Banner Corp (BANR) 2008 Q4 法說會逐字稿

Good morning, ladies and gentlemen. Thank you for standing by. Welcome to Banner Corporation's 4Q 2008 conference call. During today's presentation, all participants will be in a listen-only mode and following the presentation, the conference will be open for questions. (Operator Instructions). This conference is being recorded today, Thursday, January 29, 2009. At this time, I would like to turn the conference over to Mr. Mike Jones, Chief Executive Officer. Please go ahead, sir.

Thanks, Vince, I want to express my appreciation to all of you for dialing in to listen to our fourth-quarter conference call. It's not a great story to tell, but nevertheless, we will get to it. So before I start that, sitting with me is Al Marshall, who is the Secretary of the Corporation, and Lloyd Baker, who is the Chief Financial Officer of the Corporation. And we need to start off with the opening paragraph. Al, if you would read it now, please.

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 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 yesterday and a recently filed Form 10-Q for the quarter ended September 30, 2008. 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, Al. What I would like to do next is to have Lloyd Baker go through the quarterly earnings release and probably embellish it with some thoughts along the way. And then I will come in and finish up after he completes his presentation. So Lloyd, go ahead.

Thanks, Mike, and good morning, everyone. As Mike has already indicated, there is not a lot of good news in this morning's news release -- press release, earnings.

In the first paragraph, there are three very large numbers that I think I want to deal with before we get into sort of the core operations. The first one is, as we noted we did record a $71 million charge to write off the remaining balance of goodwill that we had. The goodwill, as you will recall, is a result of not only the three acquisitions we did last year, but some acquisitions dating all the way back to 1996.

The accounting treatment of goodwill is a difficult and complex subject for most people to understand, and really has very little economic consequence beyond the date of the transaction that creates it -- the goodwill.

But clearly, the standard requires that we take a look at the market's indication of value of the Company as reflected in stock prices. It's no secret to anyone listening to this call that the stock price has been very weak. When we compare that price to the book value of the Company, which includes the goodwill, and -- that triggers an analysis that causes us to fair-value all assets and liabilities. In that process, goodwill then falls out as the remaining asset.

The market capitalization of the Company clearly has fallen. Do we think that that market capitalization is reflective of the true, intrinsic value of the Company? No. But it is clear that the market has applied very different valuation standards to not only Banner, but to bank stocks in general.

So when we look at that and go through the analysis that I indicated, it just becomes fairly obvious that goodwill is not being given any value in the market today. And so we decided that it was appropriate to write it off.

The good news, of course, is that the regulators, banking regulators came to the same conclusion years ago when they decided to exclude goodwill from regulatory capital calculations. And so while it results in a large reported loss, it does have no impact on either our liquidity, our operations or our regulatory capital ratios going forward.

The second large number in this morning's release is a little more fundamental. And that is of course the provision for loan loss. As we've noted, we did provide for $33 million of loan losses in the fourth quarter. That brought our total loan loss provision for the full year up to $62.5 million.

As the quarter progressed, the fourth quarter progress, it became more and more evident that weak housing markets and falling home prices were taking a real toll on many of our borrowers. Nonperforming loans increased. Short sales increased. Net charge-offs increased, and evaluations declined, as I indicated.

As a result, we did record the $33 million provision for loan loss. And our methodology -- not only that we did record about $17 million in charge-offs for the quarter. So a $33 million provision was double the amount of charge-offs, but our methodology for addressing the adequacy allowance factors the recent history in charge-off experience in very heavily when we determine the amount of allowance necessary for currently performing loans, as well as smaller nonperforming loans that aren't subject to individual impairment analysis.

When we drop those charge-off numbers into our formulas for calculating the appropriate level of allowance, as I noted, it results in a fairly large charge, the $33 million which is double the amount of charge-offs. And for the year, our provision was about two times the amount of charge-offs as well -- again, reflecting that recent history and management's evaluation of what is going on in the markets today.

