourth quarter of 2017. The Company also recognized a federal historic tax credit during the quarter, which reduced income tax expense by $3.0 million.

The full year 2017 effective tax rate, excluding these fourth quarter discrete items, was 28.4%. For 2018, the Company expects to report an effective tax rate of 20%-22%, excluding discrete items.

Balance Sheet

Period-end gross loans and leases receivable totaled $1.502 billion at December 31, 2017, increasing $34.9 million, or 2.4%, from September 30, 2017 and increasing $50.9 million, or 3.5%, from December 31, 2016. On an average basis, reflecting particularly strong production late in the fourth quarter, gross loans and leases of $1.467 billion decreased by $3.6 million, or 0.2%, compared to the linked quarter and decreased by $817,000, or 0.1%, compared to the fourth quarter of 2016.

As of December 31, 2017, net conventional loan balances for the Company’s established Wisconsin markets increased $22.5 million compared to the linked quarter and $91.7 million compared to the prior year quarter, reflecting solid execution of the Company’s niche business banking model. The Company expects recent and ongoing investments in its Kansas City market and SBA platform to deliver similar growth outcomes over time, outpacing acquired portfolio runoff.

Period-end in-market deposits - consisting of all transaction accounts, money market accounts and non-wholesale deposits - totaled $1.086 billion, or 68.9% of total bank funding at December 31, 2017, compared to $1.091 billion, or 69.6%, at September 30, 2017 and $1.122 billion, or 71.4%, at December 31, 2016. Period-end wholesale bank funds were $491.5 million at December 31, 2017, including brokered certificates of deposit of $287.6 million, deposits gathered through internet deposit listing services of $20.4 million and Federal Home Loan Bank (“FHLB”) advances of $183.5 million. Consistent with the Company’s longstanding funding strategy to use the most efficient and cost effective source of wholesale funds, management continues to replace maturing wholesale deposits with fixed rate FHLB advances at various terms to meet its balance sheet management needs. Over time, 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 loans were $26.4 million at December 31, 2017, decreasing by $6.8 million, or 20.6%, compared to $33.2 million at September 30, 2017 and increasing by $1.2 million, or 4.7%, compared to $25.2 million at December 31, 2016. The decrease from the linked quarter primarily reflected the aforementioned full repayment of $4.3 million of impaired loans associated with four borrowers. Net charge-offs of $1.6 million during the fourth quarter of 2017, of which the significant majority were previously individually reserved for, also contributed to the non-performing loans decrease. No significant credits migrated to non-accrual status during the quarter. As a percent of total gross loans and leases receivable, non-performing loans measured 1.76% at December 31, 2017, compared to 2.26% and 1.74% at the end of the linked quarter and fourth quarter of 2016, respectively.

“The significant steps we have taken to improve asset quality are producing the intended outcomes,” Chambas said. “The fourth quarter decline in non-performing loans marks the third consecutive quarterly improvement, and we are pleased with our success in securing repayment for previously impaired credits. We remain focused on restoring our historically strong asset quality and are confident in our team’s ability to execute over the long term.”

Capital Strength

The Company's capital ratios continued to exceed the highest required regulatory benchmark levels. As of December 31, 2017, total capital to risk-weighted assets was 11.98%, tier 1 capital to risk-weighted assets was 9.45%, tier 1 leverage capital to adjusted average assets was 9.54% and common equity tier 1 capital to risk-weighted assets was 8.89%. In addition, as of December 31, 2017, tangible common equity to tangible assets was 8.79%.

