Business context and reporting period
Huntington Bancshares Incorporated is a regional bank holding company headquartered in Columbus, Ohio, with banking operations across six Midwestern and Appalachian states. This unaudited Form 10-Q covers the quarter ended March 31, 2011; operating comparisons below are generally year over year or versus fourth-quarter 2010, as indicated.
Financial performance and condition
Amounts are in millions unless otherwise stated. Net income was $126.4, or $0.14 per diluted share, versus $39.7 and $0.01 a year earlier. The year-ago quarter included a $38.2 million tax benefit; the prior 2010 fourth-quarter EPS was also reduced by a $0.07-per-share deemed dividend related to the TARP capital repurchase.
| Metric | 2011 Q1 | Comparison |
|---|---|---|
| Net interest income, FTE | $408.3 | Down 3% sequentially; up 3% year over year |
| Net interest margin, FTE | 3.42% | Up 5 basis points sequentially; down 5 basis points year over year |
| Total revenue, FTE | $645.2 | Down 5.6% sequentially; up 1.3% year over year |
| Provision for credit losses | $49.4 | Down 43% sequentially and 79% year over year |
| Noninterest income | $236.9 | Down 10% sequentially; down 2% year over year |
| Noninterest expense | $430.7 | Down 1% sequentially; up 8% year over year |
| Pretax, pre-provision income | $240.9 | Down 7% sequentially |
| Efficiency ratio | 64.7% | 61.4% in 2010 Q4; 60.1% in 2010 Q1 |
The sequential decline in fee income was principally due to mortgage banking: originations fell 49% from the prior quarter and mortgage banking income declined 57% to $22.7 million. Year over year, lower deposit service charges (down 22%) were partly offset by growth in trust, electronic banking, brokerage, and other income. Expense included a $17.0 million litigation-reserve addition.
At March 31, total assets were $52.9 billion, deposits $41.4 billion, loans and leases $38.2 billion, and shareholders’ equity $5.0 billion. Deposits declined from $41.9 billion and assets from $53.8 billion at year-end 2010. Core deposits were 95% of deposits. Period-end cash and due from banks was $1.21 billion; the company reported $9.5 billion of unused Federal Reserve and FHLB borrowing capacity. The Bank was unable to pay a dividend to the parent without regulatory approval at quarter-end.
Consolidated tangible common equity to tangible assets was 7.81%, versus 7.56% at year-end. Tier 1 risk-based capital was 12.04% consolidated and 8.87% at the Bank; total risk-based capital was 14.85% and 13.11%, respectively. Management reported both entities above “Well-capitalized” thresholds. Total period-end debt amounts are not presented as a single metric in the filing; balance-sheet borrowings included $2.05 billion short-term borrowings, $1.90 billion other long-term debt, and $1.49 billion subordinated notes.
Operating cash flow was $755 million, investing cash flow $342 million, and financing cash flow negative $736 million; cash and cash equivalents increased by $361 million to $1.21 billion. The filing’s cash-flow statement and balance sheet use different cash classifications; figures should be checked against the statements when comparing liquidity.
Material changes versus comparable periods
- Credit metrics improved: nonperforming assets fell 18% sequentially to $690.9 million, nonaccrual loans declined to $636.3 million from $777.9 million, and criticized commercial loans fell 13% to $2.66 billion.
- Net charge-offs were $165.1 million, an annualized 1.73% of average loans, down from $172.3 million and 1.82% in 2010 Q4. The allowance for credit losses declined to $1.175 billion, or 3.07% of loans, from $1.291 billion and 3.39%; allowance coverage of nonaccrual loans increased to 185% from 166%.
- Average loans grew 3% year over year, led by automobile lending (+34%) and C&I (+7%), while average CRE loans fell 15% as Huntington continued to reduce exposure. Average deposits grew 4%, with core deposits up 5% and noninterest-bearing demand deposits up 11% year over year.
- Against 2010 Q1, net income improved substantially, but comparison is affected by the prior-year $38.2 million tax benefit. Common shares outstanding were also higher following a 2010 fourth-quarter common-stock offering.
Outlook, risks, contingencies and unusual items
Management expected net income to grow from the first-quarter level through the rest of 2011, with pretax, pre-provision income rebounding. It anticipated stable margins, continued core deposit growth, C&I and auto loan growth, modest home lending growth, and further—but slower—declines in noncore CRE. Mortgage banking was expected to show only modest growth, if any; expenses were expected to remain relatively stable as strategic investment continued. Management forecast an effective tax rate of about 35% of pretax income less approximately $60 million of permanent tax differences over the remaining year.
- Debit interchange regulation: The proposed Federal Reserve cap was scheduled to take effect July 21, 2011. Huntington estimated that, if implemented as proposed, 75%–85% of interchange income could be lost; the potential second-half impact could be as much as $45 million. The outcome was uncertain.
- Mortgage servicing and repurchases: The $23.8 million representation-and-warranty reserve covered possible loan repurchases or indemnification; management said it could not reasonably estimate the range of possible losses. A 25% increase in the MSR servicing-cost assumption could cause an estimated $8 million fair-value impairment.
- Litigation: A $17.0 million reserve addition was recorded in Q1. Management estimated reasonably possible losses in excess of accruals for current legal proceedings at $0–$150 million, while noting some matters could not be estimated. Cyberco/Teleservices litigation includes significant asserted claims; a March 2011 bankruptcy-court opinion addressed the Bank’s good-faith defense, while the trustee’s case to establish alleged fraudulent conveyances remained pending.
- Other exposures: The company recorded $4.2 million of credit impairment on securities in Q1 and warned further losses were possible. The IRS and Kentucky had proposed tax-return adjustments; management intended to contest them. Foreclosure-process reviews and control enhancements were ongoing after actions involving other servicers; Huntington said it had no reason to conclude improper foreclosures had been filed.
- Interest-rate sensitivity: The -100-basis-point net-interest-income scenario was outside the board policy limit after termination of $4.1 billion of swaps; the board approved an exception, citing low likelihood of further rate declines. The +200-basis-point scenario showed 2.5% net interest income sensitivity.
- TARP warrant: Huntington repurchased the Treasury warrant for $49.1 million in January 2011, removing potential dilution but reducing the tangible common equity ratio by 9 basis points.
Important facts for investors to verify
- Whether the improvement in nonperforming assets, criticized loans, and charge-offs continues, especially in noncore CRE and residential real estate, and whether allowance coverage remains adequate.
- How much interchange revenue is ultimately lost, and whether the proposed fee cap takes effect on schedule.
- Actual mortgage originations, MSR valuation and servicing costs, and developments in representation-and-warranty repurchases.
- The resolution and potential financial effect of litigation, including Cyberco/Teleservices, and whether legal reserves remain sufficient.
- Capital and liquidity trends, including Bank dividend restrictions, funding mix, and effects of interest-rate movements.
- Underlying earnings trends excluding the prior-year tax benefit, sequential mortgage-income decline, and other unusual items.