Prosperity Bancshares Inc (PB) 2017 Q2 法說會逐字稿

Good morning, and welcome to the Prosperity Bancshares Second Quarter 2017 Earnings Conference Call. (Operator Instructions) Please note, this event is being recorded. I would now like to turn the conference over to Charlotte Rasche. Please go ahead.

Thank you. Good morning, ladies and gentlemen, and welcome to Prosperity Bancshares Second Quarter 2017 Earnings Conference Call. This call is being broadcast live over the Internet at www.prosperitybankusa.com and will be available for replay at the same location for the next few weeks. I am Charlotte Rasche, Executive Vice President and General Counsel of Prosperity Bancshares. And here with me today is David Zalman, Chairman and Chief Executive Officer; H.E. Tim Timanus Jr., Vice Chairman; David Hollaway, Chief Financial Officer; Eddie Safady, President; Randy Hester, Chief Lending Officer; Mike Epps, EVP for Financial Operations and Administration; Merle Karnes, Chief Credit Officer; and Bob Benter, Executive Vice President.

David Zalman will lead off with a review of the highlights for the recent quarter. He will be followed by David Hollaway, who will review some of our recent financial statistics, and Tim Timanus, who will discuss our lending activities, including asset quality. Finally, we will open the call for questions. During the call, interested parties may participate live by following the instructions that will be provided by our call moderator, Anita.

Before we begin, let me make the usual disclaimers. Certain of the matters discussed in this presentation may constitute forward-looking statements for the purposes of the federal securities laws, and as such, may involve known and unknown risks, uncertainties and other factors, which may cause the actual results, performance or achievements of Prosperity Bancshares to be materially different from future results, performance or achievements expressed or implied by such forward-looking statements.

Additional information concerning factors that could cause actual results to be materially different than those in the forward-looking statements can be found in Prosperity Bancshares filings with the Securities and Exchange Commission, including forms 10-Q and 10-K, and other reports and statements we have filed with the SEC. All forward-looking statements are expressly qualified in their entirety by these cautionary statements.

Now let me turn the call over to David Zalman.

Thank you, Charlotte. I am David Zalman, and I would like to welcome and thank everyone listening to our second quarter 2017 conference call today.

For the quarter, we showed impressive annualized returns on average tangible common equity of 15.39%, and on second quarter average assets, 1.22%.

Our net income was $68,554,000 in the second quarter of 2017 compared to $68,071,000 for the same period in 2016.

Our diluted earnings per share were $0.99 for the second quarter of 2017 compared to $0.98 for the same period in 2016.

Our loans at June 30, 2017, were $9,864,000,000, an increase of $124.7 million or 5.1% annualized, compared with $9,739,000,000 at March 31, 2017. We are continuing to see the optimism in our customer base, although they are watching the efforts in Washington to change healthcare, taxes and overall regulation.

We are excited with the organic loan growth we have experienced over the last 3 quarters, starting with the fourth quarter of 2016. Our lenders are upbeat as our loan portfolios and pipelines of approved, but unfunded loans have increased.

On our asset quality, our nonperforming assets totaled $47.6 million or 24 basis points of quarterly average earning assets at June 30, 2017, compared with $52 million or 27 basis points of quarterly average interest earning assets June 30, 2016. Although there was a decrease year-over-year in nonperforming assets, we saw an increase of $6.4 million in the second quarter of 2017, primarily due to one oil and gas loan placed on nonaccrual during the quarter. We will go into discuss that further in our comments section of the presentation.

Our linked quarter deposits increased $34.9 million or 20 basis points from $17 million 36 -- $17,036,000,000 at March 31, 2017. Year-over-year deposits were down slightly, primarily due to a decrease in public fund deposits, as those entities were able to get higher rates from other places that were not available to them before the recent increases in interest rates. We discussed our municipal accounts last quarter, and can go into a little more detail later on in the comments section also. But the deposits, excluding the public funds, increased approximately 2% annualized for the first 6 months of 2017.

Our noninterest-bearing deposits increased $380.6 million or 7.6% to $5,397,000,000 at June 30, 2017. That was compared to $5,017,000,000 at June 30, 2016, so a $380 million increase or 7.6% in noninterest-bearing deposits. We believe that our strong core deposit base will continue to increase in value as rates continue to rise and banks need deposits to fund their loans.

With regard to acquisitions, as we've indicated in prior quarters, we continue to have active conversations with other bankers regarding potential acquisition opportunities. We remain ready to enter into a deal that is right for all parties and is appropriately accretive to our existing shareholders.

