Q3 2019 Earnings Call
Welcome to the flush Corporation's third quarter 2019 earnings conference call.
Hi, John Gehring, President and Chief Executive Officer, today's call is being recorded all participants will be any listen only mode. So do you need assistance. Please signally conference specialist by pressing the star key followed by zero.
After today's presentation, there will be an opportunity to ask questions to ask a question you May Press Star then one on your Touchtone phone to withdraw your question. Please press Star then to.
A copy of todays earnings press release in slide presentation that the company will be referencing today are available on its investor Relations website at Flushing Bank Dot com.
We began the company would like to remind you that the discussions during this call contain forward looking statements made under the safe Harbor provisions of the U.S. Private Securities Litigation Reform Act of 1995.
Such statements are subject to risks uncertainties and other factors that may cause actual results to differ materially I must contain any such statements. Such factors are included in the company's filings with the U.S. Securities and Exchange Commission.
Flushing Financial Corporation does not undertake any obligation to update any forward looking statements, except as required under the applicable law.
During this call references will be made to the non-GAAP financial measures. So supplemental measures to review and assessed operating performance. These non-GAAP financial measures are not intended to be considered in isolation or as a substitute for the financial information prepared and presented in accordance with the U.S. GAAP.
For information about these non-GAAP measures and for a reconciliation to GAAP. Please refer to the earnings release I'd now like to introduce John Buren, President and Chief Executive Officer, who will provide an overview of the strategy and results and then discuss this quarter's financial results in greater detail.
Thank you good morning, everyone and thank you for joining us for third quarter 2019 earnings call I.
I will begin on third quarter highlights and then provide an overview of the strategies, we're executing to continue to generate consistent positive earnings power and drive long term shareholder value.
Then I will review our financial performance in greater detail.
Following my prepared remarks, I will take your questions.
Beginning on slide three there's a summary of our third COVID-19.
Operating results were pleased to report third quarter diluted EPS increased 14%.
GAAP diluted EPS was unchanged from the prior quarter.
On slide presentation and press releases include a reconciliation of GAAP to core earnings the primary difference between GAAP and core E. P. S is a 10 cents per share of noncash mark to market.
Fair value adjustments, primarily related to our swaps designated to protect against rising rates.
Overall, the interest movement of the swaps is benefiting the core net interest margin, while the fair value adjustments are offsetting the benefit.
On slide four.
We provide key highlights for the quarter.
We achieved record loan closings.
Totaling 398 million for the quarter driving loan growth to 9% annualized quarter over quarter.
And over 7% year over year.
This marks our second consecutive quarter record see I closings totaling 238 million or 60% of total quarterly production.
Strong she and I production age the continuing diversification of our loan portfolio.
As a reminder, bcf <unk> loans are generally floating rate and represent 19% of total loans.
At September Thirtyth 2019.
The loan pipeline remains strong at 419 million.
As we continue to grow along <unk> portfolio.
We remain focused on credit quality, preserving strong risk management practices, including conservative underwriting standards and improving yields to achieve improved risk adjusted returns.
Overall credit quality continues to improve as nonaccrual loans decreased 9% nonperforming loans decreased 6% quarter over quarter.
Overall, our core business remains strong.
Core earnings for third COVID-19 included the benefit.
The FDIC small business assessment credit a three cents per diluted share.
And the true up of our effective tax rate to 22% from 24%, which equated to two cents per diluted share.
Even without the benefit of these items core earnings improved from the prior quarter due to a reduction in provision expense and our continued focus on managing non interest expense, partially offset by margin compression of eight basis points.
Loan yields on originations decreased 50 basis points from second quarter 19th.
We continue to experienced pricing pressure due to the inverted yield curve, that's the pricing points car loan tender.
Although the federal reserve as recently cut rates, we still experienced margin compression on the liability side as the quarterly cost of deposits increased four basis points from the prior quarter, primarily driven by pricing pressure on our we tell them municipal deposits as competition from traditional and nonbank compare.
