SB Financial Group Inc (SBFG) 2011 Q3 法說會逐字稿

Good afternoon, and welcome, ladies and gentlemen, to the Rurban Financial Corp. third-quarter 2011 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 the conference up to investment community for question and answers following the presentation. I will now turn the conference over to Linda Sickmiller, Investor Relations. Please go ahead, Linda.

Good afternoon, everyone, I would like to remind you again that this conference call is being broadcast live over the Internet and will also be archived and available on our website, www.RurbanFinancial.net, until November 25, 2011. Joining me today are Mark Klein, President and Chief Executive Officer; Tony Cosentino, Chief Financial Officer; and Jon Gathman, Executive Vice President and Senior Lending Officer.

This call may contain forward-looking statements regarding Rurban's financial performance, anticipated plans, operational results and objectives. Forward-looking statements are based on management's expectations and are subject to a number of risks and uncertainties that could cause actual results to differ materially from those expressed or implied in our webcast today.

We have identified a number of different factors within the forward-looking statement at the end of our earnings release and you are encouraged to review those factors. Rurban undertakes no obligation to update any forward-looking statement except as required by law after the date of this call. I will now turn the call over to Mark Klein.

Thank you, Linda, and good afternoon, everyone. Welcome to Rurban Financial Corp.'s conference call to discuss third-quarter results. Earnings were provided in a press release made public Wednesday, October 26 and posted to our website via our 8-K filing.

First let me say that we are pleased with the progress we are making streamlining our businesses and improving our bottom line. We reported $602,000 of net income this quarter. And you might be a bit disappointed if you compare it to the second-quarter net income of $777,000. But I want to point out that this is clean re-occurring income with virtually no core items to provide a one-time boost or, as happened too often, a one-time charge against earnings.

By comparison after one-time gains are netted out core earnings for the second quarter were just $20,000. So for this reason and many others we are pleased with third-quarter results and plan to build on this performance going forward.

We plan to raise the bar each quarter as we continue to seek out greater efficiencies from our operations, higher revenues from our bank and non-bank businesses and asset quality strong enough to mitigate enterprise risk, but with enough flexibility so we can respond to market opportunities.

I would like to report that our local economy has turned the corner and everything is rosy, but this is the Midwest and we've been slower to respond than many areas of the country. But then again, conditions did not deteriorate to the same extent as in some areas like the Southeast. Improvement in our local and regional economies remains uneven.

For the majority of our seven county Northwest Ohio footprint leading indicators are higher than year ago levels, but moving slowly. Automotive and related manufacturing operations are showing signs of life. Local unemployment declined below 9% barrier and stands just below the state and federal level which is currently over 9%.

Lower nominal interest rates have encouraged some borrowing activity, albeit at a level that barely replaces loan runoff. However, we don't plan to pursue growth for growth's sake. Instead we see a greater need to manage our balance sheet more conservatively and to control expenses.

In light of these constraints we still remain strongly committed to building quality business relationships. Our business development efforts are directed toward the expansion of existing relationships and building new ones with a clear focus on quality.

As we discussed in our earnings release, core earnings growth has only recently begun to materialize, but initiatives have been in progress for a number of quarters to reduce operating expenses, expand revenue from a variety of sources and improve asset quality. This is the first quarter where all of these initiatives have come together working favorably to yield positive results.

Most of the major charges related to RDSI restructuring were taken in 2010. So we've been fairly clean for 2011 nine-month period, except for a $2.2 million gain in the June quarter primarily from sale -- gain on sale of investment securities. During 2011 core earnings improved from $77,000 in the March quarter to $620,000 for the recent September quarter.

Our run rate for total core revenue has been steady for the past three quarters in the neighborhood of $8 million per quarter, while the dial for operating expenses has begun moving ever so slowly down approximately 3.5% from the March quarter to $6.8 million.

In terms of the loan loss provision, we are making great progress reducing our non-performing assets and the overall quality of our portfolio continues to improve. So we've needed to provide a lesser amount each quarter for loan losses. For third quarter that was $300,000 compared to $900,000 for both the linked and year ago quarters.

Reduction of operating expenses at RDSI has been a major focus during 2011. We have just about neutralized the impact of losing approximately $4.5 million of data processing revenue each quarter primarily by reducing expenses at RDSI by a like amount.

RDSI is still running at a pre-tax loss of approximately $180,000 for the third quarter. Now that RDSI's revenue has stabilized we plan to address this deficit in the upcoming quarter with further expense reductions. We hope to finalize RDSI's structure by year end.

RDSI remains under regulatory oversight which has certainly limited our ability to market our services to new clients. However, this has not interfered with the quality of services we provide to existing clients. And since the departure of our data processing business, our client base has remained remarkably stable.

Since year-end 2010 we've lost only two clients, one of which was acquired by another bank. We continue to communicate regularly with each of our clients to ensure a high level of customer satisfaction.

