First Western Financial Inc (MYFW) 2020 Q1 法說會逐字稿

Good day, ladies and gentlemen, and welcome to first quarter 2020 conference call. (Operator Instructions)

I would now like to turn the call over to Mr. Tony Rossi of Financial Profiles. Sir, the floor is yours.

Thank you, operator. Good morning, everyone, and thank you for joining us today for First Western Financial's First Quarter 2020 Earnings Call. Joining us from First Western's management team are Scott Wylie, Chairman and Chief Executive Officer; and Julie Courkamp, Chief Financial Officer. We will use a slide presentation as part of our discussion this morning. If you've not done so already, please visit the Events and Presentations page of First Western's Investor Relations website to download a copy of the presentation.

Before we begin, I'd like to remind you that this conference call contains forward-looking statements with respect to the future performance and financial condition of First Western Financial that involve risks and uncertainties, including the impact of the COVID-19 pandemic. Various factors could cause actual results to be materially different from any future results expressed or implied by such forward-looking statements. These factors are discussed in the company's SEC filings, which are available on the company's website. I would also direct you to read the disclaimers in our earnings release and investor presentation. The company disclaims any obligation to update any forward-looking statements made during the call.

Additionally, management may refer to non-GAAP measures, which are intended to supplement, but not substitute for the most directly comparable GAAP measures. The press release available on the website contains the financial and other quantitative information to be discussed today as well as the reconciliation of the GAAP to non-GAAP measures.

And with that, I'd like to turn the call over to Scott. Scott?

Okay. Thanks, Tony, and good morning, everyone. Thanks for dialing in for our first quarter call. Given the extraordinary changes in the operating environment brought on by the COVID-19 pandemic, we want to spend most of our time on the call today, providing an overview of our response, discussing the impact we're seeing on our clients and providing some additional disclosures around our loan portfolio.

I'm going to begin on Slide 4, talking about our operational response. We've always had a well-documented and tested business continuity management plan, and many of our business functions have the ability to work remotely. We started advanced planning in January when the threat of COVID-19 was beginning to merge, so we were well prepared when the when we activated the business continuity plan in early February as the crisis began to accelerate. We began holding daily meetings of our pandemic response team across functional team of senior leaders throughout our organization. We each took responsibility for holding daily meetings with our client service, finance, risk management and communications teams to identify issues to be addressed and develop appropriate responses. At all times, our top priority was protecting the health and safety of our associates and our clients. We've been able to keep all our offices open and functioning, although we've moved to an appointment-only model for client service to reduce use the amount of exposure for both associates and clients. We transitioned approximately 90% of our associates that are working from home without any meaningful impact on our level of productivity. Throughout the crisis and the transition to a more remote work environment, all our support functions have continued to operate at 100%, and we continue to provide an exceptional level of client service. The robust digital and online banking platform we built was well prepared to handle the increased usage we saw in March and now in April, and it's been instrumental in helping us effectively serve our client needs while we scaled back in-person services. We've also made a number of adjustments in our benefits programs to support our associates during this crisis. This includes providing additional paid time off and leave options for any associates personally impacted by COVID-19. Changing our medical plan include COVID-19 testing and treatment at no additional cost to associates and adding telemedicine and behavior telemedicine services at no cost to our clients -- to our associates as well. And we continue to support our communities. We've honored our sponsorship commitments for all the nonprofits that we support despite the cancellation of their fundraising efforts -- events. And in addition to that, we've made COVID-19-related donations in support of our philanthropic pillars targeting economic development, the arts and equality.

Moving to Slide 5, I want to talk about client engagement and support efforts. First, within our trust and investment management business, we had our clients well positioned prior to the crisis emerging due to tactical shifts we've made over the last year to move to more conservative positions. Throughout 2019, we moved client allocations to the lower end of their equity -- targeted equity weightings as equity prices continue to appreciate without underlying fundamental improvements in our opinion. Then as concerns about COVID-19 started to grow in February, we reduced those equity holdings even further by reducing non-U.S. allocations and move clients to higher cash positions. Finally, we've taken advantage of the extreme market volatility to increase our trading activity in order to maximize our tax loss harvesting for clients. As a result, our clients have been well positioned throughout this crisis and have outperformed relative to their benchmarks. Looking at commercial banking operations, we implemented a proactive calling program to reach out to all of our borrowers, get real-time information and assess the impact that COVID-19 was us having on their businesses. We then took all the data we gathered to place each client into a risk category, which has informed our allowance methodology.

