Atlantic Union Bankshares Corp (AUB) 2011 Q3 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the StellarOne call. (Operator Instructions). As a reminder, this conference call is being recorded.

I would now like to turn the call over to your host, Ms. Jennifer Knighting. Ma'am, you may begin.

Thank you, Shannon. Today we have with us O.R. Ed Barham Jr., President and Chief Executive Officer of StellarOne Corp., and Jeffrey W. Farrar, Executive Vice President and Chief Financial Officer. Mr. Barham and Mr. Farrar will review results for the third quarter of 2011. After we hear comments from Ed and Jeff, we will take questions from those listening.

Please note, StellarOne Corp. 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?

Good morning, everyone, and welcome to the third-quarter earnings call for StellarOne Corporation. I will begin today's comments with a brief overview of the Company's third-quarter financial results followed by comments on asset quality. Jeff Farrar, Executive Vice President and CFO for the Corporation, will follow my remarks with detailed commentary on balance sheet and income statement matters. We will at the conclusion of our call invite your questions.

Highlights for the third-quarter 2011 were as follows. StellarOne earned $4.2 million for the third-quarter 2011. Net income available to shareholders net of dividends and discount accretion on preferred stock was $3.9 million or $0.17 per diluted common share. These results compare favorably to the $3.1 million or $0.13 per diluted share earned a year ago same period.

Third-quarter results for 2011 also complete to the $3.3 million of net income for shareholders or $0.14 per diluted share earned second-quarter 2011. Net income available to common shareholders for the first nine months of this year amounted to $9.6 million or $0.42 per diluted common share, up 73.8% compared to the $5.5 million or $0.24 per diluted common share for the prior year period.

Additional third-quarter highlights included an increase in pretax pre-provision earnings to $8.8 million for third quarter, an increase of $417,000 or 5% compared to the second-quarter 2011, and an increase of $645,000 or 8% over the same period a year ago. Sequentially net interest income on a tax equivalent basis was up slightly as well as non-interest income. Jeff will provide further detail on these two items in his remarks.

Net charge-offs decreased by $1.2 million on a sequential basis and were $1.3 million less when compared to a year ago at this same time. Classified assets decreased sequentially by $6.5 million or 3.5% to $180.7 million for the quarter-end compared to $187 million June 30, 2011. Accruing TDRs decreased by $7.3 million on a sequential comparison and were $2.5 million lower than a year ago this same time. As of 9/30/2011, TDRs totaled $40.7 million as compared to $48 million June 30, 2011.

$30.4 million of these current TDRs, or 74.7%, represent residential consumer real estate loans under an in-house mortgage modification program. This program, which began roughly three years ago, was established to help struggling homeowners remain in their homes. This consumer modification program, modified by way of rate reduction or extension of term, are both but not by principal forgiveness. The reduction in the TDRs for the current quarter was a result of $12.9 million being upgraded from impaired status due to meeting performance criteria. These mortgage modifications were done predominantly as three-year ARMs. These are now beginning to mature from the original modification dates. These particular residential TDRs have as a whole performed very well with re-default rates running approximately 10% to 12%. It is anticipated that additional upgrades will continue over the next few quarters, but at a reduced amount from the third-quarter 2011.

On the down side, nonperforming loans did increase by $5.4 million on a sequential basis to $43.5 million September 30, 2011. Of this increase, $5.5 million was associated with one commercial credit that went non-accrual. This loan is a low income apartment complex that was delayed on construction completion and, therefore, failed on a timely basis to obtain tax credits it had earlier qualified. This loan had been closely monitored and downgraded over the last year. We are adequately collateralized, and lease-up is occurring with anticipation of stabilization during the first part of next year. We believe our prospects for resolution of this problem credit are good given that it is income-producing property and, as I stated, continues to achieve positive lease-up.

