United Bankshares, Inc. — Q3 2020 Form 10-Q
Reporting period: Quarter and nine months ended September 30, 2020. United is a bank holding company with community banking and mortgage banking segments. Results include Carolina Financial Corporation from its May 1, 2020 acquisition. Dollar figures below are in millions unless stated otherwise.
Financial performance
| Metric | Q3 2020 | Q3 2019 | Nine months 2020 | Nine months 2019 |
|---|---|---|---|---|
| Net interest income | $185.7 | $141.9 | $497.8 | $436.6 |
| Provision for credit losses | $16.8 | $5.0 | $89.8 | $15.4 |
| Other income | $135.5 | $42.2 | $260.7 | $113.2 |
| Other expense | $171.6 | $96.1 | $422.1 | $285.8 |
| Net income | $103.8 | $66.0 | $196.7 | $196.8 |
| Diluted EPS | $0.80 | $0.65 | $1.68 | $1.93 |
| Net interest margin (tax-equivalent) | 3.18% | 3.27% | 3.21% | 3.42% |
- Q3 earnings increased, led by mortgage banking income and the acquired business; higher credit provisions, merger costs and FHLB prepayment penalties partly offset the gains. Nine-month net income was essentially unchanged, while diluted EPS declined amid the substantial increase in shares issued for the acquisition.
- Mortgage banking income was $109.5 million in Q3 and $195.3 million for nine months, versus $24.0 million and $59.4 million, respectively, a year earlier. Management attributed the increase to stronger mortgage production and sales, plus the acquisition of Crescent Mortgage.
- Q3 other expense included $5.7 million of Carolina Financial merger-related costs and $10.4 million of penalties to prepay three long-term FHLB advances. Nine-month merger costs were $53.7 million.
Financial position, credit and liquidity
- At September 30, 2020, total assets were $25.93 billion, up 31.9% from year-end 2019; net loans and leases were $17.70 billion, deposits $20.25 billion, and shareholders’ equity $4.27 billion. The acquisition was the principal driver of balance-sheet growth; PPP lending and organic deposit growth also contributed.
- Cash and cash equivalents were $1.66 billion, up $819 million from year-end, as United increased cash held at the Federal Reserve amid pandemic uncertainty. Nine-month operating cash flow was negative $45.3 million, investing cash flow negative $24.6 million, and financing cash flow positive $889.0 million.
- Total borrowings were approximately $1.07 billion, down 51.5% from year-end, primarily following repayment of FHLB advances. United reported $6.69 billion of unused FHLB borrowing capacity, subject to collateral requirements, and $230 million of unused correspondent-bank lines. Management said liquidity was sufficient and anticipated meeting obligations over the next 12 months.
- The allowance for loan and lease losses was $225.8 million, or 1.26% of loans net of unearned income, versus $77.1 million and 0.56% at year-end. The combined allowance for credit losses, including lending-related commitments, was $241.8 million. Nonperforming assets were $178.0 million, or 0.69% of assets; nonperforming loans and leases were 0.85% of loans.
- Deposits grew $6.40 billion from year-end, including $3.88 billion acquired and $2.52 billion of organic growth. Portfolio loans grew $4.22 billion, including approximately $1.29 billion of PPP loans. United reported $1.29 billion of PPP loans processed across nearly 9,000 borrowers and $10.1 million of related fee income for the first nine months.
- Regulatory capital ratios were 15.14% total risk-based capital, 12.89% Common Equity Tier 1 and Tier 1, and 10.08% leverage. These figures reflect the elected five-year transition for CECL’s regulatory-capital impact.
Material changes and management commentary
- United acquired Carolina Financial for approximately $817.9 million, primarily in United shares, issuing 28.0 million shares. The acquisition added approximately $5.00 billion of assets, $3.29 billion of loans and $3.87 billion of deposits at closing. Preliminary acquisition goodwill was $316.9 million; purchase accounting remained subject to refinement.
- United adopted CECL on January 1, 2020. Adoption increased the allowance for credit losses by $57.4 million and reduced retained earnings by $44.3 million. COVID-19-related economic assumptions and acquired non-PCD loans materially raised 2020 credit provisions. Management said the Q3 forecast was less severe than Q2 but projected a more gradual recovery over a longer period.
- COVID-19 remained a significant source of uncertainty. As of September 30, 1,433 CARES Act loan modifications remained outstanding, covering approximately $1.19 billion in loans; the filing reported 5,910 modifications totaling approximately $3.30 billion had been made through that date. The company cautioned that the pandemic’s effects on customers, credit quality, liquidity and results were difficult to predict.
- There is no specific earnings guidance. Management stated it could meet obligations over the next 12 months and had no material capital-expenditure commitments. It warned that LIBOR transition risks could affect contracts, systems, operations and customer relationships; LIBOR was expected to cease after 2021, with the ultimate effects and replacement arrangements uncertain.
Risks, contingencies and unusual items
- Key risks include pandemic-related borrower stress and economic weakness, particularly in energy, hospitality, restaurants, aviation, entertainment, retail and commercial real estate; the filing also cites possible recession, higher defaults, market volatility, lower rates and operational or cybersecurity risks.
- Mortgage servicing rights were $20.4 million net of a $1.1 million valuation allowance; United recorded $1.1 million of impairment in the first nine months. Management linked lower MSR value to falling long-term rates and faster expected prepayments. The company serviced approximately $3.55 billion of loans for others.
- United disclosed ordinary-course litigation and potential regulatory scrutiny of consumer products and fees; management could not assess the likelihood or estimate potential losses for the regulatory matters. Management believed current litigation would not materially affect financial position.
- PPP-related risks include potential borrower or agent litigation, SBA denial or recovery of loan guarantees if origination or servicing deficiencies are found, and loans not qualifying for forgiveness. Mortgage repurchase, servicing and foreclosure obligations could also create costs or liabilities.
Investor verification priorities
- Track post-acquisition integration, realized cost savings and synergies, and any revisions to preliminary goodwill and other purchase accounting values.
- Review loan deferral performance, criticized and nonperforming credits, charge-offs, reserve adequacy and the assumptions behind CECL forecasts as pandemic conditions evolve.
- Verify mortgage banking earnings sustainability, including production volumes, margins, fair-value gains, MSR valuations and repurchase or servicing exposures.
- Monitor organic deposit and loan trends, cash deployment, borrowing capacity and regulatory capital, including the effect of the CECL transition phase-in.
- Assess the timing and cost of LIBOR conversion and the potential effects of PPP forgiveness, guarantee claims, litigation or regulatory remediation.