Zions Bancorporation, N.A. — 2Q 2019 Form 10-Q Summary
Business context and reporting period
Zions Bancorporation, National Association is a commercial bank headquartered in Salt Lake City, Utah, serving customers through seven branded banking divisions across 11 Western and Southwestern states. This unaudited Form 10-Q covers the three and six months ended June 30, 2019. The bank reported as the successor to Zions Bancorporation following the September 30, 2018 merger.
Key financial metrics
| Metric | 2Q 2019 | Comparable period |
|---|---|---|
| Net income | $198 million | $197 million in 2Q 2018 |
| Net earnings applicable to common shareholders | $189 million | $187 million |
| Diluted EPS | $0.99 | $0.89 |
| Net interest income | $569 million | $548 million |
| Provision for credit losses | $21 million | $12 million |
| Noninterest income | $132 million | $138 million |
| Noninterest expense | $424 million | $421 million |
| Net interest margin | 3.54% | 3.56% |
| Efficiency ratio | 59.0% | 60.9% |
| Return on average tangible common equity | 12.7% | 12.4% |
- For the six months ended June 30, 2019, net income was $411 million, net earnings applicable to common shareholders were $394 million, and diluted EPS was $2.04, compared with $435 million, $418 million, and $1.97, respectively, for the first six months of 2018.
- Average loans were $48.3 billion in the second quarter, up 7% year over year; period-end net loans were $48.6 billion, up from $46.7 billion at December 31, 2018.
- Total assets were $70.1 billion and total deposits were $54.3 billion at June 30, 2019. The loan-to-total-deposit ratio increased to 89% from 86% at December 31, 2018.
- Cash, interest-bearing deposits, and security resell agreements totaled $1.7 billion at June 30, 2019. Investment securities totaled $15.5 billion, together representing approximately 25% of total assets.
- Long-term debt increased to $1.236 billion from $724 million at December 31, 2018, primarily because of a $500 million senior note issued at 3.35%, due March 4, 2022. Short-term borrowings were $6.0 billion.
- Net cash provided by operating activities was $220 million for the first six months, compared with $438 million in the prior-year period. Net cash used in investing activities was $715 million, while financing activities provided $419 million.
- Basel III capital ratios remained above regulatory requirements: common equity tier 1 was 10.8%, Tier 1 leverage was 9.5%, Tier 1 risk-based capital was 11.8%, and total risk-based capital was 13.0%.
Material changes versus prior comparable periods
- Second-quarter net income increased modestly by $1 million, while diluted EPS increased 11% because diluted shares declined by approximately 20 million, primarily from share repurchases.
- Net interest income increased 4% year over year, driven mainly by loan growth and higher loan yields, but interest expense increased $57 million as deposit and borrowing costs rose.
- NIM contracted from 3.56% to 3.54% year over year and from 3.68% in the first quarter of 2019, reflecting higher funding costs, competitive deposit pricing, portfolio mix changes, and lower loan yields in the second quarter.
- Customer-related fees increased 4% to $130 million, but total noninterest income declined 4% because of securities losses, lower dividends and other investment income, and a $6 million valuation adjustment on client-related interest-rate swaps.
- Noninterest expense increased 1%. Salaries and benefits rose $8 million and technology-related expense increased, partly offset by an $8 million decline in FDIC premiums.
- The provision for credit losses increased to $21 million from $12 million. Second-quarter net charge-offs were $14 million, compared with net recoveries of $12 million in 2Q 2018.
- Credit quality generally improved year over year: criticized, classified, and nonaccrual loans declined by $232 million, $177 million, and $94 million, respectively. Nonperforming assets were $253 million, or 0.52% of loans and OREO, versus $256 million and 0.55% at December 31, 2018.
- The allowance for loan losses was $503 million and the total allowance for credit losses, including unfunded commitments, was $563 million at June 30, 2019.
- During the first six months, the bank repurchased 11.3 million common shares for $550 million. During the preceding 12 months, it repurchased $985 million of stock, or approximately 10.2% of common shares outstanding at June 30, 2018.
Guidance, outlook, risks, contingencies, and unusual items
- Management expected moderate total loan growth over the next four quarters and projected 2019 adjusted noninterest expense growth in the low single-digit percentage range. Management also remained focused on further efficiency-ratio improvement.
- Management anticipated revenue headwinds from falling interest rates and was emphasizing expense control, technology upgrades, automation, and process simplification.
- To reduce exposure to declining rates, the bank added $3.5 billion of interest-rate floors and $1.6 billion of interest-rate swaps during the first six months. Shortly after quarter-end, it modified its floors by reducing the strike rate from 1.5% to 1% and increasing aggregate notional value from $3.5 billion to $7.0 billion, without additional cost.
- The bank expects moderately lower net interest income in a falling-rate environment because assets reprice faster than liabilities. At June 30, modeled earnings at risk indicated a 4.1% decline in one-year net interest income under a 100-basis-point rate decrease and a 6.0% increase under a 200-basis-point increase.
- The bank will adopt the current expected credit loss standard, ASU 2016-13, on January 1, 2020. Management stated that adoption may materially affect the financial statements and may increase credit-loss volatility; the amount of the impact was not yet clear.
- LIBOR is expected to be discontinued after 2021. The bank has LIBOR-linked loans, securities, and derivatives and noted that amending certain contracts could be difficult or costly.
- At June 30, 2019, the bank reported $23.3 billion of unfunded lending commitments, including standby and commercial letters of credit. It had recorded approximately $4 million of liabilities for standby-letter-of-credit guarantees.
- Management estimated reasonably possible litigation losses of up to approximately $45 million in excess of accrued amounts for matters that could be meaningfully estimated. The range excludes matters for which a meaningful estimate was not possible and therefore is not the bank’s maximum exposure.
- Material litigation included matters involving alleged Ponzi schemes, borrower fraud, and California wage-and-hour claims. Management considered current accruals adequate but noted that adverse outcomes could materially affect a reporting period.
- The bank adopted lease accounting guidance in 2019, recording approximately $225 million of right-of-use assets and $242 million of lease liabilities at adoption, with no retained-earnings impact. It also recorded a $3 million cumulative reduction to retained earnings from adoption of premium-amortization guidance.
- In July 2019, the board approved a $275 million third-quarter common-stock repurchase plan and declared a $0.34 quarterly common dividend.
Most important facts for investors to verify
- Whether loan growth can continue without further reliance on higher-cost wholesale funding and without a material deterioration in credit losses.
- The sensitivity of NIM and earnings to declining interest rates, deposit pricing competition, deposit migration, and the effectiveness of the expanded hedging program.
- The eventual January 1, 2020 CECL adoption adjustment, including its effect on retained earnings, capital ratios, provisioning, and earnings volatility.
- Trends in classified, criticized, nonaccrual, and commercial real estate loans, particularly construction and land development exposures and the oil-and-gas portfolio.
- The sustainability of aggressive capital distributions, including the $275 million repurchase authorization, relative to earnings, loan growth, liquidity, and regulatory capital.
- Progress and remaining costs of the core systems replacement project and the planned deposit-system conversion by 2022.
- Developments in the disclosed litigation and the potential for losses above the estimated $45 million range.
- The bank’s transition plan for LIBOR-linked contracts and any resulting operational, legal, or valuation impacts.