Her does remain strong.
We remain disciplined in terms of deposit pricing well remain <unk> remaining competitive was it all market.
However.
Late in the quarter the cost of funds began to improve.
At quarter end, our average new cost.
Let's see these was less than 2% was approximately 1 billion of retail Cds maturing before third quarter 20 at an average rate.
2.33%.
We expect that this will provide an opportunity in the future.
As previously announced we're opening a new branch in Hicksville, New York, which not only further expands our presence on long island, but enables us to move ins when attractive Asian market outside of New York City.
We're also very excited about the signing of our definitive merger agreement to acquire Empire Bancorp.
As previously reported the transaction is valued at an estimated $111.6 million based upon closing price what October 24 2019.
The combined company at close is expected to have approximately 8 billion and assets 6 billion in loans and 6 billion in deposits. We explain you expect to close the deal and the second quarter of 2020 and on a combined basis. The transaction is expected to be accretive T. P. S like 10.
Percentand 2020 , 19% in 2021.
The combination the merger and the new branch opening will provide customers with an expanded network 24 branch locations with 16 branches in New York City five branches in Nassau County, and three branches in Suffolk County.
Referring now to slide five we remain focused on these key areas.
Exceeding customer expectations enhancing earnings power strengthening our commercial bank balance sheet, maintaining our strong risk management philosophy.
Acquiring Empire Bancorp.
Well further enable us to execute on these key focus areas and enhance the execution of our strategic objectives detailed on slide six.
Increase core deposits and continue to improve funding mix.
Manage net loan growth and focus on yield and best risk adjusted returns.
It has core earnings power by improving scalability and efficiency.
Profitable growth and expansion through a new distribution channels and business lines.
Manage credit risk.
And remain well capitalized under all stress test scenarios.
Moving on to slide seven total loans were 5.7 billion up 2% quarter over quarter and 7% year over year as we continue to focus on the origination have seen I loans with a full banking relationship.
These originations totaled 60% of loan production for the quarter and 52% over the past year.
So you know I balances have grown to approximately 19% of gross loans as of September Thirtyth 2019.
As you can see since 2010, we've achieved steady and prudent growth and I see it I business.
The growth in the C and I portfolio continues to offer several advantages, including continued diversification of our loan portfolio.
And as these are primarily adjustable rate loans the yield offers more stability.
So the net interest margin.
The composition of the pipeline was 62% adjustable rate product and the remainder fixed rate the interest rate on the mortgage loans in the pipeline has an average yield for 16.
The loan to value on our real estate portfolio at quarter end remains conservative at approximately 38% and the debt coverage ratio coming in current quarter's originations multifamily commercial real estate and want to poor family mixed use loans was 191%.
We continue.
I wanted to write commercial real estate loans in a prudent manner, which includes an interest rate stress test and conservative capitalization rates.
Multifamily commercial real estate and want to for family mixed use mortgage loans originated during third COVID-19 had a yield of 4.32% decrease of 28 basis points from second quarter, 19, and six basis points from third quarter 18 as discussed the decrease in the yield.
Was due to the getting inverted yield curve.
Positively we maintained our asset quality as these loans had an average loan to value ratio of 40% and an average debt coverage ratio of 191%.
We remain committed to our strategy of focusing on C.N. I loans commercial real estate loans and multifamily.
And third COVID-19, these loan closings represented 60%, 17% an 18% respectively.
All originations, while maintaining conservative loan to value in debt coverage ratios.
Slide eight highlights the evolution of a funding mix as the percentage related to see these and borrowings has decreased.
When we need to access the wholesale funding markets weekend advantageous Lee latter route the liabilities for longer terms.
Core deposits increased 4% quarter over quarter, and 10% year over year totaling approximately 70% of total deposits at September thirtyth compared to 37% at December 30, Onest 2006.
The loan to deposit ratio for the third quarter 2019 was 115.6%.
We believe the acquisition of Empire Bancorp will enhance this ratio and improve our funding costs.
