Banner Corp (BANR) 2005 Q4 法說會逐字稿

And good morning, ladies and gentlemen, and welcome to Banner Corp.’s Fourth Quarter and Year-end 2005 Conference Call. [Operator Instructions]

As a reminder, this conference is being recorded, today, Thursday the 26th of January 2006. I would now like to turn the conference over to Mr. Michael Jones, President of Banner Corp. Please go ahead, sir.

Thank you and thanks to all of you that have joined us this morning for our fourth quarter and year-end 2005 conference call. I have sitting in the room with me Mr. Albert Marshall, who is the Secretary of the Corporation, and Mr. Lloyd Baker, who is the Chief Financial Officer of the Bank and the Corporation.

And as usual, we need to start off with my favorite paragraph of the conference, so Albert, will you please read it?

Sure. 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 or services, forecasted 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 Q&A 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 10-Q for the quarter ended September 30, 2005. Forward-looking statements are effective only as of the date they are made and Banner assumes no obligation to update information concerning its expectations.

Thanks, Albert. Now what I’d like to do is have Lloyd go through the quarterly and the annual results and following that, I will have some brief comments before we’ll talk about the subjects that are of real interest to you through a Q&A period. So, Lloyd, would you go forward?

Okay, thanks, Mike. Good morning, everyone. As you can see by reading our press release, in the fourth quarter of 2005 we did, in fact, complete the restructuring transactions that we announced and discussed with you in early December.

These transactions were completed very much in line with our earlier announcement, although we did sell just slightly more than we announced. We sold $207 million. We had previously announced $200 million of securities and we were able to get marginally better execution than we anticipated on the transactions. And as a result, the net after tax cost of those transactions was $8.6 million, compared to the $8.9 million that we projected in December.

Of course we continue to believe that the restructuring transactions will benefit Banner Corp. through an expanded net interest margin, improved interest rate risk position, and stronger performance metrics in future periods.

I mentioned the marginally better execution, which amounted to $0.02 a share, only because it is the primary reason that the $2.9 million, or $0.25 per share loss, that we reported was slightly better than the guidance that we had given back in December. And it had supported most of the analyst’s earnings estimates.

Other than this small difference, the quarter’s results came in right in line with our expectations at the time of the announcement and generally in line with the trends from the previous quarter. As a result, aside from this brief discussion of the restructuring transaction, we tried to really focus the press release on what we’ve called “recurring operating earnings” or “recurring revenues in expense lines” in the Statement of Operations, as well as the balance sheet changes that drive those items.

This means that we’ve had to make liberal use of phrases “excluding the loss on sale” and “excluding the prepayment penalties” and “excluding the charges relating to the balance sheet restructuring”. But more importantly, that we’ve added some pro forma disclosures to the income statement, which is on page 4 of the press release, and to the ratio analysis on page 7.

Of course we believe and we suspect you will agree with us that, supported with full disclosure of the restructuring transactions, you’ll find these pro forma information more useful to assess Banner Corp.’s core business results for the quarter and for the year ended December 31.

So, with that longwinded introduction, I want to turn to the results of operation on page 4. Suggest that you look at the pro forma disclosures at the bottom of the page.

As you can see, Banner Corp. recorded $5.6 million or $0.47 per share as the income from recurring operations in the fourth quarter. While this income was essentially unchanged from the previous quarter, it does represent an increase of 7.0% from the same quarter a year earlier and brought the full year 2005 recurring earnings numbers to $21 million or $1.76 per share, compared to $19 million and $1.65 a share a year earlier.

Although the slowdown in earnings growth in the fourth quarter was somewhat disappointing, reflecting primarily a decline in mortgage banking revenues and the continuing high level of expenses associated with our franchise expansion, there was encouraging progress with respect to the net interest margin, as well as continuing improvement in asset quality and a commensurate reduction in credit costs.

If you redirect your attention back to the top of page 4, I think it’s very important to note the increases in interest income on loans, in comparison to the increased interest expense on deposits.

While the significant growth in balances and higher level of short-term interest rates have resulted in much more income and expense, the improving spread between loans and deposits reflecting significant growth in net interest-bearing and lower cost transaction accounts. Coupled with declining securities and borrowings balance, it is producing significant growth in the Bank’s net interest margin and net interest income.

