Business Context and Reporting Period
Company: TRUSTCO BANK CORP N Y
Filing Type: Form 10-Q (Quarterly Report)
Period Ended: September 30, 2007
Business Overview: TrustCo is a bank holding company operating primarily in upstate New York. Its principal loan product is residential real estate loans, and it maintains a significant portfolio of securities, including U.S. government-sponsored enterprises. The company adopted SFAS No. 159 (Fair Value Option) effective January 1, 2007, significantly altering its investment portfolio classification.
Key Financial Metrics
| Metric (in thousands) | Three Months Ended Sep 30, 2007 | Nine Months Ended Sep 30, 2007 | Nine Months Ended Sep 30, 2006 |
|---|---|---|---|
| Total Assets | $3,341,187 | $3,341,187 | $3,161,187 (Dec 31, 2006) |
| Total Deposits | $2,984,410 | $2,984,410 | $2,799,383 (Dec 31, 2006) |
| Net Interest Income | $24,555 | $72,258 | $74,798 |
| Noninterest Income | $4,751 | $13,445 | $11,117 |
| Noninterest Expenses | $13,597 | $39,761 | $35,610 |
| Net Income | $10,640 | $31,061 | $35,969 |
| Diluted EPS | $0.141 | $0.413 | $0.479 |
| Cash and Cash Equivalents | $322,671 | $322,671 | $291,338 (Dec 31, 2006) |
| Shareholders' Equity | $234,816 | $234,816 | $239,523 (Dec 31, 2006) |
Capital Ratios (as of Sep 30, 2007): Tier 1 Risk-Adjusted Capital: 13.44%; Total Risk-Adjusted Capital: 14.70%.
Material Changes vs. Prior Period
- Net Income Decline: Net income for the nine months ended September 30, 2007, decreased to $31.1 million from $36.0 million in the prior year period. Diluted EPS fell from $0.479 to $0.413.
- Net Interest Margin Compression: The net interest margin declined to 3.11% for the nine months of 2007, down from 3.57% in 2006. This was driven by a decrease in the net interest spread from 3.17% to 2.67%.
- Portfolio Restructuring (SFAS 159): The company reclassified approximately $517 million of securities from "Available-for-Sale" to "Trading" upon adopting SFAS No. 159. This resulted in a $8.6 million charge to undivided profits (equity) rather than net income at the time of adoption. Consequently, trading securities increased to $450.5 million, while available-for-sale securities decreased significantly.
- Loan Growth: Total loans increased to $1.91 billion from $1.76 billion at year-end 2006. Residential mortgage loans grew 16.0% year-over-year in average balance.
- Expense Increase: Noninterest expenses rose $4.2 million year-over-year for the nine-month period, primarily due to increased salaries (branch expansion) and occupancy costs.
- Provision for Loan Losses: The provision was zero for the nine months of 2007, compared to a credit of $3.6 million in the same period in 2006.
Outlook, Risks, and Management Commentary
- Interest Rate Environment: Management notes the impact of a flat or mildly inverted yield curve. The Federal Reserve reduced the federal funds rate by 50 basis points to 4.75% in September 2007. The company is managing liquidity by holding higher balances in federal funds sold ($377.7 million average in Q3 2007).
- Dividend Policy: The dividend payout ratio for the nine months of 2007 was 113.0%. Management stated this ratio is not sustainable indefinitely and expects to manage it down.
- Credit Quality: Nonperforming loans increased to $8.9 million (from $7.1 million at year-end 2006), primarily in residential real estate and retail consumer loans. However, the allowance for loan losses decreased to $34.7 million (1.82% of loans) due to positive credit quality indicators offsetting loan growth.
- Accounting Changes: The adoption of SFAS 159 allows the company to sell securities without recording other-than-temporary impairment on the remainder of the available-for-sale portfolio, which management views as beneficial for portfolio management.
- Tax Contingencies: The company has $4.05 million in unrecognized tax benefits. New York State tax returns are under audit for periods 2002-2005. Management does not expect a significant change in this estimate unless audits are completed.
Investor Verification Checklist
- Dividend Sustainability: Verify the company's plan to reduce the dividend payout ratio, which currently exceeds 100% of earnings.
- Trading Portfolio Volatility: Assess the impact of the $450.5 million trading securities portfolio on future earnings volatility, as unrealized gains/losses flow directly to the income statement.
- Nonperforming Asset Trends: Monitor the increase in nonperforming loans ($8.9 million) and the shift in problem loans from commercial to residential/consumer sectors.
- Net Interest Margin Pressure: Evaluate the ability to maintain margins in a declining interest rate environment where deposit costs have risen (average rate on interest-bearing deposits increased to 3.32% YTD 2007).
- Regulatory Capital: Confirm that capital ratios remain well above regulatory minimums despite the decline in total shareholders' equity.