Columbia Banking System Inc (COLB) 2016 Q4 法說會逐字稿

Ladies and gentlemen, thank you for standing by. Welcome to the Columbia Banking System fourth-quarter 2016 earnings conference call.

(Operator Instructions)

As a reminder, this conference is being recorded.

I would now like to turn the call over to your host, Melanie Dressel, President and Chief Executive Officer of Columbia Banking System.

Thank you, Nicole. Good afternoon, everyone, and thank you for joining on today's call, as we review our fourth quarter and full-year 2016 results, which we released before the market opened this morning. The release is available on our website, columbiabank.com.

This was another very good quarter for us. We achieved record fourth-quarter net income, as we improved operating leverage and continued to build on the strong results from the second and third quarters of 2016. Our bankers achieved the highest loan production in our history, in addition to maintaining very good credit quality.

And I'm sure you're aware of a recent major highlight for us, as we announced a definitive agreement to merge Pacific Continental Corporation into Columbia. Pacific Continental will add over $2.5 billion in assets to Columbia's balance sheet.

As we move forward, our priorities will be a smooth integration of Pacific Continental, which we expect to close in mid-2017. We'll cross the $10 billion asset threshold by more than $2 billion. However, we are confident that we are well prepared and made the appropriate infrastructure investment to navigate this change. Of course, we'll continue to focus on growing quality loans and improving our operating leverage.

On the call with me today are Clint Stein, Columbia's Chief Financial Officer, who will begin our call by providing details of our earnings performance; Hadley Robbins, our Chief Operating Officer, who will cover our production areas; and Andy McDonald, our Chief Credit Officer, will review our credit quality information this afternoon. I'll conclude by providing our take on the economy here in the Northwest, including Washington, Oregon and Idaho. And we'll then be happy to answer your questions.

Of course, I need to remind you that we will be making some forward-looking statements today which are subject to economic and other factors. For a full discussion of the risks and uncertainties associated with the forward-looking statements, please refer to our securities filings and, in particular, our Form 10-K filed with the SEC for the year 2015.

At this point, I'll turn the call over to Clint to talk about our financial performance.

Good afternoon, everyone. Earlier today, we reported fourth quarter earnings of $0.53 per diluted common share. The $0.06 increase from the $0.47 per share we reported in the prior quarter resulted from the following items: $0.3 was due to decreased noninterest expense, $0.02 was related to lower linked quarter provision for credit losses, and another $0.02 stems from a lower effective tax rate during the quarter. These increases over the prior quarter were partially offset by lower noninterest income, which reduced EPS by $0.01.

Our reported net interest income of $85.7 million was relatively flat, increasing $165,000 from the prior quarter. The linked quarter change was muted by higher average balances in overnight funds.

Noninterest income, before the change in the FDIC loss sharing asset, was $22.7 million in the current quarter, down slightly from $23.3 million in the prior quarter. The decrease was due mostly to lower investment securities gains, which were down $565,000 from the prior quarter.

Merchant processing and card revenues were also lower by $347,000 and $311,000, respectively. These declines were partially offset by a reversal of $391,000 from the mortgage repurchase liability we established in conjunction with our 2013 acquisition.

Our revenue before incremental accretion income and the change in FDIC loss sharing assets was $104.2 million in the fourth quarter, essentially unchanged from the $104.3 million realized in the prior quarter. However, when compared to the fourth quarter of 2015, our revenue on this basis increased $5.7 million, or roughly 6%.

Reported noninterest expense was $65 million for the current quarter, a decrease of $2.3 million from the prior quarter. After removing the effect of OREO activity, FDIC fallback liability expense, and acquisition-related expense, our noninterest expense run rate for the fourth quarter was $64.1 million. This is a $3.4 million decrease from $67.5 million on the same basis during the third quarter.

There were decreases in nearly every line item of noninterest expense, with the main driver being lower advertising expense, which was down $1.3 million due to the timing of our production and airtime expense, which peaked during third quarter. Occupancy increased $529,000 from the prior quarter. But if you recall, the third quarter included branch closure expenses of $849,000.

Compensation and benefits were down $280,000, primarily as a result of year-end accrual true-ups for our various benefits programs. Notably, our full-year 2016 noninterest expense run rate on this basis was essentially flat with 2015, only increasing roughly 0.6%, even as we continued to make infrastructure and other long-term investments to enhance our customer experience and grow our business.

