Banner Corp (BANR) 2003 Q2 法說會逐字稿

Good morning, ladies and gentlemen, and welcome to the Banner Corporation second quarter results conference call. At this time, all participants are in a listen-only mode. Following today's presentation, instructions will be given for the question and answer session. If anyone needs assistance at any time during the conference, please press the star followed by the zero. As a reminder, this conference is being recorded today, Wednesday, July 23, 2003. I would now like to turn the conference over to Michael Jones, President of Banner Corporation. Please go ahead, sir.

Thank you. And let me add my welcome to all of you who have joined us in this conference call. We appreciate you taking the time to learn about what happened to Banner Corporation during the second quarter. Sitting here with me today are Albert Marshall, the Secretary of the corporation, and Lloyd Baker, who is the Chief Financial Officer of the corporation. First, we have to start off with the normal disclaimer statement, read by Albert Marshall. Albert, will you do that, please?

Thank you. Good morning. Our presentation today discusses Banner's business outlook and will include forward-looking statements. Those statements include descriptions of management's plans, objectives or goals for future operations, products and services, the forecast of financial or other performance measures and statements about Banner's general outlook for economic and other conditions.

We also may make other forward-looking statements in the question and answer period following management's discussion. These forward-looking statements are subject to a number of risks and uncertainties and actual results may differ materially from those discussed today. Information on the risk factors that could cause actual results to differ are available from the earnings press release that was released today and a recently filed Form 10Q for the quarter ended March 31, 2003. Forward-looking statements are effective only as of the date they are made, and Banner assumes no obligation to update information concerning its expectations. Thank you.

Thanks, Albert. What I'd like to do now is have Lloyd Baker, our Chief Financial Officer, go through the second quarter results and then after that, I may have a few comments before we open up to a question and answer session, the whole group. Lloyd?

Thank you, Mike. And like Mike and Albert, I'd like to say good morning to everyone and look forward to questions. When I was thinking about what to say about this quarter, you know, I went back to our press release and I think we really captured it pretty well in the second paragraph there. We said we are making progress. We're making progress towards improved earnings, we're making progress on the better asset quality front, and we're growing the franchise. And all of those themes kind of flow through the operating results for the quarter and the income statement and balance sheet. I think the -- obviously the earnings progress is evident in the $4.1 million earnings for the quarter, up from 3.4 for the prior quarter and 37 cents for the quarter compared to 31 cents. So there's progress there. The asset quality we will get into in a minute. But I think the growth in the franchise and the growth in some of the balance sheet accounts is really the area that I'm focused on a little bit, because that's where we have spent a lot of effort and a fair amount of dollars investing in the progress that we're trying to achieve here in changing the franchise and growing it and we're starting to see some pretty solid results. Particularly, I think it's noteworthy, deposit growth, which was nearly 5% for the quarter, deposits are up 13% year to date and up 19% year-over-year.

Now, that's $266 million worth of deposit growth in the past 12 months. And that growth is contributing significantly to what's going on in the company. More recently, loan growth has improved and is becoming a significant factor. Now, loans are up 6% year-over-year but if we removed from the loan totals the one- to four-family loans, which continue to decline as prepayments in this current rate environment remain very high and as we continue to sell new originations into the secondary market. Excluding those one- to four-family loans, the balance of the portfolio is up 12% year-over-year. Commercial and agricultural loans were up 24% over the last 12 months; and, of course, that's an area where we've invested a fair amount in people and effort. Commercial real estate loans were up 11% year-over-year, construction into land development loans were up 11% year-over-year, an area that continues to be a significant contributor to our performance. And this loan growth, again, excluding one- to four-family, it seems to be accelerating. We're up 10% on a year to date basis and actually up nearly 8% for the quarter.

So again, making progress, growing the franchise, and with the results that you would expect flowing through the income statement. Particularly that growth is contributing to net interest income, which was up $600,000 for the quarter and up $1.1 million for the first six months of the year over the first six months of last year. And certainly that net interest income growth, which is important, is reflecting the balance sheet growth; because we continue, like everybody else, to face pressures in the current interest rate environment with respect to the net interest margin. But despite those pressures, we see growth in net interest income.

