First Financial Corporation — Q3 2013 Form 10-Q
Business context and period. The filing covers the unaudited quarter and nine months ended September 30, 2013. First Financial is a one-segment banking company. Comparisons below are with the corresponding 2012 periods or December 31, 2012, as applicable. Dollar amounts are in millions unless stated otherwise.
Financial performance and position
- Quarterly earnings: Net income was $8.5 million, up from $8.1 million; diluted EPS was $0.64 versus $0.61. Return on assets was 1.15% and return on equity was 9.12%.
- Nine-month earnings: Net income was $22.6 million versus $24.2 million, and EPS was $1.70 versus $1.83. Return on assets was 1.02% versus 1.12%; return on equity was 8.01% versus 9.06%.
- Interest income and margin: Q3 net interest income rose to $27.8 million from $27.4 million, while net interest margin declined to 4.30% from 4.55%. Nine-month net interest income decreased 3.1% to $79.7 million from $82.2 million. Lower loan interest income was partly offset by lower funding costs.
- Other income and expenses: Q3 non-interest income was $9.6 million, approximately flat year over year; nine-month non-interest income increased $0.2 million to $29.2 million. Q3 non-interest expense increased $1.9 million to $24.8 million, including a $1.3 million increase in other expenses, primarily loan collection costs. Nine-month expense was $70.4 million, up $0.9 million.
- Credit costs: The nine-month loan-loss provision was $6.5 million versus $7.3 million; Q3 provision was $0.5 million versus $2.6 million. Nine-month net charge-offs were $5.2 million versus $6.1 million. The allowance was $22.0 million at September 30, essentially unchanged from year-end; management considered it adequate.
- Asset quality: Non-performing loans declined to $42.3 million from $59.8 million at year-end. Allowance coverage of non-performing loans rose to 52.0% from 36.7%. Loans past due over 90 days and still accruing were $1.0 million; troubled debt restructurings were $19.5 million in the MD&A summary.
- Balance sheet: Total assets were $3.02 billion, up from $2.90 billion at year-end. Net loans were $1.79 billion versus $1.83 billion; deposits were $2.49 billion versus $2.28 billion. Management attributed the $210.9 million deposit increase primarily to the Bank of America branch acquisition. Shareholders’ equity was $375.1 million versus $372.1 million.
- Cash flow and distributions: Nine-month operating cash flow was $37.4 million versus $39.6 million. Investing cash flow was $22.0 million, including $177.3 million received in the branch transaction and $339.9 million of securities purchases. Financing cash flow was negative $65.7 million. Dividends paid were $12.8 million; dividends per share were $0.48 for the first nine months.
- Borrowings and capital: Short-term borrowings were $27.9 million versus $40.6 million at year-end; other borrowings, consisting of FHLB advances, were $58.4 million versus $119.7 million. The lead bank’s total risk-based, Tier I risk-based, and Tier I leverage capital ratios were 15.96%, 15.06%, and 11.26%, respectively. The company reported its subsidiary banks were well capitalized.
Material changes and unusual items
- On August 16, 2013, the bank acquired certain assets and assumed certain liabilities associated with seven Bank of America branches and two drive-up facilities in central and southern Illinois. The transaction included $189.3 million of deposits, $1.9 million of loans, and $1.9 million of recorded goodwill; management said it increased the bank’s presence in the Illinois market.
- Available-for-sale securities increased to $872.7 million from $691.0 million at year-end. Gross unrealized losses rose to $23.6 million from $8.2 million. Management said most losses reflected higher interest rates rather than issuer credit deterioration and did not consider the portfolio other-than-temporarily impaired, while noting that three collateralized debt obligations had previously recognized impairment.
- Other comprehensive loss was $13.7 million for the first nine months, mainly reflecting securities valuation changes. Consequently, comprehensive income was $9.0 million, compared with $27.7 million in the prior-year period.
- Q3 included a $1.3 million payment on an impaired CDO with a $0.2 million book value; the excess was recognized as interest income. Management said future payments on that security could not be estimated reliably.
- The FDIC indemnification asset fell to $1.2 million from $2.6 million at year-end. Changes in that asset increased the nine-month provision for loan losses by $1.2 million.
Outlook, liquidity, and risks
- No earnings or revenue guidance is provided. Management expects adequate liquidity, citing deposits, loan and securities repayments, and unused borrowing capacity. It anticipated $9.9 million of investment maturities, $90.2 million of mortgage-backed security principal payments, and $7.8 million of security calls over the next 12 months.
- Management identifies interest-rate risk as its most significant market risk. Its model estimates that a 100-basis-point rate increase would raise net interest income 3.12% over 12 months, while a 100-basis-point decrease would lower it 0.81%. The filing cautions that these simulations depend on assumptions and do not reflect management actions.
- Forward-looking risks include economic and market conditions, interest rates, competition, litigation, borrower losses, regulation, and accounting changes. The filing reports no material change in previously disclosed risk factors and no material pending legal proceedings beyond routine litigation.
- Management reported effective disclosure controls and no material change in internal control over financial reporting during the quarter.
Important facts for investors to verify
- Whether the acquired branches’ deposits and customer relationships produce durable growth and earnings, and how acquisition-related costs and goodwill develop.
- Whether the lower net interest margin and nine-month earnings trend stabilize as rates, asset yields, and funding costs change.
- Whether the decline in non-performing loans continues and the allowance remains sufficient, particularly given impaired loans, restructurings, and FDIC-related provision adjustments.
- How unrealized securities losses, Level 3 valuations, and the impaired CDO portfolio evolve; the filing notes that some security pricing estimates vary materially across providers.
- Whether projected liquidity sources and interest-rate sensitivity assumptions remain valid under changing market conditions.