Atlantic Union Bankshares Corp (AUB) 2008 Q3 法說會逐字稿

Good day, everyone, and welcome to the StellarOne Corporation earnings conference call. Today's conference is being recorded.

At this time, I would like to turn the conference over to Linda Caldwell, Director of Marketing. Please go ahead, ma'am.

Thank you. Today, we have with us O.R. Barham, Jr., President and Chief Executive Officer of StellarOne Corporation, and Jeffrey W. Farrar, Executive Vice President and Chief Financial Officer. Mr. Barham and Mr. Farrar will review results for the third quarter of 2008, and after we hear comments from Ed and Jeff, we will take questions from those listening.

Please note -- StellarOne Corporation does not offer guidance. However, there may be statements made during the course of this call that express management's intentions, beliefs or expectations. Actual results may differ from those contemplated by these forward-looking statements.

Now, may I introduce our President and Chief Executive Officer, Ed Barham, for comments. Ed?

Thank you, Linda. And good morning and thanks to everybody for calling in this morning.

I would like to begin this morning by making a few general comments regarding our Company, then ask Jeff Farrar, our CFO, to cover more specific financial components of our third quarter results. Afterwards, we would be happy to take any questions you might have.

Most of you have already read our pre-release issued on October 7 concerning our increased provisioning for the quarter. And this morning, you now have our formal release of third quarter results. I would like to make a few general comments about StellarOne's performance for the quarter and some observations looking ahead.

As has been reported, third quarter, while profitable, was negatively impacted, largely by heavy provisioning on two particular credits. First, we had a disappointing auction result, which was conducted to dispose of some property held for sale -- a $1.7 million shortfall. This property, I might add, was a unique property and with some unique problems.

Secondly, provisioning was increased due to the failure of a large A&D project located in the Smith Mountain Lake area -- their failure to finalize an investment by outside investors; the failure to procure additional investors was hurt by the recent economic crisis that, in my opinion, scared these parties away.

As is our practice, when we have a substandard credit, we obtain updated appraisals to determine underlying collateral value and that is the case in this loan. We saw, once we took this new appraisal, we saw a need to write this loan down for our carrying purposes.

A positive is that most all of our Smith Mountain Lake exposure is attractive properties, well-done projects, ready for sale, whether they be condos, lake lots, or homes. I might add we do have parties that are continuing to do due diligence on certain properties at the Lake and other developments, and have expressed interest in certain -- in these properties at certain price points. We remain hopeful that some of these interested parties will follow through.

At this time, our asset quality issues are largely still confined to our A&D portfolio, and largely around the Smith Mountain Lake area, where we have $50 million in exposure or roughly 2.2% of our portfolio. As of today, approximately 36% of that $50 million is already listed on our NPA and OREO levels. How much of that remaining exposure will go to NPA is impossible to predict with great accuracy, as some spotty sales are still occurring at the Lake, and there are also some interested parties performing due diligence on some of the developments that could reduce exposure.

But obviously, we will be impacted by new downgrades that may currently be performing, that may, in effect, have problems later on. The net effect of all of this is difficult to predict with any great accuracy.

The last comment I will make about Smith Mountain Lake is that we are beginning to see some price concessions from the developers. And this obviously will help us and help the developers in moving some inventory. This is very much needed to help the market recover.

Looking ahead, we do anticipate provisioning to be elevated for the remainder of this year. Our plans remain, as they have been, to be aggressive in resolving asset quality issues, using auctions where practical. In fact, we have auctions set for November and December of this year, and where it makes sense, we will couple some of these auctions with available mortgage financing through our Company. These mortgages will be obviously to well-qualified, well-underwritten buyers.

On a brighter side, we continue our successful integration from our earlier MOE, particularly on efficiencies, where we have achieved our targeted cost saves. Jeff will give more color to this in a moment.

In particular, we have continued to see non-interest expense drop over the last several months, particularly salary and benefits. This achievement will obviously benefit us as we move into fourth quarter and into 2009. As we budget for the coming year, we believe we can add an additional cost save of somewhere between $1 million and $1.3 million.

On the business development side, we are also enjoying some success on both the retail and corporate areas, and attracting customers from some of our competitors; in particular, Wachovia, where our asset size and product offerings allow us to look at a wider range of customers than most community banks.

