Independent Bank Corp (Massachusetts) (INDB) 2016 Q2 法說會逐字稿

Good morning and welcome to the Independent Bank Corp. second-quarter 2016 earnings conference 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).

This call may contain forward-looking statements with respect to the financial condition, results of operations and business of Independent Bancorp. Actual results may be different. Factors that may cause actual results to differ include those identified in our annual report on Form 10-K, and our earnings press release. Independent Bancorp 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.

Please note this event is being recorded.

I would now like to turn the conference over to Chris Oddleifson, Chief Executive. Please go ahead.

Great. Good morning. Thank you Nicole. Thank you, everyone, for joining this morning. With me as usual is Rob Cozzone, our Chief Financial Officer, who will take you through our financial results following my comments.

Our second quarter can be best described as the one where all the stars were perfectly aligned in our favor to produce one heck of a quarter. Core earnings in the second quarter came in at $20.5 million, or $0.78 per share, well above both prior quarter and prior year.

Everything came together this quarter in virtually across-the-board fashion. Healthy growth in the commercial loan portfolio in each major business sector, including small business. Competitive conditions, as we've talked about, remain tough, but we are very much in the deal flow in our region and loan pipelines remain in good shape. Home equity activity also continues to be fairly robust.

Core deposits have more than kept up with another quarter of strong growth. Our relationship focus here is really paying off. And new household formation remains solid.

Every category of fee income was up this quarter with higher volumes across the range of deposit, interchange, mortgage and commercial loan level swaps. And our investment management unit is now responsible for assets that rose to $2.8 billion.

Credit quality continues in excellent shape. Every quarter, we caution that trends will inevitably return to cyclical norms, but not just yet with another quarter of net recoveries and benign nonperforming trends.

Expense levels remains well contained with a further lowering of our efficiency ratio, and all this led to an ROI of over 1.1% and an ROE above 10%.

And of course, capital continues to build, affording us strong capital ratios and a platform for future growth. Tangible book value per share continued its steady ascent, having grown over 11% in the past year. So like I indicated, it was a full sunshine quarter.

So, turning to some other topics, the integration planning for our New England Bancorp acquisition and its Bank of Cape Cod affiliate is well underway. As you know, we have a well oiled integration process and fully expect this one to go as well as all prior ones. As a reminder, Bank of Cape Cod has about $260 million in assets. It will improve our market position in Cape Cod, a reason it possesses attractive demographics. It's a great commercial fit with our franchise and there's lots of advanced planning going on to hit the ground running on day one.

We have developed a marketing strategy across both banks to retain customers and bring Bank of Cape Cod customers into the Rockland Trust plan. We will be retaining our branch in the town of Osterville, which provides a terrific opportunity for our investment management business, and we still expect this acquisition to close in the fourth quarter and be accretive to earnings.

We do get asked about M&A quite a bit by many of you. Our posture here is unchanged. We remain disciplined, opportunistic acquirers. And we always want a seat at a table for any such discussions, but I always remind folks that banks are sold and not bought. In instances where we are successful, we do find that the Rockland Trust franchise and currency are proving very attractive to those looking to combine.

We also continue to pursue our disciplined growth strategy with selective initiatives designed to meet the needs and preferences of our expanding customer base. Let me give you a few examples. We opened a new branch in North Quincy where there is a robust and growing Asian community. It has a modern design in keeping with the changing customer service preferences and it's staffed with multilingual individuals. If you in just a few short months, it's reached $10 million in deposits and is still climbing.

Last month, we launched a new equipment leasing service that offers flexible financing, a flexible financing alternative to our commercial and small business client base. As we did a few years ago with asset-based lending financing, we continue to grow our products to meet the needs of our clients.

We've also added more seasoned professionals to our investment management business to capitalize on opportunities, especially in the newly acquired markets.

As for the macro environment, not much new to add here. Speculation about the next Fed rate increase continues unabated. The recent Brexit vote and all uncertainty of its effect has surely kept the pundits busy. And of course we have the Republican and Democratic conventions this month, which keeps the political uncertainty at the forefront. While each of these are important, we simply focus on the things we can control.

Local economic growth has picked up for the first quarter of 2016 after it slowed a bit in the second half 2015. Employment and wages have grown at strong levels this year. This is evidenced in the low 4.6% state unemployment rate. Most notably, the unemployment rate in the Boston/Cambridge/Quincy area is a low 3.5%. The best benchmark's leading economic index suggest that state economy will continue to grow at about a 3.1% pace in the second quarter, outpacing the national rate.

