Q2 2020 Cadence Bancorp Earnings Call
Welcome to the cadence Bank Corporation second quarter 2020 earnings Conference call. All participants will be in listen only mode comments are subject to the forward looking statements disclaimer, which can be found in the press release and on page two on the financial results presentation.
Both of those documents can be located in the Investor Relations section at cadence Bancorporation Dot com.
After today's presentation, there will be an opportunity to ask questions. Please note. This event is being recorded I would now like to turn the conference over to Paul Murphy, Chairman and CEO. Please go ahead.
Well good morning, and thank you all for joining us for second quarter 2020 earnings Conference call. Joining me today on the call as usual or Valerie. Thank.
Thank you David.
I'm going to kick us off with an overview of our operating results of course, we're going to talk at length about credit.
Our latest observation from now and going Cobot 19 stress.
David Blacks Gonna go into detail with year on work that's been done during the quarter around assessing risk and the conclusions from those efforts salary is going to cover the financials in more detail and they will have see concluding remarks.
Start with our pretax pre provision net revenue for the quarter totaled $95 million, which was up modestly from 93 million last quarter. The key drivers of the solid operating results are mainly nonperformance. It really continued cost discipline.
A pre provision pre tax our late ended the quarter at 2.06 down five basis points linked quarter are pretty good on a comparable basis. We ended the quarter. What the now 351, it's down 29 basis points, but when you consider the P.P.P. impact lower rate environment, all banks are dealing with.
The decline was largely offset by our continue repositioning of our deposit base in hedging as we previously reported we terminated our highly effective net interest rate color in the first quarter and lock down a 261 million dollar gang will realize over the next several years.
So all things considered I feel like we're managing them relatively well salaries going to speak in more detail about young loan yields and the impact of PPP on them in the quarter, but.
Overall, we're pleased with our execution here.
Turning to expense management <unk> adjusted expenses are down 5.1 day and linked quarter. This allowed our efficiency ratio to improved to 47.9% nearly 200 basis point improvement over the first quarter.
This is aided by reductions in compensation and just get overall expense control.
We expect our efficiency ratio to remain attractive as the management team is very focused on expense management and will be so and they in coming quarters.
With respect to loan growth them fast maturity of their loan growth or 2% for the quarter was the billion dollars in P.P.P. lines.
You take out the PPP loans, our portfolio would have declined by 725 million linked quarter.
This was partially by design as we're reducing energy in restaurant, but we're also seeing borrowers proactively paying down loans, we've seen several borrowers who repaid to fetch a revolver drought draws from the first quarter, which is a healthy data point.
And then last just overall there there's lower loan demand there less expansion planning and there's a lot of kobin caution out there.
Another positive for the quarters, our liquidity position at a straight the nicely our loan to deposit ratio ended the quarter, 85% down from 92% last quarter, the deposit growth and deposit mix was really incredible very strong point for the quarter portfolio grew 11% of the second quarter non.
Barry increased 1.3 billion now, 32% or the mix of 500 basis points linked quarter, just yeah, I would've thought that achievable.
And not all of that have stayed clearly because we know some of that's PPP, but we have seen a lot of new accounts.
So deposit cost declined 50 basis points linked quarter total funding cost declined 46 basis points. So these things really helped us offset the lower loan yields and supported our are attractive NIM.
So next let's turn to capital on capital remained strong at cadence and despite a challenging credit environment, we'll talk about more moment, but the bank is really I think well position to mansion pandemic, our tangible capital equity ratio remains over 10% and despite the material increase in our provision this quarter three.
Our four primary capital ratios increased from last quarter.
So as a result of our solid capital base. The board approved a nickel dividend payable August seven two the holders July 31st.
Let's talk more about credit so, whereas it was mentioned at the outset, we we took a thoughtful and clearheaded view and really a diligent approach to credit this quarter.
Reminder, we've got a very seasoned team banker, we've been through stress, but like this before how maybe not like this but certainly been through many cycles before and so we're reviewing our credits with a a critical eye and we've deployed extensive internal and external resources to just really dig deep and be sure.
Dan.
Where we are are situated so result of all these efforts led us to a provision of 159 million for the quarter and that I think as a reflection of the reality of the environment and some exhausted credit work.
The reserves are now increased over 50% in the past quarter, well net charge offs event in the mid $30 million range for the last three quarters, roughly 94 basis points annualized for the second quarter.
Non performers were up 65 man 35 basis point similar to what we saw in the first quarter, but over the last two quarters. We've expanded our reserve by over 250 million that brings our ending reserve to 2.71%.
So let's talk now about some of the portfolios, which most impacted restaurant and energy first restaurant now stands at right around $1 billion, excluding 141 million a PPP loans the portfolio would have declined 78 million linked quarter.
As many of you will recall from having studied US 68% of this portfolio is too quick service restaurants. The vast majority of those are backed by the top five strong brands, we call them Taco Bell Pizza Hut, KFC Burger King and Wendy's QSR comp sales for the second quarter across these franchises were down in April.
But showed nice improvement in May and June and in many cases have recover to to prior year comps. So the overall QSR space has remained relatively healthy and a pizza as Ben piece by the way roughly 11% of our portfolio has been possibly impact and then we've seen some sales there quarter over quarter.
Is that our but low teens not year over year basis.
So yeah, I'm, sorry year over year.
A full service concepts casual and family dining trends continue be challenge and we're facing it's really tough year over year comp sales. There. This portfolio now stands at 191 million down from 214 million linked quarter and it still roughly 20% of our portfolio down just a touch us per se.