With regard to the economy, Texas and Oklahoma have continued to rebound from the downturn in the oil business. Texas employers added more than 40,000 jobs in June 2017, which brings Texas to an annualized job growth rate of 2.7%, up from 2.4% in May and in line with job growth nationally.

The Texas unemployment rate fell to 4.6% in June from 4.8% in May. The recent acceleration in job growth led the Federal Reserve Bank of Dallas to boost its forecast for employment growth in Texas to 2.8%.

With a better economy, loan growth and a strong pipeline of approved, but unfunded loans, we look forward to a solid second half of 2017. I would like to thank our whole team once again for a job well done. Thanks again for your support of our company.

Let me turn over our discussion to David Hollaway, our Chief Financial Officer, to discuss some specific financial results we achieved. David?

Thank you, David.

Net interest income before provision for credit losses for the 3-months ended June 30, 2017, was $152.2 million compared with $158.5 million for the same period in 2016. The change was primarily due to a $4.8 million decrease in loan discount accretion. The net interest margin on a tax equivalent basis was 3.14% for the quarter ended June 30, 2017, compared to 3.37% for the same period in 2016 and 3.20% for the quarter ended March 31, 2017. Excluding purchase accounting adjustments, the net interest margin on a tax equivalent basis for the quarter ended June 30, 2017, was 3.06% compared to 3.11% for the quarter ended March 31, 2017.

Noninterest income was $27.8 million for the 3 months ended June 30, 2017, compared to $28.5 million for the same period in 2016, a decrease of $700,000 or 2.4%. Noninterest income was impacted this quarter by a $3.8 million loss on sale of assets, offset by $3.2 million in security gains.

Noninterest expense for the 3 months ended June 30, 2017, was $76.4 million compared with $79.2 million for the same period in 2016, a decrease of $2.8 million or 3.5%.

The efficiency ratio was 42.4% for the 3 months ended June 30, 2017, compared to 42.5% for the same period last year and 43% for the 3 months ended March 31, 2017.

The bond portfolio metrics at 6/30 showed a weighted average life of 4.2 years, effective duration of 3.8 years and projected annual cash flows of approximately $1.5 billion. The net premium amortization was $9.4 million for the second quarter of 2017 compared to $9.9 million for the first quarter of 2017.

And with that, let me turn over the presentation to Tim Timanus for some detail on loans and asset quality. Tim?

Thank you, Dave. I'm going to highlight some of the information that David Zalman has previously given, and I'll also provide some additional information.

Our nonperforming assets at quarter-end June 30, 2017, totaled $47,618,000, which is 48 basis points of loans and other real estate compared to $41,199,000 or 42 basis points at the end of the first quarter of this year. This represents a 15.6% increase from March 31, 2017. The June 30, 2017, nonperforming asset total was made up of $32,130,000 in loans, $16,000 in repossessed assets and $15,472,000 in other real estate. Of the $47,618,000 in nonperforming assets, $24,509,000 or 51.5% are energy credits. This is broken down between $18,052,000 in production credits and $6,457,000 in service company credits.

Since June 30, 2017, $1,647,000 of the nonperforming assets total have been removed or have gone on under contract for sale, but there can be no assurance that those under contract will close.

Net charge offs for the 3 months ended June 30, 2017, were $3,062,000 compared to net charge offs of $3,906,000 for the 3 months ended March 31, 2017. $2,750,000 was added to the allowance for credit losses during the quarter ended June 30, 2017.

The average monthly new loan production for the quarter ended June 30, 2017, was $309 million compared to $279 million for the quarter ended June 31 -- excuse me, March 31, 2017. This is a 10.8% increase on a linked quarter basis.

Loans outstanding at June 30, 2017, were $9,864,000,000 compared to $9,739,000,000 at March 31, 2017, representing a 5.1% annualized growth.

The June 30, 2017, loan total is made up of 41% fixed rate loans, 35% floating rate and 24% variable rate loans. This is unchanged from March 31, 2017.

I'll now turn it over to Charlotte Rasche.

Thank you, Tim. At this time, we are prepared to answer your questions. Anita, can you assist us with questions?

(Operator Instructions) First question comes from Dave Rochester with Deutsche Bank.

So you ended up beating your expense guidance yet again this quarter. Was just wondering what you're thinking about that line going forward, if you see any other opportunities for cost saves that could continue to bring that down. Anything there?

Well, I don't know if we can bring it down more. But we gave that range the last quarter somewhere in the 78 to 80 range, so I mean what I could probably tell you is maybe we can run at that lower range if we need to. But getting below the 76 we posted, that's going to be difficult.

