Simmons First National Corporation — Q3 2017 Form 10-Q
Reporting period: Quarter and nine months ended September 30, 2017. Financial statements are unaudited and were reviewed by the independent accountant, not audited. Dollar amounts below are in millions unless noted.
Business context and reporting period
Simmons is an Arkansas-based financial holding company operating across Arkansas, Colorado, Kansas, Missouri, Oklahoma, Tennessee and Texas. At September 30, 2017, reported assets were $9.54 billion. The October 2017 acquisitions of Southwest Bancorp and First Texas occurred after quarter-end; pro forma assets were approximately $14.7 billion.
Financial performance and condition
- Q3 earnings: Net income was $28.9 million, up from $23.4 million in Q3 2016. Diluted EPS was $0.89 versus $0.76. Management-reported core earnings, a non-GAAP measure, were $27.7 million and diluted core EPS was $0.86, versus $24.4 million and $0.79.
- Nine-month earnings: Net income was $74.0 million versus $69.8 million; diluted EPS was $2.31 versus $2.28. Core earnings were $77.0 million and diluted core EPS $2.41, compared with $72.7 million and $2.37.
- Interest and margins: Q3 net interest income was $78.8 million GAAP and $80.6 million on a fully taxable-equivalent (FTE) basis, up 15.8% and 15.0%, respectively, year over year. Nine-month GAAP net interest income was $228.0 million; FTE net interest income was $233.8 million, up 11.0%. FTE net interest margin fell to 3.91% in Q3 from 4.08%, and to 3.99% year to date from 4.21%. Management attributed pressure partly to lower acquired-loan accretion and higher deposit costs.
- Other income and expenses: Q3 noninterest income was $36.3 million, down 1.5%; nine-month income was $102.1 million, down 1.1%. Q3 noninterest expense was $66.2 million, up 6.0%; nine-month expense was $203.9 million, up 8.2%. Q3 efficiency ratio was 55.06%.
- Loans and credit: Total loans, including acquired loans, were $6.30 billion, up from $5.63 billion at December 31, 2016. Nonaccrual loans excluding acquired loans increased to $54.4 million from $39.1 million. Nonperforming loans were 1.05% of total loans versus 0.91%; nonperforming assets were 0.91% of assets versus 0.79%. The allowance was $43.1 million, 0.82% of loans, and 78% of nonperforming loans. Nine-month annualized net charge-offs were 0.25% of loans.
- Liquidity and funding: Cash and cash equivalents were $432.3 million, compared with $285.7 million at year-end 2016. Deposits were $7.33 billion, up $590.4 million; core deposits were 90.9% of total deposits. Management cited approximately $1.1 billion of additional FHLB borrowing capacity and $285 million of correspondent-bank federal funds lines.
- Debt and capital: Other borrowings and subordinated debentures totaled $590.0 million, up from $333.6 million at year-end; the increase was primarily short-term FHLB advances. Shareholders’ equity was $1.26 billion; book value per share was $39.03 and tangible book value per share was $25.64. CET1 was 11.97%, Tier 1 leverage 10.62%, and total risk-based capital 13.54%; the company reported meeting applicable capital requirements.
- Cash flow, nine months: Operating activities provided $108.5 million; investing activities used $378.3 million; financing activities provided $416.4 million. Cash increased $146.6 million to $432.3 million.
Material changes versus comparable periods
- Q3 growth in earnings and net interest income was supported by larger loan balances and acquisitions, while margin declined and interest expense rose. Nine-month loan interest income benefited from volume, partly offset by lower yields.
- Hardeman was acquired in May for approximately $72.6 million in cash and stock; it contributed approximately $462.9 million of assets and $389.0 million of deposits at acquisition. The bank conversion was completed in September, with five branches consolidated or closed. The preliminary allocation included $29.4 million of goodwill.
- Reported balance-sheet growth also reflects the Heartland Bank transaction: Simmons acquired its stock at public auction in August to satisfy indebtedness and classified $182.4 million of assets and $177.0 million of liabilities as held for sale. Simmons was marketing the business and expected a sale within a year.
- Legacy loans grew $884.1 million from year-end, while acquired loans declined to $1.09 billion from $1.31 billion. Management cited organic growth and acquired loans migrating into the legacy portfolio.
- Nonperforming assets increased, primarily from higher nonaccrual commercial real estate loans and two Wichita-market relationships totaling $11.0 million. TDR balances rose to $17.4 million from $14.2 million at year-end.
- Nine-month merger costs rose to $7.9 million from $2.0 million. A $3.7 million gain on the insurance-line sale supported noninterest income; securities-sale gains declined to $2.3 million from $4.4 million.
Outlook, commentary, risks and unusual items
- No specific full-year earnings or EPS guidance is provided. Management reported record Q3 results, good loan demand, and slower loan growth than in the first half. It expected deposit-cost increases to continue offsetting near-term increases in asset yields.
- The October 19 mergers with Southwest Bancorp and First Texas expanded Simmons into three new banking markets. Consideration included 7.25 million and 6.5 million Simmons shares, respectively, plus $95 million and $70 million cash; Simmons also assumed $76.7 million of subordinated debt. Purchase accounting remained preliminary. Systems conversions were planned for the first half of 2018.
- Following growth above $10 billion in assets, management estimated debit interchange-fee reductions of $3.8 million after tax in 2018 and $7.5 million in 2019. The bank will also face added stress-testing, CFPB oversight and potentially higher FDIC assessment costs. The first required stress-test report was expected in July 2020.
- On October 6, the company entered a $75 million revolving credit facility, bearing interest at one-month LIBOR plus 1.50% and expiring October 5, 2018; proceeds were primarily intended to repay subordinated debt assumed in the mergers.
- Interest-rate simulations projected net interest income changes over 12 months of +0.97% for a 100-basis-point increase, +1.68% for a 200-basis-point increase, and -3.55% for a 100-basis-point decrease. Management cautioned that these estimates depend on assumptions and actual results may differ.
- Key risks include credit deterioration and allowance estimation, interest-rate and deposit-cost competition, acquisition integration and purchase accounting, and the new regulatory and operating costs associated with exceeding $10 billion in assets. Management said it knew of no material changes to the risk factors in its 2016 Form 10-K. Various legal proceedings were not expected to have a material adverse effect.
Important facts for investors to verify
- How much of reported and core earnings growth reflects sustainable operations versus acquisitions, acquired-loan accretion, merger costs and the insurance-sale gain; confirm the company’s non-GAAP reconciliations.
- Whether margin pressure and rising deposit costs persist, and how actual loan growth and funding costs compare with management’s commentary.
- Trends in nonaccrual loans, criticized/classified credits, TDRs, charge-offs and reserve coverage, particularly commercial real estate and the Wichita relationships.
- Final purchase-price allocations, integration costs, cost savings and performance of Hardeman, Heartland, Southwest Bancorp and First Texas; also confirm the planned Heartland disposition.
- The effect of the $10 billion threshold on interchange income, regulatory compliance spending, FDIC costs and capital, including the treatment of trust preferred securities if assets exceed $15 billion.
- Availability and terms of liquidity sources, short-term FHLB advances, revolver repayment plans, and the subsidiary bank’s limited dividend capacity without regulatory approval.