Bank of Marin Bancorp (BMRC) 2017 Q4 法說會逐字稿

Good morning, and thank you for joining Bank of Marin Bancorp's Earnings Call for the Fourth Quarter, ended December 31, 2017. I'm Jarrod Gerhardt, Senior Vice President, Director of Marketing for Bank of Marin. (Operator Instructions) As a reminder, this conference is being recorded on January 22, 2018. Joining us on the call today are Russ Colombo, President and CEO; and Tani Girton, Executive Vice President, Chief Financial Officer. Our earnings press release, which we issued this morning, can be found on our website at bankofmarin.com, where this call is also being webcast. Before we get started, I want to emphasize that the discussion on this call is based on information we know as of today, January 22, 2018, and may contain forward-looking statements that involve risks and uncertainties. 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 our earnings press release as well as our SEC filing. Following the prepared remarks, Russ and Tani will be available to answer your 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 review our results with you for the fourth quarter and year-end. Let's start with some highlights. We successfully completed our acquisition of Bank of Napa, which positions Bank of Marin for continued growth in both Napa County and the wine industry, which have become a strategic focus for us in recent years. Net income for the fourth quarter was $1.1 million as compared to $5.1 million last quarter and $5.7 million in the fourth quarter of 2016. These results were directly impacted by a deferred tax asset write-down of $3 million, which amounts to 1.16% of tangible equity. We also incurred $1.1 million in after-tax expenses related to our acquisition of Bank of Napa. Without these 2 items, diluted earnings per share would have been $0.80 for the fourth quarter and $3.28 for the full year. And net income would have been $5.2 million and $20.5 million for the quarter and the year ended December 31, 2017, respectively. Please refer to Page 5 of our press release for a more detailed reconciliation of these non-GAAP financial measures. Our organic growth was strong in 2017, as a result of healthy and broad-based increases in both deposits and loans. Deposits increased through organic growth by $144.5 million or 8.2% year-over-year. In combination with the $249.9 million in deposits we acquired with Bank of Napa, total deposits were up 21.2%, $2.2 billion at year-end, as compared to $1.8 billion at the end of 2016. Noninterest-bearing deposits increased by $90 million in the fourth quarter of 2017 and comprised 47% of total deposits at year-end. Organic loan growth for the year was $59.5 million or 4%, combined with $132.9 million in loans acquired from Bank of Napa, total loans increased 12.9% to $1.679 billion compared to $1.486 billion at year-end 2016. New loans in the fourth quarter were approximately $51 million compared to $42 million in the third quarter and $62 million in the fourth quarter of 2016.

As we announced on our prior call, we expanded our team with several strategic hires in 2017. These include James Kimball, EVP and Chief Operating Officer and Scott McAdams, SVP in Commercial Banking, Regional Manager for our Napa and Sonoma market. Jim is responsible for growing the bank, customer-facing businesses across our Bay Area footprint. His extensive experience working with Sonoma County businesses will be key in strengthening our team in that strategic market. Scott is integrating the commercial banking team -- commercial banking sales teams in Napa and expanding our presence in the wine sector. With these additions we are well positioned to pursue organic growth opportunities in the year ahead. The North Bay suffered serious losses due to the October wildfire. Fortunately, our clients and the bank itself did not experience any significant damage. The longer-term effects of this disaster on the business community are something we are monitoring and assessing carefully. We'll continue to support and invest in the recovery effort in both Sonoma and Napa County. The underpinning of our success through the business cycle has always been our strong credit culture, and 2017 was no exception. At year-end, nonaccruals were still extremely low at 0.02% of total loans. We did make a $500,000 provision for loan losses due to the continuing organic loan growth. Risk factors associated with potential long-term impact from the recent wildfires and the acquisition.

In addition, our Board of Directors declared a cash dividend of $0.29 per share on January 19, 2018. This represents the 51st consecutive quarterly dividend paid by Bank of Marin Bancorp. It is worth noting that the bank has never reduced the dividend.

