FIRST BANK (Hamilton) (FRBA) 2020 Q1 法說會逐字稿

Good morning, and welcome to the First Bank First Quarter 2020 Earnings Conference Call (Operator Instructions) Please note, this event is being recorded.

I would now like to turn the conference over to Pat Ryan, President and CEO. Please go ahead.

Thank you. I'd like to welcome everyone to First Bank's First Quarter 2020 Earnings Call. I'm joined today by our Chief Financial Officer, Steve Carman; our Chief Lending Officer, Peter Cahill; and our Chief Deposits Officer, Emilio Cooper.

Before we begin, however, Steve will read the safe harbor statement.

The following discussion may contain forward-looking statements concerning the financial condition, results of operations and business of First Bank. We caution that such statements are subject to a number of uncertainties and actual results could differ materially. And therefore, you should not place undue reliance on any forward-looking statements we make. We may not update any forward-looking statements we make today for future events or developments. Information about risks and uncertainties are described under Item 1a Risk Factors in our annual report on Form 10-K for the year ended December 31, 2019, filed with the FDIC.

Pat, back to you.

Thank you, Steve. I'd just like to give a brief overview of the structure for today's call. We're going to start with an abridged version of discussion and summary of the first quarter results. Steve and I will walk through some prepared remarks that we have specifically related to the first quarter.

And then we also sent out as part of our press release a presentation with some important updates related to COVID-19. And so after we're done with the discussion of first quarter, the group will walk through the slides that went out as part of that press release.

And at the end of the slide presentation, we will open it up for questions.

So to start with the first part regarding the first quarter results, I would say absent the significant increase in the provision and the allowance, from a core operating standpoint, I think it was a pretty decent quarter. We did see some margin compression reemerge in March as a result of the actions that the Fed took during the first quarter. And as I'm sure you noticed, our provision in the quarter was significantly above, almost 3x above, kind of our average quarterly provision in 2019.

And it's important to note and you may have seen, the credit metrics actually improved during the quarter and so you can certainly tell that the increase in the provision and the allowance was related to qualitative factors in our allowance model related to what we're all seeing in terms of deteriorating economic statistics, and we thought it was then prudent to put additional emphasis on those qualitative factors in this first quarter allowance calculation.

Regarding the specific credit quality metrics at the end of the first quarter, nonperforming loans were down to 0.79% compared to 1.32% at year-end. And nonperforming assets as a percentage of total assets were down to 0.72% compared to 1.20% at year-end.

We did see some nice loan growth in the quarter as well as some very strong deposit growth, largely driven by commercial deposit acquisition. Our loan-deposit ratio came down closer to 101, 102 and the deposit growth, as I mentioned, came from commercial categories. We did lower deposit rates twice during the quarter, which helped to offset some of the impact of the lower loan and asset yields that resulted from a repricing of our floating rate assets on our balance sheet.

Our cost of interest-bearing deposits declined 12 basis points from 1.68% to 1.56%. And our net interest margin held in pretty well with a 4 basis point decline from 3.34% and to 3.3.

Commercial deposits increased as a percentage of our total deposits from 27% at the end of 2019 up to 33% at the end of the first quarter.

Our ancillary income sources were down a little bit compared to Q4, but Q4 was a particularly high quarter. In terms of our actual sources of ancillary income, prepayment penalty income was $464,000 in the quarter, which was a fair bit above the quarterly average from last year of $214,000.

Loan swap fee income was $234,000 in the quarter compared to an average of $114,000 per quarter in 2019.

Gains on sale of SBA loans were $79,000 during the first quarter, which was just a little bit above the average from last year of $57,000 per quarter.

And the gains on recovery of acquired loans were $181,000 in the quarter compared to last year's quarterly average of $194,000.

So you can see, all in all, our ancillary income sources held up well during Q1.

