OFG Bancorp(OFG) - 2020 Q4 - Annual Report

PART I Business OFG Bancorp is a financial holding company operating in Puerto Rico and the USVI, offering banking, wealth management, and treasury services, notably integrating Scotiabank's operations in 2020 - OFG Bancorp operates through three main business segments: Banking, Wealth Management, and Treasury, primarily in Puerto Rico and the United States Virgin Islands (USVI)[19][24] - On December 31, 2019, Oriental acquired the Puerto Rico and USVI operations of The Bank of Nova Scotia (BNS), adding $2.2 billion in net loans and $3.0 billion in core deposits, with integration successfully completed in 2020 amidst the pandemic[22][23] - The company's strategy focuses on building customer relationships through technology, growing commercial and retail lending, improving operational efficiency, and expanding its wealth management services[21] - As of December 31, 2020, the company had 2,275 employees and operated 54 branches in Puerto Rico and 2 in the USVI[19][132] General Business Overview OFG Bancorp is a Puerto Rico-based financial holding company offering comprehensive services, focused on expanding lending and integrating the recent Scotiabank acquisition - OFG Bancorp is a financial holding company providing a full range of banking and financial services through subsidiaries, primarily Oriental Bank[18][19] - The acquisition of Scotiabank's PR & USVI operations on December 31, 2019, added $2.2 billion in net loans and $3 billion in core low-cost deposits, resulting in a bargain purchase gain of $7.7 million[22] - Principal funding sources include branch deposits, Federal Home Loan Bank (FHLB) advances, wholesale deposits, and subordinated capital notes[21] Business Segments The company operates through three segments: Banking, Wealth Management, and Treasury, covering traditional banking, investment services, and portfolio management - The Banking segment includes traditional retail banking products, commercial loans, consumer loans, and mortgage loans through its 54 branches in Puerto Rico and 2 in the USVI[26][27] - The Wealth Management segment provides securities brokerage, trust services, retirement planning, and insurance through subsidiaries like Oriental Financial Services and Oriental Insurance[36] - The Treasury segment manages the company's investment portfolio, which primarily consists of mortgage-backed securities, U.S. government-sponsored agency obligations, and U.S. Treasury securities[41] Market Area and Competition OFG Bancorp primarily operates in the competitive Puerto Rico banking market, expanding into the USVI and U.S. commercial loans post-Scotiabank acquisition - The company's primary market is the highly competitive banking environment in Puerto Rico[42] - The company is expanding its presence in the United States through a commercial loan program initiated in late 2017 and began operations in the USVI following the Scotiabank acquisition in 2019[43] Regulation and Supervision OFG Bancorp and its subsidiaries are extensively regulated by U.S. federal and Puerto Rico authorities, adhering to capital adequacy, consumer protection, and corporate governance standards - OFG Bancorp is a financial holding company regulated by the Federal Reserve Board under the Bank Holding Company Act, while its main subsidiary, Oriental Bank, is regulated by the FDIC and the OCFI of Puerto Rico[44][48] - The Dodd-Frank Act has significantly impacted the financial services industry, introducing changes in capital requirements, consumer protection (via the CFPB), and corporate governance[53][54] - The company and the Bank are subject to Basel III capital rules, which mandate minimum ratios for Common Equity Tier 1, Tier 1, and Total Capital; as of December 31, 2020, OFG was in compliance with all applicable capital requirements[77][80] - The Puerto Rico Banking Act imposes specific requirements on the Bank, including dividend restrictions, legal reserve requirements, and limitations on loans to a single borrower[94][97][99] - The Volcker Rule, which generally prohibits proprietary trading, applies to the company, although exemptions exist for smaller banks with limited trading assets[111][112] Managing Our Human Capital OFG Bancorp prioritizes human capital, implementing COVID-19 safety measures, promoting diversity, and aligning compensation with performance and shareholder interests - In response to the COVID-19 pandemic, Oriental