Now let me turn it over to Tani for additional insight on our financial results.

Thank you, Russ. Good morning. As Russ mentioned, when comparing 2017 earnings for the fourth quarter and full year to earlier periods, it is helpful to refer to the table on Page 5 of our press release. This table begins with reported earnings for the period shown and removes the impact of acquisition-related expenses and the deferred tax asset write-down associated with the Tax Cut and Jobs Act of 2017, which was passed in December. 2017 non-GAAP comparable net income of $20.5 million and $3.28 per share demonstrate the same underlying strength as 2016's record earning, when you consider that $2.9 million or $0.47 per share of 2016 earnings were related to loan recoveries and early payoffs of acquired loans.

As we walk through the income statement, quarter-over-quarter comparisons also demonstrate continuing growth and profitability while investing in our team and our platform. 2017 fourth quarter net interest income was $20 million compared to $18.8 million in the third quarter and $18 million in the fourth quarter last year. For the year, net interest income totaled $74.9 million compared to $73.2 million in 2016. The higher level of interest-earning assets in 2017 more than offset the interest recovery and accelerated acquire loan accretion of 2016.

Noninterest income in the fourth quarter was $2 million compared to $2.1 million in the third quarter and $2.5 million a year ago. 2016 benefited from a $347,000 special dividend from the Federal Home Loan Bank of San Francisco. And in 2017, we recorded net losses of $195,000 on investment securities, sold mainly due to changing tax law ramifications. For the year, noninterest income was down $893,000 due to the special FHLB dividend and gains on the sales of investment securities in 2016. Fourth quarter 2017 noninterest expense was higher than third quarter, primarily due to $2.2 million in acquisition-related expenses. Noninterest expense increased $3.3 million over Q4 of 2016 and $6.1 million over the full year 2016, not only due to acquisition-related expenses but also to additional staff, annual merit increases and higher insurance expenses, partially offset by lower FDIC assessment.

The effective tax rate of 44.6% for the year was elevated by 10.5 percentage points due to the deferred tax asset write-down. Without this charge, the effective tax rate would have been slightly lower than the previous 3 years. Of course, the acquisition and strategic hires we made during the year impacted our profitability and efficiency metrics for 2017. The efficiency ratio for the year was 64.7%, 2.2 percentage points of which was related to acquisition expenses. Acquisition expenses and tax law changes reduced return on assets by 22 basis points to 0.75%, and return on equity was reduced by 186 basis points to 6.49%. We have every expectation that the investments made in 2017, coupled with the new tax law, will position Bank of Marin for improved efficiency, higher returns and EPS accretion over time.

Finally, a few words on our balance sheet. Our loan loss reserve to total loan, including acquired loans, was 0.94% at December 31, 2017, 1% at September 30 and 1.04% at December 31, 2016. Based on our legacy portfolio only, the ratio of loan loss reserve to loans was 1.06% at December 31, 2017 compared to 1.05% at September 30.

The loan-to-deposit ratio was 78% and our constant deposits remains low at 7 basis points. We have plenty of liquidity and capital to support growth in the coming year.

And now I will turn the call back over to Russ for some closing comments.

Thank you, Tani. As you just heard, we achieved a great deal in 2017. We grew deposits and loans organically by expanding our existing customer relationships and developing new ones. We hired the right people to strengthen our platform and to help unlock future growth opportunity. We completed a strategic acquisition that enhances our position in Napa as well as the wine sector, and we did all that while continuing to deliver strong financial results. By any measure, we had a productive year, and we appreciate the efforts of everyone on our team who contributed to this success. Importantly, the investments we made in both organic growth and the Napa acquisition in 2017 should position us very well for 2018. In the coming year, we'll continue to evaluate strategic M&A opportunities that fit with our culture and add value for our shareholders. We continue to have conversations with banks in markets that we find appealing. A primary focus for 2018 will be organic growth, which we are set to deliver based on strengthen of our team, our expanded footprint in the Bay Area market, our track record and reputation, and our relationship banking model. I'm pleased to report that our new hires from 2017 and the Bank of Napa team are off to a great start. Our team has never been stronger. Our new CLO, Jim Kimball, has been out in the field, meeting with bankers and developing sales and marketing strategies, to better serve existing customers and attract new ones. Jim's proven track record of building and leading productive banking teams is a great asset for the bank.

