South Plains Financial, Inc. — Form 10-Q Summary
Business context and reporting period
South Plains Financial, Inc. is a Texas bank holding company operating primarily through City Bank, with commercial and retail banking, insurance, investment, trust and mortgage services across Texas and Eastern New Mexico. This unaudited Form 10-Q covers the three months ended March 31, 2019. The company became subject to federal income tax as a C corporation effective May 31, 2018; therefore, the filing provides pro forma 2018 results for comparability.
Key financial metrics
| Metric | Q1 2019 | Comparable period or date |
|---|---|---|
| Total assets | $2.746 billion | $2.713 billion at Dec. 31, 2018 |
| Loans held for investment | $1.915 billion | $1.957 billion at Dec. 31, 2018 |
| Total deposits | $2.305 billion | $2.277 billion at Dec. 31, 2018 |
| Net interest income | $24.5 million | $22.7 million in Q1 2018 |
| Net interest margin | 3.93% | 3.87% in Q1 2018 |
| Net income | $4.8 million | $4.6 million pro forma in Q1 2018; $5.5 million on reported 2018 basis |
| Basic and diluted EPS | $0.32 | $0.31 pro forma in Q1 2018; $0.37 on reported 2018 basis |
| Return on average assets | 0.71% | 0.73% in Q1 2018 |
| Return on average equity | 8.98% | 8.73% in Q1 2018 |
| Allowance for loan losses | $23.4 million, or 1.22% of loans | $23.1 million, or 1.18%, at Dec. 31, 2018 |
Interest income increased 17.3% to $32.0 million, while interest expense increased 63.4% to $7.5 million. Noninterest income rose 5.3% to $12.1 million, led by insurance and mortgage banking activities. Noninterest expense increased 7.7% to $30.0 million, primarily from salaries and benefits, including 28 additional full-time-equivalent employees associated principally with the 2018 mortgage acquisition. The effective tax expense was $1.2 million in Q1 2019 versus $30,000 in the reported Q1 2018 period.
Operating cash flow was $29.3 million, compared with $15.6 million in Q1 2018. Investing cash flow was $42.9 million and financing cash flow was $21.2 million, producing a $93.4 million increase in cash and cash equivalents to $339.4 million at March 31, 2019. The company reported no income taxes paid during either period.
Borrowings included $95.0 million of long-term FHLB borrowings, $26.5 million of subordinated debt securities, $46.4 million of junior subordinated debentures and $18.9 million of short-term borrowings. FHLB borrowing capacity remaining was $456.9 million; the company also had unused Federal Reserve and bank lines of credit. The bank subsidiary was classified as well capitalized, with a 14.1% total risk-based capital ratio, 13.0% Tier 1 risk-based ratio, 13.0% CET1 ratio and 10.2% Tier 1 leverage ratio.
Material changes versus prior comparable periods
- Net income increased $125,000 versus pro forma Q1 2018, primarily because higher net interest income and noninterest income more than offset increased operating expenses.
- Net interest income increased $1.8 million, or 8.0%, reflecting 7.1% growth in average loans and higher loan yields. Net interest margin improved, but net interest spread declined to 3.59% from 3.64% as funding costs increased.
- Gross loans held for investment declined $42.0 million, or 2.1%, from year-end 2018, principally because of seasonal agricultural loan paydowns. Consumer loans and construction loans increased.
- Deposits increased $27.5 million, or 1.2%, from year-end 2018, although noninterest-bearing deposits declined to 21.6% of total deposits from 22.3%.
- Nonperforming assets increased to $10.3 million from $9.2 million at year-end. Nonaccrual loans rose to $7.7 million from $6.4 million, while annualized net charge-offs remained low at 0.07% of average loans.
- Accumulated other comprehensive income improved by $2.3 million because unrealized losses on available-for-sale securities decreased. The securities portfolio had a $67,000 net unrealized gain at March 31, 2019 versus a $2.8 million net unrealized loss at year-end.
Guidance, outlook, commentary, risks and unusual items
The filing does not provide formal earnings or revenue guidance. Management expects liquidity needs to be met through operations, loan and securities repayments, deposit growth and available borrowing facilities. Net proceeds from the subsequent IPO are intended to support organic growth, potential acquisitions and general corporate purposes.
In May 2019, after the reporting period, the company completed an IPO of 3,207,000 shares at $17.50 per share, generating $56.1 million of gross proceeds and estimated net proceeds of approximately $51.4 million. The shares began trading on Nasdaq under the symbol SPFI. The filing also reports a 29-for-1 stock split completed in March 2019, with historical share and per-share amounts adjusted retrospectively.
The company changed its accounting for cash-settled stock appreciation rights from the intrinsic-value method to the fair-value method. It recorded a $1.3 million after-tax cumulative adjustment to retained earnings effective January 1, 2019 and recognized $607,000 of related expense during the quarter. The company also adopted a new equity incentive plan and granted options and restricted stock awards.
Principal risks include concentrations in Texas and Eastern New Mexico, real estate and commercial lending exposure, agricultural conditions, commodity prices and weather, interest-rate volatility, deposit costs, liquidity and capital requirements, credit-loss estimation, competition, cybersecurity and technology risks, regulatory changes, dependence on key personnel, litigation and the ability to execute growth or acquisition strategies. Management determined that securities with unrealized losses were temporarily impaired and reported no other-than-temporary impairment.
Off-balance-sheet commitments totaled $393.2 million, consisting of $387.2 million of loan and unfunded line commitments and $6.1 million of standby letters of credit. Management stated that existing litigation was not expected to have a material adverse effect and that disclosure controls were effective.
Important facts for investors to verify
- Reconcile reported Q1 2018 net income of $5.5 million with the $4.6 million pro forma C-corporation comparison used by management.
- Assess whether higher deposit and borrowing costs could pressure the 3.93% net interest margin and 3.59% spread.
- Monitor loan quality, including the increase in nonaccrual loans and nonperforming assets, and evaluate whether the 1.22% allowance adequately covers credit risk.
- Review the effect of the May 2019 IPO, ESOP repurchase-right termination and related increase in shareholders’ equity and share count.
- Evaluate exposure to agricultural, commercial real estate, commercial and geographically concentrated lending.
- Review the $393.2 million of unfunded and contingent credit commitments and the $199.0 million of FHLB letters of credit supporting public deposits.
- Consider the effects of the stock appreciation-right accounting change, new equity awards and future compensation expense.
- Confirm future adoption impacts of the CECL expected-credit-loss standard, which the company stated was being evaluated and was not yet effective for this period.