Enterprise Financial Services Corp. — 2013 Form 10-K
Business and period: Financial holding company operating Enterprise Bank & Trust, serving businesses and individuals in the St. Louis, Kansas City, and Phoenix markets. Banking and wealth management are its principal segments. This filing covers the fiscal year ended December 31, 2013; quarterly figures below identify the fourth quarter where relevant. Dollar amounts are in U.S. dollars.
Financial results and position
| Metric | 2013 | 2012 |
|---|---|---|
| Net interest income (GAAP) | $135.2 million | $142.3 million |
| Net income | $33.1 million | $28.3 million |
| Diluted earnings per share | $1.73 | $1.37 |
| Net interest margin, tax-equivalent | 4.78% | 4.94% |
| Efficiency ratio | 62.49% | 56.65% |
| Net cash provided by operating activities | $29.3 million | $37.4 million |
- Pre-tax income was $50.1 million, up from $42.8 million. The effective tax rate was 33.9% in both years. Return on average assets rose to 1.06% from 0.78%; return on average common equity was 12.78% versus 11.21%.
- Fourth-quarter 2013 net income was $3.6 million, or $0.18 diluted EPS, compared with $5.4 million, or $0.23 diluted EPS, in fourth-quarter 2012. Fourth-quarter 2013 included a $2.6 million pre-tax FHLB debt-prepayment penalty.
- Total assets were $3.17 billion, down 5% year over year. Portfolio loans were $2.14 billion, up 1%; total loans including purchase credit-impaired (PCI) loans were $2.28 billion. Deposits declined 5% to $2.53 billion.
- Allowance for portfolio loan losses was $27.3 million, or 1.28% of portfolio loans, versus $34.3 million, or 1.63%, in 2012. Net charge-offs fell to $6.4 million from $12.4 million. Nonperforming loans declined to $20.8 million (0.98% of portfolio loans) from $38.7 million (1.84%).
- Cash and cash equivalents were $210.6 million at year-end. Investing activities provided $176.1 million and financing activities used $111.2 million. The Bank reported $235.5 million of additional FHLB borrowing capacity, $607.0 million available under its Federal Reserve line, and $45.0 million of correspondent-bank federal funds lines.
- Year-end subordinated debentures were $62.6 million, FHLB advances $50.0 million, other borrowings $203.8 million, and notes payable $10.5 million. Shareholders’ equity was $279.7 million. The Bank met the regulatory definition of “well capitalized”; the company’s tangible common equity ratio was 7.78%, up from 6.02%.
Material changes versus 2012
- Net income increased, supported by lower credit costs: the provision for portfolio loan losses was a $0.6 million benefit in 2013 versus $8.8 million of expense in 2012. PCI loan provision expense also declined, to $5.0 million from $14.0 million.
- Net interest income fell 5% as lower loan yields and runoff of higher-yielding PCI loans more than offset lower funding costs. Tax-equivalent net interest margin declined 16 basis points.
- Noninterest expense rose 6% to $90.6 million, including the $2.6 million FHLB prepayment penalty and higher compensation. The efficiency ratio worsened.
- Core deposits fell 7%; brokered certificates of deposit increased to $139.5 million from $94.5 million. Available-for-sale securities declined to $434.6 million from $640.2 million.
- Noninterest income rose to $9.9 million from $9.1 million, including a $1.0 million gain on the Kansas City branch sale and $3.4 million of gains on other real estate. The FDIC loss-share receivable adjustment remained a significant drag on noninterest income.
Transactions, outlook, and risks
- The company converted $20.0 million of 9% trust preferred securities into common shares, reducing debt and issuing approximately 1.2 million shares; an additional $0.4 million noncash inducement expense was recorded. It also repaid $30.0 million of FHLB advances, incurring the prepayment penalty, and repurchased Treasury warrants for approximately $1.0 million, completing its Capital Purchase Program exit.
- The company acquired Gorman & Gorman Home Loans in May 2013. In December it sold two Kansas City branches and related assets and deposits, and closed two others.
- Management expects noninterest expense of $20–$22 million per quarter in 2014. Based on updated cash-flow projections, it expects average PCI loan balances of approximately $108 million in 2014, $67 million in 2015, and $39 million in 2016.
- Interest-rate modeling estimated next-12-month net interest income changes of +10.0% for a +300 basis-point shock, +6.4% for +200 basis points, +2.7% for +100 basis points, and −1.3% for −100 basis points. These are model estimates, not guidance.
- Key exposures include commercial and real-estate credit concentrations in the company’s three markets; interest-rate, deposit-retention, and liquidity risk; reliance on FDIC loss-share agreements as coverage expires; regulatory and compliance costs, including Basel III and mortgage rules; and cyber and operational risks. The company recorded a $1.5 million contingent FDIC clawback liability. Management said pending or threatened litigation was not expected to have a material adverse effect.
- Management reported no goodwill impairment in 2013 and no deferred-tax-asset valuation allowance. The filing describes estimates for loan losses, acquired-credit cash flows, real-estate values, tax credits, and deferred taxes as judgment-sensitive. The 2013 statements were audited with unqualified opinions, and management and the auditor concluded internal control over financial reporting was effective.
Important facts for investors to verify
- Whether improved credit quality and lower provisioning are sustainable, and whether the $27.3 million portfolio-loan allowance adequately reflects current and emerging losses.
- How quickly deposits stabilize, the cost and availability of brokered and wholesale funding, and the capacity to meet $804.4 million of commitments to extend credit and $44.4 million of standby letters of credit if drawn.
- The future effect of lower PCI balances, FDIC loss-share receivable adjustments, clawback obligations, and agreement expirations on earnings and cash flows.
- Whether the expense outlook is achieved and whether margin pressure, the weaker efficiency ratio, and share dilution from the trust-preferred conversion affect future returns.
- The effect of new capital rules, market-rate changes, real-estate collateral values, and any litigation or regulatory developments on capital, liquidity, and dividends.