Commerce Bancshares, Inc. — Q2 2023 Form 10-Q
Reporting period: Quarter and six months ended June 30, 2023. Unaudited consolidated results. Commerce Bancshares is a bank holding company; most operations are conducted through Commerce Bank.
Financial performance and position
| Metric | Q2 2023 | Comparison |
|---|---|---|
| Net interest income | $249.5 million | Up 7.4% year over year |
| Non-interest income | $147.6 million | Up 5.9% year over year |
| Net income attributable to Commerce Bancshares | $127.8 million | Up 10.4%; diluted EPS $1.02 versus $0.92 |
| Net interest margin, fully taxable-equivalent | 3.12% | 2.79% in Q2 2022 |
| Return on average assets / equity | 1.56% / 18.81% | Compared with 1.36% / 16.29% |
| Efficiency ratio | 57.22% | 57.29% in Q2 2022 |
For the first six months, net income attributable to the company was $247.2 million, up 5.7%, and diluted EPS was $1.97 versus $1.84. Fully taxable-equivalent net interest margin was 3.18%, compared with 2.62%.
At June 30, total assets were $32.8 billion, loans were $17.0 billion and deposits were $25.9 billion. Stockholders’ equity totaled $2.67 billion; the tangible common equity-to-tangible assets ratio was 7.70%. Regulatory capital ratios included 14.75% Tier 1 common and 15.53% total risk-based capital, above stated well-capitalized thresholds.
First-half operating cash flow was $220.9 million; investing activities provided $1.14 billion and financing activities provided $678.8 million. Cash, cash equivalents and restricted cash increased $2.04 billion to $2.94 billion.
Material changes and drivers
- Higher loan yields and average loan balances lifted interest income, while higher deposit and borrowing costs absorbed much of the benefit. First-half net interest income rose 13.6% year over year.
- Non-interest income growth reflected higher bank-card fees, cash-sweep commissions and letter-of-credit fees. Lower deposit-account charges, capital-market fees and mortgage-related revenue partly offset the gains.
- Non-interest expense increased 6.6% in Q2 and 7.8% in the first half, including higher salaries and benefits, FDIC insurance costs and other expenses. Q2 included $2.1 million of deconversion costs related to moving financial-advisor support to LPL Financial’s platform.
- Loans increased 4.0% from year-end 2022, led by business, business real estate and construction lending. Deposits declined $318 million; non-interest-bearing deposits fell $1.87 billion, partly offset by $2.26 billion growth in certificates of deposit.
- Available-for-sale debt securities’ fair value declined to $10.4 billion from $12.2 billion at year-end, principally reflecting sales, maturities and paydowns. The portfolio had $1.4 billion of net unrealized losses, primarily associated with higher interest rates.
- Net loan charge-offs were $6.5 million in Q2 versus $4.0 million a year earlier. The allowance for loan losses was $158.7 million, or 0.94% of loans, at June 30.
Liquidity, outlook, risks and unusual items
- Management reported $13.8 billion of listed liquid assets and $6.1 billion of estimated available future advances from the FHLB and Federal Reserve. Core deposits were $22.6 billion, or 87.4% of deposits. Uninsured deposits were $10.4 billion (40.2% of deposits), including affiliate and collateralized deposits; excluding those, $8.2 billion (31.7%) were uninsured.
- Total borrowings were $3.88 billion, including $1.0 billion of FHLB advances. The company added $903.9 million of short-term brokered CDs during Q2, scheduled to mature before year-end. Management said liquidity remained strong and sufficient, while noting funding needs from deposit maturities and withdrawals, loan commitments, and loan growth.
- The allowance model assumed a mild recession in the second half of 2023, with weaker employment; this was a credit-loss estimation assumption, not earnings guidance. The filing provides no formal earnings or revenue guidance.
- Interest-rate risk simulations showed modeled net interest income declines of 1.11% to 3.09% under rising-rate scenarios and 0.33% to 3.43% under falling-rate scenarios. Management said sensitivity to rising rates had become more negative, mainly due to lower core deposits and greater higher-cost wholesale funding.
- Key risks cited include deposit outflows and higher funding costs, reliance on short-term funding access, interest-rate-driven securities losses if investments must be sold, changing banking regulations and possible higher FDIC assessments. The company stated it did not intend, and did not expect to be required, to sell available-for-sale securities at a loss.
- Unusual items included $9.1 million of Q2 gains from private-equity fair-value adjustments, partly offset by $5.4 million of realized losses on available-for-sale securities. The Q2 net securities gain was $3.4 million. The company acquired municipal bond underwriter and advisor L.J. Hart & Company in Q2, recording $7.5 million of goodwill.
- Legal proceedings were described as arising in the normal course of business; the filing did not provide a clear aggregate exposure. Management reported effective disclosure controls and no material change in internal control over financial reporting during the quarter.
Important facts for investors to verify
- Deposit composition, uninsured and brokered deposit balances, upcoming maturities, and the cost and availability of replacement funding.
- Whether loan growth, consumer/card charge-offs and the recession outlook lead to further increases in credit provisions or nonperforming loans.
- The $1.4 billion unrealized securities loss, pledged securities, and potential impact on capital and earnings if liquidity needs require asset sales.
- Net interest margin and funding-cost trends, including results under changing interest-rate conditions.
- Recurring expense levels after FDIC cost increases and the LPL transition costs, and the sustainability of private-equity valuation gains.