Q3 2020 Midland States Bancorp Inc Earnings Call
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Ladies and gentlemen, thank you for standing by and welcome to the third quarter 2021 States Bancorp Inc. earnings Conference call at this time, all participants on the listen only mode.
After the speaker's presentation, there will be a question answer session to ask a question during the session you need to press Star then one on your telephone.
Please be advised that todays call is being recorded.
Did you acquired businesses sales you May press Star then she wants to reach an operator I'd like to hand, the call over to Tony Rossi. Please go ahead.
Thank you Michelle good morning, everyone and thank you for joining us today for the Midstates Bancorp third quarter 2020 earnings call joining us from England's management team or Jeff what would <unk>, President and Chief Executive Officer, and Eric Lemke, Chief Financial Officer will be using a slide presentation as part of our discussion. This morning. If you have not done so already please visit the web.
Yes, the presentations page of bid once investor relations website to download a copy of the presentation.
Before we begin I'd like to remind you that this conference call contains forward looking statements with respect to the future performance and financial condition, a middling seats bancorp that involve risks and uncertainties, including those related to the impact of the COVID-19 pandemic various factors could cause actual results to be materially different from any future results expressed or implied by such forward.
Looking statements.
These factors are discussed in the company's FCC filings, which are available on the company's website.
The company disclaims any obligation to update any forward looking statements made during the call.
Additionally, management may refer to non-GAAP measures, which are intended to supplement but not substitute for the most directly comparable GAAP measures. The press release available on the website contains the financial and other quantitative information to be discussed today as well as a reconciliation of the GAAP to non-GAAP measures.
With that I'd like to turn the call over to Jeff Jeff.
Good morning, everyone welcome to the Midland States earnings call I'm going to start on slide three with the highlights of the third quarter. Our reported results reflected the onetime charges related to the branch in facilities optimization plan that we announced last month and I will talk more about that plan a little later in the call excluding those charges.
We delivered a strong performance this quarter in light of the continuing challenges presented by the ongoing pandemic with adjusted earnings of $12 million or 52 cents per diluted share.
This performance was driven by solid balance sheet growth.
Significant contributions from many of our sources of non interest income and disciplined expense management well.
Well overall economic activity remains muted due to the pandemic, we're effectively targeting those areas of the economy, where we are seeing healthy loan demand as it.
As a result, we were able to generate annualized loan growth of 8.4% during the quarter.
And we continue to see positive trends in gathering core deposits, which resulted in 6.8% annualized growth in our total deposits this quarter.
Looking at asset quality in general we were pleased with the trends that we saw during the quarter and the improvement we saw in the health of most of our borrowers. This was most notably in the decline we saw in deferred loans as the vast majority of these loans returned to regular payment schedules during the third quarter.
We did see an increase in nonperforming assets, but this was largely driven by three commercial real estate relationships.
These were three credits that were adversely graded prior to the pandemic and with the downturn in the economy, there conditions deteriorated to an extent, where they moved to non accrual status.
Outside of these loans, we didnt see other migration to non performing during the third quarter given the uncertainty of the pace of the economic recovery, we continue to add to our loan loss reserves, resulting in our allowance for credit losses, increasing to 1.07% of total loans as we.
Throughout the year, we continue to benefit from the diversity of our business model and our ability to generate significant contributions from a variety of areas wealth management continues to provide a stable source of recurring revenue our equipment Finance group had another outstanding quarter generating the second highest level of.
Nations in its history, just behind their performance last quarter and our residential mortgage group continues to effectively capitalize on the demand for refinancing and produced a strong quarter loan originations and gain on sale income.
Aside from our financial performance. This was a very productive quarter for the company as we made significant progress in our work to up optimized.
Our operating model and improve our ability to deliver a consistent earnings growth in the future.
This includes sale of our commercial lot BJ loan origination platform and the announcement of a series of planned branch and corporate office reductions, which I will discuss in more detail on the next slide.
