Business Context and Reporting Period
Prosperity Bancshares, Inc. and subsidiaries, including Prosperity Bank, filed an unaudited Form 10-Q for the quarter and nine months ended September 30, 2022. The Company provides banking products and services through 272 full-service locations across Texas and Oklahoma. Its primary revenue sources are loan and securities interest income, deposit fees and other banking services.
Key Financial Metrics
| Metric | Three Months Ended September 30, 2022 | Three Months Ended September 30, 2021 | Nine Months Ended September 30, 2022 | Nine Months Ended September 30, 2021 |
|---|---|---|---|---|
| Net interest income | $260.7 million | $248.6 million | $749.1 million | $748.5 million |
| Noninterest income | $34.7 million | $34.6 million | $107.4 million | $104.2 million |
| Noninterest expense | $122.2 million | $119.8 million | $364.9 million | $354.1 million |
| Net income | $135.8 million | $128.6 million | $386.6 million | $392.5 million |
| Diluted EPS | $1.49 | $1.39 | $4.22 | $4.23 |
| Net interest margin, tax-equivalent | 3.11% | 3.10% | 2.99% | 3.20% |
| Efficiency ratio | 41.38% | 42.34% | 42.70% | 41.52% |
| Return on average assets | 1.45% | 1.42% | 1.37% | 1.47% |
| Return on average common equity | 8.24% | 8.07% | 7.88% | 8.32% |
At September 30, 2022, total assets were $37.84 billion, total loans were $18.51 billion, total deposits were $29.30 billion and shareholders’ equity was $6.61 billion. Cash and cash equivalents were $602.4 million. The allowance for credit losses on loans was $282.2 million, or 1.52% of total loans, and the allowance for off-balance-sheet credit exposures was $29.9 million.
Operating cash flow for the first nine months was $507.0 million. Investing activities used $1.94 billion, primarily reflecting net securities purchases and loan funding. Financing activities used $508.9 million, including $142.9 million of dividends and $65.7 million of share repurchases, partially offset by $1.17 billion of short-term borrowings. Net cash decreased by $1.95 billion during the period.
Outstanding borrowings included $1.165 billion of Federal Home Loan Bank advances and $454.3 million of repurchase agreements. The Company reported $14.16 billion of available capacity under its FHLB line. The Bank’s September 30, 2022 regulatory capital ratios were above well-capitalized thresholds, including a 15.40% CET1 ratio, 16.04% total risk-based capital ratio and 9.92% Tier 1 leverage ratio.
Material Changes Versus Comparable Periods
- Third-quarter net income increased 5.6%, while diluted EPS increased 7.2%, primarily reflecting higher net interest income and lower credit losses.
- Nine-month net income decreased 1.5% and diluted EPS decreased slightly, as lower loan income and reduced purchase-accounting accretion offset higher securities income.
- Third-quarter net interest income increased 4.9%. Securities interest income rose 48.8%, but loan interest income declined 1.7%.
- Nine-month net interest margin declined to 2.99% from 3.20%, primarily because of lower loan discount accretion and reduced PPP fee and interest income.
- Total loans declined 0.6% from December 31, 2021. Warehouse Purchase Program loans fell to $922.8 million from $1.78 billion, while loans held for investment excluding the program increased.
- Total deposits declined 4.8%, driven by a $1.88 billion decrease in interest-bearing deposits, partially offset by a $404.1 million increase in noninterest-bearing deposits.
- Investment securities increased 15.5% to $14.81 billion and represented 39.1% of total assets, compared with 33.9% at year-end 2021.
- Nonperforming assets declined to $19.9 million, or 0.11% of loans and other real estate, from $28.1 million, or 0.15%, at December 31, 2021.
- Net charge-offs were $1.8 million in the third quarter and $4.2 million for the first nine months, compared with $15.7 million and $28.9 million, respectively, in the prior-year periods. No provision for credit losses was recorded in either comparable period.
- The Company repurchased 981,884 shares for $65.7 million during the first nine months and no shares during the third quarter.
Guidance, Outlook, Risks and Unusual Items
The filing does not provide formal earnings guidance. Management stated that nine-month results are not necessarily indicative of full-year results.
On October 11, 2022, the Company announced pending acquisitions of First Bancshares of Texas and Lone Star State Bancshares. Consideration consists of stock and cash valued at approximately $341.6 million and $228.7 million, respectively, based on the October 7 stock price. Both transactions were expected to close in the first quarter of 2023, subject to regulatory and shareholder approvals and other customary conditions.
- Interest-rate risk is significant because changes in rates can affect net interest margin, securities valuations, deposit costs and loan demand.
- The securities portfolio had $1.66 billion of unrealized losses on held-to-maturity securities, primarily mortgage-backed securities. Management attributed the losses to market-rate changes rather than credit deterioration and stated it had the ability and intent to hold the securities to maturity.
- The loan portfolio is concentrated in Texas and Oklahoma and in real estate-related lending. Commercial real estate, residential real estate and construction loans comprised 79.7% of loans excluding Warehouse Purchase Program loans.
- Management identified risks from economic deterioration, oil and gas prices, deposit competition, liquidity, acquisitions and integration, cybersecurity, regulatory changes, model risk, climate change, geopolitical events and the COVID-19 pandemic.
- Off-balance-sheet commitments totaled $7.09 billion, including $5.40 billion of commitments to extend credit, $1.63 billion of unused Warehouse Purchase Program capacity and $61.4 million of standby letters of credit. These commitments may expire unused.
- Approximately 1.9% of the loan portfolio used LIBOR as an index at September 30, 2022, compared with 11.4% at December 31, 2021. The Company continued transitioning affected loans and swaps to SOFR or other alternative benchmarks.
- The Company reported no material changes to previously disclosed market-risk exposures, risk factors or internal controls. Legal proceedings were not expected to have a material adverse effect.
Most Important Facts for Investors to Verify
- Whether deposit outflows and the increased use of FHLB borrowings continue, and how they affect liquidity and funding costs.
- Whether the large held-to-maturity securities portfolio generates future capital, liquidity or interest-rate sensitivity despite management’s intent to hold the securities to maturity.
- Whether net interest margin stabilizes as PPP income and acquired-loan accretion decline and deposit costs rise.
- Credit performance in the concentrated commercial real estate, residential real estate and construction portfolios, including changes in nonperforming assets and the allowance for credit losses.
- Regulatory and shareholder approvals, final consideration, closing timing and integration risks for the First Bancshares and Lone Star acquisitions.
- Actual cash funding requirements associated with the $7.09 billion of off-balance-sheet commitments.
- Future effects of the LIBOR transition, higher interest rates, economic conditions and energy-market volatility on earnings and capital.