Business context and reporting period
Huntington Bancshares Incorporated is a regional bank holding company headquartered in Columbus, Ohio, operating across six Midwestern states and offering commercial and consumer banking, mortgage, auto finance, equipment leasing, wealth management, and related services. This unaudited Form 10-Q covers the quarter and six months ended June 30, 2016; comparisons are primarily with the same periods of 2015.
Financial performance and position
Second quarter: Net income was $174.5 million, or $0.19 per diluted common share, compared with $196.2 million, or $0.23, a year earlier. Net income applicable to common shares was $154.7 million, including $19.9 million of preferred dividends. FTE net interest income was $516.0 million; total FTE revenue was $787.1 million.
- Net interest income (GAAP) rose 3% to $505.9 million; FTE net interest income rose 3% year over year. Average earning assets increased 8%, including average loans and leases up 8%.
- Net interest margin declined to 3.06% from 3.20%. Management attributed the contraction chiefly to higher funding costs, including costs associated with recent debt issuance.
- Noninterest income fell 4% to $271.1 million, while noninterest expense rose 6% to $523.7 million. The efficiency ratio was 66.1%, versus 61.7%.
- Provision for credit losses was $24.5 million, compared with $20.4 million. Net charge-offs were $16.8 million, or 0.13% annualized of average loans and leases, versus $25.4 million and 0.21% a year earlier.
First six months: Net income was $345.9 million, down 4%; diluted EPS was $0.39, down from $0.42. FTE revenue increased 4% to $1.54 billion. Net interest income rose 5%, while noninterest income was essentially flat and noninterest expense increased 7%. Provision for credit losses increased 27% to $52.1 million.
Balance sheet and capital at June 30: Total assets were $74.0 billion, loans and leases $52.5 billion, and deposits $55.0 billion. Long-term debt was $7.9 billion and short-term borrowings $2.0 billion. The allowance for loan and lease losses was $623.1 million; total allowance for credit losses, including unfunded commitments, was $696.8 million, or 1.33% of loans and leases. CET1 capital ratio was 9.80%, Tier 1 risk-based capital ratio 11.37%, total risk-based capital ratio 13.49%, and tangible common equity to tangible assets 7.96%.
Cash flows for the first six months: Operating activities provided $286.6 million, investing activities used $2.60 billion, and financing activities provided $2.33 billion. Cash and cash equivalents ended at $867.2 million. The parent company reported $2.1 billion in cash and cash equivalents at quarter end.
Material changes versus comparable periods
- Quarterly earnings and diluted EPS declined year over year despite higher net interest income, reflecting lower noninterest income, higher expenses, and increased preferred dividends.
- Average earning assets grew 8% year over year, supported by loan growth, particularly auto and commercial lending, and higher securities balances. Higher funding costs contributed to lower margin.
- Second-quarter mortgage banking income decreased 18% year over year, in part due to net mortgage servicing rights (MSR) activity; trust services fell 15%, reflecting prior business and asset transitions. Deposit service charges and card income increased.
- Noninterest expense included $20.8 million of FirstMerit acquisition-related significant items in the quarter. Excluding significant items, adjusted expense increased 3% year over year; this is a non-GAAP measure.
- Nonaccrual loans and leases were $460.5 million, or 0.88% of loans, versus $364.3 million, or 0.75%, a year earlier. The increase was concentrated in commercial and industrial lending, particularly energy-related relationships. Nonperforming assets decreased 7% from the prior quarter to $489.8 million.
Outlook, management commentary, risks and contingencies
- For full-year 2016, management maintained long-term goals of 4%–6% revenue growth and annual positive operating leverage, excluding significant items, net MSR activity, and the incremental impact of the pending FirstMerit acquisition. Management expected asset quality to remain near current levels and charge-offs below its normalized 0.35%–0.55% range.
- Huntington expected the FirstMerit transaction, announced at an approximately $3.4 billion value, to close in the third quarter of 2016, subject to remaining approvals and closing conditions. Shareholders of both companies approved the transaction; the Federal Reserve approved it on July 29, 2016, while OCC approval of the bank merger remained outstanding. The parties also planned to divest 13 Ohio branches.
- The Federal Reserve did not object to the company’s 2016 capital plan, which included a planned increase in the quarterly common dividend from $0.07 to $0.08 beginning in the fourth quarter and continued suspension of share repurchases. Huntington issued $600 million of Series D preferred stock during the first half to support capital, including the pending acquisition.
- Credit risks include deterioration in energy-related commercial borrowers; E&P loans were less than 1% of total loans, and Huntington described those exposures as secured and first-lien. Management also cited macroeconomic, commodity-price, currency, interest-rate, and market volatility risks.
- Liquidity management relies primarily on core deposits; these funded 70% of total assets at quarter end. Huntington expected to meet the phased-in Modified Liquidity Coverage Ratio requirements within the regulatory transition period.
- Legal matters include a Cyberco judgment of approximately $72 million plus costs and interest, which Huntington appealed; the company had increased reserves to accrue the judgment. Management estimated aggregate reasonably possible losses in excess of accruals for current legal proceedings at $0–$50 million, while noting some matters could not be reasonably estimated. FirstMerit merger-related shareholder litigation had a tentative settlement, subject to court approval.
- Management noted that adoption of the new expected-credit-loss standard (ASU 2016-13) was being assessed; the standard was expected to take effect for Huntington in fiscal 2020, subject to the stated adoption provisions.
Important facts for investors to verify
- Whether FirstMerit received all required approvals and closed on the expected timetable, and the eventual integration costs, synergies, and branch-divestiture effects.
- Whether commercial and energy-related criticized and nonaccrual loans, provision expense, and credit-loss reserves evolve as management expected.
- Whether loan growth and customer-fee growth can offset margin pressure and higher operating costs; monitor adjusted results alongside GAAP results.
- The impact of additional debt and preferred stock on funding costs, common earnings, capital ratios, and the planned dividend increase.
- Developments in the Cyberco appeal and other litigation, including any outcomes exceeding existing accruals.