BankFinancial Corp (BFIN) 2012 Q4 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the Fourth Quarter 2012 BankFinancial Corporation Earnings Conference Call. My name is Danada and I will be your operator for today. At this time, all participants are in listen-only mode. Later, we will conduct a question-and-answer session.

(Operator Instructions).

As a reminder, this conference is being recorded for replay purposes. I would now like to turn the conference over to Mr. F. Morgan Gasior, Chairman and CEO of BankFinancial. Please proceed.

Thank you and good morning, and welcome to part one of the fourth quarter 2012 investor conference call and review. We had published summary financial information last week, given the material nonperforming assets reduction activity that took place in the fourth quarter. And we wanted to get some summary financial information out to the market and be available for questions. So we're happy to answer questions on anything that we've published so far.

We'd expect the 10-K to come out in about three weeks, right on schedule, as we usually do. And if there's investor interest, we'll be happy to schedule a follow-up conference call after the 10-K is released to answer any follow-up questions that anyone might have. With that in mind, we'll read our forward-looking statement and then proceed to any questions.

The remarks made at this conference may include forward-looking statements within the meaning of Section 21E of the Securities and Exchange Act of 1934. We [intend to all] forward-looking statements to be covered by the Safe Harbor provisions contained in the Private Securities Litigation Reform Act of 1995 and are including this statement for purposes of invoking these Safe Harbor provisions.

Forward-looking statements involve significant risks and uncertainties and are based on assumptions that may or may not occur. These are often identifiable by the use of the words believe, expect, intend, anticipate, estimate, project, plan, or similar expressions. Our ability to predict results or the actual effect of our plans and strategies is inherently uncertain and actual results may differ significantly from those predicted.

For further details on the risks and uncertainties that could impact our financial condition and the results of operation, please consult the forward-looking statements declarations and the risk factors we have included in our reports to the SEC. These risks and uncertainties should be considered in evaluating forward-looking statements. We do not undertake any obligation to update any forward-looking statements in the future.

And now I'll turn the call over to Chairman and CEO, F. Morgan Gasior.

Thank you. Well, we're ready for any questions that you might have that are within the materials we've published.

(Operator Instructions). And your first question comes from the line of Jon Burke with Amica Insurance. Please proceed.

Good morning, guys.

Good morning.

On last quarter's call, you received question about selling the bank and you implied that it was not the right decision because better days are ahead of you. While I definitely can't disagree with the assessment, especially considering the performance over the last few years, I don't really see any other avenue that would be more beneficial to shareholders than a sale.

And while the earnings outlook is definitely improved, your full earnings capacity still generates returns much less than your cost of capital, which in effect destroys shareholder value. Your efficiency [ratio] is too high. And while loan growth is always right around the corner, you admit on every call that competition is too intense, which just really reflect the fragmented nature of the markets and the need for consolidation. And so, yes, you have an improved outlook and hefty capital levels, but all the negatives really speak for themselves.

So my question really is you've got most of your credit issues behind you now, obviously. Can you offer the shareholders a credible plan that generates value superior to what you could potentially receive in an M&A transaction?

I think that's question that's probably beyond the scope of the conference call, Jon. If we thought that we had absolutely no opportunities to move forward, we'd already been moving on a process or concluded one. So we obviously think that we have the opportunity to generate positive earnings. We've gone through the cycle others have gone through. Can't say that a sale or a conclusion of the process of that mechanism isn't a possible outcome, but it's not the one we would choose at the moment.

Okay. Well, you've mentioned potentially having a call in a few weeks after the 10-K. And if it's really out of the scope of today's call, I'd say take the time and be able to answer the question for me in that time.

Yes, I don't think we'll have much of a different answer for you, Jon. At the end of the day, the answers that we gave in the third quarter would remain the answers today. As far as loan growth is concerned, I'm sure that will be a topic of greater interest. We did have some reasonable results in fighting off some competition, holding the drop in the portfolio in certain categories down and actually increasing a couple of categories in commercial leases and C&I quarter-over-quarter. So we do feel we're making some progress.

That said, much more progress to make in different categories. The efficiency ratio is also something we're looking at, but we also live in a regulatory environment that adds some additional costs and requires additional controls. So I don't think we'll have a different answer for you going forward, but the decision of a sale is something that is a possibility down the road. And as I've said before, if a credible offer or a credible alternative arises, we'd certain consider it in the nature of shareholder interest.

