It’s been about six months since I last watched Ames National (NASDAQ:ATLO), a small bank in Iowa. I was very charmed by the generous and safe dividend yield of 4.5% and by the the bank’s conservative balance sheet with a strong focus on cash and securities. Unfortunately, recent interest rate hikes have reduced the fair value of these securities and the bank’s book value has fallen as a result. This is the only reason why I am not initiating a long position at the moment because I would first like to see how this situation develops in the months or quarters to come.
It will be essential to keep an eye on net interest income
While most banks are still doing a good job of trying to keep net interest income stable, Ames’ first quarter results show the bank has had a little more trouble ensuring it maintains stability. impact of low market interest rates on its net. limited interest income. Total reported interest income decreased from $15M to $14.1M and although interest expense also decreased, the decrease was not sufficient to offset the lower interest income. Net interest income fell from nearly $13.7 million to $13.15 million, a decrease of approximately 3.7%.
During this time, the bank also had to deal with an increase in non-interest expenses, which was also not compensated by the (slightly) higher non-interest income. Pre-tax profit before taking into account provisions for loan losses was $6.3 million, down from $7.15 million. Ames was able to recover approximately $127,000 of provisions it had recorded in previous quarters, which increased pre-tax earnings to $6.45 million, resulting in net earnings of 5, $15 million or $0.57 per share. This is a slightly disappointing result compared to EPS of $0.66 in the first quarter of last year, but keep in mind that the higher contribution from loan loss provision write-offs had a more positive impact. comment on the results of the first quarter of last year.
Meanwhile, it’s interesting to see how Ames has seen the size of its loan portfolio shrink as its exposure to cash and securities increases. At the end of the first quarter, the total amount of cash and securities on the balance sheet was 45% (compared to 44% at the end of December 2021) and this is one of the highest ratios I have seen in the space small cap bank.
This also explains why interest income is relatively low, as these safer securities have lower yields than, for example, mortgages or other loans. In a way, it’s even remarkable that ATLO was able to generate EPS of $0.57 given its tendency to run a very conservative balance sheet.
The majority of the $1.13 billion loan portfolio is real estate oriented with particular emphasis on commercial real estate which accounts for nearly half of the loan portfolio.
And given that only $3.1 million of the loans are classified as “overdue”, the current provision for loan losses of almost $16.5 million definitely seems sufficient and that explains why Ames has again been in able to recover some of its allowance for loan losses. That being said, the total amount of delinquent loans increased by almost $1 million from YE 2021 and the majority of this increase came from agricultural loans which went from a few hundred thousand dollars to almost zero, $9 million.
The dividend is still very safe thanks to the low distribution rate
Ames paid a quarterly dividend of 26 cents per share and recently increased its quarterly payout to $0.27. This means the dividend now stands at $1.08 on an annualized basis, and based on the current share price of around $22.50, the dividend yield has increased to around 4.8%. .
That’s quite attractive, but obviously it’s also important to make sure the dividend is sustainable. And given that first quarter EPS was around 57 cents, the current dividend rate is very well covered as the payout ratio is only 47%. And keep in mind that the bank should perform well in an environment of rising interest rates. We can see some hits to book value (the bank lost about $30 million in equity in the first quarter of the year due to recording higher unrealized losses and lower unrealized gains on its investment securities), so I certainly don’t mind the relatively low payout ratio.
By retaining more than 50% of profits, Ames National will be able to retain just over $10 million per year in profits to support its equity value.
Book value erosion is the only reason I am not immediately going long in Ames National Bank. I like the very conservative structure with a lot of focus on liquid assets, but having a relatively outsized position in investment securities will lead to (unrealized) capital losses and the book value could erode further in the second quarter of This year. At the end of the first quarter, the tangible book value was just below $19/share, but I expect a further decline of a few dollars per share.
This in itself doesn’t worry me, but I would like to monitor the situation a bit longer before initiating a long position just to ensure that capital ratios and buffers remain strong. If all goes well, Ames National could be a good addition to my portfolio.