KeyCorp (KEY) 2005 Q3 法說會逐字稿

Good morning, and welcome to KeyCorp's third quarter 2005 earnings results conference call.

This call is being recorded.

At this time, I would like to turn the call over to Chairman and Chief Executive Officer, Mr. Henry Meyer.

Please go ahead, sir.

Thank you, operator.

Good morning and welcome to KeyCorp's third quarter earnings conference call.

We appreciate you taking time to be a part of our discussion this morning.

Joining me for today's presentation is our CFO, Jeff Weeden, and we also have several members of our executive team available for our Q&A portion of the call.

I'd now like you to turn your attention to slide number two, which is our forward-looking disclosure statement.

It covers our presentation as well as the Q and A period that will follow.

Now if you turn to slide number three, Key reported another quarter of solid financial results.

Tax equivalent revenue was up 102 million, or 8.8%, from the year-ago period.

The quarter benefited from growth in net interest income and stronger performance from our fee-based businesses.

The growth in net interest income was driven by a higher net interest margin, solid commercial loan growth and an increase in core deposits.

With also saw an increase in our fee income due primarily to increases in loan fees and stronger results from principal investing and our Capital Markets businesses.

Asset quality remained solid.

Net charge-offs and nonperforming loans were down from the same period last year.

In the third quarter, we did see an increase in nonperforming loans that was attributable to our commercial passenger airline lease portfolio.

Jeff will have further comments on our asset quality outlook in his remarks.

During the quarter, we also made several organizational announcements to strengthen the management of our community bank and our national businesses.

These changes support our client relationship strategy.

As you'll recall, last year we placed most of the franchise-based field operations under the geographic management within the community bank.

The community bank management team includes George Emmons, who is responsible for sales and distribution;

Tim King, who heads up the retail group, including product segment and channel management; and Yank Heisler, who is responsible for the McDonald Financial Group, our private banking, high net worth and brokerage business.

We've also announced the appointment of two regional presidents and continue to work on filling similar rolls in our other two regions.

The final point of the slide focuses on strengthening our compliance practices.

As you saw in this morning's press release, KeyCorp has entered into a memorandum of understanding with the Federal Reserve Bank of Cleveland, and KeyBank N.A. has entered into a consent order with the Comptroller of the Currency to improve its compliance with the Bank Secrecy Act and other compliance related matters.

We don't expect these actions to have a material effect on our operating results or financial condition and there were no fines or civil money penalties imposed by either the Office of the Comptroller or the Federal Reserve.

We take our regulatory obligations with the utmost seriousness.

In this regard, we have made investments in both people and technology to strengthen our compliance activities.

In the first quarter of this year, we assigned one of our executive leaders to be our new bank secrecy act officer and elevated this position within the Company.

The entire compliance team is making significant progress and has the backing of the entire organization to sustain the ongoing effort.

Overall, it was a very solid quarter for the Company in terms of both our financial results and the progress we've made on our strategic initiatives, particularly the realignment of our community bank.

Now, I'll turn the call over to Jeff Weeden for a more detailed review of the quarter.

Jeff?

Thank you, Henry.

I'll begin with the financial summary shown on slide four.

We earned $0.67 per share in the third quarter, up 9.8% from the $0.61 we reported in the third quarter of 2004.

As Henry mentioned, our taxable equivalent revenue was up 102 million from the same period one year ago, reflecting a 7 basis point increase in the net interest margin and a 5.6% increase in average earning assets.

Earning asset growth was driven by an increase in total loans outstanding, resulting from improved commercial loan demand.

Average core deposits grew by 8.6% and asset quality measures remained relatively good.

Slide five compares our third quarter results to the same period last year and to the second quarter of 2005.

Compared to last quarter, total revenue was up 48 million as a result of higher fee income.

As you will recall, in the second quarter we received a principal investing distribution of $15 million in the form of dividend and interest income.

This had an impact on our margin and net interest income comparisons.

While charge-offs for the third quarter were essentially even with the prior quarter, the provision for loan losses increased by 23 million and noninterest expense was up 28 million resulting from higher incentive accruals, stock-based compensation and occupancy costs.

The effective tax rate was higher in the current quarter as a result of evaluation reserve adjustment for foreign taxes in our leasing line of business.

On an earning per share basis, we earned $0.67 in the current quarter compared to $0.70 in the second quarter and $0.61 in the same period one year ago.

Turning to slide six, the Company's net interest margin declined 4 basis points from the second quarter from 3.71% to 3.67%.

Again, the net interest margin in the second quarter benefited from a principal investing distribution of $15 million.

This added approximately 8 basis points to the net interest margin in the second quarter.