Quarterly expenses came in a little bit higher than we had originally anticipated. If you recall, in our last earnings call, we had laid out an estimate of $9.6 to $9.7 million in quarterly noninterest expense. Our quarterly noninterest expense in this quarter was $9.9 million, which is obviously a little bit higher. I think it's important to note that that 10% -- the noninterest expenses were up 10% year-over-year when you compare first quarter of '20 to first quarter of '19, but that 10% growth is actually lower than our revenue growth during the same time period of 16%.

The expense items that came in a little higher in the first quarter were legal fees, insurance and OREO. We have several action items under consideration that will allow us to contain expenses going forward. The trajectory and timing of the recovery from COVID-19 will dictate how far we need to go with these cost-cutting plans.

Looking forward to the remainder of 2020, I think it's fair to say that previous guidance is on hold or off the table at this point. It's very hard to predict what we -- what we'll see from a loan growth perspective. Certainly, in the short run, we'll see a temporary blip or increase related to SBA PPP loans. But if you take that out of the discussion, I think it really is a difficult market to predict.

I think as you look at the overall market for lending, there'll be -- I suspect there'll be lower demand overall as well as more stringent underwriting from banks across-the-board, which I suspect would lead to lower overall loan growth.

Although there are some new opportunities emerging, and I think community banks in particular that were able to successfully navigate round 1 of the PPP process, I know we have and I suspect other community banks have had a number of conversations with unhappy commercial customers that were not able to get PPP loans in round 1 from their primary bank, and I suspect that some of the potential weakness in loan demand could be offset by some market share gain opportunities for not only for us but for community banks across-the-board.

Again, talking about looking forward in 2020, I suspect we should be able to continue to drive down deposit costs, we remain liability sensitive and we continue to look for opportunities to lower our funding costs.

Our commercial deposit pipeline remains very active. We've been able to successfully continue to convert new commercial customers despite the fact that the lion's share of our back office is now working from home, working remotely, and we suspect that we'll be able to continue to convert and bring over new commercial customers during the remainder of 2020. And as I mentioned before, we believe there are opportunities for additional expense management.

Before I turn it over to Steve, I just wanted to hit a couple other observations and highlights. First of all, I'd like to commend our team on the lending side that did an amazing job dealing with really huge volume of PPP loans. As you may have seen from our press release, a bank that historically did 5 or 6 SBA loans a year was able to get 577 processed, closed and funded. And the estimated processing fee income from round 1 is about $4.7 million.

We were able to get over 90% of the applications we received approved, not only internally, but approved by the SBA. And as of yesterday, all of those loans had been closed and funded. I think this is important for a number of reasons, not just the potential short-term fee income opportunity, but perhaps more importantly, this will create some great long-term benefits for us moving forward.

Specifically, we've reinforced it well with our existing customers. I think it will also prove to be a huge opportunity to attract and bring in small- and medium-sized businesses locally that were very unhappy with the way the process played out for them.

And I think, fundamentally, what we're seeing is a reinforcement of the community bank value proposition where having a real relationship with your banker is not something that is a nice-to-have, it's a need to have. And I think a lot of business owners are getting re-educated on that importance. And I believe this could become a bit of a game-changing moment given the number of quality conversations with new commercial prospects that we've had over the last several weeks.

We have more detailed information regarding our response to COVID-19, which we will share in the presentation shortly after we finish the review of the first quarter results.

At this point, I'd like to turn it over to our CFO, Steve Carman, to get into a little more detail regarding those results in Q1. Steve?

Thanks, Pat. During the second half of 2019, we continued our efforts to attract and acquire noninterest-bearing deposits and lower-cost commercial deposits. Our goal was to move our cost of funds closer to peer levels, stabilize and improve our net interest margin and drive profitability higher.

As we entered 2020, we believe our efforts would be successful and put us in a position to deliver sound first quarter results. Absent the impact of COVID-19, loan growth for the first quarter was almost $35 million, modestly above our projected moderate growth projections. Historical asset quality metrics were better prior to -- compared to prior quarters. Our cost of funds was moving lower as higher-cost time deposits repriced lower. In addition, noninterest-bearing deposits were up $16.2 million or almost 6% reflective of our strong efforts to bring in lower cost funds.

