SouthState Corporation — Q3 2021 Form 10-Q
Reporting period: Three and nine months ended September 30, 2021; balance-sheet comparisons are to December 31, 2020. Amounts are U.S. dollars. Results are unaudited.
Business context
SouthState is a regional bank operating across Alabama, Florida, Georgia, North Carolina, South Carolina and Virginia, with additional correspondent banking, capital markets, wealth and factoring businesses. The company completed its CenterState merger in 2020 and acquired broker-dealer Duncan-Williams in February 2021. At quarter-end, it reported $40.9 billion of assets and approximately 5,120 full-time equivalent employees.
Key financial metrics
| Metric | Q3 2021 | Q3 2020 | Nine months 2021 | Nine months 2020 |
|---|---|---|---|---|
| Net interest income | $260.0 million | $270.3 million | $775.1 million | $560.9 million |
| Noninterest income | $87.0 million | $114.8 million | $262.3 million | $213.3 million |
| Net income | $122.8 million | $95.2 million | $368.7 million | $34.4 million |
| Diluted EPS | $1.74 | $1.34 | $5.19 | $0.69 |
| Net interest margin, tax-equivalent | 2.86% | 3.22% | 2.94% | 3.33% |
Q3 net income rose 29.0% year over year, while the filing attributes much of the year-to-date comparison to the 2020 CenterState merger, related one-time costs, the inclusion of a full nine months of CenterState results in 2021, and credit-loss reserve releases. The filing’s revenue components (net interest income plus noninterest income) total $347.0 million in Q3 2021 versus $385.1 million in Q3 2020, and $1.037 billion for nine months 2021 versus $774.2 million in 2020.
- Margins and earnings drivers: Q3 net interest income fell 3.8%; net interest margin declined 36 basis points. Lower asset yields and a shift toward lower-yielding cash and securities more than offset lower funding costs. Q3 interest expense fell $13.5 million, but interest income fell $23.8 million.
- Noninterest income: Q3 declined $27.8 million, primarily because mortgage banking income fell $32.5 million. Nine-month noninterest income increased $49.0 million, reflecting merger-period comparability and higher correspondent banking, deposit fee and other income.
- Credit costs: The company recorded a $38.9 million Q3 recovery of credit losses, compared with a $29.8 million provision in Q3 2020. For the first nine months, it recorded a $156.1 million recovery versus a $217.8 million provision in 2020.
- Operating costs: Q3 noninterest expense was $232.3 million, down 1.9% year over year. Nine-month expense rose 39.5%, substantially reflecting the inclusion of CenterState for a longer period in 2021. Merger and branch-consolidation expense was $60.6 million for the nine months; debt-extinguishment cost was $11.7 million.
- Profitability ratios: Annualized Q3 return on average assets was 1.20% and return on average equity was 10.21%, compared with 1.00% and 8.31%, respectively, a year earlier. The reported efficiency ratio was 64.2%, up from 58.9%.
Balance sheet, cash flow and capital
- Total assets were $40.9 billion, up 8.2% from year-end 2020. Cash and cash equivalents were $6.30 billion, investment securities $6.43 billion, and net loans $23.47 billion.
- Total loans were $23.79 billion, down 3.5% from year-end; excluding the decline in Paycheck Protection Program loans, management reported 3.3% annualized loan growth. The loan-to-deposit ratio fell to 71% from 80%.
- Total deposits were $33.56 billion, up $2.87 billion from year-end. Noninterest-bearing deposits were $11.33 billion. Management attributed deposit growth partly to customer liquidity and government stimulus.
- At September 30, total borrowings included $859.7 million of federal funds purchased and repurchase agreements and $326.8 million of corporate and subordinated debentures. The company redeemed $63.5 million of subordinated debt and trust preferred securities during 2021.
- For the first nine months, operating cash flow was $428.0 million, investing cash flow was negative $1.42 billion and financing cash flow was positive $2.68 billion; cash increased $1.69 billion. Investing cash flow included substantial purchases of investment securities.
