Trustmark Corporation — Q2 2016 Form 10-Q
Reporting period: Three and six months ended June 30, 2016. Trustmark is a bank holding company headquartered in Jackson, Mississippi, operating 194 offices across Alabama, Florida, Mississippi, Tennessee and Texas.
Financial performance
| Metric | Q2 2016 | Q2 2015 | Six months 2016 | Six months 2015 |
|---|---|---|---|---|
| Revenue (net interest income plus noninterest income) | $140.6 million | $142.5 million | $278.6 million | $282.2 million |
| Net interest income | $96.4 million | $96.9 million | $191.1 million | $194.3 million |
| Net income | $21.5 million | $30.6 million | $48.5 million | $59.8 million |
| Diluted earnings per share | $0.32 | $0.45 | $0.72 | $0.88 |
| Net interest margin, fully taxable equivalent | 3.56% | 3.81% | 3.55% | 3.84% |
| Noninterest expense | $110.2 million | $100.3 million | $209.1 million | $199.5 million |
- Q2 net income included a $9.3 million pretax voluntary early retirement program charge. Excluding it, management reported adjusted Q2 net income of $27.2 million and diluted EPS of $0.40; these are non-GAAP measures.
- Net interest margin pressure reflected competitive repricing of loans, lower income from acquired-loan accretion and recoveries, and higher borrowing costs. Q2 net interest income was nearly flat year over year, while six-month net interest income declined.
- Mortgage banking income fell 29.1% in Q2 to $6.7 million, primarily due to negative hedge ineffectiveness. Salaries and benefits rose 16.8% in Q2, mainly from the retirement program.
- Return on average assets was 0.67% in Q2 and 0.76% for the first half, versus 1.01% and 0.99%, respectively, in 2015. The Q2 dividend was $0.23 per share.
Financial condition, funding and capital
- At June 30, total assets were $13.03 billion, loans held for investment were $7.41 billion, total deposits were $9.53 billion and shareholders’ equity was $1.52 billion. Loans held for investment increased 4.4% from year-end 2015; deposits declined 0.6%.
- Cash and cash equivalents were $322.0 million, up from $277.8 million at year-end. For the first six months, operating cash flow was $16.3 million, investing cash flow was negative $248.6 million and financing cash flow was positive $276.6 million; cash increased $44.3 million.
- Funding included $966.8 million in short-term borrowings and $751.1 million in long-term FHLB advances. The company added a $250 million variable-rate, two-year FHLB advance in Q2. Management said it maintained excess funding capacity; available FHLB Dallas collateral capacity was $1.454 billion, repurchase capacity $1.377 billion and Federal Reserve Discount Window collateral capacity $975.2 million.
- Trustmark and its bank subsidiary were categorized as well-capitalized. Trustmark’s common equity Tier 1, Tier 1 risk-based, total risk-based and Tier 1 leverage ratios were 12.32%, 12.94%, 13.82% and 9.93%, respectively.
Credit quality, changes and unusual items
- Nonaccrual loans held for investment rose to $65.1 million from $55.3 million at year-end, while nonperforming assets excluding acquired loans and covered real estate increased to $134.6 million from $132.5 million. The corresponding nonperforming-asset ratio was 1.75%, down from 1.81% at year-end.
- The allowance for loan losses on loans held for investment was $71.8 million, or 0.97% of those loans. First-half net charge-offs were $0.7 million, down from $1.3 million a year earlier; the first-half provision for loan losses was $6.8 million, up from $4.0 million.
- Energy-related loans were $258.3 million, or 3.5% of loans held for investment, up from $213.0 million at year-end. Management noted potential for downgrades if low oil prices persist; nonaccrual energy loans represented 4.5% of the energy portfolio.
- The $9.3 million retirement-program charge covered 188 associate retirements. Trustmark also closed six branches and recorded a $750,000 property valuation adjustment related to assets held for sale.
- After quarter-end, the board authorized termination of the defined-benefit pension plan effective December 31, 2016. Trustmark estimated about $67 million of additional funding would be required and a one-time settlement expense of about $12 million would be recognized in Q2 2017. It anticipated $1.2 million of higher periodic benefit costs in the second half of 2016 and eventual annual pension-expense reductions of $3 million to $4 million.
- The FDIC loss-share agreement for covered acquired loans other than certain 1–4 family residential loans expired June 30, 2016; those loans were reclassified as noncovered on July 1. Management expected acquired-loan balances to decline $25 million to $30 million in Q3 and yield 5.5% to 6.5%, excluding recoveries.
Outlook, risks and contingencies
- No formal earnings or financial guidance is provided. Management described moderate economic improvement but cited ongoing uncertainty, low interest rates, competitive loan pricing and weakness in energy-related markets, particularly Houston.
- Interest-rate simulations estimated that a 100-basis-point rate increase would raise one-year net interest income by 0.3%, while a 100-basis-point decrease would reduce it by 6.1%. Management cautioned that actual results may differ and the estimates exclude potential management actions.
- TNB faces Stanford Financial Group-related litigation, including a class-action matter in which a July 2016 court order denied motions to dismiss; a separate Louisiana matter remains stayed, and a Canadian action had not yet served TNB. Trustmark also disclosed litigation concerning testamentary trusts. The company said losses were not both probable and reasonably estimable and had not accrued liabilities for these matters.
- Other disclosed risks include loan and real-estate performance in Trustmark’s regional markets, mortgage-servicing putbacks, interest-rate and mortgage-servicing-right valuation changes, deposit funding competition, regulatory changes, cybersecurity and litigation outcomes.
- Management said FDIC assessment expense was expected to decline under a rule effective July 1, 2016, but the precise timing and impact depended on the Deposit Insurance Fund reserve ratio. New accounting standards, including expected-credit-loss guidance, were under evaluation.
Important facts for investors to verify
- How much of the reported earnings decline is attributable to the one-time retirement charge, and what expense savings follow the program?
- Whether rising nonaccrual loans—especially in Mississippi, Texas and Tennessee—and energy-sector exposure lead to further provision increases or charge-offs.
- Whether loan growth can offset margin pressure, acquired-loan runoff and increased reliance on wholesale funding.
- The final pension-plan funding requirement, settlement expense and timing, and the expected ongoing savings after termination.
- Developments in the Stanford-related and trust litigation, for which potential losses were not quantified or accrued.