Q3 2019 Earnings Call
Good afternoon, everyone and welcome to associated Bancorps third quarter 2019 earnings Conference call. My name is Omar and I will be our operated thing that's a sample participants on the listen only mode. We will be conducting a question and answer session. At the end of this conference call piece of the slides that will be reference during todays call are available.
The company's website at Investor day associated Bank Dot com.
As a reminder, this conference call this being recorded.
As outlined on slide two during the course of the discussion today management may make statements that constitute projections expectations beliefs or similar forward looking statements.
Associateds actual results could differ materially from the results anticipated or projected and any such forward looking statements.
Additional detailed information concerning that important factors that could cause associates actual results to differ materially from the information discussed today is readily available on the S. E C website and the risk factor section all the Socit. Its most recent Form 10-K and subsequent SEC filings.
These factors are incorporated herein by reference.
For a reconciliation of the non-GAAP financial measures to GAAP financial measures mentioned in this conference call. Please refer to page 15, or the slide presentation. That's a page 10 of the press release financial tables.
Following today's presentation instructions will be given for the question and answer session.
At this time I would like to turn the conference all with the Philip Flynn President and CEO for opening remarks. Please go ahead Sir.
Thanks, and welcome to our third quarter earnings call joining me as usual today or Chris Niles, Our Chief Financial Officer, and John anchored our Chief Credit Officer.
Aside we understand that there's some problems with the Fccs Edgar website. So you can find our third quarter materials on our own company website.
Our third quarter GAAP earnings.
On slide three were 49 cents per share driven by strong credit quality at higher non interest income.
Excluding acquisition related costs earnings were 50 cents a share.
A quick credit quality metrics continue to improve in the third quarter driving a $6 million decrease in provision for credit losses.
And decreases in both potential problem loans and non accrual loans.
We will continue to selectively pursue additional opportunities for credit risk mitigation than the oil and gas portfolio that our planned de risking actions have been largely executed.
We significantly improved our funding mix this quarter using deposits acquired in the Huntington branch transaction, coupled with proceeds from reducing our investment securities portfolio, We paid down network transaction deposits and other higher cost funding.
We continue to optimize our capital as we prepare for Cecil adoption in the first quarter of next year.
And we repurchased $60 million of common stock in the third quarter, leaving 82 million of our current authorization available.
Turning to slide four.
Several factors continued to drive EPS growth in the first nine months of 29 team.
Total loans have grown at a compound annual growth rate of 6% since 2017 and deposits have grown at a compound annual growth rate of 7%.
Loan growth was driven by solid commercial and business lending well the Huntington branch acquisition completed in June contributed to our deposit growth.
As we recently announced three received CE CE approval for the first on purchase and we anticipate first thought and will further enhance our loan portfolio and our deposit franchise.
Our 2019 year to date efficiency metrics have improved over the same period in 2017 as a result of increased scale and focused expense management.
Our capital priorities remain to support organic growth.
Book pay a competitive dividend support external investments in opportunistic in market efficiency, driven acquisitions and to repurchase shares.
2019, we built upon our strong capital position in preparation for Cecil adoption, while taking actions and live with our priorities, including paying higher dividends acquiring the huntington branches and repurchasing $130 million dollars worth the common shares year to date.
[noise] wont details for the third quarter are shown on slide five.
Total loan balances were down from the prior quarter as modest increases in our commercial real estate.
And home equity portfolios were offset by decreases in commercial and business lending and our residential mortgage book.
Theory lending increased in the quarter as construction loan funding outpaced the pay downs. We note that pay downs remain elevated driven by lower rates that have encourage customers to take their projects to the permanent market.
Well, we had strong residential mortgage originations our overall residential portfolio was down due to higher pay off the sale of approximately 240 million a prepayment sensitive mortgages and the sale of $33 million I've, not accruing and restructured residential and home equity loans.
The higher pay offs were driven by lower long term rates, which are incented borrowers to refinance.
Further homeowners are increasingly refinancing adjustable rate mortgages.
Typically held in our portfolio into fixed rate mortgages typically sold in the secondary market.
The sale of the 240 million to mortgages is part of our de levering strategy and enabled us to pay down higher cost funding. It also reduced interest rate risk by lowering our asset sensitivity and have freed up capital in advance of Cecil adoption.
Turning to the commercial portfolio the decline in commercial and business lending was primarily related to our oil and gas portfolio.