Excluding the principal investing distribution from the second quarter results, the net interest margin improved 4 basis points during the third quarter.

We expect that our net interest margin will be in the low 3.60% range in the fourth quarter given our slight asset-sensitive position to further increases in short term interest rates.

On slide seven, you can see that Key's average loans grew by 3.5 billion, or 5.7% from the third quarter of 2004.

The growth was in the commercial portfolio, specifically CNI lending, commercial real estate, and equipment leasing.

Average loan balances were up 267 million from the second quarter level due to continued modest growth in the commercial loans.

Offset by pay downs in the institutional area.

Consistent with reported Fed data, we also experienced a slow down in commercial loan demand in the summer.

This reversed itself in September with stronger commercial loan demand returning.

Our expectation for the fourth quarter is for commercial loans to grow in the mid- to upper-single-digit range on an annualized basis.

Average consumer loan balances remained relatively flat in the third quarter as consumers' preferences remained towards longer dated fixed rate maturities versus the variable rate home equity product offering we retain for our portfolio.

We are not anticipating much, if any, consumer loan growth for the remained of 2005 given the flat yield curve environment and the outlook for continued increases in short term interest rates.

Turning to slide eight, our third quarter average core deposit balances were up 2.2% unannualized, compared to the second quarter and up 8.6% versus the third quarter of 2004.

We are pleased with the growth we have experienced in this area.

We believe our relationship pricing approach and the elimination of teaser rates last year have helped us to grow and retain core deposits.

Slides 9 through 12 show our asset quality trends.

On slide nine net charge-offs in the third quarter were 30 basis points, the same as last quarter and down from the 49 basis points we reported in the third quarter of 2004.

As we have stated before, our long-term over the cycle target for charge-offs is in the range of 50 to 55 basis points.

Our expectation for charge-offs in the fourth quarter, excluding the commercial passenger airline lease portfolio, is to be in the low 30 basis point range.

It is still too early to the determine the extent of any charge-offs in the commercial passenger airline lease portfolio.

The leases moved to nonaccrual in the current quarter, as well as other performing leases to the airline industry, have been identified and are included in our reserve analysis.

In the event that these leases are charged off in future periods, we believe adequate reserves are already set aside for this exposure.

Our total exposure to the commercial passenger airline industry at September 30, 2005, was 217 million, of which 103 million are on nonaccrual.

Slide ten is our trend in NPAs.

At September 30, 2005, NPAs represented 60 basis points of total loans and other real estate owned.

This is up 8 basis points from the second quarter level and down 14 basis points from the same period one year ago.

Turning to slide 11, our loan loss reserve at September 30th remained strong and represented 1.67% of total loans.

And on slide 12, our coverage ratio of our allowance to nonperformer -- performing loans stood at 304% at September 30th, 2005.

Looking at slide 13, the Company's tangible capital ratio is within our targeted range of 6.25% to 6.75%.

During the quarter, we repurchased 1.25 million common shares, leaving 25.7 million shares available under our current board authorization.

We will continue to use share repurchases as a tool in the management of our total capital levels.

And finally, turning to slide 14, which provides our fourth quarter earnings outlook and our long-term goals, based on the fourth quarter outlook for the points that I've covered during the review of the current results, our guidance for the fourth quarter is for earnings per share in the range of $0.65 to $0.69.

That concludes our remarks.

And now I'll turn the call back over to the operator to provide instructions for the Q&A segment of our call.

Operator?

[OPERATOR INSTRUCTIONS].

Brent Erensel, Portales Partners.

Good morning.

Portales Partners.

What did you guys do that triggered this MOU, and when do you think it will be lifted?

This is Henry, Brent.

All financial services companies -- banks -- are going through a very difficult period with the regulators where the bar is constantly moving.

And as that bar moved up, we didn't keep pace with it.

I don't think we're in a much different situation than many financial institutions.

And the fact that there were no civil money penalties sort of tells you that we have some technical violations, and we're working diligently to try to catch up.

To try to speculate on what the timeframe is would be inappropriate, Brent, because that's really in the hands of the regulators.

But suffice it to say, it is one of the highest priorities, if not the highest priority, in terms of the things that we're doing so that we can get the MOU and consent order lifted as quickly as possible.

Could this be related to some of your widespread geographic footprint?

No.

It has more to do with just the retail policies in terms of the real focus on anti-money laundering.

The regulator have really changed their approach since the Riggs fiasco, and we weren't where we needed to be.

I'm embarrassed by where we are, but it isn't an issue that can't be resolved, and we're working on resolving it.

Thank you.

Christopher Chouinard, Morgan Stanley.

Hello, good morning.

I have a couple of questions.

First just to follow up in that, the MOU.

