First Merchants Corporation — 2014 Form 10-K
Reporting period: Fiscal year ended December 31, 2014. This is an annual report; the filing’s quarterly data include fourth-quarter results but do not represent a standalone Q4 filing. First Merchants is an Indiana-based financial holding company operating primarily through its community-banking business, with insurance services as well. Its bank operated 106 locations across Indiana, Illinois and Ohio.
Financial performance and position
| Metric | 2014 | 2013 |
|---|---|---|
| Net interest income | $187.0 million | $154.3 million |
| Net interest margin | 3.91% | 3.99% |
| Other income | $65.7 million | $54.8 million |
| Other expenses | $168.6 million | $143.2 million |
| Provision for loan losses | $2.6 million | $6.6 million |
| Net income | $60.2 million | $44.5 million |
| Net income available to common shareholders | $60.2 million | $42.2 million |
| Diluted earnings per share | $1.65 | $1.41 |
| Cash from operating activities | $75.8 million | $183.1 million |
| Total assets at year-end | $5.82 billion | $5.44 billion |
| Total loans at year-end | $3.93 billion | $3.64 billion |
| Total deposits at year-end | $4.64 billion | $4.23 billion |
| Total borrowings at year-end | $412.0 million | $523.3 million |
| Stockholders’ equity at year-end | $726.8 million | $634.9 million |
Net interest income on a fully taxable-equivalent basis was $195.0 million, up from $160.3 million. The reported margin contracted by 8 basis points, as asset yields declined and funding costs edged higher. Return on average assets was 1.08% and return on average equity was 8.91%. Common dividends paid were $0.29 per share, versus $0.18 in 2013.
Operating cash flow was lower than the prior year, while investing activities used $126.0 million and financing activities provided $59.3 million. Cash and cash equivalents ended the year at $118.6 million. The filing does not provide a single consolidated cash-flow measure it labels “free cash flow.”
Regulatory capital remained above minimum requirements: the Corporation reported a 12.63% Tier 1 risk-based ratio, a 15.34% total risk-based ratio and a 10.15% Tier 1 leverage ratio. The Bank was categorized as well capitalized. At year-end, the Bank had $399.2 million of remaining FHLB borrowing capacity; the Corporation also had an unused $20 million line of credit that matured in April 2015.
Material changes versus the prior comparable period
- Net income available to common shareholders rose $18.0 million, and diluted EPS increased from $1.41 to $1.65. Lower loan-loss provision and higher net interest income contributed; reported results also reflect acquisitions and acquisition-related costs.
- Growth was substantially acquisition-influenced. First Merchants acquired Community Bancshares on November 7, 2014, paying approximately $49.2 million, issuing about 1.6 million shares and adding 10 banking centers. Community contributed $145.1 million of loans and $228.4 million of deposits at acquisition. Its operating results were included only from the acquisition date.
- Year-end assets increased $386.9 million, deposits rose $409.2 million and borrowings declined $111.3 million. Loan growth included $145.1 million from Community. The prior-year comparison also includes CFS Bancorp for only part of 2013, complicating year-over-year comparisons.
- Non-interest income increased 19.8%; higher deposit service charges, customer fees and securities-sale gains were partly offset by lower mortgage-loan sale gains. Non-interest expenses increased 17.7%, including $2.2 million of one-time Community acquisition expenses and $1.5 million of non-recurring CFS-related expenses.
- Credit indicators improved overall: non-performing assets plus loans 90 days delinquent and still accruing declined to $74.7 million from $83.0 million; net charge-offs fell to $6.5 million from $8.1 million. The allowance declined to $64.0 million, or 1.63% of loans, from $67.9 million, or 1.87%.
Outlook, commentary, risks and unusual items
- The filing provides no numerical earnings or revenue guidance. Management said liquidity and interest-rate positions were adequate and described the allowance as adequate, while emphasizing that estimates depend on uncertain economic and credit conditions.
- Management’s 12-month interest-rate simulation estimated net interest income of $192.2 million under an immediate 200-basis-point increase, 6.65% above its $180.2 million base case; a 100-basis-point decline produced $175.1 million, 2.81% below base. These are model scenarios, not forecasts.
- Key risks include economic and interest-rate changes, borrower and real-estate credit deterioration, competitive and regulatory pressures, operational and cybersecurity incidents, and the accuracy of estimates for loan-loss reserves, securities, goodwill and pension obligations. Commercial and farmland real estate represented 42.6% of loans; criticized but not impaired loans totaled $161.9 million.
- The allowance covered 131.1% of non-accrual loans, but non-accrual loans totaled $48.8 million and loans 90 days delinquent and still accruing increased to $4.7 million from $1.4 million. Management reported four commercial charge-offs of at least $1 million, totaling $8.0 million; one commercial/agricultural relationship accounted for $4.8 million.
- Goodwill was $202.7 million, including $13.8 million recorded for Community. The annual impairment test found no impairment. The pension benefit obligation rose to $80.7 million and the plan was underfunded by $3.5 million at year-end, primarily reflecting a lower discount rate and adoption of new mortality tables.
- After year-end, First Merchants agreed to acquire C Financial Corporation for $14.5 million in cash, subject to shareholder and regulatory approvals and customary closing conditions; the parties anticipated completion in the second quarter of 2015.
- The filing reported no material pending litigation and no material impact expected from implementation of Basel III. The independent auditor gave an unqualified opinion on the financial statements and internal controls; Community’s operations were excluded from the internal-control assessment because of the acquisition date.
Important facts for investors to verify
- How much of 2014 earnings growth reflects underlying operations versus the partial-year CFS contribution, Community acquisition, integration costs and purchase-accounting effects.
- Whether loan-quality improvement persists, especially for commercial real estate, criticized loans and newly elevated 90-day accruing delinquencies; assess the allowance against acquired-loan discounts and credit exposures.
- The effect of margin compression and changing interest rates on future net interest income, and the assumptions behind management’s rate-sensitivity simulations.
- Deposit mix and funding stability, including brokered deposits of $333.8 million, near-term time-deposit maturities, secured borrowings and the April 2015 credit-line maturity.
- Integration progress and final purchase accounting for Community, and the approvals, funding and expected economics of the proposed C Financial acquisition.
- Potential sensitivity of capital, dividends and reported earnings to pension assumptions, goodwill valuations, deferred-tax assets and regulatory restrictions on subsidiary dividends.