Cass Information Systems, Inc. — Q2 2020 Form 10-Q
Business context and reporting period. Cass provides payment and invoice-processing services to large businesses and banking services to businesses and faith-based organizations. This unaudited report covers the quarter and six months ended June 30, 2020, compared with the corresponding 2019 periods. The company attributed significant operating effects to the COVID-19 pandemic and related economic disruption.
Key financial metrics
| Metric | Q2 2020 | Q2 2019 | First half 2020 | First half 2019 |
|---|---|---|---|---|
| Fee revenue and other income | $23.2 million | $27.4 million | $50.3 million | $54.4 million |
| Total net revenue | $33.9 million | $39.4 million | $72.1 million | $77.8 million |
| Net income | $5.4 million | $7.7 million | $13.0 million | $15.8 million |
| Diluted EPS | $0.37 | $0.52 | $0.89 | $1.08 |
| Tax-equivalent net interest margin | 2.88% | 3.52% | 3.04% | 3.47% |
| Operating expenses | $27.4 million | $30.0 million | $56.3 million | $58.4 million |
Cash flow and balance sheet. First-half operating cash flow was $32.7 million, versus $26.4 million a year earlier; investing activities used $101.8 million and financing activities provided $97.3 million. Cash and cash equivalents were $232.1 million at June 30, up $28.2 million from year-end 2019. Total assets were $1.829 billion; loans, net, were $952.4 million, and available-for-sale securities were $380.0 million. Deposits were $826.0 million, accounts and drafts payable were $687.5 million, and shareholders’ equity was $248.5 million. No short-term borrowings were outstanding at quarter-end; the company reported no amounts outstanding under its credit lines.
Credit, liquidity, and capital. The allowance for loan losses was $11.3 million, or 1.17% of loans, compared with $10.6 million, or 1.37%, at December 31, 2019. No loans were reported as nonperforming, although the filing disclosed two troubled debt restructurings totaling $9.7 million and one other impaired loan of $2.5 million. The company and bank reported regulatory capital ratios above minimum requirements; company total capital to risk-weighted assets was 21.32% and the bank’s was 20.08%. Available liquidity included $232.1 million of cash and cash equivalents, securities, and borrowing facilities, including $83.0 million in unsecured correspondent-bank lines and secured facilities. The filing reports no line borrowings at June 30.
Material changes versus prior comparable periods
- Q2 net income fell 29.2% and diluted EPS fell 28.2%; first-half net income fell 18.1% and diluted EPS fell 17.6%.
- Q2 payment and processing revenue declined 15.6%; first-half revenue declined 9.7%. Transportation invoice volume fell 20.9% in Q2 and 14.3% in the first half. Facility-expense dollar volume fell 17.9% and 11.3%, respectively.
- Lower market interest rates reduced interest income and net interest margin. Tax-equivalent net interest income decreased 7.3% in Q2 and 4.9% in the first half, partly offset by growth in average earning assets.
- Operating expenses declined 8.7% in Q2 and 3.7% in the first half, mainly reflecting lower personnel costs associated with reduced processing volumes.
- Loans increased $191.1 million from year-end, largely reflecting Paycheck Protection Program (PPP) lending. Deposits increased $68.8 million, with PPP proceeds largely remaining in deposit accounts.
Outlook, management commentary, risks, and unusual items
- Management said the eventual impact of COVID-19 remained highly uncertain. Business closures and weakness in manufacturing, transportation, retail, restaurant, hospitality, and energy-related activity reduced processing volumes. Further credit-loss provisions, asset impairment, or restructuring charges could arise depending on the duration and severity of the disruption.
- The bank processed nearly 350 PPP applications for approximately $170 million; the balance sheet reports $172.6 million of PPP loans. These loans were primarily to existing customers, guaranteed by the SBA, and excluded from the loan-loss allowance. The bank was approved to borrow against PPP loans through the Federal Reserve’s PPP Lending Facility.
- Borrower principal-payment deferrals of up to six months were offered as needed. The company reported no past-due or nonaccrual loans, but COVID-19-related deterioration remained a stated risk.
- The company elected under the CARES Act to defer adoption of the current expected credit losses standard until the earlier of December 31, 2020 or termination of the national emergency declaration. It estimated adoption could increase the allowance and unfunded-commitment reserves by up to 25%, with a one-time retained-earnings adjustment.
- Management expected cash, maturing investments, and operating cash flow to fund operations and estimated 2020 capital expenditures of $4 million to $6 million. No earnings or revenue guidance was provided.
- First-half results included $1.069 million of gains on securities sales, versus $19,000 a year earlier. The treasury-share repurchase program was temporarily suspended beginning March 16, 2020; first-half repurchases totaled 128,779 shares for $5.5 million.
- Management stated that remote-work procedures had not materially adversely affected internal controls or operations. Disclosure controls were assessed as effective; the filing reported no material change in internal control over financial reporting.
- Legal proceedings were described as ordinary-course matters, with management not expecting a material effect. The filing identified COVID-19 as a significant risk, including potential effects on demand, credit quality, liquidity, workforce and vendors, cybersecurity, and capital.
Important facts for investors to verify
- Subsequent processing volumes and customer activity, especially in transportation, manufacturing, energy, retail, and hospitality.
- PPP loan balances, forgiveness and repayment trends, associated fee recognition, and the effect of PPP-related funding on deposits and net interest income.
- Loan deferrals, special-monitoring exposures, impaired loans, and any changes to the allowance as economic conditions evolve.
- Net interest margin sensitivity to low rates, deposit and payment-funding stability, and continued availability of borrowing facilities.
- The timing and estimated retained-earnings and reserve effects of CECL adoption, along with capital expenditures and capital-return decisions.