First Financial Bancorp. — Q3 2016 Form 10-Q
Reporting period: Three and nine months ended September 30, 2016. First Financial is an Ohio bank holding company operating primarily in Ohio, Indiana and Kentucky, with additional nationwide franchise and insurance-agency lending businesses. Unless stated otherwise, dollar amounts below are in millions.
Financial results and condition
- Q3 earnings: Net income was $22.9 million, up 22.4% from $18.7 million; diluted EPS was $0.37 versus $0.30. Return on average assets was 1.09% and return on average equity was 10.62%.
- Nine-month earnings: Net income was $65.2 million, up 18.1% from $55.2 million; diluted EPS was $1.05 versus $0.89.
- Net interest income and margin: Q3 net interest income rose 9.0% to $68.8 million; fully tax-equivalent net interest margin was 3.66%, compared with 3.67%. For nine months, net interest income rose 12.2% to $202.5 million and fully tax-equivalent margin was 3.67%, versus 3.65%.
- Other income and expenses: Q3 noninterest income fell 16.7% to $16.9 million, mainly reflecting lower accelerated discount income on covered loans. Noninterest expense fell 3.6% to $51.1 million, largely because prior-year legal settlement, debt-extinguishment and Oak Street acquisition costs did not recur. For nine months, noninterest income declined 11.3% to $52.7 million while expenses increased 0.9% to $151.2 million.
- Balance sheet and lending: Total assets were $8.37 billion, up from $8.15 billion at year-end 2015. Loans and leases were $5.79 billion, up 7.4%; growth was strongest in commercial real estate, commercial and industrial, and construction lending. Deposits rose 2.6% to $6.34 billion.
- Credit costs and asset quality: Q3 provision expense was $1.7 million versus $2.6 million; nine-month provision was $7.4 million versus $7.8 million. The allowance for loan and lease losses was $57.6 million, or 1.00% of loans. Nonperforming assets declined to $58.0 million from $70.1 million at year-end, while classified assets increased to $142.2 million from $132.4 million. Q3 annualized net charge-offs were 0.05% of average loans.
- Cash flow: For nine months, operating activities provided $76.7 million, investing activities used $191.9 million and financing activities provided $118.3 million. Cash and due from banks increased $3.1 million to $118.0 million.
- Funding and capital: Borrowed funds totaled $1.05 billion, including $926.2 million of short-term borrowings and $119.5 million of long-term debt. The company reported $509.0 million of remaining FHLB borrowing capacity and $2.1 billion of unused available overnight wholesale funding. Consolidated total risk-based capital was 12.82%, Tier 1 capital was 10.20%, and leverage was 8.45%; management said the company remained well-capitalized.
Material changes and management commentary
- Management attributed higher net interest income primarily to organic loan growth and the acquired Oak Street loan portfolio; rising funding costs partly offset the benefit. Average Q3 loans increased 14.3% year over year.
- The investment portfolio declined 8.7% from year-end as cash flows were redirected to loan growth; its reported duration fell to 2.6 years from 3.4 years.
- Management cited modest downward credit migration and higher 30-to-89-day delinquencies, while stating that the increase in classified assets was not concentrated in a particular industry or geography. It said affected borrowers generally had stabilization plans and collateral support.
- The company’s five-year loss-sharing protection for non-single-family covered loans had expired; remaining covered loans and covered OREO had approximately $99.7 million in balances, with remaining protection scheduled to expire October 1, 2019.
- No specific earnings or revenue guidance was provided. Management expected an approximately 32.5% effective tax rate for 2016 and stated that liquidity was sufficient for future capital expenditure commitments. The board authorized a regular dividend of $0.16 per share payable January 3, 2017.
Risks, contingencies and unusual items
- Key stated risks include credit quality, interest-rate and liquidity exposure, regulatory and legal changes, execution and integration of acquisitions, FDIC loss-sharing compliance, and borrower performance. The company’s interest-rate model showed estimated Year 1 net interest income sensitivity of -4.11% under a 100-basis-point decline, +0.89% under a 100-basis-point increase and +3.27% under a 200-basis-point increase.
- Management reported various litigation and other claims; it said losses were not considered probable or reasonably estimable and recorded no litigation reserves at September 30, 2016. It also reported no material change in the legal-proceedings disclosure from the 2015 Form 10-K.
- Oak Street, acquired in August 2015, added $237.4 million of loans and $66.3 million of goodwill. Prior-year acquisition-related expenses and other unusual items affected period comparisons.
- The company was evaluating the new expected-credit-loss accounting standard (ASU 2016-13); the filing did not quantify its expected financial impact.
Important facts for investors to verify
- Whether rapid commercial real estate, construction and C&I loan growth is matched by underwriting quality and adequate loss reserves.
- Whether the rise in classified assets and past-due loans persists, notwithstanding lower reported nonperforming assets and charge-offs.
- How higher deposit and wholesale funding costs affect net interest margin, liquidity and earnings as rates change.
- How much earnings depend on Oak Street, covered-loan accretion, tax benefits and other items that may not recur at the same level.
- Whether the company maintains capital and liquidity buffers while funding growth, dividends and its remaining FDIC-covered portfolio.