Trustmark Corporation — Q3 2017 Form 10-Q
Business context and reporting period. Trustmark is a regional bank holding company headquartered in Jackson, Mississippi, with 198 offices across Alabama, Florida, Mississippi, Tennessee and Texas. This filing covers the quarter and nine months ended September 30, 2017. It completed its acquisition of Reliance on April 7, adding seven Huntsville-area offices; Reliance’s results were included from that date.
Financial performance and condition
| Metric | Q3 2017 | Q3 2016 | Nine months 2017 | Nine months 2016 |
|---|---|---|---|---|
| Total revenue (net interest income plus noninterest income) | $148.4 million | $142.3 million | $444.2 million | $420.9 million |
| Net interest income | $103.9 million | $97.6 million | $303.5 million | $288.7 million |
| Net income | $34.6 million | $31.0 million | $89.9 million | $79.5 million |
| Diluted EPS | $0.51 | $0.46 | $1.32 | $1.17 |
| Fully taxable-equivalent net interest margin | 3.47% | 3.52% | 3.48% | 3.54% |
| Net provision for loan losses | $2.0 million | $5.0 million | $3.5 million | $11.7 million |
- Profitability and costs: Q3 return on average assets was 0.99% (0.95% prior year); nine-month return was 0.88% (0.83%). Noninterest expense rose 5.3% in Q3 and 6.6% year to date. Nine-month reported expense included a $17.6 million pension-plan termination charge and $3.2 million of Reliance merger costs.
- Balance sheet at September 30: Assets were $13.885 billion; LHFI was $8.407 billion, up 7.1% from year-end 2016 (6.6% excluding loans reclassified from acquired loans). Deposits were $10.232 billion, up 1.7%; excluding $166.0 million of Reliance deposits, they rose 0.1%. Shareholders’ equity was $1.583 billion.
- Funding and liquidity: Short-term borrowings increased 42.6% from year-end to $1.868 billion, mainly from increased short-term FHLB advances used to fund loan growth. Cash and due from banks totaled $350.1 million. Management reported $1.401 billion of additional FHLB Dallas borrowing capacity, $1.508 billion of repurchase-agreement capacity and $1.035 billion of Discount Window collateral capacity, and stated liquidity was sufficient for known needs.
- Cash flow, nine months: Operating activities provided $135.6 million, investing activities used $360.6 million and financing activities provided $247.4 million. Cash and cash equivalents increased $22.4 million to $350.1 million.
- Capital: Trustmark and its bank subsidiary met regulatory well-capitalized standards. Trustmark’s common equity Tier 1 ratio was 11.80%, total risk-based capital ratio 13.19%, and Tier 1 leverage ratio 9.61%. The quarterly dividend remained $0.23 per share; no shares were repurchased in the first nine months.
Material changes versus comparable periods
- Q3 net income increased 11.6% year over year, supported by loan growth and higher loan interest income, lower total loan-loss provision and $2.7 million of nontaxable bank-owned life-insurance proceeds. Higher funding costs and weaker mortgage banking income partly offset gains.
- Nine-month revenue rose 5.5% and net income rose 13.1%. Excluding significant non-routine items, management reported adjusted net income of $97.9 million and diluted EPS of $1.44, versus GAAP net income of $89.9 million and diluted EPS of $1.32. The adjustment excludes pension termination and Reliance costs and adds back nontaxable acquired-life-insurance proceeds.
- Net interest margin declined 5 basis points in Q3 and 6 basis points year to date, as deposit and borrowing costs increased faster than asset yields. Interest expense was up 96.1% in Q3 and 62.4% year to date.
- Credit indicators were mixed: nine-month net charge-offs fell to $0.3 million from $5.9 million, but nonaccrual LHFI rose to $69.3 million from $49.2 million at year-end. Nonperforming assets, excluding acquired loans, were $117.6 million, up $6.4 million.
- Mortgage banking income fell 39.9% in Q3 to $4.4 million, reflecting greater negative hedge ineffectiveness and lower loan-sale gains. Nine-month mortgage banking income increased 3.7% to $23.6 million.
Outlook, commentary, risks and unusual items
- Management described credit quality as strong overall, while noting downgrades tied principally to a large energy credit, a healthcare credit and four commercial credits. Nonaccrual loans included a $22.9 million energy-related balance. Energy loans totaled $234.0 million, or 2.8% of LHFI; management warned prolonged low oil prices could prompt further downgrades.
- Hurricane Harvey led to a $1.1 million increase in the LHFI allowance in Q3. No banking facilities in Trustmark’s Texas market were damaged; the company assessed affected borrowers and collateral.
- Management cited moderate economic improvement but continuing uncertainty around interest rates, Federal Reserve balance-sheet reduction, regional real estate and energy conditions, competition and deposit pricing. It gave no specific earnings or margin guidance. Acquired loan balances were expected to decline $20–$30 million in Q4, with an expected Q4 yield of 6%–7%, excluding recoveries.
- Interest-rate modeling estimated one-year net interest income would change by -2.4% under a +200-basis-point shock, -1.4% under +100 basis points and -5.3% under -100 basis points. Management cautioned these estimates depend on assumptions and exclude potential balance-sheet actions.
- The filing describes three Stanford Financial Group-related lawsuits involving the bank subsidiary. Trustmark said a loss was not probable and could not be reasonably estimated, recorded no litigation accrual, and stated it did not expect pending proceedings to have a material adverse effect on consolidated financial condition.
- The defined-benefit plan termination generated a $17.6 million charge in Q2; management expected annual pension expense to decline by $3–$4 million after distributions. Reliance merger consideration totaled $24.8 million, and merger transaction expenses were $3.2 million.
Important facts for investors to verify
- Whether loan growth continues to outpace deposit growth and require elevated short-term FHLB funding, and how this affects funding costs and net interest margin.
- Developments in the large energy and healthcare credits, nonaccrual loans, criticized/classified balances and the adequacy of the allowance, including subsequent Hurricane Harvey losses.
- Whether Q3 and year-to-date earnings growth persists after excluding life-insurance proceeds and non-routine pension and merger items.
- Quarterly mortgage production, gain-on-sale activity and hedge performance, given the sharp Q3 decline in mortgage banking income.
- Updates on the Stanford-related litigation, its potential exposure and any change in management’s loss assessment.