Community Financial System Inc (CBU) 2004 Q2 法說會逐字稿

Good morning, everyone.

Thank you all for holding.

Welcome to the Community Bank System call.

Today's call will begin with a presentation, followed by a question-and-answer session.

Details on that feature will follow later in the program.

Before we begin today's call, I'd like to remind you that this presentation contains forward-looking statements within the provisions of the Private Security Litigation Reform Act of 1995 that are based on current expectations. estimates and projections about the industry, markets and economic environment in which the Company operates.

Such statements involve risks and uncertainties that could cause actual results to differ materially from the results discussed in these statements.

These risks are detailed in Company's annual report and Form 10-K filed with the Securities and Exchange Commission.

Now, I would like to introduce today's call leaders.

Mr. Sanford A. Belden, President and Chief Executive Officer;

Mr. Mark E.Tryniski, Executive Vice President and Chief Operating Officer, and Mr. Joseph J. Lemchak, Senior Vice President and Chief Investment Officer of the Community Bank System.

Gentlemen, you may begin your call.

Thank you very much, Judy.

Welcome to our second quarter 2004 investor call, where we are joined by phone by Scott Kingsley, our new Chief Financial Officer who will start August 2nd, as you know from the press release.

And I would observe that Scott is in the same mode as the rest of you, so this is the last of these calls, Scott, where you'll be able to participate in a non-speaking way.

Both Mark and I are pleased with our very solid second quarter results.

I will comment on three salient features of our performance and then turn things over to Mark for his commentary.

The lead story this quarter is about our significant and persistent focus on asset quality which produced improved non-performing asset levels, delinquency levels, net chargeoffs and associated reductions in provision expense.

This quarter's metrics are the best since our pre-2001 acquisition metrics and result from the addition of workout resources, resolution of certain non-performing assets, continued improvement, albeit modest, in the upstate New York and northern Pennsylvania markets; and most importantly, an organization-wide commitment to asset quality.

The lead story this quarter shares top billing with the successful acquisition and assimilation of First Heritage.

The conversion experience was seamless and the assimilation has proceeded at levels of effectiveness equal to our expectations.

We are satisfied with the quality of First Heritage's business and especially delighted with the quality and effectiveness of the staff.

We have already announced a de novo branch expansion in the Hazelton market.

Staying with the theme of high quality acquisitions, we're all looking forward enthusiastically to the arrival of Scott Kingsley and introducing him to you in the ensuing weeks.

The third story is about our loan growth during the second quarter.

Organic loan growth was up almost 7% on an annualized basis from the end of the first quarter, featuring excellent growth in our installment and mortgage businesses and the reinvigoration of our commercial lending business, attributable to very solid growth in New York and a stabilizing pattern in Pennsylvania, where the deeply experienced commercial lending team from First Heritage has already begun to make a difference.

Mark?

Good morning.

As Sandy said, we're very pleased with our second quarter earnings results, with operating basis EPS up 5% from the second quarter of 2003 and year-to-date results up 7% over the corresponding 2003 period.

These results were driven by growth and earning assets, improved asset quality and revenue growth in our wealth management and employee benefit businesses.

I'll first address the changes in our balance sheet, which were significant relative to the immediately preceding quarter, as well as the same quarter of 2003.

Earning assets were up $530 million over the first quarter 2004 to $3.9 billion.

This increase reflects the impact of the First Heritage acquisition, which closed mid-May, including $206 million of acquired loans and investment securities acquired and purchased of $288 million.

After a first quarter of less active loan generation, annualized organic loan growth of 7% in the second quarter added $35 million to earning assets during the quarter.

This balance sheet growth was funded by acquired deposits of $212 million and increased filings of $341 million.

Our capital levels remain strong with a tier 1 leverage ratio of 698 and a tangible equity ratio of 510.

The tangible equity ratio declined from 629 at the end of the first quarter due principally to a $31 million reduction in investment market value and to a lesser degree to our stock repurchase program and to investment purchases.

The low interest rate environment and flattening yield curve in the second quarter resulted in a lowered net interest margin, declining to 447, from 459 in the first quarter and 471 in the second quarter of 2003, in all instances excluding the impact of accretion on culled securities.

The yield on interest-earning assets declined 18 basis points from the first quarter, while the cost of funds declined only five basis points.

Despite this expected compression, we remain very pleased with our margin levels relative to peers in this ever-more-challenging interest rate environment.

Loan loss provision for the current quarter of $2.3 million was down from $2.7 in the second quarter of 2003, despite a $388 million dollar increase in average loans, as net chargeoffs, delinquencies and non-performing loans reached their lowest levels in several years.