Quarterly Dividend

As previously announced, during the fourth quarter of 2017, the Company's Board of Directors declared a regular quarterly dividend of $0.13 per share. The dividend was paid on November 16, 2017 to shareholders of record at the close of business on November 6, 2017. Measured against fourth quarter 2017 diluted earnings per share of $0.46, the dividend represents a 28.3% 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, 2016 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) December 31,
2017
September 30,
2017
June 30,
2017
March 31,
2017
December 31,
2016
ASSETS
Cash and cash equivalents $52,539 $73,196 $63,745 $60,899 $77,517
Securities available-for-sale, at fair value 126,005 131,130 136,834 147,058 145,893
Securities held-to-maturity, at amortized cost 37,778 38,873 37,806 38,485 38,612
Loans held for sale 2,194 3,491 3,924 1,111
Loans and leases receivable 1,501,595 1,466,713 1,458,175 1,480,971 1,450,675
Allowance for loan and lease losses (18,763) (19,923) (21,677) (21,666) (20,912)
Loans and leases, net 1,482,832 1,446,790 1,436,498 1,459,305 1,429,763
Premises and equipment, net 3,156 3,048 2,930 3,955 3,772
Foreclosed properties 1,069 2,585 2,585 1,472 1,472
Bank-owned life insurance 40,323 39,988 39,674 39,358 39,048
Federal Home Loan Bank and Federal Reserve Bank stock, at cost 5,670 5,083 2,815 4,782 2,131
Goodwill and other intangible assets 12,652 12,735 12,760 12,774 12,773
Accrued interest receivable and other assets 29,848 32,228 29,790 28,578 28,607
Total assets $1,794,066 $1,785,656 $1,768,928 $1,800,590 $1,780,699
LIABILITIES AND STOCKHOLDERS’ EQUITY
In-market deposits $1,086,346 $1,090,524 $1,120,205 $1,104,281 $1,122,174
Wholesale deposits 307,985 333,200 354,393 388,433 416,681
Total deposits 1,394,331 1,423,724 1,474,598 1,492,714 1,538,855
Federal Home Loan Bank advances and other borrowings 207,898 167,884 106,395 121,841 59,676
Junior subordinated notes 10,019 10,015 10,012 10,008 10,004
Accrued interest payable and other liabilities 12,540 17,252 12,689 11,893 10,514
Total liabilities 1,624,788 1,618,875 1,603,694 1,636,456 1,619,049
Total stockholders’ equity 169,278 166,781 165,234 164,134 161,650
Total liabilities and stockholders’ equity $1,794,066 $1,785,656 $1,768,928 $1,800,590 $1,780,699

STATEMENTS OF INCOME

(Unaudited) As of and for the Three Months Ended As of and for the Year Ended
(Dollars in thousands, except per share amounts) December 31,
2017
September 30,
2017
June 30,
2017
March 31,
2017
December 31,
2016
December 31,
2017
December 31,
2016
Total interest income $19,504 $18,634 $19,225 $18,447 $20,321 $75,811 $78,117
Total interest expense 4,146 3,751 3,746 3,559 3,568 15,202 14,789
Net interest income 15,358 14,883 15,479 14,888 16,753 60,609 63,328
Provision for loan and lease losses 473 1,471 3,656 572 994 6,172 7,818
Net interest income after provision for loan and lease losses 14,885 13,412 11,823 14,316 15,759 54,437 55,510
Trust and investment service fees 1,739 1,653 1,648 1,629 1,375 6,670 5,356
Gain on sale of SBA loans 90 606 535 360 546 1,591 4,400
Service charges on deposits 727 756 766 765 743 3,013 2,990
Loan fees 463 391 675 458 639 1,988 2,430
Net (loss) gain on sale of securities (409) 5 1 3 (403) 10
Other non-interest income 915 928 1,113 851 625 3,806 2,802
Total non-interest income 3,525 4,339 4,738 4,063 3,931 16,665 17,988
Compensation 6,953 7,645 8,382 8,683 7,091 31,663 31,545
Occupancy 567 527 519 475 481 2,088 2,019
Professional fees 1,017 995 1,041 1,010 1,144 4,063 4,031
Data processing 891 592 635 584 1,327 2,701 3,298
Marketing 563 594 582 370 628 2,109 2,338
Equipment 342 285 300 283 276 1,211 1,189
Computer software 686 715 639 683 553 2,723 2,160
FDIC insurance 307 320 381 380 483 1,388 1,472
Collateral liquidation costs 273 371 77 92 58 829 262
Net (gain) loss on foreclosed properties (143) 29 (143) 122
Impairment of tax credit investments 2,447 112 112 113 171 2,784 3,691
SBA recourse provision 145 1,315 774 6 1,619 2,240 2,068
Other non-interest expense 811 760 779 881 663 3,215 2,238
Total non-interest expense 14,859 14,231 14,221 13,560 14,523 56,871 56,433
Income before income tax (benefit) expense 3,551 3,520 2,340 4,819 5,167 14,231 17,065
Income tax (benefit) expense(1) (486) 936 454 1,422 1,199 2,326 2,156
Net income(1) $4,037 $2,584 $1,886 $3,397 $3,968 $11,905 $14,909
Per common share:
Basic earnings(1) $0.46 $0.30 $0.22 $0.39 $0.46 $1.36 $1.71
Diluted earnings(1) 0.46 0.30 0.22 0.39 0.46 1.36 1.71
Dividends declared 0.13 0.13 0.13 0.13 0.12 0.52 0.48
Book value 19.32 19.04 18.96 18.83 18.55 19.32 18.55
Tangible book value 17.87 17.59 17.49 17.36 17.08 17.87 17.08
Weighted-average common shares outstanding(2) 8,631,554 8,621,311 8,601,379 8,600,620 8,587,814 8,612,770 8,573,722
Weighted-average diluted common shares outstanding(2) 8,631,554 8,621,311 8,601,379 8,600,620 8,587,814 8,612,770 8,573,722