We share some very attractive markets with Wachovia. And in several markets, we have a larger market share than Wachovia, which hopefully, makes us the bank of choice for those customers that are looking for a new home.

Yes, we are lending money and soon we will be offering an attractive in-house residential mortgage product that will be underwritten to solid standards for retail customers that wish to refinance. The sweetener for us is that they must establish a banking relationship, so we are stressing our desire to lend monies and look to hopefully build relationships through this effort.

Overall, loan volume has been reasonably flat from second quarter to third quarter, which we view as a positive in this environment. Unfortunately, we have seen a decline on the deposit side, basically widespread, across all account types. But despite this number of accounts, or this decline in deposits, our accounts and our customer retentions have continued to be 95% in most of our markets.

A lot of work has been done in building up our cash management area, both in people and in products, so we can develop more commercial lines of business. Wealth management continues to do reasonably well, and we are looking to make further enhancements to this area in the coming months, as we look to develop more accountability for areas of private banking and more emphasis on delivery of our insurance capabilities -- of which, I might add, we are the largest owner in the bankers insurance consortium. Bankers Insurance just recently has purchased a new agency in the state of North Carolina, which is the first time they've crossed into North Carolina.

We also have successfully completed our integration of Virginia Financial Title Agency, into the Virginia Title Center on October the 1st. That is significant in that that makes us the largest owner of that consortium as well, which is involved in selling title insurance. And now, because of our joining this particular agency we have offered them the capability of doing settlement services as well.

This merger with Virginia Financial Title Agency -- or our merger with Virginia Financial Title Agency into Virginia Title Center was done to be more efficient and to take advantage of the large amount of non-bank title fee income Virginia Title Center currently enjoys under our old Virginia Financial Title Agency. We serve largely just our own bank customers. These areas will hopefully enhance our non-interest income opportunities.

Last of all, we are actively investigating the Capital Infusion Program available through the Treasury. Obviously, we currently have strong capital levels. The unknown is what will the next 12 to 18 months bring? No firm decision has been made at this time as we continue to gather more information and we analyze this offering.

So, with those comments, I will stop and ask Jeff if he would perhaps spend a little more time on detail of some of the topics I've touched upon.

Thank you, Ed. Good morning, everyone. I'd like to start with earnings and talk about earnings for the quarter. Most of the comparisons I'll make will be sequential to second quarter, due to the lack of comparability with prior year numbers -- prior year numbers obviously reflecting just that of the legacy BFG.

We did have earnings of $2 million for the quarter of $0.09 a share. Operating earnings adjusted for non-recurring were $2.5 million or $0.11 per share.

Impacts, non-recurring impacts, I'd like to touch on those, if I could. Ed has done a pretty good job with the provisioning for loan losses, as well as the loss on the auction of $1.7 million. So I'll touch on some of the other items that we had for the quarter.

First of all, we did have a small other-than-temporary impairment charge related to a small piece of Fannie Mae stock that we owned of $274,000. Other less significant impacts included some non-recurring litigation costs of $347,000. That is a case that involved our Wholesale Mortgage division in Greenvale, South Carolina, in which we were the plaintiff. Pleased to tell you that that case has been resolved and dismissed to, really, the satisfaction of both parties. I will also tell you that we do not expect any further expenses associated with that litigation.

Secondly, we did see the re-initiation of FDIC insurance premiums this quarter, as the credits that our legacy banks had accumulated were run through, if you will. The net increase in FDIC insurance premium expense quarter-to-quarter was $593,000.

Our actual run rate, if you look at our third quarter assessment, is about $1.7 million. So we actually stepped on that a little bit as we anticipate those premiums going up as we move forward. I will also tell you that looking to 2009, as some of you may be aware, the FDIC is going to increase those premium assessments. The discussion is in the neighborhood of 12 to 14 basis points.

We also have the decision relative to continuing coverage on non-interest bearing accounts, with balances greater than $250,000, which we are planning to do. If you look at all that, we're thinking our run rate next year could be as much as $4.4 million. So that's kind of what we're seeing in terms of modeling for 2009 for FDIC insurance assessments.

And lastly, we had about $200,000 associated with just what I'll call remnants of the merger and some integration expenses for the quarter.

