SB Financial Group Inc (SBFG) 2009 Q4 法說會逐字稿

Good afternoon, and welcome, ladies and gentlemen, to the Rurban Financial Corp. fourth quarter 2009 earnings conference call and webcast. At this time, I would like to inform you that this conference call is being recorded and that all participants are in a listen-only mode. We will open up the conference to the investment community for question and answers following the presentations.

I will now turn the conference over to Valda Colbart, Investor Relations Officer. Please go ahead, Valda.

Good afternoon, everyone. I would like to remind you that this conference call is being broadcast live over the Internet and will also be archived and available at our website until February 14th, 2009 -- 2010. Joining me today is Ken Joyce, Mark Klein, and Duane Sinn.

But before we get started, I'd like to make our usual Safe Harbor statement and remind everyone that comments made during this conference call regarding Rurban's anticipated future performance are forward-looking, and therefore, involve risk and uncertainties that could cause the results or developments to differ significantly from those indicated in these statements. These risks and uncertainties include, but are not limited to, risks and uncertainties inherent in general and local banking, insurance and mortgage conditions, competitive factors specific to markets in which the Company and its subsidiaries operate, future interest rate levels, changes in local real estate markets, legislative and regulatory decisions or capital market conditions, and other factors set forth on the Company's filings with the Securities and Exchange Commission. And now, for additional information, RDSI has [met] an additional Form 10 Registration Statement with the SEC concerning the contemplated spin-off and the merger transaction between RDSI and New Core Banking Systems. Those filings include a combined information statement to be delivered to Rurban shareholders in connection with the spin-off, and a proxy statement to be delivered to the New Core shareholders in connection with the approval of the merger transaction by the New Core shareholders.

The combined information statement, proxy statement, and other documents filed by Rurban and/or already (inaudible) with the SEC, contain important information about Rurban, RDSI, New Core and the merger transaction. We urge investors and New Core shareholders to carefully read the combined information, statement, proxy statement, and other documents filed with the SEC, including any amendments or supplements also filed with the SEC. New Core shareholders in particular should read the combined Information statement, proxy statement carefully before making a decision concerning the merger transaction.

Investors and shareholders can obtain a free copy of the combined information statement, proxy Statement, along with other filings containing information about Rurban and RDSI at the SEC website at httpwwwSEC.gov (sic). Copies of the combined information statement, proxy statement and any filings with the SEC incorporated by reference in such document can, and also be obtained free of charge by directing the request to Rurban Financial Corp., 401 Clinton Street, Defiance, Ohio 43512, attention Ms. Valda Colbart, Investor Relations Officer, telephone number 419-784-2759.

I will now turn the call over to Ken Joyce, Executive Vice Chairman of Rurban Financial Corp. Ken?

Well, good afternoon, and welcome to the fourth quarter 2009 webcast, and thank you for taking the time to better understand your company. With me today is Mark Klein, President and CEO of both Rurban Financial Corp. and the State Bank and Trust Company, and Duane Sinn, Chief Financial Officer of Rurban.

There is a lot to discuss in this webcast, so I will quickly move into the various issues. I'm speaking to you as the Executive Vice Chairman of Rurban Financial Corp., instead of its CEO, as we have begun some of the structural changes that we announced in the third quarter press release and webcast. I am in the process of transitioning management of the holding company and bank to Mark Klein and managing the RDSI spin-off process.

We are proceeding towards implementing the spin-off of RDSI from Rurban Financial Corp. with a time frame of around the end of the first quarter, depending upon the effectiveness of our Registration Statement filed with the SEC and the other conditions having been met. This process was formally begun with our filing of the initial Form 10 Registration Statement on December 31st, 2009, which provided detailed information relative to the planned spin-off.

We continue to plan on the acquisition of New Core Banking Systems immediately following the RDSI spin-off and the shareholders of New Core will be receiving a maximum of just under 30% of the combined entity. The details of this merger and acquisition with New Core Banking Systems are combined and contained in the initial Form 10 Registration Statement which can be found on our website.

Rurban will continue as a single bank holding company with the State Bank and Trust Company as its primary business unit. Mark Klein has very effectively led the bank for over four years, and the Board of Directors of Rurban, after careful consideration, have appointed Mark Klein as my successor. I will be available for the remainder of 2010 on a consulting basis.