enabled approximately 50% of its employees to work from home and implemented comprehensive safety protocols for on-site staff[114] - The company's compensation program aims to attract and retain talent by linking pay to performance and ensuring competitiveness with market practices[120] - As of December 31, 2020, Oriental had 2,275 employees, none of whom are represented by a collective bargaining group[132] Risk Factors The company faces significant risks from its Puerto Rico market concentration, including economic volatility, credit exposure, operational vulnerabilities, and regulatory changes, exacerbated by the COVID-19 pandemic Economic and Market Conditions Risk The company's Puerto Rico concentration exposes it to economic downturns, natural disasters, and the COVID-19 pandemic, impacting loan demand, credit losses, and interest income, alongside LIBOR transition risks - A significant portion of the business and credit risk is concentrated in Puerto Rico, which has faced economic contraction, a government fiscal crisis, and natural disasters, potentially impacting loan originations and credit losses[137][138][139] - The COVID-19 pandemic has adversely impacted business and financial results, with future impacts depending on uncertain developments like the pandemic's duration and the effectiveness of economic stimulus[142][144] - The company faces market risk from changes in interest rates, which can affect net interest income; the planned cessation of LIBOR after 2021 introduces uncertainty and operational risk, as many commercial loans are tied to it[147][148][150] Credit Risk The company faces credit risk from its loan portfolio, including exposure to Puerto Rico government entities, potential increases in credit loss provisions, mortgage repurchase obligations, and impairment of acquired Scotiabank loans - As of December 31, 2020, the company had approximately $99.1 million of direct credit exposure to four Puerto Rico municipalities and one public corporation[156] - Heightened credit risk could require an increase in the allowance for credit losses, which would negatively impact operating results; bank regulators periodically review the allowance and may require increases[160][165] - The company faces default and repurchase risks in its mortgage origination business; for the year ended December 31, 2020, it repurchased $27.9 million of loans from GNMA and FNMA[166] - Loans acquired in the Scotiabank transaction may have greater than anticipated impairment, potentially requiring increased provisions for credit losses[171][172] Operations and Business Risk Operational risks include failure to realize Scotiabank acquisition benefits, fraud, cyber-attacks due to technology reliance, and disruptions from third-party vendor failures - There is a risk that the company may not fully realize the anticipated benefits of the Scotiabank acquisition, such as cost savings and successful integration[173] - The company is subject to security and operational risks from its use of technology, including the threat of cyber-attacks, which could compromise confidential information and result in significant financial and legal exposure[175][176][177] - Reliance on third-party providers for essential systems (e.g., core banking, data processing) creates a risk of service interruption or failure, which could adversely affect operations[178][179] Liquidity Risk The company faces liquidity risk from its reliance on stable funding sources, with disruptions potentially increasing costs or forcing asset sales, and dividend payments dependent on subsidiary distributions subject to regulatory limits - The business requires continuous access to funding sources like deposits and FHLB advances; disruption to these sources could adversely affect the cost of funds and liquidity[183][186] - The company's ability to pay dividends and meet obligations depends on receiving dividends from its subsidiaries, which are subject to legal and regulatory limitations[187][188] Competitive and Strategic Risk The company faces substantial competition in lending and deposits, and is exposed to regulatory changes like the Dodd-Frank Act, which could impact profitability and require significant compliance resources - The company faces substantial competition in originating loans and attracting deposits, which could require increasing rates paid on deposits or lowering rates on loans, thereby affecting