Fulton Financial Corp (FULT) 2015 Q3 法說會逐字稿

Good morning, ladies and gentlemen, and welcome to the Fulton Financial announces third-quarter earnings conference call. This call is being recorded. I will now turn the call over to Laura Wakeley, Senior Vice President of Corporate Communications.

Thank you. Good morning everyone and thanks for joining us for Fulton Financial Corporation's conference call and webcast to discuss our earnings for the third quarter. Your host for today's conference call is Phil Wenger, Chairman, President and CEO of Fulton Financial. Joining Phil is Pat Barrett, Senior Executive Vice President and Chief Financial Officer.

Our comments today will refer to the financial information and related slide presentation included with our earnings announcement which we released at 4:30 yesterday afternoon. These documents can be found on our website at www.fult.com by clicking on Investor Relations and then on News. The slides can also be found on the presentation page under Investor Relations on our website.

On this call, representatives of Fulton may make forward-looking statements with respect to Fulton's financial condition, results of operations and business. These forward-looking statements are not guarantees of future performance and are subject to risks, uncertainties and other factors, some of which are beyond Fulton's control and difficult to predict and which could cause actual results to differ materially from those expressed or forecasted in the forward-looking statements. Fulton undertakes no obligation, other than required by law, to update or revise any forward-looking statements whether as a result of new information, future events or otherwise.

In our earnings release we've included our Safe Harbor statement on forward-looking statements and we refer you to this section and we incorporate it into today's presentation. For a more complete discussion of certain risks and uncertainties affecting Fulton, please see the sections entitled Risk factors and Management's Discussion and Analysis of Financial Conditions and Result of Operations set forth in Fulton's fillings with the SEC.

In discussing Fulton's performance, representatives of the Company may refer to certain non-GAAP financial measures. Please refer to the supplemental financial information included with our earnings announcement released yesterday for a reconciliation of those non-GAAP financial measures to the most comparable GAAP measures. Now I'd like to turn the call over to your host, Phil Wenger.

Thank you, Laura. Good morning everyone and thanks for joining us. When I conclude my remarks, Pat will provide more financial details. Then we will be happy to respond to your questions. We also refer to our slide deck throughout our discussion. Our forward-looking statement is found on slide 2.

We were pleased with the third-quarter performance and, turning to slide 3, we reported diluted earnings per share of $0.20. This EPS number included a $0.02 per share lost on trust preferred securities redeemed in July. Since quality asset growth has been a top priority, we are also pleased with the rate of growth in our loans and net-interest income. This growth came from all of our markets with the largest increases coming from Pennsylvania followed by New Jersey and Maryland. The primary drivers were C&I and commercial real estate loans. Even with our strong loan growth, our pipeline entering the fourth quarter is slightly higher than it was at the beginning of the third quarter.

Along with our loan growth, all of our key asset quality metrics showed further improvement. Net charge-offs, non-performing loans, overall delinquencies and a provision for credit losses all decreased. Total loan delinquency reached an eight-year low. Net interest margin for the third quarter reflected improvements in our earning asset and deposit mix. We believe that our most recent balance sheet initiatives will help ease the pressure on our net-interest margin going forward. Pat will discuss those details in his comments.

Total non-interest income decreased after our strong second quarter. With the exception of mortgage sales gains, revenue from other business lines was stable to modestly higher. Growth in customer relationships should provide a solid base for future non-interest income growth. Looking more closely at residential mortgages, you will recall that the second quarter reflected seasonally strong mortgage activity along with a significant increase in spreads on secondary market sales. In the third quarter we saw a decline in the spreads which, combined with the decrease in volume, impacted our sales gains. We expect fourth-quarter mortgage activity to reflect the normal seasonal slowdown. During the quarter we continued to position our residential mortgage operations for future growth and we continue to recruit new mortgage originators to increase production.

