Premier Financial Corp (OHIO) (PFC) 2016 Q2 法說會逐字稿

Good morning, and welcome to the First Defiance second-quarter earnings conference call.

(Operator Instructions)

I would now like to turn the conference over to Tera Murphy with First Defiance Financial Corporation. Please go ahead.

Thank you. Good morning, everyone, and thank you for joining us for today's 2016 second-quarter earnings conference call. This call is also being webcast, and the audio replay will be available at the First Defiance website at FDEF.com.

Providing commentary this morning will be Don Hileman, President and CEO of First Defiance; and Kevin Thompson, Executive Vice President and Chief Financial Officer. Following their prepared comments on the Company's strategy and performance, they will be available to take your questions.

Before we begin, I'd like to remind you that during the conference call today, including during the question-and-answer period, you may hear forward-looking statements related to future financial results and business operations at First Defiance Financial Corporation. Actual results may differ materially from current Management forecasts and projections, as a result of factors over which the Company has no control. Information on these risk factors and additional information on forward-looking statements are included in the news release and in the Company's reports on file with the Securities and Exchange Commission.

Now, I'll turn the call over to Mr. Hileman for his comments.

Thank you. Good morning, and welcome to the First Defiance Financial Corporation second-quarter conference call. Last night, we issued our 2016 second-quarter earnings release, and now we'd like to discuss that release and provide insight into the remainder of 2016.

At the conclusion of our remarks, we will answer any questions you might have. Joining me on the call this morning to give more detail on the financial performance for the quarter is our CFO, Kevin Thompson.

Our very strong second-quarter financial performance results reflects our continued success in growing probability. Second-quarter diluted earnings per share grew to $0.80, a 14.3% increase over the second quarter of last year. Second-quarter 2016 net income on a GAAP basis was $7.3 million, compared to $6.6 million and $0.70 per diluted common share in the second quarter of 2015. At quarter end, our total assets exceeded $2.4 billion, up 9.7% from a year ago.

The overall momentum gained during the previous quarters continued in the second quarter, with both solid loan growth, deposit growth, and net interest income growth. Total loans at June 30 were up 9% over a year ago, and up 8% on a linked-quarter annualized basis. Total deposits grew -- total deposits were up 11% on a linked-quarter basis, and up 9% year-over-year. We are pleased with the balance in the loan and deposit growth.

Our ongoing ability to grow our on portfolio, supported by contributions from all areas of our footprint, has been a key focus of our strategy moving forward, and will continue to be extremely important. The competitive markets continued to be very aggressive as all institutions are looking for loan growth, and the loan rate environment looks to be extended.

I would consider our commercial loan demand to be good to very good. The majority of our clients are doing well, and have improved confidence in their Company's outlook. Our overall pipeline remain solid relative to the same level as the first quarter. We continue to see strong performance in our Columbus market, growing $12 million this quarter.

The effective new loan rate in the second quarter was 3.97%, compared to 4.16% in the first quarter of 2016. The overall yield on loans for the second quarter of 2016 was 4.34%, down two basis points from the second quarter of 2015.

Our net interest margin decreased to 3.71%, from 3.81% in the second quarter of 2015. Our ability to grow loans helped offset some of the margin compression. This is a reflective -- this is reflected in our net interest income growth this quarter of 6% over the second quarter of 2015, as well as a 6% increase year-to-date over 2015. The growth in both our net interest income and our non-interest income revenues on a quarterly basis reflects contributions from our core business strategies.

We expect the net interest -- the interest rate environment to be reflective of the anticipated likelihood of a Fed increase, possibly in the fourth quarter of 2016 or the early part of 2017. We continue to measure our interest rate risk position, and are managing toward a neutral to slightly asset-sensitive position.

The credit quality metric showed continued overall improvement this quarter from a year ago, with a reduction in the year-over-year and the linked quarter non-performing loan to asset ratio. We also had a significant reduction in restructured loans this quarter of 15% on a linked quarter basis, and 57% year over year.

We did not buy back any stock in the second quarter. Our buy-back activity is impacted by our higher stock valuation in the second quarter.

We are also delighted to announce a 2016 third-quarter dividend of $0.22 per share, representing an annual dividend yield of approximately 2.23%, and an increase of 10% over the second quarter of 2015. Our ongoing strong performance in capital levels allowed for this continued utilization of capital.

