Community Financial System Inc (CBU) 2005 Q3 法說會逐字稿

Good morning, everyone, thank you for holding.

And welcome to the Community Bank System call.

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

Instructions on that feature will be explained 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 Securities Litigation Reform Act of 1995.

That are based on current expectations, estimates, and projections about the industry markets and economical 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 the Company's Annual Report and Form 10-K filed with the Securities and Exchange Commission.

Now I'd like to introduce today's call leaders.

Mr. Sanford A. Belden, President and Chief Executive Officer, Mr. Mark Tryniski, Executive Vice President and Chief Operating Officer, Mr. Scott Kingsley, Executive Vice President and Chief Financial Officer, and Mr. Joseph J. Lemchak, Senior Vice President and Chief Investment Officer of Community Bank System.

Gentlemen, you may begin.

[audio gap] -- we look forward to reviewing and discussing our all-time record performance this quarter, which continues the strong performance we've been building throughout 2005.

Organic loan growth this quarter maintained solid results in the second quarter, and featured good success in installment lending and mortgage lending.

Asset quality continued the consistent, reliable profile we have produced over the last several quarters.

We're especially pleased and proud, to have successfully enhanced our interest rate risk profile in this flattening yield curve environment, through security sales, and to record gains when others have absorbed losses to reposition their balance sheets.

Our durable skills and investment management and management of our [Alco] and interest rate risk profile, have served us very well, and augured equally well for our ability to capitalize on long-term opportunities, as does our enhanced capital strength and flexibility.

Speaking of capital strength and flexibility, we have been active evaluators of recent M&A transactions in our marketplaces, which have been consummated outside of our financial disciplines.

Mark?

Thank you, Sandy, and good morning to everyone joining with us on the call today.

We are pleased with the quarter, notwithstanding the impact of an expected nonetheless challenging, decline in margin.

With that said, however, we are satisfied with margins that remain very favorable to peers.

I'd like to focus my comments on three broad topics of note before Scott provides a more detailed discussion on third-quarter financial performance.

First, we are pleased with the nearly 7% annualized loan growth we generated during the past two quarters, as well as the three consecutive quarters of deposit growth.

But as important as thee results are, many of the operational actions underpinning these results are equally worth understanding.

After aggressive acquisition growth the prior two years, 2005 brought us the capacity to finalize integration, and to focus our efforts on a variety of revenue-enhancing and cost-saving opportunities.

In the first six months of 2005, we redesigned and simplified our branch goals and incentive systems, while strengthening their communication and progress reporting processes.

All of this improves our branch's overall productivity and clarifies expectations.

We also intensified our commercial business development efforts, which have resulted in double-digit growth in some markets, but overall results are not yet where we want them to be.

There's still more we need to do, and will do in this important area.

We completed the integration of the 2004 First Heritage acquisition, allowing us to increase attention on business development efforts in Pennsylvania.

We streamlined many of our lending processes to improve turnaround time to customers, and improve operational efficiency.

We also added a number of banking and fee initiatives in the first and second quarter, that are now beginning to show up as revenue.

And the best part of these initiatives, was that they were not fee increases, but rather increases in penetration and usage, of existing products and services.

We restructured our marketing and sales function, and improved the effectiveness of our advertising, which has been important in supporting the past two quarters' growth.

Our marketing changes also included improving employee sales and product training, and implementing customer and non-customer surveys, to give us much better market information.

We've implemented a number of technology tools in the branches and in lending, that vastly improve the quality and efficiency of customer service.

As you can see, a major highlight for us thus far in 2005, has been the company-wide improvements we've made operationally.

We've invested in and strengthened our infrastructure in many important ways, that will benefit our performance and earnings capabilities in the future.

The second matter of note I wanted to comment on, is our balance sheet and interest rate risk profile.

As we've discussed over the past three quarters, the flattening yield curve has reduced our net interest margins, and this quarter was no exception.

