Business context and reporting period
Republic Bancorp, Inc. (Nasdaq: RBCAA) is a Louisville-based financial holding company with traditional banking, warehouse lending, mortgage banking, tax refund processing and consumer credit businesses. This unaudited Form 10-Q covers the quarter and six months ended June 30, 2019; balance-sheet comparisons are to December 31, 2018. Dollar amounts below are U.S. dollars.
Financial performance and condition
- Second-quarter results: Net income was $18.0 million, up 15% from $15.7 million; diluted EPS was $0.86 for Class A and $0.78 for Class B, versus $0.74 and $0.68, respectively. Net interest income rose 6% to $53.9 million, while net interest margin declined to 4.12% from 4.19%.
- First-half results: Net income increased 10% to $47.5 million from $43.1 million; diluted EPS was $2.28 for Class A and $2.07 for Class B, versus $2.06 and $1.88. Net interest income rose 6% to $126.2 million; net interest margin edged up to 4.88% from 4.85%.
- Revenue and expenses: Second-quarter noninterest income increased 6% to $15.1 million, including higher mortgage banking income. Noninterest expense rose 7% to $43.4 million, led by salaries and benefits. First-half noninterest income increased 2% to $42.5 million and expense rose 6% to $88.9 million.
- Credit costs and asset quality: Provision expense was $4.5 million in Q2 and $21.7 million in the first half. The allowance was $46.0 million, or 1.04% of loans, at June 30. Nonperforming loans were $19.4 million (0.44% of loans), up from $16.1 million (0.39%) at year-end; nonperforming assets were $20.5 million. Management attributed the increase principally to a C&I borrower default and recorded a $1.2 million provision for that relationship. First-half net charge-offs were $20.4 million, versus $19.9 million a year earlier.
- Balance sheet and funding: Total assets were $5.72 billion, up from $5.24 billion at year-end. Gross loans were $4.41 billion, up 6%; total deposits were $3.71 billion, up 7%, including $153 million classified as deposits to be assumed in the planned branch sale. Stockholders’ equity was $731 million, versus $690 million.
- Cash flow and liquidity: For the first half, operating cash flow was $35.2 million, investing cash outflow was $307.9 million and financing cash inflow was $395.0 million. Cash and cash equivalents ended at $473.8 million, up $122.3 million from year-end. The filing reports a 181% loan-to-deposit ratio excluding brokered deposits. Liquidity resources included $166 million of available FHLB capacity as stated in MD&A and $125 million in unsecured lines of credit.
- Borrowings and capital: FHLB advances totaled $915 million, up from $810 million; short-term borrowings and repurchase agreements totaled $226 million. The company’s total risk-based capital ratio was 16.16%, Common Equity Tier 1 was 14.41%, and Tier 1 leverage was 13.72%. The Bank was categorized as well-capitalized.
Material changes versus comparable periods
- Loan growth and higher loan yields supported net interest income, but deposit and borrowing costs increased. Interest expense rose 61% in Q2 to $11.7 million and 64% in the first half to $22.1 million.
- Traditional Banking loan growth and margin expansion supported earnings. Warehouse Lending income weakened despite higher average balances: competitive pricing and an inverted yield curve compressed its margin.
- Mortgage banking income increased 84% in Q2 to $2.4 million and 69% in the first half to $4.0 million, reflecting higher originations and mortgage activity.
- Tax Refund Solutions’ first-half net income declined 2%; Easy Advance originations fell to $389 million from $430 million, while its provision increased to $13.4 million from $12.4 million. Republic Credit Solutions’ first-half net income rose 32%, with lower credit-card-related provision and expense following discontinuation and sale of that portfolio.
- Brokered deposits rose to $159.6 million from $9.4 million at year-end. The company also adopted lease accounting in 2019, recording approximately $40 million of right-of-use assets and $42 million of lease liabilities at adoption.
Outlook, commentary, risks and unusual items
- No quantified full-year earnings or revenue guidance is provided. Management noted that TRS is seasonal, with most activity in the first half and typically losses in the second half as it prepares for the next tax season.
- Management warned that further yield-curve flattening or inversion could pressure net interest income and margin. Deposit retention and funding costs are also important sensitivities. The company’s rate model projected net interest income changes of -5.1% under a 200-basis-point decline and +5.9% under a 300-basis-point increase over the following 12 months; actual results may differ.
- In July 2019, the Bank agreed to sell four Kentucky banking centers to Limestone Bank. The deal includes approximately $112 million of loans and $153 million of deposits as of June 30, with a blended premium expected near 6% of transferred deposits. It is subject to customary conditions and regulatory approvals and was anticipated to close in Q4 2019.
- The Bank took possession of approximately $12 million of reverse mortgage loans from a warehouse client that planned to close its business. The loans were sold in July at an approximately $200,000 loss.
- Easy Advances are unsecured against the taxpayer if the refund is insufficient; unpaid advances were charged off by June 30. 2019 EA originations were $389 million and the provision was 3.45% of originations, versus 2.88% in 2018. Management expected subsequent collections to be recorded as recoveries, while noting that changes in tax-refund payment patterns could increase losses.
- The company identified LIBOR’s planned discontinuance after 2021 as a risk to contracts, pricing and hedging. It also cited interest-rate, credit, competition, regulatory, cyber-security and economic risks. Management said disclosure controls were effective and reported no material pending or threatened litigation known to it.
- The Q2 effective tax rate was 15%, compared with 21%, reflecting, among other items, an approximately $815,000 tax benefit from Kentucky combined filing legislation and $388,000 of equity-compensation tax benefit. These items benefited the period.
- The company expects CECL adoption on January 1, 2020 to increase its credit-loss allowance, but the amount was undetermined. Lease standard adoption did not meaningfully affect performance metrics.
Important facts for investors to verify
- Whether the four-center sale closes as expected, the final deposit premium, and the resulting effect on deposits, loans and earnings.
- Developments in the defaulted C&I relationship, nonperforming loans, classified credits, TDR performance and allowance adequacy.
- Tax-refund payment recoveries and loss trends for Easy Advances, including the effect of the 2019 product and pricing changes.
- Deposit mix, brokered funding, borrowing needs and the reported liquidity capacity, including the differing FHLB availability figures elsewhere in the filing.
- Net interest margin and funding-cost trends if the yield curve remains inverted or rates change; also confirm CECL’s eventual allowance impact.