In early March, however, it became clear the impact of the pandemic was having a negative impact to the economy. As a result, the Fed moved the targeted fed funds rate 150 basis points lower, negatively impacting floating rate loan yields and subsequent interest income. This was coupled with the corresponding significant drop in treasury yields. We, in turn, significantly lowered deposit rates to help offset the negative impact to net interest income.

So let's take a look at results for the first quarter. Net income for the quarter was $3.2 million or $0.16 per diluted share compared to $4.3 million or $0.23 per diluted share for the first quarter of 2019. Net interest income, the primary driver of our profitability was $15.9 million for Q1 2020, an increase of $1.8 million or 13.1% compared to $14 million for the first quarter of 2019.

As Pat mentioned, the major factor impacting first quarter 2020 results was our higher provision for loan losses. Our provision in the first quarter was $2.9 million compared to a provision of $365,000 for the same period in 2019, primarily due to a qualitative assessment of deteriorating economic conditions due to the health pandemic.

Our tax equivalent net interest margin for the first quarter of 2020 was 3.3% compared to 3.45% for Q1 of 2019, a decline of 15 basis points.

The yield on interest-earning assets declined 27 basis points due in part to a lower interest rate environment, including the recent actions taken by the Fed. Conversely, the cost of interest-bearing liabilities declined 11 basis points.

On a linked-quarter basis, our tax equivalent net interest margin for the 3 months ended March 31, 2020, was 4 basis points lower than our margin for the fourth quarter of 2019. Our second quarter margin will reflect the full impact of the Fed's actions in March. Initially, we are projecting about a 10 to 15 basis point decline in the margin for the second quarter.

So let's take a look at the margin over the next couple of quarters. In addition to significantly decreasing nonmaturity deposit rates, we have approximately $385 million in time deposits that will mature or reprice lower based on current rates we're offering at an average rate of approximately 130 basis points lower during that 6-month period, which will help stabilize the margin.

Depending on the level of future loan growth, other factors potentially affecting the margin will be the current treasury yield curve and its impact on fixed-rate loan pricing. Additional prepayment penalties in this environment are also a possibility.

There are many factors in this uncertain economic environment, some beyond our control that may affect our margin and results. We hope to have additional clarity over the next few quarters based on COVID-19 and its further impact to our results.

A couple of other notes for the quarter. We continued to manage the level of noninterest expense growth. Our efficiency ratio for the first quarter was 58.65%, below our targeted goal of 60%.

Lastly, from a tax perspective, after a year of changing New Jersey state tax laws and interpretations, we believe our overall effective tax rate for 2020 will be in the 24% to 25% range.

Next, I'll turn it back to Pat to begin our COVID-19 presentation. Pat?

Okay. Thank you, Steve. Sorry about the delay there. I will turn folks' attention to the presentation that went out as part of our press release, and we will move through those slides at this time. So I will move past the safe harbor statement as Steve read that already.

If you look at Page 3 of the presentation, you can see the agenda is going to cover 4 areas. Some detailed information regarding the loan portfolio, including segmentation and a little bit of a detailed discussion around the allowance. We'll get into some additional information regarding community support. We'll talk about liquidity and capital management plans as well as an overall operational update.

Moving to Slide 4. This is a high-level overview of our loan portfolio. I think the important thing to remember about First Bank, as the title says, we are a commercially focused community bank. As you can see, that means almost 90% of our loans are commercial loans. And over 3 quarters, if you include the real estate on the commercial side as well as the real estate on the consumer side, well over 3/4 of our loans have quality real estate collateral.

Now Slide 5 has a lot of information on it. We wanted to include a lot of information here. One of the things that we've noticed as we've been paying attention to releases across the industry is a lot of folks are providing information in different ways, and we thought it might be most helpful to our shareholders and those folks that follow us to see what the detailed information looks like, so folks can know exactly by industry as well as by type of asset where we have loans and where we have exposure.

