CVB Financial Corp. — Q3 2015 Form 10-Q
Reporting period: Quarter and nine months ended September 30, 2015. Unaudited results; dollar amounts below are in millions unless stated otherwise. CVB is a California-based bank holding company whose principal subsidiary, Citizens Business Bank, serves businesses and individuals across California.
Financial and operating highlights
| Metric | Q3 2015 | Q3 2014 | Nine months 2015 | Nine months 2014 |
|---|---|---|---|---|
| Net interest income, before loan-loss recapture | $65.9 | $61.2 | $189.7 | $175.3 |
| Loan-loss provision recapture | $2.5 | $1.0 | $4.5 | $16.1 |
| Noninterest income | $8.4 | $8.0 | $24.8 | $26.6 |
| Noninterest expense | $32.7 | $32.5 | $108.7 | $95.0 |
| Net earnings | $27.9 | $24.3 | $70.5 | $78.4 |
| Diluted earnings per share | $0.26 | $0.23 | $0.66 | $0.74 |
| Net interest margin (tax-equivalent) | 3.72% | 3.61% | 3.65% | 3.63% |
- Q3 performance: Net earnings rose 14.8% year over year. Higher net interest income and lower funding costs contributed; Q3 also included a $2.5 million loan-loss recapture. Management said a commercial real estate loan payoff added $2.8 million to interest income, and loan prepayment penalties were $1.9 million.
- Nine-month comparison: Net earnings fell 10.1%. Results included a $13.9 million debt-termination expense in 2015, while 2014 included a $5.3 million gain on sale of a loan and a larger $16.1 million loan-loss recapture. Excluding the debt-termination expense, the 2015 efficiency ratio was 44.24%, versus 47.04% in 2014; reported ratios were 50.71% and 47.04%, respectively.
- Margins and funding: Q3 total cost of funds was 0.11%, compared with 0.25% a year earlier; the company attributed much of the improvement to repaying a $200 million fixed-rate FHLB advance. Average deposit cost was 0.09% for both Q3 periods.
- Balance sheet at September 30: Assets were $7.63 billion, up 3.37% from year-end 2014. Loans and leases were $3.82 billion, little changed from year-end; total deposits were $5.96 billion, up 6.33%. Noninterest-bearing deposits increased to $3.30 billion, or 55.46% of deposits.
- Liquidity and cash flow: Cash and cash equivalents were $308.2 million, versus $105.8 million at December 31, 2014. For the first nine months, operating cash flow was $85.4 million, investing cash flow was negative $7.0 million, and financing cash flow was $124.1 million. The loan-to-deposit ratio averaged 64.11% during the period.
- Debt and capital: Customer repurchase agreements totaled $610.2 million; the company reported no FHLB advances or other borrowings at quarter-end and had $25.8 million of junior subordinated debentures. Basel III capital ratios were 11.12% Tier 1 leverage, 16.88% common equity Tier 1, 17.40% Tier 1 risk-based, and 18.65% total risk-based. Q3 dividend declared was $0.12 per share.
- Credit quality: Allowance for loan losses was $59.1 million, or 1.55% of loans and leases. Nonperforming assets were $30.7 million, 0.40% of assets, down from $37.8 million at December 31, 2014. Nonperforming loans were $23.6 million; OREO was $7.0 million. Total TDRs were $60.4 million, of which $15.1 million were nonperforming. Commercial real estate was 68.76% of non-PCI gross loans, and substantially all real estate loans were secured by California property.
Material changes, outlook and risks
- During Q3, CVB transferred securities with a transfer-date fair value of $898.6 million from available-for-sale to held-to-maturity. At September 30, available-for-sale securities were $2.31 billion and held-to-maturity securities were $869.7 million. The portfolio included a $53.2 million pre-tax unrealized gain on available-for-sale securities.
- The $13.9 million debt-termination expense followed repayment of the $200 million fixed-rate FHLB advance; the advance was repaid in February 2015. No specific full-year earnings guidance was provided. Management stated results for the interim periods are not necessarily indicative of full-year results.
- On October 14, 2015, CVB announced an agreement to acquire County Commerce Bank, with approximately $250 million in assets and four branches. Closing was expected in Q1 2016, subject to regulatory and shareholder approvals. CVB also planned a Santa Barbara Commercial Banking Center opening in Q4 2015.
- Management cited California drought, lower commodity and oil prices, competitive loan markets, local economic conditions, borrower performance, real-estate values, interest-rate movements, and deposit funding as risks. The investment portfolio is significantly mortgage-backed, exposing it to prepayment and extension risk. The company’s modeled 12-month net interest income sensitivity was negative 1.67% for a 200-basis-point rate increase and negative 1.48% for a 100-basis-point decrease.
- Legal matters include an SEC inquiry concerning loan-loss methodology and a related shareholder securities class action. The appeal was scheduled for oral argument in December 2015; the company reported no litigation reserves and said outcomes and potential losses could not be predicted. A related derivative action remained pending. Management reported disclosure controls were effective and no material quarterly change in internal control over financial reporting.
Important facts for investors to verify
- Whether loan growth, net interest margin, and deposit mix can support earnings as the benefit from lower borrowing costs and loan prepayment fees changes.
- Whether the loan-loss recaptures and credit-quality improvement are sustainable, particularly given CRE concentration, California drought exposure, and dairy and agricultural lending.
- The effects of the securities reclassification, interest-rate movements, and mortgage prepayment or extension behavior on earnings, liquidity, and accumulated other comprehensive income.
- Completion terms, approvals, integration costs, and expected benefits of the County Commerce Bank acquisition.
- Developments and potential financial effects of the SEC inquiry and pending shareholder litigation, as well as regulatory limits on dividends and capital distributions.