profitability[190] - Operations are subject to extensive and changing federal and local regulations, which can impact profitability and require significant management attention and resources for compliance[191][192] Accounting and Tax Risk The company's financial statements are vulnerable to changes in accounting standards, impairment of goodwill and intangible assets, and adverse legislative changes in Puerto Rico tax laws, particularly IBE exemptions - Changes in accounting standards issued by FASB could materially affect the company's financial condition and results of operations[195] - As of December 31, 2020, the company had $86.1 million of goodwill and $45.9 million of other intangible assets, which are subject to impairment tests; future impairment charges could negatively impact results[196][197] - Changes in Puerto Rico tax laws could adversely affect financial results, particularly if the tax exemption for its International Banking Entity (IBE) units is eliminated or modified[198][199] Unresolved Staff Comments The company reports no unresolved staff comments - None[200] Properties OFG Bancorp owns its executive office and seven branch premises, while leasing forty-nine others, with future rental commitments totaling approximately $32.6 million - The company owns its main executive office building in San Juan, Puerto Rico, and owns seven branch premises while leasing forty-nine others[201][202] - As of December 31, 2020, aggregate future rental commitments under leases were approximately $32.6 million[203] Legal Proceedings The company is involved in various legal proceedings, but management anticipates no material adverse effect on its financial condition or operations - The company is a defendant in various legal proceedings incidental to its business but does not expect the outcomes to have a material adverse effect on its financial condition[204] PART II Market for Registrant's Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities OFG Bancorp's common stock trades on the NYSE under "OFG", demonstrating strong performance with a $100 investment growing to $280.58 by December 31, 2020 - The company's common stock is traded on the NYSE under the symbol "OFG"[207] Performance of OFG Bancorp vs. Indices | Index | 12/31/2015 | 12/31/2016 | 12/31/2017 | 12/31/2018 | 12/31/2019 | 12/31/2020 | | :--- | :--- | :--- | :--- | :--- | :--- | :--- | | OFG Bancorp | 100.00 | 183.75 | 135.12 | 240.86 | 349.89 | 280.58 | | Russell 2000 | 100.00 | 121.31 | 139.08 | 123.76 | 155.35 | 186.36 | | SNL Bank | 100.00 | 126.35 | 149.21 | 124.00 | 167.93 | 145.49 | Management's Discussion and Analysis of Financial Condition and Results of Operations This section analyzes the company's 2020 financial performance, highlighting the impact of COVID-19, CECL adoption, increased earnings from the Scotiabank acquisition, and improved capital adequacy Recent Developments In 2020, OFG responded to the COVID-19 pandemic by implementing safety protocols, enabling remote work, offering extensive payment deferrals, and approving $297 million in PPP loans - In response to the COVID-19 pandemic, Oriental implemented safety measures, remote work capabilities for approximately 50% of employees, and offered assistance to clients, including payment deferrals and participation in the PPP[214][220] - As of December 31, 2020, the company had processed COVID-19 payment deferrals for over 47,000 retail customers ($2.2 billion) and for commercial customers ($642.6 million); the percentage of total loans on deferral decreased from 30% in Q2 to 1% in Q4[219] - Through December 31, 2020, Oriental approved 5,074 PPP loans amounting to $297 million, impacting over 50,000 employees[224] Critical Accounting Policies and Estimates The critical accounting policy is the allowance for credit losses, which, following the January 1, 2020, adoption of the CECL standard, requires complex judgment in estimating lifetime expected credit losses - The determination of the allowance for credit losses is a critical and complex accounting estimate, requiring significant management judgment about inherently uncertain matters[228][229] - The company adopted the new CECL accounting standard (ASC Topic 326) on January 1, 2020, which bases the allowance on lifetime expected credit losses rather than incurred losses[229] Financial Highlights OFG reported diluted EPS of $1.32 and total core revenues of $519.3 million in 2020, driven by the Scotiabank