Regions Financial Corp (RF) 2006 Q2 法說會逐字稿

Good afternoon. I will be your conference operator today.

At this time, I would like to welcome everyone to the AmSouth Bancorporation second quarter earnings call. [OPERATOR INSTRUCTIONS] Thank you.

I would now like to turn the conference call over to Mr. Dowd Ritter. Please go ahead.

Good afternoon, everyone. This is List Underwood and we appreciate your participation today.

Our presentation will discuss AmSouth's business outlook and includes forward-looking statements.

Those statements include descriptions of management's plans, objectives, or goals for future operations, products or services, forecasts of financial or other performance measures, and statements about AmSouth's general outlook for economic and business conditions.

We also may make other forward-looking statements in the question and answer period following the discussion. These forward-looking statements are subject to a number of risks and uncertainties and actual results may differ materially.

Information on the risk factors that could cause actual results to differ is available from today's earnings press release, our Form 10-K for the year ended December 31, 2005, our Form 10-Q for the quarter ended March 31, 2006, and the Form 8-K that we filed today.

As a reminder, forward-looking statements are effective only as of the date they are made and we assume no obligation to update information concerning our expectations. Dowd?

Thank you, List, and good afternoon, everyone. We thank you for joining AmSouth's second quarter earnings conference call.

Also of course with us today is Al Yother, our Chief Financial Officer, who will provide us with a detailed discussion of the quarterly performance in just a few minutes.

Before we get into the discussion of this quarter's performance, let me start off by reiterating how truly excited I continue to be about our recently announced merger with Regions Financial and the prospect for these two Companies' shared future.

The new Company will be a Top 10 bank holding Company, serving over 5 million households, with leading positions in some of the fastest growing markets in the country.

And beyond the significant cost saves, this combination creates a number of strategic opportunities, including; broad customer penetration, enhanced fee revenues, accelerated deposit growth, improved capital efficiency, and other balance sheet benefits.

I'll cover some of those opportunities in a little greater detail in my closing remarks but now let's turn to some of the highlights of our second quarter.

Earlier this morning, AmSouth reported second quarter diluted earnings per share of $0.53. Net income of 184.7 million. Our profitability remained among the highest in the industry with a return on equity of 20.6%. Return on assets for the quarter was 1.39%. And our efficiency ratio was 52.7%.

This earnings performance was driven by revenue growth from both interest and noninterest sources, solid loan and deposit growth, and continued strong credit quality.

Among the highlights that contributed to the quarter's performance, demand for loans was strong, with certain types of loans showing especially good growth during the quarter.

Total loans increased 7.4% on an annualized basis between quarters, led by commercial real estate, business banking and equity lending.

As we look to the liability side, total average deposits grew 321 million this quarter, a 3.5% annualized increase compared to the first quarter. Florida continues to outperform, where deposits increased to some 5.4% as compared to the first quarter. Led by 6.7% growth rate in noninterest-bearing deposits, which continue to be aided by a Company-leading, almost 9% annual increase in households and the strong performance of our many de novo new branch openings in Florida.

I think it's fair to say that we've proven our commitment to the growth in Florida. Since the beginning of 2002, we've opened 107 de novo offices in Florida, more than any other banking institution in the state. In 2006 alone, we've thus far added 26 new branches in the State of Florida.

We now also have over 100 sites acquired as we continue to purchase and lease locations in high growth markets so that we may further build out our Florida franchise as we look to the future.

As just mentioned, both interest and noninterest revenue sources were major contributors to our solid second quarter performance.

Coupling a stable net interest margin with solid increases in our loan portfolio; produced quarterly net interest income of 402.8 million, an annualized 5.1% increase compared to the first quarter.

Driving the annualized 21% increase in noninterest revenues during the quarter were; higher service charges, investment services fees and interchange income, each posting annualized increases well into the double digits.

And last but certainly not least, credit quality continues to be a real straight. Net charge-offs for the quarter were only 19 basis points of loans. While the ratio of non-performing assets to loans remained extremely low as well at 0.29% at quarter end.

