Q2 2019 Earnings Call
Welcome to Columbia banking systems second quarter 2019 earnings release Conference call.
At this time all participants are in a listen only mode.
Later, we will conduct a question and answer session through both the telephone and web.
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I would now like to turn the call over to your host for today, Hadley Robbins, President and Chief Executive Officer of Columbia banking system.
Thank you Carol good morning, everyone and thank you for joining us on todays call as we review our second quarter 2019 and year to date results.
Which we released before the market opened this morning.
The earnings release and supplemental slide presentation are available at Columbia Bank Dot com.
As a result of strong efforts by our lending and credit teams second quarter earnings were a new record quarterly earnings exceeded 50 million for the first time in our history.
On a year to date basis net income was 98 million, which was 19% higher than the first half of 2018.
Capital levels also remain strong and well above regulatory targets.
It was a very busy quarter or lending teams generated the second best production quarter ever.
Narrowly missing the record set last year by all night.
8 million.
Our special like credits team completed the work out of a few troubled loans, which added nearly 5 million of interest income and reduce nonperforming assets 31 basis points below not seen for some time.
Our back office teams are also heads down implementing key technology projects that include new digital banking platforms.
Our second quarter deposit mix remained stable.
The core deposit ratio was strong at 96%.
The total cost of deposits also continues to be well manage that 20 basis points for the quarter.
19 basis points for the year.
We did see a reduction in overall deposits during the second quarter is typically a seasonal low point of activity for us one of the other contributing factors impacting overall deposit levels, which are efforts to help those clients seeking higher yields by moving cash.
From traditional accounts to our brokerage and other alternative offerings.
On the call with me today are Greg Siegrist, our Chief Financial Officer, who will provide details about our earnings performance and an overview of our share repurchase plan Clint Stein, our Chief operating officer, who will review our production activity and highlight the status of some of our digital investments.
And Andy Mcdonald, our Chief Credit Officer will review our credit performance. Following our prepared comments, we'll be happy to answer your questions.
It's important that I remind you that we'll be making forward looking statements today, which are subject to economic and other factors.
For a full discussion of the risks and uncertainties associated with the forward looking statements. Please refer to our securities filings and in particular, our 2018 as he see Form 10-K .
At this point I'd like to turn the call over to Greg to talk about our financial performance.
Thank you had Lee and good morning, everyone.
Second quarter earnings of $51.7 million and EPS of 71 cents per diluted share with an increase of eight cents from the first quarter.
An increase of 14 cents compared to the second quarter of 2018 as had been mentioned.
Second quarter net income was the best quarterly earnings performance in our history.
The operating net interest margin of 4.38%, which was up five basis points on a linked quarter basis benefited from $4.9 million of loan interest recoveries on non accrual loans.
Partially offsetting this was a $650000 true up of an interest accrual as we took advantage of short term FHLB borrowing rates earlier in the year.
The net impact of these two items was nearly 15 basis points.
Offsetting drivers included a seven basis point impact from the seasonal funding mix shift we experienced given typical second quarter deposit flows.
And the two basis point impact from deposit rate increases in the first quarter.
As you've heard us say for the past six quarters, we are actively managing our exposure to a declining rate environment do the alco strategies put into place beginning in late 2017 as a reminder, the strategies include taking additional duration in the loan portfolio.
Growing the balance sheet, approximately $500 million by purchasing securities that would respond well and a down rate environment.
And the $500 million derivative zero cost collar strategy put into place early in the first quarter. However, we're not completely immune to a declining rate environment.
A 25 basis point rate cut would be expected to reduce quarterly net interest income by $4 million in the first year.
On a linked quarter basis, noninterest income increased by $4 million to 25.6 million, mostly due to bully benefits of $3 million.
Loan revenue was up $1.2 million on the strength of CN I production.
Our expense run rate remains well controlled with noninterest expense of $86.7 million increasing quarter on quarter, largely due to increased digital investments.
This is in line with what we shared at the last earnings call. The quarterly operating interest in operating expenses, excluding the impact of our digital investments would continue in the mid Eightys.
Excluding acquisition cost of $7.1 million in the first half of 2018.
Noninterest expense is up $8 million, four or 5% on a year over year basis.
Half of the increase is from digital initiatives with remainder from compensation and incentive expenses.
In the second quarter, we incurred $2.9 million of expenses that was directly related to our digital initiatives.
We expect the digital investment impact to noninterest expense.
To be in the $6 million to $8 million range for the balance of the year.