Foreclosed assets totaled $9 million for the current quarter, down slightly by $140,000 from June 30, 2011. In total, nonperforming assets ended the quarter at $52.5 million, up $5.2 million from $47.3 million June 30, 2011. This equated to a ratio of nonperforming assets as a percentage of total assets of 1.77% versus 1.61% June 30, 2011 and compared to 2.13% September 30, 2010.

Loan loss provisioning for the third-quarter 2011 was $3.3 million, a slight increase to second quarter's 2011 $3.2 million, but a $200,000 reduction as compared to a year ago. Charge-offs for comparison were $3.8 million, which resulted in an allowance of $35.5 million for the third-quarter 2011, a 1.74% allowance percentage to total loans. Coverage of nonperforming loans declined from 93.8% at June 30, 2011, but still remained at a very healthy 81.1% coverage September 30, 2011.

Looking ahead, our focus for the coming quarters remains on new opportunities for revenue enhancement and expense reduction. Jeff will share with you some general plans and comments on further cost initiatives in his remarks.

On the revenues enhancement side, I am pleased to report that we have hired two new high-caliber commercial leaders, which will result in some enhancements to lending opportunities and a better organizational structure to achieve the same. One of our new commercial leaders will spearhead our entry into the Virginia Beach Tidewater markets where he has been active for a number of years, most recently working for the SunTrust organization.

Our goal will be to replicate a loan production office similar to the facility we now have in Richmond. As you will recall, our Richmond LPO also offers wealth management and mortgage products. In the coming year, we will complement our Richmond presence by adding a retail presence through some limited de novo branching. We will offset some of the costs of these new branches by a continuation of right-sizing of our current branch franchise.

As you know, over the last two to three years, we have reduced our branch count from a high of 64 branches to a current level of 54 facilities with a little loss and deposit share I might add. Our strategic intention is to redeploy some of our resources into higher growth markets and in markets where there has been significant market disruption.

Our earnings call would not be complete today, I guess, without some comment relative to repayment of TARP. Our position remains unchanged from previous quarters. All options for repayment remain on the table. If our stock price were to rebound sufficiently, then we might consider a capital raise to repay the remaining TARP balance quickly. Until such time, we will continue to look to make partial repayments from retained earnings as and when allowed by the regulators with whom we have continuing dialogue.

I will now ask Jeff to continue our reporting.

Thank you, Ed, and good morning, everyone. Thank you for joining us.

I would like to start my commentary this morning with a look at our net interest margin performance for the quarter. Our net interest margin came in at 3.77% for the quarter, expanding 14 basis points from the 3.63% level for the third quarter of last year and down 6 basis points from the 3.83% experienced in the previous quarter. We continue to experience slightly higher contractual and asset yields than the improvement in funding costs for the period. The average yield on earning assets came in at 4.69%, down 11 basis points from the previous quarter. Investment yields experienced a more significant change, dropping 32 basis points from the second quarter. This was due in large part to a high level of portfolio purchase activity during both the second and third quarters at predictably lower yield levels with over $160 million in combined purchases for the two-month period. While this did have the effect of lowering our spread, it did account for a modest increase in net interest income based on a higher earning asset base. Net interest income revenues on a tax equivalent basis rose to $25.1 million for the third quarter of 2011, modestly higher than the $24.8 million for the second quarter, and the $24.2 million for the same quarter in the prior year.

The cost of interest-bearing liabilities was 1.11% through the third quarter, down from 1.17% in the prior quarter and down from 1.43% for the same quarter prior period. We made a concerted effort during the quarter, the third quarter, to adjust our core deposit pricing to be more in line with our competitor rates across all of our markets. Rates were adjusted and in some cases reduced 25 to 50 basis points on pretty much all of our interest-bearing deposit types, both maturity and non-maturity, with most of those adjustments occurring late in the quarter. Annualized cost savings associated with these pricing adjustments are estimated to be over $2.5 million.

