Q3 2019 Earnings Call
Good day and welcome to the first Commonwealth Financial Corporation third quarter, 2019 earnings conference call and webcast.
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I would now like to turn the conference over to Mr., Ryan Thomas Vice President of Finance and Investor Relations.
Please go ahead.
Thank you Alex and as a reminder, a copy of today's earnings release can be accessed by logging on to ask Pete banking Dot com and selecting the Investor Relations link at the top of the page.
We have also included a slide presentation on our Investor Relations Web page supplemental financial information that may be referenced throughout todays call.
With me in the room today, or Mike price, President and CEO first Commonwealth Financial Corporation, and Jim risky Executive Vice President and Chief Financial Officer.
After a brief comments for management, we'll open the phone calls to your question.
That portion of the call we will be joining by Jane Grubin, Chief revenue Officer, and President first Commonwealth Bank brine care or Chief Credit Officer, <unk> Penske are cheap Treasury officer.
Before we begin like to caution listeners that this conference call will contain forward looking statements. Please refer to our forward looking statements disclaimer on page two of the slide presentation for a description of risks and uncertainties that could cause actual results to differ materially from those reflected in afford.
Looking statements.
Today's call will also include non-GAAP financial measures non-GAAP financial measures should be viewed in addition to and I thought it as an alternative for our reported results prepared in accordance with gap.
A reconciliation of GAAP to non-GAAP operating measures can be found on page 13 of today's slide presentation.
No I would like to turn call over to my price.
Thank you Ryan good afternoon, and thank you all for joining us today.
Third quarter 2019 core net income excluding merger costs.
29 point Sixmillion and it was $2.3 million over the second quarter core earnings per share of 30 cents for the third quarter was up two cents from the last quarter producing a core return on assets of 1.46% in a core efficiency ratio of 55.73%.
Oh financial Tailwinds included a net interest margin that increased one basis point.
The 3.76% noninterest income of 22.2 million and well controlled expenses also eating third quarter results was the successful closing and conversion of our previously announced acquisition.
A 14 Santander branches over the weekend at September six which provided low cost deposits, which would then used to pay down higher cost short term borrowings.
This acquisition is accretive to earnings profitability and deficiency.
Some headwinds to third quarter financial performance. However included hospitalization expense and slower loan growth stemming from higher levels of commercial real estate loan pay offs as an aside commercial loan production remains healthy. Additionally, mortgage indirect auto lending and that's been lending continues.
When you to contribute meaningfully to growth, while helping to offset margin headwind from lower interest rates loan growth year to date in 2019, a $334 million were 7.7% through September is within our mid single digit investor guidance and its five point.
4%, even when acquired Santan their balances are excluded encouragingly loan growth in 2019 is more equally yoked between our commercial and retail segments enabled by our investments in the mortgage an indirect lending business in several years ago as expected, our Ohio markets continued to deliver the law.
Good to share of our loan growth.
Specifically in the third quarter, we saw strong commercial loan growth in Cincinnati, and northern Ohio, as well as strong indirect auto loan production all across the Ohio led by Cincinnati.
Mortgage portfolio growth was strongest in or Pittsburgh region, but in total were still stronger for us in Ohio, and Pennsylvania as a whole I should also mentioned that deposit growth continued at a healthy pace in the third quarter growing its 5.8% even without the influx of Santan Derek deposits the positive.
Growth was particularly strong in commercial banking in Ohio.
The company a comparison of year to date financial results.
Paired to the same period last year shows how the earnings capacity at the company continues to improve.
The first nine months of last year, we realized approximately $8.1 million in security gains excluding those gains core earnings per share in the first nine months of 2019 was up 9% from the same period a year ago. We're on track to substantially grow earnings per share at first Commonwealth the seven.
But if you're also consider the significant improvement in returns and efficiency over this time period core D. P. S that are laid for example, we're only 43 cents and 68 basis points, respectively. In 2013, and our efficiency ratio was 60 point.
67.1%, it's taken in its an enormous effort of an Oh group a good people over the seven years, including things like a core system conversion in 2014, the tech the transformation of our retail branch network in 2016 significant investment in our digital.
