First Commonwealth Financial Corp (FCF) 2010 Q1 法說會逐字稿

Good afternoon and welcome to First Commonwealth's first quarter 2010 earnings conference call. All participants will be in a listen-only mode. (Operator Instructions) After today's presentation there will be an opportunity to ask questions. Please note this event is being recorded. I would now turn the conference over to Mr. Rich Stimel. Sir you may go ahead.

Thank you. As a reminder a copy of today's earnings release can be accessed by logging on to fcbanking.com and selecting the Investor Relations link at the top of the page and then selecting news on the left side of the page. We have also included a slide presentation on our Investor Relations page with supplemental financial information that we'll reference throughout today's call. With me in the room today are John Dolan, President and CEO of First Commonwealth Financial Corporation, Mike Price, President of First Commonwealth Bank, and Bob Rout, Executive Vice President and Chief Financial Officer. After brief comments from management, we'll open the call to your questions. For that portion of the call we'll be joined by Bob Emmerich, our Chief Credit Officer, and John Previte, our Senior Vice President of Investments. Before we begin, I'd like to caution listeners that this conference call will contain forward-looking statements about First Commonwealth, its business strategies and prospects.

Please refer to our forward-looking statements disclaimers on page two of the slide presentation for a description of risks and uncertainties that could cause actual results to differ materially from those reflected in the forward-looking statements. Now I'd like to turn the call over to John Dolan.

Good afternoon, everyone, and thanks for joining us today. There's a lot to cover on the call and I'd like to start with an overview of the first quarter and an update on some key strategic initiatives. As I mentioned on last quarter's call, we are very pleased to have Bob Rout on-board as Executive Vice President and Chief Financial Officer. Bob will be providing details on our first quarter financial performance and then finally Mike Price will discuss our operating initiatives and performance of our lines of business. Needless to say our first quarter net loss of $13.2 million was extraordinarily disappointing. This compares to net income of $1.7 million in the first quarter of 2009. During the first quarter of 2010 we saw enormous declines in collateral values. The volatility we are experiencing remains largely a product of a small number of out-of-state credits concentrated in the real estate sector.

Mike will get into the details of our credit quality a little later, but in general nonperforming loans increased roughly 12.7% to $167.4 million from December 31, 2009. There were two key participation loans that were placed into nonperforming status in the first quarter. And again, Mike will go into those details a little bit later. On our first quarter -- our first quarter provision for loan losses was $45 million, which represents an increase of $36.8 million from the first quarter of 2009 and was primarily driven by the deterioration of collateral values. Obviously, credit quality remains our number one focus, as we continue to work to resolve the credit challenges in our out-of-state construction loans and construction loans. These loans makeup a relatively small portion of our portfolio and have had a disproportionally large effect on our earnings.

In addition, they have obscured what is otherwise a compelling story about the performance of our branch banking and small business banking. Over the last two to three years First Commonwealth has systematically renewed our community banking focus. Our approach has been built on the strategy of delivering locally as a responsible community bank. To that end, we continue to see significant progress through the first quarter. Net interest income was up 5% from the first quarter 2009, driven by a 15 basis point increase in net interest margin. Non-interest income is up as well, largely as a result of improved performance in the deposit services, wealth and insurance products. This is the focus of a number of strategic initiatives and we believe these efforts will produce significant opportunities for growth.

Our strategic focus on core deposit growth continues to reap benefits, as these deposits are not only our most reasonably priced source of funds, but they are also a great source of fee revenue and a powerful means of building customer relationships. On the OTTI front, we continue to see a reduction in deferrals and defaults for the last three quarters. In the first quarter 2010, we recorded a $2.8 million impairment charge on six trust preferred securities. That is down from $9.9 million recorded in the first quarter of 2009. Additionally, we have seen one of our banks within our pools cure during the quarter. We also continued our cost containment efforts with non-interest expense decreasing slightly from our first quarter 2009. We've taken a very surgical approach to our expense reduction initiatives because we remain intent on cutting the fat, while preserving the muscle that moves our Company forward. We believe more opportunities exist to reduce expenses.

So while we understand that credit quality is the pressing matter of the day and that these credits were originated mostly in 2006 and 2007, we also know that these credit issues are over shadowing another important story, that loans, deposits, net interest income, net interest margin are up, while impairment charges and non-interest expenses are down. Basically, we've executed on a community banking principals, which have led to a solid fundamental performance in the first quarter. So although we feel good about the growth we've generated, our credit issues continue to create volatility in our earnings. And as a result our Board of Directors concluded is appropriate to reduce our dividend to $0.01 per share. So, with that overview, I would to introduce Bob Rout to discuss our first quarter financials. Bob.

