Q2 2019 Earnings Call
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It will be placed into the call. It should begin here shortly thank you.
Thank you.
Good day and welcome to the first Commonwealth Financial Corporation second quarter 2019 earnings Conference call.
All participants will be in listen only mode should you need assistance. Please signal in 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 on your telephone keypad.
To withdraw your question. Please press Star then too.
Please note. This event is being recorded I would now like to turn the conference over to Ryan Thomas Vice President of Finance and Investor Relations. Please go ahead.
Thanks, Sean.
As a reminder, a copy of today's earnings release can be found by act that can be accessed by logging on to SD banking dotcom and collecting investor Relations link top of the page. We have also included a slide presentation that with on our Investor Relations page with supplemental financial information that maybe referenced throughout todays call.
With me in the room today are Mike price, President and CEO of first Commonwealth Financial Corporation, and Jim Reske, Executive Vice President and Chief Financial Officer.
After brief comments from management, we will open the phone call to your questions for that portion of the call. We will be joined by Jane November Chief revenue Officer, and President of first Commonwealth Bank, Brian care, our Chief Credit Officer, and Mark Lopushansky, Our Chief Treasury Officer before we begin I would like to caution listeners that this conference call will contain forward looking statements. Please refer to our forward looking statements disclaimer on page two of the slide presentation for a description of risks and uncertainties that could cause actual results to differ materially from those reflected in the forward looking statements.
Today's call will also include non-GAAP financial measures non-GAAP financial measures should be viewed in addition to and not as an alternative for our reported results prepared in accordance with generally accepted accounting principles.
A reconciliation of GAAP to non-GAAP operating measures can be found on page 13 of today's slide presentation, and now I would like to turn the call over to Mike price Hey, Thanks Ryan.
Second quarter net income progressed nicely to $27.3 million and produced a 1.37% core return on assets.
The quarter's results were driven by strong loan and deposit growth a stable net interest margin at 3.75%.
Increasing contribution from the fee businesses and lower provision expense all of which were offset by expense headwinds.
Second quarter loan growth of $138 million or 9.4% annualized comes on the heels of loan growth of 6.6% annualized in the first quarter.
Equally important deposit growth has been commensurate with loan growth so far this year.
As we reflect on our momentum in organic growth in 2019, several thoughts come to mind.
First our four small low risk, Ohio acquisitions over the last four years have led to a $1.7 billion loan and a $1.5 billion deposit franchise in Ohio that contributed over 85%.
The loan growth in the first half of 2019.
The loans and deposits in Ohio have since grown impressively on top of the acquired loan and deposit footings at the time of each respective acquisition.
Second two years ago, we moved to a regional market model led by local regional presidents, which is consistent with our community bank strategy and culture.
Cleanly aligns local leadership with piano responsibility and fosters cross selling this regional model is really working well to drive results enabled teamwork and improve recruiting and talent development.
Third is our people.
We have added numerous talented new hires to a bevy of very good producers in each of our businesses.
Fourth our commercial bank continues to perform very well and had another very solid quarter.
Fifth we're seeing more balanced production and growth across first Commonwealth to include mortgage indirect auto branch lending in SBS.
We're seeing excellent production in our indirect group at wider replacement yields and lower net charge offs by the way this business performed very well for us through the last cycle.
Six our customer service and sales culture, along with our people continue to get better every quarter.
I mentioned earlier that over 85% of our loan growth is from Ohio.
Just as important to 75% of our deposit growth in the first half of 2019 came from Pennsylvania in large part due to our disciplined small business and middle market, calling efforts that emphasize deposit gathering.
This growth has come at a time of high credit standards and tight loan concentration limits as evidenced by steady improving asset quality metrics and is keeping with our trend of de risking the balance sheet over the last half decade. For example, the commercial portfolio has become more granular as well in 2019 with even fewer borrowers over $15 million in total exposure.
Fee income gain traction in the second quarter.
And from last quarter more fundamentally fee income saw strong improvement in our fee based mortgage SPJ and wealth businesses. This quarter marks the fifth anniversary of the Nova de Novo startup of our mortgage business through June mortgage originations from this business were up 20% year over year to a record $197 million, thus driving both gain on sale income of $3.6 million as well as mortgage portfolio growth.
This business has been a source of younger.
