Management's Discussion and Analysis of Financial Condition and Results of
Operations of Republic Bancorp, Inc. ("Republic" or the "Company") analyzes the
major elements of Republic's consolidated balance sheets and statements of
income. Republic, a bank holding company headquartered in Louisville, Kentucky,
is the parent company of Republic Bank & Trust Company, ("RB&T"), Republic Bank
("RB") (collectively referred together with RB&T as the "Bank"), Republic
Funding Company and Republic Invest Co.Republic Invest Co. includes its
subsidiary, Republic Capital LLC. The consolidated financial statements also
include the wholly-owned subsidiaries of RB&T: Republic Financial Services, LLC,
TRS RAL Funding, LLC and Republic Insurance Agency, LLC. Republic Bancorp
Capital Trust is a Delaware statutory business trust that is a 100%-owned
unconsolidated finance subsidiary of Republic Bancorp, Inc. Management's
Discussion and Analysis of Financial Condition and Results of Operations of
Republic should be read in conjunction with Part I Item 1 "Financial
Statements."
As used in this filing, the terms "Republic," the "Company," "we," "our" and
"us" refer to Republic Bancorp, Inc., and, where the context requires, Republic
Bancorp, Inc. and its subsidiaries; and the term the "Bank" refers to the
Company's subsidiary banks: RB&T and Republic Bank.
Forward-looking statements involve known and unknown risks, uncertainties and
other factors that may cause actual results, performance or achievements to be
materially different from future results, performance or achievements expressed
or implied by the forward-looking statements. Actual results may differ
materially from those expressed or implied as a result of certain risks and
uncertainties, including, but not limited to, changes in political and economic
conditions, interest rate fluctuations, competitive product and pricing
pressures, equity and fixed income market fluctuations, personal and corporate
customers' bankruptcies, inflation, recession, acquisitions and integrations of
acquired businesses, technological changes, changes in law and regulations or
the interpretation and enforcement thereof, changes in fiscal, monetary,
regulatory and tax policies, monetary fluctuations, success in gaining
regulatory approvals when required, as well as other risks and uncertainties
reported from time to time in the Company's filings with the Securities and
Exchange Commission ("SEC") including under Part 1 Item 1A "Risk Factors" in the
Company's 2011 Annual Report on Form 10-K.
Broadly speaking, forward-looking statements include:
? projections of revenue, expenses, income, losses, earnings per share,
capital expenditures, dividends, capital structure or other financial
items;
? descriptions of plans or objectives for future operations, products or
services;
? forecasts of future economic performance; and ? descriptions of assumptions underlying or relating to any of the foregoing.
The Company may make forward-looking statements discussing management's
expectations about various matters, including:
? loan delinquencies, future credit losses, non-performing loans and
non-performing assets;
? further developments in the Bank's ongoing review of and efforts to resolve
possible problem credit relationships, which could result in, among other
things, additional provision for loans losses;
? deteriorating credit quality, including changes in the interest rate
environment and reducing interest margins;
? the overall adequacy of the allowance for loans losses; ? future short-term and long-term interest rates and the respective impact on
net interest margin, net interest spread, net income, liquidity and
capital;
? the future performance of assets, including loans, acquired in the
Tennessee Commerce Bank ("TCB") acquisition; ? the future operating performance of the Republic Payment Solutions ("RPS")
division;
? the future regulatory viability of the Tax Refund Solutions ("TRS")
division;
? the future operating performance of the TRS division, including the impact
of the cessation of Refund Anticipation Loans ("RALs");
? future Electronic Refund Check/Electronic Refund Deposit ("ERC/ERD" or
"AR/ARD") volume for the TRS division;
? future revenues associated with ERCs/ERDs at the TRS division; ? future recoveries associated with RALs originated during 2012 and prior;
? potential impairment of investment securities;
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? the future value of mortgage servicing rights;
? the impact of new accounting pronouncements;
? legal and regulatory matters including results and consequences of
regulatory guidance, litigation, administrative proceedings, rule-making,
interpretations, actions and examinations;
? the extent to which regulations written and implemented by the Federal
Bureau of Consumer Financial Protection, and other federal, state and local
governmental regulation of consumer lending and related financial products
and services may limit or prohibit the operation of the Company's business;
? financial services reform and other current, pending or future legislation
or regulation that could have a negative effect on the Company's revenue
and businesses, including the Dodd-Frank Act and legislation and regulation
relating to overdraft fees (and changes to the Bank's overdraft practices
as a result thereof), debit card interchange fees, credit cards, and other
bank services;
? future capital expenditures;
? the strength of the U.S. economy in general and the strength of the local
economies in which the Company conducts operations;
? the Bank's ability to maintain current deposit and loan levels at current
interest rates and
? the Company's ability to successfully implement future growth plans,
including growth through future acquisitions.
Forward-looking statements discuss matters that are not historical facts. As
forward-looking statements discuss future events or conditions, the statements
often include words such as "anticipate," "believe," "estimate," "expect,"
"intend," "plan," "project," "target," "can," "could," "may," "should," "will,"
"would," or similar expressions. Do not rely on forward-looking statements.
Forward-looking statements detail management's expectations regarding the future
and are not guarantees. Forward-looking statements are assumptions based on
information known to management only as of the date the statements are made and
management may not update them to reflect changes that occur subsequent to the
date the statements are made. See additional discussion under Part I Item 1A
"Risk Factors" in the Company's 2011 Annual Report on Form 10-K.
62
--------------------------------------------------------------------------------BUSINESS SEGMENT COMPOSITION
As of June 30, 2012, the Company was divided into three distinct segments:
Traditional Banking, Mortgage Banking and Republic Processing Group ("RPG").
During the second quarter of 2012, the Company realigned the previously reported
Tax Refund Solutions ("TRS") segment as a division of the newly formed RPG
segment. Along with the TRS division, Republic Payment Solutions ("RPS") was
newly created to operate as a second division of the RPG segment.
Nationally, through RB&T, RPG facilitates the receipt and payment of federal and
state tax refund products under the TRS division. Nationally, through RB, the
RPS division is preparing to become an issuing bank to offer general purpose
reloadable prepaid debit, payroll, gift and incentive cards through third party
program managers.
For the projected near-term, as the prepaid card program is being established,
the operating results of the RPS division are expected to be immaterial to the
Company's overall results of operations and will be reported as part of the RPG
business segment. The RPS division will not be reported as a separate business
segment until such time, if any, that it becomes material.
Net income, total assets and net interest margin by segment for the three and
six months ended June 30, 2012 and 2011 are presented below:
Three Months Ended June 30, 2012
Republic
Traditional Mortgage Processing Total
(in thousands) Banking Banking Group Company
Net income $ 6,480 $ 718 $ 2,380 $ 9,578
Segment assets 3,248,453 9,847 20,500 3,278,800
Net interest margin 3.57 % NM NM 3.53 %
Three Months Ended June 30, 2011
Republic
Traditional Mortgage Processing Total
(in thousands) Banking Banking Group Company
Net income (loss) $ 7,317 $ 45 $ 1,301 $ 8,663
Segment assets 3,067,290 14,695 22,585 3,104,570
Net interest margin 3.50 % NM NM 3.50 %
Six Months Ended June 30, 2012
Republic
Traditional Mortgage Processing Total
(in thousands) Banking Banking Group Company
Net income $ 26,838 $ 929 $ 64,283 $ 92,050
Segment assets 3,248,453 9,847 20,500 3,278,800
Net interest margin 3.58 % NM NM 5.73 %
Six Months Ended June 30, 2011
Republic
Traditional Mortgage Processing Total
(in thousands) Banking Banking Group Company
Net income (loss) $ 9,793 $ (61 ) $ 70,343 $ 80,075
Segment assets 3,067,290 14,695 22,585 3,104,570
Net interest margin 3.42 % NM NM 6.48 %
_____________________
NM - Not Meaningful
For expanded segment financial data see Footnote 11 "Segment Information" of
Part I Item 1 "Financial Statements.
63
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(I) Traditional Banking segment
As of June 30, 2012, Republic had 43 full-service banking centers with 34
located in Kentucky, four located in metropolitan Tampa, Florida, three located
in southern Indiana and one located each in metropolitan Cincinnati, Ohio and
metropolitan Nashville, Tennessee. RB&T's primary market areas are located in
metropolitan Louisville, Kentucky, central Kentucky, northern Kentucky and
southern Indiana. Louisville, the largest city in Kentucky, is the location of
Republic's headquarters, as well as 20 banking centers. RB&T's central Kentucky
market includes 11 banking centers in the following Kentucky cities:
Elizabethtown (1); Frankfort (1); Georgetown (1); Lexington, the second largest
city in Kentucky (5); Owensboro (2); and Shelbyville (1). RB&T's northern
Kentucky market includes banking centers in Covington, Florence and
Independence. RB&T also has banking centers located in Floyds Knobs,
Jeffersonville and New Albany, Indiana, and Franklin (Nashville), Tennessee.
Republic Bank has locations in Hudson, Palm Harbor, Port Richey and Temple
Terrace, Florida, as well as Blue Ash (Cincinnati), Ohio.
Effective January 27, 2012, RB&T assumed substantially all of the deposits and
certain other liabilities and acquired certain assets of Tennessee Commerce Bank
("TCB"), headquartered in Franklin, Tennessee from the FDIC, as receiver for
TCB. This acquisition represents a single banking center located in metropolitan
Nashville and represents RB&T's initial entrance into the Tennessee market. See
additional discussion regarding the TCB acquisition under Footnote 2 "Bank
Acquisition" of Part I Item 1 "Financial Statements."
In June 2011, the Bank commenced business in its newly established warehouse
lending division. Through this division, the Bank provides short-term, revolving
credit facilities to mortgage bankers secured by single 1-4 family real estate
loans. These advances enable the mortgage company customer to close single 1-4
family real estate loans in their own name and temporarily fund their inventory
of these closed loans until the loans are sold to investors approved by the
Bank. These individual loans are expected to remain on the warehouse line for an
average of 15 to 30 days. Interest income and loan fees are accrued for each
individual loan during the time the loan remains on the warehouse line and
collected when the loan is sold to the secondary market investor. The Bank
receives the sale proceeds of each loan directly from the investor and applies
the funds to payoff the warehouse advance and related accrued interest and fees.
The remaining proceeds are credited to the mortgage banking customer. As of June
30, 2012, the Bank had outstanding loans of $89 million and eight committed
lines totaling $171 million within its warehouse lending division.
As a result of the historically low interest rate environment over the last
several years, the Bank has been challenged in its efforts to grow its
residential real estate portfolio, as consumer demand shifted to 15 and 30 year
fixed rate loan products that the Bank has historically sold into the secondary
market. In addition to retaining a portion of longer-fixed rate loan
originations, the Bank also created a fixed rate Home Equity Amortizing Loan
("HEAL") product during the second half of 2010 in an effort to grow its
residential real estate portfolio. The HEAL product is a first mortgage or a
junior lien mortgage product with amortization periods of 20 years or less.
Features of the HEAL include $199 fixed closing costs; no requirement for the
client to escrow insurance and property taxes; and as with the Bank's
traditional ARM products, no requirement for private mortgage insurance. The
overall features of the HEAL have made it an attractive alternative to long-term
fixed rate secondary market products. As of June 30, 2012 and December 31, 2011,
the Bank had $161 million and $58 million of HEALs outstanding.
(II) Mortgage Banking segment
Mortgage Banking activities primarily include 15, 20 and 30 year fixed-term
single family first lien residential rate real estate loans that are sold into
the secondary market, primarily to FHLMC. The Bank typically retains servicing
on loans sold into the secondary market. Administration of loans with servicing
retained by the Bank includes collecting principal and interest payments,
escrowing funds for property taxes and insurance and remitting payments to
secondary market investors. A fee is received by the Bank for performing these
standard servicing functions.
As part of the sale of loans with servicing retained, the Bank records a MSR.
MSRs represent an estimate of the present value of future cash servicing income,
net of estimated costs, which the Bank expects to receive on loans sold with
servicing retained by the Bank. MSRs are capitalized as separate assets. This
transaction is posted to net gain on sale of loans, a component of "Mortgage
Banking income" in the income statement. Management considers all relevant
factors, in addition to pricing considerations from other servicers, to estimate
the fair value of the MSRs to be recorded when the loans are initially sold with
servicing retained by the Bank. The carrying value of MSRs is initially
amortized in proportion to and over the estimated period of net servicing income
and subsequently adjusted quarterly based on the weighted average remaining life
of the underlying loans. The amortization is recorded as a reduction to Mortgage
Banking income.
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The carrying value of the MSRs asset is reviewed monthly for impairment based on
the fair value of the MSRs, using groupings of the underlying loans by interest
rates. Any impairment of a grouping is reported as a valuation allowance. A
primary factor influencing the fair value is the estimated life of the
underlying loans serviced. The estimated life of the loans serviced is
significantly influenced by market interest rates. During a period of declining
interest rates, the fair value of the MSRs is expected to decline due to
increased anticipated prepayment speed assumptions within the portfolio.
Alternatively, during a period of rising interest rates, the fair value of MSRs
is expected to increase, as prepayment speed assumptions on the underlying loans
would be anticipated to decline. Management utilizes an independent third party
on a monthly basis to assist with the fair value estimate of the MSRs.
See additional detail regarding Mortgage Banking under Footnote 8 "Mortgage
Banking Activities" and Footnote 11 "Segment Information" of Part I Item 1
"Financial Statements."
(III) Republic Processing Group segment
Republic Processing Group is comprised of two distinct divisions: Tax Refund
Solutions ("TRS") and Republic Payment Solutions ("RPS").
TRS division:
Republic, through its TRS division, is one of a limited number of financial
institutions that facilitates the payment of federal and state tax refund
products through third-party tax preparers located throughout the U.S., as well
as tax-preparation software providers. The TRS division's three primary
tax-related products have historically included: Electronic Refund Checks
("ERCs" or "ARs"), Electronic Refund Deposits ("ERDs" or "ARDs") and Refund
Anticipation Loans ("RALs"). Substantially all of the business generated by the
TRS division occurs in the first quarter of the year. The TRS division
traditionally operates at a loss during the second half of the year, during
which the division incurs costs preparing for the upcoming year's first quarter
tax season.
During the six months ended June 30, 2012 and 2011, net income from the TRS
division accounted for approximately 70% and 88% of the Company's total net
income. Net income associated with RALs represented approximately 34% of the TRS
division's net income for the same respective periods. As discussed below, RB&T
discontinued its offering of the RAL product by April 30, 2012.
ERCs/ERDs are products whereby a tax refund is issued to the taxpayer after RB&T
has received the refund from the federal or state government. There is no credit
risk or borrowing cost for RB&T associated with these products because they are
only delivered to the taxpayer upon receipt of the refund directly from the
Internal Revenue Service ("IRS"). Fees earned on ERCs/ERDs are reported as non
interest income under the line item "Electronic Refund Check fees."
RALs were short-term consumer loans offered to taxpayers that were secured by
the customer's anticipated tax refund, which represented the source of
repayment. The fees earned on RALs are reported as interest income under the
line item "Loans, including fees."
RB&T has agreements with Jackson Hewitt Inc. ("JHI"), a subsidiary of Jackson
Hewitt Tax Service Inc. ("JH"), and Liberty Tax Service ("Liberty") to offer RAL
and ERC/ERD products. JH and Liberty provide preparation services of federal,
state and local individual income tax returns in the U.S. through a nationwide
network of franchised and company-owned tax-preparers offices. Approximately 40%
of the TRS division's gross revenue was derived from JH tax offices for the six
months ended as of June 30, 2012 and 2011, respectively, with another 19% and
20% from Liberty tax offices for the same respective periods.
Substantially all RALs issued by RB&T each year were made during the first
quarter. RALs were generally repaid by the IRS or applicable taxing authority
within two weeks of origination. Losses associated with RALs resulted from the
IRS not remitting taxpayer refunds to RB&T associated with a particular tax
return. This occurred for a number of reasons, including errors in the tax
return and tax return fraud which are identified through IRS audits resulting
from revenue protection strategies. In addition, RB&T also incurred losses as a
result of tax debts not previously disclosed during its underwriting process.
