Banner Corporation — Q3 2017 Form 10-Q
Reporting period: Quarter and nine months ended September 30, 2017. Banner is a Washington-based bank holding company operating Banner Bank and Islanders Bank. Unless otherwise noted, dollar amounts are in millions.
Financial performance and position
- Q3 earnings: Net income was $25.1 million, or $0.76 diluted EPS, versus $23.9 million, or $0.70, in Q3 2016. Nine-month net income was $74.3 million, or $2.25 diluted EPS, versus $62.6 million, or $1.83.
- Revenue and net interest: Q3 net interest income increased 7% to $100.2 million; total revenue was $120.5 million, up 3%. Nine-month net interest income increased 6.1% to $294.8 million, and total revenue rose to $358.4 million from $341.9 million. Net interest margin was 4.22% for Q3 (4.15% prior year) and 4.27% year to date (4.16%).
- Other income and expenses: Q3 non-interest income fell to $20.3 million from $23.5 million, mainly reflecting lower mortgage banking revenue. Q3 non-interest expense rose 4.4% to $82.6 million, including higher staffing, professional services and regulatory-compliance costs. Nine-month expense was $242.6 million versus $243.0 million, with the prior period including $10.9 million of acquisition costs. Adjusted efficiency ratio was 66.26% for Q3 and 65.84% year to date; these are non-GAAP measures.
- Balance sheet at September 30: Total assets were $10.44 billion, up $649.4 million from year-end 2016; loans were $7.77 billion, up $323.3 million, and deposits were $8.54 billion, up $417.4 million. Securities increased $533.9 million to $1.63 billion. Shareholders’ equity was $1.33 billion. Tangible common equity to tangible assets was 10.39%, compared with 10.83% at year-end.
- Funding and liquidity: Cash and cash equivalents were $241.8 million, versus $247.7 million at year-end. FHLB advances increased to $263.3 million from $54.2 million; other borrowings were $103.7 million. Brokered deposits rose to $171.7 million from $34.1 million, while core deposits were 87% of total deposits. Management reported substantial available FHLB and Federal Reserve borrowing capacity and considered resources adequate for foreseeable liquidity needs.
- Cash flow, nine months: Operating activities provided $276.2 million; investing activities used $847.8 million; financing activities provided $565.6 million. Cash and cash equivalents declined $6.0 million to $241.8 million.
- Capital: Banner Corporation, Banner Bank and Islanders Bank exceeded applicable regulatory capital requirements. Banner Corporation’s total capital ratio was 13.52%; Banner Bank’s was 12.14%, and Islanders Bank’s was 16.35%.
Material changes and notable items
- Growth in loans, securities and deposits followed Banner’s decision to resume balance-sheet growth after keeping assets below $10 billion through 2016. The company said this strategy supported revenue growth.
- Credit indicators were mixed: non-performing assets declined to $31.7 million, or 0.30% of assets, from $33.8 million at year-end; however, non-performing loans increased to $30.1 million from $22.6 million. The allowance for loan losses was $89.1 million, 1.15% of loans and 296% of non-performing loans. Nine-month net charge-offs were $2.9 million, versus net recoveries of $2.2 million in 2016.
- Mortgage banking income weakened: Q3 mortgage banking operations revenue fell to $4.5 million from $8.1 million, and nine-month revenue fell to $15.9 million from $20.4 million. Management cited lower gain spreads and reduced refinance activity.
- Nine-month miscellaneous income included a one-time $2.5 million gain from selling a previously acquired loan. REO sales contributed a $2.0 million gain during the first nine months.
- On October 6, 2017, Banner Bank completed the sale of its seven Utah branches and related operations, including approximately $255 million of loans and $160 million of deposits. Banner recorded an approximately $12 million net gain; the transaction occurred after the reporting date.
- Dividends accrued during the first nine months totaled $58.2 million, including a $1.00-per-share special dividend and three regular quarterly dividends of $0.25 per share. Banner repurchased 25,000 shares under its authorization.
Outlook, risks and contingencies
- The filing provides no specific earnings or revenue guidance. Management described continued focus on growth, core deposits, asset quality and a moderate-risk profile.
- Management identified higher compliance and risk-management costs associated with crossing the $10 billion asset threshold. Interest-rate changes, deposit competition and funding costs could affect earnings; management’s modeled +100-basis-point scenario showed next-12-month net interest income up 2.0% but economic value of equity down 2.9%. These are model estimates subject to assumptions.
- Key risks include credit deterioration and reserve adequacy, regional economic and real-estate conditions, interest-rate and funding sensitivity, deposit retention, regulatory requirements, operational and cybersecurity exposures, and valuation estimates. Management noted that regulators may require additional loan-loss reserves.
- Off-balance-sheet commitments to extend credit totaled $2.34 billion; standby letters of credit and financial guarantees totaled $15.4 million. The company stated that commitments may expire undrawn and do not necessarily represent future cash requirements. Management reported no pending legal matter expected to have a material adverse effect.
- Upcoming accounting changes include expected-credit-loss requirements (CECL), effective for the company in 2020; management was still assessing the impact and said adoption could increase the allowance. The new lease standard is expected to increase reported assets and liabilities for operating leases.
Important facts for investors to verify
- Whether loan growth is accompanied by sustained credit quality, particularly given higher non-performing loans and classified loans of $86.4 million outside nonaccrual status.
- How net interest margin and deposit costs respond to further rate changes, including the effect of increased FHLB borrowing and brokered deposits.
- Whether mortgage banking revenue and operating costs stabilize as refinance activity, loan-sale spreads and regulatory-compliance spending change.
- The final financial and operating effects of the Utah branch sale, including the reported gain and reduction in loans and deposits.
- The eventual CECL adoption impact on reserves, earnings and capital; the filing does not provide a quantified estimate.