Excluding OREO activity, FDA claw back liability expense, and acquisition-related expense, our noninterest expense to average assets ratio of 2.68% surpassed the lower end of the range that we have discussed over the past couple of quarters. In the near term, we believe, for modeling purposes, an expense ratio in the mid 2.7% range is reasonable, given that in the first quarter of each year, we generally see a bump up in expenses resulting from items such as annual compensation adjustments, the reset of payroll taxes, and key tactical projects which are typically started in the first quarter.

The operating and interest margin declined 4 basis points to 3.99% during the fourth quarter, as a result of a higher level of overnight funds. Had overnight funds been consistent with the prior quarter, the margin would have been 4.02%. We held higher levels of overnight funds throughout most of the fourth quarter to provide us with several balance sheet options in the event we approached the $10 billion asset threshold.

Our effective tax rate for the fourth quarter was 28.6%, compared to 30.6% in the prior quarter. As I mentioned at the beginning of my remarks, the reduced tax rates accounted for $0.02 of the linked quarter increase in earnings per share and was the result of finalizing our full-year tax provision.

Our effective tax rate for the full year 2016 was 30%, which compared favorably to our estimate throughout the year of 30.6% and the prior year rate of 30.2%. We still believe a reasonable assumption for the effective tax rate is a range of 30% to 31%.

Now I'll turn the call over to Hadley to discuss our production results.

Thank you, Clint. Total deposits at December 31, 2016 were $8.06 billion, an increase of about $2 million from December 30, 2016. On a full-year basis, total deposits have increased $621 million, or about 8.3%. About $437 million of this increase was in noninterest bearing DDA, which grew 12.5%.

At year-end, core deposits were $7.7 billion, holding steady at 96% of total deposits. The average rate on interest-bearing deposits was 8 basis points, similar to the previous quarter. The average rate on total deposits remained unchanged for the quarter, at 4 basis points.

Loans were $6.2 billion at December 31, 2016, representing a net increase of $398 million, or about 6.9% for the year, compared to the net increase of $369 million in 2015. Loan production for the full year was $1.3 billion, 12.8% above production levels for 2015.

Despite solid fourth quarter production of $294 million, loans in the fourth quarter decreased by about $46 million. The decrease was largely due to lower levels of line utilization and higher than normal payoff activity. Line utilization declined from 53.1% at September 30, 2016, to 50.4% at December 31, 2016.

The drop in line utilization largely reflects the seasonal pay downs of ag lines and lower levels of line activities under mortgage warehouse facilities. The historic pattern of seasonality in our C&I portfolio starts with a pullback in line activity in the fourth quarter that continues through the first quarter of the following year. Most active line usage is normally seen in the second and third quarters.

The bulk of new production in the fourth quarter consisted largely of commercial real estate and construction loans, as well as C&I loans. Term loans accounted for roughly $223 million of total new production, while lines represented about $71 million.

The mix of new production was fairly granular in terms of size. 26% of new production was over $5 million, 31% was in the range of $1 million to $5 million, and 43% was under $1 million. In terms of geography, 55% of new production was in Washington, 37% in Oregon, and 8% in Idaho and a few other states.

Commercial real estate and construction loans ended the year at $2.9 billion, up to $270 million for the year, or 10%. For the fourth quarter, these loans were up $40 million, with the largest increases in farmland, hotel- motel and warehouse.

C&I loans ended the year at $2.6 billion, up about $188 million for the year, or 8%. For the fourth quarter, C&I loans were down about $79 million, due to lower line utilization and higher payoffs, as previously mentioned.

Industry segments with the largest declines were finance and insurance and agriculture. Industry segments with the highest quarterly loan growth were public administration and manufacturing.

During the fourth quarter, the tax adjusted weighted average coupon rate for the portfolio increased from 4.32% to 4.37%. The quarterly average tax adjusted rate for new production increased from 3.86% in the third quarter to 4.02%, yet remains well below the loan portfolio coupon rate.

Under the current market and competitive conditions, this gap is likely to continue however, we've seen the pace of decline in the tax adjusted portfolio coupon rate begin to diminish. The pace of the decline is expected to diminish even further with increases in market interest rates. The tax adjusted coupon rate of 4.37% as of December 31, 2016 declined from 4.40% as of December 31, 2015 and 4.54% as of December 31, 2014.

