Q2 2019 Earnings Call
Good day, everyone and welcome to the Pacific Premier Bancorp, Q2, 2019 conference call.
All participants will be in a listen only mode.
Should you need assistance. Please signal conference specialist by pressing the star key followed by zero.
After todays presentation, there will be an opportunity to ask questions.
To ask a question you May press Star then one.
So what's your all your questions you May press star into.
Please also note todays event is being recorded at this time I'd like to turn the conference call over to Steve Gardner Pacific Premier Bancorp, Sir. Please go ahead.
Thank you Jamie good morning, everyone I appreciate your joining us today.
As you're all aware earlier. This morning, we released our earnings report for the second quarter up 29 gene.
I'll walk through some of the notable items Ron Nicolas will review a few of the financial details and then we'll open up the call to questions.
I note that in our earnings release. This morning, we have this safe harbor statement relative to the forward looking comments and I would encourage all of you to review those.
We delivered another solid quarter of operating results reflect the execution on our strategic priorities for enhancing shareholder value.
Core deposit growth.
Proactive capital management.
Disciplined cost controls and strong asset quality.
This formula continues to produce consistent earnings and attractive risk adjusted returns for our shareholders.
I was the result of executing on these strategic priorities, we generated 38 and a half million dollars in net income.
Or 62 cents per diluted share for the quarter.
Well producing a return on average assets of 1.33% and a return on average tangible common equity of 15.16%.
What are the highlights during the quarter was our team's ability to generate strong core deposit growth.
The deposit growth was from customer relationships based on the service and the expertise we provide not based on pricing offered.
We have a number of deposit initiatives that are showing positive results.
Particularly with respect to the implementation of our Apiay technology in our H O a business.
Additionally, our continued investment in technology and people is enhancing the specialty deposit groups capabilities and our overall cash management service offerings, which is leading to greater market penetration.
As a result of these initiatives, we saw an increase in new client acquisition, and an inflow and lower cost transaction accounts.
We had 10% annualized deposit growth for our non maturity deposits, which was a record setting 178 million point $1 in the quarter.
Our ability to grow core deposits enabled us to reduce the balances of higher cost brokered deposits and retail Cds and improve our overall deposit mix by the end of the quarter.
Although Cds drove our overall deposit costs higher in the first half of 2019.
As we move through the remainder of the year and continue to strategically focus on generating core deposit relationships, we anticipate our utilization of higher cost funding sources will diminish which should positively impact our cost of funds.
Additionally, it appears that deposit pricing pressures began to abate during the latter part of the second quarter.
While our success in attracting lower cost deposits may vary from quarter to quarter. We are pleased with the progress we have made year to date in a number of key areas and over the long term, we expect to continue to improve our funding mix.
As we have frequently done over the years, we manage concentration risks and dispose of loans that are exhibiting heightened risk characteristics.
As part of our portfolio management process, we proactively identify the early signs of potential credit weakness and then quickly move these credits off of our balance sheet.
During the quarter, we sold 82, and a half million of loans that exhibited the potential for a degradation of the underlying borrowers cash flows.
Additionally, we sold $24.4 million of SB eight loans at attractive gains.
The net decline in our loan portfolio was attributable to these loan sales.
Our higher level of prepayments compared to the prior quarter.
And an overall decline in line of credit utilization rates.
During the quarter, we generated $568 million of new loan commitments up from 550 million in the prior quarter.
Much of our loan production came later in the quarter as we work to rebuild the loan pipeline.
In this highly competitive lending environment, we are benefiting from our diverse lines of business the ongoing focus on strengthening our business development sophistication.
And the investments in and deployment of technology.
Our second quarter loan production included.
$217 million in CNS and owner occupied CRT commitments.
$93 million and franchise loans.
$64 million of construction loans and $28 million of SBK loans.
Our loan production was well balanced and reflects our focus on areas, where we have competitive advantages that enable us to achieve higher risk adjusted yields in conjunction with generating attractive new banking relationships.
