Old Second Bancorp Inc (OSBC) 2015 Q4 法說會逐字稿

Greetings and welcome to the Old Second Bancorp fourth-quarter 2015 earnings conference call. (Operator Instructions). As a reminder, this conference is being recorded.

I would now like to turn the conference over to your host, Mr. Doug Cheatham. Thank you Mr. Cheatham, you may now begin.

Thank you. Good morning, everyone, and thank you for joining us.

I will start with a reminder that our comments today may contain forward-looking statements which are based on management's existing expectations in the current economic environment. These statements are not a guarantee of future performance and results may differ materially from those projected. I ask you to refer to our SEC filings for a full discussion of the Company's risk factors.

And now I will turn it over to our President and CEO Jim Eccher.

Good morning, everyone, and thank you for joining us this morning for our fourth-quarter earnings call. I'll start by giving you my overview of the quarter and then Doug will follow up with a more detailed report on the financial statements. I will keep my comments brief and then turn it over to Doug and then we'll open it up to questions.

Operating performance in the fourth quarter was very similar to that of the third quarter and really highlighted by continued improvement in asset quality, higher mortgage banking income and strong expense control as we reported fourth-quarter net income available to common stockholders of $3.8 million, or $0.13 per diluted share. For year-to-date 2015, net income available to common is $13.5 million, or $0.46 per diluted share.

Overall, it was a very clean quarter with no unusual or one-time events. Net interest income in the quarter was essentially unchanged from the third quarter and it was up 3.6% year-to-date. The margin, net interest margin, compressed in the quarter. Doug will give you a little more color on that. It went down from 3.22% to 3.17% as we continue to see pricing pressure on loan renewals. Our strong core deposit base should help stabilize our margin in future quarters.

Growing topline revenues continues to remain challenging as loan demand remains relatively limited in our core markets. Wealth management income was relatively flat in the quarter although it was a very good quarter for new account originations. Residential mortgage income continues to be a strong driver of fee income and had solid linked-quarter and year-over-year improvement. Originations remain consistent, and we did experience some lift in mortgage servicing income as a result of higher interest rates. Overall, we are relatively pleased with the performance of both lines of business in the quarter.

Net loans were essentially unchanged in the quarter as problem credit resolutions and slack line of credit utilization provided some headwinds from a year ago. Despite the growth challenges in the loan book, we are working hard to stay disciplined with loan concentration, structure, and pricing as we continue to try to build our pipelines.

We are pleased with the progress we made in diversifying the portfolio as the C&I book increased 5.6% for the year while commercial real estate and construction loans declined moderately. And while it was a challenging year from a growth perspective we continued to make good strides in strengthening our balance sheet as credit costs are well controlled.

Noninterest expenses were down 1% from the third quarter and down 14.2% year-over-year. We had meaningful reductions in OREO costs and lower salaries, and benefits really drove the improvement over the last 12 months.

Asset quality improved in the fourth quarter, mostly due to declines in nonaccrual loans and successful other real estate resolutions. We had several OREO properties sold in the quarter, which led to a 22% decline in the overall OREO portfolio.

Nonaccrual outflow exceeded inflow in the quarter as overall credit quality continues to strengthen. Net charge-offs in the quarter were relatively modest. We had gross charge-offs of $788,000, recoveries of $398,000, for net charge-offs of $390,000. Year-to-date charge-offs total just over $1 million.

So, overall, we are pleased that our efficiency initiatives are taking hold and we are encouraged by our continued efforts to improve credit quality. We recognize loan growth has been uneven over the past few quarters, but we are placing a lot of emphasis on that and focus to make this a high priority as we look forward to 2016.

Doug will now give you more insight on the fourth-quarter performance and then we'll open it up to questions.

Thanks Jim. The margin compression from 3.22% to 3.17% on a linked-quarter basis resulted from a slight reduction in asset yield while the cost of funds remained relatively flat. After years of very low interest rates, the decline in the cost of deposits had flattened and now, with the Fed move in December, we may see deposit costs begin to rise. However, we have not seen any real movement in competitor deposit rates at this point.

Because we are very liquid and we have over $700 million in securities, we can afford to be selective in setting deposit prices. Instead, we can fund loan growth at least in part with bond sales and maturities. We continue to estimate a slight positive impact on earnings from future interest rates, should they occur, but this does depend on the shape of the yield curve going forward.

On the noninterest income side, Jim mentioned wealth management and residential lending. There was nothing too unusual in the fourth quarter, but I want to mention a couple of one-time items affecting noninterest income for the full-year.

First, in the third quarter, we took a $1.1 million charge for the closure of one of our branches. Also, in the first quarter of 2015, we recorded a one-time fee of $917,000 related to an outside service provider. Although these two items nearly offset each other, I want to point them out for purposes of evaluating our full-year numbers.

We have continued to make good progress in keeping expenses down. Year-over-year, expenses were down $5.2 million, or 7.1%. Other real estate expenses combined, including carrying costs as well as valuation adjustments, were down from $6.9 million in 2014 to $5.2 million in 2015. Even excluding other real estate expenses, overhead was down $3.5 million, or 5.3%.

The largest decline was in salaries and employee benefits, and most of that improvement was in the second half of the year. In the third and fourth quarters of 2015, salaries and benefits were $8.3 million and $8.4 million respectively. This compares to $9.3 million and $9.1 million in the first and second quarters. I have to go back to the fourth quarter of 2012 to find a lower employee cost than our current run rate.

As previously reported, we redeemed the preferred stock issued under TARP in the third quarter of 2015. This obviously eliminated the cost for the fourth quarter. By way of comparison, the Preferred Stock dividend was about $1.1 million in the fourth quarter of 2014.