Thank you, John. Good afternoon everyone. Certainly has been another busy quarter for us, as credit has established itself as the most important topic of discussion. I'll touch on our reserve levels, but will allow Mike Price to discuss specific details of those credit issues. And then I also plan to quickly go through some of the other issues that are affecting our performance for this first quarter. The first and certainly the most significant issue affecting earnings this quarter was the $45 million of provision expense we took as a result of the deterioration on two loans, which were placed in the nonaccrual status during the third and fourth quarters of last year, as well as two new ones of out-of-market condominium participation loans. These handful of large credits continue to cause a disproportionate effect to earnings, something that we are all well aware of and are currently taking every necessary step to mitigate those effects.

Net charge-offs were approximately $8 million for the quarter and as a result a reserve increase of $37 million to 71% of our nonperforming loans. This is slightly better than the industry peers was at at the end of the year. I also like to point out that in excess of $50 million, that reserve is related to specific reserves dedicated to two of our largest nonperforming credits. Despite a higher level of nonaccrual loans, net interest income had to increase $2.5 million or 5% year-over-year. The increase is being driven by a 9 basis point expansion in the margin, which makes it five out of the last seven quarters that we saw improvement in that net margin. Our focus on growing core deposits and the associated household relationships, allowing the securities portfolio to run off and the paying down of borrowings has considerably changed the profile of our balance sheet.

We believe that ample liquidity and reduced balance sheet leverage is a place to be during these uncertain economic times. It will also position us well for when the economy does pick up. We did a nice job last year of keeping the expenses in check and it seems that that trend has carried over into 2010. We certainly believe that there's lots more opportunities in this area via process improvement activities. On the fee revenue side of the house, we are seeing some improvement in our wealth management business, as market values of assets under management have rebounded appreciably from where they were a year ago. This area is also benefiting from some recent management additions and the upgrading of technology. We sold off approximately $700,000 or 20% of our equities portfolio during the first quarter and recorded a $400,000 pre-tax gain.

The remaining $2.5 million in that portfolio consists of local bank stocks and currently has unrealized gains of about $100,000. We will continue to prune that portfolio down to positions where we might have a future strategic (inaudible). During the first quarter of 2010 we recognized other than temporary impairment charges of $2.8 million on the trust preferred hold securities. An encouraging sign here is that this is the third quarter in a row where we saw an improvement in the rates of deferrals and defaults, which is having a direct correlation to our impairment charge improvement. Hopefully this trend will continue through 2010. Our current net exposure in whole trust preferred securities is now approximately $28 million. So on that note I'll turn the call to Mike Price for some details on our four banking fundamentals and additional information concerning our credit quality.

Thanks Bob. I'll keep my comments brief given the supplemental financial data that we provided. Unfortunately, First Commonwealth is continuing to feel the impact of the environment and its affect on our commercial loan portfolio, mainly in our construction loans. However, there are areas within First Commonwealth that continue to improve and I'll get to those, but first I'd like to provide some additional details around credit. Total net nonperforming loans increased approximately $19 million or 13% for the first quarter of 2010 comparable to the increase in the fourth quarter of 2009. First quarter additions were primarily driven by two out-of-market credits, a $13 million participation loan secured primarily by a condominium development in Missouri that was originated in 2007 and secondly, a $7 million participation loan on a recently completed condominium project in North Carolina. This loan was also booked in 2007. Neither of these loans were shared national credits.

Looking at the entire nonperforming loan portfolio at March 31, 2010, which you can see on page seven of the presentation, we had $167 million, which represents 3.6% of total loans. The construction portfolio has the largest amount of nonaccrual loans, but represents only 9% of our total loan portfolio and 95% of the construction nonaccrual loans are out of Pennsylvania. Also about 13% of our nonperforming loans, or $21 million, were shared national credits, which you can see on page 21. And all of these nonperforming loans were outside of PA. Out-of-state lending is a practice that we curtailed significantly in 2009. Looking at the percentage of nonperforming loans to outstanding loans by type, 20% of our construction loans are nonperforming, 2% of commercial real estate loans are nonperforming and 5% of C&I loans are nonperforming.

In aggregate, our two largest nonperforming loans, first a $46.1 million line of credit to a western Pennsylvania real estate developer that was placed in the nonaccrual status in the fourth quarter of 2009 and second, a $39.4 million construction loan for a Florida condominium project that was placed in the nonaccrual status in the third quarter of 2009. The total here is $85.5 million representing basically half of the total nonperforming loan balance and we have specific allocations to the reserve of $54.2 million on these two credits. If you turn to page 20, I'd like to further clarify. I know our participations in SNCs have drawn some scrutiny and as you know, not all of our participations are SNCs. But if you look at page 20, you can see in the first quarter of 2010 $505 million, or that red bar, are C&I credits. And I'd just like to comment briefly on those. Here in this C&I portfolio that our purchase indications, we have 27 names over $15 million.