Notably we are seeing increasing signs of a willingness on the part of both bank and non bank lenders to accept higher levels of underwriting pricing and structuring risk.
To a certain extent. This fact is not surprising given where we are in the economic cycle.
With the length of this expansion now the longest in post World War two history.
As well as a number of macroeconomic indicators, we remain cautious in our approach to prudently generating new loan production and effectively managing credit risk.
We continue to be committed to exploring a wide range of strategies to further enhance shareholder value.
As part of this commitment during the second quarter of 2019, we issued a $125 million of subordinated debt.
These notes, which qualify as tier two capital.
Further diversify our capital composition and solidify our already strong regulatory capital ratios.
The proceeds from the offering provided us with additional capital management flexibility, which we took advantage of by repurchasing $66 million of our common stock during the second quarter.
We believe the after tax cost of the subordinated debt issued during the second quarter is compelling at a tax effective rate of less than 4%.
Through the share repurchase we effectively exchanged higher cost common equity for lower cost subordinated notes, which will lower our overall cost of capital.
With our strong profitability and improved capital flexibility.
We can we will continue to assess the most effective way to enhance shareholder value.
Be it through investment in our business.
Acquisitions, and or returning capital to shareholders.
As we look towards the second half of the year, our focus will be to closely match, our loan and core deposit growth.
We believe that this approach will allow us to protect our net interest margin and continue to grow in a prudent fashion.
As market sentiment has turned towards an expectation.
Of lower interest rates, we have seen some moderation in deposit pricing pressures.
In light of the positive momentum with core deposit gathering we are optimistic that we can also generate higher level of net loan growth.
Going forward, we expect to generate meaningful amounts of capital and to that end, we will continue to explore opportunities to return capital to shareholders through our dividend and stock repurchase programs.
While maintaining sufficient capital to support our organic and acquisitive growth strategies.
With that I'm going to turn the call over to Ron to provide a little bit more detail on our second quarter results.
Thanks, Steve.
And good morning, everyone.
As in the past I will be reviewing some of the more significant items in the quarter.
Focusing primarily on the linked quarter comparison.
Overall as highlighted in our earnings release, we reported net income of $38.5 million for the quarter and earned 62 cents per diluted share compared with net income of $38.7 million.62 per diluted share in the first quarter of 2019.
Total revenue was $117 million for the quarter compared with $119.1 million in the prior quarter.
As the company realized lower net interest income.
Primarily due to lower average loan balances higher cost of funds.
As well as lower net gains on the sale of loans in the quarter.
Operating expense came in at $63.9 million for the quarter compared with $63.6 million in the prior quarter.
We finished the quarter at $11.8 billion in total assets with loans of $8.78 billion and investments of $1.3 billion.
Deposits totaled 8.86 billion and shareholders' equity was slightly more than $1.98 billion.
Taking a closer look at the income statement.
Our net interest income of $110.6 million decreased approximately $800000 from the prior quarter.
And our net interest margin decreased to 4.28% from 4.37% in the prior quarter.
Accretion income increased to $5.0 million for the quarter compared with $3.8 million in the prior quarter, primarily as a result of higher pay offs in our acquired loan portfolio.
Excluding the impact of accretion income our core net interest margin decreased 13 basis points to 4.08%.
The drop in our core margin in part reflects the new $125 million sub debt issuance, which impacted the margin by four basis points.
In addition.
Lower average loan balances as a percentage of total average, earning assets accounted for four basis points of the decrease and the impact of higher cost of funds was three basis points.
We expect our core net interest margin to be in the range of 4% to 4.10% for the third quarter of 2019.
Absent a potential federal reserve rate cut.
And we expect our accretion income to contribute approximately eight to 12 basis points to our reported net interest margin.
The company reported a provision for credit losses of $334000 in the quarter compared with $1.5 million in the prior quarter.