Noninterest revenues are up significantly, as well. And I'd point out that 19% growth in fees, which mirrors the growth in the deposit portfolio, and then, of course, the continued exceptional activity in real estate lending and mortgage banking. Our real estate lenders have -- at the end of last year, we were celebrating the fact that they had done a little over a billion dollars in loan production for the year 2002, the real estate lending group. The first six months of this year, they've done 700,000 -- or $700 million, excuse me, and, of course, that's making a significant contribution to the bottom line through gain on sale, which was very strong at $3.2 million for the quarter and up significantly over a year ago numbers as well as up from the first quarter.

Now, the recent backup in interest rates, you know, may have some impact on that, but we still are at exceptionally low levels of interest rates and we would expect that housing activity will continue to be strong. Expenses were well-behaved for the quarter by comparison to the prior quarter. They're up significantly over a year ago; but we've been pointing out for some time now, that's the investment we've been making and as I said, the progress in that area is becoming evident.

The other area where progress is being made is in the area of nonperforming assets, which were down $5 million for the quarter and allowed to us hold the loan loss provision at the same level of $2.3 million that we had in the first quarter, down significantly from year earlier levels. So really as I said, I look forward to questions. But encapsulating it, I think it progress, growth and, you know, some optimistic trends with respect to the future. I think that's all that I'll comment on right now, Mike, and look forward to questions.

Thanks, Lloyd. Just to embellish some of the things Lloyd said, I think you've heard from us for the last three or four quarterly news conferences talk about the investment and experienced real estate and commercial lenders that we've brought on board. People that I have known in prior lives that have worked for me or we were competitors in the marketplace that have long-term, deep experience in the kind of lending that we want this bank to become involved in.

Doing less of the marginal commercial credits, more of the credits of large companies that can revolve their credits and actually pay them down and have them rest from time to time during the year and then have money in the bank. We've had very good experience in acquiring a number of those customers in terms of loan commitments accepted from those customers over the last three quarters, and now we are beginning to see some borrowings from those new customers that are new to our organization. And in addition to that, we have a number of good borrowing customers that have been with this bank for a long time that are also beginning to borrow.

So we are very optimistic about what we're accomplishing in the ability to grow this franchise internally, and we're very pleased that if you look at the fundamentals of our balance sheet, we are a much stronger bank in terms of liquidity, in terms of a reasonable loan-to-deposit ratio, in terms of a reasonable reserve for loan losses to the level of problem assets in the balance sheet, and in terms of having an investment portfolio which does hurt our margin, but does provide liquidity sources to this organization, which are fundamental to banking. So with that, what I'd like to do is open it up to questions at this time, if I could, please.

Thank you, sir. Ladies and gentlemen, at this time, we will begin the question and answer session. If you have a question, please press the star followed by the 1 on your push-button phone. To decline from the polling process, press the star followed by the 2. If you're using speaker equipment, you will need to lift the handset before pressing the numbers. One moment, please, for the first question. Our first question comes from Jim Bradshaw with D.A. Davidson, please go ahead.

Good morning, guys.

Hi, Jim.

Hey, a couple of questions. The salary and benefits line looks like benefits, some from the FAS 91 deferred cost, but even the unadjusted number was not up as much as I would have thought given the level of mortgage loan gains, you had, for example, is that -- is anything unusual in that line item, Lloyd? Any accrual reversals or anything? Or is it a fair run rate now at this point?

No, there wasn't really anything unusual in there this quarter, Jim. The gain on sale number, you know, the correlation with the gain on sale, there can be a little bit of a timing issue there as to when compensation is paid and when gains are realized, but it's a pretty normalized number.

And the second question I had is with the increase in OREO, is there anything in the other real estate-owned category now that have any substantial carrying costs in the time you tried to sell it?

