Fulton Financial Corporation — Q3 2019 Form 10-Q
Business context and period: Fulton is a regional financial holding company providing retail and commercial banking and related services in Pennsylvania, Delaware, Maryland, New Jersey, and Virginia. This unaudited filing covers the three and nine months ended September 30, 2019; balance-sheet comparisons are to December 31, 2018.
Financial performance and position
| Metric | Q3 2019 | Q3 2018 | Nine months 2019 | Nine months 2018 |
|---|---|---|---|---|
| Net interest income | $161.3 million | $160.1 million | $489.1 million | $467.5 million |
| Net income | $62.1 million | $65.6 million | $178.6 million | $150.3 million |
| Diluted earnings per share | $0.37 | $0.37 | $1.06 | $0.85 |
| Net interest margin, FTE | 3.31% | 3.42% | 3.41% | 3.39% |
| Noninterest income, including securities gains | $59.8 million | $51.0 million | $160.9 million | $146.0 million |
| Noninterest expense | $146.8 million | $135.4 million | $428.8 million | $405.4 million |
- Q3 net income fell 5.4% year over year despite broadly stable diluted EPS, which management attributed in part to share repurchases. Nine-month net income increased 18.8% and diluted EPS increased 24.7%.
- At September 30, total assets were $21.70 billion, up 4.9% from year-end; loans and leases, net of unearned income, were $16.69 billion, up 3.2%; and deposits were $17.34 billion, up 5.9%.
- Q3 average loans grew 3.6% year over year and average deposits grew 6.2%. Funding costs rose faster than asset yields in the quarter: management reported a 24-basis-point increase in cost of funds versus a 12-basis-point increase in asset yields. The nine-month margin edged up 2 basis points.
- For the first nine months, operating cash flow was $43.5 million, investing cash use was $497.0 million, and financing cash flow was $606.4 million. Cash and cash equivalents ended at $598.6 million, up $152.9 million from year-end; management cited increased collateral posted for commercial loan swap contracts as a key factor in cash growth.
- At September 30, short-term borrowings were $832.9 million and FHLB advances and long-term debt were $726.7 million. Long-term debt declined 26.8% from year-end, primarily following the balance-sheet restructuring and maturities. Deposits were the main funding source for loan growth.
- Regulatory capital ratios were 12.0% total capital, 9.6% Tier 1, 9.6% Common Equity Tier 1, and 8.5% Tier 1 leverage. The company stated that it met fully phased-in capital requirements and its bank subsidiary was well capitalized.
Material changes and unusual items
- In Q3, Fulton sold approximately $400 million of investment securities and prepaid FHLB advances as part of a balance-sheet restructuring. The sales generated $4.5 million of securities gains; prepayment penalties of $4.3 million were recorded in expense.
- Noninterest income excluding securities gains increased 8.4% in Q3 and 7.0% year to date, with growth in mortgage banking, commercial banking, consumer banking, and wealth management. Mortgage banking gains benefited from higher loan-sale volume and spreads.
- Noninterest expense rose 8.4% in Q3 and 5.8% year to date. Drivers included higher outside services and technology costs, Charter Consolidation costs ($5.2 million in Q3; $11.7 million year to date), and the FHLB prepayment penalty. FDIC insurance expense was lower after recognition of assessment credits.
- Q3 provision for credit losses was $2.2 million; the nine-month provision was $12.3 million versus $38.7 million in 2018. The prior-year period included a $36.8 million provision and $33.9 million charge-off tied to a single large commercial relationship.
- Net charge-offs were 0.15% of average loans annualized in Q3, versus 0.08% a year earlier; the nine-month rate was 0.07%, versus 0.40%. Nonperforming assets were $143.7 million, or 0.66% of assets, versus $150.2 million, or 0.73%, at year-end. Criticized and classified risk-rated loans increased to $715.9 million from $652.8 million at year-end, including a rise in substandard-or-lower balances.
- Fulton adopted lease accounting in 2019, recognizing $104.7 million of right-of-use assets and $111.6 million of lease liabilities at September 30. It expects to adopt CECL in Q1 2020 and said the allowance for credit losses is expected to increase at adoption; the amount was not provided.
- In October 2019, the board authorized up to $100 million of additional share repurchases through December 31, 2020. During the first nine months, Fulton repurchased 6.8 million shares for approximately $111.3 million.
Outlook, risks, and contingencies
- The filing provides no specific earnings, revenue, margin, or loan-growth guidance. Management cautions that interim results are not necessarily indicative of full-year results and that forward-looking statements depend on uncertain conditions.
- Key risks cited include economic and credit deterioration, interest-rate and funding changes, competition, regulatory and compliance costs, operational and cybersecurity risks, acquisition integration, and adverse legal or regulatory outcomes.
- The Department of Justice informed Fulton in October 2019 that its fair-lending review was complete and that enforcement action was not required at that time. Separately, the SEC Division of Enforcement was investigating certain accounting determinations that could have affected reported EPS; Fulton said it was cooperating and could not predict the outcome or timing.
- Management said pending legal matters were not expected to have a material adverse effect on financial condition, but acknowledged that an unfavorable resolution could materially affect results or business. Mortgage repurchase and indemnification exposure is also present; the reserve for losses on residential mortgages sold was $2.5 million.
- Interest-rate simulations showed estimated annual net interest income increases of 3.2%, 6.2%, and 9.0% under +100, +200, and +300 basis-point shocks, and decreases of 5.2% and 11.7% under −100 and −200 basis-point shocks. These are modeled estimates, not guidance, and depend on assumptions about rates and customer behavior.
Key facts for investors to verify
- Whether deposit pricing and other funding costs continue to outpace asset-yield repricing, and the resulting effect on net interest margin.
- The durability of fee growth and the impact of securities gains, restructuring costs, Charter Consolidation expenses, and other one-time or elevated expenses on underlying earnings.
- Credit trends, particularly the increase in classified loans, commercial loan exposures, and the allowance adequacy as Fulton prepares for CECL adoption.
- The final CECL day-one allowance and regulatory-capital impact, which management said were still being refined and did not quantify.
- The outcome and any financial or operational consequences of the SEC investigation, and confirmation of the status of other legal and regulatory matters.
- Execution and funding of the new $100 million repurchase authorization, alongside capital ratios and liquidity needs.