Independent Bank Corp (Massachusetts) (INDB) 2012 Q4 法說會逐字稿

Good day and welcome to the Independent Bank Corp. fourth-quarter 2012 earnings call. All participants will be in listen-only mode. (Operator instructions). After today's presentation, there will be an opportunity to ask questions. (Operator instructions). Please note -- this event is being recorded.

Before proceeding, let me mention that this call may contain forward-looking statements with respect to the financial condition, results of operations and business of Independent Bank Corp. Actual results may be different. Independent Bank Corp. cautions you against unduly relying upon any forward-looking statements and disclaims any intent to update publicly any forward-looking statements, whether in response to new information, future events or otherwise.

I would now like to turn the conference over to Mr. Christopher Oddleifson, President and CEO. Please go ahead.

Good morning and thank you for joining us today, everybody. Denis Sheahan, our Chief Financial Officer, will elaborate on our quarterly performance following my comments.

While the fourth quarter was a great end to a great year, core earnings in the fourth quarter reached $13.7 million or $0.61 per share, and this is well above last quarter's $0.55 per share and $0.54 a year ago. We are certainly encouraged by these results, especially in light of the tough operating environment that persists in our industry.

Beyond the numbers, though, it is the consistency and quality of our performance that is most notable, quarter in and quarter out, all throughout the financial crisis. Of course, there is no magic here to our success, just good old-fashioned community banking led by excellent products, superb relationship building service, local market know-how, an energized team and a strong and growing brand. Once again, strong fundamentals led the way for us, marked by healthy organic growth, especially on the Commercial side where we once again generated double-digit annualized growth.

Now, our Commercial bankers are really getting after it. They're complementing our growth in size with an increased sophistication while retaining the touch and feel of community bankers. Our recent expansion initiatives in asset-based lending and the newer regional offices are really paying off.

Core deposit growth has kept pace with loan growth. This is occurring at both the Commercial and Consumer segment. We're seeing particular strength on the demand deposit side and not only does this serve as a low-cost source of funds, but provides us with excellent customer relationships as well.

Fee income is becoming a growing source of revenues. We are seeing nice trends in deposit, interchange and mortgage-related activity, along with investment management, or assets under management have steadily climbed to over $2 billion. But, we haven't taken our eye off the expense side. We have taken an intelligent approach here while balancing the need to invest in our competitive strengths with efficiencies elsewhere. The net result has been an improvement in our operating efficiency ratios last year.

Turning to the balance sheet, we remain in excellent shape here, too. Credit quality continues as a true point of distinction for us. In the fourth quarter, non-performing loan levels declined and our loss rate remained below 25 basis points.

We have never wavered from our disciplined approach to underwriting and I can assure you that our stellar loan growth has not been accompanied by a relaxation of credit standards. Capital remains a reservoir of strength for us. We now have over $500 million of capital with ratios comfortably above regulatory guidelines.

We also expect to resume our growth in our intangible common ratio and book value following the increase in goodwill this quarter from the Central acquisition.

Beyond our financial performance, much was accomplished in 2012 to advance the Rockland franchise and lay the groundwork for future growth.

We capitalized on our growth investments in the Commercial business line where new business generation and our asset-based unit and the new Providence offices exceeded expectations and added many quality names to our client base.

We aggressively promoted our brand of programs such as our Action, Not Words campaign, and our other consumer acquisition marketing campaigns. The resulting growth in households and checking accounts helped drive double-digit growth in core deposits and debit card revenues.

We have made significant progress in selling through our digital channel with nice volume growth in online usage, mobile banking and bill pay. We earned a tax credit for the fourth time under the federal new markets program, related to our community development efforts. And we proactively beefed up our compliance and risk management programs in response to the heightened scrutiny we brought to these areas by bank regulators.

I am delighted to say our success hasn't gone unnoticed. We have been recognized in a number of ways. We were ranked number one in retail banking in New England by JD Power's for customer satisfaction; we were named to the Boston Globe's top places to work for the fourth consecutive year, we were designated as the top SBA lender in Massachusetts over the past year and we were ranked 29th in the (inaudible) best bank list.

