REPUBLIC BANCORP INC quarterly report, Q1 FY2018

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Republic Bancorp, Inc. — Q1 2018 Form 10-Q

Reporting period: Three months ended March 31, 2018; unaudited. Comparisons are generally with Q1 2017 for income and cash flow, and December 31, 2017 for balance-sheet changes. Amounts below are in U.S. dollars.

Business context

Louisville-based financial holding company operating through five segments: Traditional Banking, Warehouse Lending, Mortgage Banking, Tax Refund Solutions (TRS), and Republic Credit Solutions (RCS). TRS is seasonal, with most activity in the first half of the year; its Easy Advance (EA) loans are made during the first two months.

Financial and operating performance

  • Net income: $27.5 million, up 37% from $20.0 million. Diluted EPS for Class A shares was $1.32 versus $0.96; Class B was $1.20 versus $0.88.
  • Revenue and margins: Net interest income rose 20% to $67.7 million; noninterest income rose 11% to $27.5 million. Total net revenue was $95.2 million versus $81.4 million. Net interest margin increased to 5.50% from 4.99%, primarily reflecting EA fees; net interest spread was 5.25% versus 4.81%.
  • Expenses and credit costs: Noninterest expense increased 11% to $43.0 million. Provision for loan and lease losses was $17.3 million versus $12.4 million. Net charge-offs were $7.7 million versus $2.9 million.
  • Taxes: Income tax expense fell to $7.4 million from $10.1 million; the effective tax rate declined to 21.31% from 33.43%, mainly due to the federal corporate tax-rate reduction.
  • Cash flow: Operating activities provided $52.0 million and investing activities provided $56.7 million; financing activities used $45.9 million. Cash and equivalents increased $62.8 million to $362.1 million.
  • Balance sheet and liquidity: Total assets were $5.08 billion, broadly unchanged from year-end. Loans were $4.05 billion, up $38 million; deposits were $3.72 billion, up $284 million. Stockholders’ equity rose to $653.3 million. FHLB advances fell to $440 million from $737.5 million; short-term borrowings were $175.7 million. Available FHLB borrowing capacity was $641 million, with $125 million in unsecured lines and $331 million in unencumbered securities. Loan-to-deposit ratio excluding brokered deposits was 124%, versus 133% at year-end.
  • Capital: The Bank was categorized as well-capitalized. At March 31, Bank total risk-based capital was 14.14%, common equity Tier 1 was 12.96%, and Tier 1 leverage was 10.90%.
  • Credit quality: Allowance was $52.3 million, or 1.29% of loans, versus $42.8 million, or 1.07%, at year-end. Nonperforming loans were $16.1 million, or 0.40% of loans, versus $15.1 million, or 0.38%. Total delinquent loans were 0.64% versus 0.35%, driven largely by seasonal EA delinquencies.

Material changes and segment performance

  • Traditional Banking net income rose 43% to $9.1 million. Commercial loan growth contributed to higher net interest income; deposits grew 5% from year-end.
  • TRS net income rose 22% to $12.4 million. EA originations increased to $430 million from $329 million, following an increase in the maximum advance amount. Net refund-transfer fees rose 6% to $16.4 million.
  • RCS net income increased to $3.9 million from $1.3 million, reflecting product expansion. Its nonperforming-loan ratio rose to 2.01% from 1.40% at year-end; delinquency declined to 7.00% from 8.43%.
  • Warehouse net income was nearly unchanged at $2.1 million. Net interest income declined 8%, partly because of a change in internal funds-transfer pricing methodology; management said the change reduced Q1 2018 segment results by $410,000 versus the prior-year comparison.
  • Mortgage Banking income declined 12% to $1.0 million as secondary-market originations fell to $29 million from $33 million, with management citing slower mortgage-refinance activity.
  • The company recorded a $1.0 million nonrefundable capital commitment fee for completing infrastructure and initial funding for a new collaborative credit product.

Outlook, risks and unusual items

  • No specific earnings or financial guidance is provided. Management said additional short-term rate increases could support near-term net interest income and margin, but deposit retention and pricing, a flatter yield curve, future liquidity needs, and changing loan demand could adversely affect results.
  • Management reported slower federal tax-refund repayments for EAs in Q1 and raised the reserve rate on 2018 EA originations to 3.09%, from 2.62% in Q1 2017. EA net charge-offs were $3.7 million versus $0.9 million; management noted that most unpaid EAs are typically charged off in Q2 and that repayment patterns can differ from prior years.
  • Short-term TRS cash is expected to leave the company in Q2; management anticipates increased use of FHLB advances as a result. The company reported compliance with Board-approved liquidity policies at quarter-end, while noting liquidity may remain near internal minimums and may occasionally fall below them.
  • The Bank’s interest-rate model projected higher net interest income in rising-rate scenarios and lower income in a 100-basis-point decline. The modeled Down 100 scenario was outside the Board’s policy limit; management and the Board elected not to take corrective action at this time.
  • CECL adoption is expected to cause a substantial, but not yet quantified, increase in the allowance. The company estimated approximately $30 million of lease liabilities and corresponding assets upon adoption of the new lease standard in 2019.
  • Management said the TCJA accounting was substantially complete, but the impact of a pending cost-segregation study on depreciation-related deferred taxes was not yet estimable. Disclosure controls were considered effective; management reported no material change in internal control over financial reporting. Management knew of no pending or threatened legal proceeding expected to cause a material adverse change.

Important facts for investors to verify

  • EA repayment timing, Q2 charge-offs, realized losses, and whether the 3.09% provision estimate adequately covers 2018 originations.
  • Whether growth in net interest income and the 5.50% net interest margin are sustainable apart from seasonal, high-fee EA activity.
  • Deposit stability and funding costs as seasonal TRS balances run off and FHLB borrowing needs rise.
  • Trends in nonperforming loans, delinquency, charge-offs, and reserves, especially in RCS and other higher-risk consumer lending.
  • Results of the cost-segregation study, CECL impact analysis, and implementation of the lease accounting standard.
  • Effect of interest-rate changes and any future response to the Bank’s modeled Down 100 policy-limit variance.