CVB Financial Corp (CVBF) 2017 Q4 法說會逐字稿

Good morning, ladies and gentlemen, and welcome to the Fourth Quarter and Year Ended 2017 CVB Financial Corporation and its subsidiary, Citizens Business Bank, Earnings Conference Call. My name is Mike, and I'm your operator for today. (Operator Instructions) Please also note, this event is being recorded.

I would now like to turn the presentation over to your host for today's call, Ms. Christina Carrabino. Ms. Carrabino, the floor is yours, ma'am.

Thank you, Mike, and good morning, everyone. Thank you for joining us today to review our financial results for the fourth quarter and year ended 2017. Joining me this morning are Chris Myers, President and Chief Executive Officer; and Allen Nicholson, Executive Vice President and Chief Financial Officer. Our comments today will refer to the financial information that was included in the earnings announcement released yesterday. To obtain a copy, please visit our website at www.cbbank.com and click on the Investors tab.

Before we get started, let me remind you that today's conference call will include some forward-looking statements. These forward-looking statements relate to, among other things, current plans, expectations, events and industry trends that may affect the company's future operating results and financial position. Such statements involve risks and uncertainties, and future activities and results may differ materially from these expectations.

The speakers on this call claim the protection of the safe harbor provisions contained in the Private Securities Litigation Reform Act of 1995. For a more complete discussion of the risks and uncertainties that may cause actual results to differ materially from our forward-looking statements, please see the company's annual report on Form 10-K for the year ended December 31, 2016, and in particular, the information set forth in Item 1A, Risk Factors therein.

Now, I will turn the call over to Chris Myers.

Thank you, Christina. Good morning, everyone, and thank you for joining us again this quarter. Yesterday, we reported net earnings of $17.9 million for the fourth quarter compared with $29.7 million for the third quarter of 2017 and $27.1 million for the year-ago quarter. The fourth quarter's net earnings were impacted by a $13.2 million increase in tax provision due to a revaluation of our deferred tax asset as a result of the enactment of the Tax Cuts and Jobs Act of 2017 that reduces the federal tax rate from 35% to 21%. Without the adjustment, net earnings were $31.1 million, the highest quarterly earnings in CVBF history.

Earnings per share were $0.16 for the fourth quarter compared with -- compared to $0.27 for the third quarter and $0.25 for the year-ago quarter. Excluding the impact of the deferred tax asset valuation adjustment, earnings per share were $0.28 for the quarter. The fourth quarter's earnings were also impacted by a $2.9 million gain from an eminent domain condemnation of 1 of our business financial centers in Bakersfield, a $900,000 gain on sale of a branch acquired from the merger with Valley Business Bank and a $1.5 million loan loss provision recapture.

Comparatively, the third quarter of 2017 included loan loss provision recapture of $1.5 million and a $542,000 gain on sale of our former operations center. The fourth quarter represented our 163rd consecutive quarter of profitability and 113th consecutive quarter of paying a cash dividend to our shareholders. Net earnings were $104.4 million for the year ended 2017 compared with $101.4 million for 2016. The $104.4 million represents the highest net earnings in CVB history despite the $13.2 million deferred tax asset charge. Diluted earnings per share were $0.95 for 2017 compared with $0.94 for 2016. Without the impact of the adjustment to the deferred tax asset in the fourth quarter, we would have reported record annual net earnings of $117.6 million and diluted earnings per share of $1.07.

Our tax equivalent net interest margin was 3.68% for the fourth quarter compared with 3.70% for the third quarter and 3.47% for the year-ago quarter. The net interest margin declined modestly from the prior quarter due to lower prepayment penalty income and lower interest income from discount accretion on PCI loans and interest recaptured on nonaccrual loans.

Total loans increased by $84.2 million to $4.83 billion for the fourth quarter of 2017 or about 1.77%. Commercial real estate loans increased by $37.8 million, dairy and livestock and agribusiness loans increased by $77.2 million, commercial and industrial loans declined by $15.4 million and all other loans decreased by $15.4 million in aggregate.

