Q2 2019 Earnings Call
Good morning, and welcome to the independent Bank Corp. second quarter 2019 earnings Conference call. All participants will be on listen only mode. So you need assistance. Please signal a conference specialist by pressing the star key followed by zero. After todays presentation, there will be an opportunity to ask questions.
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Please note that this event is being recorded I would now like to turn the conference over to Brad Kessel, President and CEO . Please go ahead.
Good morning, Thank you for joining independent Bank Corporation's conference call and webcast to discuss the company's 2019 second quarter results.
I am Brad Kessel, President <unk>, Chief Executive Officer, and joining me is Rob Shuster Executive Vice President and Chief Financial Officer.
Before we begin todays call is my responsibility to direct you to the important information.
On page two regarding the cautionary note regarding forward looking statements.
If anyone does not already have a copy of the press release issued by independent today.
You can access it at the company's website Www Dot independent bank Dot com.
The agenda for today's call will include prepared remarks, followed by a question and answer session and then closing remarks.
I'm very pleased with our second quarter results to start off we were again awarded the Forbes best in State Bank in 2019, taking first place.
Works partnered with market research firm statistic.
The survey more than 25000 citizens throughout the United States.
There were surveyed for their opinions on their current and previous banking relationships.
Bags for rated on overall recommendations and satisfaction.
As well as five sub categories, including trust terms and conditions branch services digital services, it's a nice financial advice.
Nationwide financial institutions were excluded from the final rankings.
I know how hard each and every associate within our company works to serve our customers and it is great to have her team get the best in state Bank recognition.
Moving onto our financial results at a summary level.
We had good growth in net interest income with only one basis point of margin compression.
We had strong fee income primarily through gain on mortgage loan sales and our expenses were well controlled coming in on the low end of our guidance.
The team continues to do an excellent job of managing asset quality, enabling us to record only small loan loss provision primarily related to new loan growth.
Our portfolio loan growth occurred through each business line. In addition to a very strong quarter of mortgage loan originations and sales.
Turning to slide five of our presentation with a little more detail on the quarter. We are pleased to report second quarter 2019, net income of $10.7 million or 46 cents per diluted share.
Versus net income of $8.8 million or 36 cents per diluted share in the prior year period.
Impacting our second quarter results for both 2019 and 2018.
As the acquisition of Traverse City State Bank.
Which closed on April Onest 2018.
As well as the changes in the fair value due to price of our capitalized mortgage loan servicing rights.
For the three months ended June Thirtyth 2019, a decline in the fair value of our capitalized mortgage loan servicing rights due to price decreased noninterest income by $2.7 million or nine cents per diluted share after tax.
This compares to a $500000 increase in fair value due to price or two cents per diluted share for the three months ended June Thirtyth 2018.
Excluding the after tax impacts of the MSR changes due to price and $3.1 million in merger related expenses for the three months ended June Thirtyth 2018, net income and diluted earnings per share increased by 18.4% and 25% respectively.
For the second quarter of 2019, a return on average assets and return on average equity were 1.27 per cent and 12.72% respectively.
These ratios increased to 1.52% and 15.22% respectively. When excluding the after tax impact of the MSR change.
Driving these increases in net income and diluted earnings per share on a year over year quarterly basis.
What's a $1.8 million or 6.1% increase in net interest income.
And a 1 million dollar increase in net gains on mortgage loans.
During the second quarter, we grew portfolio loans by $87.7 million.
Or 13.4% annualized.
This represents the 21st consecutive quarter of loan growth.
On the funding side during the second quarter total deposits were up $65.5 million or 4.5% annualized and when excluding brokered deposits the growth rate increases to 7% annualized.
For the six months ended June Thirtyth 2019, the company reported net income of $20.1 million or 85 cents per diluted share.
Compared to net income $18 million or 78 cents per diluted share in the prior year period.
Slide seven of our presentation provides a good view of our footprint.
Turning to slide eight.
Michigan business conditions continue to be favorable with low unemployment some job growth affordable housing and continued good demand for commercial real estate.
The May 2019, Michigan unemployment rate at 4.2% is unchanged from one year ago.