We started to put relief programs in place to support our borrowers. On a case-by-case basis, we're providing payment deferrals, payment date extensions and/or temporary waivers on financial covenants. As of April 24, we have granted $55.8 million in loan deferrals. In addition, although we are not previously an active SBA lender, our team worked very hard to get our processes for participating in the Paycheck Protection Program up and running. Our initial focus was on helping our existing clients access funding through the PPP. But our process was efficient enough that we had the capacity to begin offering PPP to other companies that weren't previously our clients. We started being contacted by lots of companies that couldn't get a response or any assistance from their existing bank. So this turned into a really good opportunity for us to develop new commercial relationships. Through April 24, we had $162.8 million in PPP loans approved, of which $162.1 million have already funded and 41% were new relationships with whom we plan to build into strong clients here.

Turning to Slide 6. I want to review some of the notable trends we've seen. Before the crisis really started to hit, we were having a very nice quarter. We were seeing strong loan and deposit growth. We had $123 million in new loan production in the first quarter, which represents one of our highest quarters ever. Even with the crisis starting to have more of an impact in March, we finished the quarter with an annualized loan growth of 18% and annualized deposit growth of 34%. The strong deposit flows are coming from both existing clients and new clients that we added in the first quarter. As we saw a steady expansion in our net interest margin, as we begin to redeploy the liquidity we built up last year from our strong deposit growth as well as proactively reducing deposit rates with the change in fed rates.

We're very pleased with the performance of the business, although there were 2 nonrecurring items that negatively impacted our financial results. One was a loss in a held for sale intangibles of about $550,000, which related to the decline in the fair market valuation of our LA fixed income team, primarily related to changing market conditions. The other was a $4 million unrealized net loss that we booked against our mortgage loans held for sale. The uncertainty of COVID-19's impact on economy caused major disruptions in the mortgage market. Sharp fed fund and U.S. treasury rate reductions as well as the capacity, liquidity and delinquency concerns in the mortgage industry caused the value of mortgage loans and loan servicing to decline rapidly and significantly relative to mortgage hedges, resulting in about a $4 million loss value during the month of March.

Looking at other notable trends. Unlike what some other banks have reported, we have not seen any meaningful change in credit line utilization rates since the crisis started. So the loan growth we're showing is not the result of existing clients drawing down on credit lines as a precautionary measure. Our loan pipeline is slightly down from precrisis levels, but remains relatively healthy. We've tightened underwriting standards and are being much more conservative on our loan approvals and making sure that the new loans we book are very low risk. We've seen pretty consistent production in our mortgage activity, which at this point is being largely driven by demand for refinancing.

On the next few slides, we want to show some additional detail around our loan portfolio. On Slide 7, we show the composition of our loan portfolio. The largest segment of the portfolio is residential mortgage loans. Due to the nature of our client base, these loans are made to very strong borrowers, and we would expect this portfolio to hold up very well even in an extended recession. The average loan-to-value on this portfolio is about 64%, with the average FICO score of 769, so we're well secured with strong creditworthy borrowers. The rest of the portfolio is also well diversified. As of March 31, the mix of loans was 58% commercial and 42% consumer.

Moving to Slide 8, we show the breakdown of the commercial loans by industry. About half the commercial portfolio is real estate, rental and leasing related. After that, the 2 big segments are finance at 16% and health care and social assistance at 10%. We then drop to a number of smaller industries that each comprise 2% to 4% of the total commercial portfolio with very little exposure to the industries that have been hit hardest by COVID-19.

On Slide 9, we show the breakdown of our commercial real estate portfolio by property type. This is also a very well-diversified portfolio with the largest segment being office and office condos at 17% of total CRE loans, with commercial buildings adding another -- commercial office buildings adding another 12%. We'll show our hotel, restaurant, retail and energy sector exposure in the next slides, but in other sectors of concern, travel, transportation and entertainment, we have no exposure. Again, we have little exposure to these areas that have been hit hardest in recent months.

