Fulton Financial Corporation — Q2 2018 Form 10-Q
Reporting period: Three and six months ended June 30, 2018; filed August 9, 2018. Fulton Financial is a regional banking company operating in Pennsylvania, Delaware, Maryland, New Jersey and Virginia. Unless noted, amounts below are in U.S. dollars.
Financial performance
| Metric | Q2 2018 | Q2 2017 | Six months 2018 | Six months 2017 |
|---|---|---|---|---|
| Net interest income | $156.1 million | $141.6 million | $307.4 million | $279.1 million |
| Net income | $35.2 million | $45.5 million | $84.7 million | $88.8 million |
| Diluted EPS | $0.20 | $0.26 | $0.48 | $0.51 |
| Net interest margin, FTE | 3.39% | 3.29% | 3.37% | 3.28% |
| Provision for credit losses | $33.1 million | $6.7 million | $37.1 million | $11.5 million |
| Non-interest income | $49.1 million | $52.4 million | $95.0 million | $99.0 million |
| Non-interest expense | $133.3 million | $132.7 million | $270.0 million | $255.0 million |
Q2 return on average assets was 0.70%, return on average equity 6.28%, and efficiency ratio 63.3%. For the first half, those figures were 0.86%, 7.64%, and 65.3%, respectively. The effective tax rate declined to 9.0% for Q2 and 11.1% for the first half, compared with 16.6% and 20.5% in 2017, reflecting the Tax Act’s lower federal corporate tax rate and other tax-exempt income and tax credits.
Balance sheet, liquidity and capital
- Total assets were $20.17 billion at June 30, up 0.7% from year-end 2017. Loans, net of unearned income, were $15.79 billion, up 0.2%; deposits were $15.60 billion, down 1.3%.
- Cash and due from banks totaled $99.7 million; interest-bearing deposits with other banks were $298.1 million. Available-for-sale securities were $2.59 billion.
- Short-term borrowings increased 59.3% from year-end to $983.8 million; long-term debt declined 4.5% to $991.9 million. Total borrowings were $1.98 billion, up 19.3%.
- First-half operating cash flow was $134.8 million; investing activities used $217.2 million and financing activities provided $80.6 million. Cash and restricted cash ended at $244.9 million.
- Shareholders’ equity was $2.25 billion. Regulatory capital ratios were 13.2% total capital, 10.6% Tier 1 and common equity Tier 1, and 9.2% Tier 1 leverage. The company said it met fully phased-in minimums, including capital buffers; subsidiary banks were classified as well capitalized.
- Available liquidity included $3.4 billion of additional FHLB borrowing capacity, $1.1 billion of federal funds lines (with $343 million drawn), and $481.3 million of Discount Window availability with no borrowings.
Material changes and asset quality
- Net income fell 22.6% in Q2 and 4.7% for the first half. Higher net interest income and margin were more than offset in Q2 by an exceptional credit charge. FTE net interest income rose 7.9% in Q2 and 7.8% in the first half; average loans grew 4.2% and 4.8%, respectively.
- A single large commercial lending relationship generated a $36.8 million provision and a $33.9 million charge-off in Q2. The filing attributes the loss to suspected fraudulent activity by one or more employees of the borrower and related entities. The provision was $29.1 million after tax, or about $0.16 per diluted share. Management described the incident as isolated.
- Annualized net charge-offs to average loans rose to 1.01% in Q2 and 0.56% for the first half, versus 0.11% and 0.10% in 2017. Excluding the unusual relationship, the company recorded a negative provision for the remainder of the portfolio in Q2, citing prior-reserve releases and improving performance.
- At June 30, nonperforming assets were $134.9 million, or 0.67% of assets, versus $144.6 million and 0.72% at year-end. Total delinquency was 1.18%, compared with 1.24% at year-end. The allowance for credit losses was $169.2 million, or 1.07% of loans; the reserve for unfunded commitments increased to $13.2 million.
- First-half other comprehensive loss was $33.2 million, primarily from unrealized investment-security losses as rates rose; accumulated other comprehensive loss increased to $73.3 million.
Outlook, risks and unusual items
- The filing provides no specific earnings or financial guidance. Management cautions that interim results are not necessarily indicative of full-year results.
- Management cited loan growth and higher rates as supporting net interest income, while deposit and borrowing costs rose. The Tax Act reduced calculated FTE yields on tax-exempt assets and contributed a 6-basis-point Q2 and 7-basis-point first-half reduction in margin.
- Interest-rate simulations estimated net interest income would increase 4.3% under a 100-basis-point upward shock, 8.5% under 200 basis points and 12.4% under 300 basis points; a 100-basis-point decline was estimated to reduce it 6.92%. These are model estimates, not forecasts.
- Fulton and three bank subsidiaries remained subject to BSA/AML regulatory enforcement orders that impose compliance obligations and restrictions on certain expansion activities. The company also disclosed an ongoing Department of Justice fair-lending investigation covering lending activity from 2009 onward; potential resolution costs or restrictions could not be reliably estimated.
- Other disclosed risks include credit deterioration, rate and funding pressures, regulatory requirements, litigation, technology and cybersecurity risks, and potential losses from representations and warranties on sold mortgages. The company reported no material changes to previously disclosed risk factors.
- After quarter-end, on August 1, the company transferred securities with $665.5 million amortized cost and $641.7 million fair value from available-for-sale to held-to-maturity, citing intent and ability to hold to maturity. It also disclosed a cash-flow presentation error associated with adopting restricted-cash guidance; the correction had no impact on net income or retained earnings.
Important facts for investors to verify
- Track recovery, collections, collateral and any further losses tied to the large commercial borrower, and assess whether management’s “isolated” characterization remains supported.
- Monitor credit costs and allowance adequacy, particularly commercial risk ratings, delinquencies, charge-offs and the rising reserve for unfunded commitments.
- Assess funding trends: deposits declined while short-term borrowings rose materially; compare future deposit pricing, borrowing mix and net interest margin.
- Follow the DOJ fair-lending investigation and BSA/AML orders for possible penalties, remedial costs or limits on growth and expansion.
- Review the impact of the securities reclassification, unrealized portfolio losses and interest-rate sensitivity, as well as the company’s implementation of upcoming lease and CECL standards.