The decrease is attributable to lower period end loan balances and continued strength in our asset quality metrics in profile.
We anticipate our provision expense to be in the $1 million to $2 million range for the third quarter.
Depending on loan growth and the loan portfolios overall credit profile.
Noninterest income of $6.3 million.
Decreased $1.4 million from the prior quarter as a result of lower net gains on the sale of loans.
Sales included SP, a loan sales of 24.4 million, achieving a net gain of $2.2 million or 9% compared with 25.5 million sold for a net gain of 7% in the prior quarter.
In addition, the company sold approximately $82.5 million of other non ESB loans for a loan for a loss of $1.3 million.
The $82 million loan sale included approximately $45 million of consumer loans auto and mortgage.
The sale also included $4 million of nonperforming loans.
We expect our quarterly noninterest income to be in the range of six and a half to seven and a half million dollars based upon recurring and normal business activities.
Total noninterest expense was $63.9 million compared with $63.6 million in the prior quarter.
Excluding merger related costs non interest expense came in at 63.9 million compared with $62.9 million in the prior quarter.
The increase was driven primarily by higher personnel costs and professional fees.
Moderately higher staffing and business incentives drove the personnel increase.
Staffing finished the quarter at 1041 employees compared with 1014 employees as of March 31 2019.
Of the 27 staff increase 16 were related to our summer intern program.
We anticipate our third quarter expense run rate to be in the range of $64.5 million to $65.5 million.
Owing to slightly higher staffing incentive and insurance costs.
Our second quarter tax rate came in at 26.9% compared with 28.3% for the first quarter.
Favourably impacted by higher municipal security income.
We expect our full year tax rate to be in the 27% 28% range.
Turning now to our balance sheet highlights.
Total loans held for investment ended the quarter at $8.77 billion.
The linked quarter decrease is related to the aforementioned sale of $82 million of nine ESB loans as well as higher prepayments and lower line utilization rates.
For the quarter, we originated $568 million in new loan commitments at a weighted average rate of 5.42% compared with $550 million at a weighted average rate of 5.67% in the prior quarter.
The lower weighted average rate reflects both a more competitive rate environment and to a lesser extent a change in loan mix.
Our investment portfolio finished the quarter at 1.3 million $8 billion, an increase of $86.1 million compared to the end of the first quarter.
During the quarter, we purchased approximately $148 million of new securities and sold approximately $57 million of existing securities.
The quarter also included a $24.4 million mark to market fair value increase.
We expect the investment portfolio to remain at approximately 10%, 12% of total assets and the overall yield should be consistent with current yields at a blended average rate of approximately 3%.
Deposits finished the quarter at $8.86 billion with noninterest bearing deposits of 3.48 billion or 39% of total deposits and non maturity deposits representing 82% of total deposits.
The bank grew its non maturity deposits by $178 million on a linked quarter basis, 10% annualized.
As a result, our loan to deposit ratio finished the quarter at 99% down from the prior quarter of almost 102%.
Our shareholders equity ended the quarter at $1.98 billion down from the prior quarter as the company repurchased 2.2 million shares at an average cost of $29.70 per share for a total cost of approximately $66 million.
In combination with our quarterly dividend the company returned nearly $80 million of capital to shareholders during the quarter.
As a result, we finished the quarter with 60.5 million common shares outstanding.
And a tangible common equity ratio of 9.96%.
In addition, during the quarter the company issued a $125 million of sub debt at 4.875% rate, which facilitated the share repurchase as well as other debt redemptions and enhanced the overall holding company liquidity.
The company remains well capitalized across all regulatory risk based measures.
With a total risk based capital ratio of 13.54%.
Our tangible book value at June Thirtyth increased to $17.92 per share compared with $17.56 per share in the prior quarter.
And 8% annualized increase and 11% year over year increase.
And finally, taking a look at asset quality.
Nonperforming loans fell to $7.6 million down from $12.9 million.