Tools, a significant investment in a de novo mortgage operation revamping, our Sps platform to where we now are the number two and number three Sps lender, respectively in Pittsburgh in Cleveland.
We thoughtfully expanded our indirect lending efforts and we've intentionally created a more granular less risky commercial loan book of business.
And added five well executed acquisitions, we believe the financial results as a product of these strategic initiatives speak for themselves.
As I mentioned earlier, we closed on converted our branch acquisition in the third quarter and early results are promising post conversion weekend on September nine team had converted 44838 santan their deposit accounts with $471 million in aggregate deposit balances as.
Yesterday deposit balances had an increased to 477 million. That's an increase on the back end of an acquisition the planning and execution of this branch acquisition was superb more importantly, first Commonwealth now has over 24000 additional checking accounts in 14 bran.
Inches stretching from state College to Williamsport in Central Pennsylvania, with some wonderful college towns sprinkled in between.
As we look ahead to 2020.
A few thoughts follow to simply simply share our current vantage point and priorities for the year ahead.
First our core retail and commercial businesses as well as mortgage our first comment wealth advisors, our insurance agency indirect consumer lending and SPD businesses have performed well, but must continue to get stronger each one of them. Our digital approach must continue to get better every quarter. So they enable us to.
Compete against Nonbanks, Big banks, Fintech and big retail.
Third as always maintaining the highest up credit standards will be key to our ongoing success.
Particularly through the next or next credit cycle.
Increased focus on managing costs, particularly in light of expected margin pressure and fifth we plan to continue to see smart growth opportunities via M&A and prepare for recession, which is might be the time combined due to depressed valuations and with that I'll turn it over to Jim Russky our CFO .
Thanks, Mike.
As Mike mentioned core earnings per share 30 cents resulted in financial performance metrics. They were all strong for the quarter.
[noise] third quarter financial results benefited from that Santandrea branch acquisition in which we used to low cost deposits, we acquired to pay off higher cost borrowings as a result, our net interest margin expanded at a time in most of the industry is suffering from margin contraction.
Beyond the margin third quarter non interest income benefited from approximately $225000 and seasonal tax preparation fees in our trust business.
Non interest expense was impacted by a 524000 dollar increase in hospitalization expense over the prior quarter for the year to date hospitalization expense is running about $2.7 million more than the prior year period.
Now for some guidance.
We typically provide guidance as to our forward earnings expectations in the first quarter, but given recent events, we thought it might be helpful to provide some measure of guidance today.
First of all two thoughts for the remainder of this year.
First if the fed cuts rates today as expected we would expect an interest margin to hover in the mid three seventys in the fourth quarter.
Fourth quarter, we'll get the full benefit of a new low cost deposits, but on the other and each bed cut typically results in about four basis points of NIM contraction for us.
Secondly fee income will be affected by some seasonal slowdown in areas such as mortgage originations.
And there's the potential for a negative marks on our mortgage pipeline hedged in a falling rate environment.
Looking beyond this year, we can right. We can provide some measured guidance as to our expectations for 2020.
We expect that our long term loan growth will continue to be in the mid single digit range with an increasing contributions from consumer loan categories.
Deposit growth will likely trail loan growth, that's a newly acquired deposits allow us to implement more cost effective deposit pricing strategies.
And our forecast incorporate one rate cut either today or if not today before the end of year and then a relatively stable rate environment in 2020, with the 10 year Treasury hovering around 1.75% in our expectations in this context, our net interest margin will be expected to drift down to the mid three six.
These over the course of next year.
We will of course update this guidance as appropriate.
With that will take any questions.
[noise] questions operator.
Thank you so.
We will now begin the question and answer session.
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At this time, we will pause for a moment to assemble roster.
Our first question today will come from Steve Moss with B. Riley FBR. Please go ahead.
Hey, this is actually Nic do follow stepping in for Steve Moss how are you.
Good.
Hey, good show.
In terms of your pay offs here all commercial loans.
Just wanted to give some color around what you're seeing and in particular on this United business.
Yeah, we what the payoffs were primarily on the commercial real estate, we did have some in cnine.
