FIRST FINANCIAL BANKSHARES INC quarterly report, Q2 FY2019

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First Financial Bankshares, Inc. — Q2 2019 Form 10-Q

Reporting period: Three and six months ended June 30, 2019. Unaudited consolidated results; financial amounts below are in U.S. dollars. The company operates a Texas-focused commercial bank and related trust, technology, investment, and insurance businesses.

Financial performance and condition

  • Earnings: Q2 net earnings were $42.1 million, up 11.9% from $37.6 million; diluted EPS was $0.31 versus $0.28. First-half net earnings were $80.3 million, up 11.4%, and diluted EPS was $0.59 versus $0.53. Per-share figures reflect the two-for-one stock split distributed June 3, 2019.
  • Revenue and margin: Q2 net interest income was $71.6 million, up 5.9%; noninterest income was $28.0 million, up 9.8%. For the first half, those amounts were $141.1 million (up 6.1%) and $52.4 million (up 5.0%), respectively. Tax-equivalent net interest margin was 3.98% for Q2 and 3.99% for the first half, compared with 3.92% and 3.90% in 2018.
  • Expenses and returns: Q2 noninterest expense increased 2.5% to $48.3 million; first-half expense increased 0.8% to $95.7 million. Efficiency ratios improved to 47.71% for Q2 and 48.56% for the first half. Q2 return on average assets was 2.14% (1.98% prior year); return on average equity was 15.04% (15.53% prior year). First-half return on average assets was 2.08% (1.91% prior year).
  • Loans and credit: Loans held for investment were $4.04 billion, up $87.3 million from December 31, 2018 and up from $3.83 billion a year earlier. The allowance was $51.8 million, or 1.28% of loans, versus 1.30% a year earlier. Nonperforming assets were $27.9 million, or 0.69% of loans and foreclosed assets, down from $28.1 million and 0.73% a year earlier. First-half provision for loan losses was $1.6 million, versus $2.4 million.
  • Cash flow and liquidity: First-half operating cash flow was $108.7 million; investing cash use was $107.1 million and financing cash provided was $57.4 million. Cash and cash equivalents ended at $307.7 million, up $59.1 million from year-end 2018. Deposits totaled $6.37 billion, up from $6.18 billion at year-end. Management described liquidity as adequate and reported no borrowings under available credit lines.
  • Debt and capital: Borrowings were $362.0 million, down from $468.7 million at year-end 2018. Shareholders’ equity was $1.16 billion, or 14.60% of assets. Consolidated total risk-based capital was 21.16%, common equity Tier 1 was 20.04%, and leverage was 12.29%. Available-for-sale securities were $3.26 billion; their net unrealized gain after tax contributed to accumulated other comprehensive income of $59.2 million, compared with a $11.4 million loss a year earlier.

Material changes versus comparable periods

  • Higher loan balances and yields contributed to increased interest income, while the cost of interest-bearing deposits rose: Q2 interest expense was $8.0 million versus $4.5 million a year earlier. Management reported that the yield on earning assets rose 24 basis points while the rate paid on interest-bearing liabilities rose 30 basis points in Q2.
  • Q2 mortgage operations revenue rose to $4.7 million from $4.0 million, and interest on loan recoveries rose to $0.9 million from $0.3 million. First-half loan-recovery interest was $1.2 million versus $0.4 million. Securities gains were $0.7 million in the first half, down from $1.3 million.
  • First-half expense included a $0.9 million pension-plan merger charge. The company also noted that first-half 2018 included $1.55 million of technology contract termination and conversion costs related to the Commercial State Bank acquisition.
  • The balance sheet’s securities portfolio continued shifting from state and municipal obligations toward mortgage-backed securities, which management linked partly to the 2018 reduction in the federal corporate tax rate. Unrealized securities gains increased substantially during the first half of 2019.

Outlook, commentary, and risks

  • No formal earnings or revenue guidance is provided. Management cited continued pressure on net interest margin from deposit-cost competition, historically low short-term rates, and the lower tax benefit of tax-exempt assets. It noted that Federal Reserve commentary at the time pointed to no 2019 increases and possible rate cuts in the second half.
  • Interest-rate simulations estimated that a 100- or 200-basis-point increase would raise next-12-month net interest income by 2.97% or 5.12%; decreases of the same size would reduce it by 3.09% or 7.31%. Management cautioned that these are assumptions-based estimates, not forecasts.
  • Key exposures include economic and weather conditions in Texas, real-estate and collateral values, interest-rate changes, deposit competition, oil and gas conditions, cybersecurity and vendor risks, and regulatory or accounting changes. Oil and gas-related loans were $107.1 million, or 2.64% of gross loans; management reported no oil-and-gas net charge-offs in the periods shown.
  • The company’s frozen pension plan termination and settlement remain subject to regulatory approval; final settlement was expected in Q4 2019 or Q1–Q2 2020. The company is preparing for the current expected credit loss standard (CECL), effective January 1, 2020, but had not quantified its impact.
  • Off-balance-sheet commercial commitments totaled $1.10 billion, including $695.8 million of unfunded lines, $367.3 million of loan commitments, and $32.1 million of standby letters of credit. The company reported no material pending legal proceedings and no material change in previously disclosed risk factors.

Important facts for investors to verify

  • Whether loan growth and asset yields can continue to offset higher deposit costs and margin pressure.
  • Credit trends, especially real-estate concentrations, nonaccrual loans, allowance adequacy, and the eventual CECL transition impact.
  • The sustainability of earnings contributions from mortgage operations, loan recoveries, and securities gains.
  • The effect of interest-rate and market movements on the large securities portfolio and accumulated other comprehensive income.
  • Regulatory approval and final cost of the pension-plan settlement, and compliance with the revolving-credit agreement’s dividend and financial covenants.