Peoples Bancorp Inc (PEBO) 2007 Q3 法說會逐字稿

Good morning and welcome to Peoples Bancorp conference call. My name is Anthony and I will be your conference facilitator today. Today's call will cover Peoples Bancorp's discussion of results of operations for the quarter ended September 30, 2007. Please be advised all lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question-and-answer period. (Operator Instructions). This call is being recorded. If you object to this recording, please disconnect at this time.

Please be advised that the commentary in this call may contain projections or other forward-looking statements regarding future events of Peoples' future financial performance. These statements are based on management's current expectations. The statements in this call which are not historical fact are forward-looking statements and involve a number of risks and uncertainties, including but not limited to the interest-rate environment; the effect of federal and/or state banking, insurance and tax regulations; the effect of technological changes; the effect of economic conditions; the impact of competitive products and pricing; and other risks detailed in Peoples' Securities and Exchange Commission filings. Although management believes that these expectations in these forward-looking statements are based on reasonable assumptions, within the bounds of management's knowledge of Peoples' business and operations, it is possible that actual results may differ materially from these projections. Peoples disclaims any responsibility to update these forward-looking statements.

Peoples' third-quarter 2007 earnings statement was released this morning and is available at peoplesbancorp.com. This call will include 15 minutes of prepared commentary, followed by a question-and-answer period, which I will facilitate. An archived webcast of this call will be available on peoplesbancorp.com.

Peoples Bancorp's participants in today's call will be Mark Bradley, President and Chief Executive Officer; and Carol Schneeberger, Chief Financial Officer and Treasurer; and both will be available for questions following opening statements. Mr. Bradley, you may begin this conference.

Thank you. Good morning and welcome; we appreciate your interest in Peoples Bancorp. Today Peoples Bancorp reported third-quarter 2007 earnings of $0.49 per share on $5.1 million in net income, compared with $5.3 million or $0.50 per share in last year's third quarter.

Normal ongoing results of operations were strong, highlighted by good non-interest income growth and lower operating expense. However, third quarter 2007 earnings were reduced by $675,000 due to an other-than-temporary impairment charge on a collateralized debt obligation. Offsetting this non-cash impairment charge, were gains of about $100,000 on sales of investments and other assets, resulting in a net pre-tax loss of $570,000 for the quarter or about $0.035 in earnings per share, after taxes. We will discuss the impairment charge in more detail later in this call.

As I said earlier, the third quarter was marked by strong non-interest income results and good operating expense control. Both of these positives were offset by lower net interest margin, compared to the second quarter of '07 and the full impact of second-quarter loan payoffs and flat loan growth in the third quarter which challenged net interest income growth. Loan loss provision increased slightly from the quarter, but asset quality remained at good levels.

Generally speaking, operating results were good; however, net income was lower than the linked and prior-year quarters due mainly to the impairment charge.

As we discussed in our last conference call, late in the second quarter we experienced just over $30 million of commercial loan payoffs with interest rates in the 7 to 9% range. Therefore, the impact of these payoffs was realized fully in third quarter average-balance figures. We reinvested in investment securities yielding closer to 6%. We also had additional payoffs in the third quarter that challenged period end growth, despite good loan production. We also see some payoffs looming in the fourth quarter, so our expectation is for loan growth to be flat again in the fourth quarter.

At September 30, earning assets were up $34 million over the linked quarter due to purchases in our investment portfolio. Some of these purchases were made to pre-fund near-term investment cash flows, and others were made in tax-exempt securities to optimize Peoples' overall tax position. As a result of these investment security purchases, average earning assets were up $6.6 million over the linked quarter.

Third quarter tax equivalent earning asset yields were down 2 basis points from the linked quarter to 6.84%, with increases in investment security yield slightly offsetting declines in loan yields.

On the funding side, quarterly average deposit balances were down $10.5 million over the linked quarter, with most of the declines in brokered CDs and public-fund CDs. Our third-quarter average deposit balances were also affected by the loss due to rate competition of a single $5 million CD-only customer relationship late in the second quarter. We increased average borrowed funds balances by $18.6 million over the linked quarter; however, the decline in short-term interest rates prompted our weighted-average cost of borrowings to decline by 4 basis points to 4.92%.

