Republic Bancorp, Inc. — Q2 2017 Form 10-Q
Reporting period: Three and six months ended June 30, 2017; unaudited. Amounts below are in U.S. dollars. The company is a Kentucky-based bank with Traditional Banking, Warehouse Lending, Mortgage Banking, and Republic Processing Group (RPG) operations.
Financial performance and condition
| Metric | Q2 2017 | Q2 2016 | First half 2017 | First half 2016 |
|---|---|---|---|---|
| Net interest income | $43.1 million | $35.6 million | $99.6 million | $75.0 million |
| Provision for loan losses | $5.1 million | $1.8 million | $17.4 million | $7.0 million |
| Noninterest income | $12.9 million | $10.8 million | $37.9 million | $35.7 million |
| Noninterest expense | $35.7 million | $31.9 million | $74.7 million | $64.4 million |
| Net income | $10.1 million | $8.3 million | $30.1 million | $26.1 million |
| Diluted EPS, Class A / Class B | $0.48 / $0.44 | $0.40 / $0.37 | $1.45 / $1.32 | $1.26 / $1.14 |
| Net interest margin | 3.87% | 3.43% | 4.44% | 3.60% |
At June 30, 2017, total assets were $4.96 billion, loans net of allowance were $3.88 billion, deposits were $3.13 billion, and stockholders’ equity was $626.9 million. The allowance for loan and lease losses was $37.9 million, or 0.97% of total loans.
Six-month operating cash flow was $54.2 million, compared with $17.4 million in 2016. Investing activities used $114.8 million and financing activities provided $104.0 million; cash and cash equivalents rose $43.4 million to $332.7 million.
Total borrowings included $1.00 billion of Federal Home Loan Bank advances, $113.3 million of repurchase agreements and other short-term borrowings, and a $41.2 million subordinated note. FHLB advances increased $200 million from year-end, including $625 million of overnight advances. Available liquidity included $96 million of FHLB borrowing capacity, $125 million of unsecured credit lines, and $343 million of unencumbered securities. The loan-to-deposit ratio excluding brokered deposits was 132%.
The company reported well-capitalized regulatory status. At June 30, the bank’s common equity tier 1 ratio was 12.99%, total risk-based capital ratio 13.90%, and tier 1 leverage ratio 11.68%; the holding company’s respective ratios were 14.48%, 16.33%, and 13.87%.
Material changes versus comparable periods
- Q2 net income rose 21%; first-half net income rose 15%. Growth reflected higher net interest income and RPG activity.
- First-half net interest income increased 33%, with the margin rising to 4.44%. Management attributed much of the first-half margin uplift to Easy Advance (EA) fees recognized as interest income.
- Credit costs rose materially: first-half provision increased to $17.4 million from $7.0 million, while net charge-offs increased to $12.4 million from $5.2 million. RPG accounted for most of the provision increase.
- Loans grew $106 million, or 3%, from year-end to $3.92 billion. Traditional Banking growth in commercial and industrial and commercial real estate loans was partly offset by lower residential real estate balances.
- Deposits decreased $27 million. Interest-bearing deposits fell $116 million, primarily as the company reduced brokered deposits; noninterest-bearing deposits increased $90 million.
- Noninterest expense increased 12% in Q2 and 16% in the first half. Management cited additional staffing, new locations, renovations, and technology investment.
- Mortgage Banking income declined 7% in Q2 and 8% in the first half, alongside lower secondary-market originations. Warehouse Lending net income increased in both comparison periods.
Outlook, commentary, risks, and unusual items
- No quantified full-year earnings or revenue guidance is provided. Management said near-term rate increases could support net interest income, but rising funding costs or a flatter yield curve could reverse that benefit. Its interest-rate model projected net interest income increases of 5.4% to 10.1% under parallel rate increases of 100 to 400 basis points and a 0.3% decrease under a 100-basis-point decline; these are model scenarios, not guidance.
- Management expected Warehouse line usage could be lower than comparable 2016 periods if long-term mortgage rates rise. Warehouse balances and usage are sensitive to mortgage-market conditions and seasonality.
- EA originations reached $328.5 million in the first half, versus $123.2 million a year earlier, partly reflecting delayed tax refunds associated with federal fraud-prevention measures and higher average advance amounts. The product has elevated credit-model risk because expected repayment depends on tax refunds; management bases underwriting largely on prior-year refund funding patterns. First-half EA provision was $7.9 million, and EA net charge-offs were $7.9 million, or 2.40% of originations.
- RCS offers higher-yield, higher-credit-risk consumer products. First-half RPG provision was $15.4 million; management cited loan growth and higher historical loss factors at RCS. RPG allowance was 20.53% of RPG loans at quarter-end.
- Correspondent mortgage loans are concentrated outside the bank’s historical footprint; 73% of that channel’s loans at June 30 were secured by California collateral. The bank also relies substantially on FHLB funding, including overnight advances, and reports sensitivity to interest rates and liquidity needs.
- Tax Refund Solutions is seasonal: most activity occurs in the first half, with the division traditionally operating at a loss in the second half while preparing for the next tax season.
- The company identified no pending or threatened legal proceeding expected to cause a material adverse change. Management reported effective disclosure controls and no material change in internal control over financial reporting.
- The filing states that the expected adoption of the credit-loss standard (CECL) in 2020 would cause a substantial, but undetermined, increase in the allowance.
Important facts for investors to verify
- Whether EA and RCS charge-offs and reserve assumptions remain consistent with actual repayment and loss experience, particularly after the sharp increase in originations.
- Whether reported margin and earnings growth are sustainable after seasonal EA fees and tax-season activity subside.
- The cost, availability, and maturity profile of funding, including the $625 million of overnight FHLB advances, brokered-deposit strategy, and remaining liquidity capacity.
- Credit quality trends in commercial lending, California correspondent mortgages, and higher-risk RPG consumer loans; also track nonperforming loans, which were $15.8 million, or 0.40% of loans.
- Whether operating-expense growth and strategic investments generate sufficient returns, and how rising rates or a flatter yield curve affect future net interest income.