OFG Bancorp (OFG) 2017 Q4 法說會逐字稿

Good morning. My name is Laurie, and I'll be your conference operator today. Thank you for joining us for this conference call for OFG Bancorp. Our speakers are José Rafael Fernández, President, Chief Executive Officer and Vice Chairman; Ganesh Kumar, Senior Executive Vice President and Chief Operating Officer; and Maritza Arizmendi, Executive Vice President and Chief Financial Officer.

A presentation accompanies today's remarks. It can be found on the Investor Relations website on the home page in the What's New Box or on the Webcast, Presentations & Other Files page. This call may feature certain forward-looking statements about management's goals, plans and expectations. These statements are subject to various risks and uncertainties outlined in the Risk Factors section of OFG's Securities and Exchange Commission filings. Actual results may differ materially from those currently anticipated. We disclaim any obligation to update information disclosed in this call as a result of developments which occur afterwards. (Operator Instructions)

I would now like to turn the call over to Mr. Fernández.

Good morning. Thank you for joining us today. I will review the quarter's results, and Ganesh and Maritza will join us for the Q&A. As we've done in the past few quarters, we'll focus our prepared remarks on a few key highlights. This morning, we reported strong results for the fourth quarter, considering the effect of the hurricanes, the slow restoration of electricity and telecom and the continuing economic uncertainty. Earnings per share were $0.30. That included an additional $5.4 million in hurricane-related provision for potential loan losses. Excluding that provision, earnings per share would have been $0.37.

You can see from our performance that our recovery is well under way and that we're playing a significant role in helping businesses and consumers recover. Customer deposits increased in excess of $260 million from the pre-hurricane levels. New loan generation was more than $250 million, up 33%. Originated loan balances were up more than a $110 million. Net new customer acquisition returned in December to the rates we saw before Maria and Irma. All continuing operations, branches and ATMs are back to operating on a normalized basis. We have seen no noticeable signs of outmigration in our customer base or our staff. Importantly, capital continued to build. Tangible book value at $15.67 and the tangible common equity ratio at 11.29% were both up quarter-over-quarter and year-over-year.

Please turn to Slide 4. Making sure our people and organization survive the hurricanes was our #1 accomplishment in 2017. Separate from that, we had important additional achievements last year that helped to, number one, move OFG and Oriental forward in position; two, position us as a different bank, more agile, challenging the status quo one that can get things done faster and easier even under very difficult circumstances; and three, speed our recovery.

Oriental introduced 5 new firsts in Puerto Rico banking technologies during 2017, further enhancing our digital channel. These included Video Interactive ATMs and SecurLOCK for protection of credit and debit cards. The technologies are designed to attract customers with a noticeably different and higher level of service, but at a reasonable cost. Innovations like this proved their effectiveness, resulting in a 2% increase this past year in net new customers and net increase of $127 million in originated loans and a net increase of $193 million in customer deposits. It was this increase in deposits that enabled us in part to significantly reduce borrowings and their associated higher cost, helping us to expand our net interest margin 41 basis points.

By midyear, we had eliminated all central government-related debt. And after several years of preparation, we launched our U.S. commercial loan program in October. The former will eliminate a drag on our loan book, while the stateside initiative has already begun to add new loans using the same credit criteria that we have so successfully employed in Puerto Rico.

Please turn to Slide 5. In the third quarter, we added $27 million pretax in an additional loan loss provision to cover the potential impact of the hurricanes. As part of our recurrent assessment and considering the most recent data available, an additional $5.4 million in provision was recorded in the fourth quarter. Most of that was applied to the acquired residential mortgage loan portfolio. Separate from all that, the regular provision for non-acquired loans increased $2.5 million, primarily due to the growth and mix of our originated loans.

Please turn to Slide 6. In response to the hurricanes, we put into place our program alivio cuando más lo necesitan, relief when you need it most. For all retail loan customers, we provided 3-month automatic moratoriums on payment of principal and interest. For all residential mortgage and commercial loan customers, we were similarly accommodating, depending on client needs. Loan moratoriums that ended in December are showing promising trends in all portfolios. We are closely watching credit performance for the remaining moratoriums that end in the first quarter of 2018. It is too early at this point to come to a conclusion, but we are encouraged. Our credit metrics for the quarter for the most part improved. Net charge-off rate declined, reflecting lower consumer loan charges due to the moratorium. Nonperforming loan rate increased. This was primarily due to commercial loans current in their monthly payments, but being placed in nonaccrual as a result of deterioration of their financial statements. And total delinquency fell. This was primarily due to lower inflows because of the automatic moratoriums and to a lesser degree payments received on moratorium loans.