The majority of the increase in dairy and livestock loans were seasonal as most dairy owners choose to defer their milk checks into the first quarter the following year and/or prepay their feed expenses. Average loans grew by $43.5 million over the prior quarter or about 1%. Loan yields were 4.66% for the fourth quarter of 2017 compared with 4.72% for the third quarter of 2017 and 4.53% for the year-ago quarter. When interest recaptured on nonaccrual loans and discount accretion on PCI loans are excluded, the fourth quarter loan yields were 4.60% compared with 4.63% in the prior quarter and 4.46% in the year-ago quarter.

For 2017, total loans increased $436 million or 10% compared with 2016. Organic loan growth accounted for $126 million of the growth or about 3%, while the acquisition of Valley Business Bank accounted for approximately $309 million of total loan growth or 7%.

At December 31, 2017, the allowance for loan and lease losses was $59.6 million or 1.23% of total loans, compared with $60.6 million or 1.28% of total loans at September 30, 2017. Net recoveries on loans for the fourth quarter were $454,000. With the loan loss allowances combined with the remaining fair market value loan discounts from our acquisitions, the allowance for loan and lease loss ratio was 1.44% as of December 31, 2017, compared with 1.48% for the prior quarter.

At quarter-end, nonperforming assets, defined as nonaccrual loans plus Other Real Estate Owned, OREO, were $15.2 million or 0.18% of total assets compared with $16.1 million or 0.19% of total assets for the prior quarter and $11.7 million or 0.14% of total assets at December 31, 2016. At December 31, 2017, we have loans delinquent 30 to 89 days of $1.2 million or 0.02% of total loans.

Classified loans for the fourth quarter were $57.3 million, a $17.8 million decrease from the prior quarter. The decrease was primarily due to an $11.6 million decrease in commercial real estate loans. We'll have more information on classified loans available on our year-end Form 10-K.

Now I would like to discuss deposits. For the fourth quarter 2017, our noninterest-bearing deposits totaled $3.85 billion compared with $3.91 billion for the prior quarter, and $3.67 billion for the year-ago quarter. For the year, this represents a $173 million increase or 5%. Average noninterest-bearing deposits were $3.94 billion for the fourth quarter of 2017 compared with $3.89 million -- $3.89 billion for the third quarter of 2017, excuse me.

Average noninterest-bearing deposits represented about 59% of our total deposits for the fourth quarter, 59%. Our cost of interest-bearing deposits and customer repurchase agreements for the fourth quarter was 10 basis points, which is the same as the prior quarter. Our total cost of funds actually declined by 1 basis point to 11 basis points for the fourth quarter.

At December 31, 2017, our total deposits and customer repurchase agreements were $7.10 billion compared with $7.06 billion at September 30, 2017, and $6.91 billion for the same period a year ago. The sale of a branch, which was acquired from Valley Business Bank, included $27 million in deposits that were sold during the fourth quarter. We continue to focus on deposits that have limited interest rate sensitivity, core deposits. Our ongoing objective is to maintain a low cost, stable source of funding for our loans and securities.

Interest income. Interest income for the fourth quarter of 2017 totaled $73.3 million compared with $73.9 million for the third quarter and $67.4 million for the same period a year ago. The tax equivalent yield on earning assets was 3.79% compared to 3.81% in the prior quarter and 3.57% in the year-ago quarter. The yield on loans decreased by 6 basis points over the third quarter or 3 basis points when interest recapture and discount accretion is excluded. The decline in loan yields includes the impact of lower income from prepayment penalties and the lower yield on dairy and livestock loans when compared to the rest of the portfolio -- rest of the loan portfolio quarter-over-quarter.

Noninterest income was $12.6 million for the fourth quarter of 2017 compared with $10 million for the prior quarter and $8.4 million for the fourth quarter of 2016. The $2.6 million quarter-over-quarter increase was due to a $2.9 million gain from the eminent domain condemnation of a business financial center during the fourth quarter compared to a $542,000 gain from the sale of our former operations and technology center during the third quarter. The fourth quarter also included a $906,000 gain from the sale of a former Valley Business Bank branch.

Now expenses. Noninterest expense for the fourth quarter was $35.1 million compared with $34.7 million for the third quarter of 2017 and $34.9 million for the year-ago quarter. Noninterest expense totaled 1.67% of average assets for the fourth quarter compared with 1.65% for the third quarter and 1.72% for the fourth quarter of 2016. Our ongoing goal is to keep this ratio at/or under 1.70%.