Outage.
So while we do see some improvements later in the quarter.
We're just very clear and very real about the caution on this part of the portfolio with quarantine restrictions being mix in different parts of the country.
That this would be how much risk portion of the business I think.
Turning to energy recall that we improved the mix for the portfolio over the last several years, we peaked at about 18% of loans or five years ago. We're now just under 11 now have bigger increase in midstream and a lower allocation to NP.
We need to portfolio commitments declined to 188 million or little over 8% during the quarter.
The reduction are driven by a combination of things, but it's really required amortization some deleveraging researchers and consolidation, it's just happening in the industry.
So while we've seen in the business number bankruptcies really throughout the industry. We have not had any cadence clients declared bankruptcy in the first six months of the year.
It is our plan and our expectation that this portfolio will decline by 15% to 20%.
Through between now and the end of 2021, so again will be from scheduled amortization consolidation.
Some refinancings that we think are likely to happen.
So overall, we have relative confidence and in the health of this portfolio for for a number of reasons and at first our portfolio, our energy portfolio as far different than any other back were 62% midstream.
Im not aware of anyone that is anywhere close to that allocation and we're pleased with that by the way. So midstream companies as we've talked about in the past for typically contracted cash flow businesses.
They are not directly tied to the commodity prices there they are impacted there no denial there.
But a key point, we've made before yes, the low leverage so debt to cap for the portfolio at the end of the second quarter is 37% down from 39% at the first quarter. So these midstream companies had gone from very well capitalized very low leverage nicely profitable to some interrupt.
Since we've had some shut in production early in the quarter and and that's stress you could you know we're not suggesting there is no stress, but what we see now as the quarter Rolls forward is that most all the production that was shutdown as either come back on were scheduled to do so quickly.
And then really the stress in the borrower covenants has been minimal.
So we're pleased with the progress there.
Sorry about empty, we just finished the spring borrowing base redetermination process.
Say it went relatively well from our perspective, you saw borrowing basis declined between 10 and 40%.
We have a core seen some improvement in commodity prices, but commitments are down 58 million 13 in half percent linked quarter. So many of our borrowers are actively hedging and.
Overall, we feel okay about about these results that same general MP feels.
Good bit better than it did even just a quarter ago.
So.
Continued high degree of scrutiny and high degree of focus on that portfolio.
Lastly energy services.
Would have decreased about 39 million, we're not for the PPP loans and I would I would summarize the saying that the trends are somewhat similar to MP, we're seeing stress, but manageable and we think this portfolio is one that would take a bit longer term recover.
So let me now turn the call over to David to get some context on credit migration David.
Thanks, Paul Good morning, everyone.
Im going to walk through credit migration for the quarter discuss the drivers of our Twoq supervision.
Give an update on loan modifications and highlight some of the tangible actions, we've taken related to credit over the past year.
As Paul previewed.
We did see significant migration and second quarter, but as we get into the details you'll see that it wasn't sectors, where stress was anticipated those aspects of the economy, most acutely impacted buck overnight team.
Over the course for the quarter given the rapidly evolving environment, we conducted some very intense and critical credit work, both through our normal processes and through in depth incremental reviews.
Therefore, we believe this migration as a realistic reflection of the elevated risk in a very challenging macro environment.
Criticize loans increased from the prior quarter for about 334 million to just over $1 billion or 7.4% total loans.
Approximately two thirds of this increase was driven by restaurant.
And two thirds of the restaurant migration was in the non QSR space as on premise dependent family and casual sectors have been much more severely impacted by the economic shut down.
34% of the restaurant portfolio. Excluding PPP is now criticized which is consistent with prior expectations a stress in this line of business.
The majority of the remainder of the increase in criticized loans was driven by energy and more specifically MP.
Three also contributed 30 48 million.
To this increase in criticized which was almost exclusively hospitality.
General seeing a actually offset some of this negative migration.
Reducing by 70 million due to several upgrades to pass in the quarter.
Classified loans reflect a similar trends increasing 178 million from the prior quarter ending at 557 million or 4.1% of total loans. This migration was again primarily related to restaurant energy sectors not.
Non accruals increased 65 million from the first quarter to 224 million.
Linked quarter increase was primarily due to energy restaurant and health care.
The majority of our non accruals are comprised of seven relationships with greater than 10 million of exposure, representing 60% of total npls.
Well, a significant linked quarter movement at 1.6% of total loans silver very manageable number given our capital and reserve levels.
Net charge offs were 33 million or 94 basis points annualized.
And all material charge offs in the quarter, we're on nonaccrual and rated substandard or doubtful going into the quarter.
While still elevated relative to our long term expectations the amount of charge offs was inline.
With the prior three quarters.
Provision.
In the second quarter was 159 million producing an ending reserved total loans of 2.71% up from 1.83% and the first quarter.
The provision in the quarter was significantly impacted by Moody's baseline economic forecast, including assumption for depressed oil prices and a meaningful meaningful negative shift and the outlook for commercial real estate.
Additionally, management used qualitative and environmental factors to overlay portfolio specific assumptions, most notably for restaurant energy and commercial real estate collectively the forecast model and these assumptions drove approximately 60% of the provision for the quarter.
Other factors included charge all specific reserves on impaired credits and general negative.
Great migration impacting the quantitative output.
I also think it's important to point out the allowance for credit losses as a percent of Npls improved on a linked quarter basis from 1.54 times to 1.65 times.