With those remarks, let me turn it over to Al to cover our second quarter in more details. Al?

Thank, Dowd. We'll move right into some additional detail. Net interest income for the quarter was $402.8 million, an increase of $5.1 million or 5.1% on an annualized basis versus last quarter.

This increase reflects a stable net interest margin, moving down just 1 basis point to 3.39% compared to the same quarter a year ago and only 3 basis points from the prior quarter, as well as the result of having higher average loans.

Retention of noninterest-bearing deposits and the continued focus on loan pricing were key factors in maintaining our net interest margin level in the face of a challenging interest rate environment.

As we look at our lending areas, loan demand was solid during the quarter with total loans increasing by an annualized 7.4%. On the geographic basis, Florida led the way with overall annualized loan growth of 17%.

As is usually the case within any particular quarter, the demand for certain types of loans was greater than others. The areas that provided the strongest growth this quarter were commercial real estate, small business lending, and on the consumer side, equity lending.

More specifically, our commercial real estate loans continue to pace the Company, increasing 27% on an annualized basis over the first quarter. Now, this growth reflects significant funding of production in recent quarters, including the $1.8 billion from last quarter.

In this quarter, the second quarter, production remained strong with new originations of 1.9 billion. We continue to be very pleased with the success of our commercial real estate lending business. It has outperformed our expectations, not only in terms of growth, but as well as profitability and credit quality standpoints.

Another area that performed well was small business lending, which posted linked quarter annualized growth of 10%. This marks the fifth consecutive quarter of annualized double digit growth in this line of business. Our calling efforts and improved business banker productivity continue to contribute heavily to our success in this area.

On the consumer side, demand for home equity products continued to be strong, with second quarter production of $1.2 billion. While production of first residential mortgages totaled $890 million.

Our home equity loan balances grew at a 5.1% rate during the second quarter, in spite of high payoff levels of existing home equity products, which remain under pressure from continued increases in short-term interest rates.

First residential mortgages remained essentially unchanged between quarters, as much of the current quarter production was sold.

The investment securities portfolio, at 11.4 billion at period end, was relatively unchanged compared to first quarter. The spreads on investment securities have improved, we opted to reinvest the majority of our cash flows back into securities in the second quarter.

Now, looking at the funding side of the balance sheet. Total deposits increased an annualized 3.5% versus last quarter. Reflecting a shift in our customers' preferences to higher yielding certificates of deposits, growth came mainly from an 8.2% increase in consumer time deposits.

Other interest-bearing deposits actually declined somewhat between quarters. Deposits from our Florida operations continue to lead the Company, as total deposits increased by an annualized 5.4% versus the first quarter. Led by higher consumer time deposits, which increased 9.4% on the same basis.

Florida also led the Company in noninterest-bearing deposits this time in terms of growth, increasing 6.7% compared to the previous quarter.

And turning now to asset quality, our credit quality continues to be very strong. At 17.2 million, net charge-offs were 19 basis points of average loans in the second quarter. This charge-off level reflects insignificant Katrina-related losses this quarter. And we anticipate that these losses will be more fully realized later in the year and on into 2007.

We continue to believe the loan allowances established for Katrina is adequate to cover our remaining losses. The loan loss provision for the quarter was above charge-offs and totaled $24 million, resulting in an allowance at quarter end of $359.1 million. As a result, the allowance to net loans was 96 basis points at quarter end, which is unchanged from first quarter.

Non-performing assets increased $9.1 million to $109.4 million at the end of the quarter, producing a non-performing asset ratio of 29 basis points. This represents a 2 basis point increase versus last quarter, which was partially related to the migration of non-performing of some Katrina-related residential mortgage loans, which as mentioned earlier are adequately reserved.

Now, turning to non-interest revenues. Non-interest revenue, at 231.4 million for the quarter, were up annualized 21% as compared to the first quarter. Service charges on deposit accounts led the way, increasing 8.2 million, for an annualized 35% over the first quarter level.