Last year, we enhanced our market division through the acquisition of Bank of Napa, expanded our presence in Sonoma County by opening our Healdsburg office, and our Oakland commercial banking team created real momentum in the very lucrative East Bay market. The addition of key people and the expansion of our footprint have bolstered Bank of Marin's already strong reputation. This has allowed us to continue to build market share, even as more community banks are migrating to the attractive Bay Area market and the Central Valley and Southern California.

We believe our strong competitive position is in large part due to the relationship banking model that has served us well for the past 28 years. It has a distinct advantage when it comes to building trust and long-term relationships with clients and generating loan growth and a low-cost deposit base. We expect that with the recently passed tax reform, many businesses will be investing in growth and we look forward to supporting their growth plan. As we continue to serve customers across a wide range of industry sectors, from wine making to nonprofit organizations, we will remain focused on this model. We are excited about the future and the many opportunities we see to enhance the value of our bank. I want to thank you all for your time this morning, and now, we will open it up to answer your questions.

(Operator Instructions) Our first question on the audio lines comes from the line of Jeff Rulis with D.A. Davidson.

Russ, I may have missed your -- did you list the final loan and deposit totals from Bank of Napa, do you have those available?

They're actually in the release, if you look on page -- give me one second, Page 6 of the release. You can see loans were $135 million and total deposits was $250 million rounded.

Okay, sorry about that. Russ, just going back to the -- you said that '18 strategic focus is on organic growth. Could you put that into any context of -- it sounds like '17 was more of a reinvestment or acquire acquisitions and while you continue to look for those. I don't know if that means that the -- your organic expectations for '18 would be greater than '17. If you could, kind of, put any words around your expectations versus '17 and '18.

Sure, let me frame it like this. In '17, we did make the acquisition. We also make some strategic hirings, including Jim Kimball, Scott McAdams and opened an office in Healdsburg. And so, as we look to '18, we continue to talk to banks about potential acquisitions. However, acquisitions happen when they happen and it's difficult to plan for that. So we focus -- we're focused on this year coming up on strategic -- on organic growth. And we think we're in a great position. We have -- since Jim came over, Jim was with Wells Fargo prior to being here, he's got a lot of experience in the North Bay in particular. So, bringing that knowledge and experience and in addition to that Scott McAdams in Napa has the same, a lot of experience in North Bay and so I believe that as we go forward, we're going to see some real results out of these markets because of the people we brought on, and their -- and the teams that they attract as we go forward. So organic growth, we're more confident about organic growth in the future. I can't give you numbers because we don't give guidance on that but needless to say, we're -- our expectations are high in terms of what we can do in this market.

Got you. So I guess, if you have 4% organic growth in '17, that would be at the low end of what you think in '18?

Like I said, our expectations are high for this -- for our growth, going forward.

Fair enough. And so I guess as that ties into the provision level you alluded to this quarter that the pickup there was based on growth and kind of the unknown risk from the fires. Any comment on provisioning levels as you are more optimistic perhaps, on growth and that unknown -- any commentary on the provisioning levels?