In closing, assuming historical patterns hold, we're likely to see line utilization drift down further in the first quarter of 2017. Should that occur, generating meaningful loan growth in the first quarter will be a bit more challenging.

That concludes my comments. I'll now turn the call over to Andy.

Thanks, Hadley. For the quarter ended December 31, the provision for loan losses was only $18,000. We were very fortunate this past quarter, thanks to net charge-offs across all portfolios amounting to only $239,000. This, combined with declining loss rates and continued contraction in the discounted and purchased credit impaired portfolios, allowed us to release $750,000 from the West Coast portfolio and an additional release of $583,000 from the purchased credit impaired portfolio. This helped offset a provision of $1.25 million for the originated portfolio, plus a modest revision of $100,000 for the Intermountain portfolio.

I would like to add a little more color concerning the change in our loan portfolios. For the quarter, across all portfolios loan totals declined approximately $46 million, as Hadley pointed out. However, we continued to enjoy loan growth within the originated portfolio, as it grew $36 million in the quarter, despite the decline in line utilization and payoff activity that Hadley discussed.

We had net charge-offs of $236,000, compared to $906,000 in the third quarter and $3.6 million and $4.1 million in the second and first quarters of the year, respectively. So the last half the year was very kind to us, as the level of charge-offs declined, while recoveries rose slightly. The improvement throughout the year was centered in the purchased credit impaired portfolio and the originated portfolio, respectively.

So as of December 31, 2016, our allowance to total loans was 1.13%, compared to 1.12% as of September 30 and 1.17% as of December 31, 2015. So for the most part, our allowance remained even throughout the year, with loan growth being the reason for the modest decline in this metric year-over-year.

For the quarter, nonperforming assets increased $3.4 million, as increases in nonaccrual loans exceeded reductions in OREO. Despite the increase in nonperforming assets -- the increase in nonperforming assets was very modest, at only 35 basis points when compared to total assets.

Again, similar to the allowance, NPAs bounced around during the year, but for the most part remained even year-over-year. At the quarter end, loans 30 days or more past due and not on nonaccrual were about $6.1 million, or 10 basis points, this is essentially even with last quarter when past dues were around $5.3 million, or 8 basis points.

That concludes my comments, so I will turn the call back over to Melanie.

Thanks, Andy. I'd like to briefly comment on how very pleased and excited we are that Pacific Continental has agreed to join with Columbia. We truly believe that this is an exciting opportunity for both companies, for both teams of bankers and, of course, for both sets of shareholders.

We expect the acquisition to close in mid-2017, pending shareholder and regulatory approval. If you'd like more information, it's available on our website, at www.columbiabank.com.

For most of our region, particularly our larger metro areas, the economy is really humming along and the economic indicators are trending upward overall. Unemployment rates continue to improve in our three-state market area. Consumer confidence has been rising. Tourism is well ahead of last year's pace. And people continue to move into the Northwest.

Let me give you a few specifics. There are challenges, of course. The Seattle area is the hottest home market in the country, with the average home selling in just 15 days. Supply is dwindling while demand keeps rising with job and population growth. The Seattle, Tacoma, Bellevue metropolitan area is the second tightest in the country for homes available for sale, and Portland, Oregon, Vancouver come in at number 10.

We're hopeful that the new administration will be taking a look at financial regulations to ensure that they are right sized and balanced and serve the industry and country well. We also will be closely watching the developments resulting from the country's withdrawal from the Trans Pacific Partnership, since Washington state is the nation's most trade-dependent state, with Oregon following very closely.

In fact, two of every five jobs in Washington already are linked to global trade. However, we note that our new President also emphasized the importance of trade in negotiating effective trade deals, so we'll just need to wait and see how this plays out.

The population and labor force of all three states continues to grow. Overall, we have excellent job creation and strong GDP throughout the Northwest.

In December, Washington's unemployment rate dropped to 5.2%, its lowest level since 2008, even as the labor force grew by over121,000 last year. It's the fifth consecutive month of improvement after an eight month plateau. The Seattle Times noted, the home of Amazon, Microsoft and other large employers remains the state's jobs growth machine.

