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NBHC > SEC Filings for NBHC > Form 10-Q on 9-May-2014All Recent SEC Filings

Show all filings for NATIONAL BANK HOLDINGS CORP

Form 10-Q for NATIONAL BANK HOLDINGS CORP


9-May-2014

Quarterly Report


Item 2: MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.
The following management's discussion and analysis of our financial condition and results of operations should be read in conjunction with our consolidated financial statements and related notes as of and for the three months ended March 31, 2014, and with our annual report on Form 10-K (file number 001-35654), which includes our audited consolidated financial statements and related notes as of and for the years ended December 31, 2013, 2012, and 2011. This discussion and analysis contains forward-looking statements that involve risks, uncertainties and assumptions that may cause actual results to differ materially from management's expectations. Factors that could cause such differences are discussed in the section entitled "Cautionary Note Regarding Forward-Looking Statements" located elsewhere in this quarterly report and in Item 1A"Risk Factors" in the annual report on Form 10-K, referenced above, and should be read herewith.
Readers are cautioned that meaningful comparability of current period financial information to prior periods may be limited. Following our Hillcrest Bank acquisition on October 22, 2010, we completed three additional acquisitions:
Bank Midwest on December 10, 2010, Bank of Choice on July 22, 2011 and Community Banks of Colorado on October 21, 2011. As a result, our operating results are limited to the periods since these acquisitions, and the comparability of periods is compromised due to the timing of these acquisitions. Additionally, in accordance with Accounting Standards Codification ("ASC") Topic 805, Business Combinations, the assets acquired and liabilities assumed were recorded at fair value at their respective dates of acquisition. The comparability of data is also compromised by the FDIC loss sharing agreements in place that cover a portion of losses incurred on certain assets acquired in the Hillcrest Bank and the Community Banks of Colorado acquisitions. Overview
National Bank Holdings Corporation is a bank holding company formed in 2009. Through our subsidiary, NBH Bank, N.A., we provide a variety of banking products to both commercial and consumer clients through a network of 97 banking centers, located in Colorado, the greater Kansas City area and Texas, and through on-line and mobile banking products. We operate under the following brand names:
Community Banks of Colorado in Colorado, Bank Midwest in Kansas and Missouri, and Hillcrest Bank in Texas.
In just over three years, we have completed the acquisition and integration of four troubled or failed banks, three of which were FDIC-assisted. We have transformed these four banks into one collective banking operation with steadily increasing organic growth, prudent underwriting, and meaningful market share with continued opportunity for expansion. Our long-term business model utilizes our organic development infrastructure, low-risk balance sheet, continuous operational development and a disciplined acquisition strategy to create value and provide opportunities for growth.
As of March 31, 2014, we had $4.9 billion in assets, $2.0 billion in loans, $3.9 billion in deposits and $0.9 billion in equity. We believe that our established presence positions us well for growth opportunities in our current and complementary markets. Our focus is on building strong banking relationships with small to mid-sized businesses and consumers, while maintaining a low risk profile designed to generate reliable income streams and attractive returns. Through our acquisitions, we have established a solid financial services franchise with a sizable presence for deposit gathering and client relationship building necessary for growth.
Operating Highlights and Key Challenges
Our operations resulted in the following highlights as of and for the three months ended March 31, 2014 (all comparisons refer to the linked quarter, except as noted):
Loan portfolio
        Organic loan originations totaled $217.0 million for the three months
         ended March 31, 2014, representing a 98.4% increase from the same period
         of 2013.


        As of March 31, 2014, we have $1.6 billion of loans outstanding that are
         associated with a "strategic" client relationship - a 36.7% annualized
         growth for the three months ended March 31, 2014.


        Successfully exited $28.7 million, or 33.3% annualized, of the
         non-strategic loan portfolio.

Credit quality
Non 310-30 loans

              Non-performing non 310-30 loans increased to 2.08% at March 31,
               2014 from 1.51% at December 31, 2013 as a result of an increase in
               accruing restructured loans.

Net charge-offs on average non 310-30 loans remained low at 0.09% annualized.


ASC 310-30 loans

              Added a net $5.6 million to accretable yield for the acquired
               loans accounted for under ASC 310-30.