Those were actually we exited three credits on the Cnine side of the business totaling about a $25 million. One we just felt the leverage was a little high and one was a an old line retailer and so little bit of that was a just credit control, but we're also seeing a little bit of strain on concern.
Function as well.
We do feel like the.
The pipelines and the production in the first three quarters was pretty even although looking on the surface.
The growth was much better in the first two quarters.
We are not stretching for credit and we are beginning to see some more strain, particularly on certain types of deal with higher loan to value, perhaps some non recourse and since winner slimmer spreads.
Okay.
Thanks for that.
Another question on margin.
Just.
Clarity around the deposit impact going forward.
Yeah, a lot of noninterest deposit growth this quarter outside of the Santen.
Santander acquisition.
Can you talk a little bit more about what drove that way seen there.
Yeah, primarily commercial banking and commercial banking more specifically in Ohio, and really just good sales execution and asking for the business Jane do you want to expand on that at all.
[laughter]. Thank you I think would become much better yes.
Creating true commercial relationships true corporate banking relationships, rather than buying the credit and so then I lots of credits and Salesforce.
Okay. Thank you I'll jump back into queue.
Our next question today, well come from Russell Gunther of D.A. Davidson. Please go ahead.
Good afternoon guys.
Good afternoon.
I wanted to circle back to the loan growth discussion I appreciate the comments on the dynamics in the quarter as well as your outlook for 2020 and here yet that consumer will will take a bigger piece of that a bigger driver, but curious if you could share growth dynamics from a geographic perspective.
Yeah, I mean, this will be a bit of slag, but I think when we look back probably.
Two thirds the three quarters of the growth is happening in our newer markets I suspect that that'll continue interestingly a lot of our deposit growth happens and are more traditional markets. So it's really a nice balance, particularly in community, Pennsylvania, which might surprise a lot of folks and on the business side again there.
So you might think of it as Pennsylvania seems to be funding the balance sheet that is growing in Ohio, but also as we saw seen our Ohio franchise, particularly this past quarter were pretty good deposit gathers.
Thank you for that.
And then switching gears on.
To the expense side of things up a bit of Ticky tacky question for you guys, but the.
Net occupancy number around four and a half million for the quarter could you give us a near term guide in terms of how that will trend you know now with the sentiment there deal closed doors that fully reflected in third quarter results.
No. It's not fully reflects into Turco results third quarter results would only reflected by about one month. They tend to peak 24 days worth of Santander occupancy expense.
Well get the full well have a full cost of the occupancy expense in the fourth quarter our numbers.
So we need given previous guidance on its whole cost.
And revenue expectations for the Santagata branches and I think the total amount of expense would be about a $2 million quarter and I think that the on top of that could have on intangible amortization costs.
About.
Oh Accordingly last quarter.
Okay, great. Thank you Jim I appreciate the clarification, there and then just as you as you look out to 2020 appreciate the thoughts that you shared.
I would imagine the topline environment still remains a bit challenging so curious as to any efforts or thoughts around what you could do on on the bottom line from an expense perspective.
Maybe offset some of the pressure there.
We're pretty good grinders, and we have lived lift operating leverage and every budget. So the extent that there's a strain on the topline we tend to actively look for.
Opportunities and we're working through our budget season here in the fourth quarter with that topic at the top of our list and how do we continue to create nice operating leverage. So we have I don't think our Uh huh.
I don't think earnings per share growth has been below.
10%.
Adjusting for acquisitions for the last five or six years. So I'm trying to just maintain that nice trajectory of.
And Oh earnings per share growth and expenses will be key.
Very good thanks, Mike and then last one guys a bigger picture just.
Curious to get your thoughts on on M&A here about 10 billion in assets, how you're thinking about that and so.
So your appetite from a depository perspective, but also have done a nice job with branch deals in the past and.
I think you might get an opportunity along those lines as well.
Well, our current trajectory of just organic growth and then the size of acquisitions, we've been doing we're still probably three years way.
And we're thinking critically about that we like the deals we've done we've looked at 25 to 30 to do five so we're pretty picky. It has to work for us financially and strategically we like rural Depositories and were pretty good at putting in a commercial.
Franchises in metro markets, and and enabling the growth there, but we just did funded with low cost deposits.
