First Merchants Corporation — Q2 2021 Form 10-Q
Business context and reporting period
First Merchants is an Indiana-based community banking company operating through First Merchants Bank, with 109 locations across Indiana, Illinois, Ohio and Michigan. This unaudited report covers the quarter and six months ended June 30, 2021; comparisons are to the same 2020 periods unless otherwise noted.
Financial and operating highlights
| Metric | Q2 2021 | Six months 2021 |
|---|---|---|
| Net interest income | $104.3 million | $204.7 million |
| Net income available to common shareholders | $55.6 million | $105.0 million |
| Diluted EPS | $1.03 | $1.94 |
| Net interest margin, FTE | 3.22% | 3.23% |
| Net cash from operating activities | Not separately stated | $95.1 million |
- Q2 net income rose 68% and diluted EPS increased from $0.62 to $1.03. Six-month net income rose from $67.3 million to $105.0 million.
- Q2 net interest income increased 12% from $93.0 million. FTE net interest margin rose 3 basis points year over year; six-month margin declined 9 basis points to 3.23%.
- No loan-loss provision was recorded in either 2021 period, versus $21.9 million in Q2 2020 and $41.6 million in the first half of 2020. Net charge-offs were $1.3 million for Q2 and $4.9 million for six months, versus $0.2 million and $0.8 million, respectively.
- Q2 other income increased 16.6% to $30.9 million, including an $8.3 million contribution from loan-sale gains and fees. Other expense rose 15.5% to $69.3 million; management cited unusually low Q2 2020 expenses and higher 2021 salary and incentive costs.
- At June 30, assets were $14.9 billion, up 6.1% from year-end; deposits were $12.2 billion, up $841.8 million. Loans were $9.12 billion versus $9.24 billion at year-end. Investment securities totaled $4.15 billion, about $1.0 billion higher, as deposit-driven excess liquidity was invested.
- Cash and cash equivalents were $167.6 million and interest-bearing deposits were $438.9 million. Six-month operating cash flow was $95.1 million, investing cash outflow was $848.5 million and financing cash inflow was $728.1 million.
- Total borrowings were $599.6 million, down $85.3 million from year-end: FHLB advances were $334.2 million and repurchase agreements $146.9 million. The Bank reported $762.8 million of remaining FHLB borrowing capacity.
- The allowance for credit losses on loans was $199.8 million, or 2.19% of loans (2.29% excluding PPP loans). Nonperforming loans were $58.2 million, down from $64.7 million at year-end; nonaccrual loans were $57.6 million. Management reported a 347.1% allowance-to-nonaccrual coverage ratio.
- Regulatory capital remained above well-capitalized requirements. At June 30, the Corporation’s CET1 ratio was 11.94% and total risk-based capital ratio 14.23%; the Bank’s respective ratios were 11.99% and 13.25%. Tangible common equity to tangible assets was 9.04%, versus 9.65% at year-end.
Material changes, outlook and risks
- The company adopted CECL on January 1, 2021. The transition increased the loan allowance by $74.1 million and established a $20.5 million reserve for unfunded commitments, with a $68.0 million after-tax reduction to opening retained earnings. This accounting change limits direct comparison of 2021 and 2020 credit measures.
- Hoosier Trust Company was acquired on April 1 for $3.2 million in cash; it had approximately $290 million in assets under management. The preliminary allocation included $2.2 million of customer-relationship intangibles and $1.5 million of goodwill.
- PPP loans declined to $415.8 million from $667.1 million at year-end. The Bank reported $595.7 million of loans forgiven by the SBA and expects most remaining PPP loans to be forgiven. Q2 PPP processing-fee income was $8.2 million; early repayment or forgiveness can accelerate recognition of remaining fees.
- COVID-19 remained an uncertainty, including potential effects on customers, collateral values and credit quality. Loan balances still in deferment were $40.3 million, including hotel exposure of $19.4 million and $15.0 million tied to three entertainment-industry loans.
- Management reported interest-rate sensitivity of +2.9% to projected 12-month net interest income under an immediate 200-basis-point rise, and -0.2% under a 100-basis-point decline. These are model scenarios, not forecasts.
- No specific earnings or financial guidance was provided. Management cautioned that results may be affected by interest rates, economic and credit conditions, COVID-19, competition, regulation, acquisitions, liquidity and capital needs.
- A putative class action filed June 24, 2021 challenges overdraft-fee practices for certain debit-card transactions. The company disputes the claims; management said it could not yet assess the likelihood of a material adverse outcome or estimate potential loss.
- The Bank completed a planned consolidation of 17 banking centers by April 30, 2021; closed properties valued at $4.5 million were classified as held for sale. No share repurchases were made under the new $100 million authorization by June 30.
Important facts for investors to verify
- How CECL assumptions and economic forecasts affect future allowance levels, provision expense and regulatory capital as the transition phases in through 2024.
- Credit developments in commercial real estate, including senior-living exposures, and the performance of deferred hotel and entertainment loans.
- The pace of PPP forgiveness and the remaining contribution of PPP fees to interest income and reported margins.
- Whether deposit growth, funding costs and securities investment support margins as rates and liquidity conditions change.
- Any developments in the overdraft-fee litigation, the Hoosier acquisition’s integration, and sale of the closed banking-center properties.