Credit worthy households, been an important offering to our clients, particularly business owners helped enable a positive perception of our brand helped us better manage our interest rate sensitivity and contributed meaningfully to our financial results. Our SP a business is gaining momentum as well as fee income from sales of the guaranteed portion of our SP originations improved to $982000 in the second quarter up from 617000 last quarter in the second quarter, we remain the number to SP, a lender in northern Ohio, and Western PA in wealth management pretax income contribution is up 36% year over year as retail brokerage set production records in the second quarter two to better line of business partnerships.
Finally, our focus on digital banking continues to pay off our objective measures show strong traction and supporting evolving digital and payment technology with commensurate adoption by our customers. Just a few examples first at least 18 substantial substantial second quarter projects were completed to improve efficiencies redesign processes and or improve customer service second online banking penetration ended the second quarter of 60, 67% of enrolled users with mobile banking and mobile deposit penetration at 41% and 22% respectively.
All channels are exceeding our 2019 goals and experiencing solid growth in third.
Active users of mobile wallets, Google, Samsung and Apple increased 30% year over year to over 25000 current customers total transactions for these same users were up 65%.
Versus the same period in 2018 contact list cards and additional mobile wallets are in the pipeline.
Finally, I'd be remiss, if I didnt mention that our previously announced acquisition of 14 branches from Santander is proceeding well we received all regulatory approvals before the end of June and we intend to have the transaction closed and converted by September night, and with that I'll turn the much more interesting topics of net interest margin and non interest expense over two.
Our esteemed CFO Jim risky.
Thanks, Mike.
Appreciate that.
As Mike mentioned, there were some headwinds in non interest expense. This quarter. So let me get that out of the way before turning to the margin.
We took about $900000 in charges in the second quarter as we cleaned up little remains in our other real estate owned portfolio willing that portfolio down to approximately 1.9 million by the end of the quarter.
We also took a $200000 write down on an empty branch building. They we have up for sale.
Fortunately these effects were somewhat offset by a $400000 eight on a nonperforming loan that we sold in the second quarter, although that gain shows up in the fee income line and not non interest expense.
There was also a noteworthy impact on non interest expense from the reserves that we set aside for growth in unfunded loan commitments every quarter.
While this is a good problem to have because it's commensurate with loan originations.
It did represent $612000 of expense in the second quarter compared to a release of $381000 in the first quarter, reflecting seasonality in construction lending.
So this one item represented a swing of approximately $1 million of non interest expense between the first and second quarters.
In addition, our non interest expense was affected by health insurance costs.
Which are up approximately $2 million in the first half of 2019 over the first half of last year due to claims experience.
Let me turn now to the net interest margin. We were pleased to see the margin held steady at 3.75% unchanged from last quarter.
There was one basis point of quote unquote fade out.
The accretable purchase accounting yield in the quarter without which we would actually have expanded by a point.
Looking forward and depending of course on broader market conditions. The acquisition of the low cost Santander deposits in early September should benefit the margin for a portion of the third quarter as are all of the fourth quarter.
As a result, we expect that our NIM may be well positioned to perform relatively well compared to the forecasts a downdraft in margins for the banking industry in the remainder of 2019.
And with that we'll take any questions you may have.
We will now begin the question and answer session. So ask your question you May Press Star then one on your telephone keypad.
If you are using a speakerphone. Please pick up your handset before pressing the keys to withdraw your question. Please press Star then too.
Our first question will come from Steven loss with B. Riley FBR. Please go ahead.
Hi, good afternoon guys.
Hey, Steve.
I guess, starting with the margin here just wondering what you guys are thinking if it wasn't for the Santander acquisition, how much the margin.
Would compress and obviously you would get a bump up from you Mike we get a bump up from the acquisitions.
How to think about that this quarter and in the fourth quarter, if we get 50 basis points.
Jeff.
Well.
I.
You said at the end of your question mentioned, if we get 50 basis points, we done some of the now analytics around a 25 basis point cut.
And I can tell you that for every 25 basis point cut our margin will probably compressed by three or four basis points I want to put that in context, though because we really have worked quite a bit to make the balance sheet more neutral this year by retaining some of our mortgage production shifting the balance sheet mix in favor of loans versus securities slowing the pace of deposit increases in light of that pending branch acquisition assumes we havent announced.
