Trustmark Corporation — Q1 2013 Form 10-Q
Reporting period: Three months ended March 31, 2013; balance-sheet figures are as of March 31, 2013. Trustmark is a regional financial services company operating about 220 offices in Alabama, Florida, Mississippi, Tennessee and Texas. Unless noted, financial amounts below are in millions.
Financial results and condition
| Metric | Q1 2013 | Q1 2012 / comparison |
|---|---|---|
| Net interest income | $89.0 | $86.9 |
| Noninterest income | $44.3 | $43.8 |
| Noninterest expense | $102.1 | $85.8 |
| Income before taxes | $34.0 | $41.9 |
| Net income | $24.9 | $30.3 |
| Diluted EPS | $0.38 | $0.47 |
| Net interest margin, fully taxable equivalent | 3.98% | 4.19% |
| Return on average assets | 0.93% | 1.25% |
- Net interest income increased $2.0 million, but total interest income declined slightly as lower loan and securities yields offset growth in acquired-loan income. Interest expense fell $2.5 million, primarily from lower deposit costs.
- Noninterest income rose 1.3%. Mortgage banking revenue increased to $11.6 million from $7.3 million, while other income shifted to a $1.2 million loss from $3.8 million of income. The 2012 comparison included a $2.8 million Bay Bank bargain-purchase gain; Q1 2013 included a $1.4 million FDIC indemnification asset write-down.
- Noninterest expense rose 19.1%, largely reflecting $9.4 million of BancTrust merger costs and $6.7 million of BancTrust operating expenses. Excluding BancTrust, expense increased 0.4%, according to management.
- Cash and cash equivalents ended at $242.9 million. Operating cash flow was negative $10.6 million, investing cash flow negative $145.4 million and financing cash flow positive $167.5 million. The quarter-end cash balance increased $11.4 million.
- Total assets were $11.85 billion, up from $9.83 billion at year-end 2012; total deposits were $9.91 billion, up from $7.90 billion. The increases primarily reflect BancTrust. Shareholders’ equity was $1.35 billion.
- Loan balances included $5.47 billion of loans held for investment and $1.05 billion of net acquired loans. The allowance for LHFI was $76.9 million, or 1.40% of LHFI. The LHFI provision was a $3.0 million reversal, compared with a $3.3 million provision in Q1 2012; net recoveries were $1.1 million versus net charge-offs of $1.9 million.
- Reported nonperforming assets, excluding acquired loans and covered other real estate, were $201.7 million, up $41.2 million from year-end; the increase was mainly associated with $41.2 million of BancTrust-acquired other real estate. Nonaccrual LHFI were $83.3 million, up 1.2% from year-end.
- Trustmark National Bank was classified as well-capitalized. At March 31, its total risk-based capital ratio was 13.52%, Tier 1 risk-based ratio 12.10%, and Tier 1 leverage ratio 9.23%. The filing reports that the Q1 regulatory capital ratios were revised from figures previously furnished in an 8-K to correct deferred-tax-asset treatment.
Material changes and strategic developments
- Trustmark completed its BancTrust merger on February 15, 2013, issuing about 2.24 million Trustmark shares valued at approximately $53.5 million and repurchasing BancTrust’s $50 million Treasury preferred stock and warrant for about $52.6 million. BancTrust added entry into more than 15 Alabama markets and strengthened Trustmark’s Florida Panhandle presence.
- BancTrust contributed $9.4 million of revenue and approximately $2.0 million of net income through March 31, excluding non-routine merger expenses. Its results are included only from the acquisition date; the filing cautions they are not necessarily indicative of future results. The acquisition-date fair-value allocation remained preliminary.
- Trustmark’s reported balance sheet expanded materially with the acquisition. Securities available for sale rose to $3.55 billion from $2.66 billion at year-end, partly from BancTrust and securities purchases. LHFI declined $118.4 million from year-end, principally from mortgage paydowns and the continued reduction of indirect auto lending.