Overall, our cost of interest-bearing liabilities was 4.03% for the third quarter, up 2 basis points from the linked quarter due to the change in funding mix from deposits to borrowings, along with slight increases in our cost of interest-bearing deposits.

At September 30, 2007, total retail deposits which exclude brokered CDs, were up $21.6 million for the year on the strength of increases in money-market and public-funds checking balances. Our retail deposit growth; along with increases in lower-cost sources of funding, have allowed us to reduce higher cost brokered CD balances by $71 million in 2007.

Net interest income for the third quarter was $13.2 million, as compared with $13.3 million in the linked quarter, with net interest margin dropping 5 basis points in the same period. Overall, we remain liability sensitive, but in the immediate short term, we do not realize an increase in net interest income as our immediately re-pricing assets and liabilities are basically equal.

In the one-year time horizon, we are liability sensitive and therefore additional rate cuts should enhance net interest income growth. The situation right now shows that we have some CDs we're pricing upward by a few basis points, although we see some opportunity in the fourth quarter to modestly reduce deposit rates.

With the recent decrease in Treasury rates, new loans are being booked at lower-than-expected rates, so we are booking loans at a spread lower than third quarter margin of 3.26%.

Wrap it all together and we project net interest margin to basically remain flat compared to the third quarter margin and therefore stay in the mid 3.20's; although competitive pressures on loan and deposit pricing could cause net interest margin to drop a basis point or two in the fourth quarter.

Switching gears to loan quality, our third quarter provision for loan losses was $967,000 as compared with $847,000 last quarter and $929,000 in last year's third quarter. Net charge-offs were up from the linked quarter due mainly to an increase in gross charge-offs of real estate loans and checking overdrafts.

At quarter end, total non-performing loans totaled $6.2 million or 0.56% of total loans, down from $7.6 million or 0.67% at the end of the second quarter. Our September 30 allowance for loan losses were 237% of non-performing loan balances.

And now I will turn the call over to Carol Schneeberger, our CFO, for her comments on non-interest income and expense for the third quarter.

Thank you. In regards to the other-than-temporary impairment charge Mark mentioned earlier, the investment is an income note; i.e. a single collateralized debt obligation or CDO in our investment portfolio. Our total exposure to CDO investments is $9 million.

The specific CDO that is impaired is comprised of bank-issued trust preferred securities, as well as other debt obligations issued by financial services companies. The investment impairment charge was the result of a recent decline in credit worthiness of a single underlying issuer, which is a private company. The situation has also been magnified by the redemption of a sizeable portion of the original pool.

Upon learning of a particular event at the specific bank, we conducted extensive research and performed a detailed analysis of the security, including both qualitative and quantitative components of the underlying issuing institutions within the pool. The underlying bank in question failed a certain capital adequacy test, so the institution was further analyzed to estimate its impact on fair value.

We have been advised that the private institution should receive the additional capital needed to meet regulatory requirements via business segment sale, closing in the fourth quarter. We believe there is a better than 50% chance the institution in question will not default within the income note. Therefore, we do not anticipate further impairment at this time on this security, and we'll continue to monitor all of our investments and CDO instruments.

Now, looking at normal operations, a highlight for the third quarter and year to date is non-interest revenue production. Non-interest income totaled $7.7 million for the quarter, up $400,000 or 5% from the third quarter of 2006 due to growth in insurance revenues, trust and brokerage fees, bankcard fees, and mortgage banking revenues.

On a year-to-date basis, Peoples' insurance commissions are up 1.5% from 2006, despite a soft insurance market that has made it more difficult to grow these revenues.

Peoples' Financial Advisors, our wealth management and brokerage unit, has grown total assets under management 13% this year, to $933 million, and is off to another strong start in fourth quarter. This growth has been caused by steady production, the addition of seasoned sales personnel over the past year, and increased cross sales from the retail banking operation. As a result, revenues from fiduciary and brokerage activities are up 23% over the third quarter of last year and 17% on a year-to-date basis.

