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HOMB > SEC Filings for HOMB > Form 10-Q on 7-Nov-2013All Recent SEC Filings

Show all filings for HOME BANCSHARES INC | Request a Trial to NEW EDGAR Online Pro

Form 10-Q for HOME BANCSHARES INC


7-Nov-2013

Quarterly Report


Item 2: MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The following discussion should be read in conjunction with our Form 10-K, filed with the Securities and Exchange Commission on March 4, 2013, which includes the audited financial statements for the year ended December 31, 2012. Unless the context requires otherwise, the terms "Company", "us", "we", and "our" refer to Home BancShares, Inc. on a consolidated basis.

General

We are a bank holding company headquartered in Conway, Arkansas, offering a broad array of financial services through our wholly owned bank subsidiary, Centennial Bank. As of September 30, 2013, we had, on a consolidated basis, total assets of $4.16 billion, loans receivable, net of $2.65 billion, total deposits of $3.25 billion, and stockholders' equity of $545.1 million.

We generate most of our revenue from interest on loans and investments, service charges, and mortgage banking income. Deposits and FHLB borrowed funds are our primary sources of funding. Our largest expenses are interest on our funding sources and salaries and related employee benefits. We measure our performance by calculating our return on average common equity, return on average assets, and net interest margin. We also measure our performance by our efficiency ratio, which is calculated by dividing non-interest expense less amortization of core deposit intangibles by the sum of net interest income on a tax equivalent basis and non-interest income.

                             Key Financial Measures



                                       As of or for the Three Months              As of or for the Nine Months
                                            Ended September 30,                       Ended September 30,
                                         2013                  2012                 2013                 2012
                                                  (Dollars in thousands, except per share data(2))
Total assets                        $     4,161,306         $ 3,887,909        $    4,161,306         $ 3,887,909
Loans receivable not covered by
loss share                                2,378,838           2,076,248             2,378,838           2,076,248
Loans receivable covered by
FDIC loss share                             308,072             407,416               308,072             407,416
Allowance for loan losses                    38,748              54,440                38,748              54,440
FDIC claims receivable                       31,168              24,580                31,168              24,580
Total deposits                            3,248,818           3,132,469             3,248,818           3,132,469
Total stockholders' equity                  545,142             509,978               545,142             509,978
Net income                                   18,363              16,095                53,570              46,083
Basic earnings per common share                0.33                0.29                  0.96                0.82
Diluted earnings per common
share                                          0.33                0.28                  0.95                0.81
Diluted earnings per common
share excluding
intangible amortization (1)                    0.33                0.29                  0.97                0.83
Annualized net interest margin
- FTE                                          5.41 %              4.65 %                5.25 %              4.65 %
Efficiency ratio                              45.67               46.24                 45.56               47.35
Annualized return on average
assets                                         1.80                1.61                  1.73                1.56
Annualized return on average
common equity                                 13.63               12.78                 13.53               12.60

(1) See Table 17 "Diluted Earnings Per Common Share Excluding Intangible Amortization" for a reconciliation to GAAP for diluted earnings per common share excluding intangible amortization.

(2) All per share amounts have been restated to reflect the effect of the 2-for-1 stock split during June 2013.


Table of Contents

Overview

Results of Operations for Three Months Ended September 30, 2013 and 2012

Our net income increased $2.3 million or 14.1% to $18.4 million for the three-month period ended September 30, 2013, from $16.1 million for the same period in 2012. On a diluted earnings per common share basis, our earnings were $0.33 and $0.28 (split adjusted) for the three-month periods ended September 30, 2013 and 2012, respectively. The $2.3 million increase in net income is primarily associated with the additional net interest income and other non-interest income resulting from our 2012 acquisitions of Heritage and Premier. Furthermore, there was $1.2 million of additional gains from the sale of SBA loans, premises & equipment and OREO plus supplemental other income of $271,000 from the recovery of a prior year loss. There was also a reduction in the provision for loan losses of $167,000 in third quarter of 2013 when compared to the third quarter of 2012. These improvements were partially offset by a modest increase in the costs associated with the asset growth from our acquisitions and approximately $738,000 of additional merger expenses.