Are there any restrictions on growth or acquisitions while you're under this MOU?

Well, the major issue is that we don't qualify for expedited approval from the Fed or the OCC.

I would guess, and I met with the regulators yesterday, that for us to do a depository transaction in the period until we've got a compliant bank secrecy act program will be difficult.

On the other hand, they made it very clear to us that we are not prohibited from doing anything, it's just that we have to be aware of nonexpedited treatment on everything, and it will be more difficult for bank transactions.

On the other hand, that has not been our business model.

There are not a lot of deals being done because the spread between bid and offered is still very, very wide.

So it's clearly my hope that we can focus our energy on getting out from underneath these two actions in time to be a player when the market opens up.

Okay.

And to follow -- follow up on a different subject, you mentioned that in institutional -- CNI was down in part due to declines in institutional book.

How big were those declines and do you have growth in -- figures for growth in middle market CNI loans? loans.

Tom Bunn will answer that question.

Hey, Chris.

The institutional book continued to decline reflecting a pay down of a significant loan we had during the end of the second quarter.

The booked in equipment finance, Commercial Bank and real estate all grew, and I can give you those numbers for the quarters.

Real estate grew 6.3% quarter-over-quarter.

Commercial Bank grew 1.4% quarter-over-quarter.

And leasing, which had been flat for the second quarter, grew 2.7% third quarter over second quarter.

So we saw, as Jeff alluded to, steady growth in our core businesses.

And we never expected to have a large corporate or an institutional book that represented any substantial growth in our -- for our loan book.

Okay.

And can you just share with us where the institutional book stands as of quarter end?

The dollar value of the institutional book, is that what you're referring to?

Yes.

Around $4 billion.

It's barely 10% of our total corporate investment banking asset book.

Great.

Thank you very much.

[OPERATOR INSTRUCTIONS].

Jeff Davis, FTN Securities.

Good morning.

Following along the prior questions, same lines, looking forward to 2006, Tom, anything that you -- that you look at right now that would indicate any change in your lending momentums on the commercial side?

Maybe looking out to the first half of 2006.

No, I think as Jeff mentioned, we saw renewed activity in the September -- in September following a softer summer.

And as Jeff also alluded, we feel good about a mid- to upper-single-digit growth number overall for the --

Fourth quarter.

-- for the fourth quarter, and no reason right now to think that that's not a sustainable trend.

Okay.

Thank you.

David George, A.G. Edwards.

Good morning.

Just a couple of quick questions.

I know you've talked about the loan -- loan category a little bit, but can you talk about your loan pipeline today?

Obviously, you guys have done a pretty good job generating asset growth and it's slowed a little bit in Q3.

Can you qualitatively talk about that?

I apologize, I was on the call a little bit late.

And then also, Henry, if you don't mind talking about your -- your M&A appetite.

Thanks.

This is Tom.

I'll address the pipeline.

The pipeline is good.

Again, it gives us an indication that the numbers that Jeff outlined and I just mentioned are achievable for the fourth quarter.

As everyone knows, you can't really tell much beyond a quarter what a pipeline is going to deliver.

So I think that's the best indication I can give you.

Okay.

And, David, on the M&A appetite, as I alluded to earlier, we're going to be slowed down as it relates to depository institutions but we are not out of the market entirely.

And we continue as we have in the past to look for acquisition opportunities that fit with our national businesses as we have done in the commercial real estate business.

We're looking in the Asset Management business.

And I don't expect us to not be able to compete in that regard.

Okay.

Thanks, guys.

Terry McEvoy, Oppenheimer.

Just one question, if I could.

The gains from principal investing of $31 million, did all of that flow to the bottom line or would there have been some expenses included in noninterest expenses associated with those activities?

Yes.

This is Jeff Weeden.

There are expenses associated with -- with principal investing.

That's one of the things that often does get overlooked.

So not all of that flowed through to the -- to the bottom line.

However, it is a very leverageable business and so a large portion of that did in fact contribute to earnings during the current quarter.

Thank you.

And we have no further questions at this time.

I'd like to turn the conference back over to Mr. Meyer for any additional or closing remarks.

Thank you, operator.

I would just again thank you all for being a part of the call this morning.

We are pleased with our third quarter performance.

The strategic initiatives that we put in place are really starting to show some differentiation.

Our deposit growth is now coming through.

The commercial growth continues to be there.

Our margin management is amongst best in the industry, and we continue to be a little bit asset sensitive as we look for some further rate increases by the Fed.

So we're optimistic about where we stand in terms of going into the fourth quarter and then 2006.

With that, operator, we'll end the call, and thank you all for your participation.

Thank you, everyone.

That does conclude today's conference, and you may now disconnect.