Regions Financial Corporation — Q3 2016 Form 10-Q
Business and period. Regions is a bank holding company headquartered in Birmingham, Alabama, serving customers across the South, Midwest and Texas. It reported for the quarter and nine months ended September 30, 2016; comparisons below are with 2015 unless otherwise noted. Figures are in U.S. dollars.
Financial results and position
- Q3 earnings: Net income was $320 million versus $258 million; net income available to common shareholders was $304 million, or $0.24 per diluted share, versus $242 million, or $0.18 per diluted share. Continuing-operations common earnings were $303 million versus $246 million.
- Revenue and margin: Q3 net interest income was $835 million, approximately flat from $836 million; taxable-equivalent net interest income was $856 million versus $855 million. Net interest margin (taxable-equivalent) was 3.06%, down from 3.13%. Non-interest income rose to $599 million from $497 million. Total revenue on a taxable-equivalent basis was $1.455 billion versus $1.352 billion; adjusted efficiency ratio was 65.27% versus 66.76%.
- Costs and credit: Q3 non-interest expense increased to $934 million from $895 million. Provision for loan losses declined to $29 million from $60 million. Net charge-offs were $54 million, an annualized 0.26% of average loans, versus $60 million and 0.30%.
- Nine-month results: Net income was $868 million versus $777 million; common earnings were $820 million versus $729 million, and diluted EPS was $0.65 versus $0.54. Net interest income was $2.545 billion versus $2.471 billion; non-interest income was $1.631 billion versus $1.557 billion; non-interest expense was $2.718 billion versus $2.734 billion. Net charge-offs were 0.32% of average loans versus 0.27%.
- Balance sheet at September 30: Assets totaled $125.177 billion, down from $126.050 billion at December 31, 2015. Loans were $80.883 billion versus $81.162 billion; deposits were $99.289 billion versus $98.430 billion. Total borrowings declined to $6.054 billion from $8.359 billion, mainly reflecting lower FHLB advances and debt repurchases, partly offset by new senior notes. Stockholders’ equity was $17.365 billion versus $16.844 billion.
- Cash flow and liquidity: For the first nine months, operating cash flow was $1.740 billion, investing cash flow was negative $503 million, and financing cash flow was negative $2.313 billion. Cash and cash equivalents ended at $4.238 billion versus $5.314 billion at year-end 2015. Regions said it was compliant with applicable LCR requirements; its September 30 regulatory capital ratios included estimated CET1 of 11.16% at the holding company and 12.04% at the Bank.
Material changes and management commentary
- Q3 common earnings improved year over year, supported by higher fee income and a lower loan-loss provision; net interest margin declined and operating expenses increased.
- Q3 non-interest income included $47 million of insurance proceeds related to the FHA mortgage settlement and a roughly $10 million recovery related to the 2010 Gulf of Mexico oil spill. Adjusted non-interest income excludes specified items, including insurance proceeds and leveraged-lease termination gains.
- Loans were broadly stable versus year-end, but commercial and industrial balances declined, partly from reduced direct energy lending and softer middle-market and small-business demand. Residential first mortgages increased. Management described energy portfolio credit quality as improved overall, while noting continuing volatility and concentration risks.
- Non-performing assets rose to $1.188 billion from $920 million at year-end, primarily due to a small number of large energy and energy-related credits. Non-performing loans excluding loans held for sale increased to $1.078 billion from $782 million. Management estimated $200–$275 million of potential problem commercial and investor real estate loans that could migrate to non-accrual in the next quarter.
- Common equity repurchases totaled about $215 million in Q3. The Board later increased the authorization from $640 million to $760 million; the quarterly common dividend was $0.065 per share. A possible dividend increase beginning in Q2 2017 was subject to Board consideration.
Outlook, risks and unusual items
- 2016 expectations: Average loans and deposits expected to remain relatively stable versus Q4 2015 averages; net interest income and other financing income expected to rise 2%–4%. Adjusted non-interest income growth was expected to exceed 6%; adjusted expenses were expected to be flat to modestly higher; adjusted efficiency ratio approximately 63%; adjusted positive operating leverage 2%–4%; and full-year net charge-offs 25–35 basis points. Management revised certain expectations, including lower loan-growth expectations and an adjusted efficiency ratio target from below 63% to approximately 63%.
- Management planned to eliminate $300 million of existing non-interest expense between 2016 and 2018 and an additional $100 million by 2019. These are management targets, not guarantees.
- Q3 expense included a $14 million loss on early extinguishment of debt and $11 million related to Visa Class B shares. The FHA settlement was $52.4 million; Regions said it was fully reserved by Q2 and insurers reimbursed approximately $47 million, recognized in Q3 income.
- Regions cited sensitivity to interest rates, deposit pricing and mix, loan credit quality, commodity prices and collateral values, prepayments, competition, regulation, litigation, cyber and third-party risks. Interest-rate simulations estimated annual net interest income improvement of $173 million under an instantaneous +100-basis-point parallel shift and a $133 million decline under a -50-basis-point shift; management cautioned these are hypothetical estimates, not forecasts.
- Regions Bank’s CRA rating had been downgraded to “Needs to Improve,” restricting certain acquisitions and branch-related applications until improved. The company said pending litigation and inquiries were not expected to have a material overall effect, while acknowledging that adverse developments could be material in a particular period. The maximum quantifiable Fannie Mae DUS loss-share exposure was $516 million, but management noted this was a severe hypothetical maximum, not expected loss.
Important facts for investors to verify
- Whether the increase in non-performing loans and the potential problem-loan estimate stabilize, particularly among energy-related borrowers.
- How much Q3 fee-income growth and earnings improvement is recurring after excluding insurance proceeds, the oil-spill recovery and other specified adjustments.
- Whether loan and deposit trends, net interest margin, and management’s 2016 earnings and efficiency targets develop as expected.
- Capital and liquidity levels, and the execution and regulatory constraints on the expanded share-repurchase plan and any future dividend increase.
- Developments in the CRA examination, FHA-related matters, and other legal or regulatory proceedings and guarantees.