At March 31st of each year, RB&T reserved for its estimated RAL losses for the
year based on current and prior year funding patterns, information received from
the IRS on current year payment processing, projections using RB&T's internal
RAL underwriting criteria applied against prior years' customer data, and the
subjective experience of RB&T management. RALs outstanding 30 days or longer
were charged off at the end of each quarter, with subsequent collections
recorded as recoveries. Since the RAL season is over by the end of April of each
year, substantially all uncollected RALs are charged off by June 30th of each
year, except for those RALs management deems certain of collection.
65
--------------------------------------------------------------------------------Discontinuance of the RAL Product and Future Competition
As previously disclosed, effective December 8, 2011, RB&T entered into an
agreement with the FDIC resolving its differences regarding the TRS division.
RB&T's resolution with the FDIC was in the form of a Stipulation Agreement and a
Consent Order (collectively, the "Agreement"). As part of the Agreement, RB&T
and the FDIC settled all matters set out in the FDIC's Amended Notice of Charges
dated May 3, 2011 and the lawsuit filed against the FDIC by RB&T. As required by
this settlement, RB&T discontinued its offering the RAL product by April 30,
2012, subsequent to the first quarter 2012 tax season.
RB&T's discontinuance of RALs beyond 2012 is expected to have a material adverse
impact on net income in 2013 and beyond, as the RAL product accounted for
approximately 34% of the TRS division's net income for the six months ended June
30, 2012 and 2011, respectively. In addition, RB&T's loss of the RAL product is
expected to negatively impact the revenue it receives on its ERC/ERD products
due to competitive pricing pressures. It is expected that the TRS division will
continue to be a material contributor to the Company's overall net income in
2013 and beyond. The Company cannot, however, currently predict a precise
contribution from the TRS division going forward, as many of its pricing and
potential revenue sharing arrangements for the upcoming first quarter 2013 tax
season and beyond remain subject to discussions. Actual TRS division net income
for 2012 and beyond will be impacted by a number of factors, including those
factors disclosed from time to time in the Company's filings with the SEC and
set forth under Part I Item 1A "Risk Factors" of the Company's 2011 Form 10-K.
For additional discussion regarding the Agreement, see the Company's Form 8-K
filed with the SEC on December 9, 2011, including Exhibits 10.1 and 10.2.
As set forth under Part I Item 1A "Risk Factors" of the Company's 2011 Form 10-K
filed on March 7, 2012, discontinuance of the RAL product after April 30, 2012,
is expected to have a material adverse impact on the profitability of RB&T's ERC
and ERD products. The TRS division faces direct competition for ERC/ERD market
share from independently-owned processing groups partnered with banks.
Independent processing groups that were unable to offer RAL products have
historically been at a competitive disadvantage to banks who could offer RALs.
Without the ability to originate RALs after the 2012 tax season, RB&T will face
increased competition in the ERC/ERD marketplace. In addition to a potential
loss of volume resulting from additional competitors, RB&T will also likely
incur substantial pressure on its profit margin for its ERC/ERD products as it
will be forced to compete with existing rebate and pricing incentives in the
ERC/ERD marketplace.
In addition, as a result of RB&T's Agreement with the FDIC, the TRS division is
subject to additional oversight requirements not currently imposed on its
competitors. These additional requirements could make attracting new
relationships and retaining existing relationships more difficult for RB&T. The
Agreement contains a provision for an Electronic Return Originator ("ERO") Plan
to be implemented by RB&T. The ERO Plan places additional oversight and training
requirements on RB&T and its tax preparation partners that are not currently
required by the regulators for RB&T's competitors in the tax business. These
additional requirements could make attracting new relationships and retaining
existing relationships more difficult for RB&T, once it is no longer able to
offer RALs.
TRS Division Funding - First Quarter 2012 Tax Season
During the fourth quarter of 2011, in anticipation of first quarter 2012 RAL
program, RB&T obtained $300 million in FHLB advances with a weighted average
life of three months with a weighted average interest rate of 0.10%. In January
2012, the Company obtained $252 million of short-term brokered deposits to
complete its funding needs for the first quarter 2012 tax season. These brokered
deposits had a weighted average maturity of 44 days with a weighted average cost
of approximately 0.39%. The total weighted average funding cost for the first
quarter 2012 tax season was 0.23%.
TRS Division Funding - First Quarter 2011 Tax Season
Due to RB&T's reduction to its maximum RAL offering amount and its revised
underwriting guidelines in response to the elimination of the DI by the IRS,
RB&T's funding needs for the first quarter 2011 tax season were significantly
reduced compared to prior years. During the fourth quarter of 2010, RB&T
obtained $562 million in brokered certificates of deposits to be utilized to
fund the first quarter 2011 RAL program. These brokered certificates of deposits
had a weighted average life of three months with a weighted average interest
rate of 0.42%.
66
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For additional discussion regarding TRS, a division of RPG, see the following
sections of this filing:
? Part I Item 1 "Financial Statements:"
o Footnote 1 "Basis of Presentation and Summary of Significant Accounting
Policies"
o Footnote 4 "Loans and Allowance for Loan Losses"
o Footnote 6 "Federal Home Loan Bank Advances"
o Footnote 11 "Segment Information"
? Part I Item 2 "Management's Discussion and Analysis of Financial Condition and
Results of Operations:"
o "Overview"
o "Results of Operations"
o "Comparison of Financial Condition"
RPS division:
Nationally, through RB, the RPS division is preparing to become an issuing bank
to offer general purpose reloadable prepaid debit, payroll, gift and incentive
cards through third party program managers. If successful, this program is
expected to:
o Generate a low-cost deposit source;
o Generate float revenue from the previously mentioned low cost deposit
source;
o Serve as a source of fee income; and
o Generate debit card interchange revenue.
For the projected near-term, as the prepaid card program is being established,
the operating results of the RPS division are expected to be immaterial to the
Company's overall results of operations and will be reported as part of the RPG
business segment. The RPS division will not be reported as a separate business
segment until such time, if any, that it becomes material.
The Company divides prepaid cards into two general categories: reloadable and
non-reloadable cards.
Reloadable Cards: These types of cards are generally payroll or considered
general purpose reloadable ("GPR") cards. Payroll cards are issued to an
employee by an employer to receive the direct deposit of their payroll. GPR
cards can also be issued to a consumer at a retail location or mailed to a
consumer after completing an on-line application. GPR cards can be reloaded
multiple times with a consumer's payroll, government benefit, a federal or state
tax refund or through cash reload networks located at retail locations.
Reloadable cards are generally open loop cards as described below.
Non-Reloadable Cards: These are generally one-time use cards that are only
active until the funds initially loaded to the card are spent. These types of
cards are gift or incentive cards. These cards may be open loop or closed loop.
Normally these types of cards are used for purchase of goods or services at
retail locations and cannot be used to receive cash.
These prepaid cards may be open loop, closed loop or semi-closed loop. Open loop
cards can be used to receive cash at ATM locations or purchase goods or services
by PIN or signature at retail locations. These cards can be used virtually
anywhere that Visa® or MasterCard® is accepted. Closed loop cards can only be
used at a specific merchant. Semi-closed loop cards can be used at several
merchants such as a shopping mall.
The prepaid card market is one of the fastest growing segments of the payments
industry in the U.S. This market has experienced significant growth in recent
years due to consumers and merchants embracing improved technology, greater
convenience, more product choices and greater flexibility. Prepaid cards have
also proven to be an attractive alternative to traditional bank accounts for
certain segments of the population, particularly those without, or who could not
qualify for, a checking or savings account.
The RPS division will work with various third parties to distribute prepaid
cards to consumers throughout the U.S. The Company will also likely work with
these third parties to develop additional financial services for consumers to
increase the functionality of the program and prepaid card usage.
67
--------------------------------------------------------------------------------
OVERVIEW (Three Months Ended June 30, 2012 Compared to Three Months Ended June
30, 2011)
Net income for the three months ended June 30, 2012 was $9.6 million,
representing an increase of $915,000, or 11%, compared to the same period in
2011. Diluted earnings per Class A Common Share increased to $0.46 for the
quarter ended June 30, 2012 compared to $0.41 for the same period in 2011.
General highlights by segment for the quarter ended June 30, 2012 consisted of
the following:
Traditional Banking segment (Second Quarter Highlights)
? Net income decreased $830,000 for the second quarter of 2012 compared to
the same period in 2011. The decrease was generally related to the
operating loss of the recently acquired TCB franchise and a $1.9 million
pre-tax security gain recorded during the second quarter of 2011.
? Net interest income increased $1.7 million, or 6%, for the second quarter
of 2012 to $28.1 million. The Traditional Banking segment net interest
margin increased 7 basis points for the quarter ended June 30, 2012 to
3.57%.
? Provision for loan losses was $831,000 for the quarter ended June 30, 2012
compared to $585,000 for the same period in 2011.
? Total non interest income decreased $1.9 million for the second quarter of
2011 compared to the same period in 2011 primarily due to security gains
recorded during the second quarter of 2011.
? Total non interest expense increased $911,000, or 4%, during the second
quarter of 2012 compared to the second quarter of 2011 due primarily to
pre-conversion overhead costs associated with the TCB acquisition.
? Total non-performing loans to total loans for the Traditional Banking segment was 0.93% at June 30, 2012, compared to 1.02% at December 31, 2011
and 1.28% at June 30, 2011.
? During the second quarter of 2011, the Bank purchased commercial real
estate loans with a face amount of approximately $37 million at a 13%
discount to par.
? During the second quarter of 2011, the Bank sold available for sale
mortgage backed securities with an amortized cost of $132 million,
resulting in a pre-tax gain of $1.9 million.
? The Bank launched its Warehouse Lending division during the second quarter
of 2011 and had $89 million in loans outstanding at June 30, 2012 compared
to $41 million and $6 million at December 31, 2011 and June 30, 2011,
respectively.
Mortgage Banking segment (Second Quarter Highlights)
? Within the Mortgage Banking segment, mortgage banking income increased $1.0
million during the second quarter of 2012 compared to the same period in
2011.
? Mortgage banking income was positively impacted by an increase in secondary
market loan volume during the second quarter of 2012.
RPG segment - (Second Quarter Highlights)
? Net income increased $1.1 million, or 83%, for the second quarter of 2012
compared to the same period in 2011. The increase in quarter-over-quarter
earnings was generally attributable to a Civil Money Penalty assessed by
the FDIC against RB&T during the second quarter of 2011 at a non-tax
deductible $2 million level as part of the Amended Notice. The actual
penalty paid during the fourth quarter of 2011 in connection with the
settlement was $900,000, resulting in a $1.1 million credit to pre-tax
income recorded during the fourth quarter of 2011.
? Net interest income decreased $198,000, or 54%, for the second quarter of
2012 compared to the same period in 2011.
? RPG recorded a net credit to provision for loan losses of $365,000 for the
second quarter of 2012, compared to a net credit of $1.0 million for the
same period in 2011.
? RPG posted non-interest income of $6.2 million for the second quarter of
2012 compared to $6.6 million for the same period in 2011.
? The current year tax season represents the last season that RB&T will originate RALs. RB&T will continue to offer ERC/ERD products in the future.
68
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For additional discussion regarding TRS, a division of RPG, see the following
sections of this filing:
? Part I Item 1 "Financial Statements:"
o Footnote 1 "Basis of Presentation and Summary of Significant Accounting
Policies"
o Footnote 4 "Loans and Allowance for Loan Losses"
o Footnote 6 "Federal Home Loan Bank Advances"
o Footnote 11 "Segment Information"
? Part I Item 2 "Management's Discussion and Analysis of Financial Condition and
Results of Operations:"
o "Business Segment Composition"
o "Results of Operations"
o "Comparison of Financial Condition"
RESULTS OF OPERATIONS (Three Months Ended June 30, 2012 Compared to Three Months
Ended June 30, 2011)
Net Interest Income
Banking results of operations are primarily dependent upon net interest income.
Net interest income is the difference between interest income on
interest-earning assets, such as loans and investment securities and the
interest expense on liabilities used to fund those assets, such as
interest-bearing deposits, securities sold under agreements to repurchase and
Federal Home Loan Bank ("FHLB") advances. Net interest income is impacted by
both changes in the amount and composition of interest-earning assets and
interest-bearing liabilities, as well as market interest rates.
Total Company net interest income increased $1.5 million, or 6%, for the second
quarter of 2012 compared to the same period in 2011. The total Company net
interest margin increased 3 basis points to 3.53% for the same period. The most
significant components impacting the total Company's net interest income were as
follows:
Traditional Banking segment
Net interest income within the Traditional Banking segment increased $1.7
million, or 6%, for the second quarter of 2012 compared to 2011. The Traditional
Banking net interest margin increased 7 basis points for the same period to
3.57%. The increase in net interest income during the second quarter of 2012 was
directly attributable to an increase in the average balance of loans
outstanding, as well as an increase in the average investment portfolio
resulting from the strategies discussed below.
Regarding the increase in the investment portfolio, prior to the first quarter
of 2011, the Bank's general investment strategy was largely to not reinvest the
cash it had been receiving from its loan and investment paydowns and pay-offs
into assets with longer-term repricing horizons due to market projections of
interest rate increases in the future. As a result, much of the cash the Bank
received from paydowns during the years previous to 2011 had been reinvested
into short-term, lower yielding investments, which had improved the Bank's risk
position from future interest rate increases, while negatively impacting
then-current earnings. This conservative investment strategy, which involved
minimal credit risk and minimal interest rate risk, led the Bank to hold a
significant sum of cash at the Federal Reserve Bank ("FRB") for much of the
previous two years.
In February 2011, the Bank modified its conservative investment strategy, taking
on more interest rate risk by reinvesting a portion of its excess cash into
longer-term investment securities, thus increasing its projected net interest
income and net interest margin for the near-term. The Bank made this revision to
its conservative strategy, in large part, due to the on-going contraction of its
net interest margin resulting from continued paydowns in its loan portfolio and
the large amount of cash on hand earning 0.25%. While the Bank has slightly
revised this strategy from time to time since the first quarter of 2011, in
general, it has maintained the same strategic direction of extending the
maturities within its investment portfolio in order to increase its yield on
interest-earning assets. Although the Bank has taken on more interest rate risk
as a result of this strategy, the overall interest rate risk position of the
Bank continues to remain within limits set by its board of directors.
In addition to the activity noted within its securities portfolio, the Bank
implemented various other strategies during the past several months to
positively impact net interest income. Specifically within the loan portfolio,
four distinguishable circumstances occurred positively impacting the size of its
loan portfolio and correspondingly providing a positive impact to net interest
income.
69
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As disclosed in previous filings, the first of these circumstances occurred in
June 2011 when the Bank purchased approximately $37 million of performing
commercial real estate loans at a 13% discount. The Bank made this purchase as
one of its strategies to reverse an on-going contraction in its net interest
margin. At the time of purchase, these loans had a weighted average life of
approximately seven years with an expected yield of 8.28%.
Secondly, as discussed in more detail within the "Loan Portfolio" section of
this filing, the Bank started its Mortgage Warehouse Lending Division during
June of 2011. During the second quarter of 2012, the Mortgage Warehouse Lending
Division had average loans outstanding of $55 million achieving an average yield
of 4.60%.
The third circumstance occurred on January 27, 2012 when RB&T, acquired TCB. The
Bank acquired loans, net of loans put back to the FDIC, with a fair value of
approximately $56 million and an initial projected effective yield of 7.94%. At
June 30, 2012 TCB loans with a carrying value of $39 million were still
outstanding. See additional discussion regarding the TCB acquisition under
Footnote 2 "Bank Acquisition" of Part I Item 1 "Financial Statements."
Lastly, the average balance of the Bank's residential real estate loans
increased $131 million compared to the second quarter of 2011 due primarily to
growth in the Bank's Home Equity Amortizing Loan ("HEAL") product. The HEAL
product is described in more detail within the "Loan Portfolio" section of this
filing.
Within the liabilities section of the balance sheet, the Bank continued to
reprice its interest-bearing deposits lower to partially offset declining asset
yields. In addition, due to the steepness of the yield curve and the FRB's
pledge to keep the Federal Funds Target Rate ("FFTR") low for an extended period
of time. The Bank prepaid $81 million in FHLB advances during the first quarter
of 2012 that were originally scheduled to mature between October 2012 and May
2013. These advances had a weighted average cost of 3.56%. The Bank incurred a
$2.4 million early termination penalty in connection with these prepayments,
which will save the Bank approximately $2.6 million in interest expense during
the remainder of 2012 and the first five months of 2013.