And total delinquency represented 0.15% as of June Thirtyth compared to <unk>, 0.18% as of March 30 Onest.
Our allowance for loan loss ended the quarter at $35 million and represented 459% of total nonperforming loans.
Our allowance to loans held for investment coverage ratio ended the quarter at 0.40% compared with 0.43% in the prior quarter.
The decrease in the allowance and the coverage ratio was the result of lower period end loan portfolio.
The release of $3.2 million in specific reserves in conjunction with the loan charge offs and continued strength in our overall asset quality profile.
We currently have approximately 44% of our loan portfolio under fair value accounting with a total discount of $52 million.
This puts our combined loss coverage ratio at 0.99%.
With that we will be happy to answer any questions you may have.
Operator, please open up the call for questions.
Ladies and gentlemen at this point, we will begin the question and answer session.
To ask a question you May press Star and then one on your Touchtone phones.
If you are using a speakerphone, we do as you. Please pick up your handset before pressing the keys.
So it's all your questions you May press star and two.
Again that is star and then one to join the question queue.
Our first question today comes from.
Gary Tenner from da Davidson. Please go ahead with your question.
Thanks, Good morning, guys.
Good morning, Gary.
I wanted to ask a couple of questions here one on.
The ongoing challenge obviously your pay offs, which has impacted a lot of banks yourselves included.
What are you seeing in terms of pricing competition now.
Has anything changed.
As rates have come down and people are anticipating a rate cut next next week and I guess second to that question. What what are you thinking in terms of the ability to grow loans in the back half of the year.
I think that as I mentioned in the prepared remarks.
We're seeing increasing competition Gary.
Across the board, whether it's pricing underwriting or structure.
And in that is coming from both banks and non banks add that certainly has impacted the pay offs that we've seen in the first half of this year.
I don't see that abating significantly going forward.
At the same time as as we have said.
Over the years.
Our loan growth is very dependent upon our ability to grow core deposits and so I'm encouraged by what I saw here in our ability to bring in those lower cost transaction accounts really solid business relationships and then the commitments that we were able to make on the loan side, there and I do think that there is the incremental room for us to prudently.
Increase our production in the second half.
And our expectation is to.
Grow the loan portfolio itself up but that Cameron Maine.
Dependent upon what how the market.
Evolves and how much of that competition.
Really starts to take a bite out of it.
The the portfolio itself.
Okay Thats helpful and then.
You'd given the some some guidance on core margin expectation for the third quarter I think that does not include the impact of a rate hikes I wonder if you could just give some color around your expectations.
Assuming we get 25 basis points next week.
Yes, and it's.
I think you said rate hike I think.
Yep rate down yes.
If.
If if we got to rate all things being equal.
We would see four to five basis points.
The decline in the margin, but we will we think we can offset a good portion of that all with a decline in in our deposit costs.
We have already teed a lot of that up.
Additionally.
As we continue to grow core deposits.
Thats, allowing us to pay down.
The higher cost brokered Cds.
And to lower some of the pricing on the retail Cds as well.
Great. Thanks, Steve.
Our next question comes from Luton from KBW. Please go ahead with your question.
Good morning, Thanks for taking my questions.
Hi, Lou.
I just wanted to dig in a little bit more on the charge off in the quarter.
And just wanted to see when the specific reserve was booked for that charge off.
It was the specific reserve was booked in in Q1 and that was in connection with the couple of loans that we highlighted in the first quarter. The the one franchise credit.
Okay. That's helpful.
And then just back on the margin just for a second.
You guys said that the four bips of the decline in the margin was due to the sub debt issuance, which came on roughly about mid quarter. So should we see a little bit more headwind to the margin.
In the third quarter or is that kind of mostly priced in.
Luke This is up actually use me this is Ron.
That that sub debt issuance came on a little bit towards the beginning of may.
And the way we've got it profile, that's roughly going to be about five basis points. So another basis point increase to our margin.