Okay. And I notice the loan yield ex-accretion only moved up a few basis points this quarter, even though there's a little over 1/3 of the book that floats. So just wondering, why that yield didn't move up more? If you can just talk about any volatility in loan fees or anything else that might have been a headwind there this quarter, that will be great.

Yes. One issue is the loan volume that I mentioned of $309 million, that, of course, is not all funded up. Those are loans that are booked. Some are construction loans that have yet to fund. Some are lines that have yet to fund. So the increase in outstanding resulting from that increased production really hasn't taken hold yet. There is still a lot of pressure from competition on rates. So we struggle almost daily with every loan we make in terms of the yield that we can get. So there really wasn't a lot of increase in yield because of the competitive environment that we're in. So I don't know whether that totally answers your question or not, but those are some issues that we deal with.

Yes. No, that's helpful. I appreciate that. And then deposit costs were up a bit this quarter. Can you just talk about deposit pricing competition? How you've changed pricing to counter that this past quarter? And then how you guys are thinking about the NIM trend from here given that pressure and the fact that loan yields may not be moving up as much with rate hikes?

Yes. This is Dave Hollaway. I'll take that one first. I mean we've had a couple of Fed increase over the last 3 to 4 months, and so we haven't moved our cost -- our deposit costs up that much. I mean if you look at the detail on the net interest margin page, we moved them up a little bit, but not significantly so. The pressure from a kind of a competitive standpoint, there has always been compressed -- competition in terms of aggressive rates, that still exists today. We're not quite seeing that yet. I think if Feds raised rates, say 50 basis points, you can see on our sheet maybe, we moved our rates 5 to 10 basis points on the deposit side. Out of that cost increase, the deposits themselves, that increase linked quarters was about 4 basis points. So going forward, we think we can manage that. And I think that the loan yields will pick up as we continue to increase loans. I mean, Tim, did you want to add anything to that?

I think it will. That's right, but it's just it will take a little time to get those loans funded up.

Yes. I think, this is David Zalman. Coming on top of what David Hollaway said, I mean, basically, the Fed's raised -- out of last 3 raises that the Fed raised, I think it really -- we really increased our rates on deposits, probably 20 basis points on the CD side. And like Dave said, probably 5 basis points or 10 basis points maybe on the checking or money market side. So we really haven't been under a lot of pressure so far.

And I'll just add, leading on to the margin kind of question, one thing I'll point out, so in a rising rate environment, what you can see in our numbers, we had some borrowings on average of about $1.5 billion this last quarter, but you see us as we get to the end of the quarter, it's down to $1 billion, that will actually help us out. That was being replaced by lower cost deposits. Hopefully, going forward, that will also continue to change and help us. And then getting to the margin question. Again, we've said repeatedly on these last few conference calls, we're kind of in a -- we call it a neutrally balanced position from a margin perspective, and that, over time, that margin will expand, but in the short term, not much. And I realize this past quarter, it dropped a little bit. But that's just a phenomenon of our balance sheet. Again, we will be able to take advantage of the rising interest rates. But as David said, you've got a large part of our portfolio filling out, $1.5 billion roughly in cash flow the loan portfolio throws out, maybe close to $3 billion. It just takes a while for all that cash to come in, and we can start investing in higher rates. And I'll also make one other point on the bond portfolio. Again, with a flatter yield curve, it didn't help us in terms of investing in the bond portfolio. Luckily, I don't know if this was luck or whatever you want to say, we did buy ahead back when rates were a little higher, so we haven't had to buy as much this quarter. And in fact, our deposits have come back, and if we continue to get the loan growth, that may not be such a bad thing looking forward.

Yes. I think what -- again, we can probably let this go, we discussed it a lot, I think our deposit cost probably hasn't gone up that much, what probably more pressure on the net interest margin was the borrowings that we had from the federal home loan bank, which at one time, we were paying maybe 25 basis points and it's up to probably 125 now. So you saw more pressure right there. But as David said too, our bank, and I believe if you know our bank and everybody probably on the call has heard this probably the last 5 or 10 years, our bank has a bigger bond portfolio, and we have a lot of money that rolls off, so where other banks net interest margin may go up a lot faster, ours will go up, and we show a lot of -- a big increase in earnings in 18 to 24 months. It just takes a longer time for us. But overall, it is a positive thing and you probably will see that in ours, too, it just takes a little bit longer time.

Okay, great. I guess just one last one. Securities reinvestment rates today, any sense for where those are right now?

