REPUBLIC BANCORP INC annual report, FY2019

Business context and reporting period

Republic Bancorp, Inc. (NASDAQ: RBCAA) is a Louisville-based financial holding company whose principal subsidiary is Republic Bank & Trust Company. Its five reporting segments are Traditional Banking, Warehouse Lending, Mortgage Banking, Tax Refund Solutions (TRS) and Republic Credit Solutions (RCS). This Form 10-K covers the fiscal year ended December 31, 2019; it is an annual report, not a standalone fourth-quarter filing. Unless noted, amounts below are for the full year and rounded.

Financial performance and condition

Management’s adjusted, non-GAAP results exclude the branch divestiture’s one-time benefits: adjusted net income was $84.8 million, up 9%, and adjusted diluted Class A EPS was $4.06, also up 9%. The filing reports total-company GAAP net interest margin of 4.46%; Core Bank margin was 3.61%, versus 3.70% in 2018. The efficiency ratio was 57% in both years.

Year-end cash and cash equivalents were $385.3 million, versus $351.5 million. The Bank reported $259 million of available FHLB borrowing capacity, $125 million of unsecured lines with other financial institutions and $304 million of unencumbered securities. Its loan-to-deposit ratio excluding brokered deposits was 126%, versus 120%. FHLB advances were $750 million, repurchase-agreement and other short-term borrowings were $167.6 million, and the subordinated note was $41.2 million.

Capital remained strong: the Company’s total risk-based capital ratio was 17.01%, common equity Tier 1 ratio 15.29% and Tier 1 leverage ratio 13.93%. The Bank was categorized as well-capitalized. Stockholders’ equity was $764.2 million, up from $689.9 million; Class A dividends declared totaled $1.056 per share for 2019.

Material changes versus the prior comparable period

• Net income growth included a $7.8 million pretax gain on a November 2019 sale of four Kentucky banking centers, plus a $0.9 million provision credit on divested loans. Excluding the divestiture benefit, adjusted net income rose 9%, rather than the GAAP increase of 18%.
• Growth in average loan balances lifted net interest income, but margin compression partly offset that benefit. The Federal Reserve cut rates by 75 basis points in 2019; management cited a flat or intermittently inverted yield curve and deposit-cost pressures.
• Mortgage banking income rose 97% to $9.5 million as secondary-market originations increased to $356 million from $177 million.
• RCS net income increased 39%, with lower provision expense and noninterest expense; its credit-card product had been discontinued in December 2018. TRS net income increased 1%, while EA net losses rose: the loss rate on originations was 2.74%, versus 2.50% in 2018.
• Credit quality measures weakened in parts of the portfolio: nonperforming loans increased to $23.5 million from $16.1 million, and nonperforming loans to total loans rose to 0.53% from 0.39%. Delinquent loans to total loans rose to 0.47% from 0.38%. The allowance fell to $43.4 million from $44.7 million, or 0.98% of loans versus 1.08%.
• Deposits increased despite the transfer of $132 million of deposits in the branch sale. Brokered deposits increased substantially, and management noted reliance on wholesale and other non-core funding sources.

Outlook, management commentary, risks and unusual items

• The filing provides no company-wide earnings or revenue guidance. Management said a flat or inverted yield curve could continue to pressure margins. An industry forecast cited by management projected U.S. mortgage originations to decline 7% in 2020, potentially reducing warehouse-line usage; this is an external forecast, not Republic guidance.
• Republic adopted CECL on January 1, 2020. It expected an increase of $6.5 million to $8.0 million, or 15%–20%, in the loan and lease allowance, plus $51,000 for investment debt securities and approximately $500,000 for off-balance-sheet exposures. The filing says adoption entries were expected by the end of Q1 2020 and that model validation was not yet final. Management warned the method could increase provision volatility.
• TRS is seasonal and concentrated in tax season. EA advances are unsecured in the sense that there is no recourse to the taxpayer if the refund is insufficient; collections depend on refund proceeds. For the 2020 tax season, the company changed pricing and stated the taxpayer APR would not exceed 36%.
• Material risks include credit deterioration, particularly in RCS and tax advances; concentration and seasonal swings in warehouse lending; deposit outflows and higher replacement funding costs; interest-rate and yield-curve movements; mortgage-servicing-right valuation; third-party provider, cybersecurity and compliance risks; and the planned LIBOR transition. Management also identified potential regulatory or public pressure affecting nontraditional RPG products.
• The branch sale transferred approximately $128 million in loans and $132 million in deposits; the blended premium was 6.1% of transferred deposits. The company also reported no pending or threatened legal proceeding known to management that could materially adversely affect the company.

Most important facts for investors to verify

• Reconcile reported earnings growth to adjusted results and assess the sustainability of the branch-sale gain and provision credit.
• Track subsequent nonperforming, delinquent and classified loans, especially the increase in commercial problem credits, and test allowance adequacy.
• Review deposit composition, brokered-funding levels, the 126% loan-to-deposit ratio excluding brokered deposits, and available contingent liquidity.
• Monitor net interest margin and funding costs after 2019 rate cuts, and review management’s interest-rate sensitivity estimates and LIBOR-transition exposure.
• Confirm the final CECL adoption adjustment and its effects on retained earnings, reserves and provision expense.
• Assess EA loss rates and RCS performance, including the new installment-loan program, third-party oversight and applicable consumer-protection requirements.