During the third quarter of 2013, one pool of our covered loans sharing common risk characteristics paid off in its entirety. As a result of this payoff we collected $1.9 million of unexpected cash flows. This unexpected positive cash flow resulted in the recognition of $1.9 million as an extra adjustment to yield on loans for the third quarter of 2013. This positive event reduced the indemnification asset by approximately $1.5 million of which the entire amount was recognized as a reduction of earnings for the third quarter of 2013, and increased our FDIC true-up liability by $170,000 of which the entire amount was recognized as expense for the third quarter of 2013. The combined effect of this payoff on pre-tax net income was $210,000 for the third quarter of 2013.

During the first quarter of 2013 impairment testing on the estimated cash flows of covered loans, five loan pools were determined to have a materially projected credit improvement. As a result of this improvement, the Company will recognize approximately $15.6 million as an adjustment to yield over the weighted average life of the loans with $1.9 million of this amount being recognized during the third quarter of 2013. Improvements in credit quality decrease the basis in the related indemnification asset and increase our FDIC true up liability. This positive event will reduce the indemnification asset by approximately $12.5 million of which $1.8 million was recognized for the third quarter of 2013, and increase our FDIC true-up liability by $1.6 million of which $57,000 was recognized for the third quarter of 2013. The $12.5 million will be amortized over the weighted average life of the shared-loss agreements. This amortization will be shown as a reduction to FDIC indemnification non-interest income. The $1.6 million will be expensed over the remaining true-up measurement date as other non-interest expense.

Our annualized net interest margin, on a fully taxable equivalent basis, was 5.41% for the three months ended September 30, 2013, compared to 4.65% for the same period in 2012. Our ability to improve pricing on interest bearing deposits combined with additional yield on FDIC loss sharing loans which more than offset the lower interest rates on newly originated loans in the loan portfolio during this historically low rate environment allowed the Company to expand net interest margin. Our acquisitions have helped improve the yield on the loan portfolio. For the three months ended September 30, 2013, the effective yield on non-covered loans and covered loans was 5.88% and 12.76%, respectively. Excluding the $3.8 million of additional yield noted above for the third quarter, the pro forma effective yield on covered loans was 7.98%.

Our annualized return on average assets was 1.80% for the three months ended September 30, 2013, compared to 1.61% for the same period in 2012. Our annualized return on average common equity was 13.63% for the three months ended September 30, 2013, compared to 12.78% for the same period in 2012, respectively. The improvements in our ratios from 2012 to 2013 are consistent with the previously discussed changes in earnings for the three months ended September 30, 2013, compared to the same period in 2012.

Our efficiency ratio was 45.67% for the three months ended September 30, 2013, compared to 46.24% for the same period in 2012. The improvement in the efficiency ratio is primarily associated with additional net interest income and other non-interest income resulting from our 2012 acquisitions of Heritage and Premier combined with additional gains and recoveries offset by a modest increase in costs associated with the asset growth from our acquisitions and additional merger expenses.


Table of Contents

Results of Operations for Nine Months Ended September 30, 2013 and 2012

Our net income increased $7.5 million or 16.2% to $53.6 million for the nine-month period ended September 30, 2013, from $46.1 million for the same period in 2012. On a diluted earnings per common share basis, our earnings were $0.95 and $0.81 (split adjusted) for the nine-month periods ended September 30, 2013 and 2012, respectively. The $7.5 million increase in net income is primarily associated with the additional net interest income and other non-interest income resulting from our 2012 acquisitions of Vision, Heritage and Premier and a reduction in merger expenses by $925,000. Furthermore, there was $1.7 million of additional gains from the sale of SBA loans, premises & equipment, OREO and securities plus supplementary other income of $271,000 from the recovery of a prior year loss. There was also a reduction in the provision for loan losses of $650,000 in the first nine months of 2013 when compared to the first nine months 2012. These improvements were partially offset by a modest increase in the costs associated with the asset growth from our acquisitions.

During the third quarter of 2013, one pool of our covered loans sharing common risk characteristics paid off in its entirety. As a result of this payoff we collected $1.9 million of unexpected cash flows. This unexpected positive cash flow resulted in the recognition of $1.9 million as an extra adjustment to yield on loans for the third quarter of 2013. This positive event reduced the indemnification asset by approximately $1.5 million of which the entire amount was recognized as a reduction of earnings for the third quarter of 2013, and increased our FDIC true-up liability by $170,000 of which the entire amount was recognized as expense for the third quarter of 2013. The combined effect of this payoff on pre-tax net income was $210,000 for the third quarter of 2013.