Continuing to Slide 10, you can see just how little exposure we have in these areas. We have about $18 million in energy-related loans. These loans are not lent directly to energy companies, but rather to individuals with business or personal exposure to the energy industry. This is a well-secured portfolio with business assets, first deeds of trust and investment management assets collateralizing most of the loans. We have just 3 hotel loans totaling about $11 million. The largest of these is in a prominent geographic area, and we have strong credit enhancements in the form of multiple sources of repayment and a personal guarantee from a strong guarantor.

Finally, we have just 6 borrowers with restaurant loans and in average industry -- an average size -- loan size of just under $700,000. So very little exposure to that industry. We have minimal unused commitments to either hotel or restaurant borrowers, so the outstanding balances in these 2 industries will not be increasing in the near future.

Now I'd like to ask Julie to review our capital and liquidity positions. Julie?

Thanks, Scott. Turning to Slide 11. We show our capital ratios and note that we are very well capitalized and have more than $750 million in available liquidity sources. This does not include the PPP liquidity facility which is another source of liquidity that we plan to tap into through the PPP program. We feel confident that we have the capital and liquidity to continue to support our clients throughout the duration of this crisis. And despite the initial impact of the crisis, we continue to create additional value for our shareholders as our tangible book value per share increased by approximately 2% during the first quarter and 12.7% from a year ago.

I'll turn the call back over to you, Scott.

Thanks, Julie. And Julie can walk us through any of our usual financial slides, which are in the back of the deck, as requested in the Q&A.

Turning to Slide 12. I want to talk about our near-term outlook. It goes without saying that the uncertainty around the severity and duration of the crisis makes forecasting beyond the current quarter extremely difficult. So for the time being, we're just going to provide some of our expectations for the second quarter, setting aside for the moment the Q2 impact of our Simmons Bank Colorado branch acquisition and our SBA PPP activity. As I said earlier, the loan pipeline is still relatively healthy, so we should continue to see good organic growth -- loan growth this quarter.

Our NIM improved from -- in Q1 from 3.01% in January to 3.23% in March. And absent further rate changes in PPP distortions, we expect it to remain at that level in Q2. Our fee income in Q2 should also normalize without the mark-to-market mortgage disruption in late March noted earlier. We put in place some expense control initiatives during the crisis, and as a result, we would expect our core noninterest income expense to be in the $14 million to $14.5 million range in the second quarter.

In terms of capital management, we maintain -- remained active with the share repurchase program throughout a portion of the first quarter. But as the crisis deepened, we halted our purchases, and for the time being, we expect to remain out of the market so that we can fully preserve our capital for supporting clients and communities. We expect the SBA PPP activity to have a significant positive impact on Q2 revenues and earnings, as noted above, which may carry into Q3.

Finally, we've continued to move forward with our branch purchase and assumption agreement with Simmons Bank, and it's on track for closing in mid-May providing a 14% discount in the deposit premium we'll pay to the seller. This is a very attractive transaction from our standpoint point and allows us to deepen our presence in our core market in a way that will be immediately accretive to earnings. We'll acquire 3 branches and 1 loan production office in the Denver area. One of the branches is in a very attractive area that we have been looking previously for a possible de novo opening. So we'll be retaining that branch while considering -- consolidating the other 3 locations into existing First Western locations that are close in proximity. The transaction will provide both banking talent and an attractive commercial client base that we believe will be -- provide good cross-selling opportunities in the future. With the cost saves generated from the branch consolidation, the transaction will be strongly accretive for us, between 7% and 8% accretive to EPS into 2020 and 15% to 16% in 2021, although there will be some onetime deal expenses in Q2. And with that additional scale that we're adding, we expect to realize some additional improvement in our operating efficiency ratio.

We've included the rest of our usual slides in the back of the deck here, and would be happy to add any additional color needed around those items. But at this point, let's open the call up for questions.

Operator, please open up the call.

