First Financial Bancorp (FFBC) 2008 Q1 法說會逐字稿

Good morning, ladies and gentlemen, and welcome to the Irwin Financial 2008 first-quarter results conference call. At this time all participants are in a listen-only mode and later we'll conduct a question-and-answer session. I'll now turn the call over to Mr. Will Miller. Mr. Miller, you may begin.

Thank you, Rose. Good morning and thank you for joining us. I'm joined today by Greg Ehlinger, our CFO, and Jody Littrell, our Controller. Before we start our presentation I want to make you aware of important cautionary disclosures in connection with the forward-looking statements we'll be making on this call. Cautionary disclosures are in our written earnings press release and in our recent SEC filings.

Today we announced a loss of $22.2 million or $0.77 per share for the first quarter of 2008, a modest improvement over our fourth-quarter results. Although we did not make as much progress in reducing our total loss in the first quarter as we had hoped, we are pleased in the underlying progress towards profitability that we are making in our operating segments.

Losses from the Corporation's three operating segments were $10.6 million which was a 51% reduction from the fourth quarter of 2007, driven largely by significantly lower losses in our home equity line of business. We are moving in the right direction.

Total consolidated results did not improve as much as total operating segment results in large part due to a non-cash mark to market impairment of $8 million after-tax in our securities portfolio reflecting the disruption in the bond markets. Greg will discuss this in more detail.

Today we also announced that management and our Board have begun a series of moves to pursue strategic alternatives with the aim of refocusing the Corporation on our core services to small-business customers. To accelerate the reduction of exposure to risk in our home equity segment we have suspended originations of all loans for our own portfolio including all second mortgages and are now focused solely on government insured and conforming conventional first mortgage loans that can be sold into the secondary market.

In addition, we have engaged Stifel Nicolaus and Milestone Advisors to explore alternatives to achieve our strategic refocusing objectives and resolve our home equity credit loan exposure. These steps include, but are not limited to, a sale of loans, a spin-off of assets or recapitalization. Based on our knowledge today, including the historic performance of our small-business focused segments, once we have achieved these objectives and taken the associated charges we expect to be profitable on a consolidated basis. Our goal is to complete this process in the third quarter if not sooner.

We remain focused on maintaining and enhancing our liquidity and capital positions. We suspended our dividends and reduced our assets. In spite of the first-quarter losses at March 31, we had 12.5% risk-weighted capital at Irwin Financial Corp. and 12.4% at Irwin Union Bank and Trust, both above our internal targets and relatively unchanged from year end.

I'd now like to turn the call over to Greg to discuss our results in greater detail.

Thank you, Will. Consolidated net revenues in the first quarter increased on a sequential quarter basis. The increase over the fourth quarter primarily reflected the decline in loan loss provisions. Our consolidated loss provision totaled $45 million in the first quarter, a 30% decline from the fourth quarter, but a 92% increase compared to the first quarter of 2007.

Net interest income was $64 million for the quarter, a modest decrease on a sequential quarter and year-over-year basis due to the reduction in our loan and lease portfolio. The consolidated loan and lease portfolio declined 8% on an annualized basis totaling $5.6 billion as of March 31. Total deposits -- deposits totaled $3.4 billion at March 31, and were relatively unchanged from year end. Our consolidated net interest margin increased modestly to 4.44% during the first quarter as compared to 4.43% during the fourth quarter.

The Corporation had $436 million or $14.41 per share in shareholders' equity as of March 31. At quarter end the Tier 1 leverage ratio and total risk-based capital ratios were 9.8 and 12.5% as compared to 10.2% and 12.6% at the end of 2007. Those capital ratios at Irwin Union Bank and Trust were 10.3% and 12.4% respectively for the Tier 1 leverage and total risk-based capital ratios at March 31.

Nonperforming loans and leases totaled $99 million or 1.78% of loans and leases as of March 31, up from $76 million or 1.34% of total loans and leases at December 31. The increase principally reflects a $20 million increase in nonperforming commercial real estate loans in the commercial banking segment. Non-performing home equity and commercial finance loans were modestly greater at 3-31 than at December 31.

