The Bancorp, Inc. — Q2 2015 Form 10-Q
Reporting period: Quarter and six months ended June 30, 2015. Unaudited consolidated results; comparative 2014 figures are identified as restated. Dollar amounts below are in millions unless stated otherwise.
Business context
The Bancorp is a financial holding company whose primary subsidiary is The Bancorp Bank. Continuing businesses include specialty lending (securities-backed lines of credit, leasing, SBA lending and loans originated for sale) and payments services, including prepaid cards, payment processing and healthcare accounts. The company is winding down its commercial lending operations; those results and related assets are presented as discontinued operations and assets held for sale.
Financial performance
| Metric | Q2 2015 | Q2 2014, restated | Six months 2015 | Six months 2014, restated |
|---|---|---|---|---|
| Net interest income | $17.0 | $14.8 | $33.6 | $28.4 |
| Provision for loan and lease losses | $0.5 | $1.2 | $1.2 | $2.4 |
| Non-interest income | $24.7 | $23.4 | $45.5 | $47.1 |
| Non-interest expense | $46.4 | $34.0 | $87.3 | $65.2 |
| Continuing operations, net income (loss) | $(2.5) | $1.7 | $(4.3) | $4.9 |
| Discontinued operations, net income | $2.7 | $8.7 | $4.7 | $7.1 |
| Net income available to common shareholders | $0.2 | $10.3 | $0.4 | $11.9 |
| Basic/diluted earnings per share | $0.00 | $0.27 | $0.01 / $0.01 | $0.32 / $0.31 |
- Net interest margin was 2.23% in Q2 2015 versus 2.69% a year earlier; for the first six months it was 2.23% versus 2.48%. Management attributed the contraction principally to lower loan yields and high balances of low-yielding Federal Reserve deposits.
- Q2 continuing-operations pretax loss was $5.2 million. A $2.7 million income tax benefit reduced the after-tax loss. The total quarterly profit was small because discontinued operations contributed $2.7 million.
- Management cited $9.2 million of BSA/lookback consulting expense in Q2 and $15.0 million for the first six months. Six-month non-interest expense rose $22.1 million year over year, including a $12.8 million increase in BSA-related consulting costs.
- Q2 prepaid card fees fell $1.8 million year over year; six-month prepaid card fees declined $2.1 million. Six-month gains on loan sales fell $3.1 million, primarily due to lower volume.
Financial position, liquidity and capital
- At June 30, 2015, total assets were $4.66 billion, down from $4.99 billion at year-end 2014. Shareholders’ equity was $315.8 million.
- Cash and cash equivalents were $990.3 million, including $937.0 million of interest-earning Federal Reserve deposits. Six-month cash flows were $(75.7) million from operating activities, $274.5 million from investing activities and $(322.8) million from financing activities; cash declined $123.9 million.
- Total deposits were $4.32 billion, down $305.7 million, or 6.6%, from December 31, 2014. Management attributed the reduction to planned exits from less profitable deposit relationships. Deposit outflows were a principal use of cash.
- Loans, net, were $963.7 million, up from $871.0 million at year-end; commercial loans held for sale were $284.5 million. Assets held for sale, primarily discontinued commercial loans, were $651.2 million, compared with $887.9 million at year-end.
- Total investment securities were approximately $1.46 billion, down $123.7 million from year-end, primarily from mortgage-backed-security paydowns. The investment in an unconsolidated entity was $187.2 million.
- Debt included $13.4 million of subordinated debentures and $2.4 million of repurchase agreements. The company reported no outstanding borrowings on its credit lines at June 30; available facilities included a $511.5 million Federal Home Loan Bank line and $34.0 million of correspondent-bank lines.
- The allowance for loan and lease losses was $4.4 million, or 0.45% of total loans. Non-performing loans were $3.3 million; non-accrual loans were $2.7 million and loans at least 90 days past due and still accruing were $0.6 million. The filing reported no other real estate owned.
- The company and bank were reported as well capitalized under applicable regulatory measures. At June 30, the Bancorp Bank’s Tier 1 leverage ratio was 6.08%, Tier 1 risk-based ratio 12.89%, total risk-based capital ratio 13.08%, and common equity Tier 1 ratio 12.89%.
Material changes, outlook and risks
- Commercial lending disposition: The company decided in 2014 to discontinue commercial lending and focus on specialty finance. By June 30, 2015, it had sold loans with approximately $342.2 million book value from a portfolio of approximately $1.1 billion at the September 2014 discontinuance date. It sold an additional $149.6 million of loans in Q2 2015, recording an approximately $2.2 million gain in discontinued operations. Management said proceeds would support securities purchases and growth in continuing lending, but cautioned reinvestment yields may not match income from loans sold.
- Restatement: The company restated prior-period financial statements, including periods from 2010 through September 2014, after recognizing loan-loss provisions and charge-offs for discontinued commercial operations in earlier periods. The filing cites $28.5 million of previously unreported discontinued-operations losses and $12.7 million of 2015 losses reflected in 2014 statements. Read the related 2014 Form 10-K and restatement disclosures for the full impact.
- Regulatory and compliance constraints: The Bank remained subject to a 2014 FDIC Consent Order requiring BSA/AML remediation, including controls, monitoring, training, testing and a historical transaction lookback. Restrictions applied to certain prepaid-card, payment and customer-acquisition activities. The Bank reported significant compliance expenses and expected lookback work to continue into Q2 2016; remaining costs were not estimated clearly.
- In August 2015, after quarter-end, the Bank amended its FDIC Consent Order and may not pay dividends without prior FDIC approval. A May 2015 Federal Reserve supervisory letter also restricts holding-company dividends, certain distributions, new debt and share redemptions without prior approval. The Federal Reserve approved the September 2015 trust-preferred interest payment; future payments require future approval. The holding company reported more than $10 million of available cash as of August 2015 and said it may need alternate funding if Bank dividends do not resume.
- The filing says disclosure controls and procedures were not effective as of June 30, 2015. Identified material weaknesses involved credit-file maintenance and loan evaluation, and the accounting classification of discontinued operations. Management described remedial actions but said effectiveness testing remained necessary.
- A securities class action alleges, among other things, improper loan modifications, insufficient loan-loss reserves and BSA-related issues. The case was preliminary, and counsel said reasonably possible losses could not be estimated. The company said it intends to defend the case. The FDIC was also scrutinizing certain third-party card-program practices; any civil money penalties against the Bank would not be indemnified. The filing does not quantify potential exposure.
- Outlook: The filing provides no numerical earnings or revenue guidance. Management said growth in continuing businesses could offset compliance costs over time, while warning that restrictions, deposit changes, reinvestment yields, credit losses and regulatory approvals could affect results.
Important facts for investors to verify
- Review the restated 2014 Form 10-K and subsequent filings to understand the timing, magnitude and remaining implications of the loan-loss restatement.
- Track BSA/AML remediation milestones, the expected completion and remaining cost of the lookback, and any changes to FDIC business restrictions or dividend approvals.
- Assess whether continuing-operations earnings can cover elevated compliance, FDIC insurance and operating expenses without discontinued-operation income.
- Monitor remaining commercial loans held for sale, sale prices and gains or losses, and the valuation and performance of the $187.2 million unconsolidated investment.
- Verify deposit stability and liquidity, including the impact of planned relationship exits, commitments to fund loans of $797.4 million, and access to borrowing facilities.
- Follow non-performing loans, allowance coverage, loan-review coverage and remediation of the disclosed control weaknesses, as well as developments in the securities litigation and FDIC review of third-party card practices.