Good related loan modifications as a 630 totaled 2.4 billion or 18.2% of the portfolio.
1.5 billion of these mods, we're in Sienna with the largest dollars at 707 million in general sense, given the size of that segment and highest percentage and restaurant with 40%.
Or 462 million or that portfolio being modified.
On the other into the spectrum only 4% of our midstream credits have been modified.
Course, real estate had $570 million and modifications with highest percentage and hospitality 60, 61% representing loans of 155 million.
Only 6%.
A 48 million of our multifamily portfolio, our largest commercial real estate portfolio has been modified.
Over 20% of our modifications have made a payment post their modification date.
In the quarter, we almost also completed our fourth iteration of bar level covert survey work.
With 11.2 billion of total commitments included in our scope.
The pulling penetration was high and we're tracking potential impact in a very granular fashion.
Taking a step back I wanted to touch on a myriad of recent risk actions taken by our team most of which were embarked upon well before kobin.
We've made enhance this loan policy, particularly around leverage lending.
We've adjusted hold limits to more conservative levels with an emphasis on higher loss given default exposures, we modified concentration limits to drive more asset diversification, we meaningfully reduce loan segments were higher risk characteristics over the past year, most notably leveraged loans without a moderator is down 276 million.
33% decrease year over year.
And we reduced shared national credit exposure about 143 million over the past year.
The team has expanded the scope and frequency of credit reporting to both management and board, including the implementation of enhanced stress testing.
We also hired a new veteran leader for special assets group and expanded senior resources dedicated to the special assets team.
Lastly, we engaged a highly regarded third party with extensive expertise in energy and large CNR lending to perform a detailed blown level review.
Portfolios most impacted by covert.
Specifically focused on all three segments of energy restaurant healthcare and hospitality.
We conducted a buyer sample with an emphasis on larger exposures and adversely graded credits.
We believed an external review will be prudent given the current level of macro uncertainty the exercise proved to be very constructive provide incredible challenge and ultimately confirming confirming.
Our statements we've made regarding our teams experience prudent risk culture, and how we are appropriately grading our portfolio during this unprecedented times.
In summary, we continue to see uncertainty, but we also see signs of customer resilience.
Provision in migration for the quarter were dramatic but.
But we believe a realistic reflection of elevated risk during this time with <unk> economic pressure and pandemic.
We acknowledge there will undoubtedly be some level of continued stress in the quarters to go but we will approach this stress with as wide open and now I'll turn over to Valerie.
Thank you David as Paul noted, our adjusted pretax pre provision net revenue continues to be strong 95 million, an increased 2 million from last quarter, reflecting strength in our net interest income and expense management.
Our stable PPNR, our robust capital position and our allowance for credit losses at 2.71% I'll provide a solid foundation in this volatile environment.
The second quarter adjusted net loss was 57 million or a negative 45 cents per share losses due to increased lung provisions, which were up 75 million or 9% for the prior quarter 259 million in the second quarter.
This provision actually brings our allowance excluding the guaranteed PDP loan to 2.93%.
A few comments on our balance sheet like a lot of other bank. This quarter, we thought massive influx of deposits in the quarter up a billion sick.
Billion three of that in non interest bearing.
That's the same time, while we did find a billion dollars and PPP loans, our core loans declined 725 million, primarily due to pay downs and defensive draws that were taken late in the first quarter and other pay down really in both our stress and on stressed portfolios.
The result of all deficit that excess liquidity in the quarter. We did some of it to work and securities at 200 million in a quarter to 2.7 billion or 14% of total assets.
However, cash balance is still increase the billion three quarter over quarter.
Looking ahead with loan growth expected to be soft we will put more of this liquidity to work in security, but I do anticipate that we will maintain at somewhat elevated level up liquidity.
Really until we get to a more normalized environments.
Well this balance sheet mix shift a lot with.
Really a dramatic decline in library during the quarter it negatively impacted our net interest margin man.
3.51% for the second quarter down from 380 last quarter.
The impact of the PPP loans attributed 11 basis points at their production.
And excess liquidity and lower accretion income attributed four basis points and six basis points the decline respectively.
All the other fundamental NIM components netted to an eight basis point decline with that highly positive impact of our lower deposit costs and increased hedging and significantly offsetting the impact of LIBOR and lower rates on our 11th security.
Importantly, our total funding costs declined by 46 basis point.
97 basis points in the first quarter 51 basis points this quarter, our interest bearing deposit costs declined by 63 basis points.
1.28% in the first quarter to 65 basis points this quarter and our noninterest bearing deposits increased from 27% a 33% of total deposits.
We've really been working pretty aggressively to bring our funding cost down and are very pleased with this progress really the progress we've made over the last several quarters given time deposit maturities that are coming in the latter half of this year, we do expect interest bearing deposit costs to come down further although certainly not at the pace.
This quarter, just given the new based level.
Well, our net interest margin declined our net interest income increased a million three to 155 million in the second quarter I.
Im million at the increase came from those core fundamentals that combination of our lower funding costs and increased hedging time, partially offset by lower core loan and securities income.
The PPP loan income cost of excess liquidity and lower accretion all combined for a net increase of 300000 quarter over quarter.
That PPP loan interest income was 4 million during the second quarter and total net effort fees associated with these loans, which just over 16 million at the end of June.
These net fees are amortized over the remainder of the to your life will be brought forward into earnings when loans you forget it.