And 0.6% above the U.S. unemployment rate of 3.6%.
Regionally Grand Rapids unemployment is at 2.8% Lansing is at 3.1%.
Detroit Livonia Dearborn is at 4.5%.
Michigan's workforce is 4.44 million strong and overall employment is up slightly from one year ago.
The continuation of the positive economic trends can been seen can be seen in our regional portfolios shown on page nine.
Our two strongest growth regions are the Grand Rapids region up $110 million in loan balances and our southeast, Michigan region up $61 million in loan balances.
The next couple of slides cover our balance sheet.
Turning to page nine we provide a couple of charts, reflecting the attractive composition of our deposit base.
As well as the continued growth in this portfolio, while working to effectively manage our overall cost of funds.
Independent has 2.98 billion and total deposits of which 77% and our non maturity deposit accounts.
When comparing second quarter 2019 to the same quarter, one year ago, we increased deposits by $180.1 million. Our total cost of deposits is up three basis points on a linked quarter basis and is up 34 basis points when comparing to the same quarter one year ago.
Our success in growing deposits, while managing the overall cost of deposits has been primarily through the sale of our insured cash sweep product to public fund entities.
Similar charts are also reflected on page 11, but in this case, we are displaying our loan portfolios.
We continue to target a diversified loan mix with the largest portfolio being our commercial book of business at June Thirtyth 2019, our loan mix included 43% commercial 39% mortgage 16% installment and 2% held for sale.
Total loans outstanding no aggregate to $2.77 billion excluding.
Including $62.9 million of loans held for sale.
The commercial portfolio grew by $7.6 million or 2.6% annualized during the quarter.
Consumer installment loans were up by $37.6 million or 37.1% annualized for the quarter, primarily through our indirect lending line of business, which targets, Michigan Marine power sports and RV dealers.
Total mortgage.
Total mortgage originations for the quarter increased to $241 million.
Up from the first quarter is $138 million and up from the second quarter, one year ago of $226 million.
Portfolio mortgage loans increased by $42.6 million or 16% annualized for the quarter.
In terms of capital management.
Our capital levels continue to be strong with tangible common equity to tangible assets moving from 9.26% at March 30 120.
19.
8.72% at June Thirtyth 2019.
This is well within our targeted TCV range of 8.5% to 9.5%.
Our board of directors increased the 2019 quarterly cash dividend by 20% to 18 cents per share effective February 15th 2019.
During the first six months of 2019, the company completed the repurchase of 5% of its outstanding shares.
Specifically 1.179 million 688 shares were repurchased at a weighted average purchase price of $21.85 per share.
On June 18, 2019, the board of directors of the company supplemented 2019 share repurchase plan and authorized the repurchase of up to 300000 additional common shares.
At this time I would like to turn the presentation over to Rob Shuster to share a few comments on our financials credit quality Cecil and our outlook for the balance of 2019.
Thanks, Brad and good morning, everyone I am starting at page 13 of our presentation.
Brad discussed the year over year increase in our net interest income during his remarks, so I will focus on our net interest margin.
Our tax equivalent net interest margin was 3.87 per cent.
During the second quarter of 2019.
Which is down six basis points from the year ago period.
But down just one basis point from the first quarter of 2019.
I will have some more detailed comments on this topic in a moment.
Average interest, earning assets were $3.19 billion in the second quarter of 19 compared to $2.96 billion in the year ago quarter.
$3.15 billion in the first quarter of 2019.
Page 14 contains a more detailed analysis of the linked quarter increase in net interest income.
There was a lot of data on this slide but to summarize a few key points.
Overall, we felt that the net interest margin held up very well in the second quarter, despite a rather challenging environment.
The amount of average loans increased $77.8 million and average loans represented 84.6%.
Of total earning assets in the second quarter of 19.
As compared to 83.2% in the first quarter of 19.
This change in mix helped push our average yield on earning assets up by three basis points.
The average cost of funds was up four basis points to 0.86% in the second quarter of 19.
From 0.82% in the first quarter of 19.
We experienced a 7.7 million dollar decline in average non interest bearing deposit balances in the second quarter of 19.