acquisition and strong loan production, while significantly building capital Financial Highlights | Metric | 2020 | 2019 | | :--- | :--- | :--- | | EPS Diluted | $1.32 | $0.92 | | Total Core Revenues | $519.3M | $396.2M | | Net Interest Income | $408.4M | $322.8M | | Non-Interest Income | $124.4M | $82.5M | | New Loan Production | $1.7B | $1.3B | | Net Interest Margin | 4.55% | 5.37% | | Tangible Book Value/Share | $16.97 | $15.96 | | Common Equity Tier 1 Ratio | 13.08% | 10.91% | - 2020 results included pre-tax merger and restructuring charges of $16.1 million and a bargain purchase gain of $7.3 million from the Scotiabank acquisition[245] - The year also included a $39.9 million provision for credit losses and $5.8 million in expenses related to the COVID-19 pandemic[245] Analysis of Results of Operations In 2020, net interest income increased to $408.4 million and non-interest income rose to $124.4 million, driven by the Scotiabank acquisition, while non-interest expenses increased to $345.3 million and the effective tax rate decreased to 21.6% - Net Interest Income: Increased by $85.6 million (26.5%) to $408.4 million in 2020, driven by higher loan volumes from the Scotiabank acquisition, partially offset by a lower net interest margin (4.55% vs. 5.37% in 2019)[256][257] - Non-Interest Income: Increased by $41.9 million (50.7%) to $124.4 million, mainly due to a $19.7 million increase in banking service revenues, a $12.2 million increase in mortgage banking activities, and a $7.3 million bargain purchase gain from the Scotiabank acquisition[260] - Non-Interest Expense: Increased by $112.0 million (48.0%) to $345.3 million, primarily due to higher compensation, occupancy, and technology costs associated with the expanded operations from the Scotiabank acquisition, plus $5.8 million in pandemic-related expenses[262][263][264] - Provision for Credit Losses: Decreased by $4.1 million to $92.7 million; the 2020 provision included $39.9 million related to the economic impact of COVID-19 under the new CECL standard[267] - Income Taxes: The effective tax rate decreased to 21.6% in 2020 from 28.5% in 2019, influenced by capital gains on securities sales and the non-taxable bargain purchase gain[268] Analysis of Financial Condition As of December 31, 2020, total assets increased to $9.8 billion, driven by cash growth, while the allowance for credit losses significantly increased to $204.8 million due to CECL and COVID-19, and capital ratios improved Consolidated Financial Condition | Metric | Dec 31, 2020 | Dec 31, 2019 | | :--- | :--- | :--- | | Total Assets | $9.83B | $9.30B | | Loans, Net | $6.50B | $6.64B | | Total Deposits | $8.42B | $7.70B | | Total Borrowings | $0.10B | $0.31B | | Total Stockholders' Equity | $1.09B | $1.05B | - Non-performing assets increased to $165.6 million (1.69% of total assets) from $118.7 million (1.28% of total assets) at year-end 2019, mainly due to the new CECL methodology[300] - The allowance for credit losses increased to $204.8 million (3.1% of total loans) from $116.5 million (1.7% of total loans), driven by the CECL adoption impact of $89.7 million and a $39.9 million provision for the COVID-19 economic outlook[293][294][313] - All regulatory capital ratios increased significantly from 2019 to 2020, with the Common Equity Tier 1 ratio rising to 13.08% from 10.91%; the company and the Bank remain "well-capitalized"[326][327] Quantitative and Qualitative Disclosures About Market Risk The company's primary market risk is interest rate risk, managed by ALCO, with simulations indicating increased net interest income from rising rates, alongside significant credit, liquidity, operational, and concentration risks - The company's primary risk exposures are market, interest rate, credit, liquidity, operational, and concentration risks, which are managed through a comprehensive risk management program[347][348] Net Interest Income Sensitivity Analysis | Change in Interest Rate | Net Interest Income Risk (Static Balance Sheet) | Net Interest Income Risk (Growing Simulation) | | :--- | :--- | :--- | | +200 Basis points | +$35.7M (+9.29%) | +$35.5M (+8.73%) | | +100 Basis points | +$18.6M (+4.84%) | +$18.5M (+4.54%) | | -50 Basis points | -$6.3M (-1.63%) | -$6.4M (-1.57%) | - Credit risk is a principal concern due to the challenging economic conditions in Puerto Rico, which have been exacerbated by natural disasters and the COVID-19 pandemic[359][363] - Liquidity