              The $14.8 million covered commercial and industrial loan pool that
               had previously been on non-accrual status was returned to accrual
               status due to improved performance and predictability of cash
               flows within that pool.

Client deposit funded balance sheet

        Average transaction deposits and client repurchase agreements increased
         $25.5 million during the first quarter, or 4.2% annualized.


        Transaction account balances improved to 62.7% of total deposits as of
         March 31, 2014 from 61.0% at December 31, 2013.


        As of March 31, 2014, total deposits and client repurchase agreements
         made up 98.5% of our total liabilities.

We did not have any brokered deposits as of March 31, 2014.

Revenues and expenses

        The average annual yield on our loan portfolio was 7.11% for the three
         months ended March 31, 2014 compared to 8.14% for the three months ended
         March 31, 2013, driven by the increasing originated loan balances
         coupled with declining balances of higher-yielding purchased loans.


        Cost of deposits improved eight basis points to 0.37% for the three
         months ended March 31, 2014 from 0.45% for the three months ended
         March 31, 2013 due to the continued emphasis on our commercial and
         consumer relationship banking strategy and lower cost transaction
         accounts.


        Net interest margin widened to 3.94% during the three months ended
         March 31, 2014, compared to 3.88% during the three months ended March
         31, 2013, driven by lower cost of deposits.


        Operating costs before problem loan/OREO workout expenses and the
         benefit of the change in the warrant liability declined $3.9 million, or
         9.3%, during the three months ended March 31, 2014, compared to the same
         period in 2013.


        Problem loan/OREO workout expenses totaled $2.3 million for the three
         months ended March 31, 2014, decreasing $4.7 million from the same
         period in 2013.

Strong capital position

        As of March 31, 2014, our consolidated tier 1 leverage ratio was 16.8%
         and our consolidated tier 1 risk-based capital ratio was 36.8%.


        The after-tax accretable yield on ASC 310-30 loans plus the after-tax
         yield on the FDIC indemnification asset, net, in excess of 4.5%, an
         approximate yield on new loan originations, and discounted at 5%, adds
         $0.76 per share to our tangible book value per share as of March 31,
         2014.


        Tangible common book value per share was $18.44 before consideration of
         the excess accretable yield value of $0.76 per share.


        During the three months ended March 31, 2014, we repurchased 454,706
         shares, or 1.0% of outstanding shares, at a weighted average price of
         $19.35 per share. Since late 2012 and through March 31, 2014, we have
         repurchased 7.9 million shares, or 15.1% of outstanding shares, at an
         attractive weighted average price of $19.75 per share.


        On January 23, 2014, the Board of Directors approved a new authorization
         to repurchase up to $50.0 million of the Company's common stock through
         December 31, 2014. At March 31, 2014, $41.2 million of this repurchase
         authorization remained.

Key Challenges
There are a number of significant challenges confronting us and our industry. We face a variety of challenges in implementing our business strategy, including being a new entity, the challenges of acquiring distressed franchises and rebuilding them, deploying our remaining capital on quality acquisition targets, low interest rates and low demand from borrowers and intense competition for loans.
General economic conditions have been modestly improving in recent quarters. However, continued uncertainty about the strength of the recovery remains and has hindered the pace and advancement of an economic recovery, both nationally and in our markets. Residential real estate values have largely recovered from their lows, and we continue to consider this with guarded optimism. Commercial real estate values have been recovering slightly slower than residential real estate, and it is difficult to determine how strong this recovery is and how long it will last. A significant portion of our loan portfolio is secured by real estate and any deterioration in real estate values or credit quality or elevated levels of non-performing assets would ultimately have a negative impact on the quality of our loan portfolio.