Over the course of 2005, we've repositioned our balance sheet, as we said we intended to do, to better favor a rising rate environment, and we've accomplished that by selling securities, and repaying and restructuring our borrowings.

All of these actions have reduced current and ongoing interest income, but more importantly, they have served to substantially reduce the impact of our near-term liability sensitivity in a rising rate environment.

More simply stated, we are much closer to the bottom, in terms of interest rate margin movement due to short-term rate changes, than we were at the beginning of the year.

Scott's going to provide some quantitative color on this point, but the progress we've made over the past three quarters in repositioning our balance sheet and improving our interest rate risk profile, will serve us very well in the future.

The final comment I have relates to overall operating efficiency.

Although our efficiency metrics have always compared favorably of peers, we've recently undertaken a number of initiatives to identify and quantify further expense reduction opportunities across the Company.

These are expected to include personnel, infrastructure, vendor, and other operating cost categories, and will be realized principally beginning in 2006.

We expect to have further information on the scope and scale of these cost reduction actions available within our 2005 full-year results in January.

And that concludes my comments.

Scott?

Thank you, Mark, and good morning.

Our third-quarter earnings of $0.48 per share were $0.03, or 6.7% above the third quarter of 2004.

Cash earnings per share, which excludes the after-tax effect of the amortization of intangible assets, were $1.48 for the first nine months of 2005, compared to $1.33 for the first three quarters of 2004, an increase of 11.3%.

We generated these increases through organic loan growth, higher non-interest income including securities gains, improved asset quality, and lower acquisition expenses.

Our results were also adversely affected by an increased cost of funds, higher recurring operating expenses, and a higher tax rate.

Third-quarter earnings were also $0.02 per share, or 4.3% above this year's second quarter.

I'll first discuss the balance sheet.

Average earning assets were down 3.9% from the third quarter of 2004, and declined 53.8 million, or 1.4% from the end of this year's second quarter.

Average loans were up 44.9 million from the June 30, 2005, quarter-end, while investment securities decreased 98.7 million.

As Mark previously mentioned, we again generated solid consumer installment and mortgage loan growth in the third quarter.

Additionally without the noticeable declines in our automotive dealer floor plan portfolio, business lending would have been flat for the quarter.

Although our decision to not reinvest securities, cash flows, and the current yield environment had a negative impact on current and future quarterly earnings, it continued to improve our overall interest rate sensitivity profile.

We also continued to take advantage of market conditions, and sold another $125 million of securities in the quarter, in order to shorten the average life of the portfolio and maximize its total return attributes, which added $0.11 after taxes to our third-quarter earnings.

Even with the $0.24 per share of year-to-date realized gains, the investment portfolio still contains net unrealized gains of $23.6 million as of September 30.

Deposits were up $8.4 million from the end of the second quarter, with gains in IPC balances more than offsetting some seasonal declines from municipal depositors.

They have increased $56.9 million, or 1.9% since the end of last year.

Borrowings were down $91.8 million, or 11.5% from the end of the second quarter, and have been reduced $213.9 million, or 23% on a year-to-date basis.

In addition, our cash and cash equivalents appear unusually high at quarter-end, due to the clearance timing of certain items through the Federal Reserve on the last business day of the quarter.

As you'd expect, cash and short-term borrowings were reduced by $44 million on October's first business day.

Our capital levels remained strong with our tier-one leverage ratio improving to 7.3%.

Our tangible ratio stood at 5.9% at September 30.

Also the Company acquired 380,000 of its shares during the quarter, at a cost of $8.9 million under the 1.5 million share repurchase program, authorized by the Board of Directors in April.

Shifting to the income statement, continued yield pressures resulted in net interest margin being reduced to 4.06%, from 4.35% in the third quarter of 2004, and 4.16% for the second quarter of 2005.

Earning asset yields declined 6 basis points, while our cost of funds rose 6 basis points, both versus the second quarter.