Turning to expenses, overall non-interest expense was higher in the quarter due to the loss on trust preferred securities I mentioned earlier. However, excluding that charge, we saw less than a 1% increase in total expenses. Previously, we announced the consolidation of 25 of our branches over a two-year period as a component of our overall expense reduction initiatives. During the quarter we consolidated the last two of those 25 branches while achieving a high customer retention. This year we are on track to realize $4.7 million of our projected annualized $6.5 million in cost savings. These savings include branch consolidations and previously disclosed changes in benefit plans and position eliminations.

Our capital levels remain strong. As a result we've been deploying our capital through a series of stock repurchase programs and quarterly cash dividends. During the quarter we completed the most recent $50 million share repurchase program announced back in April of this year bringing the total shares repurchased since June 2012 to 30.4 million or over $356 million. The average per share price over that time period was $11.73. On our most recent buyback, the average purchase price was $12.57. Yesterday our Board approved a new $50 million repurchase program.

In the compliance area, each quarter is bringing us closer to the eventual lifting of our BSA/AML enforcement orders. Knowing the progress we have made, I wanted to share some of the positive aspects of our work on the Corporation as we look to the future. As a result of our efforts, we will build out an extensive regulatory, compliance and technology infrastructure which will enable us to better support the plan consolidation of our six affiliate bank charters, while at the same time positioning us to grow acquisitively. In the meantime, we have focused on and will continue to focus on organic growth as we effectively and profitably execute on our proven customer relationship strategy.

At this time I will turn the call over to Pat for his financial discussion and then we will take your questions. Pat.

Thank you Phil and good morning everyone on the call. Unless I note otherwise, quarterly comparisons are with the second quarter of 2015.

Starting on slide 4, as Phil noted, earnings per diluted share this quarter were $0.20 on net income of $34 million, a decrease of $2.4 million or 6.6%. Earnings per diluted share were $0.01 lower than both the second quarter of 2015 and the third quarter of 2014. During the quarter we redeemed $150 million of trust preferred securities resulting in a $5.6 million loss recognized as a component of non-interest expense. This loss reduced diluted earnings per share for the third quarter by approximately $0.02. Third quarter net income also reflected an increase in net interest income, a decrease in the provision of credit losses, decreases in securities gains and non-interest income and slightly higher non-interest expenses, excluding the loss on the truPS redemption.

Moving to slide 5, our net interest income increased $2.8 million or 2.3% driven by growth in earning assets and an extra day in the third quarter, partly offset by the impact of the 2 basis point decrease in net interest margin. Yield on average earning assets declined 6 basis points while the cost of average interest-bearing liabilities decreased 5 basis points. Average interest earning assets increased $314 million or 2% due mainly to $177 million increase in average loans and a $104 million increase in the investment portfolio.

Average interest-bearing liabilities increased $160 million or 1.4% as a $245 million increase in deposits was partially offset by a decrease in borrowings. The 6 basis point decrease in earning asset yields reflected lower yields on both investments and loans while the decline in the cost of interest-bearing liabilities reflected changes in our funding mix.

During the third quarter, we executed certain transactions as provided both immediate and future benefits to funding costs and net interest margin. In July we used the proceeds from a June issuance of subordinated debt to redeem $150 million of trust preferred securities. This transaction reduce the effective interest rate on these borrowings from 6.52% to 4.69% resulting in a 3 basis point decrease in funding costs and an overall 2 basis point improvement in net interest margin.

In September, we refinanced approximately $200 million of Federal Home Loan Bank advances, having an average rate of 4.45% and scheduled to mature in the first quarter of 2017. The new borrowings carry an average rate of 2.95%. We also entered into forward agreements to refinance an additional $200 million of FHLB advances upon their maturity in December 2016. That refinancing will lower the current average rate of 4.03% to 2.4%.

The truPS transactions reduced quarterly interest expense by approximately $700,000 beginning in the third quarter of this year. The FHLB refinance will result in an additional $750,000 quarterly decrease in interest expense beginning in the fourth quarter this year. And the FHLB forward agreements will generate an additional $800,000 of quarterly decrease in interest expense beginning in the first quarter of 2017.

As a reminder, our updated outlook for 2015 was for net interest margin compression of 5 basis points to 8 basis points over the third and fourth quarters of 2015. With the impact of the FHLB refinancing and with continued earning asset growth, our fourth-quarter margin compression is expected to be in the 0 basis point to 3 basis point range.