I'll take a few minutes here to comment on the most recent quarter and our decision to spend the dividend. The loss for the quarter and for the year was largely driven by the build in reserve which was 3.5 million for the quarter and 5.7 million for the year. We have taken what we currently view as an adequate reserve build to offset the potential losses from the new non-performing assets which we added at year end.

The true amount of the loss will not be clear until we dispose of those assets, which should be by the end of the second quarter. If the assets are not disposed of by then, we will at least have identified any potential loss and fully reserved it. At this time, I do not see the potential loss in these credits as exceeding our ability to cover those losses with net incomes. So earnings for the next quarter will be at risk.

We have not seen additional credits come onto the table having these problem characteristics, but of course, that is an unknown element and affected by the economic environment. These two credit relationships were in the TVR category for the third quarter and quickly deteriorated.

We have suspended the dividend effective as of the first quarter of 2010 to reflect the loss of revenue and net income. It is prudent at this time to suspend our dividend payments and preserve capital over the next two quarters, as we assess the impact of these problem credits. We can then make a reasonable and informed decision to bring back an appropriate level of dividend for the third quarter, assuming that circumstances allow us to do so.

We are simply sharing with you our best view of our thinking, [knowing] it can change and it is subject to changing circumstances. We'll update you on that picture on a quarterly basis. As some additional information, we will be sharing the pain of the income decline, as well as our shareholders', as the Company has restricted its merit increases and discretionary benefits.

I also want to touch on another peculiar event that occurred in this last fourth quarter, the mortgage fraud loss. This loss resulted in a 1.15 million of additional loan loss provision for the quarter. State Bank and Trust is working with its legal advisors and intends to pursue all available legal remedies.

I will now turn this webcast over to Mark Klein, President and CEO of Rurban and the State Bank and Trust Company. Mark will give you some more details on asset quality, the specifics of our banking progress, strategic implementation and our tactical efforts to grow the banking franchise and improve core profitability. Mark?

Thank you, Ken, and good afternoon. Our quarterly net income was a loss of 577,000, contributing to 2009 year-to-date net income for the Banking segment of 2.05 million. The primary contributors to our decline in income was an unusually high loan loss provision of 5.74 million, 20.3 million of assets in non-performing status, expenses related to the loan losses and collection efforts, increased FDIC insurance expense, and the fraud-related residential mortgage closings in the Fort Wayne, Indiana, region that Ken just summarized.

Positive trends hidden in these adverse results are our continued commercial loan growth, organic core deposit growth that helped produce a high and stable net interest margin, strong growth in the mortgage banking sector and resulting loan sale gains, an increasingly successfully referral program and newly identified expense reductions.

I'll start with asset quality considerations, as our loan loss provision of 5.74 million for 2009 reflects the overall general economic contraction, systemic portfolio stress in the residential real estate sector, and the identification of impairment of several larger commercial credits. While we feel we have adequately reserved for these credits based on historical methodology and general market conditions, ultimately, the resulting collateral liquidation, as well as borrower support will determine our position, as Ken had discussed.

At the end of 2008, our non-performing assets stood at 6.59 million. At year end 2009, the non-performing assets represent over 20.3 million for a $13.7 million increase over the prior year. We are diligently working these non-performing assets off our balance sheet with the intent to minimize their potential impact.

Loan growth for 2009 was a modest 2.5 million year-over-year. However, with this modest growth, there were a number of significant positive trends. Commercial loans grew by 17.8 million despite our increasing scrutiny and more cautious lending standard.

We continued to attract more solid credits as regional banks continued to deleverage. While our regional real estate loan portfolio contracted in 2009 due to refinances, this was largely offset by loans held for sale increasing by 13 million, reflecting our growing mortgage banking operation.

Leading our improvement in the overall production of non-interest income was the production of stable residential real estate loans. Our production for 2008 was 38 million. For 2009, we produced over 238 million. Supporting our position to acquire market share is our percentage of outstanding refinancings and purchased money loans. Of the 237 million in residential real estate loans produced in 2009, 83% were new money.

Over 115 million were the result of financing competitors' loans, while over 62 million resulted from the new home purchases. Likewise, our servicing portfolio expanded from 71 million in 2008 to 200 million in 2009, for an increase of 137 million.

