Mercantile Bank Corp (MBWM) 2013 Q2 法說會逐字稿

Good morning everyone, and welcome to the Mercantile Bank second-quarter 2013 earnings conference call. (operator instructions). Please note that today's event is being recorded, and at this time I would like to turn the conference call over to Mr. Bob Burton. Mr. Burton, please go ahead.

Thank you, Jamie. Good morning everyone and thank you for joining Mercantile Bank Corporation's conference call and webcast to discuss the company's financial results for the second quarter of 2013. I'm Bob Burton, with Lambert, Edwards, Mercantile's investor relations firm. Joining me are members of their management team including Michael Price, Chairman, President, and Chief Executive Officer; Robert Kaminski, Executive Vice President and Chief Operating Officer; and Chuck Christmas, Senior Vice President and Chief Financial Officer.

We will begin the call with management's prepared remarks and then open the call up for questions. However, before we begin today's call, it's my responsibility to inform you that this call may involve certain forward-looking statements such as projections of revenue earnings and capital structure, as well as statements on the plans and objectives of the Company's business. The Company's actual results could differ materially from any forward-looking statements made today, due to the important factors described in the Company's latest Securities and Exchange Commission filings. The Company assumes no obligation to update any forward-looking statements made during the call. If anyone does not already have a copy of the press release issued by Mercantile today, you can access it at the Company's website, www.MERCBANK.com. At this time, I would like to turn the call over to Mercantile's CEO, Mike Price. Mike?

Thank you, Bob. Good morning everyone, and thank you for joining us to discuss our second-quarter 2013 results and other recent developments for Mercantile Bank Corporation. On the call today, our Chief Financial Officer Chuck Christmas will provide details on our financial results, followed by Chief Operating Officer Bob Kaminski with his comments regarding asset quality and other operational successes for the quarter.

Hopefully, you've all had a chance to review our quarterly results, which were highlighted by new loan originations of approximately $76 million, improved profitability, a further decline in nonperforming assets, and a strengthened balance sheet. Our net interest margin improved slightly. And our 30- to 89-day delinquent loans remain near zero.

In this quarter, as we have over the past several years, our efforts were focused on reducing nonperforming assets, maintaining our net interest margin, and strengthening our capital position. As part of our improved capital position, earlier today we also announced another increase in our quarterly cash dividend from $0.11 to $0.12 per common share. The second increase this year.

Our bank continues to grow stronger each quarter, and we are proud of our many accomplishments. We are convinced that our relationship-based approach is essential to our success in gaining market share, while regaining respected partners to our customers by adding long-term value for them and, ultimately, our shareholders. The success of these relationship-building efforts was evident in our origination of approximately $58 million in new loans to new borrowers, along with $18 million in new term loans to existing borrowers during the quarter.

As we look ahead, the Michigan economy continues to gain strength and is being recognized both locally and nationally not only for the rate of its recovery but also for our future prospects in several key industries. Mercantile remains well positioned to continue our success as a leader in our markets, and our strong capital position creates many opportunities for us to fully participate in these trends as they play out in 2013. We will continue to do this while remaining focused on building our franchise and helping our communities prosper. At this time, I'm going to turn it over to Chuck.

Thanks Mike, and good morning everybody. As you saw in the press release, this morning we announced net income attributable to common shares of $4 million for the second quarter of this year, a 22% increase over the $3.3 million earned during the second quarter of 2012. Our net income attributable to common shares during the first six months of 2013 was $8.4 million, a 44% increase over the $5.8 million earned during the first six months of 2012. On a diluted earnings per share basis, the $0.46 we earned during the second quarter of 2013 was an increase of 28% over the $0.36 we recorded during the second quarter of 2012, while the $0.97 we earned during the first six months of 2013 was an increase of 49% over the $0.65 we earned during this first six months of 2012.

The quality of our loan portfolio continues to improve, allowing for negative provision expense and further significant reductions in problem asset administration costs. The level of nonperforming assets has declined over $103 million, or 88%, since the peak level at March 31, 2010, and is currently at its lowest dollar volume since March 31, 2007.

Our improved earnings performance and financial condition also reflect the many positive steps we have taken over the past five years to not only mitigate the impact of asset quality related costs in the near term, but to establish an improved foundation for our longer-term performance as well. We have increased our net interest margin to well above historical levels, strengthened our regulatory cash ratios, and enhanced our liquidity position through dramatic reductions in our reliance on wholesale funding.

