1st Source Corporation — Q3 2013 Form 10-Q
Reporting period: Quarter and nine months ended September 30, 2013; balance-sheet comparisons are with December 31, 2012 unless otherwise noted. 1st Source is an Indiana bank holding company providing banking and other financial services. Dollar amounts below are in millions unless stated otherwise.
Financial performance and position
- Q3 earnings: Net income was $14.9 million, up from $13.0 million in Q3 2012; diluted EPS was $0.60 versus $0.53. For the first nine months, net income was $41.2 million versus $37.3 million, and diluted EPS was $1.67 versus $1.51.
- Interest income and margin: Q3 net interest income was $41.2 million, compared with $37.9 million; taxable-equivalent net interest income was $41.6 million versus $38.4 million. The taxable-equivalent net interest margin rose to 3.79% from 3.63%. Nine-month taxable-equivalent net interest income increased 3.75% to $119.1 million, while net yield was 3.69% versus 3.70%.
- Other income and expenses: Noninterest income was $20.2 million in Q3 and $59.2 million year to date, down 0.7% and 2.3%, respectively, from 2012. Noninterest expense was $38.4 million in Q3, up 3.3%, and $110.7 million year to date, down 1.0%. Nine-month pretax income was $64.7 million; income tax expense was $23.4 million, with a 36.21% effective tax rate.
- Assets and lending: Total assets were $4.65 billion, up 2.18%. Loans and leases reached $3.47 billion, up 4.22%; available-for-sale securities were $834.3 million, down 5.27%. Deposits increased 1.52% to $3.68 billion.
- Credit quality: Nonperforming assets were $40.3 million, down from $42.3 million at year-end and $50.5 million a year earlier. They were 1.14% of loans and leases, versus 1.25% at year-end and 1.51% a year earlier. The loan-loss reserve was $84.5 million, or 2.44% of loans and leases, versus 2.55% a year earlier. Nine-month net charge-offs were $0.44 million, compared with $3.10 million.
- Cash flow: For the first nine months, operating activities provided $68.7 million, investing activities used $142.3 million, and financing activities provided $81.5 million. Cash and cash equivalents increased $7.8 million to $91.8 million.
- Funding, debt, and capital: Short-term borrowings were $221.4 million, up from $169.2 million; long-term debt and mandatorily redeemable securities were $58.4 million, and subordinated notes were $58.8 million. Shareholders’ equity was $578.2 million; the equity-to-assets ratio was 12.44%. The Corporation’s total risk-based capital ratio was 15.89%, and Tier 1 leverage ratio was 11.91%.
- Dividends: The Q3 dividend was $0.17 per share; the nine-month dividend was $0.51 per share.
Material changes and management commentary
- Management attributed higher year-to-date earnings primarily to increased net interest income and a lower loan-loss provision. Lower funding costs and loan growth supported net interest income, while yields on earning assets declined in the low-rate environment.
- Trust fees increased, while equipment rental and mortgage banking income declined. Management cited a smaller average equipment rental portfolio, lower new-lease rates and competition; lower mortgage production reduced loan-sale gains.
- Q3 loan-loss provision was a recovery of $0.42 million, versus a $0.65 million provision in Q3 2012. Year-to-date provision was $1.63 million, versus $4.96 million.
- Accumulated other comprehensive income fell to $9.0 million from $19.5 million, mainly because of unrealized losses in the available-for-sale securities portfolio. Management reported no 2013 or 2012 other-than-temporary impairment write-downs and said it did not intend, and was not likely required, to sell the securities with unrealized losses before recovery.
- Other expense increased substantially year over year, primarily reflecting a prior-year gain on sale of the headquarters parking garage and a previously reported trustee matter in 2013; the filing does not provide a clear amount for the trustee matter.
Liquidity, outlook, and risks
- Management stated that available funding sources were adequate. At September 30, the company reported about $227.5 million of additional short-term bank borrowing capacity, $103.0 million of additional FHLB capacity, and $344.5 million available from the Federal Reserve, with no FRB borrowings outstanding.
- Management reported $178.4 million more assets than liabilities scheduled to reprice within one year. It cautioned that a future requirement to pledge collateral for public deposits could create a liquidity exposure of approximately $613 million.
- The company had $268.7 million of foreign loans and leases, all in aircraft financing; Brazil and Mexico exposures were $153.5 million and $58.5 million, respectively. Management noted aircraft-value risk, while saying values appeared to have stabilized in 2013, and identified commercial real estate as its largest impaired-loan exposure.
- The filing gives no specific earnings or financial guidance. Management’s forward-looking statements are subject to interest-rate, prepayment, economic, regulatory, competitive and credit-concentration risks. It reported no material change in market risks or risk factors since year-end 2012.
- Basel III capital standards were scheduled to become effective for the company on January 1, 2015. Management reported that the quarter’s disclosure controls were effective and that no material change in internal control over financial reporting occurred.
- Legal proceedings were described as incidental to business; management did not expect them to materially adversely affect financial position or results. The company reported no defaults upon senior securities.
Important facts for investors to verify
- Whether loan growth and lower nonperforming assets continue without a deterioration in credit quality, especially in aircraft and commercial real estate portfolios.
- How interest-rate changes affect net interest margin, securities values and the $10.5 million year-to-date decline in accumulated other comprehensive income.
- The amount and nature of the previously reported trustee matter reflected in higher other expense.
- Whether funding needs, short-term borrowings and potential public-deposit collateral requirements change the company’s liquidity position.
- How lower equipment rental and mortgage banking income, along with higher occupancy, technology and other expenses, affect future profitability.