Banner Corp (BANR) 2003 Q4 法說會逐字稿

Good morning, ladies and gentlemen and welcome to the Banner Corporation fourth quarter and year-end results conference call. [OPERATOR INSTRUCTIONS]. I would now like to turn the conference over to Mr. Jones, President of Banner Corporation. Please go ahead sir.

Good morning, everyone and thank you for joining us this morning. I have here sitting with me today Lloyd Baker, our Chief Financial Officer. I now with Marshall, who is the Secretary of the Corporation, and what I would like to start off with is our paragraph relative to forward statements that Albert should read, I've been told.

So, I'll have Albert read that, followed by a discussion of the fourth quarter and year's performance by Lloyd Baker, and then some follow-up comments by me, prior to opening it up to a Q and A session for the rest of the session. So, with that point Albert, would you please go ahead?

Good morning. Our presentation today, discussions Banner's business outlook and we will include forward-looking statements. Those statements include descriptions of management's plan, objectives or goals for future periods, for future operations, products or services, forecasts of financial or other performance measures and statements of 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 our recently filed Form 10-Q for the quarter ended September 30, 2003. Forward-looking statements are effective only as of the date they right made and Banner assumes no obligation to update information concerning its expectations. Thank you

Now I feel a lot better. Thank you, Albert. Now with that, I would like to turn it over to Lloyd and let him talk about what happened in the past.

Thank you Mike. Good morning, everyone. As you can imagine, it's easier to sit here this morning than it was a year ago and talk about the fourth quarter results. The fourth quarter was a reasonably good quarter for Banner Corporation. I'm going to touch just briefly on the quarter and a few things that -- comparisons on a year-over-year basis and then as always, we'll look forward answering questions.

For the quarter, as you can see in the release, we reported $4.4 million of income, 39 cents a share, bringing the year-to-date total to 16.1 and $1.44 per share. Notable in the quarter, I think, probably the two most notable things was the expansion of net interest income and in particular, the net interest margin, which is something that has not occurred in recent periods, and of course on a year-over-year basis, the net interest margin continued to be under pressure.

But in the quarter, we saw growth in assets, which contributed to expansion in net interest income and improvement in the margin, largely reflecting significant improvement in the yield on our securities portfolio by comparison to the prior quarter.

And also reflecting continued improvement in the cost of funds. The securities portfolio increased 77 basis points in yields compared to the prior quarter. The cost of funds led by borrowings, which were down 43 basis points contracted nicely.

The other notable event, of course, in the fourth quarter was the decline in mortgage banking revenues. This is, won't come as a surprise to anyone. Gain on sales loans was off $1.7 million by comparison to prior quarters, but still continued to be good and if we look on a year-over-year basis, certainly 2003 will be noted for its mortgage banking activity. For Banner Corporation that translated into $2.8 million increase in revenues, by comparison to '02.

As I mentioned, the margin on a year-over-year basis did show the effects of declining and very low interest rates throughout the year. It also -- and this is a little less obvious, but for Banner, it also reflects a change in the mix in our assets, in particular, as we grew the securities portfolio to represent nearly 28% of earning assets, as opposed to about 21%, a year earlier, or on an average balance basis. That change in the mix, coupled with the financing that supported it was responsible for about 20 basis points to the margin contraction that we saw during the year, but of course contributed in terms of asset growth positively to net interest income, adding about $3 million of net interest income over the prior year through improved leveraging of our capital position.

The other obvious big change on a year-over-year basis, it wasn't for the fourth quarter, which was level with the prior quarter, but for a year-over-year basis, provision for loan loss was $7.3 million for the year, by comparison to $21 million a year earlier, $13.7 million improvement in provision for loss. The other items that I want to point out in the earnings statements really relate primarily to the year-over-year numbers. Deposit fees were up $1.4 million for the year. Reflecting growth in deposit balances and also reflecting improved pricing and collection of deposit fees.

And then one other item in the income statement that I will bring to your attention, miscellaneous revenues, all other revenues for the company were down about a $0.5 million year-over-year. That largely reflects investments we have made in partnerships for low and moderate income housing, which generate tax losses in the income statement. Those losses and that reduction in other operating income is offset down in the tax provision line where we receive tax credits on those investments.