We currently anticipate the majority of these loans will be forgiven during the fourth quarter.
Non interest income of 30 million was down 5.1 million from the prior quarter. This included a $2 million write down of an alternative investments and it reflects declines in deposit service charges card fees and loan fees.
Really resulting from the higher deposit balances from depressed consumer card activity and lower loan volume.
Offsetting these declines were increases in investment advisory revenue.
Really largely driven by higher market values at quarter end and increases in our mortgage loan fees.
Just due to be accurate loan generation in the current rate environment.
Non interest expenses, they continue to reflect our long standing expense management culture.
And resulted in a 200 basis point quarterly decline in our adjusted efficiency ratio to 47 percents.
Adjusted expenses declined 5.1 million of the quarter included lower compensation expenses due to lower headcount declines in payroll taxes and increase deferred loan origination costs related to the PDP.
Other smaller declines were across the board really including things like Im quite travel and business development expenses.
Turning to capital as as Paul mentioned during this quarter three of our key three of the working capital ratios increased over really what we're already strong capital level.
Given the balance sheet mix shifts our risk weighted assets declined in the second quarter and at June 30, our common equity tier one and tier one way shows we're up to 11.7% and total capital was up to 14.3%.
Our leverage ratio ended the quarter at night, and a half percent nor tangible common equity to tangible assets remained strong at 10.2%.
These robust capital levels are higher level of the allowance for loan losses are significant balance sheet liquidity.
And meaningful pretax pre provision earnings power all combined to provide the foundation that resiliency as we continue into this period, if I think.
Economic uncertainty.
This resilience also provides a sound backdrop for our employee base to confidently focused on serving our customers Smith the excellent momentum for.
For us to continue to focus on providing value for our shareholders.
Let me turn it back to the operator for your question.
Ladies and gentlemen at this time will begin the question and answer period. If you would like to ask your question. Please press Star and then one using a touchtone telephone to withdraw your question you May press.
Star and too.
Once again that is star and then once you asked a question.
Well pause momentarily to assemble the roster.
And our first question today comes from Jon Arfstrom from RBC capital markets. Sir. Please go ahead.
Good morning.
More John.
Just you know I think.
Sorta described this a little bit but it sounds like you did a lot deeper work.
On the portfolio this quarter compared to last and maybe that makes sense, but just talk a little bit about what you guys learn about the book. This portfolio. This this time around did you have any differences between.
Some of your grading in this third party.
Just a little bit on your approach between now and when we talk again in mid October.
In terms of is it another deep dive or do you feel like you've captured.
Most of the pain or expected thing.
With what you did this quarter.
Yes, Thanks, Sean I'll comment and also invite David Black to offer his perspective here so.
First I mean, this is the quarter in which the shutdown and the global pandemic impact was really and significant and so we did a lot of work to be sure. We understood that as best we could and and we again invited to third party too.
Become.
Check our thank you know.
Bring some intellectual challenge to the equation.
And so what are your questions is that the third party differences were.
Really none I mean, I think it's sort of a validation of our our approach.
And you know what what we hope is that were being more cautious then we need to be.
But we also are very realistic and practical the risk of change significantly and we want to be.
Alert appropriate in our grading of the the reality that we're in.
So for me I feel really pretty good about the energy book overall.
And I think the restaurant portfolio, which we set for several years now is the is the highest risk part of the portfolio and where we will be scrubbing harder and harder going forward.
And then of course always anything thats leverage lending.
Is that going to get scrutiny and so weve for some period now been pulling in leverage down across the board.
So you know maybe in some ways. The fact that we had some challenges last year and we intensified our work in this area is instead of a plus for us.
But I don't know John Hope I'm going to that to the heart of your question I'll, Let I'll, let David comment and then certainly follow up.
From there.
Sure. Thanks, Paul Good morning, John.
In addition to bring to the third party, we expanded the scope of the route reviews that we've done internally.
I think it just only appropriate that we would focus on the sectors most impacted by the macro environment and and the feedback from the third party was as Paul referenced was one of concur.
It wasn't independent validation that we.
We're appropriately.
Rating credit given all the uncertainty that we face.
From from an outlook perspective, it's a continuation of the discipline risk controls that we've had in place and trying to assess and and early identify a problems.
With that Paul would you.
I would just point to page eight and our slide deck, John we break out the provision 93 million of that.
So largely Moody's driven from the economic outlook, Yeah, that's a big numbers for the quarter and so estimating provisions is something that is not simple I guess, you would say and not precise but.
Again, our hope is that were being more cautious than we need to be and I think will but also being very realistic. So.
To answer your question John are you want to follow up on that.
I guess, what we're trying to get at is what what might the third quarter look like provision.
And I know, that's a challenge, but maybe one way to ask this is.
Can you talk a little bit about loan modifications and some of the trends there and then David you mentioned that.
Survey of your clients.
Talk a little bit about which what you've learned there because I think the key is to get back to profitability for you.
I guess world right.
You know, how you're thinking about third quarter from a provision in the stress point of view. Thanks.
Yeah, I'll comment I'm, sorry, I think it's reasonable to expect that the second quarter will be.
The peak for provisions.
I have to put in Nashville, and added say it just depends on on reopening I mean, we had such a dramatic.
Period, with the shutdown and now with where reopening in activity as is improving.
Theres against some reasonable to expect it will be the peak, but I think provisions will be elevated for a period of time until we work through what does the new economy look like and especially how does that impact restaurant in energy.
David.
