Southside Bancshares, Inc. — Q1 2013 Form 10-Q
Business context and reporting period
Unaudited consolidated results for the three months ended March 31, 2013, compared with Q1 2012; balance-sheet comparisons are primarily with December 31, 2012. Southside is a Texas bank holding company. Its balance-sheet strategy uses deposits and Federal Home Loan Bank (FHLB) funding to support loans and a substantial securities portfolio. The company opened its second Austin branch on March 11, 2013.
Financial performance and position
- Profit: Net income was $8.5 million, down 15.9% from $10.1 million. Diluted EPS was $0.48 versus $0.56. Return on average assets was 1.08% (1.26% prior year); return on average equity was 13.38% (15.34%).
- Interest income and margins: Interest income fell 17.9% to $26.0 million; interest expense fell 33.9% to $5.1 million. GAAP net interest income declined 12.8% to $20.9 million. Net interest margin, on a taxable-equivalent basis, was 3.20%, down from 3.52%; average earning-asset yield fell to 3.89% from 4.56%.
- Other income and expenses: Noninterest income decreased 5.1% to $10.3 million, including $4.4 million of securities gains versus $6.0 million a year earlier. Noninterest expense rose 9.7% to $20.3 million, with salaries and benefits up 11.6%. Pretax income was $10.4 million versus $13.2 million; the effective tax rate declined to 17.9% from 23.4%, mainly due to a higher proportion of tax-exempt income.
- Cash flow: Operating activities provided $18.8 million; investing activities used $127.4 million; financing activities provided $13.1 million. Cash and cash equivalents ended at $55.1 million, down from $150.6 million at year-end, largely amid securities portfolio activity.
- Balance sheet and funding: Total assets were $3.312 billion, up from $3.237 billion. Deposits were $2.337 billion, down from $2.352 billion. Loans were $1.282 billion, up 1.5% from year-end; net loans were $1.263 billion. Securities increased to approximately $1.83 billion. FHLB advances totaled $553.0 million; long-term trust-preferred debt was $60.3 million. Shareholders’ equity was $255.7 million, or 7.7% of assets.
- Credit quality: The allowance for loan losses was $18.5 million, 1.45% of loans, down from $20.6 million and 1.63% at year-end. Q1 provision expense was $492,000 versus $3.1 million. Net charge-offs increased to $2.5 million from $1.5 million. Nonperforming assets declined to $12.6 million from $14.7 million; nonaccrual loans were $8.6 million.
- Capital and liquidity: Management said the company met applicable capital requirements. At March 31, consolidated total risk-based capital was 21.64%, Tier 1 risk-based capital 20.39%, and Tier 1 leverage 9.35%. Short-term investments and cash were 14.8% of assets, versus 18.6% at year-end. The Bank had approximately $244.4 million of additional FHLB borrowing capacity using unpledged securities.
Material changes versus comparable periods
- Earnings weakened year over year as lower securities and mortgage-backed securities yields reduced interest income; reduced funding costs and loan-loss provision only partly offset the decline.
- Average loans increased 14.2% year over year, while average securities declined 10.4%; average loan yield fell to 5.96% from 6.41%.
- Asset quality improved by several period-end measures, including lower nonaccrual loans and nonperforming assets, although net charge-offs were higher and restructured loans rose to $3.3 million from $3.0 million at year-end.
- Accumulated other comprehensive income moved from $2.9 million at year-end to a $2.9 million loss, reflecting a $5.8 million after-tax quarterly comprehensive loss. The company repurchased 90,300 shares for $1.9 million and paid $3.4 million in cash dividends.
Outlook, commentary, risks, and unusual items
- Management described continued active portfolio management: it sold faster-prepaying mortgage securities and longer-duration, lower-coupon municipal securities, and bought shorter-duration municipal and agency mortgage securities. Management said future securities purchases or run-off will depend on market economics; it gave no numerical earnings guidance.
- Management expects the benefit of $66.8 million of FHLB advances that matured in Q1 to be reflected from Q2. Subsequent to quarter-end, on April 15, the company prepaid $66.2 million of advances at an average rate of 4.03%, paying a $604,000 fee; management expected the fee to be offset by gains on lower-yielding available-for-sale securities.
- Interest-rate sensitivity modeling projected that an immediate 100- or 200-basis-point rate increase would reduce next-12-month net interest income by 4.17% or 6.44% versus the base case; decreases of 100 or 200 basis points projected declines of 0.98% or 1.07%. These are model estimates dependent on assumptions, not forecasts.
- Risks include interest-rate and prepayment exposure, securities valuation and credit risk, loan losses and real-estate collateral values, wholesale-funding costs and liquidity, economic conditions, and regulatory changes. The company noted that Dodd-Frank implementation could increase compliance costs.
- The pooled trust-preferred securities (TRUPs) had $2.7 million amortized cost and $592,000 estimated fair value; management estimated cumulative credit impairment of $3.3 million and recognized an additional $42,000 impairment in Q1. Valuation relies on Level 3 assumptions and market illiquidity.
- The board declared a 5% stock dividend, payable May 9, 2013. Southside Securities, Inc. was expected to close in the first half of 2013. Normal-course litigation was not considered material. Management reported effective disclosure controls and no material change in internal control during the quarter.
Important facts for investors to verify
- Whether lower asset yields and securities income continue to pressure net interest income and margins, and whether management’s securities repositioning produces the expected returns.
- How loan growth, charge-offs, nonperforming assets, restructured loans, and the allowance develop, particularly in consumer automobile and real-estate exposures.
- The effect of the April FHLB prepayment, its fee and related securities gains, and the company’s ongoing reliance on wholesale funding.
- Changes in unrealized securities values and the assumptions supporting the TRUP valuation and impairment estimates.
- Execution and financial effects of the planned Southside Securities closure, the new Austin branch, and the declared stock dividend.