On slide nine you'll see the deposits increased approximately 2% quarter over quarter, and 6% year over year, driven by now money market and non interest bearing accounts.
Core deposits increased 10% year over year, and 4% quarter over quarter, we continue to focus on the growth of core deposits with an emphasis on noninterest bearing deposit accounts.
<unk> increased approximately 6% year over year.
Non interest bearing deposits <unk>, nearly 422 million represent approximately 9% of total deposits.
Additionally, in order to continue to diversify deposit gathering channels, we are improving our digital online and mobile offerings as part of our overall digital strategy the strategy.
Will improve our customers overall banking experience with us we expect a new technologies to be fully operational in the first quarter 2020 .
Turning to slide 10, we continue to develop our ethics strategy within the Asian market. The Chinatown branch is less than a year old and continues to track to targeted levels in the fourth quarter will open a new branch in an attractive Asian market, an excellent New York.
This will be a further expansion all our successful ethnic strategy that enabled us to grow more than 18% in deposits within the Asian markets.
We continue to have a strong focus on this community, where we have over 700 million in deposits at branches that service Asian communities, which as you may recall have a lower cost of funds then our total cost of funds.
As well as over 550 million in loans.
We continue to capture.
Strategic growth opportunities within this market aided by our Asian Advisory Board.
Moving on to Slide 11, net interest income for the third quarter of 2019 was 39 million down nearly 3% quarter over quarter due to net interest margin decreasing eight basis points quarter over quarter to 37.
Core net interest margin was to 33 also down seven basis points quarter over quarter, driven by higher cost of funds and loan pricing competition.
On slide 12, we highlight the strategies, we're using to support NIM stabilization.
One is related to improving the yield on the loan portfolio.
As a reminder, we have over 2 billion of loans schedule to upwardly repriced 2021 at an average of 47 basis points. These repricing is not repriced to the full contractual rate, but will reprice between the marketing contract price as loans refinance.
Additionally, as previously covered.
Second component of the stabilization relates to our swap strategy the interest margin.
Supported by in the third quarter by interest rate swaps totaling 897 million, which benefited the core NIM by three basis points.
Importantly over the long term will position our balance sheet to be more interest rate neutral, which allows us to seize opportunities as we continue to actively manage funding costs.
And evaluate strategies to further strengthen our balance sheet in all interest rate environments.
Moving to slide 13, as you can see at quarter end.
Our average news CD cost was less than 2%.
It was approximately 1 billion of retail Cds maturing before third quarter 20 at an average rate of 2.33%.
Even more promising is that we have an opportunity to move some of our maturing Cds into core deposits, which have an average cost of less than 1.5%.
Our average current cost of all new deposits is 1.56%.
Moving to slide 14 third quarter expenses decreased by over 4% year over year end quarter over quarter, driven by our continued focus on expenses and the FDIC small business assessment credit.
Efficiency ratio was 59% in the third quarter compared to 61% in both the second quarter of 2019, and the third quarter of 2018, continuing to manage expenses and improving the NIM will assist us in achieving our non long term goal.
On an annual efficiency ratio in the low to mid Fiftys.
Continuing on slide 15, the ratio of noninterest expense. The average assets was 1.49% in the third quarter compared to 1.58% in the second quarter and 1.69% <unk> third quarter 2018. The company has historically maintained relatively stable ratio of non.
Interest expense to average assets.
We remain focused on continuous improvement and look for opportunities in our operations.
Efficiency gains and expect to share best practices and further gain efficiencies from our pending acquisition of Empire Bancorp.
Regarding taxes for 2019, we approximately at an effective rate between 22 and 23%.
On slide 16, nonperforming loans were under $15 million, a 1 billion dollar decrease quarter over quarter as credit quality remains one of our core strengths in the third quarter net charge offs were under 160000.
<unk>, we recorded a provision <unk> point, sevenmillion, driven mainly by growth in the scene I portfolio.