So, 2016 is proving to be a pretty good year for us thus far. We take nothing for granted and know we have to work as hard as ever to sustain our success in this highly competitive arena. There's no question the Rockland Trust brand is resonating throughout our footprint with a growing reputation for reliability and service excellence. And we are also fortunate to have focused, hard-working, motivated, skilled, caring and respectful colleagues that really deserve all of the credit for our many accomplishments.

That's all I have. Rob?

Thank you Chris. Good morning. As Chris just described, things came together especially well for us in the second quarter. Versus the first quarter of 2016, GAAP net income and diluted earnings per share increased 10% and 8% respectively to $20.4 million and $0.77. Operating diluted earnings per share, which excludes the non-core items referenced in the press release, was $0.78 in the second quarter, an increase of 8% versus last quarter and 15% versus the same period a year ago.

Performance ratios for the quarter were quite strong. On an operating basis, the return on average assets was 1.14%, the return on average equity was 10.31%, and the return on average tangible equity was 14.02% for the quarter.

Strong earnings results continue to drive growth in tangible book value per share, which increased to $22.52 at June 30, a $0.62 or 3% increase from the prior quarter end. In addition, despite strong balance sheet growth, tangible capital and tangible assets remain consistent with the prior quarter at 8.22%.

Total annualized loan growth for the quarter was 6.1%, reflecting good growth across all commercial categories as well as a solid increase in the home equity portfolio which was partially driven by better direct-mail response rates.

Relatively high payoffs during the quarter were offset by excellent closing volumes. The influence of competition in the extremely low rate environment, however, has led to further large commercial loan payoffs in the first few weeks of the third quarter.

As of June 30, all loan pipelines were at multi-quarter highs. The approved commercial pipeline ended the quarter at $214 million compared to $150 million in the prior quarter with a meaningful portion of our new business coming from our existing commercial client base.

Deposit growth was also impressive for the quarter with all core categories up by double-digit annualized rates. Core deposits now represent 90% of total deposits, and as a result, the cost of deposits was down another basis point to 18 basis points in the second quarter. The size of our core deposit base is a reflection of our intense focus on relationships and the growing recognition of the RTC brand across our geography.

A reduction in the cost of deposits has partially contributed to the 8 basis point expansion in the net interest margin versus the first quarter to 3.47%. The margin also benefited from a 5 basis point increase related to loan and securities prepayments as well as 2 basis points from purchase accounting adjustments. As described on our first-quarter call, these two items were particularly low in the first quarter. For the remainder of the year, we would expect both items to normalize, resulting in a full-year margin in the low 3.40s% range, consistent with our original guidance.

Asset quality continues to be excellent. With the third consecutive quarter of net recoveries, a $600,000 loan loss provision was primarily needed to support the strong loan growth in the quarter. A single large commercial recovery led to the relatively high level of total recoveries in the quarter. In addition, nonperforming assets remained at post-financial crisis lows, representing only 37 basis points of total assets as of June 30.

Although somewhat anticipated due to seasonality, total noninterest income increased by an impressive 10% compared to the first quarter and represented 27% of total revenue. Included in this increase are strong interchange and ATM fees driven by continued growth of core checking accounts, robust mortgage banking activity supported by low rates and a full complement of loan officers, higher investment management income related to seasonal tax preparation fees and growth in assets under management, and record fee income from our loan level swap program. Regarding the latter, it is important to note that, even with our strong commercial pipeline and success of the swap program over the last two quarters, loan level swap income is highly sensitive to customer expectations of future interest rates.

Noninterest expense, when excluding non-core items, increased 2.7% when compared to the first quarter. The biggest driver of the increase is the Bank's reserve for unfunded commitments, which rose by $469,000 quarter-over-quarter as a result of the increase in our loan pipelines.

We also experienced small increases in various expenses such as consulting, mortgage operations and card issuance fees. The increase in card issuance fees is associated with our transition of debit card customers to EMV chip cards.

Good expense control has further dropped the efficiency ratio in the second quarter to 60.5% on an operating basis. The Company does anticipate higher costs associated with the new marketing campaign, branch transformations and customer experience enhancements in the coming quarters.

As for the New England Bancorp acquisition, our financial expectations remain very much intact. That is to say we continue to expect the transaction to be neutral to tangible book value per share and accretive to 2007 earnings by approximately $0.05.

Now, shifting to 2016 guidance, during our last conference call, we reaffirmed our 2016 operating diluted earnings per share guidance of between $2.90 and $3.00. And now the first-half operating earnings per share having reached $1.50, we are prepared to increase that range. We now expect full-year operating earnings per share to be between $3.00 and $3.05.

That concludes my comments. Chris?

Great. Okay, Nicole, we are ready for questions.

(Operator Instructions). Mark Fitzgibbon, Sandler O'Neill & Partners.