So we've done some things to make ourselves more neutral, but there still is some asset sensitivity of the balance sheet and that's where you get the three or four bips on the downside fairly cut.
The offset to that is that as we I think we had previously announced the benefit of branch acquisition is probably five to 10 basis points of NIM due to the ability to pay off higher cost borrowings and the reason thats a range is that it depends on what the level of interest rate is at the time, we are completely acquisition, but those two effects are offsetting each other so probably a little bit of compression for the first two months of the third quarter and then some expansion in the third month of the third quarter.
Leaving us to think that our NIM in the aggregate will probably fairly neutral.
In the third quarter give or take a few minutes.
Okay. That's helpful.
And then.
The other thing I was wondering about is just.
In.
Wondering where our replacement yields for loans here.
You guys mentioned that there was.
There are higher replacement yields versus running off and just get a little flavor for that too.
Yes, let me be clear about that most of the loan categories do still have positive replacement yields.
And where we do see negative replacement yields it was because of the run off of higher yielding loans, particularly towards the end of the second quarter.
In the aggregate the.
The replacement yields were five basis points negative in the quarter.
But the new loans coming on were still have higher yields in the portfolio yield from that helped lift the entire portfolio over the course of the quarter.
Hopefully that makes sense.
Okay. So.
Higher yields relative to the portfolio at least even though it's lower than the run off.
That's right.
That's right that's right and just looking at.
The loans that did well enough that caused.
The.
The replacement yields to be negative will really in one category commercial lending and that was really because you had some very high price loans run off really in the second two months of the quarter, the new origination yields for that portfolio, we're still over 5%. So still very healthy so it didnt appear as though there was any.
Price cutting ticket price.
But overall that still that five basis point negative.
Replacing all did have an effect.
Okay. That's helpful and I guess, one more thing related to the loan portfolio just in terms of what percentage of loans are tied to LIBOR and prime. These these days.
I think weve got the exact number for you.
There is about $1.5 billion of loans.
Yes for a percentage, 25.23% is tied to LIBOR.
I'll start my Ed and 11, 11.64% is tied to prime and broad.
Dollars very rough dollars, that's about 1.5 billion of loans tied to LIBOR and it's one month LIBOR not three month and about $700 million tied to prime.
Great and.
I guess shifting to to loan growth here on another good quarter for loan growth.
You guys have previously hinted at loan growth, possibly being at the high end of.
Mid single digits.
Obviously continues to be strong just kind of wondering.
It sounds like pipelines, so strong where you know how should we think about loan growth from second half of this year and where are you seeing what types of senior loans are you seeing.
Yes, the good thing about our loan growth, it's pretty broad based across commercial and also consumer categories and.
I think it's also a function of a regional better business model and just a better ground game around calling and execution.
And on the Cnine signed eight I'd, just had dinner with kind of a.
A group of middle market.
In a manufacturing and business owners, and we're doing a better job on the small business side as well.
And.
Just very solid very broad based and certainly the regional business model has been a shot in the arm for us.
Okay. That's helpful and the guidance I would give specifically is there was 6.6 and 9.4.
We hope to continue probably somewhere in that range and.
Again, we really can a little oil on the consumer side Thats been shored up.
And we just have better and better teams each quarter team gets better.
Okay. So.
This.
So basically what we saw for the first half is.
Likely to continue for the second half it sounds like.
At somewhere between that.
Probably the mid five six and <unk>.
Maybe the higher end this past quarter, we did nine I think that was an outstanding quarter that would probably be the upper end of the range.
Okay. Thank you very much I appreciate that guys.
Thanks, Steve.
Our next question comes from Russell Gunther with da Davidson. Please go ahead.
Hey, good afternoon guys.
Good afternoon.
Maybe just while we're on the loan growth topic I appreciate your thoughts on the magnitude going forward.
But could you give us a sense for some of the drivers as well would you expect this broad based kind of contribution to continue and perhaps regionally or geographically what are some sources of strength going forward.
Yeah, Great question I think.
On the on the.
Consumer side mortgage has already been a strength for us through six months.
The consumer indirect auto business has been a source of strength with widening yields and very good credit quality and then on the commercial side, we've really had a nice run with commercial for several years and probably into this this quarter, we were down on commercial real estate.