(Operator Instructions) Your first question comes from the line of Mr. Gordon McGuire from Stephens.

Scott, so I appreciate the commentary on the loan pipeline being a little bit down, but still pretty healthy. I guess in terms of capital, you raised sub debt this quarter, but overall growth this quarter lowered common capital by about 50 basis points.

You have the branch deal coming online, that will leverage capital a little bit further. I guess how comfortable do you feel continuing to grow at a faster pace, just given the current economic outlook?

Well, as I said, we're tightening credit standards, and we've tightened pricing. And frankly, we're seeing less of the competitive pricing than we were seeing early in the first quarter. So I think some of that will slow down and margins will improve or continue to improve just based on the pandemic results and banks being less aggressive in here. I think we've taken a pretty careful look at our forecast for earnings growth and capital from here. And what we've always said is that we thought we had adequate capital to get through the end of 2020. And certainly, from our numbers today, combination of these normal kind of core operations plus the impact of the PPP revenues and then the impact of the Simmons, we feel that we'll have plenty of capital to get through 2020 and into 2021.

Okay. So outside of being a little bit more tighter on spreads and on credit, you don't feel the need to completely pull your foot off the gas to preserve capital at this point?

We don't have any plans to stop growth or shrink. I would tell you, we are being cautious in growth. It's an interesting time though, with 41% of PPP won at First Western was for new clients. And those new clients are people that are either referred by clients that are happy here and were really pleased with the job we did for them, or they're people that we've been soliciting that, for whatever reason, didn't want to go to the trouble of moving, they get mad at their current bank and they moved over. So I think that this is kind of an extraordinary opportunity, frankly, for us to bring in some really great clients. And I don't know how much of that's going to be on the loan side initially. I mean, obviously, the PPP is a starting point. But certainly, we've got something like a 100 treasury management proposals out or in process right now, which we've never seen any number remotely like that here. That's a lot of really great new business activity for us. Julie, is there any color you want to provide on the capital?

Gordon, the only thing I would add is, as you saw, we completed our $8 million sub debt raise in the quarter as well. So we do have cash on hand to be able to support the bank as it grows and as we do the acquisition with Simmons.

Okay. Good. As far as the deposit premium paid on the branch acquisition, I think the slide deck or you may have mentioned in your comments that it's going to be a little bit lower. Is that related to the timing of the deal? Or is that kind of a new development?

Simmons had -- we had agreed at a price of 7%. It's technically 7.06% deposit premium and Simmons was actually anxious to make sure we closed on time. So they added a provision -- or they asked to add a provision that if we didn't close by, I believe it was July 31 that we would have to pay 8% and so we said, okay, that's fine. But if we close before June 1, we'll only pay 6%. And so we managed to get everybody organized to have an early closing. And I don't want to say it's a 100% guarantee, but we've got all the approvals we need now and every process are in place, we should be able to close on May 15 and achieve that approximately 15% deposit premium savings.

Okay. Good. And I'm curious if you've done a pretty thorough look at the loans you're bringing over in that portfolio. I guess pro forma, it's going to be probably close to 10% of total loans. So I'm wondering if you've had a chance to dig into some of these -- similar to the higher risk exposure, deep dive that you've done on your own portfolio.

So I don't want to sound too inefficient here, but I think this is a time for caution. So we've actually done now 3 rounds of reviews of these loans that we did at initial internal and then we hired a third-party loan review service that we used before that we feel comfortable with. They did the first round of credit view diligence with us, I want to say, late January, early February.

November, December. It was done last year.

Late last year. And then we did a second round where we asked Simmons to look at each loan -- the local Simmons team look at each loan and tell us where they think the credit exposure might be. And then we just agreed with Simmons yesterday for us to do another deep dive, which we're doing next week with the local team to make sure we really understand where those credits are and that we can make exclusions for the loans that are not expected to perform as well.

Okay, great. And just to clarify, Julie, the guidance for the expenses. That was just pure legacy First Western, no impact from the branches?

That's correct. That sums -- kind of have to think of it in 3 buckets: core, Simons added and then the PPP. So we're kind of thinking in those 3 things. But for the core business, that was the guidance for that.