As compared to the same quarter last year, service charges were up 11.8 million or 13%. Consumer service charges produced the majority of these increases.

Also contributing to non-interest revenue growth were increases in investment services income and interchange income, up 40% and 16% respectively on an annualized basis. Investment services income was driven by higher sales of both fixed and variable rate annuity products through our brokerage subsidiary, and our branch platform.

These products have become increasingly attractive to our customers, as market rates have continued to rise.

Higher interchange income was driven by an increase in the number of debit cards and higher usage of existing cards. Included in other noninterest revenue was a $9 million net gain from the sale of five branches located in non-metropolitan areas of Tennessee.

And just as we have done in past quarters, we sold these branches as a result of our regular branch and market assessment process. Our objective in this process is to redirect resources from low-growth markets to markets offering significant growth potential.

On the noninterest expense side now, total noninterest expenses for the second quarter were $339.6 million, an increase of $9.6 million or 12% on an annualized basis from the first quarter level.

Now, this increase was driven in large part by the expensing of stock-based compensation in the current quarter totaling $7.2 million, which is reflected in personnel costs. As you may remember, the Company elected to accelerate the vesting of all existing outstanding options during the fourth quarter of 2005.

Now, due to this acceleration, there was only minimal stock-based compensation expense reported in the first quarter of this year. However, in the current quarter, the initial expense associated with the 2006 option and restricted stock grants has been recorded. Total noninterest expense, excluding the increase due to these grants, grew at an annualized rate of just 2.8% during the second quarter.

Finally, we repurchased 6 million additional shares this quarter, bringing the total repurchase for the year to 11.1 million shares. And now, that concludes my remarks.

Thank you, Al. Before we close and open up for questions, let me take a few minutes for a few more comments on our recently announced merger with Regions Financial.

Having competed daily with this institution for nearly my entire career, I'm extremely familiar with and frankly have always admired Regions from just across the street, literally, the way they've run their business and most importantly, their committment to both customers and shareholders over the years.

In these ways, our Companies are indeed very much alike, which will make our partnership a natural fit in these critical areas.

In this transaction, we have a very unique opportunity to combine two premiere Southeastern financial institutions, each with its own long history of profitability and shareholder returns, into one that is even stronger with significant future growth opportunities.

Once together, we'll have scale on a national level, ranking as a Top 10 bank, with total assets of $140 billion, with over 5 million households operating through over 2,000 branches and 2,800 ATM's and some of the fastest growing MSA's in the country. It is clear this will be a formidable franchise.

We're well underway in our efforts to move this transaction towards completion and are on schedule with the original timeline that we presented in may. We're working through the normal regulatory approval processes and still anticipate a closing in the fourth quarter of this year. As with any merger, cost savings are a significant driver. And especially since this is an end-market transaction, they're very compelling in our case.

We've conservatively estimated the pretax savings at $400 million. And expect that these will indeed make their way to the bottom line, as we stated earlier, with full phase-in by the second quarter of 2008.

Our goal is to strike the right balance of reducing unnecessary costs while maintaining our customer relationships. We'll achieve our savings goal through significant efficiency gains. We won't be just cutting costs, but we'll be making improvements at every step along the way.

Where there's overlap, we'll select the best from the two organizations. Whether it be the best products, the best systems, the most efficient processes, the best locations, and we'll staff the resulting Company with outstanding individual bankers from both Companies.

In fact, regarding personnel, we're very aware of the importance of retaining our top performers. And along those lines, we've already identified and communicated right at 175 top managers within the combined organization. And are working as quickly as possible to fill out the remainder of the org. chart on a weekly basis.

In addition to the cost savings, this combination creates significant strategic opportunities. It will provide for broader customer penetration through a more diverse business mix, leading to greater potential for growth.

More specifically, leveraging Morgan Keegan's success along AmSouth's footprint is one opportunity that we're especially excited about. When you look at the profiles of both Companies in brokerage and wealth management, you can see that this combination will clearly have a powerful impact.

