Western Alliance Bancorporation — Q2 2020 Form 10-Q
Business context and reporting period. Western Alliance Bancorporation is a Phoenix-based bank holding company operating through Western Alliance Bank and regional and specialized business lines. This unaudited filing covers the quarter and six months ended June 30, 2020; year-over-year comparisons are to the corresponding 2019 periods. Amounts below are U.S. dollars.
Financial results and condition
- Q2 earnings: Net income was $93.3 million, down from $122.9 million; diluted EPS was $0.93 versus $1.19. For the first half, net income was $177.2 million versus $243.7 million, and diluted EPS was $1.76 versus $2.34.
- Revenue and margin: Q2 net interest income rose 17.2% to $298.4 million, while net interest margin declined to 4.19% from 4.59%. Q2 non-interest income was $21.3 million. Management-reported net operating revenue, a non-GAAP measure, was $309.5 million, up 15.8%; operating PPNR was $194.7 million, up 27.7%.
- Credit provision and expenses: Q2 provision for credit losses was $92.0 million versus $7.0 million a year earlier; first-half provision was $143.2 million versus $11.5 million. Q2 non-interest expense was $114.8 million, broadly unchanged year over year. Reported efficiency ratio was 35.1%; operating efficiency ratio was 36.3%.
- Balance sheet and growth: At June 30, total assets were $31.9 billion, up 19.0% from year-end 2019. Loans were $25.0 billion, up $3.9 billion, including $1.7 billion of PPP loans. Deposits were $27.5 billion, up $4.7 billion; non-interest-bearing demand deposits increased $3.7 billion.
- Credit quality: Allowance for credit losses on held-for-investment loans was $310.6 million, or 1.24% of funded loans; the separate allowance for unfunded commitments was $36.3 million. Nonperforming loans were $161.6 million, including $21.9 million of accruing TDR loans; nonperforming assets were $171.0 million, or 0.47% of assets. Annualized Q2 net charge-offs were 0.09% of average loans.
- Cash flow and liquidity: First-half operating cash flow was $283.4 million, compared with $330.3 million in 2019. Investing activities used $4.06 billion, principally reflecting loan growth; financing activities provided $4.86 billion, largely from deposit growth. Cash and cash equivalents ended at $1.52 billion. Management reported $4.1 billion of liquid assets and substantial available secured borrowing capacity, including approximately $4.4 billion at the FHLB and $2.3 billion at the FRB.
- Debt and capital: Qualifying debt was $617.7 million, including the net proceeds of a $225 million subordinated debt issuance in May. The company reported regulatory CET1 of 10.2%, total capital of 13.4%, and Tier 1 leverage of 9.5%; it remained above well-capitalized thresholds. Tangible common equity ratio was 8.9%, versus 10.3% at December 31, 2019.
- Shareholder returns: The company declared and paid a $0.25-per-share Q2 dividend. It suspended share repurchases effective April 17 through quarter-end; first-half repurchases totaled $71.7 million.
Material changes versus comparable periods
- Earnings declined despite higher net interest income: the sharp rise in credit-loss provision more than offset loan growth and lower funding costs.
- Lower market rates reduced asset yields and net interest margin, while lower deposit costs helped support net interest income.
- Nonaccrual loans increased from $56.0 million at year-end 2019; the filing attributes the substantially higher provision to worsening economic forecasts, COVID-19 uncertainty, and adoption of the expected-credit-loss model.
- The company adopted CECL on January 1, 2020, recording a $24.9 million reduction to opening retained earnings. Prior-period credit-loss figures remain under the prior accounting model and are not directly comparable in all respects.
Outlook, commentary, risks, and unusual items
- Management provided no specific earnings or loan-loss guidance. It said the duration and severity of COVID-19 and related economic effects remain uncertain and may materially affect credit losses, asset quality, earnings, growth, and liquidity.
- COVID-sensitive industry exposures totaled $4.62 billion, or 18.5% of loans: hotel, $2.04 billion; investor-dependent Technology & Innovation, $1.40 billion; retail, $675.7 million; and gaming, $508.8 million.
- As of June 30, the bank had more than 4,700 PPP applications approved and $1.7 billion of PPP loans outstanding. It had modified approximately 600 loans totaling $2.7 billion and granted forbearance on approximately 300 residential mortgages totaling $180 million. Management expected COVID-related short-term modifications to continue increasing.
- Management said capital and liquidity were sufficient and it did not anticipate needing additional liquidity. Actions included issuing subordinated debt, establishing a Federal Reserve PPP lending facility, suspending repurchases, and electing the regulatory capital transition relief for CECL.
- Non-interest income included a one-time $5.6 million bank-owned life insurance enhancement associated with surrender and replacement of policies. Q2 fair-value gains on assets were $4.4 million; first-half fair-value adjustments were a net loss of $6.9 million, primarily reflecting preferred-stock valuation changes.
- Key risks include COVID-19’s effect on borrowers and collateral, CRE and C&I concentrations, forecast uncertainty in the credit allowance, low interest rates and margin pressure, deposit stability, and potential PPP compliance or guarantee-related exposure. The company reported no material pending legal proceedings and no material control changes; disclosure controls were deemed effective.
Important facts for investors to verify
- Whether subsequent credit performance, charge-offs, and allowance changes support the assumptions behind the $310.6 million loan allowance and $36.3 million unfunded-commitment allowance.
- Performance and modification status of COVID-sensitive exposures, including hotel loans, the $2.7 billion modified-loan pool, and PPP loans and forgiveness.
- Whether deposit growth is durable and how much relies on wholesale, brokered, or other potentially less-stable funding.
- How continued low rates, loan repricing, and funding costs affect net interest margin and earnings.
- Capital and liquidity trends, including the effects of CECL transition relief and the resumption or continuation of share repurchases and dividends.