We have, as you noticed, we have about 8.5, $9 million in the OREO right now; and there is carrying cost with $8.5 million that we are currently carrying. One thing I'm pleased to report and, you know, the offer is accepted are not completely transactions, but we have accepted offers on about 70% of that portfolio at the present time to purchase it. And we're hopeful to close most of that late in the third quarter or right in the first month of the fourth quarter. So we feel pretty good about our ability to move that OREO through this portfolio in fairly quick order.

Well, congratulations. And then lastly, Mike, it sounds like also, the, you know, your tone is much better than it has been over the last several quarters. Are delinquency trends sort of marring the flattening out or decline in asset quality issues, too?

The great news in that area, Jim, is it's hard to drain the swamp when the water spicket is coming in just as fast as you're draining it. And one of the things that happened to us in the second quarter is the need to put problem assets into nonaccrual or into severe classification categories slowed down dramatically, and that helps you to drain the swamp of bad assets. So we feel good about that. That isn't to say, you know, because if you look at our statements, that we've got agricultural loans and CNI loans and construction loans that we won't have bad assets occurring in the future; but certainly they're not going to be anywhere near the rate or velocity they were in the past.

Okay, great. Thanks a lot. Congratulations on what looks like a nice turn here!

Thank you.

Thank you.

Our next question comes from Louis Zeldman (ph) with [inaudible]. Please go ahead.

Good morning, guys.

Hi, Louis.

Can you talk about, first off, in terms of the agricultural loans, can you talk about how you're adjusting your risk factors for that, for these loans?

Adjusting our risk factors? Well, we have pretty seasoned credit approval people that are fairly familiar with agricultural lending that are involved in this whole process and we have, as you know, they carry a higher rate in the -- in your reserve for loan losses than do a CNI loan or a one- to four-residential loan account, which we've taken into account.

The more important thing we're doing is we've been going after some of the better farmers in our area and frankly have had some success in acquiring them, but being fairly careful not to get too concentrated in any one crop. It's something we used to do in the past when I was at West One Bank and for that matter when I was at Old National. If you bank with old farmers, you will do fine. Now, will they have trouble? Sure. But in general, over time, they will do just fine. So we're trying to stay away from the marginal farmers, and so far we've been fairly successful. That isn't to say you couldn't have a bad crop, however.

Well, yeah. I mean, given the drought conditions that are being experienced by the region, water rights issues and the addition of depressed prices in many of the commodity products, I guess I see additional, you know, risk factors addressed. How many different agricultural product lines are you lending to at this point in time? And can you give me a breakdown -- which ones are the highest concentrations?

Well, we're doing the typical thing that's in the Pacific Northwest, be it potatoes, wheat, cattle, some hops, some very marginal amount of fruit. We aren't doing a lot of fruit. And basically if we had a concentration, I would suspect it's probably in the wheat and potato area.

So it's mostly in the Idaho/Eastern Washington area as opposed to ...

And eastern Oregon.

And eastern Oregon. As opposed to the apple orchards of the central valley?

That's correct.

One more question, if I may. Can you talk about your pipeline and where you're seeing the loan demand coming from at this point in time?

Actually, the pipeline is really full. We're really enthused about the progress and the opportunity that might be there for us in the third quarter and it's coming all across our system. We've augmented with experienced people and we haven't stacked it into Seattle and Portland. We've put it across our entire system as best we could, including the Idaho marketplace, which is something I know something about. So we're seeing it from across our whole system. And more importantly, we're seeing it across all spectrums of our loan opportunities, with perhaps the exception that we're getting paid down on our consumer loans as fast as we're generating them. And that, frankly, has to do with the refinance of the one- to four-residential home loan.

People are refinancing not only the original loan plus their home equity loan and/or their car loan. But we're having record amounts of consumer loan originations the last two or three, four months. And we brought in a really experienced person from U.S. Bank, who used to work with me in the past, to head up that operation. We're excited about that over a longer period of time. So across all facets of the company right now.

Okay, I will step back, thank you.

Thank you. Our next question comes from Paul Miller. Please go ahead.

Yeah. Thank you very much. Congratulations on a good quarter. I have two questions. One is on the MPAs declined close to $5 million in the quarter. Was that a couple loans or was that like across-the-board just a bunch of loans that happened to cure over the quarter?

