First Financial Bancorp. — Q3 2014 Form 10-Q
Business context and reporting period. This unaudited filing covers the quarter and nine months ended September 30, 2014. First Financial is a bank holding company operating primarily in Ohio, Indiana and Kentucky. During the quarter it acquired First Bexley, Insight and Guernsey, expanding into the Columbus market. The acquisitions added approximately $606 million in loans and $569 million in deposits, before final purchase-accounting adjustments.
Financial results and position
- Earnings: Q3 net income was $15.3 million, versus $14.9 million a year earlier; diluted EPS was $0.26 in both periods. Nine-month net income was $46.4 million, versus $44.6 million, and diluted EPS was $0.79 versus $0.77.
- Net interest and margins: Q3 net interest income increased 4.6% to $58.4 million, while nine-month net interest income declined 2.9% to $167.5 million. Net interest margin was 3.66% for Q3 (3.91% prior year) and 3.73% for nine months (3.99% prior year). Management attributed margin pressure to low rates, covered-loan runoff and lower yields on new originations.
- Other income and expenses: Q3 noninterest income declined to $16.5 million from $22.3 million, principally because FDIC loss-sharing income and accelerated covered-loan discount income fell. Q3 noninterest expense rose 5.4% to $51.4 million, including $4.2 million of acquisition-related costs. Nine-month noninterest income was $47.0 million, down from $60.6 million; expenses were $146.4 million, down from $155.2 million, in part because 2013 included pension settlement charges.
- Cash flow: Nine-month operating cash flow was $43.8 million, compared with $125.2 million in 2013. Investing activities used $207.5 million and financing activities provided $167.4 million. Cash and due from banks ended at $121.4 million, up from $117.6 million at year-end 2013.
- Balance sheet and funding: Total assets were $7.35 billion, up from $6.42 billion at December 31, 2013. Total loans, excluding covered loans, were $4.45 billion; covered loans were $332.3 million. Deposits rose to $5.53 billion from $4.84 billion. Borrowed funds increased to $972.0 million from $809.5 million, including $919.3 million of short-term borrowings and $52.7 million of long-term debt.
- Credit quality: Uncovered allowance for loan losses was $42.5 million, or 0.95% of loans, versus $43.8 million, or 1.25%, at year-end. Nine-month uncovered provision was $2.3 million versus $6.9 million; net charge-offs were $3.7 million. Nonperforming assets, excluding covered assets, were $66.3 million, down from $72.5 million, while nonperforming loans were $55.0 million, up from $52.7 million.
- Capital and liquidity: Consolidated regulatory ratios were 9.70% leverage, 12.74% Tier 1 risk-based and 13.80% total risk-based; the company reported it was well-capitalized. Available liquidity included $143.7 million on hand and $1.7 billion of unused overnight wholesale funding. Remaining FHLB borrowing capacity was $312.3 million.
- Shareholder returns: Dividends declared were $0.15 per share for Q3 and $0.45 per share for nine months, versus $0.27 and $0.79, respectively, in 2013. The board authorized a $0.16 per-share dividend payable January 2, 2015. Share repurchases were suspended during 2014 in connection with the acquisitions.
Material changes and management commentary
- Loan balances excluding loans held for sale increased $818.7 million from year-end, with $606.3 million of acquired loans; excluding acquisitions, management reported annualized loan growth of 7.2%. Deposit growth also reflected the acquisitions.
- The three Columbus acquisitions had aggregate purchase consideration of $97.1 million and generated $42.4 million of goodwill. Management said they provide entry into Central Ohio and make First Financial the largest community bank serving Franklin County. First Bexley and Insight conversions and rebranding were completed; Guernsey conversion and rebranding were expected in Q4.
- FDIC loss-sharing protection on non-single-family loans expired October 1, 2014, removing coverage on approximately $190.3 million, or 57.3%, of the September 30 covered-loan portfolio. Protection on the remaining covered loans and covered OREO is scheduled to expire in Q3 2019.
- Management expected the 2014 effective tax rate to be approximately 32%–34%. It expected to exceed Basel III capital requirements, which begin applying to the company in 2015. No specific earnings or revenue guidance was provided.
- Interest-rate sensitivity models showed estimated Year 1 net interest income declines of 1.34% under an immediate +100 basis-point shock and 3.70% under the modeled -100 basis-point scenario; management described the balance sheet as modestly more asset-sensitive. These are model estimates, not guidance.
Risks, contingencies and unusual items
- Management identified risks including low interest rates and margin pressure, credit deterioration, liquidity access and cost, regulatory and capital changes, acquisition integration and possible customer or deposit attrition, technology and operational/security risks, FDIC loss-sharing expiration, and litigation.
- Off-balance-sheet commitments to extend credit totaled $1.7 billion; letters of credit totaled $22.1 million. The filing notes these contractual amounts do not necessarily represent future cash requirements.
- The company reported various litigation and claims but said related losses were not considered probable or reasonably estimable at September 30, 2014. It reported no material change to previously disclosed legal proceedings.
- Acquired assets and liabilities were recorded at estimated fair value, and purchase-price measurements remained subject to refinement for up to one year. Management noted that estimates and assumptions may change materially.
- Management concluded disclosure controls were effective at a reasonable-assurance level and reported no material change in internal control over financial reporting during the quarter.
Important facts for investors to verify
- Whether Columbus acquisition integration, conversion costs, expected synergies and customer retention meet management’s expectations.
- Credit performance and reserve adequacy as acquired loans season, especially after the October 1 expiration of FDIC protection on $190.3 million of loans.
- Whether loan growth can offset continued covered-loan runoff and low yields without further net interest margin compression.
- Deposit mix, borrowing needs and funding costs, including continued reliance on short-term FHLB advances and wholesale liquidity.
- Changes in nonperforming loans, classified assets, charge-offs and allowance coverage, including the effect of acquisition accounting on reported ratios.
- Actual capital and liquidity effects of Basel III implementation, and the company’s ability to sustain dividends and resume repurchases.