South State Corporation — Q1 2015 Form 10-Q
Business context and period: South State Corporation is a bank holding company operating through South State Bank, with approximately $8.0 billion in assets at March 31, 2015. This unaudited report covers the three months ended March 31, 2015; comparisons are principally with Q1 2014 and, for balance-sheet items, December 31, 2014.
Financial performance and condition
- Earnings: Net income was $23.9 million, up 41% from $16.9 million. Net income available to common shareholders increased 51% to $23.9 million from $15.8 million, partly reflecting preferred-stock dividends in Q1 2014. Diluted EPS was $0.99 versus $0.66; the common dividend was $0.23 per share versus $0.19.
- Interest income and margin: Net interest income declined 2.9% to $81.0 million from $83.5 million. Taxable-equivalent net interest margin fell 22 basis points year over year to 4.78% (4.73% on a non-taxable-equivalent basis), though it rose six basis points from Q4 2014. Lower yields on earning assets, including non-acquired loans and taxable securities, outweighed lower funding costs.
- Noninterest income and expenses: Noninterest income rose to $26.5 million from $20.5 million, including mortgage banking income of $6.6 million versus $3.3 million and lower FDIC indemnification asset amortization expense (negative $3.2 million versus negative $7.1 million). Noninterest expense fell to $70.5 million from $77.4 million, chiefly because Q1 2014 included $6.0 million of merger and branding costs. Salaries and benefits increased $1.9 million. The efficiency ratio was 65.1%, versus 73.8% a year earlier.
- Credit costs and asset quality: Loan-loss provision was $0.8 million, compared with $0.8 million in Q1 2014. The allowance was $38.3 million, including $33.5 million for non-acquired loans; that allowance equaled 0.94% of non-acquired loans and covered non-acquired nonperforming loans 1.22 times. Total nonperforming assets were $71.7 million, down from $102.6 million a year earlier. Management cautioned that unusually low net charge-offs may not persist.
- Balance sheet and funding: Total assets were $8.02 billion, up from $7.83 billion at year-end 2014. Net loans were $5.67 billion, little changed from year-end; non-acquired loans grew to $3.59 billion, while acquired loans continued to run off. Deposits were $6.63 billion, up from $6.46 billion at year-end and broadly level with a year earlier. Federal funds purchased and repurchase agreements were $276.8 million; other borrowings were $55.0 million, down from $101.2 million at year-end.
- Cash flow and liquidity: Cash and cash equivalents totaled $630.7 million, up from $417.9 million at year-end. Q1 operating cash flow was $17.2 million versus $31.7 million; investing activities provided $20.1 million and financing activities provided $175.6 million. Management described liquidity as adequate and reported no advances on $376 million in federal funds lines, $159.6 million available at the Federal Reserve discount window, and a $909.3 million FHLB facility, subject to stated usage and commitments.
- Capital: Shareholders’ equity was $1.01 billion. At March 31, the company reported CET1 of 12.26%, Tier 1 risk-based capital of 13.18%, total risk-based capital of 13.89%, and Tier 1 leverage of 9.53%; the Bank’s corresponding ratios were 12.93%, 12.93%, 13.63%, and 9.36%. Both were above applicable minimums and well-capitalized thresholds. Basel III adoption makes some prior-period ratio comparisons non-comparable.
Material changes, outlook, and risks
- Year-over-year earnings benefited from improved mortgage banking income, lower FDIC asset amortization, and the absence of prior-year merger and branding costs; these gains partly offset lower net interest income. Management reported no formal earnings or margin guidance.
- Non-acquired loans grew 20.4% year over year, while acquired loans declined with repayments, charge-offs, and transfers to foreclosed property. The acquired-loan portfolio’s accretable yield fell $64.1 million in a Q1 cash-flow recast, primarily because faster assumed prepayments changed the timing of expected receipts; management reported no impairment from this change.
- The CBT commercial shared-loss agreement with the FDIC expired March 31, 2015. Management anticipates lower FDIC indemnification asset amortization in subsequent quarters. Approximately $49 million of covered commercial loans and $2.3 million of covered OREO were no longer covered under that agreement.
- After quarter-end, the Bank agreed to acquire 13 Bank of America branches, with an expected assumption of about $580 million of deposits and $3 million of loans, subject to regulatory approval and customary conditions; closing was expected in Q3 2015. The company also planned to consolidate or sell 14 branches/ATM locations, with estimated one-time costs of $4.5 million in Q3 and Q4. A two-branch sale was expected to close in Q4, subject to approval.
- Key risks cited include credit quality and loan-loss estimation, interest-rate and liquidity exposure, deposit retention and funding costs, acquired-loan cash-flow assumptions, FDIC loss-share estimates, mortgage servicing right valuations, regulatory changes, cybersecurity, and execution of branch transactions. The filing reported no pending material legal proceedings outside the ordinary course and no material change in market-risk disclosures.
Important facts for investors to verify
- Whether loan growth, particularly in consumer real estate and commercial lending, continues without deterioration in credit quality or higher provisioning.
- How net interest margin responds to asset yields, deposit pricing, excess liquidity, and changes in interest rates.
- Whether mortgage banking results and lower FDIC amortization are sustainable, and how the CBT agreement expiration affects future results.
- Whether acquired-loan cash-flow estimates, FDIC indemnification values, and the $64.1 million accretable-yield adjustment develop as management expects.
- Regulatory approval, purchase economics, deposit retention, and integration costs for the branch acquisition and planned branch exits.