First Citizens BancShares, Inc. — Q2 2014 Form 10-Q Summary
Business context and reporting period
First Citizens BancShares, Inc. is a financial holding company headquartered in Raleigh, North Carolina, operating primarily through First-Citizens Bank & Trust Company. The unaudited filing covers the quarter and six months ended June 30, 2014, with comparisons to the corresponding 2013 periods and December 31, 2013.
The company operates a full-service commercial banking business, including deposits, loans and leases, treasury services, cardholder and merchant services, wealth management, mortgage, insurance and processing services. As of August 8, 2014, the bank operated 397 branches.
Key financial metrics
| Metric | Q2 2014 | Q2 2013 | Six months 2014 | Six months 2013 |
|---|---|---|---|---|
| Net interest income | $165.7 million | $179.5 million | $326.6 million | $384.4 million |
| Provision/(credit) for loan losses | $(7.3) million | $(13.2) million | $(9.2) million | $(31.8) million |
| Noninterest income | $65.4 million | $65.0 million | $126.6 million | $122.5 million |
| Noninterest expense | $199.0 million | $188.6 million | $390.1 million | $382.9 million |
| Net income | $26.6 million | $43.9 million | $48.9 million | $99.5 million |
| Diluted net income per share | $2.76 | $4.56 | $5.09 | $10.34 |
| Net interest margin | 3.29% | 3.74% | 3.27% | 4.04% |
| Return on average assets | 0.48% | 0.83% | 0.45% | 0.95% |
| Return on average equity | 5.01% | 9.13% | 4.67% | 10.55% |
At June 30, 2014, total assets were $22.1 billion, total loans and leases were $13.5 billion, deposits were $18.6 billion and shareholders’ equity was $2.15 billion. Available-for-sale securities totaled $5.54 billion. Cash and due from banks were $567.0 million, while overnight investments were $1.12 billion.
Six-month operating cash flow was $91.6 million, compared with $144.4 million in 2013. Investing activities used $183.7 million, primarily reflecting securities purchases and loan growth. Financing activities provided $125.5 million. Cash and due from banks increased by $33.4 million to $567.0 million.
Short-term borrowings were $788.5 million and long-term obligations were $314.5 million. The decline in long-term obligations primarily reflects the reclassification of $125.0 million of subordinated debt with maturities of less than one year to short-term borrowings. Free liquidity was $3.73 billion, including cash, overnight investments and unpledged available-for-sale securities. The company had access to $665.0 million of unsecured borrowing capacity and had sufficient collateral for an additional $1.11 billion of FHLB borrowings.
Material changes versus comparable periods
- Q2 net income declined 39.5% year over year, and six-month net income declined 50.8%, primarily because acquired-loan accretion income and related yields declined.
- Net interest income decreased 7.7% in Q2 and 15.0% year to date. Acquired-loan accretion income fell to $30.5 million in Q2 from $52.0 million and to $60.7 million year to date from $131.9 million.
- Net interest margin declined 45 basis points year over year in Q2 and 77 basis points year to date. Excluding acquired loans, margin was 2.85% in Q2 versus 2.88% and 2.84% year to date versus 2.89%.
- Originated loans increased 2.6% from December 31, 2013 and 6.5% from June 30, 2013, reaching $12.42 billion. Total loans increased 3.0% from year-end.
- Acquired loans increased 7.8% from year-end to $1.11 billion due to the 1st Financial acquisition, but declined 23.1% year over year because of portfolio runoff.
- Noninterest income increased 0.6% in Q2 and 3.3% year to date. Cardholder and wealth management revenue improved, while mortgage income declined 67.0% in Q2 and 71.0% year to date.
- Noninterest expense increased 5.5% in Q2 and 1.9% year to date, reflecting higher salaries, occupancy, consulting, foreclosure-related and merger expenses.
- Credit quality improved. Nonperforming assets were $175.8 million, or 1.29% of loans, leases and other real estate, compared with $237.8 million and 1.80% at June 30, 2013. Total TDRs declined to $195.9 million from $277.6 million.
- The allowance for loan and lease losses declined to $206.2 million from $233.4 million at December 31, 2013 and $258.3 million at June 30, 2013. The allowance equaled 1.52% of total loans and leases.
Guidance, outlook, commentary and unusual items
- Management expects originated loan growth to continue during the remainder of 2014, supported by improving consumer confidence and organic commercial and residential lending.
- Management expects continued pressure on margins and earnings as higher-yielding acquired loans run off and are replaced by lower-yielding traditional banking assets. Acquired-loan-related income and expense are volatile and not readily predictable.
- Two FDIC loss-share agreements expire in the third quarter of 2014 and two more expire in the first quarter of 2015. The FDIC receivable was $50.0 million, and the estimated FDIC clawback payable was $114.3 million at June 30, 2014.
- FCB completed its acquisition of 1st Financial Services Corporation on January 1, 2014 for $10.0 million, recording $24.5 million of goodwill and $3.8 million of core deposit intangibles. The transaction generated approximately $4.2 million of loan-related interest income in Q2 and $8.6 million year to date. Estimated merger costs were approximately $5.2 million incurred, with total costs estimated at $5.5 million to $6.0 million.
- On June 10, 2014, BancShares agreed to acquire First Citizens Bancorporation, Inc. of South Carolina. Closing was expected in the fourth quarter of 2014, subject to shareholder, regulatory and other conditions. Consideration included either 4.00 Class A shares plus $50 cash per Bancorporation share or 3.58 Class A shares plus 0.42 Class B shares.
- Merger-related risks include failure to obtain approvals, litigation, integration difficulties, employee and customer attrition, unexpected costs, dilution and potential inability to realize anticipated cost savings. The City of Providence filed Delaware litigation challenging aspects of the merger and seeking to enjoin the shareholder vote; management reported that damages were not reasonably calculable and moved to dismiss.
- Management enhanced its TDR impairment process to evaluate performing TDRs at the individual-loan level, increasing reserves for certain loans.
- The company maintains an interest-rate swap with a $93.5 million notional amount, hedging variable-rate trust preferred debt through June 2016.
- Technology modernization and infrastructure projects are expected to cost approximately $130 million over several years. Information-security and third-party vendor risks remain material operational concerns.
Most important facts for investors to verify
- Whether acquired-loan runoff and declining accretion income continue to reduce net interest margin, revenue and earnings.
- The pace and quality of originated loan growth, particularly commercial mortgage, commercial and industrial, and residential mortgage lending.
- Future changes in nonperforming assets, charge-offs, TDRs and allowance coverage as FDIC loss-share protection expires.
- The status, consideration mix, regulatory approvals, shareholder approvals and litigation relating to the proposed Bancorporation merger.
- The ultimate FDIC receivable recoveries, clawback payments and effects of expiring loss-share agreements.
- Whether noninterest expenses, merger costs and the $130 million technology program remain within management’s expectations.
- Capital and liquidity resilience under changing interest rates, deposit outflows and potential funding needs. BancShares reported a 9.71% tier 1 leverage ratio, 14.61% tier 1 risk-based capital ratio and 15.95% total risk-based capital ratio at June 30, 2014.