Very recently, one of the biggest highlights has been the closing of the Central Bank acquisition. This significantly enhances our presence in the highly attractive Middlesex County area in Boston, brings us nine branches, over $400 million of loans and $350 million in deposits. More importantly, it allows us to bring our broader suite of products and services to Central's customer base. We have already hit the ground running in our new markets and are very pleased with our experience thus far. We have a track record as a proven integrator and are very confident in achieving the strong accretion and shareholder return targets for this acquisition.

So all in all, 2012 was another terrific year for us. The Rockland franchise is strong, and with each year that goes by it keeps getting stronger. We fully recognize that much uncertainty still exists in the macro fund, and our crystal ball is no better than anybody else's. So we remain grounded in our assumptions and avoid getting overly invested in any one scenario.

The economy appears to be in modest recovery mode. Our region still generally compares favorably with many, many other parts of the nation but is not immune to the various stresses that remain. Competition in the industry is definitely heating up as many seek to counter the heavy pressure on interest margins.

Notwithstanding all this, we take a quiet confidence of how well we have performed through all these tough years. There's no question that the Rockland brand is gaining traction and resonating with our customers in each of our markets, and our rising business volumes attest to that.

The other important engine to our growth track lies with my colleagues, whom I just simply can't thank enough for the incredible energy and determination they bring in moving our franchise forward. Ours is still a people business and there is no substitute for the team we have at Rockland, who is so motivated to be the best in the marketplace.

So we will continue to pursue our path of discipline growth and building franchise value by intelligently and thoughtfully investing our shareholders' capital. Thank you. I will turn over to Denis.

Thank you, Chris, and good morning. In the fourth quarter, Independent Bank Corp. reported GAAP diluted earnings per share of $0.45 per share as compared to $0.53 per share in the third quarter. Excluding merger costs in both quarters related to the acquisition of Central Bancorp as well as goodwill impairment and proceeds from a life insurance policy that occurred in the prior quarter, diluted earnings per share on an operating basis were $0.61 in the fourth quarter as compared to $0.55 in the third quarter of this year. For the full year 2012, Independent Bank Corp. reported operating diluted earnings per share of $2.16 as compared to $2.12 in 2011.

I will now cover a number of key topics. The Central Bancorp acquisition closed during the fourth quarter and we are pleased with the cost saves achieved thus far and are on track to convert the bank to Independent Bancorp Systems in the first quarter of this year. As Chris mentioned, we are pleased with our integration progress and we are also on track to deliver the 7% earnings-per-share accretion targeted for the acquisition.

Loan and deposit levels were up sharply at year end, inclusive of the acquired balances. Organic growth was excellent as well and we included an additional schedule in the financials accompanying the press release to help you understand these growth components.

Commercial loans grew very strongly in the fourth quarter at 3% organically on an unannualized basis. As a result, the approved pipeline of new business at year end was at a 12-month low due to this high volume of closing activity, much of this affected by tax-driven loan activity at the end of the year. As we begin 2013, we expect slow growth in the first quarter as we rebuild the loan pipeline during that period.

The conditions that led to a 12% organic Commercial loan growth rate in 2012 are largely intact and we feel good about our business development prospects.

The home equity portfolio grew organically by 14% in 2012 with growth tapering off as anticipated in the fourth quarter as we didn't want to engage in the competitive loan pricing trends during that period.

Core deposits also grew nicely in the fourth quarter at 2.8% unannualized. Importantly, the mix of deposits continued to be solid as core deposits are 83% of total deposits, and demand deposits now account for 28% of total deposits. Total cost of deposits was a low 25 basis points in the fourth quarter.

Asset quality trends were stable and our metrics remain strong. Non-performing assets were $42 million in the quarter with overall levels quite manageable at 74 basis points of total assets.

Loan delinquency remained very good at 82 basis points at December 31, and early-stage delinquency -- that's the 30- to 89-day bucket -- was 43 basis points of loans. Loans net charge-offs were 21 basis points on an annualized basis for the fourth quarter, and for the year they amounted to 36 basis points. Consistent with prior quarters, our provision exceeded net charge-offs as we prudently add to loan loss reserves, given our strong loan growth.