I'd like to switch to revenues, if I could. Net interest income of $27.4 million for the quarter. That, on a net basis, net of amortization and purchase accounting adjustments, came in at $25.2 million. I was pleased that net interest income was flat with second quarter, if you adjust out the amortization of purchase accounting adjustments for each quarter.

We also had on a core margin basis -- and you'll see in the earnings release -- we've done the net interest margin calculation, both on a growths and net basis, so you can see kind of the underlying net interest margin excluding purchase accounting adjustments. I'm pleased to say that we did have some slight expansion over second quarter, but we were at 3.69% on a core basis for second quarter and 3.72% for the third quarter.

I don't expect that to continue, however, as we see continuing cuts in short-term rates and the fact that our Company continues to be modestly asset-sensitive. I think modest compression is the expectation as we move into the next couple of quarters.

The other revenue component non-interest income -- frankly, it was a tough quarter for us. If you've normalized the total non-interest income and excluded the gain or loss on sale of assets for both third and second quarter, we calc a decrease of $615,000 or roughly an 8% decrease on a total of $7.1 million for the quarter.

The one line item that we did continue to have some strength in is our retail banking fee income, which grew just over 5% or $190,000 quarter-to-quarter. That's down some from what our run rate has been; but I think, considering the deposit balance contraction and the slowing economy, we feel pretty good about that. We have seen some slowing in our momentum relative to our Haberfeld direct-mail initiative, but feel confident that we can grow that as we move forward. And we're still very early in the game with our legacy FNB portion of our franchise.

Mortgage revenue was probably the worst news for us. We saw a dramatic drop in mortgage revenue, both in wholesale as well as secondary mortgage. As you're, I'm sure, aware, we've had some pretty significant rate spikes and credit crisis impacts related to the mortgage area during the quarter. That had somewhat waned at this point, and I'm pleased to say that the pipelines actually seem to be improving nicely. So we're hoping that that was not an indication of future run rate and that we can do better as we move through the fourth quarter.

Trust revenues, wealth management -- Ed alluded to the notion that they were holding up pretty well. We were down 6% or $89,000 on a quarter-to-quarter comparison of gross revenue. Profitability is holding up nicely, though, and we've had a very good year in our wealth management group from a profitability standpoint.

Fiduciary was really the source of the decrease for the quarter. And that's a direct correlation to the market value of the underlying assets under management.

Non-interest expense, overhead, we certainly felt pretty good about where we came in here. We were down $1.5 million on a net basis sequentially, down $2.7 million or 11% normalized for non-recurring, again, sequentially. As Ed pointed out, we do feel at this point we've achieved our $9.5 million of merger cost saves on a forward run basis. More is anticipated, as we work some other initiatives that we've been diligently working on.

The efficiency ratio -- 65.15 is what we calc on a normalized basis, excluding some of the non-recurring. And to Ed's point on comp and benefits, our FTE count was 841 at the end of the quarter, which compares to 901 at the end of the second quarter, or roughly a 60 FTE reduction for the quarter.

In terms of dollars, if you carve out some one-time benefit payments related to just some bonuses we paid folks for working very hard during the conversion, we were actually down about $650,000 for the quarter or 5.6%. The other significant line item that we saw reduction in quarter-to-quarter was data processing, down $265,000 or 30%.

Asset quality, I think Ed has done a pretty good job of this, so I'm going to limit my comments. I will just point out a couple of things. Level of non-performing assets increased to $49.3 million. That's an increase of $23.4 million over Q2. NPAs now represent 1.65% of total assets. Of that increase of $23.4 million, approximately $12 million of that increase represented one relationship that Ed, again, mentioned. That was downgraded to non-accrual status during the quarter.

NPAs -- or excuse me, NPLs, non-performing loans, totaled $42.2 million for the quarter. So, of the $49.3 million, $42.2 million represents non-accrual loans.

Charge-offs on an annualized run rate of 0.44% versus 0.22% for the second quarter; expect that to continue at that level or higher. We've got some loans and some relationships that we've got large specific reserves on that we're waiting to get a little closer to liquidation before we pull the trigger on the charge-off, just to make sure that we've got some accuracy with that process. So I would expect some heavy charge-off activity as we move through the next six-month period.

The reserve did build to 1.4% versus 1.25% at the end of the second quarter; again, attributable to market conditions and downgrade of certain credits.