- Management reported year-over-year reductions in classified LHFI of $76.9 million (24.7%) and criticized LHFI of $86.2 million (21.6%). However, these comparisons are not the same as the reported quarter-over-quarter increase in nonperforming assets, which includes acquired other real estate.
Liquidity, debt and outlook
- Deposits are the primary funding source. Short-term borrowings were $266.1 million, down from $375.7 million at year-end, as deposit growth eased funding pressure. Trustmark reported $1.83 billion of available FHLB borrowing capacity, $677.1 million of repurchase-agreement capacity and $849.6 million of Discount Window collateral capacity.
- Debt and funding instruments included $49.9 million of subordinated notes, $94.9 million of junior subordinated debt securities and $11.0 million of FHLB advances at quarter-end. Trustmark redeemed $15 million of BancTrust trust preferred securities on April 29, 2013, and gave notice of its intent to redeem a further $18 million in June 2013.
- Management described the economic outlook as uncertain, citing persistent local-market pressures, consumer uncertainty, and potential indirect effects from European financial-market volatility. Trustmark reported no direct or indirect European sovereign or non-sovereign debt exposure and no Eurozone funding dependence.
- No specific earnings or growth guidance was provided. Management said it maintained excess funding capacity and continued cautious underwriting, particularly in certain real estate categories. It also identified downward repricing of fixed-rate assets and a shift toward lower-yielding securities as pressures on margin.
- Interest-rate sensitivity modeling estimated annual net interest income declines of 1.1% in a +200-basis-point scenario and 4.5% in a -100-basis-point scenario. These are model estimates using static balances, not forecasts; management cautioned actual outcomes could differ.
- Debit-card interchange regulation is expected to apply after Trustmark exceeds the $10 billion asset threshold at the December 2013 measurement date. Management estimated a potential annual noninterest-income reduction of $6–$8 million beginning July 2014. Changes to overdraft processing were estimated to reduce service-charge income by about $3 million annually.
Risks, contingencies and unusual items
- Trustmark highlighted credit, real-estate valuation, interest-rate, deposit-retention, competition, regulatory, litigation, acquisition-integration and broader economic risks. It specifically warned that further deterioration in loan performance, increased foreclosures or declining asset values could materially harm results.
- Two Stanford Financial Group-related lawsuits and two putative class actions concerning overdraft/NSF fees remained pending. Plaintiffs had not quantified requested damages. Management considered losses not probable and said no accrual was required; it could not estimate a possible loss range if losses were viewed as reasonably possible.
- Off-balance-sheet commitments to extend credit totaled $2.091 billion. Letters of credit had maximum exposure of $156.1 million; the filing notes these are commitments and do not necessarily represent expected cash requirements.
- Other unusual or judgment-sensitive items include BancTrust’s preliminary purchase accounting, acquired-loan cash-flow estimates, the FDIC indemnification asset, goodwill and intangible valuations, mortgage servicing rights and mortgage-loan repurchase exposure. The mortgage servicing putback reserve was $7.3 million; Q1 putback expense was $0.6 million.
- Management reported effective disclosure controls and no material change in internal control over financial reporting during the quarter.
Important facts for investors to verify
- How much of the earnings decline reflects recurring operating trends versus BancTrust merger costs, acquisition accounting and other one-time or valuation items.
- Whether BancTrust integration, expected cost savings and preliminary fair-value estimates develop as anticipated; the filing gives no quantified synergy target.
- Credit performance after acquisition, including acquired-loan cash flows, nonaccruals, classified loans and the elevated level of foreclosed real estate.
- Whether deposit growth and available borrowing capacity remain adequate, and how planned trust-preferred redemptions affect funding costs and capital.
- The potential effect and timing of debit-card interchange regulation, lower overdraft fees, interest-rate changes and mortgage servicing valuation assumptions.
- Developments in the Stanford and overdraft-fee litigation, for which the filing provides no quantified potential loss range.