Moving to slide four I'll start with the review of our sale of the commercial up Ajay loan origination platform to white capital.
We were able to structure this transaction in a way that will eliminate the volatility that this business had on our overall financial performance, while my maintaining some of the positive benefits for Midland.
With the disposition of the origination platform, we have reduced the expenses associated with this business by $8 million to $9 million per year.
At the same time, we maintain the servicing portion of the business that provides a meaningful source of low cost servicing deposits and contributes approximately $300000 in revenue per quarter.
As a nation wide mortgage banking firm and one of the largest originators of commercial up Ajay loans. The white capital has significant funding needs and the relationship that we have formed as part of this transaction will provide midland with the opportunity to provide warehouse lines of credit and bridge loans that will generate interest income for the company.
And in fact, the warehouse line of credit extended to Dwight was one of the contributors to loan growth in the quarter.
So we will be able to offset some of the lost revenue from the origination platform and and do it in a way that is more profitable for Midland.
And with the size of our commercial up Itrade operation now much smaller we will be able to focus our attention and resources on more profitable areas of the company.
While there was no significant gain on the sale of this transaction. It did result in a 3 million dollar tax charge recorded in the third quarter.
Turning to the branch and facilities optimization plan that we announced we felt that the pin pandemic presented an opportune time to make a comprehensive evaluation of all of our real estate holdings.
Nearly the pandemic has accelerated the shift towards digital banking and we determined that there were a number of smaller branches that it no longer made economic sense to continue operating well.
We identified 13 branches, which represented 20% of our network that could be consolidated for the.
For these branches have been closed since March due to the pandemic. So customers have already made adjustments to use other branches and most of the branches being consolidated or are located within three miles of another Midland branch. So we.
So we expect a relatively smooth transition for our customers and only a modest amount of deposit attrition.
We also identified five other branches that we will be renovating and upgrading to reduce their size and better utilize those facilities to serve retail and commercial customers.
In addition to the branches, we are exiting three corporate locations, including facilities in St. Louis in Denver, We expect this plan to reduce operating expenses by approximately $6 million in 2021 take.
Taken together with the sale of the commercial FHLB loan origination platform. We believe the collective impact of these actions will help drive further improvement in our efficiency ratio and provide more operating leverage as we continue to grow our balance sheet in the future.
Moving to slide five we'll provide an update on our PPP efforts and the impact that these loans had on various line items in the third quarter.
We had approximately $278 million a PPP loans on our balance sheet at the end of the quarter.
We have now started the process of helping our clients apply for forgiveness.
Through October 9th we have submitted approximately $72 million in loans for forgiveness and had received approval from the FDA on a little more than $3 million.
While it is difficult to predict how quickly the FDA will start approving more loans at this point, we are expecting 25% to 30% of our PPP loans to receive forgiveness during the fourth quarter with the remainder occurring sometime in 2021.
Turning to slide six well pad.
We will provide an update on our loan deferrals at September Thirtyth, we had $279 million in loan deferrals, which represented a decline of 69% from the end of the prior quarter. Our loan deferrals now represent just under 6% of our total loans.
Approximately 238 million, our full payment deferrals with the remainder being interest only deferrals the largest contributor to our deferrals continued to be the hotel motel sector, which we will speak in more detail in just a bit at this.
At this point I'll turn the call over to Eric provide some additional details around our third quarter performance, Eric Thanks, Jeff and again good morning, everyone Im starting on slide seven and we'll take a look at our loan portfolio.
Our total loans increased to $102 million or 2.1% from the end of the prior quarter.
The increase was primarily driven by three areas first equipment finance, which continues to experience strong demand in both construction and manufacturing.
Next consumer loans increased coming through our partnership with Green Sky and finally, we realized increases in warehouse lines of credit to commercial FHLB originators, including the relationship with Dwight capital, but Jeff previously discussed.