(1) Results as of and for the three months and year ended December 31, 2016 have been adjusted to reflect early adoption of ASU 2016-09, “Compensation - Stock Compensation (Topic 718): Improvements to Employee Share-Based Payment Accounting.”
(2) Excluding participating securities.

NET INTEREST INCOME ANALYSIS

(Unaudited) For the Three Months Ended
(Dollars in thousands) December 31, 2017 September 30, 2017 December 31, 2016
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) $973,929 $11,591 4.76% $966,711 $10,922 4.52% $950,168 $11,561 4.87%
Commercial and industrial loans(1) 437,804 6,303 5.76% 448,955 6,187 5.51% 462,778 7,309 6.32%
Direct financing leases(1) 28,476 299 4.20% 28,648 303 4.23% 29,476 325 4.41%
Consumer and other loans(1) 27,110 274 4.04% 26,577 274 4.12% 25,714 271 4.22%
Total loans and leases receivable(1) 1,467,319 18,467 5.03% 1,470,891 17,686 4.81% 1,468,136 19,466 5.30%
Mortgage-related securities(2) 132,067 621 1.88% 136,330 613 1.80% 152,894 607 1.59%
Other investment securities(3) 35,956 202 2.25% 36,106 158 1.75% 34,414 136 1.58%
FHLB and FRB stock 5,572 30 2.15% 3,949 25 2.53% 2,702 18 2.66%
Short-term investments 51,303 184 1.43% 44,478 152 1.37% 56,364 94 0.67%
Total interest-earning assets 1,692,217 19,504 4.61% 1,691,754 18,634 4.41% 1,714,510 20,321 4.74%
Non-interest-earning assets 91,361 85,768 67,719
Total assets $1,783,578 $1,777,522 $1,782,229
Interest-bearing liabilities
Transaction accounts $241,421 450 0.75% $240,035 364 0.61% $185,336 184 0.40%
Money market 529,195 727 0.55% 588,811 700 0.48% 618,723 659 0.43%
Certificates of deposit 58,977 154 1.04% 57,716 150 1.04% 60,149 145 0.96%
Wholesale deposits 325,000 1,435 1.77% 346,641 1,494 1.72% 437,412 1,767 1.62%
Total interest-bearing deposits 1,154,593 2,766 0.96% 1,233,203 2,708 0.88% 1,301,620 2,755 0.85%
FHLB advances 168,451 689 1.64% 103,401 351 1.36% 30,995 72 0.93%
Other borrowings 24,389 411 6.74% 24,400 411 6.74% 25,387 461 7.26%
Junior subordinated notes 10,016 280 11.18% 10,013 281 11.23% 10,002 280 11.20%
Total interest-bearing liabilities 1,357,449 4,146 1.22% 1,371,017 3,751 1.09% 1,368,004 3,568 1.04%
Non-interest-bearing demand deposit accounts 238,846 224,961 246,016
Other non-interest-bearing liabilities 18,632 15,376 6,655
Total liabilities 1,614,927 1,611,354 1,620,675
Stockholders’ equity 168,651 166,168 161,554
Total liabilities and stockholders’ equity $1,783,578 $1,777,522 $1,782,229
Net interest income $15,358 $14,883 $16,753
Interest rate spread 3.39% 3.32% 3.70%
Net interest-earning assets $334,768 $320,737 $346,506
Net interest margin 3.63% 3.52% 3.91%

