Banc of California, Inc. — 2016 Form 10-K
Business context and reporting period. The filing covers the fiscal year ended December 31, 2016, with comparison to 2015. Banc of California is a California-focused financial holding company whose principal subsidiary is a national bank. Its businesses include commercial banking and mortgage banking. During 2016, it sold The Palisades Group and its Commercial Equipment Finance business.
Financial performance and condition
| Metric | 2016 | 2015 |
|---|---|---|
| Total assets, year-end | $11.03 billion | $8.24 billion |
| Total deposits, year-end | $9.14 billion | $6.30 billion |
| Loans and leases held for investment, gross | $6.03 billion | $5.18 billion |
| Net interest income | $325.5 million | $223.7 million |
| Net interest margin | 3.30% | 3.52% |
| Noninterest income | $271.9 million | $220.2 million |
| Noninterest expense | $442.7 million | $332.2 million |
| Net income | $115.4 million | $62.1 million |
| Net income available to common stockholders | $95.5 million | $52.2 million |
| Diluted earnings per common share | $1.94 | $1.34 |
| Operating cash flow | $13.7 million | $(45.2) million |
- Net income increased 85.9%; pretax income rose 43.3%. Growth in interest income and mortgage banking revenue contributed, while expenses also rose substantially.
- Net interest income increased 45.5%, mainly as average interest-earning assets grew; the margin fell 22 basis points, reflecting lower loan yields and higher funding costs.
- Noninterest income included $167.0 million of mortgage banking revenue, $29.4 million of gains on securities sales, and gains from subsidiary and business-unit sales. Mortgage loan originations and sales were $5.14 billion and $5.13 billion, respectively.
- Noninterest expense included a $31.5 million loss on alternative-energy partnership investments. The investments generated $33.4 million of tax credits; the reported effective tax rate was 22.8%. Adjusted efficiency ratio was 67.13%, versus 74.83% in 2015; the company’s unadjusted ratio was 74.11%.
- Asset quality improved: nonperforming assets declined to $17.4 million from $46.2 million, and nonperforming loans and leases were 0.25% of loans. The allowance for loan and lease losses was $40.4 million, or 0.67% of loans and leases.
- Cash and cash equivalents were $439.5 million at year-end. Brokered deposits were $2.25 billion, or 24.6% of deposits; core deposits were 70.9% of deposits. The company reported $490.0 million of FHLB advances, $67.9 million of other borrowings and $175.4 million of long-term debt. It reported unused borrowing capacity of $2.35 billion from the FHLB, $190.7 million from the Federal Reserve and $210.0 million in bank federal-funds lines.
- Regulatory capital ratios remained above minimums: company CET1 9.44% and total risk-based capital 13.70%; bank CET1 14.12% and total risk-based capital 14.73%.
Material changes, outlook and significant risks
- Year-end assets grew 33.9%, deposits 45.0%, and gross held-for-investment loans and leases 16.4%. Brokered deposits more than doubled. The loan mix shifted toward commercial and multifamily lending; SFR loans declined as a share of the portfolio. A majority of SFR loans were adjustable-rate.
- The company raised approximately $175.1 million in common equity and $120.3 million in preferred equity, redeemed Series A and B preferred stock, and repaid $84.8 million of 7.50% senior notes. Remaining senior notes included $175 million of 5.25% notes due 2025.
- Management provided no specific earnings or revenue guidance. It cited disciplined growth, asset quality, optimization and governance as strategic priorities. It expected professional fees to remain elevated while investigations and related matters continued.
- On January 23, 2017, CEO Steven Sugarman resigned; interim leadership was appointed while the Board searched for a permanent CEO. The company disclosed an SEC investigation opened by formal order in January 2017, following allegations raised in anonymous posts. The Board’s Special Committee reported no evidence of unlawful conduct or improper control, but found certain October 2016 company statements about an earlier inquiry were inaccurate. Securities class actions were filed in January 2017; the company said it intended to contest them.
- Management concluded disclosure controls were ineffective at December 31, 2016, and KPMG issued an adverse opinion on internal control over financial reporting due to a material weakness involving tone at the top, risk assessment, monitoring and resources. KPMG separately gave an unqualified opinion on the financial statements, which management said contained no material misstatement.
- After year-end, the bank agreed to sell specified mortgage banking assets to Caliber Home Loans for a $25 million cash premium plus asset value, potential retention payments and an earn-out; closing was expected in March 2017. It also agreed to sell mortgage servicing rights on about $3.8 billion of loans for $36 million, with an expected $3.5 million loss. The bank had suspended its MSR flow-sales arrangement in February 2017.
- Additional risks include a securities portfolio concentrated in CLOs: $1.73 billion, or 52.8% of securities, at year-end; securities available-for-sale had $28.4 million of gross unrealized losses. The portfolio’s credit ratings were reported as investment grade, but CLO liquidity and valuation remain risks. Non-traditional mortgages were $885.1 million, or 14.7% of held-for-investment loans. In the company’s interest-rate model, an immediate 200-basis-point increase reduced estimated economic value of equity 17.7% and projected net interest income 2.0%.
Important facts for investors to verify
- Progress and conclusions of the SEC investigation, related litigation, and any resulting costs, sanctions or customer and deposit effects.
- Remediation of the material weakness and whether disclosure controls and internal control over financial reporting become effective.
- Deposit stability and funding costs, particularly the size, pricing and retention of brokered and large institutional deposits.
- Credit performance and allowance adequacy as the portfolio grows, especially in California real estate, adjustable-rate and interest-only mortgages, and commercial and multifamily loans.
- Execution and financial impact of the mortgage banking and MSR sales, including closing conditions, earn-out terms and effects on recurring revenue.
- Recurring earnings excluding tax credits, securities-sale gains, business disposals and purchased-loan discount accretion; operating cash flow was modest relative to reported net income.