- Shareholders’ equity was $4.79 billion. At quarter-end, consolidated CET1, Tier 1 and total capital ratios were 11.92%, 11.92% and 13.76%; the Bank’s ratios were 12.51%, 12.51% and 13.11%. The filing states capital was well above regulatory minimums and the Bank remained well capitalized.
- The company paid $1.43 per share in dividends during the first nine months and repurchased 1.19 million shares for $96.2 million under its 2021 authorization.
Asset quality and material changes
- The allowance for credit losses was $314.1 million, or 1.32% of loans, down from $457.3 million at year-end 2020 and $440.2 million a year earlier. Management reported Q3 net charge-offs of $46,000 and nine-month net charge-offs of $2.1 million.
- Nonperforming loans, including acquired loans, were $90.2 million, or 0.38% of loans; nonperforming assets were $94.4 million. Nonperforming assets declined from $119.1 million at year-end 2020.
- Potential problem loans increased from year-end: $40.1 million in non-acquired loans and $24.3 million in acquired loans. The company also reported seven credit concentrations, including $4.4 billion in loans to lessors of nonresidential buildings and $1.8 billion secured by owner-occupied office buildings.
- Available-for-sale securities were $4.63 billion and held-to-maturity securities $1.64 billion. The filing reported $77.6 million of total unrealized losses on securities at quarter-end, up from $5.3 million at year-end, primarily due to higher long-term interest rates. Management said securities continued to perform as scheduled and it did not believe the losses were credit-related or that it would be required to sell before recovery.
Outlook, risks and unusual items
- Management provided no specific earnings or financial guidance. It cautioned that interim results are not necessarily indicative of full-year or future results.
- For its credit-loss forecast, management weighted the baseline economic scenario 60% and a more severe scenario 40%, citing Delta-variant uncertainty, inflation and supply-chain and labor-market pressures. It said the Q3 reserve release was approximately $39 million; without the scenario-weight adjustment, the release would have been approximately $57 million.
- COVID-19 remains a source of uncertainty. At September 30, $33.6 million of loans, or 0.14% of the portfolio excluding loans held for sale and PPP loans, were on deferral. The company continued to offer COVID-related deferrals through December 31, 2021. Approximately $501.2 million of PPP loans remained outstanding.
- The proposed Atlantic Capital merger, announced in July 2021, is a stock transaction at an exchange ratio of 0.36 SouthState shares per Atlantic Capital share and was expected to close in Q1 2022. OCC approval had been received; Federal Reserve and Atlantic Capital shareholder approvals remained outstanding. Integration, execution, dilution and cost-savings risks apply.
- The company disclosed $7.0 billion of commitments to extend credit and standby letters of credit, with a $28.3 million liability for expected losses on unfunded commitments. Management said ordinary-course legal matters were not expected to have a material effect.
- LIBOR transition exposure included approximately $7.0 billion of loans and $20.3 billion of LIBOR-indexed interest-rate swaps. Management was preparing for transition to alternative reference rates but said the financial impact could not yet be predicted.
- Interest-rate sensitivity modeling estimated a 6.09% increase in one-year net interest income under a 100-basis-point rate increase and a 2.12% decline under a 100-basis-point decrease. These are model estimates, not forecasts.
Important facts for investors to verify
- Whether reported earnings remain resilient if credit-loss releases abate or reverse; assess the assumptions supporting the $314.1 million allowance.
- Whether core loan growth excluding PPP balances offsets acquired-loan runoff, and how asset yields and net interest margin respond to interest-rate changes.
- Whether deposit growth persists and whether elevated cash and securities balances can be deployed at acceptable yields without adding material interest-rate or valuation risk.
- The status, expected timing, costs and integration assumptions for the Atlantic Capital transaction, including required approvals and expected synergies.
- Trends in potential problem loans, commercial real estate concentrations, deferrals and nonperforming assets, as well as the magnitude and duration of securities’ unrealized losses.
- Execution of the LIBOR transition and the effect of the planned regulatory CECL capital phase-in beginning in 2022.