Independent Bank Corporation — Q1 2018 Form 10-Q
Business context and reporting period. The Michigan-based bank holding company reported unaudited consolidated results for the three months ended March 31, 2018, compared with Q1 2017. Unless noted, dollar amounts below are in millions. The April 1, 2018 TCSB acquisition occurred after quarter-end and is not included in Q1 results.
Financial performance and position
- Earnings: Net income was $9.16 million, up 53% from $5.97 million; diluted EPS was $0.42 versus $0.28. Annualized return on average assets was 1.34% versus 0.95%, and return on average common equity was 14.04% versus 9.63%.
- Interest income and margin: Net interest income increased 11.5% to $23.94 million. Fully tax-equivalent net interest margin was 3.71%, up 2 basis points year over year, supported by growth in average earning assets and a higher loan mix. Average earning assets were $2.61 billion, versus $2.37 billion.
- Other income and expenses: Non-interest income was $11.71 million, up from $10.34 million, including mortgage servicing income of $2.22 million versus $0.83 million. Non-interest expense rose to $24.14 million from $23.57 million. Provision for loan losses was $0.32 million, compared with a $0.36 million provision credit in Q1 2017.
- Cash flow: Operating activities provided $6.89 million, compared with $3.38 million. Cash and cash equivalents decreased $12.36 million during the quarter to $42.38 million; investing activities used $18.28 million and financing activities used $0.97 million.
- Balance sheet and funding: Total assets were $2.79 billion, nearly unchanged from year-end. Portfolio loans grew 2.6% to $2.07 billion, and deposits increased 1.2% to $2.43 billion. Securities available for sale were $489.12 million. Other borrowings declined to $27.85 million from $54.60 million; subordinated debentures were $35.57 million.
- Credit and capital: The allowance for loan losses was $23.07 million, or 1.11% of portfolio loans, versus 1.12% at year-end. Non-performing loans declined to $6.63 million from $8.18 million; non-performing assets were 0.30% of assets. The Bank was categorized as well capitalized; its total risk-based capital ratio was 14.40%, common equity Tier 1 ratio 13.25%, and leverage ratio 10.01%.
- Shareholder returns: The quarterly dividend was $0.15 per share, compared with $0.10 a year earlier. A plan authorized repurchases of up to 5% of outstanding shares through year-end; no shares were repurchased under that plan during Q1.
Material changes, outlook, and risks
- Higher net interest income, higher non-interest income, and lower income tax expense drove the earnings increase; higher loan-loss provision and operating expenses partly offset those gains. The federal corporate tax rate fell to 21% in 2018. The separate $6.0 million deferred-tax-asset remeasurement charge was recorded in Q4 2017.
- Management attributed servicing-income growth primarily to a favorable fair-value change as higher mortgage rates reduced expected prepayments. Mortgage loan sales increased to $106.3 million from $79.7 million, but the loan sales margin narrowed to 2.42% from 3.23%, primarily due to competition.
- Adoption of revenue-recognition guidance changed interchange presentation: both interchange income and expense increased by $0.31 million, with no effect on net income. The company also adopted fair-value guidance for equity securities; management reported no material effect on results or financial condition.
- Unrealized losses on available-for-sale securities increased to $6.42 million from $3.79 million, which management attributed principally to higher rates and wider spreads. It reported no Q1 credit-related impairment charges on these securities and considered the losses temporary.
- The TCSB merger closed April 1. Consideration included 2.71 million shares and 0.19 million options with an indicated fair value of about $64.5 million. TCSB reported $343.8 million of assets, $301.8 million of loans, and $288.1 million of deposits at March 31. Management expected a significant effect on Q2 results from consolidation and merger expenses; purchase accounting was to be recorded in Q2. IBCP incurred $0.17 million of merger-related expense in Q1.
- No specific earnings or revenue guidance was provided. Management cited Michigan economic conditions, competition for deposits, loan and deposit growth, credit losses, interest-rate volatility, funding access, and integration and synergy realization as risks. Uninsured deposits were approximately $536 million; management noted that deposit outflows could increase reliance on wholesale funding. The company said it had adequate liquidity, including about $17 million of parent-company cash and time deposits.
- A $2.2 million class-action settlement payment, plus estimated costs, was made in January 2018; the expense had been recognized in Q4 2016. Other litigation accruals were described as immaterial, with reasonably possible additional losses estimated as insignificant.
Important facts for investors to verify
- Whether Q2 and later results reflect TCSB integration costs, purchase-accounting adjustments, and expected merger benefits as management anticipated.
- Whether loan growth, deposit pricing, and funding costs sustain net interest income and margin as rates change; review uninsured and wholesale funding exposure.
- Whether credit quality and the allowance remain adequate, particularly given the increase in adversely rated commercial loans and the company’s reliance on estimates of expected losses.
- Whether mortgage servicing-rights fair values and mortgage loan sale margins remain durable; servicing-rights valuation depends on significant assumptions.
- Whether available-for-sale securities’ unrealized losses recover, and whether any securities must be sold before recovery.
- Confirm the distinction between no repurchases under the public plan and the reported Q1 share purchases: the latter comprised employee stock-plan purchases and shares withheld for tax obligations.