I will now ask Kevin Thompson to provide additional financial details for the quarter before I conclude with an overview. Kevin?

Thank you, Don. Good morning, everyone.

As Don stated, net income for the second quarter is $7.3 million, or $0.80 per diluted share. This compares to prior-year results of $6.6 million, or $0.70 per share in the second quarter of 2015. Our second-quarter financial performance results reflect our continued positive momentum, and are clearly encouraging as we consider our outlook for the remainder of 2016.

Starting with growth, our loan and deposit balances both had solid increases in the second quarter, which was a continuation of our strong growth performance for the past several quarters. Total loans finished the quarter up $36.4 million from last quarter, and up $155.7 million, or 9.1% from a year ago, keeping our earning asset mix strong and profitable.

On the deposit side, we saw balances increase $49.1 million in the quarter, and $156.9 million, or 8.9% from a year ago. Over the past two quarters, we have seen our deposit growth out-pace our loan growth, creating slightly more liquidity on the asset side of our balance sheet. Importantly overall, though, our steadily growing balance sheet has continued to generate strong earnings growth.

Turning to the income statement, our net interest income was $19.4 million for the second quarter of 2016, up from $19.2 million in the linked quarter, and up just over $1 million from the $18.4 million in the second quarter last year. Our margin this quarter was 3.71%, down 10 basis points from 3.81% in the second quarter last year, and down 9 basis points from the last quarter.

On a linked-quarter basis, our yield on earning assets declined 8 basis points, as our loan portfolio yield held steady at 4.34%, while our asset mix shifted to more short-term investments. Our cost of interest-bearing liabilities rose just 2 basis points on a linked-quarter basis. Even though our margin and growth remains strong, we see opportunities to further optimize our earning asset mix going forward.

Our interest rate risk position, while essentially neutral and balanced, has moved slightly more asset-sensitive with our shift in short-term assets. This supports our pursuit of opportunities to improve our earning asset mix.

Total non-interest income was $8.6 million in the second quarter of 2016, even with the linked quarter, which included contingent insurance commissions, and up from $7.8 million in the second quarter of 2015. The second quarter of 2016 does include $227,000 of securities gains, while the second quarter last year had no securities gains. Excluding the securities gains, second-quarter non-interest income was up year-over-year about $539,000, or 6.9%.

Every category of fee income increased over the same quarter last year, excluding mortgage banking, which was basically flat; but even there, excluding the MSR valuation adjustments, mortgage revenues were up 13% year-over-year. Within non-interest income, notably, service fees rose $109,000, or 4.1%; insurance commissions were up $160,000, or 6.8%; and trust income grew $42,000, or 11.4%.

Regarding mortgage banking revenues for the second quarter of 2016, they totaled $1.8 million, up $225,000 from the linked quarter, but down just slightly overall, $29,000 from the second quarter of 2015. Second-quarter mortgage banking originations were $76 million, compared to $51.1 million last quarter, and $76.9 million in the second quarter of 2015.

Gain on sale income was $1.4 million in the second quarter of 2016, compared to $1 million on a linked-quarter basis, and $1.2 million in the second quarter last year.

In addition, the second quarter included negative valuation adjustment to mortgage servicing rights of $104,000, compared to a negative adjustment of $21,000 last quarter, but a positive adjustment of $141,000 in the second quarter 2015.

At June 30, 2016, First Defiance had $1.3 billion in loan service for others. The mortgage servicing rights associated with those loans had a fair value of $9.1 million, or 72 basis points of the outstanding loan balances service. Total impairment reserves, which are available for re-capture in future periods, totaled $770,000 at quarter end.

As for non-interest expense, second-quarter expenses totaled $17.4 million, up slightly from $17.3 million in the linked quarter, and up from $16.8 million for the second quarter 2015. The increase was primarily in compensation and benefits expense, which in the second quarter 2016 was up $588,000 from last year, primarily due to higher costs for health benefit plans, merit increases, and new staff to support our growth strategies.

Other non-interest risk expense was $3.2 million in the second quarter 2016, down from $3.3 million in the same quarter last year, mainly due to reductions in OREO write-downs, which totaled $182,000 in the second quarter last year, compared to no write-downs in the second quarter of 2016.