However, this compares to a 27 million dollar decline in the first quarter of 19.
Finally, one more day in the second quarter of 2019 increased net interest income by $159000 compared to the first quarter.
Your comment more specifically on our outlook for net interest income for the balance of 2019 later in the presentation.
Page 15 compares are.
Quarterly average cost of funds to the monthly average effective federal funds rate during the quarter in the spot federal funds rate during the quarter.
As you all know there has been an amazing change in sentiment as we have moved from considering the impact of additional fed funds rate increases on cost of funds to now considering the impact of lower interest rates on our net interest margin.
Moving on to page 16, noninterest income totaled $9.9 million in the second quarter of 2019.
As compared to $12.3 million in the year ago quarter.
And $10 million in the first quarter of 2019.
Mortgage loan servicing caused most of the quarterly comparative.
And year over year variability in non interest income and Brad covered these numbers in his remarks.
Second quarter net gains on mortgage loans increased to $4.3 million compared to $3.3 million in the second quarter of 18.
The increase in these games was due to increases in mortgage loan sales volume.
And in the mortgage loan pipeline.
Mortgage loan application volume was very strong in the second quarter of 19 and continues to be very strong at the start of the third quarter as we have both a healthy purchase market.
In refinance volumes have been increasing due to lower interest rates.
As detailed on page 17, our non interest expenses totaled $26.6 million in the second quarter of 2019.
As compared to $29.8 million in the year ago quarter.
In $28 million in the first quarter of 2019.
The second quarter of 2018 included $3.1 million of merger related expenses.
The decrease from the first quarter of 19 is primarily concentrated in the compensation and employee benefits occupancy and other real estate line items.
We will have more comments on our outlook for noninterest expenses later in the presentation.
Investment securities available for sale decreased $31.2 million during the second quarter of 2019.
Page 18 provides an overview of our investment portfolio at June 32019.
Approximately 31% of the portfolio was variable rate and much of the fixed rate portion of the portfolio is in maturities or average lives five years or less.
The estimated average duration of the portfolio is about 2.7 years.
With a weighted average tax equivalent yield.
Of 3.12%.
Which is down five basis points from March 31, 2019.
Page 19 provides data on nonperforming loans other real estate nonperforming assets and early stage delinquencies.
Total non performing assets were $9.4 million or just 0.27% of total assets at June 32019.
Nonperforming loans decreased by $8.9 million during the second quarter of 2019.
You may have noticed that we began to deduct government guaranteed loans from total non accrual loans to arrive at total nonperforming loans.
This is a common practice and as our Ginnie Mae mortgage loan servicing portfolio has grown we may elect to purchase defaulted mortgage loans out of pools during the pendency of the claims process.
At June 32019, 30 to 89 day commercial loan delinquencies were just 0.02%.
For commercial loans and mortgage and consumer loan delinquencies were just 0.43%.
Moving on to page 20, we recorded a provision for loan losses of $652000 and $650000 in the second quarters, 2019, and 18, respectively.
We recorded loan net charge offs of just $3000 in the second quarter of 19 compared to loan net charge offs of $217000 in the second quarter of 2018.
The allowance for loan losses totaled $25.9 million or <unk>, 0.96% of portfolio loans at June 32019.
Page 21 provides some additional asset quality data, including information on new loan defaults.
Classified assets.
New loan defaults were just $2.5 million during the first half of 2019.
Page 22 provides information on our TDR portfolio that totaled $52.1 million at June 32019.
Which is a decline of $1.2 million during the second quarter.
This portfolio continues to perform very well with nearly 95% of these loans performing.
And 93.1% of these loans being current at June 32019.
Page 23 provides a detailed timeline for our implementation of the Cecil accounting standard.
We are on track to publicly disclose the estimated impact of Cecil and our allowance for loan losses, when we file our second quarter 2019 Form 10-Q .
On or about August 2nd 2019.
Page 24 is our update for 2019, where we compare our actual performance during the year.
To our original outlook that we provided back in January 2019.
Overall, we believe that our actual performance in the second quarter of 19, when factoring out the negative fair value adjustment due to price on capitalized MSR ours was better than our original outlook.
