CFR

Cullen/Frost Bankers, Inc. - 10-Q Summary (Period Ended June 30, 2004)

Business Context and Reporting Period

Cullen/Frost Bankers, Inc. is a financial holding company headquartered in San Antonio, Texas, operating primarily through its subsidiary, Frost Bank. The company provides commercial and consumer banking, trust and investment management, investment banking, and insurance brokerage services across 12 Texas markets. This report covers the quarterly period ended June 30, 2004.

Key Financial Metrics

Material Changes vs. Prior Period

• Net Income: For the three months ended June 30, 2004, net income decreased slightly by $0.1 million (0.3%) compared to the same period in 2003. However, for the six-month period, net income increased by $1.9 million (2.9%) compared to the prior year.
• Net Interest Income: Increased by $2.6 million (3.3%) for the quarter and $2.9 million (1.8%) for the six months compared to 2003. This was driven by a $136.2 million increase in the average volume of earning assets and a 7 basis point increase in net interest margin for the quarter.
• Provision for Loan Losses: Decreased significantly to $2.0 million for the quarter and $2.5 million for the six months, compared to $3.4 million and $7.0 million in the prior year periods, reflecting improved credit quality.
• Non-Interest Expense: Increased by $5.0 million (6.2%) for the quarter and $10.5 million (6.5%) for the six months compared to 2003, primarily due to higher salaries, wages, and employee benefits.
• Non-Interest Income: Increased by $1.1 million (2.0%) for the quarter and $6.4 million (6.0%) for the six months. Trust fees and service charges on deposit accounts were key contributors.

Guidance, Outlook, and Risks

• Interest Rate Environment: The company's balance sheet is asset-sensitive. Management expects the 25 basis point increase in the prime rate and federal funds rate (to 4.25% and 1.25% respectively) to have a positive impact on net interest income and margin.
• Capital Management: The company maintains two stock repurchase plans. As of June 30, 2004, it had repurchased 851,800 shares for $35.9 million under the first plan (approved Oct 2003). A second plan (approved April 2004) authorizes up to 2.1 million shares, with no purchases made under it yet.
• Dividends: Quarterly dividends were $0.265 per share for the second quarter of 2004, up from $0.24 in the first quarter.
• Risks and Contingencies:
  • Market Risk: Simulations indicate a 100 basis point increase in rates would result in a 1.7% positive variance in net interest income, while a 125 basis point decrease would result in a 3.3% negative variance.
  • Credit Risk: Non-performing assets decreased 12.5% to $46.2 million (0.48% of total assets). Impaired loans totaled $35.4 million.
  • Accounting Changes: The company is monitoring a proposed FASB rule regarding stock-based compensation which could require fair value accounting starting in 2005, potentially impacting reported earnings.

Investor Verification Checklist

• Loan Portfolio Quality: Verify the trend in non-performing assets (down to 0.96% of loans) and the adequacy of the allowance for loan losses (1.67% of total loans).
• Interest Rate Sensitivity: Confirm the asset-sensitive nature of the balance sheet and the projected impact of rising rates on net interest margin.
• Expense Management: Review the drivers of the 6.5% year-over-year increase in non-interest expenses, specifically salary and benefit costs.
• Capital Adequacy: Note that the company is "well capitalized" with a Tier 1 capital ratio of 13.08% and a leverage ratio of 9.12%.
• Stock Repurchases: Monitor the execution of the new 2.1 million share repurchase plan authorized in April 2004.