(1) The average balances of loans and leases include non-performing loans and leases and loans held for sale. Interest income related to non-performing 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 (CONTINUED)

(Unaudited) For the Year Ended
(Dollars in thousands)December 31, 2017 December 31, 2016
Average
Balance
Interest Average
Yield/Rate
Average
Balance
Interest Average
Yield/Rate
Interest-earning assets
Commercial real estate and other mortgage loans(1) $961,572 $43,452 4.52% $938,524 $43,927 4.68%
Commercial and industrial loans(1) 447,937 26,165 5.84% 465,736 28,143 6.04%
Direct financing leases(1) 28,988 1,231 4.25% 30,379 1,364 4.49%
Consumer and other loans(1) 27,612 1,112 4.03% 25,615 1,193 4.66%
Total loans and leases receivable(1) 1,466,109 71,960 4.91% 1,460,254 74,627 5.11%
Mortgage-related securities(2) 138,528 2,466 1.78% 147,433 2,328 1.58%
Other investment securities(3) 37,085 682 1.84% 32,995 517 1.57%
FHLB and FRB stock 4,231 103 2.43% 2,537 79 3.11%
Short-term investments 49,113 600 1.22% 94,548 566 0.60%
Total interest-earning assets 1,695,066 75,811 4.47% 1,737,767 78,117 4.50%
Non-interest-earning assets 84,829 73,905
Total assets $1,779,895 $1,811,672
Interest-bearing liabilities
Transaction accounts $226,540 1,335 0.59% $169,571 456 0.27%
Money market 583,241 2,746 0.47% 642,784 3,112 0.48%
Certificates of deposit 56,667 569 1.00% 65,608 592 0.90%
Wholesale deposits 361,712 6,155 1.70% 467,826 7,556 1.62%
Total interest-bearing deposits 1,228,160 10,805 0.88% 1,345,789 11,716 0.87%
FHLB advances 105,276 1,472 1.40% 14,485 140 0.97%
Other borrowings(4) 24,796 1,813 7.31% 26,581 1,818 6.84%
Junior subordinated notes 10,011 1,112 11.11% 10,076 1,115 11.07%
Total interest-bearing liabilities 1,368,243 15,202 1.11% 1,396,931 14,789 1.06%
Non-interest-bearing demand deposit accounts 230,907 246,182
Other non-interest-bearing liabilities 14,375 10,013
Total liabilities 1,613,525 1,653,126
Stockholders’ equity 166,370 158,546
Total liabilities and stockholders’ equity $1,779,895 $1,811,672
Net interest income $60,609 $63,328
Interest rate spread 3.36% 3.44%
Net interest-earning assets $326,823 $340,836
Net interest margin 3.58% 3.64%

(1) The average balances of loans and leases include non-performing loans and leases and loans held for sale. Interest income related to non-performing 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) Average rate of other borrowings reflects the cost of prepaying a secured borrowing during the second quarter of 2017.

SELECTED FINANCIAL TRENDS

PERFORMANCE RATIOS

For the Three Months Ended For the Year Ended
(Unaudited) December 31,
2017
September 30,
2017
June 30,
2017
March 31,
2017
December 31,
2016
December 31,
2017
December 31,
2016
Return on average assets (annualized)(1) 0.91% 0.58% 0.42% 0.77% 0.89% 0.67% 0.82%
Return on average equity (annualized)(1) 9.57% 6.22% 4.50% 8.31% 9.82% 7.16% 9.40%
Efficiency ratio 63.23% 66.56% 65.39% 70.85% 57.52% 66.48% 61.12%
Interest rate spread 3.39% 3.32% 3.43% 3.31% 3.70% 3.36% 3.44%
Net interest margin 3.63% 3.52% 3.64% 3.51% 3.91% 3.58% 3.64%
Average interest-earning assets to average interest-bearing liabilities 124.66% 123.39% 123.99% 123.50% 125.33% 123.89% 124.40%

(1) Results for the three months and year ended December 31, 2016 have been adjusted to reflect early adoption of ASU 2016-09, “Compensation - Stock Compensation (Topic 718): Improvements to Employee Share-Based Payment Accounting.”