In addition, we restructured and extended the $25 million FHLB advance, resulting in another $188,000 in annualized cost savings. These strategies will result in some acceleration of core funding cost contractions in the fourth quarter that should result in a slightly improved net interest margin from a trending perspective.

Let's look at non-interest revenues. Non-interest income on an operating basis amounted to $7.8 million for the third quarter, up $326,000 or 4.3% on a sequential basis compared to $7.5 million for the second quarter and also down $132,000 or 1.6% compared to the same period in the prior year. The sequential quarter increase is largely attributable to a $436,000 increase in mortgage banking fees, $179,000 increase in retail banking fees and a $144,000 decrease in losses on foreclosed assets. These improvements were partially offset by a $307,000 decrease in income associated with pass-through entities such as their insurance and affordable housing partnership interest.

On the operating expense front, non-interest expense for the third quarter amounted to $23.3 million, relatively flat to the $23.2 million for the second quarter and down $318,000 or 1.3% when compared to the same period in the prior year.

As mentioned briefly last quarter, we have been working diligently over the past six months to identify areas [of] efficiency within our operating expense base. These efforts have proven fruitful, and we are in the early stages of implementing a number of strategies that will result in significant cost reductions, part of which is to be reinvested in human capital and anticipated growth initiatives, as mentioned by Ed.

Gross identified cost savings to date exceed $4.5 million and are expected to be realized over a six- to nine-month period with some having already been realized. Net cost savings after redeployment are anticipated to be in the $2 million to $2.5 million range. These cost savings represent activities around branch closings, line of business reorganizations and divestitures, reengineering of processes. These initiatives resulted in a reduced debtee level for the quarter with a decrease of 19 FTE or just over 2% on a sequential quarter basis.

It should be noted that there has been little to no layoff activity associated with these activities to date, and future reductions are expected through attrition.

StellarOne's efficiency ratio also improved to 69.3% for the third quarter, down from 70.0% for the second quarter and down from 72.3% for the same quarter in the prior year. We expect this ratio will continue to show some modest improvement over the remainder of the year based on anticipated improvement in operating costs previously noted.

Let's turn to the balance sheet and start with capital. Capital levels remain strong -- total shareholders equity of $433 million and a Tier 1 risk-based capital level of 16.26% compared to 15.91% at the end of the previous quarter. Excluding the remaining TARP investment, Tier 1 capital would be a stout 15.18%.

Period-end loans decreased $31.1 million as compared to the second quarter of 2011, while average loans for the third quarter were $2.06 billion or down just over 1% when compared to $2.08 billion for the second quarter of 2011. Average securities were $446.3 million for the third quarter, up $44.2 million or 10.7% from the $403.2 million for the second quarter, reflecting the increased investment activity addressed earlier. Average deposits for the third quarter were $2.42 billion or up $29.7 million or 1.2% on a sequential quarter basis compared to the $2.39 billion for the second quarter.

And lastly, at September 30, 2011, total assets were $2.96 billion, up slightly compared to $2.94 billion at June 30, 2011.

That concludes my prepared remarks, and I will turn it back over to Jennifer for our Q&A.

Thank you, gentlemen. Now we will move to the question-and-answer portion of this conference call. At this time I will ask our operator to open the call for your questions. Shannon?

(Operator Instructions). Will Curtiss, Sandler O'Neill.

You guys had talked a little bit about the margin, and you mentioned in the release pressure will continue. I was going to see if you could comment a little bit more about your thinking on the margin as we head into 2012?

Well, I would tell you that from a standpoint of some of the funding cost initiatives that we have been active with, I feel better about the level of contraction that we have been seeing, albeit it has been pretty modest. Obviously having some loan growth inertia, loan growth inertia would really help in that regard. I see a stable margin as we move into the next couple of quarters. Beyond that, it is really hard to predict.

Okay. The second question is, just how much were the severance costs you guys referenced in the release?

I don't have the number. We had two branch closings. So you can kind of -- I mean we are probably talking in the neighborhood of 10 FTE that were impacted associated with those branches, so not a real significant number by any stretch.

