Fulton Financial Corporation — 2010 Third-Quarter Form 10-Q
Reporting period: Three and nine months ended September 30, 2010. Fulton Financial is a Pennsylvania-based bank holding company. Amounts below are in U.S. dollars; financial statement amounts are generally shown in millions.
Financial performance
| Metric | Q3 2010 | Q3 2009 | Nine months 2010 | Nine months 2009 |
|---|---|---|---|---|
| Net interest income | $140.2 | $132.8 | $417.9 | $384.9 |
| Provision for loan losses | $40.0 | $45.0 | $120.0 | $145.0 |
| Total other income | $52.1 | $41.2 | $133.5 | $133.5 |
| Other expenses | $101.8 | $99.8 | $301.2 | $314.0 |
| Net income | $37.7 | $23.3 | $96.8 | $49.5 |
| Net income available to common shareholders | $31.5 | $18.3 | $80.5 | $34.4 |
| Diluted earnings per share | $0.16 | $0.10 | $0.43 | $0.20 |
- Margins and returns: Net interest margin was 3.81% in Q3 and 3.79% for the first nine months, up from 3.55% and 3.48%, respectively. Nine-month return on average assets was 0.79%, versus 0.40%; return on average common equity was 6.18%, versus 3.06%.
- Balance sheet at September 30: Total assets were $16.33 billion, down 1.8% from year-end 2009. Loans net of allowance were $11.67 billion; deposits were $12.57 billion; shareholders’ equity was $1.88 billion.
- Credit quality: Nonperforming assets were $372.8 million, or 2.28% of assets, compared with $300.9 million and 1.82% a year earlier. Nine-month net charge-offs were $92.7 million, with an annualized rate of 1.03% versus 0.93%. The allowance for credit losses was $284.9 million, equal to 2.38% of loans; coverage of nonperforming loans was 83.16%.
- Cash flow and funding: Nine-month operating cash flow was $187.3 million, investing cash flow was positive $239.0 million, and financing cash flow was negative $455.0 million. Cash and due from banks ended at $255.8 million. Deposits rose $470.2 million from year-end, while short-term borrowings fell $397.9 million and long-term debt fell $341.3 million. Period-end short- and long-term borrowings totaled $1.67 billion.
- Capital: Regulatory capital ratios at September 30 included total capital of 13.9%, Tier 1 capital to risk-weighted assets of 11.4%, and Tier 1 leverage of 9.2%. The company reported its bank subsidiaries exceeded “well capitalized” requirements.
Material changes and notable items
- Common net income increased year over year, supported by lower funding costs, higher net interest margin, reduced loan-loss provision, and stronger Q3 mortgage-loan sale gains. Nine-month net interest income increased $33.0 million, while interest expense declined $60.9 million.
- Credit costs remained significant despite the lower provision: nine-month net charge-offs increased to $92.7 million from $83.4 million. Construction loans were a major source of charge-offs; commercial mortgage and commercial loan nonperformers also increased. Total loans were broadly flat year over year, while construction balances declined.
- Demand and savings deposits grew as customers shifted away from time deposits. The company reduced wholesale and other borrowings, reflecting deposit growth, lower investment balances, and subdued loan demand.
- In May, Fulton issued 21.8 million common shares for net proceeds of $226.3 million. It redeemed $376.5 million of Treasury-held preferred stock in July and repurchased the associated common-stock warrant for $10.8 million in September, completing participation in the Treasury Capital Purchase Program. The redemption also reduced Q3 income available to common shareholders by a $5.5 million preferred-stock discount.
- Q3 mortgage-loan sale gains were $12.1 million, compared with $2.8 million a year earlier. Management disclosed a $3.3 million Q3 mortgage-banking income increase related to correcting the valuation methodology for interest-rate locks; the filing’s pro forma comparison table reports a $1.7 million Q3 difference from applying the method consistently. Low mortgage rates and refinancing activity also supported gains.
- Available-for-sale securities declined $504.1 million from year-end. Fulton recorded $11.3 million of net other-than-temporary impairment losses for the first nine months, including $9.5 million on pooled trust preferred securities.
Outlook, risks, and contingencies
- The filing provides no earnings or revenue guidance. Management cautions that interim results are not necessarily indicative of full-year results and says it believes the allowance for credit losses is adequate.
- Management identified continued weak economic and real-estate conditions, credit deterioration, interest-rate and margin changes, funding and liquidity conditions, securities valuations, and regulatory changes as risks to future results. The Dodd-Frank Act’s effects were not yet ascertainable; potential areas include capital, consumer protection, governance, risk management, and deposit insurance assessments.
- Student-loan auction rate securities remained illiquid and were valued using Level 3 cash-flow models. Their fair value was $265.3 million versus $271.6 million cost; management said all were current and making scheduled interest payments. Corporate debt exposures included pooled trust preferred securities with $10.9 million amortized cost and $4.4 million fair value.
- Fulton was reviewing its foreclosure procedures and law-firm practices following industry-wide scrutiny and regulatory inquiries. It initiated approximately 300 residential foreclosure actions in the first nine months and said it did not expect identified deficiencies to have a material financial impact.
- Potential repurchases of legacy non-prime loans remained a contingency. Outstanding repurchase requests and identified potential misrepresentations totaled $8.6 million in principal, with $3.8 million in related reserves/write-downs; management said additional reserves could be needed if collateral values decline or further loans are identified.
- The filing reports effective disclosure controls and no material change in internal control over financial reporting during the quarter. Legal proceedings were listed as not applicable.
Important facts for investors to verify
- Whether rising nonperforming assets, troubled debt restructurings, and construction-related charge-offs require further provisioning.
- The recoverability and valuation assumptions for auction rate securities and trust preferred securities, including the Level 3 estimates and impairment sensitivity.
- How much reported mortgage-banking income depended on the interest-rate-lock methodology correction and unusually strong refinancing conditions.
- The durability of margin gains as low-rate funding reprices and the loan portfolio and deposit mix change.
- Any developments from foreclosure-procedure reviews, mortgage repurchase exposures, or implementation of Dodd-Frank requirements.
- The effects of the common-stock issuance and Treasury preferred-stock redemption on per-share earnings, capital, and future distributions.