I haven't looked this morning. The 10-year has been up the last couple of days, so we do see the 10-year going up. So usually, the type of investments that we buy is tied more toward the 10-year. I think that's one of the issues that we've seen with this net interest margin over the last 1 quarter to 2 quarters as interest rates have gone up, the 10-year has actually gone backwards. So seeing what we're seeing right now with the 10-year going up and with the Fed taking the position that they're going to be getting out of their mortgage-backed security position, that should be a -- that should cause interest rates to go up, and again, in a parallel shift when interest rates go up and that should be positive for us in the longer term.

The next question comes from Brady Gailey with KBW.

So maybe to close the loop on the margin question. I know for you guys, it's not just about seeing short-term rates rise, but you really need a steeper curve. So I think last quarter, you all talked about a core margin kind of stable, maybe trending up a little bit. Is that still the right way to think about the core margin given the flatter curve today versus last quarter? Or do you think that there still could be some pressure on the core margin for the rest of this year?

I think -- this is Dave Hollaway. I think it's -- our story, it should revert back. I mean this quarter is a little of an anomaly. But you're right, the flatter yield curve, obviously, if we had to reinvest in securities, we're not getting the same yield that we were getting 2 months ago whenever it was. But on the other hand, if we continue to see that loan growth, that would help the margin because we're reinvesting -- we're putting our reinvestments out at higher yields, so just use an average, if you can get 4.75% versus 2.25% in the bond portfolio, that's going to be a benefit to the margin going forward. So I don't think the story has changed really. I think we should have a stable margin as we go forward and begin to see improvement based on all things I just highlighted.

Yes. I concur with David. I don't think that our model has changed at all. In fact, if you look at our model, as we look at all the time, up 200 basis points over a 24-month timeframe and out show significant increases in both our income and margin. So again, it's the same story. It just takes us a little bit longer.

Okay. And then you all mentioned that oil and gas loan, I think was responsible for pushing the NPAs up a little bit. Just any color on that? And then we've seen some volatility with the price of oil, so just generally, how you're thinking about both your kind of direct and indirect energy book?

Yes. This is Tim Timanus. You're right, we had one energy credit that we put in the nonperforming asset category. It's on our books right now at about $8 million. We wrote it down from approximately $10 million. The loan is actually performing. They're current on interest. And they're making the required principle reductions. The problem is the value of their assets has really dropped significantly for the obvious reason that the price of oil and gas has gone down. And they've been trying to sell some or all of their assets, and the bids they've been getting have not been to their liking or ours. So that's why we went on and wrote it down by $2 million. So we're giving them time to continue to try to market those assets. As I say, they're not in default from a payment standpoint. So -- and they are getting some bids and offers. So we're giving them a little leeway to work through that, and we hopefully will see that they'll sell some assets and that loan will be paid off before the end of the year. I hope that helps you, Brady.

We -- this customer is paying principal and interest, and as Tim mentioned earlier, and this customer is marketing the company, and we expect this company to be sold, and we expect it to go away by the end of the year perhaps.

That's helpful. And then finally for me, just an update on M&A. I mean, David, do you feel like you're closer to announcing an M&A deal today than you were 90 days ago?

I don't know that I can answer a question like that. I think what I would say is that we're in continued talks with banks all the time. I think when you look at it, as we mentioned last time, I think a lot of the banks that are publicly traded that are smaller than us are trading at pretty high multiples, some 22x, 23x, 24x P/E, where we're trading more at a 16x or 17x. So maybe for a publicly traded bank or a smaller bank, it could become harder. We're still talking to banks that are publicly traded, banks that are thinking about going public and banks that are not publicly traded. So eventually there will be a deal, but there is nothing to announce today.

The next question comes from Ebrahim Poonawala with Bank of America Merrill Lynch.

Just a quick question. One on loan growth. I'm sorry if I missed it. Do you think the 5% loan growth you reported for the quarter, does that feel sustainable as you look into the back half of the year? Or do you expect either to look that moving upward or downwards going forward?

I think that in the past, we've always answered that. The first question is we do think that it is sustainable. But again, we would even like to even try to hit more than that. I think that again, a lot of this is dependent on what happens to businessmen and how they view politics. I mean, right now, you have the healthcare issue going on. You have the tax issue going on and deregulation. But I think if those things continue to come through, then, you'll see our growth, that 5% to 6% will be good and it may even be better. Having said that, if we don't get some of the other issues through, then that could stop things a little bit.

Understood. And just following up on the deposits. I know, Dave, you mentioned that you're not seeing a lot of pressure in terms of deposit pricing. I wanted to understand the increase that we saw in the savings and money markets, the night -- it went from 26 basis points to 35, what drove that increase? And should we expect that magnitude of increase in the money market deposit rates going forward as we bake in the June rate hike?