The growth in these areas has helped to offset a decline in our residential real estate portfolio. As we are not making an effort to retain loans that are looking to refinance to lower rates at the.
At the end of the quarter, we moved some of our Green Sky loans to held for sale as part of our strategy to manage the concentration levels of consumer loans in the portfolio. We sold this portfolio in October at par.
On slide eight we provided an update on our equipment finance portfolio as well.
As of September Thirtyth, we had $75 million of deferrals, which represents a decline of 68% since the end of last quarter.
Majority of the deferrals represent borrowers and the transit and ground transportation industry. Many of which are operators of tour buses, who have been temporarily impacted by the decline in travel.
On slide nine we have provided an overview of our hotel motel portfolio.
At September Thirtyth, we had $106 million of loan deferrals in this portfolio, which is down 28% from the end of the prior quarter.
Over the past couple of months more of these borrowers.
I've had increases in occupancy rates that allow them to return to at least a breakeven level with these improving trends. Many of these borrowers are now moving back towards interest only payments as we continue to work with them to find the right solution that will enable them to manage through this downturn.
As of September Thirtyth, approximately 40% of the deferred loans at June Thirtyth were either back to making their original contractual payments were making interest only payments.
Looking at Slide 10, we've provided an update on the consumer loan portfolio that we have through our relationship with Green Sky, We had $8 million of deferred loans in this portfolio at September Thirtyth, which represents a decline of 77% from the end of the prior quarter.
This portfolio continued to pour continues to perform well over the past four months and the delinquency rate has stayed in the 30 to 40 basis point range.
In addition to the strong performance, we have an escrow account that is available to cover any deficiency in mid ones principal balances. The escrow account increased during the quarter to $30.6 million.
Turning to slide 11, we'll take a look at our deposits total deposits increased $86 million or 1.7% from the prior quarter. The growth was largely driven by increases in servicing deposits related to commercial FHLB originators are.
Our growth in core deposits and the run off of higher cost time deposits continues to result in a favorable mix shift in our reduction in our overall cost of deposits.
Looking now at Slide 12 will walk through the trends in our net interest income and margin.
Our net interest income increased 2% from the prior quarter, primarily due to higher average loan balances.
As we anticipated we saw more stability in our net interest margin as it was essentially unchanged from the prior quarter with the decline in earning asset yields being offset by a reduction in our cost of deposits. So.
The 11 basis point reduction in our cost of deposits was driven by our improved mix of deposits and overall reductions in deposit rates, particularly on rates paid on time deposits as well as the runoff of certain money market special rates during the quarter.
Looking ahead, we have $91 million in time deposits with a weighted average rate of 1.11% scheduled to mature in the fourth quarter.
And we also expect to redeploy some of our excess liquidity into higher yielding assets. The combination of these two factors should help us keep our net interest margin relatively stable.
Turning to slide 13, we'll take a look at the trends in our wealth management business.
Our total assets under administration increased $7 million from the end of the prior quarter, primarily due to improved market performance.
Our total revenue continues to range in the mid 5 million range with quarter to quarter variations, primarily driven by seasonal impacts related to tax preparation.
On slide 14, we'll take a look at non interest income we had a decrease of 2.5% this quarter, primarily due to lower commercial FHLB revenue as we only had the origination platform for two months in the third quarter. We also.
We also recorded a $1.4 million impairment of commercial mortgage servicing rights that reduced our non interest income this quarter.
Excluding the impairment or non interest income increased due to higher residential mortgage banking revenue and higher community banking fees as we've seen an increase in transaction volume and business activity as the economy continues to reopen in our markets.
Turning to slide 15 will review our non interest expense. Our total expenses were impacted by the onetime charges related to the branch and facilities optimization plan. Excluding these charges and a small loss on residential mortgage servicing rights held for sale. Our noninterest expense was relatively unchanged from the prior call.
