OFG Bancorp (OFG) — 2018 Form 10-K Summary
Business context and reporting period
OFG Bancorp is a Puerto Rico-focused financial holding company operating primarily through Oriental Bank, with Banking, Wealth Management, and Treasury segments. Its services include commercial, consumer, auto, and mortgage lending; deposits; brokerage, trust, insurance, and retirement services. This filing reports the fiscal year ended December 31, 2018, and includes fourth-quarter results. Amounts below are in U.S. dollars.
Key financial metrics
| Metric | 2018 | 2017 |
|---|---|---|
| Interest income | $360.4 million | $345.6 million |
| Net interest income | $315.9 million | $304.2 million |
| Net interest margin | 5.28% | 5.23% |
| Provision for loan and lease losses | $56.1 million | $113.1 million |
| Non-interest income | $80.1 million | $78.7 million |
| Non-interest expenses | $207.1 million | $201.6 million |
| Income before taxes | $132.8 million | $68.1 million |
| Net income | $84.4 million | $52.6 million |
| Income available to common shareholders | $72.4 million | $38.8 million |
| Diluted earnings per common share | $1.52 | $0.88 |
| Efficiency ratio | 53.07% | 53.99% |
- Fourth quarter: Income available to common shareholders was $23.1 million, or $0.45 per diluted share, versus $13.6 million, or $0.30, in Q4 2017. Q4 2018 net interest margin was 5.26%, return on average assets was 1.50%, and efficiency ratio was 51.06%.
- Balance sheet and lending: Total assets were $6.58 billion, up 6.4%; net loans were $4.43 billion, up 9.3%; and investment securities were $1.28 billion, up 9.7%. Originated loan production reached $1.41 billion, up 53.8% year over year.
- Deposits, borrowings, and liquidity: Deposits were $4.91 billion, up 2.3%. Total borrowings rose 73.5% to $570.4 million, including $454.7 million in repurchase agreements. Brokered deposits were $525.1 million. The company reported approximately $447.0 million in unrestricted cash, $637.5 million in unpledged investment securities, and $762.0 million of FHLB-NY borrowing capacity.
- Credit quality: The allowance for loan and lease losses was $164.2 million, down from $167.5 million. Non-performing assets were $161.3 million, or 2.76% of total assets excluding acquired loans with deteriorated credit quality; non-accrual loans were $119.7 million. Net credit losses on originated loans were $49.6 million, up 6.7%.
- Cash flow: Operating activities provided $133.4 million; investing activities used $488.8 million; financing activities provided $317.2 million. Cash, cash equivalents, and restricted cash decreased $38.2 million to $450.1 million.
- Capital and equity: Stockholders’ equity was $999.9 million. Consolidated CET1, Tier 1 risk-based, total risk-based, and leverage ratios were 16.78%, 19.20%, 20.48%, and 14.22%, respectively; the company reported compliance with applicable capital requirements. Tangible book value per common share was $16.15.
Material changes versus the prior comparable period
- Net income available to common shareholders rose 86.6%, while diluted EPS increased 73%. The comparison benefited substantially from 2017’s $32.4 million hurricane-related loan-loss provision; the lower 2018 provision was also influenced by declining acquired-loan balances.
- Net interest income increased $11.7 million, supported by higher originated loan balances and improved investment yields. Income from acquired loans declined as those portfolios ran off.
- Non-interest income rose 1.8%. Banking service revenue increased, and 2018 included a $5.0 million insurance recovery related to Hurricane Maria. Unlike 2017, 2018 had no securities-sale gain or FDIC shared-loss benefit.
- Non-interest expenses increased 2.7%, including higher electronic banking, insurance, and other operating expenses. The efficiency ratio improved to 53.07% from 53.99%.
- Total originated and other loans increased 16.9%, particularly commercial loans and auto and leasing. Acquired BBVAPR and Eurobank loan portfolios continued to contract.
- Series C preferred stock converted into common stock in October 2018. Preferred stock outstanding fell from $176.0 million to $92.0 million, common shares outstanding increased, and fourth-quarter preferred dividends declined. The quarterly common dividend rose to $0.07 per share.
Outlook, management commentary, risks, and unusual items
- Management described 2018 as a year of core growth, improving credit quality, and recovery in Puerto Rico, citing 17.3% originated loan growth, 4.3% average deposit growth, and a 5-basis-point increase in annual net interest margin. The filing provides no specific company earnings or revenue guidance.
- Puerto Rico remains the principal concentration risk. The filing cites prolonged economic and fiscal challenges, hurricane impacts, and uncertainty around government debt restructuring. The Planning Board’s cited estimate projected a 5.6% contraction in fiscal 2018 GNP and 3.5% growth in fiscal 2019; these are external estimates, not OFG guidance. The First Circuit’s February 2019 ruling concerning Oversight Board appointments could add uncertainty to restructuring efforts.
- OFG disclosed approximately $135.9 million of credit exposure to four Puerto Rico municipalities. Deterioration in municipal repayment capacity could lead to adverse loan classifications and additional provisions.
- Credit indicators warrant monitoring: non-performing assets rose 3.0%, total non-performing loans rose 14.3%, and auto non-performing loans increased 218.9% from a low prior-year base. Management said most hurricane-related payment moratoriums had expired and credit metrics were generally better than, or back to, pre-hurricane levels.
- Wholesale funding is a risk: repurchase agreements and brokered deposits are more rate-sensitive than core branch deposits. Higher funding costs or reduced market access could pressure margins and lending capacity.
- Mortgage representations, warranties, and repurchase obligations remain contingent exposures. OFG repurchased $7.7 million of loans from GNMA and FNMA during 2018, excluding loans repurchased under separate credit-recourse provisions.
- Puerto Rico tax legislation caused a $4.1 million non-cash deferred-tax expense and contributed to a 36.44% effective tax rate. The filing said it did not expect significant changes to its 2019 effective tax rate from the legislation.
- OFG expects to adopt CECL on January 1, 2020 and anticipates an increase in the credit-loss allowance, but said the amount was not yet determined. The company also expected lease-standard adoption in 2019 to recognize $20 million to $25 million of operating lease assets and liabilities, with no expected effect on equity, results, or cash flows.
- Management said legal proceedings were not expected to have a material adverse effect on financial condition or results overall, but noted that an adverse outcome could materially affect particular quarterly or annual results or cash flows. KPMG issued unqualified opinions on the financial statements and internal control over financial reporting; management and the auditor reported effective internal controls as of year-end.
Important facts for investors to verify
- Whether loan growth, particularly in commercial and auto lending, is accompanied by stable credit performance, and whether rising non-performing auto loans or municipal exposures require additional reserves.
- Whether the $56.1 million provision is sustainable after the unusual 2017 hurricane provision and as acquired portfolios continue to run off.
- How the increased use of repurchase agreements and brokered deposits affects funding costs, liquidity, and net interest margin.
- The underlying durability of earnings, including the $5.0 million hurricane insurance recovery and the tax-related deferred-asset write-down.
- The eventual CECL adoption impact, deferred tax asset realizability, and any changes in Puerto Rico’s fiscal, legal, or tax environment.