Regarding provision expense, the second quarter 2016 totaled $53,000, compared to $364,000 last quarter, and no provision in the second quarter last year. The second quarter 2016 included net recoveries of 5 basis points, compared to net charge-offs of 2 basis points last quarter, and net recoveries of 2 basis points in the second quarter a year ago.

Our allowance for loan loss at June 30, 2016, was $25.9 million, or 1.39% of total loans, versus $25.4 million, or 1.49% at June 30 last year. The change in the allowance ratio reflects the credit quality improvements achieved during the past year, such that the allowance coverage for non-performing loans has increased to 158% at quarter end, up from 152% at June 30, 2015. Going forward, we continue to expect the allowance to loans percentage to reflect our strengthening asset quality.

As for the asset-quality numbers, non-performing loans decreased this quarter to $16.4 million, from $17.7 million on a linked-quarter basis, and from $16.7 million at June 30, 2015. Our OREO balance this quarter was $1.1 million, down just slightly from last quarter, but down significantly from $5.4 million in the second quarter last year.

Overall non-performing assets ended the quarter at $17.5 million, or 0.73% of total assets, down from $22.1 million, or 1.01% of total assets at June 30, 2015. Our trouble debt restructured loans this quarter were $9.6 million, down from $11.3 million last quarter, and down considerably from $22.2 million a year ago.

Looking at our capital position, total period-end stockholders equity finished the quarter at $286.6 million, up from $276 million at June 30, 2015. During the quarter, we did not re-purchase any shares, and still have approximately 377,500 shares remaining under our current re-purchase authorization. Our capital position remains healthy and consistent with our growth strategies, as well as supportive of considerations to enhance shareholder value through additional share re-purchases and dividends.

At quarter end, shareholders equity assets was solid at 11.82%, although down from 12.39% last year. The bank's total risk-based capital ratio was approximately 12.9% at quarter end, June 30, 2016.

Regarding our year-to-date results, for the first six months of 2016, net income was $14.4 million, or $1.59 per diluted share, which includes $0.01 per share increase to our first quarter for the adoption of ASU 2016-09, and improvements to share-based payment accounting.

The current-year result compares quite favorably versus net income of $13.2 million, or $1.39 per diluted share for the same period 2015. That's a 14% increase in diluted earnings per share, driven by a 10% improvement in earnings, and the remaining increase due to the reduction in shares as a result of our capital management efforts.

That completes my financial review, and now I'll turn the call back over to Don.

Thank you, Kevin. We were pleased with both our performance and the momentum we have generated during the first half of this year.

As noted previously, we continue to focus on several key areas we believe important to improve financial performance and drive greater shareholder value. These include core balance sheet growth, with a focus on loan growth, overall revenue growth, expense control, and improved asset quality. We have seen improvement or stabilization in these areas this quarter.

We are pleased with our second-quarter asset growth of 8.6% on a linked-quarter basis, and 9.7% year-over-year. We do believe loan demand will remain steady, aided by some improvements in the economic environment in 2016.

As we have discussed, we have looked to strategically grow our overall position in metro markets of Fort Wayne, Indiana, and Toledo, Ohio, and increase loan production in Columbus, Ohio. We continue to see solid activity in these areas. We still believe a growth rate in the high single digits is appropriate for the remainder of the year. We're very focused on relationship management pricing, and believe our delivery and service models is effective in this interest rate environment in helping to achieve our loan growth.

We understand the head winds and challenges ahead, including economic, regulatory, and operational factors. We'll pursue a balanced approach and long-term focus on shareholder value. We feel the performance of the organization reflects our focus on shareholder value, and at the same time our commitment to being a strong community partner in the areas we serve.

Our business banking initiative is progressing, and more activity is expected from this segment throughout the course of the year and into next year. The digital delivery environment is changing at an accelerated pace, and we are continuously evaluating opportunities to provide our client a quality choice of products and services.

Growth on our insurance and wealth management revenues are also a component in our plan for revenue growth. We are very encouraged by our recent performance, and look to constantly drive our performance through these initiatives and others that will help us obtain our goal of being a consistently high-performing community bank. We look to achieve this goal through a balanced and long-term focus, remain confident in our strategy, our ability to adapt to overcoming obstacles, and the people working hard to actually get our plans.