In expanding to the AmSouth geographies, we plan to use the successful model that Regions employed in its merger with Union Planters. Since that transaction, Morgan Keegan offices have increased from 148 to over 300. Of those current 300 plus Morgan Keegan locations, only 97 of them were located in AmSouth's current markets, representing tremendous additional growth potential.

Through Morgan Keegan, each and every AmSouth customer will have a team dedicated to providing a comprehensive investment strategy, which we feel can be integrated with their existing banking relationship.

Another way of reaching new customers is through branch expansion. And as you know at AmSouth, one of our strengths has been our very well tuned de novo branch expansion methodology.

While we'll continue to use that model in Florida and other high growth areas, the merger will obviously allow us to apply that expertise across the larger combined footprint to gain further density in markets where it's needed.

The transaction also provides a significant balance sheet benefits. From a lending perspective, the two Companies have minimal overlapping credits. Merging our portfolios will add loan type and geographic diversity but will also provide a combined portfolio that is stronger than either of the Companies' portfolios on a stand alone basis.

Finally and very importantly, the transaction will result in improved capital generation and efficiency. Annual access capital generated of approximately $1 billion will help us maintain strong capital ratios, while providing a great foundation for growth.

In fact, our capital levels will be significantly higher than our large cap peers, providing us with further earnings opportunities through the redeployment of this excess into balance sheet growth or share repurchases.

In summary, let me say that we've always run this Company with an eye on long-term profitability and shareholder value in mind. And this transaction, we feel, is a tremendous value creating opportunity for our shareholders. This is a strategic merger of like-minded partners with a shared vision of creating long-term shareholder value. We're confident that this is absolutely the right time and the right partner to help us create that value.

That would conclude our remarks. And operator, why don't we open it up for any questions.

[OPERATOR INSTRUCTIONS] Your first question comes from Christopher Marinac with Fig Partners.

Good afternoon.

How are you?

I'm well. One question, I was curious on, if you believe that this quarter's margin behavior is something that either accelerates or should be kind of compared again in the upcoming third quarter before the deal closes?

That last part, I didn't quite get.

I was just curious if you think the margin has a similar decline ahead of us here in this near term or if there's a scenario where it can actually accelerate in terms of compression?

Chris, this is Al.

We're expecting some additional compression in the third quarter. A lot of that is going to depend on the mix of our deposit gathering, as well as what the Fed does.

So we're modeling some slight margin compression. Until we see how the deposits turn out, we don't know exactly how far that's going to go.

Okay. And then to follow-up separately, Dowd, was on the new branch openings in Florida, can you comment on sort of continued examination both AmSouth right now, let alone the combined entity to continue open foot -- new stores within the footprint?

As you know, we've got in Florida, 50 Florida de novo branches planned this year. We've opened 26 of them through the first two quarters and our plan will be to open all 54.

Next year, as we've said, both Companies in a combined environment would have opened right at 95 to 1 00 offices. We probably will open about half of that rate because of the fact that we'll be obviously into the integration process and systems conversions.

Obviously by '08, our feeling is we can pick that pace back up and even increase that pace as we finish those conversions. So this year, you'll see the full 54. You'll probably see something obviously between the combined organization in the 50 range next year. And I would expect a majority of that will, again, be in Florida.

Okay. Great, thanks very much.

Thank you.

Your next question comes from Ken Usdin from Bank of America Securities.

I was wondering, Al, if you can just follow up on that options comment you made? Should we -- could you help us understand, was the majority of the expense then in the second quarter, the 7.2 million, is that a one-timer, or is that the new run rate for options expense going forward?

That will be a new run rate for the rest of the year.

So, it doesn't drop off? It wasn't like a real accelerated, so it's just in?

We accelerated everything through the end of last year. And then as you issue new options, you begin the expensing going forward. And so, all we have out there is one year of options, which we will expense out over the rest of the year. But this is a run rate.