Oregon's unemployment rate fell to 4.6% in December, from 5% in November. Oregon employers added nearly 53,000 jobs in 2016, and the state's annual average monthly unemployment rate last year fell to match the record low set in the economic boom of the mid 1900s.

And Idaho's unemployment rate dropped again. It's a 3.7% in December. And the state ranks third in the nation for year-over-year job growth. Construction is booming across that state, especially in the Treasure Valley, which has led the nation in construction job growth for more than a year.

The most recent reports on gross domestic product show that Idaho's GDP grew at the third fastest rate among the states, at 2.8% during the second quarter of 2016, mostly driven by the agriculture sector. Washington's GDP grew 2.3% in the second quarter, the fifth strongest in the nation. Both states outpaced the national growth rate of 1.2%.

The Northwest Seaport Alliance, the consolidated container operation of the Port of Seattle and the Port of Tacoma, is the fourth largest container gateway in North America. In 2016, container volumes reached 3.6 million, the highest level since 2007.

Full imports for the year were up 6% and exports increased 13%. However, domestic volumes saw a slight dip this last year, as Alaska struggled with the decline in oil and gas-related activity due to the low prices. Domestic volumes increased 1.5% for the year. To summarize, leading economic indicators point to continuing forward momentum in the Northwest diversified economy.

Our quarterly regular cash dividend of $0.22 per common share will be paid on February 22, 2017 to shareholders of record as of the close of business on February 8, 2017. In light of our fourth quarter and full-year 2016 performance, we've elected to increase our regular cash dividend by 10%. This constitutes a payout ration of 42% for the quarter and a dividend yield of 2.11%, based on the closing price of our stock yesterday.

In addition to our regular dividend, we have paid a special dividend for the past 11 quarters, which has served as a capital management tool. In anticipation of the closing the acquisition of Pacific Continental, we are discontinuing our special dividend.

With that, this concludes our prepared comments this afternoon. As a reminder, you have Clint Stein, Hadley Robbins, and Andy McDonald here with me to answer your questions.

Now, Nicole, would you please open the call for questions?

(Operator Instructions)

Jeff Rulis, D.A. Davidson.

Getting a sense for growth expectations in 2017, you mentioned the line utilization impact. It sounds like it's seasonal and you saw that last year, and ended with 7% growth. I guess your view of payoffs is tough to peg, at this point, for the next 12 months. But for the full year, are we in the range of expectations for what you put up in 2016?

I would say we're in the range. Thinking about what's happened in the fourth quarter, again, the utilization on our lines is seasonal, as I mentioned. And during the fourth quarter, we saw the pullback associated primarily with, for example, our mortgage warehouse facilities, which was a combination of seasonal activity and payoff of facility. And the ag industry pulls back typically at this point in time, as well as into the first quarter.

And comparing prepayments, payoffs, and payments net of advances is those items that reduce loans. In the third quarter, we had about $222 million, which is annualized against loans at about 14%. The same figure for the fourth quarter was $340 million, which annualizes out at 22%, which is a bit higher than we've seen in the past. So I think it was a little bit higher than normal in the fourth quarter. And I would say the pattern that you would expect to see in the year of 2017 would be the same.

And good momentum on the production side, if you net that out?

I don't see anything in this point in time that would cause me to have expectations that would change. Quarter to quarter, it may, but not for the year.

Could you remind us on the, I think you've outlined the compliance cost of crossing $10 billion and the lost Durbin fees as, I think it was $900,000 in costs, and just shy of $10 billion on the lost revenues. Is that right?

In terms of compliance costs, we feel like we have the compliance management program in place. We have subject matter experts. Crossing $10 billion with Pacific Continental doesn't bring new areas to our business, new niches that we don't already have compliance expertise in. So that would be something that would add to our compliance costs.

Now take the $10 billion threshold away and just look at additional volumes, in things like BSA and those types of compliance activities, where it's very much volume oriented, any amount of incremental growth and you have to look at adding additional analysts and things, and we will have some expense there. It's nowhere near $900,000, but the bulk of the expense is there.

The Durbin impact, what we've talked about is, it's about $9.5 million for Columbia on a standalone basis. When we add the impact of Pacific Continental, there's another $300,000. So it's approximately $10 million of pretax revenue that we would lose under the Durbin Amendment, likely beginning in the third quarter 2018.