Turning to credit on slide 6. Based on our evaluation of all relevant credit quality factors, particularly decreases in new nonaccrual loans, delinquencies and net charge-offs, we recorded a $1 million provision for credit losses, down from $2.2 million in the second quarter. Net charge-offs decreased $11.3 million resulting in an annualized net charge-off rate of 3 basis points compared to 38 basis points in the second quarter. Year to date, annualized net charge-offs were 16 basis points.

Nonperforming loans declined $4 million in third quarter while totaled delinquencies decreased $10 million or 5%. Nonperforming loans accounted for 1.07% of total loans at September 30. While the allowance for credit losses to nonperforming loans outstanding increased from 113% to 117%.

Moving to slide 7, non interest income decreased $1 million or 2%, primarily related to a decrease in mortgage banking income as both origination volumes and spreads on sales declined. In comparison to the third quarter of 2014, non-interest income increased $1.2 million or 2.9% reflecting increases in merchant fees, debit card income and service charges. Our original outlook for 2015 for the growth rate in non interest income was in the mid to high single-digit range. Based on our actual results for the first nine months of the year, we expect to be at or just below the lower end of that range.

Moving to slide 8, total non-interest expenses increased $6.5 million or 5.5%. Included in non-interest expense was the $5.6 million loss incurred on the trust preferred securities redemption. Excluding this loss of non-interest, expenses increased 0.8% and our efficiency ratio is 68.8%.

Our expense levels continue to reflect elevated spend on outside services and consulting including for BSA/AML remediation efforts, implementation of new regulatory requirements as well as continued infrastructure investments. Our outlook for 2015, with the growth rate in non-interest expenses was in the low single-digit range. Excluding the loss on the truPS redemption, we expect to be at or slightly above the high end of this range.

Income tax expense decreased $1.8 million or 15% resulting in an effective tax rate of 23%. This is lower than the expected 25% rate, mainly as a result of lower pretax earnings. We continue to expect our quarterly effective tax rate to be approximately 25%.

Turning to slide 9, while we have made significant progress towards building out our regulatory compliance infrastructure, overall BSA/AML costs remain elevated. Total BSA/AML related staffing and outside services costs have not declined as rapidly as anticipated and we're incurring higher temporary staffing costs. Over time we do expect both outside services and temporary staffing costs to significantly decline.

Slide 10 presents our profitability and capital levels over the past five quarters. The linked quarter decreases in ROA, tangible ROE and EPS reflect lower net income in the third quarter driven by the $5.6 million loss in truPS redemption. The decrease in the tangible common equity ratio reflects both balance sheet growth as well as the impact of continued share repurchases.

And in conclusion, on slide 11, we've included a summary of our original and updated guidance for the year for easy reference. In addition to my previous comments surrounding net interest margin, non-interest income and expenses, our outlooks for loan and deposit growth, asset quality and capital remain unchanged. Thank you for your attention and your continued interest in Fulton Financial Corporation. And now we will be glad to answer your questions.

Thank you.

(Operator Instructions)

We will take our first question from Frank Schiraldi with Sandler O'Neill.

Good morning.

Good morning.

Just a couple of questions. First on the expense guidance. I was surprised, given the results in the quarter, to see you guide to the higher end or slightly above the higher end of that previous range given. Just trying to figure out, in terms of modeling, the low single-digit growth off of last year.

So, the idea that we're going to be at the high end or slightly above the high end of that range. What is that in a percentage term? Is that somewhere in between 3% to 4%? Is that a good way to think about guidance year-over-year now?

For the year I think that would be good Frank.

Okay. In terms of BSA, some BSA related expenses rolling off at some point, should we think about expense growth here as perhaps holding the line on expenses in terms of quarterly expense base as you reinvest in other areas? Or could we see a bit of a contraction in the expense base as those BSA-related costs roll off?

So we are still in the process of putting our budget together for next year. So it's really tough to say for sure what we're going to be anticipating. But I would suspect that as we are able to reduce costs in BSA, for example, that we will reinvest them in other areas.