Our effective tax rate was 19% for the quarter and the year and it should continue to be in the 19% to 20% range for the remainder of the year.
With regard to our share buyback program, we intend to continue to repurchase shares as part of our capital strategy provided we feel it is advantageous to our shareholders to do so.
We have a strong capital position and we'll balance buybacks special dividends and strategic opportunities in the future.
At this point I'd like to turn the call over to Clint.
Thank you Greg and good morning, everyone. We continued the momentum created during the first quarter and had an outstanding second quarter on all fronts.
Our first half 2019 loan production.
$767 million as well above the levels achieved in the past.
In a very competitive market, our bankers continue to earn new business and deepen existing relationships, while sticking to our credit disciplines.
What's impressive is it could produce more but at this point in the business cycle, we are unwilling to increase our risk appetite.
Some of the successful outcome of the second quarter or not as readily visible in this quarter's financial performance as the loan growth and interest income recoveries.
However, they are vital to sustaining and growing revenue.
We have a very talented group of bankers, who are working diligently on the execution of our digital roadmap, while never losing focus on the importance of the customer experience.
The project they are working on now will enhance our performance for many years to come.
Deposits declined.
Excuse me $157 million during the second quarter.
Which is normal due to seasonal business activity.
We have seen some deposits migrate off balance sheet for financial services group as clients invest in equities treasuries and other financial instrument.
During the second quarter, we had roughly 61 million in deposits that move to our financial services group.
Which is fairly consistent with the $65 million of activity in the first quarter.
While this activity results in lower deposit balances, we maintain the client relationship and generate noninterest income.
The mix of our deposit base remained consistent.
Split evenly between interest the noninterest bearing.
The composition also remained steady with 59% commercial and 41% retail.
The seasonal patterns hold deposit balances should pick up in the third quarter.
Loan production was the second best quarter ever at $401 million narrowly missing the record by $8 million set in the third quarter of 2018.
Even with.
Record first half production the loan pipeline remains to our satisfaction.
Term loans represented 236 million of total new production, while production from new lines accounted for 165 million.
The portfolio mix remained stable.
46% fixed rate and 54% variable.
New loan production throughout the quarter came on at an average tax adjusted coupon rate of 5.15%.
Which compares favorably to the overall portfolio rate of 4.97%.
Which was down two basis points during the quarter.
The modest decline is a result of higher yielding repayments in the construction in CRT space.
Coupled with repricing of variable rate loans.
Pre payments of 176 million in the current in the current quarter were lower when compared to an elevated hundred $89 million in the second quarter 2018.
However, $23 million in the current period was the result of special credit workout and when excluded or trends continue to improve even further.
For context prepayments in the first half of 2018, we're up 60% over 2017.
2019, prepayments have moderated to roughly 18% above our 2016 and 17 levels.
The primary prepayment drivers remain the sale of businesses or commercial real estate as well as an attractive rates and terms offered by bank and credit Union competitors.
During the current quarter.
Do you know why production was 56%.
Or $222 million of the total production.
Which is consistent with prior quarters.
Commercial and multifamily real estate loan totals were flat during the quarter.
While commercial and multi family construction loans were up slightly during the quarter, but are down 132 million since the second quarter of 2018.
Year over year declines are primarily in the multifamily warehouse and healthcare sectors.
Implementation activities for our digital programs are on schedule, our commercial online banking system rollout is going smoothly and will be complete by the end of September .
We anticipate being live on the new human resources and talent management platform by the end of the year.
Among a variety of other projects. We are also on target to introduce Dell and the ability to open deposit accounts online by year end.
Our bankers are doing a great job with expanding our customer base generating high quality loans and long term deposit relationships.
Recent announcements on the trade war and anticipated fed rate cuts are resulting in more conversations with clients as they assess the impacts to their businesses.
Now I will turn the call over to Andy.
Okay. Thanks Cliff.
Our second quarter provision for loan and lease losses of $218000 compared favorably to the $1.4 million in the first quarter.
This included provision of 500000 for the originated portfolio and 150000 for the Pacific Continental portable.
Offsetting these provisions were released from the West coast portfolio of 400000, and that really uses of $33000 for the PC obviously.
Provisioning was primarily driven by charge offs. However, the impact of the charge off activity and loan growth and to a lesser extent.
Was offset by favorable migration and declining loss rate.
Net charge offs were 3 million during the quarter up from $1.5 million and equate to about 14 basis points on an annualized basis.
Up from seven basis points last quarter.
So while higher than the prior quarter and 14 basis points is still very good and asset I'm extremely pleased with the performance of our bankers.