On the expense side, we made no secret that, of the fact that we have been building franchises. Mike likes to call it laying track and our expenses are up considerably on a year-over-year basis. They were, of course, affected by the very strong mortgage banking activity throughout the year, and the fact that expenses were down slightly in the fourth quarter by comparison to the previous quarter is, reflects some of the unwinding of that mortgage banking activity.

So, as I said, a reasonably good quarter, at $4.4 million, and certainly for the year, $16.1 million, a meaningful increase over the prior year's numbers, which reflects the growth, and then certainly reflects the reduction in the need for provisioning for loan losses, as asset quality is improved.

With respect to asset quality, we did, as we note in the announcement, have a little bit of a disappointment in the fourth quarter, as we, as we did not see improvement in our non-performing assets, and in fact non-performing loans increased largely, reflecting, in fact completely reflecting, one particular credit relationship that went into a non-accrual status in the quarter.

But on a year-over-year basis, we saw a 25% reduction in non-performing loans, non-performing assets, I should say, $10.6 million decline, and for the quarter, an important part of that, there is during the quarter, we did reduce our real estate owned holding by $4 million through the sale of some property.

On the balance sheet, we had a good year, although loan growth, particularly, C&I loan growth flattened out in the second half of the year. Loan growth for the year was solid and actually if you -- at 10, it was up 10% on a yearly basis and if we eliminate the decline in one- to four-family loans, which we have talked about for some period of time, that occurred throughout the year, as the refinance activity was strong.

Excluding that, the loan portfolio was actually up 17% on a year-over-year basis. Strong growth in non-residential real estate lending, strong growth in construction loans, and reasonably good, 14% increase, in C&I and Ag lending for the year.

As a result of that growth and the effects of the margin, as I mentioned, a much better year in terms of net interest income, and in terms of bottom line performance. I think, that really is what I'll say right now and I'll let Mike speak for a moment here before we answer some questions.

Thanks, Lloyd. A couple of thoughts that I should share with all of you. If you'll notice in the back, we have currently about 9, excuse me, $28 million on non-performing loan category. Of that $28 million, there's a shift from what we used to talk about over the last couple of years. In that what's remaining in that portfolio is, approximately 50% are Ag related type credits. So, something north of $14 million in that particular category. The remaining portions of the credits, which we used to refer to as our western marsh and that wouldn't have credits are cleaning up very nicely and we are looking forward to continuing to improve in that arena.

On the agricultural side of things, for those of you not familiar with the work on non-performing Ag credits, that is little bit of a slower process, however the collateral or the loans that we're talking about are secured not only by the growing crops, but the performed property on which they are grown and therefore it tends to be, have less loss exposure in them than some of the other credits that have receivable inventories as collateral. But, it will take a bit long, but to get rid of that last remaining part of the real estate non-performing, excuse me, agriculture non-performing loans.

As it relates to the economy of our region out here, since we last talked, things have continued to perk along. We're, we feel very good about the economy in the Portland market place. We feel good about the economy improvement that is taking place in western Washington, where something just north of 50% of our loan portfolio resides and so therefore, we are looking forward to improved economic opportunity for us in our service area in 2004. I think, at that point, may be we should get to the issues that are of interest to you specifically and open it up to questions and answer at this time.

Thank you, sir. [OPERATOR INSTRUCTIONS]. Our first question comes from Jim Bradshaw with DA Davidson. Please go ahead with your question, sir.

Good morning. Couple of quick ones, hopefully. First, Lloyd, were there any gains or losses from the sales OREO in the quarter and if so, where are they in the income statement?

It was pretty much a push, Jim. They actually reside in the operating expense numbers, but there was, activity for the quarter did not produce significant gain or loss. I don't remember the exact number right at the moment.

OK, good. And, Lloyd, do you know what the change in, from Q3 to Q4 was, in amortization of premiums in your asset backed securities portfolio? Was that a material difference in the quarter, was from that?

It was. Actually, it was about $900,000 and it was the number and that is a significant part of the securities portfolio change, but it's also reflects replacing certain securities, those that paid off with higher yielding investments, as well as a little restructuring of that portfolio.

So, is your margin outlook then for the first quarter, you know, that's plus or minus 3, 4 basis points somewhere ended the quarter, a year ended fourth quarter rather?

Yeah, I think that's a fair assessment. I'm fairly optimistic about the margin performance for the first quarter.

OK, good. And then last, can you talk a little bit about what your mortgage banking philosophy is going to be this year, you know, cut back or curtail, or do you want to sort of attack new markets and new relationships and may be even expand the head count there a little bit?

