First BanCorp. — Q2 2018 Form 10-Q
Business context and period. First BanCorp. is a Puerto Rico-based financial holding company operating through FirstBank and other subsidiaries in Puerto Rico, the U.S. and British Virgin Islands, and Florida. This unaudited report covers the quarter and six months ended June 30, 2018; income-statement comparisons are to the corresponding 2017 periods, and balance-sheet comparisons are to December 31, 2017. Dollar amounts below are in millions unless stated otherwise.
Financial results
| Metric | Q2 2018 | Q2 2017 | Six months 2018 | Six months 2017 |
|---|---|---|---|---|
| Net interest income | $130.5 | $123.9 | $255.2 | $246.5 |
| Provision for loan and lease losses | $19.5 | $18.1 | $40.1 | $43.5 |
| Non-interest income | $20.5 | $20.5 | $43.3 | $28.8 |
| Non-interest expenses | $90.2 | $89.1 | $176.2 | $177.0 |
| Income before tax | $41.2 | $37.3 | $82.1 | $54.8 |
| Net income | $31.0 | $28.0 | $64.2 | $53.5 |
| Net income attributable to common shareholders | $30.4 | $27.3 | $62.8 | $52.2 |
| Diluted earnings per common share | $0.14 | $0.13 | $0.29 | $0.24 |
| Net interest margin | 4.49% | 4.44% | 4.45% | 4.43% |
Q2 net income rose 11% year over year, supported by higher net interest income. The six-month comparison also reflects unusual prior-year items: 2017 included a $13.2 million tax benefit and a $12.2 million investment-security impairment; 2018 included a $2.3 million gain on repurchased trust-preferred securities and hurricane-related reserve releases. Management’s non-GAAP adjusted net income was $61.5 million for the first half of 2018 versus $52.9 million in 2017. No common dividends were declared in either period.
Management attributed higher interest income mainly to repricing of variable-rate commercial loans, increased balances and rates on interest-bearing cash, and reinvestment in higher-yielding securities. Higher funding costs partly offset these gains. The Q2 efficiency ratio improved to 59.77% from 61.66%; first-half ratio was 59.06% versus 64.29%.
Financial position, cash flow and credit
| Metric | June 30, 2018 | December 31, 2017 |
|---|---|---|
| Total assets | $12,384.9 | $12,261.3 |
| Cash and cash equivalents | $888.4 | $716.4 |
| Loans, net, including held-for-sale loans | $8,499.1 | $8,651.6 |
| Investment securities and money-market investments | $2,327.5 | $2,095.2 |
| Total deposits | $9,218.1 | $9,022.6 |
| Total borrowings | $1,099.2 | $1,223.6 |
| Stockholders’ equity | $1,901.7 | $1,869.1 |
- First-half operating cash flow was $158.3 million, investing cash flow was negative $57.4 million, and financing cash flow was positive $71.2 million. Cash and cash equivalents increased $172.0 million.
- Deposits grew amid hurricane-relief funding and insurance proceeds. Non-interest-bearing deposits increased $483.5 million from year-end; brokered CDs fell $327.8 million to $822.7 million. Management expects hurricane-related deposit balances to decline over time, but timing and extent are uncertain.
- Reported loan-loss allowance was $222.0 million, or 2.57% of held-for-investment loans. The allowance included $42.2 million of hurricane-related qualitative reserves. First-half net charge-offs were $49.9 million, down from $75.7 million; excluding specified loan-sale charge-offs, adjusted annualized net charge-offs were 0.92% versus 1.47%.
- Non-performing assets, including non-performing loans held for sale, were $621.3 million, down from $650.6 million. Non-performing held-for-investment loans were $419.1 million versus $489.6 million. Adversely classified commercial and construction loans, including held-for-sale loans, increased $8.0 million to $490.4 million.
- Puerto Rico represented approximately 75% of held-for-investment loan exposure. Direct exposure to Puerto Rico government entities and obligations was $213.2 million; the company also reported $114.7 million of residential mortgage exposure guaranteed by the Puerto Rico Housing Finance Authority. USVI government-entity loans were $72.5 million and current at quarter-end.
- Regulatory capital remained strong: FirstBank’s total capital, CET1, Tier 1 and leverage ratios were 22.98%, 18.17%, 21.72% and 15.48%, respectively. First BanCorp.’s corresponding ratios were 23.47%, 19.73%, 20.14% and 14.35%.
Outlook, risks and unusual matters
- No formal earnings or revenue guidance is provided. Management said liquidity and available borrowing capacity should support business plans for the foreseeable future, while noting dependence on deposit funding and continuing regulatory constraints.
- Liquidity resources included estimated core liquidity of $2.2 billion, approximately $491.6 million of additional FHLB capacity, and about $1.2 billion of unpledged liquid securities. Brokered CDs remain a funding risk: approximately $457.8 million mature within 12 months.
- Interest-rate simulations indicated asset sensitivity: on a growing-balance-sheet basis, modeled next-12-month net interest income increased $17.3 million under a gradual +200-basis-point scenario and decreased $18.0 million under a falling-rate scenario. These are model estimates, not guidance.
- Hurricane recovery, rebuilding and insurance settlements remain uncertain. The filing cites Puerto Rico’s fiscal crisis, PROMESA debt restructuring, public-sector exposure, regional economic weakness, real-estate values and loan quality, funding access, and regulatory approvals as important risks. Management recorded hurricane-related reserve releases of $2.1 million in Q2 and $8.5 million in the first half; the related reserve estimate remains subject to revision.
- FirstBank’s ability to pay dividends to the holding company, and the holding company’s ability to pay dividends or make certain debt and capital transactions, remain subject to regulatory approvals. Preferred dividends were approved through September 2018; common dividends were not declared.
- Management disclosed that disclosure controls were ineffective at June 30, 2018 because a material weakness in review of commercial-loan allowance assumptions had not been fully remediated. Revised procedures were implemented, but operating effectiveness had not yet been fully tested; management expected remediation in the second half of 2018.
- A Puerto Rico class action involving alleged insurance “good experience” commissions remained unresolved after the appellate court reversed dismissal and the Supreme Court denied defendants’ certiorari petitions. Management said no material-loss disclosure was required based on its assessment at quarter-end, but an unfavorable outcome could be material in a particular period.
- The company was assessing CECL implementation, effective for SEC filers in fiscal years beginning after December 15, 2019. It had not yet determined the adoption impact.
Important facts for investors to verify
- Whether commercial-loan allowance controls are independently validated and the disclosed material weakness is remediated.
- Whether hurricane-related credit losses, reserve assumptions, customer deposits and insurance recoveries develop as management expects.
- Trends in new commercial-loan downgrades, non-performing assets, charge-offs and OREO valuations, including the concentration of exposure in Puerto Rico.
- Brokered-CD maturities, deposit retention, available liquidity and required regulatory approvals for dividends and debt payments.
- Progress and potential financial effects of Puerto Rico fiscal measures and debt restructuring, and the status and potential exposure of the insurance-commission case.