Farmers National Banc: High dividends but likely stagnant profits (NASDAQ: FMNB)

Profit of Farmers National Banc Corp.NASDAQ:FMNB) will likely benefit from moderate loan growth and lower non-interest spending this year. On the other hand, a drop in the average net interest margin will result in risks dampening profits. Overall, I expect the company to report earnings of $1.32 per share for 2024, down just 0.6% year over year. The year-end target price suggests a slight upside from the current market price. Additionally, the company offers a high dividend yield of over 5%. Based on the expected total return, I adopt a Buy rating on Farmers National Banc Corp.

The operating environment is partly conducive to loan growth

Farmers National Banc Corp.’s loan portfolio decreased by 0.5% in the first quarter of 2024, which is quite disappointing considering that the loan portfolio increased by 1.0% in the last quarter of 2024. 2023. I think the poor performance of the first quarter is unlikely to repeat. I think the economy is strong enough to support loan growth.

Farmers National Banc serves businesses and individuals throughout Northeast Ohio and Western Pennsylvania. Additionally, the commercial real estate (“CRE”) segment is the largest segment of Farmers National Banc’s loan portfolio. Commercial real estate loans represent 42% and commercial and industrial (“C&I”) loans 11% of total loans. Current unemployment rates for Ohio and Pennsylvania show that business activity in these states is currently robust compared to previous years (including 2015-2018), which bodes well for demand for CRE loans and THIS.

Additionally, I expect the federal funds rate to decline by 25 to 50 basis points in the second half of 2024, which bodes well for residential mortgages. Residential real estate loans are an important focus area for Farmers National Banc, as they represent approximately 26% of total loans.

On the other hand, the outlook for the agricultural sector is not as bright. Agricultural loans represent 8% of FMNB’s total loans. While prices for major agricultural products in Ohio and Pennsylvania have fallen, fertilizer prices have not. Margin compression can harm the debt servicing capacity of agricultural borrowers, leading FMNB and other banks to be reluctant to lend to them.

Given these factors, I expect the loan portfolio to increase by 0.9% in each of the last three quarters of 2024. Additionally, I expect other balance sheet items to increase alongside loans. The following table presents my balance sheet estimates.

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Margin Trend Expected to Bottom Soon

Farmers National Banc Corp. margin fell 8 basis points during the first quarter 2024 after declining by 27 basis points in 2023. There is a good chance that the margin trend will change soon due to upcoming interest rate cuts. To repeat, I expect the federal funds rate to fall by 25 to 50 basis points in the second half of 2024.

Farmers National Banc deposits are revalued more quickly than loans, making the margin inversely proportional to changes in interest rates. Variable rate deposits (savings and interest-bearing demand deposits) represent approximately 58% of total deposits. In contrast, variable loans represent only 14% of total loans, as shown in the presentation of the results and copied below.

Results of management’s rate sensitivity analysis presented in the 10-Q filing show that a 100 basis point rate cut could increase net interest income by 1.8% year-over-year.

Considering these factors, I expect the margin to remain unchanged in the second quarter before growing by 10 basis points in the second half. Since this year’s recovery will be slower than last year’s decline, this year’s average margin will be lower than 2023’s average margin.

Gains likely to be limited

Given my outlook for average margin and balance sheet items, I expect net interest income to decline 6.5% year over year in 2024. To arrive at my estimate profits for the year, I make the following additional assumptions.

1. I expect the provision expense/total loan ratio to return to 2022 levels, after the merger with Emclaire Financial increased the provision expense last year.
2. I expect non-interest income to stabilize at last year’s average level after falling in the first quarter of the year.
3. Noninterest expenses jumped last year due to one-time expenses related to the merger with Emclaire Financial Corp. Due to the lack of merger-related expenses, I expect non-interest expenses to be lower this year compared to last year. .

Given these factors, I expect Farmers National Banc Corp. reports 2024 earnings of $1.32 per share, down 0.6% year over year. The following table shows my income statement estimates.

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The risks seem low

The credit quality of the loan portfolio has steadily improved recently. The non-performing loans/total loans ratio fell to 0.38% at the end of March 2024, compared to 0.47% at the end of December 2023 and 0.57% at the end of March 2023.

At the end of March 2024, office real estate loans represented 6% of total loans, which is not high enough to dissuade me from investing in Farmers National Banc stock. Nonetheless, it is important and worth monitoring.

Overall, I think Farmers National Banc’s risk level is currently low.

Farmers National Banc offers an attractive dividend yield of 5.3%

Farmers National Bank Corp. offers a dividend yield of 5.3% at the current quarterly dividend rate of $0.17 per share and the May 17 closing price. The dividend payment appears safe due to the following two factors.

1. Earnings and dividend estimates suggest a payout ratio of 51% for 2024. Although this implied payout ratio is higher than the five-year average of 35%, there is virtually no chance of a dividend cut as a payout ratio of 51% is easily achievable. affordable.
2. FMNB is very well capitalized, so there is no threat of dividend reduction relative to regulatory requirements. The company reported a total capital ratio of 14.38% at the end of March 2024, which is well above the minimum regulatory requirement of 10.50%.

Adopt a Buy Rating

I use historical price-to-earnings (“P/EB”) and price-to-earnings (“P/E”) multiples to value Farmers National Banc Corp. The stock traded at an average P/TB. ratio of 1.80x in the past, as shown below.

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Multiplying the average P/TB multiple by the expected tangible book value per share of $8.2 yields a target price of $14.7 for the end of 2024. This price target implies an upside of 15.2%. compared to the closing price on May 17. The following table presents the sensitivity of the price target to the P/TB ratio.

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The stock has traded at an average P/E ratio of around 9.4x in the past, as shown below.

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Multiplying the average P/E multiple by the expected earnings per share of $1.32 yields a price target of $12.4 for the end of 2024. This price target implies a 2.7% decline per share. compared to the closing price on May 17. The following table shows the sensitivity of the price target to the P/E ratio.

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Equal weighting of target prices from both valuation methods yields a combined result $13.6 target price, which implies an increase of 6.2% compared to the current market price. Adding the forward dividend yield gives an expected total return of 11.5%. As a result, I adopt a buy rating on Farmers National Banc Corp.