Great Southern Bancorp, Inc. — Q3 2019 Form 10-Q
Reporting period: Quarter and nine months ended September 30, 2019. Great Southern is a one-bank holding company; its banking operation serves customers primarily across Missouri, Iowa, Kansas, Minnesota, Nebraska and Arkansas, with commercial lending offices in additional markets. Financial amounts below are in U.S. dollars; income and cash-flow figures are for the periods indicated.
Financial performance and position
- Q3 earnings: Net interest income was $45.9 million, up 6.8% from $43.0 million a year earlier. Provision for loan losses was $2.0 million versus $1.3 million. Net income was $19.7 million, down 12.4% from $22.5 million; diluted EPS was $1.38 versus $1.57. The dividend declared was $0.34 per share.
- Nine-month earnings: Net interest income was $135.4 million, up 9.6%; net income was $55.7 million, up 11.8%, from $49.8 million. Diluted EPS was $3.90 versus $3.49. Dividends declared totaled $1.73 per share, including a $0.75 special dividend.
- Interest margin: Net interest margin was 3.95% in Q3, down from 4.02% a year earlier; for nine months it was 3.99%, up from 3.96%. The company attributed Q3 pressure partly to Federal Funds rate cuts, lower investment and other asset yields, and deposit and borrowing costs that remained generally unchanged.
- Assets and loans: Total assets were $4.97 billion, up 6.3% from December 31, 2018. Net loans were $4.16 billion, up $167.7 million, or 4.2%; excluding acquired loans and loans held for sale, gross loans increased $65.3 million. Available-for-sale securities increased $105.1 million to $349.0 million.
- Funding and liquidity: Deposits rose $210.1 million, or 5.6%, to $3.94 billion. Cash and cash equivalents were $190.9 million. The filing reports $186.6 million of unpledged securities, a $793.3 million FHLBank line and a $369.0 million Federal Reserve line. Loan commitments were $236.7 million, with $1.12 billion of unused lines and unadvanced loans and $29.2 million of letters of credit.
- Debt and capital: Short-term borrowings and other interest-bearing liabilities were $191.1 million; customer reverse-repurchase agreements were $102.6 million. Subordinated debentures and notes totaled approximately $99.9 million net of note issuance costs. No term FHLBank advances were outstanding, though overnight FHLBank borrowings were $153.3 million. Stockholders’ equity was $596.8 million, or 12.0% of assets; tangible common equity to tangible assets was 11.85%. The Bank and holding company exceeded applicable “well capitalized” regulatory thresholds.
- Credit quality: The allowance for loan losses was $40.4 million, up from $38.4 million at year-end. Nine-month net charge-offs were $3.5 million, versus $4.2 million. Non-performing assets excluding FDIC-acquired assets were $9.0 million, down from $11.8 million; potential problem loans increased to $4.4 million from $3.3 million.
- Cash flow: Nine-month operating activities provided $64.2 million, investing activities used $264.5 million and financing activities provided $188.5 million. Cash and cash equivalents decreased $11.9 million to $190.9 million.
Changes versus comparable periods
- Q3 net income fell despite higher net interest income, primarily because non-interest income was $8.7 million versus $14.6 million in Q3 2018. The prior-year quarter included a $7.4 million gain on the sale of four Omaha-area banking centers. Q3 2019 also had higher loan-loss provision and non-interest expense.
- For the first nine months, net income increased, led by higher net interest income and lower non-interest expense. Non-interest income declined to $23.3 million from $29.0 million, principally because the 2018 period included the branch-sale gain.
- Deposit growth included increases in transaction accounts and retail certificates of deposit; brokered deposits, including CDARS purchased funds, rose to $374.8 million from $326.9 million at year-end. Deposit costs increased: nine-month deposit interest expense rose 77.6% year over year.
- Loan mix shifted toward commercial real estate, owner-occupied residential and multifamily loans, while construction and consumer auto balances declined. The company stopped indirect auto originations in 2019.
- Equity increased by $64.8 million from year-end, including a $31.4 million increase in accumulated other comprehensive income from higher fair values of securities and the cash-flow hedge.
Outlook, commentary, risks and unusual items
- Outlook: The filing provides no specific earnings or loan-growth guidance. Management said it expected an effective tax rate of approximately 17.0%–18.5% in 2019 and future years. It noted that loan growth depends on economic conditions, competition, pricing discipline and credit quality.
- Rates and margins: Management’s models indicated rising rates would generally benefit net interest income and falling rates would generally pressure it; modeled impacts were not expected to be significant in the first 12 months, with potentially greater effects over 12–36 months. The filing also cites recent rate cuts, lower LIBOR and strong competition for loans and deposits as sources of margin pressure.
- Acquired-loan income: Improved expected cash flows on FDIC-assisted acquired loans added $2.3 million to interest income in Q3 and $5.2 million year to date. Management expected to recognize $1.8 million of the remaining $7.9 million accretable-yield adjustment during the rest of 2019; further adjustments could occur.
- CECL adoption: The company planned to adopt the current expected credit loss standard in the quarter ending March 31, 2020. The exact impact was undetermined; current modeling suggested a one-time cumulative adjustment equal to 2%–3% of stockholders’ equity.
- Other developments: The company consolidated its Ames, Iowa banking center into its North Ankeny office and expected to complete the Ames property sale in Q4 2019. A Business Banking initiative launched in Q3. Operating lease adoption added an $8.9 million right-of-use asset and a $9.0 million lease liability at September 30, 2019, with no material income-statement impact.
- Key risks: Credit losses and collateral values; commercial real estate and construction exposure; interest-rate and funding-cost changes; competition for deposits and loans; dependence in part on brokered deposits and borrowing access; economic conditions; cyber and technology risks; regulatory changes and examinations; litigation; and the valuation and cash-flow assumptions for acquired loans and foreclosed assets. The company reported no material change in its previously disclosed risk factors and said disclosure controls were effective.
- Contingencies: Management said pending and threatened litigation was not expected to have a material adverse effect, except as otherwise noted in the filing; no specific material exception is detailed in the supplied text. IRS partnership and Missouri tax examinations were not expected to result in significant adjustments.
Important facts for investors to verify
- Whether deposit pricing and borrowing costs continue to outpace asset-yield changes, and how this affects net interest margin after the 2019 rate cuts.
- How much earnings depend on acquired-loan accretion, and whether the expected $1.8 million of remaining-2019 recognition and future cash-flow estimates are realized.
- The final CECL adoption adjustment and its effect on the allowance, retained earnings, unfunded commitments and regulatory capital.
- Trends in commercial real estate, construction and consumer-auto credit quality, including potential problem loans, charge-offs and collateral valuations.
- The stability and cost of deposits, including brokered deposits, and continued access to FHLBank and Federal Reserve liquidity facilities.
- Whether the company’s reported capital ratios and liquidity resources remain adequate as lending commitments are funded and market conditions change.