United Bankshares, Inc. — Q2 2018 Form 10-Q
Business context and period: Unaudited results for the quarter and six months ended June 30, 2018. United operates community banking and mortgage banking businesses. Comparisons with 2017 are affected by the April 2017 acquisition of Cardinal Financial and its George Mason Mortgage subsidiary; 2018 includes the acquired businesses for the full periods, while 2017 includes them only from the acquisition date.
Unless stated otherwise, figures below are in millions of dollars. Balance-sheet comparisons are against December 31, 2017.
Key financial metrics
| Metric | Q2 2018 | Q2 2017 | First half 2018 | First half 2017 |
|---|---|---|---|---|
| Net interest income | $149.1 | $136.2 | $293.2 | $243.9 |
| Provision for loan losses | $6.2 | $8.3 | $11.4 | $14.2 |
| Other income | $36.0 | $40.5 | $67.2 | $60.7 |
| Other expense | $93.4 | $112.1 | $183.9 | $175.0 |
| Net income | $66.3 | $37.1 | $128.0 | $75.9 |
| Diluted earnings per share | $0.63 | $0.37 | $1.22 | $0.84 |
| Net interest margin, tax-equivalent | 3.67% | 3.44% | 3.64% | 3.44% |
Financial position, cash flow and funding
- Total assets were $19.21 billion, up $148.6 million (less than 1%) from year-end. Net loans were $13.44 billion, up $504.7 million; available-for-sale securities were $2.06 billion, up $172.2 million.
- Deposits were essentially unchanged at $13.83 billion. Total borrowings increased $152.6 million to $1.99 billion, including $1.56 billion in FHLB advances. Cash and cash equivalents declined $573.2 million to $1.09 billion, primarily as funds were deployed into loans and securities.
- For the first half, operating activities provided $98.5 million; investing activities used $718.5 million; and financing activities provided $46.8 million. The resulting cash decrease was $573.2 million.
- Management said liquidity was sufficient and expected the company to meet obligations over the next 12 months. Available sources included $3.58 billion of unused FHLB borrowing capacity, subject to collateral requirements, and $230 million in correspondent-bank lines. A separate $20 million revolver was undrawn.
- Shareholders’ equity was $3.24 billion. Regulatory capital ratios were 14.23% risk-based capital, 12.04% Common Equity Tier 1, 12.04% Tier 1 and 10.36% leverage; the company reported each above the applicable well-capitalized threshold.
- Operating cash flow is not a bank earnings measure; the filing does not report a conventional operating margin. Tax-equivalent net interest margin was 3.67% for Q2 and 3.64% for the first half.
Material changes versus comparable periods
- Q2 net income rose about 79% year over year; first-half net income rose about 69%. Net interest income increased 9.5% in Q2 and 20.2% in the first half, supported by acquired earning assets, higher market rates and greater accretion on acquired loans.
- Q2 other income fell 11.1%, principally reflecting lower mortgage banking income and securities results. First-half other income increased 10.8%, largely due to the full-period contribution from George Mason.
- Q2 other expense declined 16.7%, while first-half expense rose 5.1%. The comparison reflects substantial Cardinal merger-related expenses in 2017, alongside higher ongoing staffing, processing and FDIC insurance costs in 2018.
- The effective tax rate fell to about 22.5% from 34.25%, mainly due to the Tax Cuts and Jobs Act. Q2 and first-half 2017 also included Cardinal merger-related expenses of $23.2 million and $24.5 million, respectively.
- Loan growth was led by residential real estate (+10.2% from year-end), other consumer loans (+15.1%) and other commercial loans (+10.5%); construction and land development loans declined 7.2%. Deposits were flat, while borrowing mix shifted toward long-term FHLB advances.
Outlook, management commentary and risks
- The filing provides no specific earnings, revenue or margin guidance. Management said it anticipated meeting obligations over the next 12 months and had no material capital-expenditure commitments.
- Credit indicators were mixed but improved in aggregate: nonperforming loans were $150.9 million, or 1.12% of loans, versus $168.8 million, or 1.30%, at year-end; nonperforming assets were $172.8 million, or 0.90% of assets. Nonaccrual loans excluding restructured loans were reported at $74.1 million. Restructured loans increased to $60.4 million from $50.1 million.
- The allowance for loan losses was $77.1 million, 0.57% of loans; coverage of nonperforming loans was 51.11%. Net charge-offs were $5.7 million in Q2, or an annualized 0.17% of average loans. Management considered the allowance adequate, while noting estimation uncertainty and increased Q2 loss allocations involving two large commercial relationships.
- Interest-rate risk remains a key exposure. Model estimates showed one-year net interest income declining 0.47% under an immediate sustained +100-basis-point shock and 1.01% under +200 basis points; a −100-basis-point shock was estimated to increase it 1.06%. Results depend on assumptions and actual outcomes may differ.
- Available-for-sale securities had $45.6 million of gross unrealized losses. Management attributed declines mainly to rates, credit spreads and liquidity, and reported no Q2 other-than-temporary impairment. The company had sold seven trust-preferred collateralized debt obligations and redeemed one at par during Q1; remaining Trup CDOs were below investment grade and included Level 3 fair-value estimates.
- Loan commitments totaled approximately $3.90 billion and standby letters of credit $145.8 million; many commitments are expected to expire undrawn. George Mason had a $516,000 reserve for mortgage repurchase and related claims. Management believed ongoing litigation would not materially affect financial position.
- Forward-looking results are exposed to economic and banking-industry conditions, interest rates, competition, execution of business strategies, government actions and technology changes. Management reported no material change in disclosed risk factors and stated disclosure controls were effective.
Important facts for investors to verify
- How much earnings growth is sustainable after separating Cardinal’s contribution, acquired-loan accretion ($12.1 million in Q2; $22.8 million in the first half) and 2017 merger-related costs?
- Whether loan quality remains stable: monitor commercial credit exposures, the rise in restructured loans, delinquencies, charge-offs and reserve adequacy.
- Whether margin gains persist as deposit and borrowing costs rise; interest expense increased year over year in both the quarter and first half.
- Funding and liquidity trends, including the substantial use of FHLB advances, deposit mix and cash reduction; confirm collateral availability and borrowing capacity.
- Mortgage banking volume and profitability, given lower Q2 mortgage income and the sensitivity of fair-value gains to rate movements.
- Valuation and recovery risk in securities with unrealized losses, particularly below-investment-grade or unrated trust-preferred holdings and Level 3 assets.
- Capital allocation and share count: the company repurchased 962,500 shares in Q2 at an average $36.97 and paid $0.34 per share in quarterly dividends.