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City National Misses on High Costs

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City National Corp. reported its fourth quarter 2012 earnings of 87 cents per share, significantly below the Zacks Consensus Estimate of $1.00. However, results compared favorably with the year-ago earnings of 82 cents.

City National’s disappointing results were primarily due to higher expenses. However, increased top line partially offset the negatives. Also, improvements in credit quality, growths in average deposits and loans as well as stable capital ratios were among the other positives.

For full-year 2012, the company reported earnings of $3.83 per share compared with $3.21 in 2011. However, this was below the Zacks Consensus Estimate of $3.96

Performance in Detail

City National’s total revenue was $318.2 million, up 5% from the prior-year quarter. It also surpassed the Zacks Consensus Estimate of $298.0 million.

For the full year, revenues totaled $1.2 billion, up 7% from 2011. Revenues marginally surpassed the Zacks Consensus Estimate of $1.1 billion.

Net interest income, on a fully-taxable equivalent basis, inched up 1% year over year to $209.1 million. However, net interest margin dipped 43 basis points from the year-ago quarter to 3.27%.

Non-interest income stood at $99.9 million, surging 16% from the prior-year quarter. The expansion was attributable to increases in brokerage and mutual fund fees, trust and investment fees, gain on securities along with other income, partially offset by lower gains on disposal of assets and FDIC loss sharing expense.

Non-interest expense was $222.0 million, 12% higher than $198.2 million in the previous-year quarter. The rise was a result of higher depreciation and amortization expenses, mounted expenses related to net occupancy of premises, higher legal and professional fees expenses, elevated expenses related to the amortization of intangibles and increased other expenses, partially mitigated by a decline in other real estate owned (OREO) expenses.

Credit Quality

City National’s credit quality continued to improve. Net recoveries were reported at $2.0 million or 0.06% of total loans and leases on an annualized basis compared with net charge-offs of $5.5 million or 0.18% in the prior-year quarter.

As of Dec 31, 2012, nonperforming assets were $120.8 million, or 0.81% of the company's total loans and leases and OREO, compared with $142.8 million or 1.16% as of Dec 31, 2011 and $130.5 million or 0.95% as of Sep 30, 2012.

Non-accrual loans, as of Dec 31, 2012, were $99.8 million compared with $112.0 million as of Dec 31, 2011 and $103.5 million as of Sep 30, 2012.

Loans and Deposits

City National witnessed a surge in its loan portfolio in the reported quarter. Loans and leases, excluding covered loans, were $14.0 billion, up 15% from the prior-year quarter.

Average deposits climbed 14% to $23.4 billion from the prior-year quarter. Moreover, core deposits jumped 15% year over year to $22.8 billion.

Capital Ratios

City National’s Tier 1 common shareholders' equity ratio stood at 8.5% compared with 10.2% as of Dec 31, 2011 and 9.1% as of Sep 30, 2012. The decline from the prior-year quarter was attributable to both asset growth and acquisitions of Rochdale Investment Management and First American Equipment Finance.

Total risk-based capital and Tier 1 risk-based capital ratios as of Dec 31, 2012 were 12.5% and 9.4%, respectively.

As of Dec 31, 2012, tier 1 leverage ratio was 6.60% versus 6.29% in the previous quarter and 6.77% in the year-ago quarter.

Outlook 2013

Management expects net income to grow discreetly in 2013. However, the company’s net interest margin will be under pressure due to low interest rates and a very flat yield curve. Nonetheless, loans and deposit balances are expected to increase, and credit quality will likely remain healthy, but the rising loan balances may require a somewhat higher loan-loss provision. This outlook reflects management's expectations for the continuation of moderate economic growth throughout 2013.

Our Viewpoint

We believe that City National remains well positioned for loan and deposit growth, given its well diversified portfolio. We also expect strong organic growth, especially from new clients, to drive income in the near future.

However, the prevailing low interest rate environment, sluggish economic growth and stringent regulatory pressures are the major areas of concern.

City National currently retains a Zacks Rank #3 (Hold). Other western banks that are performing impressively include Central Valley Community Bancorp (CVCY - Free Report) and Western Alliance Bancorporation (WAL - Free Report) . These banks retain a Zacks Rank #1 (Strong Buy). Another stock, Pacific Continental Corp. – carrying a Zacks Rank #2 (Buy) – is also worth considering.

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