Sure. This resulted in an efficiency ratio of 58.8% for the quarter.
Looking ahead, we expect to complete the branch and corporate facilities consolidation by the end of the year with the cost savings realized from the consolidations as well as the sale of the commercial FHLB origination platform. We believe we will start out 2021 with a quarterly operating expense run rate of approximately $39 million to $40 million.
Others.
Turning to slide 16, well take a look at our asset quality trends as Jeff mentioned, our nonperforming loans increased primarily due to three commercial real estate relationships, we had $5.3 million of net charge offs for 44 basis points of average loans in the quarter, which included choice.
Our jobs taken against those three commercial real estate loans, we were.
We recorded a provision for loan losses of $11 million, which reflects the higher level of net charge offs in the quarter as well as the continued build in our level of reserves in light of the pandemic at some.
At September Thirtyth, approximately 96% of our allowance for credit losses are Hcl was allocated to general reserves.
We are seeing quite a bit of interest in the market for troubled debt and it's possible we might have some near term opportunities to dispose of some of our nonperforming loans with no additional losses.
On slide 17 will show the components of the change in our Hcl from the end of the prior quarter.
Our hcl increased by $5.7 million and strengthened our reserve to 107 basis points of total loans from 97 basis points at the end of the prior quarter.
With economic forecasts stabilizing this component of the reserve drove a much smaller increase than it did in the prior quarter. The biggest contributor to the reserve build was changes in our portfolio largely resulting from new loans downgrades to risk ratings and adjustments for loans on deferrals and other payment plans.
On slide 18, we show our Hcl broken out by portfolio. The increase in reserves was spread across the portfolio with most areas seeing a bump up in coverage. In addition to the Hcl to total loans. We also track the coverage ratio when excluding loan portfolios with certain credit enhance.
Cements or government guarantees, including the PPP portfolio, our green Sky loans and commercial FHLB warehouse lines with me. When these loans are excluded our NPL coverage increased to 1.36 per cent compared to 1.21% at the end of the prior quarter.
And with that I will turn the call back over to Jeff Jeff. Thanks, Eric will wrap up with a few comments on our near term outlook and priorities first and foremost we will continue to focus on maintaining strong capital and liquidity positions. We will also continue to capitalize on those areas, where we see loan demand in the current environment.
The equipment finance continues to have a strong pipeline and we have additional opportunities to expand our commercial lending relationship with the white capital.
As a result, we believe that we will see another quarter of growth in average loan balances, although our end of period loan growth might be impacted by volatility that we see in warehouse line utilization and forgiveness of our PPP loan portfolio.
We also continue to see strong demand and residential mortgage lending and should see another good quarter revenue from this group.
From an operations perspective, we will be focused on implementing our branch network and corporate facilities reduction plan, ensuring that we provide a smooth transition for customers using new locations.
As we approach the end of 2020, while this has been an extremely challenging year due to the pandemic. It's also been one that has been extremely productive for the company in terms of repositioning and refocusing our franchise on areas of the business that we believe present, the best opportunities for future growth and deliver the most attractive.
Returns with the.
With the changes we have made and the improved operating leverage that has resulted we feel that we have made important progress in positioning Midland to deliver more consistent financial performance and earnings growth as the economy strengthens.
With that we'll be happy to answer any questions you might have operator, please open the call.
As a reminder to ask a question you may need to press Star then one on your telephone to try your question so as to keep our first.
Our first question comes from Michael Survival of KBW. Your line is open.
Hi, Good morning, how are you guys doing well.
We're good.
Good good.
So you guys had some nice loan growth.
In the quarter from three different verticals.
To provide some more color on the main drivers and then discuss the pipelines and if the growth how sustainable is the growth going forward.
Yes, well, we saw nice growth in in consumer loans in our Greensky relationship and Thats.
A relationship where.
We sort of set limits if you will.
And and.
And we increased the limits in the quarter. So I think there will be a little bit it could be a little bit of growth in that and that area.
