First Financial Bancorp (FFBC) 2018 Q4 法說會逐字稿

Good day, and welcome to the First Financial Bancorp Fourth Quarter 2018 Earnings Conference Call and Webcast.

(Operator Instructions)

Please note this event is being recorded.

I would now like to turn the conference over to Mr. Scott Crawley, Corporate Controller.

Please go ahead.

Thank you, Nicole.

Good morning, everyone, and thank you for joining us on today's conference call to discuss First Financial Bancorp's Fourth Quarter and Full Year 2018 Financial Results.

Participating on today's call will be Claude Davis, Executive Chairman; Archie Brown, President and Chief Executive Officer; and Jamie Anderson, Chief Financial Officer.

Both the press release we issued yesterday and the accompanying slide presentation are available on our website at www.bankatfirst.com under the Investor Relations section.

We will make reference to the slides contained in the accompanying presentation during today's call.

Additionally, please refer to the forward-looking statements disclosure contained in the fourth quarter 2018 earnings release as well as our SEC filings for a full discussion of the company's risk factors.

The information we provide today is accurate as of December 31, 2018, and we'll not be updating any forward-looking statements to reflect facts or circumstances after this call.

I'll now turn the call over to Archie Brown.

Thank you, Scott.

Good morning, and thank you for joining us on today's call.

Yesterday afternoon, we announced our financial results for the fourth quarter and full year 2018.

Before I turn the call over to Jamie to discuss results in greater detail, I'd like to recap the progress we made this year and provide some highlights from the most recent quarter.

After Jamie's discussion, I will wrap up with some forward-looking commentary and closing remarks.

2018 was an exciting and landmark year for First Financial.

We completed a merger with MainSource Financial Group, successfully integrating management, sales, support teams and migrating clients to unified banking platforms.

Additionally, we continued to invest in strategic areas such as sales depth and technology.

Our full year 2018 earnings were very good and on an adjusted basis, reflected top-quartile performance versus our peers.

The earnings power of our high-performing company enabled us to achieve full year earnings of $2.28 per share, a 1.62% return on average assets, a 20.5% return on average tangible common equity and a 51% efficiency ratio when adjusted to remove merger-related and nonoperating items.

Our fourth quarter results were exceptionally strong and marked our 113th consecutive quarter of profitability.

We're very pleased with the operational performance of the company, delivering industry-leading returns on assets and average tangible common equity while expanding our net interest margin 9 basis points.

Core banking trends were positive, and loan originations were stronger than they have been all year.

However, elevated payoffs, particularly in investment commercial real estate led to a decline in overall loan balances.

We're particularly pleased with our deposit growth during the quarter and maintained a pricing discipline that, we believe, benefits both our clients and our shareholders.

Additionally, I'd like to announce that First Financial's Board of Directors has approved a 10% increase in the quarterly shareholder dividend to $0.22 per share.

We also recently announced a share repurchase plan of up to 5 million shares or approximately 5% of the company's issued and outstanding shares.

Our strengthening capital levels and earnings consistency support capital deployment strategies, while still retaining capital sufficient to support future growth.

2018 was a significant year of change for First Financial.

We're highly encouraged by the way in which the company has come together culturally and performed financially.

Successfully completing a transformational merger while producing top-quartile returns reflects the hard work of our associates and dedication to serving the needs of our client and shareholders.

With that, I'll now turn the call over to Jamie to discuss further details of our fourth quarter results.

Thank you, Archie, and good morning, everyone.

Slides 3 and 4 provide an overview of our fourth quarter 2018 performance.

As Archie mentioned, we're pleased with our quarterly results, highlighted by strong earnings, revenue growth, net interest margin expansion and increased efficiency.

On Slide 5, we provided a reconciliation of our GAAP earnings to adjusted earnings, highlighting items that, we believe, are important to understanding our quarterly performance.

For the fourth quarter, adjusted net income was $59.7 million or $0.61 per share, which excludes income related to the exercise of the cleanup call on securitizations associated with our 2009 FDIC-assisted transaction as well as severance and merger-related costs.

As shown on Slide 6, these adjusted earnings equate to a return on average assets of 1.72%, and a return on average tangible common equity of 21.3%.

Further, our 49.3% adjusted efficiency ratio reflects continued diligence in managing expenses subsequent to the merger.

Turning to Slide 7. Net interest margin on a fully tax equivalent basis for the fourth quarter increased 9 basis points from the linked quarter to 4.21% as the impact from higher asset yields, higher loan fees and the shift in funding mix outpaced higher deposit costs during the period.