Okay. And then the last question is just on the -- any comments that you can provide on the near-term capital strategy. I know you guys talked a little bit about TARP repayment. I was going to see if you could maybe go into a little more detail of how you are thinking about capital.

I really don't have much more to add. We continue to, as I say, look at all options. We wish our stock price was much more attractive and trading at a higher multiple. But that scenario, if that were to occur and it hit a price where we liked it, we would certainly consider a possible quick repay on TARP. If not, we are continuing to make prepays on it and try to whittle it down and get it out of here as quick as possible.

On the flip side, it is hard to think about leveraging the capital base when we are also working with the regulators to make sure that they are comfortable that we are at a level that would allow some partial repayment. So, until we work that TARP off, there is not much in the way of strategy relative to capital leverage until we can get that event clear.

Yes, absolutely.

David Peppard, Janney.

I just wanted to dig a little deeper into some of the margin trends here. When we look at the loan yields, it looks like quarter over quarter they were down about 3 basis points. I'm just wondering with the lower long end of the yield curve what the impact from tighter spreads on new business is going to be.

Well, the sliding of the yield curve is certainly in our modeling going to present some additional pressure on asset yields. So that obviously is concerning to us. As we look forward, I think ultimately it gets back to production and trying to work your earning asset base and your mix of earnings assets to minimize that impact and grow your revenues.

Yes, the earning asset base, it seems that you are building up some short-term liquidity. I'm just wondering with the deposit growth, especially in savings accounts, if there is any place you could put that into higher yielding assets right now?

Well, I can tell you that it is challenge when you look at short-term fixed income instruments, and you are seeing yields 25 bps more than Fed funds out a couple of years on the curve. It is just a challenge. As I said earlier, I mean we have been very active in the fixed income portfolio in terms of reinvesting. But, as you know, we are having a lot of cash flow from the loan portfolio, from just run-off in the securities portfolio that we are replacing. We are at about $80 million, $85 million in Fed funds right now. I mean that is still a pretty heavy level. We continue to try to work that down, but we want to be smart about how we do it.

Okay. And turning to expenses, you guys have provided a little bit of color in your prepared comments. I was just wondering if you could dig a little deeper into where you expect some of the cost savings to be over the next several quarters?

Well, I think branch closings will continue to be a theme. We have a plan to continue with that process. That will, again, be somewhat mitigated by our intent to open some new branches, particularly in the Richmond market. So I remind everybody of that.

I think we continue to look at a lot of processes in our organization. We have a number of reengineering initiatives that are underway right now at various stages. We still think there is some operating efficiency within our Company that we will get our hands around, and we will do so quickly. It is important to us that we manage our overhead in such a way that we can find the resources without adding on. We can find the resources to continue to grow this Company.

I would add we are actually finding some additional savings just going back to all of a good number of our vendors who are willing to talk to us about lower charges just because they are wanting to retain the business and keep the business given this environment. So that has been a very pleasant surprise.

What do you expect the branch count to be a year from now?

Less than it is now. I would tell you probably two to three less than it is now.

Okay. That is enough for now. I will hop back in the queue. Thanks, guys.

Derek Ferber, Stifel Nicolaus.

I just wanted to get some incremental color on your ability to move real estate, how you feel this quarter versus this time last quarter, and which markets you have had success in and which ones have been tough.

I think pretty good success overall. The question was this past quarter or looking out to the future quarter? I was not quite clear on what you asked.

I guess both just sort of how you feel now versus this time in the previous quarter and then I guess your outlook going forward as well.

Well, I would say my outlook is positive. I think it is continuing to improve, and I would say because number one we have got good processes in place. We have had good experience through using auctions, and we just got a good methodology down. We are very familiar with the credits. We have got them well reserved, and so we are active and active in a very big way month-to-month working these credits down.

