Bank of Marin Bancorp (BMRC) 2016 Q3 法說會逐字稿

Good morning and thank you for joining us for Bank of Marin Bancorp's earnings call for the third quarter ended September 30, 2016. My name is Jarrod Gerhardt. I'm a Senior Vice President, Director of Marketing for Bank of Marin.

(Operator Instructions)

As a reminder, this conference is being recorded on October 24, 2016. Presenting this morning will be Russ Colombo, President and CEO; and Tani Girton, Chief Financial Officer. You may access the information discussed from the press release, which went over the wire at 5 AM Pacific time this morning, and on our website at bankofmarin.com, where this call is also being webcast.

Before we get started, I want to emphasize that the discussion you hear on this call is based on information we know as of today, October 24, 2016, and may contain forward-looking statements that involve risks and uncertainty. Actual results may differ materially from those set forth in such statements. For a discussion of these risks and uncertainties, please review the forward-looking statements disclosure in the earnings press release we issued earlier this morning, as well as Bank of Marin Bancorp's SEC filings.

Following prepared remarks, our team will be available for questions. And now I'd like to turn the call over to Russ Colombo.

Thank you, Jarrod. Good morning and welcome to the call. We are pleased to discuss the results for the third quarter of 2016.

Let's start with some highlights. Our earnings for the third quarter of 2016 were $7 million, compared to $4.8 million in both the second quarter of 2016 and third quarter of 2015. On top of solid organic growth, the Bank booked additional net income of $2.1 million associated with the recovery on a problem credit and higher accretion on acquired loans.

Deposits grew $96 million in the third quarter, compared to $24 million in the second quarter and $5 million in the corresponding period last year. At quarter end, deposits were $1.8 billion and we continue to have success adding low-cost relationship deposits. Some of this growth is seasonal, due to our customers, and will likely decline to more normalized levels in the fourth quarter.

Non-interest-bearing deposits grew by $56 million and comprised 48% of total deposits, an increase from 47% last quarter and 46% in the third quarter of 2015. As a result, the total cost of deposits remains stable at 8 basis points.

Third quarter loan originations were $56 million, an increase of $12 million, or 27%, compared to the second quarter of 2016 and roughly the same as this period last year. Total loans increased to $1.47 billion for the third quarter, from $1.45 billion at the second quarter and $1.36 billion for the same period last year. This is a positive year-to-date trajectory for loan origination and a continuation of our solid organic loan growth.

Loan payouts for the third quarter were $39 million, down from $40 million last quarter and up from $37 million in the same period last year. Payoffs were again largely the result of property sales and the successful completion of construction projects that occur in the normal course of business.

Diluted earnings per share were $1.14 in the third quarter, an increase of $0.35 from $0.79 per share for both last quarter and the third quarter of 2015. This was due to strong underlying production, the recovery and acquired loan accretion. Diluted earnings per share were $2.86 in the first nine months of 2016, an increase from $2.23 for the same period in 2015.

Our credit quality continues to be exceptional. Nonaccrual loans as a percent of total loans declined to 0.04% at September 30, 2016, including the resolution of a nonperforming credit due to the sale of the underlying collateral by the borrower. This resulted in a reversal of a loan loss provision and recapture of interest income.

We remain committed to our disciplined underwriting and relationship banking focus. This enables us to work with our borrowers to ensure the optimal results for both our clients and for the Bank. Over its 27-year history, Bank of Marin has incurred only $306,000 in net losses on commercial real estate loans that we have underwritten.

We continue to closely watch loan-to-values. There are indications that the rapid rate of appreciation in commercial property values has slowed and rental rates are beginning to stabilize.

Now let me turn the call over to Tani for additional insights on our financial results.

Thank you, Russ, and good morning. This quarter illustrates once again Bank of Marin's ability to originate and leverage quality banking relationships for bottom line results.

Let's take a closer look. Net interest income grew to $19.4 million in the third quarter, up from $17.2 million last quarter and $16.9 million for the third quarter a year ago. There were several contributors to the increase, which were minimally offset by a lower average loan portfolio rate.

One, a $1.4 million interest recovery; two, accelerated accretion from the payoff of an acquired loan; three, growth in loans and other earning assets; and four, lower interest expense as a result of an FHLB advance repayment. Net interest margin of 4.05% was elevated in the third quarter for the same reasons, with additional downward pressure from higher cash balances.