As a result, the net interest income increased to $28.8 million for the quarter and it’s a 14% increase over the $25.1 million in the fourth quarter of 2004 and significantly, the net interest margin expanded 16 BP in the quarter to 3.93%.

For the full year, again primarily reflecting improvement in the spread between loan yields and deposit costs, although it also reflects changes in the mix of loans to securities and the mix of deposits to borrowings, the Bank’s net interest income increased by more than $12 million. And the net interest margin expanded 8.0 BP to 3.79%.

Of course the restructuring transaction that significantly reduced low yielding investments, securities and the high-costing borrowings contributed to this margin improvement. However, those transactions generally did not close until the second or third week of December and therefore their contribution to the margin expansion was fairly minor, compared to what we expect in future periods.

As I mentioned, asset quality continued to improve, with declines in both non-accrual loans and REO. As a result, non-performing assets declined to 0.36% of total assets and more important to the income statement, led to a further reduction in the quarterly loan loss provision.

For the quarter, the provision was $1.1 million. That compares to $1.3 million in both the previous quarter and the fourth quarter of 2004. And for the full year, the loan loss provision was at $4.9 million, which was down $700,000 compared to the $5.6 million that we reported in 2004. Mike will probably have more to say about this, but we remain pretty optimistic with respect to asset quality and credit costs, on a go forward basis.

In the area of other operating income, excluding the loss on sales securities, three lines merit discussion. Deposit fee income was at $2.5 million for the quarter, was essentially unchanged compared to the prior quarter, but it was up more than 20% from a year earlier. On a YTD basis, deposit fees increased by more than 16% to $9.5 million, compared to $8.1 million in the prior year, reflecting the strong deposit growth throughout the year and increased balances in transaction accounts that I mentioned earlier, in particular.

On the other hand, mortgage banking revenue declined by $573,000 for the quarter, compared to the third quarter. But it did finish the year at $5.6 million, which was nearly unchanged from 2004, up just slightly.

The slowdown in the fourth quarter reflecting some seasonal slowdown that we anticipated, but also some slowdown in mortgage banking revenues. It was probably a little bit more than we anticipated, somewhat surprising because, as you all know, we’re actively engaged in construction lending and we continue to see very turnover in new homes. Nonetheless, our mortgage banking profits were down for the fourth quarter.

The other slight change in the fourth quarter was - and it sort of runs in line with this mortgage banking activity - was a small decrease in loan servicing revenues. That really reflects a drop-off in loan prepayment penalties and the same affect of lower loan prepayment penalties was responsible for the small decline in loan servicing revenue for the year as well.

On the operating expense (OpEx) side, excluding the prepayment penalty, OpEx for the quarter came in at $23.8 million. That’s up just $246,000 from the previous quarter, but of course was considerably higher than the fourth quarter of 2004, reflecting the significant additions to locations and staffing as we have continued to grow the Banner Bank franchise. Both the lower level of compensation expense and the reduced amount of capitalized loan origination cost reflected in the OpEx totals also reflect the slowdown in mortgage banking activity during the quarter.

So, recapping operations for the quarter, a growing net interest income and encouraging net interest margin, reduced credit costs, reasonable deposit fee revenues, disappointing mortgage banking operations and pretty stable expenses, leading to a bottom line of $5.6 million for recurring earnings or $0.47 a share. That compares to $5.3 million and $0.45 a share a year earlier.

For the full year 2005, significant balance sheet growth and improving asset and liability mix produced significantly more net interest income, as I’ve said, up $12 million compared to a year earlier. Good improvement in credit quality allowed us to reduce the loan loss provisioning, which helped the 2005 earnings. Stable mortgage banking revenues, notwithstanding the fourth quarter for the year significant and significant investment in franchise building and related expenses and an improving, although still modest, bottom line at $21 million.

Turning to the balance sheet, just a few observations and I’ll be real brief here. Loan growth for the quarter was $75 million, bringing total loan growth for the year to $348 million. That’s a 17% year-over-year growth in loans.

And as I mentioned earlier, that growth in loans replacing the securities that had been running off all year, even before we did the restructuring transaction, making a significant contribution to the net interest margin growth for the year.