So I think, if you looked at it over the next six to 12 months or six months even, you are going to see a downward trend for us on asset quality. I make that comment in a static environment. I mean obviously the economy could always do negative things, but overall we still look for positive trend down, improving trends.

Jennifer Demba, SunTrust Robinson Humphrey.

This is David Grayson in for Jennifer. Thanks for taking my questions today. I guess my first question would be a follow-up to the previous one on moving real estate. I know that there is a blip up in non-performers on that one credit. It seems pretty straightforward. But could you maybe provide a little color on your appetite to get more aggressive with moving some of the stuff? And then a follow-up to that would be any additional color on what is going on at Smith Mountain Lake right now?

I would tell you we are pretty aggressive now. I would not -- I don't know how we would tune it up much more. A lot of it is just timing of when things get in the queue and when they all hit because we have always got a finger on the trigger to get out of these credits as quick as possible. Some of it is just timing. So from quarter to quarter, it is a matter of the luck of the draw and when things kind of fall in place and we feel it is right. We're ready to move. So we are aggressive, and we have good people working on it.

Relative to Smith Mountain Lake, again, to put it in perspective, three years ago we were probably looking at exposure in that market of $75 million total. We are now down to about $12 million in exposure in that market, of which only $6 million nonperforming, and the first of the year we have auctions already lined up to hopefully eliminate the rest of that exposure. So I would say that has been pretty successful for us, and we have been pretty aggressive on that front.

Okay. And then maybe one quick follow-up, if I can. Jeff, can you remind us how much -- or let us know how much cash you are holding now?

I can give you an estimate. I don't have an exact figure. But it is in the $7 million to $8 million range of operating cash.

[Stephen Scouton], KBW.

I was curious as to what -- in regards to the deposit growth that you saw in the quarter, what percentage of that might have come from new accounts or what of that may just be increased deposits from existing customers?

I don't know that I can give you the deposit growth. I can give you a little color around that. May give you a sense of filling. On a gross basis -- well, let me give you, on a net basis, we are pretty close to around I would say somewhere between 8 to 1000 accounts, new accounts that we are opening every month. So we are enjoying some good growth. I mean, on a gross basis, it is about 1.2 million -- excuse me, 1200 or 3000 a month. But net about 8 to 9 to 1000 a month, and we are seeing that trend go up. We feel good about the initiatives that are underway in the retail franchise, and part of the right-sizing is, again, emphasis on looking at markets where we know there is more growth, and we are trying to staff accordingly.

That is great. And within that growth, have you guys -- is that largely from marketshare takeaway? And above and beyond that, have you been able to increase the debit card usage within these new accounts or existing accounts?

To answer the last part of your question, yes, debit card penetration we have been able to improve significantly, and you can probably see the number there relative to that. I don't have it off the top of my head, but we have actually seen a pickup, a nice increase in our debit fee income. As to whether it is new customers or takeaway from current customers, I don't really -- I cannot give you a sense of that. I mean obviously some of it is, but I could not tell you what percentage of those accounts are new but clearly some of it is.

Okay. Thanks, Ed. And one more question around the debit card penetration. Obviously legally the Durbin bill should not impact you guys at your asset size, but what are your thoughts about the timing of when retailers might change pricing for banks of your size and what the long-term impact of the Durbin will be to you?

I wish I knew that. I could go on a speaking circuit and make a lot of money if I knew the answer to that. I just don't know quite honestly, but we feel good where we are right now. But obviously that is hanging out there, and we worry about that possibility as well. But we don't really know, could not really tell you.

(Operator Instructions). William Wallace, Raymond James.

One, a couple of questions. Most of my questions have been answered, but a point of clarification. In your press release, when you are speaking about your mortgage banking business, there is a sentence saying profitability levels were expected to improve. Are you suggesting that we will see the mortgage banking related fees increase sequentially from the third quarter?