ASSET QUALITY RATIOS

(Unaudited) As of
(Dollars in thousands) December 31,
2017
September 30,
2017
June 30,
2017
March 31,
2017
December 31,
2016
Non-performing loans and leases $26,389 $33,232 $37,162 $37,519 $25,194
Foreclosed properties 1,069 2,585 2,585 1,472 1,472
Total non-performing assets 27,458 35,817 39,747 38,991 26,666
Performing troubled debt restructurings 332 275 702 702 717
Total impaired assets $27,790 $36,092 $40,449 $39,693 $27,383
Non-performing loans and leases as a percent of total gross loans and leases 1.76% 2.26% 2.55% 2.53% 1.74%
Non-performing assets as a percent of total gross loans and leases plus foreclosed properties 1.83% 2.44% 2.72% 2.63% 1.83%
Non-performing assets as a percent of total assets 1.53% 2.01% 2.25% 2.17% 1.50%
Allowance for loan and lease losses as a percent of total gross loans and leases 1.25% 1.36% 1.49% 1.46% 1.44%
Allowance for loan and lease losses as a percent of non-performing loans and leases 71.10% 59.95% 58.33% 57.75% 83.00%
Criticized assets:
Substandard $32,687 $36,747 $39,011 $46,299 $34,299
Doubtful 4,692 5,055 6,658
Foreclosed properties 1,069 2,585 2,585 1,472 1,472
Total criticized assets $38,448 $44,387 $48,254 $47,771 $35,771
Criticized assets to total assets 2.14% 2.49% 2.73% 2.65% 2.01%

NET CHARGE-OFFS (RECOVERIES)

(Unaudited) For the Three Months Ended For the Year Ended
(Dollars in thousands) December 31,
2017
September 30,
2017
June 30,
2017
March 31,
2017
December 31,
2016
December 31,
2017
December 31,
2016
Charge-offs $1,643 $3,230 $3,757 $209 $344 $8,840 $3,594
Recoveries (11) (5) (112) (391) (194) (519) (372)
Net charge-offs (recoveries) $1,632 $3,225 $3,645 $(182) $150 $8,321 $3,222
Net charge-offs (recoveries) as a percent of average gross loans and leases (annualized) 0.44% 0.88% 0.99% (0.05)% 0.04% 0.57% 0.22%

CAPITAL RATIOS

As of and for the Three Months Ended
(Unaudited) December 31,
2017
September 30,
2017
June 30,
2017
March 31,
2017
December 31,
2016
Total capital to risk-weighted assets 11.98% 11.91% 11.91% 11.55% 11.74%
Tier I capital to risk-weighted assets 9.45% 9.43% 9.33% 9.16% 9.26%
Common equity tier I capital to risk-weighted assets 8.89% 8.86% 8.77% 8.60% 8.68%
Tier I capital to adjusted assets 9.54% 9.39% 9.28% 9.26% 9.07%
Tangible common equity to tangible assets 8.79% 8.69% 8.68% 8.47% 8.42%

SELECTED OTHER INFORMATION

Loan and Lease Receivable Composition

(Unaudited) As of
(in thousands)December 31,
2017
September 30,
2017
June 30,
2017
March 31,
2017
December 31,
2016
Commercial real estate:
Commercial real estate - owner occupied $200,387 $182,755 $183,161 $183,016 $176,459
Commercial real estate - non-owner occupied 470,236 461,586 468,778 492,366 473,158
Land development 40,154 41,499 46,500 52,663 56,638
Construction 125,157 115,660 104,515 91,343 101,206
Multi-family 136,978 125,080 124,488 107,669 92,762
1-4 family 44,976 40,173 38,922 40,036 45,651
Total commercial real estate 1,017,888 966,753 966,364 967,093 945,874
Commercial and industrial 429,002 447,223 437,955 458,778 450,298
Direct financing leases, net 30,787 28,868 29,216 29,330 30,951
Consumer and other:
Home equity and second mortgages 7,262 7,776 7,973 8,237 8,412
Other 18,099 17,447 17,976 18,859 16,329
Total consumer and other 25,361 25,223 25,949 27,096 24,741
Total gross loans and leases receivable 1,503,038 1,468,067 1,459,484 1,482,297 1,451,864
Less:
Allowance for loan and lease losses 18,763 19,923 21,677 21,666 20,912
Deferred loan fees 1,443 1,354 1,309 1,326 1,189
Loans and leases receivable, net $1,482,832 $1,446,790 $1,436,498 $1,459,305 $1,429,763

