Beacon Financial Corp (BBT) 2016 Q2 法說會逐字稿

Good morning and welcome to the Berkshire Hills Bancorp second-quarter earnings release conference call. All participants will be in listen-only mode. (Operator Instructions). After today's presentation, there will be an opportunity to ask questions. (Operator Instructions). Please note this event is being recorded.

I would now like to turn the conference over to Allison O'Rourke, Investor Relations Officer. Please go ahead.

Good morning and thank you for joining this discussion of second-quarter results. Our news release is available on the investor relations section of our website, Berkshirebank.com, and will be furnished to the SEC. None of today's discussion is intended as a proxy solicitation.

Our discussion will include forward-looking statements and actual results could differ materially from those statements. For a discussion of related factors, please see our earnings release and our most recent SEC reports on Forms 10-K and 10-Q.

In addition, certain non-GAAP financial measures will be discussed on this conference call. References to non-GAAP measures are only provided to assist you in understanding Berkshire's results and performance trends and should not be relied upon as financial measures, actual results or future projections. A comparison and reconciliation to GAAP measures is included in our news release.

With all of that out of the way, I will now turn it over to CEO, Mike Daly. Mike?

Thank you, Ali. Good morning, everyone. Thanks for joining us this morning for our second-quarter call. I am pleased to have Jamie Moses with us this morning, our new CFO, along with other members of our executive team.

I will provide most of the remarks today but I will give Jamie a chance to introduce himself and then we will open it up to questions.

It was another good quarter for us and we delivered $0.52 in GAAP EPS and $0.54 in core EPS with solid loan growth and some improvements in efficiency which offset margin pressures. We also completed the integration of our new SBA team and we put together an agreement for the acquisition of First Choice Bank. The First Choice merger is moving along nicely and we expect to complete it by year-end. As you know, we have done a fair number of deals at this point and I believe that for several reasons, not the least of which is a consistent brand and culture, evaluating and integrating has become a core competency of this Company. So I would expect this partnership to go as smoothly as our others have.

We spent a couple of days in New Jersey and Philadelphia last week meeting with the 44 Business Capital and First Choice teams and the response was very encouraging. I was frankly impressed, not just by the energy but by the talent in those rooms. Both groups are enthusiastic, they are embracing the AMEB culture and they are ready to go to work building our franchise together. I am looking forward to moving ahead with the opportunities offered by this expanded geography and the synergies we see in the combined businesses.

With regard to our organic operations, we grew the loan portfolio 4% this quarter led by strong mortgage originations, solid commercial loan production and good indirect auto expansion. The market was favorable to our mortgage business this quarter including seasonal impacts and while the third quarter has started out strong and I'm expecting robust mortgage originations to continue, I would anticipate that mortgage portfolio growth will moderate to the low to mid-single digits in the third quarter.

On the commercial side, we produced 10% annualized organic growth with particularly good results from our Connecticut and Eastern Massachusetts markets. Growth also reflects some timing factors and so it too should moderate in the third quarter to the low to mid-single digits annualized.

The commercial pipeline remains steady for new production but pricing remains competitive and we are committed to remaining selective especially when it comes to underwriting and profitability.

As you know, we have invested in leadership and technology for our indirect auto group and that business is starting to benefit from better product penetration across the entire footprint. We've also been developing our secondary market channels which complements our fee income strategy and will help us slow the balance sheet growth for this category as well.

So looking at the total third-quarter total loan growth, we are expecting low to mid-single digits annualized as we balance smart profitable growth with increased secondary market activity as the opportunities arise.

Turning to deposits, we posted 5% annualized growth this quarter including improvements in every category especially good core deposit growth, 5% annualized growth in demand deposits, 14% annualized growth in NOW accounts. We did benefit both from seasonal impacts and some targeted marketing in our newer markets. So again, we are expecting low to mid single-digit annualized deposit growth next quarter, in line with our overall loan growth.

Our net interest margin for the quarter was 3.31%. Margin before loan accretion contracted 1 basis points to 320. Funding cost increased including the continued rollout of our forward starting balance sheet swaps while earning asset yields improved due primarily to mix.