Net interest income was down in Q3, primarily due to gains on sales of securities recorded in the second quarter and the same period last year. We successfully maintained our expense discipline in the third quarter, with noninterest expenses at $11.9 million, down slightly from $12 million last quarter and up slightly from $11.6 million a year ago. We continue to look for ways to be more efficient.

As a result, 2016 year-to-date return on assets of 1.17% is up 10 basis points from last quarter; and return on equity increased to 10.4%, from 9.52% last quarter and 8.75% for the same period last year. Our loan-to-deposit ratio is 81.5%, and we continue to have ample liquidity and capital to support growth in the coming years.

All of our capital ratios are well above regulatory requirements for a well-capitalized institution. The total risk-based capital ratio for Bancorp was 14.3% at September 30, compared to 14.1% June 30. Tangible common equity to tangible assets decreased slightly to 10.9%, due to the growth in our balance sheet.

The Board of Directors declared our 46th consecutive quarterly dividend and raised it $0.02, to $0.27 per share on October 21. This implies a forward dividend yield of 2.17% based on the September 30 closing price, similar to the S&P average and a move toward higher payout ratios in the future. The cash dividend is payable on November 14 to shareholders of record at the close of business on November 4.

And with that, I'd like to turn it back over to you, Russ, for some additional comments about where we are headed from here.

Thank you, Tani. On past calls, I've talked about our business model and what type of bank we are. In this last quarter, we have truly experienced how our commitment to relationship banking impacts the bottom line. While many banks say they are relationship oriented, let me illustrate how Bank of Marin does it better.

First, much of the success stems from our ability to build and maintain strong client relationships, which enables us to attract non-interest-bearing deposits from our business customers. Our ability to fund loan growth with a cost of deposits at only 8 basis points is a significant competitive advantage for us. This allows us to perform well even in the face of some of the fiercest net interest margin compression the banking industry has ever seen. It's our commitment to creating strong client relationships that allows us to earn and maintain those inexpensive deposits in this low-margin environment.

Second, as we reported in both our earnings release and on this call, we had a major recovery on a problem credit. While the resolution of this credit was a long process, our relationship models allowed us to work with the client over the past few years to achieve the best possible outcome for everyone.

Third, we have built strong relationships with many highly experienced developers over the years. Recently, we've had a number of construction loans pay off. As those businesses move on to new projects, Bank of Marin is there to work with them again. It's that joint track record of success and discipline that allows us to backfill our construction loan portfolio with a robust pipeline of new opportunities, a sign of success for both the borrowers and the Bank.

These are just a few tangible examples of how we operate as a bank. This approach, which is unique to Bank of Marin, pays off for our shareholders, clients and employees. With a solid pipeline of new opportunities, we are well-positioned for a strong close to 2016.

We remain committed to our strategy of delivering consistent shareholder returns. This will be achieved through a combination of organic growth, acquisition, and returning capital to our shareholders through rising dividends.

Thank you all for your time this morning. We will now open it up for questions.

(Operator Instructions)

Tim Coffey, FIG Partners.

Thank you. Good morning, Russ. Good morning, Tani. Russ, I wanted to follow up on one of the last comments you made in your prepared remarks about the loan-to-value and how that's starting to change with depreciation slowing and the rent rolls starting to stabilize. How does that affect Bank of Marin's approach to underwriting new credit?

It's a good question, because it's a time when you don't want to be too aggressive in terms of loan-to-values, when you are advancing for customers. Because with these high and possibly inflated values, if you're lending at a high loan-to-value on a loan, if we have a correction, you could be under water. So we're being very careful and very conservative when it comes to loan-to-value that we will advance for our clients. And we're being very cautious in watching the market to make sure we don't get into a position where we have loans that are under water, so to speak, when it comes to collateral value.

And do you see that your competitors are willing to perhaps fudge on quality or structure right now?

I don't really like to make comments about whether they are or not. I think that sometimes you'll see banks going farther than we'll go, for whatever reason they have, whether it be for loan-to-value or maybe credit structure. But as an organization, we're very disciplined and we just consistently underwrite the same way we always have and stick to our guidelines. Because over the long term, as you saw during the recession, that will play very well for us. And those that don't stick to that kind of discipline, that's when you have problems.

