First Horizon Corporation (NYSE: FHN) — Q1 2023 Form 10-Q
Reporting period: Three months ended March 31, 2023; balance-sheet comparisons are primarily with December 31, 2022. The filing was signed May 8, 2023. Unless noted otherwise, figures are in U.S. dollars.
Business context
First Horizon is a Memphis-based financial holding company whose principal subsidiary is First Horizon Bank. Its businesses include regional banking, specialty commercial lending and financing, mortgage and title services, capital markets, and wealth management. At quarter-end, it reported more than 450 business locations in 24 states and approximately 7,300 associates.
Financial performance and condition
| Metric | Q1 2023 | Comparable period / change |
|---|---|---|
| Net interest income | $688 million | $479 million in Q1 2022; down $21 million from Q4 2022 |
| Net interest margin | 3.87% | 2.37% in Q1 2022; 3.89% in Q4 2022 |
| Noninterest income | $171 million | $229 million in Q1 2022 |
| Noninterest expense | $478 million | $493 million in Q1 2022 |
| Provision for credit losses | $50 million expense | $40 million benefit in Q1 2022 |
| Net income | $255 million | $198 million in Q1 2022 |
| Net income available to common shareholders | $243 million | $187 million in Q1 2022; $258 million in Q4 2022 |
| Diluted earnings per common share | $0.43 | $0.34 in Q1 2022; $0.45 in Q4 2022 |
| Pre-provision net revenue (non-GAAP) | $381 million | $215 million in Q1 2022 |
| Efficiency ratio | 55.67% | 70.23% in Q1 2022 |
Year over year, higher asset yields and loan growth lifted net interest income and margin, while noninterest income fell 25%, principally on weaker fixed-income and mortgage banking/title results. Lower expenses also supported earnings. Sequentially, higher funding costs and fewer days in the quarter reduced net interest income; management said higher loan rates only partly offset deposit-cost increases.
- Balance sheet: Total assets were $80.7 billion, up from $79.0 billion at year-end. Loans and leases were $59.0 billion, up $943 million (2%); deposits were $61.4 billion, down $2.0 billion (3%).
- Funding and liquidity: Noninterest-bearing deposits fell $2.3 billion, partly offset by a $283 million increase in interest-bearing deposits. Estimated uninsured deposits were $27.8 billion, or 45% of deposits; the company said 8% of total deposits were collateralized. Available FHLB borrowing capacity was $10.1 billion. Short-term borrowings increased to $6.5 billion, largely reflecting higher FHLB borrowing; term borrowings were $1.6 billion.
- Capital: FHN’s CET1 ratio was 10.36%, Tier 1 ratio 12.11%, and total risk-based capital ratio 13.61%, all higher than at year-end. Management said FHN and the bank met well-capitalized standards and the capital conservation buffer.
- Credit: The loan-loss allowance was $715 million, or 1.21% of loans, versus $685 million and 1.18% at year-end. Total allowance for credit losses, including unfunded commitments, was $800 million. Net charge-offs were $16 million, an annualized 0.11% of loans, versus $10 million and 0.07% in Q1 2022.
- Asset quality: Nonperforming loans and leases rose to $424 million from $316 million at year-end; the nonperforming-loan ratio increased to 0.72% from 0.54%. Total nonperforming assets, including held-for-sale loans and foreclosed assets, were $432 million. Management attributed much of the increase to two large commercial relationships.
- Cash flows: Operating activities used $69 million; investing activities used $2.0 billion; financing activities provided $1.8 billion. Cash and cash equivalents decreased $247 million to $1.3 billion. These cash-flow figures include substantial loan growth, deposit movements, and short-term borrowing activity.
- Shareholder returns: The common dividend declared was $0.15 per share. No shares were repurchased under the general purchase program during the quarter; management said it expected to use that program more normally after the TD transaction ended.
Material changes, events and outlook
- TD transaction termination: On May 4, 2023, after quarter-end, FHN and Toronto-Dominion Bank mutually terminated their merger agreement. TD paid FHN $200 million under the termination agreement, in addition to a $25 million fee reimbursement due under the merger agreement. The payment was not part of Q1 operating results. FHN reported $21 million of TD merger-planning and integration expense in Q1.
- Series G preferred stock: The $494 million Series G convertible preferred stock is to convert at 4,000 common shares per preferred share following termination, equivalent to a $25 conversion price and approximately 3.5% of FHN common shares outstanding. It qualified as Tier 1 capital at quarter-end and is expected to qualify as CET1 after conversion.
- Management commentary: Management said deposit outflows reflected continued normalization from pandemic-era balances and customers seeking higher returns. It had raised deposit rates and expected to remain competitive; continued outflows could require more, higher-cost borrowing or other funding actions, potentially pressuring earnings.
- Interest-rate outlook: FHN’s disclosed base expectations aligned with the forward curve: short-term rates were expected to stop rising at some point in 2023 and begin declining by Q4. These are management assumptions, not firm earnings guidance. On a static-balance-sheet model, a 100-basis-point increase in rates was estimated to raise projected 12-month net interest income 5.7%; a 100-basis-point decrease was estimated to reduce it 6.2%.
- Key risks: Management highlighted recession risk, inflation, an inverted yield curve, continued deposit-price competition and uncertainty after the March 2023 bank failures. A recession could weaken loan demand and fee income and increase credit losses. CRE represented $13.4 billion of loans, including 17% office exposure within the CRE portfolio; 19% of C&I loans were sensitive to the financial-services industry.
- Securities and contingencies: Available-for-sale securities had $1.146 billion of gross unrealized losses at March 31, 2023; FHN said it did not intend, and was not likely to be required, to sell them before recovery, and identified no credit losses in that portfolio. Separately, pre-2009 mortgage repurchase and foreclosure liabilities were $15 million. Other material litigation liabilities were $3 million, with estimable reasonably possible losses in excess of established liabilities ranging from zero to less than $1 million; certain legacy mortgage claims could not be reasonably estimated.
- Unusual accounting item: Adoption of ASU 2022-02 reduced the allowance by $6 million and increased retained earnings by $4 million, net of tax, at January 1, 2023.
Important facts for investors to verify
- Confirm the timing and accounting, after quarter-end, of the $225 million total TD termination-related payment and the Series G conversion, including the resulting common-share dilution.
- Track deposit balances, uninsured-deposit mix, deposit pricing, borrowing levels and available contingent liquidity as funding competition evolves.
- Monitor credit quality, particularly the two commercial relationships behind the increase in nonperforming loans, C&I financial-services exposures, and CRE office performance.
- Assess whether loan yields continue to outpace rising deposit and borrowing costs, and compare actual margin performance with the company’s interest-rate sensitivity scenarios.
- Review the realization and potential capital effects of securities’ unrealized losses, and changes in mortgage-related claims, litigation contingencies and credit-loss reserves.