As you know, the lower for longer rate outlook is prolonging the challenges of this rate environment. I'm excited about Jamie's strengths here and this will be a top focus area for him as he joins us.

Now we are going to do everything we can to stabilize the NIM but we expect to continue to see some pressure on yields and at this point I think we should be conservative. I think we ought to anticipate as much as 2 to 3 basis points of NIM compression in the third quarter in addition to the three bps or so for the final installment and all-in cost of the balance sheet swaps.

Purchase loan accretion for the second quarter decreased to just under $2 million, total purchase loan accretion including recoveries should come down further next quarter.

Now let me turn to fee income. Total fee income was up modestly as gains in mortgage banking income offset seasonal effects in insurance and wealth management. Insurance continues to show significant year-over-year gains driven by enhanced customer penetration and efficiency improvements.

I am pleased by early results out of 44 Business Capital, our Philadelphia-based SBA group. We worked hard to close and complete that conversion in the second quarter and they are now back out there doing what they do best, originating and selling SBA deals. Their impact on our business should become more apparent in the third and fourth quarter this year and again it should lead to further improvement in fee income. So overall, we are expecting some growth in total revenue in the third quarter.

Let me move to expenses. I'm pleased with the discipline the team continues to demonstrate. Noninterest expenses were down 2% quarter over quarter as we continued to manage headcount and maintained our focus on process improvement. Expenses in the third quarter will be up modestly as we layer in some additional revenue producers and continue to make investments in infrastructure and controls.

Our tax rate for the second quarter was 25% including the benefit of some additional tax credit investments. Now while we have continued to develop pipeline opportunities, we do anticipate that under emerging guidance there will be fewer deals that are attractive to us based on our disciplines. As a result, I would now expect full-year tax rate to be in the area of 27%. Now despite some of the headwinds including margin compression, we still expect to deliver higher core EPS in the third quarter.

Now the strategy we laid out at the start of the year controlling our costs, managing loan growth enhanced by better distribution channels and higher fee income is accelerating for us and so I am optimistic about the prospects for the back half of the year.

I will just mention that credit remains very strong. Our asset performance continues to be favorable and problem assets and net loan charge-offs remain very low. Non-core charges for the quarter were less than $1 million and were related to acquisitions in the upcoming branch sale. We expect to see around $0.03 of non-core charges in the third quarter as we complete the sale of the two New York branches announced in Q1 and we work our way towards the closing of the First Choice deal.

Let me turn to profitability. Our efficiency ratio dropped below 59%. Core return on assets came in at 85 basis points and core return on tangible equity improved to 12.4%. Now these performance ratios are extremely important to us as you know and I believe that future EPS gains will contribute to further improvements here. At quarter end, our tangible equity was 7.5% of tangible assets, tangible book value was $18.44 per share. Now we expect growth to return in both these measures in the third quarter now that we are through with the 44 Business Capital acquisition.

Now before turning it briefly over to Jamie, I would like to touch on our thoughts with regards to crossing the $10 billion threshold. The acquisition of First Choice will put us around $9 billion in assets but our preparation for this inevitability began some time ago and we have been investing in systems and infrastructure to gradually build up to the increased demands brought on by DFAST requirements along with the CFPB and other enhanced supervisory standards.

We still have a ways to go but we feel very comfortable with the work we have been doing here and the roadmap we have in place. What we don't intend to do is tip toe over the line and just sit back and absorb all of the extra cost and revenue impacts. Inclusive of Durban, which we anticipate will cost us between $5 million and $6 million in annual revenue, we believe be breakeven for us is in the $12 billion to $13 billion in asset range. So at that size, we absorb the revenue hit and the incremental infrastructure costs and we keep moving forward.

It is important to note that even sitting at $9 billion once the First Choice acquisition is complete, we have plenty of running room to grow organically at least for a couple of years at the same pace we have been growing. One of the things that attracted us most to First Choice was their low loan to deposit ratio and that benefit for our liquidity. Combined with their attractive markets and our expanded wholesale options and focus on profitability, we have plenty of balance sheet flexibility.