Do you not disagree with my assessment that your potential returns, even on a better scenario where you're credit costs are coming down and you do have loan growth, [are] still substantially less than your cost of capital?

I think we can earn a return on equity and return on average assets [that] competitive to the market that we operate in. So that's a benchmark is can we do as well as our peers are doing and provide a good dividend return and eventually a return on the deferred tax [asset] and move forward? So that's our goal.

Okay, thank you.

(Operator Instructions). Your next question comes from the line of Brian Martin with FIG Partners. Please proceed.

Good morning.

Good morning.

Morgan, kind of that same vein on just the profitability and kind of what peers are doing. How are you guys looking at 2013 and beyond as far as what your profitability objectives are, I guess, what you think is achievable? And, I guess, maybe what's achievable and kind of what's acceptable in your mind as far as the outlook now that, as Jon kind of said, the credit numbers should improve pretty dramatically from an expense standpoint?

Yes, I think for '13 and '14 profitability it will turn on rebuilding the loan portfolio and putting the excess cash to work and then, to a lesser extent, continuing on expense control. Obviously, getting the bigger chunk of the nonperforming asset expenses behind us was a big step forward.

But there's still some work to be done in a couple of different categories, in particular [when you] look at some back office operations and even some front office operations. But the vast majority of the earnings improvement is going to come from putting the cash in the loan portfolio to work.

In terms of a benchmark, your living with higher capital ratios than you used to. You're also dealing, as Jon says and we've said, with a declining rate environment and compressed margins, and we're fairly margin-dependent, all things considered, like several community banks.

But if you looked at the end of the road when we get into '14, we'd hope to be cruising in the 75 to 80 basis point range on return on average assets or higher. But that is going to require a fair amount of asset growth, loan growth, and redeploying the cash. It also means that we don't necessarily see the same degree of marks on OREO or nonperforming assets that we've seen. We think, again, that's mostly behind us, but markets aren't completely stable in Chicago yet. So you still could see some results from appraisals that would create an issue in any given quarter.

But I think if you head towards the 75 basis points or north in '14, as we put the cash to work, that is a credible goal. That will create an appropriate return on investment, still below trend for historical purposes, but given the competitive environment we're in, the higher capital ratios and so forth, it's a good place to aim for now.

After that, once we get the loan portfolio where we want it and we reach those profitability levels or start approaching them, we can see ways to optimize it.

Okay. How about just from an organic loan growth perspective? You guys have historically kind of struggled in that area. You've purchased some portfolios, but given the competitive nature in Chicago and the fact that all of these banks are looking for that type of growth, what gives you confidence you can grow the assets? In your 75 to 80 basis point ROI, what type of asset growth is required to get there and, I guess, why do you think that it's achievable with the competitors (technical difficulty) kind of influencing the market at this point?

Well, we've started to deploy some additional resources in the markets and we've started to expand the marketing program because it's just clear to us that the normal course of referrals and networking that we normally follow is going to have to change and be broadened and deepened in this market. But if you take the raw numbers of where we were at at the end of '11 in terms of $1.2 billion loan portfolio, that's about where it's going to have to be to generate those kind of returns.

We've started to diversify as well in the loan portfolio. You saw a little bit of those results in fourth quarter. Again, started to deploy additional resources in some of those markets, too. So again, cautious optimism going forward, but I'm not sure we'll draw a linear path towards it.

Okay. And are there certain categories, from a concentration standpoint, that you're not able to grow at this point? Or are you able to grow all categories? Or kind of what's your intent as you kind of build the loan portfolio from here?

Well, if you look at where our balances were at the end of '11, getting the multi-family portfolio back up to those levels is about as far as the '11 portfolio could go on current capital levels. So that's probably the concentration that we're keeping an eye on most.

Commercial real estate will not be a particularly strong growth leader for us. The markets -- we go deal by deal, but the weakness in that market generally is not something that we can -- we either would want to or could confidently predict a lot of growth in.

The C&I side, we've had historically low utilization rates in both the healthcare side and even in the fourth quarter on our direct lessor financing. If we went back to normal levels on that, that's about a 40 -- well, $30 million recovery in balances in those two categories alone. And that's without really adding any additional customers or additional activity in those areas.

So our growth focus would be the C&I, healthcare, the general C&I category, the commercial leases, direct lessor financing, doing a little bit more in small business lending. That will move numbers somewhat, but it won't move the numbers, say, by $50 million or that, as they're generally smaller loans to smaller borrowers.