Please turn to Slide 7. Our business dashboard really tells the story of the quarter. Originated loans increased $112 million and total net loans grew by more than $90 million. This was due to the significant rebound in production. Commercial production increased to more than $100 million as we successfully developed relationships with businesses participating in Puerto Rico's recovery. The new OFG USA program added about $25 million in C&I loans. Auto production at $88 million was our best quarter in 2017. Looking at customer's deposits, you'll see cost of deposits held steady at 52 basis points and I'd also like to note that by the end of the fourth quarter, we had almost $1 billion in noninterest-bearing deposits. Fee revenue declined only $0.5 million. Point-of-sale related revenues were down $1 million due to the lack of electricity, but that situation improved significantly in December as more power was restored in San Juan. Wealth Management primarily benefited from annual insurance fees, while mortgage banking revenues were level with the third quarter.

The next slide shows our loan book transition. All of this data is in our financial tables.

So let's skip to Slide 9 for our income statement highlights. The one item I'd like to point out is our tax rate. For 2017, our effective tax rate was 24%. Because of the hurricane provisions, we had a higher proportion of exempt income and income subject to preferential rates than we had projected.

Please turn to Slide 10. The next 2 slides show the strong results of OFG's capital position. We'd like to point out that our capital ratios at the end of 2017 were the highest they have been over the last 5 years.

And if you please turn to Slide 12, you will see that most of our metrics have recovered and have even surpassed the levels we were seeing before the hurricanes.

To sum up, please turn to Slide 13. With more electricity and telecom available, a modest recovery began to take hold in the fourth quarter. Businesses and consumers began moving towards a new normal. Day-to-day life started to stabilize, primarily in the metropolitan area. The economy is recuperating from the catastrophe, and we are slowly moving forward. For that, we thank every volunteer, government official and utility crew from both here and the mainland who have helped and continue to help in this effort. But we are not yet out of the woods. Short-term, we are awaiting significant insurance payments from claims, for Washington to approve a financial package for Puerto Rico and for the complete restoration of our energy and communication services. Longer term, we must develop a lasting solution to the PREPA problem. So far, all we hear is conceptual and lacks consensus from stakeholders. Needless to say, we also must resolve Puerto Rico's fiscal problems. And we need to collectively agree on how Puerto Rico should leverage its many attributes to create an economy that can produce self-sustaining growth.

As we've seen from this quarter's results, OFG and Oriental are playing a major role, leading the way for consumers and businesses alike. It was the investments we made in our digital infrastructure, staff training and community involvement that enabled us to get up and running quickly after Irma and Maria. In turn, we were able to rapidly shift our focus back to helping our business clients and retail customers. In 2018, we plan to deploy more technology to service our customers faster, develop new commercial relationships, both here and on the mainland and optimize more internal processes to find even better ways to serve our clientele and maximize our operating leverage. We will keep you informed in future calls as we continue along our path of transformation.

With this, we end our formal presentation. Operator, please open the call for questions.

(Operator Instructions) Your first question comes from the line of Brett Rabatin of Piper Jaffray.

Wanted to first ask -- talking about the moratorium, how many or what percentage of the customers took advantage of that on the commercial and consumer side? And you indicated it was too early to give some great color, but you were optimistic. What can you share with us on the payments since the end of the year?

Yes. So let me give you a little bit of a high level and Maritza can give you some data. But from the retail perspective, the moratoriums were automatic, and we have a lot of clients who chose to pay either 1, 2 or 3 payments throughout the moratorium period. So even if it was automatic, we still had clients making some of their payments. So certainly, that's encouraging. On the commercial side, I would say that the larger commercial credits really were not necessarily in need of a moratorium in -- from our portfolio. Very few of them took advantage of the moratorium and they're back to business, and they're, in general terms, doing well and back to almost normal. Smaller commercial loan portfolios, the small businesses, those are the ones who benefited from the moratorium more directly. And those are -- again, some of them paid 1, 2 or 3 payments throughout, but they are starting to get back into the habit of paying their loans again. So that's kind of a high level. And I'm trying to make a difference between the consumer and commercial because one was automatic and the other one wasn't. So Maritza might have some additional data that can share with you.

Yes. At this time, we have general data. As José was mentioning most of the retail moratoriums were automatic. So we have around 80% of our retail customer under moratorium, but some of them have kept making payments. Some of these moratoriums matured during December, 15% of those that were under the moratorium. And we have a good experience there with around 90%, 91% of them making payments for the first batch of maturities. And for commercial, we're starting seeing some kind of similar behavior under the loans that were under the moratorium period.

Okay. I'm sorry, was that 91% on the consumer side?