The interest savings realized by the Bank as a result of these prepayments have
been and will continue to be reduced by the Bank's on-going interest rate risk
mitigation practices, which often includes strategies utilizing long term
advances from the FHLB. In particular, the Bank took advantage of declining
interest rates during the second quarter of 2012 to borrow $120 million of
long-term advances with a weighted average life of 5.5 years and a weighted
average cost of 1.45%. The Bank borrowed these funds on a long-term basis to
mitigate its interest rate risk position in the event of an increasing rate
environment.
Management expects to continue to experience downward repricing in its loan and
investment portfolios resulting from on-going paydowns and early payoffs. This
downward repricing will continue to cause compression in Republic's net interest
income and net interest margin. Additionally, because the FFTR (the index which
many of the Bank's short-term deposit rates track) has remained at a target
range between 0.00% and 0.25%, no future FFTR decreases from the Federal Open
Markets Committee of the FRB are possible, exacerbating the compression to the
Bank's net interest income and net interest margin caused by its repricing loans
and investments. The Bank is unable to precisely determine the ultimate negative
impact to the Bank's net interest spread and margin in the future because
several factors remain unknown at this time, such as future demand for financial
products and the overall future need for liquidity, among many other factors.
70
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RPG segment
Net interest income within the RPG segment decreased $198,000, or 54%, for the
second quarter of 2012 compared to the same period in 2011. The decrease in RPG
net interest income was primarily due to a $321,000 decline in RAL fee income
resulting from a corresponding 23% decrease in RAL volume. The overall decline
in the volume of RALs originated during 2012 resulted from a general decrease in
consumer demand for the product. Management believes the decrease in RAL volume,
which is generated through retail locations, is the result of a shift in
consumer demand toward lower priced on-line tax preparation services and
increased competition within the retail market based on free products and
services from competitors.
For additional discussion regarding TRS, a division of RPG, see the following
sections of this filing:
? Part I Item 1 "Financial Statements:"
o Footnote 1 "Basis of Presentation and Summary of Significant Accounting
Policies"
o Footnote 4 "Loans and Allowance for Loan Losses"
o Footnote 6 "Federal Home Loan Bank Advances"
o Footnote 11 "Segment Information"
? Part I Item 2 "Management's Discussion and Analysis of Financial Condition and
Results of Operations:"
o "Business Segment Composition"
o "Overview"
o "Comparison of Financial Condition"
Table 1 provides detailed total Company information as to average balances,
interest income/expense and rates by major balance sheet category for the three
month periods ended June 30, 2012 and 2011. Table 2 provides an analysis of
total Company changes in net interest income attributable to changes in rates
and changes in volume of interest-earning assets and interest-bearing
liabilities for the same periods.
For additional information on the potential future effect of changes in
short-term interest rates on Republic's net interest income, see the table
titled "Traditional Banking Interest Rate Sensitivity for 2012" in this section
of the filing.
71
--------------------------------------------------------------------------------Table 1 - Total Company Average Balance Sheets and Interest Rates for the Three
Months Ended June 30, 2012 and 2011
Three Months Ended June 30, 2012 Three Months Ended June 30, 2011
Average Average
(dollars in thousands) Balance Interest Average Rate Balance Interest Average Rate
ASSETS
Interest-earning assets:
Taxable investment
securities, including FHLB
stock(1) $ 680,134 $ 3,217 1.89 % $ 652,693 $ 4,400 2.70 %
Federal funds sold and
other interest-earning
deposits 117,497 63 0.21 % 221,695 216 0.39 %
Refund Anticipation Loan
fees(2) 1,026 135 52.63 % 3,548 454 51.18 %
Traditional Bank loans and
fees(2)(3) 2,405,154 30,399 5.06 % 2,189,271 29,389 5.37 %
Total interest-earning
assets 3,203,811 33,814 4.22 % 3,067,207 34,459 4.49 %
Less: Allowance for loan
losses 23,694 29,255
Non interest-earning
assets:
Non interest-earning cash
and cash equivalents 35,922 75,614
Premises and equipment, net 33,674 36,690
Other assets(1) 53,274 58,680
Total assets $ 3,302,987 $ 3,208,936
LIABILITIES AND
STOCKHOLDERS' EQUITY
Interest-bearing
liabilities:
Transaction accounts $ 602,613 $ 108 0.07 % $ 357,268 $ 132 0.15 %
Money market accounts 464,325 193 0.17 % 716,227 614 0.34 %
Time deposits 231,104 512 0.89 % 249,804 1,043 1.67 %
Brokered money market and
brokered CD's 116,385 400 1.37 % 130,707 483 1.48 %
Total deposits 1,414,427 1,213 0.34 % 1,454,006 2,272 0.63 %
Securities sold under
agreements to repurchase
and
other short-term
borrowings 250,515 118 0.19 % 274,074 173 0.25 %
Federal Home Loan Bank
advances 479,064 3,540 2.96 % 527,669 4,556 3.45 %
Subordinated note 41,240 631 6.12 % 41,240 629 6.10 %
Total interest-bearing
liabilities 2,185,246 5,502 1.01 % 2,296,989 7,630 1.33 %
Non interest-bearing
liabilities and
Stockholders' equity
Non interest-bearing
deposits 533,649 409,391
Other liabilities 49,516 56,424
Stockholders' equity 534,576 446,132
Total liabilities and
stockholders' equity $ 3,302,987 $ 3,208,936
Net interest income $ 28,312 $ 26,829
Net interest spread 3.21 % 3.16 %
Net interest margin 3.53 % 3.50 %
--------------------------------------------------------------------------------
(1) For the purpose of this calculation, the fair market value adjustment on
investment securities resulting from FASB ASC Topic 320, Investments - Debt
and Equity Securities, is included as a component of other assets.
(2) The amount of loan fee income included in total interest income was $1.3
million and $1.1 million for the three months ended June 30, 2012 and 2011.
(3) Average balances for loans include the principal balance of non accrual
loans and loans held for sale.
72--------------------------------------------------------------------------------
Table 2 illustrates the extent to which changes in interest rates and changes in
the volume of total Company interest-earning assets and interest-bearing
liabilities impacted Republic's interest income and interest expense during the
periods indicated. Information is provided in each category with respect to (i)
changes attributable to changes in volume (changes in volume multiplied by prior
rate), (ii) changes attributable to changes in rate (changes in rate multiplied
by prior volume) and (iii) net change. The changes attributable to the combined
impact of volume and rate have been allocated proportionately to the changes due
to volume and the changes due to rate.
Table 2 - Total Company Volume/Rate Variance Analysis for the Three Months Ended
June 30, 2012 and 2011
Three Months Ended June 30, 2012
Compared to
Three Months Ended June 30, 2011
Increase / (Decrease) Due to
Total Net
(in thousands) Change Volume Rate
Interest income:
Taxable investment securities, including
FHLB stock $ (1,183 ) $ 178 $ (1,361 )
Federal funds sold and other
interest-earning deposits (153 ) (78 ) (75 )
Refund Anticipation Loan fees (319 ) (332 ) 13
Traditional Bank loans and fees 1,010 2,792 (1,782 )
Net change in interest income (645 ) 2,560 (3,205 )
Interest expense:
Transaction accounts (24 ) 64 (88 )
Money market accounts (421 ) (171 ) (250 )
Time deposits (531 ) (73 ) (458 )
Brokered money market and brokered CDs (83 ) (51 ) (32 )
Securities sold under agreements to
repurchase and
other short-term borrowings (55 ) (14 ) (41 )
Federal Home Loan Bank advances (1,016 ) (396 ) (620 )
Subordinated note 2 - 2
Net change in interest expense (2,128 ) (641 ) (1,487 )
Net change in net interest income $ 1,483 $ 3,201 $ (1,718 )
73
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Provision for Loan Losses (Three Months Ended June 30, 2012 Compared to Three
Months Ended June 30, 2011)
The Company recorded a provision for loan losses of $466,000 for the second
quarter 2012, compared to a net credit provision of $439,000 for the same period
in 2011. The significant components comprising the Company's increased provision
for loan losses were as follows:
Traditional Banking segment
The Traditional Banking provision for loan losses during the second quarter of
2012 was $831,000, a $246,000 increase from the $585,000 recorded during the
second quarter of 2011.
The increase in the provision was generally attributable to an increase in the
Company's loan loss reserves for its pass-rated credits due to a general
increase in historical loss percentages combined with growth in the loan
portfolio. While the Company's delinquency and nonperforming loan ratios
continue to trend favorably, the Company's charge offs in the second quarter of
2012 remained elevated as compared to historical amounts. These charge offs were
mostly reserved for in prior periods. While the Company continues to see signs
of improvement in many of its credit quality indicators, the Company's
management remains cautious in its outlook, as there remains concurrent negative
indications within the economic, regulatory and political sectors that could
impact the Bank's customers ability to repay.
See the section titled "Asset Quality" in this section of the filing under
"Comparison of Financial Condition at June 30, 2012 and December 31, 2011" for
additional discussion regarding the Company's provision for loan losses,
classified assets, allowance for loan losses, non-performing loans, delinquent
loans, impaired loans and TDRs.
RPG segment
Substantially all RALs issued by the Company each year are made during the first
quarter. RALs are generally repaid by the IRS or applicable taxing authority
within two weeks of origination. Losses associated with RALs result from the IRS
not remitting taxpayer refunds to the Company associated with a particular tax
return. This occurs for a number of reasons, including errors in the tax return
and tax return fraud which are identified through IRS audits resulting from
revenue protection strategies. In addition, the Company also incurs losses as a
result of tax debts not previously disclosed during its underwriting process.
For the three months ended June 30, 2012, the TRS division provision for loan
losses was a net credit of $365,000 compared to a net credit of $1.0 million for
the same period in 2011. The net credit in both periods resulted from better
than previously projected paydowns within the RB&T's RAL portfolio.
74
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An analysis of changes in the allowance for loan losses and selected ratios
follows:
Table 3 - Summary of Loan Loss Experience for the Three Months Ended June 30,
2012 and 2011
Three Months Ended
June 30,
(dollars in thousands) 2012 2011
Allowance for loan losses at beginning of period $ 23,732 $ 29,144
Charge offs:
Residential real estate:
Owner occupied (491 ) (544 )
Non owner occupied (262 ) (41 )
Commercial real estate (295 ) (161 )
Commercial real estate - purchased whole loans - -
Real estate construction (501 ) (53 )
Commercial (7 ) (100 )
Warehouse lines of credit - -
Home equity (199 ) (347 )
Consumer:
Credit cards (50 ) (29 )
Overdrafts (100 ) (141 )
Other consumer (52 ) (77 )
Refund Anticipation Loans (343 ) (2,037 )
Total charge offs (2,300 ) (3,530 )
Recoveries:
Residential real estate:
Owner occupied 34 53
Non owner occupied - -
Commercial real estate 13 225
Commercial real estate - purchased whole loans - -
Real estate construction 27 4
Commercial 10 5
Warehouse lines of credit - -
Home equity 55 63
Consumer:
Credit cards 4 3
Overdrafts 87 151
Other consumer 44 62
Refund Anticipation Loans 338 190
Total recoveries 612 756
Net loan charge offs (1,688 ) (2,774 )
Provision for loan losses - Traditional Banking 831 585
Provision for loan losses - Refund Anticipation Loans (365
) (1,024 )
Total provision for loan losses 466 (439 )
Allowance for loan losses at end of period $ 22,510
$ 25,931
Total Company Credit Quality Ratios:
Allowance for loan losses to total loans 0.92 % 1.17 %
Allowance for loan losses to non performing loans 100 % 91 %
Annualized net loan charge offs to average loans outstanding 0.28
% 0.51 %
Traditional Banking Credit Quality Ratios:
Allowance for loan losses to total loans 0.92 % 1.17 %
Allowance for loan losses to non performing loans 100 % 91 %
Annualized net loan charge offs to average loans outstanding 0.28 % 0.17 %
75--------------------------------------------------------------------------------
Non interest Income (Three Months Ended June 30, 2012 Compared to Three Months
Ended June 30, 2011)
Total Company non interest income decreased $1.3 million, or 8%, for the second
quarter of 2012 compared to the same period in 2011. The most significant
components comprising the total Company's non interest income were as follows:
Traditional Banking segment
Traditional Banking segment non interest income decreased $1.9 million for the
second quarter of 2012 compared to the same period in 2011.
Service charges on deposit accounts decreased $450,000, or 12%, during the
second quarter of 2012 compared to the same period in 2011. The decrease was
primarily the result of the continued general decline in consumer overdraft
activity that the Company, and the banking industry as a whole, has experienced
the past several years. In addition, further contributing to this general
decline in consumer overdraft activity, was the additional FDIC guidelines in
relation to overdraft honor programs, which took effect in July 2011. These
guidelines have continued to have a negative impact on the Bank's net income
since their implementation in 2011 and will continue so in the future.
The Bank earns a substantial majority of its fee income related to its overdraft
service program from the per item fee it assesses its customers for each
insufficient funds check or electronic debit presented for payment. In addition,
the Bank estimates that it has historically earned more than 60% of its
overdraft related fees on the electronic debits presented for payment. Both the
per item fee and the daily fee assessed to the account resulting from its
overdraft status, if computed as a percentage of the amount overdrawn, results
in a high rate of interest when annualized and are thus considered excessive by
some consumer groups. The total net per item fees included in service charges on
deposits for the second quarters of 2012 and 2011 were $1.8 million and $2.6
million. The total net daily overdraft charges included in interest income for
the second quarter of 2012 and 2011 was $401,000 and $467,000, respectively.
As a result of the continued decline in service charges on deposits and a
further anticipated decline as a result of the new FDIC guidelines, the Bank
instituted a new fee structure for its retail checking account products during
the third quarter of 2011. The new product design was implemented on July 1,
2011 for all newly opened retail accounts. On August 1, 2011 the Bank converted
the substantial majority of its existing retail checking accounts into new
product types with new fee structures. The goal of the new fee structure, in the
short-term, was to reverse the trend of declining service charges on deposits.
In the long-term, the Bank's goal is that the new fee structure, combined with
growth in the Bank's retail checking account base, will allow the service
charges on deposits category to increase once again. Revenue generated during
the second quarter of 2012 as a result of these new fees was approximately
$386,000, partially offsetting the decrease in overdraft-related fees for the
same period.
During the second quarter of 2011, the Bank sold securities with an amortized
cost of $132 million as the Bank repositioned a portion of its portfolio into
securities with a shorter duration than those sold. As a result of market
conditions at the time of sale, the Bank recorded a pre-tax gain on sale of $1.9
million.
Mortgage Banking segment
Within the Mortgage Banking segment, mortgage banking income increased $1.0
million during the second quarter of 2012 compared to the same period in 2011.
Mortgage banking income was positively impacted by an increase in secondary
market loan volume during the second quarter of 2012, which resulted from the
continued low long-term interest rate environment. During the second quarter of
2012, Republic received application volume for long-term fixed rate mortgages of
$143 million compared to $78 million during the second quarter of 2011. In
addition, secondary market pricing has generally improved across the industry
during 2012 compared to the prior year.
RPG segment
RPG non interest income decreased $449,000, or 7%, during the second quarter of
2012 compared to the same period in 2011 consistent with the decline in volume
of net ERC/ERD's.
