South State Corporation (Nasdaq: SSB) — 2020 Form 10-K
Reporting period: Fiscal year ended December 31, 2020. This is an annual filing, not a standalone fourth-quarter report. Amounts are in U.S. dollars; comparisons are with fiscal 2019 unless noted.
Business context
South State is a regional banking holding company serving Florida, South Carolina, Alabama, Georgia, North Carolina and Virginia, with 285 branches at year-end. It also provides correspondent banking and capital markets, mortgage, wealth management and other financial services. On June 7, 2020, it completed its merger with CenterState Bank Corporation (CSFL), issuing approximately 37.3 million shares for a purchase price of about $2.26 billion. The merger substantially expanded the company and makes year-over-year comparisons less comparable.
Key financial and operating metrics
| Metric | 2020 | 2019 |
|---|---|---|
| Total assets, year-end | $37.8 billion | $15.9 billion |
| Loans, gross, year-end | $24.7 billion | $11.4 billion |
| Deposits, year-end | $30.7 billion | $12.2 billion |
| Shareholders’ equity, year-end | $4.65 billion | $2.37 billion |
| Net interest income | $826.5 million | $504.3 million |
| Noninterest income | $311.1 million | $143.6 million |
| Provision for credit losses | $236.0 million | $12.8 million |
| Noninterest expense | $797.6 million | $404.6 million |
| Net income | $120.6 million | $186.5 million |
| Diluted EPS | $2.19 | $5.36 |
| Net interest margin, reported | 3.25% | 3.76% |
- Profitability and margins: Net income declined 35.3%; diluted EPS declined 59.1%, reflecting lower earnings and a larger share count following the merger. Return on average assets was 0.42% versus 1.21%; return on average common equity was 3.35% versus 7.89%. The efficiency ratio rose to 69.8% from 62.5%.
- Revenue drivers: Net interest income increased 63.9%, primarily because of acquired balances, while lower rates reduced asset yields and net interest margin. Noninterest income rose 116.7%, including higher mortgage banking and correspondent banking/capital markets income, largely reflecting the merger and strong mortgage activity.
- Credit quality: The allowance for credit losses (ACL) was $457.3 million, or 1.85% of period-end loans (2.01% excluding PPP loans), and equaled 4.28 times nonperforming loans. Net charge-offs were 0.01% of average loans. Nonperforming assets were $119.1 million, or 0.32% of assets; the increase from 2019 partly reflects acquired loans and CECL’s changed treatment of certain acquired loans.
- Cash flow and liquidity: Net cash provided by operating activities was $536.9 million; investing activities provided $1.23 billion, including $2.57 billion of net cash received from acquisitions; financing activities provided $2.15 billion. Cash and cash equivalents ended the year at $4.61 billion. The company reported $2.8 billion of available FHLB capacity, $1.2 billion of Federal Reserve discount-window capacity, and no outstanding advances on its $100 million unsecured U.S. Bank line.
- Debt and capital: Year-end federal funds purchased and repurchase agreements totaled $779.7 million; corporate and subordinated debentures totaled $390.2 million. The company and bank exceeded regulatory well-capitalized standards. Consolidated CET1 was 11.77%, total risk-based capital 14.24%, and Tier 1 leverage 8.27%.
- Shareholder returns: The company paid $1.88 per share in dividends, totaling $98.3 million; the payout ratio was 81.45%. It repurchased 320,000 shares for $24.7 million during 2020.
Material changes versus 2019
- The CSFL merger drove much of the increase in assets, loans, deposits, revenue and expenses; it also issued 37.3 million shares and added acquired goodwill and intangibles.
- Provision for credit losses rose to $236.0 million, reflecting CECL adoption, acquired-loan allowances and COVID-19-related economic forecasts. CECL adoption reduced retained earnings by $44.8 million at January 1, 2020.
- Noninterest expense increased 97.1%, including $85.9 million of merger and branch-consolidation expense and $38.8 million of swap termination expense. Salaries and benefits rose to $416.6 million.
- Mortgage banking income increased to $106.2 million from $17.6 million, and correspondent banking/capital markets income increased to $64.7 million from $2.9 million.
- Cash and cash equivalents rose from $688.7 million to $4.61 billion. The company paid off $700 million of FHLB advances in the fourth quarter.
Outlook, management commentary, risks and unusual items
- Outlook: The filing provides no specific earnings or revenue guidance. Management said capital levels support organic growth and selected strategic opportunities. Integration, expense savings and future results remain uncertain.
- Integration and cost actions: Systems conversion and integration were ongoing after the merger. The company consolidated 20 branches in the fourth quarter, estimating about $5 million of associated costs and $7 million of annual savings in 2021; four additional consolidations were announced for the first quarter of 2021. The acquisition of Duncan-Williams closed February 1, 2021.
- COVID-19 and credit exposure: Year-end loan payment deferrals were $255.2 million, or 1.12% of loans excluding PPP and loans held for sale. PPP originations totaled approximately $2.4 billion, with about $1.9 billion outstanding at year-end. Management highlighted lodging, restaurant and retail property lending as areas to monitor; it cautioned that borrower conditions, collateral values and credit losses could worsen.
- Key risks: Risks include continued pandemic effects, merger integration and realization of synergies, commercial real estate and other loan concentrations, CECL estimate uncertainty, low interest rates and margin pressure, PPP guaranty and litigation exposure, technology/cybersecurity, competition, and extensive banking regulation. Management’s interest-rate simulations estimated that a 100-basis-point increase/decrease would change net interest income by +9.43%/−4.68%; these are model estimates, not forecasts.
- Unusual items and contingencies: The company recorded a $31.5 million one-time tax benefit from CARES Act loss carrybacks, resulting in a reported income tax benefit of $16.7 million for the year. Two PPP agent-fee lawsuits were dismissed; the company disclosed possible future PPP-related litigation and uncertainty over SBA guaranty enforcement. Management said ordinary-course legal proceedings were not expected to have a material effect.
- Controls and audit: Management and the auditor reported effective internal control over financial reporting, but CSFL—41.4% of year-end assets—was excluded from the 2020 internal-control assessment while integration continued. The independent auditor issued an unqualified opinion on the consolidated financial statements.
Important facts for investors to verify
- Track post-merger integration costs, branch savings, customer retention and whether expected merger synergies are achieved.
- Review subsequent credit performance, especially commercial real estate, lodging and acquired loans; assess the assumptions behind the $457.3 million ACL and the $43.4 million reserve for unfunded commitments.
- Monitor PPP forgiveness, SBA guaranty performance and any new litigation or credit exposure associated with PPP loans.
- Assess whether net interest margin and earnings can recover as acquired balances season and interest rates remain low; compare actual results with management’s rate-sensitivity simulations.
- Confirm regulatory capital, liquidity and dividend capacity after the merger, buyback authorization and integration spending; note that the 81.45% payout ratio was elevated by the year’s lower earnings.
- Review the full financial statements and notes for purchase-accounting assumptions, goodwill impairment sensitivity, swap termination effects and the acquired company’s excluded internal controls.