FIRST FINANCIAL CORP quarterly report, Q1 FY2018

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First Financial Corporation — Q1 2018 Form 10-Q

Business context and reporting period. First Financial Corporation is a bank holding company reporting one banking segment. This unaudited report covers the three months ended March 31, 2018; balance-sheet comparisons are with December 31, 2017. Dollar figures below are in millions unless stated otherwise.

Financial performance and condition

  • Profitability: Net income was $9.0 million, down 4.4% from $9.4 million a year earlier. Diluted EPS was $0.73 versus $0.77. Return on assets was 1.20% and return on equity was 8.64%, compared with 1.26% and 8.78%.
  • Net interest: Net interest income rose 3.6% to $27.5 million from $26.5 million; reported net interest margin was 4.06% versus 4.05%. Interest income increased to $29.4 million, while interest expense rose to $1.9 million from $1.3 million.
  • Other income and expenses: Non-interest income fell to $8.1 million from $11.0 million, largely because Q1 2017 included a $3.1 million recovery on a previously impaired security. Non-interest expense rose to $23.2 million from $22.6 million, with “other” expense increasing to $6.5 million from $5.7 million.
  • Taxes: Income tax expense was $1.9 million versus $4.0 million; the effective rate declined primarily due to the Tax Cuts and Jobs Act. The filing does not state the effective rates directly.
  • Loans and credit: Gross loans were $1.904 billion at quarter-end, essentially unchanged from year-end; net loans were $1.887 billion. The allowance was $20.2 million, 1.06% of gross loans, and 97.7% of reported non-performing loans. Non-performing loans totaled $20.7 million, down from $21.7 million at year-end but above $19.7 million a year earlier. Q1 provision was $1.5 million; net charge-offs were approximately $1.1 million.
  • Liquidity, funding and balance sheet: Total assets were $2.957 billion, down from $3.001 billion at year-end. Deposits were $2.457 billion, approximately flat; short-term borrowings fell to $29.1 million from $57.7 million. Cash and due from banks declined to $41.2 million from $74.1 million; the company also held $1.5 million in federal funds sold. Management cited unused Federal Home Loan Bank and correspondent-bank borrowing capacity and expected liquidity to be adequate.
  • Cash flow: Operating activities provided $9.0 million, investing activities used $5.3 million, and financing activities used $36.7 million. Financing cash use included a $28.6 million reduction in short-term borrowings and $6.2 million of dividends paid. Cash and cash equivalents decreased $33.0 million during the quarter.
  • Capital and equity: Shareholders’ equity was $414.9 million at March 31. The Corporation’s total risk-based capital ratio was 18.45% and Tier 1 leverage ratio was 13.71%; the bank’s respective ratios were 17.64% and 13.07%. The filing reports ratios above applicable stated well-capitalized thresholds. The quarter included $6.2 million of dividends and $0.4 million of share repurchases.

Material changes and unusual items

  • Available-for-sale securities had $17.9 million of gross unrealized losses at March 31, up from $9.5 million at year-end. Management attributed most losses to market interest rates rather than issuer credit, said it did not intend to sell the securities, and did not consider them other-than-temporarily impaired. The securities-related change contributed to a $7.4 million other comprehensive loss for the quarter; comprehensive income was $1.5 million.
  • The Corporation early adopted ASU 2018-02 and reclassified $2.4 million of stranded tax effects from accumulated other comprehensive income to retained earnings. This was an equity reclassification, not a change in total equity.
  • The allowance for loan losses increased from $19.9 million at year-end, following $2.1 million of charge-offs, $0.9 million of recoveries, and $1.5 million of provision.
  • Management’s financial-condition discussion says loans increased $72 million versus March 2017 and deposits increased 0.79% year over year; these comparisons differ from the nearly flat quarter-over-quarter loan and deposit movements.

Outlook, risks and contingencies

  • No specific earnings or revenue guidance was provided. Management described interest-rate risk as its most significant market risk. Its model estimated that a parallel 100-basis-point rate increase would raise net interest income 2.58% over 12 months, while a 100-basis-point decrease would reduce it 1.74%; the filing cautions that these simulations rely on assumptions and presume no management response.
  • For the next 12 months, management expected $4.6 million of investment maturities, $88.7 million of mortgage-backed securities principal payments, and $20.5 million of securities calls, and anticipated adequate liquidity. These are estimates, not commitments.
  • Management said the allowance was adequate based on its portfolio analysis. It expects the forthcoming current expected credit loss (CECL) standard to increase the allowance at adoption, but said the amount was uncertain. The filing identifies execution, economic and market conditions, interest rates, competition, litigation, regulation and accounting changes as risks to forward-looking results.
  • The filing reports no material pending legal proceedings beyond routine litigation and no material changes to the risk factors disclosed in the 2017 Form 10-K. Management concluded disclosure controls were effective and reported no material change in internal control over financial reporting during the quarter.

Important facts for investors to verify

  1. Whether higher deposit and borrowing costs affect the reported net interest margin and future net interest income.
  2. Whether the increase in securities unrealized losses remains primarily rate-driven, and whether securities valuation assumptions or liquidity needs change.
  3. Trends in non-performing loans, charge-offs, criticized loan categories and allowance adequacy, including the eventual quantified impact of CECL.
  4. The drivers of higher “other” non-interest expense and the sustainability of earnings after excluding the prior-year $3.1 million securities recovery.
  5. Actual liquidity, deposit trends, capital ratios and sensitivity to interest-rate changes compared with management’s model estimates.