The purchase accounting impact to margin was 29 basis points in the fourth quarter, which was unchanged from the linked quarter.

However, we would expect this impact to moderate in 2019 and have modeled as such in future periods.

As shown on Slide 8, our loan yields improved by 20 basis points and the yield on securities increased 9 basis points, leading the impact from a 9 basis point increase in our cost of deposits.

Similar to the fourth quarter, in which end-of-period securities balances increased in response to slower loan growth, we will continue to manage the size of the securities portfolio based on overall balance sheet trends.

Slide 9 depicts our current loan mix and balance shifts compared to the linked quarter.

End-of-period loan balances were relatively flat compared to the third quarter.

Fourth quarter loan originations were stronger than they have been all year, increasing 10% over the linked quarter, but the impact from the increased origination activity was offset by elevated commercial real estate payoffs.

As a result, increases in our C&I, commercial finance and mortgage portfolios were not enough to drive total loan growth for the period.

Slide 10 shows the current mix of our deposit base as well as the progression of average deposits from the third quarter.

Average deposit balances increased by $162 million, driven by growth in noninterest-bearing deposits and brokered CD balances.

In addition to balance growth, we are encouraged by our ability to maintain pricing discipline that benefits both our clients and our shareholders.

Slide 11 depicts our asset quality trends for the last 5 quarters.

Classified asset balances, which we consider a leading indicator of credit losses, declined 5%, while net charge-offs and nonperforming assets both increased during the quarter leading to higher provision expense.

Fourth quarter net charge-offs were 29 basis points of loans on an annualized basis, while full year net charge-offs of 15 basis points were relatively flat when compared to 2017.

The increase in nonperforming assets of $23.5 million was primarily driven by further deterioration of a single franchise finance relationship for which we believe the enterprise value exceeds the outstanding loan balance.

Finally, as shown on slides 12 and 13, capital ratios expanded during the period and remain in excess of stated targets, while tangible book value dilution from the MainSource merger has been substantially recovered.

We will continue to evaluate capital strategies and deployment opportunities that support the company's planned growth, while delivering strong shareholder returns.

I'll now turn it back over to Archie for some commentary on our first quarter 2019 outlook.

Thanks, Jamie.

Before we end our prepared remarks, I want to leave you with some insights into our outlook.

As seen on Slide 14, we believe that we're well positioned for continued success in the coming year.

Given our staffing investments and improved production levels, we remain optimistic in our ability to grow the loan portfolio.

We expect loan balances to increase by low to mid-single digits on an annualized basis for the first quarter of 2019.

With regard to deposits, we expect some declines in the first quarter driven by outflows of seasonal balances but remain optimistic in our ability to grow low-cost core funding over the longer term.

Excluding the impact of purchase accounting and loan prepayment activity, we expect net interest margin to be relatively stable over the near term.

Over the longer term, assuming no further Fed tightening, we will likely see some gradual decline in the margin from the impact of lagging deposit pricing pressures.

Our near-term credit outlook is stable, with expected losses similar to the full year 2018 levels.

We expect fee income to seasonally decline over the next quarter and then rebound.

Growing noninterest income over the longer term is a strategic priority, and we will continue to devote time and resources toward this effort.

Of note will be the decline in interchange income over the back half of 2019, due to the lower rates required by Durbin.

With respect to expenses, we remain focused on efficiency, while continuing to make strategic investments to support the long-term success of our business.

We anticipate an efficiency ratio in the 50% to 52% range moving forward.

As I've previously mentioned, in the last few weeks, we've announced several capital actions related to the common dividend and share buybacks.

Our continued strong earnings, combined with modest balance sheet growth provide the company with enhanced capital flexibility.

In addition to the actions announced today, we are interested in strategic acquisitions that will enable the company to drive higher noninterest income, particularly in the wealth and capital markets areas.

We are actively pursuing opportunities such as these.

Overall, I'm pleased with our progress in 2018 in building a company that can consistently and responsibly produce top-quartile returns.

As we move into 2019, I'm excited to focus on our strategic objective to grow the company in efficient, risk appropriate fashion.

We remain confident in our ability to sustain our high performance, and our outlook for the future continues to be optimistic.

This concludes the prepared comments for the call, Nicole, we'll now open up the call for questions.

(Operator Instructions) Our first question comes from Scott Siefers of Sandler O'Neill.

First thing, I was hoping you guys could talk a little bit about is the NPA and charge-off increase.

