Fulton Financial Corporation — Q1 2013 Form 10-Q
Business context and reporting period: Unaudited results for the three months ended March 31, 2013, compared with Q1 2012; balance-sheet comparisons are with December 31, 2012. Fulton is a bank holding company whose principal revenue source is net interest income. Amounts below are in U.S. dollars; financial statement amounts have been converted from thousands to millions where appropriate.
Key financial metrics
| Metric | Q1 2013 | Q1 2012 or prior date |
|---|---|---|
| Net interest income | $129.6 million | $138.7 million |
| Net interest margin, FTE | 3.55% | 3.85% |
| Net income | $39.2 million | $38.1 million |
| Diluted EPS | $0.20 | $0.19 |
| Provision for credit losses | $15.0 million | $28.0 million |
| Net cash from operating activities | $77.8 million | $61.0 million |
| Total assets, March 31 | $16.68 billion | $16.53 billion, Dec. 31 |
| Loans, net of unearned income, March 31 | $12.38 billion | $12.15 billion, Dec. 31 |
| Total deposits, March 31 | $12.39 billion | $12.48 billion, Dec. 31 |
| Total borrowings, March 31 | $2.02 billion | $1.76 billion, Dec. 31 |
| Shareholders’ equity, March 31 | $2.06 billion | $2.08 billion, Dec. 31 |
Q1 return on average assets was 0.96% (0.94% in Q1 2012) and return on average equity was 7.67% (7.61%). Cash and due from banks ended the quarter at $174.5 million, down $81.8 million from year-end. Investing activities used $258.4 million, principally reflecting net loan growth and securities purchases; financing activities provided $98.8 million, mainly from increased short-term borrowings. The quarterly dividend was $0.08 per share, up from $0.07.
At March 31, regulatory capital ratios were 15.2% total capital to risk-weighted assets, 13.0% Tier 1 capital to risk-weighted assets and 10.6% Tier 1 capital to average assets. The company reported that it and its bank subsidiaries met applicable minimums, and that bank subsidiaries exceeded well-capitalized thresholds. The allowance for credit losses was $221.5 million, or 1.79% of loans.
Material changes and management commentary
- Earnings and revenue: Net income increased 2.9% year over year, although pretax income declined 1.3%. Net interest income fell 6.5% and FTE net interest income fell 6.3%; the 30-basis-point margin contraction reflected lower asset yields, partly offset by lower funding costs. Management expected continued margin pressure while rates remained low.
- Interest income and expense: FTE interest income fell $15.5 million, primarily from lower yields, while interest expense fell $6.5 million. Average interest-earning assets grew 2.1%, including 2.3% growth in average loans. Average loan yield declined to 4.53% from 4.93%.
- Noninterest income and expenses: Noninterest income declined 8.5% to $47.3 million. Excluding securities gains, it fell 11.1%, including lower foreign-currency processing income after the December 2012 sale of Global Exchange and lower mortgage banking income. Noninterest expense was nearly flat at $110.9 million.
- Credit quality: Provision expense fell 46.4%; net charge-offs were $18.9 million versus $28.0 million, and annualized net charge-offs to average loans were 0.62% versus 0.94%. Nonperforming assets declined to $232.5 million from $317.5 million a year earlier; nonperforming loans were $208.7 million versus $284.0 million. Management attributed the lower provision to improving credit quality.
- Balance sheet and funding: Loans grew 1.9% from year-end while deposits declined 0.8%. Time deposits fell $115.0 million. Short-term borrowings rose $258.6 million, primarily as federal funds purchased and short-term FHLB advances funded loan growth and deposit decreases.
- Capital returns: The company repurchased approximately 4.2 million shares for $47.0 million during the quarter under an authorization for up to 8 million shares through June 30, 2013. As of May 8, it had repurchased 5.9 million shares. The program was subject to market conditions and could be discontinued.
Outlook, risks, contingencies and unusual items
- Outlook: The filing provides no specific full-year earnings or revenue guidance. Management anticipated continued net interest margin pressure in the prolonged low-rate environment and said a core processing system conversion was expected during 2013, with approximately $3.6 million of related nonrecurring expense expected for the year.
- Credit and real estate exposure: Commercial mortgage and construction loans represented approximately 43% of the loan portfolio. Real estate values, borrower performance and collateral appraisals remain important risks. The company reported $16.9 million of TDRs modified within the prior 12 months that defaulted during the quarter; total TDRs were $116.4 million.
- Investment valuation: Auction rate securities had $174.0 million cost and $154.6 million fair value and remained illiquid. Their estimated fair value depended on a Level 3 model assuming a return to market liquidity within five years. Management stated the securities were current on interest and largely supported by federally guaranteed student-loan principal. Corporate debt holdings also included below-investment-grade and unrated securities.
- Other unusual items: Q1 included $2.5 million of net securities gains. A $982,000 reduction in the valuation allowance for certain state deferred tax assets reduced tax expense. A March sale of nonaccrual loans generated $4.6 million net proceeds and $5.2 million of additional charge-offs. The company also reported approximately $3.6 million of outstanding mortgage repurchase requests and a $5.8 million reserve for losses on residential mortgage loans sold.
- Liquidity and contingencies: At quarter-end, Fulton had approximately $1.8 billion of additional FHLB borrowing capacity, $1.6 billion of Federal funds line availability (with $729.5 million outstanding), and $1.9 billion of collateralized Federal Reserve Discount Window availability, with no borrowings outstanding there. Management did not expect pending ordinary-course litigation to have a material adverse effect, while noting litigation outcomes are uncertain. No material changes to previously disclosed risk factors were reported.
- Interest-rate sensitivity: The modeled annual net interest income effect was +1.4% for a 100-basis-point upward shock and -3.5% for a 100-basis-point downward shock. The company noted that these simulations do not incorporate potential changes in customer behavior or competitive pricing.
Important facts for investors to verify
- Whether margin pressure persists and loan growth can offset lower asset yields and reduced net interest income.
- Whether improved credit trends continue, particularly given residential mortgage nonperformers, TDR defaults and commercial real estate exposure.
- The valuation and liquidity assumptions for auction rate and other Level 3 securities, and any resulting impairment risk.
- How deposit trends, increased short-term funding and available borrowing capacity affect liquidity and funding costs.
- Actual core-conversion costs, completion timing, share repurchases and dividends, and the realization of the deferred-tax benefit.