Now I'd like to turn the call over to Allen Nicholson, our CFO, to discuss our effective tax rate, investment portfolio and overall capital position. Allen?

Thanks, Chris. Good morning, everyone. Our tax provision in the fourth quarter includes a $13.2 million revaluation of our net deferred tax asset to reflect the legislation that was passed to reduce federal tax rate from 35% to 21%. Excluding the impact of the deferred tax asset valuation, our effective tax rate was 38.3% for the fourth quarter and 37.7% for the full year. This compares with 37.5% for 2016. Going forward, our effective tax rate is estimated to be within the range of 27% to 29% as our effective tax rate can vary depending upon the amount of tax advantage income, tax credits and discrete items such as stock compensation.

Looking into our investment portfolio. During the fourth quarter of 2017, our average interest-earning balances at other financial institutions and the Federal Reserve totaled $76 million. During the fourth quarter, these balances represented only 1% of our average earning assets compared with 0.6% for the prior quarter and 2.5% for the fourth quarter of 2016. At December 31, 2017, our combined available-for-sale and held-to-maturity investment securities totaled $2.91 billion, a $113.2 million decrease from the third quarter. Investment securities represented 38% of our average earning assets during the fourth quarter compared to 39% in the prior quarter.

At quarter-end, investment securities available-for-sale totaled $2.08 billion, which included a pretax unrealized gain of $2.9 million. In addition, we had held-to-maturity investment securities totaling $830 million. The tax equivalent yield on the total securities portfolio was 2.42% for the fourth quarter, which was equal to the prior quarter.

During the fourth quarter, we purchased $43.8 million of securities with a tax equivalent yield of 2.41%. All of the security purchases were available-for-sale securities comprised of mortgage-backed securities with an expected average life of approximately 5 years.

Now turning to our capital position. Shareholder's equity increased $78.4 million to $1.07 billion in 2017. The year-over-year increase was due to $104.4 million in net earnings, $37.6 million for the issuance of common stock for the acquisition of Valley Commerce Bancorp, parent of Valley Business Bank, and $4.6 million of various stock-based compensation as well as other items. This was offset by $59.5 million in cash dividends and a decrease of $8.7 million in other comprehensive income.

I will now turn the call back to Chris for some closing remarks.

Thank you, Allen. Now let's talk about economic conditions. Turning to the California economy. California's unemployment rate fell to 4.3% in December 2017. This is a record low in a data series, dating back to the beginning of 1976. California has now gained a total of 2.8 million jobs since the economic expansion began in February 2010. The state and its regions are expected to continue to experience growth in economic activity and jobs in 2018. Most of the job gains are anticipated to be in the health care, leisure and hospitality and construction industries.

There is a continued demand for housing in California. The supply of existing homes has increased slightly but remains lean, and new home construction continues to increase at a modest pace. In terms of the dairy industry, profitable operations are expected to continue, albeit modest. Milk prices for the next 3 months are projected to be slightly under the cost of production, but may be increasing. Beef prices should remain flat.

In closing, we are pleased with 2017 as a whole and feel we are well-positioned to continue to grow our business. Our new operations and technology building is now fully functioning and well situated to support future growth. We remain internally focused on same-store sales growth and acquiring new banking teams to expand our footprint. And with our strong earnings power and robust capital position, we are uniquely positioned to take advantage of potential acquisition opportunities that may come along, both small and large. All 3 of our growth initiatives: same-store sales; opening de novo locations and bank acquisitions are consistent with our strategic objective, which is to increase our market share and expand our geographic footprint.

In closing and wrapping up 2017, our most successful year in company history, I thank our employees for their continued hard work and dedication. I thank our customers for their business and ongoing loyalty. I thank our shareholders for their continued support and trust. And finally, I thank our Board of Directors for their leadership and guidance.

That concludes today's presentation. Now Allen and I will be happy to take any questions that you might have.

(Operator Instructions) The first question we have comes from Jackie Bohlen of KBW.

This is actually Schalise Vancura on for Jackie. Touching on tax reform. Just going forward, can you guys talk to what capital management planning might be given the new law?

In terms of capital management, are you asking about...

Yes, dividends and buybacks, how that might impact those decisions going forward?

As we've discussed in prior calls, we're always -- the board is always evaluating our dividend and it's something we'll continue to evaluate. Certainly, with a lower tax rate, it's something that we'll be looking at very closely.

