1st Source Corporation — Q2 2022 Form 10-Q
Business context and period: 1st Source is an Indiana-based bank holding company offering banking and other financial services. This unaudited report covers the quarter and six months ended June 30, 2022; balance-sheet comparisons are with December 31, 2021.
Financial results and position
| Metric | Q2 2022 | Q2 2021 | Six months 2022 | Six months 2021 |
|---|---|---|---|---|
| Net interest income | $63.5 million | $56.9 million | $123.1 million | $114.3 million |
| Net interest margin, fully tax-equivalent | 3.32% | 3.15% | 3.25% | 3.25% |
| Provision (recovery) for credit losses | $2.5 million | $(3.0) million | $4.7 million | $(0.6) million |
| Noninterest income | $22.8 million | $24.9 million | $46.0 million | $50.8 million |
| Noninterest expense | $45.7 million | $45.2 million | $91.0 million | $89.3 million |
| Net income available to common shareholders | $29.3 million | $30.2 million | $56.7 million | $58.3 million |
| Diluted earnings per share | $1.18 | $1.19 | $2.28 | $2.29 |
At June 30, total assets were $8.03 billion, loans and leases $5.55 billion, deposits $6.74 billion, and total equity $910.7 million. Loans grew 3.8% and deposits 1.0% from year-end. The allowance for loan and lease losses was $132.9 million, or 2.39% of loans and leases. Nonperforming assets were $33.7 million, 0.60% of loans and leases, down from $41.3 million and 0.77% at year-end.
For the first half, cash from operating activities was $77.0 million; investing activities used $309.4 million and financing activities used $11.0 million. Cash and cash equivalents fell $243.4 million to $281.8 million, mainly as excess liquidity funded loan growth. Available additional borrowing included $515.2 million from the FHLB, $448.2 million from the Federal Reserve, and $245.0 million through correspondent banks. Management said available funding sources were adequate.
Shareholders’ equity was $856.3 million, or 10.66% of assets, versus 11.32% at year-end. Book value per share was $34.74, down from $37.04, primarily reflecting accumulated other comprehensive loss of $107.0 million, largely from market-value declines in available-for-sale securities as interest rates and spreads changed. Regulatory capital ratios remained above stated “well capitalized” thresholds; the company’s total capital ratio was 16.79% and common equity Tier 1 ratio 13.79%.
Changes versus comparable periods
- Net interest income increased 11.5% in Q2 and 7.6% for the first half. Q2 fully tax-equivalent margin rose 17 basis points year over year; the six-month margin was unchanged.
- Common net income declined 3.0% in Q2 and 2.8% year to date; diluted EPS was slightly lower in both comparisons.
- Noninterest income fell 8.3% in Q2 and 9.4% year to date. Mortgage banking income declined 62.9% in Q2 as mortgage refinancing and secondary-market sales slowed; equipment rental income was down 22.6%.
- The credit-loss provision shifted from a recovery in 2021 to expense in 2022. Management cited loan growth and a less favorable economic forecast; net recoveries were $0.4 million in Q2 2022.
- Loans and leases increased $205.0 million from year-end, with growth in auto/light truck and aircraft lending partly offset by roughly $66 million of PPP loan forgiveness. Available-for-sale securities carried $141.0 million of gross unrealized losses at quarter-end; management attributed these to market factors, not credit losses, and said it did not expect to sell them before recovery.
Outlook, risks, and unusual items
- Management assumed economic growth would slow markedly in 2022 and 2023, with inflation remaining well above the Federal Reserve’s 2% target. It warned that geopolitical uncertainty, the war in Ukraine, supply-chain disruption, and inflation could cause future credit-loss estimates to vary considerably. No numerical earnings guidance was provided.
- Credit risks highlighted include the bus segment, where pandemic-related changes in consumer behavior may continue to pressure asset values; aircraft collateral volatility; and foreign aircraft exposure of $233.6 million, principally in Mexico and Brazil. Energy-price volatility and driver availability also remain challenges for truck lending.
- Q2 interest expense on long-term debt and mandatorily redeemable securities was $0.1 million; the six-month line was a $0.7 million credit, versus expense in the prior year. Management linked the unusual negative expense to book-value-based changes in mandatorily redeemable shares under an executive compensation plan.
- Off-balance-sheet commitments included $1.23 billion of loan commitments and $19.7 million of standby letters of credit. The filing says many commitments may expire undrawn. Maximum exposure to loss from unconsolidated tax-advantaged VIEs was $52.4 million.
- Management reported no material change in market risks or risk factors since year-end. It did not expect pending legal proceedings to materially adversely affect financial position or results. Disclosure controls were deemed effective.
Investor verification priorities
- Track whether loan growth and deposit funding sustain net interest income and margin as rates and funding costs change.
- Review credit quality, allowance assumptions, delinquency and nonperforming asset trends, especially aircraft and bus-related exposures.
- Monitor unrealized securities losses, their effects on equity and capital, and whether securities sales or liquidity needs alter the reported recovery assumptions.
- Assess the durability of noninterest income given lower mortgage banking and equipment rental revenue, and the effect of rising operating costs.
- Confirm capital and liquidity remain adequate alongside the dividend, share repurchases, and the substantial loan commitments and contingent exposures.