The allowance for loan and lease losses for our portfolios totaled $159 million at March 31, up $14 million from the end of the year. The ratio of allowance for loan and lease losses to nonperforming loans and leases was 160% at March 31, down from 190% at the end of December. This decline reflects the difference in our -- and our lower loss expectations for nonperforming loans in the commercial banking segment as compared to the Corporation's other portfolios.

The consolidated loan and lease provision totaled $45 million in the first quarter; this was down from $64 million in the fourth quarter principally reflecting a $17 million sequential quarter decrease in the provision for the home equity portfolio. Charge-offs totaled $30.2 million, up $6.5 million or 27% on a sequential quarter basis.

I'll now turn to some detail by segment beginning with commercial banking which earned net income of $1.1 million, down $600,000 from the fourth quarter, reflecting lower net interest margins and increased compensation and related expenses.

The loan portfolio declined modestly during the quarter. Net interest margin decreased to 3.76% in the quarter, down from 3.83% in the fourth quarter, as we experienced loan repricing at a faster rate than deposits and other funding sources in the rapidly declining rate environment of the first-quarter.

Credit quality in the commercial banking portfolio weakened across several of our markets. 30-day rated delinquencies rose to 1.07% compared to 0.85% at year end. Nonperforming assets also increased from $34 million to $55 million during the quarter, primarily related to deteriorating commercial real estate credits related to residential housing markets in Phoenix and Sacramento.

To address this increase we have recorded provision of $6.6 million during the quarter which brings the allowance for loan and lease losses to 1.36% of loans at March 31, up from 1.19% at year end. Charge-offs of $2 million were unchanged from the fourth quarter. Our reserve in this segment now represents five times our annualized loss rates from the last two quarters.

Our commercial finance line of business earned record quarterly net income of $4.4 million in the first quarter, up from $4.2 million in the fourth quarter. We're certainly pleased with the performance of this segment and particularly our franchise finance channel. The segment's loan and lease portfolio ended the quarter at $1.3 billion, down modestly from the end of the year, reflecting loan sales as well as portfolio run-off. Loan and lease originations in the first quarter totaled $143 million.

Sales of franchise loans totaled $61 million and our net interest margin in this segment declined to 4.44% down from 4.56% during the fourth quarter due to funding costs which did not decline in line with variable loan rates.

Overall our credit quality declined in the commercial finance segment but remains within our expectations. Nonperforming loans totaled $11 million, up from $9 million at the end of the year. We addressed this increase with a $1 million increase in the quarterly loan and lease provision to $5 million as compared to $4 million in the fourth quarter. Charge-offs of $2.7 million declined modestly from the fourth quarter.

Our home equity lending business lost $16.1 million during the first quarter, this compares to a loss of $27.2 million in the fourth quarter. This improvement reflects the effect of a moderating rate of decline in the credit quality of the portfolio during the first quarter.

As we'll discuss, during the first quarter we ceased originations of high loan to value second mortgages and now have stopped origination of loans for portfolio including all second mortgages. This segment has shifted its focus to originating mostly government insured and conforming conventional loans for sale.

Loan originations totaled only $29 million in the quarter, down from $39 million in the fourth quarter. The production decline is reflective of the transition to originating conventional products exclusively for sale to the secondary market. Our home equity loan portfolio declined to $1.4 billion as of March 31, compared to $1.5 billion at year end.

As Will noted, credit metrics indicated a moderation of the stress observed in the second half of 2007 and it was consistent with historic seasonal trends. Our 30-day delinquencies on the managed portfolio fell to 5.66% from 5.78% at the end of December.

Net charge-offs on the managed portfolio totaled $25 million or 6.6% on an annualized basis as compared to $19 million or 4.6% annualized in the fourth quarter of 2007. Our nonperforming loans of $41 million in this segment were up only slightly from year end. Our loan loss provision totaled $33 million, down from $50 million during the fourth quarter.