We are a historical seller of nonperforming credits and record charge offs early in the delinquency process.
Our strong credit quality metrics.
Resulted in our coverage ratio increasing to 150% from 129% as of December 31st 2018.
Continuing on slide 17, the current portfolio loan to value is less than 40% and the bridge loan to value of our nonperforming real estates.
Loans was approximately 34% based upon the value of the underlying collateral at origination.
We do not adjust the appraised values for increases.
Given the low loan to value associated with the nonperforming real estate loans, we do not foresee an increase in related expenses.
Slide 18 shows 90 day delinquencies as a percentage of loans originated by year overall, our credit quality remains pristine as you can see the results of our strong underwriting discipline was just seven loans delinquent greater than 90 days for the past 10 vintage years.
Furthermore, on slide 19 credit discipline is paramount to our consistent profitable growth and Flushing as demonstrated superior credit metrics over two decades and multiple credit cycles.
Now turning to credit quality on slide 20, our credit Remembrance metrics remained strong this quarter.
As you can see we have a strong history of maintaining robust capital levels with low risk balance sheet.
On slide 21, I would like to conclude by reviewing why we remain well positioned for can 10, youd consistent and profitable growth.
With the pending acquisition of Empire Bancorp, the pro forma combination of our banking franchise lowers flushing overall cost of deposits as well as improves our loan to deposit ratio.
The merger is expected to enhance our core earnings power with significant revenue opportunities and cost synergies.
With expanded presence on long island.
We continue to see positive trends, including growth in the scene I portfolio as we move our balance sheet toward more floating rate seen I business and a continued strong loan pipeline.
Our swap strategy continues to be an important component in mitigating NIM compression and reducing the liability sensitive tivity of our balance sheet.
Our long term goal is to move towards being interest rate neutral, which allows us to take advantage of all interest rate environments.
We have contain non interest expenses in this low rate environment.
The investment in our Universal banker models paying dividends Universal bankers are spending more time with customers. The additional time has resulted in branch sales increasing approximately 30% in total.
And approximately 45% or bear branch employee.
Our ongoing focus on developing and maintaining a multi lingual branch staff to serve our diverse New York City customers is a key advantage the New York City market.
With that strong Asian customer base continues to represent a significant opportunity for us.
Our credit quality remains pristine.
In summary.
Our vision remains consistent and that has to be the pre eminent community financial services company in our multi cultural market area by exceeding customer expectations and leveraging our strong banking relationships.
Overall, our management culture, and track record attractive markets and customers strong financial performance and continued execution or strategic objectives.
Well positioned the company very well to further.
For consistent profitable growth and long term value to our shareholders. We will now open it up for questions operator, I'll turn it over to you.
Thank you we will now begin question and answer session to ask your question you May Press Star then one on your Touchtone phone. If you are using speakerphone. Please pick up your hands that before pressing the keys to withdraw your question. Please press Star then too.
Our first question today comes from Mark Fitzgibbon of Sandler O'neill Unpartnered. Please go ahead.
Hey, guys good morning.
Hi, how are you on by the way Susan is here she wasn't able to make it for the Oh for the a recording but she is here to answer questions. Okay. Super a couple of questions related to costs first I'm curious the incremental costs associated with the digital transformation strategy is that kind of in the number.
He is now or is that something we should look for in terms of incremental costs.
It'll be incremental cost at the beginning of 20 twice if the project won't be live until then we won't have that expense hitting our you know until that time frame.
And then also season what about the.
Hicksville branches is that most of the costs for that location already in the numbers.
The again that location won't be live until the fourth quarter. So most that's going to be additional 2020 expense.
Okay.
I'm curious another local bank had an issue recently with contractor loans I Wonder if you could help us think about you know your exposure in that in that area.
It is minimal to close the nothing.
Okay.
And then as you think about the margin.
No and all the moving pieces that you have.
Well, we see a little bit more margin compression in Fourq, you and then maybe starting to stabilize Q1 is at a reasonable expectation.