On the retail side, yes.

Retail side, okay. Appreciate that color. And then the loan growth in the quarter was great to see. I'm curious if you're expecting that to kind of continue to play out as the rebuilding effort continues in Puerto Rico. Then, I was just hoping for some additional color around the U.S. piece, the $25 million. Any color on what that look like? And then maybe how big that strategy could get over the next year?

Great. So I'll let Ganesh give you a view on that.

To address the loan question and overall, we are showing -- we are seeing some weakness in the market in terms of consumer demand for consumer loans, obviously after the hurricanes. But auto loans category has been strong, and I think we've completed the year very, very strong. And we are again seeing some weakness in the residential, quite understandably so. But commercial picked up to really give us a good quarter. The U.S. loan program at this point in time, again, on which we have been working on for more than few quarters, finally came into fruition last quarter. And what we are doing at this point in time is to find ways to achieve geographical diversification without actually deploying a whole lot of capital in establishing a footprint and building the infrastructure ahead of the -- ahead of any productive result. So what we are -- how we are approaching is sort of trying to look at different sources for taking the credit exposure to the different markets thus bringing the diversification objective. So we are looking at commercial participation as a category -- first category to look at it. And we are working with 2 entities. One you might know already, you might have heard from other community banks as the community banking alliance, called BancAlliance, a member alliance of about 200 banks and they have a program that's where it works with different sponsors and we get to participate in that market. Second is our direct relationships that we are developing with various program sponsors and regional banks and national banks in the United States. Towards this end, in third quarter or earlier, we recruited a very experienced banker in United States based in North Carolina, and we formed a subsidiary base in North Carolina as well to go after and seek partnerships with and alliances with -- directly with the program sponsors and banks. So I think that's the second source we are taking a look at it. Obviously, there would be some pool purchases opportunistically as they come and we'll be looking at it. And the final culmination of the strategy would be some direct originations as we feel comfortable. So this can get really -- we don't have hard set targets primarily because we are being very prudent as we are in our credit philosophy, and we would approach this as the opportunities do come. And -- so we would like to grow over here. But at the same time, I'm not trying to hit any target, hard set targets. So I think primary concern at this point in time is to grow this thing in safe and sound manner, basically.

Okay. Appreciate the color on that. And then just, maybe lastly. You talked about in the commentary and in the press release, expecting the benefit of an influx of substantial funds from the government. Can you -- could you guys give us what you're expecting or maybe just your color around what Puerto Rico should be getting here in the next quarter in terms of aid from the federal government? And just how you see the insurance situation playing out as well?

Sure. So there are several estimates running around, so it's hard to kind of come to a figure. But let's assume that we get between $20 billion and $25 billion between federal government and insurance claims payments. So that's a significant amount of money. If it comes in 2 years, that makes it -- actually that's 2x the revenue that the central government generates on a yearly basis. So just to give you an idea of the magnitude. So I think that has to be put into the equation. And certainly, there is a lot of information flowing from here to the States and vice versa, and not much of it is necessarily positive. But when you get down to it, the economy will be impacted in 2 years -- throughout these 2 years by the flow of that -- of those funds coming in. So you can do a little bit of a sensitivity analysis, if you want to. But assuming $20 billion to $25 billion is a significant amount. And we think that the industries for reconstruction, for rebuilding, services, infrastructure are going to be benefited.

Your next question comes from the line of Glen Manna of Keefe, Bruyette & Woods.

So just to follow up a little bit on the moratoriums. By the end of January now, have all of your moratoriums rolled off?

Almost, I would say, but there is still a little bit of a trickle down into February.

Okay. And on the fee deferral side, have they rolled off as well, as of the end of January or not yet?

No, no. The deferral fees in January -- in January, yes.

So on deposits and everything, that will be done by the end of January?

Yes.

Yes.

And can I ask just on OFG USA, that was great color. Maybe if you just a little bit more -- could you tell us what the average rate on the loans that you're bringing on would be? And kind of what is the tenure of the loans? And are they floating rate? Are they tied to prime and LIBOR like typical C&I?

They are LIBOR plus 4% to 5% and they are, obviously, as I said, it's LIBOR plus. So -- and these term loans are typically 7 years, various purposes for a mid-market company, including -- either they are substituting an existing debt or funding acquisitions, mostly funding acquisitions and growth purposes. So these are the kinds of loans that we are looking at. So for each category -- each one of those categories, we internally basically develop our own credit box and that's what we are sticking to at this point in time.

Okay. Great. And on the expense side, it looks like there were some moving parts in terms of OREO expenses and things like that. Where should we look for that number to kind of shake out on a normalized run rate?

