OFG Bancorp — Form 10-Q Summary
Reporting period: Quarter and nine months ended September 30, 2016. Unaudited results. OFG is a Puerto Rico-based financial holding company operating in Banking, Wealth Management and Treasury.
Financial performance and position
- Third-quarter earnings: Net income was $15.1 million, versus $4.6 million a year earlier. Income available to common shareholders was $11.7 million, or $0.26 diluted EPS, compared with $1.1 million, or $0.03. For the first nine months, net income was $43.6 million versus a $1.5 million loss; diluted EPS was $0.76 versus a $0.27 loss.
- Interest income and margin: Q3 net interest income fell 14.4% to $76.9 million as interest income declined 15.5% to $90.6 million. Net interest margin was 4.95%, down from 5.29% a year earlier but up 26 basis points sequentially. Nine-month net interest income declined 14.0% to $225.2 million; margin was 4.77% versus 5.19%.
- Credit costs: Q3 provision for loan and lease losses was $23.5 million, down from $51.6 million; nine-month provision was $51.7 million, down from $109.3 million. Q3 non-interest income was $20.2 million, down 43.8%, while nine-month non-interest income rose 27.9% to $48.9 million. Non-interest expense declined 20.5% in Q3 to $54.9 million and 13.8% for nine months to $163.6 million.
- Profitability and operating efficiency: Q3 efficiency ratio improved to 57.69% from 63.66%; nine-month ratio improved to 58.66% from 59.51%. Q3 return on average assets was 0.91%, versus 0.25%.
- Cash flow: For the first nine months, operating cash flow was $46.8 million, investing cash flow was $491.5 million, and financing cash flow was negative $565.8 million. Cash and cash equivalents decreased $27.4 million to $509.3 million.
- Balance sheet and funding: At September 30, total assets were $6.592 billion, down 7.1% from year-end 2015. Total loans were $4.299 billion, down 3.1%; investments were $1.298 billion, down 19.7%. Deposits were $4.755 billion, up 0.8%, while total borrowings fell 41.6% to $800.3 million. Stockholders’ equity rose 3.1% to $924.9 million.
- Liquidity and capital: The company reported $509.3 million of unrestricted cash, $494.9 million of unpledged investment securities and $1.083 billion of available FHLB borrowing capacity. The bank was “well capitalized”; company CET1 was 13.32%, total risk-based capital was 18.71%, and leverage was 12.35%. Tangible book value per common share was $15.18, versus $14.53 at year-end.
Material changes versus comparable periods
- Earnings improved substantially as provisions and operating expenses declined, although net interest income and core banking and wealth-management fee revenues weakened. Lower balances and yields on acquired loans contributed to the interest-income decline.
- Nonperforming assets fell to $160.3 million from $367.8 million at December 31, 2015. Management attributed much of the improvement to the PREPA loan participation sale agreement; the Q3 nonperforming loan ratio was 3.68%, versus 9.09% a year earlier.
- Borrowings declined following the partial early termination of a high-cost repurchase agreement, repayment of $227 million of FHLB advances and repayment of $67 million of subordinated notes at maturity. Deposits were broadly stable, with brokered deposits reduced to $581.2 million from $783.0 million at year-end.
Outlook, commentary, risks and unusual items
- Management commentary: Management cited continued loan generation, growth in new customer accounts and cost control. It described the loan portfolio as transitioning: originated loans were growing more slowly than higher-yielding acquired loans were running off. The filing provides no specific earnings or financial guidance.
- PREPA transaction: OFG agreed to sell its $200.0 million participation in the Puerto Rico Electric Power Authority fuel line of credit for $123.5 million. At quarter-end it was classified as held for sale at a fair value of $123.1 million; the transaction settled October 7, 2016. OFG recorded a $56.2 million charge-off and $2.9 million provision in Q3.
- Other unusual items: Q3 other non-interest income included a $5.0 million recovery related to a 2009 private-label mortgage obligation. Nine-month results included a $12.2 million net gain on securities sales and a $12.0 million loss from early debt extinguishment. Prior-year comparisons included a $20.0 million FDIC reimbursement and substantial costs associated with earlier loan and asset sales.
- Accounting and credit: Following supervisory direction, OFG prospectively changed its policy for certain acquired credit-impaired loans, derecognizing loans and associated allowances when loans exited pools. The change reduced recorded loan balances and allowances by $82.0 million, with no provision impact. Separately, the PRHFA loan had missed an annual principal payment in Q3; the filing reports a $4.4 million provision related to that loan during the nine-month period.
- Key risks: The company’s business and credit exposure are concentrated in Puerto Rico, where recession, fiscal stress, government defaults, unemployment and population decline may affect borrowers, collateral values and loan demand. Other stated risks include credit losses, interest-rate and market movements, reliance on wholesale funding and brokered deposits, regulatory changes, FDIC assessments, litigation and operational or compliance events. Management said reasonably possible legal losses were not significant, while noting an adverse outcome could affect results or cash flows in a particular period.
Important facts for investors to verify
- Whether the PREPA sale completed as expected after quarter-end and whether the realized proceeds and any residual exposure matched the quarter-end valuation.
- How the PRHFA missed payment and other Puerto Rico government-related exposures perform; the filing reports $206.4 million of government-related loans and securities, excluding the PREPA participation.
- Whether loan quality and provision needs remain stable after the large PREPA charge-off, and how the revised acquired-loan allowance policy affects reported balances and coverage.
- Whether declining acquired-loan balances, yields and net interest margin are offset by growth in originated lending and recurring fee income.
- Whether the company can maintain liquidity and funding access as it continues to rely on repurchase agreements and brokered deposits, despite reported cash, unpledged securities and FHLB capacity.
- Whether the $5.0 million recovery, securities-sale gains and other nonrecurring items obscure the trend in underlying earnings; also monitor deferred tax asset realizability and the company’s capital ratios.