For additional discussion regarding TRS, a division of RPG, see the following
sections of this filing:
? Part I Item 1 "Financial Statements:"
o Footnote 1 "Basis of Presentation and Summary of Significant Accounting
Policies"
o Footnote 4 "Loans and Allowance for Loan Losses"
o Footnote 6 "Federal Home Loan Bank Advances"
o Footnote 11 "Segment Information"
? Part I Item 2 "Management's Discussion and Analysis of Financial Condition and
Results of Operations:"
o "Business Segment Composition"
o "Overview"
o "Comparison of Financial Condition"
76
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Non interest Expenses (Three Months Ended June 30, 2012 Compared to Three Months
Ended June 30, 2011)
Total Company non interest expenses decreased $1.1 million, or 4%, during the
second quarter of 2012 compared to the same period in 2011. TRS division non
interest expenses decreased $2.0 million while the Traditional Banking segment
increased $911,000 for the second quarter of 2012 compared to the same period in
2011. The most significant components comprising the increase in total Company
non interest expense were as follows:
Traditional Banking segment
Salaries and benefits increased $260,000 for the second quarter of 2012. The
Company incurred $1.0 million in salaries and benefit expenses associated with
the TCB acquisition during the second quarter of 2012. Approximately $473,000 of
the second quarter TCB expense was related to incentive compensation accruals
related to the TCB acquisition. Approximately $61,000 of these accruals were for
retention bonuses payable to former TCB employees if they remain with the Bank
through various dates up through the system conversion date in July 2012.
Approximately $270,000 of these accruals were for short-term incentive bonuses
for Bank employees related to a successful system conversion within six months
of the Acquisition Date, with $118,000 of the accruals for Bank associates
related to a two-year profitability goal for the TCB transaction. The increase
in salary and benefits related to the TCB acquisition was partially offset by a
reduction in salaries and bonus accruals associated with the Bank's traditional
operations.
Occupancy and equipment expense increased $197,000 during the second quarter of
2012. The majority of the increase is attributable to the TCB acquisition for
expense items such as rent expense, leased and rented equipment and equipment
service. Management believes that the TCB related expense will decrease
significantly subsequent to the branch consolidation and core system conversion
which occurred mid July 2012.
Data processing expense increased $423,000 during the second quarter of 2012
compared to the same period in 2011 primarily due to $301,000 in TCB-related
data processing costs and internet banking enhancements. Management believes
that the TCB related expense will decrease significantly subsequent to the
branch consolidation and core system conversion which occurred mid July 2012.
Communication and transportation expense increased $122,000 during the second
quarter of 2012. Approximately $95,000 of the fluctuation was attributable to
the TCB acquisition and respective phone, freight and postage costs.
FDIC insurance expense declined $349,000 during the second quarter of 2012. In
February 2011, as required by the Dodd-Frank Act, the FDIC approved a rule that
changed the FDIC insurance assessment base from adjusted domestic deposits to a
bank's average consolidated total assets minus average tangible equity, defined
as Tier 1 capital. While the new rule expanded the assessment base, it lowered
the assessment rate for banks in the lowest risk category. The change was
effective for the second quarter of 2011.
Other expense increased $365,000 during the second quarter of 2012.
Approximately $421,000 of the fluctuation is attributable to the TCB
acquisition.
See additional discussion regarding the TCB acquisition under Footnote 2 "Bank
Acquisition" of Part I Item 1 "Financial Statements."
77
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RPG segment
Salaries and employee benefits increased $807,000, or 67%, for the second
quarter of 2012 compared to the second quarter of 2011. The second quarter of
2011 reflected a bonus expense credit adjustment of $453,000 as the segment
failed to achieve its gross operating profit goals. While the segment did not
achieve its gross operating profit goals in 2012 as well, the Company was able
to definitively determine this during the first quarter of 2012 and therefore
recorded less bonus expense. The remaining increase in salary expense is
primarily attributable to the RPS division which was started during the second
quarter of 2012.
FDIC insurance expense decreased $441,000 during the second quarter of 2012
related primarily to the elimination of a higher assessment rate levied against
the Bank for its deposit insurance during 2011 resulting from facts and
circumstances specific to the Bank and RPG.
Legal expense at RPG was $33,000 for the second quarter of 2012 compared to
$652,000 for the second quarter of 2011. The decrease in legal expense was
directly related to the December 2011 resolution of RB&T's on-going regulatory
actions with the FDIC as described in the Agreement.
During the second quarter of 2011, the FDIC assessed a Civil Money Penalty
against RB&T at a $2 million level as part of the Amended Notice. The actual
penalty paid during the fourth quarter of 2011 in connection with the settlement
was $900,000, resulting in a $1.1 million credit to pre-tax income recorded
during the fourth quarter of 2011.
For additional discussion regarding TRS, a division of RPG, see the following
sections of this filing:
? Part I Item 1 "Financial Statements:"
o Footnote 1 "Basis of Presentation and Summary of Significant Accounting
Policies"
o Footnote 4 "Loans and Allowance for Loan Losses"
o Footnote 6 "Federal Home Loan Bank Advances"
o Footnote 11 "Segment Information"
? Part I Item 2 "Management's Discussion and Analysis of Financial Condition and
Results of Operations:"
o "Business Segment Composition"
o "Overview"
o "Comparison of Financial Condition"
78
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OVERVIEW (Six Months Ended June 30, 2012 Compared to Six Months Ended June 30,
2011)
Net income for the six months ended June 30, 2012 was $92.1 million,
representing an increase of $12.0 million, or 15%, compared to the same period
in 2011. Diluted earnings per Class A Common Share increased to $4.38 for the
six months ended June 30, 2012 compared to $3.82 for the same period in 2011.
General highlights by segment for the six months ended June 30, 2012 consisted
of the following:
Traditional Banking segment (First Six Months Highlights)
? Republic acquired loans with a fair value of $56 million and deposits with
a fair value of $947 million from TCB in a failed bank acquisition from the
FDIC on January 27, 2012. The transaction resulted in a pre-tax bargain
purchase gain of $27.8 million primarily recorded during the first quarter
of 2012. See additional discussion regarding the TCB acquisition under
Footnote 2 "Bank Acquisition" of Part I Item 1 "Financial Statements."
? As expected, approximately $873 million of the deposit liabilities assumed
in the TCB transaction exited RB&T by June 30, 2012 due to the substantial
reduction in the rates paid to the former TCB depositors by RB&T.
? Net income increased $17.0 million for the first six months of 2012
compared to the same period in 2011.
? Net interest income increased $4.4 million, or 9%, for the first six months
of 2012 to $56.0 million. The Traditional Banking segment net interest
margin increased 16 basis points for the six months ended June 30, 2012 to
3.58%.
? Provision for loan losses was $4.0 million for the six months ended June
30, 2012 compared to $4.9 million for the same period in 2011.
? Total non interest income increased $26.6 million for the first six months
of 2012 compared to the same period in 2011 primarily due to the bargain
purchase gain detailed above.
? Total non interest expense increased $4.9 million, or 11%, during the first
six months of 2012 compared to the same period in 2011.
? Total non-performing loans to total loans for the Traditional Banking
segment was 0.93% at June 30, 2012, compared to 1.02% at December 31, 2011
and 1.28% at June 30, 2011.
? The Bank's Warehouse Lending division had $89 million in loans outstanding
at June 30, 2012.
Mortgage Banking segment (First Six Months Highlights)
? Within the Mortgage Banking segment, mortgage banking income increased $1.6
million, or 91%, during the first six months of 2012 compares to the same
period in 2011.
? Mortgage banking income was positively impacted by an increase in secondary
market loan volume during the first six months of 2012.
RPG segment (First Six Months Highlights)
? The total dollar volume of tax refunds processed during the 2012 tax season
decreased $1.1 billion, or 9%, from the 2011 tax season.
? Total RAL dollar volume decreased from $1.0 billion during the 2011 tax
season to $796 million during the 2012 tax season.
? Total ERC dollar volume declined $1.1 billion, or 17%, during the 2012 tax
season compared to the 2011 tax season. The decline in ERC volume was
partially offset by a $258 million, or 6%, increase in the lower margin ERD
product. Revenue from both products is included in the income statement
line item "Electronic Refund Check Fees."
? Net income decreased $6.1 million, or 9%, for the first six months of 2012
compared to the same period in 2011.
? Net interest income decreased $13.7 million, or 23%, for the first six
months of 2012 compared to the same period in 2011.
79
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? RPG recorded a provision for loan losses of $7.7 million for the first six
months of 2012, compared to $12.7 million for the same period in 2011.
? RPG posted non interest income of $78.1 million for the first six months of
2012 compared to $88.0 million for the same period in 2011.
? RB&T obtained $300 million of FHLB advances during the fourth quarter of
2011 to fund projected RAL volume during the first quarter 2012 tax season.
In addition, during the first quarter of 2012, RB&T obtained $252 million
of brokered deposits to complete its required funding for the first quarter
2012 tax season.
? The current year tax season represents the last season that RB&T will
originate RALs. RB&T will continue to offer ERC/ERD products in the future.
For additional discussion regarding TRS, a division of RPG, see the following
sections of this filing:
? Part I Item 1 "Financial Statements:"
o Footnote 1 "Basis of Presentation and Summary of Significant Accounting
Policies"
o Footnote 4 "Loans and Allowance for Loan Losses"
o Footnote 6 "Federal Home Loan Bank Advances"
o Footnote 11 "Segment Information"
? Part I Item 2 "Management's Discussion and Analysis of Financial Condition and
Results of Operations:"
o "Business Segment Composition"
o "Overview"
o "Comparison of Financial Condition"
RESULTS OF OPERATIONS (Six Months Ended June 30, 2012 Compared to Six Months
Ended June 30, 2011)
Net Interest Income
Banking results of operations are primarily dependent upon net interest income.
Net interest income is the difference between interest income on
interest-earning assets, such as loans and investment securities and the
interest expense on liabilities used to fund those assets, such as
interest-bearing deposits, securities sold under agreements to repurchase and
Federal Home Loan Bank ("FHLB") advances. Net interest income is impacted by
both changes in the amount and composition of interest-earning assets and
interest-bearing liabilities, as well as market interest rates.
Total Company net interest income decreased $9.3 million, or 8%, for the first
six months of 2012 compared to the same period in 2011. The total Company net
interest margin decreased 75 basis points to 5.73% for the same period. The most
significant components affecting the total Company's net interest income were as
follows:
Traditional Banking segment
Net interest income within the Traditional Banking segment increased $4.4
million, or 9%, for the first six months of 2012 compared to 2011. The
Traditional Banking net interest margin increased 16 basis points for the same
period to 3.58%. The increase in net interest income during the first six months
of 2012 was directly attributable to an increase in the average balance of loans
outstanding, as well as an increase in the average investment portfolio
resulting from the strategies discussed below.
Regarding the increase in the investment portfolio, prior to the first quarter
of 2011, the Bank's general investment strategy was largely to not reinvest the
cash it had been receiving from its loan and investment paydowns and pay-offs
into assets with longer-term repricing horizons due to market projections of
interest rate increases in the future. As a result, much of the cash the Bank
received from paydowns during the years previous to 2011 had been reinvested
into short-term, lower yielding investments, which had improved the Bank's risk
position from future interest rate increases, while negatively impacting
then-current earnings. This conservative investment strategy, which involved
minimal credit risk and minimal interest rate risk, led the Bank to hold a
significant sum of cash at the FRB for much of the previous two years.
In February 2011, the Bank modified its conservative investment strategy, taking
on more interest rate risk by reinvesting a portion of its excess cash into
longer-term investment securities, thus increasing its projected net interest
income and net interest margin for the near-term. The Bank made this revision to
its conservative strategy, in large part, due to the on-going contraction of its
net interest margin resulting from continued paydowns in its loan portfolio and
the large amount of cash on hand earning 0.25%. While the Bank has slightly
revised this strategy from time to time since the first quarter of 2011, in
general, it has maintained the same strategic direction of extending the
maturities within its investment portfolio in order to increase its yield on
interest-earning assets. Although the Bank has taken on more interest rate risk
as a result of this strategy, the overall interest rate risk position of the
Bank continues to remain within limits set by its board of directors.
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In addition to the activity noted within its securities portfolio, the Bank
implemented various other strategies during the past several months to
positively impact net interest income. Specifically within the loan portfolio,
four distinguishable circumstances occurred positively impacting the size of its
loan portfolio and correspondingly providing a positive impact to net interest
income.
As disclosed in previous filings, the first of these circumstances occurred in
June 2011 when the Bank purchased approximately $37 million of performing
commercial real estate loans at a 13% discount. The Bank made this purchase as
one of its strategies to reverse an on-going contraction in its net interest
margin. At the time of purchase, these loans had a weighted average life of
approximately seven years with an expected yield of 8.28%.
Secondly, as discussed in more detail within the "Loan Portfolio" section of
this filing, the Bank started its Mortgage Warehouse Lending Division during
June of 2011. During the six months ended June 30, 2012, the Mortgage Warehouse
Lending Division had average loans outstanding of $48 million achieving an
average yield of 4.45%.
The third circumstance occurred on January 27, 2012 when RB&T, acquired TCB. The
Bank acquired loans, net of loans put back to the FDIC, with a fair value of
approximately $56 million and an initial projected effective yield of 7.94%. At
June 30, 2012 TCB loans with a carrying value of $39 million were still
outstanding. See additional discussion regarding the TCB acquisition under
Footnote 2 "Bank Acquisition" of Part I Item 1 "Financial Statements."
Lastly, the average balance of the Bank's residential real estate loans
increased $137 million compared to the first six months of 2011 due primarily to
growth in the Bank's Home Equity Amortizing Loan ("HEAL") product. The HEAL
product is described in more detail within the "Loan Portfolio" section of this
filing.
Within the liabilities section of the balance sheet, the Bank continued to
reprice its interest-bearing deposits lower to partially offset declining asset
yields. In addition, due to the steepness of the yield curve and the FRB's
pledge to keep the FFTR low for an extended period of time. The Bank prepaid $81
million in FHLB advances during the first quarter of 2012 that were originally
scheduled to mature between October 2012 and May 2013. These advances had a
weighted average cost of 3.56%. The Bank incurred a $2.4 million early
termination penalty in connection with these prepayments, which will save the
Bank approximately $2.6 million in interest expense during the remainder of 2012
and the first five months of 2013.
The interest savings realized by the Bank as a result of these prepayments have
been and will continue to be reduced by the Bank's on-going interest rate risk
mitigation practices, which often includes strategies utilizing long term
advances from the FHLB. In particular, the Bank took advantage of declining
interest rates during 2012 (primarily the second quarter) to borrow $140 million
of long-term advances with a weighted average life of 4 years and a weighted
average cost of 1.40%. The Bank borrowed these funds on a long-term basis to
mitigate its interest rate risk position in the event of an increasing rate
environment.
Management expects to continue to experience downward repricing in its loan and
investment portfolios resulting from on-going paydowns and early payoffs. This
downward repricing will continue to cause compression in Republic's net interest
income and net interest margin. Additionally, because the FFTR (the index which
many of the Bank's short-term deposit rates track) has remained at a target
range between 0.00% and 0.25%, no future FFTR decreases from the Federal Open
Markets Committee of the FRB are possible, exacerbating the compression to the
Bank's net interest income and net interest margin caused by its repricing loans
and investments. The Bank is unable to precisely determine the ultimate negative
impact to the Bank's net interest spread and margin in the future because
several factors remain unknown at this time, such as future demand for financial
products and the overall future need for liquidity, among many other factors.
RPG segment
Net interest income within the TRS division decreased $13.7 million, or 23%, for
the first six months 2012 compared to the same period in 2011. The decrease in
the TRS division net interest income was primarily due to a $13.9 million, or
24%, decline in RAL fee income resulting from a corresponding 23% decrease in
RAL volume. The overall decline in the volume of RALs originated during the 2012
tax season resulted from a general decrease in consumer demand for the product.
Management believes the decrease in RAL volume, which is generated through
retail locations, is the result of a shift in consumer demand toward lower
priced on-line tax preparation services and increased competition within the
retail market based on free products and services from competitors.
81
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The TRS division net interest income continued to benefit from low funding costs
during the 2012 tax season. Average interest bearing liabilities, including
brokered deposits and/or FHLB advances, utilized to fund RALs during the first
six months 2012 and 2011 were $161 million and $212 million with a weighted
average cost of 0.23% and 0.41%, respectively. As a result, interest expense for
the TRS division was $149,000 for the first six months of 2012, compared to
$412,000 for the same period in 2011.