(Operator Instructions) Your next question comes from the line of Mr. Brady Gailey from KBW.

I wanted to start with the $4 million of value loss in mortgage, I think, in the last month of the quarter in March. Where did that flow through? Did that flow through as a negative in the fee income in the mortgage line?

Yes. It flows through the -- what's essentially the growth revenue line, which is actually net revenues net of hedging expense and net of commissions. So let me just give you a little color on how that worked because it's not obvious from the numbers that we presented. So in Q4 of last year, we funded $198 million in mortgage loans. And in Q1 of this year, we funded, by coincidence, the exact same number. But that's actually not the number that drives the revenue recognition, it's actually driven off of the locked loans. And so in Q4 of last year, we locked $161 million and in Q1, we locked $463 million. So that's a tripling of locked volume from last quarter to this quarter. And then the revenues that we reported in the financials that we released last night showed $2.6 million in revenues last quarter, $2.5 million. So had we achieved the same margins in Q1 that we achieved in Q4, of course, revenues would have been something like 3x higher. And so you can see there, the missing $4 million. So let's talk about what happened with the $4 million. So in the latter half of March, you'll remember that we had this emergency -- 2 emergency fed meetings. They cut rates 150 basis points. The fed started buying bonds and mortgage-backed securities at a very rapid rate, very sharp increased rate. And then we had the more secondary markets fall apart because we had a lot of concern, as I mentioned in the prepared comments, about the value of servicing, liquidity, how deep the market was going to keep absorbing mortgages. And I had a mortgager describe this as a once in a lifetime decoupling from the secondary market to the mortgage-backed securities that we use as our hedge position when we're hedging against these loans that we're locking from the time we lock them to the time we sell them. So that's where -- so you end up on March 31, and you have to do a mark-to-market of the long position you have in the loans and the short position you have in the hedges, which are mortgage-backed securities, and you've got this huge credit spread that's gapped in the latter half of March. And it's not a -- it's unrecognized for the most part because it's just the mark-to-market.

And then you would expect that to normalize. And in fact, we can say today, 30 days later, that, that has substantially normalized. And in fact, we're closing loans today -- or booking loans today at margins that were better than they were in the fourth quarter. So that's the story there.

So Scott, you did $2.5 million of mortgage fees. You add the $4 million backed that's $6.5 million that has to be a record high for you guys. How do you think that will trend for the rest of the year?

So of course, we don't know, right? A lot of that was refinancing from the big drop in rates that we saw in the first quarter. So that's already slowed. Our originations in Q2 so far are down about 60% in April from what they were in March. But as I say, we've seen a really nice recovery in the margins. In fact, they're better than they were prior to the whole COVID disaster.

All right. And then looking at the rest of fee income, I know -- I think in the guidance, you talked about how fee income should normalize. Just wondering kind of what you meant by that remark as far as normalizing? And then when you look at trust and investment management, that was pretty flat on a linked-quarter basis.

I mean, with the market sell off -- I know it's recovered a lot, with the market sell off, I mean do you think there would be pressure on that $4.7 million of revenue as we look for the rest of the year?

Yes. So I agree with your comment. What is normal, right, who knows. But what I guess I was trying to say there is historically, and it's been kind of remarkably true over the 18 years or whatever it's been at First Western now, where we have about 50-50 split between revenues that are net interest income and revenues that are noninterest income. And so I guess what I was really trying to say there is I think that that's going to move back in that direction in Q2.

We have 2 main components. There's a number of components in the fee income, but the 2 big ones are the planning, trust and investment management fees and the mortgages. So the mortgages we kind of already talked about, and I think that, that will be more in line with what we saw in Q2 and Q3 of last year, which is the bigger season in Colorado in most of our footprint. So that's, I think, where we would expect things to be there. Of course, who knows, right? We've had a strong April. I don't know where May and June are going to be. And it seems like we're seeing good demand going into to May. On the PTIM fees, most of those fees are calculated on a daily average. And so most of the first quarter, the markets were relatively strong. We talked about how we had moved our clients into a more defensive position. So we would expect our client portfolios to significantly outperform, for example, the S&P headline, S&P 500 equity headline. And in fact, they did. And then you look at the bounce back we've had, and I think that, that will be helpful in Q2 as well, since we're working off of daily averages of -- that the fees are calculated off of.

