OFG Bancorp — Q2 2017 Form 10-Q
Business context and reporting period. OFG Bancorp is a Puerto Rico-based financial holding company operating banking, wealth management and treasury businesses. This unaudited filing covers the quarter and six months ended June 30, 2017; balance-sheet comparisons are with December 31, 2016. Amounts below are U.S. dollars.
Financial performance and condition
| Metric | Q2 2017 | Q2 2016 | Six months 2017 | Six months 2016 |
|---|---|---|---|---|
| Interest income | $85.9m | $87.9m | $172.1m | $179.2m |
| Net interest income | $75.6m | $73.3m | $150.2m | $148.3m |
| Provision for loan losses | $26.5m | $14.4m | $44.2m | $28.2m |
| Non-interest income | $24.9m | $15.2m | $44.0m | $28.7m |
| Non-interest expense | $52.8m | $53.8m | $104.5m | $108.7m |
| Net income | $17.1m | $14.3m | $32.3m | $28.5m |
| Income available to common shareholders | $13.6m | $10.9m | $25.3m | $21.6m |
| Diluted EPS | $0.30 | $0.25 | $0.57 | $0.49 |
- Margins and returns: Q2 net interest margin was 5.18%, versus 4.65% a year earlier; six-month margin was 5.14%, versus 4.68%. Q2 return on average assets was 1.09%, return on average common equity 7.06%, and efficiency ratio 56.49% (58.76% in Q2 2016).
- Balance sheet at June 30: Assets were $6.236bn, down 4.1% from year-end; loans were $4.092bn, down 1.3%; investments were $1.222bn, down 10.3%. Deposits were $4.583bn, down 1.8%. Total borrowings were $627.3m, down 21.1%, including $453.5m of repurchase agreements and $137.5m of FHLB advances.
- Liquidity and cash flow: Cash and equivalents totaled $477.3m. The company also reported $667.8m of unpledged investment securities and $935.5m of additional FHLB borrowing capacity. For the six months, operating cash flow was $5.6m (versus $31.3m); investing cash flow was $183.0m (versus $394.8m); financing cash flow was negative $221.8m (versus negative $445.7m). Cash declined $33.1m.
- Credit and capital: The allowance for loan losses was $132.3m, up from $115.9m at year-end. Non-performing loans were $99.6m, down 7.9%; non-performing assets were $153.0m, or 2.83% of the stated asset base. Company CET1, Tier 1, total risk-based capital and leverage ratios were 14.66%, 19.14%, 20.42% and 13.69%, respectively. The Bank was well capitalized.
- Equity: Stockholders’ equity was $939.0m, up 2.0%. Tangible book value per common share was $15.51. The common share price was $10.00 at quarter-end, down from $13.10 at year-end. The quarterly common dividend remained $0.06 per share.
Material changes versus comparable periods
- Q2 net income rose 19.3% year over year, despite an 83.7% increase in loan-loss provision. Net interest income increased 3.1%, primarily because interest expense fell 28.9% as borrowings were reduced and repriced more cheaply.
- Q2 non-interest income rose 64.2%, largely reflecting a $6.9m gain on securities sales and the absence of the prior-year FDIC shared-loss expense. Core banking and financial-service revenue was slightly lower; wealth management and mortgage banking revenue also declined.
- For the first six months, net income increased 13.1%; higher net interest income and non-interest income more than offset increased credit provisions. The period also benefited from a $1.4m net FDIC shared-loss termination benefit, compared with $7.4m of expense in the prior-year period.
- Loan balances continued to shift from acquired to originated loans: acquired BBVAPR and Eurobank portfolios declined with repayments and maturities. The originated consumer and auto portfolios grew, while mortgage and commercial balances were lower than at year-end.
Outlook, commentary, risks and unusual items
- Management revised its expected 2017 effective tax rate to 29.15%, from its previous 38% estimate; the change produced a $2.1m favorable tax adjustment in Q2. No broader earnings or revenue guidance is provided in the supplied filing text.
- The Bank and FDIC terminated the Eurobank shared-loss agreements on February 6, 2017. OFG paid $10.1m and recorded a $1.4m net benefit; the related indemnification asset and true-up obligation were eliminated.
- OFG sold $166.0m of mortgage-backed securities, recognizing a $6.9m gain, and reduced repurchase-agreement funding. Separately, it agreed to sell a performing municipal loan; the filing describes a $4.3m pre-tax loss and sale proceeds of $28.8m, with settlement on July 5, 2017. Management said the transaction reduced near-term refinancing risk and municipal exposure.
- Credit risk remains tied to Puerto Rico’s recession, fiscal crisis, government restructuring and borrower conditions. Management cited the municipal loan sale and increased commercial-loan reserves; the Q2 provision included $4.3m related to the sale and an additional $5.9m general reserve for the municipal portfolio.
- Other key risks include interest-rate and market movements, funding availability and cost, reliance in part on brokered deposits and wholesale funding, regulatory changes, litigation, and potential further credit deterioration. Management reported no material change in previously disclosed risk factors. It considered the reasonably possible loss estimate for litigation and regulatory matters not significant, while noting adverse outcomes could affect results or cash flows in a particular period.
Investor verification priorities
- Verify the municipal-loan sale terms, recorded loss, July settlement and subsequent principal receipts, and reconcile the filing’s differing references to loan amount and exposure reduction.
- Assess the drivers and sustainability of the sharply higher loan-loss provision, especially commercial and Puerto Rico municipal exposure, and track delinquency, non-performing loan and charge-off trends.
- Separate recurring earnings from the securities gain, FDIC termination benefit and tax-rate adjustment; evaluate the impact of declining acquired-loan income on future net interest income.
- Review funding mix, brokered-deposit stability, repurchase-agreement maturities, FHLB capacity and cash-flow trends against upcoming obligations.
- Confirm the revised tax-rate outlook, capital ratios and buffers, and any subsequent developments in Puerto Rico’s fiscal situation or legal and regulatory matters.