Customers Bancorp, Inc. — FY 2016 Form 10-K
Reporting period: Fiscal year ended December 31, 2016; comparisons are primarily with FY 2015. The filing was signed March 8, 2017. Customers Bancorp is a bank holding company operating through Customers Bank, with commercial, specialty-lending and consumer banking activities. BankMobile is classified as held for sale and its results are reported as discontinued operations.
Financial results and condition
| Metric | FY 2016 | FY 2015 |
|---|---|---|
| Net interest income | $249.5 million | $196.3 million |
| Net interest margin | 2.84% | 2.81% |
| Provision for loan losses | $2.3 million | $20.6 million |
| Non-interest income, continuing operations | $23.2 million | $27.6 million |
| Non-interest expense, continuing operations | $131.2 million | $107.6 million |
| Net income from continuing operations | $87.7 million | $63.1 million |
| Net loss from discontinued operations | $9.0 million | $4.5 million |
| Net income attributable to common shareholders | $69.2 million | $56.1 million |
| Diluted earnings per common share | $2.31 | $1.96 |
| Return on average assets | 0.86% | 0.81% |
| Return on average common equity | 12.41% | 11.82% |
Balance sheet at December 31, 2016: Total assets were $9.38 billion, up 11.7%; loans receivable, net of allowance, were $6.11 billion; loans held for sale were $2.12 billion; investment securities were $493.5 million; and cash and cash equivalents were $244.7 million. Continuing-operation deposits were $6.85 billion, with a further $456.8 million of BankMobile deposits classified within liabilities held for sale. Shareholders’ equity was $855.9 million.
Capital and credit: Customers Bank’s common equity Tier 1, Tier 1 risk-based, total risk-based and Tier 1 leverage ratios were 11.63%, 11.63%, 13.61% and 9.23%, respectively; the Bank and Bancorp met applicable capital requirements. Non-performing loans were $17.8 million, or 0.22% of total loans including loans held for sale; non-performing assets were $20.9 million, or 0.22% of assets. The allowance for loan losses was $37.3 million, 0.61% of loans held for investment. Net charge-offs were $1.7 million (0.03% of average loans). Special-mention loans increased to $56.9 million from $24.5 million.
Funding and cash flow: Borrowings totaled $1.15 billion, including $868.8 million of FHLB advances and $108.8 million of subordinated debt. Wholesale deposits, including brokered and municipal deposits, were 56.3% of total deposits; time deposits were 41.4% of the deposit base, and $2.0 billion were scheduled to mature during 2017. The gross loan-to-deposit ratio was 120.6%, falling to 89.7% excluding mortgage warehouse loans funded by short-term FHLB borrowings. Continuing-operations cash flow was $(263.0) million from operating activities, $(570.7) million from investing activities and $660.5 million from financing activities. Mortgage warehouse loan originations in excess of sale proceeds used $358.8 million of operating cash. Cash and cash equivalents ended the year at $244.7 million.
Material changes and notable items
- Net interest income rose 27.1%, driven mainly by a $1.8 billion increase in average interest-earning assets; margin improved three basis points. Deposit growth was 20.9%, and net loans receivable grew 12.6%.
- The lower loan-loss provision reflected, among other factors, the $9.0 million fraudulent-loan charge-off recorded in 2015, slower growth in loans held for investment and higher recoveries in 2016. Net charge-offs declined from $12.0 million in 2015.
- Non-interest expense rose 22.0%, primarily from higher staffing, technology and operating costs to support growth. Non-interest income fell 16.0%, including a $7.3 million fourth-quarter impairment of Religare Enterprises equity securities after management decided it would no longer hold them until recovery.
- BankMobile’s FY 2016 discontinued operations had $33.2 million of non-interest income, $47.0 million of non-interest expense and a $14.5 million pre-tax loss. The loss increased from 2015, principally reflecting the June 2016 acquisition and integration of Higher One’s student disbursement business.
- Shareholders’ equity increased by $302.0 million, supported by $87.7 million of continuing-operations income and net proceeds of $161.9 million from preferred stock and $64.0 million from common stock issuances. Preferred stock dividends were $9.5 million. No common-stock repurchases occurred.
- In July 2016, Customers terminated its FDIC loss-sharing arrangements and paid the FDIC $1.4 million. The associated covered assets were no longer reported as such after June 30, 2016.
- In fourth quarter 2016, Customers early-adopted share-based compensation guidance, recognizing a $4.1 million income-tax benefit for the year and increasing diluted weighted-average shares. The filing reports fourth-quarter net income of $19.8 million, common-shareholder income of $16.2 million and diluted EPS of $0.51.
Outlook, risks and contingencies
- BankMobile sale: On March 7, 2017, Customers signed an agreement to sell BankMobile to Flagship Community Bank for $175 million, subject to adjustment. Customers estimated net proceeds of approximately $173 million and a pre-tax net benefit of approximately $100 million, after expected adjustments, expenses and approximately $24.5 million of transaction-based compensation. Closing remained subject to regulatory approvals, Flagship shareholder approval, financing of at least $260 million and other conditions. Failure or delay could affect results and the value of the business. Customers also warned that crossing $10 billion of assets before disposition could reduce BankMobile interchange income.
- Management outlook: Management described its 2017 regional economic outlook as moderate growth of 2%–3% and saw improving commercial and industrial loan demand. It expected the multifamily lending market to contract 25%–30% in 2017 and Customers’ activity in that market to decline approximately 20%. These are management’s outlook statements, not formal earnings guidance. The filing’s macroeconomic discussion also anticipated possible further Federal Reserve rate increases and emphasized political and economic uncertainty.
- Liquidity and interest rates: Management considered available funding adequate for foreseeable needs, but noted dependence on wholesale funding, brokered deposits, FHLB capacity and short-term funding for mortgage warehouse activity. Rate-sensitivity modeling estimated 2017 net interest income would change by +3.7% under a 100-basis-point rise and −5.2% under a 100-basis-point decline; modeled results depend on assumptions.
- Credit and concentration: Commercial loans were 96.4% of the loan portfolio including held-for-sale loans. Key exposures include multifamily and commercial real estate lending and nationwide mortgage warehouse lending, which carries risks including fraud, borrower default and changes in mortgage-market volumes. Troubled debt restructurings were $16.4 million, up from $11.4 million.
- Regulatory and legal matters: Customers Bank consented in December 2016 to a Federal Reserve order relating to past Higher One-related compliance matters and paid a $960,000 civil penalty, which had been reserved. The filing says the order is not expected to materially affect future results, but further regulatory action remains possible. Two related Pennsylvania lawsuits were being defended; the company could not estimate the likelihood or range of loss.
- Other risks: The filing highlights the approaching $10 billion asset threshold and related regulatory requirements, deposit repricing and maturity risk, cybersecurity and third-party system risks, regulatory compliance costs, and uncertainty in the BankMobile sale. The auditor issued unqualified opinions on the financial statements and internal control over financial reporting; management also concluded disclosure controls were effective.
Important facts for investors to verify
- Whether the BankMobile sale closed, its final proceeds and adjustments, transaction costs and compensation, and the use of proceeds.
- Deposit composition and retention, particularly brokered and other wholesale funding, time-deposit maturities, and liquidity as the loan portfolio grows.
- Credit trends in commercial, multifamily and mortgage warehouse exposures, including special-mention loans, non-performing loans and the adequacy of the allowance.
- Whether expense growth moderates and whether continuing-operations earnings and margins remain strong after the BankMobile disposition.
- Any updates on the Federal Reserve order, the pending lawsuits, and compliance preparations for the $10 billion asset threshold.