This is Mike Jones speaking Jim.

Hi, Mike.

We actually are going to work to penetrate certain markets a little further. Some of our competitors have decided to exit some of these market places. There are some excellent people available to us and frankly because of our very strong one-to-four residential construction lending operation and relationships with some builders we have particularly west of the Cascades in Portland in the Puget sound region, we are very hopeful to capture a significant portion of those properties that -- as they get sold upon completion to do the end loan origination operations.

So, what we expect to see a decline, don't give me wrong and gain on sale loans, we don't think, it's going to be anywhere near what it would be if we just walked away from it.

So, '04, I 'denies had to look more like '02 than ' 03, that would be your best guess at this point?

It will clearly be down from '04.

OK. Good.

It will be from '03.

OK. Great. Thanks a lot.

Thank you. Our next question comes from Lewis Feldman with Hoeffer & Arnett. Please go ahead with your question.

Good morning.

Hello.

Can you, I mean, this is a question I asked, and you said you wouldn't know until later in the quarter. What is your exposure, potential exposure, on the mad cow side? You know, even though they continue to find these animals from this particular herd in various locations in Oregon, Washington and Idaho. Have you guys been able to estimate what your potential exposure is on loans in the area, and possible follow-throughs from beef cattle and dairy farms?

We have an exposure of lending and out standing to the cattle industry of about $24 million. One-half of that is to a very large credit that's headquartered in Boise, Idaho. That has very substantial hedging operations and produce profits in the magnitude of about $60 million this last year. And, frankly we're not concerned about that -- they control. It's an integrated process that they have.

We only have one dairy loan in our whole portfolio, it's located in the Bellingham region, and we frankly have looked at that herd pretty carefully, and are pretty confident it won't be hurt by this, assuming that we don't get into the destructive process that the Great Britain got into some 11 years ago.

It seems to have been avoiding that.

So far.

Yep.

In general, at this moment in time, because we have looked at it pretty hard borrower-by-borrower, we do not believe we have a significant risk in this area.

OK. Can you then touch on what your goals are in terms of deposits? Because, you know, deposits trended down, due to in part a seasonal nature, and your borrowings are up, but what is your thoughts and functions on your ability to fund future loan growth? Do you look to do it more with borrowing? So, you are going to try and really push on deposits in '04?

A little bit of both, Lew, but we're really going to push on deposits in '04. If you look not just '04, but you look '05, '06, and on, we've built the machine to generate the loan volumes. The challenge for us is to be able to fund them, and to fund them profitably from -- with the customers, from within our own service area, and that's what where we are going to have to work at. That's the number one long-range concern I have for this company.

OK. I'll step back.

Lew, I'll just step back one point. You noted correctly that we did have a decline in interest bearing deposits in the fourth quarter. That largely, in fact completely, reflects a decline in public funds deposits. We have a fairly significant presence in that market and at the end of the third quarter, many of the municipalities that we deal with had significant inflows of deposits that caused those balances to go up and at September 30, they moved back off the balance sheet through out the fourth quarter. So, I don't want to say it's not a core business, but it's not the core consumer retail business that was creating much of that movement.

All right. But in terms of your overall averages, there was a decline there, as well?

Yes.

I'll step back.

Thank you. Our next question comes from Ramsey Gregg with Sandler O'Neill & Partners. Please quote your question sir.

Good morning guys. Again, what was the amount of Ag credits in the non-performing loans?

Something in the north of the 50%, of the 28 million, right about $15 million.

And then, expectations for loan growth in 2004. In the first quarter have you seen any pickup at all in commercial business demand?

In the first quarter, we've picked (inaudible) nominal growth so far in the commercial side, but this is not exactly the weather for those things to happen up here in the northwest. But having said that, we are pretty optimistic about the opportunity for loan growth, particularly, the commercial loan growth in the northwest in 2004.

Did that answer your question, sir?

It did. Then as far as how the asset sensitivity level of Banner, what percentage of loans are at floors?

Interesting question.

We have in the neighborhood of $500 million worth of loans that are sitting on floors, Ramsey. The interesting thing about floors is that, over time, they tend to erode a little bit and so that has been a big help for us, was a particularly, a big help in 2002, in holding asset yields up. In 2003, they have tended to erode a little bit and as I've mentioned a number of times, the longer we stay at these levels of interest, the more pressure we would expect on those floors, but it does interesting things. It, when we look at our interest sensitivity, we're, we are relatively confident that higher interest rates would be good for us, although margin marginally higher interest rates don't take some of those loans off of their floors. It creates an interesting risk management challenge. We're glad we have the floors.

