First Merchants Corporation — Q2 2016 Form 10-Q
Reporting period: Three and six months ended June 30, 2016. First Merchants is an Indiana-based financial holding company whose principal business is community banking, operating 107 banking locations across Indiana, Illinois and Ohio.
Key financial results
| Metric | Q2 2016 | Q2 2015 | Six months 2016 | Six months 2015 |
|---|---|---|---|---|
| Net interest income | $56.0 million | $49.0 million | $110.4 million | $96.0 million |
| Provision for loan losses | $0.8 million | $0.4 million | $1.3 million | $0.4 million |
| Net income available to common shareholders | $20.0 million | $18.0 million | $37.7 million | $34.1 million |
| Diluted EPS | $0.49 | $0.47 | $0.92 | $0.90 |
| Net interest margin, FTE | 3.86% | 3.81% | 3.85% | 3.79% |
Q2 pre-tax income was $26.7 million, compared with $26.8 million; lower tax expense lifted net income. The effective tax rate was 25.1%, versus 33.0%. Q2 noninterest income was $16.4 million, down from $24.1 million, primarily reflecting the prior-year insurance-subsidiary sale and lost insurance commissions. Six-month other comprehensive income was $8.4 million, mainly reflecting gains on available-for-sale securities.
Balance sheet, cash flow and capital
- At June 30, assets were $6.91 billion, up 2.2% from December 31, 2015. Net loans were $4.73 billion; deposits were $5.41 billion, up $117.9 million.
- Total borrowings were $557.0 million, down $11.5 million from year-end. They included $268.6 million of FHLB advances and $127.7 million of subordinated debentures and term loans.
- Cash and cash equivalents were $120.5 million, up $18.3 million over the six months. Operating cash flow was $34.6 million; investing activities used $111.5 million and financing activities provided $95.3 million.
- Common dividends were $0.14 per share for Q2 and $0.25 for the first half. The Bank met regulatory well-capitalized requirements; its total risk-based capital ratio was 13.80%, common equity tier 1 was 12.68%, and tier 1 leverage was 10.66%.
- Available-for-sale securities totaled $658.8 million. Remaining FHLB borrowing capacity was $343.9 million. Outstanding loan commitments and letters of credit totaled approximately $1.91 billion; the filing notes that commitments may expire unused or be only partially drawn.
Changes, management commentary and risks
- Net income increased year over year, supported by higher net interest income and a lower effective tax rate. Acquisitions of C Financial in 2015 and Ameriana at year-end 2015 expanded earning assets and contributed to loan growth. Purchased-loan fair-value accretion was $3.2 million in Q2 and $5.7 million in the first half.
- Net interest margin improved year over year. Management attributed growth in net interest income primarily to acquired balances and organic loan growth. The filing provides no earnings guidance or specific forecast.
- Credit indicators were mixed: nonperforming loans were $37.9 million, up $4.6 million from year-end, while nonperforming assets plus loans 90 days delinquent were nearly unchanged at $51.4 million. Non-accrual loans were $33.6 million. The allowance was $62.2 million, or 1.29% of loans, and covered non-accrual loans by 185.3%.
- Six-month net charge-offs were $1.6 million, below $1.8 million a year earlier; the provision increased to $1.3 million from $0.4 million. Management considers the allowance adequate, but estimates depend on borrower conditions, collateral values and economic assumptions.
- Interest-rate sensitivity modeling estimated 12-month net interest income would rise 9.27% under an immediate 200-basis-point increase and fall 3.96% under a 100-basis-point decrease versus the base case. Management cautions that model assumptions and actual outcomes may differ.
- Key stated risks include interest-rate and loan/deposit pricing changes, economic weakness and credit deterioration, competition, regulation, acquisition integration, liquidity and maintaining earnings and capital for dividends. The Bank completed conversion from a national to an Indiana state charter in April 2016; management expected no operational or customer impact.
- The company sold its insurance subsidiary in June 2015, recognizing an $8.3 million gain that boosted the prior-year comparison. Management said ordinary-course litigation and regulatory examinations were not expected to have a material adverse effect; no material risk-factor changes were reported.
Important facts for investors to verify
- Whether nonperforming loans, commercial real-estate exposures and troubled restructurings continue to improve or worsen.
- How much future earnings depend on acquired-loan accretion and whether margin gains persist as rates and funding costs change.
- The assumptions behind allowance adequacy, collateral valuations and the sensitivity of results to economic conditions.
- Actual liquidity and capital capacity relative to loan commitments, borrowing availability, debt maturities and dividend plans.
- The status and eventual financial impact of the Ameriana purchase-price allocation and integration; the filing describes the allocation as preliminary.