We are pleased with our growth in non-interest revenue, which is a key part of our long-term strategy to become less dependent on the interest-rate environment.

While we have grown our fee-related income, we have also limited growth in operating expenses. Third quarter 2007 non-interest expense was $12.6 million, down slightly from both the linked and prior-year quarters. The main drivers of the declines from the third quarter of 2006 were decreases in net occupancy cost, professional fees, marketing expenses associated with our deposit acquisition program, and amortization of intangible assets.

Our third quarter salaries and benefits costs were up 2.5% over last year, due mainly to normal annual salary increases and the addition of personnel in key areas, while our bankcard costs grew less than the growth in debit card revenues. We do not expect fourth quarter expenses to continue to trend lower, considering the opening of our new Huntington, West Virginia office which comes on board in November and begins its depreciation schedule.

Overall, third quarter operating results were good. As a result of our efforts to grow non-interest income and control our expenses, Peoples' efficiency ratio improved to 57.03% in the third quarter, from 58.68% in the second quarter of 2007 and 59.04% in the third quarter of last year.

I will now turn the call back over to Mark for his final comments.

Thank you, Carol. As Carol mentioned, we look forward to the November grand opening of our new financial services location in Huntington, West Virginia. The office will house a full-service banking office and drive-thru and also make available investment in insurance products for our clients. Huntington is growing economically, and this new office is an example of our efforts to allocate resources to more vibrant markets.

On the personnel front, in the third quarter we welcomed the new Executive Vice President of Sales and Service to our Company. On September 4th, Deborah Hill joined our leadership team. Deb comes to us from U.S. Bank and offers a wide variety of banking and management experience. She's already working on new strategies to enhance our small business and consumer offerings, and I look for good progress to be made over the new few months to implement our growth strategies.

In addition, we are still on the search for a permanent CFO. Carol Schneeberger continues to capably serve in the role while we find the right candidate. Carol has done a great job leading our finance and accounting team, and has allowed us the luxury of being selective in choosing her replacement.

In the third quarter, we continue to be active in our stock buybacks, purchasing 139,000 shares authorized under the '07 share repurchase program at a weighted-average cost of $24.05 per share. Through September 30, 2007, Peoples had purchased 379,000 of the 425,000 shares authorized under the program. We are currently actively managing our capital position to provide maximum long-term value to our shareholders and expect to have additional repurchases in the fourth quarter.

Looking back at the third quarter, we were pleased with our third quarter operating results, despite the investment impairment charge. Non-interest revenues increased and operating expenses were down over the prior-year quarter, which improved our efficiency ratio.

Although loan growth was challenged by payoffs and loan activity remains brisk, as we expected net interest margin decreased compared with the linked quarter due mostly to a change in mix of earning assets; although we expect margin in the fourth quarter to be comparable to third-quarter levels.

Asset quality remains good, as non-performing assets decreased from the linked and prior-year quarters. We are still looking for 2007 earnings to be in the $2.03 to $2.05 range. We are working on projections for 2008, but have not finalized our numbers yet. I do know that we will continue to manage Peoples Bancorp for the long term, while making the best of the challenging interest-rate environment.

This concludes our commentary. We will open the call for questions. Once again, this is Mark Bradley and joining me for the Q&A session will be Carol Schneeberger, Chief Financial Officer. I will now turn the call back into the hands of our call facilitator. Thank you.

Thank you. (Operator Instructions.) Our first question comes from the line of Daniel Arnold from Sandler O'Neill. Please state your question.

Hey guys, good morning.

Hi, Daniel.

Good morning.

First question; just on the loan portfolio, it looks like construction loans were down a little bit this quarter. I was wondering if you guys were intentionally running that off or if there was something else going on.

No, I think Dan that would be a switch from construction to commercial mortgage. That would be my guess on that one. We're not running off any construction loans; in fact, we've approved a few more construction loans on the commercial side here in the last few months.