We continued to develop our newer surrounding regions as a key strategy to grow our balance sheet and improve our non-interest income while diversifying our portfolio. Our strategy to leverage our geographic diversification has been successful. Our (inaudible) region grew 5.3 million, Fort Wayne, 3.6 million. Our newer market, Columbus, Ohio, accounted for $19 million in portfolio loans in 2009.

Growth in our core -- lower cost deposits continues to be the [impetus] to a stable net interest margin. Our core deposits increased from 242 million at year end 2008 to 274.7 million in 2009, for an increase of 32.7 million, a 13.5% increase. This growth, coupled with our strategy to price non-core deposits at the margin, allowed us to drive overall deposit costs down to 1.08% at year end.

The stable to declining global rate environment accompanying our less sensitive-asset pool produced positive results. Consequently, our net interest margin expanded from 3.80 at 2008 year end to 4% for the bank for 2009. Driving our results is our insatiable desire to continue to attract every demand deposit account. We have moved from a net decrease in DDA accounts to a net increase of 920 DDA accounts in 2009.

Energy and our retail delivery process continues to provide the tools for building lower cost core funding and the resulting stable interest margin.

The path to working interdependently initiated in 2007 continues to widen. In 2008, we had gross referrals of 1,330 with 410 closed, reflecting year-over-year increases of 42%. Momentum in 2009 continued. We gave each other 2,242 referrals and closed 1,050 for a three-year high closing rate of 46.8%, resulting in over $86 million in referred business. Specifically, departmental referrals, commitments, continued to propel related departments to a higher level of success.

In the fourth quarter of 2009, we initiated an expense reduction program targeting 1.2 million of pretax savings. Capturing these savings is particularly year critical, as the bank and the holding company gain independence and lose past profitability from RDSI. Going forward, we continue to identify and implement strategies to lower non-interest expenses.

The positive trends I just discussed could easily get lost in the adverse economic conditions, but we remain enthusiastic for improvement and affirm to our shareholders that we remain committed to passionately pursue improved performance in 2010. Certainly, as we move to become independent with the spin-off of RDSI, it is with optimism, as we view our challenges as opportunities.

Finally, we wish Ken, Duane and the entire RDSI team much success in 2010 and beyond, as they begin to introduce the next generation of software single-source.

Ken, back to you.

Well, thank you, Mark, and congratulations on your continuing progress in improving the core banking operations and profitability, despite the current asset quality problems we're facing.

I'll make a few comments here relative to RDSI before passing the webcast over to Duane Sinn for some expanded financial information. RDSI and the New Core staff continued to be very busy and productive over the past quarter. The spin-off and merger were disclosed in substantial detail through the initial Form 10 I previously discussed. We received this morning the first round of comments from the SEC. We will be answering those comments and providing a modified Form 10 within a limited amount of time. The updated Form 10 will be disclosed by an 8K filing, so you should watch for that disclosure.

RDSI is working to convert State Bank and Trust to the New Core banking system and we anticipate that conversion to take place in February. Implementing the conversion has taken us longer than anticipated because of a number of complexities that are being introduced for the first time in a software version being installed in State Bank. It should be noted that New Core has crossed over the one-year anniversary of the first installation of the single-source software in a $300 million bank and that bank continues to choose the software and is satisfied that it's meeting its needs.

We are not accepting any contracts from our client banks until we've had a successful conversion of State Bank and Trust, and they have had the opportunity to view that conversion. We have certainly lost banks to our competition, as we have released all of our clients' banks from their contracts. We have received notice from 23 of our 70-plus banks that they will be deconverting to other software providers.

We continue to have a loyal following based upon the merits of the new software, but that loyalty is primarily based upon RDSI's 40-year history of providing outstanding service and our commitment to making our clients our first concern. This is not always the same value proposition for many of our competitors.

We see this as the largest launch of a new core banking system in the last 15 to 20 years, and I could clearly spend much more time on the RDSI story, but our time is limited in this webcast. We expect this to be a successful launch and the end result will be a release of the [inherent] value of RDSI to our shareholders over the next few years.

I'll now turn the webcast over to Duane Sinn, Rurban's Chief Financial Officer, who will discuss the financial information of our two business segments in greater detail and give you some additional color on some key financial areas. Duane?

Thank you, Ken, and good afternoon. The fourth quarter continued to be difficult for Rurban Financial Corp. as we recorded elevated levels of provisions. We also continued to record costs associated with the planned spin-off of our data processing company, RDSI. The costs associated with RDSI will flow substantially as we get through the first quarter.