But it's something that we sorta control Eric talked about we sold some some portfolios.
In that in that group so the as the volume comes out a little heavier than than we would like we were able to partner with green Sky and sell some of those loans at par, which I think continues to support the fact that theres.
Very limited credit loss in that portfolio.
I think there's opportunity on the commercial fee Jay warehouse lines that those businesses are seeing some pretty good activity. So I would expect some nice draws.
In this quarter and the the equipment finance business continues to have a very strong pipeline for.
Fourth quarter is typically their strongest quarter.
So we would continue to see similar.
Activity in the fourth quarter as we Didnt third quarter.
Great. Thanks, and can you also share some color on the new relationship with white cap it all and what type of revenue in deposit growth opportunities we might expect.
I don't want to get real specific on customers on an earnings call.
No, but I think what we said in the call as we've got a warehouse line with them and you'll start to see it I mean, we've got another customer as well in that space. So and we will as we move forward sort of call call that out as the balances move in and out but.
Those those couple of companies that we provide FINAME financing to they need a lot a lot of line availability in the in the hundreds of millions of dollars type range. So.
Yeah, we have so so thats the warehouse lines and then just like we had with low funding. We bridged we did some commercial loan bridging from on Earth.
On origination of a loan hold it on the balance sheet for a period of time and then take it to the secondary markets. So we'll we'll also provide that type of financing.
When needed to.
To that customer as well so.
Yes, I think there is a good opportunity to to generate some revenue with that that new customer and offset some of the revenue and earnings loss from low funding.
Okay.
Okay. Thanks, Thats helpful and then final follow on.
We expect that the capital T. side to build from here just given.
Pre tax pre provision earnings outlets should improve after all the cost initiatives and and then also what is your appetite for continued share repurchases versus others.
The capital at this point, yes.
Yes, so we're trying to that's a balance for us were.
We want to build build capital.
But with our stock trading at 70 cents on the dollar there is.
Small appetite there to to repurchase some shares each quarter. So we're sort of balancing that as we move forward.
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With the idea that we'd like to build the need to build our tangible common equity ratio is now our bank capital ratios are very strong and and we hold a lot of liquidity at our holding company. So.
From an overall capital position, we feel we feel really good.
What we do need to build some some.
Better ratios at the holding company level.
Thanks for taking my questions have it yes, I will do that through.
And that improved earnings and improved pretax pre provision is going to help with that.
Thank you have a good weekend yep. Thanks.
Again to ask a question. Please press Star then one.
Our next question comes from Nathan race with Piper Sandler Your line is open.
Hi, guys good morning.
The next morning, Sylvan just follow up on the operating expense discussion.
I appreciate your guidance for the first quarter I guess Im just curious if theres going to be some redundant costs. Just given that you guys are kind of working through those branch optimizations here in Fourq you.
Which may carry over into one June just how we should kind of think about the core run rate has been through the second quarter of 21.
Let me take that.
Yes, so I think.
We've gotten some nice cost saves through both the branch rationalization and office rationalization and low funding. We've had a really good expense year in terms of we've had a nice medical cost year.
Our incentive plans are half of what they would normally be in a in a normal year and so we're sort of projecting those would sort of come back to 19 levels.
So was there some some expense headwind when you compare to 2020.
And maybe that.
And what you're trying to get at is.
Thinking that the quarterly run rate might be less than $39 million to $40 million run rate, but there are some expense headwinds.
That that we're we're seeing as we head into 28 21.
Okay got it it's helpful.
Appreciate that address.
Then just changing gears on credit the provision has been pretty stable last few quarters.
And I guess, obviously it was elevated this quarter with the.
Real estate.
Credits so for those three isolated incidence it seems like.
All should we be thinking about additional reserve builds just given the.
Macro inputs infection years seasonal model than just given how you guys are seeing deferrals trend at this point and just overall changes in criticizing classified loans as well at least in the fourth quarter is Bose.