I think what you can see on a high level on Page 5 is it is a fairly well-diversified portfolio across a variety of industries as well as across a variety of asset classes. And when you look at the larger segments as a percentage of total loans and as a percentage of risk-based capital, you don't see any one area that is an outsized concentration risk.

Moving to Page 6. I'll turn this over to Peter Cahill, our Chief Lending Officer, to talk a little bit about some of the exposure we may have in the higher risk areas as perceived by the virus. Peter, turn it to you.

Okay. Thanks, Pat. As Pat just mentioned, Slide 6 pulls out of the previous slide data what we see as the higher risk segments in our portfolio. And those are -- clearly, if you look along the bottom of the slide there, it's restaurants, hospitality, nonessential retail and a couple of other small ones. And the points to pull out of this total exposure is $231 million, about 13% of total loans, restaurants at 5% of total loans are the largest segment there.

Virtually, all exposure is secured and the majority by far is secured by real estate with loan-to-values of 75% or less. So based upon these facts, we think this higher risk segment is very manageable.

Slide 7. After talking about the high-risk segments we have, what this slide simply does is lay out some of the higher risk segments nationally and more or less confirms that we don't have any exposure here. These high risks -- if you don't have the slide deck open, the higher risk segments here are ones such as oil and gas, credit cards, airlines, cruise ships, things like that. We have no risk to these segments.

At this point, I want to flip the presentation back to Pat for Slide 8.

Thanks, Peter. We did want to provide a little bit of additional information on the allowance, given the increase in both provision and allowance during the quarter. As we mentioned earlier, based particularly on asset quality metrics, you wouldn't have expected to see an increase in the provision or the allowance. Nonperforming asset ratios came down, delinquency numbers improved. But despite that, given some of the storm clouds that we saw in the economic data, we did increase the provision almost 3x what the quarterly average was last year. As a result of that increase in the provision and the allowance, our allowance to total loans increased from 1% at the end of last year to 1.1%.

And we also take a look at our allowance as a percentage of our performing, nonacquired loans because the way the incurred loss model looks at calculating the allowance, the acquired loans are looked at a little bit differently. And what you can see when you take the total allowance as a percentage of performing, nonacquired loans, you get a ratio of 1.30%, which is up almost 13% from where we were at year-end.

And we thought it was also worth noting when you looked at the overall portfolio, we have $291 million in performing, acquired loans, which have a $5.3 million general credit mark against them, which equates to about 1.83% of that portfolio.

At this point, I would now like to turn it over to Emilio Cooper, our Chief Deposits Officer, to talk a little bit about community support.

Great. Thanks, Pat. Through this crisis, First Bank has been actively supporting the community. We've made donations and provided assistance to local organizations, including the Trenton Rescue Mission.

We modified our website to serve more as a helpful tool and resource to our customers and the community. We included important links to state and federal agencies for up-to-date information related to COVID-19.

As Pat and Peter mentioned, our team pulled together to deliver relief quickly to small businesses through the Paycheck Protection Program. We processed applications for existing customers and noncustomers in need of assistance. We modified our approach to fees and loan payment deferrals to assist small business customers and personal lending customers as is appropriate in a time like this. And we continued to support our local chamber and business industry associations as a resource for PPP loan referrals and technical guidance regarding COVID-19-related support.

Peter will now take us through some additional details related to our approach to providing payment relief to our customers.

Thanks, Emilio. Slide 11, to follow up on Emilio's comments. This slide outlines the short-term payment relief program we have in place as a result of COVID-19. Our strategy here is to limit deferrals at this point to 90 days. Over the next few months, we'll stay in close contact with clients and get a sense of how they're doing and what else they may need over that time frame. As the slide shows, we agreed to make deferrals 3 different ways: we'd defer interest-only payments, we would defer principal payments and we also would defer principal and interest payments. As you can see from the chart, that was the largest segment of what we've done thus far right at 80% of total deferrals.

We've provided deferrals on consumer loans as well as commercial and the split among those 2 are kind of right at that 90-10 split that Pat pointed out earlier that we have in our overall loan portfolio.