I'll let Maritza give you the color there.

Well, the total general expenses, including the OREO expenses, we are looking at $50 million average a quarter.

Your next question comes from the line of Joe Gladue of Merion Capital Group.

I wanted to, I guess, touch a little bit about the growth on the loan portfolio and the origination. It seems that you had a fairly strong performance in originations, given the environment. I'm just wondering if you could characterize what's driving that. Whether it's -- I mean, is it pricing? Are you just being more aggressive in outreach? You feel you're taking market share. Just any color you can give on how you achieve that?

Yes, sure. Well, I think we are very agile on getting back to do our thing, doing business. And I think that has shown in this quarter. I think, when you look at our retail origination, mostly auto and commercial, we had a very good quarter. And that has to do a lot with our team and the way they have reached out proactively and worked with our dealers to get them back into business and help our customers. So auto was a star performer in the quarter. On the commercial side, I think the small business. I think the benefit of visiting 100% of our commercial clients, small, medium and large, provided us a very good opportunity to do more business. And that shows in the production in the fourth quarter, particularly on small business. We also did very well on the commercial lending, larger type of clients here in Puerto Rico. So, again, I think getting closer to the customers. I also think our size helps us, being more nimble, being more agile. Our culture is not about trying to stay without change. We are constantly trying to force change internally and certainly externally and challenge everything in front of us. Sometimes the market gives you credit for it and sometimes it not. But with the circumstances that we've been operating on, after Irma and Maria, and the culture that we have of being agile and proactive, I think that was the key of the results of our quarter. We certainly think that 2018 will provide us great opportunities to continue doing what we're doing. Certainly, there's going to be bumps in the road going forward, since we've been operating in a very difficult environment for almost more than a decade now. But I am and we are more optimistic about the future, simply because of the work we've done in the last 2 years of getting everything ready for business.

And just to follow up a little bit on the auto side. I'm just wondering if there is a big component of the demand there that was just replacing cars that were damaged in the hurricanes and if that would be fairly temporary? And, I guess, just on the other side, do you have any idea how much of the loan demand you saw was starting to see -- part of the rebuilding effort? Or...

Hard to tell, Joe. Hard to tell. Certainly, anecdotally, maybe auto has a little bit of car replacement, but it's hard to tell. We don't have enough information for that. But we'll see the rest of the year. See how it plays out. We are excited about the work we're doing on the auto business and how it's playing out.

And, I guess I'd like to touch on the net interest margin a little bit. You did have some noticeable shifts in both earning asset mix and interest-bearing liability mix. I'm wondering how much of that might still be reflected in first quarter results and just what general expectations are for the NIM this year.

So on the asset side, the increases that we had on the asset side are -- we're going to be benefiting from that going forward. Remember, we no longer have the drag of a loan -- government loans that we need to get rid of. So we already did that. So that drag is no longer going to be there. And, again, the benefit of going out and doing some lending out there in the island, especially on the auto side and on the commercials, small commercial type of our clients, I think is going to help us on that side. On the liability side, certainly, we've grown our core deposits. It's every year, it is incrementally more retail focused versus commercial focused. And certainly, we do not depend on government deposits or large institutional deposits that are volatile. We try to stay away from that as much as possible. So I think the cost of funds into the future given what's happening in the interest rate, the market, I think there's going to be a little bit of pressure eventually during 2018. But we operate in a market that is led by a 60-plus market share player, so that hopefully rational behaviors continue to play and we don't have that pressure sooner and have it later.

(Operator Instructions) Your next question comes from the line of Alex Twerdahl of Sandler O'Neill.

At first, I just want to circle back, I think, an answer of a previous question, Maritza, I heard 91% of retail loans are making their payments. Could you clarify exactly what that number is, the 91%?

Yes, that represents the payment we received on loans that with the moratorium expired during December.

Okay. And that's just through a specific date? Or it's 91% of what you would have expected? Or would have been perfect? Or there's still time left in that first payment period for the other 9% to come in?

That's what we received for December. So they can be making payment afterwards.

So at the end of the day, these are the payments we received on the moratoriums that ended in December -- the month of December ends in December 31, 2017. So during that month, the moratoriums that ended, which as Maritza said, 91% of those clients who were in moratorium that matured in December made their payments.

Means, due date.

So if they make payments in January and February, well, they make their payments.

Okay. And then just another question on NPLs. I think you said that a big -- or one of the drivers of slightly higher NPLs during the quarter was due to loan that were still making payments, but had some impact to their cash flow. Can you quantify what percentage of NPLs are still technically current?