In addition, our improved financial condition and operating results led to the resumption of a quarterly cash dividend on our common shares during the fourth quarter of 2012, which we have increased every quarter since up to the $0.12 per common share we just announced for the third quarter.

Despite economic and regulatory headwinds that continue to face our industry and the economy, we continue to believe we are very well positioned to succeed as a strong community bank and to take advantage of lending and market opportunities as they may arise. 2013 highlights include a steady net interest margin that remains well above our historical levels. This has helped to mitigate the negative impact of a smaller loan portfolio. Net interest income during the second quarter of 2013 was 2% lower than the second quarter of 2012.

Average total loans declined $23 million, or 2%, during the second quarter of 2013 when compared to the second quarter of 2012, which was partially offset by a three-basis-point increase in our net interest margin during the comparable period. During the past five quarters, our net interest margin has averaged 3.65% and has been within a range of six basis points.

The steadiness of our net interest margin primarily reflects a lower cost of funds that has balanced a lower yield on assets. The lower cost of funds primarily results from maturity of higher-costing certificates of deposit and borrowed funds, as well as reduced rates paid on local deposits. The lower yield on assets results from a number of factors including lower loan yield reflecting a low interest rate environment, improved borrower financial performance, and increased competition. A lower securities yield reflecting the US agency bond calls and reinvestment activity, as well as principal pay-downs on higher-yielding mortgage-backed securities. A declining level of nonaccrual loans and federal funds sold position has helped to offset the impact of lower asset yields as well.1

We remain dedicated to maintaining a strong and steady net interest margin. For example, to the extent possible, we are match funding fixed-rate commercial loans and have entered into certain derivative interest-rate contracts. While these and other strategies can have a negative impact on shorter-term net interest income, we have been able to maintain a relatively steady net interest margin and one that is well above our historical average. This was completed in conjunction with strengthening our interest-rate risk position, which will help -- which will be helpful especially if interest rates begin to increase.

The continued improvement in the quality of our loan portfolio and recoveries of prior period loan charge-offs have provided a positive impact on our loan-loss reserve calculations, and allowed us to make a negative provision expense of $1.5 million to the loan-loss reserve during both the first and second quarters of 2013. We recorded a net recovery of $0.4 million during the second quarter of 2013 and net charge-offs totaling $0.7 million, or only 14 basis points of average total loans, during the first six months of 2013.

Our loan-loss reserve was $24.9 million as of June 30, 2013, or 2.36% of total loans. Despite the significantly improved condition of our loan portfolio and a 19-basis-point reduction in our reserve coverage ratio during the second quarter of 2013, our loan-loss reserve coverage ratio remains substantially higher than historical averages.

Local deposits and sweep accounts were down $21 million during the second quarter of this year but are up $344 million since the end of 2008. While our business deposits were relatively unchanged during the second quarter, we experienced a decline in retail deposits primarily due to significant checks written to the IRS during the month of April, as well as some funds used by depositors to buy stocks, real estate, and automobiles throughout the quarter. Owing to the longer-term local deposit growth combined with a reduction in our loan portfolio, we have been able to reduce our level of wholesale funds by $1.17 billion since the end of 2008. As a percent of total funds, wholesale funds have declined from 71% at the end of 2008 to 21% as of June 30.

Nonperforming asset administration and resolution cost totaled only $0.3 million during the second quarter of 2013 and only $0.4 million during the first six months of this year. This expense line item was positively impacted by $0.7 million and $1.4 million in gains on the sale of foreclosed properties during the second quarter and first six months of 2013, respectively.

In addition, foreclosed property valuation write-downs totaled only $0.2 million and $0.4 million during the second quarter and first six months of this year, respectively. While gross expenses have declined, they remain at elevated levels. However, we expect further reductions in nonperforming asset administration and resolution costs in future periods as the level of nonperforming assets continues to decline.

Finally, we remain a well-capitalized banking organization. As of June 30, our bank's total risk-based capital ratio was 15.4%, and in dollars was approximately $64 million higher than the 10% minimum required to be categorized as well capitalized. Those are my prepared remarks, and I'll now turn the call over to Bob.

Thank you Chuck, and good morning everyone. My comments this morning will focus on client acquisition, asset quality, and the general operations of the bank. The second quarter 2013 results posted by the Company today demonstrated a continued improvement in the bank's asset quality, plus some very positive developments in the area of loan funding.

