Hilltop Holdings Inc. — FY 2018 Form 10-K
Reporting period: Year ended December 31, 2018; filed February 15, 2019. This is an annual report, not a standalone Q4 filing. Hilltop is a diversified financial holding company with banking, broker-dealer, mortgage origination and property-and-casualty insurance businesses, concentrated primarily in Texas.
Financial results and condition
Unless otherwise stated, amounts are consolidated and in U.S. dollars.
| Metric | FY 2018 | FY 2017 |
|---|---|---|
| Interest income | $579.4 million | $507.2 million |
| Net interest income | $436.3 million | $421.7 million |
| Noninterest income | $1,022.8 million | $1,205.1 million |
| Income before taxes | $160.8 million | $243.3 million |
| Net income attributable to Hilltop | $121.4 million | $132.5 million |
| Diluted earnings per share | $1.28 | $1.36 |
| Effective tax rate | 21.8% | 45.3% |
- Consolidated net interest margin was 3.55%, down from 3.61%; taxable-equivalent margin was 3.56%, down from 3.63%. Interest expense rose to $143.1 million from $85.4 million.
- Operating cash flow was $389.5 million, versus cash used of $320.7 million in 2017. Investing activities used $289.7 million; financing activities provided $4.6 million. Cash, cash equivalents and restricted cash totaled $778.5 million at year-end, up from $674.0 million.
- At December 31, 2018, assets were $13.7 billion, deposits $8.5 billion, loans including loans held for sale approximately $8.3 billion, and stockholders’ equity $2.0 billion. Hilltop reported $1.4 billion of other indebtedness, including $150 million principal of 5% senior notes due 2025. Short-term borrowings were $1.1 billion.
- Asset quality improved: nonperforming assets were $61.6 million, or 0.45% of assets, versus $86.6 million, or 0.65%, in 2017. The allowance for loan losses was $59.5 million, 0.86% of gross loans; net charge-offs were 0.14% of average loans.
- Regulatory capital remained strong. Hilltop’s total risk-based capital ratio was 17.47% and common equity Tier 1 ratio 16.58%; PlainsCapital’s corresponding ratios were 14.63% and 13.90%. PlainsCapital was classified as well-capitalized.
Material changes versus 2017
- Net income attributable to Hilltop declined 8.4%, while pretax income fell 33.9%. Noninterest income decreased $182.3 million, mainly from lower mortgage production income and broker-dealer trading and advisory revenues.
- Broker-dealer pretax income fell to $32.6 million from $64.6 million, reflecting a $43.4 million decline in trading gains and lower public finance advisory fees; lower variable compensation partly offset the decrease.
- Mortgage origination pretax income fell to $12.9 million from $49.6 million. Originations declined 5.3% to $13.7 billion, and refinancing volume fell to $1.9 billion from $2.5 billion. Home-purchase loans were 86% of originations.
- Insurance returned to pretax income of $5.7 million from a $4.1 million loss, as weather-related losses declined. Its combined ratio improved to 97.0% from 106.5%; net premiums earned declined to $136.8 million from $142.3 million.
- Banking pretax income decreased to $152.4 million from $164.0 million. Higher deposit costs, lower acquired-loan discount accretion, BORO transaction costs and the wire-fraud loss offset loan growth and other benefits.
Outlook, commentary and risks
- No specific consolidated earnings guidance was provided. Management expected 2019 municipal issuance volume to be comparable to 2018 and projected approximately $1.0 million of monthly PrimeLending cost savings beginning in 2019 from branch and staffing reductions. The company expected affiliated business arrangement production to rise to about 10% of mortgage volume in 2019 from 6% in 2018.
- Hilltop acquired Bank of River Oaks on August 1, 2018 for $85 million cash; the acquisition added $326.6 million of loans and $376.4 million of deposits. Related 2018 transaction and integration expenses were $8.2 million.
- A second-quarter 2018 spear-phishing incident caused a $4.0 million wire-fraud loss and theft of sensitive customer information; approximately $0.5 million of related costs were also expensed. Hilltop may incur further legal, professional or customer-claim costs; it had not accrued future claims because loss was not considered probable.
- PrimeLending paid $13.5 million to DOJ and HUD in Q4 2018 to settle civil claims concerning certain FHA loans, without admitting liability or wrongdoing. The related indemnification liability was released.
- FDIC loss-share agreements were terminated in October 2018. The FDIC paid the Bank $6.26 million; the remaining indemnification asset and true-up accrual were removed without further income-statement impact.
- Management warned of sensitivity to interest rates and a flattening or inversion of the yield curve, which may pressure bank margins. Other key risks include Texas and real-estate concentration, severe weather and catastrophe exposure, cybersecurity, credit losses, competition, regulation, and LIBOR’s planned cessation after 2021.
- CECL takes effect January 1, 2020. Management expected a potentially material increase in the allowance at adoption and continued implementation costs through 2019.
- Hilltop paid $0.28 per share in 2018 dividends and repurchased $59.0 million of stock. In January 2019, it raised the quarterly dividend to $0.08 per share and authorized a new repurchase program of up to $50 million through January 2020, subject to board discretion and regulatory and capital constraints.
- The annual audit opinion was unqualified, and the auditor reported effective internal control over financial reporting.
Important facts for investors to verify
- Whether core earnings can stabilize as mortgage and broker-dealer revenue declined, and how much future results depend on acquired-loan discount accretion.
- The sustainability of deposit funding and net interest margin as deposit costs rise and the yield curve changes.
- Developments, insurance recoveries and potential customer claims related to the 2018 cyber and wire-fraud incident.
- Insurance reserve adequacy, reinsurance availability and catastrophe exposure; Texas represented 68.2% of 2018 gross premiums written, and management disclosed catastrophe losses could exceed reinsurance limits above $105 million.
- The eventual CECL allowance and capital impact, and the effect of new lease accounting on reported balance-sheet and regulatory-capital measures.
- Execution and costs of the BORO integration, PrimeLending restructuring and Hilltop Plaza project; the Plaza headquarters leases were expected to begin in Q4 2019.