Provision for the six months through June of this year, $4.4 million compares to $6.1 million for the same period of 2003, declining as a result of the same asset quality improvements.

Non-interest income, excluding securities gains, was up 21% over the comparative 2003 quarter, slightly less than half of which is the result of the acquisition of Harbridge Consulting Group in July 2003.

We're particularly pleased with the performance of our wealth management businesses this quarter, which continue to strengthen and delivered a 35% increase in revenues over the second quarter of 2003, and a 21% increase over the first quarter of 2004.

Excluding acquisition costs, operating expenses were up 17% over the 2003 quarter, due principally to the four acquisitions we completed over the past year, and to a lesser degree to increased compensation and benefits costs.

Our operating efficiency ratio of 53.2 compares favorably to our expectations and to 54.4% for the second quarter of 2003.

Lastly, we noted in our April press release and conference call related to the first quarter that management had been evaluating the prepayment of certain Federal Home Loan Bank borrowings to strengthen the Company's interest rate sensitivity and earnings profile.

As a result of subsequent changes in the interest rate environment, we were more effectively able to achieve our objectives through a combination of securities investments, deposit management and intermediate-term fundings from the Federal Home Loan Bank.

That concludes the prepared remarks, and we would now ask Judy to open the lines for questions.

Thank you, sir.

If you have a comment for your speakers, please press 1 on your touch tone phone.

We have a question from Claire -- and I apologize -- the last name, I believe is Percarpio, from Janney Montgomery Scott.

Ma'am, your line is open.

Thank you.

Good morning.

Nice quarter.

Thanks, Claire.

Thank you Claire.

I've got a handful of questions, if I can?

Sure.

First, the -- thank you for giving us the organic loan growth.

Do you-- by any chance, have calculated the organic revenue growth and organic deposit growth, linked?

If not, we can get back -- we can, you know, come back to that, Mark.

Let me throw out a couple of easier things.

I just wanted to make sure I got the change in the OCI number correct from what you said.

Can you give us again the OCI number and what the change was from last quarter?

Yes.

It was-- the market value, it's $16.3 million, is the market value adjustment at the end of -- at the end of the year.

That's the equity component you're asking for, right?

Yeah.

Yeah.

The unrealized bond losses that flowed through the equity that reduced the benchmark?

Well, we're still -- well we're still in a gain position of $16 million at the end of the quarter versus $47 million at the end of the first quarter.

So the reduction in OCI quarter to quarter was about $31 million.

Okay.

I thought you said 31.

All right.

Thanks.

And, then, can you tell us the duration in your interest sensitivity position at this point?

In the bond portfolio?

Claire, I can certainly get you the information on the duration.

Duration really hasn't changed much, even with the purchases that we did.

And it's very similar to the number we gave you in the first quarter.

The duration currently is 5.39 and we're projecting, if rates go up 200 basis points, that changes to 6.31.

And if rates go down 100 basis points, we're projecting that that moves modestly down to 4.58.

Okay.

Great.

And then what's your interest sensitivity position to up 100, up 200?

We're still within our policy limits in those particular interest rate scenarios.

And we do have a policy limit of 5% change, up or down, in those rate environments and so we are within those limits.

Okay, and that 5% change is on NII or net income?

I forget.

Net interest income.

Okay.

Great.

Last thing.

Wealth management's got nice traction.

Can you give us any color on that?

Well, the markets are improving, Claire.

It's not just that.

I think that we've -- we've redoubled our efforts in many of those businesses to expand markets and expand product offerings, and those product offerings are starting to get some traction in the market.

So I think it's attributable to our efforts in expanding those businesses, as well as improving market conditions.

And we've also been rolling out an integrated marketing plan, integrated in the sense of better coordination amongst our various wealth management businesses, as well as between the banking business and that set of businesses.

So I think that organizationally, we've achieved a higher level of effectiveness.

We're certainly not where we want and expect to be in that regard, but we have made some considerable headway and that's been beneficial as well.

Great, thank you.

Nice quarter.

And, Claire, lest you think we can't answer all of your questions completely and in a timely fashion, our linked quarter organic deposit growth was 0.2%.

Thank you.

You're welcome.

Thanks, Claire.

Thank you.

Your next question comes from Bill McCrystal from McConnell, Budd & Romano.

Sir, your line is open.

Good morning, Bill.

Good morning.

No particular order to these questions, but, as to quality, you obviously are pleased with the improvement on a linked-quarter basis.

Do you think you're at levels -- where do you think you can get to in terms of, you know, levels that are just almost systemic where, you know, you don't think you can make much more improvement?