[laughter] has Hadley mentioned npls to total assets were down to 31 basis points.
Which is the lowest since 2016 and prior to that 2006.
During the quarter, we were able to resolve our largest non performing loan and so our largest oreo parcels, thus driving down nonperforming loans and Oreo to these very low level.
In so doing we were also able to recapture $4.9 million in interest income.
Record a gain on the disposal wells and 667000.
A record a gain on the sale of Oreo of a little over 700000.
So it goes without saying our special credits.
Had a great quarter.
As of June Thirtyth 2019, our allowance to total loans decreased by five basis points to 93 basis points of total loans.
As always we'd like to remind folks that this ratio is impacted by our acquisition.
And the associated loans that were recorded at fair value.
Embedded in those valuations is approximately $21 million net discount for which approximately $16 billion associated with the Pacific Continental portfolio.
3 million with the west coast portfolio than 2 million with the entire amount.
After a relatively low first quarter net charge offs were back to normal levels in the second quarter. However, we actively monitor the sector and collateral concentration and we believe we are adequately reserved going forward.
In summary credit improved modestly during the quarter the portfolio continues to perform well and we remain focused on positioning the bank for the next downturn.
So that's all I have Hadley.
Thanks, Andy.
Regarding the economy fundamentals continue to look healthy through the end of 2019. However.
Conditions continue to evolve that have the potential of creating earnings pressure, most notably to flat to inverted yield curve potential fed rate reductions and trade related uncertainties for us. We see this is a time to remain diligent.
And stay the course with our risk disciplines.
Gold, our focus on creating efficiencies and take actions that position us to offensively.
Be prepared for the downturn materialize.
In closing.
We're pleased to announce our regular quarterly dividend of 28 cents, which represents a dividend yield of 3.04% based on the closing price of our stock on July 24.
This quarter's dividend will be paid on August 21 to shareholders of record as of close of business on August seven 2019.
This concludes our prepared comments this afternoon.
A reminder, Greg Clint Andy are here with me to answer your questions and ask Carol will open the call for questions. Thank you.
Thank you.
Well good question via the web click the button in the lower left hand corner of your screen.
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Our first question over the phone today comes from Jeff.
Please go ahead.
Thanks, Good morning.
Furniture.
On the on the margin I guess, if we net the interest recoveries and true up.
Against the core of 438.
Could you get down to 423.
In Q1, what are their comparable recoveries or true ups. If you had a comparable number to the 423.
No I don't think we would had any of those types of true ups in the first quarter, Jeff. So I think that for 23 and compare it back to that number and as I said in my prepared remarks. When you do that you really see in the two basis point increase from the deposit rate adjustment in the first quarter.
And then the seven basis points coming from.
The the seasonal mix shift on funding.
So that.
For 33 last quarter operating is comparable to the fourth 23, if you take out the recoveries and true up.
Yes, Okay, and then just interested in.
Great Thanks for that.
Dollar.
On the cut I guess just outlook on margin.
Meds that translates.
And.
On a on a go forward with I guess.
Within your.
25 basis points.
World are not yours, but should we get one what does that look like.
Well I mean absent any rate cut whatsoever.
Yes, obviously, a lot of moving parts to it Jeff, but the way I'm thinking about it is you know the loan portfolio rate right now is for 97.
Clint gave you the stats on new loan production in the second quarter.
No in the in the IR deck. This quarter. We also included some details on loans that are at or below the floor rates subject to repricing, but we've got over 900 million of loans that are above for rates that reprice over the next four quarters. So again absent a rate cut that that's a positive impact.
I would also expect us to get back some of that the impact of the.
Funding next year in the third quarter again to clinch point, assuming deposit rates return back to historic levels. So when I add all that together absent a rate cut it it feels to me like were up a little bit on the on the margin.
And as I said in my prepared remarks, we do have the Alco strategies in place.
Which helped to mitigate some of the impact of a 25 basis point rate cut but if it is 25 basis points. We would expect a 4 million dollar annual impact in that first year after a rate cut.
Okay. That's good color. Thank you.
On the expense I wanted to make sure that.
So if you had.
I guess call. It would you assign 2 million in the quarter to the digital spend and then how does that compare to.
An additional six to eight for the balance of the year.
Well no the spend in the quarter was 2.9 million roughly which was.
Roughly a million ahead of last quarter, maybe a million one had last quarter. So so far where the 4 million Mark.
And I think I'm expecting another $6 million to $8 million on the balance of the year, which full year puts US 10 to 12 and I think in last quarter remarks, I'd indicated nine to 12, so we're still kind of where we thought we would be.