Thanks.

Thank you. Our next question comes from Ross Habermann, with Habermann Funds. Please quote your question sir.

How are you, gentlemen? Nice quarter. Glad to see you're digging out there. You touched upon loan growth. Could you possibly be a little more specific in terms of your expectation of net loan growth for the coming year and what markets, specifically, do you see some of that coming from? Is, specifically, is the Seattle market beginning to see any sort of signs of life?

Yes. We expect, first of all, in categories, we expect to see some pretty decent growth in the commercial real estate construction arena first of all, and that primarily will be in the Portland and Puget Sound market place. The second area that we expect to see it is the commercial C&I area and we are seeing a pick up of business activity in the Puget Sound region and also in the Portland marketplace. So, we are pretty optimistic about the opportunities that are there for us.

Would 10% overall loan growth be a reasonable expectation?

It would be a disappointment to us.

OK. Thank you.

Thank you. [OPERATOR INSTRUCTIONS]. Our next question comes from Mr. James Abbott with Friedman, Billings & Ramsey. Please go ahead with your question sir.

Good morning, looks like a good quarter. Wonder if you could give us a little color on the mortgage banking gain on sale spreads versus the volume. I know the actual dollar amount that you realized declined substantially from the prior quarter, but could you give us a comment on the gain on sale spreads?

Yeah, the spreads contracted some in the second half of the year, to be honest, in particularly in the fourth quarter, as rates were volatile and to some extent moving against us, I think we experienced what is not uncommon with a few more loans in the pipeline than you might have thought and profits on those loans not being as good as they were earlier in the year.

And the other thing is, I think, that when activity was particularly robust earlier in the year pricing, the competitive pricing pressure allowed for a little bit better gains. So, we had a decrease in volume in the second half of the year and in the fourth quarter in particular and we also saw a lower level of profitability on those sales.

OK. Was the gain on sales spread less than 25 basis points? I don't know if you can give us some color on that. I know some industry players have had seen that small.

No, it was considerably more than that.

OK. And did volume on a link quarter basis, was it down more than 40% volume-wise? Or if you have the actual number that would be outstanding.

Bear with me one second.

Sure.

Loan sales in the fourth quarter were about half of what they were in the third quarter.

OK. Thanks very much. Second question that I had was, how much premium is remaining on the securities portfolio, to give us a sense as to -- ?

Considerably less than there was a year ago. That reflects, you know, the significant amortization and also the change in asset purchases. If you remember back to the second half of 2002 and early 2003, it was very difficult to purchase assets that did not have premiums associated with them. We were in a net declining interest rate environment. As things changed this fall in particular and as we changed the mix a little bit, that has changed considerably and we do not have anywhere near that same exposure that we had a year ago. In fact, to be honest, we have, you know, like many people now, probably a little bit more exposure to rates going up, just a little bit of the opposite problem that we had a year ago, but it's not a position we are uncomfortable with.

OK. And within last maybe, six months or so, have you bought any material amount of securities at premiums that would have increased the amount that is coming up?

The real amount is premiums during that period of time, probably not.

And sorry for having some many questions, but also, I thought the MPA performance was actually, you know, with the exception of the one loan, it looked like it was pretty good, seeing as the overall thing was overall stable. But, what was the size of that agriculture loan that was added?

$5.7 million.

OK. What are your typical experiences on the agricultural loans, as far as a charge-off perspective, if you, if it goes to that? Is the land sufficient to usually cover the value of the loan?

It's normally, and in these particular cases we've gotten appraisals on these loans, and yes the land is sufficient, assuming market rates of lands there approximately where they are, to cover us over time. The problem is getting into a position where you can force that to happen.

Right. Absolutely.

And but, you know, in some agricultural lending, it happens not these loans, thankfully, you can have just growing crops and receivables as your collateral and in those particular cases with the crop failure you can have much larger losses. That's not what's in the non-performing bucket at this time.

OK. Good to know. And then final question, then I'll jump off. As far as the efficiency ratio, obviously, there's two angles that you can approach that challenge. Is it primarily going to be through growth of the revenue base in 2004? Or would you expect the efficiency rate, maybe if you can give us some color on where you see the efficiency ratio averaging for the 2004 year and maybe what color you can give us on the expense growth that you see in 2004?