Securities, as I noted, down $223 million, actually, for the quarter. In addition to the restructuring charge, we had some payoffs and maturities that occurred and down $287 million compared to a year earlier.

And on the liability side, deposit growth, while a little bit slower in the fourth quarter than in some prior quarters, was still very strong for the year, 21% increase in deposits on a year-over-year basis, a 40% increase in non-interest bearing accounts and a 25% increase in transaction accounts.

So the balance sheet mix is evolving and growing, producing more net interest income. We continue to invest in franchise improvement.

And we look forward, with that brief analysis, I look forward as always to answering questions. Before we do that, though, I’m sure Mike has a few comments.

Thanks, Lloyd. Just a kind of an update of where we are, relative to the major long-range thrust of this Company, which is to build core deposits within the Bank and become less reliant on wholesale funding operations of the Bank and therefore build what I call franchise value.

In the last year, we have opened 14 branches throughout the area that have had a net impact to our bottom line, negatively, of $2.4 million. Of those 14 branches, all but 6 of them are now profitable and the loss on a monthly basis, for the month of December from those branches, was $47,000. So, clearly, we’re making significant progress in bringing these branches to a profit fairly quickly.

On a go forward basis, we currently have in the plan 4 additional branches for the year 2006, with the possibility of 3 others that might come along very, very late in the year, if they do. We think that they have got a big impact in growing our core deposits and frankly, giving us better distribution to serve our customers in the metropolitan market areas of Puget Sound, Portland and Boise. And we think they will have an even bigger impact as we continue to fill up those franchises in those three market places.

We’re enthused about that prospect and clearly the fact that it appears to be working very well for us in that regard. We fully recognize that doing this is very expensive. It was particularly expensive in 2005 because of the number of branches that we opened. The number of branches being opened in ’06,‘07 will slow down from that rate and therefore it will not have the drag on our earnings it had in the year of ’05, on a go forward basis.

So, with that, why don’t we get to the things that are of interest to you?

I would say, however, that we do have a study going on within this Bank, relatively speaking, to what I call “residential end loan origination operations”. As you can see, we had gain on sale of that of about $5.6 million a year ago, but it is a very thin margin business, particularly in today’s market.

It’s a wonderful business in a falling rate environment, but it’s not always such a great business in a rising rate environment or a static environment. And while it’s profitable to us, it’s marginally profitable to us and we want to make sure that we’re doing that at the right level to support our construction lending in the one-to-four residential area. So there probably will be some changes in that are on a go forward basis.

So, with that, Michael, can we open it up to questions from the audience, please?

Certainly. Thank you, sir. [Operator Instructions] Louis Feldman of Hoefer & Arnett.

Good morning, gentlemen.

Hi Lou.

A couple of questions for you. First off, Lloyd, as you said, given your commitment to construction lending, I was a little surprised about the relatively slow growth on construction, given demand that some of your peers have seen around the State of Washington and around the State of Oregon. Is part of that due to this land business Mike was just speaking of or are there other factors?

Well, I guess I’d challenge your slow growth statement, for starters, Lou. We --

On a linked quarter basis.

Yes. They were up on a linked quarter basis.

4.2%.

Yes. Not the same rate we were earlier, but we had a gangbuster summer there that really was causing that and that’s part of the issue there, is that the houses keep selling and so the loans pay off. The production numbers for the year were really exceptionally strong and continued strong in the fourth quarter as well. But, yes, there’s a little slowdown there.

Are the builders pulling back?

No, we’re pulling out of certain markets.

Okay.

And a specific example of that is what an area in the State of Washington called the Tri-Cities. We have elected -- we think we see a real glut coming in certain markets and we’ve decided to pull back from some of those.

Okay. That’s interesting, just as others are planning on expanding into that area.

God bless them.

Second off, while the Ag was down, that’s a seasonal factor. Are there any issues facing your Ag borrowers at this point? Potatoes were an issue that a couple of other institutions have talked about last quarter and this quarter. Are there any other issues that are facing some of your Ag borrowers?

Well, actually, our potato growers had a very good year and the pricing is just fine, as it relates to their potatoes.

The crop that I worry about - and we don’t have a big concentration in this, but it is all around us - is wheat, particularly soft white wheat. Farmers can literally not plant it for what they’re getting paid for it and so it could be an issue on a go forward basis for a number of them and a number of them are rotating crops out of soft white wheat, but that is an issue.

