The Bancorp, Inc. — Q1 2020 Form 10-Q
Reporting period: Three months ended March 31, 2020; balance-sheet comparisons are to December 31, 2019. The Bancorp is a financial holding company whose bank subsidiary focuses on specialty lending and payment services. Amounts below are in millions unless otherwise noted.
Business context and key financial metrics
- Revenue and earnings: Net interest income was $42.9, up 26.2% from $34.0 in Q1 2019. Non-interest income was $16.6, down from $30.4, largely reflecting a $5.2 loss on commercial loans originated for sale versus $10.8 of gains in the prior-year quarter. Continuing-operations pretax income was $17.5; net income from continuing operations was $13.2, or $0.23 per diluted share. Total net income, including discontinued operations, was $12.6, or $0.22 per diluted share, versus $17.9, or $0.32, a year earlier.
- Margins and expenses: Net interest margin was 3.34%, versus 3.41% in Q1 2019. The average yield on loans fell to 4.80% from 5.32%; the cost of deposits and interest-bearing liabilities fell to 0.70% from 0.98%. Non-interest expense declined 2.1% to $38.4.
- Credit costs and asset quality: Provision for credit losses was $3.6, compared with $1.7. The allowance for credit losses was $14.9, or 0.75% of loans, at quarter-end, up from $10.2 and 0.56% at year-end. Non-performing loans were $7.9, down from $9.1 at year-end; net charge-offs were $1.4, up from $0.4 in Q1 2019. Management added about $0.8 to provision based on COVID-19-related uncertainty.
- Balance sheet: Total assets were $5,458.1; loans, net, were $1,970.9; and commercial loans held for sale were $1,716.5. Available-for-sale securities were $1,353.3. Total deposits were $4,691.1, down from $5,052.0 at year-end, primarily following maturity of $475.0 of time deposits. Shareholders’ equity was $498.1.
- Liquidity and debt: Cash and cash equivalents were $119.6, down from $944.5 at year-end. The company reported $140.0 of short-term borrowings, all outstanding on its Federal Reserve line, versus none at year-end; long-term borrowings were $40.8 and subordinated debentures $13.4. Available borrowing sources included a $1.12 billion Federal Reserve line and approximately $750 of FHLB availability, subject to collateral and applicable terms.
- Cash flow: Operating activities used $507.4, compared with $99.0 provided in Q1 2019. The 2020 use primarily reflected the timing and volume of commercial loans originated for sale. Investing activities used $97.2 and financing activities used $220.3. Cash declined $824.9 during the quarter.
- Capital: At March 31, the Bancorp’s Tier 1 leverage ratio was 8.90% and its total risk-based capital ratio was 17.50%; the Bank’s corresponding ratios were 8.76% and 17.22%. Both were reported as well capitalized.
Material changes versus the prior comparable period
- Reported continuing-operations pretax income decreased from $23.4 to $17.5, while net income fell from $17.9 to $12.6. Management said that excluding Q1 2020’s $5.1 of CRE-related unrealized losses and Q1 2019’s $10.7 of realized and unrealized loan-sale gains, pretax income increased from $12.7 to $22.6, primarily due to loan growth and higher net interest income.
- Average loans and leases increased 43.3% year over year to $3.26 billion. Management cited growth in commercial real estate (CRE) loans originated for sale, SBLOC/IBLOC, SBA lending, and leasing. Quarter-end SBLOC/IBLOC loans were $1.16 billion, up 46% from March 2019.
- Prepaid, debit-card and related fees rose 14.7% to $18.5. ACH, card and other payment-processing fees declined 19.8% to $1.8, attributed to exiting higher-risk ACH customers.
- The allowance for credit losses increased in part because the company adopted CECL on January 1, 2020, recording a $2.6 increase to the loan allowance and a $0.6 reserve for unfunded commitments, with the day-one effect recorded through retained earnings rather than current-quarter earnings.
Outlook, management commentary, risks and unusual items
- COVID-19 and credit outlook: Management said the pandemic’s duration and economic effects were uncertain and could increase future credit provisions or reduce fair values and earnings. Certain loans could receive payment deferrals of up to six months without being classified as delinquent, non-accrual or troubled debt restructurings under applicable guidance. As of April 23, deferral requests covered $246.1, or 6%, of $3,806.8 in listed loan principal; requests were highest in small-business lending (22%) and direct leases (18%).
- Portfolio exposures and interest rates: The $1.50 billion CRE held-for-sale portfolio was predominantly multifamily; $57.9 related to hotel loans, which management identified as a potentially elevated risk. The company reported $5.1 of Q1 CRE-loan and hedge losses, including $2.9 of fair-value charges on unsold loans and $2.2 on related hedges. Management said some losses could reverse, depending on market rates, conditions and loan performance. It estimated the SBLOC/IBLOC yield could decline from about 3.5% in Q1 to 2.3% in Q2 following rate cuts, partly offset by lower funding costs and rate floors on much of the CRE portfolio.
- Government programs and planned sale: By April 28, the company had originated about 1,250 Paycheck Protection Program loans totaling more than $200, with approximately $5.5 of expected fees and interest, primarily in Q2. A planned sale of approximately $825 of CRE loans did not close in April. The purchaser had deposited $12.5, which the company concluded it was entitled to retain; the timing of income recognition remained subject to accounting rules.
- Other credit and valuation matters: A vehicle-loan borrower with a $15.3 balance entered an orderly liquidation arrangement and was classified as a troubled debt restructuring. Management estimated vehicle proceeds would cover amounts due but cautioned recovery and timing were not assured. The filing also describes significant fair-value estimates based on unobservable inputs for loans held for sale, securities and discontinued-operation assets.
- Legal and regulatory matters: The Bank is defending a Delaware False Claims Act lawsuit concerning unclaimed balances on certain prepaid cards; the motion to dismiss was denied, and the company said it could not determine whether the outcome would materially affect it. The company is responding to two non-public SEC fact-finding inquiries, including subpoenas related to debit-card activity and the CMBS business; the SEC had made no findings or allegations of wrongdoing, but response costs could be material. The Bank’s BSA corrective-action report remained under regulatory review, and the Bank remained subject to restrictions on dividends without prior FDIC approval. The company reported the 2015 consent-order corrective action plan was completed in January 2020.
- Unusual accounting and operations: The company transferred its four LIBOR-based held-to-maturity securities to available-for-sale under temporary accounting relief. A January acquisition of McMahon Leasing was recorded using preliminary purchase-price allocations, with accounting expected to be completed by Q4 2020. Management provided no formal full-year earnings guidance and cautioned that Q1 results may not indicate full-year performance.
Important facts for investors to verify
- Whether the failed $825 CRE loan sale is replaced or the loans remain on balance sheet, and when/how the $12.5 deposit is recognized as income.
- Actual performance, fair values and credit losses in the CRE held-for-sale portfolio, particularly hotel exposure, and in SBLOC/IBLOC and direct leasing as pandemic effects develop.
- Subsequent loan-deferral volumes, borrower performance after deferrals, and changes to CECL provisions and allowance coverage.
- Deposit stability and liquidity after the large cash decline, including continued Federal Reserve borrowing and the availability of secured facilities.
- Developments in the SEC inquiries, prepaid-card litigation and outstanding regulatory requirements, including potential costs or operating restrictions.
- Realization of the projected PPP fees and interest, and completion of McMahon Leasing’s purchase accounting.