Next quarter, so not not significantly different but that's in the guidance we provided in the in the margin itself and.
As we think about it from an EPS standpoint, potentially offset through share repurchases.
Okay. That's that's really helpful. Thanks, and then just lastly, I think you touched on briefly just in the beginning but.
On the traction with the CPI in the H. away business do you mind, just touching on that a little bit more on kind of how thats, that's bringing on lower cost deposits and the traction that Sam.
Yes, that's good.
During.
Q2 in particular of both DHL way business, our specialty deposits and then the the core commercial banking group benefited from.
A lot of the different technology that we've deployed but in particular from the H. away side.
And our trademark data vault product.
That continues.
To give us a competitive advantage in the market.
And as we increase our sales efforts business development.
We're seeing nice results there.
That's really helpful.
Ill step back thank you.
Our next question comes from Matthew Clark from Piper Jaffray. Please go ahead with your question.
Hey, good morning.
On the deposit costs it sounds like.
Starting to put some things in place is the expectation that to posit costs will peak in the third quarter or anything to actually could be down.
If we get a fed cut here next week.
Yes, I mean, it remains to be seen but as I had commented it.
It appeared that deposit pricing pressures had abated in the second quarter.
So.
It's possible wide our expectation is is that deposit pricing did peak in the second quarter.
And we think that there.
Our opportunities for us to drop those those costs in the second half of the year.
Okay.
And then just on the pay offs in the quarter do you happen to have that number.
The prepayment and payoff number.
We saw about about a 90 million dollar increase of prepayments.
350 was the number in total I think we had about 270 in the first quarter some around there.
To 60.
Okay, and then you mentioned line utilization was down I think it was down.
50% last quarter so.
Just wondered how much more it was down and whether or not you had a percentage.
Utilization rate.
Yes, yes, it was down a couple of course, none I don't have the number off the top of my head it probably on an average basis impacted us another $50 million to $75 million.
For that for the quarter.
Matt and what we're seeing there Matt is the businesses that we bank are our strong their cash flows are strong.
And they just don't see the need to avail themselves of of their lines and Weve seen pay downs there.
Okay, and then just on the loan sales.
Seems like you did a little pruning this quarter is that largely done or should we expect to see more loan sales.
The rest of the year.
Non non Sta.
Yes, I think that it's.
It's hard to say what occurs in the future I think that.
We have utilized this tool and other strategies to proactively manage credit risk and we are going to continue to do that.
In the future.
These are loans at times that we're not seeing any performance issues, but given our analysis.
And expectations as well as where we are in this economic cycle.
We think it's prudent to sell these off and so we're happy to do that and happy to transfer that risk to others.
Got it thank you.
Our next question comes from Tyler Stafford from Stephens. Please go ahead with your question.
Hi, good morning, Thanks for taking the questions.
Steve Steve you guys have obviously done a nice job controlling expenses, particularly the last couple of quarters as to growth has been a little more tempered. So if the fed does cut a few times just given how efficient you guys already are I am just curious your thoughts on how much flexibility on the expense side.
That's you have to still drive positive operating leverage.
I think it will be principally driven tyler by increasing revenues.
By a.
Adding expanding balance sheet and that is where we will get the operating leverage.
I don't see us all.
Having significant room to to cut costs at the same time, we're always.
Assessing and analyzing where we are from a staffing standpoint, as well as from a facilities perspective.
Okay.
Just I guess two more from me just on the margin can you just update us on the re pricing dynamics of the loan portfolio and then.
Relative to that four to five basis points.
Margin pressure with each cod or with the July guide is it fair to extrapolate that theres lots of kind of puts and takes on it but is it fair to extrapolate 45 basis points for future 25 basis point cuts beyond the July .
Yes. It is keep in mind, though that's assuming no change in the deposit cost structure and we don't expect that to be the case that is what we're modeling odd that the portfolio itself would it would decline and be the primary driver there, we do expect to offset that.