Sure John on the topic of deferrals.
Previewed that number did increase from our previously disclosed on April 1.5 billion to 2.4 billion.
I would note that these are our across the board 90 day.
Deferrals.
And.
Given that timeframe. We've we've had a small amount of all of a regular 146 million actually enter into their second deferral.
Which is 6% of that total deferral population or 1% or total loans and so from a process perspective, there are incremental questions and document documentation and scrutiny that that we placed upon that second deferral requests.
But in the in the categories in which.
They are showing up.
System with our prior conversations.
In the commercial real estate World, it's really centered in hospitality from a percentage standpoint.
61% or that will probably 155 million.
And really the number would be higher if if and I.
Stickler asset class if it weren't for how much of a meaningful piece of that book of business is a construction.
Construction component.
Retail office multifamily all have some element of of deferral.
Hi, good much lesser extent.
In the retail space matching tend to concessions and as well an office, but a multifamily is only we've only had 40 million of concessions there again thats. Our that's our largest commercial real estate book at 25% of the total commercial real estate exposure.
The Athena book is largely dollars are again in general thing with a high percentage and restaurant.
And.
That's consistent with what we saw from a migration in the quarters, well and also influenced our qualitative.
Overlays what would the provision.
But oh stepped up to the Q, but any anything on from your survey work.
Sure I I think the the intent there is largely been trying to get as forward looking as we can with feedback from our clients are what they anticipate.
Impacts will be for their individual business and I I would say the but.
The takeaways really influence what sectors we.
Dave Environmental and and qualitative overlays to from the vision. So the survey work has definitely influenced our.
You have potential impact on on the various sectors that we have exposure to.
And ladies and gentlemen are next question comes from Michael Rose from Raymond James. Please go ahead with your question.
Hey, good morning, and thanks for a thanks for taking my questions. Just as you guys have done. This a this the steep credit dive you know again this quarter.
Have you.
The loans that were that moved into criticized I mean, if they've been downgraded in terms of or have you taken specific marks.
Against those loans proactively for potential loss content, even if they're on deferral at this point I I just want to try to get a sense for how proactive you you've actually been and Paul Your comment about this this could be the peak for provisions.
There is continued migration it does sound like.
Could be likely.
Does sound like there could be continued reserve builds.
Beyond what you did this quarter ex Pvp I calculate about 110 basis points is is that kind of the way to think about I think thats. The question I was trying to get at thanks.
Yes, Michael I would say.
Yes, I think it's reasonable to expect that this will be the peak quarter for provision.
And.
Thanks, or better in the third quarter than a work in the second you know people are going back to work and and Theyre there seem to be managing.
The pandemic.
Better so were there'd be some lagging effect from things information that comes in in the quarter.
Entirely possible, so again I come back to probably elevated level of provision, but reasonable to expect second quarter speak.
Michael with respect to agree.
Oh, I'm, sorry, better yes, just so with respect to specific credits, yes, I mean, the process does go through and we look at specific credits and what's going on and the cobot impact and they're in many cases or specific provisions allocated to those credits, but Theres also you know just just a portfolio view.
Yes.
Element that goes to this and so I'll I'll pass it to Valerie.
Yes, yes, that's and that's part of what I would point out, but then also just kind of referring back to that slide eight when we break out the portfolio changes and then the economic forecast.
<unk> point on the provisioning on the I think we feel very comfortable that we captured everything that we know today.
Yeah, we're hopeful that the decline in the economic forecasts.
The magnitude of that was the greatest going to second quarter, but you know that that folks at Moody's and their Phd is you don't know that better than we do and as the quarter rolls on well see how that goes. So that's always you know, which also has an abstract.
In that and then like you said on the portfolio changes and yes, there will be double undoubtedly be some movement in that some negative some positive and as we go through.
Just seeing the full impact the pandemic art and some of these borrowers.
That's that's that's a lot of non answer to your question, but that doesn't really the moving parts.
Understood and and maybe Paulk, we could you talk about the midstream portfolio, a little bit we saw portfolio sale.
Last week at a at another bank that that primarily in the Gulf of Mexico, I think the majority of your assets would would be in Texas. So there is a difference but.
How can you give us confidence that you think that your midstream portfolio would would hold up.
If stress continues obviously breakout staff as well.
Lower drilling activity et cetera, but can you help us feel a bit more comfortable but your midstream books at this point just given that the severity that we saw taken on the other so thanks.
Yeah sure. Thanks, Michael So as I mentioned in my prepared remarks, you know the midstream best our portfolio barrels really are different than most other banks, because the midstream component, which contracted cash flow. It's low leveraged its good operators, what's a good track record our charge off lifetime today have been less than 3 million Bucks.
Thank you very experienced team we lead a number of major relationships to Ted top midstream operators in the industry.
We're pleased with the portfolio, we did have linked quarter, two nonperformers totaling 37 million both of those or pain in accordance with their terms. So they're stressing the portfolio. There's no denial of that but it's a it's a good portfolio, it's going to perform well over time and yes, I am aware.
And at some other banks have sold their portfolios.
Our different mix than ours and.
As you point out our our Texas portfolio is way different on the Gulf of Mexico, We had only one MP borrower in the Gulf of Mexico, and and that was a credit that we took a charge on in the quarter show a final resolution to that credit. So overall, there's there's the energy business is going to be.
Around for a long period of time, we're managing our portfolio tightly managing it down a bit again as I mentioned, we expect to see it through amortization and and refinancing industry consolidation, we expect to see some reductions in that portfolio over the next 18 months.
