First Commonwealth Financial Corporation — Q1 2017 Form 10-Q
Business context and period. Unaudited results for the three months ended March 31, 2017, compared with Q1 2016 unless otherwise noted. The company is a bank holding company. Its April 3, 2017 acquisition of DCB Financial Corporation, with approximately $550 million of assets and nine offices, closed after quarter-end and is not reflected in the period-end balance sheet.
Financial performance and position
| Metric | Q1 2017 / March 31, 2017 | Comparison |
|---|---|---|
| Net interest income | $51.8 million GAAP; $52.8 million fully taxable equivalent | GAAP: $48.8 million; fully taxable equivalent: $49.7 million |
| Net interest margin | 3.50% fully taxable equivalent | 3.29% |
| Noninterest income | $16.9 million | $13.7 million |
| Noninterest expense | $42.8 million | $38.1 million |
| Provision for credit losses | $3.2 million | $6.5 million |
| Net income / diluted EPS | $15.9 million / $0.18 | $12.5 million / $0.14 |
| Return on average assets / equity | 0.96% / 8.51% | 0.76% / 6.87% |
| Total assets | $6.81 billion | $6.68 billion at December 31, 2016 |
| Portfolio loans / deposits | $4.91 billion / $4.97 billion | $4.88 billion / $4.95 billion at December 31, 2016 |
| Short-term borrowings / long-term debt | $961.6 million / $80.8 million | $867.9 million / $80.9 million at December 31, 2016 |
| Shareholders’ equity | $761.0 million | $749.9 million at December 31, 2016 |
Operating cash flow was $27.4 million; investing activities used $127.7 million and financing activities provided $107.7 million. Cash and cash equivalents ended the quarter at $123.1 million, compared with $115.7 million at the start of the quarter. The quarterly dividend declared was $0.08 per share, up from $0.07 a year earlier.
Material changes and management commentary
- Net income rose $3.4 million year over year, supported by higher net interest and noninterest income and lower credit-loss provision, partly offset by higher expenses.
- Net interest income benefited from a 19-basis-point increase in earning-asset yield and growth in average loans. Management cited variable-rate loan repricing, improved deposit mix, and reinvestment of lower-yielding investment runoff.
- Noninterest income increased 23%, including higher service charges and card interchange income, $0.7 million of securities gains from an early redemption, and a more favorable derivatives mark-to-market comparison. Management cautioned that the derivatives mark-to-market change was unrealized.
- Noninterest expense rose 12%. Management attributed much of the increase to the 13 FirstMerit branches acquired in December 2016, and reported $0.6 million in DCB-related acquisition costs.
- Loans grew $28.6 million from year-end, principally in commercial and commercial real estate lending. Deposits rose $22.3 million, as demand and savings deposits increased and time deposits declined.
Credit, liquidity, risks, and contingencies
- The allowance for credit losses was $48.7 million, or 0.99% of loans, versus $50.2 million and 1.03% at year-end. Net charge-offs increased to $4.7 million from $2.1 million a year earlier; two commercial relationships accounted for substantial charge-offs.
- Nonperforming loans were $49.9 million, or 1.01% of loans, versus $41.8 million and 0.86% at year-end; the ratio was 1.29% a year earlier. Management attributed the quarterly increase mainly to new commercial problem credits and loans classified as held for sale. Allowance coverage of nonperforming loans was 105.20%, down from 120.02% at year-end.
- Management stated the allowance was adequate, while noting estimates could change with economic conditions, interest rates, borrower circumstances, delinquencies, and collateral values. Oil-and-gas industry commitments were $116.6 million, with $54.3 million outstanding.
- Management reported available borrowing sources, including $769.7 million of Federal Reserve collateralized borrowing capacity, $195.0 million of unused correspondent-bank lines, and FHLB capacity of $1.5 billion, against which $0.9 billion was outstanding. The one-year rate-sensitive asset/liability ratio was 0.74; the filing’s modeled immediate +100-basis-point scenario showed a 4.14% increase in annual net interest income, while a −100-basis-point scenario showed a 5.25% decrease. The company noted model assumptions and low-rate limitations.
- The company and bank met applicable capital requirements and were considered well-capitalized. At the holding company, total risk-based capital was 12.25% and common equity Tier 1 was 10.09%.
- Management did not expect pending litigation to materially affect consolidated financial position. It disclosed an aggregate reasonably possible loss range of $0–$7 million beyond recorded liabilities, which could nevertheless affect results or cash flows in a future period. A vehicle-repossession class action remained subject to settlement documentation and court approval.
- Investment risks include $40.2 million book value of below-investment-grade pooled trust-preferred securities, with $33.7 million estimated fair value; two securities had no excess subordination. No other-than-temporary impairment charge was recorded in Q1, but future impairment remains possible.
- No specific earnings guidance was provided. Management noted results for the quarter are not necessarily indicative of full-year results. Forward-looking risks include economic and interest-rate changes, credit quality, competition, regulation, technology, litigation, and acquisition integration. The filing reported no material change in previously disclosed risk factors.
Important facts for investors to verify
- Whether the DCB acquisition integrates as planned and how it affects expenses, deposits, loan growth, and capital.
- Trends in commercial nonperforming loans, charge-offs, oil-and-gas exposure, and allowance coverage.
- Whether net interest margin and funding costs hold up under changing interest rates and deposit competition.
- Whether the pooled trust-preferred securities’ cash-flow estimates and fair values remain supportable.
- Developments in the repossession litigation, other possible legal losses, and the company’s capacity to sustain dividends while funding growth.