Okay. And then maybe one last one, Clint, while I have you.

The tax rate guidance, does that, with the inclusion of Pacific Continental and a greater share of Oregon revenue increase that tax rate? Or at this point, it's immaterial to the total company tax rate?

You know, we did quite a bit of work around what the impact to our tax rate would be during diligence, both with Measure 97, I believe, was the one in Oregon that thankfully didn't pass, but would have had a pronounced impact on the pro forma Company. When we look at the current tax structure that's in place, it really didn't change our overall tax rate or thinking in terms of what that would look like. So I guess that's a long way of saying, I think this range is good for both before, as well as post closing.

Great. Thanks.

Jacque Bohlen, KBW

Hello, Jacque.

Hello, Melanie. A question for you, Clint, kind of a housekeeping item.

Can you give your thoughts on the FDIC lost share asset and how you see that impacting the income going forward, specifically in 2017? I know that it's small now, but any update you have on that.

Yes. There's about $3.5 million that will amortize through, mostly through noninterest income in the coming years. We were about $2.6 million for the year in 2016. Our expectation is that, for each quarter of 2017, it's going to continue to [walk] down, not significantly each quarter, but I think we were at $387,000 in the fourth quarter of 2016. We would expect that we're going to be somewhere around $300,000 for the first couple of quarters in 2017, and then a little bit under $300,000 a quarter for the remaining. So it's going to be less than half of what we experienced in 2016.

Okay. Thank you. That's very helpful.

And now that, obviously, December 31 is past and you're not concerned about the $10 billion mark, how are you thinking about liquidity deployment and have you started any of that yet?

Yes, we have started that. And if you look at actually the financials, if you look at our period ending overnight funds, it's not really materially different than what it was at the third quarter. But if you look at the average balance tables in the back of the financials, that's where you can see that we maintained higher balances throughout most of the quarter. As we got closer to quarter end, $10 billion was not a concern, so we went ahead and started investing those funds in securities, primarily.

And just because if I look at, well, I know they were fair value marked, obviously, in there, with the balances at the end of third quarter and fourth quarter with securities. What kind of purchases were you looking at?

We really haven't changed our approach in terms of the investment portfolio with our thinking around the purchases or the duration. The purchases are primarily mortgage-backs with very tight predefined cash flows. Much like the rest of the portfolio, we don't want something that's going to extend materially in a rising rate environment, or if rates were to come back down, to accelerate. So we haven't really changed our approach there.

The yield is better, obviously. For the quarter, I think we had $67 million of purchases and the yield on those purchases was 2.71%. The portfolio itself, yield for the quarter is probably going to be just north of $250 million. And duration is still less than four years.

Thank you. That's very helpful. I'll step back now.

Thanks, Jacque.

Matthew Clark, Piper Jaffray.

First one, on loan growth, and I think, Hadley, you talked about utilization maybe drifting a little bit lower here in the first quarter. When you hone in on that C&I category, do you suspect that we could see balances down further here in the first? Or do you think, similar to last year, we still could show some net growth?

You know, 2014, I went back and took a quick look. We had, it was slightly negative in 2014. 2015, it was up $60 million net, as I recall. And it's really difficult to make a decent forecast into the first quarter, other than I do know that we have the headwinds of seasonal line usage, and I believe that will play out. I don't have any information that suggests otherwise. So we will have headwinds.

And can you remind us of the pipeline? I may have missed it in your prepared comments, how that looks relative to last quarter and year over year?

Our pipeline is building. We have activity similar in mix to the portfolio, in the pipeline. It continues to be strongest in Puget Sound, Portland, Vancouver. And my hope is that it continues to build. I haven't concerns on that front, at this point in time, although it may be a bit softer than I would like. I do believe that the pipeline activity, however, the last couple of weeks has been building. We've had some snow. And so that's kind of interesting, in that it didn't have an impact on us.

Okay. And then maybe shifting gears, Clint, on the core margin outlook, it sounds like, again, hoarding some excess liquidity in the fourth quarter cost you a few basis points. Assuming you guys get that back, but also considering the incremental pressure you have on just the existing portfolio with new business, net-net, do you think we can hold the line here at 399? Or do you think there's some incremental pressure?

