Business context and reporting period
Westamerica Bancorporation is a California banking company serving Northern and Central California. This unaudited Form 10-Q covers the quarter and six months ended June 30, 2012; balance-sheet comparisons are with December 31, 2011. Unless noted, dollar amounts below are in millions.
Financial performance and condition
| Metric | Q2 2012 | Q2 2011 | Six months 2012 | Six months 2011 |
|---|---|---|---|---|
| Net income | $20.964 | $21.269 | $41.969 | $43.651 |
| Diluted EPS | $0.75 | $0.74 | $1.50 | $1.50 |
| Net interest income, FTE | $50.333 | $55.837 | $102.032 | $110.830 |
| Net interest margin, FTE | 4.89% | 5.38% | 5.00% | 5.37% |
| Provision for loan losses | $2.800 | $2.800 | $5.600 | $5.600 |
| Noninterest income | $13.533 | $15.292 | $28.202 | $30.035 |
| Noninterest expense | $29.349 | $34.309 | $59.383 | $65.632 |
- Q2 net income declined 1.4% year over year; first-half net income declined 3.9%. First-half diluted EPS was unchanged.
- Q2 return on assets was 1.69% and return on common equity was 15.55%; first-half figures were 1.69% and 15.50%. The efficiency ratio was 46.0% for Q2 and 45.6% for the first half.
- At June 30, total assets were $4,953.1, deposits $4,208.5, shareholders’ equity $557.9, and net loans $2,285.7. Gross loan portfolio carrying value, including purchased loans and purchase discounts, was $2,317.2.
- Cash and due from banks were $320.9, down from $530.0 at year-end. First-half operating cash flow was $48.2 versus $61.8 in 2011; investing activities used $136.4 and financing activities used $120.9.
- At June 30, short-term borrowings were $81.6, FHLB advances $25.9, term repurchase agreement $10.0, and debt financing $15.0. The senior note matures October 31, 2013. Management reported more than $700 million of overnight borrowing lines, with none drawn, and described liquidity as strong.
- Company capital ratios were 14.46% Tier 1, 15.74% total risk-based capital, and 8.43% leverage. The Bank’s respective ratios were 13.85%, 15.32%, and 8.02%; both exceeded current regulatory “well-capitalized” thresholds.
- Dividends paid were $0.37 per share in Q2 and $0.74 per share for the first half. The company repurchased 566,000 shares for $26.1 million during the first half.
Material changes versus prior periods
- Net interest income (FTE) fell 9.9% in Q2 and 7.9% in the first half. Management attributed the decline mainly to lower average loan balances and lower yields on earning assets, partly offset by growth in investments and reduced deposit funding costs. The FTE margin declined 49 basis points in Q2 and 37 basis points for the first half.
- Loans contracted while securities increased: at June 30, available-for-sale securities were $708.7 and held-to-maturity securities were $1,206.6, compared with $638.8 and $922.8, respectively, at year-end. Net loans fell from $2,491.2 at year-end.
- Noninterest expense decreased $5.0 in Q2 and $6.2 for the first half, substantially reflecting the absence of a $2.1 million litigation settlement accrual recorded in Q2 2011, as well as lower costs associated with nonperforming assets.
- Nonaccrual loans declined to $46.5 from $53.1 at year-end; first-half net loan losses were $6.7 versus $8.2 in the prior-year period. The allowance for credit losses was $34.2, including $2.7 for off-balance-sheet credit exposure.
Outlook, commentary, risks and unusual items
- No specific earnings or revenue guidance was provided. Management said it was cautious about commercial lending amid economic weakness and competition, and noted reduced consumer demand; it was not pursuing aggressive loan growth. Management expected higher-cost time deposits to decline and said dividends were expected to continue subject to Board discretion and capital, earnings, and asset quality assessments.
- Q2 included a $1.287 million realized loss on sale of a residential collateralized mortgage obligation after deterioration in the creditworthiness of the security. Management reported that substantially all securities held at quarter-end remained investment grade and did not consider the remaining unrealized losses other-than-temporary, while noting future impairments could occur.
- A $968,000 tax refund related to an amended 2006 federal return reduced the Q2 tax provision and increased net income by approximately $950,000. Q2 2011 included the $2.1 million settlement accrual noted above.
- Covered purchased loans were 20% of the loan portfolio. FDIC loss-sharing agreements generally cover 80% of eligible losses in the first tier and 95% above the specified threshold, subject to terms and expiration dates. Management estimated potential after-tax first-tier exposure of about $12.5 million if losses exceed recognized discounts; it considered the likelihood of second-tier losses remote. The covered portfolio is concentrated in the California Central Valley, an area management said had weak economic conditions and declining real estate values.
- Other key risks include California economic conditions, interest-rate changes, loan and collateral deterioration, liquidity and deposit competition, securities-market values, regulatory changes, and operational risks. Management described interest-rate positioning as neutral to slightly asset-sensitive; a modeled rate increase was not expected to change earnings meaningfully over the following 12 months. The company does not use derivatives to manage interest-rate risk.
- Unfunded loan commitments were $329.8 and standby letters of credit $26.4 at June 30. The company disclosed routine legal matters and did not expect them to have a material adverse effect, based on counsel’s advice. Management reported effective disclosure controls and no material change in internal control over financial reporting during the quarter.
Important facts for investors to verify
- Whether loan balances and net interest margin continue to decline, and how changes in rates and loan demand affect earnings.
- Trends in nonaccrual, classified, and delinquent loans; charge-offs; allowance adequacy; and the performance and remaining coverage of FDIC-protected loans.
- The credit quality, valuation, and liquidity of the expanded investment portfolio, including the sold mortgage obligation and unrealized losses.
- Cash-flow and liquidity movements, deposit mix and competition, pledged securities, and availability of borrowing capacity.
- Capital levels and regulatory consequences of proposed capital-rule changes, along with the senior note’s 2013 maturity and the sustainability of dividends and repurchases.