For additional discussion regarding TRS, a division of RPG, see the following
sections of this filing:
? Part I Item 1 "Financial Statements:"
o Footnote 1 "Basis of Presentation and Summary of Significant Accounting
Policies"
o Footnote 4 "Loans and Allowance for Loan Losses"
o Footnote 6 "Federal Home Loan Bank Advances"
o Footnote 11 "Segment Information"
? Part I Item 2 "Management's Discussion and Analysis of Financial Condition and
Results of Operations:"
o "Business Segment Composition"
o "Overview"
o "Comparison of Financial Condition"
Table 4 provides detailed total Company information as to average balances,
interest income/expense and rates by major balance sheet category for the six
month periods ended June 30, 2012 and 2011. Table 5 provides an analysis of
total Company changes in net interest income attributable to changes in rates
and changes in volume of interest-earning assets and interest-bearing
liabilities for the same periods.
For additional information on the potential future effect of changes in
short-term interest rates on Republic's net interest income, see the table
titled "Traditional Banking Interest Rate Sensitivity for 2012" in this section
of the filing.
82
--------------------------------------------------------------------------------Table 4 - Total Company Average Balance Sheets and Interest Rates for the Six
Months Ended June 30, 2012 and 2011
Six Months Ended June 30, 2012 Six Months Ended June 30, 2011
Average Average
(dollars in thousands) Balance Interest Average Rate
Balance Interest Average Rate
ASSETS
Interest-earning assets:
Taxable investment
securities, including FHLB
stock(1) $ 685,230 $ 7,104 2.07 % $ 633,679 $ 8,305 2.62 %
Federal funds sold and
other interest-earning
deposits 434,542 471 0.22 % 537,611 773 0.29 %
Refund Anticipation Loan
fees(2) 48,665 45,215 185.82 % 59,730 59,131 197.99 %
Traditional Bank loans and
fees(2)(3) 2,374,091 60,611 5.11 % 2,186,124 58,873 5.39 %
Total interest-earning
assets 3,542,528 113,401 6.40 % 3,417,144 127,082 7.44 %
Less: Allowance for loan
losses 27,384 32,694
Non interest-earning
assets:
Non interest-earning cash
and cash equivalents 111,818 160,847
Premises and equipment, net 34,120 36,899
Other assets(1) 66,009 58,575
Total assets $ 3,727,091 $ 3,640,771
LIABILITIES AND
STOCKHOLDERS' EQUITY
Interest-bearing
liabilities:
Transaction accounts $ 602,704 $ 228 0.08 % $ 348,386 $ 260 0.15 %
Money market accounts 455,728 395 0.17 % 695,733 1,225 0.35 %
Time deposits 280,697 1,201 0.86 % 274,444 2,231 1.63 %
Brokered money market and
brokered CD's 203,167 928 0.91 % 352,937 1,494 0.85 %
Total deposits 1,542,296 2,752 0.36 % 1,671,500 5,210 0.62 %
Securities sold under
agreements to repurchase
and
other short-term
borrowings 260,919 230 0.18 % 295,957 424 0.29 %
Federal Home Loan Bank
advances 580,291 7,626 2.63 % 544,886 9,390 3.45 %
Subordinated note 41,240 1,261 6.12 % 41,240 1,258 6.10 %
Total interest-bearing
liabilities 2,424,746 11,869 0.98 % 2,553,583 16,282 1.28 %
Non interest-bearing
liabilities and
Stockholders' equity
Non interest-bearing
deposits 727,546 606,906
Other liabilities 51,664 52,948
Stockholders' equity 523,135 427,334
Total liabilities and
stockholders' equity $ 3,727,091 $ 3,640,771
Net interest income $ 101,532 $ 110,800
Net interest spread 5.42 % 6.16 %
Net interest margin 5.73 % 6.48 %
__________________________
(4) For the purpose of this calculation, the fair market value adjustment on
investment securities resulting from FASB ASC Topic 320, Investments - Debt
and Equity Securities, is included as a component of other assets.
(5) The amount of loan fee income included in total interest income was $47.3
million and $60.4 million for the three months ended June 30, 2012 and 2011.
(6) Average balances for loans include the principal balance of non accrual
loans and loans held for sale.
83--------------------------------------------------------------------------------
Table 5 illustrates the extent to which changes in interest rates and changes in
the volume of total Company interest-earning assets and interest-bearing
liabilities impacted Republic's interest income and interest expense during the
periods indicated. Information is provided in each category with respect to (i)
changes attributable to changes in volume (changes in volume multiplied by prior
rate), (ii) changes attributable to changes in rate (changes in rate multiplied
by prior volume) and (iii) net change. The changes attributable to the combined
impact of volume and rate have been allocated proportionately to the changes due
to volume and the changes due to rate.
Table 5 - Total Company Volume/Rate Variance Analysis for the Six Months Ended
June 30, 2012 and 2011
Six Months Ended June 30, 2012
Compared to
Six Months Ended June 30, 2011
Increase / (Decrease) Due to
Total Net
(in thousands) Change Volume Rate
Interest income:
Taxable investment securities, including FHLB stock $ (1,201 ) $
636 $ (1,837 )
Federal funds sold and other interest-earning deposits (302 ) (132 ) (170 )
Refund Anticipation Loan fees (13,916 ) (10,449 ) (3,467 )
Traditional Bank loans and fees 1,738 4,898 (3,160 )
Net change in interest income (13,681 ) (5,047 ) (8,634 )
Interest expense:
Transaction accounts (32 ) 134 (166 )
Money market accounts (830 ) (336 ) (494 )
Time deposits (1,030 ) 50 (1,080 )
Brokered money market and brokered CDs (566 ) (676 ) 110
Securities sold under agreements to repurchase and
other short-term borrowings (194 ) (46 ) (148 )
Federal Home Loan Bank advances (1,764 ) 579 (2,343 )
Subordinated note 3 - 3
Net change in interest expense (4,413 ) (295 ) (4,118 )
Net change in net interest income $ (9,268 ) $ (4,752 ) $ (4,516 )
84--------------------------------------------------------------------------------
Provision for Loan Losses (Six Months Ended June 30, 2012 Compared to Six Months
Ended June 30, 2011)
The Company recorded a provision for loan losses of $11.6 million for the first
six months 2012, compared to a provision of $17.6 million for the same period in
2011. The significant components comprising the Company's decreased provision
for loan losses were as follows:
Traditional Banking segment
The Traditional Banking provision for loan losses during the first six months of
2012 was $4.0 million, a $945,000 decline from the $4.9 million recorded during
the first six months of 2011.
The decrease in the provision was generally attributable to an overall
improvement in the Company's large classified loans. In particular, the Bank
experienced a meaningful reduction in provision expense associated with its
large dollar commercial and retail relationships that are individually reviewed
for impairment. Included in provision expense for the first six months of 2012
and 2011 was $2.9 million and $4.7 million related to classified credits
(Substandard and Special Mention / Watch). Approximately $1.2 million of the
2012 provision expense related to two large classified real estate secured
credits while approximately $2.7 million of the 2011 provision expense related
to three different large classified real estate secured credits.
The improvement noted above was partially offset during the respective periods
by an increase in provision associated with the Company's loan loss reserves for
its pass-rated credits due to a general increase in historical loss percentages
combined with growth in the loan portfolio.
See the section titled "Asset Quality" in this section of the filing under
"Comparison of Financial Condition at June 30, 2012 and December 31, 2011" for
additional discussion regarding the Company's provision for loan losses,
classified assets, allowance for loan losses, non-performing loans, delinquent
loans, impaired loans and TDRs.
RPG segment
Substantially all RALs issued by the Company each year are made during the first
quarter. RALs are generally repaid by the IRS or applicable taxing authority
within two weeks of origination. Losses associated with RALs result from the IRS
not remitting taxpayer refunds to the Company associated with a particular tax
return. This occurs for a number of reasons, including errors in the tax return
and tax return fraud which are identified through IRS audits resulting from
revenue protection strategies. In addition, the Company also incurs losses as a
result of tax debts not previously disclosed during its underwriting process.
At March 31st of each year, the Company reserves for its estimated RAL losses
for the year based on current and prior year funding patterns, information
received from the IRS on current year payment processing, projections using the
Company's internal RAL underwriting criteria applied against prior years'
customer data, and the subjective experience of Company management. RALs
outstanding 30 days or longer are charged off at the end of each quarter with
subsequent collections recorded as recoveries. Since the RAL season is over by
the end of April of each year, substantially all uncollected RALs are charged
off by June 30th of each year, except for those RALs management deems certain of
collection.
As of June 30, 2012, $11.1 million of total RALs were outstanding past their
expected funding date from the IRS compared to $15.5 million at June 30, 2011,
representing 1.39% and 1.49% of total gross RALs originated during the
respective tax years. Management expects the actual loan loss rate realized for
the TRS division will be less than the current RALs outstanding beyond their
expected funding date from the IRS because the Company will continue to receive
payments from the IRS throughout the year and make other collection efforts to
obtain repayment on the RALs. Management's estimate of current year losses
combined with recoveries of previous years' RALs, resulted in a net provision
for loan loss expense of $7.7 million and $12.7 million for the TRS division
during the first six months of 2012 and 2011.
85
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An analysis of changes in the allowance for loan losses and selected ratios
follows:
Table 6 - Summary of Loan Loss Experience the Six Months Ended June 30, 2012 and
2011
Six Months Ended
June 30,
(dollars in thousands) 2012 2011
Allowance for loan losses at beginning of period $ 24,063 $ 23,079
Charge offs:
Residential real estate:
Owner occupied (2,074 ) (1,079 )
Non owner occupied (298 ) (55 )
Commercial real estate (316 ) (719 )
Commercial real estate - purchased whole loans - -
Real estate construction (1,796 ) (53 )
Commercial (7 ) (100 )
Warehouse lines of credit - -
Home equity (1,314 ) (624 )
Consumer:
Credit cards (78 ) (103 )
Overdrafts (218 ) (288 )
Other consumer (123 ) (146 )
Refund Anticipation Loans (11,097 ) (15,478 )
Total charge offs (17,321 ) (18,645 )
Recoveries:
Residential real estate:
Owner occupied 151 114
Non owner occupied 12 3
Commercial real estate 46 242
Commercial real estate - purchased whole loans - -
Real estate construction 55 105
Commercial 18 119
Warehouse lines of credit - -
Home equity 61 76
Consumer:
Credit cards 24 17
Overdrafts 231 298
Other consumer 111 138
Refund Anticipation Loans 3,423 2,742
Total recoveries 4,132 3,854
Net loan charge offs (13,189 ) (14,791 )
Provision for loan losses - Traditional Banking 3,962
4,907
Provision for loan losses - Refund Anticipation Loans 7,674
12,736
Total provision for loan losses 11,636
17,643
Allowance for loan losses at end of period $ 22,510
$ 25,931
Total Company Credit Quality Ratios:
Allowance for loan losses to total loans 0.92 % 1.17 %
Allowance for loan losses to non performing loans 100 % 91 %
Annualized net loan charge offs to average loans outstanding 1.09 %
1.32 %
Traditional Banking Credit Quality Ratios:
Allowance for loan losses to total loans 0.92 % 1.17 %
Allowance for loan losses to non performing loans 100 % 91 %
Annualized net loan charge offs to average loans outstanding 0.46 % 0.19 %
86--------------------------------------------------------------------------------
Non interest Income (Six Months Ended June 30, 2012 Compared to Six Months Ended
June 30, 2011)
Total Company non interest income increased $18.2 million, or 18%, for the first
six months of 2012 compared to the same period in 2011. The most significant
components comprising the total Company's non interest income were as follows:
Traditional Banking segment
Traditional Banking segment non interest income increased $26.6 million for the
first six months of 2012 compared to the same period in 2011.
Service charges on deposit accounts decreased $571,000, or 8%, during the first
six months of 2012 compared to the same period in 2011. The decrease was
primarily the result of the continued general decline in consumer overdraft
activity that the Bank, and the banking industry as a whole, has experienced the
past several years. In addition, further contributing to this general decline in
consumer overdraft activity, was the amended FDIC guidelines, which took effect
in July 2011. These guidelines have continued to have a negative impact on the
Bank's net income since their implementation in 2011 and will continue so in the
future.
The Bank earns a substantial majority of its fee income related to its overdraft
service program from the per item fee it assesses its customers for each
insufficient funds check or electronic debit presented for payment. In addition,
the Bank estimates that it has historically earned more than 60% of its
overdraft related fees on the electronic debits presented for payment. Both the
per item fee and the daily fee assessed to the account resulting from its
overdraft status, if computed as a percentage of the amount overdrawn, results
in a high rate of interest when annualized and are thus considered excessive by
some consumer groups. The total net per item fees included in service charges on
deposits for the first six months of 2012 and 2011 were $3.6 million and $4.9
million. The total net daily overdraft charges included in interest income for
the first six months of 2012 and 2011 was $804,000 and $827,000, respectively.
As a result of the continued decline in service charges on deposits and a
further anticipated decline as a result of the new FDIC guidelines, the Bank
instituted a new fee structure for its retail checking account products during
the third quarter of 2011. The new product design was implemented on July 1,
2011 for all newly opened retail accounts. On August 1, 2011 the Bank converted
the substantial majority of its existing retail checking accounts into new
product types with new fee structures. The goal of the new fee structure, in the
short-term, was to reverse the trend of declining service charges on deposits.
In the long-term, the Bank's goal is that the new fee structure, combined with
growth in the Bank's retail checking account base, will allow the service
charges on deposits category to increase once again. Revenue generated during
the first six months of 2012 as a result of these new fees was approximately
$802,000, partially offsetting the decrease in overdraft-related fees for the
same period.
During the first quarter of 2012, the Company recorded an initial bargain
purchase gain of $27.9 million as a result of the TCB acquisition. The bargain
purchase gain was realized because the overall price paid by RB&T for was
substantially less than the fair value of the TCB assets acquired and
liabilities assumed in the transaction. During the second quarter of 2012 the
Bank posted adjustments to the acquired assets for its FDIC-assisted acquisition
in the determination of day one fair values and recorded a slight decrease to
the bargain purchase gain of $96,000, as additional information relative to the
Acquisition Date fair values became available.
During the first quarter of 2012, the Company recognized net securities
gains/losses in earnings for securities available of $56,000. All of the
securities sold were purchased in the TCB acquisition. Upon further analysis
subsequent to the acquisition of TCB, management concluded that these securities
did not fit the profile of securities traditionally purchased by the Company and
thus sold them during the quarter. During the second quarter of 2011, the Bank
sold securities with an amortized cost of $132 million as the Bank repositioned
a portion of its portfolio into securities with a shorter duration than those
sold. As a result of market conditions at the time of sale, the Bank recorded a
pre-tax gain on sale of $1.9 million.
See additional discussion regarding the TCB acquisition under Footnote 2 "Bank
Acquisition" of Part I Item 1 "Financial Statements."
87
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Mortgage Banking segment
Within the Mortgage Banking segment, mortgage banking income increased $1.6
million, or 91%, during the first six months of 2012 compared to the same period
in 2011. Mortgage banking income was positively impacted by an increase in
secondary market loan volume during the first six months of 2012, which resulted
from the continued low long-term interest rate environment. During the first six
months of 2012, the Bank received application volume for long-term fixed rate
mortgages of $268 million compared to $147 million during the same period in
2011. In addition, secondary market pricing has generally improved across the
industry during 2012 compared to the prior year.
RPG segment
RPG non interest income decreased $9.9 million, or 11%, during the first six
months of 2012 compared to the same period in 2011. Net ERC/ERD fees decreased
$9.8 million for the first six months of 2012 primarily attributable to the
overall decrease in volume at the TRS division during the tax season. More
specifically within the ERC/ERD category, ERC fees decreased 12% consistent with
a 12% decrease in volume. The decline in ERC fees was partially offset by a 9%
increase in online ERD fees driven by a 10% increase in the lower-margin ERD
product. As with the decrease RPG experienced in RAL volume, management believes
the decrease in ERC volume, which is generated through store-front locations,
was a direct result of a shift in consumer demand toward lower priced on-line
tax preparation services and increased competition within the retail market
based on free products and services from competitors.
With regard to the TRS division of RPG, TRS faces direct competition for ERC/ERD
market share from independently-owned processing groups partnered with banks.
Independent processing groups that are unable to offer RAL products have
historically been at a competitive disadvantage to banks who could offer RALs.
With RB&T's resolution of its differences with the FDIC through the Agreement,
RB&T will not originate RALs beyond April 30, 2012. Without the ability to
originate RALs, RB&T will face increased competition in the ERC/ERD marketplace.
