COLUMBIA BANKING SYSTEM, INC. annual report, FY2015

Columbia Banking System, Inc. — 2015 Form 10-K Summary

Business context and reporting period

Columbia Banking System, Inc. is a Tacoma, Washington-based bank holding company whose principal subsidiary, Columbia State Bank, provides commercial, consumer, residential, wealth-management and trust services across Washington, Oregon and Idaho. The filing covers the fiscal year ended December 31, 2015, with comparative information for 2014 and 2013. The Company operated 149 branches and employed 1,868 full-time-equivalent employees at year-end.

The Company continued integrating its November 2014 acquisition of Intermountain Community Bancorp, which expanded its presence in Idaho. Effective January 1, 2016, the Bank’s trust department was consolidated into West Coast Trust, which was renamed Columbia Trust Company.

Key financial metrics

Metric	2015	2014	Change
Net interest income	$324.9 million	$304.0 million	+7%
Provision for loan losses	$8.6 million	$6.7 million	+$1.9 million
Noninterest income	$91.5 million	$59.8 million	+53%
Noninterest expense	$266.1 million	$239.3 million	+11%
Net income	$98.8 million	$81.6 million	+21%
Diluted EPS	$1.71	$1.52	+$0.19
Net interest margin, tax-equivalent	4.35%	4.76%	Down 41 bps
Return on average assets	1.14%	1.09%	Up 5 bps
Return on average common equity	7.93%	7.36%	Up 57 bps

Fourth-quarter 2015 net income was $26.7 million, or $0.46 diluted EPS, compared with $18.9 million, or $0.34 diluted EPS, in the fourth quarter of 2014.

Balance sheet, credit quality, cash flow and liquidity

• Total assets increased 4% to $8.95 billion; loans increased 7% to $5.82 billion, primarily from new loan production.
• Deposits increased 7% to $7.44 billion. Core deposits increased to $7.13 billion and represented approximately 96% of total deposits.
• Available-for-sale securities were $2.16 billion, and shareholders’ equity was $1.24 billion.
• Federal Home Loan Bank advances declined to $68.5 million from $216.6 million. Repurchase agreements totaled $99.7 million.
• Cash and cash equivalents were $175.3 million at year-end. Net cash provided by operating activities was $134.8 million; investing activities used $423.1 million, primarily for loan growth and securities purchases; financing activities provided $275.4 million, primarily from deposit growth.
• The Company had unused borrowing capacity of approximately $1.33 billion with the FHLB and $85.4 million with the Federal Reserve.
• Nonperforming assets declined to $35.2 million, or 0.39% of year-end assets, from $53.6 million, or 0.62%, in 2014. Nonaccrual loans declined to $21.5 million from $31.4 million.
• The allowance for loan and lease losses was $68.2 million, or 1.17% of loans, compared with $69.6 million, or 1.28%, in 2014. Net charge-offs were $10.0 million, or 0.18% of average loans.
• Commercial business and commercial or multifamily real estate loans represented the largest portfolio concentrations. Approximately 60% of gross loans were secured by real estate.
• The Company and Bank were well capitalized. Company ratios included 11.94% CET1, 11.95% Tier 1, 12.94% total risk-based capital and 10.03% Tier 1 leverage. Bank ratios were 11.76%, 11.76%, 12.75% and 9.89%, respectively.

Material changes versus the prior comparable period

• Profitability improved, with net income up 21% and diluted EPS up 13%.
• Net interest income grew from loan and securities growth, although the tax-equivalent net interest margin declined because of lower asset yields and reduced accretion income from acquired loans.
• Noninterest income benefited from higher service charges and fees, a smaller reduction in the FDIC loss-sharing asset, higher other income and a $3.1 million favorable adjustment to the West Coast mortgage repurchase liability.
• Noninterest expense increased $26.9 million, mainly from personnel, occupancy and data-processing costs associated with the Intermountain acquisition. Acquisition-related expenses increased to $10.9 million from $9.4 million.
• Credit metrics improved overall, including lower nonperforming assets, nonaccrual loans and OREO. However, potential problem loans increased to $23.7 million from $7.8 million.
• The FDIC loss-sharing asset fell to $6.6 million from $15.2 million as covered-asset cash flows improved and the asset was amortized.
• Other comprehensive income shifted to an $11.9 million loss from $17.7 million of income, largely due to unrealized securities losses and pension-related adjustments.
• The Company paid $1.34 per common share in 2015, including regular and special dividends, versus $0.94 in 2014. A $0.18 regular dividend and $0.20 special dividend were declared in January 2016.

Outlook, management commentary, risks and unusual items

Management’s strategy is to expand market share through organic loan and deposit growth, use of the existing branch network, selective new branches and disciplined business combinations. The filing does not provide quantitative earnings or revenue guidance.

• Management expects continued emphasis on commercial relationship banking and core-deposit growth.
• Interest-rate sensitivity analysis indicated estimated year-one net interest income declines of $6.5 million under a gradual 100-basis-point rate decline and an increase of $6.0 million under a gradual 200-basis-point increase. These estimates depend on assumptions regarding repricing, prepayments, deposit behavior and loan volumes.
• The filing identifies risks from Pacific Northwest economic conditions, commercial real estate and commercial loan concentrations, collateral values, credit migration, interest-rate changes, competition, acquisitions and integration, regulatory requirements, cybersecurity, technology failures, legal proceedings and natural disasters.
• Unrealized losses on available-for-sale securities were $18.3 million at year-end. Management did not consider the securities other-than-temporarily impaired and did not expect to be required to sell them before recovery.
• Goodwill totaled $382.8 million. The annual impairment test resulted in no impairment charge, but future adverse changes in the business, regulatory environment, stock price or economic conditions could require a write-down.
• The Company recorded a $514,000 reduction to 2015 net income after revising depreciation estimates for an Intermountain-acquired asset expected to be abandoned. An additional after-tax expense of approximately $1.6 million was expected in the first quarter of 2016.
• FDIC loss-sharing agreements create potential clawback obligations; the estimated net present value of the clawback liability was $5.2 million at year-end.
• Future dividends depend on earnings, capital levels, regulatory restrictions and dividends received from the Bank. The Company relies substantially on Bank dividends for holding-company liquidity.
• Routine litigation was disclosed, but management stated that any resulting liabilities were not expected to have a material adverse effect. Management and Deloitte & Touche LLP reported effective internal control over financial reporting and issued unqualified audit opinions.

Most important facts for investors to verify

• Whether loan growth remains strong without a corresponding deterioration in commercial real estate, commercial business or construction credit quality.
• Whether potential problem loans of $23.7 million convert into nonaccrual loans or charge-offs and whether the $68.2 million allowance remains adequate.
• The sustainability of noninterest income, particularly the reduction in FDIC loss-sharing charges and the favorable mortgage repurchase-liability adjustment.
• Whether the declining net interest margin and lower acquired-loan accretion pressure future earnings.
• The level and timing of remaining acquisition and integration costs, including the expected $1.6 million after-tax asset-abandonment expense in early 2016.
• The effect of Basel III capital-buffer phase-in, potential growth beyond $10 billion in assets and related stress-testing and regulatory requirements.
• The potential impact of $18.3 million of unrealized securities losses, interest-rate movements and mortgage prepayments on accumulated other comprehensive income and capital.
• The ability of the Bank to continue funding holding-company dividends and operations while maintaining well-capitalized status.