Okay, got it. And my second question relates to the branch sale gains, which were around 9 million. This quarter it seemed to be mostly offset by over-provisioning. So the one question is is that 00 is it fair to say that next quarter you don't have that much of an offset against the lack of that gain?

No, the provisioning is not driven by gains or no gains. It's just driven by the way that we analyze the loan loss reserve requirements of the Company.

Okay. And then, sorry, I'm not saying that you were trying to match them. But then my question about the reserving specifically is; in this quarter you seemed to have a little bit slower loan growth with improving credit metrics and an even lower charge off amount, yet you were still able to over-provision by 7 million?

Well, we did have slower growth but we did still have growth. And as we look through the portfolio, it's a very detailed, specific process. And when our credit guys come back and say, "this is what it needs to be," we book it accordingly.

Okay, that's fair. My last question is just on the earning asset side, you had mentioned that this quarter you had started to reinvest cash flows a little bit into securities. That seemed like the level of the securities portfolio is relatively flattish.

Have you gotten to the point that you're kind of past the worst on the the reinvestment rates? Is anything getting better on that front or are you still seeing -- are the relative opportunities still pretty tight?

No, we hit toward the -- in the quarter, we were able to reinvest at north of 6%. And we looked at that as a point at which we would be willing to reinvest some of the cash flows. We've been letting the portfolio run down as a percent of assets. And right now it's between 22 and 23.

We expect that to continue to decline as a percent of assets, as we have loan growth and so -- we did hit an inflection point where we felt good about going back out and reinvesting some of this.

Okay. Great, that's helpful. Thanks a lot.

[OPERATOR INSTRUCTIONS] Your next question comes from Chris Chouinard with Morgan Stanley.

I was wondering if you could just talk a little bit about, on the commercial real estate side, I know that you guys are mostly a construction lender.

What is the appetite for the loans in the marketplace that you're seeing? And have the payoffs, are they running at the same rate as they have been, or are they -- are you holding loans any longer or less time than you have in the past?

The majority of ours, as you remember, is construction oriented. And so one of the things when you see the really good growth that we continue to have in commercial real estate, it's the same credit underwriting, the same quality of customers but the growth is really the result of record production in the previous year and frankly, the year before that.

And then as we came into this quarter, I believe I'm right, the month of June was our second highest in our history production month for new commercial real estate business.

And so that comes on the book basically as 0 and will build up over about a 24 month period. So, it's a business where you've got to run hard to keep even. But thankfully, we've been able to not just keep even but have seen that growth.

And that's what you're seeing is the efforts of '04 and '05 coming on to the balance sheet today. And we think that portends very well for that growth to continue because we continue to have good new business production and our pipelines continue at record levels.

Great, well that sounds great. Is there any -- so there hasn't been a change in the payoff rate then?

No, there has not. I think -- there would have been a few quarters ago, and that's probably what you're remembering, as people saw rates go up, we were seeing a lot of people go to permanent financing even before they had their certificates of occupancy. And we've seen that stop for the most part. The rates are such now that they're staying with the projects.

Do you have the current balance of unfunded commitments for the construction book?

I do not off the top of my head. We'll -- List or Al, we'll get somebody to give you a call.

We'll call you, Chris.

Thanks very much.

Your next question comes from Kevin Fitzsimmons from Sandler O'Neill.

I was wondering if you could go into a little more detail on the linked quarter increase in deposit service charges? And I apologize if you already went into it. But specifically, if you could break it down, how much was seasonal, was any related to a fee change?

Your soon to be partner, Regions, had -- part of their pickup in deposit service charges was due to NFS fee increase. And just if we could get a little more color on how it looks on your side. And then Dowd, one bigger picture question for you. If you can -- you gave some comments about the merger and the combination.

If you can just take a step back and say how you were looking at it before the announcement? And then since the several weeks since then, what kind of has surprised you the most in terms of the opportunity that maybe was not getting the attention initially but that surprised you to the upside? Thanks.

This is Al. I'll take the fee income question. If you take all the factors, we had two extra business days, that's worth a and that's worth $2 million of the increase. There's seasonality in it as well.