We achieved actual annualized loan growth of 13.4% in the second quarter of 19, typically our second and third quarter loan growth is the strongest due to seasonal factors.
We remain comfortable with our full year expectation of 8% to 9% or slightly better loan growth.
With the current shape of the yield curve and the now expected cuts in the federal funds rate, we do expect some downward pressure on our net interest margin.
As a result, we reduced our original forecasted growth rate.
Of 10% to 11% for net interest income for all of 2019 down to 8% to 9%.
This updated forecast assumes 25 basis point cuts in the federal funds rate in July September and December .
We had a loan loss provision as mentioned earlier.
Of 652000 in the second quarter. This was below our anticipated level because of better than expected asset quality metrics, we expect generally stable asset quality metrics during the remainder of 2019.
So loan growth is anticipated to be the main driver of our loan loss provision.
Excluding again, the negative fair value adjustment due to price on MSR ours, our adjusted second COVID-19, non interest income would have been a bit above the high end of our forecasted range due primarily to higher net gains on mortgage loans. We continue to expect noninterest income to be within our forecasted range in the next two quarters, excluding any volatility associated with changes due to price and the fair value of the MSR.
As I discussed last quarter, we expected actual second COVID-19, non interest expenses to move back within our forecasted range due primarily to primarily to lower expenses and compensation and employee benefits occupancy.
In credit related items, which are comprised of all ari cost related to unfunded lending commitments in the provision for loss reimbursement on sold loans. These declines resulted in actual second quarter total non interest income being a bit below the lower end of our range. We expect to generally be within our forecasted range in the last half of 2019.
Finally, our effective income tax rate was 20% in the second quarter of 19, which is exactly.
Inline with our forecast just a couple of supplemental comments, probably the two areas where I I believe.
We could we could do a bit better than my comments that I just made would be in the provision for loan loss area, particularly in the third quarter and.
In non interest income if our.
Mortgage loan pipeline holds up at September Thirtyth.
That concludes my prepared remarks, and I would now like turn the call back over to Brad.
Thanks, Rob.
We have listed our strategic initiatives on slide 25.
During the first half of 2019, we made significant progress in each of these areas.
We believe successful execution on these initiatives will continue to drive strong returns.
As community Bank at the center of all our strategies is staying focused on serving our customers and investing in our markets and our people.
At this point, we would now like to open up the call for questions.
We will now begin the question and answer session.
To ask a question you May Press Star then one on your Touchtone phone.
If you are using a speakerphone. Please pick up your handset before pressing the keys to withdraw your question. Please press Star then two at this time, we will pause momentarily to assemble roster.
The first question comes from Brendan NASO of Sandler O'neill and partners. Please go ahead.
Hey, good morning, everybody how are you.
Great. Thank you.
Good just wanted to start off here on the NII outlook I definitely appreciate the clarity and guidance that the revision back to 8% to 9% and AD growth for the year is due to the outlook for a couple of fed cuts.
Just so we can put a finer point on what each fed cut means for the NIM in terms of basis points is as you sit here today.
As we sit here today, the impact and again some of this would be dependent on timing. So what we have forecast as a.
25 basis point cut.
In late July August coming early next week, a cut in September and it cuts in December so the December cut really does not have that.
Dramatic an impact.
In in over time.
When you get a full year impact it could be a bit greater but in general over the course of the six months, assuming those cuts were looking at.
Downward move in the net interest margin.
Cumulatively of about 10 basis points.
And how that spreads out between the two quarters on.
And that is certainly on that but that.
On an overall basis, that's about what we're looking at.
Now we hope to hold the line on loan pricing as much as we can in push hard on deposits to try and mitigate some of that.
Okay, Great and then just to clarify that will be a kind of a point to point from.
Two q. 19 levels through the full impact of those three cuts correct.
Yes, but again as I said the December cut you're really.
That doesn't have that big of an impact it's only for a part part of a months during that six month period.
Understood. Okay, and then moving on to the funding side I mean, you guys held the line really nicely on an overall deposit cost this quarter just curious.
As to your thoughts on how much you can push back on deposit pricing with these expected fed rate cuts.