Despite these very difficult times within the banking environment, Rurban continues to work diligently on improving core earnings. A reflection of that is the $1.2 million identified in the fourth quarter by management to improve the banking segment's earnings.

In general for the quarter, we continued to take a larger loan loss provision to build the balances within the allowance for loan loss due to several troubled debt restructured loans deteriorating and transitioning to non-performing assets, and the addition of one additional commercial rate -- commercial real estate loan totaling 3.3 million and continued residential real estate foreclosures.

Our loan loss provision expense totaled $3.5 million, up significantly from the 898,000 in the third quarter of 2009 and up from the 138,000 reported in the fourth quarter of 2008. Our allowance for loan loss totaled $7 million or 1.55% of total loans at December 31st, 2009, compared to 5.9 or 1.32% of loans on December 31st, 2008.

Net charge-offs for 2009 totaled 3.8 million or an annualized 84 basis points of average loans. Approximately 1 million of the 3.5 million in charge-offs during the fourth quarter was attributable to one specific credit which had been previously reserved for and required no additional reserve in the quarter. The remaining charge-offs were due to several smaller loan relationships.

Management continues the process for analyzing the loan portfolio and made decisions to continue to allocate additional resources to work on past due and non-performing loans, taking aggressive actions designed to mitigate losses.

Included within the $3.5 million in charge-offs during the quarter was a mortgage fraud charge of 1.15 million. Ken has provided you the background on that event.

Some detail in the mix of credits of 10 to $20.3 million in non-performing assets is as follows. 4 million or 20% are commercial C&I loans; 11.2 million or 55% are commercial real estate loans; 4.3 million or 21% are residential real estate loans; and approximately 814,000 or 4% are consumer-related credits.

The challenge that all financial institutions face within the next 12 months within the asset quality world is finding buyers of distressed assets. This likely will result in banks, including us, reporting elevated level of non-performing assets for an extended period of time, as we work to liquidate and litigate these problem assets. The loan balances in troubled debt restructured credits decreased to 1.3 million at year end, compared to 6.9 at September 30th, 2009.

Transitioning to the balance sheet, total assets at December 31st, 2009, were $673 million, an increase from the 657.6 million reported at December 31st, 2008. Loans increased 2.4 million during the year. Loans held for sale increased by $13 million year-over-year. The majority of the loans held for sale were delivered in early January of 2010 and this is a reflection of our increase in production of mortgage loans.

During 2009, commercial loans grew $17.8 million, while residential loans decreased 15 million. While balance sheet changes were minimal, management spent considerable time moving the balance sheet $57 million towards a more asset-sensitive position during 2009. This positioned the balance sheet to take advantage of the next increase in interest rates.

Total deposits were 491.2 million at year end compared to 484.2 million at the end of 2008. We have discussed previously the transition of funds to core transaction accounts from time sensitive accounts. This is best illustrated by a $32.7 million or 13.5% increase in core transaction accounts during the year.

With funding rates at historical lows, we will focus our future attention to the asset side of the balance sheet. We started this process late in 2009 by [selling] $10 million in long-term investments.

Total capital was 61.7 million at year end. While we have not yet finished our final calculation of regulatory capital ratios, our estimates reflect the corporation's tier one leverage ratio and total risk-based capital ratios at 8.4% and 12.6% respectively, well above the regulatory minimums of 5 and 10%. Our estimate is that both ratios will decline by approximately 110 basis points after the spin-off of RDSI. These ratios will remain strong after the spin-out and well above the regulatory requirements.

I will now spend a few minutes on the income statement. Net income for the fourth quarter was a loss of 1.9 million or $0.39 per share. Items that impacted the fourth quarter included the loan loss provision of 3.5 million, legal and accounting fees of 486,000 associated with the anticipated spin-off of RDSI, accelerated amortization of the ITI software which totaled 659,000, and a $442,000 increase in operating expenses at RDSI associated with the increased staffing and related costs for the conversion of clients to the single-source system.

Providing additional details of these overhead charges, legal and accounting fees were directly associated with the preparation of the SEC document that was filed in late December. We expect a continuation of these fees during the first quarter, although at a reduced level, as we currently are responding to the SEC comments related to the document.