Our total loan balances increased $107.5 million during the three months ended March 31, 2014, or 23.5% annualized on the strength of $217.0 million of loan originations during the three months ended March 31, 2014. While we recently hit our loan growth inflection point, whereby total originations are now outpacing problem loan resolution, interest rates remain low and intense loan competition has been limiting the yields we have been able to obtain on interest earning assets. For example, our acquired loans generally have produced higher yields than our originated loans due to the recognition of accretion of fair value adjustments and accretable yield. As a result, we expect the yields on our loans to decline as our acquired loan portfolio pays down or matures and any growth in our interest income will be dependent on our ability to generate sufficient volumes of high-quality originated loans.
Increased regulation, such as the rules and regulations promulgated under the Dodd-Frank Act and potential higher required capital ratios, is adding costs and uncertainty to all U.S. banks and could reduce our competitiveness as compared to other financial service providers or lead to industry-wide decreases in profitability. While certain external factors are out of our control and may provide obstacles during the implementation of our business strategy, we believe we are prepared to deal with these challenges. We seek to remain flexible, yet methodical and proactive, in our strategic decision making so that we can quickly respond to market changes and the inherent challenges and opportunities that accompany such changes.
Performance Overview
As a financial institution, we routinely evaluate and review our consolidated statements of financial condition and results of operations. We evaluate the levels, trends and mix of the statements of financial condition and statements of operations line items and compare those levels to our budgeted expectations, our peers, industry averages and trends.
Within our statements of financial condition, we specifically evaluate and manage the following:
Loan balances - We monitor our loan portfolio to evaluate loan originations, payoffs, and profitability. We forecast loan originations and payoffs within the overall loan portfolio, and we work to resolve problem loans and OREO in an expeditious manner. We track the runoff of our covered assets as well as the loan relationships that we have identified as "non-strategic" and put particular emphasis on the buildup of "strategic" relationships.
Asset quality - We monitor the asset quality of our loans and OREO through a variety of metrics, and we work to resolve problem assets in an efficient manner. Specifically, we monitor the resolution of problem loans through payoffs, pay downs and foreclosure activity. We marked all of our acquired assets to fair value at the date of their respective acquisitions, taking into account our estimation of credit quality.
Many of the loans that we acquired in the Hillcrest Bank, Bank of Choice and Community Banks of Colorado acquisitions had deteriorated credit quality at the respective dates of acquisition. These loans are accounted for under ASC Topic 310-30, Loans and Debt Securities Acquired with Deteriorated Credit Quality. This guidance is described more fully below under "-Application of Critical Accounting Policies" and in note 2 in our consolidated financial statements in our 2013 Annual Report on Form 10-K.
Our evaluation of traditional credit quality metrics and the allowance for loan losses ("ALL") levels, especially when compared to industry averages or to other financial institutions, takes into account that any credit quality deterioration that existed at the date of acquisition was considered in the original valuation of those assets on our balance sheet. Additionally, many of these assets are covered by loss sharing agreements. All of these factors limit the comparability of our credit quality and ALL levels to peers or other financial institutions. Deposit balances - We monitor our deposit levels by type, market and rate. Our loans are funded through our deposit base, and we seek to optimize our deposit mix in order to provide reliable, low-cost funding sources.
Liquidity - We monitor liquidity based on policy limits and through projections of sources and uses of cash. In order to test the adequacy of our liquidity, we routinely perform various liquidity stress test scenarios that incorporate wholesale funding maturities, if any, certain deposit run-off rates and access to borrowings. We manage our liquidity primarily through our balance sheet mix, including our cash and our investment security portfolio, and the interest rates that we offer on our loan and deposit products, coupled with contingency funding plans as necessary.
Capital - We monitor our capital levels, including evaluating the effects of share repurchases and potential acquisitions, to ensure continued compliance with regulatory requirements and with the OCC Operating Agreement that we entered into in connection with our Bank Midwest acquisition, which is described under "Supervision and Regulation"in our 2013 Annual Report on Form 10-K. We review our tier 1 leverage capital ratios, our tier 1 risk-based capital ratios and our total risk-based capital ratios on a regular basis.
Within our consolidated results of operations, we specifically evaluate the following:
Net interest income - Net interest income represents the amount by which interest income on interest earning assets exceeds interest expense incurred on interest bearing liabilities. We generate interest income through interest and dividends on loans,


investment securities and interest bearing bank deposits. Our acquired loans have generally produced higher yields than our originated loans due to the recognition of accretion of fair value adjustments and accretable yield and, as a result, we have historically had downward pressure on our interest income. Solid loan originations have provided increasing stability to interest income in order to offset the decreasing interest income from the higher yielding purchased loans. We incur interest expense on our interest bearing deposits and repurchase agreements and would also incur interest expense on any future borrowings, including any debt assumed in acquisitions. We strive to maximize our interest income by acquiring and originating loans and investing excess cash in investment securities. Furthermore, we seek to minimize our interest expense through low-cost funding sources, thereby maximizing our net interest income.