Well I think in the.
Public funds Arena I think we could move.
Fairly quickly and there are number of accounts, where we model them with a beta of 100%. Another words, there and they may not be under their terms linked to a particular driver rate, but the way we price them is pretty much a link to a driver rates. So.
With respect to those dollars I think we could get an immediate.
Move.
If we get a fed rate cut now those dollars are not as great as what we would see with an immediate caught on the prime rate with commercial loans et cetera. So.
That's where I think we could push immediately and the balance of deposits that are.
Smaller and balance, but there are weve tried to hold the line as we've moved up so I don't know that there is as much push on the other way on the way down so that kind of gives you.
A little bit of a mix on the funding costs. The other area I do think though that over time, we'll get an immediate impact would be the wholesale funding side of things so broker deposit rate should come down.
In borrowing costs should come down.
And I think all that into account in that in that sort of forecast for the NIM, but again.
To the extent, we could hold the line on loan pricing get a little bit better earning mix.
There and push on deposits I am.
I'm optimistic we can we can do a bit better.
All right. Thanks for taking my questions.
Again, if you have a question. Please press Star then one our next question comes from.
Damon Delmonte of KBW. Please go ahead.
Hey, good morning, guys How's it going.
Hi, Damon good thing.
Great. A quick question on the margin is a quick follow up.
Rob what are you forecasting for Accretable yield for the the next couple of quarters.
Well I think it was a it was about.
Hi, I'm not going to get to that slide but it was about.
Hi.
Basis points.
It was like C.
Yeah about I think four to five basis points.
Oh, Yeah 5.1 basis points.
I don't I mean that that's going to drift down over time as that portfolio shrinks.
No to the extent you get more pay off activity it could accelerate it a bit but I don't see a material change their lease then okay.
Okay.
And then kind of switching over to loan growth.
Good to see that the outlook remains remains positive there can you talk a little bit about what's driving the the installment loan growth is that was that more seasonal here in the second quarter and that carries into the third quarter or is there just greater demand.
For those types of those types of loans, whether it be marine or power sport or RV.
Well, Steven I think that.
The strong performance.
Orders here in the second quarter.
Is directly related to continued consumer optimism in the marketplace and.
A majority of that production for consumer growth came through our indirect lending desk.
Which focuses specifically on RV marine and power sport and.
The production that we.
Have had through six months.
Out of that area is slightly over what it was a year ago, but very similar to what we saw.
In 2018 and.
We continue to.
I have a.
Hi expectation for.
Yes, you know credit quality, there, probably we give a little and yield to to accomplish that.
But work extremely hard with the dealer network to be the perverse preferred provider.
For that high.
Credit quality.
Source of financing.
I would imagine that we'll see it still continue into the third quarter and then typically fall off into.
Fourth quarter and then early 2020.
Got it Okay, maybe Ed no.
Okay. That's helpful.
And then I guess.
Could you just give us some thoughts on M&A and kind of what you're seeing as opportunities across your footprint in Michigan and your appetite to participate in any possible.
Deals.
Well.
There there have been.
Year to date in.
2019, several announced deals.
And.
We continue to see a.
Shrinking population of of banks with within our immediate footprint.
You know I would say that.
We have said and we'll continue to.
Ron the independent.
Plan focused on organic growth.
And supplemented.
With acquired growth, where it makes sense I am pleased.
With.
The opportunity to.
You know be included were appropriate, but our our game plan continues to be focused on organic growth.
David We said.
I think again as I mentioned, our our organic growth has come from the.
West Michigan.
Portion of our footprint as well southeast, Michigan and.
In both those markets.
Weve been able over the last 12 to 18 months add.
A number of new talented.
Lenders from.
The market disruption that's been taking place in.
That has really been a nice source of our organic growth.
Great. Okay. Thanks for the color Thats all that I had thank you.
This concludes our question and answer session.
I would like to turn the conference back over to Brad Kessel for any closing remarks. Please go ahead.
We would like to thank each of you for your interest in independent Bank Corp. and for joining us on todays call, we wish everybody a great day.
The conference has now concluded. Thank you for attending today's presentation you may now disconnect.