The majority of these borrowers are large western Pennsylvania headquartered companies, or about 70%. At the end of the year here we had one relationship over $50 million and this loan was reduced and the relationship is now below 50. It's important to note that none of these large customers are on nonaccrual and the credit cost of this portfolio overall, the C&I book here, had been reasonable given the recession. So indeed, as you've heard earlier, our challenge lies in the construction loan portfolio. As John mentioned earlier, we are all seeing continued improvement in some fundamentals within our community banking operations at First Commonwealth. As a result of our efforts, growth is balanced between consumer and commercial banking and we are getting good loan spreads and a better mix of lower cost transaction in savings deposits. Household growth continues to be solid and our attrition rates are low.

Regarding some of the fundamentals that will drive long-term success for First Commonwealth, as you can see on page four, total loans from March 31, 2009 increased $137 million or 3% on an annual basis. Of that $93 million or two-thirds were in commercial loans and $44 million or approximately one third were in consumer loans. Commercial loans grew 3% and consumer loans increased 2% for the 12 month period. We exited the mortgage origination business about four years ago and this portfolio has been running off. We had run off $112 million in the past 12 months, in fact. Excluding this planned run-off, consumer loan growth would have been greater than commercial loan growth. As we indicated earlier, balance growth is our goal. For the first quarter of 2010 our average FICO scores on consumer credit remained flat versus the average scores for 2009.

Our average score of 746 still indicates that we are not sacrificing quality in our underwriting standards to generate growth. Consumer delinquencies were relatively flat at March 31, 2010 compared to the same period last year. Total deposits increased $333 million or 8% from March 31, 2009. Lower costing transaction savings deposits increased $497 million or 20% during the same timeframe. These lower costing deposits represented 65% of our total deposits at March 31, 2010, up appreciably from 58% at March 31, 2009. So this is a nice shift year-over-year in our mix of deposits. And we expect this shift to continue over time, which will help us drive the net interest margin performance. As John mentioned earlier, we are aligning the Company's goals with our shareholder values.

Specifically, we'll continue to improve our sales and service execution. On the lending side balance growth between consumer and commercial lending will be important. We need to reduce our out-of-market real estate exposures and scale down large individual credit relationships. On the deposit side our focus will be to drive transaction in savings deposit growth and our engine there will be small business. Now I'd like to turn the call back to the operator and open it up for some questions.

(Operator Instructions) Our first question comes from Matt Schultheis from Boenning & Scattergood. Please go ahead.

Good afternoon, gentlemen.

Hi Matt.

A quick question for you, a couple of quick questions, actually. I think at the end of the year you had about $458 million and SNCs outstanding commitments were over $900 million. Have you seen any draws on the existing commitments?

Mike, do you want to -- .

$458 million in SNCs and $900 million in commitments?

We have Bob Emmerich here as well. Bob, do you have any comments on that?

The shared national credits by state are shown on page 21 of the slide and the total we have there at March 31st was $431 million. Overall our utilization rate on our commercial facilities have been running in the mid 40s. They've declined a bit from a year ago from in the 50s to the mid 40s and I don't have the utilization rate for the SNCs specifically, but I would think that they would be representative of that.

Okay. And you may need to correct me on this, but a lot of these that you've, a lot of these loans that you've identified over the past year, individual loans, have been participations and for example, the one that you took, the Florida construction that you had to reserve for the collateral write-down with this quarter, was that something that you guys did or was that something that the lead participant in the loan did and you guys just had to follow suit?

The one we are talking about in Florida that was originally $39 million and that we now have a $32 million allocation on, that is a credit that we did directly.

Okay. As far as -- Okay, so that was a direct. So as far as participations, in general speaking the ones that you have done that have been problematic, are you the lead or are you somewhere.

We are a participant.

Okay, you are general participant. Are you following the lead's example in how you are reserving for these or are you being more aggressive than the lead is?

Generally speaking, this is Bob Emmerich. Generally speaking the agent bank doesn't, would not reveal how they would set a reserve unless it was a shared national credit where you were mandated to take a charge off for it. Generally speaking the agent wouldn't tell you what their reserving methodology was.

Okay.

So result means that we would be using our methodology.

Absolutely. Okay, I think that's it for me. Thank you very much.

Thanks, Matt..

Thank you. Our next question comes from Damon DelMonte from KBW, please go ahead.

Hi, good afternoon guys. How are you.

Good, Damon, how about yourself?.

Great, thanks Could you guys talk a little about the amount of NSF fees that would be at risk with the upcoming regulation that takes effect in July?

We calculated about $1.2 million.

Annual basis.

On an annual basis.

A million point two?

Yes.

And have you guys began to look at programs that might mitigate that loss or is that what you think your best case scenario is?