With the $33 million provision, our allowance grew to $75 million. That's 190 basis points on the total outstanding loan portfolio -- a significant increase from where we were. And obviously, that level of provisioning had a very significant impact on earnings for the quarter.

The third big number, our estimate that's in that first paragraph and in the quarterly results that has a material effect on the quarter, is the valuation of financial assets and liabilities that we record at fair value. And more particularly, the large numbers there related to the fair valuing of trust-preferred securities, both the debt that we have issued, which shows up on our balance sheet as junior subordinated debentures, as well as certain investment securities that we hold.

We concluded in September that the disruptions in the market have created an environment where we just did not feel comfortable valuing those assets and liabilities at anything other than what we had in June. As the fourth quarter progressed, it became more and more difficult not to find some reasonable estimate of value there.

We did, and the numbers are quite large. The net gain -- and interestingly, that valuation results in a gain for us -- the net gain was $13.7 million. But that net is actually a function of a very large write-down in the liabilities and a significantly large write-down in some assets as well, netting out to that number.

Aside from those three sort of ticklish valuation estimates, the large numbers that are reflected in the quarter, the core operations in the Company in the fourth quarter were consistent with trends that have been with us throughout the year. Those trends obviously were increasing levels of nonperforming assets, and the effects not only on the provision but also on the margin; and the effects of a very significantly low interest rate environment on the net interest margin of the Company.

So when we look at the operating results, net interest margin continued to compress. It was down to 3.23 for the fourth quarter. As we noted early in the quarter in particular, we saw -- and really in the end of the third quarter as well, we saw significant pressure on deposit pricing as banks throughout the system were wrestling with liquidity concerns and competitive pricing was very challenging.

Then, as the quarter progress, while those pressures abated, particularly in December, we had the effects of declining interest rates on asset yields, particularly on loans as the Federal Reserve moved the Fed funds rate, and therefore, the prime interest rate down by another 175 basis points during the quarter.

That decline in the margin of course caused our net interest income to decline by about $2 million compared to the prior quarter and it resulted -- primarily was the result of a declining revenue stream for the quarter, which -- revenues were down about $2.8 million by comparison to the prior quarter.

Now, generally throughout this year, one of the themes that has been a very positive has been deposit fair enough revenues and other revenues other than non-interest revenues. In the current quarter, we did see some further evidence of the current economic decline in terms of a lower amount of activity fees on deposits and merchants processing credit card transactions and the like. So revenues, as I noted, were down for the quarter as both net interest income and some of the non-interest income items were softer.

On the expense side, as we have noted, controllable expenses were generally pretty well-managed. We continue to have a very low -- a very flat, I guess, is the way I would describe it -- compensation expense. Some of the operating expenses -- for instance, information services expense, that had increased as a result of our acquisitions -- we're now achieving the efficiency that we expected out of those acquisitions. Those costs are very much under control. While we did have significantly larger branch distribution network this year by comparison to a year ago, most of those controllable costs were down as well.

Unfortunately, as we have noted, for some time, collection costs in the form of legal expenses, charges on sales of REO were elevated and likely will continue to be for some time. And deposit insurance expense was much higher than normal. And while part of that was a result of us correcting an accounting error, it was also reflective of increases that are occurring in the deposit insurance arena.

The good news is that that improved deposit insurance posture, as I noted earlier, had a calming effect on customer activity, and going forward, we think will be a positive contributor to deposit growth notwithstanding the fact that it is going to be a little bit more expensive.

One other area that bears note is our Mortgage Banking activity. The Mortgage Banking activity was reasonably flat for the quarter. But importantly, we did see a significant pickup in rate lock activity and production in December in line with the declining interest rates -- in particular, as the Federal Reserve program to move mortgage rates lower began to have an impact.

And this is probably a good place for me to make a little segue too. As you all know, the other thing that we reported during the quarter was the addition of the $124 million of funding through TARP in the form of preferred stock.