And I'll point to our record in commercial real estate. We've had, in the loans that we've underwritten -- and that doesn't include acquired portfolios from the two acquisitions that we've made -- in the loans we've underwritten, we've only had, over 27 years, just a little over $300,000 in net losses on commercial real estate. And obviously, there's lots of concern about commercial real estate and the markets these days from the regulators or whatever, but you can point to that and say, we're doing something right in terms of the way we underwrite.

Absolutely. And kudos to your ability to recapture some of the interest on a previous charged off loan this quarter. And then the other question was, has the Board expressed a desired range for the dividend?

Range, you mean in terms of payout ratio?

Yes, ratio. One of the things you did mention towards the end there was that one of the goals was to return capital to shareholders. So I'm just wondering if it was a range in mind.

As Tani mentioned, she mentioned that our payout ratio -- our dividend yield is pretty much in line with the S&P. And that's important. If you strip away the nonrecurring items, we're at about a 34% payout ratio from ongoing earnings. And that's likely to be, as we look forward, we're trying to maintain that yield and potentially that payout, because we're, even at a 34% payout, we're still accumulating capital.

All right. Thank you. Those were all my questions.

Okay. You're welcome.

Tim O'Brien, Sandler O'Neill & Partners.

Good morning, Russ. Good morning, Tani.

Good morning, Tim.

Tani, what are your regulatory concentration ratios for construction and commercial real estate right now?

Hang on one second. We're going to pull those.

Thanks, Tani.

Okay. For construction and land loans, it's 37% and for total commercial loans, it's 337% -- commercial real estate, sorry.

But you guys don't feel like you're constrained at all by having a ratio in excess of the guidance numbers that they gave. You're good to go, you're unfettered as far as that's concerned. The only thing that's going to regulate you is quality and rate term structure, the usual competitive points for making those loans? It's not regulatory.

Tim, I'll answer that. The regulatory guideline is obviously 300, and we're in excess of that. But we have conversations with the FDIC all the time about that. I'm not speaking for them, but we've been fine because of the way we underwrite, because of our performance in commercial real estate. Not to say that's not going to change in the future.

But we're obviously very cognizant of the fact that we're at a high level in commercial real estate. That's why we maintain such discipline in the way we underwrite, and we'll continue to maintain that discipline, which, in our conversations with the regulators, that's what they find most important.

It's really not necessarily what percentage it is, but what's the makeup of that percentage. Are you making loans at 80% loan-to-value? Are you doing nonrecourse loans? Or are you being conservative with the loan-to-values and are you having direct guarantors with liquidity? And when we underwrite, we always try to have guarantors' liquidity and low loan-to-values. So that makes a huge difference when you're having a conversation with the regulators.

Thanks. Appreciate that. And then another question for you is the full-time equivalent employee numbers, 263 and 255 at the end of the second quarter, is that correct, Tani?

So those are point in time numbers. If you look at the average, the average is only up about three, as opposed to the larger number.

And yet your comp costs, I think they were down in the quarter. So can you give a little color on why that was?

Well, I think that has to do a lot with the timing of when people leave and when new hires come on and when, if we have any recruiting costs associated with new hires, when those are paid and that sort of thing. So there are a lot of moving parts on that, Tim.

Was there some recruiting costs that hit in the second quarter then, in that $6.724 million number, that are one-and-done in the second quarter and now we're in the third quarter?

Tim, interesting enough, is yes, we brought on, as I think we mentioned last quarter in our call, we had brought on a number of new people in Ontario, and Rosa and in Austin-Oakland. So we've hired people. The numbers are sometimes deceiving, because you've got to look at the mix.

And so while the numbers haven't changed that much, the mix of the employees has changed in terms of, in our commercial banking offices, we're fully staffed -- well, not fully -- but close to being fully staffed up, yet we have a number of vacancies at the branch level at the teller positions and new accounts and things like that, which are much lower cost people. So while the numbers haven't changed, your mix of people and salaries has changed a bit, and so that will drive a little bit higher numbers, especially in that second quarter when we had recruiting costs and things, too.