In addition to a potential loss of volume resulting from additional competitors,
RB&T will also likely incur substantial pressure on its profit margin for its
ERC/ERD products as well.
In addition to the potential impact to ERCs and ERDS resulting from a loss of
the RAL product, the Agreement could also negatively impact RB&T's ability to
originate ERC and ERD products. As previously disclosed, the Agreement contains
a provision for an ERO Plan to be implemented by RB&T. The ERO Plan places
additional oversight and training requirements on RB&T and its tax preparation
partners that is not currently required by the regulators for RB&T's competitors
in the tax business. These additional requirements could make attracting new
relationships, retaining existing relationships, and maintaining profit margin
for ERCs and ERDs more difficult for RB&T once it is no longer able to offer
RALs. At this time, management is unable to determine what the ultimate impact
of the Agreement to ERC and ERD products will be in the future, but it does
anticipate the impact to be negative to the overall profitability of the
business segment.
For additional discussion regarding TRS, a division of RPG, see the following
sections of this filing:
? Part I Item 1 "Financial Statements:"
o Footnote 1 "Basis of Presentation and Summary of Significant Accounting
Policies"
o Footnote 4 "Loans and Allowance for Loan Losses"
o Footnote 6 "Federal Home Loan Bank Advances"
o Footnote 11 "Segment Information"
? Part I Item 2 "Management's Discussion and Analysis of Financial Condition and
Results of Operations:"
o "Business Segment Composition"
o "Overview"
o "Comparison of Financial Condition"
88
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Non interest Expenses (Six Months Ended June 30, 2012 Compared to Six Months
Ended June 30, 2011)
Total Company non interest expenses declined $2.7 million, or 4%, during the
first six months of 2012 compared to the same period in 2011. TRS division non
interest expenses declined $7.6 million while the Traditional Banking segment
increased $4.9 million for the first six months of 2012 compared to the same
period in 2011. The most significant components comprising the increase in total
Company non interest expense were as follows:
Traditional Banking segment
Salaries and benefits increased $959,000 during the first six months of 2012
compared to the same period in 2011. The Company incurred $2.0 million in
salaries and benefit expense associated with the TCB acquisition during the
first six months of 2012. Approximately $794,000 of the 2012 TCB expense was
related to incentive compensation accruals related to the TCB acquisition.
Approximately $124,000 of these accruals were for retention bonuses payable to
former TCB employees if they remain with the Bank through various dates up
through the system conversion date in July 2012. Approximately $450,000 of these
accruals were for short-term incentive bonuses for Bank employees related to a
successful system conversion within six months of the Acquisition Date, with
$197,000 of the accruals for Bank associates related to a two-year profitability
goal for the TCB transaction. The increase in salary and benefits related to the
TCB acquisition was partially offset by a reduction in salaries and bonus
accruals associated with the Bank's traditional operations.
Occupancy and equipment expense increased $291,000 during the first six months
of 2012 compared to the same period in 2011. Approximately $586,000 of the
fluctuation is attributable to the TCB acquisition for expense items such as
rent expense, leased and rented equipment and equipment service. Management
believes that the TCB related expense will decrease significantly subsequent to
the branch consolidation and core system conversion which occurred mid July
2012.
Data processing expense increased $826,000 during the first six months of 2012
compared to the same period in 2011 primarily due to $607,000 in TCB-related
data processing costs and internet banking enhancements. Management believes
that the TCB related expense will decrease significantly subsequent to the
branch consolidation and core system conversion which occurred mid July 2012.
During the first quarter of 2012, the Bank prepaid $81 million in FHLB advances
that were originally scheduled to mature between October 2012 and May 2013.
These advances had a weighted average cost of 3.56%. The Bank recognized a $2.4
million early termination penalty during the first quarter of 2012 in connection
with this prepayment. For further discussion regarding the early payoff of FHLB
advances, see section titled "Net interest Income" within this section of the
document.
Contributions expense increased $411,000 during the first six months of 2012
compared to the same period in 2011due to the first quarter contribution to the
Republic Bank Foundation. See additional discussion below under "RPG segment -
TRS division."
Banking center and ATM service promotional expense during the first six months
of 2012 decreased by $378,000. The decline was the direct result of the Bank's
new fee structure for retail checking accounts implemented during the third
quarter of 2011. The new fee structure significantly reduced the number of
client foreign ATM reimbursements paid by the Bank.
FDIC insurance expense decreased $752,000 during the first six months of 2012.
In February 2011, as required by the Dodd-Frank Act, the FDIC approved a rule
that changed the FDIC insurance assessment base from adjusted domestic deposits
to a bank's average consolidated total assets minus average tangible equity,
defined as Tier 1 capital. While the new rule expanded the assessment base, it
lowered the assessment rate for banks in the lowest risk category. The change
was effective for the second quarter of 2011.
Audit and professional fees increased $297,000 during the first six months of
2012 compared to 2011 primarily due to the TCB acquisition and the respective
external audit, valuation and tax consulting services required as part of the
acquisition.
OREO expense increased $301,000 during the six months of 2012 compared to the
same period in 2011 consistent with the increase in foreclosures associated with
the TCB acquisition.
See additional discussion regarding the TCB acquisition under Footnote 2 "Bank
Acquisition" of Part I Item 1 "Financial Statements."
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RPG segment
Salaries and employee benefits decreased $160,000, or 3%, for the first six
months of 2012 compared to the same period in 2011. The first six months of 2012
reflected lower contract labor staffing costs and reduced bonus accruals tied to
the expected achievement of the TRS division gross operating profit goals.
FDIC insurance expense decreased $1.2 million during the first six months of
2012 related primarily the new insurance calculation noted in the "Traditional
Banking" discussion above and to the elimination of a higher assessment rate
levied against the Bank for its deposit insurance during 2011 resulting from
facts and circumstances specific to the Bank and the TRS division.
Bank Franchise tax expense represents taxes paid to different state taxing
authorities based on capital. The substantial majority of the Company's Bank
Franchise expense is paid to the commonwealth of Kentucky. Bank Franchise
expense related to the TRS division increased $348,000 during the first six
months of 2012 compared to 2011 primarily due to an increase in capital
associated with continued strong earnings and the higher capital base at the TRS
division.
Legal expense at the TRS division was $33,000 for the first six month of 2012
compared to $1.5 million for the same period in 2011. The decrease in legal
expense was directly related to the December 2011 resolution of RB&T's on-going
regulatory actions with the FDIC as described in the Agreement.
Charitable contribution expense totaled $1.9 million at the TRS division for the
first six months of 2012, as RB&T made a $2.5 million contribution to the
Republic Bank Foundation, which was allocated between the Company's business
operating segments using a formula based on pre-tax profits for the quarter.
Charitable contribution expense totaled $4.9 million at the TRS division for the
first six months of 2011, as RB&T made a $5 million contribution to the Republic
Bank Foundation. The Republic Bank Foundation was formed in 2010 to support
charitable, educational, scientific and religious organizations throughout
communities in Kentucky, Indiana, Ohio, Tennessee and Florida.
During the second quarter of 2011, the FDIC assessed a Civil Money Penalty
against RB&T at a $2.0 million level as part of the Amended Notice. The actual
penalty paid during the fourth quarter of 2011 in connection with the settlement
was $900,000, resulting in a $1.1 million credit to pre-tax income during the
fourth quarter of 2011.
For additional discussion regarding TRS, a division of RPG, see the following
sections of this filing:
? Part I Item 1 "Financial Statements:"
o Footnote 1 "Basis of Presentation and Summary of Significant Accounting
Policies"
o Footnote 4 "Loans and Allowance for Loan Losses"
o Footnote 6 "Federal Home Loan Bank Advances"
o Footnote 11 "Segment Information"
? Part I Item 2 "Management's Discussion and Analysis of Financial Condition and
Results of Operations:"
o "Business Segment Composition"
o "Overview"
o "Comparison of Financial Condition"
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COMPARISON OF FINANCIAL CONDITION AT JUNE 30, 2012 AND DECEMBER 31, 2011
Cash and Cash Equivalents
Cash and cash equivalents include cash, deposits with other financial
institutions with original maturities less than 90 days and federal funds sold.
Republic had $124 million in cash and cash equivalents at June 30, 2012 compared
to $363 million at December 31, 2011.
During the fourth quarter of 2011, RB&T accumulated cash via Federal Home Loan
Bank ("FHLB") advances totaling $300 million in preparation for the first
quarter 2012 tax season. These advances matured during the first quarter of 2012
thereby reducing cash by the amount borrowed.
The Company experienced a nominal net increase in cash as a result of the TCB
acquisition. As part of the TCB transaction, RB&T originally acquired total cash
of $877 million. This cash was reduced subsequent to the Acquisition Date to $60
million at June 30, 2012. The strategic reduction in cash originally obtained
through the TCB acquisition was a direct result of the significant decrease in
deposit rates, which was implemented the day after the Acquisition Date. See
additional discussion regarding the TCB acquisition under Footnote 2 "Bank
Acquisition" of Part I Item 1 "Financial Statements."
For cash held at the FRB, the Bank earns a yield of 0.25%. For all other cash
held within the Bank's branch and ATM networks, the Bank does not earn interest.
Securities Available for Sale
Securities available for sale primarily consists of U.S. Treasury securities and
U.S. Government agency obligations, including agency mortgage backed securities
("MBSs") and agency collateralized mortgage obligations ("CMOs"). The agency
MBSs primarily consist of hybrid mortgage investment securities, as well as
other adjustable rate mortgage investment securities, underwritten and
guaranteed by Ginnie Mae ("GNMA"), Freddie Mac ("FHLMC") and Fannie Mae
("FNMA"). Agency CMOs held in the investment portfolio are substantially all
floating rate securities that adjust monthly. The Bank uses a portion of the
investment securities portfolio as collateral to Bank clients for securities
sold under agreements to repurchase ("repurchase agreements"). The remaining
eligible securities that are not pledged to secure client repurchase agreements
are pledged to the Federal Home Loan Bank as collateral for the Bank's borrowing
line. Strategies for the investment securities portfolio may be influenced by
economic and market conditions, loan demand, deposit mix and liquidity needs.
Securities available for sale decreased by $64 million during 2012 to $582
million at June 30, 2012. The decrease in the security portfolio was due to
primarily to pay-downs and pay-offs of existing securities. In general, the Bank
utilized the excess cash from these securities to fund growth within the loan
portfolio.
In addition, during the first quarter, RB&T acquired $43 million in available
for sale investment securities through the TCB acquisition. RB&T subsequently
sold all but $4 million of these securities, realizing a pre-tax net gain of
$56,000. The Bank sold these securities because management determined that the
acquired securities did not fit within the Bank's traditional investment
strategies.
See additional discussion regarding the TCB acquisition under Footnote 2 "Bank
Acquisition" of Part I Item 1 "Financial Statements."
For discussion of the Company's private label mortgage backed securities, see
Footnote 3 "Investment Securities" of Part I Item 1 "Financial Statements."
Loan Portfolio
Net loans, primarily consisting of secured real estate loans, increased by $157
million during the first six months of 2012 to $2.4 billion at June 30, 2012.
Approximately $39 million of this growth was the direct result of the TCB
acquisition. See additional discussion regarding the TCB acquisition under
Footnote 2 "Bank Acquisition" of Part I Item 1 "Financial Statements."
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Within specific loan categories, residential real estate loans increased $98
million during 2012 to $1.2 billion at June 30, 2012. Approximately $19 million
of this increase was from the TCB acquisition with the remaining increase
primarily concentrated within Home Equity Amortizing Loan ("HEAL") product. The
HEAL product is a first mortgage or a junior-lien mortgage product with
amortization periods of 20 years or less. Features of the HEAL include $199
fixed closing costs; no requirement for the client to escrow insurance and
property taxes; and as with the Bank's traditional ARM products, no requirement
for private mortgage insurance. The overall features of the HEAL have made it an
attractive alternative to long-term fixed rate secondary market products. As of
June 30, 2012, the Bank had $160 million of HEALs outstanding compared to $58
million outstanding at December 31, 2011.
In June 2011, the Bank commenced business in its newly established warehouse
lending division and had $41 million outstanding at December 31, 2011. Through
this division, the Bank provides short-term, revolving credit facilities to
mortgage bankers across the nation. These credit facilities are secured by
single family first lien residential real estate loans. The credit facility
enables the mortgage banking customers to close single family first lien
residential real estate loans in their own name and temporarily fund their
inventory of these closed loans until the loans are sold to investors approved
by the Bank. These individual loans are expected to remain on the warehouse line
for an average of 15 to 30 days. Interest income and loan fees are accrued for
each individual loan during the time the loan remains on the warehouse line and
collected when the loan is sold to the secondary market investor. The Bank
receives the sale proceeds of each loan directly from the investor and applies
the funds to payoff the warehouse advance and related accrued interest and fees.
The remaining proceeds are credited to the mortgage banking customer. As of June
30, 2012, the Bank had eight warehouse loan clients with $89 million of
outstanding loans from total credit lines of $171 million.
Asset Quality
The composition of loans classified within the allowance for loan losses
follows:
Table 7 - Classified Assets
(in thousands) June 30, 2012 December 31, 2011
Loss $ 231 $ -
Doubtful - -
Substandard 39,498 43,088
Special Mention/Watch 52,372 35,455
Total $ 92,101 $ 78,543
Approximately $16 million and $7 million of loans acquired from the TCB
acquisition were classified above as Substandard and Special Mention/Watch,
respectively at June 30, 2012. Because acquired loans are recorded at their
estimated fair values at Acquisition Date, a loss allocation is not carried over
or recorded for acquired loans as of the Acquisition Date. See additional
discussion regarding the TCB acquisition under Footnote 2 "Bank Acquisition" of
Part I Item 1 "Financial Statements."
The Bank maintains a "watch list" of commercial, commercial real estate loans
and large single family residential and home equity loans. The Bank reviews and
monitors these loans on a regular basis. Generally, assets are designated as
watch list loans to ensure more frequent monitoring. Watch list loans are
reviewed to ensure proper earning status and management strategy. If it is
determined that there is serious doubt as to performance in accordance with
original terms of the contract, then the loan is generally downgraded and often
placed on non-accrual status.
For "Pass" rated loans, management evaluates the loan portfolio by reviewing the
historical loss rate for each respective loan type. Management evaluates the
following historical loss rate scenarios:
? Rolling four quarters
? Rolling eight quarters average
? Rolling twelve quarters average
? Rolling sixteen quarters average
? Current year to date historical loss factor (average)
? Prior annual three year historical loss factors
? Peer group data
Currently, management has assigned a greater emphasis to the rolling eight
quarter average and rolling twelve quarter average when determining its
historical loss factors for its "Pass" rated loans.
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Historical loss rates for non-accrual loans and loans that are past due 90 days
or more and that are not specifically classified are analyzed using loss
migration analysis by loan type of prior year loss results.
Loan categories are evaluated utilizing subjective factors in addition to the
historical loss calculations to determine a loss allocation for each of those
types. Management assigns risk multiples to certain categories to account for
qualitative factors such as:
? Concentrations of credit;
? Nature, volume and seasoning of particular loan portfolios;
? Experience, ability and depth of lending staff;
? Effects of any changes in risk selection and underwriting standards, and
other changes in lending policies, procedures and practices;
? Trends that could impact collateral values;
? Expectations regarding business cycles;
? Credit quality trends (including trends in classified, past due and
nonperforming loans);
? Competition, legal and regulatory requirements;
? General national and local economic and business conditions;
? Offering of new loan products; and
? Expansion into new markets.
As this analysis, or any similar analysis, is an imprecise measure of loss, the
allowance is subject to ongoing adjustments. Therefore, management will often
take into account other significant factors that may be necessary or prudent in
order to reflect probable incurred losses in the total loan portfolio
Loans, including impaired loans under FASB ASC Topic 310-10-35, Accounting by
Creditors for Impairment of a Loan, but excluding consumer loans, are typically
placed on non-accrual status when the loans become past due 80 days or more as
to principal or interest, unless the loans are adequately secured and in the
process of collection. Past due status is based on how recently payments have
been received. When loans are placed on non-accrual status, all unpaid interest
is reversed from interest income and accrued interest receivable. These loans
remain on non-accrual status until the borrower demonstrates the ability to
become and remain current or the loan or a portion of the loan is deemed
uncollectible and is charged off.
