Banner Corporation — Q2 2011 Form 10-Q
Reporting period: Three and six months ended June 30, 2011. Banner Corporation is a bank holding company with Banner Bank and Islanders Bank, operating primarily in Washington, Oregon and Idaho. Amounts below are in U.S. dollars; financial statement amounts are generally in millions unless stated otherwise.
Financial performance and position
- Q2 earnings: Net income was $2.2 million, versus a $4.9 million net loss in Q2 2010. After preferred dividends and discount accretion, income available to common shareholders was $224,000, or $0.01 per share, compared with a $6.9 million loss, or $1.97 per share, a year earlier.
- First-half earnings: Net loss was $5.6 million, compared with a $6.5 million loss in the first half of 2010. Loss available to common shareholders was $9.6 million, or $0.58 per share, versus $10.4 million, or $3.11 per share.
- Revenue and margin: Q2 net interest income before loan-loss provision was $41.2 million, up 6%; first-half amount was $81.3 million, up 5%. Net interest margin was 4.09% for Q2 and 4.01% for the first half, compared with 3.65% and 3.62%, respectively, in 2010. Lower deposit funding costs drove the improvement. Q2 total revenue excluding fair-value changes and securities impairment was $48.5 million, up from $45.9 million.
- Credit costs and expenses: Loan-loss provision was $8.0 million in Q2 and $25.0 million for the first half, versus $16.0 million and $30.0 million in the comparable 2010 periods. Q2 operating expenses were $40.3 million, up from $38.0 million; first-half expenses were $78.4 million, up from $73.4 million. REO costs, including valuation adjustments, were a key driver.
- Assets, loans and equity: At June 30, total assets were $4.206 billion, down 5% from year-end 2010; net loans were $3.215 billion, down 3%. Stockholders’ equity was $511.0 million, essentially unchanged from December 31, 2010.
- Deposits, debt and liquidity: Deposits totaled $3.466 billion, down $124.8 million from year-end; core deposits increased $34 million and represented about 60% of deposits. FHLB advances were $10.6 million and other borrowings $136.3 million; junior subordinated debentures were $48.0 million at fair value. Cash and due from banks was $216.4 million, down from $361.7 million at year-end. First-half operating cash flow was $54.6 million; investing used $5.6 million and financing used $194.3 million.
- Capital: Banner Bank’s Tier 1 leverage ratio was 11.37%, above the 10% minimum required by its regulatory MOU. Banner Corporation and both banks exceeded applicable regulatory capital requirements. Tangible common equity to tangible assets was 9.14% (a non-GAAP measure).
Material changes versus comparable periods
- Q2 returned to common-shareholder profitability, chiefly reflecting lower loan-loss provision and improved net interest margin. The quarter also included a $1.9 million gain from fair-value changes in financial instruments; this supported reported earnings and is not equivalent to core operating revenue.
- Nonperforming assets fell to $188.4 million, or 4.48% of assets, from $254.3 million (5.77%) at December 31, 2010 and $283.1 million (6.02%) at June 30, 2010. Nonperforming loans were $115.2 million, down from $151.5 million at year-end.
- The allowance for loan losses was $92.0 million, or 2.78% of loans and 80% of nonperforming loans. Net charge-offs were $13.6 million in Q2 and $30.4 million for the first half.
- REO declined to $71.2 million from $100.9 million at year-end, helped by property dispositions. However, REO valuation adjustments rose to $4.8 million in Q2 and $7.8 million for the first half, compared with $0.8 million and $1.3 million in 2010.
- Loans continued to contract, particularly construction and land-development lending. Certificates of deposit declined as the company allowed higher-cost balances to run off and pursued lower-cost core deposits. A 1-for-7 reverse stock split took effect June 1, 2011; historical per-share data was retroactively adjusted.
Outlook, management commentary and risks
- Management said the economic recovery remained modest and uneven. It expected credit costs to remain elevated by historical standards but to be less adverse to earnings in the remaining 2011 quarters as problem-asset resolution continued. This is management’s expectation, not guaranteed guidance.
- Residential construction and land-development exposures remained a principal credit concern, alongside property-value uncertainty and risks of further foreclosures. About half of nonperforming assets related to residential construction and land-development loans and associated REO.
- Banner Bank and Banner Corporation remained subject to separate regulatory memoranda of understanding. The Bank MOU requires, among other things, measures to address commercial real-estate concentrations and asset quality, improve profitability, and maintain Tier 1 leverage capital of at least 10%. Restrictions also apply to dividends, certain payments, and management changes without regulatory approval.
- The company maintained a full valuation allowance against its net deferred tax asset; it recorded no income tax expense or benefit in the 2011 quarter or first half. Management stated realization of deferred tax assets depends on a return to sustained taxable profitability.
- Interest-rate sensitivity modeling estimated that an immediate, sustained 100-basis-point increase would reduce next-12-month net interest income by 0.1%, while a 400-basis-point increase would reduce it by 2.2%. Management noted results depend on modeling assumptions. Legal proceedings in the ordinary course were disclosed; management did not believe pending matters would materially harm financial condition or operations.
Important facts for investors to verify
- Whether declining nonperforming loans and REO translate into lower provisions, charge-offs and valuation costs, particularly in construction and land-development portfolios.
- The adequacy of the $92.0 million loan-loss allowance and the sensitivity of collateral values and REO estimates to local housing conditions.
- Progress against both regulatory MOUs, including the 10% Bank Tier 1 leverage requirement and restrictions on dividends and other actions.
- Whether lower deposit costs and core-deposit growth can persist while deposits and the loan portfolio contract, and how liquidity evolves given cash use and $816 million of outstanding lending commitments.
- The effect of fair-value gains, preferred-stock costs and the deferred-tax valuation allowance on recurring earnings and common-shareholder returns.