But.
All in the covenant violations for the quarter as it relates to midstream were more manageable.
So.
We're going forward.
Well I'm, just saying I'd just add to that there were also seeing the shut has come back online. We had two good much you had too much there where we saw pretty significant shut ins, but we're seeing those come back online and Thats, a kind of a green shoot that we're seeing where the midstream portfolio.
Okay, maybe one final quick one for Valerie any sort of outlook that you might have for us for the core margin as we move into the third quarter. Thanks.
Yes, yes, yes.
Yeah, we feel pretty good about where our margin as Adam today. When you when you kind of shake up and ways that TPP and lower accretion and instead of the excess liquidity et cetera.
Really the core fundamental piece of it really just declined eight basis points and that's what the significance at the library drop in the quarter. So when we kind of look at where we are at June 30.
We still have somewhere in that our deposit costs. We've got about a billion three time deposits that mature the latter half a year.
Those are coming off probably on an average of about 1.6% coming back on 60 basis points. So.
Theres Theres opportunity and we will see some of the deposit cost continue to come down in the quarter. Likewise, the excess liquidity that we have we're going to be putting to work in asking securities.
And so those are those are both positive factors kind of for the core margin outlook I guess, the only the only copy out I would give that is.
We continue to see and meaningful loan pay downs and corporate borrowers just reduced debt, then that could offset that little bit but.
But overall, we feel pretty good about the level that we're at and the ability to make some seven.
Hopefully a little bit marginal improvements depending on what happens to come about what's it.
All right. So maybe flattish to maybe a few book basis points hires maybe the way to think about it.
I think Thats fair.
Alright, thanks for taking my questions.
Your next question comes from Steven Alexopoulos from JP Morgan. Please go ahead with your question.
Hey, good morning, everybody.
More say good morning say, there's obviously to follow up on credit. So feel good criticized loans are very high rate over 7%.
Is that understated, though because of all the deferrals and as you deferrals come do should we expect to further increase in criticized loans.
[music].
Stephen I'll comment I don't I don't think is understated I think quite the contrary, we really went through extensive effort to be sure. We marked everything accordingly.
When I look at the deferral our strategy. The first time around as we were pretty Lee I mean, we really granted referrals.
And and as Dave you made reference to this time around it's a different process and so I think we can better answer your question about deferrals, probably 90 days from now once we kind of work back through this and see while our I mean, we're leaning on deferrals. The first time around we're going to really look at it more closely.
And if someone's four of would like to have a deferral, but they have cash and can pay you know we're going to be I'm sticking closer to the original terms of alone.
Of course, some flexibility still going forward, but I.
I would definitely say I don't think its understated.
Okay.
I would concur.
I think.
We certainly didn't downgrade something to grow if I was just because there was a deferral requests and all that anybody in the industry has gone that far.
But to the extent that.
Identified that there was stress underlying the request.
Then we go criticized with rubber grade we moved.
And how should we think about the migration now from criticized and non accrual as it does this become a third quarter event.
I think it's reasonable to expect some migration there are the extent of it is hard to put your finger on at this point.
Yeah. It's its case by case, you just have to look I mean, we're seeing some green.
Sprouts here in there and some reason to be optimistic and in some of these credits the longer they're stress they'll deteriorate.
Just don't have perfect visibility on that.
Yeah.
So from a big picture view I think this might be the fourth quarter in a row, where youve bought the peak of credit problems are behind you at this goes back to actually to too few 19.
What gives you confidence here I mean is it only that you're seeing some states <unk> open that you're confident the credit issues are behind you because we've heard that story for the last couple of quarters, and then you put up another higher provision right a more migration.
Trying to really understand what gives you confidence that this quarter. It is it.
Yes.
Yes, that's fair I mean, well prior to co vivid our first quarter numbers would have shown nice improvement.
And so.
I guess I would say with covance being a major impact.
We we would've been there so it's a good track records, maybe not as bad as perhaps the reference.
So.
I mean, all I can tell you is we've been thorough we are not in denial.
I hope were being more cautious than we need to be.
We've got a good underlying portfolio, we got a lot of good bankers their stress pro good coverage a.
A challenge but.
I think we've captured.
I appreciate all the color thanks for taking my questions.
Our next question comes from Jennifer Demba from Suntrust. Please go ahead with your question.
Thank you good morning.
Paul could you talk about loan Verities, you saw on some of your larger.
The loan charge off this quarter and also a you mentioned before sounds like you're not interested in any kind of bulk sale, but can you give us some more color on on that thought process. Thanks.
Yes, sure Jennifer so in the quarter, we really had three charge offs range from a four or $5 million range to 10 and $12 million range that make up for the 32 million a charge offs for the quarter. So we do see some severity of loss in the rest.
Portfolio wind energy credit.
As was mentioned we've been through the spring borrowing base Redetermination season, now and we feel.
Pretty good about that process and how things are position for the for the portfolio.
[music].
Gosh I don't know.
David anything you would add to them.
No I would would acknowledge that there were element from higher loss given default.
Experienced in the second quarter charge offs.
Relative to what the characteristics that we see in the the rest of the nonperforming portfolio.
But again.
At.
Two of the three.
The Paul referenced we're we're final resolution on those credits.
We have any incremental exposure on those.
And your thoughts on <unk>.
Right. So you never say never.
But it's my belief that.
Our portfolio is going to be well managed over a period of time and we seem to come down.