We have a nice mix of deposits and Jane and the team have really jumped up a good depository gathering kind of mechanism on the commercial side, which really helps us <unk>.
Very good alright, guys. Thanks, so much.
Hi, Thank you.
Our next question today will come from Stephens Wong of RBC capital markets. Please go ahead.
Good afternoon guys.
Afternoon I.
I apologize to I had what was the fourth quarter men guide I think I missed it.
A mid three seventies mid three seventies, okay, great and or do you do you expect that deposit cost Pete to this quarter and should cut to grind the its way down.
After today.
Yeah, we do I mean, that's you know it's little bit like a.
Slowing down a ship in the Ocean I mean, it takes some time to for the changes to take effect, so but yeah. We do expect the trend down from here.
Got it and can you remind us what you're generally what your deposit beta was the last cycle and do you expect it to be something similar this cycle.
Uh huh.
I got a positive data on the way up was in that 20.
And it probably would we wouldn't expect to be similar.
Okay, great fairly successful keeping deposit cost low through nine rate hikes. So there isn't that much room for us to go down, but I think we're gonna be pretty disciplined in terms of <unk>.
Deposit pricing and the recently acquired.
Deposit acquisition is lots to pay off our borrowings and meet the loan deposit ratio down below 90. So it gives us a lot of room to execute on deposit pricing strategies.
That's great to hear and then you guys had a pretty big gain on sale in the mortgage is a is this.
I'm going to kind of right size itself in the fourth quarter.
We are we really had to throughout the quarters in a row and the pipeline remain strong I don't know it'll be as high as the second and third quarter, but build or really the team has built a really nice business there that's pretty broad based across the.
For Metro markets, now and a lot of rural geography, and we really have some some good producers. So it's good foundation there for us in the guidance I was giving on that front was really based on what we typically expect every season, a fourth quarter towards the holidays, there's always a given the slowdown a mortgage originations.
Right right and then just last one from me your.
Your station see ratio guidance, a that 55% Mark basically looking at a fourth quarter run rate.
Given where rates are coming in do you guys still expect to hit that 55% Mark in the fourth quarter.
The goal, but Ah that's a long term goal we set it out there are probably two years ago [laughter], we're within a specific distance of it but indeed, well have some headwinds to that I think short term, but longer term I you know we want to get.
At 55 or less.
Got it thanks again for asking the questions and congrats on a great quarter.
Thank you.
And our next question today will come from Collyn Gilbert of KBW. Please go ahead.
Thanks, Good afternoon guys.
Good afternoon.
Jim maybe just following back up on a on the funding discussion and the opportunities that you have I had to view as it relates to kind of mix shifting what you've acquired from Santander can you can you dig into that a little bit more as you're in terms of what what your plans are kind of near term that you can do on on the phone.
Turning side.
Yeah, I'll just give me like an antidote are too like for example, we have like everybody else, we had CD specials.
We don't really plan to offer a lot of those in the future because we don't really need to and our deposit book is not particularly dependent on time deposit funding at this point to begin with.
But just a quick story, we had a CD specials that was coming due and.
We decided to see what the rollover rate would be on that without offering I kind of special to retain those deposits and pleasantly surprised that the retention rates are pretty high which leads us to think that maybe the rate seeking that haven't going on in the rate cycle as the rates were going up is slowing down a little bit and that takes a little pressure off on our deposit funding we another area that we.
I've seen.
Some of the smaller banks that I haven't really high loan deposit ratio still pretty aggressive in their pricing.
But we have so much liquidity, we can afford on the margin fill out some of those deposits to go.
Hopefully that helps yeah, Colin I also like what Jane and the regional presidents have done they probably have to deposits, we gather a commercial on the noninterest bearing side.
Okay.
Okay and do you can you remind me about your commercial I'm sorry, your municipal deposit exposure do you guys have a big slug of that it's about 10% total deposits.
Okay.
Okay. All right. That's helpful. And then just is still on that on the NIM discussion.
I appreciate that the loan growth outlook just within that two questions. One is are you I know, it's hard to predict but just given some of the behavior you've seen so far in and what you're seeing in the market.