Are you there yet?

I think we're reasonably close to being there.

I would say, Bill, I think chargeoffs in the 30-35 basis point range would be a good sustainable level for us.

I think if we can get the NPAs to total loans and ORE down in the 50-55 basis point range, we would be happy with that.

So we think that we're essentially at sustainable levels, given the composition of the portfolio and our considerable experience with it.

Okay.

And, then, in terms on the loan portfolio, one, a sense of the pipeline, and two, if you could expand a little bit about on the indirect portfolio?

I guess somewhat surprised at the performance there.

I know you were a little -- not as much tied into the new car market.

Right.

And certain incentives aren't as significant?

Right.

I wonder if you could just expand on that?

And we have been adding quality dealers.

That's been driving part of the growth and I'd say especially in Pennsylvania, we've been adding quality dealers and we always are looking for new dealers to bring into the program.

So that, I think, has a significant benefit.

Sandy, just, if I could.

Sure.

Could you give a sense of the average FICO score on that?

Is that something you have handy?

I don't have it handy.

We do have that, we track that quarter by quarter.

We'll call you back with that number, Bill.

Okay.

The vast majority of that portfolio is A and B paper.

I think it's like 80%, Bill.

I can get back to you with what the FICO scores of that portfolio are.

And the FICO scores in the composition of the portfolio that’s A and B, have both been improving.

Okay.

And Sandy, just generally, on the pipeline, how it stands relative to where it's been?

Well, the mortgage pipeline has remained surprisingly strong and the commercial pipeline is increasing.

We're beginning to get some traction in Pennsylvania, and we were just talking about this before we began the call.

We're up a couple of million dollars from the end of June in Pennsylvania.

So that's certainly a very encouraging sign.

And we've seen, as I mentioned in my remarks, some stability in the economies, particularly in the southern tier.

The improved prospects for Corning are certainly beneficial to our interests down there and to the economy down there.

And milk prices, as you probably know, have been at an all-time high, which has given our farm customers, farm borrowers, some nice cash flow relief, too.

Okay.

And then just finally, if you could touch on some of the assumptions for your margin and generally, interest rate assumptions for the rest of the year?

Well, we expect, as we discussed in the January call, relative to expectations for the full year, that the margin would continue to decline.

We think that that's going to be the case throughout the rest of the year.

I think we said that we expected the margin would be 460 or so, full-year for this year.

I think that it won't be that.

We're at 458 right now.

It's probably going to be in the, you know, mid-to-high 440s or somewhere in that range.

We would expect, Bill.

Okay, and what kind of assumptions are, as far as what we're expecting in additional interest rate hikes?

Behind that?

Well, I don't -- I don't think that that incorporates every potential scenario that could evolve.

I think if there are quick and substantial interest rate increases, that would have a potentially greater effect on our margins.

But, as Joe said, we're very well balanced, as well.

We've got a very large percentage of core deposits on the books, so we're very well positioned, even if the interest rate increases continue.

The other point I guess I would make on that regard, relates to the magnitude of variable or short-term repriceable assets to loans, in particular, on our books.

About 55% or so, maybe a little bit more, of our loan portfolio is variable.

That percentage was helped by-- even further by the addition of the First Heritage portfolio, which is about $160 million of mostly prime-based commercial business credit.

So, between those repriceables, the ARMs we have on our books, and in addition, the $500-plus-million of installment loans that have very short durations -- I don't know what the numbers are off the top of my head, but it's in the couple-year range.

So those will -- I mean, the turnover there is rapid as well.

So if you look at the 20%,-plus, of the portfolio that's indirect, it replaces quickly and the 55-60% that's variable, we do have a lot of cushion against the rising rate environment.

Very good.

Thank you.

Thanks, Bill.

Thank you.

If anybody else has a question or comment, please press 1 on the touch tone phone.

We have a question from David Chiaverini from Advest.

David, your line is now open.

Hi, David.

How are you doing, guys?

Fine, thanks, how are you?

Pretty good.

Just one quick question.

The residential mortgages that you're putting on, are those all ARMs or a combination?

I would say they're primarily fixed.

They're mostly fixed, Bill, at this point.

Okay.

Fifteen-year or thirty-year?

Most of them-- both, I think more 15 than 30.

Okay.

Okay.

All right.

That was my only question.

Thanks.

Good, thanks, David.

Thank you.

If there are any further questions, please press 1 on the touch tone phone.

I believe we have no further questions, gentlemen.

Thank you all very much and we'll talk to you at the conclusion of the next quarter.

Thanks a lot.

Thanks, Judy, goodbye.

Thank you have a great day.