I'm optimistic that we can hold the line. If we look at -- we got 25 basis points in rate movement right at the end of the quarter. For the first quarter, we'll have a full three months of impact from that. We did see loan coupon rates increase by 7 basis points associated with repricing that took place during the quarter of existing loans. New production and some payoffs and the other activities that Hadley talked about tempered that 7 basis points by 2 basis points, for the net 5 that Hadley had in his prepared remarks. It really comes down to our asset mix. We won't have the overnight funds as a drag, so there's a few basis points that we'll pick back up in the current quarter.

So then it really comes down to how deposit growth is managed relative to loan growth. And we experienced margin pressure during 2016, but it was because we had 8% deposit growth for the year. And it was favorable for net interest income, which fell to the bottom line and helped our earnings per share. So all things being equal, I think the margin will hang in there. But if we have outsized deposit growth again, then that could create pressure, but I don't know that, that would be necessarily a bad form of pressure.

Okay. And then on the expense to asset guidance of mid 270s, does that include PCBK and the related cost saves? Or is that more of a near-term guidance?

That's more near-term. Once we close PCBK, then I'll start providing some idea of what our expectations are. Similar to a couple of years ago with Intermountain, once we got that closed and we knew what the run rate was versus what we had modeled, we were able to dial in to our target, our post integration target. So we'll have that for you later in the year. I just wanted to give you an idea of what we were thinking over the next couple of quarters.

Okay. Thanks.

And then the tax rate, did you provide guidance of 31%, is that right?

A range of 30% to 31% would be a reasonable expectation. We were 30% for 2016. 2015 was 30.2%. So I think that right in that range, if that's what you're modeling, you're going to be pretty close.

Okay. Thank you.

Thanks, Matt.

John Arfstrom, RBC Capital.

Thanks. Good afternoon, everyone.

Hadley, just one more on the loan growth numbers for the quarter. You wouldn't say any of this is surprising, is it, the decline in the warehouse and ag? There may be some strength in other areas. This is essentially what you'd expected?

Yes. I think that I saw that it would tail off in the fourth quarter. I was a bit surprised about the size of payoffs, which are out of pattern. But the seasonal pattern of line usage was expected. The payoffs, some of which we knew about going into the quarter and some occurred during the quarter, and they were larger clients that basically had opportunities to sell the company, and sold the company. The buyer had financing elsewhere and so we were unable to hang onto the activity. For example, three loans were paid off and the totals were over $30 million. So that created some headwind for us.

Okay. Any changes in pricing that you're noticing in commercial real estate or commercial?

It's about the same as it's been most of the year. It's still competitive. Nothing that I've seen out there suggests a trend one way or the other. However, there has been some people talking about preserving capacity to lend into the CRE market, given concentrations, to manage that capacity more carefully. And that puts, theoretically, some upward pressure, potentially, on pricing. But we really haven't seen that materialize yet in a meaningful way.

Okay. Good. And then, Melanie, maybe a question for you.

It's only been a couple of weeks, but I'm guessing you spent a fair amount of time on the acquisition. Any early feedback or thoughts that you have on it? And any feedback, maybe from customers or others in the region?

Sure. Hadley and I actually visited all of Pacific Continental's locations and had great conversations with people. I think that there was a lot of enthusiasm about what the two companies could do together. We really haven't had much feedback from their customers, but we have heard from our customers that they like just having the additional locations.

Okay. Good. All right. Thanks for taking my questions.

Thanks, John.

(Operator Instructions)

Aaron Deer, Sandler O'Neill.

Good afternoon, everyone.

Hello, Aaron.

I believe all of my questions have been addressed. I just had one clarification for you, Melanie.

On your comments, or maybe it was a Board comment, regarding the discontinuation of the special dividend, that's just until the Pacific Continental deal is closed, is that correct? And then at that point, that comes back open for consideration?

Yes. It doesn't mean that we will resume it, but certainly it will be open for discussion. And what we always try to do is have as many options available to manage our capital as we can. We've said for quite a while that we were skating toward a 12% total risk-based capital. And nothing's changed there.

Perfect. Okay. Thanks very much.

Okay. Thank you.

There are no further questions at this time. I turn the call back over to the presenter.

Okay. Well, thank you, everyone. And here's to a great year for everyone. We'll talk to you soon.

This concludes today's conference call. You may now disconnect.