First Commonwealth Financial Corp. — Form 10-Q Summary
Reporting period: Third quarter and nine months ended September 30, 2010. Unaudited consolidated results; balance-sheet comparisons are with December 31, 2009. First Commonwealth is a Pennsylvania-based financial holding company with $5.9 billion in assets and 114 community banking offices.
Financial performance
- Third-quarter earnings: Net income was $10.7 million, or $0.11 per diluted share, versus a net loss of $5.9 million, or $0.07 per share, in third-quarter 2009.
- Nine-month earnings: Net income was $11.0 million, or $0.12 per diluted share, compared with a net loss of $22.8 million, or $0.27 per share, in the 2009 period.
- Net interest income: GAAP net interest income was $51.1 million in the quarter and $156.8 million year to date. On a fully taxable equivalent basis, it was $53.1 million for the quarter, down 2%, and $164.2 million year to date, up 1%, year over year.
- Net interest margin: Fully taxable equivalent margin increased to 3.90% from 3.62% for the quarter and to 3.89% from 3.69% year to date. Management attributed the improvement to lower deposit costs, a more favorable deposit mix, disciplined loan pricing, and reduced balance-sheet leverage.
- Credit costs: Provision for credit losses was $4.5 million in the quarter and $53.6 million year to date, versus $23.0 million and $79.5 million, respectively, in 2009. Nine-month net charge-offs rose to $49.5 million from $41.8 million.
- Other income and expenses: Nine-month noninterest income was $35.0 million versus $10.5 million, largely reflecting lower securities impairment charges. Excluding impairment losses and securities gains, it increased 2% to $41.7 million. Noninterest expense declined 2% to $127.8 million.
- Balance sheet and liquidity: Assets were $5.91 billion, down from $6.45 billion at year-end. Loans declined 7% to $4.30 billion; deposits increased 4% to $4.73 billion. Cash and cash equivalents were $135.4 million at quarter-end. Nine-month operating cash flow was $82.8 million.
- Debt and capital: Short-term borrowings fell to $162.0 million from $958.9 million; long-term debt was $225.2 million, including subordinated debentures. Shareholders’ equity increased to $741.8 million. The bank was “well capitalized,” with total risk-based capital of 13.0%, Tier 1 risk-based capital of 11.7%, and Tier 1 leverage of 10.4%.
Material changes and notable items
- In the third quarter, the company sold 18.54 million common shares at $4.65 per share, raising approximately $81.4 million net. The offering contributed to higher equity and a substantial increase in shares outstanding.
- Loan balances declined $336.9 million from year-end, which management attributed to weaker demand and deliberate management of large credit exposures. Securities declined, and proceeds from maturities and redemptions helped reduce borrowings.
- The entire $22.4 million held-to-maturity securities portfolio was transferred to available-for-sale on June 30, 2010, as part of a strategy to reduce municipal credit risk and improve the tax position.
- Third-quarter securities impairment charges were $4.3 million; nine-month charges were $9.2 million, mainly related to pooled trust preferred collateralized debt obligations. Their carrying value was $59.9 million versus estimated fair value of $22.8 million, and nine such securities were not accruing interest.
- Goodwill was $160.0 million. A September impairment analysis found no impairment, although the initial test showed fair value less than 5% below book value and required a second-step analysis.
Outlook, risks, and contingencies
- The filing provides no specific earnings or revenue guidance. Management said any increase in the 2011 dividend would depend on consistent earnings and continued economic improvement; the declared quarterly dividend was $0.01 per share.
- Credit risk remains material: nonperforming loans were $124.2 million, or 2.89% of loans, and impaired loans were concentrated in commercial borrowers and real estate. Management highlighted several large troubled exposures, including a $44.3 million line to a Pennsylvania real estate developer and out-of-market construction loans.
- The allowance for credit losses was $85.6 million, or 1.99% of loans and 69% of nonperforming loans. Management considered it adequate, but actual losses may differ from estimates.
- Management cited economic weakness, real-estate values, borrower defaults, investment-security impairment, interest-rate changes, regulatory requirements, and competition as risks. The company’s one-year repricing gap was liability-sensitive; its model estimated annual net interest income would decline $2.3 million for a 100-basis-point rate decrease and increase $1.2 million for a 100-basis-point increase.
- The company reported it was not meeting return-on-assets and nonperforming-asset covenants on a $4.1 million ESOP loan and was seeking a waiver or modification. It reported no material legal proceedings and no material changes to previously disclosed risk factors.
- Available liquidity included $627 million of Federal Reserve borrowing capacity and $1.4 billion of maximum FHLB borrowing capacity; the filing reported no Federal Reserve borrowings and $115 million outstanding from the FHLB at quarter-end.
Investor verification points
- Track subsequent credit losses, nonperforming loans, allowance adequacy, and resolution of the large commercial and construction exposures.
- Review future impairment assumptions and cash-flow performance for pooled trust preferred securities, and any resulting earnings or capital charges.
- Monitor loan demand, deposit mix and costs, net interest margin, and progress in reducing reliance on borrowings.
- Confirm resolution of the ESOP loan covenant issue and assess capital and per-share impacts of the 2010 stock offering.
- Assess whether goodwill remains unimpaired and whether the company can sustain earnings and the stated dividend level.