Huntington Bancshares Incorporated — Q2 2011 Form 10-Q
Business context and reporting period. Regional bank holding company headquartered in Columbus, Ohio, serving six states through more than 600 banking offices. This unaudited quarterly report covers the three and six months ended June 30, 2011; the balance sheet is as of June 30, 2011.
Financial performance and condition
- Q2 earnings: Net income was $145.9 million, or $0.16 per diluted share, compared with $48.8 million and $0.03 per share in Q2 2010. Versus Q1 2011, net income rose from $126.4 million and diluted EPS from $0.14.
- Six-month earnings: Net income was $272.4 million, or $0.30 per diluted share, versus $88.5 million and $0.04 in the first half of 2010. Prior-year comparisons include significant Franklin-related credit charges and a tax benefit; common shares outstanding also increased following the 2010 equity offering.
- Revenue and margins: Q2 GAAP net interest income was $403.3 million; fully taxable-equivalent (FTE) net interest income was $407.2 million, down $1.1 million sequentially. FTE net interest margin was 3.40%, down 2 basis points from Q1 and 6 basis points year over year. Q2 FTE revenue was $662.9 million, down from $671.8 million a year earlier. Noninterest income was $255.8 million, up 8% sequentially but down 5% year over year; noninterest expense was $428.4 million, down 1% sequentially and up 4% year over year.
- Credit costs and quality: Q2 provision for credit losses was $35.8 million, down 28% sequentially and 81% year over year. Net charge-offs were $97.5 million, or 1.01% of average loans on an annualized basis, down 41% from Q1. Nonperforming assets were $652.9 million, down 5% sequentially; nonaccrual loans were $614.2 million. The allowance for credit losses was $1.112 billion, or 2.84% of loans, compared with 3.07% at March 31.
- Balance sheet, funding and debt: Total assets were $53.05 billion; loans and leases were $39.13 billion; deposits were $41.40 billion. Core deposits were 95% of total deposits and funded 74% of assets. Reported period-end short-term borrowings were $2.02 billion, FHLB advances $220 million, other long-term debt $1.64 billion, and subordinated notes $1.50 billion. The Bank had $9.6 billion of unused Federal Reserve and FHLB borrowing capacity.
- Cash flow: For the first six months, operating activities provided $1.190 billion, investing activities used $75.0 million, and financing activities used $979.4 million. Cash and cash equivalents increased $136.0 million to $983.9 million.
- Capital: Consolidated Tier 1 common risk-based capital was 9.92%; Tier 1 risk-based capital was 12.14%, and total risk-based capital was 14.89%. The Bank’s corresponding Tier 1 and total risk-based ratios were 9.01% and 13.17%. Shareholders’ equity was $5.25 billion.
Material changes versus comparable periods
- First-half net interest income increased 2% year over year, while FTE margin declined to 3.41% from 3.47%. Average loans grew 3%, led by automobile and C&I lending; average CRE loans fell 15% as Huntington continued reducing exposure.
- First-half noninterest income fell 3%, mainly because deposit service charges and mortgage banking income declined. The latter reflected substantially lower MSR hedge gains. Other income increased, including SBA-related gains and loan fees.
- First-half provision expense fell 80% and net charge-offs fell to $262.6 million from $517.7 million. Commercial criticized loans declined to $2.38 billion from $3.07 billion at year-end 2010. These improvements supported earnings, but provision expense was below charge-offs in both Q2 and the first half.
- First-half noninterest expense rose 6%, principally from personnel and marketing costs associated with strategic investment. Q2 expense declined sequentially partly because Q1 included a $17.0 million litigation-reserve addition.
- Commercial real estate loans declined to $6.16 billion from $6.65 billion at year-end 2010. Noncore CRE was $2.18 billion; $335 million was nonaccrual, and the segment’s allowance coverage was high.
Outlook, commentary and risks
- Management expected net income to grow from Q2 levels through the remainder of 2011, citing modest revenue growth and expense discipline. It expected modest second-half noninterest-income growth, relatively stable expenses, and continued declines in nonaccrual loans and net charge-offs. These are expectations, not guarantees.
- Management described the recovery as fragile and anticipated limited economic growth. It cited unemployment, weak real estate, local-government fiscal pressures, European instability, oil prices and other uncertainties as risks to borrowers and revenue.
- The Durbin Amendment interchange-fee cap was to take effect October 1, 2011. Huntington expected Q4 electronic banking income to decline approximately 50% from the Q2 level.
- The board declared a quarterly common dividend of $0.04 per share on July 21, up from $0.01; payable October 3, 2011. The Bank could not pay a dividend to the parent at quarter-end without regulatory approval, though Huntington said it did not anticipate needing approval in the near term.
- Huntington was considering a $1.0–$1.3 billion automobile-loan securitization for the second half of 2011; the loans, terms and sale-versus-financing treatment had not been determined. Management said both Bank and parent liquidity were sufficient for the foreseeable future.
- Mortgage servicing costs and MSR valuation remain uncertain. A 25% increase in the servicing-cost assumption was estimated to cause an $8.3 million fair-value impairment charge. The mortgage representation-and-warranty reserve was $24.5 million; the company said it could not estimate a reasonably possible loss range.
- Management estimated reasonably possible legal losses above accrued amounts at $0–$160 million, with some matters not reasonably estimable. In a Teleservices bankruptcy proceeding, a court ruled on aspects of the Bank’s defenses and the trustee alleged approximately $73 million in transfers; related litigation and appeals remained unresolved.
- Other risks include residential real-estate weakness, CRE credit exposure, investment-security impairment, regulatory changes, tax examinations and potential changes in mortgage-servicing costs. Management reported effective disclosure controls and no significant quarterly change in internal control over financial reporting.
Most important facts for investors to verify
- Whether credit-quality improvement persists, and whether declining allowance balances remain appropriate given charge-offs, criticized loans and real-estate risks.
- Whether earnings growth can offset margin pressure, lower mortgage-banking income and the expected interchange-fee reduction.
- Progress and accounting treatment of the proposed auto-loan securitization, and the sustainability of deposit and loan growth.
- Developments in CRE exposures, mortgage servicing and representation-and-warranty claims, tax disputes, and the Cyberco/Teleservices litigation.
- Capital and liquidity trends, including regulatory dividend restrictions and any implications of potential SIFI-related oversight.