I think there is a good chance of that given the swell up we have had on the balance sheet in the held for sale category. Because the refinance swell or surge, if you will, occurred so quickly and we had a lot of closings at the end of the quarter, we have got a lot of deferred revenues sitting on the balance sheet that should catch itself up over the next couple of months.

Okay. And then, on the expense side of the $2 million to $2.5 million of net cost saves that you expect, how much of that has been recognized already?

I would tell you, in terms of events, a fair amount, but in terms of actual dollars in the third quarter, very little. A lot of the initiatives really did not get legs under it until late in the quarter. So I think you will really begin to see in the fourth quarter some lift from some of those initiatives.

Yes, we really got in earnest with the Board and discussion on those items back in the July and August period. And so the implementation followed sometime after that point. So, as Jeff says, I think most of it will be seen going forward.

An example of that would be the branch closings. We had two branch closings that were very late in the quarter. $800,000 associated with those two branch closings and cost saves, very little of which was obviously realized in the third quarter.

Okay. And then on the de novo into Richmond, have you already identified locations, and if so, what is the timing on when we should expect to see those branches open?

I would say we have narrowed several sites down. We have not specifically settled on any yet, but I would tell you I think in the next six months we will have some construction underway at someplace or at some points within the Richmond market. Again, it is not going to be an extensive branching for us. It has been well planned. We are actually using a new model, which will be very, very much more efficient from a construction cost standpoint, from a personnel standpoint, and we have spent quite a bit of time studying the market demographically relative to not only the market, but also the business and the customers that we already have, which are significant on the commercial side.

We will probably come in the Richmond market toward the end of the year, and loans outstanding in that market alone had close to $170 million, $175 million. And so we have got a fairly significant presence there.

As I say in the comments, retail we have not really hit yet. Bottom line, mortgage is certainly doing a good job. So we just want to be able to leverage a bit more and help service the customers we already have.

Two additional points. On the big construction side, it is conceivable that none of the branches will actually be new construction. We are looking very hard at branches that are either existing or end units on strip centers, to Ed's point regarding style of branch and branch of the future efforts that we are spending a lot of time with right now.

And then secondly, we have got commitments on commercial construction projects of over $60 million right now unfunded. So we are pretty excited about that and think that will help us turn this loan engine a little bit and hopefully show some improvement in the portfolio from a growth standpoint.

Okay. And then lastly, on the TARP front, do you guys know already what it would take to get out if you were to raise capital to get out? (multiple speakers) Have you discussed with your regulators, do you know the dollar amount buyer?

We have had discussions, but I would tell you those discussions tend to ebb and flow. So I would be hesitant to tell you that it requires X to get Y. It is -- as you know, I mean the political environment, the regulatory environment tends to ebb and flow. And I will tell you we are having active discussions with them, and when the time is right, then we will know the number, and that is the number that we will work with.

Okay. And then, I guess, as you look at your stock price and you consider the potential of paying out of retained earnings versus thinking about it, are you thinking about it as far as being neutral to accretive to 2013 earnings or 2012? I mean how would you make the decision? I mean obviously a better stock price helps, but what is the point where you say we can do this now?

Well, I think we have been willing to accept the minimal dilution in order to get out from under the TARP and be in a position to move forward with a number of our initiatives, which would include a dividend increase. So we certainly have a threshold that we are working with relative to what level of dilution we would be willing to accept to move forward.

But obviously I mean that is a moving target because if we -- that is coupled with partial repayments before if and when we did a capital raise. But there some partial repayments have been made, and obviously the dilution factor changes again from that scenario. So we are just looking for an optimum exit strategy here, and so it is sort of a range of options we look at and have a lot of discussion about.

I'm showing no further questions at this time. I would now like to turn the call back over to Jennifer Knighting.

Everyone, thank you for joining us and for your questions today. We appreciate your participation. This concludes today's teleconference.

Ladies and gentlemen, this concludes today's conference. Thank you for your participation, and have a wonderful day.