Okay. And then in terms of just the margin, I know you guys have seasonal in flows generally in the third quarter on municipal deposits. It seems like you might have that again in this third quarter. So I wondered if you could share with us maybe the size of that inflow and how much that extra or excess liquidity dinged the quarter.

Yes, you are right third quarter is a seasonally high level. We see anywhere from $200 million to $500 million come in and start to decline again. I think about $200 million would back out. And then further declines are expected through the fourth quarter.

So that definitely affects our margin because we've got this cash that we can't reinvest any way other than just parking it at the Fed basically. So that could affect our margin by 1 basis point for every $60 million that comes in. An interesting phenomena we had this quarter, though, is that our loan growth, which was higher than expected, actually was able to absorb that excess liquidity. So the dynamics get a little bit complicated with all the moving parts but hopefully that lays out the basic idea for you.

Yes. I guess next quarter has, you see some of this deposit flow back out. I guess the idea would be you would look to fund some of this growth with some borrowings. Is that fair? Do you ladder that out?

Yes, potentially. I think our short-term borrowings continue to be at very, very low levels as they have been for a number of quarters. So we have got a fair amount of capacity there. And we're doing a lot of things to work on other core deposit growth areas across all the product types and customer types. To the extent that we see a long-term trend of a reversal of liquidity inflows that had been a net positive for a few years, then certainly we would look to longer-term, more economical ways to lock that in.

Okay. Finally, in terms of loan growth, there was a bit of an acceleration this quarter, a bit higher a better result than I had anticipated in my modeling. Is that acceleration something that you think is sustainable? I'm sorry if I missed comments on it, but how is the pipeline here compared to where it was three months ago?

Our pipeline starting the fourth quarter was slightly higher than our pipeline starting the third quarter.

Okay great. Thank you.

Thank you.

We will take our next question from Casey Haire with Jefferies.

Good morning guys.

Good morning.

On the loan growth outlook. Just curious on some of the color behind it. Is it your client base getting a little bit more aggressive or are you seeing some opportunities with all the dislocation from the M&A locally? And then that pipeline being up slightly. Is that a similar mix given that C& I was pretty strong this quarter?

Yes. First off with the third quarter growth, Casey, it was a combination. The percent of our production that was new business as compared to from existing customers was pretty similar to what we've had in the past. So we saw strength in both areas. On the new business side we're trying to get that throughout our footprint. I think we were able to do that and we continue to be focused on that. And the pipeline mix going into the fourth quarter is similar to what it was third quarter.

Got you. Okay. And switching to fees. It sounds like to get to the guidance that you are talking about, which is maybe a little bit more conservative now, it still requires a little bit of lift going into the fourth quarter from third quarter run rate. You mentioned that mortgage banking is typically seasonally weak in the fourth quarter. I'm just curious, what do you see as the driver, within fees, to hit that guide?

This is Pat. So we will have a little bit. We anticipate to have a little bit of ground to bake up on mortgage. But with the across-the-board, either stability or solid low, stable growth that we saw across every other fee category, we would just look for that to continue.

Got you. So no one across-the-board kind of modest growth?

Yes. Yes. So really it's not a huge impact to many. I would say we've continued to see lower than expected strength out of our asset management, investment management, trust services line items. So we will see what the markets do.

Got you. Okay. Just last one. Can you give us an update? I know it's difficult but on the enforcement orders and where you stand and the likelihood that these do get lifted in 2016?

So you know we are making good progress. We are not totally where we need to be, but we are making great strides. And we are working very hard to be in a position where we are told in 2016 that we are where we need to be. And that is why, quite frankly, that the expenses haven't run off quite as quick as we thought.

We're going to be very conservative, and we are going to spend whatever we have to to be where we need to be. You know, once we are told we're where we need to be, I'm not exactly sure what the process is or how long that process is until the actions are lifted. But we are optimistic that we can get that achieved in 2016.

Okay. Thank you.

We will take our next question from Bob Ramsey with FBR.

Hey good morning guys. Just a point of clarification. Remind me, the fee income guidance. Is that off of a total GAAP fee income including security gains or does it strip that out?