Our midstream portfolio as referenced as.
Performed nicely.
So I'd say, it's unlikely that we'll pursue that.
Thanks, a lot.
Our next question comes from Brady Gailey from KBW. Please go ahead with your question [noise].
Yes, thanks, good morning, guys.
Well one very good when you look at deferrals. So as of June Thirtyth. They were 2.4 billion <unk>, maybe an update on where those are at today it sounds like only.
150 million have entered into the second deferral I have there been a lot of deferrals that are now back.
Just wondering if that deferral number as a lot lower as of today.
Yes Brady. This this is David.
20% of that total population.
Has had a payment post referral and as you mentioned only a small percent 6% of that totaled two point.
4 billion. It has it has entered into a second deferral.
Request.
[noise] following up both referenced and if it is hard to gauge.
What the real activity will be a third through the remainder of the quarter in terms of the second request.
Anecdotally it feels like it's coming down.
Fairly materially that we're not seeing the activity on the second request.
But we did on the first request.
Okay.
Then I hear you guys talking about suits you hopefully as the peak.
Isn't.
But as you look to the back half a year I know, there's a lot of reports, but do you expect pertains to be profitable in the back half of this year.
Brady I would say that I think thats, a reasonable expectation that we can be profitable in the third and fourth quarter guest.
Brady I think if you think that.
The thing that still important here, it's just remember that strength of our pretax pre provision net revenue and the consistency that we've had in that and and you know that's the ability of our margin and so forth and we feel very confident about really that underlying core earnings power and so.
As.
Thanks migrate out as the out in this environment than you know that that foundation is resilient and Dan you know that really gets into combat.
Yeah, that's a great claim dollar.
Then lastly from me just when you look good.
Period and.
If you strip out the growth related yeah.
At period end loans were down to do so.
All about 5% linked quarter.
And as some of that was probably planned and strategic you guys run off some loans that you no longer ones, but.
I heard the comments about how you expect London software mill now that you think that there's some continued kind of strategic loves shrinkage that could it.
You know some loan balances down a decent out from here.
I do yes, yes, I think we're going to see just overall slower loan demand.
Prepayments from stronger borrowers and that.
I will be a period time that will will shrink loans before we begin to build them and subsequently.
So what how much do you think how about shrink as you think will be there Paul.
Down another 10% another 20% and so you kind of bottom out from a long balanced.
I don't think 10 or 20% I think you perhaps is it's more like in the 5% to 10% range.
[noise] rating one thing to keep in mind this quarter and you know we thought tick up in loans in the first quarter really as they were customers that had defensive draws we had about 450 million at that we thought lot of that pay back down.
This quarter as you know people got a better sense, the environment, and so that had and pretty meaningful impact on the decline this quarter.
So just just important to keep badly.
Great. Thanks, guys.
Our next question comes from Matt Olney from Stephens. Please go ahead with your question.
Yes, thanks for taking the question I want to go back to the core earnings power that Valerie mentioned that the ppm PPNR with about $95 million into Q and its maintain that over the last few quarters can you just talk about the puts and takes around maintaining that.
$95 million quarterly level over the next few quarters. Thanks.
Yeah, well I think I think well a couple of things that are really important there one is our expense base and our ability to manage that and we continue to have levers stats that make a pool should we need to and you know keeping that expense base unit deficiency ratio 48%.
We felt very competent.
Keeping that in that range and the other thing is on that margin as I mentioned I think that we've got a pretty stable environment right now and like working really any lower and.
Got it really need to bring down our deposit costs, where do you know there is an impact obviously with the decline in loans that were putting that's working securities and.
And over time, but the environmental shift and we'll be making loans again and so yeah. We thought we felt very good about that are our noninterest income tick a little bit Ah. We had a couple million dollar write down that's a one time kind of item.
They did relate to the coded and environment and when business activity starts to resume and.
No you're making card charges again, we expect that that will also rebound so.
You know that that's really the great foundation for isn't something that they shouldn't be overlooked.
Okay, Thanks, and going back to the discussion around the loan Deferments, Let me ask Bradys question a different way can you give us an idea of how much of the of the deferred borrowers have now seen their initial 90 days expire and you've completed the full review.
We're just trying to understand what portion of the initial deferred balances are requesting the second deferral when you've completed that review.
David.
Yeah.
Yeah, Matt <unk>.
No the numerator to that.
Question I don't know the denominator of what has rolled off.
My sense is relative to the 146 million that have entered the second phase because our April number was at 1.5 <unk>.
It's a relatively small percentage that are making the second deferral requests.
Okay as we sit today I don't know that exact fracture.
Got it.
And Matt I'm, a comment a little bit too there from what we're hearing from the for our borrowers and our surveys and actually reaching out and regular basis is.
That the numbers that we told you so far are going to be consistent through the quarter. We may see some upticks, if we see a decline in or close or shut ins are close downs in the markets, but as far as the second phase come in and being has begun to reverse I think David is right on point.
Okay. Thank you.
Our next question comes on Ken Zerbe from Morgan Stanley. Please go ahead with your question.
Great. Thanks.
I guess is there way to breakouts.
How much of the reserve build came from sort of that deeper dive credit review that you did versus.
Just actual deterioration in the portfolio the don't sectors like restaurant energy Seph stuff that you would have been surprised by in your deeper review.
Ken I mean, just differently, it's all done.
Yeah.
Sorry, if I had I was just going to say if it's all it's all intertwined fall. It's all part of the quarterly assessment of what our credits that.