Sure. First of all, the provision is really -- the growth that we experienced in growth that we -- in terms of growth expectations in the first quarter. So some of that is related to that because we really anticipate that there is a fair amount of loans that we'll book in this first quarter. There's a pretty strong pipeline, and there's a number of loans that carried over that we -- frankly, our expectations were they'd close in the fourth quarter and they didn't so not because of anything going wrong, it's just sometimes they don't make it. So our expectations are very high for that first quarter. In addition, as we mentioned about the fires, we really don't know what the long-term impact of that is going to be. And so, part of the provisioning is really, kind of, safety, just because we don't know what the impact and we plan for the worst and hope for the best, that's kind of the way I would term it, so part of it is that. And whenever you have an acquisition, it takes time to integrate that and it does change the organization to a certain extent, so we provision for that, that being said so far, this acquisition has gone really well. And the people are terrific that we've -- from Bank of Napa, that we've acquired. Their culture matches us exceptionally well, and so we're very, very pleased thus far as we move towards full integration, which will be in April.

Okay. And then, two quick ones for Tani. Just -- the merger cost, $1.7 million this quarter. What categories did those come from and are we anticipating more merger costs going forward and then the next one on just your expected tax rate in '18 and '19.

Okay. On the merger cost, those are running pretty much in line with what we expected. Our most recent forecast is that when all is said and done, there will be a little left then we modeled when we evaluated the deal. We are looking at 2018, we think we have about $1 million more to go, roughly. And did you have another part of the M&A cost question?

It was more -- yes, and within the line item, was that in data processing? If I were to, kind of, itemize that in salaries or ...

Yes. So the biggest component of the acquisition expenses are in the de-conversion in the prior Bank of Napa data processing provider and conversion expenses to our data processing provider. Termination expenses on the data processing provider from Napa and then also professional services. So there are a lot of costs associated with getting the deal done in terms of writing the S-4 and other filings that we have to do with the SEC that have legal and accounting expenses associated with those. Okay, and then on the tax question, we do expect the tax rate to go down associated with the change in the tax law. There are -- so it's not entirely additive because there are some prominent differences that as a percentage of effective tax rate change because they're hard dollar related. But going from a 35% tax rate to a 21% tax rate on a federal basis is going to have a significant impact on our tax rate and reduce it.

Okay. I read that -- there's some puts and takes there if you were in that 34%, 35% previously, down to 21% at the corporate level in that ballpark, is a decent assumption?

I'd say, if you take it down 10 percentage points, that's going to be conservative.

Our next question comes from the line of Tim O'Brien with Sandler O'Neill.

This is Thomas [Kagan] on for Tim. So somewhat similar to the previous question on just the data processing and professional service costs that came in around $2 million and $1 million in total for the quarter. I know you've broke it out for the acquisition, are there any other nonrecurring items in either of those and do you guys have a ballpark run rate range for each of these 2 items?

So those are the significant items. There's not anything significant embedded in other places associated with those and with regards to other things that might impact the income statement going forward, you have scheduled accretion for the acquired loans. Of course, we don't know what impact any early payoffs are going to have on net interest income but the scheduled accretion is a very small amount. So if you look at the table on Page 4 of the press release, which talks about accretion and gains on payoffs and purchase loans, you can see that scheduled accretion was 4 basis points for the fourth quarter. I don't think that'll go up by much for scheduled accretion, going forward.

Okay, great. And just one quick additional thing. Is there any additional benefit, if any at all, remaining from your guys' tax strategies that could influence the tax rate going forward?

Could you repeat that question one more time? Sorry.

Yes, yes. So just -- I know you guys just mentioned some info about the tax rate. But if for your guys' tax strategies, is there any potential -- anything that you might do in the future that could influence the rate going forward in addition to just kind of the recent tax law changes?

I mean, one of the things we do is we do have a fair number of financings that we've done and continue to do going forward for tax and borrowers. And those are accruals and [indiscernible] and things of that nature. But that's an interesting question because, obviously, the tax rate will affect the pricing on those. And in our portfolio, currently that's one of the things that those deals are priced based on -- with the taxing time. Although, on many of them, we have the ability to make changes in those rates. So as we go forward, we're going to see how that market, kind of, settles out because there will be some -- certainly be changes in the pricing of tax-exempt deals with only a 21% corporate tax rate that will make them less attractive, certainly, to the borrowers and can close the gap somewhat to taxable financing. So we have to kind of step back on that particular program that we've been doing, just to evaluate what we want to do and how we want price deals going forward and that's how (inaudible) pricing is harder to (inaudible)

Our next question comes from the line of Jackie Bohlen with KBW.