Consumer loans are reviewed periodically and generally charged off when the
loans reach 120 days past due or at any earlier point the loan is deemed
uncollectible. RALs originated by RB&T are generally repaid by the IRS within
two weeks. RALs outstanding 30 days or longer are charged off at the end of the
first quarter each year with substantially all other RALs, except for those RALs
management deems certain of collection, charged off by June 30th of each year.
Subsequent collections of RALs are recorded as recoveries.
Allowance for Loan Losses
The Bank's allowance for loan losses decreased $2 million during the first six
months of 2012 to $23 million at June 30, 2012. As a percent of total loans, the
traditional banking allowance for loans losses decreased to 0.92% at June 30,
2012 compared to 1.05% at December 31, 2011 and 1.17% at June 30, 2011.
Notable fluctuations in the allowance for loan losses were as follows:
? The Bank decreased its "Substandard" rated loan loss allowance by a net
$2.1 million during the first six months of 2012. Charge-offs within the
Company's Substandard loan category totaled $4.4 million for the first six months of 2012. A significant portion of these charge-offs were for loans
previously reserved for in prior quarters. The charge-offs were offset by
approximately $2.3 million in additional allocations recorded for
Substandard loans during the first six months of 2012.
? The Bank increased its "Special Mention/Watch" rated loan loss allowance by
a net $522,000 during the first six months of 2012 due primarily to an
updated loss migration analysis in combination with an increase in this
portfolio balance.
93--------------------------------------------------------------------------------
? Primarily as a result of a decline in balances associated with the Bank's
90-day delinquent and/or non-accrual retail and small dollar commercial
relationships not specifically evaluated as part of the Bank's large-dollar
commercial classified asset review process, the Bank decreased its loan
loss allowance by a net $600,000 during the first six months of 2012 for
this category.
? The Bank increased its overall allowance for its "Pass" rated credits by a
net $600,000 during the first six months of 2012 attributable primarily to
loan portfolio growth and an increase the Bank's average historical loss
rates during the period.
Prior to January 1, 2012, the Bank's allowance for loan losses calculation was
supported with qualitative factors, as described above, which contributed to a
nominal "unallocated" component that totaled $1.9 million as of December 31,
2011. The Bank believes that historically the "unallocated" allowance properly
reflected estimated credit losses determined in accordance with GAAP. The
unallocated allowance was primarily related to RB&T's loan portfolio, which is
highly concentrated in the Kentucky and Southern Indiana real estate markets.
These markets have remained relatively stable during the current economic
downturn, as compared to other parts of the U.S.. With the Bank's recent
expansion into the Nashville MSA, Tennessee market, its plans to pursue future
acquisitions into potentially new markets through FDIC-assisted transactions and
its offering of new loan products, such as mortgage warehouse lines of credit,
the Bank elected to revise its methodology to provide a more detailed
calculation when estimating the impact of qualitative factors over the Bank's
various loan categories.
In executing this methodology change, the Bank focused primarily on large groups
of smaller-balance homogeneous loans that are collectively evaluated for
impairment and are generally not included in the scope of ASC Topic 310-10-35
Accounting by Creditors for Impairment of a Loan. These portfolios are typically
not graded and not subject to annual review. Such groups of loans include:
? Residential real estate - Owner Occupied
? Residential real estate - Non Owner Occupied
? Home Equity
? Consumer
? Overdrafts
? Credit Cards
This methodology change had no material impact on the Bank's provision for loan
losses for the three and six months ended June 30, 2012. Management believes,
based on information presently available, that it has adequately provided for
loan losses at June 30, 2012 and December 31, 2011.
Non-performing Loans
Non-performing loans include loans on non-accrual status and loans 90 days or
more past due and still accruing. Impaired loans that are not placed on
non-accrual status are not included in non-performing loans. The non-performing
loan category includes impaired loans totaling approximately $16 million at June
30, 2012.
Non-performing loans to total loans decreased to 0.93% at June 30, 2012, from
1.02% at December 31, 2011, as the total balance of non-performing loans
decreased by $728,000 for the same period.
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The following table details the Bank's non-performing loans and non performing
assets and select credit quality ratios:
Table 8 - Non-performing Loans and Non-performing Assets
(in thousands) June 30, 2012 December 31, 2011
Loans on non-accrual status $ 22,578 $ 23,306
Loans past due 90 days or more and still on accrual - -
Total non-performing loans 22,578 23,306
Other real estate owned 18,345 10,956
Total non-performing assets $ 40,923 $ 34,262
Total Company Credit Quality Ratios:
Non-performing loans to total loans 0.93 % 1.02 %
Non-performing assets to total loans (including OREO) 1.66 % 1.49 %
Non-performing assets to total assets 1.25 % 1.00 %
Traditional Banking Credit Quality Ratios:
Non-performing loans to total loans 0.93 % 1.02 %
Non-performing assets to total loans (including OREO) 1.66 % 1.49 %
Non-performing assets to total assets 1.26 % 1.10 %
______________________
(1) Loans on non-accrual status include impaired loans. See Footnote 4 "Loans and
Allowance for Loan Losses" of Part I Item 1 "Financial Statements" for
additional discussion regarding impaired loans.
Approximately $13 million of the Bank's total non-performing loans at June 30,
2012 are in the residential real estate category with the underlying collateral
predominantly located in the Bank's primary market area of Kentucky. The Bank
does not consider any of these loans to be "sub-prime."
Approximately $935,000 of the non accrual loans at June 30, 2012 related to the
TCB acquisition. See additional discussion regarding the TCB acquisition under
Footnote 2 "Bank Acquisition" of Part I Item 1 "Financial Statements."
The composition of the Company's non-performing loans follows:
Table 9 - Non-performing Loan Composition
(in thousands) June 30, 2012 December 31, 2011
Residential real estate:
Owner occupied $ 12,398 $ 12,183
Non owner occupied 864 1,565
Commercial real estate 2,284 3,032
Commercial real estate - purchased whole loans - -
Real estate construction 3,912 2,521
Commercial 351 373
Warehouse lines of credit - -
Home equity 2,677 3,603
Consumer:
Credit cards - -
Overdrafts - -
Other consumer 92 29
Total non-performing loans $ 22,578 $ 23,306
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Table 10 - Non-performing Loans to Total Loans by Loan type
(in thousands) June 30, 2012 December 31, 2011
Residential real estate:
Owner occupied 1.13 % 1.24 %
Non owner occupied 0.99 % 1.58 %
Commercial real estate 0.35 % 0.47 %
Commercial real estate - purchased whole loans 0.00 % 0.00 %
Real estate construction 5.17 % 3.74 %
Commercial 0.27 % 0.31 %
Warehouse lines of credit 0.00 % 0.00 %
Home equity 1.03 % 1.29 %
Consumer:
Credit cards 0.00 % 0.00 %
Overdrafts 0.00 % 0.00 %
Other consumer 0.66 % 0.29 %
Total non performing loans to total loans 0.93 % 1.02 %
Based on the Bank's review of the large individual non-performing commercial
credits, management believes that its reserves as of June 30, 2012, are adequate
to absorb probable losses on these non-performing loans.
The following tables detail the Bank's non-performing loan activity for 2012:
Table 11 - Non-performing Loan Activity During 2012
(in thousands)
Non-performing loans at January 1, 2012$ 23,306
Loans added to non-performing status
9,175
Non-performing loans purchased 936
Loans removed from non-performing status (10,468 )
Principal paydowns
(371 )
Non-performing loans at June 30, 2012$ 22,578
Table 12 - Detail of Loans Removed from Non-Performing Status During 2012
(in thousands)
Loans charged off $ 1,799
Loans transferred to OREO 4,082
Loans refinanced at other institutions 1,909
Loans returned to accrual status 2,678
Total loans removed from non-performing status $ 10,468
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Delinquent Loans
The composition of the Bank's past due loans follows:
Table 13 - Delinquent Loan Composition
(in thousands) June 30, 2012 December 31, 2011
Residential real estate:
Owner occupied $ 9,541 $ 13,208
Non owner occupied 1,066 1,091
Commercial real estate 2,474 5,126
Commercial real estate - purchased whole loans - -
Real estate construction 1,688 541
Commercial 95 105
Warehouse lines of credit - -
Home equity 2,846 4,041
Consumer:
Credit cards 114 53
Overdrafts 86 129
Other consumer 210 139
Total delinquent loans $ 18,120 $ 24,433
The Bank had $39 million in loans outstanding related to the TCB acquisition at
June 30, 2012, with approximately $672,000 of these loans past due greater than
30 days. See additional discussion regarding the TCB acquisition under Footnote
2 "Bank Acquisition" of Part I Item 1 "Financial Statements."
All loans greater than 90 days past due or more as of June 30, 2012 and December
31, 2011 were on non-accrual status.
Table 14 - Delinquent Loans to Total Loans by Loan Type (1)
(in thousands) June 30, 2012 December 31, 2011
Residential real estate:
Owner occupied 0.87 % 1.34 %
Non owner occupied 1.23 % 1.10 %
Commercial real estate 0.38 % 0.80 %
Commercial real estate - purchased whole loans 0.00 % 0.00 %
Real estate construction 2.23 % 0.80 %
Commercial 0.07 % 0.09 %
Warehouse lines of credit 0.00 % 0.00 %
Home equity 1.09 % 1.44 %
Consumer:
Credit cards 1.36 % 0.62 %
Overdrafts 13.80 % 13.58 %
Other consumer 1.50 % 1.40 %
Total delinquent loans to total loans 0.74 % 1.07 %
__________________
(1) - Represents total loans over 30 days past due divided by total loans.
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Impaired Loans and TDRs
The Bank defines impaired loans as follows:
? All loans internally classified as "Substandard," "Doubtful" or "Loss;"
? All loans internally classified as "Special Mention/Watch" on non-accrual
status;
? All non-classified retail and commercial loan TDRs;
? Purchased credit impaired loans whereby current projected cash flows have
deteriorated since acquisition, or cash flows cannot be reasonably
estimated in terms of timing and amounts; and
? Any other situation where the collection of total amount due for a loan is
improbable or otherwise meets the definition of impaired.
The Bank's policy is to charge off all or that portion of its investment in an
impaired loan upon a determination that it is probable the full amount will not
be collected. Impaired loans totaled $92 million at June 30, 2012 compared to
$77 million at December 31, 2011. Approximately $11 million in impaired loans
were added during 2012 in connection with the TCB acquisition. There was no
allowance for loan loss allocation related to this portfolio as of June 30,
2012. See additional discussion regarding the TCB acquisition under Footnote 2
"Bank Acquisition" of Part I Item 1 "Financial Statements."
A TDR is the situation where, due to a borrower's financial difficulties, the
Bank grants a concession to the borrower that the Bank would not otherwise have
considered. The majority of the Bank's TDRs involve a restructuring of loan
terms such as a temporary reduction in the payment amount to require only
interest and escrow (if required) and/or extending the maturity date of the
loan. Non-accrual loans modified as TDRs remain on non-accrual status and
continue to be reported as non-performing loans. Accruing loans modified as TDRs
are evaluated for non-accrual status based on a current evaluation of the
borrower's financial condition and ability and willingness to service the
modified debt. As of June 30, 2012, the Bank had $84 million in TDRs, of which
$11 million were also on non-accrual status. As of December 31, 2011, the Bank
had $67 million in TDRs, of which $6 million were also on non-accrual status.
The composition of the Bank's impaired loans follows:
Table 15 - Impaired Loan Composition
(in thousands) June 30, 2012 December 31, 2011
Troubled debt restructurings $ 83,628 $ 67,022
Classifed loans (which are not TDRs) 8,581 10,171
Total impaired loans $ 92,209 $ 77,193
Approximately $11 million in impaired loans were added during 2012 in connection
with the TCB acquisition. Substantially all of these loans became classified as
"impaired" through a modification of the original loan, which the Bank deemed to
be a TDR. See additional discussion under Footnote 2 "Bank Acquisition" of Part
I Item 1 "Financial Statements."
See Footnote 4 "Loans and Allowance for Loan Losses" of Part I Item 1 "Financial
Statements" for additional discussion regarding impaired loans and TDRs.
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OREO
Table 16 - OREO Composition
(in thousands) June 30, 2012 December 31, 2011
Residential real estate:
Owner occupied $ 7,382 $ 4,337
Non owner occupied 279 417
Commercial real estate 2,361 2,030
Real estate construction 8,323 4,172
Total OREO $ 18,345 $ 10,956
Table 17 - Rollforward of OREO Activity
(in thousands) 2012 2011
Balance, January 1 $ 10,956 $ 11,973
OREO acquired from TCB acquisition at fair value 9,830 -
Transfer from loans to OREO 12,078 6,574
Proceeds from sale (14,597 ) (6,552 )
Net gain on sale 419 244
Writedowns (341 ) (227 )
Balance, June 30 $ 18,345 $ 12,012
On January 27, 2012, the Bank acquired $14 million in OREO related to the TCB
acquisition which was reduced by a $5 million fair value adjustment as of the
Acquisition Date. The fair value represents the estimated value that management
expects to receive when the property is sold, net of related costs to sell.
These estimates were based on the most recently available real estate
appraisals, with certain adjustments made based on the type of property, age of
appraisal, current status of the property and other related factors to estimate
the current value of the property. Subsequent to the Acquisition Date, the Bank
sold $6 million in TCB related OREO, ending the period with $3 million in OREO
outstanding related to the TCB acquisition. See additional discussion regarding
the TCB acquisition under Footnote 2 "Bank Acquisition" of Part I Item 1
"Financial Statements."
Approximately $5.1 million of the ending OREO balance related to one land
development property added during the first quarter of 2012 located in the
Bank's greater Louisville, Kentucky market. Also during the first quarter of
2012, the Company foreclosed on a $1.6 million owner occupied residential real
estate property located in central Kentucky.
Deposits
Total Company deposits increased $171 million from December 31, 2011 to $1.9
billion at June 30, 2012. Total Company interest-bearing deposits increased $66
million, or 5% and total Company non interest-bearing deposits increased $105
million, or 26%. Deposits related to the TCB acquisition totaled $75 million at
June 30, 2012, consisting of $60 million in interest-bearing deposits and $15
million in non interest-bearing deposits.
Excluding non interest-bearing deposits associated with TCB, non
interest-bearing deposits increased $97 million, or 24% during the first six
months of 2012. Within the Traditional Banking segment, the Bank experienced
growth of approximately $55 million in its Analysis Checking and Money Manager
Free Checking accounts, which are the Bank's key products offered to small and
medium sized businesses.
Non-interest bearing accounts, in general, remain an attractive product offering
to clients due to the unlimited FDIC insurance associated with non-interest
bearing accounts. This unlimited guaranty by the FDIC is currently set to expire
on December 31, 2012. Management believes that the expiration of the unlimited
FDIC insurance guaranty will have a negative impact on the Bank's non-interest
bearing deposit balances, however, at this time, management cannot precisely
predict how large an impact it may be.
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Excluding interest-bearing deposits associated with TCB, interest-bearing
deposits increased only $7 million, or 1%, during the first six months of 2012.
See additional discussion regarding the TCB acquisition under Footnote 2 "Bank
Acquisition" of Part I Item 1 "Financial Statements."
Federal Home Loan Bank Advances
FHLB advances decreased $396 million from December 31, 2011 to $539 million at
June 30, 2012. During the first quarter of 2012, the Bank paid off $300 million
in FHLB advances which were acquired in the fourth quarter of 2011 to fund RALs
during the first quarter of 2012. These 90 day advances had a weighted average
interest rate of 0.10%. Also, as discussed in the "Non interest Expense" section
of this filing, during the first quarter of 2012, the Bank prepaid $81 million
in FHLB advances that were originally scheduled to mature between October 2012
and May 2013 The Bank incurred a $2.4 million early termination penalty in
connection with this transaction.
In addition to using FHLB advances as a funding source, the Bank also utilizes
longer-term FHLB advances as an interest rate risk management tool. Overall use
of these advances during a given year are dependent upon many factors including
asset growth, deposit growth, current earnings, and expectations of future
interest rates, among others. With many of the Bank's loan originations during
2011 and 2012 having repricing terms longer than five years, management elected
to borrow $140 million during 2012 (primarily during the second quarter) to
mitigate its risk of future increases in market interest rates. The overall
weighted average life of these borrowings was 4 years with a weighted average
cost of funds of 1.40%.