Good morning. Rob, just to clarify one of the comments you said, I think you expected expenses to be higher in the back half of the year related to marketing campaigns and expansion. Could you help us think about the magnitude of the increase, or incremental cost from this expansion?

We expect full-year expenses to still be in the range that we indicated, which was 3% to 5% growth over 2015. I would anticipate that we would be in the lower end of that range, actually, based upon first couple quarters of performance. But I would expect about $1 million, round numbers, of increase in total operating noninterest expense in the third quarter versus the second quarter.

Okay. How does that translate into sort of your de novo plans? How many new branches are you thinking about in the back half of the year?

Yes, actually no de novo branches. When I mentioned branch transformation, we are in the process of converting a number of branches from the traditional teller layout to pod style formats, so we have three in process at the moment, all of which we expect -- actually one I think just completed, the other two we expect to complete in the third and fourth quarters. So the cost of making those transformations will start to impact our expense items, particularly occupancy and equipment expense.

Okay. And then changing gears a little bit, it looks like commercial real estate growth has slowed a little bit for you guys recently, and I guess I'm curious whether that might be a function of either the heightened regulatory focus on CRE lending, or the fact that maybe the Boston commercial real estate market might be getting a little overheated. I'm just curious as to your thoughts.

We are not concerned about the regulatory focus, we have been a CRE lender since our inception. We have been close to our regulators in terms of our processes, and our risk management practices, and they are very comfortable with continued growth in that portfolio. However, we have begun to run up against some of our internal concentration limits, specifically multi-family, so we have slowed that as a result of reaching internal limits.

In terms of the market, we are concerned. We have been concerned about the valuations in the greater Boston market. Our commercial real estate and construction production is diversified across our footprint. I was looking at a report yesterday about production in second quarter, Collateral was in 78 different cities and towns across the state, so well-diversified. But we do continue to think that we have an opportunity to grow within the Boston market, just maybe not at such a rapid pace.

Thank you.

(Operator Instructions). Collyn Gilbert, KBW.

Thanks. Good morning guys. I just wanted to -- it's interesting, the growth you are seeing in this quarter and the pipelines being a strong as they are. Do you think that that momentum can continue to build, or was it somewhat of an anomaly? I know you guys sort of in your prepared remarks indicated that this quarter just everything kind of came together somewhat perfectly. But I'm just curious as to how you're thinking about the business building from here.

Competition is certainly very aggressive. That continues to be the case. I did mention in my comments that, in the first few weeks of the third quarter here, we've had a number of large commercial payoffs (technical difficulty) be replicated here in the third quarter. However, we are seeing lots of activity. Also, as I mentioned, the pipelines are very strong and not just in commercial but our mortgage pipeline, our home equity pipeline, our small business banking pipeline, all at multi-quarter highs. So we think we will have a good closing quarter in the third quarter, but it just won't result in the same level of growth that we experienced in the second quarter because of some accelerated payoffs.

Okay, that's helpful. And then similarly on the fee side, I know obviously the derivative income is going to be volatile. But the momentum that you are seeing on the well side and then the interchange side, does that also have potential to build here as you had indicated kind of more customer penetration and that type of thing, or was the interchange also an anomaly this quarter?

Certainly not an anomaly. I would expect that to grow as we head into the third quarter and continue to acquire core checking customers. Investment management income, remember, we have tax prep fees here in the second quarter. That was about $400,000 of the increase. So if you were to strip that out, we would expect the remainder to continue to grow because we got nice growth in assets under management and a good pipeline and a new business there. And then as I said, the swap income is unpredictable. With the commercial pipeline the way it is, we should have a pretty good third quarter, but second quarter was just a standout.

Okay, that's helpful. And then just finally on the margin, Rob, you had indicated maybe settling out at the 3.40% level. What are some of your assumptions that are going into that? What are some of the trends you are seeing in terms of new loan pricing and sort of your outlook for where funding costs will go to sort of get you to that 3.40%?

New loan pricing is off a little bit frankly because where the yield curve is. So the yield curve moves down, and without necessarily having any sort of spread compression, the absolute rate drops. So I do expect new loan yield, and we saw a little bit of it here in the second quarter, new loan yields to come down a bit, and so that will certainly impact the margin. If you average the first two quarters, we are at 3.43%. I would expect us to be slightly less than that in the third quarter, and probably a little bit lower than that again in the fourth quarter. But my guidance was the low 3.40s% for the year. So it might be a little north of 3.40%.

That's great. That's all I had. Thanks guys.

(Operator Instructions). This concludes our question-and-answer session. I would like to turn the conference back over to Chris Oddleifson for any closing remarks.

Thank you very much, everybody, for joining us. Have an enjoyable rest of the summer and we will talk to you in October. Thank you.

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