Jamie, in your prepared remarks, you noted the single franchise finance credit.

Was that -- so that's the same I imagine as was migrated to special mention last quarter, I just wonder if you could speak to that?

And then second, just the increase in both of those.

Was that nuance all related to those special mention credits from last quarter?

Or is there anything else down that's kind of moving around in your nonperformers or charge-offs?

Scott, this is Archie.

Yes, it was related to credits that had migrated in the third quarter we had previously been talking about.

And of course, one was, I think VISA was much larger of the two.

I would say that, if we think about the root cause or what happened with this borrower, this is the borrower that's really been expanding probably too fast outside of just the part that we're involved with, so if he had other interest, as you said, expanding too fast has caused some problems for him, so that's really the core.

Nothing else systemic really happening in the overall portfolio.

But you look at our Class 5 ratio, it's really been flat to declining over the last 5 quarters, so we feel pretty good about where credit is and again, as I said in my outlook remarks, think that there we'll be probably similar level overall charge-offs as we had in 2018.

Yes, Scott, this is Jamie, just to add on that quickly, on the charge-off side, charge-offs were a little over $6 million for the quarter and now coming off of the third quarter where we actually had net recovery, so you look at the two, and it's not -- it's kind of blended at that 15 basis points, but in the $6 million, there were 2 credits that made over half of that charge-off number, and those were credits that we had identified in the third quarter as problem credits, and they migrated through to nonaccrual, and we charged those down to net realizable value in the quarter.

So as you know, I mean the charge-offs can be a little lumpy, and so we had good quarter in the third quarter, and then we had a couple hit in the fourth quarter to drive that number up.

Okay, perfect, but it sounds like the bottom line is these are just, sort of, a couple of discrete items as opposed to anything broader based, so okay.

Good, perfect, and then just one question on the tax rate, and since this has moved because you'd given the expectation for the first quarter, but the fourth quarter tax rate was maybe a couple hundred basis points below where it's been, and looks like that will come back up in the first quarter.

So I guess, one, anything unusual in the fourth quarter, number that took it down?

And then second, just want to confirm when you talk about the effective tax rate of 19.5% in the first quarter, that is simply an effective tax rate, it's not a fully taxable equivalent rate, right?

Right, that's the effective tax rate, the 19.5% going forward and to just clarify, for the fourth quarter, there wasn't an onetime item in there like a big refund or anything that we got from a previous period.

It was really just chewing up the overall tax rate for 2018, and so it was really was just a year-end type of adjustment to get to our true tax rate.

We were a little conservative on -- in the first 3 quarters with our -- in our accruals and just chewing that up for the year, and to a smaller extent, we got some clarification on some -- the deductibility of some executive comp.

I think you saw in the third quarter, our rate was a little bit higher than it is, like 20.3%, and that drove it up there, plus just being on the conservative side in the -- in our overall accrual.

So it's really all within 2018, it's just chewing it up to our -- to an accurate tax rate for the year.

Our next question comes from Chris McGratty of KBW.

Archie, you talked about the pay downs in the commercial real estate book, and I think it was pretty well telegraphed, there wasn't going to be a ton of growth this quarter.

I guess, as it stands today, what gives you the confidence to go out with a low to mid-single for the first quarter?

Are you seeing any change in the paydown activity?

Or is it just the production in the fourth quarter was really, really strong and pipelines may have changed?

Yes, Chris, I think a couple things.

One is we believe some of those paydowns that occurred in Q4 were just accelerated.

They were, many cases, in the construction book that -- where that goes long.

So to reach construction we're probably in some sort of stabilization period, and they refinanced earlier than we had predicted, but we still had them coming out this year, so there's -- we think we accelerated into Q4 some of that, so that means that we think we'll ramp up a little bit better as we start this year.

And then just looking at here we are, this point in the first quarter looking at our pipelines and our various lines of businesses and they're actively projecting going forward and in our commercial business, in our ICRE business, our commercial finance business, our mortgage business, all are showing what we believe to be some decent growth for the quarter.

So that's kind of where we're getting our, I guess, our confidence or our view about the quarter.

Okay.

And with that, as a backdrop, in terms of funding the growth, should we be assuming, kind of, it comes from deposits, one for one, or kind of is there going to be a bit of a remix from the bond portfolio?

Maybe that's for you, Jamie?

Yes, Chris, this is Jamie.

So if you look at the balance sheet, our ending balance in the securities portfolio was up about $150 million, period to period, and that was, by design, based on just to -- kind of go back half of the year, we didn't really see the loan growth that we were hoping for, so increased the securities portfolio by about $150 million to kind of, I would say, fill in that gap in the earning asset base.