As we've previously discussed we have purposely reduced our oil and gas loans due to changing dynamics in the industry, specifically more capital intensive drilling and volatile production rates have led us to reassess and ultimately lessen our exposure to our more highly levered borrowers.
On slide six you can see in the middle graph that we've reduced the oil and gas book by about $170 million since the end of the first quarter.
Well, we've largely executed our de risking planned balances in this portfolio may declined slightly in the fourth quarter as we selectively pursue additional credit risk mitigation opportunities.
Our commercial real estate pipeline remains strong as shown in the right hand graph.
Unfunded commitments have increased almost 400 million since the third quarter 2018, well construction funding may slow in the fourth quarter as weather becomes less favorable we believe our commercial real estate portfolio is well positioned to grow in 2020.
Looking ahead, we now anticipate full year 2019 loan growth to come in below our previous guidance of 3% are reduced expectation is due in part the factors. We just mentioned the $240 million sale residential mortgages.
And the downsizing of our oil and gas portfolio.
Additionally, we're forecasting residential mortgage prepayments to accelerate in October November we expect that portfolio <unk> down some rather than flat.
[noise] turning to slide seven average deposits were up $100 million from second quarter.
In addition to overall deposit growth, we achieved the beneficial mix shift as we increase lower cost deposits and decrease higher costs funding.
Our lower cost funding, which includes demand and savings deposits increased by $1 billion in third quarter, driven by the Huntington branch acquisition in June .
Using funds from investment security sales had run off and funds from the sale 240 million a prepayment sensitive mortgages, we reduce higher costs money market and time deposits Federal home loan bank advances and network transaction deposits by 1.3 billion.
The reduction in network transaction deposits in the quarter continues our strategy to decrease these higher costs sources of funds as shown on slide eight.
Improve deposit mix shift achieved during the third quarter is detailed in the right hand grabs.
Low cost checking and savings deposits now comprise 55% of our deposit mix up from 49% at the end of the first quarter.
Our loan to deposit ratio was 93% well within our historical range, which gives us flexibility to continue pursuing the strategy of reducing our costs funding sources, while keeping that ratio below 100%.
For the fourth quarter, we expect to further improve our funding mix with cash flows from our securities portfolio.
We anticipate that mix improvement along with a relatively low loan to deposit ratio will help drive funding costs, lower and dampened downward margin compression.
[noise] turning to slide nine we continued the reduction of the investment securities portfolio to 6 billion in the third quarter as we used securities as a source of funds to pay down higher cost institutional funding and repositioned our portfolio for a stable to declining rate environment.
We reduced our lower yielding taxable securities by about 490 million.
And our tax exempt security portfolio, we held balances essentially flat.
Increased yield by replacing short duration securities with higher yielding longer duration municipal securities.
The next several months, we'll continue to use the cash run off from our taxable portfolio to pay down higher cost funding, we're targeting an overall securities portfolio level of about 17% to 18% of total assets and we anticipate will reach that level in early 2020.
[noise] turning to slide 10, net interest income was 206 million.
The decrease of 7 million from the previous quarter and our net interest margin was 2.81% down six basis points from the second quarter.
Lower net interest income was caused by several factors.
On the asset side average one month LIBOR and the third quarter decreased over 25 basis points from the second quarter negatively impacting commercial real estate and commercial and business lending yields.
Long term interest rates were also decreased resulting in elevated refinancing at our residential mortgage portfolio and pay off of higher coupon loans. Additionally, this increased prepayment rate drove accelerated recognition of deferred origination costs further reducing our mortgage hill.
Looking ahead, we expect that asset yields will continue to be pressured by persisting LIBOR compression and lower mortgage Reits.
On the liability side.
Total interest bearing deposit cost decreased 12 basis points, driven by our proved deposit mix and lower rates in most deposit categories.
We anticipate that deposit costs will further decrease in the fourth quarter given that our loan to deposit ratio remains relatively low enabling us to grow the loan book without paying up for funding and that our securities portfolio will remain a source of funds for the fourth quarter, allowing us to further reduce higher costs funding.
Year to date, our net interest margin is 2.86%.
While lower rates will continue to weigh on asset yields we believe the actions we've taken to de lever the balance sheet by reducing lower yield assets and higher cost funding will enable us to meet the low end up our full year net interest margin guidance or about 2.84%.