The rest of the crops look very good. I always will worry about apples, because of the huge overhang from China and the impact they can have on the marketplace.

And then, Lloyd, one last question, if I may? Many, many times over the years you’ve talked about the slope of the yield curve and here we are at a flat, sometimes inverted curve. Can you touch on your expectations for the margin based on this?

Well, it doesn’t help the margin, obviously. It makes carrying certain fixed rate investments, fixed rate loans less attractive.

Having said that, we have, as I’ve told you, based on your comment apparently I say the same things a lot, I’ve told you before we have a lot of our loan portfolio that’s tied to the front end of the curve, either LIBOR or prime, primarily.

And so, as we continue to expect, I think, we’re going to see another increase next week. We should see improvements in yields there and as I’ve also told you in the past, there generally is a little less elasticity on the deposit costs that are linked to that front end of the curve as well.

So, I think that we continue to be reasonably flat, in terms of an interest rate risk profile. We benefit by improving our mix, which has been ongoing and obviously the restructuring will affect that a lot and so I’m guardedly optimistic about the margin. I mean, I know the margin is going to be much better as a result of this restructuring transaction, but in terms of new business going on subsequent to that and the effects of interest rates, I’m guardedly optimistic.

Okay, thank you.

Jim Bradshaw of D.A. Davidson & Co.

Good morning.

Hi Jim.

I’m sorry, pardon me, Mr. Davidson, please re-queue up and we’ll get you to press star-one now, please. Go ahead, Mr. Davidson.

You guys got me back?

Yes and that wasn’t planned, Jim.

A couple questions. Marketing costs still pretty high year-over-year, is that mostly, was that mostly related to the new openings in ‘05 and so we ought to see the rate of growth there start to slow down in ‘06?

No, the marketing and advertising, which is really the bulk of those dollars, will be basically flat with the year ‘05.

Okay, good and what actually is the branch opening schedule? It sounds like 4 and maybe 3, but just wondered what the timing on those is likely to be, in ‘06?

The first one that’ll open in ‘06 is Meridian, which will open at the end of February. Meridian is just outside of Boise, Idaho. The next one to open will be in Downtown Boise and that will open, I think, at the end of June. The developer thinks he’s going to have it for the 1st of June, but it’s probably the end of June.

The third one to open is Overland and Cole and that will open in the late August time frame. Then the last one to open, for sure during the course of next year, is Tualatin, which I believe will open some time around the 1st of December.

Okay, good, and Lloyd, one number that looked a little higher to me than I expected was the miscellaneous expense item. Is there anything substantial on there this quarter?

Well, there must be something substantial because it’s $3.5 million, but in the prior quarter we had a little gain of sale [inaudible], more so than we did in the current quarter and that’s actually a credit in that particular expense line. It held the previous quarter and actually the fourth quarter a year early again. But other than that, it’s kind of a whole bunch of stuff just associated with growth, nothing real unusual in there, Jim.

Okay, good and Lloyd, I had calculated the margin on a full quarter basis to be in the 410 to 415 [sic - see Press Release] range. Is that a reasonable guess for what the first quarter ought to look like?

Or more.

Yes, that’s, I’d say, reasonable.

Okay. I like the “or more” part, Mike.

Well, you know my Mr. Baker, if I can get him to give a positive adjective. It’s really difficult.

Appreciate it.

Did you get the “guardedly optimistic”?

Yes, we get it, don’t worry. Appreciate it, thanks a lot.

JoyAnn Fell of Sandler O'Neill & Partners.

Good morning.

Good morning.

Congratulations on an excellent quarter.

Thank you.

Can you give us a little color on the decline in commercial real estate loans in the fourth quarter?

Commercial real estate loans have -- we have decided not to do a lot of term, fixed rate lending in the commercial real estate arena, unless they are owner-occupied customer of ours. And because of that, we’ve elected to let that business go to other places and frankly, it’ll have a lot to do whether we’re right or wrong, because many of the projects are just fine. It’s just that we did not want the rate risk that could be in that, if we were in a significantly rising rate environment.

And do you expect that type of run rate to go in next quarters?

No.

No?

I don’t. I expect we’ll resume growing our commercial real estate loan portfolio, but not at a rapid rate.

