International Bancshares Corporation — 2Q18 Form 10-Q Summary
Business context and reporting period
International Bancshares Corporation is a Texas-based bank holding company headquartered in Laredo, Texas. Through its bank subsidiaries, it provides commercial, consumer and international banking services across South, Central and Southeast Texas and Oklahoma, with significant business connected to U.S.-Mexico border commerce. The filing covers the unaudited three and six months ended June 30, 2018, compared with the same periods in 2017; balance-sheet comparisons are against December 31, 2017. The company operates as one reportable segment.
Key financial metrics
| Metric | Three months ended June 30, 2018 | Year-over-year change | Six months ended June 30, 2018 | Year-over-year change |
|---|---|---|---|---|
| Interest income | $115.1 million | 11.5% | $226.5 million | 13.1% |
| Interest expense | $12.8 million | 45.4% | $24.9 million | 38.2% |
| Net interest income | $102.3 million | 8.4% | $201.5 million | 10.7% |
| Provision for probable loan losses | $(2.7) million | Compared with $0.8 million provision | $(1.1) million | Compared with $2.5 million provision |
| Non-interest income | $42.3 million | 24.6% | $81.3 million | 13.4% |
| Non-interest expense | $80.6 million | 9.3% | $149.5 million | 0.1% |
| Net income | $52.9 million | 30.4% | $106.3 million | 46.5% |
| Basic EPS | $0.80 | 31.1% | $1.61 | 46.4% |
| Diluted EPS | $0.79 | 29.5% | $1.59 | 45.9% |
Using reported totals, the approximate efficiency ratio was 55.8% for the second quarter and 52.9% for the first six months, calculated as non-interest expense divided by net interest income plus non-interest income. The filing does not provide a separately reported net interest margin.
Balance sheet, liquidity and capital
- Total assets were $12.0 billion, down 1.6% from December 31, 2017.
- Total loans were $6.44 billion and net loans were $6.38 billion, up 1.4% and 1.5%, respectively, from year-end. Construction and real estate loans increased, while commercial loans were essentially unchanged.
- Total deposits were $8.67 billion, up 1.5%. Non-interest-bearing demand deposits increased $193.8 million, while savings, interest-bearing demand and time deposits declined in aggregate.
- Available-for-sale debt securities were $3.72 billion, down from $4.12 billion at year-end. The portfolio was primarily residential mortgage-backed securities.
- Other borrowed funds declined 28.6% to $853.0 million, and repurchase agreements declined 13.3% to $306.8 million. Junior subordinated debentures were unchanged at $160.4 million.
- Cash and cash equivalents were $265.1 million, essentially unchanged from year-end. Six-month operating cash flow was $102.2 million, compared with $104.0 million in the prior-year period. Investing activities provided $183.2 million, primarily due to mortgage-backed security principal collections and reduced securities purchases; financing activities used $285.6 million, primarily from debt reductions and dividends.
- Shareholders’ equity increased 2.2% to $1.88 billion. Regulatory capital remained strong: CET1 ratio was 17.75%, Tier 1 leverage ratio 15.32%, risk-weighted Tier 1 ratio 19.32% and total capital ratio 20.04%. Management stated that the company and its bank subsidiaries were well-capitalized.
Material changes versus prior comparable periods
- Net income benefited from higher loan balances and yields, stronger non-interest income, and lower loan-loss provisions.
- Interest expense rose materially as Federal Reserve rate increases increased the cost of savings deposits, time deposits and FHLB borrowings. This partially offset higher interest income.
- Non-interest income increased primarily from income associated with a real estate development partnership and the sale of an investment by a merchant banking entity. The prior-year period included securities transaction losses, while 2018 had no such losses.
- Six-month net income benefited from an approximately $19 million reduction in income tax expense associated with the Tax Cuts and Jobs Act’s reduction of the corporate tax rate to 21%.
- The allowance for probable loan losses declined 7.1% to $62.9 million, or 0.98% of total loans, from $67.7 million, or 1.07%, at year-end. Management attributed the lower provision primarily to reduced historical commercial loan loss experience and fewer watch-list and impaired loans.
- Non-accrual loans declined to $27.3 million from $54.7 million at year-end, primarily after foreclosure of a waterpark-related relationship. However, other real estate owned expenses increased, including a $2.7 million second-quarter net expense and a $2.7 million fair-value adjustment during the quarter.
- Accumulated other comprehensive loss increased to $79.5 million from $28.4 million, primarily because of unrealized losses on available-for-sale securities as interest rates rose.
Outlook, risks, contingencies and unusual items
- The company provided no quantitative earnings or revenue guidance. Management cautioned that interim results are not necessarily indicative of full-year results.
- Management believes the company is appropriately positioned for interest-rate changes, but the interest-rate sensitivity schedule showed a liability-sensitive position over the shorter periods and an asset-sensitive position over longer periods. Rising funding costs could pressure margins.
- Management cited competition for deposits and the need to pay higher rates to retain certain relationships. Liquidity depends principally on deposits, FHLB borrowings, repurchase agreements and the sale or pledging of investment securities.
- Material risks include economic and credit deterioration, collateral values, interest-rate and financial-market volatility, availability and cost of FHLB or other funding, U.S.-Mexico trade and border conditions, regulatory and tax changes, cybersecurity and system failures, litigation, natural disasters, goodwill impairment and future reserve requirements.
- The company held $3.72 billion of available-for-sale debt securities with $115.6 million of gross unrealized losses at June 30, 2018. Management stated it did not intend, and likely would not be required, to sell the affected securities before recovery or maturity.
- Legal proceedings were described as unlikely to result in material losses, although management noted that circumstances could change. No material changes to previously disclosed risk factors were reported.
- The company adopted ASU 2016-01, which moved changes in the fair value of equity securities into earnings, and ASU 2018-02, which resulted in a $6.0 million reclassification from accumulated other comprehensive loss to retained earnings. Adoption of ASC 606 did not have a significant impact.
- The board authorized an additional $40 million share-repurchase program through April 9, 2019. Only 1,298 shares were repurchased during the second quarter at an average price of $44.23.
Important facts for investors to verify
- Whether rising deposit and borrowing costs continue to outpace loan-yield increases and compress net interest margins.
- The sustainability of the unusually strong year-over-year earnings growth after the tax benefit and favorable loan-loss provision effects.
- Credit quality trends, including watch-list loans, impaired loans, non-accrual loans, charge-offs and the adequacy of the $62.9 million allowance.
- Exposure to commercial real estate, construction and land development, border-related economic activity and U.S.-Mexico trade conditions.
- The duration, unrealized losses and credit performance of the $3.72 billion available-for-sale securities portfolio.
- Liquidity under a scenario involving deposit outflows or reduced availability of FHLB and other funding sources.
- Future other-real-estate-owned write-downs and operating costs, including the property-specific valuation adjustments recorded in the quarter.
- The effect of additional regulatory changes, including implementation of the community bank leverage ratio framework and any impact on capital requirements or eligible capital instruments.