That outlook assumes a single 25 basis point that rate cut.
In the fourth quarter.
Turning to slide 11 third quarter noninterest income of 101 million was up 5 million from last quarter and up 13 million year over year.
The increase over last quarter was primarily due to gains on investment sales that we realized as part of our de levering and funding mix improvement strategy.
Additionally, higher mortgage loan sales, including the sale of $240 million of.
Prepayment sensitive mortgages from the portfolio drove increased mortgage banking income in the quarter.
These gains were partially offset by seasonally lower insurance commissions.
Moving to slide 12.
Noninterest noninterest expense of 201 million was up 3 million from the second quarter.
The increase was partially due to a full quarter of Aachen occupancy expense from the acquired Huntington branches, while our occupancy costs grew we were able to hold personnel expense flat despite staffing the additional branches.
Advertising expense was also higher in the third quarter due to planned TV and digital campaigns.
Looking ahead to the fourth quarter, we're taking actions to offset the negative impact of the challenging interest rate environment.
We expect to incur approximately $3 million in restructuring charges in Q4, which will enable us to maintain flat to modestly lower noninterest expenses in 2020.
That includes for startup costs both integration.
And ongoing operating costs.
We anticipate these restructuring charges will put our full year 2019 noninterest expenses in the range of 790 to 795 million.
[noise] turning to slide 13 makes credit quality remains strong and our credit metrics improved from the second quarter, excluding charge offs of oil and gas flows.
Potential problem loans decreased 33 million in the quarter to 133 million driven by reductions in commercial real estate potential problem loans.
Non accrual loans decreased 38 million.
Primarily reflecting the smaller oil and gas portfolio.
And the sale of non accrual loans from the resi mortgage and home equity portfolios.
Net charge offs were 20 million in the quarter with the majority coming from the oil and gas book.
We expect charge offs were returned to more typical levels in the fourth quarter.
Our provision for credit losses was 2 million down from 8 million last quarter as.
As we've previously discussed we'd already provided for and reserved against the risks we saw in the oil and gas portfolio as such we believe future oil and gas loan losses will be manageable and within our historical patterns of normal provisioning.
The aggregate allowance for loan losses was 0.94% of total loans down from previous quarter. As we previously disclosed we continue to expect that Cecil will increase our overall allowance for credit losses by about 30% to 40%.
With that I'd be happy to take your questions.
At this time, we will be conducting a question answer session. If he would like to ask your question. Please press star one on your telephone keypad a confirmation total indicate your line is into question Q you May press star too if you like to remove your question from the Q4 participants using speaker equipment. It may be necessary to pick up or has that before pressing the star. He's one of them. If we use while we both question.
Our first question is from Scott Siefers Sandler O'neill and partners. Please proceed with your question.
Afternoon, guys how are you.
Afternoon Scott.
Chris maybe first question for you. So obviously a lot of balance sheets actions in the recent past Eric I guess, just as we look forward what would be your best guess as to exactly how the bank will ultimately be position. When these things are are indeed fully completed it maybe ideally.
If possible as measured by how much margin would be a risk for each 25 basis point cod whenever things often done.
Sure. So I think if you look at the guidance we've given we're at 286 margin today and our exposure for the full year will be to take it down towards to 84 at the end of the year, assuming another great rate cuts. So that's consistent with the guidance of in the path, which is sort of.
300 basis points per 25 basis point rate action and it's in that same general range and we're trying to.
Further minimize that through the actions we've taken so that would be a rough indication of the actions. We're taking we're still gonna be asset sensitive because you still got the preponderance of our loans over 13.6 billion and predominantly commercial LIBOR related assets, but we're doing all the things we count in the back end to make sure the.
Funding costs are being adjusted.
Downward downwardly as quickly as possible thereafter.
Okay, Alright, perfect. Thank you and then maybe Phil you had talked about the.
Oh got sort of full year coming in a little below the low onto the guide.
Just curious I am hoping it's just no more than really just.
Very modest change from a month or so ago, but given that most of the the actions had been disclosed that the Barclays conference, what's the change versus the three versus versus the 3% previously and below that now.
Other things Yeah, we think.
We think the prepayment activity in the mortgage business is going to continue.
Probably more prolong than we would've thought and this this interesting remix of people paying off their adjustable rate mortgages, which we hold and portfolio refine those into.