As discussed in the preceding section, impairment testing on the estimated cash flows of the covered loans during the first quarter of 2013 were determined to have a materially projected credit improvement. As a result of this impairment testing, the Company recognized $6.1 million as an adjustment to yield over the weighted average life of the loans during the first nine months of 2013. Conversely, the indemnification asset was amortized by approximately $5.9 million and the FDIC true-up expense was increased by approximately $171,000 during the first nine months of 2013, respectively.

Our annualized net interest margin, on a fully taxable equivalent basis, was 5.25% for the nine months ended September 30, 2013, compared to 4.65% for the same period in 2012. Our ability to improve pricing on interest bearing deposits combined with additional yield on FDIC loss sharing loans which more than offset the lower interest rates on newly originated loans in the loan portfolio during this historically low rate environment allowed the Company to expand net interest margin. Our acquisitions have helped improve the yield on the loan portfolio. For the nine months ended September 30, 2013, the effective yield on non-covered loans and covered loans was 6.01% and 11.23%, respectively. Excluding the $8.0 million of additional yield noted above for 2013, the pro forma effective yield on covered loans was 8.13%.

Our annualized return on average assets was 1.73% for the nine months ended September 30, 2013, compared to 1.56% for the same period in 2012. Our annualized return on average common equity was 13.53% for the nine months ended September 30, 2013, compared to 12.60% for the same period in 2012, respectively. The improvements in our ratios from 2012 to 2013 are consistent with the previously discussed changes in earnings for the nine months ended September 30, 2013, compared to the same period in 2012.

Our efficiency ratio was 45.56% for the nine months ended September 30, 2013, compared to 47.35% for the same period in 2012. The improvement in the efficiency ratio is primarily associated with additional net interest income and other non-interest income resulting from our 2012 acquisitions of Vision, Heritage and Premier combined with additional gains, recoveries and lower merger expenses offset by a modest increase in costs associated with the asset growth from our acquisitions.


Table of Contents

Financial Condition as of and for the Period Ended September 30, 2013 and December 31, 2012

Our total assets as of September 30, 2013 decreased $80.8 million to $4.16 billion from the $4.24 billion reported as of December 31, 2012. Our loan portfolio not covered by loss share increased by $47.6 million to $2.38 billion as of September 30, 2013, from $2.33 billion as of December 31, 2012. Our loan portfolio covered by loss share decreased by $76.8 million to $308.1 million as of September 30, 2013, from $384.9 million as of December 31, 2012. The decrease in covered loans is primarily associated with pay-downs and payoffs in our covered loan portfolio. Stockholders' equity increased $29.7 million to $545.1 million as of September 30, 2013, compared to $515.5 million as of December 31, 2012. The annualized improvement in stockholders' equity for the first nine months of 2013 was 7.7%. The increase in stockholders' equity is primarily associated with the $40.2 million of comprehensive income less the $12.1 million of dividends paid for 2013.

As of September 30, 2013, our non-performing non-covered loans increased to $28.4 million, or 1.2%, of total non-covered loans from $27.3 million, or 1.17%, of total non-covered loans as of December 31, 2012. The allowance for loan losses for non-covered loans as a percent of non-performing non-covered loans decreased to 132.38% as of September 30, 2013, compared to 165.62% as of December 31, 2012. Non-performing non-covered loans in Arkansas were $7.1 million at September 30, 2013 compared to $12.1 million as of December 31, 2012. Non-performing non-covered loans in Florida were $21.3 million at September 30, 2013 compared to $15.2 million as of December 31, 2012. Non-performing non-covered loans in Alabama were $8,000 at September 30, 2013. As of December 31, 2012, no loans in Alabama were non-performing.

As of September 30, 2013, our non-performing non-covered assets improved to $42.8 million, or 1.15%, of total non-covered assets from $47.8 million, or 1.30%, of total non-covered assets as of December 31, 2012. Non-performing non-covered assets in Arkansas were $17.2 million at September 30, 2013 compared to $24.6 million as of December 31, 2012. Non-performing non-covered assets in Florida were $25.5 million at September 30, 2013 compared to $23.2 million as of December 31, 2012. Non-performing non-covered assets in Alabama were $8,000 at September 30, 2013. As of December 31, 2012, no assets in Alabama were non-performing.