Can't go without talking about our capital -- continue to see strong levels of capital. I actually saw some increases in Tier 1 risk-based moving to 12.17%. I saw some increase in tangible equity to tangible assets of 9.65%. So, feel real good about that. Levels are well in excess of peer group and nice position to be in, given the environment we're in right now.

Giving that, the Board did approve an ongoing cash dividend of $0.16 a share, representing a yield currently of about 4.25%.

The balance sheet -- just a couple quick comments. I think liquidity has obviously been on everybody's mind. I will tell you that while we have seen some tightening in liquidity in the balance sheet, continue to enjoy a pretty liquid balance sheet. Cash and cash equivalents of $80.8 million at the end of the quarter. Securities portfolio of $375 million with a very short duration that we can rely on, if need be.

Untapped lines of credit for the Company of just over $350 million. We have not seen any reduction in those lines over the course of the last six months, which is a good thing, given what we're all seeing in the marketplace.

And then lastly, I wanted to address our tax rate. Our tax rate has come down quite a bit over the last six months, as the amount of earnings relative to permanent differences has become a different scenario. Obviously, earnings expectations earlier in the year were greater; but with the amount of provisioning, the permanent differences represent a larger percentage, if you will, of net income expectation.

And so, as we forward-look, our run rate is reduced. I think we had talked about 32.5% last quarter. We now think that annualized run rate is 31.5% -- which, if you look at nine months, that's kind of where we are. So, in terms of expectation for fourth quarter, 31.5% would seem to be a prudent run rate.

Ed mentioned deposits. I'll point out just a couple of numbers to validate some of his comments. We did see some contraction really in all deposit types. Of the $65 million decrease quarter-to-quarter, $40 million was in the demand deposit account area; $15 million was in CDs, so actually CDs represented a pretty small component on a relative basis.

Are seeing some nice relationships being picked up from Wachovia and the fall-out associated with Wachovia; it's not a lot of -- in terms of number of accounts, but the relationships we've picked up have been pretty significant and that's been nice to see. And we certainly hope that will continue to gain some momentum.

With that, I will turn it back over to Linda.

Thank you, gentlemen. We'll now move to the question-and-answer portion of this conference call. Please limit your questions to one primary and one follow-up. And at this time, I'll ask our Operator, Anola, to open the call for your questions.

Thank you. (Operator Instructions). Jennifer Demba, SunTrust.

Can you just talk about the increase in non-performing assets? You said $12 million of the $24 million increase was one relationship. Can you give us some more color on that relationship? And then what the rest -- the other $12 million -- kind of give us some color on the content of that.

The one credit, the large credit in third quarter was, again, a very well-done condo development with some lake lot properties. And again, the borrower had hopes that an investor group was interested and had been examining it, doing due diligence, up until the point at which, I guess, 30 days ago, 45 days ago, we hit this economic crisis, for lack of a better word, and spooked, really, I think, the investors away from the property.

At that point in time, quite honestly, he came to us and said, I'm unable to carry this going forward. So we felt the prudent thing to do -- which is our practice, to get it updated and an appraisal to look at it relative to what the market conditions were. And we felt it was appropriate to write it down to what we thought was a really good value.

And that was a liquidation value, Jennifer, with the anticipation that this is not one that we would stay in, that we would liquidate it in some fashion.

Yes. The other properties that -- I think the other part of your question, Jennifer, is the other properties at Smith Mountain Lake -- was that it?

No, the other $12 million increase in non-performing assets -- was that all A&D credits? Or can you give us a --?

Yes, that was all A&D credits, Jennifer. And it was primarily that one relationship.

Okay, thank you.

Allan Bach, Davenport & Company.

Thanks for taking my call. I was wondering if you wouldn't mind just giving some general comments on what you're seeing as far as loan demand goes?

It's pretty weak across the board in most all of the markets we serve. Despite that, we're taking a very active approach to encourage our people to be out and about. We are tending to get -- the most opportunities that we're seeing of any significance, quite honestly, are related to the Wachovia franchise as borrowers, customers, especially corporate customers of theirs, are trying to figure out what to do, given all the disruption in that particular franchise.

So, we are looking at a number of nice, particular commercial credits in the Wachovia front. And again, as Jeff alluded to earlier, it's not a great number of them, but they're very attractive with very attractive deposit relationships.

And then I guess a question for Jeff. Do you have any thoughts on the potential impact of purchase accounting adjustments going forward?

