City Holding Company — Q2 2015 Form 10-Q
Reporting period: Three and six months ended June 30, 2015. City Holding is a West Virginia bank holding company operating through City National Bank, with 82 branches across West Virginia, Virginia, Kentucky and Ohio. Unless otherwise noted, financial amounts below are in U.S. dollars.
Financial performance
- Q2 earnings: Net income was $12.0 million, down from $12.8 million in Q2 2014; diluted EPS was $0.78 versus $0.80. ROA was 1.34% and ROE was 11.6%, compared with 1.50% and 12.8%.
- First-half earnings: Net income was $30.0 million, up from $26.6 million; diluted EPS was $1.96 versus $1.67. ROA was 1.69% and ROE was 14.7%, compared with 1.57% and 13.4%.
- Net interest: Q2 net interest income was $28.8 million, nearly unchanged year over year; first-half net interest income was $58.2 million, down from $58.9 million. Reported net interest margin declined to 3.82% in Q2 from 3.95%, and to 3.90% for the first half from 4.05%.
- Credit costs: Provision for loan losses was $2.8 million in Q2 versus $0.4 million in Q2 2014, and $3.7 million for the first half versus $1.8 million. First-half net charge-offs were $3.1 million versus $1.8 million.
- Noninterest items: First-half noninterest income was $39.4 million versus $29.4 million, including an $11.1 million pretax gain on the sale of CityInsurance and $2.1 million of securities gains. Excluding the insurance-sale and securities gains, management said first-half noninterest income declined to $26.2 million from $28.5 million. First-half noninterest expense fell to $46.4 million from $47.7 million, partly due to lower payroll after the insurance sale.
- Cash flow: First-half operating cash flow was $10.4 million, investing cash use was $44.1 million, and financing cash provided was $38.9 million. Cash and cash equivalents ended at $153.4 million, up from $148.2 million at year-end 2014.
Financial position, credit and capital
- At June 30, 2015, total assets were $3.513 billion; gross loans were $2.684 billion, net loans $2.664 billion, deposits $2.903 billion, and shareholders’ equity $411.2 million.
- Gross loans increased $32.4 million from year-end 2014, led by residential real estate growth. The allowance for loan losses was $20.8 million, up from $20.2 million; allowance coverage was 131.0% of nonperforming loans.
- Nonperforming assets were 0.84% of loans and other real estate owned, down from 0.90% at year-end 2014. Nonperforming loans were $15.9 million, compared with $15.7 million at year-end. Management attributed higher 2015 provision expense in part to difficulties at a commercial borrower in the mining and energy sectors, including a related charge-off.
- Deposits funded 82.6% of total assets. Short-term borrowings were $153.2 million and long-term debt was $16.5 million. The parent company reported $14.2 million in cash; management said parent liquidity was adequate for the next 12 months. City National had $1.5 billion of additional borrowing capacity under existing facilities.
- Management reported both City Holding and City National were well capitalized. At June 30, the company’s CET1, total capital and Tier 1 leverage ratios were 14.2%, 15.7% and 10.4%, respectively; the bank’s were 12.3%, 14.1% and 9.3%.
Material changes, outlook and risks
- The January 2015 sale of CityInsurance generated a $11.1 million pretax gain and removed a source of recurring commission income. The transaction also increased first-half income tax expense by $1.1 million due to differences in book and tax basis. The first-half effective tax rate was 36.9%, versus 31.7% a year earlier; excluding specified discrete items, management reported operating tax rates of 33.5% and 33.6%.
- On May 29, City National agreed to acquire three Lexington, Kentucky branches from American Founders Bank. The announced transaction covers approximately $125 million in performing loans and $164 million in deposits, with premiums specified in the agreement. The filing does not state that the acquisition had closed by June 30.
- Management said it believes the balance sheet is positioned to benefit from rising interest rates, citing variable-rate commercial lending, a limited fixed-rate securities allocation and higher cash balances. Its model estimated net income 2.7% higher under an immediate, sustained 400-basis-point increase, but management cautioned that results depend on assumptions and are not assured. No specific earnings guidance was provided.
- Available-for-sale securities had $4.1 million of gross unrealized losses at June 30. Management considered the losses temporary, largely related to rates, spreads and market volatility, and reported no impairment charge in the period; further impairment remains possible. Management also disclosed potential future impairment risk in pooled trust preferred securities if collateral deteriorates.
- Other disclosed risks include borrower credit deterioration and charge-offs, interest-rate and economic changes, competitive pressure, regulatory and Basel III requirements, and ordinary-course legal proceedings. The filing reported no material change to the risk factors in the 2014 Form 10-K and no material change in internal control over financial reporting.
Important facts for investors to verify
- Whether credit stress, particularly in commercial and mining/energy exposures, leads to further charge-offs, provisions or deterioration in nonperforming assets.
- How recurring earnings develop after the CityInsurance sale, separating one-time securities and transaction gains from ongoing income.
- Whether net interest margin stabilizes and how actual results compare with management’s interest-rate sensitivity assumptions.
- Whether the Lexington branch acquisition closes on the announced terms and how the acquired loans, deposits and premium affect earnings and liquidity.
- Whether unrealized investment losses or pooled trust preferred exposures result in future impairment charges, and whether capital and liquidity remain strong as Basel III requirements phase in.