First BanCorp. — Form 10-Q, quarter ended June 30, 2013
Business context: Puerto Rico-headquartered financial holding company operating FirstBank Puerto Rico and other banking and financial businesses in Puerto Rico, the U.S. mainland, and the U.S. and British Virgin Islands. Results reflect continued efforts to reduce troubled assets while operating under FDIC and Federal Reserve regulatory agreements. Unless noted, amounts below are in U.S. dollars; financial statement figures are in millions.
Financial results and condition
| Metric | Q2 2013 | Q2 2012 | Six months 2013 | Six months 2012 |
|---|---|---|---|---|
| Interest income | $160.7 | $153.7 | $320.9 | $305.8 |
| Net interest income | $126.9 | $108.7 | $251.4 | $210.6 |
| Provision for loan and lease losses | $87.5 | $24.9 | $198.6 | $61.1 |
| Non-interest income (loss) | $(51.7) | $14.0 | $(38.0) | $22.5 |
| Non-interest expenses | $111.3 | $86.9 | $209.3 | $172.1 |
| Net income (loss) | $(122.6) | $9.4 | $(195.2) | $(3.8) |
| Diluted earnings (loss) per share | $(0.60) | $0.05 | $(0.95) | $(0.02) |
- Underlying Q2 result: Management reported adjusted net income of $16.8 million, or $0.08 per diluted share, excluding the residential asset bulk-sale impact and Lehman collateral write-off. This is a non-GAAP measure.
- Margins: Tax-equivalent net interest margin excluding valuation changes was 4.12% in Q2 and 4.06% for the first half, versus 3.50% and 3.37% in 2012. Management attributed the improvement chiefly to lower funding costs and the acquired credit-card portfolio.
- Cash flow: First-half operating cash flow was $87.2 million, investing cash flow was $(157.8) million, and financing cash flow was $(41.3) million. Cash and cash equivalents ended June at $835.0 million, down $111.9 million from year-end.
- Balance sheet at June 30: Assets were $12.80 billion; net loans were $9.38 billion; deposits were $9.98 billion; total liabilities were $11.58 billion; and stockholders’ equity was $1.22 billion. Assets declined $296.6 million and equity declined $262.7 million from December 31, 2012.
- Funding and debt: Borrowings totaled $1.49 billion, including $900 million in repurchase agreements, $358.4 million in FHLB advances, and $232.0 million in other borrowings. Brokered CDs were $3.28 billion, about one-third of deposits; $1.84 billion mature within one year. The company had $397.1 million of additional FHLB borrowing capacity.
- Liquidity: Management estimated core liquidity at $1.5 billion, or 11.41% of assets, and basic liquidity at 14.51% of assets. The Bank’s access to brokered CDs requires regulatory approval.
- Capital: FirstBank’s June 30 total capital, Tier 1 risk-based, and leverage ratios were 16.16%, 14.87%, and 10.94%, respectively. Despite ratios above stated thresholds, the Bank cannot be treated as “well capitalized” while subject to the FDIC Order. Tangible common equity ratio was 8.64%, versus 10.44% at year-end.
Material changes and unusual items
- Q2 included a $66.6 million non-cash write-off of collateral pledged in the Lehman bankruptcy dispute, following an adverse court ruling.
- Two 2013 distressed-asset bulk sales generated a combined $140.8 million pre-tax loss, including the Q2 residential loan and OREO sale loss of $72.9 million. The company also transferred $181.6 million of non-performing loans to held for sale in Q1.
- Credit metrics improved substantially in reported balances, largely due to sales, charge-offs, and transfers: non-performing assets including loans held for sale fell to $751.9 million from $1.24 billion at year-end; non-performing loans including held-for-sale loans fell to $601.2 million from $977.8 million. Non-performing loans held for investment were $506.2 million. The allowance was $301.0 million, or 59.47% of those non-performing loans.
- GAAP net charge-offs were $128.9 million in Q2 and $333.0 million in the first half, heavily affected by bulk sales and transfers. Excluding those items, management cited annualized ratios of 1.29% for Q2 and 2.11% for the first half.
- Available-for-sale securities grew to $1.99 billion from $1.73 billion, while accumulated other comprehensive income shifted to a $40.1 million loss from $28.4 million of income, primarily from unrealized securities losses associated with market-rate changes.
- Puerto Rico Act 40 added a 1% gross-receipts tax on financial institutions, retroactive to January 1, 2013. First-half expense recorded was $3.2 million; related tax credits and rate changes also affected the tax provision.
Outlook, risks, and contingencies
- No specific earnings or revenue guidance is provided. Management said available borrowing capacity and efforts to grow retail deposits should provide necessary funding in the foreseeable future, but brokered-CD access depends on renewed FDIC waivers; the then-current approval ran through September 30, 2013.
- The FDIC Order and Federal Reserve Written Agreement impose capital, asset-quality, liquidity, and governance requirements, restrict dividends and certain debt actions, and limit brokered-CD issuance without approval. Neither common nor preferred dividends were declared in the periods presented.
- Management’s interest-rate simulation estimated that, over the next 12 months, net interest income would rise $19.2 million under a gradual +200-basis-point scenario and fall $8.6 million under a falling-rate scenario, using a growing-balance-sheet model. These are model estimates, not guidance.
- Key risks include Puerto Rico’s recession, fiscal stress and credit downgrades; concentrated lending exposure (about 85% of gross loans in Puerto Rico); continued credit losses and foreclosures; dependence on brokered CDs; possible further regulatory action; and uncertainty over realizing deferred tax assets. A $523.4 million valuation allowance left only $6.6 million of net deferred tax assets recognized.
- The Lehman collateral recovery appeal remained pending after the bankruptcy court ruled for Barclays; Barclays also sought sanctions. Management warned recovery may be limited, and the $66.6 million impairment was not expected to require future cash outlays apart from litigation costs.
- FirstBank’s largest single-borrower exposure was a $248.4 million loan to Puerto Rico mortgage originator Doral Financial Corporation, reported current and secured by residential mortgage loans. Management also identified potential risks from Puerto Rico government-related exposures and worsening local conditions.
Important facts for investors to verify
- Whether regulatory approvals for brokered CDs were renewed and whether funding concentration declined.
- Whether asset-quality improvement persisted after separating the effects of loan sales, charge-offs, and transfers from underlying portfolio performance.
- Subsequent credit performance, collateral value, and repayment status of the Doral exposure and other large commercial relationships.
- Progress on the Lehman appeal and Barclays sanctions motion, and any change in expected recoverability or litigation costs.
- Capital, liquidity, and compliance progress under the FDIC Order and Federal Reserve Written Agreement, including implications of Basel III implementation.
- Whether earnings support realization of deferred tax assets and whether Puerto Rico tax changes or economic conditions create further costs or credit deterioration.