There has been a significant amount of concern and interest on the part of the public for some time now as to how that money is being spent. We stepped back and took a look at new loan originations subsequent to our receiving the TARP funds on November 21, and have concluded that our origination activity has resulted in us extending $224 million worth of credit over that just over 60-day period. So that money certainly is having a positive effect on our ability to deal with communities and customers in our service area.

The balance sheet items that are laid out in the press release, the only -- I just have a couple of observations. Obviously, loan production notwithstanding, notwithstanding a good amount of loan production, loan balances declined during the quarter. That decline was driven largely -- in fact, entirely, by a decline in our one-to-four family construction loans. That -- continuation of a trend that's been in place now for about six quarters. And those loans were down $62 million for the quarter, and I believe the number is $193 million for the entire year.

If we remove that drop-off in construction and land development lending for the year, loans of all other types were actually up 13% year-over-year. But in the fourth quarter, that growth pattern did slow, and those loan totals were up about 3%.

Deposits year-over-year increased 4%. But as you can see in the fourth quarter deposits were down just a small amount. And a significant part of that related to some public funds deposits that we allowed to mature. But to be honest, another part of it is sort of a continuation of real estate related customers having lower balances in their deposit accounts, and some residual effects from the competitive pricing situation that I mentioned earlier.

So those are sort of the highlights in the income statement. With a little tip to the balance sheet, Mike, I will let you embellish, and then we will look forward to some questions.

I don't if I would call those highlights, Lloyd. But mostly they were lowlights. But nevertheless, nice job. Thank you very much.

I wanted to talk just a little bit about the provisioning that took place, the $33 million in the fourth quarter. And that number that we had in our -- actually, we closed the books with a number much smaller than that. But activity that has taken place in January of this year including some appraisals we received and some conversations we have had with some borrowers led us to change substantially the level of nonperforming assets and increase some write-offs that were taking place. And putting those in -- not in January but putting them into the December numbers.

It also caused us then to take a hard look at where the reserve was. And so that reserve grew dramatically in the third and fourth week of January, based on the activity that took place during January.

Talk a little bit about staffing levels in the Company. As Lloyd indicated to you, during the last year we have been getting and rightsizing some operations through the acquisitions that we have had, and frankly have taken a look at some things that we'd do in our organization to determine if they really are appropriate.

And so during the course of '08, we had about approximately a 5% staff reduction that took place. And we frankly think that number will carry forward at about that level as we go into '09.

'09 operating expenses for us, even with the increase in the FDIC insurance, we currently project to be somewhat below the level we had in '08 from an operating expense standpoint. So we are hopeful that that number should improve a bit as we go forward.

In the last [cut] -- focusing now on the nonperforming assets. There are really two areas that those are in in our Company, and to a little less extent, maybe a third one.

And in the last three weeks, it's clear to us that we have seen some progress in our projects in the Portland marketplace. We have actually seen some home sales taking place during this period of time that have been helpful to some of our builders. And we're feeling a bit better about Portland today than we were when we talked with you last at the end of October.

Now having said that, however -- you have heard me over the years, those of you that listen in on a frequent basis, say that the economy of Puget Sound is going to be very strong, and is going to be very resistant to the national trends. Well, I have a little egg on my face on my face, because the fact of the matter is that's proving not to be corrected.

The announcements by Boeing, one of which was this morning -- I guess they actually made the announcement yesterday -- of a reduction in force of about 10,000 people; the fact that Microsoft for the first time in their history is going to have a reduction in force of about 5,000 of their employees will have clear impact on the Puget Sound economy on a go-forward basis.

And we frankly saw parts of that start to take place in the August/September timeframe in the run-up and during the course of the Boeing machinist strike that was there. It got a little bit better in the October, early November timeframe as those issues got resolved. But clearly in late November and December, the activity levels really slowed down in the Puget Sound area -- for us at least.

At the same time, a much smaller market to us is the Boise marketplace. And that as a general view in our view is getting better. And we actually expect starting in the spring of this year that our builders will begin to build more homes in that particular market, as they have kind of gone through the inventory that is there for a market that still has ingrowing population growth.

So we're not as concerned about Boise. And to be fair about it, we don't have that much there compared to these other two markets.