But you know pretty equally yoked ideally between Cnine commercial real estate and as we think about geographies, we probably have.
At this point, a little bit more of our growth coming from.
Oh, hi, ill, but I think.
I really think of Pittsburgh is taking off we've invested heavily in that market and.
So really.
Those areas, probably led by Ohio on the growth side.
With Pittsburgh, gaining traction and then on the deposit side quite frankly.
Pretty broad base, there, that's a matter of execution and our bank President there James events really has a lot of alignment with the team on going out and gathering deposits.
That's really helpful color. Thank you on the expense side of things Im just trying to appreciate the.
Reminder, on some of the moving pieces intra quarter.
On the core expenses.
But trying to tie together comments made on the impact to the margin with a potential fed cut or two.
Is that.
Mid 55% efficiency ratio target for the end of the year still good or is there any pressure on that.
We'll probably revisit that after we funded with the fed does this weekend going forward, 55% guidance that we gave last quarter was really predicated on us.
A more stable rate environment, so it's still our goal.
And we still have very tight expense controls and we're very proud of that and have a long history of that.
But part of that occurs on the revenue side of it depends on the margin as well so.
What we hope to get that to 85% is still our target and may not be in the fourth quarter, but there remains our target.
Okay.
Thanks for your thoughts there.
And then lastly, and Santander, they're closing next.
Coming in next quarter, maybe just get your thoughts if you could about your interest and appetite in depository.
Deals geography is of interest just a reminder, on your thought process there.
Just we've been a very interested in contiguous markets that are.
Good depository is that we could put a.
Commercially the commercial franchise on top of that and begin to grow it we've done that in Cincinnati, Columbus, and greater Columbus Metro up into Delaware County, and Northern Ohio, and now will have the opportunity and we already have some traction in.
North Central PA from state college over into Williamsport, which are our kind of markets I mean, good depository, but also we feel like we will compete very effectively for that one to two to five to 10 million dollar deal and in fact were already.
Chasing down a deal or two up there even prior to the close so.
In terms of acquisitions or branch.
Opportunities.
Probably contiguous to.
[noise] into those four metro's and we really like rural Depositories.
And we test we are brand tends to do well there.
Great. That's all I had thanks for taking my questions.
Thank you.
Our next question will come from Collyn Gilbert with KBW. Please go ahead.
Thanks, Good afternoon guys.
And then maybe Mike just and Tim is small, but just following up on the on the deposit comment you guys gave great color in terms of some of the loan dynamics and where you are seeing growth and how the pricing on some of those credits is looking can you just walk through similarly on what you're seeing on the deposit side I mean, that's great that you hope to maintain a similar level of deposit growth that you're seeing them on the loan side, but just sort of where you see those opportunities coming and at what price you need to to put on in order to get that deposit growth.
You know ideally we will continue to love the easiest way to noninterest bearing.
Yeah, we are out calling every week on small and mid sized businesses and.
Public entities, even where we might price a money market to get the core noninterest bearing checking account and Jane and the team have proved very effective at that and they're quite frankly you'd be surprised we're doing just as well in our rural geography is as we are in our metro markets, if not a little better in fact, I think last year. It was stunning I think our community PA market, probably led the way.
In our commercial deposit gathering and also when you think about the growth there.
For us for our size a disproportion amount of that is coming from the business side.
And our calling efforts this weekend and we count on small and mid size businesses.
Changer here would you add anything to that.
Hi, Tom the only thing I would add Mike is that we have not been.
As dependent on Cds, and CD specials as some of our competitors. So this isn't with signing us as much as it may be otherwise would.
Okay Thats really helpful to me and then that was going to be my next question. Many that's kind of.
A moot point, but in terms of where you're putting on new CD rates and what the competition is doing.
Relatively tough, we're putting or less MCV.
And our competition.
So our seller we've seen some of the more rational competitors.
Definitely what we're doing but we're still feeling some pressure so much.
We'll have some CD run off.
Okay. Okay. That's helpful. And then Mike you know interesting comment on the fact that 85% of your loan growth for the first half of 19 has come from Ohio.
But then of course, you know its been a four year trajectory that you guys have been sort of adding on with those acquisitions.
Has that.