Provision for loan losses - The provision for loan losses includes the amount of expense that is required to maintain the ALL at an adequate level to absorb probable losses inherent in the non 310-30 loan portfolio at the balance sheet date. Additionally, we incur a provision for loan losses on loans accounted for under ASC 310-30 as a result of a decrease in the net present value of the expected future cash flows during the periodic remeasurement of the cash flows associated with these pools of loans. The determination of the amount of the provision for loan losses and the related ALL is complex and involves a high degree of judgment and subjectivity to maintain a level of ALL that is considered by management to be appropriate under GAAP.
Non-interest income - Non-interest income consists of service charges, bank card fees, gains on sales of mortgages, gains on sales of investment securities, gains on previously charged-off acquired loans, OREO related write-ups and other income and other non-interest income. Also included in non-interest income is FDIC indemnification asset amortization and other FDIC loss sharing income, which consists of reimbursement of costs related to the resolution of covered assets, and amortization of our clawback liability. For additional information, see "-Application of Critical Accounting Policies-Acquisition Accounting Application and the Valuation of Assets Acquired and Liabilities Assumed" and note 2 in our consolidated financial statements in our 2013 Annual Report on Form 10-K. Due to fluctuations in the amortization rates on the FDIC indemnification asset and the amortization of the clawback liability and due to varying levels of expenses and income related to the resolution of covered assets, the FDIC loss sharing income is not consistent on a period-to-period basis and, is expected to decline over time as covered assets are resolved and as the FDIC loss-sharing agreements expire over the next few years. Non-interest expense - The primary components of our non-interest expense are salaries and benefits, occupancy and equipment, telecommunications and data processing and intangible asset amortization. Any expenses related to the resolution of covered assets are also included in non-interest expense. These expenses are dependent on individual resolution circumstances and, as a result, are not consistent from period to period. We seek to manage our non-interest expense in order to maximize efficiencies.
Net income - We utilize traditional industry return ratios such as return on average assets, return on average tangible assets, return on average equity, return on average tangible equity and return on risk-weighted assets to measure and assess our returns in relation to our balance sheet profile.
In evaluating the financial statement line items described above, we evaluate and manage our performance based on key earnings indicators, balance sheet ratios, asset quality metrics and regulatory capital ratios, among others. The table below presents some of the primary performance indicators that we use to analyze our business on a regular basis for the periods indicated:


                                                  As of and for the three months ended
                                        March 31, 2014      December 31, 2013     March 31, 2013
Key Ratios(1)
Return on average assets                        0.12 %              0.08  %                0.16 %
Return on average tangible assets(2)            0.19 %              0.15  %                0.22 %
Return on average equity                        0.64 %              0.42  %                0.78 %
Return on average tangible common
equity(2)                                       1.10 %              0.82  %                1.17 %
Return on risk weighted assets                  0.26 %              0.19  %                0.46 %
Interest-earning assets to
interest-bearing liabilities (end of
period)(3)                                    137.14 %            137.05  %              137.52 %
Loans to deposits ratio (end of period)        50.79 %             48.46  %               43.65 %
Average equity to average assets               18.34 %             19.02  %               20.55 %
Non-interest bearing deposits to total
deposits (end of period)                       17.83 %             17.59  %               16.11 %
Net interest margin (fully taxable
equivalent)(2)(4)                               3.94 %              3.78  %                3.88 %
Interest rate spread(5)                         3.82 %              3.66  %                3.74 %
Yield on earning assets (fully taxable
equivalent)(2)(3)                               4.26 %              4.11  %                4.27 %
Cost of interest bearing liabilities(3)         0.44 %              0.45  %                0.53 %
Cost of deposits                                0.37 %              0.38  %                0.45 %
Non-interest expense to average assets          3.22 %              3.50  %                3.67 %
Efficiency ratio(6)                            87.65 %             93.36  %               88.29 %
Dividend payout ratio                         166.67 %            250.00  %              125.00 %

Asset Quality Data(7)(8)(9)
Non-performing loans to total loans             1.65 %              1.95  %                2.08 %
Covered non-performing loans to total
non-performing loans                           21.34 %             62.64  %               27.27 %
Non-performing assets to total assets           2.02 %              2.18  %                2.31 %
Covered non-performing assets to total
non-performing assets                          44.04 %             57.53  %               46.45 %
Allowance for loan losses to total
loans                                           0.71 %              0.68  %                0.73 %
Allowance for loan losses to total
non-covered loans                               0.83 %              0.81  %                1.05 %
Allowance for loan losses to
non-performing loans                           43.24 %             34.71  %               35.05 %
Net charge-offs to average loans                0.07 %             (0.07 %)                0.88 %

(1) Ratios are annualized.