Okay, great. And then deposit costs have held flat since rates began to rise. Have you seen any pressure at all with the December rate hike?

Yes, we are seeing deposit pressure and that's why you've seen some of -- we've allowed some deposits to run off that we think are noncore or more

price-sensitive deposits that will trade up with the fed funds rate as we go along. Anticipating that, if we have 3 or 4 more rate increases this year, those deposits are going to be expensive deposits by the end of the year, especially if the 10-year treasury doesn't do anything or moderates. So we really focused on our core clients and making sure we take care real good service with those clients. So I think that's why you've seen our deposits flatten some. But I think it's a great testament to our company that we have not seen deposit rate increase of any magnitude. But yes, we're feeling pressure here and there. But so far, I think because of our relationship banking strategy, we've been able to hold the line pretty well. And we don't have a lot of deposits that just sit out there that aren't part of our relationship. And I think those tend to be large deposits that are -- that can be easily moved. Sometimes private banking-type deposits are the most notable of all. Business deposits, I mean, we have 59% of our deposits in noninterest-bearing deposits. A lot of those deposits support all the products and services that they're using in our bank and pay for those, if you will, because we give them earnings credit rates. And if they move those deposits, they get charge fees. So I think that's been the secret sauce so to speak for us being able to hold the line on deposit costs.

(Operator Instructions) Next, we have Matthew Clark of Piper Jaffray.

Straddling a couple calls here, so I apologize if I missed it. But any discussion around your appetite on the M&A front with the tax cuts and the ability to generate more capital or cash internally? Just wanted to get an update on your -- on that front?

Well, I'll say this. Certainly, with the tax law change and where stocks are trading today, I do think M&A is going to heat up in 2018. I think both smaller and larger deals are going to start to accelerate. If you're a bank and you've been thinking about selling, this is the best opportunity in terms of price, in terms of the strength of the buyers that you've seen since pre-2006, 2007. So I do think we're going to see some acceleration there. And yes, we are focused on that.

Okay. And then just the outlook on loan growth, and you may have mentioned it. But is 8% or 2% a quarter kind of still your goal? Or have you -- do you think you need to tweak that?

I mean, you want to set a big goal and that's turned to a goal that we didn't -- organically we didn't make in 2017. Our goal is still to grow that kind of 6% to 8% organic loan growth. We're pushing hard for that. But I can tell you out there, the -- with the yield curve flattening, pricing is very competitive and structuring is very competitive out there. So we're making sure we hold the line and do the right thing for our company. And if that is -- doesn't -- and for some reason we do that and we can't grow our loans 8%, then we'll live with that. We don't want to do things that we don't think are smart and will stand the test of time. So I do think that price competition and to some extent, structure competition, has accelerated in the last couple of months. I'm hoping that's just an anomaly. I'm also hoping the 10-year treasury keeps on going up more and more so we have a better yield curve. So the compelling nature, if the long-term curve doesn't go up, your desired borrowings will be more short-term variable interest rate borrowings as opposed to long-term fixed rate borrowings.

Yes. And just on -- honing on the margin a little bit. With loan yields down 5 basis points, I mean, that -- the decline in the loan yield is really a function of what you just mentioned, the competitive environment. Or is there anything else in there that was unusual?

Yes, the loan yields in the fourth quarter always get a little skewed by the dairy loans. The dairy loans are lower-yielding loans than the rest of our portfolio, so that was worth a couple basis points of that decline right there. That will correct itself -- it should correct itself in the first quarter. And the other piece is our prepayment penalties were down by over $200,000 quarter-over-quarter. That's another basis point in there. So I think from a margin standpoint, I don't think there's a lot of downward pressure on our margin at this point. Our margins should be able to hold, and I'm hoping to be able to increase our margins certainly as rates go up.

And how much of that -- you've have a nice kind of remix going on, on the earning assets, securities into loans. I assume that will help support that margin and continue.