SELECTED OTHER INFORMATION (CONTINUED)

Deposit Composition

(Unaudited) As of
(in thousands) December 31,
2017
September 30,
2017
June 30,
2017
March 31,
2017
December 31,
2016
Non-interest-bearing transaction accounts $277,445 $253,320 $241,577 $227,947 $252,638
Interest-bearing transaction accounts 217,625 251,355 231,074 205,912 183,992
Money market accounts 515,077 527,705 593,487 616,557 627,090
Certificates of deposit 76,199 58,144 54,067 53,865 58,454
Wholesale deposits 307,985 333,200 354,393 388,433 416,681
Total deposits $1,394,331 $1,423,724 $1,474,598 $1,492,714 $1,538,855

Trust Assets

(Unaudited) As of
(in thousands) December 31,
2017
September 30,
2017
June 30,
2017
March 31,
2017
December 31,
2016
Trust assets under management $1,350,025 $1,240,014 $1,164,433 $1,126,835 $977,015
Trust assets under administration 186,383 176,472 173,931 176,976 227,360
Total trust assets $1,536,408 $1,416,486 $1,338,364 $1,303,811 $1,204,375

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 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) December 31,
2017
September 30,
2017
June 30,
2017
March 31,
2017
December 31,
2016
Common stockholders’ equity $169,278 $166,781 $165,234 $164,134 $161,650
Goodwill and other intangible assets (12,652) (12,735) (12,760) (12,774) (12,773)
Tangible common equity $156,626 $154,046 $152,474 $151,360 $148,877
Common shares outstanding 8,763,539 8,758,923 8,716,018 8,718,307 8,715,856
Book value per share $19.32 $19.04 $18.96 $18.83 $18.55
Tangible book value per share 17.87 17.59 17.49 17.36 17.08

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) December 31,
2017
September 30,
2017
June 30,
2017
March 31,
2017
December 31,
2016
Common stockholders’ equity $169,278 $166,781 $165,234 $164,134 $161,650
Goodwill and other intangible assets (12,652) (12,735) (12,760) (12,774) (12,773)
Tangible common equity $156,626 $154,046 $152,474 $151,360 $148,877
Total assets $1,794,066 $1,785,656 $1,768,928 $1,800,590 $1,780,699
Goodwill and other intangible assets (12,652) (12,735) (12,760) (12,774) (12,773)
Tangible assets $1,781,414 $1,772,921 $1,756,168 $1,787,816 $1,767,926
Tangible common equity to tangible assets 8.79% 8.69% 8.68% 8.47% 8.42%

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 Year Ended
(Dollars in thousands) December 31,
2017
September 30,
2017
June 30,
2017
March 31,
2017
December 31,
2016
December 31,
2017
December 31,
2016
Total non-interest expense $14,859 $14,231 $14,221 $13,560 $14,523 $56,871 $56,433
Less:
Net (gain) loss on foreclosed properties (143) 29 (143) 122
Amortization of other intangible assets 13 14 14 14 14 54 62
SBA recourse provision 145 1,315 774 6 1,619 2,240 2,068
Impairment of tax credit investments 2,447 112 112 113 171 2,784 3,691
Deconversion fees 199 101 794 300 794
Total operating expense $12,198 $12,790 $13,220 $13,427 $11,896 $51,636 $49,696
Net interest income $15,358 $14,883 $15,479 $14,888 $16,753 $60,609 $63,328
Total non-interest income 3,525 4,339 4,738 4,063 3,931 16,665 17,988
Less:
Net (loss) gain on sale of securities (409) 5 1 3 (403) 10
Total operating revenue $19,292 $19,217 $20,216 $18,951 $20,681 $77,677 $81,306
Efficiency ratio 63.23% 66.56% 65.39% 70.85% 57.52% 66.48% 61.12%

Source:First Business Financial Services, Inc.