Finally, our former Irwin mortgages segment, which we reported as discontinued operations in 2007, is now consolidated in our reporting in parent and other in our 10-Q. I'm pleased to say that the results from the wind down were a nonmaterial factor during the first quarter and we believe our repurchase reserves continue to be adequate.

Lastly, we recorded impairment of $13 million on a portion of our securities portfolio, this portfolio -- the markdown was on a portion of the portfolio which consists of private-label nonconforming first mortgage loans and we now carry that portfolio at 50% of face value.

So in summary, in the first quarter we made progress towards our goal of returning to profitability. Will, I and the rest of the senior management team believe we have taken the actions necessary to address the unusual environment in which we're operating. We improved our operating results at our three segments by $11 million; we once again had record results in our commercial finance segment. We're working towards a solution to significantly reduce or eliminate our exposure to credit risk with our home equity loans and we're managing our balance sheet to maintain capital and liquidity with a risk-weighted capital ratio at quarter end of 12.5%.

While current conditions and results are proving very difficult we have embarked on a process to return to profitability by reducing or eliminating our exposure to credit losses from home equity loans and refocusing on our core services to small business customers. Rose, Will and I and Jody would like to open the call to questions, please.

(OPERATOR INSTRUCTIONS). Ross Demmerle, Hilliard Lyons.

Good morning. The securities that were written down, do you plan to hold those to maturity and do you really believe that the impairment is temporary in those or is there a good chance that they'll be written back up?

Ross, those are securities. We give a little bit of detail on our securities portfolio I think in Note 3 of our Q that we filed this morning. They are our nonagency portion of that portfolio. And as you know, liquidity has evaporated in the entire market for that type of security.

So we certainly think we were following the right accounting treatment to record other than temporary impairment on that portfolio. We certainly hope that there will be value in those securities, those bonds well north of 50% as the capital markets return to some degree of normalcy, particularly with regard to liquidity.

I should note that they are non-agency loans that are backing those bonds so it is not the case that there is no credit risk in those bonds. But certainly the secondary market liquidity issues with bond traders are driving the mark to market on that portfolio quite significantly.

Having put them in other than temporary impairment, we would need to sell those bonds to realize a price above the carrying value, the 50% carrying value. But of course as long as they perform we'll be getting a nice yield on now a 50% reduced carrying value.

Let me just add that they are still paying as expected. And that what Greg mentioned was the accounting treatment, because the accounting treatment requires us to market as other than temporary impairment. You can't just write it back up if you get a market quote that's higher than your 50%. However, this is a securities portfolio which is intended to be held as liquid, so -- over the long-term.

So if they start trading again, one thing we could do is sell these bonds when we thought the price was good and invest in other bonds and then we would recognize the difference between the written down value and what they traded at. It's not going to be written back up in a mark to market sense, it will only be written back up if we sell them and invest in other bonds in our securities portfolio.

Okay. And then in the press release you talk about separating the bank from the home equity lending division and having sufficient capital remaining at the bank and you've got a hypothetical situation you're using here. I'm wondering if you went down as far as what that might do to book value per share at the -- for Irwin Financial if that were to be the case in the hypothetical situation.

Let me emphasize that it is hypothetical and we believe our home equity loans have value that can be realized, would increase the numbers shared in the press release. They currently only have about 6% delinquency, so if you think about that in terms of where assets of this nature trade with that kind of delinquency ratio it's not at zero.

But the point we wanted to make has to do with the impact that the home equity portfolio has in terms of its potential on our capital levels. And we did go through the analysis where we say that the -- let me just run through that analysis real quickly so that everybody understands.

There's $1.4 billion of loans and residuals on our balance sheet, but only about $325 million of that represent whole loans on which we have the entire risk of loss. $1.1 million of it represents loans that were securitized with financing treatment and that limits our total loss exposure on those loans to 145; then we have a small residual from a previous securitization valued at less than $2 million.