So as far as that comp line item is concerned on a go forward basis, Tani, is that a good indication number, given where you are with staffing? You guys are -- one last question on staffing. Russ, you mentioned, I think last quarter, you guys were in the hunt maybe to add one more banker in San Francisco. Is that right?

Yes. Haven't done that yet.

Were you successful?

No, we weren't. We thought we were and we missed on a couple of opportunities that we had. So we're still looking in San Francisco to add to that team. In the second quarter, we added in Oakland. We added in Mount Santa Rosa.

And so outside of still looking to add to your San Francisco team, were you guys pretty much fully staffed?

From the standpoint of the commercial banking side, pretty much. We've got a few openings in our business banking office here in Novato. And business banking is a very people intensive business, because it's a lot of small loans, multiple relationships.

So we're still looking to add people here in Novato on the business banking side, and then the commercial banking side in San Francisco, we have at least one add there to go. It's a never-ending -- you never get there. There's always opportunities to bring in people, and this is a tough employment environment for the employer. It's great if you're an employee, because it's very competitive. But it's tough for the employer side.

Great. Thanks for answering my questions.

Okay. Thanks, Tim.

Jeff Rulis, D.A. Davidson.

Thanks. Good morning.

Good morning.

Russ, you've mentioned on the deposit side that this is sort of normal business activity and that you expected some inflows, but pretty big, and then you followed that with expecting Q4 to decline. Were you talking about a net decline or the growth decline?

We've had some, certainly in that third quarter, we have some customers who have some significant deposits that come and go, and they're a few different businesses. I'm not saying we're going to have a net decline, but they are such significant declines in these individual accounts, and there's probably three or four of them, that you never know. It's kind of the normal course of business.

And as an example, we have a big construction company that has a lot of municipal work. Money comes in to fund a project and then it goes away as they build out. So there's these ups and downs. It's just that there's going to be these swings from time to time. And I don't know that we're going to show a net decline, but we might for the fourth quarter. It's hard to gauge these three or four clients that we have.

Fair enough. Okay. And then Tani, on the interest recoveries, I guess two questions. One, the basis point impact to margin this quarter. And then secondly, did you have recoveries or was there a comparable basis point in the previous quarter?

So the impact on margin this quarter from the recovery was 31 basis points. And hang on, I think I have the number for last quarter. No, I don't have the number for last quarter on total recoveries, but it was not significant.

Okay. Great. And then maybe last one, Russ, not to over react to any payoff activity. Year-to-date you're a little lower than you were last year. And anecdotally what you're seeing out there, would you expect that trend to continue or it comes and goes type of thing?

It kind of comes and goes. The good news is, we have a really good pipeline of opportunities that we're working on. It's kind of interesting how this seems to be, either we talk about loan volume as not seasonal and it appears to be. Because every year, there seems to be a bit of a hockey stick in the fourth quarter.

We do have a great pipeline. We're working on that. And payoffs, when buildings are sold, there's not a heck of a lot you can do. The good news is we're not losing relationships on these sales. It's because somebody we financed has sold the property and taken money off the table.

And typically, those borrowers, we do something else with them down the line, where they reinvest that money elsewhere. And we've got a number of, as we mentioned, a number of big construction projects which are literally right in the sales process now. They've completed the project and they're in sales process. So they may impact, a couple more that we've got may, in fact, pay off before the end of the year, but you don't know for sure.

It's kind of this good news, bad news. The good news is you've got a payoff, which is on a construction loan, which is exactly what you want. The project worked exactly the way it was supposed to. The bad news is our loan totals drop a bit, but that's the way construction business is.

All right. Thank you.

Okay. Thanks, Jeff.

(Operator Instructions)

Jackie Bono, KBW.

Boland, actually. Hi, guys. Good morning.

Hi, Jackie. How are you?

Good. How are you? Question on the timing of the securities purchases in the quarter, Tani. Just looking at end of period balances and average balances, I'm guessing those were more towards the latter half of the quarter. Is that right?

So actually, we have quite a bit of run off during the quarter, as well. So the purchases really were a little bit more toward the beginning of the quarter. But the other thing about the securities portfolio is that we do have some run off maturities anticipated for the fourth quarter, so a fair amount of the net increase in the portfolio will likely be redeployed into loans when those cash flows come in.

