First Horizon National Corporation — Q2 2017 Form 10-Q
Reporting period: Quarter and six months ended June 30, 2017; comparisons are primarily with the same 2016 periods. Balance-sheet comparisons are with December 31, 2016. FHN operates regional banking and fixed-income businesses, alongside corporate and non-strategic runoff activities.
Financial performance
| Metric | Q2 2017 | Q2 2016 | Six months 2017 | Six months 2016 |
|---|---|---|---|---|
| Total revenue | $328.4 million | $321.8 million | $635.0 million | $628.2 million |
| Net interest income | $200.7 million | $176.3 million | $390.4 million | $348.3 million |
| Noninterest income | $127.7 million | $145.5 million | $244.6 million | $279.8 million |
| Noninterest expense | $217.9 million | $226.8 million | $440.1 million | $453.7 million |
| Net income available to common shareholders | $90.8 million | $56.5 million | $144.8 million | $104.4 million |
| Diluted EPS | $0.38 | $0.24 | $0.61 | $0.44 |
- Q2 net interest margin was 3.07%, up 15 basis points year over year; six-month margin was 3.00%, up 10 basis points. Management attributed improvement mainly to higher loan yields, loan growth and lower costs on some deposits.
- Q2 return on average assets was 1.32%; return on average common equity was 15.26%. Six-month figures were 1.07% and 12.38%, respectively.
- At June 30, assets were $29.37 billion, net loans $19.79 billion, deposits $22.33 billion, total liabilities $26.54 billion and total equity $2.83 billion. Compared with year-end, assets rose 3%, net loans rose 2%, and deposits declined 1%.
- Cash and cash equivalents were $1.08 billion. For the six months, operating cash flow was negative $440.4 million, investing cash flow negative $41.3 million, and financing cash flow positive $523.1 million; cash increased $41.3 million overall.
- Period-end short-term borrowings were approximately $2.66 billion, up from $1.47 billion at year-end, primarily reflecting increased other short-term borrowings, including FHLB advances. Term borrowings were $1.03 billion. FHN reported $2.2 billion of available FHLB borrowing capacity.
- Common equity Tier 1, Tier 1, total capital and leverage ratios were 9.85%, 10.99%, 11.98% and 9.38%, respectively. FHN and its bank subsidiary met regulatory well-capitalized thresholds.
- The allowance for loan losses was $197.3 million, or 0.99% of loans, down from $202.1 million and 1.03% at year-end. Nonperforming assets declined to $144.1 million from $164.6 million.
Changes, business developments and unusual items
- Higher net interest income and lower expenses supported earnings growth; these benefits were partly offset by lower fixed-income revenue. Fixed-income noninterest income fell 29% in Q2 and 27% for the first half, with management citing rate increases, a flatter yield curve and low market volatility.
- Credit trends improved overall: Q2 provision was a $2.0 million credit versus $4.0 million expense a year earlier; net charge-offs were $2.7 million versus $8.2 million. Management described near-term asset quality as likely to remain relatively stable, conditional on continued slow economic growth.
- The effective tax rate fell to about 15% in Q2 from 33% a year earlier. A $40.1 million reversal of a deferred-tax valuation allowance related to a federal capital-loss carryforward materially benefited the tax provision; this item is not a recurring operating driver.
- Mortgage repurchase and foreclosure provision reversals were $21.7 million in Q2, compared with $31.4 million in Q2 2016. The related reserve was $35.3 million at June 30, versus $66.0 million at year-end; settlements drove much of the decline.
- FHN acquired Coastal Securities on April 3 for approximately $131 million in cash. The acquisition added SBA and USDA loan-related activity; preliminary purchase accounting included $45.0 million of goodwill. Q2 included $6.4 million of acquisition-related expenses, primarily related to Coastal and the proposed Capital Bank transaction.
- FHN agreed to acquire Capital Bank Financial in a transaction valued at approximately $2.2 billion when announced. Capital Bank shareholders were expected to receive about $411 million in cash plus FHN shares representing approximately 29% of FHN’s post-merger common shares. Closing was expected in Q4 2017, subject to regulatory and shareholder approvals and other conditions.
Outlook, risks and contingencies
- No specific earnings or revenue guidance was provided. Management said NIM could continue improving if the Federal Reserve raises short-term rates, while warning that a flatter yield curve could weigh on margin. It also noted that higher interest-bearing cash and trading inventory can compress margin.
- Credit exposure includes residential real estate equal to 24% of total loans. Finance and insurance lending plus mortgage-company loans represented 39% of C&I loans, making that portfolio sensitive to financial-services conditions.
- Legacy mortgage matters remain uncertain. The filing reports $1.1 million of aggregate liabilities for material litigation matters and estimates reasonably possible losses beyond established liabilities of zero to approximately $52 million. Separately, a former subservicer demanded $43.5 million; FHN disputes the demand and had made no payment.
- The Capital Bank merger faced shareholder lawsuits seeking to enjoin or delay the transaction, among other remedies. FHN said the outcomes were uncertain and could generate costs or affect completion.
- FHN’s liquidity depends in part on deposits, secured and unsecured wholesale funding, and access to other funding sources. The bank subsidiary required OCC approval for dividends to FHN; its reported dividend capacity was negative $61.3 million, and approvals had been obtained for specified 2017 payments.
- Management cautioned that actual results could differ due to economic and interest-rate movements, credit and collateral conditions, litigation, regulation, technology and execution of the Capital Bank merger. The filing states interim results are not necessarily indicative of future results.
Important facts for investors to verify
- Whether the Capital Bank merger closed as planned, its final terms and share dilution, and the realized integration costs and benefits.
- Whether core earnings growth persists excluding the $40.1 million tax valuation-allowance reversal, acquisition costs and mortgage reserve releases.
- Trends in deposits, FHLB and other short-term funding, operating cash flows, and liquidity after the sharp increase in period-end short-term borrowings.
- Developments in legacy mortgage litigation and repurchase exposures, including the $0–$52 million estimated reasonably possible loss range and the disputed $43.5 million subservicer demand.
- Loan quality and reserve adequacy, particularly in residential real estate and financial-services-related C&I lending, and the effect of changing rates on margins and borrowers.