And finally, capital ratios were all at good levels. At the Bank, we had Tier 1 leverage of 9.94% and total capital of 15.23%. At the consolidated level, Tier 1 leverage was 8.69%, total capital was 15.56%, and common equity Tier 1 was 10.55%, and tangible common to tangible assets was 7.5%.

And with that, I will open it up to questions.

(Operator Instructions). Michael Perito, KBW.

I guess kind of a high-level question, Jim. So, the credit profile has made some big strides this year and non-performers are down, but it seems like also kind of the credit earnings tailwind, if you will, from the credits to the provision is also winding down. I understand it could probably be a bit choppy quarter to quarter, but do we return to a positive provision in 2016 versus the last few years of credits to the provision?

I think that really depends on what type of loan growth we see in 2016. We are a little more optimistic heading into the first quarter, but you know we are still -- we still feel like we have a pretty healthy reserve balance. But you know, I think we would be inclined to probably see provisionings before we see any type of meaningful releases.

And with that as the backdrop, when you guys are kind of thinking about 2016 and budgeting, where should -- where are you expecting to kind of really see the earnings growth come from? It doesn't seem like it's going to be as credit driven as in the past. Is there more to do on the expense side, or is it really just kind of dependent on growing the loan book on a consistent basis at this point?

I think the primary driver is going to have to be on driving more organic loan growth. With our markets slowly recovering, we are forecasting some modest growth next year. We feel like we've got some pretty good momentum in our wealth management group from fourth quarter new asset originations.

We still think we're going to see some tailwinds from the credit -- from the reductions in non-performers and OREO carrying costs and things of that nature. But the lion's share of the growth is going to have to come from new asset originations. We have added three pretty seasoned commercial loan officers in the last 30 days that we are optimistic about that have come to us from larger Chicago banks. So a combination of all of those things.

And I saw yesterday -- sorry, go ahead Doug.

Yes, Michael, on the expense side, there's not a lot more we can do, but I would point out the expenses were kind at a new run rate in the second half compared to the first half of 2015. So, we are starting off 2016 at I think a pretty good level from an expense standpoint.

Okay, thanks. So I guess just on the last question on the growth and then I'll let someone else jump in, but so I mean is it -- given the pipelines and the hires and what you are seeing from the slowly improving economy, is the hope to kind of put growth up that was more similar to 2014 than 2015 kind of next year?

I think that's fair, yes.

Okay. All right, thanks guys. I appreciate it.

(Operator Instructions). Andrew Liesch, Sandler O'Neill.

Just one follow-up question here on the expense run rate. Doug, you mentioned something about that on like just the compensation salaries and benefits, but maybe with these new hires that might inch up a little bit in the first quarter and then as they bring on loan growth, make -- they can pay for themselves that way. But just kind of curious like where you think a good run rate on the salaries and benefits line might be.

Well, I'm not going to put a number out there, but that's a fair point. We hired some -- we had some, several significant hires. But we have really kept a lid on the new hires and it's an evolving thing. You know, as new positions open up, we see if we can reengineer to avoid filling vacancies. So there are things pushing in the other direction as well.

I think the level we are at is you know of course good, long time performing employees will deserve a salary adjustment. And so there may be some normal course of business kind of increases, but, you know, I would think these kind of officers that we are hiring will pay for themselves before the year is out.

Yes, and the other thing, Andrew, I think there is a consistent amount of turnover at the -- in the officer commercial banking area on the lower end of the performers and then we are still seeing some savings with reductions in our special assets group as well. So, we are not expecting material changes in salaries and overhead.

Got you. That's very helpful. Thanks.

(Operator Instructions). Michael Perito, KBW.

Just a quick follow-up. We spoke about the loan growth. And I apologize if I missed this in the prepared remarks. But the deposit growth in last year was pretty strong. Any outlook there into 2016? It doesn't seem like rates are going to move a ton. So, are you guys thinking you are going to continue to grow deposits? And obviously will hope to put that into loans but if not into securities?

Yes, I think we don't want to pay up in balloon deposits. I think a modest level of growth I think is fine in deposits. We can always -- our capital ratios and our liquidity level are at the point where we can always but that to work in the bond portfolio profitably without paying up for deposits too much. But obviously, the real driver we hope will be some more growth on the loan side.

I think the other thing I'd add, Mike, we've been very consistent in the retail bank as far as opening up core checking accounts. We had another very strong year this year. We expect that to continue. Our mix change continues to move more towards core checking and money markets and savings and away from time. So we are expecting I think more of the same in 2016.

Okay. And actually just one more come on the credit. I think, in the past, you guys have said, at this point, everything left is pretty granular. But is there anything left in the NPLs or OREO of decent size that you guys are thinking you could resolve in the next call it six to 12 months?

Yes. You know, nonaccruals are down to $14 million, so very manageable. We have one sizable credit that may be a third of that, a little less than a third, that we are in contract negotiations now with. So there's an opportunity to move that one potentially at some point this year. And then, of course, OREOs are continuing to decline. So we are thinking we will continue to make granular improvement there, but there's not a lot of large OREO properties. And aside from the one large nonaccrual, it's a pretty granular portfolio at this point.

All right, thanks.

(Operator Instructions). There are no additional questions at this time. I would like to turn the floor back to management for further comments.

Okay, thank you, everyone, for joining us this morning, and we look forward to speaking to you again next quarter. Goodbye.

Thank you. This concludes today's conference call. You may disconnect your lines at this time. Thank you for your participation.