Yes. I mean, yes, that's kind of what I was trying to get to earlier is to say, with the recent 50 to 75 increases by the Fed, we certainly are going to have to come back at some point. We can't just ignore the market and not raise rates at all. So the last, I want to say, 4 weeks or so, we've moved our rates a little bit in reaction to those last 3 Fed increases. So yes, the question is, as we look forward, no I don't believe we'd be raising our rates on money markets another 10 basis points absent something else happening. I mean, I think right now, I think we're in a good place in terms of our competitors and where we want to be, and so I don't know we'd see that same move looking forward.

I think -- this is David Zalman. Over the last 3 interest rate increases, which is 75 basis points, going up 10 basis points is relatively insignificant compared to the amount of interest rates that have gone up. But having said that, as interest rates continue to rise, it will become more competitive. I guess I would put it like this, if there's a 25 basis points rise, I don't think you'll see us raise interest rates 25 basis points on the money market accounts. But there would be some proportion of it. I don't know if that's 5 basis points or 10 basis points or something like that. Generally, your CD market will go up faster than our other transaction accounts.

(Operator Instructions) The next question comes from Peter Winter with Wedbush Securities.

If I could just follow up on the core margin, just the short-term outlook. Is the expectation that it stays stable from the 3.06% level and then increase going into '18?

Yes, absolutely. And we do want to talk on core level, I'll make that clear, so the other parts get that fair market accretion from the loans. But yes, on the core margin, we should be stable where we're at, but based on what we'd see on our balance sheet, we should start seeing some improvement absent something else going on. I mean I think this quarter, to change the amount that it did, that's just an anomaly. A change that much usually wouldn't happen. Our balance sheet the way it's set up, it is a stable margin. When we have that loan growth that we're having, that's going to take effect here soon because we put our loans on during this past quarter, we can't get that full impact. You're going to start seeing that as it sticks to the balance sheet. And I think on the cost side, the deposits, if we're driving down our borrowings and replacing it with lower-cost deposits, I think those are all positives. And I don't want to be super optimistic here because, as somebody else mentioned, if we have to put money back into the bond portfolio, with the flatter yield curve, that's creating a headwind. But I think the other 2 things happening for a positive will outweigh that. So coming back to the short answer is, yes, I think we'll have a stable margin and it could go up a few basis points as we move forward over the shorter term.

Okay. And just one more question. On fee income, I know there's so many moving parts. It had been fairly steady over the last couple of quarters. There was a drop this quarter. And I'm just wondering, would you expect a rebound in the third quarter on fee income? It was just a little bit lower than what we've seen in the past.

I think so we do expect to see a rebound, and let’s remember, we had all those extraordinary items in there, the drops in sale of assets, security gains. But if you pull all that out, it should just naturally snap back a little bit, but I would think it would come back a little bit more on that. So yes, I don't think it will run at this low level we saw this past quarter.

The next question comes from Scott Valentin with Compass Point.

On the loan growth, obviously, it was pretty good. And you guys talked about some dependency upon what happens in Washington. But where is the loan growth occurring? Can you point to, is it C&I, is it CRE and then maybe geographically on the CRE and maybe in the C&I? Any industries that you're seeing good demand for -- or good loan demand?

It is both of those. It is C&I, and it's construction and it's commercial real estate. It's all 3 of those. Most of the growth comes from Houston, Dallas and Austin. And close behind that is Bryan, College Station. South Texas and West Texas and East Texas and Oklahoma are a little farther behind in that regard. So the stronger markets are the same ones that you've been seeing. And it's diversified among different types of companies and projects. Obviously, there is not much going on on the oil and gas side in terms of new business. There is a little, but not much. So I wouldn't say there is any unusual concentration. And there is nothing unusual about the direction that it's coming from. And we anticipate, based on what we see right now, that it's likely to continue that way.

Yes. I would just add and just add on to what Tim is saying is that most of our growth is really happening in the Houston area, the Dallas area, the Austin area. And we're not seeing really the growth in the West Texas and South Texas, where we're seeing Houston, Dallas growing sometimes 8%, 9%, 10%. If we can get the other regions to kick in, that's why we're a little bit optimistic that we can really maybe even do better on loan growth. It's just, again, really the ones pulling the wagon right now are Houston, Dallas and Austin for the most part.

This concludes our question-and-answer session. I would like to turn the conference back over to Charlotte Rasche for any closing remarks. Please go ahead.

Thank you, Anita. Thank you, ladies and gentlemen, for taking the time to participate in our call today. We appreciate the support that we get for our company, and we will continue to work on building shareholder value. Thank you.

This conference is now concluded. Thank you for attending today's presentation. You may now disconnect.