So with those additional comments, what I would like to do now is give you all an opportunity to ask the questions that are of interest to you. So Vince, if you wouldn't mind starting the question session?

(Operator Instructions) Tim Coffey, Fig Partners.

Since the -- following up on your last couple of comments there about looking at NPAs and the provision past quarter, and do you get the feeling that you have taken care of NPAs for a big part of 1Q, or do you think there's going to be more to come?

Tim, I need to tell you first, because I have made this statement twice in the past, once in the first quarter of '08, and once in October of this year, that I felt NPAs were peaking or would peak in the fourth quarter or the first quarter of this year. And I don't think I should be predicting those things, because I was clearly wrong in both of those cases.

I'm serious in what I just said to you about what now appears to be happening in the Puget Sound economy. We may be a bit more fortunate just because of where our real estate is in that area, which is more concentrated in the King County area by a lot than it is down in the Pierce County area, and/or up in the Snohomish County. But nevertheless, that economy is clearly going to get weaker with these job reductions that are taking place.

I actually think we have peaked in the Portland marketplace in Boise in terms of the number of NPAs. But a little bit of that is the activity of moving through the NPAs we have control of and selling them out as some others will come in. But the absolute totals, I believe, probably have peaked. I don't think that's true in Puget Sound.

Yes, I kind of got that feeling from reading some of the comments in the press release, particularly the comments about the slow down in the back half of the quarter. So I am wondering -- has this kind of slowdown -- and it's obviously trickled into January -- given you any kind of thoughts about a different approach to underwriting or lending in this environment?

We are not making too many new loans in the one-to-four -- or the [A and B] land area at this point at all.

Sure, sure.

The funny part of it is, it really slowed down for us in the second half of November and into December. And to be fair about it in those two markets, those of you that don't live in the Pacific Northwest, those were two very ugly months weatherwise in this part of the world. So that had a little bit of an impact on it.

But in January, we've actually seen some activities in the forms of sales taking place, particularly in the Portland marketplace, in our projects. Now I can't speak for everybody else, but in our projects we've seen a bit of a pickup. We have seen just a -- kind of a hold-steady level of activity in Puget Sound.

(Operator Instructions) Louis Feldman, Wells Capital Management.

Did you bring your yak tracks along, Mike? (laughter)

In terms of mortgage operations, you made the comment that some of your builders were starting to sell houses in Portland and Boise.

(multiple speakers) I don't want to overstate that, Lou. But yes, that is true.

On the rare occasion -- you weren't down here; we got snow two days ago -- and Simon & Garfunkel, "Slip Slidin' Away" down the road again. To what extent have you guys looked to originate the mortgages on those houses, or are you letting other people do that?

That's about 50-50, wouldn't you say? (multiple speakers) We have a very active mortgage department that does these loans. But there are some people out in the market offering some amazing rates on 30-year fixed [real] loans that are below where we want to go. So if they are doing that, we let them go that way with pretty great ease.

Second, can you talk about -- certainly for Puget Sound area, can you talk about, say, LC activity, letters of credit, what your international desk has been up to?

Well, the international area is one of the areas of our bank we have kind of phased back dramatically during the course of '08. So we really don't have a lot of activity in that area right now.

So that's something that you're looking to move away from?

Well, I actually think that the world has changed. The LC activity that used to take place years ago in the last decades is now being much more done directly. So we just didn't see that much business from a book of customers that I've known for years; had some conversations with those people, and kind of determined that we were using old world technology in the LC world, at least for a bank our size with our customer base. So we just have decided to deemphasize that, and we did that starting last summer.

Jeff Rulis, D.A. Davidson.

Do you guys hold private-label mortgage-backed securities. And if you do, what is that amount -- nonagency?

You know, I'd like to say we were smart, Jeff. But we may have been as much lucky as smart. We sold all of our private-label securities -- the date is going to escape me now. But it was nine months ago, 12 months ago, something like that. We did acquire about $7 million worth in the month of December at much lower prices, obviously, than what we sold them at a long time ago.