Per cent accelerated as of late I'm, just curious how that would have trended maybe say a year ago or two years ago, and then digging in a little bit deeper like what.
What's really the cause of that do you attribute that to the.
Economy in Ohio is it a competitive.
[noise] event, and obviously I know the people on the ground is probably maybe most important and that might be how you answer it but just curious to get a little bit more color as to the the favorable results you're seeing in Ohio.
Yeah. It's a great question I don't know that it continues to be that disproportionate.
Because we really have a solid team that's doing a great job on the commercial side of gathering deposits and were still doing nice fields. We probably have just had in the first half more pay Haas subsets of baby is probably under like a lot of this I expect it will be more equally yoked, particularly the fact that only 30, 531% of the franchise on the loan side is in Ohio. So that's that's my outlook in terms of its really about talent.
I look at our teams.
In northern Ohio, Central, Ohio, and its anatomy and they're not a typical LPL team, they're really ground in.
You are the bigger middle market lenders, all the way down to small business and we really have some people.
That just can't produce and have good relationships and then on the commercial real estate side, we're really tied into some of the best developers in each of those metro markets, where we really have we feel the pick of the litter I think what helps US is our brand I think.
In Pennsylvania, I think Theres more community banks that are commercially oriented Reits I think in Ohio lot of community banks are really focused more on mortgage and so I think our brand probably stands out versus the bigger bank brands and.
In the three metro's in Ohio, So that helps.
I don't know Jamie.
On the consumer side, we started out with such a small base in Ohio that.
Got a couple of things.
Nine to first marriage.
Nor DCB Hassan.
Any branch lending or any small business lending so.
We've we've started to do that and I expect we've got fairly good runway there and then.
Property values in central Ohio are so much higher than they are in western Pennsylvania mortgage and home equity.
Loans in line that we do in Central Ohio are just larger and so that helps quite a bit.
And then.
Indirect so far has gone very well until really strong team in Ohio and.
They came over to us with good dealer relationships and it would command of the business and that's turned into a nice business for us and one that is some.
I think he has some additional runway.
And really good risk profile.
Yeah, Great comments, and Colin we probably do more units in Pennsylvania, but we do more dollars in Ohio to Jane's point Grey point.
Okay, that's really helpful color.
Okay. That's great that's great I'll leave it there thanks guys.
Thank you.
As a reminder, if you would like to ask a question you May Press Star then one our next question will come from Frank Schiraldi with Sandler O'neill. Please go ahead.
Hi, guys good afternoon.
Hi.
Just wondering if you could remind us on the balance sheet mechanics as the.
Deposits come on board I think the idea was to pay down some of that you FHLB borrowings.
Just wondering if given the loan growth seems to be a little bit stronger than you guys had anticipated maybe keeping more liquidity on the balance sheet.
Anticipating some more loan growth over the next several months.
That's a great question, we really do think about that I think the plan now.
We will be consistent with what we had thought all along that we'll probably have about $400 million of overnight borrowings at the time to close the deal and net of.
Premiums and everything else will probably receive about $400 million or cash from the deals will pay off most of the remaining overnight borrowings with the cash received.
And which will instantly improve markedly lower borrowing costs.
I.
I mean, if I was a great questions have you would answer differently, if our deposit growth have been different from the first half is here, but the deposit growth.
As you can see is really been keeping up with loan growth and so we really had pretty good experience and deposit with us. So far this year, which will enable us to go ahead with that plan.
Okay, Great and then.
I think in the opening remarks, Mike you talked about SP, a ramping up.
And you gave us some numbers from Two Q2 Q1 in terms of revenues just wondering.
Where do you think that continues to grow in the near term here, given where you see margins and given your comments overall, where do you think that you know sort of ramp up ramps up to on a quarterly basis.
No I think I think we're pretty satisfied we're the number two lender into metropolitan areas and I think maintaining that are getting to number one would be good. This is a.
You know, we're kind of a taker in the market and what I mean by that is.
We apply it as a credit enhancement.
Take a deal that otherwise wouldn't be.
Bankable and make a bankable and I think thats the spirit of the SP program, we're not chasing verticals across the country we're not.
Through a niche plays that.
I think.
Some espeed platforms tend to do we're just using it primarily in our market in a few places strategically outside of our market, perhaps as an entre to someday to expansion into those markets.