Well, it was actually one large loan plus a lot of much smaller loans that paid off during the quarter. And even though I said we slowed down, what's going in that nonperforming area, it's a little bit masked by some that we did put in during the course of the quarter. But we're pleased to report that we're making progress both in the CNI bad loans and the real estate bad loans and the whole area is getting better.

Was the loan restructured or was it actually -- did it actually pay off?

It's gone.

It's gone. Okay. And the other question is on -- because we're at this historically re-fi unit seems not to go away, you guys did record a lot of income off your mortgage banking, which is very strong. But can you give us a sense of a normal rate, like say in a couple of quarters when this thing kind of calms down, on that gain on sale line?

You know, one of the things has happening in this company and the real strength of Banner Bank is its one- to four-construction lending program that goes on here. We are very good at that. I wouldn't take my hat off to anybody in the Pacific Northwest in that area. So I'm going to guess that a significant portion of our gain on sale came from one- to four-residential new loans, not refinances.

And we expect that's going to continue and frankly at these current interest rates, even if they go up a little bit, we're going to have accelerated home construction lending in the Pacific Northwest. And for whatever reason, we're gaining market share in that area from a number of other people. A lot of our -- we've got very good builders and our builders are doing a good job and we're going with them. So even though the refinance market may slow down, which I think it will, I think that we will pick it up on the other side very nicely.

So I mean could you give us a breakdown of your re-fis in your production? You're saying there's very little re-fis?

No, no. I'd say -- but it's not 100% refinance by any stretch of the imagination.

And Paul, I mean, obviously mortgage rates backed up nearly a full percent here in the last five weeks. But they also had gone down significantly before that. So we haven't, to any extent, moved ourselves out of the affordability window. On the other hand, you know, the re-fi indexes are down this morning and we would expect it, you know, that's a tough environment to expect or it's a very good environment for mortgage lending; but it's a tough act to assume it's going to continue forever, unabated. But as Mike said, we've continued to add production capability and we're optimistic about that activity given the still low rates of interest.

And one of the good s things we're doing in the area is we have very few high-end houses we're financing in the construction program. We're staying in the sweet spot of what sells; and that, in our neck of the woods, is a house somewhere between $175,000 and $600,000. That's where the vast majority of our homes are that are being built. They sell in the good times and the bad, and there's an acceleration of these interest rates in those kinds of homes. Because, frankly, if you're in a two-bedroom apartment in this particular area, particularly in Puget Sound or Portland, and if you can scrape together a down payment you can buy a new house and be dead even on your monthly payment versus your rent payment. And so we expect this to continue for quite a while.

And the other question I had, this is more for the philosophy question, is we saw two big mergers happening in the Pacific Northwest over the last, I guess, 60 days. We saw [inaudible] get taken out by Sterling and then Pacific Northwest get taken out by Wells Fargo. Can you give us some of your thoughts on that? And where do you stand on that M&I activity?

Well, congratulations to both [inaudible] and to Pacific Northwest Bank. I think those are nice acquisitions for their shareholders, and we're pleased for them. We're actually pleased for Banner Bank. I think it gives us opportunities in the marketplace, particular as it relates to Pacific Northwest Bank. It was a well-run bank that had a chance to be the best regional franchise in the Pacific Northwest, and I think that goes away with the merger with Wells because Wells as been down this road once before in the Northwest and we will see if they can retain as many customers they think.

We think it gives us an opportunity to acquire a number of the Pacific Northwest customers and perhaps some of their employees as that merger is completed. In our own area, in the M&A area, we embarked on a program which we've been fairly consistent in telling you about from the beginning of trying to grow this franchise internally. We're very much interested in growing our deposit portfolios rapidly and at the same time, acquiring experienced lending officers that can bring some portion of their portfolio from wherever they're coming from to us and in effect have an acquisition take place, but not have to put the goodwill on our books. It does, unfortunately, hit our current earnings as a you go through the buildup of that process.

Okay, Michael, thank you very much.

Our next question comes from Ramsey Greg with Sandler O'Neill. Please go ahead.