As expected, the net interest margin decreased to 3.68% in the fourth quarter from 3.72% in the prior quarter, reflecting the challenging interest rate environment. We continue to expect it to drift lower from here due to the ongoing pressure on earning asset yields facing our industry.

In addition, the fourth-quarter net interest margin was positively impacted by 5 basis points due to the impact of purchase accounting related to unanticipated acquired loan payoffs.

Non-interest income growth was robust in the fourth quarter, up 15% excluding the third quarter's tax exempt insurance policy benefit of $1.3 million. The improvement was across a number of categories including mortgage banking, service charge and interchange revenue as well as in the other non-interest income category, due to a variety of items, including tax credits, commercial lending fees and realized equity gains.

Non-interest expense excluding merger charges in both periods and goodwill impairments in Q3 increased 6% largely due to a higher incentive compensation accrual and the inclusion of Central Bancorp's expense base. The purchase accounting marks were very consistent with our acquisition model assumptions overall and they are reflective of the low-risk nature of the acquired by bank balance sheet.

Now turning to earnings guidance, we always try to provide you with our expectations of future performance along with updates as the year plays out. For 2013, we anticipate operating diluted earnings per share performance of between $2.28 and $2.38. This represents a meaningful increase in earnings per share over 2012's performance.

In comparing the two years, there are a number of factors that need to be taken into account, including a modestly improving economy, a more compressed interest margin, favorable asset quality and improved growth in non-interest revenue combined with continued solid organic business growth, the accretive benefit of Central Bancorp and the strong long-term growth prospects for our newer markets.

As a reminder, our first quarter usually trends notably below the fourth quarter due to a variety of factors, including fewer days, higher employee benefit expense and increased marketing expense. Key assumptions in our 2013 outlook include -- loans grew organically at 8% in 2012 and we expect a somewhat slower rate of growth in 2013, in the 4% to 5% region. While we expect continued strong growth in commercial due to our strong business development capability, we have tempered the growth rate in home equity lending due to the near-term pricing considerations cited earlier.

We are focused on maintaining a favorable deposit mix by emphasizing core deposit growth over absolute growth, and we expect to grow total deposits 3% to 4% in 2013. The margin is expected to range from a high of 3.6% at the beginning of the year and steadily declining to a low of 3.5% in the latter part of the year.

Please keep in mind the challenging nature of predicting the net interest margin with the volatility created by purchase accounting. We will endeavor, as always, to give you our best insight at a point in time.

The asset quality outlook is expected to be stable to improved in 2013. As a result, the provision for loan loss is anticipated to be in the range of $12 million to $16 million as compared to $18 million in 2012 and loan net charge-offs at $10 million to $14 million as compared to $14.5 million in 2012.

Non-interest income on an operating basis as anticipated to grow 6% to 8%. We expect continued growth in deposit and interchange revenue as we continue to build our core customer base.

We also expect continued growth in mortgage banking revenue. In that arena, we recently outsourced the back shop and aligned with a partner to stabilize our cost per unit while taking advantage of the scale benefit to garner improved technology and compliance effectiveness in a rapidly changing regulatory environment. We're hopeful that with an improved foundation we can better take advantage of the low rate environment to improve profitability of the mortgage banking operation. And, we remain focused on growing our investment management business as we look for double-digit growth in revenue.

We plan to open an investment management office in Boston in the near future to help in that effort. This business also lines up well with the demographics of the Central Bank marketplace.

Non-interest expense on an operating basis will be well contained and is expected to increase 7% to 9%, largely due to the Central Bancorp acquisition. We have quietly improved the bank's efficiency as the operating efficiency ratio improved from 66.3% in 2011 to 64.5% in 2012. We expect this ratio to be in the 65% region in 2013, and while we have achieved the cost saves targeted in the Central Bank acquisition, until we scale it up, it will represent a modest efficiency drag. We will also continue to invest prudently in those areas that provide improvement in long-term profitability.

Our tax rate is expected to be approximately 25% in 2013. We expect capital to continue to grow with tangible common equity unadjusted reaching back to the 7% region at the end of 2013.

The first quarter will include further M&A charges due to the systems conversion. We expect those charges to be approximately $2 million to $3 million pretax.