You had mentioned some lending in Oakland, and just the increase that's been going on there. Can you just provide a little bit more color on what some of the drivers of that are?

I would say, the drivers of that are the team that we've assembled there. And we have -- that particular office has really put together a very effective team of lenders, business development officer, personal bankers who, who were out in the market and generating opportunities. That has been probably the most effective office we've had in our system over the last year. And we're in a market over there, and East Bay is, as you probably are aware, through that 880 corridor there's a tremendous number of C&I type opportunities. A lot of light manufacturing, distribution, wholesalers, things of that nature, which gives us great opportunities to build our portfolio. And that team is doing a really terrific job. And the result is pretty easy to see. When you have great results, you usually have great people. That's the reason, and those people are performing very -- at a very high level right now.

Okay, that's very helpful. So that sounds like it's something that will continue to be a good source of growth for several quarters to come, into the foreseeable future, I would guess?

Yes, we certainly anticipate that. And obviously, we expect -- our expectations for our other offices is that they would grow at a higher level too. So...

Okay. And then one last one for me. In terms of deposit pricing in the quarter, how much of that was related to the acquisition?

So our cost of deposits really didn't change, and we did get some contribution in our DDA noninterest bearing accounts from Napa. We do get -- periodically, we get a request from somebody who is seeing rates going up but we haven't gotten a lot of pressure thus far to raise our rates. We haven't changed our pricing on our rates yet and I think our relationship model serves us really well associated with our deposit pricing because we have such a big percentage of DDA accounts. And those are really operating accounts and are not as interest rate sensitive.

Okay, so no -- really not getting much pressure at this point in time, even with the December rate hike from customers?

We certainly get pressure. I'm not going to say that we're not getting pressure. But that being said, what Tani said about the relationship banking model and demand deposits. We had growth of $90 million in demand deposits in the fourth quarter. That speaks to the relationship model and while we're getting pressured, certainly in the money market accounts, things of that nature, we're growing the demand deposit at such a clip that our cost of funding still -- I mean, cost of deposits remains at 7 basis points. Which is a pretty nice benefit that we have and really a value of our franchise that we have the -- the high levels of demand deposits which keeps our cost of funding. And you know that the differential, as we go forward, if rates continue to rise, the differential and the value of this deposit franchise that we have will show an even greater amount in the future because that margin will expand because of that.

(Operator Instructions) Our next question comes from the line of Don Worthington with Raymond James.

Just while we were on the deposit subject, was there anything in the $90 million that you would consider to be temporary that you might lose in the first quarter?

We do have a number of large borrowers, who -- I mean, large depositors, who have -- who keep substantial deposits in the bank. But, I'll give you a couple of examples. We have some large contractors who do a lot of municipal work. And when they get a new contract then they get funded and the money comes in the bank, and then they -- as they do the work, the money goes out. But they're also bidding on other projects that brings other additional funds in. So while the money comes and goes, the totals are pretty stable. So we have that and there is a number of those that -- those types of -- not all contractors but -- a number that have exactly that, that they have money coming in, we have an ad agency, as money coming in, and then goes out. It's those kinds of deposits which while are large and they are kind of transitory deposits, there's others -- there are other deposits replacing on the other end. So we've been pretty [indiscernible]-- we watch that pretty closely. And this year we had less of the migration out than in past years so it was not a dip, the deposits grew over the year. We really never ever had a time, when we had a big decline.

Okay. All right. And then in terms of the securities portfolio, would you plan to be doing any more restructuring of that, that might lead to gains or losses?

