CVB FINANCIAL CORP quarterly report, Q2 FY2013

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CVB Financial Corp. — Q2 2013 Form 10-Q

Business context and reporting period

CVB Financial Corp. is a California bank holding company operating Citizens Business Bank, serving businesses and individuals primarily in California. The unaudited filing covers the quarter and six months ended June 30, 2013; balance-sheet comparisons are with December 31, 2012. Financial amounts below are in U.S. dollars.

Financial performance and condition

  • Q2 earnings: Net income was $24.5 million, up 3.6% from $23.6 million a year earlier. Diluted EPS was $0.23 in both periods. Return on average assets was 1.56% versus 1.46%; return on average equity was 12.58% versus 12.73%.
  • Revenue and margins: Net interest income fell 16.5% to $52.6 million from $63.0 million. Tax-equivalent net interest margin, excluding acquired-loan discount accretion, was 3.46%, down from 3.77%. Total noninterest income rose to $7.7 million from $2.3 million, reflecting OREO sale gains and a smaller decline in the FDIC loss-sharing asset. Noninterest expense eased 2.4% to $28.2 million; the efficiency ratio rose to 46.85% from 44.36%.
  • Six-month results: Net income was $46.1 million versus $45.9 million; diluted EPS was $0.44 in both periods. Net interest income declined to $107.2 million from $121.6 million. Noninterest income increased to $14.4 million from $7.5 million, including a $2.1 million securities-sale gain and improved OREO sale gains.
  • Loans and credit: Total loans, net of fees and acquired-loan discount, were $3.34 billion, down $103.9 million from year-end. The allowance for loan losses was $85.5 million, or 2.70% of non-covered loans, versus $92.4 million, or 2.84%, at year-end. The company recorded a $6.2 million provision recapture in the first half; net charge-offs were $0.8 million. Non-covered nonperforming assets were $59.9 million, down from $72.8 million at year-end; nonperforming loans were $53.4 million. Commercial real estate made up 64.2% of gross loans.
  • Liquidity and funding: Total assets were $6.43 billion, deposits $4.83 billion, and cash and cash equivalents $282.3 million at June 30. Deposits rose $58.3 million from year-end, with noninterest-bearing deposits up $97.9 million and representing 52.1% of deposits. Six-month cash flows were $53.2 million provided by operations, $139.8 million provided by investing, and $9.1 million used in financing. The filing reports six-month cash increased $183.8 million to $282.3 million.
  • Debt and capital: At quarter-end, customer repurchase agreements were $491.6 million, FHLB advances $199.1 million, and junior subordinated debentures $25.8 million. The company redeemed $41.2 million of Trust II securities in the first half to reduce funding costs. Stockholders’ equity was $752.1 million, down $10.9 million from year-end, mainly due to a $39.2 million after-tax OCI loss on securities. Company capital ratios were 11.55% Tier 1 leverage, 18.13% Tier 1 risk-based, and 19.39% total risk-based; management said these exceeded “well-capitalized” thresholds.

Material changes versus comparable periods

  • Q2 net interest income contracted as loan and securities yields and acquired-loan accretion fell; lower funding costs partly offset the decline.
  • Net income increased modestly despite lower net interest income, supported by a $6.2 million loan-loss provision recapture and a $2.6 million net gain on an OREO sale in Q2.
  • Available-for-sale securities’ pretax unrealized net gain narrowed to $6.9 million from $74.6 million at year-end, primarily due to interest-rate movements; accumulated OCI fell to $4.0 million from $43.3 million.
  • Nonperforming assets improved from year-end, while performing troubled debt restructurings increased to $61.6 million from $50.4 million. Total TDRs were $88.1 million, including $26.5 million nonperforming.

Outlook, commentary, risks and contingencies

  • No specific earnings or revenue guidance is provided. Management described competitive loan pricing and refinancing activity, and said it was focusing on commercial real estate, commercial and industrial lending, and an internally referred owner-occupied mortgage program. It characterized the balance sheet as slightly asset-sensitive, while modeled 12-month net interest income sensitivity was negative 0.75% for a 200-basis-point rate increase and negative 0.59% for a 100-basis-point decrease.
  • Management cited improving credit conditions and collateral values in some markets as reasons for reducing allowance assumptions, but warned that economic, borrower, real-estate, and interest-rate changes could require higher future provisions. Dairy and livestock borrowers continued to face pressure from feed costs despite improved milk prices.
  • Interest-rate movements materially affected securities values. About 60% of the investment portfolio consisted of mortgage-backed securities, exposing the bank to prepayment and extension risk. Approximately $2.34 billion of securities were pledged as collateral.
  • The company disclosed an ongoing SEC investigation concerning its loan-loss methodology, underwriting, loan grading, and related communications. A federal securities class-action complaint was dismissed for the third time in May 2013; plaintiffs sought a dismissal with prejudice and may appeal. A related derivative action remained postponed. The company had no litigation reserves and said outcomes and potential losses could not be predicted.
  • Other exposures include $550.6 million of commitments to extend credit and $39.5 million of letters of credit; many commitments may expire undrawn. The company reported an $8.6 million reserve for unfunded commitments. Basel III capital changes were expected to apply beginning in 2015.

Important facts for investors to verify

  • Whether the $6.2 million provision recapture is sustainable and how the allowance tracks subsequent credit performance.
  • Loan growth, yield and mix, especially the large commercial real estate concentration and the internally originated mortgage program.
  • Subsequent movements in net interest margin, deposit mix and costs, and sensitivity to rate changes.
  • Realized or further unrealized securities losses, including the effects of rate changes and mortgage prepayments.
  • Developments in the SEC investigation and shareholder litigation, and any resulting financial, regulatory or reputational consequences.
  • Reconciliation of reported cash-flow figures: the financial statements show $53.2 million operating cash flow and $139.8 million investing cash flow, while MD&A gives slightly different rounded figures.