Business Context and Reporting Period
Prosperity Bancshares, Inc. is a Texas-based financial holding company whose principal subsidiary, Prosperity Bank, provides banking products and services to businesses and consumers in Texas and Oklahoma. The unaudited Form 10-Q covers the three and six months ended June 30, 2013, with comparisons to the corresponding 2012 periods and balance-sheet comparisons to December 31, 2012. The Bank operated 219 full-service locations at June 30, 2013.
Financial Performance and Position
| Metric | Three Months Ended June 30, 2013 | Three Months Ended June 30, 2012 | Six Months Ended June 30, 2013 | Six Months Ended June 30, 2012 |
|---|---|---|---|---|
| Net interest income | $118.7 million | $83.7 million | $226.8 million | $165.5 million |
| Provision for credit losses | $2.6 million | $0.6 million | $5.4 million | $0.8 million |
| Noninterest income | $25.3 million | $13.7 million | $48.7 million | $27.6 million |
| Noninterest expense | $61.3 million | $40.8 million | $117.1 million | $81.2 million |
| Net income | $53.8 million | $37.0 million | $103.1 million | $73.5 million |
| Diluted EPS | $0.89 | $0.78 | $1.76 | $1.55 |
- Second-quarter net income increased 45.6%; six-month net income increased 40.4%.
- Tax-equivalent net interest margin was 3.43% in both the second quarter and first six months of 2013, compared with 3.55% and 3.60%, respectively, in the comparable 2012 periods.
- Second-quarter return on average assets was 1.33%, return on average common equity was 9.27%, and the efficiency ratio was 42.51%. Six-month figures were 1.33%, 9.25%, and 42.46%, respectively.
- Total assets were $16.27 billion, up 11.6% from December 31, 2012. Loans were $6.17 billion, up 19.2%, and deposits were $12.51 billion, up 7.4%.
- Shareholders’ equity was $2.35 billion, up 12.2% from year-end 2012. Capital ratios were 14.91% total risk-based capital, 14.15% Tier 1 risk-based capital, and 7.07% Tier 1 leverage on a consolidated basis.
Cash Flow, Debt, Liquidity, and Credit Quality
- Six-month operating cash flow was $167.8 million, compared with $85.0 million in 2012. Investing activities used $366.7 million, while financing activities provided $123.7 million.
- Cash and cash equivalents declined to $251.1 million from $326.3 million at December 31, 2012, primarily reflecting securities purchases, deposit changes, loan growth, debt repayments, dividends, and acquisition activity.
- Total other borrowings were $781.2 million, including $770.0 million of short-term FHLB advances. Repurchase agreements were $481.2 million, and junior subordinated debentures were $85.1 million.
- The Company reported $3.78 billion of total funds available under its FHLB agreement, of which $781.2 million was outstanding at June 30, 2013.
- Off-balance-sheet commitments totaled $1.20 billion, consisting of $1.16 billion of commitments to extend credit and $40.4 million of standby letters of credit.
- The allowance for credit losses was $56.2 million, or 0.91% of total loans, compared with $52.6 million, or 1.01%, at December 31, 2012. Six-month net charge-offs were $1.7 million, compared with $2.0 million in 2012.
- Nonperforming assets were $14.9 million, or 0.24% of loans and other real estate, versus $13.0 million and 0.25% at year-end 2012. Nonaccrual loans declined to $4.3 million from $5.4 million, while other real estate owned increased to $10.2 million from $7.2 million.
- Securities totaled $8.02 billion, or 49.3% of assets. Held-to-maturity securities had $126.3 million of gross unrealized losses, principally related to mortgage-backed securities. Management considered the impairments temporary and recorded no OTTI loss in earnings.
Material Changes Versus Prior Comparable Period
- Growth in net interest income was driven primarily by higher average earning assets following acquisitions; purchase-accounting accretion contributed $12.0 million in the second quarter and $26.3 million for the six months, compared with $0.8 million and $0.7 million, respectively, in 2012.
- Average earning assets increased substantially, but asset yields and the tax-equivalent net interest margin declined. Average rates paid on interest-bearing liabilities also declined.
- Noninterest income increased 85.1% in the quarter and 76.5% year to date, principally due to the larger customer base and products obtained through acquisitions, including trust and mortgage services.
- Noninterest expense increased 50.3% in the quarter and 44.1% year to date, primarily from higher salaries, benefits, and general administrative costs associated with the expanded franchise.
- The Company completed acquisitions of East Texas Financial Services on January 1, 2013 and Coppermark Bancshares on April 1, 2013. Coppermark added nine banking offices in Oklahoma and the Dallas area and was funded with approximately 3.26 million shares of common stock and $60.0 million in cash.
- Goodwill increased to $1.35 billion, including $117.9 million associated with Coppermark and $16.9 million associated with East Texas Financial Services. No goodwill impairment was recorded.
- Beginning in July 2013, the Company became subject to the Durbin Amendment because assets exceeded $10 billion, which may reduce debit-card interchange revenue.
Outlook, Commentary, Risks, and Unusual Items
- The filing does not provide a formal earnings or financial guidance range. Management describes a strategy focused on internal growth, cost control, and acquisitions.
- On July 1, 2013, the Company announced a definitive agreement to acquire FVNB Corp. and First Victoria National Bank. FVNB reported approximately $2.4 billion of assets, $1.6 billion of loans, and $2.2 billion of deposits at June 30, 2013. Consideration is expected to include approximately 5.57 million Prosperity shares and $91.25 million in cash, subject to adjustments and closing conditions.
- The FVNB transaction remains subject to regulatory approvals and FVNB shareholder approval; completion is not assured.
- Key stated risks include credit deterioration, concentration in commercial and real estate lending, interest-rate and securities valuation changes, deposit and liquidity pressures, acquisition integration and goodwill impairment, regulatory changes, higher FDIC assessments, technology costs, and reliance on key personnel.
- Management stated that disclosure controls were effective at June 30, 2013 and that there were no material changes in internal control over financial reporting during the quarter. Routine legal proceedings were not expected to have a material adverse effect.
Important Facts for Investors to Verify
- Whether purchase-accounting accretion remains elevated and how results perform excluding acquisition-related accretion.
- The closing status, regulatory approvals, financing, dilution, and integration assumptions for the FVNB acquisition.
- The sustainability of loan and deposit growth relative to capital, liquidity, and funding costs.
- Credit trends in commercial real estate, construction, commercial and industrial, and acquired PCI loan portfolios.
- The effect of the Durbin Amendment on debit-card interchange income and the resulting efficiency ratio.
- Potential sensitivity of the large securities portfolio, accumulated other comprehensive income, and capital to interest-rate increases.
- Future goodwill impairment testing and measurement-period adjustments related to recent acquisitions.