Areas that won't really be focused on, construction, obviously. And then residential, it's just difficult to put those assets on the books given the scarcity of [arms] out there. So, careful growth in the multi-family portfolio, not much growth in commercial real estate, some growth in the commercial leasing, and C&I portfolio will also be the focus. And as time goes on --

Thank you.

As time goes on and we start building a pipeline of those things, then we'll revisit the concentrations, but that's what we'd look at right now.

Okay. And, I guess, would your expectation be that you'd (technical difficulty) begin to see growth each quarter prospectively from here, or is it still -- is there still some pruning that has to be done in the portfolio that goes lower from here?

It's a good question. It's just a difficult one to answer. I'd give you two basic [attacks]. The first thing is we continue to focus on retention where retention is possible. And part of retention is just a step-up retention in certain segments. The Citibank portfolio, we've retained about 120 of 150 of that, but probably a third of the pay-downs that we saw in 2012 were from the Citi portfolio.

We continue to reach out to those customers. They obviously have relationships in other places. And as I said, we've retained a good quantity of those, but I think improvement that retention to the extent that the numbers that they give us support it will be important. Remember, in that particular portfolio, Citibank wasn't soliciting ongoing financial information at all. So that when we do talk to customers and get financials, we have to look at it both from a can we do the deal for them or does it present a classification issue?

Second of all, to -- obviously, we're going to continue to reduce the non-performing assets levels and we're going to reduce the performing classified levels. And in some cases, those will require liquidation of assets. Sometimes it's a case of we're waiting for the borrowers to send us their updated financials. They indicated better interim results. So as we get that confirmed, it resolves the basis of classification without having to do anything else.

If, on the other hand, we don't see that improvement or something else has developed, perhaps a global cash flow issue that we can't resolve, then really the only exit strategy there is liquidation of the assets. And that will continue in '13? Will it continue to the tune of $20 million, $30 million, $30 million? It very well could.

That usually is if the borrower cannot solve the issue or the financial statements don't -- the payments are current, the borrower thinks they're doing fine, but their tax returns don't support the debt service that they say they have, then really the only solution there is to move them out of the bank one way or another.

And I would say, just right off the top of my head, we probably had $20 million -- at least $20 million worth of payoffs in 2012, where we had a five, a six, or a seven and another bank took us out. So there are different standards out there and we're in a fairly narrow box in terms of borrower qualification and classification, so to some degree liquidation will be a solution.

Okay. So getting to your -- your asset number to get to a 75 basis point number for 2014, it's conceivable your assets are lower at the end of '13 than they are at the end of '12? Or do you think that's not conceivable, most of the growth actually has to happen in '14?

Actually, we would hope to split the difference. If we could grow by, say, $100 million to $120 million in the loan portfolio in '13, that sets up the base for '14. Again, if we were in a different competitive environment and we didn't really have to deal with the liquidation of some of the performing classifieds, that might move a little faster. But clearly, the faster we can get to that conversion of cash, the better off we're going to be.

Okay. And does your plan require any additional lenders or have you guys hired anyone to help --

Yes, we've actually hired some people in the fourth quarter and we've continued to hire some people in the first quarter. To some degree, that's changing around the mix of people we have. And to some degree, that's changing around the back office staffing versus the front office staffing so we have people pointed in the right place. But that is part of it, because, again, as I said, we've had to deepen the marketing on this, and more boots on the ground is a better solution in this environment.

Okay, perfect. And then, just a couple of other things. On the margin, your cost of funds is pretty low. From an asset pressure standpoint, I guess, what is your -- (technical difficulty)? How much asset repricing pressure do you guys expect in 2013? Or, I guess, is your expectation [that you're pricing without] a whole lot of further reductions on the funding side, the general trend in the margins should be (inaudible) at this point?

Most of the margin impact and most of the margin expansion will come from redeploying the cash. There is still some potential for repricing of loans in '13, just as the normal course of business as loans mature from the '08-'09 timeframe. Another possibility, though, is, again, in the acquired portfolio, whether it's Downers Grove or Citi, the '11 stuff, market pressures are such that if those coupons went out in the 6s and were aggressive about retention, you'll likely reprice some of those down, too.

So again, that's all part of the mix, but we still think over time retention is the better strategy as opposed to getting a payoff on 600 basis points of earnings. But you could still see some margin compression from repricing, whether it's just through maturities or through protecting the portfolio going forward.

Okay. And how much, Morgan, when you guys look at the actions you took from a credit perspective this quarter, those lines have flowed through the expense area. They've been running at pretty elevated levels. And how much of that are you able to cleanse now with the work you've done on the credit side?