This was driven by rising short-term borrowing rates, as well as rate increases on certain time deposit and money market products.

Our loan loss provision was $2.3 million, compared $2.3 million in the third quarter of 2004, and $2.2 million in this year's second quarter.

The provision was 0.45 million above quarterly charge-offs of $1.8 million in the quarter, and was deemed prudent, due to our solid loan growth and stable asset quality metrics.

Our loan loss allowance to total loans outstanding stands at 1.35%, consistent with our levels at the end of both the second quarter and year-end 2004.

Nonperforming loans to total loans outstanding are at 0.56%, consistent with the end of the second quarter, and improved from 0.68% at the end of the third quarter of '04.

The current delinquency ratio of 1.46%, compared to 1.32% at June 30, and 1.47% from a year ago.

This favorable and stable asset quality profile is primarily the result of our enhanced credit risk management programs, and our continued emphasis on and adherence to disciplined underwriting standards.

Non-interest income, excluding securities gains, was up 8.8% over the third quarter of 2004.

Deposit service fees increased 7.1% over the prior year's third quarter, driven by several revenue enhancement initiatives begun in the current year.

Our employee benefits administration and consulting business, posted a 20% jump in revenues over last year's third quarter, thanks to new products to both new and existing clients.

Also our non-interest income this quarter included our annual dividends from the [Niva], credit life, and disability programs, and amounted to $0.8 million.

Operating expenses excluding acquisition costs and amortization of intangible assets, increased by 4.7% over the year-ago quarter from $27.9 million to $29.2 million.

This was due primarily to increases in salaries and benefits, at rates slightly above the consumer price index, and slightly higher occupancy and equipment costs, related to rising utility costs, and two new branches.

Amortization of intangibles declined 0.45 million from the prior year third quarter, due to the complete amortization of a specific traunch of core deposit intangibles from a late 1990's acquisition.

Excluding this amortization, our third-quarter operating expenses were even with the second quarter's level.

As Mark mentioned, we're aggressively looking to reduce operating expenses, including using branch staff and contribution models, vendor improvement programs, and technology upgrades that enhance customer service and productivity.

Our effective tax rate for the quarter was 27.4%, compared 26.1% for the second quarter.

The proportion of tax-exempt income to total income continues to be the significant determinate in our effective rate.

Lastly we expect a flattening yield curve to continue for the balance of the year, including a further decline in our net interest margin to a level in the 390s by year end.

We also expect to continue to pay down short-term borrowings with excess cash flows, including those from our securities portfolio during this current interest rate environment.

As such, our full-year earnings expectations of $1.68 to $1.70 per share excluding the impacts of any fourth-quarter securities transactions, remain consistent with our previous communications.

As we have stated before, if the interest rate environment creates more opportunities for substantive improvements in our overall interest rate sensitivity profile, while allowing for continued reduction in the average life of the securities portfolio, we may find it appropriate to pursue securities sales.

Conversely, if long-term rates move up, and the yield curve rises, we are very well-positioned to reinvest.

Our improved capital metrics also allows the flexibility to more actively fulfill our share repurchase goals, if market conditions and other conditions so warrant, and to continue to execute our disciplined acquisition strategy.

I'll now ask Linda to open the line for questions.

Thank you. [OPERATOR INSTRUCTIONS] Our first question comes from Kevin Timmons from CL King.

Your line is open.

Hi, Kevin.

A couple data points I'm looking for here.

On the other income line, that was up quite a bit Q2 to Q3.

Other banking service income line.

Is that all recurring in there, or is there anything non-recurring?

Kevin, the only thing that is probably not recurring in there, would be our adjustment of mortgage services rights, and in the second quarter, that was actually a small negative.

There was actually a bit of a pickup in the third quarter.

Not substantial in either quarter, but that's the only thing that's not a "Recurring item."

Can you tell me what the magnitude of the difference is?

It's probably under $200,000 net, Kevin.

Okay.