If you look last year in second quarter versus first, we had about a $6 to $6.5 million increase last year over the same two periods. Because your first quarter is generally somewhat of a low point. As you come off the high levels of the fourth quarter, first quarter tends to tail off and it picks back up in the second quarter. So, you have some seasonality as well.

First quarter is generally a time when, if you're going to do rate adjustments, you do that as well at some point here in the first quarter. And you'll get a full impact in the second quarter. We also continue to have extremely good household growth and deposit account growth.

So, it's a combination of factors, there's no one thing that drove it. But it's not abnormal for us when you look historically at that first and second quarter differential.

Okay, thank you.

Kevin, on the question to me, let me start by saying; obviously, I'm limited a little bit by what I can say just under all the rules. But if I step back, I can tell you this. The surprises have been positive ones.

I really don't know if of negative surprises. That's one of the benefits of Jack and I spending a good bit of time, talking through various parts of the combination over a few months, as opposed to doing it quickly, is that we had talked through a lot of the issues.

The thing that I think had been the most positive surprise to the outside world, but I don't think so to the people in Regions and it wasn't a surprise to me; was their strong results this second quarter.

To me, that was a -- I was over there visiting with Brian, Jordan, and Jack last Thursday before their Friday announcement and made the comment to them, it was -- it had to be gratifying to that team, what they've gone through the past couple of years. They may not have gotten it as quickly as they wanted it or the Street wanted it. But I think the things they've worked on under the guise of, if you will, Regions Next, some of the efficiencies, some of the standardization of business models are really just beginning to come through.

And I think that's exciting not just for Regions today but it's exciting for the combined organization, as we go to more of a matrix model, which Regions Next was going to take them to, which is similar to our business model.

I think we'll see that happen in a very crisp manner as opposed to struggling for a few quarters with it.

Great, thank you very much.

Your next question comes from David Stumpf with A. G. Edwards. Edwards.

Good afternoon. I also apologize if I missed it. But Al, did I hear you say that there were some branch sale gains in the quarter? If so, how much? And are there any other branch sales pending other than what might exist ultimately in the AmSouth-Regions merger?

Dave, we had five branches in rural markets in Tennessee that we sold for about a $9 million gain. And we continue to look at other branches that might not be part of a divestiture as well. Just as part of our normal processes.

But nothing that's been announced that hasn't closed yet?

That's correct.

Okay, thank you.

Your next question comes from Jeff Davis from FTN Midwest Securities.

A follow-up question for Dowd or Al. And I know this partly relates to Regions, too, but follow-up with David's.

And that is, where does the divestiture stand as far as the 2 billion or so deposits that will have to be divested with the Regions merger as far as timing? Are bid packages out? Or are we going to have one buyer per market or one buyer for the whole package, to the extent you can provide a little color?

I'll be glad to. Where that stands is, as you know, the Justice Department really drives that entire process.

We have presented our recommendation to Justice. It is in their hands to comment back to us. We would fully expect to hear from them, giving us the okay when they agree with the package on any changes they see making to it.

The timing, again, is up to them. It could be anywhere over the next two to six weeks, I would suspect. And just using that as a guesstimate, we are then prepared to go -- as you would suspect, we have a list of people. Some interested in all of it, others interested in smaller pieces.

We'll probably put it out in five to six different individual packages that people can bid on one or multiple. And we would hope to have selected the purchaser or purchasers and have signed contracts early in the fall.

Okay. And then Dowd, did what you proposed to the Department of Justice, was it materially different from what was disclosed when the merger was announced?

No, it was absolutely not. What we proposed to them -- as you know, we -- everyone has the same modeling, it's obviously up to them. But it's in that $2.5 billion range, as we said.

Okay, very good. Thank you.

Well, operator, are there any other questions?

At this time, there are no questions.

Well, if there are no questions, let me thank everyone for joining us on what I know was a busy day and we will stand adjourned. Thank you.

Thank you, this concludes today's conference call. You may now disconnect.