The accelerated amortization is related to an accounting change in the estimated useful life of the ITI software that remains on the RDSI books. On July 28th, 2009, RDSI entered into an agreement with Fiserv to terminate the use of the ITI software effective December 31st, 2010. As a result of this agreement, RDSI has tested this long-lived asset for impairment. Test results illustrate that the asset is currently not impaired. However, due to the change in the useful life of the asset, the amortization has been significantly increased.

RDSI will continue to test this asset for impairment on a quarterly basis and write down this asset if necessary. Although there is an impact to the income statement as a result of the accelerated amortization, there is no impact to cash flow. Additional costs of 442,000 at RDSI is a direct result of hiring 15 full-time equivalent employees that are focused on upcoming single-source conversions. As we proceed through the first quarter, we will have a clearer picture of the conversion calendar and address the operating expenses accordingly at RDSI.

In closing, I would like to point to the future and the underlying earnings of the organization. Certainly, underneath our asset quality issues, and the cost to spin out RDSI, are very encouraging and a solid base of core earnings that we continue to focus on improving. We have a very nice margin at 4%. We have a mortgage banking operation that closed in excess of 200 million in production in 2009. We have an improving trust fee income and we have identified $1.2 million in improvements within our Banking segment.

We must continue to take a long-term view of our operation and focus on the future.

At this time, I'll turn the discussion back to Ken to provide closing comments and observations. Ken?

All right. Well, thank you, Duane. Valda, I'm going to turn this webcast back to you to determine if we have any questions from our investment community.

Thank you, Ken. It's now time for the question-and-answer session. If you are using a speaker phone, please pick up the handset before pressing any numbers and unmute your phone. If you have a question, we would like you to press star-one on your telephone. That's star-one if you have a question, and if for some reason, someone asks the question you would like to, and you need to withdraw your question, press star-two.

So again, if you have a question, please press star-one on the telephone and we'll take the questions in the order they are received. We'll stand by for just a few moments to see if there are any questions.

While we are waiting, I would like to remind everyone that today's webcast will be available on our website at www.RurbanFinancial.net until February 18th, 2010.

Okay. We don't have any questions in the queue today, so I'm going to turn the call back to -- oh, we have one question in the queue.

(Inaudible) question from John [Deisher].

Hi, you do have one question here.

Yes, John, go ahead.

Ken, good afternoon. The fraud case, the mortgage fraud, any time you hear that word "fraud," it's cause for concern. So I'm just wondering if you could spend a couple of minutes just kind of outlining how that occurred and how you plan to pursue that going forward.

Sure. It's a very unusual case, John. I've been involved with mortgage banking for a long time, actually ran a national mortgage banking company for a long period of time. Haven't seen the kind of fraud that that particular one was, although I have just recently learned that there was a precedent case in Columbus.

Basically, what happens is loans get closed in the title company and you get an insured closing letter, and that has always been taken with great faith and the end result is that the money is sent. And typically, the mortgages behind that closing that you're paying off are indeed paid off.

In this case, there was fraud within the title company, as we see it, and I think it's been all identified, and there were a good number of banks involved actually who were apparently taken advantage of here. And that loss is well defined and we've taken the entire amount.

And going forward, we have enhanced our controls, but that entire system is based upon that insured closing letter. And we believe that we will eventually prevail and precedent says that we will indeed prevail.

Do you have insurance in the case that's not the case?

We have insurance. We've made notice to our insurer of the nature of what has gone on here and put them on notice, assuming that we're not successful with our litigation claims.

Okay. Who is the defendant in this case then?

Well, I'm not able to disclose that at this point. Probably in the course of next week, the suits will be filed and that will all be public information.

Okay. It is a title company though, you say?

Yes.

Okay, fair enough. And on the spin-off, what's the -- assuming you get through the SEC comments with no trouble --

Um-hum.

-- that spin-off should occur -- I can't recall. Did you say first quarter or second quarter?

We're anticipating getting it done by the end of the first quarter. If you give any slippage to it, it's probably no more than 30 days.

Okay. So by mid-second quarter at the latest probably?

At the latest, yes.

Okay, very good. Good luck.

Okay. All right. Thanks, John.

All right, Valda. I see there are no additional questions. So I'm going to thank everyone on the line for taking the time for listening to this update and thank you very much. Bye, now.

And all parties may now disconnect.