But that's it's it's so if Mike it's not going to grow disproportionate probably in a unduly influenced the net.
Noninterest income of the bank, but it's a.
Yeah, we could double in the next couple of years, but in terms of the gross income of the business. It's.
It's not going to be a huge driver of our upper income I don't know if that's fair Jim.
Okay, and but we like the business a lot and we like our team we like what it does for our clients.
So yeah, we're committed to it.
Okay and then just finally on just on the credit front I Wonder if you could just talk a little bit about your thoughts on credit more generally and then also.
Specifically on saw some inflow.
Into npls in the quarter, if you could just give.
Some color on that.
Yeah ill hand, it over to Brian tariff, our chief credit officer in a minute, but I just I'm proud of what the team has done weve read the de risk the balance sheet over the course of the last five or six years, we've run off portfolios that we throw up thought were more risky the portfolios much more granular on a number of you've heard me say at one point, we had probably 70 plus credits over $15 million.
In exposure and now that number is half that or less and trending down and so and then we also have a lot of discernment discipline around concentration limits and reliving thoughtful around the sizing of our portfolios and even the sub portfolios within commercial real estate.
And not letting any one of those get to large site I think when I think about credit risk appetite I really like where we're at and we model a lot how do through the next recession and Brian present that to the board at least once a year and so but why don't you speak to some specifics Brian .
Yes, we did over the past several years, we worked hard to de risk the portfolio. We didn't have an increase in our NPL. This quarter. It was acquired loan in our Ohio market.
There are always a not for profit and they have shut their doors, we work very closely with the borrow more fully secured by real estate.
Thanks for that.
Is that helpful. Yes. Thank you.
Thanks, guys.
You bet.
Our next question comes from Daniel Cardenas with Raymond James. Please go ahead.
Hey, good afternoon guys.
Hey, Dan.
Maybe just a quick follow up on on the credit quality.
Discussion here so.
Trends look good and I think nonperformers are manageable.
And despite the modest pickup that you saw here in in the nonperforming credit, but is there anything or any sector.
Within the portfolio Thats, maybe giving you pause for concern right now and maybe you are sharpening your pencil and taking a harder look at at that.
I'll, let Brian answer that.
You know, we think about the overall portfolio in our attempt to de risking over the past several years through geographic diversification through SEC sector diversification.
We think about living and ground zero for oil and gas and yet our oil and gas exposure now is a very modest number.
So there is there is an area today and it gives me some concerns in terms of concentration of credit.
Or putting earnings at risk so we feel pretty good about where we're at.
Great I would obviously echo that.
[laughter] and it's good to hear.
All right and then maybe if you could just remind me about.
What would you consider optimal capital levels from.
I think everybody's kind of assuming some some.
TC contraction here with the branch closure, but what's what's kind of the low end of your comfort zone and.
What are your if you could remind us as well what are your priorities for capital utilization.
Yeah. Great question. Thank you, we we don't have an official position or like a policy statement on that but we have.
Peter we kind of given formal guidance on that to keep the TCT ratio.
Somewhere in there between eight and 9% it's over that right now, but as you mentioned it will.
Absorbs some of the.
Hit that comes as we generate goodwill from the branch acquisition in the fourth quarter.
So that's kind of a long term target for us 8% to 9% our preferred use of capital is supporting organic growth a selective acquisitions like the branch acquisition at acquisitions Weve done in Ohio.
Those really add shareholder value.
We and as previously announced we have a share repurchase program is still in place. Its just the spending right now and favorite those better uses of capital.
I say that it's suspended but if it's a market price were to get.
Low enough, we would opportunistically buy some shares back.
Even though we suspended that program for the time being but that gives you maybe hopefully perspective on our thoughts on use of capital.
Okay perfect. Thank you and then just kind of a cleanup question here for modeling purposes, how should we think about your tax rate.
On a go forward basis.
Thats a tax rate right now is 19.10%.
Okay perfect great.
Thanks, a lot guys.
Expand you bet.
This concludes our question and answer session I would like to turn the conference back over to Mike price for any closing remarks.
Just as always we preach appreciate your Sunsilk senior interest in our company and we look forward to being with a number of you over the course of the next quarter.
Thank you again.
The conference has now concluded. Thank you for attending today's presentation and you may now disconnect.