The $271 million noted on Slide 11 makes up about 15% of our total loan portfolio. Customer requests for deferrals have slowed significantly. They're still trickling in, however, and I anticipate we'll provide an update in the 10-Q.

If you flip to Slide 12, this slide shows the breakdown of deferred loans versus undeferred, which I just mentioned. It also demonstrates diversity in the request, both in terms of industry segment on the left side of the slide and loan type on the right.

Slide 13, finishing up our slides on loan payment deferrals. This breaks down the deferred loans by collateral type as well as loan-to-value. We think these loans are well secured. 85% is secured by real estate and more than half were at LTVs of 65% or less.

Slide 14. Pat had earlier mentioned our participation in the Paycheck Protection Program or PPP. While we're very much still in the middle of it, the slide outlines where we were as of a few days ago. The vast majority of our PPP loans are to existing customers. Those that aren't customers are prospects from quality referral sources and we hope to convert them into good customers very soon.

As Slide 14 shows, our average PPP loan has been in the amount of $234,000. More recent round 2 loans are smaller. We have only a handful of PPP loans over $2 million in size, we've made no PPP loans to public companies or other industry types that have been receiving bad press of late.

That's really it for the PPP summary. With that, I'd like to turn things over to Steve Carman for the next couple of slides. Steve?

Thanks, Peter. Initially, I'd move to Slide 16 to discuss capital management. As the COVID crisis unfolds, no 1 really knows the ultimate impact to the economy. Working with The Invictus Group, we thought it was important to update our stress test results for 12/31 2019 for additional shocks related to COVID-19 to understand which segments of our loan portfolio will be most affected and the impact to capital from potential losses.

Our capital ratios dropped under the COVID-19 severely adverse case when compared to the CCAR severely adverse case. That said, we remain well capitalized as reflected in the results presented.

In addition, we performed our own internal stress tests with even higher loss rates than The Invictus COVID-19 stress test with capital ratios above appropriate levels. An independent stress test analysis was also performed by an investment banking firm with similar results.

Moving to Slide 17 to discuss liquidity. Our liquidity levels and liquidity profile remained strong. Strong deposit growth of $85 million for the first quarter has helped build excess liquidity even with almost $35 million in loan growth and continued activity on commercial lines of credit.

Commercial deposits increased to 33% of total deposits with noninterest-bearing deposits up 6% for Q1.

Also we have ample secondary liquidity sources, which include Federal Home Loan Bank borrowing capacity and broker deposits, if needed. As Peter mentioned, we are actively involved with the PPP Small Business loan program, and we have access to the Fed's PPPLF borrowing facility.

We also perform quarterly stress tests, which shows sufficient contingent funding sources available, even in the most severely stressed scenarios.

At this time, Emilio will provide an operational update. Emilio?

Thanks, Steve. We are proud of the team and all of our colleagues who responded quickly to execute on our pandemic response plan. Thanks to the support of our IT team, we were able to get from 50% of our team capable to work remotely, up to 90% within a matter of days. We now have over 95% of our back office working from home effectively and we continue to enhance their work-from-home experience, armed with information from our internal surveys and feedback mechanisms. Our branches are open and meeting customer needs. All but 2 branches remain open, and we are serving our customers through the drive-through and by-appointment in compliance with local applicable executive orders. Our capabilities for customers to bank electronically are operating effectively, and we have experienced no degradation to our risk management procedures.

To recognize and support our employees, we initiated a rewards program where we are providing a bonus PTO day per pay period to all of our teammates who cannot work from home. We are also keeping their pay intact despite a slight reduction in our operating hours.

We continue to follow the guidance of local officials and CDC recommendations and have taken several actions to protect the health of our employees and customers. We are cleaning our branches through electrostatic sanitation on a regular schedule, and all employees and customers are required to wear mask on-premises.

And we are keeping the team engaged and informed through our Internet frequent town hall meetings and special engagement web events. Back to you, Pat.

Great. Thank you, Emilio. And that basically wraps up the prepared remarks we have for the call today. And I think at this point, we can turn it back to the operator who can open it up for our question-and-answer session.

