1st Source Corporation — Q2 2014 Form 10-Q
Business context and reporting period. 1st Source Corporation is an Indiana bank holding company providing banking and other financial services through its subsidiaries. This unaudited report covers the quarter and six months ended June 30, 2014; balance-sheet comparisons are to December 31, 2013. Unless otherwise noted, dollar amounts below are in millions.
Financial performance and position
- Profitability: Q2 net income was $14.5 million, up 4.0% from $13.9 million; diluted EPS was $0.59 versus $0.56. First-half net income was $28.1 million, up 6.8%, and diluted EPS was $1.15 versus $1.07.
- Interest and margins: Q2 net interest income was $40.2 million versus $38.9 million; first-half net interest income was $78.8 million versus $76.6 million. Fully taxable-equivalent net interest margin declined to 3.59% from 3.65% in Q2 and to 3.59% from 3.64% for the first half.
- Other income and expenses: Q2 noninterest income fell to $19.2 million from $20.1 million; first-half income was $38.6 million versus $39.1 million. Noninterest expense declined to $34.4 million from $35.7 million in Q2 and to $70.4 million from $72.3 million in the first half. Lower mortgage banking and other income partly offset higher trust and debit-card income.
- Credit costs: Loan-and-lease-loss provision was $2.5 million in Q2 and $3.3 million year to date, above the respective prior-year amounts of $1.3 million and $2.1 million. Despite the provision, first-half net recoveries were $1.9 million, compared with $0.3 million in the prior-year period.
- Assets and funding: Total assets were $4.93 billion, up 4.3% since year-end. Loans and leases rose 4.9% to $3.72 billion; deposits increased 4.4% to $3.82 billion. Available-for-sale securities declined 2.1% to $815.1 million.
- Liquidity and cash flow: Cash and cash equivalents were $117.4 million, versus $80.1 million at year-end. For the first half, operating cash flow was $31.0 million, investing cash flow was negative $168.0 million, and financing cash flow was positive $174.4 million. Management reported $170.5 million of additional short-term bank borrowing capacity, $50.0 million of additional FHLB capacity, and $382.2 million available from the Federal Reserve, with no FRB borrowings outstanding.
- Debt and capital: At June 30, short-term borrowings were $350.0 million, long-term debt and mandatorily redeemable securities were $59.7 million, and subordinated notes were $58.8 million. Shareholders’ equity was $594.2 million; equity-to-assets was 12.06%, compared with 12.39% at year-end. The corporation’s total capital and Tier 1 risk-based ratios were 15.28% and 13.97%; its Tier 1 leverage ratio was 11.73%. The bank also exceeded the stated “well capitalized” thresholds.
- Distributions: The quarterly common dividend was $0.18 per share, versus $0.17 a year earlier. The company repurchased $15.8 million of stock in the first half; on July 24, the board authorized a new repurchase program of up to 2 million shares.
Material changes, outlook, and risks
- Management attributed first-half earnings growth mainly to higher net interest income and lower noninterest expense. Loan growth supported interest income, while lower asset yields compressed net interest margin; lower deposit costs provided a partial offset.
- Nonperforming assets were $41.1 million, down 12.1% from year-end but up 14.0% from June 2013. They rose $5.2 million during Q2, largely after one commercial and agricultural relationship was placed on nonaccrual. Nonaccrual loans and leases were $32.5 million. Delinquencies of 30 days or more increased to 0.38% from 0.27% a year earlier.
- Management cited geographic concentration in Northern Indiana and Southwestern Lower Michigan, specialty-finance collateral concentrations, and exposure to foreign markets among factors considered in credit-reserve judgments. Foreign loans and leases, primarily aircraft financing, totaled $244.6 million, including $122.7 million to Brazil and $80.8 million to Mexico.
- Management said existing funding sources provide adequate liquidity. It noted potential liquidity exposure of approximately $594 million if collateral were required for public-fund deposits. The balance sheet had $109.95 million more assets than liabilities scheduled to reprice within one year.
- The filing gives no earnings or revenue guidance. Forward-looking statements are subject to risks including interest-rate and loan-prepayment changes, economic downturns, industry credit concentrations, competition, regulatory changes, and changes in law or accounting standards. Management reported no material change in market risks or risk factors from year-end; it expected no significant change in uncertain tax positions within 12 months.
- There were no securities impairment write-downs in 2014 or 2013. Management said it did not intend to sell securities with unrealized losses and did not believe they were impaired for credit reasons. The company reported routine legal proceedings not expected to materially affect its financial position or results.
Most important facts for investors to verify
- Whether loan growth, especially commercial, agricultural, and aircraft-related exposures, is accompanied by stable credit quality; monitor the Q2 increase in nonperforming assets and delinquencies.
- Whether provision expense and reserve coverage remain appropriate as the loan portfolio expands; the allowance was $88.8 million, or 2.38% of loans and leases.
- Whether net interest margin stabilizes amid lower asset yields and increased short-term borrowing used to fund loan growth.
- Whether liquidity and funding remain adequate, including reliance on short-term borrowings and the potential public-deposit collateral requirement.
- How the share repurchase authorization, dividends, and capital ratios evolve; also note the first-half repurchase activity and July authorization.