Cullen/Frost Bankers, Inc. (CULLEN) — Q3 2017 Form 10-Q
Reporting period: Quarter and nine months ended September 30, 2017. Unaudited consolidated results; amounts below are in U.S. dollars. Cullen/Frost is a Texas-based financial holding company providing banking, wealth management, insurance and related services.
Financial performance
| Metric | Q3 2017 | Q3 2016 | Nine months 2017 | Nine months 2016 |
|---|---|---|---|---|
| Net interest income | $219.2M | $194.5M | $642.5M | $574.7M |
| Non-interest income | $81.6M | $82.1M | $246.4M | $256.3M |
| Net interest income plus non-interest income | $300.8M | $276.6M | $888.9M | $831.0M |
| Net income | $93.1M | $80.2M | $263.6M | $220.5M |
| Net income available to common shareholders | $91.1M | $78.2M | $257.6M | $214.5M |
| Diluted EPS | $1.41 | $1.24 | $3.98 | $3.42 |
| Net interest margin, taxable-equivalent | 3.73% | 3.53% | 3.69% | 3.56% |
| Provision for loan losses | $11.0M | $5.0M | $27.4M | $42.7M |
| Non-interest expense | $186.8M | $180.5M | $562.8M | $539.1M |
Net income available to common shareholders increased 16.5% in Q3 and 20.1% for the nine-month period. Higher net interest income was the main driver: taxable-equivalent net interest income rose 12.2% and 11.5%, respectively, reflecting asset growth and improved loan and deposit yields as rates rose. Expenses increased 3.5% in Q3 and 4.4% year to date. Non-interest income was lower, notably due to securities losses.
Balance sheet, cash flow and capital
- Assets: $31.0B at September 30, 2017, up from $30.2B at December 31, 2016.
- Loans: $12.7B, up 6.1% since year-end; deposits were $26.4B, up 2.3%. Non-interest-bearing deposits were 42.3% of deposits.
- Cash and cash equivalents: $5.09B, compared with $4.14B at year-end. Nine-month operating, investing and financing cash flows were $355.4M, $152.4M and $442.6M, respectively; cash increased $950.5M. Investing cash flow reflects substantial securities activity and loan growth, so it is not equivalent to recurring free cash flow.
- Borrowings: $1.00B in federal funds purchased and repurchase agreements; $136.2M in junior subordinated debentures; and $98.5M in subordinated notes, net of issuance costs. In March 2017, the company issued $100M of 4.50% subordinated notes due 2027 and redeemed $100M of 5.75% notes at maturity.
- Equity and regulatory capital: Shareholders’ equity was $3.19B. Cullen/Frost’s Common Equity Tier 1 ratio was 12.38%, total capital ratio 15.19%, and leverage ratio 8.39%; Frost Bank’s corresponding ratios were 13.02%, 13.84%, and 8.29%. Both were reported above fully phased-in minimum requirements and well-capitalized thresholds.
- Liquidity: Management reported no known event expected to materially impair liquidity. The holding company itself had $241.3M of liquid assets, including cash and resell agreements; it relies primarily on bank dividends and external borrowing for its own liquidity.
Material changes, risks and unusual items
- Credit quality: Non-performing assets rose to $150.0M from $102.6M at year-end; the ratio to loans and foreclosed assets increased to 1.18% from 0.86%. Non-accrual loans were $143.1M, including $96.7M in energy loans. Potential problem loans not otherwise classified were $89.7M. The allowance was $154.3M, or 1.21% of loans; nine-month net charge-offs were $26.1M versus $28.8M in 2016.
- Energy and regional exposures: Energy loans were 10.9% of total loans. Management cited Texas economic conditions and borrower performance as credit factors to monitor. Commercial real estate was 40.1% of loans; management noted Houston market pressures, including construction activity, rent concessions and vacancies.
- Hurricane Harvey: Disrupted Houston and Corpus Christi operations, caused branch closures and additional costs, and affected reserve estimates. Management said the ultimate impact was uncertain, expected insurance to mitigate it at least partly, and did not expect a significant financial-statement impact based on information then available.
- Tax and securities items: A $3.7M tax benefit from correcting prior over-accruals on tax-exempt loans lowered the effective tax rate to 9.6% for Q3 and 11.8% year to date. Q3 included a $4.9M securities-sale loss; management sold certain Treasury securities to reinvest in higher-yielding investments. Nine-month non-interest income also includes prior securities gains in the 2016 comparison, affecting year-over-year results.
- Other notable items: Q3 salaries included about $1.2M of severance, primarily associated with branch closures. The company completed a $100M share repurchase in Q3 and announced a new $150M, two-year repurchase authorization on October 24, 2017. Common dividends were $0.57 per share in Q3.
- Outlook and risks: The filing gives no specific earnings or revenue guidance. Management described the interest-rate position as more asset-sensitive than a year earlier; modeled 12-month net interest income increased 1.2% and 3.3% under +100 and +200 basis-point scenarios, and declined 5.1% and 9.9% under -100 and -125 basis-point scenarios. Results remain exposed to interest rates, Texas economic conditions, credit losses, energy and real-estate exposures, competition, regulation, liquidity and other risks identified in the filing. Management said litigation was not expected to have a material adverse effect and reported no material change in previously disclosed risk factors.
Most important facts for investors to verify
- Whether the rise in non-performing assets, particularly energy-related, is stabilizing and whether specific reserves and charge-offs adequately reflect credit risk.
- How Hurricane Harvey affected borrower performance, loan-loss estimates, operating costs and insurance recoveries after the reporting date.
- Whether net interest margin and earnings growth persist as deposit costs respond to rate increases and competitive conditions.
- The sustainability of reported earnings after the $3.7M tax benefit, securities losses, deferred headquarters-sale gain amortization and other unusual items.
- Whether the announced $150M repurchase and dividend plans remain consistent with capital needs, bank dividend restrictions and liquidity.
- The filing states that results for interim periods are not necessarily indicative of full-year or future results; confirm subsequent filings and disclosures for updates.