For instance, in that was your (inaudible) just south of $4 million this quarter in kind of those credit-related expenses. How much of the expenses this quarter were tied to credits that you've cleaned up or -- how do we think of that number beginning to normalize, whether it's in the early part of '13 or by the end of '13? Just kind of from a macro perspective, what comes out of that number that's no longer needed with the actions you've taken?

Yes, I think the vast majority of this has been put behind us given how we cut the levels down in the nonperforming asset area. And obviously, that was the focus of all the actions we took. The assets that were disposed of were assets that still had the potential for repricing downward based on continuing appraisals. They were in markets that had limited demand and limited upside at the moment, as far as we could tell. And they were also involving some fairly significant litigation expenses, receivership expenses, and some other things.

So, have we cut it by 80%? I think that's probably a good number. There will still be some activity in this, and in some of this we may just utilize more summary disposition methods. It's never been our favorite position to simply negotiate a deed in lieu or other type of disposition with somebody and let them off the hook.

But given the fact that it takes three years to get a -- two or three years to get a foreclosure through the process and you have receivership expenses along the way, to the extent that we can figure out how to dispose of an asset faster than that, either on a cooperative basis or through our own mechanism, we'll do it.

Some of our peers here in Chicago will use advisors if they see something coming up and dispose of it even before -- on a note sale basis, before we -- before they even get (technical difficulty). I would say that would be a fairly limited arrangement that we would go through, but it's out there if we absolutely needed to do it.

So I think most of the expenses are behind us. You're still going to have some real estate tax expenses on the remaining inventory. And the disposition of the commercial real estate and the disposition of the multi-family also got rid of most of the ongoing receivership expenses and some of that.

The one area I'd say I'm still a little concerned about are mark-to-markets in the residential portfolio and even some of the residual assets, simply because we really didn't see valuations stabilize to any great degree in the fourth quarter appraisal data in Chicago, other than in some of the multi areas. And again, that was more segment-specific than it was anything else.

Okay. So when we think about -- is it fair to think that the costs that were involved there this quarter, and if there's somewhat of an 80% drop as you move into first quarter and then just a gradual decline thereafter, that's probably a fair way to think about it?

Yes, I would think so. And we've also gone through most of the appraisals so far in third and fourth quarter. That's usually the pattern as most of those appraisals take place. So again, the goal here is to move the assets off the books and not have to subject them to another appraisal cycle later in the year if we can avoid it.

Okay. All right. And then, just your thoughts on -- you've talked about restoring the dividend. I guess, any update on that or just the potential for a purchase program as a somewhat likely event in 2013 in your mind? Or how do you rate those possibilities for 2013 on both those items?

Yes, we'd certainly like -- going back to Jon Burke's point, we'd certainly like to demonstrate some positive momentum in the loan portfolio, which will drive positive momentum in earnings. We'd also like to drive a little -- drive the of nonperforming assets a little further south. And I think that sets up a discussion about dividends. It will eventually set up a discussion and the timing of the deferred tax asset recovery and we'll even think about shareholder repurchases.

As I've said many times, when we get to a point where shareholder repurchases are a viable option, especially for trading at these levels, that could certainly be a supplement to shareholder returns. We're not opposed to it. We're not opposed to any solution if it's a credible solution that delivers results. But I think really the focus is we've got to keep driving that loan portfolio forward. And if we do, then it sets up everything else.

Okay. And the amount of the deferred tax asset, where is that at today?

That's going to come out in the 10-K. We've got to finish all the numbers on that. But it obviously went up as a result of the fourth quarter activity. We'll have a precise number for you in a couple of weeks.

Okay. And the same thing on the -- can you comment -- I know you don't have the numbers since you haven't filed the K, but just directionally, do we think about the classified assets or some of the substandard credits -- can you just talk about directionally where those go with the moves you've taken this quarter?

Yes. As far as fourth quarter is concerned, we're still finishing up all the reviews --

Yes.

-- and we've got to get that filed at the end of the month. But we saw it stabilize in the fourth quarter, even as we got additional borrower information or we had to take adverse action on certain borrowers, a couple out of the Downers Grove portfolio in fourth quarter. So in the substandard category and in the [specials] together, stable to declining in the data we're seeing so far, but we're not done with all the reviews yet.

(inaudible).

Going forward, there's really three bases of classification -- there's an issue with the reported debt service coverage on a primary basis; there's an issue with a borrower or a guarantor's global debt service cover or global cash flow; or there's some other adverse condition that's out there.