Okay. On a quarterly basis, if you could give us an update on how you're thinking about managing between the mismatch that can occur between deposits and loans, especially in light of the three to four depositors that you had mentioned and their fluctuations?

A couple things there. Great question. Just to go back to those borrowers, I want to make it really clear that some of those borrowers that have big seasonality, while they have large cash inflows and outflows, as a percent of the total portfolio their concentrations are very small. And so the way that we manage those big changes is we look at what other cash we expect to come in, either from the portfolio or the net outflows that are expected, and we actually have frequent conversations with the branches about those large movements, so we actually know what to expect in terms of whether money is coming in are going out.

And then we have a short-term part of our cash deployment program, as well as a long-term part in the securities portfolio. So any investments that we make that are related to dollars that are going to be around for a long time, that is more directed towards the municipal and agency securities that have a longer duration, and then we have some shorter term ways to deploy the cash that we think we'll be needing in the upcoming quarter.

Okay. So the purchases this quarter were all related to the longer term funding that you were looking at?

Most of them. We had a couple of short terms, but most of them were longer term, again because we knew we had cash flow coming off the portfolio coming up here in the fourth quarter.

Okay. That's helpful. Thank you.

And then Russ, maybe if you could provide an update on M&A conversations, your outlook and how you're feeling about it in general in your region, and if you're looking at things -- looking outside of the box in light of the slowness that's been taking place in the Bay Area from M&A perspective?

What you said at the end is exactly right. The slowness in the M&A activity in the Bay Area, there's just not a lot going on. And we continue to have conversations with banks around the Bay. But there's nothing new to report.

Our approach has always been if we find something that makes sense for us, we would aggressively go after it. But we're focused on organic growth and building our loan portfolio, building out our commercial banking offices and looking at potential new sites for commercial banking offices, as well as branches to fill in where maybe an acquisition might make sense, but if that's not happening, then we need to be looking at de novo opportunities.

And we're doing that. And we're looking throughout the North Bay at that type of thing. And I think that ultimately, M&A is great if it happens, but as an organization, we can't be so focused on that, that we forget about the organic side, which is a real driver of this bank.

Okay. Thanks, Russ. That's very helpful.

Okay.

Don Worthington, Raymond James.

Good morning.

Good morning, Don.

Maybe following along a little bit the discussion on liquidity management. Do you have a target loan-to-deposit ratio that you'd like to achieve if you smooth things out over a few quarters?

We're running in the low 80s. If you're looking at an ideal situation where you're most profitable and you still have enough liquidity, something in the high 80s to 90 is terrific. But that requires an awful lot of loan growth to get there, at this point. So we're pretty comfortable in the 80s.

I would like to be a little bit higher, because I think we would drive a lot more profitability if we could get in the 85 to 90 range. But given the -- loan growth, you could push loan growth beyond that, you're going to have to do something that isn't within our discipline. And so we stick to discipline and we'll do what we can and makes sense for us, but we're not going to push loan growth and do things that don't make sense. So that's where we end up, in the low 80s.

Okay. Great. That's good color. And then any outlook on where you see the tax rate in the fourth quarter?

I think the tax rate from quarter to quarter gets adjusted based on how things are changing in terms of accruals and that sort of thing. But in general, I think it's fairly stable with where we were booking last year. So right now, no new information about significant or meaningful changes in our tax rate.

Don, the only thing I would add to that is that we've developed somewhat of an industry specialty in tax-exempt financing. We've done a number of projects.

We've financed a number of projects for primarily schools throughout the Bay area, and that's become a very lucrative area for the Bank. And as we do more of that, obviously that will drive the tax rate down a little bit. And because our profitability is so strong, we've had the ability to do that and be competitive and it builds a solid relationship, because it's not just the financing, but we develop then the depository side with each one of those organizations.

Okay. Great. Thank you.

Okay.

(Operator Instructions)

And Mr. Colombo, there are no further questions at this time. I will now turn the call back to you.

Okay. Thank you very much. I would like to thank everyone for joining us again this quarter, and we look forward to speaking with you again at the end of next quarter. Thanks.

Thank you.

Ladies and gentlemen, that does conclude the conference call for today. We thank you for your participation and ask that you please disconnect your line.