Our commitment will remain steadfast to all of our customers and shareholders, and we appreciate the trust you have placed in us, as we work to make First Defiance a high-performing community banking organization. Thank you for your interest in First Defiance, and we thank you for joining us this morning. We will now take your questions.

We will now begin the question-and-answer session.

(Operator Instructions)

At this time we will pause for a moment to assemble our roster. Our first question will come from Damon DelMonte of KBW. Please go ahead.

Hi, good morning, guys. How are you?

Good morning, Damon.

Nice quarter, by the way.

Thank you.

My first question just regarding the deposit growth, very strong this quarter. Could you talk a little bit about what's driving that? Is it a function of winning over new customers just purely on the deposit side and getting those deposit relationships and bringing in some larger accounts, or is it maybe more of a function of the lending side of the equation, where you're getting -- you are making loans to new customers and you are getting the deposit for the business as well. Or maybe a combination of both?

I think it's the latter. I think it's a combination of both. We're focused on the commercial relationship and the deposits. As we talk about, we are a relationship lender. One of the other things we've done this year is add deposit growth as a key component to commercial lender incentives. There's some line of sight benefit for that added relationship there. We are seeing some pretty good deposit growth in some of the retail side, too. I think it's a combination of both those aspects.

Just to add on to Don's comments, last year we saw loan growth out-pace our deposit growth. As we came into this year, we really put an additional emphasis in terms of our plans and goals and incentives on deposit growth, and we've had a lot of success. A lot of it is mining the relationships we have, as well as selling into new business, as well.

Okay. That's helpful, thank you. As it relates to the margin, obviously your deposit growth out-paced loan growth. I'm assuming that's what led to the shorter-term positioning in the securities portfolio?

That's right. We're very pleased, obviously with the deposit growth that we've had, as well as the loan growth; but as we've experienced over the course of time, sometimes those flow a little bit unevenly, and back and forth from quarter to quarter. We're fully expecting that we'll be able to more effectively deploy some of those funds as we go forward, and bring some of those basis points back into the margin -- more dollars and net interest income, too.

Right. Along those lines, then, it sounds like your margin is positioned to at least hold steady, if not maybe see a bit of an up-tick regardless of what happens with rates, right? Because you're moving the shorter-term liquidity into --

That's what we would expect. That would be an opportunity that we see to pursue here in the quarter.

Okay.

I think we're a little bit comfortable with that part because our loan pipeline is still pretty strong, where we had growth but we maintained about the same level of our pipeline as we did in the first quarter. That gives us a little confidence that there's activity out there that could end up being book balances.

Got you. I guess just lastly on the provision, I think the net recoveries helped you this quarter. We were looking for something similar to the previous quarter from a provision-level perspective, but you had the net recoveries. Absent any more out-sized net recoveries, should we expect something in the maybe $500,000-$600,000 range for a quarterly provision?

That might be -- that would be the upper end of my expectation. We still think we've got room to move some of our asset quality in a favorable -- more favorable position, if you will, which benefits the allowance. We would expect maybe a provision somewhere between what you described and maybe what we had in the first quarter.

Got you. Okay, sounds good. Thanks, that's all I had for now.

Thanks, Damon.

(Operator Instructions)

Christopher Marinac, FIG Partners.

Thanks, good morning. Kevin and Don, I was wondering if you could give us some color on how Michigan is performing, and compare and contrast with your other markets in both eastern Indiana, as well as the rest of Ohio?

Sure. I think it's solid. It's a better deposit-performing piece of our franchise than others -- has been for quite a while after that acquisition out there. I think we're finding loan growth a little bit slower in that market than we are in others, but we're still satisfied with where we are out there.

Okay. As the pace of what you're seeing in Indiana and your Ohio footprint -- should that remain the same, or do you think the economic activity could change as the next few quarters unfold?

Yes, I think there's an opportunity for it to change, but I think we're pretty confident we're going to continue with a decent pace of loan growth here. A lot of it is, as I said, a good piece of that was in Ohio and Columbus, and we expect that to continue to perform well. Fort Wayne market was a little lighter this quarter than it had been, but we expect that to bounce back. That's primarily in the Indiana footprint there. Ohio should be pretty solid and stable. I think we expect contributions from all those areas going forward.

