Business context and reporting period
First Commonwealth Financial Corporation is a bank holding company. This unaudited Form 10-Q covers the three months ended March 31, 2020; comparisons are with Q1 2019 unless otherwise noted. The quarter coincided with the onset of the COVID-19 pandemic. Dollar amounts below are in millions unless stated otherwise.
Financial performance and condition
| Metric | Q1 2020 / March 31, 2020 | Comparison |
|---|---|---|
| Net interest income | $67.7; $68.1 on a fully taxable-equivalent basis | $65.5 GAAP; $65.9 FTE |
| Net interest margin | 3.65% FTE | 3.75% |
| Provision for credit losses | $31.0 | $4.1 |
| Noninterest income | $19.3 | $18.9 |
| Noninterest expense | $50.3 | $49.7 |
| Net income / diluted EPS | $4.7 / $0.05 | $24.6 / $0.25 |
| Return on average assets / equity | 0.23% / 1.77% | 1.27% / 10.11% |
| Cash dividends declared per share | $0.11 | $0.10 |
Management attributed the sharp earnings decline primarily to the $31.0 million provision, recorded to provide for estimated probable COVID-related credit losses. Net interest income increased as average earning assets grew, but lower asset yields reduced margin; interest-rate changes negatively affected net interest income by $3.9 million year over year. Higher mortgage-sale gains and fee income helped offset a $1.7 million negative derivative mark-to-market adjustment, which management said was not a realized swap loss.
At March 31, total assets were $8.52 billion, portfolio loans $6.31 billion, deposits $6.92 billion and shareholders’ equity $1.06 billion. Assets rose from $8.31 billion and deposits from $6.68 billion at December 31, 2019. The allowance for credit losses was $79.1 million, or 1.25% of portfolio loans, versus $51.6 million, or 0.83%, at year-end. Nonperforming loans were $59.1 million, up from $32.2 million; the allowance equaled 133.71% of nonperforming loans.
Q1 operating cash flow was $33.1 million; investing activities used $195.2 million and financing activities provided $174.4 million. Cash and cash equivalents increased $12.3 million to $134.2 million. Short-term borrowings declined to $147.0 million from $201.9 million. Long-term debt was $234.0 million, including $170.5 million of subordinated debentures. Deposits increased $245.5 million during the quarter. Management reported ample available borrowing capacity, including $1.5 billion at the FHLB, $803.3 million through the Federal Reserve collateral program, and unused correspondent-bank federal funds and repo lines.
The company and bank met regulatory capital requirements and were considered well-capitalized. The company’s total risk-based capital ratio was 14.18% and common equity Tier 1 ratio 10.54%; the bank’s respective ratios were 13.71% and 11.08%.
Material changes versus the prior comparable period
- Net income fell by $19.9 million, mainly reflecting the pandemic-related credit-loss provision; diluted EPS fell from $0.25 to $0.05.
- Loans grew 2.0% from year-end to $6.31 billion. Commercial real estate and consumer lending were major contributors; construction loans declined.
- Nonperforming loans rose to 0.93% of loans from 0.52% at year-end. Four commercial real estate relationships totaling $27.0 million moved to nonaccrual during Q1.
- Net interest margin declined 10 basis points year over year. Average earning assets increased 5.4%, while the yield on earning assets fell 28 basis points.
- Shareholders’ equity increased $2.3 million from year-end, reflecting income and higher securities values, partly offset by dividends and repurchases. The company suspended its share repurchase program in March.
Outlook, commentary, risks and unusual items
- The filing provides no specific earnings or financial guidance. Management emphasized that COVID-19’s duration and economic effects were highly uncertain and could materially affect borrowers, revenue, credit losses, liquidity and capital.
- As of April 24, 2020, the company had granted approximately 6,000 short-term payment deferrals covering $1.1 billion of principal. These were generally 90-day deferrals and are subsequent-quarter developments, not Q1 balances.
- From April 3, the company obtained SBA authorization to fund 4,600 Paycheck Protection Program loans totaling about $600 million. The filing notes that risks and liabilities associated with the program could not yet be determined.
- The company elected under the CARES Act to defer CECL adoption and used the incurred-loss method at March 31. Before the deferral, management had estimated CECL adoption would increase the December 31, 2019 allowance by approximately 20%–30%; that estimate was based on conditions and forecasts at the planned adoption date.
- The $31.0 million provision included $7.4 million in specific reserves and $16.7 million in higher qualitative reserves, including for uncertain economic conditions, customer forbearances, hospitality and senior living exposures. Management stated that the allowance was adequate, while acknowledging estimates could change with economic conditions and borrower performance.
- The company temporarily suspended residential foreclosures and involuntary auto repossessions and offered fee waivers and other customer assistance. Management also identified potential goodwill impairment, securities impairment, market volatility, and operational disruption as pandemic-related risks; it found no goodwill impairment trigger at March 31.
- Potential litigation losses beyond recorded liabilities were estimated at $0–$1 million in aggregate and were not considered probable or material to financial position, though a material effect on a future period’s results or cash flows could not be ruled out.
Important facts for investors to verify
- Subsequent-quarter performance and credit quality, especially the repayment outcomes of the $1.1 billion in deferrals and exposures in commercial real estate, hospitality and senior living.
- Actual PPP loan funding, fee recognition, forgiveness, and any resulting operational, credit or legal costs.
- Whether the $79.1 million allowance adequately reflects losses as economic forecasts and borrower conditions evolve, and the timing and impact of CECL adoption.
- Deposit stability, available liquidity, borrowing usage, and regulatory capital levels under stressed conditions.
- The durability of net interest income and margin following rate cuts, and the effects of market movements on securities and derivative valuations.