So we will monitor that and see how the deposit, the competition in the deposits marketplace is looking and then as that growth comes, we will slowly bleed back down the securities portfolio to potentially match that.

I'm not -- depending on how the deposit balances go here over the next -- over the short term, 3 to 6 months, that'll determine how much we bring the securities portfolio down, but you'll probably see a combination of the two.

Okay, great.

And if I could sneak one more in on the capital.

The buyback, I guess, can you speak to ability or desire to use it?

Is the plan in place just to have the flexibility or is it -- is there a level maybe in your stock that you might consider to regularly use the buyback?

Yes, Chris, this is Archie.

We'll always look at future growth prospects organically as well as strategic M&A, and make sure we can support the dividend, but I think our view of the actual buyback is that we'll plan to be opportunistic with regard to share repurchases, evaluating this alternative compared to other potential uses of capital.

We'll not plan to have a specific -- we don't have a specific plan or target for the level of repurchases, so when market conditions warrant, we'll take the opportunity under our plan to repurchase shares and then quarterly, we'll provide an update on the level of repurchases made from the previous quarter.

Our next question comes from Nathan Race of Piper Jaffray.

Just going back to the credit discussion around the franchise loan that occurred this quarter.

I was just wondering, if you can give us any other color in terms of -- I assume this was a quick service finance loan, and I'm just curious if this was a club deal or a share net full creditor, just any other background you could provide on the credit would be helpful?

Sure, Nathan.

No, it's our loan, we originated it.

It's, again, that -- the main thing here is we provided financing for some acquisition of some stores for the borrower and then outside of all that, he's just been trying to do some other things and grow fast, and I think it has just put pressure overall on the credit.

Okay, got it.

And just changing gears and think about expenses going forward, I appreciate the guidance for 1Q.

And I imagine you'll probably have some seasonal relief in the second quarter as some of those payroll items come off, so just curious how we should, kind of, think about the progression of noninterest expenses as we go through 2Q into the back half of 2019?

Yes, so this is Jamie, the outlook there for the first quarter in that $76 million to $78 million does have a little bit, like you're talking about, a little seasonal pop there that we have in some of the payroll taxes and whatnot.

And then as those -- but if you think about it as those bleed off, then we have merit increases that kick in throughout the year, and so that, that level stays pretty steady throughout 2019, that $76 million to $78 million.

Okay.

Got it, that's helpful.

And Archie, perhaps just an update on some of the hires that you guys were speaking to last quarter.

I know that's been a focus of you guys more recently, so just curious to hear an update on that front?

Yes, we're pretty close to full -- I think full staffing of our commercial banking groups in all of our markets.

We got 1 or 2 hires to make, but for all intents and purposes, I think we're there, so I feel that we're starting out the year right in terms of staffing our ability to go forward.

Outside of commercial, we did spend time in the last quarter and particularly adding to our mortgage banking group as well, and while the environment's a little tougher there, we think we're going to add some high-quality originators that'll help us through the year as well.

Our next question comes from Terry McEvoy of Stephens.

Just to make sure I'm clear on the margin outlook for the first quarter, that 5 basis point range, how much is that impacted by the loan fees which jumped up 4 basis points?

I know Archie did mention loan fees, I just want to understand that correctly?

Yes, Terry, this is Jamie.

So if you look at the -- yes, if you look at -- so loan fees -- there is some volatility to our loan fees, so if you look on Page 7 of the slide deck where we talk about the margin, we did in the fourth quarter, we did get over and above the third quarter, we did get about a 4 basis point lift in our margin from loan fees, and those are primarily some larger prepayment fees that we see in our commercial finance area.

But if you look over the last several -- few quarters, first quarter, second quarter, third quarter, it was averaging in that 13 to 15 basis point range, and it -- and we got a 17 basis point contribution of fees to the margin, so a little bit higher than the average, so on a conservative basis, if you look in the first quarter, where those could potentially come down a little bit, that does contribute to a little bit of, I guess, pressure from the fourth quarter on the margin.

And then the other thing that you can see on this page that we guide as well in the fourth quarter that could potentially flip the other way is, we got a nice benefit in the fourth quarter from our -- from a change in our funding mix and some of that is seasonal, based on businesses, we saw a lift in our business DDA accounts and that helped our margin by 4 basis points, and some of that is seasonal, which will flip in the first quarter and also put a little bit of pressure on the margin that will offset the benefit that we see that we'll get from the December rate hike.