That concludes my comments and we can now open the call for questions.

(Operator instructions) Mark Fitzgibbon, Sandler O'Neill.

The first question is on the cost of funds. Your cost of funds is great; at 49 basis points, it's well below your peers'. The question I have for you is, do you feel like you still have some flexibility to take those liability costs lower?

Mark, not particularly. If we do, it's very modest. You will note that the rate of decrease in our cost of funds has really slowed. It's 25 basis points for the cost of deposits; it's challenging. It's why, though, we are very focused on growing core DDA. That's a very effective -- has been very effective for us and we're going to continue to focus on that in 2013.

But to answer your question directly, there isn't much more room to reduce that cost of funds, unfortunately.

Okay, and secondly on the Central deal -- sort of a two-part question -- first, any big surprises positive or negative that have come out of the transaction? And secondly, I thought you had mentioned in your earlier comments that all of the cost savings were extracted already from Central, but you are not doing this systems conversion until sometime in the first quarter here. I guess I wondered if you could just clarify that and perhaps give us a sense for what the exact timing of extracting all those costs will be.

Sure. Just on the cost savings one first, my reference was that we have reached our cost savings target that we established, which was 40% in cost saves. But there still is some -- we still have some staff remaining until we get through the conversion process, which is scheduled for mid-February. So there will be further cost saves. So in other words, we expect to modestly exceed our 40% cost save target.

Those costs -- the remaining costs we expect to be out by the end of the first quarter, so we should -- that's essentially the timing of when we expect the remaining costs to be removed.

With respect to the surprises, Mark, I think we are pretty much right on track across the board from an expectation point of view. We are in good shape, and we have a lot of that momentum occurring now. Before we converted, we had some new team members up there and they are hitting the ground running, and we feel very good where we are.

Okay, and then lastly on the investment management expansion into Boston, could you maybe give us some sense of how many people, how much space, rough cost of doing that, might be?

Well, it's going to be a modest entry first. I'm not too sure exactly how much space it is, but it will be an office that can accommodate --

It's about 3000 square feet. It's not a major expansion. It's a reasonably sized office. We are anticipating about 3 to 4 employees and about -- the effect next year will be about $600,000, $700,000 pretax.

Great, thank you.

David Darst, Guggenheim Securities.

Denis, within the guidance for the M&A charges, is that included in your earnings per share range?

No. The earnings per share range is an operating estimate.

Okay, got it. And then, as far as the tax rate, are you looking at any more applications for the new market tax program this year?

Sure, assuming that -- we believe there is another program -- I'm looking at one of my colleagues here -- yes, there's another program for this year. And we will apply -- we have been a very effective program with our Commercial team in terms of executing on these new market tax credits. And we are very hopeful that we will be successful on another application.

Okay.

Not -- another successful application is not included in the projections we have provided you.

It's not, but that could be a late -- I guess that happens kind of --

The application is due late this year, and we probably wouldn't even hear the results until the first quarter of next year.

Okay, right. But is there one we're actually waiting on as well?

No.

No.

Okay. And you've indicated that you are going to back off on the home equal and some consumer lending due to the competitive pricing. Are you seeing anything changing on the Commercial side that could change your outlook or your desire to lend?

No, but from a pricing perspective, there is the occasional -- we are not quite back at the 2006 time frame where things got a little nuts, but we do hear the occasional very aggressive pricing on particular deals, and we are reticent to match that kind of pricing. But, overall, we have had enough of a pipeline where we can pick and choose the deals that we want to be involved in. So we are not -- it's not too bad on the Commercial side.

Home equity -- with the drop in rates, refi rates and the consumer real estate arena, it has been more challenging to grow that portfolio. But we will certainly -- we certainly still like the business a lot. It's more a matter of pricing right now.

Okay.

As our history shows, we not only are reticent; we will not participate in deals that have pricing and terms that are unacceptable, that are not in our range.

Okay, and with the residential mortgages that you sold from the acquisition, and then, I guess, the rundown in your organic loans, is that going to impact more the front half of this year and your guidance for loan growth, and does it accelerate in the back half?

