Great Southern Bancorp, Inc. — Q3 2017 Form 10-Q
Business context and reporting period. The company is a one-bank holding company whose banking operations serve customers primarily across Missouri, Iowa, Kansas, Minnesota, Nebraska and Arkansas, with commercial loan offices in Texas, Oklahoma and Illinois. This unaudited filing covers the quarter and nine months ended September 30, 2017; balance-sheet comparisons are with December 31, 2016. Amounts below are in U.S. dollars.
Financial performance and condition
- Third-quarter results: Net income was $11.7 million, up 3.9% from $11.2 million; diluted EPS was $0.82 versus $0.80. Interest income was $46.4 million, interest expense $7.1 million, and net interest income $39.3 million, down 4.3%. Net interest margin fell to 3.77% from 3.98%. Provision for loan losses was $3.0 million, compared with $2.5 million.
- Nine-month results: Net income was $39.4 million, up 17.3% from $33.5 million; diluted EPS was $2.77 versus $2.39. Net interest income was $115.9 million, down 5.6%, and net interest margin was 3.75% versus 4.11%. Non-interest income rose to $31.2 million from $21.0 million, substantially reflecting a $7.7 million pre-tax gain on termination of an FDIC loss-sharing agreement.
- Margins and expenses: Q3 non-interest income was $7.7 million, up 8.0%, and non-interest expense was $28.0 million, down 8.6%. The efficiency ratio improved to 59.73% from 63.71% for the quarter and to 57.79% from 63.55% for the nine-month period. Management cited lower compensation, occupancy, insurance and other expenses, including prior-year costs that did not recur.
- Assets and lending: Total assets were $4.51 billion, down 0.8% from year-end 2016. Net loans increased $41.0 million to $3.80 billion. Excluding FDIC-assisted acquired loans and mortgage loans held for sale, gross loans grew $229.4 million, chiefly in construction, multifamily residential and commercial real estate. Consumer auto loans declined about $106 million.
- Credit quality: The allowance for loan losses was $36.2 million, down from $37.4 million at year-end; nine-month provision was $7.2 million. Net charge-offs were $8.3 million for nine months, including $4.7 million in consumer auto loans. Non-performing assets, excluding acquired assets, were $32.9 million, or 0.73% of assets, down from $39.3 million and 0.86%. Troubled debt restructurings declined to $17.7 million from $21.1 million.
- Deposits, borrowings and liquidity: Deposits fell $79.0 million to $3.60 billion. FHLBank advances increased to $174.0 million from $31.5 million, while short-term borrowings fell to $22.7 million from $172.3 million; reverse-repurchase agreements were $130.9 million. Subordinated notes were $73.7 million net of issuance costs, and subordinated debentures were $25.8 million. Cash and cash equivalents were $256.7 million, down $23.1 million. Management reported $46.3 million of unpledged securities and secured lines of $559.7 million at the FHLBank and $566.9 million at the Federal Reserve.
- Cash flow and capital: Nine-month operating cash flow was $51.9 million, investing cash flow was negative $2.9 million, and financing cash flow was negative $72.1 million; cash declined $23.1 million. Stockholders’ equity rose to $462.1 million, or 10.2% of assets. Tangible common equity to tangible assets was 10.02%, up from 9.20%. The Bank reported well-capitalized regulatory ratios, including a 12.0% CET1 ratio and 11.6% Tier 1 leverage ratio.
Material changes versus the prior comparable period
- For Q3, higher non-interest income and lower operating expenses more than offset lower net interest income and higher loan-loss provision, producing modest net-income growth.
- For the first nine months, reported earnings growth included the $7.7 million pre-tax FDIC settlement gain. Net interest income and margin declined, reflecting lower acquired-loan accretion and higher funding costs, including interest on the $75 million subordinated notes issued in 2016.
- The InterBank FDIC loss-sharing agreement was terminated in June 2017. The company received $15.0 million, recognized a $7.7 million gain, and ended the period with no FDIC indemnification asset. The company now bears all future gains and losses on assets formerly covered by the terminated agreements.
- Deposit funding shifted: brokered deposits declined $87.2 million to $237.1 million, while the company increased FHLBank advances and reduced overnight borrowings. Available-for-sale securities fell $29.9 million to $184.0 million.
Outlook, commentary and risks
- No specific earnings or revenue guidance is provided. Management expects an effective tax rate generally of 27%–29%, subject to tax-credit use, tax-exempt income and pre-tax earnings.
- Management expected further declines in auto loans through the remainder of 2017 and into 2018 following tighter underwriting, introduced in response to a more challenging consumer credit environment. It reported increased delinquencies and repossessions, particularly in indirect used-auto lending.
- Management said interest-rate models indicate rising rates would generally benefit net interest income, while falling rates would generally hurt it; modeled effects were not expected to be material in the first 12 months and could be more significant over 12–36 months. Results remain sensitive to loan floors, funding costs and competitive deposit pricing.
- Key disclosed risks include credit deterioration, real-estate values and conditions, interest-rate and funding changes, competition, economic conditions, regulatory changes, cyberattacks and system interruptions, litigation, and uncertainty in acquired-loan cash-flow estimates. Management states that allowance and foreclosed-asset valuations require significant judgment.
- Other notable items: the interest-rate cap on a portion of trust-preferred debt terminated in Q3; the company reported $1.2 million termination value on derivatives in a net liability position and had posted $3.8 million collateral. A Missouri overdraft-fee class action was resolved in the Bank’s favor on summary judgment, though the appeal period had not expired at filing.
Important facts for investors to verify
- How much of nine-month earnings growth is sustainable without the $7.7 million FDIC termination gain, and how acquired-loan accretion will run off; the filing estimates $576,000 of remaining-2017 accretion.
- Whether margin pressure continues as deposits reprice and the funding mix changes, including the increase in FHLBank advances and the cost of subordinated funding.
- Whether auto-loan delinquencies, repossessions and charge-offs stabilize, and whether commercial real-estate and construction exposures remain sound.
- Availability and cost of contingent funding lines, brokered deposits and other liquidity sources, alongside the sizable loan commitments and unused credit lines disclosed.
- The eventual adoption impact of the expected-credit-loss standard (ASC 326); management expected a one-time allowance adjustment but could not yet estimate its size.