Now as far as getting to $12 billion in assets, there is a number of ways we could accomplish this and we are going to be actively evaluating all our options. We have time, we of time in which to find the right combination or combinations and trust me, we will do what is best for our shareholders.

Now I'm going to turn it over to Jamie for a minute. I know I am throwing him into the fire here but I am pretty sure as a five foot nine Division I hoops captain, you can handle it. As you know, he joined us from Webster Bank, he brings strong asset liability management, profitability and DFAST experience with him so as we think about taking the bank to the next level, these are all pieces that we were looking for. Jamie?

Thanks, Mike, and good morning, everyone. It feels really great to be here. I just have to say it was the culture and the strategic direction of Berkshire that most attracted me. This is a dynamic, collaborative group with a whole lot of energy. It is also an organization committed to creating shareholder value and I am really excited to roll up my sleeves with everyone else and contribute to building this premier franchise.

To echo Mike's comments from just a minute ago, I have seen the investments and the roadmap the team here has put together for crossing the $10 billion threshold and we are definitely on the right track. The assumptions we are making based on my experience look reasonable. I have had the great privilege to be part of some quality teams in my career, both on the street and here in the Northeast and I know from my experience what can be accomplished in building values and delivering results.

While there are definite headwinds in the market as we all know, I see real opportunity for profitable growth at Berkshire and I am very excited to be part of that. Mike?

Thanks, Jamie. Well said. Look, the banking environment continues to have challenges but we are optimistic. Growth in credit remains solid. Pricing is tough but we are committed to maintaining our disciplines and there continue to be enough good deals out there as long as you are willing to work for them.

We have built a strong franchise and a culture frankly that is unafraid to tackle the next hurdle. This has allowed us to continue to grow profitably and to seize the opportunities in front of us.

I actually think it is environments like this that make you a better run company.

So our outlook remains positive and we look forward to further delivering on the power of this franchise to every one of our constituencies.

With that I am going to open it up to questions.

(Operator Instructions). Mark Fitzgibbon, Sandler O'Neill & Partners.

Good morning and Jamie, welcome. Just Mike, a point of clarification on the tax rate. I think you said the effective tax rate for the full-year will be 27%, is that correct?

I think that will be close, yes.

And so will the tax rate next year probably look pretty similar to that as well?

It is a little early I think to determine that. I mean a lot of these deals, Mark, we don't know when they are going to close or how they are going to close so I think it is a little early to make that case today.

Okay. And then the line item you have in other income investment partnership losses, will that essentially go something close to zero given that the tax rate is going to be higher and you have less of these deals?

Yes, I guess it would, right? Yes.

Mark, this is Ali. Assuming we do less of the deals, then it would actually go down but as long as we continue to do some of this, then that line item will exist.

Okay. And then next on the capital ratios I mean I know your regulatory ratios look fine, your TC ratio is sort of 746. What are your thoughts on your capital position given your desire to grow and do acquisitions?

I think we are where we have always said we were comfortable which is somewhere between 7% and 8%. So I think 7.5% is a number that works for us and you know, you go back and look at our history and most of the deals we have done have been stock deals so I am comfortable at 7.5%. If it gets a little higher, it gets a little higher and if gets a little lower we will build it back up. But I don't think there is any reason to believe that we need to raise any capital. That is the furthest thing from my mind.

Okay, and then lastly given your comments of going over $10 billion, I wondered if you could share your thoughts on sort of M&A, are there a lot of deals out there that you think you could do to get to that $12 billion or $13 billion level?

I think there are a lot of deals out there we could do, whether or not we do them is another question. I mean I will be honest with you, right now we are kind of focused on getting through the First Choice acquisition, integrating it, making it work really well for us and getting all the benefits out of that that we think we can get. And then if there are other opportunities to look at as we come to the end of that, then we will jump on it.

