Southside Bancshares, Inc. — Q3 2016 Form 10-Q
Business context and period. Unaudited consolidated results for the three and nine months ended September 30, 2016, compared with the same 2015 periods. Southside is a Texas-based bank holding company; it reported continued lending growth in Austin and Dallas–Fort Worth and opened a Frisco loan production office during the quarter. Amounts below are in millions unless stated otherwise.
Key financial results
| Metric | Q3 2016 | Q3 2015 | 9M 2016 | 9M 2015 |
|---|---|---|---|---|
| Net interest income | $33.9 | $33.3 | $104.9 | $100.0 |
| Provision for loan losses | $1.6 | $2.3 | $7.7 | $6.4 |
| Noninterest income | $11.7 | $9.4 | $32.7 | $29.1 |
| Noninterest expense | $28.4 | $26.6 | $83.6 | $84.5 |
| Net income | $12.9 | $11.8 | $37.8 | $32.3 |
| Diluted EPS | $0.49 | $0.44 | $1.43 | $1.21 |
- Q3 net income increased 9.4%; nine-month net income rose 16.9%. Higher interest and noninterest income supported growth, partly offset by increased funding costs and taxes.
- Tax-equivalent net interest margin declined to 3.19% from 3.35% in Q3 and to 3.35% from 3.41% for nine months. Net interest spread also narrowed in both comparisons. The filing attributes income growth mainly to higher average earning assets, despite pressure on margins.
- Q3 net securities gains were $2.3 million; nine-month gains were $5.5 million. Effective tax rates were 17.6% for Q3 and 18.3% for nine months, above the 2015 comparable rates, primarily because tax-exempt income was a smaller share of pretax income.
Financial position, cash flow and credit
- At September 30, 2016, total assets were $5.46 billion, up 5.9% from year-end 2015. Loans were $2.48 billion, up 2.1%; deposits were $3.58 billion, up 3.6%. Cash and cash equivalents increased to $199.1 million from $81.0 million.
- The securities portfolio totaled $2.40 billion. Securities were 43.9% of assets, compared with 43.5% at year-end. Management said the portfolio had been temporarily increased following the subordinated debt issuance and could be reduced as loan growth occurs.
- For the first nine months, operating cash flow was $66.6 million, investing cash outflow was $180.4 million, and financing cash inflow was $231.9 million. The increase in cash was largely supported by financing, including the subordinated debt issuance.
- Total FHLB advances were $1.17 billion. The company issued $100 million of 5.50% fixed-to-floating subordinated notes in September, due 2026; the fixed rate applies through September 2021, followed by a floating rate of three-month LIBOR plus 429.7 basis points. Total long-term obligations were $621.6 million, including the notes and long-term FHLB advances.
- Shareholders’ equity was $472.6 million, or 8.6% of assets. The company reported consolidated capital ratios of 12.29% CET1, 14.07% Tier 1 risk-based, 17.80% total risk-based, and 8.55% Tier 1 leverage; management said applicable capital requirements were met.
- Nonperforming assets fell to $16.0 million, or 0.29% of assets, from $32.5 million, or 0.63%, at year-end 2015. Nonaccrual loans declined to $8.5 million from $20.5 million. The allowance was $16.0 million, 0.64% of loans, versus $19.7 million and 0.81% at year-end.
- Nine-month loan charge-offs were $13.7 million, including $10.9 million on two large commercial relationships. The allowance declined despite $7.7 million of provision expense. Net charge-offs to average loans were 0.63% for nine months, versus 0.09% in 2015.
Material changes, outlook and risks
- Loan growth was concentrated in commercial real estate and construction, while commercial loans and individual loans declined. The individual loan contraction reflected continued runoff of the acquired Omni indirect auto portfolio. Management noted the commercial loan decline also included the two large charge-offs.
- Operating expenses included approximately $1.8 million related to terminating and exiting the Fort Worth operations facility lease, including a $310,000 loss on asset retirement. Nine-month results also included $1.7 million of expense related to early-retirement packages for 16 employees and $148,000 of FHLB prepayment fees.
- Management reported a positive modeled 12-month net interest income response to immediate rate changes: +2.21% and +2.18% under +100 and +200 basis-point shocks; +0.10% and +1.16% under −100 and −200 basis-point shocks. These are model estimates subject to assumptions, not guidance.
- No specific earnings or growth guidance was provided. Management described a strategy balancing loans, securities, deposits and FHLB funding, and said competitive loan pricing could pressure yields. It also cited interest-rate and yield-curve movements, MBS prepayments, liquidity and credit quality as important uncertainties.
- Texas energy-sector exposure was 1.13% of loans; management cautioned that prolonged low oil prices could affect Texas borrowers and the regional economy. Other stated risks include real estate collateral values, borrower credit, competition, regulatory changes, cybersecurity, litigation, and the effectiveness of hedges. Management considered ordinary-course litigation unlikely to materially affect the company.
- Off-balance-sheet commitments to extend credit were $648.5 million and standby letters of credit were $9.2 million. These amounts are not necessarily future cash requirements because some commitments may expire unused. The company reported no material changes to its previously disclosed risk factors and said disclosure controls were effective.
Important facts for investors to verify
- Whether credit quality and the allowance remain adequate after the $10.9 million charge-offs on two commercial relationships, and whether the decline in nonperforming assets is sustained.
- Whether loan growth—particularly commercial real estate and construction—can continue without further concentration or credit-quality deterioration.
- How rising deposit and wholesale funding costs affect net interest margin, especially following issuance of the 5.50% subordinated notes.
- Whether securities gains and the temporary increase in the securities portfolio are repeatable, and how changes in rates and MBS prepayments may affect earnings and equity.
- How the $657.7 million of credit commitments, FHLB funding reliance, and available liquidity develop; confirm actual capital and liquidity disclosures in subsequent filings.