Yes, exactly, and that's largely on the Commercial side. That's our portfolio that has grown the most for us, and our pipeline at the end of the year was about $130 million. That's -- just to give you a sense of it, our approved pipeline, that's $100 million down from September. So it's the lowest in the last year, but the good news is we have a very strong business development capability; we are confident we will be able to grow it again. But what it means is the first quarter is likely to be slow. But we feel pretty good about the back half of the year.

Okay, great, thank you.

(Operator instructions) Matthew Kelley, Sterne Agee.

I was curious. The C&I growth that you saw on a sequential basis -- how much of that was just new business wins versus changes in utilization rates by your existing customers?

Matt, it's mostly new business wins. I can give you the utilization, actually, if you bear with me for a moment. It's mostly new business. Do you have another question?

Yes, the second question -- I was just curious about in the mortgage bank, just talk about your gain on sale margins during the quarter and where they have been trending most recently. Any changes for the first quarter; and also, a pipeline commentary for Q4 and more recent trends?

[Rob], do you have a sense of the gain on sale?

Yes, the gain on sale in the fourth quarter is probably in the 102 range, so 2 points. We have had to adjust pricing there to get a little bit more competitive, so we would expect that to decline heading into the first quarter.

And our pipeline right now is down to, I think, around $80 million, $85 million, which has decreased from where we were in the fourth quarter on average.

Okay, got you.

And, on the utilization, our utilization on the asset-based side is actually down Q3 to Q4, from 45% to 43%.

Okay, got you.

So that's -- it's been, as I said, mostly new business generation.

Okay. Then last question, how much did home equity pricing actually change over the last couple of months? You mentioned that a couple of times it had become a lot more competitive. Can you quantify that at all?

Well, just to give you a sense of it, and Rob, you can jump in here, too, the product that we were originating the most over the past two years has been our first position home equity, which is been really -- it's a refi product. It's an alternative to the conventional mortgage process. And for us, it was -- the reason we liked it is there were typically smaller balance seasoned mortgages, low LTV, very good credit quality, so -- and very convenient from the borrower's perspective -- you know, low cost of entry.

But what has happened is, with the drop in 15-, 20-year, 30-year conventional mortgage rate, it's more challenging for us to originate at the kind of pricing we were getting.

So we will reevaluate here as we enter 2013 and see if there are areas, markets, spots where we can be more competitive from a pricing perspective. But we felt pretty good, quite frankly, about the growth we were going to achieving commercial in the second half of the year, that we were comfortable backing off on home equity. Rob, you agree with that?

Yes, so just a point of clarity, that the pricing competition is not in the home equity product offering; it's the alternative in conventional mortgage lending

Okay.

And the gap it created there.

Got it, alright, thank you.

Damon DelMonte, KBW.

Denis, just a question for you on the forecasted expense growth. How much of that is actually organic growth versus just the layering on of Central's expense base?

Yes, the organic is about 2.2% growth, so we think we have pretty good expense control. I referenced our efficiency ratio earlier, and -- at the core, and so that's what we are targeting for the core. Central, as I said, will -- while we are achieving our cost saves, will be a little bit of a drag in 2013 until we begin the process of scaling up in that market. And we are confident we are going to be able to do that.

That's helpful, thank you. With respect to the margin, I think you had said that it's going to trend down to like -- from 3.60% down to 3.50% by the end of the year. Is the starting point for the first quarter -- did you say it was 3.60%, or did you say in the 3.60%'s?

In the $3.60's. Damon, if you think of it this way -- and, obviously, this purchase accounting stuff can create some volatility in the margin -- but we were at 3.68% in the fourth quarter. 5 basis points of that -- the margin was benefited by 5 basis points by unanticipated loan payoffs from the acquisition, so, if you will, a normalized margin, 3.63%. So start from there and we will unfortunately work our way down to the 3.50% region by the end of the year.

Okay, perfect, now I understand. That's all that I had. Thank you very much, guys.

(Operator instructions). I am showing no further questions. We will conclude the question-and-answer session. I would like to turn the conference back over to Mr., Oddleifson for any closing remarks.

Thank you very much, everybody, for joining us today. We wish you a happy new year and we look forward to talking with you again in three months. Have a good weekend. Bye.

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