First Financial Bancorp. — Q2 2018 Form 10-Q
Business context and reporting period. First Financial Bancorp. is a regional bank holding company operating primarily in Ohio, Indiana, Kentucky and Illinois. This unaudited report covers the quarter and six months ended June 30, 2018. Comparisons with 2017 are not fully like-for-like because First Financial acquired MainSource Financial Group (MSFG) on April 1, 2018; MSFG results are included only from that date.
Financial performance and position
| Metric | Q2 / June 30, 2018 | Comparable period / prior year-end |
|---|---|---|
| Net interest income | $124.0 million for Q2; $199.8 million for six months | Q2 2017: $68.5 million; six months 2017: $137.5 million |
| Net interest margin | 4.10% for Q2; 4.15% fully tax-equivalent | Q2 2017: 3.50%; 3.56% fully tax-equivalent |
| Noninterest income | $28.3 million for Q2; $45.2 million for six months | Q2 2017: $17.5 million; six months 2017: $34.8 million |
| Noninterest expense | $102.8 million for Q2; $155.0 million for six months | Q2 2017: $51.6 million; six months 2017: $102.6 million |
| Net income / diluted EPS | $36.4 million / $0.37 for Q2; $66.9 million / $0.83 for six months | Q2 2017: $22.7 million / $0.37; six months 2017: $47.2 million / $0.76 |
| Effective tax rate | 20.4% for Q2; 20.2% for six months | Q2 2017: 33.0%; six months 2017: 31.5% |
| Assets / loans / deposits | $13.92 billion / $8.88 billion / $10.10 billion | December 31, 2017: $8.90 billion / $6.01 billion / $6.90 billion |
| Cash flow, six months | Operating: +$114.7 million; investing: −$128.6 million; financing: +$80.0 million; cash increased $66.0 million | 2017 cash increased $4.1 million |
- Q2 return on average assets was 1.05% and return on average shareholders’ equity was 7.30%, versus 1.06% and 10.25%, respectively, in Q2 2017. Six-month returns were 1.18% and 9.19%.
- Total borrowed funds were $1.66 billion, including $1.19 billion of short-term borrowings and $469.4 million of long-term debt. First Financial reported $254.6 million of on-hand liquidity and $3.0 billion of unused overnight wholesale funding capacity.
- Shareholders’ equity was $2.01 billion. Consolidated regulatory capital ratios included 11.15% common equity Tier 1, 11.55% Tier 1 risk-based capital, 13.36% total risk-based capital and a 9.06% leverage ratio; management said the company met capital requirements and was well-capitalized.
Material changes versus comparable periods
- MSFG acquisition added $4.4 billion of assets, including $2.8 billion of loans and $3.3 billion of deposits, and contributed $678.9 million of goodwill. Purchase accounting values remain preliminary and may be refined through April 2019.
- Higher net interest income and noninterest income primarily reflect the enlarged post-merger balance sheet. Fully tax-equivalent Q2 net interest margin increased 59 basis points year over year, supported by higher asset yields and purchase-accounting accretion; rising rates and funding mix also increased funding costs.
- Merger-related costs were $23.9 million in Q2 and $25.9 million for the six months. Management said most merger-related activity was complete by June 30 and it remained focused on efficiency and strategic investment.
- Reported Q2 net income rose, but diluted EPS remained $0.37, reflecting the substantially larger share count after the stock-based merger consideration.
- Loans grew 47.8% from year-end, largely from the acquisition. Management reported organic loan balances were relatively flat in Q2 amid lower originations and higher prepayments.
Outlook, risks and unusual items
- Management expected a full-year 2018 effective tax rate of approximately 19.5%, primarily reflecting the federal tax rate reduction to 21% under the Tax Cuts and Jobs Act.
- The board authorized a quarterly dividend of $0.20 per share, payable September 17, 2018. The Q2 dividend declared was $0.19 per share.
- Asset quality indicators included $64.2 million of nonperforming assets (0.46% of total assets), $62.3 million of nonperforming loans, and a $54.1 million allowance for loan and lease losses. Q2 net charge-offs were $4.0 million, or 0.18% of average loans on an annualized basis; management attributed the increase primarily to one agriculture relationship. The acquired loan portfolio had a $33.1 million fair-value credit adjustment, and acquired loans do not carry forward the seller’s allowance.
- The investment portfolio had a $19.0 million after-tax unrealized loss recorded in accumulated other comprehensive income at June 30, 2018. The filing reported no other-than-temporary impairment and said the company did not intend, and was not more likely than not required, to sell temporarily impaired securities before recovery or maturity.
- Interest-rate modeling showed modest asset sensitivity: a parallel +100-basis-point shock was estimated to increase Year 1 net interest income 1.12%, while −100 basis points was estimated to reduce it 5.30%. Management said results moved closer to neutral after the merger.
- Key risks include credit and interest-rate exposure, liquidity and funding costs, integration and realization of anticipated MSFG benefits, regulatory or economic changes, technology and operational risks, and litigation. Litigation losses were not considered probable or reasonably estimable; no litigation reserves were recorded.
- The company adopted the new revenue-recognition standard without a material financial statement effect. It was evaluating the expected-credit-loss standard, which was scheduled to take effect after December 15, 2019.
Important facts for investors to verify
- How MSFG integration, preliminary purchase accounting and the $678.9 million of acquisition goodwill affect subsequent earnings, costs and asset quality.
- Whether margin performance and loan growth persist as deposit and wholesale funding costs rise; also monitor the $1.1 billion of short-term FHLB borrowings and available borrowing capacity.
- Trends in nonperforming loans, charge-offs, classified assets and reserve adequacy, particularly given the acquisition-related expansion of the loan portfolio.
- The effect of securities valuation changes on equity and the company’s capacity to maintain capital and dividends under changing market conditions.
- Whether the approximately 19.5% full-year tax-rate expectation and the announced $0.20 dividend are realized as stated.