I also believe we had one significant payoff that was financed elsewhere.

That is correct. We did have a loan in the construction area or line item that was taken out by the capital markets.

Okay. Do you guys expect the loan payoffs to continue or when do you expect the loan portfolio to start ramping back up again, I guess?

That is a very good question. We think we're "over the hump" on the payoffs that we had identified at the start of the year. There are still a couple out there that we expect, as I alluded to earlier, in the $7 to $10 million range. We don't know yet if the capital markets have cooled their heals just yet, but we think we're over the hump on the major loan payoffs.

Okay. So maybe we'll start seeing growth--?

I would expect to see more traditional growth in the first and second quarters of next year, and that's barring any new information where we hear more loan payoffs; whether it's a sale of a business or something like that.

Okay. And then on the fee income side; it looks like there was-- linked quarter I'm looking here on kind of some of the line items- insurance and trusts specifically from linked quarter declining. Is that seasonal or what is going on there?

On the insurance, during the first quarter, we have our contingency income. And that is very seasonal.

Right, so third quarter sees kind of a slowdown in those?

Yes, I think most of those revenues are somewhat seasonal, depending on when we bill the client. The best comparison in my opinion is not linked quarter, but current quarter versus prior-year quarter. That's what we look at in those parts of our business because they do cycle up and down from quarter to quarter.

Right. On the trusts in particular, I was a little surprised considering that the growth in the assets under management which looked actually pretty strong in the quarter.

Yes. But look at third quarter last year and it's way up, so that is a part of our business that's growing very strongly. We're doing a very good job in that part of our business.

So you'd expect that to be up quite a bit then going into the fourth quarter?

I'd expect it on a year-to-date basis to continue its strong growth rate.

Okay, perfect. Alright, well thanks a lot, guys; I appreciate it.

Alright; thanks, Daniel.

Thank you.

Our next question comes from the line of Jason Werner from Howe Barnes. Please state your question.

Good morning.

Hi, Jason.

Good morning.

I had a question on the impairment. You said your total exposure to CDOs was $9 million. I was curious how big this one was that you charged down.

It was $1 million.

Okay. So you guys charged off quite a bit of that then.

Yes we did.

Yes we did.

I guess I'm just a little bit surprised that one issuer can result in such a big charge-off. I would have thought that these are kind of pooled types of issues and that part of the benefit of that is you have some diversification.

It's a good question, Jason. The pool shrank a little bit on us and I think Carol has some good information on that.

Right. The pool had a five-year call feature for some of the trust preferreds that were in it. And several of those companies took advantage of that because they were able to refi at a lower interest rate. So that changed the concentration of that particular underlying issue substantially in relation to the total pool.

So the pool became smaller, which means any time one of the units inside that pool takes a downturn, it has a magnifying effect on it.

When issuers in the pool call their securities, what happens to your investment? Do you get capital back or does your investment stay the same until it matures?

We're in the equity tranche, so we're first loss and principal last.

We're last to get our money back in that particular investment.

Okay, so you don't see any return when issuers start calling.

That is correct.

So this was a $1 million investment from the beginning and it still is a $1 million investment until this impairment. It's not like you were-- I'm sorry?

You are correct.

Okay. So basically what happens is then by the time this one issuer has problems, it becomes a big piece of the pool then.

That's correct. That's exactly what happened.

Okay. And how many of these investments do you have of that $9 million? Is that nine separate investments?

No. We have a total of four.

A total of $4 million I believe--

No, four different investments totaling $9 million.

Okay.

We have two that are -- the income notes [Cs] for the equity piece. And then the remainder are triple-B rated.

Okay. And then if this particular institution, you talked about raising capital from a segment sale; they get their capital in order and they get things kind of cleaned up and they continue paying on this at some point down the road there's a chance that you guys get this recovery. Is that true?

Yes.

That is correct.

Well down the road.

But you have to wait until it matures. Obviously you can't write up the value under the accounting rules.

Bingo.

You are correct.

Okay. And what is the length of time before it matures?