So our balance sheet still remain slightly asset sensitive, so in the perfect world, rates are up, our -- you can see here, our asset yields went up 12 basis points, funding costs went up 10 basis points.

We get a couple of basis point lift in our margin, but depending on mix and then the volatility of loan fees, could put some pressure on that.

And then just a question for Archie.

You mentioned interest in fee generating businesses in terms of potential acquisitions.

I just want to be clear, potential bank acquisitions, kind of, off the table for 2019?

Yes, Terry, thanks for the question.

I don't -- I wouldn't say, they're totally off the table, but I think we'll be looking more into -- if we did more banking, maybe geographic tuck-ins, smaller strategic kind of deals.

And we're really not focused on large bank deals in the current environment.

You think about where we are in the cycle, we're pretty sensitive to credit risk and just I think we'd shy away from something larger.

(Operator Instructions) Our next question comes from Daniel Cardenas of Raymond James.

Just a quick follow-up question on the M&A.

If you do look at something, would it be primarily in footprint?

Or would you be willing to, kind of, expand the franchise a little bit now that integration seems to be pretty well in place with the MainSource deal?

Yes, Dan, on bank M&A, I still think we think about more within footprint.

We think there's markets that we certainly could improve overall brand presence, market share, and that would probably be a priority if those kind of opportunities came up.

I don't think we, at this point or -- I know we're not exploring anything, but I don't think we really be looking to expand the footprint at this point.

With regard to fee businesses, we probably would look a little bit broader than our core geographic footprint, but probably still want to stay somewhat close to the markets that we're in.

Great.

And then in terms of brand rationalization, is that all completed or is there still a bit of work left to be done?

Relative to the merger, Dan, it's virtually done.

There are a handful of branches, let's say, I am talking 3 or 4 that we have a little bit of work to do in terms of renovation in order to maybe make some consolidations, but that'll happen this year, and then I would say just outside of the merger, they are always -- we're always going through a rationalization process and the evaluation process of our branch network.

So it's possible throughout the year there could be some additional consolidations, but that would be just be normal course of how we do business.

Okay, good.

And then last one question from me, and I'll step back.

As I look at your tangible common equity ratio, kind of approaching the 9% level here shortly.

What's kind of an optimal level that you guys would feel comfortable with that ratio?

Yes, Dan, this is Jamie.

So internally, we kind of look at solidly at that 8% level, and obviously, with our profitability and even paying out somewhere between 35% and 40% of our earnings, that ratio is starting to build, and that's why you saw a little bit of bump in -- the 10% bump in the dividend and then us announcing the stock buyback just to provide us some flexibility in managing capital as we see -- and we'll assess that, monitor that as we see opportunities potentially in the M&A market or whatnot.

Our next question is a follow-up from Chris McGratty of KBW.

Jamie, just on the accretable, the comments on the glide down in the accretion.

I guess, can you let us know what your kind of the budget is of the expected accretion for this year?

I think it was somewhat like $9 million, a little under $9 million the past couple of quarters?

Yes, so I mean, we've been pretty -- if you look at there's one side, we've been pretty consistent at getting 29 basis points.

That's higher than our model, and when you think about it, based on the comments and what we're seeing in the loan books in terms of higher prepayments, that's consistent with those higher prepayments we're getting more accretion.

So as we look -- in the 2019, our models would indicate -- those prepayments slow down, we're going to start somewhere in that 22 basis point range contribution to margin in the first quarter and then that goes down by 1 to 2 basis points a quarter throughout the year.

Okay, so that 22 contemplates a slow down in prepays is what you are -- I guess you're saying?

Okay.

It does, yes.

Based on the levels that we're seeing -- that we saw in the back half of '18, correct.

Got it.

Okay.

And then the tax rate, I think you gave the first quarter, could you just repeat or maybe guide, I think first quarter's typically a little noisy for most banks, and 19.5% for the first quarter and then do we jump from there?

No.

No, we think it's 19.5% for all of '19.

Okay, and that's a non-FTE, right?

That's a -- this a GAAP.

That's our effective tax rate, correct.

(Operator Instructions) As we have no further questions, I would -- this concludes our question-and-answer session.

I would like to the turn the conference back over to Archie Brown for any closing remarks.

Thank you, Nicole.

Just thank you guys for being on the call and your interest in the company, and we wish you a good day.

The conference is now concluded.

Thank you for attending today's presentation.

You may now disconnect.