Banc of California, Inc. — Q1 2018 Form 10-Q
Reporting period: Three months ended March 31, 2018. Unless noted, dollar amounts are in millions. The company is a California-focused bank operating 34 branches. Its 2017 sale of the Banc Home Loans division means mortgage-banking results are presented as discontinued operations, affecting year-over-year comparisons.
Financial performance and condition
| Metric | Q1 2018 | Comparable / prior period |
|---|---|---|
| Net interest income, continuing operations | $71.4 | $80.5 in Q1 2017 |
| Net interest margin / spread | 2.98% / 2.74% | 3.19% / 3.03% in Q1 2017 |
| Provision for loan and lease losses | $19.5 | $2.6 in Q1 2017 |
| Noninterest income, continuing operations | $8.6 | $14.9 in Q1 2017 |
| Noninterest expense, continuing operations | $59.8 | $89.9 in Q1 2017 |
| Continuing-operations income / diluted EPS | $7.1 / $0.03 | $9.4 / $0.08 in Q1 2017 |
| Net income / income available to common shareholders | $8.6 / $3.4 | $17.2 / $12.1 in Q1 2017 |
| Cash from operating activities | $14.3 | $(16.0) in Q1 2017 |
- At March 31, total assets were $10.33 billion, broadly unchanged from year-end 2017. Net loans and leases were $6.88 billion, up 4.0% from year-end; deposits were $7.11 billion, down 2.5%.
- Cash and cash equivalents were $346.7 million, down $41.0 million from year-end. Available-for-sale securities were $2.42 billion, down 5.9%.
- Total borrowings were about $2.08 billion, including $1.91 billion of FHLB advances and $173 million of long-term debt. The debt includes $175 million principal of 5.25% senior notes due in 2025.
- Shareholders’ equity was $993.8 million. Company capital ratios were 14.60% total risk-based, 13.74% Tier 1 risk-based, 9.80% common equity Tier 1, and 9.21% Tier 1 leverage. Bank ratios exceeded applicable “well-capitalized” thresholds.
- Asset quality: nonperforming loans and leases were $21.2 million; nonperforming assets were $22.2 million, or 0.22% of assets. The allowance for loan and lease losses was $54.8 million, 0.79% of loans and leases and 258% of nonperforming loans.
Material changes and drivers
- Net interest income on a consolidated basis fell 14.5% year over year to $71.6 million. Higher funding costs—particularly on FHLB advances and deposits—and lower average securities balances outweighed improved yields on loans and securities. Net interest margin declined to 2.98% from 3.19%.
- Provision expense rose to $19.5 million, primarily due to a $13.9 million charge-off tied to a newly originated $15 million credit line that the Bank says was obtained through external fraud. A $28.5 million commercial-and-industrial loan was also downgraded from Special Mention to Substandard. The Bank intends to pursue recovery, but gives no assurance it will succeed.
- Noninterest income declined 42.4% to $8.6 million, reflecting lower loan-sale gains and servicing income and a $2.3 million loss on sale of mortgage servicing rights; higher securities-sale gains partly offset the decline.
- Noninterest expense fell 33.5% to $59.8 million, mainly from cost reductions, lower alternative-energy investment losses, and reduced prior-year investigation and restructuring costs. Advertising rose, including $1.7 million of stadium naming-rights expense.
- Q1 2018 net income included $1.5 million from discontinued operations, including a $1.0 million disposal gain and $0.6 million of Caliber earn-out income. Q1 2017 discontinued operations included $13.3 million of disposal gain and substantially higher mortgage-banking activity.
- Unrealized losses on available-for-sale securities reduced other comprehensive income by $17.3 million in the quarter. The portfolio was repositioned to reduce duration; the company sold its remaining corporate debt securities.
Liquidity, outlook, and risks
- Management said available liquidity was adequate for day-to-day needs. At quarter-end, it reported $1.09 billion of additional FHLB borrowing capacity, a $64.7 million Federal Reserve discount-window line, $210 million of unsecured federal-funds lines, and $1.85 billion of unpledged available-for-sale securities. These facilities and securities are subject to collateral, eligibility, or counterparty conditions.
- The company reduced high-rate and high-volatility deposits and increased FHLB funding, while stating a goal of growing core deposits to support lending. It also reported $217.4 million of Bank dividends available to the holding company without prior OCC approval; the Bank paid $18 million in dividends to the parent in the quarter.
- No specific earnings or financial guidance was provided. Management cautioned that quarterly results are not necessarily indicative of full-year results. It cited interest-rate changes, deposit competition, credit quality, real-estate conditions, regulatory requirements, operating costs, and management transition as risks.
- The company became subject to Dodd-Frank stress-testing requirements after exceeding the $10 billion asset threshold for four consecutive quarters; its first stress-test results were due by July 31, 2018.
- Legal and governance matters include a pending SEC investigation, securities class action, shareholder derivative action, and other litigation. The company says it intends to contest the actions; outcomes and costs remain uncertain. It accrued $916,000 for various litigation matters. A former executive’s employment lawsuit was settled, with approximately $4.3 million of payments to him and $650,000 of attorneys’ fees paid during the quarter; the filing says the settlement did not materially affect financial condition, results, or liquidity.
- Controls and procedures were assessed as effective as of March 31, 2018; the filing says no material change in internal control over financial reporting occurred during the quarter.
Important facts for investors to verify
- Whether recoveries are obtained on the $13.9 million fraud-related charge-off, and whether the event affects future underwriting, credit costs, or controls.
- Trends in the downgraded $28.5 million commercial loan, nonperforming assets, charge-offs, and allowance adequacy.
- Whether deposit attrition and greater reliance on FHLB advances affect funding costs, liquidity, and net interest margin.
- The quality, valuation, and interest-rate sensitivity of the securities portfolio, including the impact of unrealized losses and CLO exposures.
- Developments and potential financial or reputational effects from the SEC investigation and outstanding litigation.
- The sustainability of earnings excluding tax-credit benefits, securities gains, discontinued-operation items, and other unusual or nonrecurring effects.