So, maybe a little bit more as -- but we evaluate the portfolio on an ongoing basis, and we're looking for upcoming changes, not only with regard to changes in credit on any one of -- any security in our portfolio but also what the tax law ramifications, their impact will be on the portfolio. We think we have most of that done but there are a few other securities that we might take action on. But I'd say the bulk of it is probably done at this point.

Okay. And then, I guess, my last question is, in terms of the benefit from a lower tax rate, any thoughts on how that might be deployed? Your expenses, initiatives or a dividend policy?

We're evaluating dividend policy, certainly. And we evaluate other ways to utilize the capital through growth opportunity. We look at it as an opportunity to make investments that maybe we would have -- in a shorter-time period, maybe would have made over a longer-time period. And so we're looking at all those opportunities. And obviously, acquisitions as they come along, building capital here. The problem with acquisitions these days seems to be that most acquisitions are mostly stock. So we don't utilize a lot of capital to create more capital. So I think we're -- for us, it's an opportunity to step back and say, okay, so what kind of investments do we -- should we be making, and maybe we would have deferred but now might be a good time to invest because our earnings are going to be up substantially because of the tax change and it really does give us that opportunity to look at those investments.

And our last question is a follow-up question from the line of Matthew Clark with Piper Jaffray.

I'm hoping to get a little more color around your commentary about the pipeline being substantial. I know your year of comparisons aren't good with the Bank of Napa acquisition. But can you, kind of, sensitize maybe Legacy Bank of Marin, and how that compares year-over-year and how much of it might be fire related with may be increased demand there or just a change in the environment with tax reform?

I don't see, to start with the fire related. I don't see a lot of demand from the -- which is fire related at this point. It takes -- it's going to take a long time to where they actually have projects that are starting to rebuild. It just takes a long time to get through the process. We have a pipeline which, going into this year, which is pretty substantial, particularly because we had -- it was one of those interesting times in the month of December, we had a big number that was we thought might close, and virtually, none of it closed and all of it got pushed over to the first quarter. So we're looking forward to a good first quarter there. And what else was your question, I don't remember beyond that?

I was just trying to -- yes, just around tax reform, any kind of early indications of increased activity there?

Yes, I don't see it yet. But, but that's going to be developing over the next, I think, 6 to 12 months in terms of, kind of, like with us, when we say maybe we look at projects which we might have delayed, maybe we'll do them right now. We have customers, I'm sure, that will be looking at opportunities to do things that maybe they would have delayed, but now with the tax law change, they've -- and they have more capital available to do those projects. And that would, potentially, lead to opportunities for us for financing. I'm very optimistic going forward about the opportunities that it's going to bring with it. Because our customers will have more cash, more capital available to invest than they had previously and I think just like with us, I think that's going to happen.

Okay. And then just last one on the targeting cost [base] for Bank of Napa. Any change in terms of the magnitude and timing as to how those are realized?

I don't think so at this point. We originally estimated 42.5%, and as far as we know right now, that's where we are on target with but we'll know more, I think, as we go forward.

[Indiscernible] we'll see opportunities to reach beyond -- beyond any other [indiscernible } we're looking at-- things we never, we didn't put into the plan at all, we have to look at facilities and how we might be able to right size those, not move, not get out of the facilities, but there's a lot of space maybe we can reduce our space. There are things that we can do to become more efficient in those -- in Napa. So that will happen over the next 6 to 12 months, for sure.

Okay. And just one quick one, and I apologize if I missed it in your comments, I jumped on a little late. But can you -- tax rate that you expect in 2018, we have our own guesstimate, curious what you guys think it will shake out at?

Yes, what I shared a little bit earlier was that if you assume about a 10 percentage point decrease in the effective tax rate, that would probably be a conservative estimate.

I have no further questions on the audio line.

Okay. I want to thank all of you for joining us this morning, and we will talk with all of you again next quarter. Thank you.

Thank you.

Ladies and gentlemen, this does conclude the conference call for today. We thank you for your participation, and ask that you kindly disconnect your lines. Have a good day, everyone.