So -- that might have happened in the -- call it, $500,000 range, even adjusted for that, the quarter was still up over a recurring -- over a normalized number by close to $1 million-- or $500,000 bucks?

Kevin, the other item is that New York Bankers Association credit, life, and disability dividend.

That's in there.

Okay.

That was $800,000 in the current quarter.

It was a little over that in the 2004 quarter.

Third quarter.

Okay, I didn't realize that.

The deposit fees also were strong.

I think you mentioned that a little bit.

But any further [call] in there, that's also pretty much a core number to run with?

Well, as I commented, Kevin, we implemented a number of initiatives in the first and in the second quarter surrounding deposit service fees, that I'm happy to say were not -- for the most part, entirely not fee-related.

They were penetration and usage-related.

So, you know, we did get a good bounce off those initiatives in the third quarter.

And you know, we are hopeful that that trend rate continues.

Okay.

The amortization declined during the quarter, amortization of intangibles declined.

Is that now the run rate to use going forward?

Yes, Kevin.

I think it's fair to use probably a $1.5 million quarterly run rate.

We're going to have some items that will continue to come off.

But I think a $1.5 million quarterly run rate is pretty good.

That's good through '06 at least?

Correct.

Okay.

The FTE adjustment, I just have to ask this question.

Does it actual come out to be exactly the same in Q3 versus Q2?

Kevin, I asked that question about six days ago.

It actual did.

Terrific.

And finally, the assets under management had a decent pop this quarter.

Is that new business, or is that performance?

About $2.2 billion-- million to $2.33 [billion].

Kevin, I think I'll have to get back to you on that one for sure, as to the source of those.

You know, certainly the assets that we have through our employee Benefits Trust Group, tend to fluctuate a little bit.

I'll have to get back to with that answer.

I don't have that in front of me.

Great.

Thank you.

Thanks Kevin.

Thank you.

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

Your line is open.

Hi, Bill.

Good morning, Bill.

Hi, Bill.

I wonder if you'd just comment a little, on what you're modeling in if anything, into delinquencies and charge-offs, as a result of the surge in bankruptcy filings with the new law.

I think, Bill, as we said in the past, we think overall, our asset quality is about as good as we think we're going to run right now.

And, you know, we've been very satisfied with that over the last several quarters.

And certainly would hope for a continuation of that.

We haven't at this point we haven't modeled anything specific into our loss provisions there.

We've got some good historical data on consumer losses, which are principally in our installment portfolio.

And most of our modeling along those lines is done on a historical basis.

I mean, I don't think -- we don't expect to see a material change in those results because of the bankruptcy law.

But certainly if there were improvements along those lines because of that law, we'd be pleased with that.

And while we did see some rush at the end of the expiree of the old law, Bill, it was not as much as we expected it to be.

I don't know exactly what that means, other than being interesting.

But we thought we'd see a more rapid grade of increase in the filings, than what we actually experienced.

So I think Mark's exactly right.

We generally view it as being neutral.

But we'll certainly keep our eye on it here, in the early weeks and months.

Fair enough.

Thanks.

I guess in a more general question, throughout the markets, are you seeing any signs of real good growth in any of your markets?

I know it's -- obviously, it's a challenging environment, particularly upstate New York.

But is there any sort of, you know, silver lining that you see, or markets that look more attractive now?

Well, I would tell you regionally speaking, Bill, over the past quarter, we had very solid growth across all lending lines in the southern region of our New York market.

You know, the northern New York market held its own.

And the Pennsylvania market also showed growth overall.

But that's a much more competitive marketplace, particularly on the commercial side.

So I mean, I would say the standout, you know, performer if you will, would be the southern region markets of New York state over the past quarter.

In terms of economic growth, Bill, there's been very good growth in Jefferson County attributable in no small measure, to the expansion and activity at Fort Drum, not exclusively, but largely attributable to those developments.