Critical Accounting Policies

Overview. We prepare our consolidated financial statements based on the selection of certain accounting policies, generally accepted accounting principles and customary practices in the banking industry. These policies, in certain areas, require us to make significant estimates and assumptions. Our accounting policies are described in detail in the notes to our consolidated financial statements in Note 1 of the audited consolidated financial statements included in our Form 10-K, filed with the Securities and Exchange Commission.

We consider a policy critical if (i) the accounting estimate requires assumptions about matters that are highly uncertain at the time of the accounting estimate; and (ii) different estimates that could reasonably have been used in the current period, or changes in the accounting estimate that are reasonably likely to occur from period to period, would have a material impact on our financial statements. Using these criteria, we believe that the accounting policies most critical to us are those associated with our lending practices, including the accounting for the allowance for loan losses, acquisition accounting for covered loans and related indemnification asset, investments, foreclosed assets held for sale, intangible assets, income taxes and stock options.

Investments - Available-for-sale. Securities that are held as available-for-sale are reported at fair value with unrealized holding gains and losses reported as a separate component of stockholders' equity and other comprehensive income
(loss), net of taxes. Securities that are held as available-for-sale are used as a part of our asset/liability management strategy. Securities that may be sold in response to interest rate changes, changes in prepayment risk, the need to increase regulatory capital, and other similar factors are classified as available-for-sale.

Loans Receivable Not Covered by Loss Share and Allowance for Loan Losses. Except for loans acquired during our acquisitions, substantially all of our loans receivable not covered by loss share are reported at their outstanding principal balance adjusted for any charge-offs, as it is management's intent to hold them for the foreseeable future or until maturity or payoff, except for mortgage loans held for sale. Interest income on loans is accrued over the term of the loans based on the principal balance outstanding.


Table of Contents

The allowance for loan losses is established through a provision for loan losses charged against income. The allowance represents an amount that, in management's judgment, will be adequate to absorb probable credit losses on identifiable loans that may become uncollectible and probable credit losses inherent in the remainder of the loan portfolio. The amounts of provisions for loan losses are based on management's analysis and evaluation of the loan portfolio for identification of problem credits, internal and external factors that may affect collectability, relevant credit exposure, particular risks inherent in different kinds of lending, current collateral values and other relevant factors.

The allowance consists of allocated and general components. The allocated component relates to loans that are classified as impaired. For those loans that are classified as impaired, an allowance is established when the discounted cash flows, collateral value or observable market price of the impaired loan is lower than the carrying value of that loan. The general component covers non-classified loans and is based on historical charge-off experience and expected loss given default derived from the Bank's internal risk rating process. Other adjustments may be made to the allowance for pools of loans after an assessment of internal or external influences on credit quality that are not fully reflected in the historical loss or risk rating data.

Loans considered impaired, under FASB ASC 310-10-35, are loans for which, based on current information and events, it is probable that the Company will be unable to collect all amounts due according to the contractual terms of the loan agreement. The Company applies this policy even if delays or shortfalls in payment are expected to be insignificant. The aggregate amount of impairment of loans is utilized in evaluating the adequacy of the allowance for loan losses and amount of provisions thereto. Losses on impaired loans are charged against the allowance for loan losses when in the process of collection it appears likely that such losses will be realized. The accrual of interest on impaired loans is discontinued when, in management's opinion the collection of interest is doubtful, or generally when loans are 90 days or more past due. When accrual of interest is discontinued, all unpaid accrued interest is reversed. Interest income is subsequently recognized only to the extent cash payments are received in excess of principal due. Loans are returned to accrual status when all the principal and interest amounts contractually due are brought current and future payments are reasonably assured.

Groups of loans with similar risk characteristics are collectively evaluated for impairment based on the group's historical loss experience adjusted for changes in trends, conditions and other relevant factors that affect repayment of the loans.

Loans are placed on non-accrual status when management believes that the borrower's financial condition, after giving consideration to economic and business conditions and collection efforts, is such that collection of interest is doubtful, or generally when loans are 90 days or more past due. Loans are charged against the allowance for loan losses when management believes that the collectability of the principal is unlikely. Accrued interest related to non-accrual loans is generally charged against the allowance for loan losses when accrued in prior years and reversed from interest income if accrued in the current year. Interest income on non-accrual loans may be recognized to the extent cash payments are received, although the majority of payments received are usually applied to principal. Non-accrual loans are generally returned to accrual status when principal and interest payments are less than 90 days past due, the customer has made required payments for at least six months, and we reasonably expect to collect all principal and interest.

