Commerce Bancshares, Inc. — Q3 2019 Form 10-Q
Business context and period. Commerce Bancshares is a bank holding company whose principal operations are conducted through Commerce Bank, with Consumer, Commercial, and Wealth segments. This unaudited filing covers the quarter and nine months ended September 30, 2019; comparisons are with the corresponding 2018 periods unless noted.
Financial performance
| Metric | Q3 2019 | Q3 2018 | Nine months 2019 | Nine months 2018 |
|---|---|---|---|---|
| Net interest income | $203.5 million | $207.8 million | $618.6 million | $611.6 million |
| Non-interest income | $132.7 million | $123.7 million | $381.2 million | $368.3 million |
| Non-interest expense | $191.0 million | $185.1 million | $572.2 million | $549.2 million |
| Provision for loan losses | $11.0 million | $10.0 million | $35.2 million | $30.4 million |
| Net income attributable to Commerce Bancshares | $109.2 million | $112.6 million | $314.4 million | $323.9 million |
| Diluted EPS | $0.98 | $0.98 | $2.79 | $2.82 |
- Q3 return on average assets was 1.72%, return on average common equity 14.21%, and efficiency ratio 56.66%. For the first nine months, these were 1.68%, 14.11%, and 57.08%, respectively.
- Tax-equivalent net yield on earning assets was 3.43% in Q3, down from 3.52% a year earlier. Nine-month net interest margin was 3.52%, versus 3.51%.
- Q3 total interest expense rose $11.2 million year over year, reflecting higher deposit and borrowing costs. Nine-month interest expense increased $34.6 million, partly offset by higher loan interest income.
- Q3 non-interest income growth reflected bank card and trust fees, mortgage banking, swap fees, and gains on leased-asset sales. Nine-month growth also included higher trust fees, cash sweep commissions, and mortgage banking revenue.
Financial condition, cash flow, and capital
- At September 30, 2019, assets were $25.9 billion, loans $14.5 billion, deposits $20.3 billion, and total equity $3.1 billion. Loans increased 2.3% from year-end 2018; deposits were nearly unchanged, down $13.5 million.
- Total borrowings were $1.9 billion, down from $2.0 billion at year-end 2018. The allowance for loan losses was $160.7 million, or 1.11% of loans, compared with 1.13% at year-end.
- For the first nine months, operating activities provided $377.3 million of cash; investing activities used $454.3 million; financing activities used $247.9 million. Cash, cash equivalents, and restricted cash declined $324.9 million to $884.4 million.
- Reported liquid assets totaled $9.86 billion, including available-for-sale securities, resale agreements, and Federal Reserve balances. Core deposits were $18.2 billion, or 89.8% of deposits. Management reported $3.44 billion of available future borrowing capacity at the FHLB and Federal Reserve.
- At September 30, the Tier 1 common, Tier 1 risk-based, total risk-based, and Tier 1 leverage capital ratios were 13.76%, 14.50%, 15.33%, and 11.32%, respectively. The company reported capital above applicable well-capitalized thresholds.
- Nine-month operating cash flow was lower than in 2018, while loan growth used $357.4 million of cash. Financing outflows included dividends, treasury-stock purchases, and a $150 million accelerated share repurchase (ASR).
Material changes, outlook, and risks
- Net income attributable to the company decreased 3.0% in both Q3 and the first nine months. Higher funding costs, loan-loss provision, and operating expenses weighed on results; fee income and loan growth partly offset the pressure.
- Net loan charge-offs were $11.5 million in Q3, or 0.32% annualized, compared with $9.8 million and 0.28% a year earlier. Consumer credit card charge-offs remained a notable contributor. Non-performing assets were $12.2 million, 0.08% of loans, at quarter-end.
- Management reported $138.0 million of potential problem loans and $81.5 million of troubled debt restructurings. Management considered the allowance adequate, but credit performance and consumer-card losses warrant monitoring.
- Management was preparing for CECL adoption on January 1, 2020. Preliminary modeling suggested a lower allowance for commercial loans and a potentially higher allowance for Personal Banking; the overall adoption impact remained uncertain. Management did not expect an adverse capital impact, but noted that future allowance and earnings volatility could increase.
- Interest-rate sensitivity simulations showed modest potential net-interest-income gains under rising-rate scenarios with standard deposit assumptions, but weaker results under scenarios with greater deposit attrition. Management cautioned that deposit behavior is difficult to predict.
- Off-balance-sheet exposures included $11.1 billion of loan commitments, $364.4 million of standby letters of credit, and $20.3 million of commercial letters of credit. Commitments may expire unused or be partly drawn. The company also expected to fund $53.0 million of tax-credit purchase commitments in the remainder of 2019 and $145.6 million in 2020.
- The filing disclosed ordinary-course legal and regulatory proceedings; some matters were too early to estimate whether losses were probable or reasonably estimable. No specific aggregate exposure is provided.
- The $150 million ASR began in August 2019 and was scheduled to conclude by December 2019. The board subsequently authorized additional share purchases in November. The filing provides no formal earnings guidance; management cautions that interim results are not necessarily indicative of full-year results.
Important facts for investors to verify
- Whether deposit pricing and funding costs continue to pressure net interest income and margin.
- Trends in consumer credit-card charge-offs, loan delinquencies, and the allowance, including the effect of CECL adoption.
- Deposit mix and stability, borrowing needs, and the availability of pledged or unpledged liquidity.
- The eventual share count and price effect of the ASR and subsequent repurchases, alongside capital and dividend decisions.
- Developments in legal matters and the size, timing, and potential draw of loan commitments and other contingent exposures.