risk is managed by maintaining access to diverse funding sources; as of December 31, 2020, the company had $2.2 billion in unrestricted cash and cash equivalents and $814.0 million in borrowing capacity at the FHLB-NY[366][372] Financial Statements and Supplementary Data This section presents the company's consolidated financial statements for 2020, including management's report on effective internal controls and the auditor's unqualified opinion on both financial statements and internal controls Management's Annual Report on Internal Control Over Financial Reporting Management concluded that the company maintained effective internal control over financial reporting as of December 31, 2020, based on the COSO framework - Management concluded that OFG Bancorp maintained effective internal control over financial reporting as of December 31, 2020, based on the COSO criteria[389] Report of Independent Registered Public Accounting Firm KPMG LLP issued an unqualified opinion on OFG Bancorp's 2020 consolidated financial statements and internal controls, highlighting the Allowance for Credit Losses as a critical audit matter due to CECL adoption - The auditor, KPMG LLP, issued an unqualified opinion, stating the consolidated financial statements are presented fairly in conformity with U.S. GAAP[392] - The auditor also issued an unqualified opinion on the effectiveness of the company's internal control over financial reporting as of December 31, 2020[407] - The report identifies the Allowance for Credit Losses as a Critical Audit Matter, due to the high degree of subjective and complex judgment required, especially following the adoption of the new CECL standard[399][400] Consolidated Financial Statements The consolidated financial statements detail OFG Bancorp's financial position with $9.8 billion in total assets and $74.3 million in net income for 2020, supported by extensive notes on key financial aspects Consolidated Statements of Financial Condition (Thousands of USD) | (In thousands) | Dec 31, 2020 | Dec 31, 2019 | | :--- | :--- | :--- | | Total Assets | $9,826,011 | $9,297,661 | | Total Loans | $6,501,259 | $6,641,847 | | Total Deposits | $8,415,640 | $7,698,610 | | Total Liabilities | $8,740,036 | $8,252,183 | | Total Stockholders' Equity | $1,085,975 | $1,045,478 | Consolidated Statements of Operations (Thousands of USD) | (In thousands) | Year Ended Dec 31, 2020 | Year Ended Dec 31, 2019 | | :--- | :--- | :--- | | Net Interest Income | $408,432 | $322,793 | | Provision for Credit Losses | $92,672 | $96,792 | | Non-interest Income | $124,352 | $82,493 | | Non-interest Expense | $345,286 | $233,244 | | Net Income | $74,327 | $53,841 | Changes in and Disagreements with Accountants on Accounting and Financial Disclosure The company reports no changes in or disagreements with its accountants regarding accounting and financial disclosure - Not applicable[864] Controls and Procedures Management concluded that the company's disclosure controls and procedures were effective as of December 31, 2020, with no material changes to internal control over financial reporting during Q4 2020 - Management concluded that the company's disclosure controls and procedures were effective as of December 31, 2020[865] - No material changes were made to the internal control over financial reporting during the fourth quarter of 2020[868] Other Information The company reports no other information for this item - None[869] PART III Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters This section details the company's equity compensation plans, including 1,011,214 securities to be issued and $2.170 million in stock-based compensation expense for 2020 Equity Compensation Plan Information | Plan Category | Securities to be Issued Upon Exercise | Weighted-Average Exercise Price | Securities Remaining Available for Future Issuance | | :--- | :--- | :--- | :--- | | Omnibus Plan | 1,011,214 | $7.19 | 857,028 | - Stock-based compensation expense was $2.170 million for the year ended December 31, 2020[874] PART IV Exhibits and Financial Statement Schedules This section lists financial statements filed under Item 8 and confirms no additional financial statement schedules are required - This section lists the financial statements filed under Item 8 and notes that no additional financial statement schedules are required[876][878] Form 10-K Summary This item is not applicable to this report - Not applicable[879]