First Financial Bankshares, Inc. — Q2 2017 Form 10-Q
Business context and reporting period. The Texas-based financial holding company operates a full-service commercial bank and related trust, investment and insurance businesses. This unaudited filing covers the quarter and six months ended June 30, 2017; comparisons are with the corresponding 2016 periods unless noted.
Financial performance and condition
- Second-quarter earnings: Net earnings were $28.3 million, up 5.4%; diluted EPS was $0.43 versus $0.41. For the first half, net earnings were $54.9 million, up 4.5%, and diluted EPS was $0.83 versus $0.79.
- Revenue and margins: Q2 net interest income was $59.1 million, up 4.5%, and noninterest income was $23.2 million, up 8.1%. First-half net interest income was $116.1 million, up 2.2%, and noninterest income was $44.5 million, up 7.7%. Tax-equivalent net interest margin was 4.05% in Q2, down 7 basis points; first-half margin was 4.04%, down 10 basis points.
- Costs and returns: Q2 noninterest expense rose 7.4% to $43.8 million; the efficiency ratio increased to 49.32% from 48.43%. First-half expense rose 5.0% to $85.9 million and the efficiency ratio was 49.49% versus 48.97%. Q2 return on average assets was 1.64% and return on average equity 12.94%; first-half figures were 1.61% and 12.84%.
- Loans and credit: Loans held for investment were $3.44 billion, up 4.7% from June 2016; real estate loans accounted for about 66% of the portfolio. The allowance for loan losses was $47.4 million, or 1.37% of loans. Nonperforming assets were $24.7 million (0.71% of loans and foreclosed assets), down from $40.4 million (1.22%) a year earlier. The first-half provision was $3.7 million versus $4.4 million.
- Balance sheet, funding and capital: Total assets were $6.95 billion, deposits $5.63 billion and shareholders’ equity $887.4 million. Deposits increased $570.3 million year over year; borrowings fell to $379.3 million from $556.9 million. Consolidated regulatory capital ratios were 18.97% total risk-based capital, 17.79% Tier 1 and common equity Tier 1, and 10.79% leverage.
- Liquidity and cash flows: Cash and cash equivalents were $220.5 million, down $36.0 million from year-end 2016. First-half operating cash flow was $97.5 million; investing activities used $192.4 million and financing activities provided $58.9 million. Management described liquidity as adequate and reported access to a $1.12 billion FHLB line, with $50 million outstanding, as well as other available credit lines.
Material changes versus comparable periods
- Earnings improved as loan and investment income and fee income increased, partly offset by higher deposit interest expense and operating costs. Average earning assets grew, while the yield on earning assets and net interest margin declined.
- Fee growth was led by trust fees, up 21.6% in Q2, and ATM, interchange and credit card fees, up 13.0%. Trust assets under management were $4.73 billion versus $4.11 billion a year earlier.
- Credit indicators improved: nonaccrual loans declined to $21.5 million from $38.9 million, and total nonperforming assets declined year over year. First-half net charge-offs as a share of average loans were 0.12%, versus 0.07% in 2016.
- Available-for-sale securities were $2.96 billion, up from $2.80 billion at June 2016. First-half comprehensive earnings were $71.9 million, down from $82.0 million, reflecting lower gains in other comprehensive income on securities.
Outlook, risks and unusual items
- No specific earnings or revenue guidance was provided. Management said it did not anticipate a significant change in its dividend policy; the first-half dividend was $0.37 per share.
- Management cited prolonged low interest rates as a pressure on margin. Its June 30 simulation estimated net interest income declines of 1.80% and 4.33% under immediate, sustained rate increases of 100 and 200 basis points, respectively, and a 3.50% decline under a 100-basis-point decrease. Management cautioned these estimates depend on assumptions and may differ materially from actual outcomes.
- Oil and gas-related loans were $70.2 million, or 2.03% of gross loans. Management noted continued stress in some credits and additional monitoring; classified oil and gas loans were $24.4 million and nonaccrual oil and gas loans $2.9 million.
- Interest-rate changes may affect securities valuations and accumulated other comprehensive income. At quarter-end, $1.87 billion of securities were pledged as collateral. Management considered $8.9 million of unrealized securities losses temporary and primarily interest-rate related.
- Other stated risks include economic and employment conditions, real estate and commodity markets, credit quality, regulatory changes, competition, funding and liquidity, cyber risks, and execution of acquisitions or expansion. Management warned interim results are not necessarily indicative of full-year results.
- On July 25, 2017, the board authorized repurchases of up to 2 million shares through September 30, 2020; no shares had been repurchased through July 28. The filing reported no material pending legal proceedings, no material change to previously disclosed risk factors, and effective disclosure controls as of June 30.
- The company expected the new credit-loss standard, effective for it in 2020, to generally increase its allowance for loan losses; the impact remained under evaluation. It expected the 2018 revenue-recognition standard to affect certain trust-fee recognition but not significantly affect its financial statements.
Key facts for investors to verify
- Whether loan growth and fee income can continue to offset deposit-cost increases and pressure on net interest margin.
- Whether the improvement in nonperforming assets persists, particularly in oil and gas and real estate exposures, and how charge-offs affect the allowance.
- How interest-rate movements may affect earnings, securities fair values and liquidity, given the size and duration of the securities portfolio.
- Whether expense growth moderates after increased compensation, professional fees and software-related costs, and whether efficiency improves.
- The eventual impact of the expected credit-loss accounting standard and the extent of any future share repurchases under the new authorization.