30 year fixed rate stuff that we're still originating but selling on.
Are going up are going to dampen.
That portfolio, probably instead of what we assume flatter will be down a bit of this quarter courseware picking up gain on sale whatever that turns out to be I'm on the other side of that the pipeline in the commercial business continues to look good.
The pipeline in commercial real estate and the unfunded commitments.
Good.
So there isn't any big seismic shift going on here, we think for demand it's more driven by this.
Interest rate environment that everybody's adjusting to.
Okay, Perfect and then I guess, along the lines of the mortgage sale. The 240 million. So a portfolio loans in the third quarter, you able to quantify what they gain related specifically to those sales.
For the gross gain was approaching $5 billion. How are we would note we did hold some current period production.
So it's not that it was 5 million of excess we sold 5 million of old instead of selling to gain three or three and a half going to new so incrementally was probably worth about a million half the too.
Perfect.
Okay. Good. Thank you guys appreciate it.
Our next question from Chris Mcgratty KBW. Please proceed with your question.
Great. Thanks.
Phil or Chris the expense, that's so make sure I got the expense Guy right for 2020.
You are saying this year 790 795, including.
The one timers.
Are there one timers friend for next year related to the acquisition or is that simple exercise, it's putting seven I'd just having 95 in for for next year and then maybe some other issue.
Yeah, so that to restate, what what I just said.
This year will come in at 790 95 total.
Next year, we will close the first starting deal in the first quarter that we'll obviously have integration costs associated with it.
And then they'll be additional operating expenses that we will bear throughout the year, including all of that.
We anticipate that our expenses with the actions that we're taking right now.
We'll be.
Lower flat to moderately lower than where we come in this year.
Oh, all you have any idea what a onetime charges are for that for that transactions will back that out.
The onetime charges a will be a mid single digit millions number.
Yeah, probably under five but this year remember we had one time charges related to Huntington that were similar.
Right Okay.
And then you know and that 790 to 95 for this year also includes a $3 million restructuring charge that we anticipate this quarter.
In order to set up next year in the way that I just described.
Understood.
And then maybe just a couple of I was wondering already pretty harsh expense management going on around here right now as you would expect yep sounds like it [noise].
Just a couple of housekeeping and then I'll I'll step back the.
The FDIC benefit a lot of your peers have been getting it was there a benefit this quarter that resulted in lower expenses.
If I think if you look at the trend than ours.
Ours was realized earlier in the year.
For different reasons, but yeah, it's it's not significant trend to our knowledge this quarter I mean, it okay, it's trended lower but started a while ago.
Got it and then the tax benefits. It was can you quantify that I didn't get it really she said there was a charitable donation.
That was last quarter.
Got it okay. Thank you.
Yes.
Our next question is from Jon Arfstrom RBC capital markets. Please proceed with your question.
Thanks, Good afternoon guys.
And Oh.
Question on the restructuring charge and on small but just.
Give us an idea of what you're doing and what's driving that.
Yeah. So.
I don't want to talk about it but I'm curious if we haven't fully.
Disclosed everything yet we've got some filings to do so I I, rather leave it at that for now John .
Okay all right.
[noise] terms of the fee businesses just had a question.
Insurance and wealth kind of flattish year over year, I mean, not terrible you're holding their own but [noise].
<unk> give us an idea the outlook there and what you're planning there there's no way to accelerate the growth.
Sure I think there's a number of business initiatives underway John to accelerate the insurance business clearly, we've and digesting a couple of acquisitions over the last couple of years.
There's a seasonal pattern here.
Through the course of the year, but to your observation year over year, it probably hasn't grown as much as we would've hoped in fact, you know we expect it to be.
It's a positive value and it's kind of trending flat.
With regard to the wealth management business I think fee competition continues to be a factor there assets under management has continued to grow but be compression is a real for supply and we're actively obviously was buying the market conditions, but continuing to grow clients and continue to grow our presence in the market. So were.
Encouraged by that.
Okay, Alright, thank you for that and then a one more back on loan growth just the general commercial outlook.
I understand some of the pressure some oil and gas from Russia, you refinance, but just any thoughts on the general commercial outlook any changes in attitude of the borrowers at all.
No I I think I.
I think we talked about this and last call I think the general sentiment is one of.
Certainty.
What's going on going forward, you've got election issues you've got.
You know all the drop in Washington.
ER continued.
