Cullen/Frost Bankers, Inc. — Q2 2015 Form 10-Q
Reporting period: Quarter and six months ended June 30, 2015. Unaudited consolidated results. Cullen/Frost is a Texas-based financial holding company providing banking, wealth management, insurance, and related services.
Key financial results
| Metric | Q2 2015 | Q2 2014 | H1 2015 | H1 2014 |
|---|---|---|---|---|
| Net interest income | $182.8 million | $170.0 million | $363.5 million | $330.3 million |
| Provision for loan losses | $2.9 million | $4.9 million | $11.0 million | $11.5 million |
| Non-interest income | $79.0 million | $79.2 million | $162.2 million | $156.6 million |
| Non-interest expense | $173.2 million | $163.9 million | $344.8 million | $321.9 million |
| Net income | $73.1 million | $66.7 million | $145.2 million | $127.9 million |
| Net income available to common shareholders | $71.1 million | $64.7 million | $141.2 million | $123.9 million |
| Diluted EPS | $1.11 | $1.03 | $2.22 | $1.99 |
Balance sheet, liquidity, and capital
- At June 30, total assets were $27.8 billion, down from $28.3 billion at year-end 2014. Loans rose 3.8% to $11.4 billion; deposits declined 1.2% to $23.8 billion.
- Cash and cash equivalents were $3.27 billion, down $1.10 billion from year-end. First-half cash flows were $116.3 million from operations, negative $635.6 million from investing, and negative $576.3 million from financing.
- Federal funds purchased and repurchase agreements were $592.4 million; junior subordinated debentures were $137.1 million and other long-term borrowings were $100.0 million. Shareholders’ equity was $2.87 billion.
- Regulatory capital ratios remained above fully phased-in Basel III requirements: Cullen/Frost’s CET1, Tier 1, total capital, and leverage ratios were 11.70%, 12.74%, 14.06%, and 8.07%; Frost Bank’s were 12.13%, 12.13%, 12.76%, and 7.67%, respectively.
- Management reported no known event reasonably likely to materially harm liquidity or capital. Cullen/Frost, as holding company, reported $284.9 million of liquid assets; Frost Bank could pay up to $353 million in dividends to the parent without prior regulatory approval, subject to restrictions.
Changes versus comparable periods
- Common earnings increased 9.9% in Q2 and 14.0% for H1. Higher net interest income was the primary contributor; H1 also benefited from increased non-interest income and lower loan-loss provision.
- Taxable-equivalent net interest margin narrowed 2 basis points year over year, to 3.47% for Q2 and 3.44% for H1. Management attributed net interest income growth mainly to higher average earning-asset volumes, including securities and loans; lower loan yields and the end of amortization on prior loan-hedge gains weighed on yields.
- Expenses rose 5.7% in Q2 and 7.1% for H1. Management cited staffing and benefit costs, WNB-related scale, occupancy, and facilities, including a new operations and support center. 2014 comparisons included WNB acquisition expenses, which partly obscure underlying expense growth.
- Non-performing assets declined to $52.4 million from $65.2 million at year-end, while accruing past-due loans increased to $86.0 million from $63.8 million.
- Other comprehensive income was negative $77.8 million in Q2 and negative $59.5 million for H1, primarily reflecting lower unrealized gains on securities. Consequently, Q2 comprehensive income was a loss of $4.7 million despite positive net income.
Outlook, risks, and unusual items
- The filing provides no formal earnings or financial guidance. Management cautions that interim results are not necessarily indicative of full-year or future results.
- Energy loans were 15.8% of total loans. Their weighted-average risk grade deteriorated to 6.39 from 5.45 at year-end; energy-related reserve allocations increased. Potential problem loans rose to $111.8 million from $15.1 million, including exposure in energy, manufacturing, and real estate. Management cited borrower performance and borrowing-base deficits in certain energy credits.
- Management said lower oil prices and related credit uncertainty remained risks, while noting that identified risks were reflected in loan grades and reserves. The allowance was $106.6 million, or 0.94% of loans; management considered it appropriate, but estimates depend on economic and borrower conditions.
- Interest-rate simulations showed projected net interest income down 0.1% for a 100-basis-point increase, up 0.3% for a 200-basis-point increase, and down 3.0% for a 25-basis-point decrease over 12 months versus a flat-rate case. Results assume interest begins to be paid on certain demand deposits in Q3 2015; actual deposit pricing could change sensitivity.
- The company authorized a $100 million, two-year share repurchase program and bought 140,571 shares for $10.6 million during the first half. Common dividends were $1.04 per share in H1.
- Frost Securities was discontinued and closed effective June 30, 2015. In July, the company entered agreements to sell its current headquarters and adjacent properties; the headquarters sale is expected to close in mid-2016, subject to contingencies, with a leaseback until the new building is expected to be completed in 2019. Management did not expect aggregate gains or losses to materially affect operations.
- Management did not expect pending litigation to materially affect the financial statements; the filing reported no material change in previously disclosed risk factors. The Federal Reserve agreement related to WNB acquisition required compliance-program enhancements, including fair lending, before most further expansion proposals.
Important facts for investors to verify
- Whether energy-sector and other potential problem exposures continue to migrate to weaker risk grades, and whether reserve levels keep pace with credit deterioration.
- Subsequent trends in past-due loans, non-performing assets, charge-offs, and the allowance for loan losses.
- Whether loan growth, securities mix, deposit pricing, and interest-rate sensitivity support net interest income and margin.
- How ongoing staffing, benefits, occupancy, and new-facility costs affect expense growth and profitability.
- Progress and contingencies for the headquarters sale and replacement-building project, and execution of the repurchase authorization.