Well, the efficiency ratio, as you well know, is made up of the revenue component, net interest income and non-interest income plus the operating expenses, and clearly when you have a substantially declining net interest margin, it's going to impact that. The long-range problem with this institution is, when you compare it to its peer banks, is our cost of funding is higher. We need to work on that over time. And the way to work on that over time is to have a larger proportion of our deposit portfolio in interest-bearing, first of all if you could have non-interest bearing demand deposits, but in interest-bearing transactional accounts. We have about one half of what our peer banks have in that particular category.

We've worked pretty hard in increasing the alternatives available out in our branch network to capture more of that business on a go-forward basis, both in terms of people, of working in the neighborhoods that they serve and in making our branches more friendly towards gathering transactional deposits. That's the front end of it, that's the expense side of it. As the cost of funds go down, relatively speaking and we did make good progress in that area last year, growth of our transactional interest bearing deposits, as that goes down, it will help our revenue, not necessarily by growing the asset totals, but by increasing the spreads. We have a larger proportion of CD's than other banks do. And it is not that we pay more for CD's than anybody else does but the mix of our liabilities cause our funding costs to be higher. Therefore we've elected to work on that on a long-range sense.

So while I expect to see improvement in our efficiency ratio in the year 2004, the first goal is to grow our lower-cost deposit base and the second goal, actually, job one here is to improve the asset quality. The second goal is to grow our interest-bearing transaction deposit base. And as we do that, we expect to see improvement in our efficiency ratio, but I'm at this moment not driven by driving the efficiency ratio down. That'd be relatively simple, I mean, I could chop off some expenses here and make that happen, but I didn't grow much in the way of a franchise by doing that.

OK. Thanks for the color.

Thank you. Our next question is a follow-up question from Lewis Feldman. Please go ahead with your question, sir.

Thanks. Mike, could you comment on what you're seeing in terms of the C&I line usage, both east and west of the Cascades, and what you're expectations are for that? Because overall what I've been seeing is fairly limited line usage.

We can second that, Lew. We have a lot of -- one of the things we have worked on in the last couple of years is getting better caliber of customers into this bank, that is our C&I customers and they have accepted lines of credit from us. The good news is, better caliber customers have better balance sheets and in periods that don't have good growth or stagnation, which is what characterized last couple of years, they tend not to borrow money.

On the other hand, if you got a marginal borrower, it doesn't make any difference what kind of business climate you're in, they need all the money they can borrow. And as we are attempting to show some of those marginal customers the door, and we are making some success in there -- it is not that they are classified credit just not the kind of credit in the long run we want to bank. We are tending to show on a percentage basis, low overall usage of lines of credit commitments that we have made. Recently, we are beginning to see customers begin to come to us with business plans that we believe should pick up the usage of these committed lines of credit. But it still hasn't really shown up in the numbers.

Do you have a number in terms of commitments, usage versus commitments at this point in time?

What do we have? I don't think we have that, I mean, in a way that I could give it to you right now.

OK.

We'll have to work on getting that information for you.

OK. Thank you.

Thank you. Gentlemen, at this time, we have no further questions, please continue with any other remarks you would like to make.

Well, we appreciate all of you spending some time with us this morning. The fourth quarter was clearly better than the third quarter and was better than the fourth quarter a year ago. It is a long way from being very good. We have some fundamental things that we are working in this bank. I mentioned them earlier.

Job one is to improve the asset quality, that only, not only is it the non-performing assets that we have on the books, obviously, we would like to be rid of those. But it's also taking current past credits that are in industries and/or businesses that are less than desirable in our view, showing them other places that they can bank, while we in the meantime tend to grow our customer base from a better caliber of customers.

We have some opportunities that we see come coming forward in the next year, particularly, in the arena of commercial real estate construction lending. This is an area that has risks to it. But we think we have some very good people, we've done a good job of this over the years, and we think, we have some opportunity on a go forward basis in that area.

And lastly, we still believe that our one-to-four construction lending and operations will continue to grow and prosper in the year 2004, over what they did in 2003 and frankly, on a stand alone basis that segment of our operation did extraordinarily well in 2003 and we think they will do better next year. Any event, we look forward to talk into you at the end of the first quarter. We believe we'll have better results to talk about and in the meantime, if you have questions, please don't hesitate to contact us. Thank you very much.