Southside Bancshares, Inc. — 2012 Form 10-K Summary
Reporting period: Fiscal year ended December 31, 2012; the filing also reports fourth-quarter results. Comparisons are primarily with 2011. Southside is a Texas community bank holding company operating 48 banking centers, with $3.24 billion in assets at year-end.
Financial performance and condition
| Metric | 2012 | 2011 |
|---|---|---|
| Net interest income | $89.1 million | $95.4 million |
| Provision for loan losses | $10.7 million | $7.5 million |
| Noninterest income | $40.0 million | $35.3 million |
| Noninterest expense | $76.1 million | $72.3 million |
| Net income attributable to Southside | $34.7 million | $39.1 million |
| Diluted earnings per share | $2.00 | $2.26 |
| Net interest margin | 3.26% | 3.60% |
| Return on average assets / equity | 1.05% / 12.83% | 1.25% / 16.20% |
Net income declined 11.3%. Interest income fell as asset yields compressed and mortgage-backed securities (MBS) prepaid faster, while lower funding costs only partly offset the reduction. Annual noninterest income included $18.0 million of available-for-sale securities gains; management cautioned that gains of this level may not recur. The effective tax rate was 18.0%, down from 20.4%, partly reflecting tax-exempt income.
Fourth quarter: Net interest income was $20.6 million versus $24.6 million in fourth-quarter 2011; net income was $8.2 million versus $9.6 million, and diluted EPS was $0.47 versus $0.55. Securities gains were $4.4 million in fourth-quarter 2012.
| Year-end balance-sheet metric | December 31, 2012 | December 31, 2011 |
|---|---|---|
| Total assets | $3.24 billion | $3.30 billion |
| Total loans | $1.26 billion | $1.09 billion |
| Deposits | $2.35 billion | $2.32 billion |
| Shareholders’ equity | $257.8 million | $258.9 million |
| Allowance for loan losses | $20.6 million; 1.63% of loans | $18.5 million; 1.71% of loans |
Cash and cash equivalents increased to $150.6 million from $43.2 million. Cash from operations was $69.6 million; investing activities provided $137.2 million and financing activities used $99.3 million. These cash-flow amounts reflect substantial securities purchases, sales, maturities and repayments, as well as bank funding activity.
Total FHLB advances were $520.1 million, including $151.0 million short-term and $369.1 million long-term. Long-term debt, principally junior subordinated debentures, was $60.3 million. The Bank reported $221.6 million of additional potential FHLB funding against unpledged securities. Deposits increased modestly overall, while brokered CDs fell to $19.5 million from $163.8 million; public-fund deposits rose to $713.4 million.
Southside and the Bank exceeded regulatory capital requirements and were categorized as well capitalized. At year-end, consolidated total risk-based capital was 22.42%, Tier 1 risk-based capital 21.16%, and Tier 1 leverage 9.11%; the Bank’s corresponding ratios were 21.86%, 20.60%, and 8.87%. Cash dividends were $1.11 per share, with a 55.5% payout ratio.
Material changes versus 2011
- Loans grew 16.2%, led by 1–4 family residential lending; the securities portfolio declined 17.0%, principally as MBS balances ran off or were sold and the portfolio was repositioned.
- Provision expense rose $3.2 million, while net charge-offs decreased to $8.7 million from $9.7 million. Nonperforming assets increased to $14.7 million from $13.2 million, or 0.45% of assets versus 0.40%.
- The allowance increased to $20.6 million. Southside changed its general reserve methodology in fourth-quarter 2012 to use a three-year average net charge-off history, adjusted for qualitative factors.
- Noninterest income increased, including higher securities-sale gains, while noninterest expense rose 5.2%, mainly from salaries and employee benefits.
- Cash dividends increased to $1.11 per share from $0.90. The company repurchased 355,500 shares for $7.4 million during 2012.
Outlook, risks and unusual items
- Outlook: No specific earnings or growth guidance was provided. Management said local economic and housing conditions strengthened in 2012, but any 2013 recovery could be uneven and its direction was uncertain. It expected to open a second Austin branch in first-quarter 2013.
- Balance-sheet strategy: Management used FHLB funding and securities, particularly agency MBS and municipal securities, to manage liquidity, interest-rate exposure and returns. Low rates and faster MBS prepayments reduced yields and increased premium amortization; higher rates could reduce the fair value of available-for-sale securities and equity. The company may allow securities to run off or sell them if reinvestment economics remain unattractive.
- Credit and concentration risks: About 57% of loans had real estate as a primary or secondary collateral component; approximately 38% of loans were to Tyler-area customers. The filing also identifies exposure to the medical community and $69.8 million of SFG subprime automobile loans. Deteriorating local conditions, collateral values, or medical-sector cash flows could increase losses.
- Securities and unusual charges: Southside sold all securities carried at fair value through income during 2012, recording a $498,000 loss on sale. Pooled trust-preferred securities had $2.7 million amortized cost and approximately $990,000 fair value; the company recognized a $181,000 impairment charge in earnings. FHLB advance-option fees were fully impaired, with a further $2.0 million charge in 2012, following an $8.9 million charge in 2011.
- Control history: Material weaknesses related to securities-price verification and FHLB option-fee accounting had led to restatements or corrections involving 2010 and 2011 reporting. Management said remediation was completed and concluded controls were effective at December 31, 2012; Ernst & Young also gave an unqualified opinion on internal control and the 2012 financial statements.
- Other matters: Subsequent to year-end, Southside decided to close Southside Securities, Inc., expecting completion in the first half of 2013. Ordinary-course litigation was described as not material. The defined-benefit pension plan was underfunded by $14.8 million; management expected 2013 contributions of $2.0–$3.0 million.
- Market-rate sensitivity: Management’s model projected net interest income changes over 12 months of +0.79% for an immediate 100-basis-point increase and +0.08% for a 200-basis-point increase; decreases of 100 and 200 basis points projected declines of 2.77% and 3.92%. These are estimates dependent on modeling assumptions, including deposit behavior and MBS prepayments.
- Management noted that Basel III implementation was delayed and that future regulatory capital requirements and their effects remained uncertain.
Important facts for investors to verify
- Whether loan growth, asset quality and the higher loan-loss provision remain consistent with management’s reserve estimates, especially in real estate, medical lending and SFG auto loans.
- How much of earnings depends on securities-sale gains, and whether net interest margin stabilizes as MBS prepayments and funding costs change.
- Deposit mix and concentration, including public funds, and the Bank’s reliance on FHLB advances and other wholesale funding.
- Whether the reported internal-control remediation remains effective, particularly for securities pricing and fair-value estimates.
- The outcomes of the Southside Securities closure, Austin branch opening, pension funding needs, and any effects of evolving capital and consumer-protection regulations.
- Dividend sustainability and capital deployment, given the 55.5% payout ratio, share repurchases and restrictions on bank-to-parent dividends.