Let me clarify that, Damon. The regulation doesn't kick in until the last half of the year. We anticipated that that would be $1.2 million for the six months. And so -- . We are continuing to look at -- it's hard to quantify right now, by the way, because it's hard to tell what the customers reactions will be and their preference, but we are continuing to look at what are the alternatives to be able to, I'll say, maintain fee levels even if it's not an [aset] fees. We are continuing to evolve our solution there, but right now the quick and dirty is going to be $200,000 a month and the other thing that affects that is we are continuing to grow our DDA balances and we are hopeful that that will offset some of the deficiencies as well.

Okay. Great. And then kind of going forward, how should we look at the provision? Do you guys think that provision would match charge-offs going forward and thus your 258 reserve level is adequate or are you expecting more choppiness with some of these commercial credits?

Well, it's hard to predict the future there, so all I can say is that we believe that the amounts that we've set aside right now reflect the risk that we have in the portfolio in the existing conditions. If the conditions change, that will have an impact. Mike talked about the largest credits that we have remaining in that participation portfolio and the quality of what's going on with those credits, that's under current conditions. They seem to be doing okay. But if the market changes, that could have an impact. So I'd rather not speculate on it though.

Damon, it's Bob Rout. Also you need to consider that, again, $54 million of that reserve is specifically assigned to two credits. So we won't necessary replace that back to 258 if there is some type of charge done on those credits. I wouldn't read into anything on that coverage ratio right now.

Okay. And from a lending perspective are you guys still following customers outside of your core western PA markets?

No.

Sticking local? Okay. And then I guess my last question relates to capital. Total capital at the holding Company was 11%. I believe it was 10.4% at the bank level. I think from a bank level perspective it is getting close to that well capitalized status. What is your thought process regarding your current capital level and how does the recent shelf filing kind of come into that picture as well? So what are your thoughts on capital?

Well, we remain well capitalized and we intend to remain well capitalized. We are going to manage our need for capital, as well, so the shelf registration was a precautionary method or precautionary thing and I think that it's pretty common for banks in this environment to have a shelf registration. So I can't say we have any specific plans at this time.

Okay. Thank you very much.

Sure, Damon.

(Operator Instructions) Our next question comes from Mac Hodgson from Suntrust Robinson Humphrey, please go ahead.

Hi, good afternoon. Hi, Mac. Just a quick follow-up on that last capital conversation. Do you have any liquidity at the holding Company you could downstream into the bank to further support ratios?

We do have some at the holding Company and we also have an investment subsidiary that has additional liquidity.

How much liquidity would that be?

I don't know if we disclose that in any of our documents, but, yes, I'd rather not disclose all those details at this point in time.

Okay. Then on the large Florida credit, the $39 million or so, I know you had a specific reserve for it earlier with their reappraisal in the first quarter, what drove the change there?

This is Bob Emmerich. It was a reappraisal and what we are finding with a lot of these real estate assets is prices really don't have not much in the way of comps and a lot of the comps that they do have are just from a share of sales foreclosures and so that is really impacting the values that they are coming back with, particularly for a land acquisition loan.

Mac, this is John. What Bob says, what we are experiencing is these appraisals coming back, they are already reflected in our provision as we have experienced those.

And I think it's also worthy to note that as the market has fallen out on some of these market areas, that we are having developers walk away from deals and walk away from work-out plans, thus forcing as is appraisals as opposed to as complete appraisals and that is having a very significant effect on valuations with anything connected to real estate development at this time.

So I take it you guys are moving forward with a foreclosure there?

That is one of the possibilities we are still continuing to negotiate with the equity partner there.

Okay, got you. And maybe just one last one. John, you mentioned expenses. You all feel like there is more opportunities to reduce expenses. Could you provide any more detail on things you might look at and potential magnitude?

There's nothing that I'm ready to disclose at this time, but we are constantly looking at operating efficiencies, different ways to do business and that's one of the things that Bob is pretty good at is looking at efficiencies. So we are going to utilize his skills.

Okay. Thank you.

Sure.

(Operator Instructions) We show no further questions at this time. I'd like to turn the call back over to you, Mr. Stimel, for any closing remarks.

Well, I'll just -- this is John. I just wanted to thank everybody for joining us this afternoon. And in looking at the first quarter it's really about the convergence of the past and the future. On one hand we are dealing with the past credit decisions, which resulted in a small group of out-of-market loans that today are having a disproportionate effect on our earnings. And we continue to work through this issue. On the other hand, we are seeing ongoing signs of strong fundamentals with growth in deposits, loans, net interest income and net interest margin and we believe these results, stemming from a firm commitment to responsible community banking, will allow us to build a more comprehensive customer relationship and lead us to long-term sustainable growth and we look forward to speaking with you again in the very near future. Thanks.

Thank you. The conference is now concluded. Thank you for attending today's presentation. You may now disconnect.