Business context and reporting period
Western Alliance Bancorporation is a Phoenix-based bank holding company operating through Western Alliance Bank and regional banking divisions and specialized national business lines. This unaudited Form 10-Q covers the quarter and nine months ended September 30, 2017; comparisons are with the corresponding 2016 periods unless noted. Balance-sheet comparisons are with December 31, 2016.
Financial performance and condition
| Metric | Q3 2017 | Q3 2016 | Nine months 2017 | Nine months 2016 |
|---|---|---|---|---|
| Net interest income | $201.6 million | $172.5 million | $573.6 million | $481.9 million |
| Provision for credit losses | $5.0 million | $2.0 million | $12.3 million | $7.0 million |
| Non-interest income | $10.3 million | $10.7 million | $31.3 million | $32.4 million |
| Non-interest expense | $89.1 million | $85.0 million | $265.1 million | $242.3 million |
| Net income | $82.9 million | $67.1 million | $236.2 million | $190.0 million |
| Diluted EPS | $0.79 | $0.64 | $2.25 | $1.84 |
| Net interest margin | 4.65% | 4.55% | 4.63% | 4.58% |
- Q3 net income rose 23.6%; nine-month net income increased 24.3%. Q3 diluted EPS rose $0.15 year over year.
- Q3 net interest income increased $29.0 million, as growth in average earning assets and higher yields more than offset higher funding costs. Deposit interest expense and deposit costs increased as rates and balances rose.
- Management-reported operating PPNR, a non-GAAP measure, was $122.7 million in Q3, up 21.7% from $100.8 million. The operating efficiency ratio was 40.0%, compared with 43.0% in Q3 2016; the GAAP-related efficiency ratio on a tax-equivalent basis was 40.0%, versus 44.3%.
- At September 30, total assets were $19.92 billion, up 15.8% from year-end; loans, net of deferred fees and costs, were $14.52 billion, up 9.9%; and deposits were $16.90 billion, up 16.2%. Deposit growth was organic. Non-interest-bearing demand deposits were $7.61 billion.
- Cash and cash equivalents were $650.4 million. For the first nine months, operating cash flow was $271.1 million, investing cash outflow was $2.15 billion, financing cash inflow was $2.25 billion, and cash increased $365.9 million. Investing outflows principally reflected loan funding and purchases of securities; deposit growth was the main financing source.
- Qualifying debt was $372.9 million; customer repurchase agreements were $26.1 million. There were no short-term borrowings at quarter-end. The company had $3.08 billion of liquid assets, including unpledged marketable securities, and reported unused borrowing capacity of approximately $2.29 billion at the FHLB, $1.16 billion at the FRB, and $167.5 million on correspondent-bank lines.
- Regulatory capital ratios at the holding company were 10.4% Common Equity Tier 1, 10.8% Tier 1 capital, 10.1% Tier 1 leverage, and 13.3% total capital. Western Alliance Bank’s respective ratios were 11.0%, 11.0%, 10.2%, and 12.6%; both entities exceeded applicable well-capitalized thresholds.
Material changes and credit quality
- Loan growth was concentrated in commercial and industrial lending, construction and land development, and residential real estate. Commercial and industrial loans were $6.66 billion; CRE-related loans represented approximately 51% of total loans, versus 53% at year-end.
- The allowance for credit losses was $136.4 million, or 0.94% of gross loans, compared with $124.7 million at year-end. The nine-month provision rose to $12.3 million from $7.0 million, primarily reflecting organic loan growth. Annualized net charge-offs were 0.01% of average loans for Q3, versus 0.04% in Q3 2016.
- Nonperforming loans were $96.0 million, little changed from $95.0 million at year-end; nonperforming assets were $125.0 million, down from $142.8 million. Non-accrual loans increased to $55.0 million from $40.3 million, or 0.38% of gross loans versus 0.31%. Impaired loans increased to $121.4 million from $99.2 million.
- A $23.4 million net-balance non-accrual loan was charged down by $1.4 million during Q3 and sold after quarter-end without an additional loss on sale. The filing reports no material impairment charges on investment securities during the periods presented.
- Non-interest income declined modestly year over year, mainly because lending-related and SBA income was lower and 2016 included larger loan-sale gains. Nine-month non-interest expense rose 9.4%, reflecting growth-related staffing, professional fees, and deposit costs; 2016 included $6.4 million of acquisition/restructuring expense, versus none in 2017.
- The 2016 acquisition of GE Capital’s hotel-franchise loan portfolio is included in the prior-year comparison; it added the Hotel Franchise Finance business line. The filing reports no 2017 acquisition/restructuring expense for that transaction.
Outlook, management commentary, and risks
- The filing provides no specific earnings, loan-growth, deposit-growth, or margin guidance. Management said liquid assets were adequate for anticipated cash-flow needs over the next 90–120 days and that parent-company liquidity could support operations for more than twelve months under its stated assumptions.
- Management attributed improved margins to higher loan and securities yields in a rising-rate environment, while noting that higher deposit and funding costs partially offset the benefit. The company’s modeled 12-month net interest income was 6.8% higher under an immediate, sustained 100-basis-point rate increase and 6.6% lower under a 100-basis-point decrease. Modeled economic value of equity fell 1.2% under +100 bps and 12.1% under +400 bps. These are scenario estimates based on assumptions, not forecasts.
- Key exposures include CRE and C&I concentrations, real-estate collateral values, and geographic concentration in Arizona, Nevada, and California. Management also identifies deposit competition and withdrawal risk, interest-rate changes, credit losses, fraud and cybersecurity, reliance on third parties, growth-related control needs, regulatory compliance, and natural disasters as risks.
- Off-balance-sheet commitments to extend credit, credit-card commitments and guarantees, and standby letters of credit totaled $5.65 billion. These amounts are contractual commitments and do not necessarily represent future cash needs; a $5.6 million liability was recorded for related estimated credit losses.
- Management stated that routine litigation was not expected to have a material effect and reported no material pending legal proceedings. No material changes to previously disclosed risk factors or internal control over financial reporting were reported. The company was preparing to adopt the expected-credit-loss standard (CECL), with management still assessing implementation effects.
Important facts for investors to verify
- Whether loan growth and deposit growth remain sustainable, and how funding costs affect net interest margin.
- Trends in non-accrual and impaired loans, especially C&I exposures, and the adequacy of the allowance as the portfolio expands.
- Concentration and collateral risk in CRE and in the company’s Arizona, Nevada, and California markets.
- Deposit mix, including uninsured, reciprocal, brokered, and earnings-credit balances, and the availability of reported liquidity under stress.
- The assumptions behind management’s interest-rate sensitivity scenarios and the potential effects of rate changes on earnings and capital.
- Growth in commitments and the eventual credit-loss and funding consequences if customers draw those facilities.