It's over 20 years, I believe. It's a long time.

What happens if everybody in the pool calls their trust preferreds? What would happen--?

If everybody called, then we would get our money back. But not everybody can do that right now.

Right. Okay.

And the five-year call feature; that's what shrank the pool down.

What can you guys do to lessen this type of risk? Because one of the things with CDOs, one of the best-performing underlying instruments is bank trust preferreds and here you guys are getting hurt by that. What can you do to kind of avoid that?

Well, hindsight says we shouldn't have bought that income note, but again you're right Jason. I mean that's what we thought when we bought it several years ago, but one of the banks had a problem and the pool had shrunk down to a point where one bank had the problem; it exacerbates it for the whole pool.

So the only thing -- I guess in hindsight maybe is once you have a lot of these banks paying down, then maybe unload it because you lose diversification.

Yes. That's a good point. We could sell it, but right now it's not the right market to do that.

Right, exactly.

If the market rebounds in a year or two or a span of time, then that is something we definitely look at.

Okay.

But it's still yielding pretty well, so--

And I would imagine the yield goes up with the impairment, the yield only goes up. Now it's on the books for less money.

Absolutely. Yes it does; you're correct.

And in the underlying institution you said you don't think they're going to default, so that means they're still paying?

That is correct.

Okay. With-- going to the payoff question again just to kind of boil this down a little further; are you actually seeing signs that some of these non-bank competitors are taking these financings away from you? Are you seeing signs they are slowing down? Because I've certainly heard that from other banks; so I'm curious if you've seen that yet.

We're seeing rumblings. It hasn't-- I can't tell you that's definitely what's going on, but there's certainly been a pause, okay? So that gives us hope. But I would not say it's actually happened, but there's been a couple things delayed that our customers thought they had in position, for example. But we're getting taken out by other banks as well. So it's not just capital markets.

Okay. And then final issue of credit quality; it's still-- MPAs went down in the quarter, overall well-behaved. I was just kind of curious if there were any underlying trends at the watch list that might be signaling future problems.

Well, we always have two or three or ten that we're looking at that we have questions about and constantly monitor. I'd say that list is still there. But at this point, the numbers in the third quarter reflect our thoughts at September 30. So I'm not going to say there's been a massive enhancement in asset quality; it wasn't that bad to start with, but it certainly is going in the right direction.

Okay. Thank you, guys.

Okay. Thanks, Jason.

(Operator Instructions.) Our next question comes from [Bret Morris] with FTN Midwest Securities. Please state your question.

Good morning, guys. I was wondering if you could give us a little more color on the securities and I guess where you think they're going and like -- was this restructuring just kind of a one time?

Can you repeat that question, Bret? I didn't quite catch it.

I'm sorry. Can you guys hear me a little better now?

Yes.

Yes.

Okay. I was wondering if you could give us a little more color on I guess your balance sheet restructuring and these securities. I mean do you expect them to be increasing in subsequent quarters or is this it-- like you just wanted to get these kinds of tax benefits and things and that will be it?

Yes, I think you're asking a question related to-- I think we alluded to somewhat of a pre-buy of investments in the third quarter.

Yes.

And our investments went up because we knew we'd have these strong or these larger than normal loan payoffs. Our goal is not to grow our investment portfolio through the next five quarters. Our goal is to grow loans and to shrink our investment portfolio.

There are still however, calls on the portfolio and that does-- we're trying to hold our earning asset levels at a certain level; meaning where they are right now. So if we see loans on the decline, we'll buy more investments.

So I hope that answers your question. We're not going to leverage up and put more investments on our books just for the sake of growing earning assets. We're trying to maintain earning asset level where it is.

Okay, great. Thanks, guys.

Alright; thank you.

At this time there are no further questions. Sir, do you have any closing remarks?

Yes. I want to thank everyone for their very good questions. That was a good conversation. Please remember that our earnings release and a webcast of the call will be archived on peoplesbancorp.com under the Investor Relations section. Thank you and have a good day.

This concludes today's teleconference. You may disconnect your lines at this time.