Where credits are.
That would have been my comment off.
Got it understood. So this okay. So presumably as you as planned a few times on the call that so next quarter, you're not doing a deeper review you don't need to says you're already did one and hopefully we should see less less provision expense going forward.
I can't.
Right, Yes, I'd just like the clarify that I mean, I mean, clearly we get a deep dive into our credit that in this environment is going to be an ongoing process.
It's not.
I mean, we certainly adding some layers, but its.
It's really relative to the environmental stressed that we're seeing.
Correct.
The credit and valuation will be went to credit evaluation is it really has nothing.
Specifically to deal with the extra layers that were taken on in this quarter.
Got you understood. Okay. Yeah as you can imagine trying to make sure I understand the difference between you know just the existing say restaurant portfolio and has it.
Deteriorates, you're going to build reserves against that what's your sort of normal sure versus trying to pull out the sort of extra credit review that you're doing that would imply that you're digging deeper into things, but I.
Hi, Andrew I do understand how they are intertwined.
Sorry, just maybe my second question really quick.
Following up on I think it was that PPNR question about operating expenses Valerie I think I did hear you say that you want to keep the efficiency ratio of 40.
It was 48%, but just if we think about dollar numbers, because obviously I guess there was a capitalize PPP expenses. This quarter, there was lower incentive comp lower marketing et cetera. It seems like some of that those you're probably referring.
Back to more of a higher level come to re queue. How are you thinking about dollar expenses heading into three Q.
Yes, how does it get good question and you know I think theres that correlation between the increased business activity that went drive an increased expenses.
It should also drives from increased revenue.
And so you know to that end. So that's where you know it may not be 48%, maybe 49, 50%.
In the range I'm still very highly effective efficiency ratio.
From a dollar standpoint, so you're right I mean, if and as soon as you know I mean I used to travel the time I haven't looked like home office and long time [laughter]. So you know as soon as the business activity starts to evolve there will be additional expenses there, but that's that's all in generating revenue. So I think it goes hand in hand.
Okay, great. Thank you very much.
And our next question comes from Brad Milsaps from Piper Sandler. Please you have with your question.
Hey, good morning, guys.
Good morning, Brad Thanks for joining us Brad.
Thanks.
It was just curious I think about 14% of the general CNR portfolio is in modification just curious if there was any you know kind of particular.
Theme or sector within that portfolio that was driving that and I think if I recall they bank had about a billion dollar HDL book, just kind of curious kind of how that's performing on you know anything that that would cause you concern there and why the other.
David would you comment on that.
Sure we haven't too good morning, Brad.
In terms of the general Sanccob <unk> I would say, that's that's relatively diverse across that entire portfolio no no meaningful concentrations.
And those modifications the Abbeel a book has continued to perform really well has not been a driver of modifications or or significant migration in the quarter I'm very pleased with that lot of business and a <unk> anything to add.
No I would definitely echo that David if he said come in and we have seen that portfolio come down a we had a change in leadership there at our and with the credits that they originated the ones. They have in place we feel good about the outlook in the IPO platform.
Great and then and then maybe two quick follow ups I think you commented a deck that your restaurant at least the QSR pieces about 80 or 85% of its Andy pre pandemic revenue I'm not sure what that the measurement period. There is that a level, where you know deck and start to be repaid.
That kind of level revenue or do you need to see further improvement.
Hey, Brad. This is a this is Sam that did you say of the Qs or was it 80% of Oh prior years comps.
I think Thats I think that's what I read your deck I mean, if I may have misread, it, but that's where I thought I saw.
Got it will actually our QSR, which is almost 70% of the book is been by far the most resilient in in the portfolio. We look just quickly run down some cost for you all of our QSR Pizza exposure was up 10% in April 22% in May 15% in June.
Oh Popeye's was up 25% in April 45% in May 38% in June and and all the rest are also show in stuff favorable year over year store sales. So while a lot of had about April and certainly a bad March when the shutdown or initially happened a they've rebounded.
Really very well so I think on the QSR side, yes, we expect them, that's where we've had the fewest stuff payment deferral requests the course of ethic, we're going to be pretty good shape there.
Okay and final question of Valerie just curious what well what are the reinvestment rates on on the new bond that you're buying adds about she at this point.
Yeah, and you know with its below 2%.
You know, we're doing mostly mortgage backed the arts pipe around a 170, we're getting some high grade municipals and as of course had a little bit higher level, but.
Got probably around when somebody is activities that number that with them.
Great. Thank you.
Huh.
And ladies and gentlemen, with that we will conclude today's question and answer session.
I'd like to turn the call, let's go back over to Paul Murphy for any closing remarks.
Okay. So thank you all for joining us just in wrapping up I would I would close are saying that I really am honored to serve where the great team of bankers, we're really proud of the critical support that we provided so many of our clients with these PPP loans, certainly challenging times for the industry and in for the World.
But I'll have to take I've got a lot of confidence in our our deep relationships that we have with our clients a lot of competency center in our bankers and the experience team that we have what interference managing through previous cycles.
And I like our strategy I I'd like to markets that we're in and so in spite of the challenges and and navigating this difficult time I think we're positioned to come out of this and really have a bright future. So we're at our post we're working hard to do a good job for shareholders and we thank you for your ships.
With that we stand adjourned.
And ladies and gentlemen, with that will conclude today's conference. We thank you for attending you may now disconnect your lines.
[noise].