Through through lower deposit pricing and deposit mix.
Roughly about 20 I want to see 20, 223% of the portfolio is prime based prime based.
Some of the portfolio is out the floors naturally LIBOR has already moved and and then we have floors is as if rates were to move downward incrementally all will start to trigger.
Okay. Thanks, Jim Yep, Yep, again, though I think that with the diverse lines of business and our ability to generate good quality assets at attractive risk adjusted yields off that self will also.
Help offset some of that pressure that we've seen in the margin.
Okay, great. Thanks for that color and just lastly, Steve any comments or thoughts on just M&A environment right now and then.
Potential for for you guys to be successful there this year and I'll hop out thanks.
Sure.
Always hard to say.
How whether or not we think something is going to come together, we are actively having conversations with institutions or where we think it would be advantageous.
To put.
The two banks or two institutions, together, where collectively we could generate better returns for our shareholders.
We will continue to have those conversations obviously with where our multiples are trading that impacts what we could certainly pay for some of the targets.
And that is certainly part of the story when were discussing that with Ceos and other boards.
But.
We think the long term prospects of the company.
Our our bright and by partnering with us.
We think we can generate and unlock significant shareholder value for some of these institutions.
Perfect. Thank you.
Once again, if you would like to ask a question. Please press Star then one our next question comes from Andrew Liesch from Sandler O'neill. Please go with your question.
Good morning, guys.
Hi, Andrew.
Just a question on.
On capital your reference to.
Total risk based capital ratio near 13 and a half.
Because of the sub debt deal, but you are also buying back stock I guess, where are you comfortable letting that ratio.
Declined two and.
Really the reason I asked for the stock is still kind of trading near where you were buying back stock last quarter and.
In my mind, there is more room for guys, we buying back stock here, So where are you comfortable letting that risk based capital get down to.
We've talked about this before that we want to operate the bank and a 12%.
Range, we really do we don't want to be below 12% in total risk based capital. All we certainly have plenty of room or whether its T C or any of the other various capital ratios to continue to buy back stock and that is on something that we continue to assess.
And we will look to do so opportunistically.
Okay.
And then just looking at the period end balance sheet, this cash and equivalents of about $375 million or so is there anything transitory in that number.
That was that cash of any planned usage here. This quarter, just trying to get a sense on what what average balance sheet I should be looking at for this quarter.
Yeah that was a little bit high that would have come down shortly after the quarter closed off and more typically is in that neighborhood of 200 250 million in cash.
Okay.
That covers all my questions. Thanks, so much.
Very good.
Our next question comes from Don Worthington from Raymond James. Please go ahead with your question.
Good morning.
Hi, Don.
Just a couple I guess.
Minor questions on the.
The other.
Non interest income was impacted by.
I guess, a smaller valuation adjustment on CRH.
Is there kind of an ongoing.
Run rate for that type of adjustment it looks like it swings around a little bit.
Yes. It does there theres no real run rate is it dependent upon the couple of particular investments of what's going on in the market the markets.
Okay.
And then small number though.
Yes, yes, any particular reason for the increase in legal and audit fees this quarter.
No.
You know as we continue to grow in.
So no nothing in particular that nothing nothing in particular there down.
It's just a typical ebb and flow of.
Third party services.
Okay.
Last one from me it looks like you purchased some multifamily loans in the quarter.
Such as part of the rebalancing of the portfolio.
And just to supplement the existing production and then obviously, what we saw in some of the runoff in the in the portfolio itself.
Okay.
Alright, thank you.
And ladies and gentlemen, and showing no further questions I'd like to turn the conference call back over to management for any closing remarks.
Very good thank you Jamie and thank you all for joining US today, if you have any further questions.
Please feel free to reach out directly to Ron or myself have a good day.
Ladies and gentlemen, the conference call has now concluded we do thank you for joining todays presentation. You may now disconnect your lines.