Acquisition Accounting, Acquired Loans and Related Indemnification Asset. The Company accounts for its acquisitions under ASC Topic 805, Business Combinations, which requires the use of the acquisition method of accounting. All identifiable assets acquired, including loans, are recorded at fair value. No allowance for loan losses related to the acquired loans is recorded on the acquisition date as the fair value of the loans acquired incorporates assumptions regarding credit risk. All loans acquired are recorded at fair value in accordance with the fair value methodology prescribed in ASC Topic 820. For covered acquired loans fair value is exclusive of the shared-loss agreements with the Federal Deposit Insurance Corporation (FDIC). The fair value estimates associated with the loans include estimates related to expected prepayments and the amount and timing of undiscounted expected principal, interest and other cash flows.


Table of Contents

Over the life of the purchased credit impaired loans acquired, the Company continues to estimate cash flows expected to be collected on pools of loans sharing common risk characteristics, which are treated in the aggregate when applying various valuation techniques. The Company evaluates at each balance sheet date whether the present value of its pools of loans determined using the effective interest rates has decreased and if so, recognizes a provision for loan loss in its consolidated statement of income. For any increases in cash flows expected to be collected, the Company adjusts the amount of accretable yield recognized on a prospective basis over the pool's remaining life.

Because the FDIC will reimburse the Company for certain acquired loans should the Company experience a loss, an indemnification asset is recorded at fair value at the acquisition date. The indemnification asset is recognized at the same time as the indemnified loans, and measured on the same basis, subject to collectability or contractual limitations. The shared-loss agreements on the acquisition date reflect the reimbursements expected to be received from the FDIC, using an appropriate discount rate, which reflects counterparty credit risk and other uncertainties.

For our FDIC-assisted transactions, shared-loss agreements continue to be measured on the same basis as the related indemnified loans. Because the acquired loans are subject to the accounting prescribed by ASC Topic 310, subsequent changes to the basis of the shared-loss agreements also follow that model. Deterioration in the credit quality of the loans (immediately recorded as an adjustment to the allowance for loan losses) would immediately increase the basis of the shared-loss agreements, with the offset recorded through the consolidated statement of income as a reduction of the provision for loan losses. Increases in the credit quality or cash flows of loans (reflected as an adjustment to yield and accreted into income over the weighted-average remaining life of the loans) decrease the basis of the shared-loss agreements, with such decrease being amortized into income over 1) the same period or 2) the life of the shared-loss agreements, whichever is shorter. Loss assumptions used in the basis of the indemnified loans are consistent with the loss assumptions used to measure the indemnification asset. Fair value accounting incorporates into the fair value of the indemnification asset an element of the time value of money, which is accreted back into income over the life of the shared-loss agreements.

Upon the determination of an incurred loss the indemnification asset will be reduced by the amount owed by the FDIC. A corresponding claim receivable is recorded until cash is received from the FDIC.

Foreclosed Assets Held for Sale. Real estate and personal properties acquired through or in lieu of loan foreclosure are to be sold and are initially recorded at fair value at the date of foreclosure, establishing a new cost basis. Valuations are periodically performed by management, and the real estate and personal properties are carried at fair value less cost to sell. Gains and losses from the sale of other real estate and personal properties are recorded in non-interest income, and expenses used to maintain the properties are included in non-interest expenses.

Intangible Assets. Intangible assets consist of goodwill and core deposit intangibles. Goodwill represents the excess purchase price over the fair value of net assets acquired in business acquisitions. The core deposit intangible represents the excess intangible value of acquired deposit customer relationships as determined by valuation specialists. The core deposit intangibles are being amortized over 48 to 114 months on a straight-line basis. Goodwill is not amortized but rather is evaluated for impairment on at least an annual basis. We perform an annual impairment test of goodwill and core deposit intangibles as required by FASB ASC 350, Intangibles-Goodwill and Other, in the fourth quarter.

Income Taxes.The Company accounts for income taxes in accordance with income tax accounting guidance (ASC 740, Income Taxes). The income tax accounting guidance results in two components of income tax expense: current and deferred. Current income tax expense reflects taxes to be paid or refunded for the current period by applying the provisions of the enacted tax law to the taxable income or excess of deductions over revenues. The Company determines deferred income taxes using the liability (or balance sheet) method. Under this method, the net deferred tax asset or liability is based on the tax effects of the differences . . .

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