Our next question comes from the line of Ross Haberman from RLH Investments.

So could you just go back over? I guess you were talking about the hotel and restaurant exposure. If I understood it, you basically were saying you thought they were pretty deep-pocketed guarantors. Would that be the way you would describe it?

Well, we have $11 million in exposure there. I can tell you that something like 80% of that is to a single property and borrower and guarantor. And this is a prime project in a great location with a borrower that has multiple sources of repayment and then a strong guarantee behind it as well. So if this is indeed the longest, deepest recession that we've seen since the great depression, is that hotels going to have a problem, maybe. But in terms of feeling comfortable about a hotel loan today, I think that that's about as well positioned as we could be. And as I say, I mean, that accounts for the vast majority of that $11 million.

I got it. Okay. And I got on a little late. Did you say what your fees were being on the PPP loans, which originated in this chapter 1 as well as the chapter 2?

So of course, that story is still being written. But what we know as of last Friday, we had done $162.5 million, Julie?

$162.1 million, yes.

$162.1 million in loans, and the total fees there, I think, are just over $4 million. And then in PPP 2, so far, we've done some number like $42 million. And I think the fees would be another $1 million or so out of that. So I think some number in the low 5s is looks like where we're headed right now. We're still seeing new applications, and the program is still open as of today, but the volume has dropped way down for us.

And did you discuss yet in terms of what you're seeing in terms of the deferred loans? Your thoughts about how are you going to go back and set any allowance for June?

Yes. So we had kind of 3 initiatives that when we became concerned in March about where this was heading from a credit standpoint, we had all of our relationship folks call all of our borrowers and ask them how they were doing and ask them if they needed some additional assistance from us. And we guided them into either change in terms if they needed that, where we were going to lower the rates. Our floating rates are almost all at their floors. And so we don't want to lose loans to good clients to competitors and so if we have to drop the floor a little bit or lower the rate a little bit, we'd rather do that than lose the client. So that was the first option.

Second option was some kind of payment extension or deferral. And then the third option was to participate in one of these SBA programs, including the Paycheck Protection Plan. And so out of that, we made a list of so-called high-risk loans. I mean, I don't think they're high-risk, but ones that we want to pay more attention to. And then we reviewed those with our credit team and the front line folks. Through all that process, as of March -- April 24, last Friday, we ended up with $55.8 million in loan payment or extension deferrals so that's about 5% of our portfolio, a little over 5%, which I think is a really good number. It's a lot lower number, I think, than what we're seeing from some of our peer banks.

And just one final question. Did you touch upon any sort of real estate-related exposure, direct and/or indirect? And that's my final question.

We shared on Slide 9 of the deck, a breakdown of the types of properties in the CRE and Page 8 talks about the loans by the NAICS code. Julie, is there any other color you want to add related to the CRE mix or the -- I mean, I think the interesting thing here for me, I shouldn't ask Julie to speak and then keep talking, but here we go. I was thinking about this as kind of primary risk where you're lending to a restaurant or a retail or hotel and secondary risk where you're lending to a borrower that has owner-occupied CRE that has a restaurant as a tenant in it on the first floor. And so we try to give you information on both of those by looking through the loan portfolio composition on Page 7, then the breakdown by an NAICS code, which you see there, very little direct or primary exposure to these high-risk areas. And then Page 9 talks about the breakdown of our CRE property types. And then Page 10 talks about the direct and indirect exposure to the stressed industries, which, again, I mean, for energy, it's not energy loans. They're loans to multi people that have energy exposure. So that's how we broke it down in the presentation, Ross.

Right. Any other questions today?

I show no additional questions, and I would now like to turn the call back to management for closing remarks.

Okay, everybody. Well, thanks so much for dialing in. We really appreciate your interest and your support for First Western. Interesting times, and I hope you feel like we're making good progress here. Thanks again for dialing in.

This concludes today's conference call. Thank you, everyone, for joining. You may now disconnect. Have a great day.