Okay sort of.
Sorry, the 2.9 was total digital spend this quarter and then if we were to look at.
68 for the balance of the year, that's either flat to.
Up to four is that is that fair.
Yeah that quarter on quarter, that's fair.
Okay.
Got you, Okay I'll step back thanks.
Yes.
Our next question comes from Aaron Deer. Please go ahead.
Hi, good morning, just to clarify on the a and the expense run rate there.
Maybe just give us some.
Guidance around the actual dollar.
Noninterest expense that should be looking for here in the back half of the year, just because it's a little confusing talking about there quarter to quarter variances.
Yeah, I mean, I would just reiterate what we said the past couple of quarters, which you know fact route seasonal impacts we have fair no usually in the first quarter, but we're still expecting our noninterest expense run rate, excluding digital to be in that mid eighties.
Range era, I think the other thing that once we get into next year I'm not going to give guidance on it but we still remain very focused on.
Our operational efficiencies and trying to figure out how to drive that down and help to pay for the digital initiatives as we get into 2020.
Okay and then.
Hey, Clint you expressed satisfaction with the with the loan pipeline I'm just curious if.
Hey, guys. It seems like you've been doing a good job.
On the on the hiring front you guys just announced a.
My impression banker here.
Earlier in the week, just curious to know.
How would those hires are.
Playing out vis a via what sounds like a kind of a more conservative.
Outlook in terms of what you're willing to underwrite and what that should mean FERC for loan growth heading into the back half of the year.
Yeah, I think that.
You know what we've what we've talked about on on prior calls his capacity and and how we've had a focus on increasing that capacity by selectively hiring new talent across our entire footprint and.
And we continue to be.
To be fortunate to be an employer of choice and.
And.
Our our around talent management team continues to source really great candidates and what that's done over the past couple of years, it's enabled us to increase our capacity.
Yes, good get new relationships.
As well as just.
Our longtime.
Bankers are are very good at.
And I think the term that I used in my prepared remarks was deepening existing relationships and so it's a combination of.
What's been tried and true in terms of our production folks that have been with us for many many years as well as.
The supplemental production and growth is coming from.
From recent hires.
That's enabled us to have those production numbers without really changing or deviating from our credit disciplines.
It's very competitive.
You know we will compete.
For really solid deals if we have to on price, but we will absolutely give on structure.
And so I think that you are seeing that come through and.
The quarterly production numbers, you're seeing that.
Come through in terms of usually historically, if we've had a big quarter from a production standpoint.
The pipeline gets a little depleted and take some time to rebuild.
But.
It's still it's still very much to our satisfaction.
It's an extremely competitive market and so we won't give guidance in terms of what that translates into four for loan growth.
And then there's the prepayment activity and I did provide some color on that that it's it continues to moderate.
But its still elevated relative to what we had in 2016 in 2017, but it's about a third of what it was in terms of the increase compared to what we experienced in the first half of 2018.
Okay is it safe to say that that based on your commentary there that the prepayments.
Havent accelerated recently as a result of.
Of the drop in rates that we've had and kind of the bid for no curve.
No. The <unk>, Yeah, I think it's safe to say that what we're seeing in prepayment activity is is really you know still the thing thats.
Been a dynamic for us since the.
Since we came out of the downturn and Thats the sale of businesses.
The sale of real estate properties, given where valuations are and then you know some deals that will let go because competitors are willing to do is do things structurally the war on one willing to do.
Sure. Okay. Thank you for taking my questions I'll step back.
Same thing here.
As a reminder, star one in order to ask a question over the phone.
Our next question comes from Jon Arfstrom. Please go ahead.
Thanks, Good morning, guys.
Good morning.
Correct.
Alex here, maybe Greg for you the.
But.
25 basis point.
Impact driving $4 million for the year headwind and then interest income similar for a second.
Rate decline, there wasn't any more or less or is it similar.
Yeah, it's not linear I thats a good question John .
The the protection on the derivative side really doesn't kick in until the drop approaches 25 basis points. So.
For context.
The 4 million in the first 25 is about a million dollars of protection between the investment strategy. We have in the derivative strategy. If it's a full 50 basis points the impact would be $7 million and that's net of about $5 million impact. So you start to see some pick up an acceleration of the derivative.
Benefit.
Okay, Okay got it that helps.
Did you guys seen any cresting in deposit costs pressures.
I know your deposit costs are fairly low relative to peers, but just curious on that topic as well.