We believe that there is a strong potential to reduce the performing classifieds even as we go through the early part of '13 based on what borrowers have shown us on interim data as long as we can get it confirmed with year-end financial data, including year-end 2012 tax returns. Some of the -- a lot of the actions we took during the course of the year, or the borrowers took during the course of the year, need that financial information or need a bit of seasoning.

So if I were to take you back to September, we worked on one of the larger commercial real estate exposures. That loan is performing just fine. Everything happened like it was supposed to happen. That was about a $7 million relationship and we would expect it to be eligible to operate at the end of the first quarter '13 after you give it the necessary six months' performance. And there's several other credits that are in that pipeline that are headed in the same direction.

So, we're feeling good about -- based on the data that we have right now, we're feeling pretty good about the direction of performing classifieds. But it can be a volatile thing. If we do not get the answers that we were looking for, if the borrowers have something happen that we're not aware of yet, if a review standard changes along the way, then that's something that we're going to have to deal with. And that's why there's a certain amount of volatility.

I think the other thing I'd keep in mind is there are times where we don't really see any other exit other than the borrower liquidating the asset. And I can tell you that borrowers have been reluctant to do that. They might be sitting on a gain, but it's earning income, at least as far as they're concerned. So there are going to be cases where we are going to have no choice but to elect not to renew the loan, and there are several cases like that in the pipeline. And if the borrower doesn't pay us off on schedule, then we're going to have to do something about that, possibly in terms of formal collection action to move them off of the [first square].

So, big picture, we think those numbers are headed in the right direction, and potentially meaningfully so in the first six months. But there is going to be some volatility to that as the data actually comes in and we have to deal with borrowers who don't see the priorities the same way we do.

Okay. So it would be fair to say that the classifieds don't go down by the amount of nonperformings this quarter, just given kind of what you just talked about?

No, they're not going to go down by 80% in a quarter, but I could -- but if everything holds together, we could see meaningful double-digit reductions in performing classifieds over the next six months, if everything that we have in front of us holds together.

Okay. All right. And then just one or two last things here, just the -- can you talk about the -- I guess as you prospectively -- what type of -- with all the charge-offs and losses you've taken here, what's a realistic level of charge-offs you guys can get back to here as far as just with the clean-up you've done? Can you get back to a 40 basis points of charge-offs, or is that still too high given all the actions you've taken?

It's going to be an asset-by-asset thing. I'd say I'm probably still mostly concerned with the residential portfolio --

Yes.

-- given market conditions in Chicago. Let us think about that a little bit, and when we schedule the call for the 10-K we'll see it we can have a little better thought process behind that. But I'd say right now, if you go asset-by-asset, the charge-off ratios on the residential would be a bigger concern than they would be, say, for multi-family. Commercial real estate is a little bit of a wildcard, but I'd say residential leads the league for right now.

It's just not -- it's not yet stabilized in Chicago and there's still too much supply out there. So if you're looking to move assets quickly, you do have a little more opportunity for a charge-off.

The other thing that's out there, too, is in the [REO] portfolio, one of the doctrinal changes in '12 was the OCC has a doctrine of REO has to be appraised for a 12-month disposition. And that actually did have a little bit of an effect in fourth quarter. Some of the Downers Grove land deals got appraised on that basis, and obviously you build in a bigger discount for an accelerated disposition, at least on an appraisal analysis basis.

So, charge-offs can be affected by that doctrine a little bit, too. But really, market conditions are such that I'd say residential would be the first concern, a little bit of multi-family, a little bit more in commercial real estate, but residential would lead the league.

Okay. Okay. That's all I had. I appreciate you guys taking my questions.

You're welcome, Brian. Thanks for the time.

(Operator Instructions). Your next question comes from the line of Ross Haberman with Haberman Management. Please proceed.

Good morning, Ross.

Mr. Haberman, your line is open. Please check your mute feature. And at this time we have no further questions. I would now like to turn the call back over to F. Morgan Gasior for any closing remarks.

Well, we thank everyone for their interest. Tough but fair questions, we believe. We'll schedule our follow-up conference call after we -- when we're ready to release the 10-K. If anybody has any follow-up questions they'd like us to answer, feel free to get in touch with us, and we'll be as prepared as we can be. Once again, we thank you for your interest.

Ladies and gentlemen, that concludes today's conference. Thank you for your participation. You may now disconnect. Have a great day.