Customers Bancorp, Inc. — Q1 2018 Form 10-Q
Reporting period: Three months ended March 31, 2018; unaudited. Customers Bancorp is a bank holding company operating through Customers Bank, with Community Business Banking and BankMobile segments. Unless stated otherwise, financial amounts below are in U.S. dollars.
Financial performance and position
- Earnings: Net income was $24.1 million, down from $25.7 million in Q1 2017. Net income available to common shareholders was $20.5 million versus $22.1 million; diluted EPS was $0.64 versus $0.67.
- Revenue and margin: Net interest income rose 4.2% to $65.0 million. Tax-equivalent net interest margin declined to 2.67% from 2.73%, as higher deposit funding costs outweighed improved asset yields. Non-interest income was $20.9 million, down 8.1%.
- Costs and credit provision: Non-interest expense increased 5.9% to $52.3 million, principally due to higher salaries and employee benefits. Provision for loan losses fell to $2.1 million from $3.1 million. Income before taxes was $31.5 million versus $32.8 million.
- Balance sheet: Total assets grew 9.4% from year-end to $10.8 billion. Loans receivable, net of allowance, were $6.9 billion; loans held for sale were $1.9 billion; and investment securities were $1.2 billion. Shareholders’ equity was $919.1 million, compared with $921.0 million at December 31, 2017.
- Funding and debt: Deposits increased 3.6% to $7.0 billion. Total borrowings were approximately $2.7 billion, up about $0.7 billion from year-end, including $2.3 billion of FHLB advances and $195.0 million of federal funds purchased. The filing attributes increased borrowing needs mainly to growth in investments and loans.
- Liquidity and cash flow: Cash and cash equivalents ended at $215.4 million. Operating cash flow was negative $48.1 million, investing cash flow negative $802.1 million, and financing cash flow positive $919.3 million, producing a $69.1 million increase in cash. Management said available funding sources were adequate for expected short- and long-term needs. FHLB borrowing capacity was $4.8 billion; $2.3 billion was borrowed and $1.9 billion of capacity was used to collateralize state and municipal deposits. Unpledged marketable investments were $480.2 million.
- Capital and credit quality: Bancorp regulatory ratios included an 8.51% common equity Tier 1 ratio, 11.11% Tier 1 risk-based ratio, 12.55% total risk-based ratio, and 9.03% Tier 1 leverage ratio. The Bank and Bancorp met applicable capital requirements. Nonperforming loans were $23.2 million; the allowance for loan losses was $39.5 million, or 0.57% of loans receivable. Total nonperforming assets were reported as 0.23% of total assets.
Material changes versus the comparable period
- Common earnings declined 7.3%. Higher net interest income and lower loan-loss provision were more than offset by increased expenses and lower non-interest income.
- Interest expense rose to $31.9 million from $20.7 million, reflecting higher deposit rates and increased average borrowings. The cost of interest-bearing deposits increased to 1.38% from 0.93%.
- Non-interest income fell mainly because of lower BankMobile card activity and deposit fees. Q1 2018 interchange revenue is presented net of $1.5 million of related expense under newly adopted revenue accounting. On that basis, Q1 2017 interchange revenue would have been $12.6 million rather than the reported $13.5 million; the periods are not presented on a fully consistent basis.
- Investment securities increased by approximately $710 million from year-end, while accumulated other comprehensive loss widened to $26.2 million, principally reflecting unrealized losses on available-for-sale securities. Management said it did not intend to sell the securities and did not expect to be required to sell before recovery or maturity.
- Operating cash flow changed from positive $452.2 million in Q1 2017 to negative $48.1 million in Q1 2018. The filing attributes much of the difference to mortgage warehouse loan originations exceeding sale proceeds in 2018, whereas sales exceeded originations in the prior-year quarter.
- BankMobile reported a $1.0 million segment loss, compared with $1.5 million segment income in Q1 2017. Prior-year BankMobile results were reclassified from discontinued operations to held and used following the change in disposition strategy.
Outlook, risks, contingencies, and unusual items
- Management expected a more moderate pace of growth for the remainder of 2018, with an emphasis on moving from lower-yielding to higher-yielding assets and developing sustainable deposits to replace short-term borrowings and fund growth.
- Customers expected the BankMobile spin-off and merger with Flagship Community Bank to close in Q3 2018, subject to closing conditions. Flagship would separately purchase BankMobile deposits for cash. A $1.0 million escrow deposit could be payable to Flagship if the agreement is terminated under specified circumstances.
- Interest-rate simulations estimated net interest income through March 31, 2019 would change by negative 2.5% for an immediate 100-basis-point rate increase, negative 7.5% for 200 basis points, negative 14.8% for 300 basis points, and negative 1.8% for a 100-basis-point decrease. Estimated economic value of equity declined 28.8% under a 300-basis-point increase. Management said modeled results were within policy limits, while cautioning that actual outcomes depend on assumptions and market conditions.
- The company was evaluating the forthcoming CECL expected-credit-loss standard and said adoption could increase its allowance; the amount was not yet determined. It did not intend to early adopt.
- Q1 2018 included no investment-security impairment charge; Q1 2017 included a $1.7 million impairment charge related to Religare securities. The 2018 equity change also reflects substantial unrealized securities losses recorded in other comprehensive income.
- The filing reported no material changes to the risk factors or legal proceedings disclosed in the 2017 Form 10-K. It also disclosed material off-balance-sheet exposures, including $1.55 billion of unfunded mortgage warehouse commitments and $712.0 million of unfunded lines of credit; actual funding needs may be lower because some commitments expire undrawn.
Important facts for investors to verify
- Progress and final closing conditions for the BankMobile spin-off, merger, and deposit sale, including the expected Q3 2018 timing.
- Whether deposit growth can reduce reliance on FHLB and other borrowings while supporting balance-sheet growth and net interest margin.
- Trends in BankMobile activity and fee income, considering the accounting presentation change for interchange revenue.
- Performance and valuation of available-for-sale securities, given the $26.2 million accumulated other comprehensive loss and sensitivity to interest rates.
- Loan performance, allowance adequacy, and the eventual CECL adoption impact, especially across the concentrated commercial and multifamily portfolios.
- Realization of management’s projected moderate growth and higher-yielding asset mix, and the sensitivity of earnings and economic value to rate movements.