Enterprise Financial Services Corp. — Q3 2017 Form 10-Q
Business and period: Regional financial holding company providing banking and wealth management services in the St. Louis, Kansas City and Phoenix markets. This unaudited filing covers the quarter and nine months ended September 30, 2017; comparative periods are 2016 unless stated. Results include Jefferson County Bancshares (JCB) from its February 10, 2017 acquisition.
Financial performance
- Q3 earnings: Net income was $16.3 million, up 38% from $11.8 million; diluted EPS was $0.69 versus $0.59. Net interest income was $45.6 million, up 35%; noninterest income was $8.4 million, up 20%. Noninterest expense rose 32% to $27.4 million.
- Nine-month earnings: Net income was $40.7 million versus $35.2 million; diluted EPS was $1.75 versus $1.74. Net interest income increased 30% to $129.9 million; noninterest income increased 16% to $23.3 million. Expenses rose 38% to $86.8 million, including $6.5 million of merger-related costs.
- Margins and returns: Q3 net interest margin was 3.88% versus 3.80% a year earlier and 3.98% in Q2. Nine-month margin was 3.87%, unchanged year over year; management’s non-GAAP core margin was 3.71% versus 3.53%. Nine-month return on average assets was 1.11%, and return on average common equity was 10.37%.
- Cash flow: For the first nine months, operating cash flow was $13.6 million versus $28.1 million; investing used $197.6 million versus $270.9 million; financing provided $168.3 million versus $267.1 million. Cash and cash equivalents ended at $183.1 million, down $15.7 million from year-end 2016.
Balance sheet, credit and capital
- Total assets were $5.23 billion, up 28% from December 31, 2016. Loans were $4.03 billion, up 27.6%; management attributed $678 million of portfolio loan growth to JCB and reported $200 million of organic growth during the first nine months. Deposits were $4.06 billion, up 25.5%, including the acquisition.
- Shareholders’ equity was $546.3 million. Debt and borrowings included $118.1 million of subordinated debentures and notes, $248.9 million of FHLB advances, $209.1 million of other borrowings and $10.0 million of notes payable. The $10 million revolving-credit balance was subsequently paid off.
- Allowance for loan losses was $43.2 million, or 0.97% of portfolio loans. Nine-month net charge-offs were $6.9 million, or 0.24% of average portfolio loans. Nonperforming loans were $9.0 million, or 0.23% of portfolio loans; none were over 90 days past due and still accruing. Management stated the allowance was adequate.
- At September 30, the company reported a 12.33% total risk-based capital ratio, 10.36% Tier 1 risk-based ratio, 8.93% common equity Tier 1 ratio and 9.88% leverage ratio. The Bank met the “well-capitalized” regulatory category.
Material changes, outlook and risks
- JCB was acquired for approximately $171 million in aggregate consideration, including $29.3 million cash and $141.7 million of EFSC stock. The acquisition added approximately $87.0 million of goodwill. Integration and purchase accounting affected results; JCB systems conversion was completed late in Q2.
- Management expected 2017 organic portfolio loan growth of at least 10%; 2018 organic loan growth was expected to be at least equivalent in dollars to 2017, with total portfolio growth of approximately 7%–9%. It expected 2018 fee-income growth of 5%–7%, expense growth equal to 35%–45% of projected revenue growth, and modest efficiency-ratio improvement. Management expected to maintain core net interest margin, while warning that funding-cost pressure could offset improvement.
- Estimated remaining accretable yield on the non-core acquired loan portfolio was $10 million. Management estimated related incremental accretion income of $6–$8 million for 2017 and $3–$5 million for 2018.
- Interest-rate simulations indicated net interest income sensitivity of +1.6% for a +100-basis-point shock, +4.7% for +300 basis points, and -6.1% for -100 basis points. Key disclosed risks include acquisition integration and customer retention, credit and real-estate valuation risk, local economic conditions, rate movements and funding costs, competition, regulation and litigation or other contingencies.
- Off-balance-sheet commitments to extend credit were $1.264 billion, with $74.0 million of letters of credit. The Bank reported $423.3 million of FHLB borrowing capacity, $861.2 million of Federal Reserve capacity and $75 million of unsecured federal-funds lines; management noted that aggregate commitment funding could consume most current liquidity resources, though simultaneous utilization was considered unlikely. Management reported no legal proceedings expected to have a material adverse effect.
Important facts for investors to verify
- How much of loan, deposit and earnings growth is organic versus acquired, and whether JCB integration delivers expected cost savings and growth.
- Whether credit quality and charge-offs remain manageable as the loan portfolio expands, particularly in commercial and real-estate exposures.
- Whether deposit costs and other funding costs pressure core net interest margin and liquidity.
- The sustainability of management’s 2018 loan, fee-income and expense outlook, noting that core measures are non-GAAP.
- The effects of acquisition-related goodwill and purchase accounting, including the estimated accretion contribution and remaining merger or integration costs.