In our first quarter conference call, we commented that Mercantile has strong pipeline loans scheduled to fund in the second quarter, and that proved to be the case. Starting in April and continuing throughout the quarter, we generated a steady flow of new loan closings. Additionally, the reduction of loans from the portfolio pruning and aggressive pricing strategies by our competitor banks was less of a factor in the second quarter than in prior quarters.

A dedicated client relationship building efforts of our staff -- the source of these results with nearly 58,000,000 in new client loans closed, plus another $18 million in loans funded to existing clients. The distribution of loans among loan types provided a nice mix of C&I both lines of credit and term debt, as well as mortgage debt, both owner occupied and non-owner occupied.

As we have commented for several quarters, mutually beneficial client relationships built on confidence and trusts take time to develop. Our staff persistently introduces and demonstrates the Mercantile Bank in philosophy to prospects. These efforts are generating attractive new client opportunities. We're also seeing a few accelerated opportunities caused by personnel changes at some of our competitors. Regarding asset quality, Mercantile lending personnel continue to drive down nonperforming asset totals, producing a drop of 24% in NPAs from the first quarter and a 54% reduction from the same period in 2012. Principal payments of $2 million, sale proceeds of $2.4 million, charge-offs of $0.3 million, and evaluation write-downs of $0.3 million, for a grand total of $5 million, more than offset NPA additions totaling $0.5 million for the quarter. We continue to see positive results from our efforts to clear ORE from our balance sheet.

Gains in sale are now occurring in the majority of our sales, reflecting both the conservative approach to asset valuation and an improvement in the local real estate market.

Our loan-loss reserve stands at a healthy 2.36% of total loans, reflecting a quarter where recoveries of $794,000 outpaced charge-offs of $382,000. In community relations and marketing, the recipient of our second-quarter gift of $5000 through our Giving Together program was Restorers, Inc. This is a nonprofit organization dedicated to promoting the quality of life of the citizens in our community through providing help with employment assistance, general education, personal budgeting, providing help with employment assistance, and other human-dignity types of assistance. Additionally, Mercantile Bank is partnering with Grand Valley State University for deployment of a virtual teller unit in their new Seidman College of Business in downtown Grand Rapids. We are in the final stages of testing and currently looking for a potential go-live date in time for the resumption of classes in the fall.

Finally, our television commercials continue to air in our markets and receive positive feedback. Those are my prepared comments. I will now turn it back over to Mike.

Thanks, Bob, and thank you also, Chuck. Operator, at this time we'd like to open it up for any questions that might be out there.

(operator instructions). John Barber, KBW.

I guess the first question I have was just related to asset quality. I was wondering if you guys had changed the calculation for your loan loss, or if you were still using a twelve-quarter look-back.

No. We're still using the twelve-quarter migration that we sold into at the end of 2012, and it still reflects what we see as an appropriate assessment of the asset quality in the portfolio.

Okay, thanks Bob. I was also wondering if you could talk a little bit more about the pipeline for loans and the outlook for the second half of the year. And also if you had the origination number in the year-ago quarter.

This is Bob. I don't have the origination number from a year-ago quarter, but it is significantly higher, just off the top of my head. But the encouraging thing about the pipeline is that what we funded in the second quarter, which was a significant number as we talked about in our comments. But in looking at the pipeline numbers from the current point in time, those fundings have been replaced by new loan fundings and still stand at a very, very healthy number that we are very encouraged to see as it relates to the rest of the year. So again, with all the fundings, we still stand with a very healthy pipeline.

Okay, thank you for that color. And also just wondering, with the long end of the curve rising, are you seeing any relief in CRE pricing?

This is Mike, and I'll sort of let Bob weigh in on it, too. At this point, it's -- the long-end increase is still relatively recent that we haven't seen a lot of it. We continue, though, to stick with our discipline, and that's why you see our margin hanging in there so well, is that -- you know it -- we look at it each and every time.

And Chuck works closely with our lenders. And when we are asked to especially quote on the long end of it, we just have some fairly significant de minimis levels that we aren't really giving in on. But the competitors that we see out there that are doing a lot of this long-term stuff are still, in our opinion, quoting some fairly unattractive rates as far as we're concerned. Very attractive to customers. (laughter) But Bob, I don't know if you want to add to that.

