Huntington Bancshares Incorporated — Q2 2012 Form 10-Q
Reporting period: Three and six months ended June 30, 2012. Unaudited. Huntington is a Midwest regional bank offering consumer and commercial banking, mortgage, auto finance, leasing, wealth and related services.
Financial performance and condition
| Metric | Q2 2012 | Comparison |
|---|---|---|
| Net income | $152.7 million | $153.3 million in Q1 2012; $145.9 million in Q2 2011 |
| Diluted EPS | $0.17 | $0.17 in Q1 2012; $0.16 in Q2 2011 |
| FTE net interest income | $434.7 million | Up 3% from Q1; up 7% year over year |
| FTE net interest margin | 3.42% | 3.40% in Q1 2012 and Q2 2011 |
| Noninterest income / expense | $253.8 million / $444.3 million | Income down 11% from Q1; expense down 4% |
| Credit provision; net charge-offs | $36.5 million; $84.2 million | Charge-offs annualized at 0.82% of average loans |
- First-half results: Net income was $306.0 million, up 12% from $272.4 million in the first half of 2011. Diluted EPS was $0.33 versus $0.30. FTE revenue was $1.395 billion, up 7%; the FTE net interest margin was unchanged at 3.41%.
- Balance sheet at June 30: Assets were $56.6 billion, loans and leases $40.0 billion, deposits $46.1 billion, and shareholders’ equity $5.65 billion. Loans grew 3% from year-end, led by commercial and industrial lending; deposits grew 6%.
- Credit quality: Nonaccrual loans were $474.2 million, or 1.19% of loans; nonperforming assets were $523.3 million, or 1.31%. The allowance for credit losses was $910.6 million, 2.28% of loans, and covered nonaccrual loans by 192%. Nonaccrual loans were down from $541.1 million at year-end, though up modestly from Q1.
- Capital: Tier 1 common risk-based capital was 10.08% and tangible common equity to tangible assets was 8.41%. The filing reports the consolidated Tier 1 risk-based capital ratio at 11.93%. Capital figures vary by measure and comparison date.
- Cash flow and liquidity: First-half operating cash flow was $560.8 million, investing cash flow was negative $1.50 billion, and financing cash flow was positive $1.05 billion; cash and cash equivalents increased $102.6 million to $1.22 billion. Core deposits funded 77% of assets. Unused Federal Reserve and FHLB borrowing capacity totaled $10.5 billion. Management said the Bank and parent company had sufficient liquidity for the foreseeable future.
- Debt and funding: Period-end short-term borrowings were $1.21 billion, FHLB advances $835.7 million, other long-term debt $310.0 million, and subordinated notes $1.42 billion. The company redeemed $80 million of trust preferred securities during Q2.
Material changes versus comparable periods
- Compared with Q2 2011, quarterly net income increased about 5%, while diluted EPS rose from $0.16 to $0.17. Lower funding costs and higher average earning assets supported net interest income; the margin was nearly unchanged year over year.
- First-half net interest income increased 5% and noninterest income increased 9% year over year. Noninterest expense rose 6%, principally due to higher personnel costs, technology investment, and acquisition and strategic initiative costs.
- Average C&I loans increased 20% year over year in Q2, while average auto loans declined 16%, partly reflecting loan securitizations. Noninterest-bearing demand deposits grew substantially, while core certificates of deposit declined.
- Credit indicators generally improved from a year earlier: first-half net charge-offs fell to $167.2 million from $262.6 million, and the nonperforming asset ratio declined to 1.31% from 1.67% at June 2011.
- The FDIC-assisted Fidelity Bank acquisition closed March 30, 2012. It added loans and deposits and produced an $11.4 million bargain purchase gain in Q1. A $1.3 billion auto-loan securitization in Q1 generated a $23.0 million gain; another $1.3 billion of auto loans was classified as held for sale at Q2-end for a planned second-half securitization.
Outlook, commentary, risks and unusual items
- Outlook: Management expected modest improvement in average net interest income for the rest of 2012, with loan growth partly offset by pricing competition, lower-yield securities reinvestment and diminishing benefits from deposit repricing. It expected modest noninterest-income growth, positive operating leverage and modest efficiency improvement, while expenses could rise slightly. Credit quality was expected to continue improving, with quarterly provision volatility possible. The expected 2012 effective tax rate was 24%–26%.
- Business priorities: Management emphasized C&I growth, deposit mix and lower funding costs, cross-selling, customer growth, risk management and efficiency. It planned to open more than 30 in-store branches; related investment and regulatory costs could temper expense progress.
- Regulatory capital: Proposed Basel III rules could reduce the company’s Basel I Tier 1 common ratio by an estimated 150 basis points using the existing balance sheet. Management expected capital ratios under Basel III to remain above well-capitalized minimums, but the rules were still proposed and subject to change. The Federal Reserve did not object to the submitted capital plan, which included potential repurchases of up to $182 million and continuation of the then-current common dividend through Q1 2013.
- Legal and contingent exposures: The filing estimates reasonably possible losses from current legal proceedings, above accrued amounts, at $0–$150 million; some matters could not be reasonably estimated. In the Teleservices bankruptcy litigation, the bankruptcy court’s July 2012 recommendation found the Bank liable for approximately $72.1 million before interest, subject to de novo district-court review. The company also disclosed an IRS dispute concerning 2006–2007 tax returns that could be material to results in the period of resolution, though management did not expect a material adverse effect on consolidated financial position.
- Other risks: Management cited economic uncertainty, unemployment and weak housing markets, potential strategic defaults in residential-secured lending, competitive pricing, interest-rate and mortgage-servicing-rights sensitivity, regulatory changes, litigation, and execution of strategic initiatives. The company reported $131.5 million of gross unrealized losses on asset-backed securities and private-label CMOs at quarter-end, including securities with significant credit and valuation uncertainty; management said it did not intend or expect to be forced to sell them before recovery.
- Unusual items: Management said there were no significant items in Q2. Q1 comparisons included a $23.5 million litigation-reserve addition and the $11.4 million Fidelity bargain gain. Q2 noninterest expense included four items management considered one-time that reduced expense by a net $6.4 million.
Important facts for investors to verify
- Track C&I loan growth, deposit mix and funding costs against management’s outlook for modest net interest income improvement and margin pressure.
- Monitor noncore CRE and residential home-equity credit performance, including junior-lien losses, nonaccrual trends, charge-offs and allowance coverage.
- Assess the timing, gain and balance-sheet effects of the planned auto-loan securitization, and distinguish recurring fee income from securitization and mortgage-servicing-rights impacts.
- Follow final Basel III requirements, CCAR outcomes, regulatory limits on Bank dividends, and implications for capital distributions and repurchases.
- Review the Teleservices litigation’s district-court proceedings, other legal matters, and the IRS tax dispute for changes in exposure or accruals.
- Reconcile period-end capital ratios and cash-flow changes with the full financial statements; the filing presents multiple capital measures and reports cash flow for the six-month period.