First Financial Bankshares

Moat: 2/5

Understandability: 2/5

Balance Sheet Health: 4/5

First Financial Bankshares, Inc. is a Texas-based bank holding company primarily focused on providing commercial banking services to small and mid-sized businesses, and individuals.

Investor Relations Previous Earnings Calls

The moat, understandability, and balance sheet health scores reflect a conservative evaluation to ensure a margin of safety in any assessment.

Business Overview

First Financial Bankshares, Inc. (FFIN) is a financial holding company with several subsidiaries operating mainly in Central, North Central, Southeast, and West Texas. Its principal activity is commercial banking. The bank’s service offerings include lending (commercial, real estate, construction, agricultural, etc.), depository services (checking, savings, time deposits), trust services, investment management, insurance, and other financial-related services.

FFIN is characterized by the number of smaller subsidiaries and their business models. Its performance is heavily dependent on regional economies, especially Texas.

  • Revenue Distribution: FFIN generates its revenue through net interest income (NII) which is the difference between interest earned on loans and interest paid on deposits. There is also non interest income generated by fees, securities and investment services and net gains on sale of real estate.

  • Industry Trends: The banking industry is seeing increasing competition from non-traditional players like fintech companies. There is also the trend towards digitalization of banking and the growing importance of wealth management.
    • The regulatory landscape remains a key factor impacting banking profitability as they continue to grapple with tighter requirements.

  • Competitive Landscape: The Texas banking market is intensely competitive, with a mix of national and regional banks vying for business. FFIN faces competition for deposits and loans from other banks, credit unions, and non-bank lenders. However FFIN tries to be different by having strong ties to Texas communities and local knowledge.

  • What Makes FFIN Different: FFIN’s local presence is a differentiating factor. The bank seems to maintain strong relationships with local Texas communities, which should lead to higher levels of customer retention. Their history of 150 years in the Texas area shows their strong roots in those communities. They also try to get the best team in the sector as a way to be better than competitors.

The bank is using its long track record, local expertise and technology investments to establish a competitive advantage.

Financial Analysis

  • Recent Financial Performance: According to the latest 10-Q form, FFIN experienced an increase in net income available to common shares in the 2023 Q3 report. This increase was mainly driven by higher net interest income, as well as an increase in other income. Net interest margins have increased due to higher interest rates. However, noninterest expense also rose.

  • Income Statement Analysis: FFIN’s income is primarily generated by net interest income from lending activities, but its revenue stream is diverse. NII has increased because interest rates are rising.
    • It should be noted that the company had significant unrealized losses on securities available for sale for the 2022 year due to the rising interest rates.
    • These losses were not part of the income statement as it is not required to report it on the income statement under current accounting standards. It’s been recorded in accumulated other comprehensive loss as a part of equity.

  • Looking at expenses, The company has been increasing it’s employee count and had increased expenses. Even though net income increased, it could impact future profits.

  • Balance Sheet Health: FFIN’s balance sheet is in good standing.

    • Total assets increased from $12.2 billion in December 2021 to $13 billion in December 2022. The largest asset category was loans with a book value of $8.7 billion and $7.4 Billion.
    • Total Liabilities had increased significantly due to an increase in the deposit balances

  • The total equity also has increased, and a lot is in the form of retained earnings, highlighting that the company is generally good at making money. * The company has also been increasing its credit quality by re-evaluating its allowance for credit losses.

  • Cash Flow: FFIN produces a decent amount of cash, however, almost all of it is used for investment into the company. This indicates that FFIN is trying to expand its business. The cash position of the company is very healthy.

Moat Analysis

FFIN has limited moats and is susceptible to competition. It is a bank that operates in a local area with a lot of competitors.

  • Intangible Assets: FFIN does have some brand recognition within its operating region, but does not have a nationwide brand. There are not many patents or trademarks that protect their business model. A few branch licenses are present but as a public service provider, that isn’t a significant protection for the bank as these can be relatively easily acquired.

  • Switching Costs: Switching costs are moderately high due to banking customer relationships. However, they are not as strong as a national bank as it has a small footprint.

  • The bank’s reliance on the Texas market increases vulnerability to regional economic downturns or localized competition.

  • Network Effects: There is no network effect that benefits the bank.

  • Cost Advantages: FFIN does not have unique cost advantages. The company is working on building out better digital infrastructure as a source of moat, but that is still in the very early stages.
  • Overall Moat Rating Given the reliance on a local market, inability to create a better moat than other competitors in the region and exposure to competition, FFIN is likely to have a very narrow economic moat and does not have the strength to command a higher rating. I am giving it a rating of 2 out of 5, which indicates that their advantages are limited and not that sustainable.

Risks to the Moat and Business Resilience

  • Increased Competition: Competition is a significant risk. New entrants or expansion by existing players can compress margins and reduce FFIN’s market share. They are trying to become more efficient and customer friendly with digitalization, but that is still in the very early stages.
  • Interest Rate Risk: Rising interest rates could compress margins and reduce demand for loans. Fluctuations in rates may also reduce the value of investment securities, as happened in 2022. They did mitigate some of that risk by hedging their rate exposure. However further exposure is possible.
  • Credit Risk: FFIN is exposed to credit risk from loan defaults. A deterioration in the economic health of its borrowers can lead to higher provisions for credit losses and reduced profitability. This risk was highlighted in 2022-2023 when higher interest rates put pressure on their credit portfolios.
  • Regulatory Risk: Changes in regulation can increase compliance costs or limit the bank’s business activities. They are always updating their credit policies according to regulatory updates.
  • Technological Disruption: Rapid innovation in fintech can hurt its ability to maintain customers and reduce their revenue. There is a focus to build digital products but this is an ongoing process.
  • Macroeconomic Risks: The company is susceptible to macroeconomic risks such as higher interest rates, recessions or economic downturns especially in Texas, given their over reliance on the Texas Market.

Understandability

I would rate this a 2 out of 5. FFIN is a regional bank and the banking model itself isn’t too complex, so most of it is pretty easy to understand for an average investor. However, they do have a few small subsidiaries that have intricate business models and accounting behind them that would make it harder for an average investor to comprehend completely.

Balance Sheet Health

I would rate this a 4 out of 5. While the balance sheet isn’t perfect, it has been consistently improving. Total assets and equity are increasing. They have a decent cash position and the loan portfolio is also good. The main risk in this category is the losses in security holdings due to rising interest rates. Overall it can be said to be a reasonably strong balance sheet.