So let me, Alex, just clarify something. What we said was that in the quarter, we have several commercial clients, commercial loans that were in accrual that were making their payments and we place them in nonaccrual because their financial statements showed some deterioration. So we're being proactive here. Doesn't have to do with cash flows.

Okay. But do you have the percentage of NPLs that might fit into that category or rough ballpark?

Well, probably in the 10-K you could see the details. But for these new entries, around 90% of those loans were paying.

Okay. That's 90%.

Of those new entries during the quarter for commercial portfolio, okay?

Got it. And that was done as a result of the individual commercial loan review that you guys did following the storms?

Yes, correct.

Correct, correct.

Right. Okay. And then what would -- for the loans that are still on moratorium, what was -- is that just because they didn't take advantage of the 90-day moratorium until halfway through the fourth quarter? Or what would cause someone to still be on moratorium now?

Well, most of the moratorium was for 90 days. So most of the moratoriums are expiring this first quarter because September, October and November were the months under the 90 days' moratorium period.

So it could have started -- a moratorium could have technically started in November and then it would be 90 days from November and therefore still going on until February?

Yes.

Okay. And then do you have any guidance on what's the tax rates could look like in 2018, 2019?

Well, we are looking at a range between 29% to 31% for next year.

Great. I believe, that's all -- one last question on the USA, the OFG USA portfolio. Do you have the average loan size of what you put on during the quarter?

Yes. It's -- we're not exceeding $10 million per box, but we haven't reached there yet. So it will be like between $5 million to $10 million average.

Okay. So as you started slow, it's just 5 or less loans during the -- or 5 or 10 loans during the fourth quarter and then you'll see how those perform and go from there. Is that the right way to think about it?

Yes, we're still less. As I said, at this point in time, we are starting slowly and learning from there and going there.

Is it a market that you can pretty much to the extent of your appetite that there is supply there?

There is supply. As -- another thing I mentioned is we are having a tight -- a very tight credit box at this point in time. So out of the supply, we are trying to pick and choose. And that's one of the reasons why I said we don't have a hard target. We first want to sort of stick to that credit box for a couple of quarters and then explore other ways to do it.

Your next question comes from the line of Alexis Horn-Snyder of Polaris Capital Management.

Actually, this is Bernie Horn with the -- in the room. Just 2 clarifying questions. I must say I'm a little bit confused on the auto loan production. I mean, you called out in your earnings release that there is a fair amount of auto demand that seems to have been the result of cars not being -- either being damaged or lost or whatever in the hurricane. So that's what you said in the earnings release. But in response to the prior question, you said you weren't really able to have -- you don't have the data to really understand how much of the demand in auto loans is a result of people replacing cars. And I was just thinking that you must be able to see at some point, and I know some of the other banks had called out the large cash inflows coming in either from FEMA or insurance proceeds into the banks. So if you can see the insurance proceeds coming in and then they go back out to replace a damaged car, I would think that you would have the data on that. And then the second question I have relates to this 91% that you're talking about on the moratorium loans. Does that mean that 9% of the loans are actually delinquent, which would seem to me to be a very large number? And again, that's probably related to this idea that some of the loans are still under moratorium, but if not, I'm just trying to get a bit of more clarification on those 2 things.

Okay. Thank you for your questions. On the auto part, we certainly recognize that there is a replenishing of cars or buying cars from damaged cars from the hurricane. And that is what we are seeing anecdotally when we originated loans and the dealers. We are also seeing continuing demand from non-damaged automobiles and basically changing cars. And that's a little bit of a mix there. So I apologize for maybe sending a different signal, but it's really a prorate or a proportion of the origination coming from damaged cars being changed or purchased. So I hope I gave you some clarity there. But we certainly will be able to give you more specifics at the end of the quarter -- in first quarter when we see a little bit more of a trend. And again, I apologize for any confusion there. On the December ending moratorium retail clients, what we are seeing basically is what you just said, 90% or 91% of those clients whose moratorium ended in December 31 made their payments and 9% did not. So now into your question of does that mean they are delinquent, well, not yet, because if they pay in January, they do not become delinquent. So that's, again, part of what we will be updating everyone after the first quarter.

(Operator Instructions) Your next question comes from the line of Dafydd Lewis of LGM.

(inaudible)

Mr. Lewis, you are breaking up. We cannot understand you. There is no response from that line. (Operator Instructions) I will now turn the call to management for any additional or closing remarks.

Thank you for joining our call. We will be updating you throughout the quarter when we release the 10-K later in the first quarter. And we look forward to updating you further with the first quarter results sometime in April. Thank you for your time. Have a good day.

Thank you for participating in today's conference call. You may now disconnect your lines, and have a wonderful day.