It's still been pretty pretty Aktiv.
You know I'm curious to see what happens after the next fed meetings and yeah.
Yes that at that point, we do see a cresting of of.
The pricing pressure, but right now I think it's more.
I don't want to say frenzy, that's too strong of a word but there's a lot of lot of the client conversations and.
And you know that's back to in my prepared remarks I referenced.
We've had.
Hundred and $26 million in the first half of the year of deposits that are based on conversations conversations with clients.
Understanding what their needs are and their desire to get a better return.
We've been able to move them into our financial services group.
So.
You know theres, there I think that there's a.
A sense of urgency from a client perspective that they've been through this low rate environment.
In terms of earnings on their on their deposit balances and the expectation.
The start of the year or was that there were still room to run from a rate perspective, and I think those expectations are tempered and that's cool.
But I'm just curious here.
Assessment of.
The overall economic environment is it any more or less active than it was a year ago.
Or is this increased production really the same amount of production, but just less.
Less of the pay offs. Thanks.
It's it's more production I mean, that's that's why we throw the production number out there is because the pay off activity.
Based off of.
Economic.
Factors.
Hi, either business sales.
And as well as the seasonality that we have in our in our portfolio can impact the quarter over quarter.
Bottom line growth number.
I don't think that the reduction in.
Prepayment activity is driven by.
A slowdown in.
Economic.
Factors I think it's really probably more around some of the some of the things that.
Cause that elevation last year.
If you recall, we did some additional credit pruning.
Throughout 2018.
While we still continue to do that on an ongoing basis, it's more of a normalized level I'd say compared to what it was last year. So that's that's that's one side of it and then the other side is that much like bank M&A.
You know as our clients are looking at strategic alternatives for their businesses Theres lumpiness in the timing of when they can actually do some of those things.
With regard to the economic influences out there.
We see some of our clients applying cash to debt.
We also see some of our clients making decisions.
To to sell because they believe that.
Either their business or a particular piece of property is fully valued and we're deep in the cycle.
And they would prefer to.
To liquidate at this point in time, but I believe that the economic fundamentals are still there we're getting are at Bath.
You have increased some of our capacity so that feeds into to production. So overall I don't really see that there are.
Prepayment trends that are approaching what we saw last year. They are more normalized and that the economic activity has given us opportunity.
Within the context of our risk appetite, we're able to produce at levels seen in the past and maybe a bit more.
Okay. Good.
Thanks for that I appreciate it guys.
[noise].
Our next question comes from Gordon Mcguire. Please go ahead.
Thanks for taking the question.
Pardon.
Hi, how are you all.
Good.
The 4 million on a 25 basis point cut was that based on a static balance sheet or is that assuming growth as well.
A static.
Okay.
And then just thinking about the mechanics of the true Oh I may have missed it where did that where did that fall out fallout I've been the NIM.
Oh, it was that the borrowings.
Yeah, it's really on the FHLB borrowing side, that's right Gordon Okay.
[noise] any updated expectations on where you'd expect to see the securities balances move over the next few quarters looks like that was used to fund some of the <unk> some of the loan growth this quarter.
Oh, I guess will that continue or do you think you can start to grow those.
Well I mean, obviously moving loans to deposits up to 85% in the quarter I mean, that's as much a function of the deposit seasonality that we see and I would say the other side of that is.
The securities portfolio, So I would actually.
Say it it's difficult without knowing exactly how much production not Glenn is going to give us the drops into loan growth to say exactly what's going to happen to the securities balances, but if you assume that deposits get a normalized levels and then make your assumptions around loan production how that translate it would then translate into the way we look at the securities portfolio, which is really that reservoir liquidity, we need to fund the rest of the balance sheet.
Got it interest the borrowings I guess it was kinda you think those stick around here at these levels or do you think there's potential to manage those down.
You know we had grown the balance sheet by roughly 500 million to support the strategy to on the security side, which we talked about you know I would expect there to be continued to be some form of borrowing at roughly that level to support that strategy Gordon.
And then last thing from me where in the expense lines did the I guess, the 2.9 million related to the digital initiatives fall I think the release mentioned professional fees, but were there any other buckets.
Well, it's been a couple of different lines professional fees certainly, but it's also going to be in a line that's around occupancy and technology in a lot of it comes to those two lines.
Got it I'll step back thank you.
You got going thank you.
[noise].
And we have no further questions at this time I'll turn the call back for closing remarks.
[laughter].
Thanks, good prepared to close the call. If there are no further questions. Thank you.
[noise].
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