I think it's going to be a you know clearly we are anticipating some good news on the deposit side of the business based upon some of the comments that we had at the during the during the presentation. So that coupled with you know what what's the fed wine.
As of doing this week Willow, we expect to see some help on that side. A you know simultaneously of course, we've got the the inverted yield curve, that's giving us a little pressure on the on the loan side, but we expect to see some some help a into the beginning of the year.
So so a little more compression in Fourq, you and then starting to benefit Q1 is that no that's probably what <unk>.
What's the most reasonable expectation at this point okay.
Thank you.
Thanks, Mark Thanks.
The next question today comes from Steve Comrie, Oh Gee Research. Please go ahead.
Hey, guys. Good morning, good morning, Dave.
That's right.
I appreciate the commentary.
Branch in fixed Phil I was just wondering is it fair to say that.
Last branch expansion before.
I can deal close or anything else you guys are due to the bridge between.
Well, we're looking at potentially one other one another site.
But we haven't finalized that at this point in time.
So so this one and then maybe one other.
<unk>.
That's correct to May say, okay, yeah, that's that's actually.
Thank you. Thank you.
The next question today comes from Collyn Gilbert of KBW. Please go ahead.
Thanks, Good morning, everyone. Good morning.
Just first on <unk> question on on Slide 12, and John you referenced this in your opening remarks, just about the repricing rate on somebody's or loans that are coming due over the next two years.
Just so that what you're showing the data that's I presume that repricing rate is purely calculated on the contractual.
You know pricing dynamic is that how you're assuming what that reprice rate will be yes, yes. That's the that's the contractual a repricing on a predominantly our real estate loans okay.
But how do you how do you balance that with the likelihood that these loans will probably end up refinancing into a lower yielding product right I would assume that.
You know if there if rates are much lower than that I, I guess I'm struggling as to why they would refinance into those high rate products. When the market is so much lower and I would assume that's kind of a dynamic maybe that we've been seeing in the loan book as well.
So there's a couple of there's a couple of diet dynamics going on here. One of course is the is the mix and so the so these rates imply a certain mix of the portfolio that is because that is coming due and as or as a result, those may not.
Match perfectly with a with some of the loans that are coming on data that are coming on or right. At this point in time, just because of mix change obviously.
You know multifamily is coming on or are coming on the books in general are lower than these then these rates. So this is not clearly all multifamily that's a that's moving so that's the that's amid major reason for the for the difference the other thing is that.
Remember that many of these loans may have prepayment fees associated with it or they may have fees associated with.
The changes that that that customers have two or fees the customers have to pay associated with bringing on a new loan so that turns out to be some leverage for us as we negotiate rates.
Well I think it's expensive for a customer to refinance the new loan of to go to a new bag and have to pay the appraisal the lawyers and all those call. Your collection set all that the associated with with originating alone.
Okay, Okay, and then Oh, so Susan just trying to reconcile so you know again on that same slide you guys had indicated that that the swaps ski if providing a three basis point NIM benefit, but then if you look in the press release.
And you know the offset that provided didn't the yields schedule I think would indicate closer to like an eight basis point drag. So just trying to connect the dots there on on the swaps and how you're thinking about.
That how your quantifying that three basis point benefit.
So that Mr basis was I'm not sure what you may have a quantifying what are putting it through the NIM. So if you look strictly at the at the swap exiting out any fair value measurement. It has been beneficial to the NIM by three basis points all the drag on it has been based on the market.
It in the macroeconomic environment that we're operating in that's that's pulling it down the other way.
So the theory behind the swap was was correct.
Okay. So I guess so [noise].
So you're saying the three basis point benefit to the NIM is totally irrespective of the rate environment, because now that we overlay the rate environment. There, there's actually a negative yet irrespective of the fair value adjustment.
Okay. Okay. Yeah, obviously, it's all have rate environment, playing into it but that irrespective of the fair value adjustment that we have to take okay. And then how should we think about kind of the impact of these swaps going forward to the NIM. John you know your indication that NIM could compress in the fourth.
