Northwest Bancshares, Inc. — Q2 2019 Form 10-Q
Reporting period: Quarter and six months ended June 30, 2019. Unaudited consolidated results. Northwest Bancshares is a bank holding company operating Northwest Bank, with 182 community-banking offices across Pennsylvania, western New York, and eastern Ohio. Financial amounts below are in U.S. dollars; income-statement and cash-flow amounts are shown in millions unless noted.
Financial performance
| Metric | Q2 2019 | Q2 2018 | Six months 2019 | Six months 2018 |
|---|---|---|---|---|
| Interest income | $106.8 | $92.9 | $207.1 | $182.4 |
| Interest expense | $14.2 | $8.6 | $26.5 | $16.4 |
| Net interest income | $92.6 | $84.2 | $180.6 | $166.0 |
| Provision for loan losses | $4.7 | $5.3 | $11.1 | $9.6 |
| Noninterest income | $23.4 | $24.1 | $45.0 | $45.9 |
| Noninterest expense | $77.5 | $69.8 | $148.9 | $137.2 |
| Net income | $26.4 | $26.3 | $51.4 | $51.3 |
| Diluted EPS | $0.25 | $0.25 | $0.49 | $0.50 |
Q2 net income rose 0.3% year over year; six-month net income also rose 0.3%, while diluted EPS declined from $0.50 to $0.49. GAAP net interest margin was 3.90% for Q2, up from 3.84%; for the six months it was 3.90%, up from 3.82%. Q2 return on average assets was 1.02% and return on average equity 8.01%, versus 1.11% and 8.67%, respectively, a year earlier.
- Balance sheet at June 30: Assets were $10.51 billion, up 9.3% from year-end 2018. Gross loans were $8.74 billion, up 8.5%; deposits were $8.68 billion, up 10.0%. Shareholders’ equity was $1.33 billion, or $12.51 per share.
- Funding and debt: Borrowed funds totaled $171.7 million, down from $234.4 million at December 31, 2018. Junior subordinated debentures were $121.8 million. Deposits remained the primary funding source.
- Liquidity: The bank’s liquidity ratio was 9.7%. Management reported $3.276 billion of additional FHLB borrowing capacity, plus $46.7 million at the Federal Reserve and $80 million with correspondent banks. Cash and cash equivalents were $107.0 million.
- Cash flow, six months: Operating activities provided $81.0 million; investing activities used $269.8 million, including $25.8 million net cash used for acquisitions; financing activities provided $227.1 million. Cash increased $38.2 million to $107.0 million.
- Capital: At June 30, Northwest Bancshares reported total risk-based capital of 15.26%, Tier 1 risk-based capital of 14.62%, CET1 of 13.20%, and a Tier 1 leverage ratio of 11.73%. The bank’s corresponding reported ratios were 14.30%, 13.65%, 13.65%, and 11.01%.
Material changes and drivers
- On March 8, 2019, the company completed its $85.8 million acquisition of Donegal Financial Services Corporation, parent of Union Community Bank. The deal added 12 Lancaster County offices, $407.8 million of loans and $479.4 million of deposits at acquisition-date fair value; consideration included $42.5 million cash and 2,462,373 Northwest shares. Goodwill recognized was $37.3 million.
- Growth in interest-earning assets, including organic lending and the acquisition, drove higher interest income. Loan yield increased to 4.71% from 4.50% in Q2 year over year; the average yield on interest-earning assets rose to 4.51% from 4.25%.
- Funding costs rose materially: Q2 interest expense increased 64.2%, and the average cost of interest-bearing liabilities rose to 0.82% from 0.53%. Management noted that deposit-cost increases exceeded asset-yield increases, although GAAP net interest margin improved.
- Noninterest expense rose 11.1% in Q2 and 8.5% for the six-month period, including higher compensation, technology and processing costs, and acquisition/restructuring costs. Acquisition-related direct costs were $3.0 million in the first half.
- Noninterest income declined, primarily because the prior-year period included a bank-owned life insurance death benefit. Six-month insurance commissions and commercial lending-related other income also declined; service charges and trust income increased.
Outlook, risks, and unusual items
- Management projected a 2019 effective tax rate of 21%–23%; the filing gives no specific earnings or loan-growth guidance. Management cautioned that interim results are not necessarily indicative of full-year results.
- Credit quality was mixed. Nonperforming assets declined to $69.8 million from $74.9 million at year-end, and loans 90 days or more past due declined to $43.3 million from $50.9 million. However, special-mention loans increased to $124.6 million and substandard loans to $197.0 million. The allowance was $53.1 million, or 0.61% of loans, versus $55.2 million, or 0.69%, at year-end.
- Management cited a roughly $4.0 million write-down on a previously fully reserved residential land-development loan in western New York; the six-month provision also reflected a $2.6 million write-down on a commercial business loan. Annualized net charge-offs were 0.32% for the first half, versus 0.23% for full-year 2018.
- Interest-rate simulations estimated net interest income would decline 0.8%, 1.0%, or 1.6% under immediate parallel rate increases of 100, 200, or 300 basis points, and 5.1% under a 100-basis-point decline. Management warned that actual outcomes could differ because the model depends on uncertain assumptions.
- The company is preparing for the expected 2020 adoption of the current expected credit loss standard (CECL); the effect on results and financial position was still under evaluation. The filing also identifies LIBOR transition, economic and credit conditions, interest rates, cybersecurity, competition, technology and acquisition integration among key risks.
- No legal-proceeding accrual was recorded. An appeal remained pending in an insurance-agency dispute in which the company’s subsidiary had obtained a favorable verdict and attorneys’ fee award; no award was recognized because of uncertainty. The board declared a $0.18-per-share dividend payable August 15, 2019.
Important facts for investors to verify
- Whether UCB integration delivers expected growth and cost benefits, and how acquisition-related expenses evolve.
- Whether deposit pricing continues to pressure funding costs and net interest margin.
- Trends in criticized commercial credits, charge-offs, delinquency, and allowance adequacy, including the effect of the identified loan write-downs.
- The eventual CECL transition impact and the company’s progress in implementing its models and systems.
- Developments in the pending legal appeal, LIBOR transition, and the company’s modeled sensitivity to declining rates.
- The sustainability of the dividend relative to earnings; the six-month dividend payout ratio was 73.5%.