Yes. I mean, that's the promised land for us. If we can put on loans that are yielding 4.5%, 5% as opposed to buying securities that are yielding 2.5%, that's a 2% pick up for us. But again, we have to look at quality. We have to make sure these loans are going to stand the test of time and that we're not doing anything that's outside of what our core competence is. And I think we had a long recovery here. And so we're making sure we're staying disciplined so that when and if a recession comes, and if the yield curve flattens completely and it stays that way, we could have a recession. So we're trying to position ourselves for all possibilities. And as always, we're very focused on quality. I mean, I can tell you that -- I mean, you look at our classified loan levels and our nonperforming asset levels, we're really getting down to very low levels. And we still have some recoveries left. You're going to see some more recoveries in the first 2 quarters of the year. But we're running out of that. There's no question about that because way back when we hung on to more of our loans, so we've had a longer ride with the recoveries than a lot of other banks. And we hung on to our loans because we ran our company correctly and we didn't have to sell a lot of our loans. And we were able to work with both things through all the way, because we're making money along the way and we had strong capital. So we didn't have to discount and sell loans for 70 cents on the dollar. A great example of that was in the third quarter where we had a large participation, it was actually our last national shared credit. We had numerous opportunities to sell that at 70 cents on the dollar along the way. We hung on it for 8 years tragically but fortunately and got every penny of ours back on that interest, principal. And in the third quarter, you saw a large legal cost recovery. And then we got our legal cost back on that deal, $405,000 or something like that. So that kind of thing is what a great company does. You work things out to the long-term benefit of your clients and not to then actually the short term to make the next quarter look great.

And the tax -- effective tax rate guide for '18?

As we were talking about earlier in the discussion, it will probably range between 27% and 29% based on the variability and some discrete items and our -- some of our income that's tax advantaged.

We set the over/under at 28%, and we're making bets.

Next, we have Brian Zabora of Hovde Group.

Yes. Just a question on, again, the loan side with CRE. Are you seeing slower originations given that competitive dynamic? Or are you also being impacted by elevated paydowns and payoffs?

Paydowns and payoffs have moderated a little bit because rates have come up. That's why our prepayment penalties were down quarter-over-quarter. Our pipeline is pretty good. We're seeing things. We're just -- there are times that we're starting to see things that are getting a little bit aggressive for us, so we're choosing to pass on things. So I would say loan looks are good. Our pipeline is pretty good. But sometimes, when we get down the stretch, people are releasing -- other banks are releasing guarantees or doing something that we think is -- gets a little bit off the beaten path on a few pricing fix are situations that we're seeing that we were surprised to see in the last month or 2. (inaudible) the yield curve at low rates, right?

Sure. And then also, you have pruned your locations a bit. How do you look out to 2018? Is there any thoughts of a further decline -- maybe some reductions? Or is there areas you'd like to expand in?

Yes. I mean, we are looking at different areas that we'd like to expand and there are some markets like West Los Angeles and other places we'd like to be in that we're not in right now. We were pleased to be able to go from 54 locations back to 50 locations after the Valley Business Bank merger. That all made sense since we had offices that were close to each other, so there was no disruption in service and no loss of clients. So that's -- other than the 1 branch that we sold, I guess we lost all those clients, which was $27 million. So we sold a branch and made $27 million in deposits. But that branch was 20 -- 30 miles outside of our core territory, the Fresno/Visalia area. So it was a little bit off the beaten path for us. We'd like to be in more major markets. So we are always going to continue to look at our offices and the efficiency of those offices. Some of our offices have too much footprint size, and so we're going to try to save some money to reduce that footprint here and there. Fewer and fewer people are coming into the bank to do their banking business, but I don't see -- I don't think you'll see anything dramatic in 2018 happening because we've already been doing a lot of this along the way. And -- but there are some tweakings that we'll continue to do, and that will help us save some money on the brick-and-mortar side. But most of those brick-and-mortar savings are going to go right back into technology and cybersecurity and all those kinds of things because the evolution from brick-and-mortar to the cloud and software and cybersecurity is still going.

(Operator Instructions) At this time, we were showing no further questions. We'll go ahead and conclude today's question-and-answer session. At this time, I'd like to hand the conference back over to Mr. Myers for any closing remarks. Sir?

Well, I want to thank everybody for joining us again this quarter. This concludes today's presentation, and we wish you a very successful 2018. And we're very confident that 2018 is going to be another great year for Citizens Business Bank and CVB Financial. Thank you very much.

And we thank you, sir, and to the rest of the management team for your time also today. Again, we thank you all for attending today's presentation. At this time, you may disconnect your lines. Thank you, again, everyone. Take care and have a great day.