(Operator Instructions) The first question comes from Nick Cucharale from Piper Sandler.

Thanks for all the detailed presentation, all the additional disclosure. It was very helpful, so appreciate that. First, in terms of the expenses, you mentioned some potential efficiencies. At what point do you implement that plan?

Yes. It's a good question. Some of it, quite honestly, ties into what happens, when do we start to come back online in New Jersey and Pennsylvania, and based on that, taking a look at our footprint and trying to figure out if there are opportunities within the footprint to save some dollars. And some of it obviously is going to tie back to what we're seeing in terms of the overall economy and what's the shape of the recovery start to look like. But I don't think it's a binary equation, Nick. I think it's one where we've got a number of different levers we can pull and some of them we may pull even if it's a V-shape recovery just because we've decided in the post-COVID world that we can operate a little more efficiently. And others might be a Phase 2 or Phase 3 approach where we may just have to do a little more if it looks like the economy isn't going to bounce back to the levels we were at before.

Okay. Great. And then I appreciate your commentary on the margin. After the anticipated decline next quarter, just given the opportunity on the funding side, do you foresee the decline in funding costs outrunning asset yield erosion in later quarters?

Yes. Actually, when you -- as I mentioned, we're liability sensitive. So when you run our models over a 12- and 24-month period, we actually do a little bit better. But it obviously takes a little time to catch up to ultimately get to the point where you're doing better. And we were seeing that start to play out prior to the Fed's more recent moves and now it's sort of -- we've got to do it all over again.

But I do think as you look out towards the end of the year and into next year, all else equal, which is obviously a loaded statement because there's a lot of things that can change between now and then but just running the models and running the numbers, it does start to show the benefit of the liability reduction outpacing the upfront reduction in asset yield. So we would expect to see some improvement later this year, early next year.

But the other thing that is a little bit of an unknown is what's going to happen to the overall lending environment? I think what you're seeing right now is even though benchmark rates, treasury, Federal Home Loan Bank, whatever you use as your benchmark, are obviously very low, we're seeing spreads widen a bit. And part of that is some uncertainty from the credit underwriting side and part of it, quite honestly, is what seems to be a retrenchment at least for the time being from some of the nonbank lenders, namely, the insurance companies and the CMBS providers that may create an opportunity where the benchmarks are lower, but as spreads widen, we may not see quite the reduction in asset yields that you might see in a robust credit environment associated with the types of drops that the Fed just witnessed.

So I think Steve's right, Q2 probably is not an improvement in margin for us and potentially decline. But if things stabilize, I think we can start to see things improve later in the year.

Okay. That's great color. And then just lastly on the loan growth front, certainly an uncertain and fluid environment, but where does your pipeline stand at March 31? And how does that compare to previous quarters?

Well, I think our pipeline numbers on a dollar basis look pretty consistent. But I think a lot of stuff is just getting stretched or delayed. So if you looked at our throughput in a typical quarter based on the pipeline in a more normal environment compared to throughput that we might expect over the next 90 to 120 days, I just think everything is getting slowed down and pushed back. I think new projects are getting put on hold. Certainly, I suspect that there will be a continuation of refinancing activity. But I also suspect that that will be slower than normal as it takes all of us a little bit longer to really effectively underwrite credit right now.

So I just think, in general, when you have uncertainty, that creates a slowdown in activity and I suspect that that slowdown in activity will translate into a slowdown in overall loan growth and demand within the banking sector. So that's kind of the point one.

Point two is I think part of the offset is going to be some really nice new opportunities on the commercial side that have been emerging as a result of the way the PPP program has played out.

(Operator Instructions) Since there are no further questions, I will turn the call back over to Mr. Ryan for closing remarks.

Great. Well, thanks again to everybody who took the time to listen in. Obviously, a lot going on right now. We hope the information we provided today was helpful and obviously we'll have a lot more to report on 90 days from now when we're taking a look at second quarter results, and we look forward to regrouping with everybody then. Thank you.

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