Business context and reporting period
Regions Financial Corporation, a bank holding company headquartered in Birmingham, Alabama, filed this unaudited Form 10-Q for the quarter ended June 30, 2013. It provides banking and related services across the South, Midwest and Texas through Business Services, Consumer Services and Wealth Management. Morgan Keegan was sold in April 2012; its remaining results and related expenses are reported as discontinued operations.
Key financial results and position
Amounts are in U.S. dollars; financial statement amounts are in millions unless stated otherwise.
| Metric | Q2 2013 | Q2 2012 | Change / context |
|---|---|---|---|
| Net income | $267 | $355 | Down $88 |
| Net income available to common shareholders | $259 | $284 | Down $25 |
| Diluted EPS | $0.18 | $0.20 | Lower year over year |
| Net interest income, GAAP | $808 | $838 | Down $30 |
| Net interest margin, taxable-equivalent | 3.16% | 3.16% | Unchanged |
| Provision for loan losses | $31 | $26 | Up $5 |
| Non-interest income | $497 | $507 | Down $10 |
| Non-interest expense | $884 | $842 | Up $42, including $56 loss on early debt extinguishment |
For the six months ended June 30, 2013, net income was $602 million and net income available to common shareholders was $586 million, versus $554 million and $429 million, respectively, in 2012. Continuing-operations diluted EPS was $0.41 versus $0.34. Net interest income on a taxable-equivalent basis was $1.632 billion, compared with $1.689 billion; the six-month margin was 3.15% versus 3.13%.
At June 30, total assets were $118.7 billion, down from $121.3 billion at December 31, 2012. Loans were $75.0 billion, up about $1.0 billion; deposits were $92.5 billion, down $3.0 billion. Total borrowed funds were $8.7 billion, compared with $7.4 billion at year-end, including $3.9 billion of short-term borrowings and $4.9 billion of long-term borrowings. Cash and cash equivalents were $4.3 billion, versus $5.5 billion at year-end.
For the first half, operating cash flow was $2.167 billion, investing cash outflow was $1.465 billion, financing cash outflow was $1.911 billion, and cash and cash equivalents declined $1.209 billion. Shareholders’ equity was $15.3 billion. The reported Tier 1 common risk-based ratio was 11.09%; estimated Basel III Tier 1 common ratio was 10.31%. Tangible common equity to tangible assets was 8.72%.
Material changes versus comparable periods
- Q2 common earnings declined year over year, principally as higher expenses coincided with lower net interest income and non-interest income. The $56 million debt-extinguishment loss was a significant unusual expense.
- Credit performance improved: first-half net charge-offs were $324 million, or 0.88% annualized of average loans, versus $597 million and 1.56% in 2012. Non-performing assets fell to $1.7 billion from $1.9 billion at year-end; non-performing loans excluding held-for-sale loans declined to $1.5 billion from $1.7 billion.
- The allowance for loan losses declined to $1.636 billion from $1.919 billion, or 2.18% of loans versus 2.59% at year-end. The six-month provision fell to $41 million from $143 million.
- Management reduced the securities portfolio by $2.8 billion from year-end, and transferred $2.4 billion of available-for-sale securities to held-to-maturity. Interest-rate-driven unrealized losses contributed to a $543 million first-half decline in accumulated other comprehensive income, net of tax.
- Time deposits continued to run off, contributing to lower deposits; Regions also increased short-term secured borrowing. Long-term borrowings declined by about $1.0 billion after maturities and redemptions, partly offset by a $750 million 2.00% senior-note issuance.
- Regions repurchased approximately 18 million common shares for about $173 million under a $350 million authorization and declared $0.04 per share in common dividends for the first half, compared with $0.02 for the first half of 2012.
Outlook, commentary, risks and contingencies
- Management expected net loan charge-offs to continue improving in 2013 versus 2012, while noting that real estate values, interest rates, unemployment and large individual credits could cause quarter-to-quarter volatility. It anticipated non-performing assets would continue to improve.
- Assuming interest rates remained at June 30 levels or rose, management expected modest margin expansion over time. The company’s interest-rate simulations estimated that a 100-basis-point increase in long-term rates would add about $120 million to net interest income over 12 months versus the base case; a 50-basis-point shortfall would reduce it about $70 million. These are scenario estimates, not earnings guidance.
- Regions reported an estimated $250–$350 million of potential problem commercial and investor real estate loans that could migrate to non-accrual in the following quarter. Home equity remained a stressed portfolio, particularly second liens in Florida.
- Basel III U.S. rules were finalized in July 2013, with implementation beginning in 2015 and requirements phased in through 2019. Regions said it was evaluating the effects and estimated its June 30 Basel III Tier 1 common ratio at 10.31%; the calculation was preliminary and non-GAAP.
- Goodwill totaled $4.8 billion. Interim testing found no impairment, but the Business Services reporting unit’s estimated fair value ($8.2 billion) was below its carrying amount ($9.0 billion); the second-step test indicated implied goodwill exceeded carrying goodwill by approximately 89%.
- Possible litigation losses above accrued amounts were estimated at up to approximately $60 million, though Regions said it could also incur no additional loss. The Morgan Keegan indemnification obligation had a $257 million carrying value; its maximum potential future payments were described as indeterminable. Management said pending litigation was not expected to materially affect the company as a whole, while acknowledging an adverse outcome could be material in a particular period.
- Regions disclosed 2013 denial-of-service attacks that temporarily affected website performance and access; it reported no client-data breach. Other stated risks include regulatory change, credit losses, interest-rate and liquidity risk, cyber threats, competition and possible rating downgrades.
- S&P revised its outlook to positive in June 2013 while affirming ratings; Fitch also had a positive outlook. Regions said its capital ratios exceeded current regulatory requirements and its liquidity position was strong.
Important facts for investors to verify
- Whether underlying operating earnings and margins improve after excluding the $56 million debt-extinguishment charge, and whether revenue pressures persist.
- Whether improving credit trends continue, particularly for Florida second-lien home equity, potential problem commercial loans, and troubled debt restructurings.
- Whether deposit outflows and increased short-term borrowing affect funding costs, liquidity or lending capacity.
- How interest-rate movements affect net interest income, securities values, accumulated other comprehensive income and mortgage servicing rights.
- Whether Basel III implementation, goodwill valuation assumptions, litigation and Morgan Keegan indemnification estimates change materially.
- Whether planned share repurchases and dividends remain consistent with regulatory approval, capital needs and operating performance.