Quarter, and then expanded 2020, what is the assumption there Tom point when these thoughts then become in the money and and.
You know even with the fair value Mark that we see that <unk> that.
Drag reversed sure. So if they the yield curve is in burden. It at this point in time, it's a flattens will will a will pick up a you don't will pick up something on these valuations if we get a any steepening of the yield curve. It all we'll get a significantly more.
And so so the movement of the curve is going to have an impact and the also as time goes on there's.
A time value implicit in a in these instruments. So they have less of a you know they tend to have less of an impact.
In general.
Okay. Okay.
And then just tying back to the Empire deal and I apologize that wasn't able to dial into your call on on Friday on but just.
I think kind of it at first glance at and I'm struggling to get anywhere close to that 19% EPS accretion. So just a couple of questions. There number one is what were you using or what S base, where are you using for 2020 to assume 19% EPS accretion.
So they they had given us a they had given us in there.
In there.
And one I, if I said 2020, I apologize them at 2021, the accretion in 2021 a 19%.
So they they had they had given in their due diligence a a forecast a forecast of their earnings the basic major movements for us our.
And then of course for US we used a the mean analyst estimate of $1.68 for refer 20 2020, just so we had recognizable you know at least recognizable numbers for us.
Then on top of that we have a 50%.
50% reduction in and their costs and we look to loan up their.
Excess liquidity up to 100 per 100% of 100% loan to deposit ratio on the on the Empire side. So those are the major those those are the major movers, okay, sorry, so John the I'm talking about 2021 accretion so 19% so.
What would be the mean estimate you guys are using for 2021 to then assume 19% increase over that for you guys.
Why don't I don't have that often I don't have that off the top off the top my head, but again it would've been the a they you know the the analyst estimates that are the most recent Adam analyst estimates that are out there and then get on the differential between the 10% and 2020 in a 19% in 2020.
One is the phase in of those of those cost savings over the.
Over the the first year and the rent and the ramping up of the and the ramping up of the loading the excess liquidity.
Okay. So I guess I'd say kind of that another question, just sort of what I'm sort of balance sheet, NIM assumptions or even eni <unk> to get there so I guess.
Is there anything that you could you could offer there I mean.
Yeah, and maybe we could talk offline, but I just didn't know if there is that little bit some other metrics you could offer to.
Yes.
We assumed that we we kind of fix this.
Kind of a stable environment for interest rates, we weren't going to project.
I'm trying to project interest rates.
Okay. I guess also to your point on John too. So if if on if Empire I guess, maybe what their assuming net income because I guess they were like the last 12 months, it's been like three and half million. So there are things that are going on within that organization and maybe that's what you're alluding to Susan that it's gonna meetings.
The increase that three and a half million dollar net income level by 2021, just fragmented and along right. So if you recall I and there seems to me that their loan to deposit ratio is around 70, 580%. So if you take that extra 20, 520% to 25% loan it up I get it Atlas.
Out of cash in into you know alone that's where that's part of the equation a big part of the equation.
Okay, Okay got it and then I.
If you offered this I I apologize I missed it would there is there a seasonal estimate that you can provide pro forma with this.
Well for yourself and then what the impact will be with Empire.
Not at this time.
They were they were small business. They if they had stayed standalone they were not going up to adopt till 2020 to 2023, Okay and then when data. Okay. And then you guys. When will you be prepared to offer Cecil guide a with our fourth quarter earnings call. Okay got it.
Okay I'll leave it there. Thank you. Thank you.
This concludes our question and answer session I would like to turn the conference back over to John Baron for any closing remarks.
Well I want to thank everybody for ROE for calling in and Ah. Thank you all for the over the questions. As you know Susan and I are always available to go to Oh, well to answer any follow up questions you might have so once again. Thank you very much. Thank you.
[laughter] has now concluded. Thank you for attending today's presentation. You may now disconnect your lines.