Hey, guys, congratulations on the positive results this quarter. Basically going forward here, as far as provisioning is concerned, you're still looking at about 2.25 each quarter now throughout '03?

Yes --

Go ahead, Lloyd.

You know, our crystal ball is not a whole lot better than yours, Ramsey. That is a reflection of what happens in specific loans and activity in the portfolio and growth. I think that obviously we've continued to want to have an allowance that's appropriate and the provision that recognizes losses when they occur, and the trends are positive. I don't think you're going to get us to go on record to say it's going to be that level every quarter, as much as I'd like to be able to tell you that.

[inaudible] has a lot to do also, Ramsey, with the amount of loan growth we've experienced over the next six months. We need to make provisions for that in the reserve.

All right. As far as, you know, share repurchase, what are your expectations there?

I think that whole area is under analysis. You're seeing and you'd see this even more than we do. With the change in the tax rate on dividends and the movement of dividend rates by the cities, the BofAs, the Wells Fargos, that another way to skin the cat is to improve your dividend payout ratios and to pay larger dividends to your shareholders. And frankly that may well be an area that we're going to go. Frankly, it's a [inaudible] topic for us, so we're going to have a big discussion philosophically about it in our next board meeting.

Great. Thank you.

Our next question comes from Louis Zeldman (ph) with Hoper and Arnett (ph). Please go ahead.

Well, you gave me a nice segue. Where exactly are you guys today? What branch are you guys -- is the board visiting?

Actually it's later today. It's a place called Lewiston, Idaho, Lou.s

Okay. You're not too far.

No.

Lloyd, can you talk about expectations on the margin for the balance, you know, at least for the third quarter, if not for the balance of the year, based on the late Q2 rate cuts? And any anticipated effects there?

Sure. By the way, we're in Walla Walla this morning, Lou. And it's hot here and it's going to be hot in Lewiston tonight, too.

That's all right, I have a jackhammer outside my window!

The margin is under pressure, we've said that for a period of time now. The asset mix changed that Mike eluded to, where we have a little bit more in the investment portfolio, was a contributing factor to the decline over the quarter. We continue to have fairly good luck with our loan yields holding up, but both loans and investments in this environment, you're right on. We had another move by the Feds late in the quarter and it's not particularly a positive note for us.

So I would expect to see, you know, pressure on the margin in the third quarter. The fourth quarter, it kind of depends on what happens with interest rates moving forward. And the other thing is, again, if we are successful as we expect to be with loan growth, maybe the mix shift will go the other way. The other thing is, you know, there continues to be a racheting down in our cost of funding. And, you know, we see it in deposits, we see it a little less in our home loan bank advances because we have more term structure in there, but that term structure unwinds over time. And actually over the next six months there's some good unwinding in that term structure. But I think net-net-net, pressure will be there third quarter margin, I expect to contract a little bit.

So that would be triple-net there?

Yeah! [ Laughter ]

What kind of pricing power do you have on the liability side, on your deposit side?

Well, you know, we're experiencing good growth as are a number of institutions as money is flowing back into the banking arena out of equities and out of money market funds. And money market funds, in particular is an area where we have a little bit of a pricing advantage right now that we haven't always had historically. You know, it's -- there's always competition, and the consumer though is getting more and more used to these rates and their options are not particularly good.

I don't think the consumer will ever get used to these rates. But, on the loan side, then, you know, flipping it around, please refresh my memory as to what kind of floors you have in place and what kind of, on the variable rate loans that you have, where you might see some additional declines on the yield under earning assets?

You know, this is the most difficult part of our asset liability management analysis right now, is trying to figure out what will happen over time on those floors. I'm convinced they will erode over time if rates stay at these levels. We have in the neighborhood of $500 million worth of assets sitting on floors. In fact, it may be a little higher than that. And the question is how will they erode and what, you know, what happens with interest rates while that process is occurring? These are levels that we're -- I'm not accustomed to, Lou, so ...

Is there -- has there been a lot of call by clients coming in and saying we want to renegotiate below our floor?

No.

