Cullen/Frost Bankers, Inc. — Q1 2016 Form 10-Q
Business context and period. Cullen/Frost is a Texas-based financial holding company providing commercial and consumer banking, wealth management, insurance and related services. This unaudited filing covers the three months ended March 31, 2016; comparative income and cash-flow figures are for Q1 2015, while balance-sheet comparisons are to December 31, 2015. Interim results are not necessarily indicative of full-year results.
Key financial results
| Metric | Q1 2016 | Comparable |
|---|---|---|
| Net interest income | $189.7 million | $180.7 million, Q1 2015 |
| Net interest margin, taxable-equivalent | 3.58% | 3.41%, Q1 2015 |
| Provision for loan losses | $28.5 million | $8.2 million, Q1 2015 |
| Non-interest income | $96.1 million | $83.2 million, Q1 2015 |
| Non-interest expense | $179.2 million | $171.5 million, Q1 2015 |
| Net income | $68.8 million | $72.2 million, Q1 2015 |
| Net income available to common shareholders | $66.8 million; diluted EPS $1.07 | $70.1 million; diluted EPS $1.10, Q1 2015 |
| Return on average assets / average common equity | 0.96% / 9.55% | 1.02% / 10.34%, Q1 2015 |
| Operating cash flow | $130.1 million | $54.8 million, Q1 2015 |
Balance sheet and funding at March 31, 2016: Total assets were $28.4 billion, down from $28.6 billion at year-end 2015. Loans were $11.54 billion, up $55.5 million from year-end; deposits were $24.16 billion, down $186.6 million. Cash and cash equivalents were $3.86 billion, up from $3.59 billion. Shareholders’ equity was $2.99 billion. Federal funds purchased and repurchase agreements were $693.9 million; junior subordinated debentures were $136.1 million and other long-term borrowings were $99.9 million. The filing reports $201.2 million of parent-company liquid assets, including cash and resell agreements.
Credit, liquidity and capital: The allowance for loan losses was $161.9 million, or 1.40% of loans, compared with $135.9 million, or 1.18%, at year-end. Net charge-offs were $2.5 million; non-performing assets rose to $180.0 million, or 0.63% of assets, from $85.7 million, or 0.30%. Cullen/Frost’s Common Equity Tier 1, Tier 1, total capital and leverage ratios were 11.82%, 12.66%, 14.39% and 7.96%, respectively; Frost Bank’s were 12.72%, 12.72%, 13.67% and 7.98%. Both exceeded applicable fully phased-in minimums and well-capitalized thresholds. Management reported no known event reasonably likely to materially adversely affect liquidity, capital resources or operations.
Material changes versus prior period
- Common earnings fell $3.4 million, or 4.8%, year over year. Higher loan-loss provision (+$20.3 million) and non-interest expense (+$7.6 million) more than offset higher net interest income (+$9.0 million), higher non-interest income (+$12.9 million) and lower tax expense.
- Taxable-equivalent net interest income rose $12.5 million, or 5.8%; management attributed about $1.5 million to the extra day in leap-year Q1. Excluding that effect, the increase was approximately $11.0 million. Net interest margin improved 17 basis points.
- Non-interest income included $14.9 million of net securities gains, versus $0.2 million a year earlier. Gains reflected sales of Treasury securities and municipal securities, including securities sold after deterioration in certain Texas issuers’ creditworthiness.
- Energy loans declined 5.8% from year-end to $1.66 billion, but credit quality weakened: non-accrual energy loans increased to $114.1 million from $21.2 million; classified energy loans rose to $317.3 million from $98.0 million; and the energy portfolio’s weighted-average risk grade worsened to 8.18 from 6.89.
- Cash flow from investing activities was $562.9 million, largely reflecting securities sales and maturities, compared with a $355.4 million outflow in Q1 2015. Financing activities used $421.1 million, including deposit runoff, lower short-term borrowings and $34.9 million of dividends.
Outlook, commentary and risks
- Management said it expects net charge-offs to increase in the near term given challenges facing the energy industry. It cited sustained low oil prices, worsening energy borrower risk grades and increased specific reserves as key credit concerns.
- The company stated its balance sheet has historically been asset-sensitive. Its March 2016 model projected net interest income changes versus a flat-rate case of -0.1% for a 100-basis-point increase, +0.7% for a 200-basis-point increase and -5.9% for a 50-basis-point decrease over the next 12 months. These estimates assume interest begins to be paid on certain commercial demand deposits in Q2 2016.
- No specific earnings or revenue guidance was provided. Management cautioned that actual results may differ and identified economic and commodity-market conditions, borrower performance, interest rates, regulation, liquidity, competition, technology and operational risks among factors that could affect results.
- Legal claims were described as ordinary-course matters; management did not expect their disposition to materially adversely affect the financial statements. The filing reported no material change to previously disclosed risk factors.
- There were no active stock repurchase plans. The common dividend was $0.53 per share for the quarter, versus $0.51 in Q1 2015.
Most important facts for investors to verify
- Whether energy borrower performance, non-accrual balances, classified loans and required reserves continue to deteriorate or stabilize, and whether the allowance proves adequate.
- Whether the large Q1 securities gains are repeatable; they were driven by asset sales and should be distinguished from recurring operating income.
- Whether deposit balances, funding costs and the planned pricing of commercial demand deposits affect net interest margin and the filing’s interest-rate sensitivity assumptions.
- Whether loan growth, deposit trends and liquidity remain consistent with management’s assessment; distinguish consolidated cash from the parent’s reported $201.2 million of liquid assets.
- Whether capital ratios, dividend capacity and credit quality remain robust under changing oil prices and broader economic conditions.