So the maximum pre-tax loss that we could bear if these things hypothetically were worth zero is less than $500 million. And as long as the associated debt and other assets and liabilities are transferred off the balance sheet at the same time and as long as we get a tax deduction on those losses, which we believe we would, then the capital impact is less than $300 million, and yet we'd be removing $1.4 billion of loans from our balance sheet.

This is laid out on page 44 of the Q. But that's the really important math for everybody to understand, that if you take an awful lot of assets off the balance sheet relative to the capital that would be impaired, and that's why the ratio in the pro forma analysis, the hypothetical example would stay above the statutory definition of well capitalized at 10%.

Now all that said, if you assume zero value -- and again, let me emphasize we don't think they have zero value -- the book value at that point would be slightly less than $7.00 a share. But again, we think they have value and that number would be therefore higher.

All right, thanks.

(OPERATOR INSTRUCTIONS). Stephen Geyen, Stifel Nicolaus.

Good morning. Just wondering if you can give some color on the size of the credit, the commercial loans that went bad -- the credit size and the number of credits involved. And I'm wondering if those properties are developed or undeveloped?

Good morning, Stephen. Stephen, the answer to the question is mixed depending on individual loans. They are both developed and undeveloped residential real estate collateralized loans. As we noted, they are principally in a couple of our Western markets and they are generally in the size range of a few million to up to but less than $10 million in size.

And what were they marked down to from the original value?

Again, that's mixed depending on where the property was, the guarantor position, the collateral. We have marked those in our specific reserve of FAS 114 and I don't, Stephen, have in front of me the detail of each individual loan. But what we do in our FAS 114 portion of our allowance is we mark those down specifically, recognizing what we think is a recoverable value based on very recently updated appraisals.

And the specific mark also includes our estimates of costs to go through the whole process of realizing that value.

Okay. And have you looked at similar loans in the portfolio that (multiple speakers)?

Yes, we are doing an intense sweep of the entire portfolio as you might imagine.

Okay. And the last question, the commercial finance 30-day delinquencies was up. Was that primarily one credit or was that a bit more broad exposure maybe in Canada also in the U.S.?

That's mostly concentrated in the U.S. small ticket leasing portfolio where I think economic conditions and the stage of the business cycle is having the anticipated effect on some equipment types, particularly in the construction-related industries.

Okay, thank you.

(OPERATOR INSTRUCTIONS).

Okay, Rose -- do you have one?

Actually we have one. Robert Wolf, Stonebridge Advisors.

Good morning. Can you just comment on your outlook for when you might contemplate reinstating the dividends on the preferred?

What we've said is it's unlikely to happen in 2008 and in the current environment the ability to forecast beyond the end of the year is rather difficult. Just philosophically of course we will plan on reinstating the trust preferred dividends first which are accumulating and without reinstating those we're not able to do any other dividends.

And then we'll turn to the non-cumulative preferred, because they're in a senior position, and reinstate those as soon as we can. And then we would contemplate trying to bring back something for the common shareholders like me. But at this point it would be hard to give you a timing view on that because it's clearly beyond this year and figuring out 2009 is something that I don't think many people are able to do yet.

And then in terms of the alternatives you're exploring on the recapitalization, can give any details of what might be thinking around that?

We're still at a fairly early stage of conversations with our investment bankers, so there's nothing definitive there yet.

Okay, thank you.

(OPERATOR INSTRUCTIONS). We have no further questions.

Thank you, Rose. We appreciate your interest and I hope you got the sense that we feel that we are making progress and particularly we are pleased with the operating level reduction in losses and that we have a plan to move forward and refocus the Company on our core banking services to small businesses which historically have been profitable and we believe are good businesses for the long-term and we'll be working very hard over the next two quarters to get this process done. So thank you very much and we look forward to talking to you when we announce second-quarter results.

Thank you, ladies and gentlemen. This concludes today's conference. Thank you for participating. You may all disconnect.