First Merchants Corporation — Q1 2015 Form 10-Q
Reporting period: Three months ended March 31, 2015; balance-sheet comparisons are with December 31, 2014. First Merchants is an Indiana-based financial holding company focused on community banking, with 106 banking locations across Indiana, Illinois and Ohio. Amounts below are in U.S. dollars; financial statement figures are generally in millions unless stated otherwise.
Financial performance and position
- Earnings: Net income available to common stockholders was $16.2 million, up 18.7% from $13.6 million a year earlier. Diluted EPS rose to $0.43 from $0.38. Pre-tax income was $22.0 million; income tax expense was $5.8 million.
- Revenue and margin: Net interest income was $47.0 million, up from $45.9 million; other income was $16.2 million, up from $15.4 million. On a fully taxable equivalent basis, net interest income was $49.2 million versus $47.8 million. Net interest margin declined to 3.78% from 3.97%, as asset yields fell and funding costs rose.
- Expenses: Non-interest expense was $41.2 million, down 4.4% from $43.1 million. The filing attributes much of the reduction to lower employee health-benefit costs and other real estate owned expenses; Q1 2015 also included $0.5 million of acquisition and integration costs.
- Cash flow: Operating activities provided $17.7 million, investing activities used $66.0 million, and financing activities provided $19.0 million. Cash and cash equivalents fell $29.4 million during the quarter to $89.2 million.
- Balance sheet and lending: Total assets were $5.88 billion, up $53.4 million from year-end. Gross loans were $3.97 billion, up $40.7 million; deposits were $4.65 billion, up $7.4 million. Stockholders’ equity was $739.7 million.
- Funding and liquidity: Total borrowings were $427.2 million, up $15.2 million from year-end. FHLB advances were $166.3 million, and remaining FHLB borrowing capacity was $375.2 million. The company reported $538.1 million of available-for-sale securities. Loan commitments and standby/commercial letters of credit totaled approximately $1.71 billion; the filing cautions that these commitments are not necessarily expected to be fully drawn.
- Credit and capital: The allowance for loan losses was $62.8 million, or 1.58% of loans, and covered 141.7% of non-accrual loans. Non-performing loans were $45.6 million, down $5.1 million from year-end. No loan-loss provision was recorded; net charge-offs were $1.2 million, versus net recoveries of $1.7 million in Q1 2014. The Bank met the regulatory definition of well-capitalized; its common equity Tier 1 ratio was 12.99% and total risk-based capital ratio was 14.24%. Tangible common equity to tangible assets was 9.31%.
Material changes and notable items
- Compared with Q1 2014, earnings improved alongside higher net interest income and other income and lower non-interest expense. The comparison is affected by acquisitions: Community Bancshares was acquired in November 2014, and contributed to the larger balance sheet and reported results.
- Net gains on loan sales rose to $1.5 million from $0.7 million; realized securities gains were $1.0 million versus $0.6 million. These gains contributed to non-interest income.
- Management reported improved credit metrics overall, including lower non-performing loans and impaired loans. However, specific reserves on impaired loans increased to $4.6 million from $2.8 million at year-end, and Q1 2015 included a large agricultural-related charge-off.
- After quarter-end, on April 17, 2015, First Merchants completed its approximately $14.5 million merger with C Financial Corporation. The filing estimated combined assets of approximately $6.0 billion following the transaction.
- Basel III capital rules became effective for the Corporation on January 1, 2015. Management stated the Corporation and Bank elected to exclude accumulated other comprehensive income from regulatory capital.
Outlook, commentary, risks and contingencies
- The filing provides no specific earnings or revenue guidance. Management noted that interim results are not necessarily indicative of full-year results.
- Management’s interest-rate simulation estimated 12-month net interest income of $179.6 million in the base case, $194.3 million under an immediate 200-basis-point rise (+8.14%), and $176.1 million under a 100-basis-point decline (-1.95%). The filing cautions that model assumptions and actual outcomes may differ.
- Key risks cited include interest-rate and pricing movements, adverse economic conditions and credit deterioration, competition and regulatory changes, acquisition integration, and the availability of earnings and capital to support dividends. Management specifically noted that weaker economic conditions or declining real-estate values could raise delinquencies and credit losses.
- Management said ordinary-course claims, lawsuits and regulatory examinations were not expected to have a material adverse effect. No legal proceedings were reported, and the company disclosed no material changes to previously reported risk factors.
- The company reported compliance with covenants on its senior debt and revolving credit line. The $20 million line had no outstanding balance at quarter-end; its maturity was extended to April 8, 2016 after the quarter.
Important facts for investors to verify
- Whether loan-loss reserves remain adequate as agricultural charge-offs and specific impaired-loan reserves rise, despite lower reported non-performing loans.
- Whether net interest margin stabilizes, given higher deposit costs and management’s sensitivity to interest-rate changes.
- How the C Financial acquisition affects post-close assets, earnings, integration expenses and capital.
- How much of the reported earnings improvement is recurring versus attributable to loan-sale gains, securities gains, acquisition effects and lower one-time costs.
- Liquidity and funding trends, including cash balances, borrowings and potential drawdowns against the substantial off-balance-sheet commitments.