1st Source Corporation — Q3 2016 Form 10-Q
Reporting period: Quarter and nine months ended September 30, 2016; balance-sheet comparisons are to December 31, 2015. 1st Source is an Indiana-based bank holding company offering financial services, with significant specialty lending and equipment-leasing businesses. Financial amounts below are in U.S. dollars.
Financial results and position
| Metric | Q3 2016 / Sep. 30, 2016 | Comparable period / Dec. 31, 2015 |
|---|---|---|
| Net income | $14.3 million; diluted EPS $0.55 | Q3 2015: $13.9 million; $0.53 per diluted share |
| Nine-month net income and diluted EPS | $42.6 million; $1.63 | 2015: $43.1 million; $1.63 |
| Total assets | $5.45 billion | $5.19 billion |
| Total loans and leases | $4.18 billion | $3.99 billion |
| Total deposits | $4.38 billion | $4.14 billion |
| Shareholders’ equity | $670.3 million | $644.1 million |
| Cash and cash equivalents | $95.8 million | $79.7 million |
- Q3 net interest income was $42.7 million, up from $42.2 million; noninterest income was $22.7 million, up 7.3%. Net interest margin was 3.35% on a GAAP-derived basis and 3.39% on a fully taxable-equivalent basis, versus 3.54% and 3.57%, respectively, in Q3 2015.
- For the first nine months, net interest income was $126.3 million versus $123.3 million; noninterest income was $66.6 million versus $62.4 million. Fully taxable-equivalent net interest margin declined to 3.43% from 3.60%.
- Q3 provision for loan and lease losses was $2.1 million, compared with $1.0 million a year earlier. Nine-month provision was $5.1 million versus $2.2 million. Nine-month net charge-offs were $4.3 million, compared with net recoveries of $0.4 million in 2015.
- The loan-loss reserve was $88.9 million, or 2.13% of loans and leases, versus $88.1 million at year-end 2015. Nonperforming assets rose to $29.2 million (0.68% of loans and leases) from $20.6 million (0.50%); nonaccrual loans and leases increased to $19.9 million.
- Reported nine-month cash flows were $68.7 million provided by operating activities, $255.7 million used in investing activities, and $203.1 million provided by financing activities, producing a $16.1 million increase in cash and cash equivalents.
- Short-term borrowings were $216.0 million, down from $233.2 million. Long-term debt and mandatorily redeemable securities were $64.8 million; subordinated notes were $58.8 million. The equity-to-assets ratio was 12.30%, compared with 12.41% at year-end.
- Capital ratios were above stated minimums: the company reported a 12.35% common equity Tier 1 ratio and 12.00% Tier 1 leverage ratio. Management said the company and bank would meet fully phased-in Basel III capital requirements.
Changes and management commentary
- Asset growth reflected higher loans and leases, securities, and operating-lease equipment; deposits increased 5.75% from year-end. Management cited growth in average loans and equipment rental activity.
- Nine-month net income declined slightly despite higher net interest and noninterest income, as higher credit-loss provision, noninterest expense, and taxes offset revenue gains. Return on average common equity was 8.62%, down from 9.12%; return on average assets was 1.07%, down from 1.16%.
- Q3 included $0.99 million of realized gains on available-for-sale securities. Nine-month realized gains were $0.79 million, after a $0.29 million other-than-temporary impairment charge. Equipment rental income rose, with associated leased-equipment depreciation also increasing.
- Management identified aircraft lending as a continuing credit concern: collateral values, particularly for private jets, were softening, and the portfolio included $243 million of foreign exposure, including borrowers in Brazil and Mexico. Management said it saw no clear portfolio-wide trend of improvement or deterioration and considered reserve ratios appropriate.
- Liquidity sources included cash and securities, deposits, and borrowing capacity. At quarter-end, the company reported $265 million of potential short-term federal funds borrowing, $149.8 million of additional FHLB capacity, and $492.2 million available from the Federal Reserve. Management considered liquidity adequate. A potential future requirement to collateralize public deposits could create an estimated $578 million liquidity exposure.
- The filing provides no specific earnings or revenue guidance. Management cautioned that results may differ from forward-looking statements because of interest rates, economic conditions, regulation, competition, loan prepayments, and risks in industries and geographies where the company has credit concentrations.
Risks, contingencies, and other disclosures
- Loan commitments to extend credit totaled $849.7 million; standby letters of credit were $34.1 million. These are contingent exposures, not necessarily expected cash outflows.
- Management reported no material change in risk factors or market risks since year-end 2015. It did not expect pending ordinary-course legal proceedings to materially adversely affect financial position or results.
- Disclosure controls were assessed as effective, with no material change in internal control over financial reporting during the quarter.
Important facts for investors to verify
- Whether aircraft collateral values and foreign borrower exposures—especially in Brazil and Mexico—continue to affect credit quality, repossessions, charge-offs, and reserve adequacy.
- The drivers and persistence of the increase in nonperforming assets, including nonaccrual loans and repossessed aircraft-related assets.
- Whether loan growth and equipment rental expansion can offset margin pressure from lower asset yields and rising deposit costs.
- How much reported earnings benefited from securities gains and whether subsequent results include comparable items.
- That liquidity capacity, capital ratios, and the potential public-deposit collateral requirement remain consistent with management’s assessment.