(2) Ratio represents non-GAAP financial measure. See non-GAAP reconciliation on page 45.

(3) Interest earning assets include assets that earn interest/accretion or dividends, except for the FDIC indemnification asset, which is not part of interest earning assets. Any market value adjustments on investment securities are excluded from interest-earning assets. Interest bearing liabilities include liabilities that must be paid interest.

(4) Net interest margin represents net interest income, including accretion income on interest earning assets, as a percentage of average interest earning assets.

(5) Interest rate spread represents the difference between the weighted average yield on interest earning assets and the weighted average cost of interest bearing liabilities.

(6) The efficiency ratio represents non-interest expense, less intangible asset amortization, as a percentage of net interest income plus non-interest income.

(7) Non-performing loans consist of non-accruing loans, loans 90 days or more past due and still accruing interest and restructured loans, but exclude any loans accounted for under ASC 310-30 in which the pool is still performing. These ratios may, therefore, not be comparable to similar ratios of our peers.

(8) Non-performing assets include non-performing loans, other real estate owned and other repossessed assets.

(9) Total loans are net of unearned discounts and fees.


About Non-GAAP Financial Measures
Certain of the financial measures and ratios we present, including "tangible assets," "return on average tangible assets," "return on average tangible common equity," "tangible common book value," "tangible common book value per share," "tangible common equity," and "fully taxable equivalent," are supplemental measures that are not required by, or are not presented in accordance with, U.S. generally accepted accounting principles, or "non-GAAP financial measures." We consider the use of select non-GAAP financial measures and ratios to be useful for financial and operational decision making and useful in evaluating period-to-period comparisons. We believe that these non-GAAP financial measures provide meaningful supplemental information regarding our performance by excluding certain expenditures or assets that we believe are not indicative of our primary business operating results. We believe that management and investors benefit from referring to these non-GAAP financial measures in assessing our performance and when planning, forecasting, analyzing and comparing past, present and future periods.
These non-GAAP financial measures are presented for supplemental informational purposes only and should not be considered a substitute for financial information presented in accordance with GAAP. The non-GAAP financial measures we present may differ from non-GAAP financial measures used by our peers or other companies. In particular, the items that we exclude in our adjustments are not necessarily consistent with the items that our peers may exclude from their results of operations and key financial measures and therefore may limit the comparability of similarly named financial measures and ratios. We compensate for these limitations by providing the equivalent GAAP measures whenever we present the non-GAAP financial measures and by including a reconciliation of the impact of the components adjusted for in the non-GAAP financial measure so that both measures and the individual components may be considered when analyzing our performance.
A reconciliation of our non-GAAP financial measures to the comparable GAAP financial measures is as follows (in thousands, except share and per share information).


                                                  As of and for the three months ended
                                        March 31, 2014      December 31, 2013      March 31, 2013
Total shareholders' equity            $       895,849      $        897,792      $     1,086,743
Less: goodwill                                (59,630 )             (59,630 )            (59,630 )
Add: deferred tax liability related
to goodwill                                     5,059                 4,671                3,507
Less: intangible assets, net                  (20,893 )             (22,229 )            (26,239 )
Tangible common equity (non-GAAP)     $       820,385      $        820,604      $     1,004,381

Total assets                          $     4,913,587      $      4,914,115      $     5,257,543
Less: goodwill                                (59,630 )             (59,630 )            (59,630 )
Add: deferred tax liability related
to goodwill                                     5,059                 4,671                3,507
Less: intangible assets, net                  (20,893 )             (22,229 )            (26,239 )
Tangible assets (non-GAAP)            $     4,838,123      $      4,836,927      $     5,175,181
. . .
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