Okay and then also, what was the yield on the FHLB borrowings that paid off?

Roughly 5.90%.

5.90%? And the securities that were sold?

Again, roughly 3.65%. Those are the numbers that we quoted in December in our press release. If you went -- there’s quite a bit of detail in there, but --

Yes, I was wondering if those had changed [inaudible - multiple speakers] different.

No, really not much change. The one thing that did change from that time, of course, is that the short-term advances that we’ve paid off were running at about 4.25%, I think, at the time of that announcement and today they’d be more like 4.5%, so short-term rates have moved up. But those positions were pretty well locked down at the time of that announcement in December.

Okay. Okay, thank you very much.

Ramsey Gregg of FIG Partners.

Good morning, guys.

Hi Ramsey.

Hey, just touching on operating expense items, certainly excluding prepayment penalty in this quarter, but just kind of going forward here for ‘06, I think last quarter you talked about perhaps high single-digit increase on a percentage basis. Is this still pretty accurate?

That’s our budget and it’s --

That’s a budget.

I don’t want to say it’s middle single-digit, but it’s not high, high single-digit either.

Okay, like 7.0% or so?

7.0 or 8.0%, yes.

Okay and then just want to clarify. You mentioned 14 branches opening in ‘05. Was 11 new ones and then 3 relocated, is that right?

I didn’t count the relocations. Excuse me. That was in addition.

Oh, okay and then just as far as your C&I growth the quarter, is that basically mainly just from having relationships or are you actually seeing drawdowns on lines?

Actually, we’re seeing pay-downs on lines. We have a lot of lines outstanding to people and either we’re banking very healthy companies that aren’t requiring money or something, because we’re not seeing the growth that we expected to see in our C&I loans. And we certainly have a lot of undrawn commitments out there with people.

So I finally have come slightly to the conclusion -- an analogy of this would be, Ramsey, three years ago, if you financed a builder, they would need draws monthly to finance their construction loans. They have had such good years in the Northwest that they now, the only draw they take, is to take the lot down and they may build the house and never take a draw before it sells again, because they’re very flush, financially.

And we have similar type of clients in our commercial loan portfolio and maybe we’ve been very conservative on who we’ve been willing to bank in that area, because we’re not seeing the growth in the C&I loan portfolio that we expected.

Okay. All right. Do you have any expectation, though, for growth overall in the loan portfolio for ‘06?

Yes we do and that is we expect growth next year to be at least equal to this year.

On a percentage basis?

Yes and in fact, it’s going to be slightly more than that and to be honest with you, we’re very optimistic about the economy in the Pacific Northwest, particularly the areas we service.

Okay, great, thanks guys.

Sara Hasan of McAdams Wright Ragen.

Hi guys.

How are you?

Good, how are you?

Excellent.

Good. Just seeing this beautiful new facility that you’re building in Downtown Boise and given that it sounds like Idaho is going to be a very attractive market in the future for your growth, I was just wondering if there’s been any discussion of possibly moving their headquarters to Boise?

We get asked that question a lot in Boise and the straight answer is, in all sincerity, the headquarters of the Bank will remain in Walla Walla.

All right. Thank you.

You bet.

Gentlemen, there do not appear to be any further questions. Please continue with any closing comments.

Thanks, Michael. We appreciate you all listening to our fourth quarter results. We think we’re building, fundamentally, a franchise that has the opportunity to significantly advance income and grow its franchise value during the course of 2006.

We’ve been in a building stage of fixing assets, portfolios, and beginning to build distribution through our deposit network over the last couple three or four years. And now the proof is going to be in the pudding, because we believe you’ll see significant improvement in our range as we go forward in the year 2006.

So, with that, we’ll look forward to talking to you at the end of the first quarter and if you have any additional questions, please don’t hesitate to call Lloyd or myself at your convenience. Thank you.

All right, thank you, sir. Ladies and gentlemen, this concludes the Banner Corp. Q4 and year-end 2005 conference call. If you would like to listen to a replay of today’s conference call in its entirety, you may dial 303-590-3000, using the access code 11049572. Again, that dial-in number, 303-590-3000 with the access code of 11049572. You may now disconnect and thank you for using AT&T Teleconferencing. Have a very pleasant day.

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