Are you anticipating pay downs to kind of stay at this elevated level number one and then number two just curious what some of the blended loan origination yields are that you're seeing in the pipeline and and here in the book today.
I think we can layer hands on the blended we have a pricing meeting right up to this [laughter], but you have that's yeah. The bloody new origination rates are coming in the mid fours.
Okay. So some of that be interesting it all depends on the mix of origination. So and this is some of the consumer categories, where we've had some a net positive growth in the third quarter. Some of the origination rates on those are really holding up pretty well.
So I always goes into the mix, but that's what we're seeing right now.
Okay. Okay, and then just Oh go ahead go ahead, Mike you want to pay offs, yeah, but I do expect that we'll have a little strain short term on heightened pay offs.
But I you know the we have a nice pipeline here as we approach the fourth quarter at a little downdraft in the third.
We just feel good about the guidance, we've given a and weve purchased two quarters. We were on the higher end of that guidance, but I think we'll settle in you know mid single digits ER.
For the year and I'd also like the fact that it's more equally yoked between commercial.
And consumer and at the same time, we're not stretching on credit because we don't have to.
And so it just feels good.
Okay. Okay. That's helpful. Along those lines just in terms of the resi growth the resi mortgage increase this quarter. It maybe that was part lead you to sometime there I'm not sure, but just curious I presume you're the appetite is still to sell a lot of the Reggie production or or just I'm curious as to how you're thinking about the resi book.
As we go forward.
Yeah, this past quarter.
We sold a sort of a a just over 60% and kept a.
35 to 40.
And that's a little less than weve portfolio, probably over the last year.
Yeah just.
Long term kinda guidance or or maybe more near term kinda God I suppose we.
We we do like reaching some that mortgage production now because it gives us a little bit needed duration of the loan portfolio. So a 50 50 split.
Split of sold to a portfolio is probably right for us about right now keeps us keeps the fee engine growing for the gain on sale income, but also going to spend actuation portfolio. You mentioned the acquired loans from Santander, where.
Some of those are wonderful backed by one four family, but out of $100 million. When we acquired about 60 million was home equity lines of credit and just under 10 million was one of her family mortgage.
I might help us to look at the them yet that's helpful. Okay, great. Thanks for that Jim and then just to.
Clarify on the FDIC expense do you anticipate a similar credit in the fourth quarter and then normalizing in the first quarter of next year, how should we think about that trending.
We do expect he is a quarters with a credit so.
FDIC expense for us as you can notice from our income statement is about half a million dollars a quarter and should we expect to offset that almost entirely in the fourth quarter as of today. There's about 1.3 to 1.4 million hours left so we use half million of in the fourth quarter and the remainder of that in the first and part of the second quarter next year.
Okay. Okay.
Okay.
That's helpful and then I'm.
Just it looks like there was a little bit of a bump up in criticized loans during the quarter was there anything in particular driving that.
No I think it was modest.
The.
I can't well lay my hands on it the second there probably isn't Brian do you want to speak to that.
Sure Mike, Yes, we had we had two credits that we are that we moved to OEM, we watch it closely.
And continue to manage and monitor our portfolio.
Our numbers are very reasonable relative to our peers.
Yep Yep, Okay. Okay, and then just finally I'm Jim on tax rate any update for what I think like 19%, maybe as what you had guided to before is that still the right tax rate yeah, that'd be the exact into fourq. It helps you at 19.54%.
Okay.
Great all right. That's all I had thanks guys.
Thank you.
And our next question today will come from Scott There bedding and Scattergood. Please go ahead.
Hey, good afternoon guys.
Good afternoon.
Most my questions have been answered but.
Just to first could you provide or what the purchase versus refinance a breakdown was for your residential mortgage production.
It was Jane today, we're at about 80 20 purchase to be bye.
What terrific about our mortgage.
Yes.
That's because it was de Novo in 2014, there's very little in the book to be financed so it's all in and stuff.
Second strategic advantage is there's a really nice construction loan program. So.
When we book alone, we're still going to have additional funding that occur throughout the life below because its construction per so.
It's going to be a nice business for us and I think that construction business will help smoothed out any seasonal bump that you might see in it.
Local traditional seasons mortgage portfolio.
