Fulton Financial Corporation — Q1 2012 Form 10-Q
Business context and period: Unaudited results for the three months ended March 31, 2012, compared with Q1 2011. Fulton is a Pennsylvania-based financial holding company whose principal revenues come from lending, investments and banking services.
Financial performance and position
| Metric | Q1 2012 / March 31, 2012 | Comparable period / change |
|---|---|---|
| Net interest income | $138.7 million | Down 0.6% from $139.6 million |
| Net interest margin, FTE | 3.85% | 3.91% in Q1 2011 |
| Provision for credit losses | $28.0 million | Down 26.3% from $38.0 million |
| Other income | $51.7 million | Up 13.7% from $45.5 million |
| Other expenses | $110.7 million | Up 9.8% from $100.9 million |
| Net income | $38.1 million; diluted EPS $0.19 | Up 12.9% from $33.8 million; diluted EPS $0.17 |
| Cash dividends per share | $0.07 | $0.04 in Q1 2011 |
| Net cash from operating activities | $63.1 million | $141.4 million in Q1 2011 |
| Total assets | $16.54 billion | Up 1.0% from December 31, 2011 |
| Loans, net of unearned income | $11.96 billion | Down 0.1% from year-end |
| Deposits | $12.34 billion | Down 1.5% from year-end |
| Shareholders’ equity | $2.02 billion | Up 1.5% from year-end |
Operating cash flow was $63.1 million; investing activities used $134.6 million, mainly reflecting securities purchases, and financing activities provided $65.7 million, principally from higher short-term borrowings. Cash and due from banks ended the quarter at $286.9 million.
Capital ratios at March 31 were 15.5% total capital to risk-weighted assets, 13.0% Tier 1 capital to risk-weighted assets and 10.4% Tier 1 capital to average assets. Bank subsidiaries exceeded “well capitalized” thresholds. Management stated the company met Basel III fully phased-in minimum capital ratios; U.S. implementing regulations had not yet been proposed.
Material changes and management commentary
- Pre-tax income rose 11.9%, mainly because credit-loss provisions fell $10.0 million and mortgage banking income increased $4.6 million. Higher salaries and benefits and estimated losses on previously sold mortgages partly offset these gains.
- Mortgage banking income increased 84.0%, reflecting higher refinancing activity and loan-sale gains. Management linked the increase in new mortgage commitments to persistent low interest rates.
- Net interest margin declined six basis points. Lower asset yields, including on loans and investments, outweighed lower funding costs; management also cited increased premium amortization from mortgage-security prepayments.
- Net charge-offs fell to $28.0 million from $42.3 million; non-performing loans declined to $284.0 million from $318.0 million a year earlier. Non-performing assets were $317.5 million, or 1.92% of total assets, versus 2.22% a year earlier.
- Investment securities increased $409.5 million from year-end to $3.09 billion. Short-term borrowings rose $367.5 million, while FHLB advances and long-term debt fell $106.2 million.
- Management reported an improved economic environment across most of its markets and said the allowance for credit losses of $258.1 million was adequate. It provided no specific earnings or financial guidance; it cautioned that quarterly results are not necessarily indicative of full-year results.
Risks, contingencies and unusual items
- Mortgage credit exposure: Fulton recorded a $2.6 million reserve in Q1 for expected losses under its FHLB Mortgage Partnership Finance credit-enhancement program. Loans sold under the program had approximately $279 million of unpaid principal. Total reserves for sold-mortgage credit losses and representation-and-warranty exposures were $4.0 million at quarter-end. Management said further reserves could be needed if collateral values, loan repurchases or portfolio credit quality deteriorate.
- Illiquid auction-rate securities: ARC fair value was $223.9 million versus $241.7 million amortized cost. Valuation assumes a return to market liquidity within three years; a longer delay could reduce fair value. The filing reported all ARCs were current and paying scheduled interest, and approximately 91% of underlying student-loan principal was federally guaranteed.
- Other investment exposures: Fulton held $127.6 million fair value of corporate debt securities, including lower-rated trust-preferred securities; management recorded no Q1 impairment charges for these securities. Market, credit and valuation conditions could require future impairment.
- Loan concentration and credit quality: Commercial mortgage and construction loans represented approximately 44.2% of loans. Construction loans had a 9.25% non-performing rate. Total troubled debt restructurings were $109.2 million, up from $98.8 million at year-end; 24 previously modified loans totaling $13.7 million defaulted during the quarter.
- Liquidity and rates: Management reported $756.2 million of additional FHLB borrowing capacity and $1.7 billion of Federal Reserve Discount Window capacity, with no Discount Window borrowings. A 100-basis-point rate increase was estimated to raise annual net interest income by 0.9%; a 100-basis-point decrease was estimated to lower it by 3.1%, subject to stated modeling assumptions.
- The company cited economic and real-estate conditions, non-performing assets, market disruption, interest rates, regulatory changes, funding, and securities values among forward-looking risks. Pending litigation was not expected by management to have a material adverse effect, though outcomes are uncertain. The filing reported no material changes to previously disclosed risk factors.
Important facts for investors to verify
- Whether lower net interest margin and asset yields are offset by continued reductions in deposit and borrowing costs.
- Subsequent trends in non-performing loans, construction and commercial-mortgage credit quality, charge-offs, and allowance adequacy.
- Development of FHLB mortgage-program losses, repurchase requests, and reserves for representations and warranties.
- Valuation assumptions and liquidity recovery for auction-rate securities, and credit performance of trust-preferred holdings.
- Whether deposit outflows and increased short-term borrowing persist, and how they affect liquidity, funding costs and capital.
- Durability of refinancing-driven mortgage income and the effect of higher employee, operating-risk and OREO expenses.