But remember, Mark, for us and I know you know this, there is always a financial element to it. So if we find a partner that wants to do something with us, that really believes that the financials can work and the metrics can work, we are always all ears.

Thank you.

You are welcome.

Casey Haire, Jefferies.

Good morning, guys. Just wanted to clarify some of the guide on 3Q. If I understood you correctly, it is about 5 to 6 basis points of NIM compression, low to mid single-digit balance sheet growth, fees up a little bit, expenses up a little bit and then core EPS up a little bit. So I am just trying to, I mean by my math, that looks to be sort of a flattish quarter. Maybe I am missing something, is there a strong driver like is fees going to be a stronger output than expenses? I am not getting the up EPS.

So I heard every one of your variables and they all sounded absolutely accurate. If there was one to tweak, it would be fee income.

So fees could be a little bit stronger next quarter?

I think that is probably the case.

Like loan related fees looked a little light given the 44 team coming on board, was there some under earning there this quarter?

They will be full out bore going into the third quarter. Sean, do you have any comments there?

We closed about mid-April so we will have the full benefit from 44 Capital and we do see their gain on sale from SBA 7a loans to be north of about $1 million next quarter.

Okay, great. And then just switching to First Choice, obviously a pretty strong national mortgage origination platform there but also very volatile if I look at their call reports. The gain on sale line has run as high as $21 million and as low as $9.2 million. I am assuming there is some seasonality in there but as an owner of that platform, what do you see as a reasonable gain on sale production level with First Choice on board?

What I can say is we have modeled it very conservatively so it worked within our models at the lower levels. We can't get into the projections at this time but I also can say that the leaders of that group are also compensated based on revenue levels so they are as committed to it as the drivers here at the parent company. So modeled at the lower levels, works at those lower levels and we will manage it tightly.

Okay. Just last one switching to loan growth, it sounds like you guys expect loan growth to moderate here but at the same time are very confident in the organic growth prospects. So are you guys -- I mean is it a blend of managing to the $10 billion cross and taking advantage of opportunities or is low to mid-single digits sort of the best that you can do in this environment?

Remember one of the things we have been talking about for the past several months is our distribution channels and our secondary market opportunity so when you look at opportunities like selling SBA loans and moving mortgages into the secondary market and even some commercial relationships, we have said and still believe that we can do better from a profitability standpoint by generating additional fee income rather than in the margin.

Okay, thank you.

Laurie Hunsicker, Compass Point.

Thanks, good morning. I wanted to go back to the tax-advantaged investments. Are you -- I mean as I am sort of backing into your 27% tax rate, Mike, are you suggesting that maybe that number that bleeds through noninterest income that was $1.9 million this quarter is going to go to around 500? Am I backing into that right? I'm talking about the hit. In other words, the actual hit that goes through noninterest income (multiple speakers) worth $1.9 million.

Laurie, this is Ali. No, that number if anything probably goes up a little bit. There is still some projects in the pipeline that bring us to that 27% tax rate for the full year. That doesn't go away as long as we continue to do these kinds of tax credit deals.

So the drop through because I think initially you all had been guiding to around it would normalize back in the September quarter so the implied hit there would be about $2.9 million bleeding through noninterest income but then the drop-down in tax rate would have been to 17% to 18%. I am just trying to understand mathematically then where I am different because obviously going up to 27% assumes that you are scaling back substantially. Either that or I am --.

So per Mike's comments earlier, there are some guidance changes from the IRS and so factoring all that in it actually makes the economics of some of these deals a little bit less profitable than they might have been and so that is part of what we are factoring in here.

Okay, got it. Okay, so we are still going to see that hit run through on the noninterest income side, it is just how it is hitting your tax rate. Okay, thanks for the clarification. Okay.

And then also I know this is a smaller piece of your business. I was just hoping you guys could provide an update on Firestone, where the balances stood?

Hi, Laurie. It is Mike Carroll; I am the Chief Risk Officer of the Bank. I can do that for you. Firestone's portfolio ended the quarter at $212 million which represented a $12 billion increase quarter over quarter. You've got to realize this is also a seasonal type business so we are expecting this to taper off in the second half of the year. The credit metrics continue to perform very well, non-performers came in at 0.5% and annualized charge-offs were only 2 basis points. So it continues to perform well.