Management also projects that it could utilize additional long-term advances
during the remainder of 2012 to further mitigate its risk from future increases
in interest rates. Whether the Bank ultimately does so, and how much in advances
it extends out, will be dependent upon circumstances at that time. If the Bank
does obtain longer-term FHLB advances for interest rate risk mitigation, it will
have a negative impact on then current earnings. The amount of the negative
impact will be dependent upon the dollar amount, coupon and final maturity of
the advances obtained.
Liquidity
The Bank has a loan to deposit ratio (excluding brokered deposits) of 136% at
June 30, 2012 and 140% at December 31, 2011. Historically, the Company has
utilized secured and unsecured borrowing lines to supplement its funding
requirements. At June 30, 2012 and December 31, 2011, the Bank had cash and cash
equivalents on-hand of $124 million and $363 million. In addition, the Bank had
available collateral to borrow an additional $448 million and $38 million,
respectively from the FHLB at June 30, 2012 and December 31, 2011. In addition
to its borrowing line with the FHLB, the Bank also had unsecured lines of credit
totaling $196 million available through various other financial institutions as
of March, 31 2012, while the holding company had available $20 million through
its own borrowing line.
During the fourth quarter of 2011, the Bank chose to utilize a portion of its
traditional borrowing lines from the FHLB to partially fund RALs for the first
quarter 2012 tax season at the TRS division. As a result, the Bank obtained $300
million of cash from the FHLB via advances with a 3-month life. In recent years
the Bank has traditionally utilized brokered deposits for its RAL funding. The
change in strategy for the first quarter 2012 tax season to partially fund RALs
with FHLB advances was made due to the relatively low all-in cost of the
advances as compared to brokered deposits, including the impact to the cost of
FDIC insurance. The Bank also obtained additional funding for RALs during the
first quarter of 2012 through brokered deposits, all of which matured prior to
the end of the first quarter of 2012. The weighted average cost of these
brokered deposits was 0.32% for the first six months of 2012.
The Bank maintains sufficient liquidity to fund routine loan demand and routine
deposit withdrawal activity. Liquidity is managed by maintaining sufficient
liquid assets in the form of investment securities. Funding and cash flows can
also be realized by the sale of securities available for sale, principal
paydowns on loans and MBSs and proceeds realized from loans held for sale. The
Bank's liquidity is impacted by its ability to sell certain investment
securities, which is limited due to the level of investment securities that are
needed to secure public deposits, securities sold under agreements to
repurchase, FHLB borrowings, and for other purposes, as required by law. At June
30, 2012 and December 31, 2011, these pledged investment securities had a fair
value of $503 million and $621 million, respectively. Republic's banking centers
and its website, www.republicbank.com, provide access to retail deposit markets.
These retail deposit products, if offered at attractive rates, have historically
been a source of additional funding when needed. If the Bank were to lose a
significant funding source, such as a few major depositors, or if any of its
lines of credit were canceled, or if the Bank cannot obtain brokered deposits,
the Bank would be forced to offer market leading deposit interest rates to meet
its funding and liquidity needs.
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At June 30, 2012, the Bank had approximately $255 million from 39 large
non-sweep deposit relationships where the individual relationship individually
exceeded $2 million. These accounts do not require collateral; therefore, cash
from these accounts can generally be utilized to fund the loan portfolio. The 10
largest non-sweep deposit relationships represented approximately $167 million
of the total balance. If any of these balances are moved from the Bank, the Bank
would likely utilize overnight borrowing lines in the short-term to replace the
balances. On a longer-term basis, the Bank would likely utilize brokered
deposits to replace withdrawn balances. Based on past experience utilizing
brokered deposits, the Bank believes it can quickly obtain brokered deposits if
needed. The overall cost of gathering brokered deposits, however, could be
substantially higher than the Traditional Bank deposits they replace,
potentially decreasing the Bank's earnings.
Management does not believe that the Bank's liquidity position was significantly
impacted as a result of TCB acquisition. As previously disclosed regarding the
TCB acquisition, RB&T acquired $62 million in cash and cash equivalents as well
as $43 million of investment securities at fair value. In addition, subsequent
to the Acquisition Date, RB&T received approximately $785 million in cash from
the FDIC representing the net difference between the assets acquired and the
liabilities assumed adjusted for the discount RB&T received for the transaction.
Approximately $35 million and $5 million of the acquired TCB securities were
sold and called subsequent to the acquisition. The remaining securities provide
monthly cash flows in the form of principal and interest payments. See
additional discussion regarding the TCB acquisition under Footnote 2 "Bank
Acquisition" of Part I Item 1 "Financial Statements."
As permitted by the FDIC, RB&T had the option to re-price the acquired deposit
portfolios to current market rates within seven days of the Acquisition Date. In
addition, depositors had the option to withdraw funds without penalty. RB&T
chose to re-price all of the acquired interest-bearing deposits, including
transaction, time and brokered deposits. This re-pricing triggered time and
brokered deposit run-off in-line with management's expectations. Through June
30, 2012, approximately 94% of the assumed interest bearing deposit account
balances had exited RB&T, with no penalty on the applicable time and brokered
deposits. At June 30, 2012, RB&T had $75 million of deposits remaining from the
TCB acquisition.
For additional discussion regarding TRS, see the following sections:
? Part I Item 1 "Financial Statements:"
o Footnote 1 "Summary of Significant Accounting Policies"
o Footnote 4 "Loans and Allowance for Loan Losses"
o Footnote 5 "Deposits"
o Footnote 6 "Off Balance Sheet Risks, Commitments and Contingent Liabilities"
o Footnote 11 "Segment Information"
? Part I Item 2 "Management's Discussion and Analysis of Financial Condition and
Results of Operations:"
o "Business Segment Composition"
o "Overview"
o "Results of Operations"
For additional discussion regarding RAL Provision for Loan Losses see Footnote 4
"Loans and Allowance for Loans Losses."
Capital
Total stockholders' equity increased from $452 million at December 31, 2011 to
$540 million at June 30, 2012. The increase in stockholders' equity was
primarily attributable to net income earned during 2012 reduced by cash
dividends declared. In addition, stockholders' equity also increased to a lesser
extent from stock option exercises.
See Part II, Item 2. "Unregistered Sales of Equity Securities and Use of
Proceeds" for additional detail regarding stock repurchases and stock buyback
programs.
Common Stock - The Class A Common shares are entitled to cash dividends equal to
110% of the cash dividend paid per share on Class B Common Stock. Class A Common
shares have one vote per share and Class B Common shares have ten votes per
share. Class B Common shares may be converted, at the option of the holder, to
Class A Common shares on a share for share basis. The Class A Common shares are
not convertible into any other class of Republic's capital stock.
Dividend Restrictions - The Parent Company's principal source of funds for
dividend payments are dividends received from RB&T. Banking regulations limit
the amount of dividends that may be paid to the Parent Company by the Bank
without prior approval of the respective states' banking regulators. Under these
regulations, the amount of dividends that may be paid in any calendar year is
limited to the current year's net profits, combined with the retained net
profits of the preceding two years. At June 30, 2012, RB&T could, without prior
approval, declare dividends of approximately $197 million. The Company does not
plan to pay dividends from its Florida subsidiary, Republic Bank, in the
foreseeable future.
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Regulatory Capital Requirements - The Parent Company and the Bank are subject to
various regulatory capital requirements administered by banking regulators.
Failure to meet minimum capital requirements can initiate certain mandatory and
possibly additional discretionary actions by regulators that, if undertaken,
could have a direct material effect on Republic's financial statements. Under
capital adequacy guidelines and the regulatory framework for prompt corrective
action, the Parent Company and the Bank must meet specific capital guidelines
that involve quantitative measures of the Company's assets, liabilities and
certain off balance sheet items, as calculated under regulatory accounting
practices. The capital amounts and classification are also subject to
qualitative judgments by the regulators about components, risk weightings and
other factors.
Banking regulators have categorized the Bank as well-capitalized. To be
categorized as well-capitalized, the Bank must maintain minimum Total Risk
Based, Tier I Capital and Tier I Leverage Capital ratios. Regulatory agencies
measure capital adequacy within a framework that makes capital requirements, in
part, dependent on the individual risk profiles of financial institutions.
Republic continues to exceed the regulatory requirements for Total Risk Based
Capital, Tier I Capital and Tier I Leverage Capital. Republic and the Bank
intend to maintain a capital position that meets or exceeds the
"well-capitalized" requirements as defined by the FRB, FDIC and the OCC.
Republic's average stockholders' equity to average assets ratio was 14.04% at
June 30, 2012 compared to 14.00% at December 31, 2011. Formal measurements of
the capital ratios for Republic and the Bank are performed by the Company at
each quarter end.
In 2004, the Bank executed an intragroup trust preferred transaction, with the
purpose of providing RB&T access to additional capital markets, if needed, in
the future. The subordinated debentures held by RB&T, as a result of this
transaction, however, are treated as Tier 2 Capital based on requirements
administered by the Bank's federal banking agency. If RB&T's Tier I Capital
ratios should not meet the minimum requirement to be well-capitalized, the Bank
could immediately modify the transaction in order to maintain its
well-capitalized status.
In 2005, Republic Bancorp Capital Trust ("RBCT"), an unconsolidated trust
subsidiary of Republic Bancorp, Inc., was formed and issued $40 million in Trust
Preferred Securities ("TPS"). The TPS pay a fixed interest rate for ten years
and adjust with LIBOR + 1.42% thereafter. The TPS mature on September 30, 2035
and are redeemable at the Bank's option after ten years. The subordinated
debentures are treated as Tier I Capital for regulatory purposes. The sole asset
of RBCT represents the proceeds of the offering loaned to Republic Bancorp, Inc.
in exchange for subordinated debentures which have terms that are similar to the
TPS. The subordinated debentures and the related interest expense, which are
payable quarterly at the annual rate of 6.015%, are included in the consolidated
financial statements. The proceeds obtained from the TPS offering have been
utilized to fund loan growth (in prior years), support an existing stock
repurchase program and for other general business purposes such as the
acquisition of GulfStream Community Bank in 2006.
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The following table sets forth the Company's risk based capital amounts and
ratios as of June 30, 2012 and December 31, 2011:
Table 18 - Capital Ratios
As of June 30, 2012 As of December 31, 2011
Actual Actual
(dollars in thousands) Amount Ratio Amount Ratio
Total Risk Based Capital (to
Risk Weighted Assets)
Republic Bancorp, Inc. $ 579,216 27.50 % $ 501,188 24.74 %
Republic Bank & Trust Co. 530,788 26.24 447,143 22.97
Republic Bank 15,029 18.24 16,441 20.34
Tier I Capital (to Risk
Weighted Assets)
Republic Bancorp, Inc. $ 557,822 26.49 % $ 478,003 23.59 %
Republic Bank & Trust Co. 486,988 24.07 401,529 20.63
Republic Bank 13,985 16.98 15,420 19.08
Tier I Leverage Capital (to
Average Assets)
Republic Bancorp, Inc. $ 557,822 16.94 % $ 478,003 14.77 %
Republic Bank & Trust Co. 486,988 15.01 401,529 12.78
Republic Bank 13,985 13.36 15,420 14.44
Asset/Liability Management and Market Risk
Asset/liability management control is designed to ensure safety and soundness,
maintain liquidity and regulatory capital standards and achieve acceptable net
interest income. Interest rate risk is the exposure to adverse changes in net
interest income as a result of market fluctuations in interest rates. The Bank,
on an ongoing basis, monitors interest rate and liquidity risk in order to
implement appropriate funding and balance sheet strategies. Management considers
interest rate risk to be Bank's most significant market risk.
The interest sensitivity profile of Republic at any point in time will be
impacted by a number of factors. These factors include the mix of interest
sensitive assets and liabilities, as well as their relative pricing schedules.
It is also influenced by market interest rates, deposit growth, loan growth and
other factors.
Republic utilized an earnings simulation model to analyze net interest income
sensitivity. Potential changes in market interest rates and their subsequent
effects on net interest income were evaluated with the model. The model projects
the effect of instantaneous movements in interest rates of between 100 and 300
basis point increments equally across all points on the yield curve. These
projections are computed based on various assumptions, which are used to
determine the range between 100 and 300 basis point increments, as well as the
base case (which is a twelve month projected amount) scenario. Assumptions based
on growth expectations and on the historical behavior of Republic's deposit and
loan rates and their related balances in relation to changes in interest rates
are also incorporated into the model. These assumptions are inherently uncertain
and, as a result, the model cannot precisely measure future net interest income
or precisely predict the impact of fluctuations in market interest rates on net
interest income. Actual results will differ from the model's simulated results
due to timing, magnitude and frequency of interest rate changes, as well as
changes in market conditions and the application and timing of various
management strategies. Additionally, actual results could differ materially from
the model if interest rates do not move equally across all points on the yield
curve.
The Company did not run a model simulation for declining interest rates as of
June 30, 2012 and December 31, 2011, because the Federal Open Market Committee
effectively lowered the Fed Funds Target Rate between 0.00% to 0.25% in December
2008 and therefore, no further short-term rate reductions can occur. Overall,
the indicated change in net interest income as of June 30, 2012 was worse than
the indicated change as of December 31, 2011 in an "up" interest rate scenario.
The reason for the improvement in the Company's position in an "up" interest
rate environment was primarily from the previously discussed increase in
long-term FHLB advances during the second quarter of 2012. Because the interest
rate sensitivity model measures the impact of changing interest rates to net
interest income for the next twelve month period, assets with a repricing
duration of greater than one year will negatively impact net interest income in
an "up" rate scenario. While this growth in advances positively impacted the
Company's interest rate risk position in a rising rate environment, it
negatively impacted the Company's current earnings, in the near-term, due to an
increase in its cost of funds.
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Management also projects that it will utilize additional long-term advances
during the remainder of 2012 to further mitigate its risk from future increases
in interest rates. How much in advances it extends out, will be dependent upon
circumstances at that time. When the Bank obtains longer-term FHLB advances for
interest rate risk mitigation, it will have a negative impact on then-current
earnings. The amount of the negative impact will be dependent upon the dollar
amount, coupon and final maturity of the advances obtained.
The following table illustrates Republic's projected net interest income
sensitivity profile based on the asset/liability model as of June 30, 2012 and
December 31, 2011. The Company's interest rate sensitivity model does not
include loan fees within interest income. In addition, management does not
believe that the net interest income associated with RPG, which was
substantially driven by RAL fee income, is interest rate sensitive. As a result,
the following interest rate sensitivity analysis does not include the impact of
the RPG division. During the 12 months from July 1, 2011 through June 30, 2012,
loan fees (excluding RAL fees) included in interest income were $3.6 million.
Table 19 - Traditional Banking Interest Rate Sensitivity for 2012
Previous Increase in Rates
Twelve 100 200 300
(dollars in thousands) Months Base Basis Points Basis Points Basis Points
Projected interest income:
Short-term investments $ - $ 8 $ 32 $ 57 $ 82
Investment securities 16,954 12,471 15,216 17,572 19,810
Loans, excluding loan fees (1) 119,326 115,728 123,485 131,807 140,750
Total interest income,
excluding loan fees 136,280 128,207 138,733 149,436 160,642
Projected interest expense:
Deposits 7,418 4,534 13,092 21,401 29,409
Securities sold under
agreements to repurchase 506 311 2,255 4,200 6,143
Federal Home Loan Bank advances
and other
long-term borrowings 19,872 16,583 17,515 18,462 18,464
Total interest expense 27,796 21,428 32,862 44,063 54,016
Net interest income, excluding
loan fees $ 108,484 $ 106,779 $ 105,871 $ 105,373 $ 106,626
Change from base $ (908 ) $ (1,406 ) $ (153 )
% Change from base -0.85 % -1.32 % -0.14 %
_______________________
(1) - Consideration was not given to the impact of increasing and decreasing
interest rates on RALs, which are fee based and occur substantially all in the
first quarter of the year. RB&T agreed to no longer offer RALs subsequent to
April 30, 2012.
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