Yes, I mean, we continue to get a better look at at deferrals.
As that starts to narrow you get a better better look at where where you might have.
Have real problems right.
So I think what we said in the last quarter that provisioning in the back part of the year would be similar to the first part of the year and I think we probably continue to see that see it that way.
So hopefully that helps you.
Yes no.
Very helpful. I appreciate you taking the questions. Thank you yep.
Yes. Thanks.
Our next question comes from Cooper Brown with Stephens. Your line is open.
If your telephone is muted please UN mute.
Hey, Good morning, guys just Cooper on for Terry you guys doing good how are you good just.
Just wanted to quickly touch on the equipment finance portfolio I think you mentioned, you're expecting some growth going forward like you saw this quarter, specifically from construction manufacturing and.
The additional industries that are worth noting.
You might see good demand from.
I think those are the sectors.
We think we are we have a well diversified approach to the equipment finance business. We think we're in.
In areas that.
They have some growth.
Obviously, the shuttle bus area is.
Sort of shut shut down, but but theres, we're seeing good demand in construction and manufacturing. So it's it's in those sectors.
Okay got it.
Thanks for that.
And then just quickly.
Do you can you provide the total size of the transit and ground.
Passenger portfolio, where I think deferrals.
Or elevated within the within equipment finance.
And we know the deferrals.
Total portfolio is but it's.
The majority of that portfolio and deferral.
Right Okay.
Okay.
Okay. Thanks.
And then just finally I think you guys touched on some opportunities to.
Helping them out in this coming quarter with CD maturities.
How are things looking for early 21 or are there any other.
Deposit cost reduction opportunities over the next several quarters.
Yes, I mean, we're through most of of the deposit reduction there's still Cds that we have that we will continue to roll down even as we go into 2021.
I think as much as $400 million that thats going to mature next year or within the next 12 months, maybe that's what I'm just looking at that we'll roll down or overtime. So that's really the only area at this point where there's.
Opportunity I mean, maybe is a few basis points couple of basis points here and there but for the most part.
In the last two quarters, we've we've gotten our.
Deposit costs.
Now on to reflect really.
Really where the market is right now.
Great. That's helpful. That's all I had thank you guys right Yep.
Our next question comes from David Conrad of D.A. Davidson Your line is open.
Just had a quick follow up question on the on the NIM.
You just kind of filled in the questions on the CD side, but on the asset side I thought loan yields held up remarkably well.
Just curious on the equipment finance kind of the front book back book, what's what's the current yields.
Booking now versus the portfolio yields is there a gap there and maybe the same question for the securities portfolio for maybe.
If there is any pressure on that as we look into next year.
There are pretty sure and you could do that.
You might need to look at look it up but I'm pretty sure that our portfolio yield is a little higher than what we're putting new production on today, but new production in that business is north of four probably pushing four and a half and we've been able to increase spreads.
Over the last three to four months in that area as well.
So so although we're losing some.
Some yield is that portfolio pays down and we put new on.
That that spread that differences in.
Significant.
And then on the securities priorities.
Yeah, right I mean, it's Roland I mean, there you've talked about as Roland It's rolling down yes, David on the securities portfolio that yield continues to drive.
We have been looking at new purchase opportunities and those are in the range of 100 to 140 basis points, depending on what type of securities the duration.
Yeah, we're continuing to expect that to roll down a little bit over the course of next few quarters.
Okay, but then I guess the flip side of that is that you can deploy some of the cash it probably 10 bips.
Into the leasing portfolio that will help offset some of those pressures correct yes.
Okay. Thank you.
We show no further questions I would like to turn the call back over to management for closing remarks.
Alright, thanks, everybody for joining today and well see everybody in 2021.
Thanks, Ladies ladies and gentlemen. This concludes today's conference call. Thank you for participating you may now disconnect everyone have a great day.
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