Yes, I would tell you that if you just look at the comparison of -- really the third quarter amortization amount, the difference, if you will, between gross and net, I would anticipate that over the next three quarters, you would see that number come down -- roughly 25% a quarter. And that by end of 3Q 2009, we're down to a pretty de minimis amount.

Okay, very good. Thanks a lot.

Michael Rose, Raymond James.

Jeff, could you quantify or give some more color around what you mean by modest NIM compression going forward? And does that include a potential rate cut of 50 or 75 basis points?

Certainly my comment incorporates the notion that we were anticipating another rate cut. I can't really -- I don't really want to try to quantify, if you will, what that means in terms of a modest description. There's so many moving parts right now relative to the market, the LIBOR inversion that we've seen; it's just very difficult to try to quantify that.

But I would tell you that, as I look at our asset liability mix, I know intuitively that we, historically, have been an asset-sensitive company and continue to be such -- modest in terms of how we look at asset liability, as you know. If you look at our 200, 300 basis points shock in rates, if you're seeing less than a 10% impact on net interest income, we feel that is a modest and comfortable band. And that's kind of where we are.

Okay. And I guess just a follow-up to that -- can you discuss your CD ladder and how that relates to rolling over some of legacy FNB's deposits to your rate structure?

I would tell you that I think any pop we were going to get relative to reduction of overall cost of funds associated with that has come and passed. I think if you look at the notion that we only had $15 million in net CD reduction over the quarter, is another indicator, if you will, that that is behind us at this point.

In terms of overall laddering of our CDs, continue to see shortening of duration right at one year. And it's a fairly even ladder, although I would tell you the spring/second quarter tends to be our heaviest ladder on a relative basis.

Okay. Thank you.

Bryce Rowe, Robert W. Baird.

Jeff and Ed, you guys mentioned potential efficiency initiatives underway right now to further help the operating efficiency ratio. Can you guys speak to that?

Sure. We've been working pretty hard at establishing really company-wide a metric-based determination of FTE requirement by functional area within the Company; the biggest piece, obviously, being retail. What is the optimal number of FTE per branch based on metrics such as teletransactions, CSR transactions, the like.

But it's also looking at each back office function department; establishing metrics whereby, if there is a perceived need for additional headcount, there's a metric that supports it; that has to be, if you will, proposed in order to increase FTE, as well as evaluate, if you will, the current level of FTE's associated with those various functions.

So we've gone through that in some depth at this point. We've identified areas where we've got some adjustments to make. The one thing I can't give you any real clarity on right now is the timing of when those will come in, because each area of the Company is a little bit different in terms of when we think we'll get it.

So we're obviously trying to get them as soon as possible. I don't think we anticipate we're going to be able to rely on attrition to get them, so we will -- and we will have to deal with that.

The other component of that is, if you will, looking at our branch structure and looking at profitability within our branch structure and continuing to identify centers that we do not feel whether it's the market and where we want our franchise to be, or whether it's just profitability -- identifying centers that just are not going to fit, and continuing to try to refine, if you will, the franchise by collapsing and potentially selling certain centers that are not going to work for us long-term.

I think Jeff covered it quite well, Bryce. I really don't have much -- anything else to add.

Okay. Obviously you can't predict timing of the efficiency -- I guess, efficiency plan. Any idea as to what the FTE base would look like, based on those initial findings? As far as quantity of FTE?

In terms of reductions, you're talking about?

Sure. I mean, you guys are at what -- 840 right now. Is the ideal number closer to 800? 750?

I would tell you the run rate, where we're currently running is not necessarily full complement. We typically have a higher authorized number, if you would, if I can use that term, of employees than you're looking at. What you're really seeing there is actual bodies in seats.

So that's a little bit hard to tell you what that number will be. I would tell you it's probably closer to where it's currently running than the upper end of currently authorized positions. But as we continue to refine our model, wherever it may be, we're obviously adding people and creating new positions where needed. So it's not a static situation.

Okay. Thank you.

(Operator Instructions). Ms. Caldwell, it appears we have no more questions at this time. I would like to turn the conference back over to your for any additional or closing remarks.

Thanks, Anola. Everyone, we appreciate you joining us today and your questions. This concludes our teleconference.

Thank you, ladies and gentlemen. Once again, that does conclude today's conference. We thank you for your participation.