OceanFirst Financial Corp. — 1Q18 Form 10-Q Summary
Business context and reporting period
OceanFirst Financial Corp. is the holding company for OceanFirst Bank N.A., a community bank serving New Jersey and the metropolitan New York and Philadelphia areas. This unaudited report covers the three months ended March 31, 2018, compared primarily with the three months ended March 31, 2017 and December 31, 2017 balances.
On January 31, 2018, the Company completed its acquisition of Sun Bancorp, Inc. Sun contributed approximately $2.0 billion of assets, $1.5 billion of loans and $1.6 billion of deposits. Sun operating results were included from February 1, 2018. The Bank also converted to a national bank charter and the Company became a bank holding company effective January 31, 2018.
Key financial metrics
| Metric | March 31, 2018 / 1Q18 | Comparable period or prior quarter |
|---|---|---|
| Total assets | $7.495 billion | $5.416 billion at December 31, 2017; $5.196 billion at March 31, 2017 |
| Net loans receivable | $5.414 billion | $3.966 billion at December 31, 2017; $3.826 billion at March 31, 2017 |
| Deposits | $5.907 billion | $4.343 billion at December 31, 2017; $4.199 billion at March 31, 2017 |
| Stockholders’ equity | $1.007 billion | $601.9 million at December 31, 2017; $582.5 million at March 31, 2017 |
| Net interest income | $55.7 million | $41.5 million in 1Q17 |
| Other income | $8.9 million | $6.0 million in 1Q17 |
| Provision for loan losses | $1.4 million | $700,000 in 1Q17 |
| Operating expenses | $56.8 million | $31.0 million in 1Q17 |
| Net income | $5.4 million | $12.0 million in 1Q17; $10.0 million in 4Q17 |
| Diluted EPS | $0.12 | $0.36 in 1Q17; $0.30 in 4Q17 |
| Net interest margin | 3.70% | 3.56% in 1Q17; 3.42% in 4Q17 |
| Return on average assets | 0.32% | 0.94% in 1Q17 |
| Loan-to-deposit ratio | 91.65% | 91.11% in 1Q17; 91.32% at December 31, 2017 |
Cash flow, liquidity, capital and asset quality
- Operating activities provided $7.7 million of cash, compared with $12.0 million in 1Q17.
- Investing activities provided $84.2 million, primarily reflecting a net decrease in loans, securities activity and proceeds from restricted equity investments, partly offset by acquisition consideration and capital expenditures.
- Financing activities used $82.2 million, including $7.1 million of dividends, reductions in deposits and short-term borrowings, and repayments of Federal Home Loan Bank advances.
- Cash and due from banks increased to $119.4 million from $109.6 million at December 31, 2017. The holding company had $37.0 million of cash.
- FHLB advances totaled $341.6 million at March 31, 2018, including no overnight borrowings. Outstanding debt obligations totaled $523.5 million.
- Undrawn lines of credit totaled $807.3 million and commitments to originate loans totaled $156.8 million. Management stated that sufficient funds were available for normal commitments and that liquidity remained significant under stress scenarios.
- The Bank remained well-capitalized. At March 31, 2018, the Bank’s common equity Tier 1, Tier 1 and total capital ratios were 13.50%, 13.50% and 13.84%, respectively. The Company’s corresponding ratios were 12.47%, 13.56% and 14.56%.
- Tangible common equity was $650.0 million, or 9.11% of assets, compared with 8.42% at December 31, 2017.
- Non-performing loans declined to $18.3 million, or 0.34% of total loans, from $20.9 million, or 0.52%, at December 31, 2017. Non-performing assets declined to $26.5 million, or 0.35% of assets.
- The allowance for loan losses was $16.8 million, or 0.31% of total loans. Net charge-offs were $275,000, compared with net recoveries of $268,000 in 1Q17.
Material changes versus comparable periods
- Net interest income increased 34% year over year to $55.7 million, driven by the Sun acquisition, larger interest-earning asset balances and a higher net interest margin. Purchase-accounting accretion from Sun contributed $2.3 million to interest income and approximately 15 basis points to the yield on interest-earning assets.
- Other income increased to $8.9 million, including $1.4 million attributable to Sun. The increase also reflected a $613,000 gain on loan sales, $460,000 of temporary rental income and a lower loss from other real estate operations.
- Operating expenses rose to $56.8 million from $31.0 million. The quarter included $18.3 million of merger-related and branch-consolidation expenses, compared with $1.5 million in 1Q17. Excluding those items, Sun added approximately $8.0 million of expenses.
- Reported net income and EPS declined substantially because of the merger-related and branch-consolidation costs. Management stated that excluding these items, 1Q18 net income increased from the prior year, primarily due to Sun and the 2017 integration of Ocean Shore.
- Assets, loans, deposits and equity increased sharply from year-end because of the Sun transaction. Goodwill increased to $337.5 million from $150.5 million, and the core deposit intangible increased to $20.0 million from $8.9 million.
- The effective tax rate declined to 15.6% from 24.0% in 1Q17, reflecting the Tax Cuts and Jobs Act and the greater effect of tax-exempt income on lower pretax income.
Guidance, outlook, commentary and risks
Management did not provide formal earnings or financial guidance in the filing. The Company expected full integration of Sun’s branches and core operating systems in June 2018. Management highlighted continued loan and core-deposit growth, a favorable net interest margin and strong liquidity and capital.
- Key execution risk is the integration of Sun’s operations, branches and systems, including the possibility that expected cost savings or revenue opportunities may not be achieved.
- Results remain sensitive to interest rates, deposit pricing, loan and securities prepayments, competition, deposit flows, economic conditions, unemployment and real estate values in the Company’s markets.
- The Company reported a positive one-year interest-sensitive gap of 6.05%, within policy limits. Interest-rate sensitivity estimates depend on assumptions and may not reflect actual repricing behavior.
- Management expects the future CECL standard to increase the allowance for loan losses, particularly for longer-duration portfolios, but the amount was indeterminable at the reporting date.
- The ability of the holding company to pay dividends or meet debt obligations depends substantially on capital distributions from the Bank, which could be restricted by regulators.
- Contractual and contingent exposures include $807.3 million of undrawn credit lines, $156.8 million of loan-origination commitments, loan-sale representations and warranties, and an FHLB loss-sharing arrangement.
- The filing reported no material legal proceedings, no material changes to previously disclosed risk factors and effective disclosure controls and procedures.
Most important facts for investors to verify
- Whether Sun integration was completed as planned in June 2018 and whether projected expense reductions were realized.
- The sustainability of the 3.70% net interest margin as purchase-accounting accretion declines and deposit costs rise.
- Underlying operating expenses and profitability excluding the $18.3 million of merger-related and branch-consolidation costs.
- Credit performance of the substantially expanded commercial loan portfolio, including classified loans, delinquency trends and the $40.7 million fair-value credit mark on acquired loans.
- The eventual allowance impact and capital implications of CECL adoption.
- Deposit retention, funding costs and liquidity given the 91.65% loan-to-deposit ratio and scheduled time-deposit maturities.
- The capacity of the Bank to distribute capital to the holding company while maintaining regulatory capital and supporting the $0.15 quarterly dividend.