No, I wouldn't say there's been a lot. I think that, particularly in the builder industry, where a lot of these floors are, they're looking to do business with a bank that knows what they're doing in the construction finance arena and are willing to pay slightly more for that. Now, if you're a Centex (ph) or one of the large top 10 builders in the United States, no, they're not going to do that, but that's not who we bank. And so I think right now, so far, we've been able to sustain our floors a lot better than we thought we were going to be able to six, eight months ago.

Okay, great. Thank you.

Ladies and gentlemen, if there are any additional questions, please press the star followed by the 1 at this time. As a reminder, if you're using speaker equipment, you will need to lift the handset before pressing the numbers. Our next question comes from Ross Haberman with Haberman Funds. Please go ahead.

How are you, gentlemen?

Good.

Great, Ross.

Lloyd, just a quick question. Can you give us a feel of what is left in the nonperformers and the OREOs, sort of the big items left there? And what -- and as you've been getting out of some of the bigger credits there, have you been having to further writedown the OREO further beyond what you've set the allowance for?

Well, the OREO whenever a property comes into OREO, Ross, it's brought in at its current market value and that, in certain instances will be less than the loan amount. But to the first part of your question, you know, we continue to have, you know, a concentration of the nonperformers in the commercial lending area, although we have some real estate credits in there, as well, commercial real estate. And I think between OREO and nonperforming loans, there is one land development project that we've mentioned in prior quarters' 10Q that still in those totals, it's probably the largest exposure we have today. But we're optimistic, actually, on that one that we're making some progress in resolution. So --

Well, it's more than that. We actually have an accepted offer on the property and we expect to sell the OREO properties, part of which that represents, at par.

I recollect you had some large credits in the Seattle area?

Still do. That's where the problem was.

Okay. Okay. And are you close in terms of getting rid of that over the, say the next six months or so?

We're going to get rid of a significant chunk of it, but we're not going to get rid of all of it; and it has a lot to do with what happens in the Puget Sound economy. Because I think it's going to be a lot slower coming out of the recession than the rest of the United States will be, if what we are in is in recession. Very clearly business activity levels in Puget Sound are slower. These are marginal borrowers and a marginal economy and, frankly, it's going to take them a while to come out on the other side.

Okay. Thank you.

You bet.

Our next question is a follow-up from Louis Zeldman (ph) [inaudible]. Please go ahead.

Thanks. Can you comment on -- going back to the origination of this thing -- can you comment on the insurance claim and/or lawsuit?

Well, fortunately we have no lawsuits currently in place relative to that problem that took place.

The one -- I was referring to, you know, the one you guys were going after, the individual.

Right. The two individuals involved, one internal and one external, are a subject of a bond claim we have filed in the amount of about $14 million, which exceeds the limit of our policy. But the bond claim analysis is currently ongoing. I would like to tell you we're going to have resolution in the next six months, I don't know if we will or not.

Right now we're pretty optimistic, but I've been optimistic before and then disappointed by insurance companies. As it relates to the two individuals, they are involved presently in being reviewed by the criminal authorities relative to possible involvement in being charged for criminal actions. And that process has slown down a whole bunch what's happening on the civil side.

Okay. So 10 years from now we can call it a fi-real lawsuit?

[Laughter] Probably! Hopefully not that long, but it's very clear it slows down people when they think they're going to get criminally indicted about what they will say and won't say.

Okay. Thank you very much.

You bet, Lou.

Gentlemen, there are no further questions, please continue.

Well, we appreciate having the opportunity to talk with all of you today. We had a better quarter, it's not a good quarter, we've got a long way to go to be good. We know that. We do believe we started to make some progress. We're optimistic about continuing that progress in the future, but nevertheless, the proof will be in the eating as we go forward. So again, thank you for spending some time with us today. We look forward to talking with you in the future.

Ladies and gentlemen, this concludes the Banner Corporation second quarter results conference call. If you'd like to listen to a replay of today's conference, you may dial 303-590-3000 and enter the access number of 545010. Again, if you'd like to listen to a replay of today's conference, you may dial 303-590-3000 and enter the access number of 545010. Thank you for participating. You may now disconnect.