So I'd say there's more economic activity going on in northern New York, than what we've seen for the past half decade.

Okay.

Thank you very much.

Thank you, Bill.

Thank you, Bill.

Thank you. [OPERATOR INSTRUCTIONS] Our next question comes from Damon DelMonte, KBW.

Mr. DelMonte, your line's open.

Good morning.

Good morning, David.

I was just wondering if you could clarify, your earnings guidance range of 1.68 to $1.70 which excludes fourth-quarter securities gains, where do you stand year-to-date for the first three quarters?

We're looking at $1.37, David.

Okay, great.

And with respect to the share buy-back, how many shares are remaining under the current program?

The current authorization still has a little over 950,000 shares approved.

Okay, great.

Thank you very much.

Thanks, David.

Thank you.

Our next in line is Rick Weiss from Janney.

Mr. Weiss, your line's open.

Hi, guys.

How are you?

I was wondering if you could explain the AL strategy in greater detail?

Some of the specific questions I have is, is there a target ratio that you might have for securities to assets, or borrowings to assets?

And also, if you can kind of give color on why did the average yield on loans decline this quarter?

I guess and would you expect to be taking additional securities gains next quarter?

I think in terms of the overall asset liability strategy, it was clearly, as we've discussed, to kind of better position ourselves in a period of rising rates.

And we've gone a long way towards doing that.

And as I said, in my prepared remarks, we're a lot closer to the trough, in terms of our run rate on margin than we would have otherwise been, had we not, you know, taken some of these steps to reposition the balance sheet.

We don't have any specific targets.

I think we've tried to manage our Alco process on a longer-term time horizon.

We look out a number of years when we manage our Alco process.

So we don't have a specific target there.

I think we tried to be opportunistic to support shareholder returns, and support earnings where it was appropriate, in the context of our interest rate sensitivity guidelines.

So I think we've always done a very good job there.

Which has helped us generate, you know, certainly well above peer level margins.

But I would say, Rick, we don't have any specific, you know, specific ratios in mind there.

As it relates to the -- there was a few basis point reduction in the loan yields.

This quarter.

Which was a little bit of a surprise.

But we did -- there was a fair bit of competitiveness for a couple months in the indirect installment business, and so we put loans on that at slightly lesser yield there.

But I will tell you, in looking at the yields on all of the portfolios in the months that comprised the third quarter, the difference between the yield that went on in June and the yields that went on in August, or excuse me, the July and September, there was a 40 basis point increase in overall loan yields that went on between July/September.

I guess what I'm saying is that, we had a couple basis point downtick here in the third quarter.

But based on, you know, what we've seen in the monthly results there, we would expect to see, you know, hopefully a reasonably healthy uptick in the last quarter on loan yields.

Absent any other kind of, you know, extenuating circumstances.

And Rick, just one other comment on the first part of your question, about the investment assets as a component of the total earning assets.

Long-term secular trend, and frankly our long-term objective, has been for the investment assets to decrease as a percentage of total earning assets.

Going back to when we were so very active, especially in the branch acquisitions and we acquired prodigious amounts of deposits, not very many loans, and deployed those deposits and investment assets, while we built up the lending activity in those newly acquired markets.

And that's worked wonderfully well.

And the only thing, Rick, I'll add to your first end, is that the relative success relative to the interest rate profile improvement, has really come from taking that $0.25 billion of short-term variable rate debt off the books.

So when you reassess our profile given that substantive change, that's where the real benefit is, on a going-forward basis.

That ratio, borrowing to assets is very low now.

Questioning how much more [borrowings] can come off, to do that.

Right.

Okay, that's helpful.

Thank you very much.

Thanks, Rick.

Thank you.

Thank you.

We have no other questions in queue at this time.

Thank you all very much.

We'll look forward to talking with you in January.

Thanks.

Thanks, Linda.

Bye-bye.

Thank you.

That concludes today's conference.

Thank you for your participation.

You may now disconnect.