So we have very little exposure there.

And what are your thoughts on FHLB stock currently?

(laughter) Are you trying to start a fight around here?

That's our favorite story here. You know, we need to be an owner of that FHLB stock, because it is our secondary source of liquidity from borrowing from them. And we have a substantial ability to borrow from them.

You all have seen the news headlines about the Seattle FHLB -- and for that matter the Pittsburgh one, and so forth. And we know we're not going to get dividends for a period of time from them. And we also have excess stock that we don't need and would like to sell back to them, and they are precluded from buying it back right now, which is a source of great frustration to me.

But at the present time, we have kept it at its value that it's at, and we've kept it as an earning asset until we learn more about what they're going to do. Lloyd, you may want to say something in that area?

No, I think that fairly well covers it. We have a bunch of it. We wish it paid us a dividend. It doesn't right now.

Switching gears a little bit too, I don't know if you can just speak to the average value decline from origination within your construction portfolio, broadly speaking? And I guess you could take it by segments.

Well, a value decline in vertical construction in the Puget Sound market for us is in the plus or minus about 10 to 11% level that's taking place. The value decline in the Portland marketplace is -- I'm going to guess a little bit higher, wouldn't you say? Maybe in the 12 to 15% range. And the rest of it is kind of irrelevant, because in some of our other markets, there has been no decline -- to give an example of that is the Tri-cities.

That is the vertical construction that Mike's speaking to. Obviously, the bigger value decline and the concern that we all wrestle with in this industry right now is what has happened to land values and lot values. And from peak levels, I would say the peak levels were probably in the late half of 2006, believe it or not, early 2007. The declines are very much driven by the location of the property, but they're much more significant than what Mike was (multiple speakers) suggesting.

Especially (multiple speakers) they are marginally located on the edge of the puddle.

Exactly. And that's where most of our impairment charges have occurred. (multiple speakers) most of the concern is still going forward.

So the range of what your most severe drop to the most conservative drop ballpark is what?

You know, I will probably get into trouble here, but I would think it's anywhere from 25 to 40, 50% depending on the project.

Okay.

Especially if you're going to try to bulk sale a property.

Lot sales right now and lot evaluations are like trying to evaluate trust-preferred securities or private-label mortgage-backeds. The market data information is very sparse, and the assumptions then as to absorption become very difficult to defend. And appraisers and bond traders and the like are all very conservative right now in terms a number they want to put on valuing anything.

Okay, understandable. Thanks, guys.

Jason Warner, Howe Barnes.

Good morning. I had a question -- I wanted to clarify what you said about Boise. I thought you said that you expect builders to start building houses at some point in the future -- you saw inventories coming down. Can you quantify what inventories have done, and is that beyond just your projects -- is that across the board with other projects also?

First of all, Boise still has significant in-migration taking place. And the second part is you have gone from an inventory level of 10 or 11 months inventory; you're moving down into the seven, eight months level now. And I expect that to hit the four- to six-month level sometime this spring. And when you get to that level with an in-migration population, you're going to start building some houses.

So there's [sales] beyond your projects?

There is. There absolutely is in that marketplace.

Okay. And when you're talking about Portland, you would be more specific in terms of sales with your projects, not necessarily across the board?

Yes, I've had some conversations with some of our competitors, CEOs and so forth. And as it relates to Portland -- we clearly have our problems in Portland, but some others, for some reason, have more. And we have been fortunate to be able to sell some of our real estate.

Okay. And then I also wanted to ask you about margin. Obviously, margin has been under pressure here. I was kind of curious what you guys thought going forward. Obviously, the Fed doesn't have any more room really to lower rates. What do you see margin kind of doing? Does it kind of slip a little in the first quarter, and then stabilize? What are your thoughts?

Actually, that is just almost exactly my thoughts. Is that as the fourth quarter progressed, the margin got progressively worse. But funding costs in particular became much better in December. And to your point, I don't think they're going to push prime down any further, I don't think. (laughter)

So asset yields look like maybe they have a chance to plateau here. And it looks like there could still be some opportunity to see lower funding cost.

