Independent Bank Corporation (IBCP) — Q1 2020 Form 10-Q
Business context and period. Michigan-based bank holding company serving primarily Michigan’s Lower Peninsula, with three loan production offices in Ohio. Reporting period ended March 31, 2020; income and cash-flow comparisons are with Q1 2019. Unless otherwise noted, amounts are in U.S. dollars.
Financial performance and condition
| Metric | Q1 2020 / March 31, 2020 | Comparable / prior period |
|---|---|---|
| Net interest income | $30.2 million | $30.2 million; down 0.2% year over year |
| Net interest margin | 3.61% GAAP; 3.63% fully tax-equivalent | 3.86% GAAP; 3.88% fully tax-equivalent |
| Provision for loan losses | $6.7 million | $0.7 million |
| Non-interest income | $11.0 million | $10.0 million |
| Non-interest expense | $28.7 million | $28.0 million |
| Net income | $4.8 million; diluted EPS $0.21 | $9.4 million; diluted EPS $0.39 |
| Annualized return on average assets / equity | 0.54% / 5.54% | 1.13% / 11.14% |
| Operating cash flow | $22.3 million | $10.1 million |
| Cash and cash equivalents | $70.3 million | $65.3 million at Dec. 31, 2019 |
| Total assets | $3.63 billion | $3.56 billion at Dec. 31, 2019 |
| Portfolio loans, excluding loans held for sale | $2.72 billion | $2.73 billion at Dec. 31, 2019 |
| Deposits | $3.08 billion | $3.04 billion at Dec. 31, 2019 |
| Other borrowings / subordinated debentures | $102.0 million / $39.5 million | $88.6 million / $39.5 million at Dec. 31, 2019 |
Net cash used in investing activities was $58.6 million; net cash from financing activities was $41.3 million. Financing included $46.8 million of net deposit growth and $13.8 million of share repurchases. The company declared dividends of $0.20 per share.
At March 31, the allowance for loan losses was $32.5 million, or 1.20% of portfolio loans, versus $26.1 million, or 0.96%, at year-end. Non-performing loans were $16.8 million (0.62% of portfolio loans), up from $9.5 million (0.35%). The bank was reported as well capitalized; its CET1 ratio was 11.76% and Tier 1 leverage ratio was 9.31%.
Material changes and drivers
- Net income fell approximately 49% year over year, primarily reflecting the sharp increase in credit-loss provision and higher non-interest expense.
- Net interest margin declined 25 basis points FTE as lower market rates and a flatter yield curve reduced asset yields. Lower funding costs partly offset this; average interest-earning assets grew $198.8 million.
- Mortgage originations rose to $311.1 million from $137.8 million, and mortgage loan sales to $262.3 million from $154.5 million. Mortgage gains increased to $8.8 million from $3.6 million, supported by refinancing activity and a higher loan-sales margin.
- Mortgage servicing generated a $5.3 million loss versus a $1.2 million loss, largely from a $7.0 million fair-value reduction in servicing rights as lower rates increased expected prepayments. Servicing rights fell to $14.8 million from $19.2 million at year-end.
- Portfolio loans were nearly flat overall: commercial and installment balances grew, while mortgage balances declined, primarily due to portfolio loan securitizations and sales.
- Shareholders’ equity declined to $335.6 million from $350.2 million, as repurchases, dividends and other comprehensive loss more than offset net income. Tangible common equity to tangible assets was 8.40%, down from 8.96%.
Outlook, management commentary, risks and unusual items
- COVID-19: Management said the pandemic and related restrictions had significantly affected the company and customers, with the full impact uncertain. Risks include higher delinquencies, defaults and credit provisions; lower collateral values; operational and vendor disruptions; cyber and payment fraud; and employee availability. Michigan’s stay-at-home order began March 24, and management noted restrictions could continue into Q2. The filing provides no earnings or financial guidance.
- Borrower relief and PPP: By March 31, the company had modified 366 customers’ loans totaling $86.9 million. As of April 29, it reported COVID-related accommodations on $232.6 million of portfolio loans, or 8.6%, and $133.7 million of loans serviced for others. Also as of April 29, 770 PPP loans totaling $170.7 million had been funded. The company warned of uncertainty in PPP requirements, possible litigation, and risk that the SBA could deny or reduce guarantees if it finds origination, funding or servicing deficiencies.
- Credit reserve and CECL: The company elected to delay CECL adoption under the CARES Act and continued the incurred-loss method. It estimated CECL adoption would increase the loan allowance by $8–$10 million and the reserve for unfunded commitments by $1–$2 million, subject to economic and portfolio assumptions. The Q1 allowance increase included a $4.9 million rise in subjective allocations, primarily attributed to COVID-19 economic uncertainty.
- Liquidity and funding: Management stated the bank had adequate liquidity, supported by cash, available-for-sale securities, secured borrowing access and brokered CDs. However, wholesale funding, including reciprocal deposits, was approximately $721.5 million, or 22.7% of total funding excluding subordinated debentures; the filing cautions that access and cost may change. Uninsured deposits were approximately $513 million.
- Other exposures: The company began a core data-processing system conversion and warned that pandemic-related staffing/vendor challenges could affect its timing, cost, operations or performance. Litigation accruals were described as immaterial, with estimated reasonably possible additional losses currently insignificant. It carried Visa Class B shares at zero despite an estimated reference value of approximately $3.5 million, reflecting transfer and conversion uncertainty.
- The company reported no material change in internal control over financial reporting and concluded disclosure controls were effective at quarter-end.
Key facts investors should verify
- Subsequent-quarter trends in loan accommodations, delinquencies, non-performing loans, charge-offs and allowance adequacy, especially after relief periods expire.
- Whether PPP loans are fully funded and guaranteed, and any effects of SBA reviews, program compliance issues or related litigation.
- Net interest margin and deposit/funding costs following rapid rate changes, including the stability and cost of wholesale and uninsured deposits.
- Mortgage production, sale margins, servicing-rights valuations and prepayment assumptions, which materially affected Q1 non-interest income.
- Progress and budget/timing for the core systems conversion, as well as regulatory capital and liquidity under worsening economic scenarios.