I think it excludes securities gains both years.

Okay. Got it. Perfect. And then on the expense front, I know you all highlighted that this year you will achieve $4.7 million of the $6.5 million of cost savings. Remind though, in the third quarter have you largely achieved the sort of quarterly run rate of benefit or is there much more improvement from that?

It should be more than 90% baked into the third quarter run rate. We have a little bit more benefit coming from two branches that we didn't get closed until July. But it's not meaningful so I think we've got $1.5 million in this quarter and we'll get one another $100,000 in fourth quarter. But that is our steady state run rate, based on all of the known initiatives that we have implemented.

Okay. Got it. And so I know you gave us your full-year expense guidance but it sounds like fourth quarter should be relatively stable, give or take, to the third?

That's reasonable. Yep.

Okay. And I guess last question I will ask with the share repurchases. You guys have honestly been active. You announced a new authorization. I think it runs to the end of next year. Just curious how you're thinking about timing of execution and whether it will be faster than that? I think your past authorizations you guys have run through pretty quickly.

We have gone through a past authorization quicker than that. And I think all of them have been for a similar length. So there is nothing new as far as what we are doing. How quickly we do it is going to depend on a lot of factors, including our growth rate and any other thing that might impact it. We'll prudently repurchase the stock.

Okay. And then any other thoughts around capital? I remember last year in the fourth quarter you all had a modest, sort of special dividend to get to where you wanted to be in terms of total capital payout. Just wondering how you're thinking about the broader capital return strategy here.

So we look at our dividend every quarter. We'll be looking at it again in the fourth quarter. We've been -- you know I think we want to have a payout ratio between 40% and 50%. And you know we will continue on that pace.

All right. Thank you guys.

We will take our next question from Joe Gladue with Merion Capital Group.

Thanks for taking my call.

Thanks, Joe.

I wanted to touch on the asset quality and maybe get a little bit more detail. Particularly I guess the delinquencies, 90-day delinquencies dropped pretty sharply. Just wondering if that was mostly due to one or two loans or if that was more broad-based. And any color there would be helpful.

I would say that that was a broad-based. There were not any large significant loans that came on.

All right. I guess I also wondered if you could give us an update on what your viewpoint is now on the opportunities from the market consolidation, the acquisitions of competitors in the area. If you are still optimistic about opportunities for both gaining market share and maybe gaining lending teams that might be able to support the more organic growth.

Yes, so Joe we are focused in all our markets on gaining market share and bringing in talent. That includes areas where we have market disruption and areas that we don't have market disruption. And we want to continue on that pace as aggressively as we can.

Okay. That's it for me. Thanks.

Thank you.

We will take our next question from David Darst with Guggenheim Securities.

Hey good morning.

Good morning Dave.

As you try to finish your work on the BSA AML initiatives, have you reached the point of the process where you are doing the testing and sustainability?

I mean there are lots and lots of different factors involved in BSA AML. I think in some areas we've reached that point and in some we have a little further to go.

Okay. Is there a way to give us any guidance to whether you are expecting for the order to be lifted in the first or second quarter or could it be later?

Well you know, it will not be lifted in the first quarter. That would be the timing of when we will get our next review. And then we will go from there. Our goal is to be in a position that everyone feels comfortable with what we've done. And then as I said earlier, from that point on I'm not exactly sure of what the process is or how long it would be.

Okay. And then how quickly after that --

That is our goal.

Got it. How quickly after that would you be able to collapse the charters and then can you quantify that expense savings yet?

Well we should be able to begin the consolidation as soon as we are in that position. And we have not totally worked out that savings yet. So I would not want to give you any guidance there at this point.

Okay, understand. And this is the first time in quite a while you've mentioned preparing for future acquisitions. Through this process, do you feel like you have a platform that can drive revenue synergies out of a target and up tier whatever you require as well as the technology and cost saves?

We do. Yes.

Okay, great. Thanks a lot.

We will take our next question from Matthew Breese with Piper Jaffray.

Good morning everybody.

Good morning Matt.