Great. And I know there is a fast runoff rate, what were the new loans that you put on here?

I don't have that. I'm thinking roughly probably 35 -- may be $35 million, $30 million, $35 million because you are right as you know, it is anywhere from three- to five-year terms so there is huge runoff with that stuff.

Okay, great. That is helpful. And then Mike, just going back to your color around the $10 billion asset mark, can you just update us on what you have spent thus far and then what you are looking to spend going forward just in terms of your enterprise risk management, in terms of technology, in terms of DFAST. I mean we are hearing numbers out there from companies that are your same size as they look to cross that the spending is round numbers $7 million. And so if you can just help us understand what you have spent thus far and then what is coming, that would be great.

Yes, I am probably not going to do that, Laurie. I have actually I think given as good a guidance as we should at this point. I mean if you take and do the math and we are at $12.5 billion in assets size and you take somewhere between $5 million and $6 million out of our revenues for Durban, you can basically back into the additional expenses. So I am comfortable with the guidance we have given on this and I am really not comfortable getting into a whole lot more detail at this stage.

Okay. Maybe I can ask it a different way. How much of the $10 billion expense readiness have you already in? Are you one quarter in, are you half in?

We are somewhere between one quarter and a half.

A quarter and half in. Okay, that is helpful.

Laurie, it is Ali. The one thing I would add to that is that we've got a strong roadmap in place and we are scaling appropriately and I think that is important, right. So you are looking for major expense bumps. You are not going to see that. The longer it takes us to get across $10 billion the less of a major impact once you get there because we will be ramping up appropriately as we go.

Sure. Okay, and then one other question surrounding that. I know some of the banks your size have already been reviewed by the $10 billion and up asset team. Have you all been visited by that regulatory team yet? Are you still on the lower level of review?

We talk to our regulators constantly and I am not even sure that we have the ability to give information like that so we are in good stead.

Okay. Great. Thank you very much for taking my questions.

Collyn Gilbert, KBW.

Thanks. Good morning, everyone. I just wanted to circle back on just some of the movement in the loan book this quarter. Do you guys have what the numbers were for what 44 Capital added? Do you break that out?

Collyn, Sean here. From a fee income a gain on sale perspective it was roughly about $300,000 for the quarter. Do remember it was middle of the quarter, in the middle of the integration and conversion.

Collyn, This is Ali. The actual loans that came over are the stub pieces from the SBA and it is about $37 million.

Okay. Okay. And then just so -- I guess I was a little bit surprised to see the increase in resi mortgages on a linked quarter basis. Let me just look to see is that was -- yes, so that was more than obviously the $37 million. So is that a timing issue because obviously it sounds like the objective still here is to sell a lot of the mortgage production but just kind of curious what was driving that increase?

I think it was more timing. Demand increased, we do have the opportunity as we evaluate our balance sheet and options to move some of that as we move into the third quarter. So that will not continue at that pace.

Okay, okay. And then just kind of big picture, the low to mid single-digit loan growth is maybe a little bit lower than what we are seeing from some banks, certainly not to say that but is bad depending on everybody's risk appetite in pricing. But can you give us a little bit of color, Mike, what is causing you to keep it in that range? Is it a function of your markets? Is it paydowns that you are seeing just starting to accelerate? Maybe I guess part of me thinks maybe that growth rate could be a little bit higher so just wanting to understand how you are thinking about the balance sheet here?

There are probably three or four different answers. Let me give you the one that is closest to my heart. When we have opportunities to put the loans on the books but we can peel off some of that and sell some of those, we get a better overall return. So by selling some portions of each of our different distribution loan assets, we are able to get a better measure of profitability. That is something we started two quarters ago, we are starting to see some real success with it. So if we have a 9% growth in a particular area and it is a net 4% growth because we sold some of that and it came in the back door through fee income, that is better for all of our profitability metrics than almost anything else we can do.

