Western Alliance Bancorporation — 2018 Form 10-K
Period: Fiscal year ended December 31, 2018. The filing also reports fourth-quarter results. Western Alliance is a Phoenix-based bank holding company serving business customers through Western Alliance Bank, regional banking divisions, and specialized national business lines.
Financial results and position
| Metric | 2018 | 2017 | Change / context |
|---|---|---|---|
| Net interest income | $915.9 million | $784.7 million | Up 16.7% |
| Net interest margin | 4.68% | 4.65% | Up 3 basis points |
| Provision for credit losses | $23.0 million | $17.3 million | Higher, primarily reflecting loan growth and increased net charge-offs |
| Non-interest income | $43.1 million | $45.3 million | Down $2.2 million |
| Non-interest expense | $425.7 million | $360.9 million | Up 17.9% |
| Income before taxes | $510.3 million | $451.8 million | Up 13.0% |
| Net income | $435.8 million | $325.5 million | Up 33.9% |
| Diluted EPS | $4.14 | $3.10 | Up $1.04 |
| Return on average assets | 2.05% | 1.72% | Improved |
| Operating efficiency ratio | 41.9% | 41.5% | Higher; the filing presents this as a non-GAAP measure |
| Operating PPNR | $553.5 million | $466.6 million | Up $86.8 million; non-GAAP measure |
Fourth-quarter net income was $119.1 million, or $1.13 diluted EPS, versus $89.3 million and $0.85 in fourth-quarter 2017. Fourth-quarter net interest income was $243.5 million and provision expense was $6.0 million.
Balance sheet and funding: Total assets were $23.11 billion, up 13.7%; loans were $17.71 billion, up 17.3%; deposits were $19.18 billion, up 13.0%; and stockholders’ equity was $2.61 billion, up $384.0 million. The loan-to-deposit ratio was 92.35%, versus 88.93%. Non-interest-bearing deposits were 38.9% of deposits at year-end, down from 43.9%.
Credit quality: Nonperforming assets were $82.7 million, or 0.20% of total assets, compared with $114.9 million, or 0.36%, in 2017. Non-accrual loans were $27.7 million, down from $43.9 million. Net charge-offs rose to 0.06% of average loans from 0.01%; the allowance was $152.7 million, or 0.86% of gross loans.
Cash flow, liquidity, and capital: Operating activities provided $541.0 million; investing activities used $2.71 billion, principally reflecting loan funding; financing activities provided $2.25 billion, including $2.20 billion of deposit growth. Year-end cash and cash equivalents were $498.6 million. Management reported $3.03 billion of liquid assets, including $2.53 billion of unpledged marketable securities, and said liquidity was adequate for anticipated near-term needs. WAL’s total capital ratio was 13.2%, CET1 ratio 10.7%, and Tier 1 leverage ratio 10.9%; WAB’s corresponding ratios were 11.9%, 10.5%, and 10.4%. Both were reported above well-capitalized thresholds.
Debt: Short-term borrowings totaled $491.0 million, comprising $235.0 million of FHLB advances and $256.0 million of federal funds purchased. Qualifying debt carrying value was $360.5 million. Outstanding principal included $175 million of parent subordinated debentures and $150 million of bank subordinated notes, in addition to junior subordinated debt.
Material changes and unusual items
- Loan growth was led by commercial and industrial loans (+$921.3 million), residential real estate loans (+$778.4 million), and construction and land development loans (+$502.5 million). Residential real estate loans increased substantially, from $425.9 million to $1.20 billion.
- Interest income increased 22.2%, while interest expense rose 93.3%, reflecting both balance-sheet growth and higher funding rates. Management reported that higher asset yields were partly offset by rising deposit and borrowing costs.
- Income tax expense fell to $74.5 million from $126.3 million; the effective tax rate declined to 14.61% from 27.96%. The filing attributes the decline principally to the lower federal statutory tax rate, reduced excise taxes, and a decision to carry back 2017 federal NOLs.
- Non-interest income included a $7.7 million net loss on investment-security sales and $3.6 million of unrealized equity-security losses. The security sales were part of a repositioning toward shorter-duration, higher-yield securities. A 2018 accounting change caused equity-security fair-value changes to be recognized in earnings.
- Non-interest expense included a $7.6 million charitable foundation contribution, including a $6.9 million non-cash OREO property donation. Total donations, sponsorships, and other payments to related parties were $8.1 million; the filing also reports a $0.2 million loss on an OREO sale to a related party.
- The company repurchased 900,883 shares for $35.7 million in 2018 and authorized a program to repurchase up to $250 million through December 31, 2019. It has never paid a common-stock cash dividend and does not anticipate doing so in the foreseeable future.
Outlook, risks, and contingencies
- The filing provides no specific earnings or growth guidance. Management described ongoing loan and deposit growth and rising-rate effects; forward-looking statements are subject to substantial risks and are not guarantees.
- Credit exposure is concentrated in commercial lending and real estate: CRE and construction-related loans were approximately 49% of the portfolio. The business is concentrated in Arizona, California, and Nevada, making performance sensitive to regional economic and property-market conditions.
- Interest-rate sensitivity modeling showed projected net interest income down 5.8% in a 100-basis-point rate decline, outside the company’s stated negative 5.0% guideline. The board and ALCO accepted the breach. The model projected NII increases in rising-rate scenarios, but results depend on assumptions about deposit repricing, loan floors, prepayments, and balance-sheet composition.
- CECL was scheduled to take effect for the company on January 1, 2020. Management was developing and testing models but said the transition’s effect on the allowance could not yet be determined; it expected a one-time cumulative allowance adjustment.
- Funding risks include strong deposit competition, increased wholesale brokered deposits ($718.2 million at year-end versus $67.3 million in 2017), and higher deposit costs. The filing also identifies LIBOR transition uncertainty, cyber and third-party operational risks, regulatory changes, and potential economic or natural-disaster impacts.
- Commitments to extend credit, credit-card commitments and guarantees, and standby letters of credit totaled $8.18 billion. The company stated that these amounts do not necessarily represent future cash funding needs. Management said routine litigation was not expected to materially affect financial position, results, or cash flows; no material pending legal proceeding was disclosed.
- RSM US LLP issued unqualified opinions on the financial statements and internal control over financial reporting; management also concluded disclosure controls and internal controls were effective.
Important facts for investors to verify
- How much of 2018 earnings growth is sustainable after the unusually low effective tax rate and the NOL carryback benefit?
- Whether loan growth—especially residential, C&I, and CRE-related exposure—maintains underwriting quality, and how impaired loans, charge-offs, and allowance coverage develop.
- Deposit mix, wholesale and reciprocal deposit reliance, and the pace at which deposit costs respond to changing rates.
- The accepted downside interest-rate sensitivity breach and the assumptions underlying management’s asset-liability modeling.
- CECL implementation progress and the eventual transition adjustment to the allowance and capital.
- The use of the $250 million repurchase authorization, related-party charitable payments, and the effect of continued capital returns on regulatory capital and growth capacity.