Yes, Mike makes a good point. It really relates to a discipline that we developed over the last couple of years with respect to pricing. And it's really a risk-based pricing approach, and if it doesn't fit our template, then we tell the customer the parameters that we are able to establish for a loan commitment. And it really -- we try to drive towards the whole theory of relationship banking and things that come with that. And certainly, pricing is an important part of the mix, but the focus with our customers tries to shy away from pricing as the front and foremost factor in a relationship. And that -- we'll offer a very competitive rate relative to the market and what the credit that deserves to be priced at. But it's all about things that we can offer with value-added relationship banking that we've talked about for several quarters now. That's really the hallmark of what we do and how we market to our clients.

And John, I'll just add -- this is Chuck. I'll just add one comment. Just as a reminder on fixed-rate loans, our bread and butter is to balloon them at five years. We will occasionally look at a seven-year term, but that is very rare. So we try to either -- we offer them a floating rate and a fixed rate, and the fixed-rate 99.9% of the time will consist of a five-year balloon.

Great. And the last one I had, I think OCI declined $2 million this quarter. Are you guys looking at moving any securities into helping maturity?

No. Our bond portfolio tends to be longer-term, relative to the rest of the banking industry. We've always done it that way, and that primarily reflects that we've got a lot of floating-rate loans. And obviously, as any bank CFO does, is use the investment portfolio to help manage interest rate risk. So we don't have any need to be moving it between available-for-sale and held to maturity. In the history of this Company, we've never sold a security for liquidity purposes. We just let our Fed funds sold position, as well as our wholesale funding program, take care of any funding needs that we might have.

And, you know, we as bankers were sitting, you know, for several years now with some pretty big gains in the portfolio. We still have a net gain in the portfolio but certainly considerably lower. And with the longer end of the curve, the seven- and 10-year moving up like it did, especially at the end of June when we priced our portfolio, it did have a pretty big impact.

And I would tell you that offsetting that to some degree is the swap we have on our trust preferred. That moved considerably, as well, in the opposite direction and helped negate that a little bit. And certainly rates have started to come back down a little bit, at least in the first part of the third quarter. So we've seen that kind of reverse itself a little bit, and we'll just see where it goes. But on an overall basis, we are pretty consistent with the investment portfolio, and it's doing what it needs to do.

Okay, thanks for the color.

(operator instructions). Daniel Cardenas, Raymond James.

Just a quick question. In terms of the loan growth that we saw, was that more market share grab still? Or is it -- are you beginning to see signs of economic improvement in your footprint?

It's been a little bit of both. As I mentioned in my comments, there's been some clients that have experienced some upheaval at the present institutions, giving us some opportunities there. But also, there's some new projects that are on the drawing board and are getting going with some existing clients, and some new client opportunities that is encouraging from an overall economic marketplace standpoint. So it's been a little bit of both.

Okay good. And then on the margin side, are there any deposit repricing opportunities in the second half of the year that could potentially help starve off some of the headwinds that we're facing right now, that the industry is facing right now?

Yes Dan, this is Chuck. We have some opportunities. Certainly not to the degree that we've had over the last several years. We're probably talking two, maybe three basis points a quarter and reducing the cost of funding right now. So not a lot. There is a little bit there, but not much in regards to non-maturing CDs. I think we, along with all the other banks, I think we are about as low as we can go with those rates. So there's going to be a little bit of relief, but not the significant relief that we saw just because everything is kind of repriced down for the current rate environment.

The nice thing to see from a margin perspective is, most of the compression in our margin is going to be related to new loans, just because the loans that we are putting on have a lower rate because of the current rate environment than what our average loan rate is right now, which is right around 4.7%. But certainly, with the growth itself, will hopefully offset any compression in the margin when it comes to the actual interest income component.

Okay, thanks guys.

(operator instructions). Gentlemen, at this time I'm showing no additional questions. I would like to turn the conference call back over to Mr. price for any closing remarks.

Thank you, Jamie. While Mercantile's momentum is increasing and our team continues to be very motivated and dedicated to build on our success, as I stated earlier our long-standing relationships and proven excellence at community banking are serving us very well, as we continue on the path of achieving efficient and profitable growth.

We thank you to all of you for joining us this morning for your interest in our Company, and we look forward to talking with you again. At this time, we'll end the call.

Ladies and gentlemen, at this time the conference call has concluded. You may now disconnect your telephone lines.