Okay, thank you.

Kipling Peterson, Columbia Ventures Corp.

A few questions. First one, did you folks have the opportunity to look at acquiring the deposits of the Vancouver bank that was recently taken over?

We did.

And you passed, or lost in an auction, or --?

We passed.

Okay. And the next one -- do you see your balance sheet in all probability shrinking this year?

No, but we don't see it growing very much either. And the reason I say that to you is as we look at it now, we think we will have another $300 million come out of our one-to-four construction portfolio, the existing, today's portfolio. And we do not expect to replace that $300 million next year in that category.

We do believe we will have reasonable growth in our consumer and C&I portfolios going forward during that period of time. So we will have very modest loan growth in the year 2009, as we currently see it.

Okay. And as far as REOs, are you taking a more aggressive posture and just biting the bullet to move those along more quickly?

It's a little bit more difficult. We look at each individual project. And we have some borrowers/builders that have other assets. And if it's land, and it's in an area where there is an excess amount of land, we are probably going to go get a judgment against that borrower and go against him also.

If on the other hand, we see a project that we think we can turn and move fairly quickly -- an example of that is one we have in the Renton area, where we took it here this last quarter -- we're going to take it, because we think we can move it faster using some other builders. So that's the process of what we have done. And it's a case-by-case basis, so I can't really generalize on that one.

Okay. And last one -- in listening and reading some of your competitors, some of them say we think we have done a better job than others as far as diversifying our assets. Some say we think we have done a better job as far as keeping our expense ratios low. Others say we think we've done a good job as far as being more conservative underwriting.

Is there anything that you can say as far as what your core proficiency has been or what you see as your competitive advantage or anything, what you would say -- this is what we stake our business on, that we've done a really good job doing X, Y or Z?

Based on the report we just gave you, it would be really hard for me to say we did very well at anything. But the fact of the matter is I think we've had some improvements in several areas in the institution in terms of our ability to gather deposits at a more reasonable cost. A lot of those de novo branches we have built over the last three or four years begin to mature into the marketplaces they serve. And not everything is going to be like the fourth quarter -- first quarter, maybe. But beyond that, things may get a little bit better as we go forward. So I think the funding base of this company is better.

For years, I said that we deliberately aimed at being in Puget Sound, Portland, Boise, and Spokane under the theory that we would get different economic drivers for those particular economies, and we therefore had a lower risk profile than the others.

Well, that may look good on paper. We just absolutely did not have a chance to -- the only market that has held up reasonably well of the four during this period of time is Spokane. And maybe next behind it is Boise as I see it on a go-forward basis.

The one area that I think we do have that I've been fortunate is, we have a lot of people that have worked in this Company for a number of years and/or have worked for me or other senior management people in other organizations that are very experienced, very knowledgeable of what they're doing, and very focused on the efforts of what we're trying to do in collecting these various assets, and frankly, growing the franchise. So it's a very seasoned staff compared to perhaps some others. But based on what we just produced, I don't think we're going to say we're better than anybody.

Ross Haberman, Haberman Funds. (OPERATOR INSTRUCTIONS) All right, it looks like we don't have Mr. Haberman online.

Gentlemen, there are no further question at this time. I will turn it back to you for any closing remarks.

Vince, thank you very much. We do appreciate you all taking the time to listen to this sad tale of woe called our fourth-quarter results. We do expect '09 to be better than this, even though in spite of some of the comments I made about what I think may happen during the first quarter of next year. And we actually expect a return to profitability during the year of '09. And we think the balance sheet will begin to grow as we go forward during that period.

So we look forward to talking to you with better -- a happier story on a go-forward basis into '09. So again, thank you for listing.

Thank you, sir. Ladies and gentlemen, if you would like to listen to a replay of today's conference, please dial 303-590-3000 using the access code of 1112-4363 followed by the pound key. ACT would like to thank you for your participation. You may now disconnect.