Worries about trade war, so I think people are anxious about that.
And perhaps.
Delaying some of their capital initiatives, but.
Not to a great extent I mean, the pipeline still.
Look fine and we have a number of transactions, we know that will be funding up in the fourth quarter. So I wouldn't dramatically changed your outlook, but just the sentiment is continuing to trend in the wrong direction.
Okay.
Alright, Thanks, guys appreciate it.
As a reminder, if you like to ask a question. Please press star one on your telephone keypad, a confirmation telling when the Carolinas and the question Q4 participants using speaker equipment, it maybe necessary to pick up your handset before pressing the star keys, one of them at least why we both questions.
Our next question is from Jared Shaw Wells Fargo Securities. Please proceed with your question.
Hi, good evening.
Just fall I guess, a couple of detailed questions on the securities portfolio, what's the yield roll off that you're you're seeing as those cash flows come in and what should be looking at is a that incremental cost. So the higher cost deposits that you're you're going to be paying off.
Yeah, so the yield roll off and that's payments across the entire $4 billion, a taxable which had an average yield up to 33. So the yield roll off is a tad bit higher than that but not much.
And so it's been the source of funds as you've paid down things through today, you'll notice our federal home loan Bank Federal home loan Bank advance rate has an average of 232, so we'll be looking to manage that at the margin downward and make sure we make the most of it.
Yeah, we called that 250 million dollar note also which what we were paying on that two point waters, two or three quarters, yeah. So that's gone.
Okay, Alright basic you know, we're picking up a net benefit there.
Okay got it and then on the.
The incremental oil and gas de risking that you're talking about as I really just kind of you more cash flow and refinancing a that portfolio or do you expect to take a couple of charge offs.
In that next quarter.
No, we anticipate that there'll be some more charges, but not at the at the level that.
You just saw its taken a third quarter and you're right. After after finishing up a couple of distress credits here, we worked through almost all of those at this point.
You know that the portfolio will shrink down as.
Borrowing basis, it redetermine lower or as we exit credits in that in that mean, so it'll it'll the pace of the decline of that book is going to slow, but we feel like we've dealt with.
Over this for you know first three quarters of this here some of the more highly levered stuff that we were concerned about.
And you had said that you feel that the that you provided fortune each one there so even if we see charge offs it may not necessarily flow through the provision.
That's correct.
Okay, and then what's the allowance on the oil and gas portfolio.
At the end of the quarter about 4 million Bucks, right now or percent or I'm sorry, 4%.
Great. Thanks very much.
Our next question has from Terry Mick You Boy Stephens incorporated. Please proceed with your question.
Hi, Thanks, good afternoon.
Great question for Chris I'm, just trying to think about the fourth quarter average, earning assets or maybe if you could just talk about I know you did the reduction in the securities portfolio I think still said ultimately down to 17 or 18, I'm just curious how much of that will occur in the fourth quarter.
Yeah. So I think we said yeah Phil's comments were over the next several months through the first quarter. So perhaps it stays about think about assays that over the next few quarters and keep in mind, we'll be getting some new balances and from first fountain likely at the end of the first quarter.
So we'll start rebuilding from there.
Okay.
And then a question the deposits any deposit attrition since June coming from the H. been branches are deposits that you acquired and I can't remember, it's part of that a transaction had you planned on consolidating any of those branch locations.
Oh, Yeah, we consolidated a lot of them.
That's all done.
Yeah. It's all consolidations were done we did assume at the time and yet the acquisition about a 10% attrition or to the best of my knowledge, we're running inside of those numbers and aside from the CD books, which obviously, we repriced lower the core checking savings money market relationship accounts are all being retained at night.
Sent or better levels.
Okay.
The reason as I was trying to think about the restructuring that you just announced earlier on this call. If it was connected it all to those branches, but that's largely been completed.
Correct.
Great. That's it thank you.
Yes.
We have reached the end of the question answer session and I will now turn the call back over to fill up blend for closing remarks.
Okay. Thanks, Thanks for joining us everybody today, we're pleased with the bottom line results this quarter and improving credit quality in funding mix that we've been working so hard on so we'll look forward to talking you get in January .
And to welcome mean first ottens.
Colleagues and customers to associated in February if you have any questions as always give us a column. Thanks for your interest in associated.
This concludes todays conference you may disconnect your lines at this time. Thank you for your participation.
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