Just thinking about your commentary before on elevated outside service costs and elevated levels of temporary staff relating to the BSA AML issues. I was hoping you could quantify just the extent to which they are elevated compared to necessary costs.

So I will start and maybe Pat can help me. We had indicated that we thought those costs would decrease by about $5 million this year. And they are actually only going to decrease by $2 million. So there is an additional $3 million there and on then top of that there would be probably another $2 million to $3 million. (Multiple speakers).

Matt, this is Pat. So said another way, if you look at the breakdown between salary benefits versus outside services and cheaper staffing on the slide 9 in the deck, you can think of the staff costs, salary benefits as being steady state run rate. And the remainder as being things that should come down pretty dramatically but probably won't come down to zero once we get through the orders. There will probably be an expectation, as there are in a lot of areas today, that you continue to engage third parties for assurance on your processes and programs in a lot of risk management and compliance areas.

Understood. And how quickly can those costs be ramped down?

None of them are long-term contractual costs. They are much more ongoing as work is performed.

Okay. And then just another quick one on the charter consolidation. Just thinking about your expense levels and non-interest expenses versus average assets. For you it's a bit more elevated versus some of your smaller, regional peers. In a broader sense, could the charter consolidation meaningfully move the needle closer to peer-average levels expenses to assets?

I don't think it will. I think what we need to do is leverage the platform that we built. I think as we've said in the past, our FDIC insurance will go up when we consolidate because we don't have any institutions over $10 billion right now. So that in itself, based on today's rates, would increase about $2 million. We've already consolidated a lot of back office functions. So there will be some expense reductions but I don't think it will be significant from where we are today when you put it all together.

Good. That's all I had. Thank you very much.

Thank you.

(Operator Instructions)

We will take our next question from Chris McGratty with KBW.

Hi, good morning everyone.

Hi Chris.

Pat I jumped on late, so apologies if you've already addressed it. The September adjustment to the FHLB, the $200 million that's going to save you a couple basis points. By my recollections, you still have quite a bit of that long-term debt over 4%. Are there other tranches in there? You have been hesitant in the past to keep repaying them but are there other tranches you are looking at especially we are in this lower for longer environment.

I think, probably, last time we talked we had $400 million some-odd of that and with all of the different actions we will have addressed all of the longer-term FHLB debt that was in the four handle range. So $200 [million] we went ahead and prepaid on September 18 incurring a penalty which was rolled over into the cost of the newly-issued debt. $200 billion five-year term. Then we also entered into forward, advanced-starting term commitments for the additional $200 million. It was $197 million, I think, which does not kick in until the maturity of the existing debts. We're going to let that roll off and then mature. And the savings of the immediate refinance is about $750,000 a quarter. The savings we would expect from the $200 million that matures at the end of next year and then rolls into new debt will be an incremental $800,000 per quarter. (Multiple speakers).

It's another 2 basis points beginning in 2017 is what your comment.

That's correct.

Okay. That's helpful. Thank you. The secure yields, again, not sure if this was addressed, both the taxable and the tax-exempt. Is there any meaningful change in the premium for the quarter. Can you discuss what you are not buying given more right there.

No meaningful change in the premium and that's been really stable around $600,000 per quarter for a year or more. Haven't really changed the mix of what we are buying or what's in the portfolio. It is still very much heavily weighted to agency, paper, either Fannie or Freddie, large backs or CMOs using Fannie Freddie paper.

I guess I would highlight that we've tried to be disciplined and not pay a huge premium on anything which means we've sat on the sidelines when the 10-year rates have dipped down below 2 and then reinvested as rates have come back up again. So that benefits the premiums door and keeps us from having a whole lot of premium impact on the margin. I think our overall investments this quarter, for the most part, were pretty much all the same types of investments. I think we may have bought one $5 million of debt issuance from the bank.

Okay. That's helpful. Thanks a lot.

Thank you.

And, with no further questions at this time, I would like to turn the call back over to Phil Wenger for any additional or closing remarks.

Well thank you all for joining us today and we hope you will be able to be with us when we discuss fourth-quarter and year-end results in January.

And that does conclude today's conference. Thank you for your participation.