Simmons First National Corporation — Q2 2018 Form 10-Q
Business context and period. This unaudited report covers the quarter and six months ended June 30, 2018, with comparisons to 2017. Simmons is an Arkansas-based financial holding company operating across seven states. Results reflect the 2017 acquisitions of Southwest Bancorp and First Texas; systems conversions were completed in February and May 2018. Accordingly, year-over-year comparisons include a substantially larger acquired business.
Financial results and key metrics
| Metric | Q2 2018 | Q2 2017 | First half 2018 | First half 2017 |
|---|---|---|---|---|
| Net interest income | $136.8 million | $76.8 million | $271.8 million | $149.2 million |
| Non-interest income | $38.0 million | $35.7 million | $75.6 million | $65.8 million |
| Provision for loan losses | $9.0 million | $7.0 million | $18.2 million | $11.3 million |
| Non-interest expense | $98.5 million | $71.4 million | $196.6 million | $137.7 million |
| Net income | $53.6 million | $23.1 million | $104.9 million | $45.2 million |
| Diluted EPS | $0.58 | $0.36 | $1.13 | $0.71 |
| Net interest margin, FTE | 3.99% | 4.04% | 4.08% | 4.04% |
Profitability and margins. Q2 net income increased about 132% and diluted EPS about 61%; first-half net income increased about 132%. Management reported core earnings, a non-GAAP measure excluding merger and branch right-sizing items, of $54.7 million ($0.59 diluted per share) in Q2 and $107.3 million ($1.16) for the first half. These results include acquisition effects and should not be viewed as directly comparable on an unchanged-business basis. Q2 FTE net interest margin declined five basis points year over year; management’s non-GAAP core margin excluding acquired-loan accretion was 3.70%, versus 3.79% a year earlier.
Balance sheet, funding and liquidity. At June 30, total assets were $16.17 billion, up from $15.06 billion at year-end 2017. Total loans were $11.37 billion, versus $10.78 billion; deposits were $11.95 billion, versus $11.09 billion. Cash and cash equivalents were $943.8 million, compared with $598.0 million at year-end. For the first half, operating cash flow was $110.7 million, investing cash outflow was $921.3 million, and financing cash inflow was $1.16 billion; cash increased $345.8 million. Core deposits represented 86.4% of deposits, while brokered deposits were $1.1 billion.
Total other borrowings and subordinated debt were $1.87 billion, compared with $1.52 billion at year-end. Simmons issued $330 million of 5.00% fixed-to-floating subordinated notes in March; the notes qualify as Tier 2 capital. FHLB advances totaled $1.45 billion, including $945 million with original maturities of one year or less, and approximately $1.5 billion of additional FHLB borrowing capacity was available. The company reported a 9.99% CET1 ratio, 8.63% Tier 1 leverage ratio and 13.72% total risk-based capital ratio at June 30.
Asset quality. Non-performing assets were $75.9 million, or 0.47% of total assets, versus $79.0 million, or 0.52%, at year-end. Non-performing loans were 0.63% of total loans, and annualized first-half net charge-offs were 0.20% of total loans. The allowance for loan losses was $53.8 million; management also cited a $68.3 million acquired-loan credit mark, for combined allowance and credit-mark coverage of $122.1 million, or 1.1% of gross loans. Acquired-loan nonaccruals and credit marks merit separate attention when assessing portfolio quality.
Material changes versus comparable periods
- Revenue and earnings rose sharply, primarily because of the larger loan and deposit base following the 2017 acquisitions, along with higher loan yields and acquired-loan discount accretion.
- Q2 FTE net interest income rose 75.1% year over year, while interest expense increased as deposit balances and borrowing costs grew. The FTE yield on earning assets rose, but funding costs also increased.
- Non-interest expense increased 37.9% in Q2 and 42.7% for the first half, mainly from acquired operations, including salaries, occupancy and intangible amortization. Merger-related costs were lower than in 2017.
- First-half provision for loan losses increased to $18.2 million from $11.3 million, reflecting legacy loan growth and provisions on acquired impaired loans.
- Available-for-sale securities had $53.1 million of gross unrealized losses at quarter-end, versus $24.9 million at year-end. Management attributed the declines mainly to higher market rates and considered them temporary; the related AOCI loss increased.
Outlook, commentary, risks and unusual items
- Management reported record earnings in each of the first two quarters and said its focus was shifting from acquisition integration to expanding products and services across the larger footprint. No specific full-year earnings or revenue guidance is provided.
- Management expected acquired-loan accretion income to decline gradually during the remainder of 2018. It also expected deposit funding costs to rise amid higher interest rates and competition.
- The bank became subject to the debit-card interchange fee cap on July 1, 2018. Management estimated the cap would reduce pre-tax debit card fees by about $7 million in 2018 and $14 million in 2019.
- The company planned to close ten branches in September 2018, citing ongoing review of customer needs and use of digital channels.
- The company had repaid about $173 million of debt with proceeds from the subordinated-note issuance and expected to repay a further $50 million in Q3 2018. The revolving credit facility’s stated expiry was October 5, 2018.
- Management was preparing for the expected-credit-loss standard (CECL), effective for the company in 2020, and anticipated a one-time adjustment to the allowance at adoption; its magnitude was not yet determinable. Lease accounting was expected to increase assets and liabilities, with no material operating-results impact anticipated.
- Key risks include integration and execution of acquisitions, credit deterioration, interest-rate and deposit-cost changes, commercial real estate exposure, regulatory and compliance costs, and uncertainty in loan-loss estimates. The filing reported no material change to previously disclosed risk factors and no legal proceedings expected to have a material adverse effect.
Most important facts for investors to verify
- How much earnings growth persists after acquired-loan accretion, acquisition effects and other non-core adjustments; reconcile management’s non-GAAP core measures with GAAP results.
- Whether acquired and legacy loan quality remains stable, including acquired-loan nonaccruals, allowance coverage, credit marks, delinquencies and charge-offs.
- Whether loan growth can be funded without materially higher deposit costs or greater dependence on brokered deposits and short-term FHLB advances.
- The realized effect of the interchange cap, planned branch closures, acquisition integration and remaining debt repayments on future earnings and expenses.
- The impact of rising rates on net interest margin and securities values; management’s model estimated net interest income changes of +4.48% for a 100-basis-point increase, +8.32% for 200 basis points, and -5.48% for a 100-basis-point decrease over 12 months, subject to stated assumptions.
The interim financial statements were reviewed by the independent registered public accounting firm, not audited.