Now that is not the only reason. We are also being about as disciplined as we have ever been with respect to the profitability of a particular loan. So I think in combination, those are strategies that we outlined and I believe we are executing on them well and I think it is best for the institution long-term.

Okay, okay. That is helpful. How are you guys thinking about -- and I don't know Jamie, if you're ready to answer this question or not but just kind of the use of borrowings and then maybe if you can kind of give some thoughts as to if there is any restructurings that you could be seeing coming in the back half of the year on sort of funding side of the balance sheet or the way you are thinking about the swaps?

We are definitely evaluating all of that stuff as I have come in and looking at a whole lot other things as well but I look forward to continuing to evaluate those sorts of things, borrowings and the swaps as well. That is all stuff that we are looking at and --.

You will have color at the end of the next quarter.

That's right, by the end of the quarter you will have some good color on that.

Okay, okay. That is helpful. I will leave it there. Thanks.

David Bishop, FIG Partners.

Good morning. Just curious on the indirect auto side, I think you spoke either last quarter or a couple of quarters ago just in terms of pricing dynamics there. You are seeing a little bit better in the market you are playing in. Any change in terms of the overall intra-quarter?

We have been able to because we have been putting the product out across the entire geography to be really selective and be selective on price. So we have seen the yields widen and we are happy with the economics of what we are seeing so far.

Got it. And then obviously there has been a decent amount of M&A activity in and around the Springfield market there. Just curious what you are seeing from a competitive standpoint, anyone getting either more rational or irrational either on the loan or deposit pricing side?

Unless somebody here corrects me, I would say it has been pretty much business as usual.

All right, thank you.

Matthew Breese, Piper Jaffray.

Good morning, everybody. Just curious on the new loan production versus what is existing. What is the spread between those yields?

The new stuff that has come in, the new commercial stuff that is coming on in the mid-3s. In general it is fairly close but overall there is some pressure out there.

And then hopping to the 44 Business Capital acquisition this quarter, you are increasing goodwill, what are the revenues and expenses tied to that business and if you were to take that acquisition on a standalone basis, what is the earn back?

I know you have done some homework on this, Ali. The earn back is the same as the metrics we use for any other transaction so we are under five years and it is north of 15% return. So as far as expenses and the revenues, do you have that?

Yes, so as Sean said a minute ago, we saw a little bit in Q2, we expect the revenues to ramp up north of $1 million a quarter as we go. Obviously that overall earn back is a ramp up so over the first year we expect them to be ramping up and include some synergies in there.

On the expense side, not giving line item detail on the expense side here. We have built in some overall modest pickup in expenses and some of that is to revenue producers including on the 44 side.

Was that helpful, Matt?

Yes. And then my last one just thinking about crossing $10 billion, I understand that size is a component in getting to $12 million to offset the lost revenue and additional expenses but by growing up to $12 billion and just offsetting those hits, is there like a dilutive effect to your ROA and your ROTCE as you get there?

It is not something that we would not anticipate so when we look at any opportunities for us to grow, it is always with an increase in our profitability metrics, not a decrease in those. So unless it was one hell of a special occasion, I suspect that there should not be a dilution of those performance ratios as we cross the $10 billion level.

Matt, that was factored into what we gave you up at that $12 billion to $13 billion level.

Got it. Okay, understood. Thank you. That is all I had.

Laurie Hunsicker, Compass Point.

Thanks. Just wondered if you could give us clarification on what total intangibles will be following the First Choice closing? If you have got it. If not, I can follow-up with you. I know that it's --

Laurie, I don't have that in front of me. We can walk through what is in the deck that we put out a couple of weeks ago and I'm happy to do that off-line with you but anything beyond that I can't give you because we are about to file an S4 here.

Okay, thanks.

This concludes our question-and-answer session. I would like to turn the conference back over to Mike Daly for any closing remarks.

Thanks everyone for joining us and we certainly look forward to speaking with everybody again in October when we get an opportunity to discuss our third-quarter results.

The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.