Actually I know, that's that's very helpful color.
And then Kinda lastly, I was just wondering if you could you give any thoughts on kind of what the dynamics you're seeing since the closing of the Santander deal and has there been any material attrition of the deposit accounts.
Or any other you know.
Developments that would be important to note there.
Ah it's been very positive I think we acquired a disclosed $471 million with deposits and we have 477 as of yesterday. So we've actually grown them through the acquisition, we like the action, we're seeing already on the commercial side and what their commercial calling efforts both on the loan.
And the deposit side. So it's very positive we haven't lost a lot of talented branch managers up there, which are very important to us.
And we've been able to secure a lot of the talent and we're really well well led with a good.
Market leader up there that came from us on there.
Actually no that's very helpful. Well I appreciate the color guys and congratulations on a good quarter.
Thank you.
And again, if he would like to ask a question. Please press Star then one our next question today will come from Frank Schiraldi with Sandler O'neil. Please go ahead.
Good afternoon.
Oh.
I just wanted to.
Just a follow up on the margin.
Did you probably saw since we've been on the phone here. The fed has cut rates a again today and or did you say that you had one more rate cut back then over the next 12 months.
We did so our in our internal planning we had one that was going to happen before the end of the year. So that's today, but a in our go forward planning a there's no more after that so our plan is this the hope this could change it will update guidance is appropriate but for now we think there's a stability in the fed funds rate and like I was saying.
They my prepared remarks said, we think the 10 year old the around 1.75 in that context is really important as you think about our NIM guidance going forward.
Okay. So I guess, it's just the you know in terms of getting down maybe I think you said to them to mid.
Three sixtys by the end of 2020 that I guess would be driven by the shape the yield curve.
[noise], yeah, and maybe to really driven by replacement deals Sloan replacement deals not not by expectations of further rate cuts.
Okay, and then just a you know.
The best what do you think the best way to model. If you. If you were to put another rate cut or you know a assuming other rate cut as it basically a step from function down you mentioned, a four basis points. So you know one another rate cut is that a pretty reasonable assumption for yeah further contraction to them.
Yeah, I think that's a pretty reasonable guide you know in any given quarter depends like like today. It depends when the fed does it in a quarter says it.
They do at the beginning to 40 stocking effect for most of the quarter and then there's some follow on effects in subsequent quarters, but a lot of the replacement yields stories, driven unless you said by the shape the OCF after that so.
Obviously, they actually happened while the feds actually after a while we were on a call today, So I haven't seen with announced with it so much depends not just on the actual cup on a forward guidance because because if there's an expectation of future rate cuts since we all know.
LIBOR starts respond to that and then so our library or a index loans I will start responding based on expectations of future rate cuts and not just but the current cup in this current quarter. So that all those into the next.
Okay and I was just one follow up on on efficiency ratio, you mentioned and you've talked about in the past few years your.
Our goal of 55% just as we as we look at 2020.
And you know given some margin compression at least seems to be in store.
Given your guidance do you think it would be you know do you expect to be a challenge to move the efficiency ratio lower in 2020 get operating leverage in 2020 or do you think there's enough flexibility elsewhere on the expense line, but that's going to continue to be a goal a year over year here.
We're in our second of probably a three budget runs this year as we plan 2020, and beyond and I have a better answer for you, but [laughter] 30, or 60 days or.
You know were.
We're going to maintain operating leverage and continue to improve the company. The other thing is as we have.
We have a nice broad base, a key businesses and a in a broader base of now consumer businesses and.
So we feel good about that that that's a little.
That's a little bit more expensive those some of those fee businesses have higher efficiency ratios, but we also have a good portion of our business now, becoming we're not interest income, which I think longer term is important.
Okay, great. Thank you.
Thank you.
Ladies and gentlemen, this will conclude our question and answer session. At this time I'd like to turn the conference back over to Mike price, President and CEO for any closing remarks.
No I always say this but we're just grateful you're pretty your coverage and your interest in our company, it's meaningful and it makes us better and thank you for your input from time to time and.
The good folks that you introduce us to Ah. Thank you so much.
The conference has now concluded we thank you for attending today's presentation and you may now disconnect your lines.