Great. My follow-up just had to do with M&A in general. Are you seeing a fair amount of activity that you could do? From also, maybe any comments on what price expectations, and if those are higher or lower than the past?

I think the activity is starting to pick up a little bit, especially as some institutions try to figure out how long this interest rate flatness will continue, and how long there will be these head winds and challenges. It's hard to make money in this environment, and it will continue to do that. I think there's going to be some more opportunities of that because of the economic conditions that we've seen. We'll be looking out for the right opportunity on that.

As far as pricing expectations, I think I could say that I've seen some creep in what that expectation is over the course, as there maybe gets to be a little bit more activity and maybe more buyers that are interested as things stabled out here. I think that is an observation I would make, that the pricing does seem to be a little stronger here, and our expectations of pricing being a little stronger.

But our current (inaudible - technical difficulty) improved, as well.

Yes.

Great. One more follow-up had to do with the mortgage business. Is your pipeline still as strong as it was in the second quarter? Given how interest rates closed in the quarter, does that give you flexibility in terms of how the amortization numbers shape up in Q3?

I don't know that I see any significant change, Chris, from the end of the quarter through the trend we've been on for -- through the second quarter. Amortization isn't going to be a significant impact within our mortgage banking revenue. We still have a very strong pipeline, and feel like we're going to have a very good third quarter, very similar to the second. That's how it's starting out, anyway.

Okay. Great, Kevin.

One other thing, Chris, mortgage banking, too. We're hoping -- part of our issue and some of the muting of it was inventory of new purchases. We were still doing a decent percentage of refi's right now. As some of that new inventory comes on line and that opportunity for some of those new purchases happens, we think that will help, as well, stabilize our mortgage banking operations.

Great, Don. Thank you both, and Kevin, for the color here.

All right, thanks.

Daniel Cardenas, Raymond James.

Morning, guys.

Morning, Dan.

Congrats on a good quarter. Just a couple of questions. Kevin, I'm not sure if I understood you correctly, but are you guys projecting in your models maybe a modest rate increase end of this year, early next year?

Our expectation, the way we're doing our models, is for -- if there is an increase, it's very late in the year. Really not any significant impact on 2016.

Okay, perfect. All right, that's what I thought, I just wanted to make sure. Then you continue to do a good job of controlling cost, and your efficiency ratio is in that low-60% range. What are your thoughts on your ability to get at or below 60% within the next year and a half or so?

I think there is an opportunity. I think when we look at where we are, I don't know if that's necessarily a target. We look at things in a bigger picture and don't focus on one versus another. But I think we're aware that we need to manage expenses as we look at some of the other areas that might have more risk -- margin, et cetera. We've got to stay on top of that. I could tell you I don't know if we have a target number, Dan, that we want to get to, but that will remain a focus -- the expense part of the efficiency ratio.

Right, I agree with that, Don. I think as we continue to grow -- and we've had very good growth, as you've seen the last couple quarters -- that as our size becomes more significant, we would expect that we should be able to leverage that more efficiently, in terms of our profitability profile and what-not.

We're directionally moving toward that 60% number. We like that direction. I think that's something that at some point, Dan, we would expect to occur, but it's going to be more of a paced function of how we grow and continue to execute on our business model. It will come more naturally than we're going to make it happen next quarter.

Right, got you. Okay, perfect. One last question, a follow-up on the M&A side, really more on the non-bank-type of deals. What's your appetite there, and what does that pipeline look like?

We have an appetite for insurance agency acquisitions. The pipeline's not as strong as we would like to see it. There's a couple of things we're potentially working on, but I'd like to see a little bit more activity in there. I like the insurance agency business. I like that contribution to our non-interest income numbers. That's still a focus, and we're pushing to try to see if we can do something in that area.

Okay, great. All right, thanks, guys.

Thank you.

Ladies and gentlemen, this will conclude our question-and-answer session. I would like to turn the conference back over to Tera Murphy for any closing remarks.

Thank you for joining us today as we discussed our quarterly results. We appreciate your time and interest in First Defiance Financial Corporation. Have a great day.

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