Despite the loss of RDSI's data processing fee income we are still generating approximately one-third of our revenues from a variety of revenue sources -- trust, mortgage banking, item processing and customer service fees, sources other than loan income. There aren't many banks our size that can claim this degree of diversification.

Yes, we've certainly miss the data processing fee income which in its heyday was over $5 million per quarter compared to $743,000 this quarter. But we recognize that the level of revenue per se is not what really matters, it's clearly what we bring to the bottom-line that counts.

Although RDSI may have generated over $5 million of fee the income a quarter, Rurban's quarterly net income never reached $1.5 million; Rurban is already generating $620,000 of core earnings and we have the opportunity for significant upside improvements in the near future.

Mortgage banking has become an increasingly important piece of our business model for two reasons -- first and foremost, the income; secondly, it produces and provides access to an entirely new group of customers. We have had tremendous growth in the mortgage servicing portfolio over the last three years. It now stands at $370 million, up $300 million just since 2008.

Since we retain servicing we are in a position to constantly remind our customers who we are and we continue to aggressively cross sell. We have loan originators on the ground throughout Northeast Indiana and Northwest Ohio. In addition, we maintain a professional team of originators in the Columbus, Ohio market where we have consistently been among the Columbus market leaders in mortgage production.

Net mortgage banking revenue was $1.4 million for the first nine months of 2011, down 37% from the $2.26 million generated the first nine months of 2010. Loan originations rebounded this quarter, but year-to-date loan sales declined by 20% and gains on sale reduced proportionately.

Although we had a larger portfolio of mortgages to service, we generated a higher level of fee income. The amortization rate increased disproportionately while the value of previously booked servicing rights declined in response to the continuing decline in mortgage rates. Since there is very little room for further rate reductions we are hopeful the valuations will stabilize soon.

A lot also depends on the improving health of the housing market and for this we need to see a return of original buyers. Currently 50% of our loans we provide are for the purchase of new homes and 50% for the refinancing with a significant number of new customers from both pools. Our expectations remain high for this line of business. The cross sell opportunities alone make mortgage banking an exceptionally attractive business.

We have recently produced a new product design for our high net worth clients -- adjustable rate jumbo mortgage loans for which we will retain in our own portfolio. In fact, this past quarter we booked over $6 million in this new mortgage product.

Wealth management services are provided by Reliance Financial, a division of State Bank & Trust. They provide a steady stream of revenue and a customer base with excellent demographics for whom we are developing new products such as our jumbo mortgage loans.

Year-to-date fee income was nearly $2 million, up 5.7% from 2010. But the vagaries of the stock market have made life difficult for Reliance and their assets under management declined 11.3% year-to-date to $289 million.

Net interest income has benefited from improvements in our funding mix which have offset lower yield and lower volume of average earning assets. Much of this improvement was a result of our second-quarter balance sheet deleveraging which contributed to our stellar third-quarter net interest margin of 3.98%.

Our deposit gathering activities continue to bear fruit. We benefited from the flight to FDIC protected financial institutions and community banks have gained a disproportionate share of deposits as a result of our lower risk profiles compared to some larger banks. We are now entrusted in our communities and as a result we continue to grow our share of market deposits.

At September 30, 2011 total deposits were $514 million, a decline of 1.5% year over year. This is consistent with our reduced funding needs through balance sheet deleveraging and slower loan growth. More importantly, our quarterly cost of deposits improved by 22 basis points year over year and as of the third quarter 2011 the average cost of deposits was 76 basis points.

Overall we've moved ahead three notches in this pantheon of Ohio banks to 34, up from 37 last year. In particular our share of the Toledo market has improved dramatically. We moved up two positions in Wood and one in Fulton County and now command the number five position in those two counties.

I think this is a good place to mention our newest director, Mr. Zac Isaac. I've known Zac and the Isaac's family for my entire banking career and our professional relationship has spanned several decades. Zac is a longtime resident of the Toledo area who has been the leader in real estate development in and around the Toledo market.

We welcome him for his exceptional business acumen as well as his financial and legal expertise. These qualities make him a perfect fit for our bank and holding company Boards. I'm confident that Zac's participation in the development of our Toledo region advisory board soon will prove invaluable, helping us to make even greater inroads in this important market.

Loan growth has been modest despite a structured calling program supplemented by periodic sales market blitzes. Year-to-date loan growth was 2.7% or 3.6% annualized with the greatest gains in commercial real estate and, to a lesser extent, C&I loans. The Defiance region, Columbus and Fulton counties stand out in terms of commercial loan generation year-to-date.

Non-interest expense reductions reflect initiatives to improve our overall efficiency. Savings over the past year relate primarily to the downsizing of RDSI and, to a lesser extent, efficiency initiatives at the Bank. Of the $8.1 million decline in non-interest expense year-to-date, RDSI accounts for approximately $6.5 million of that number.

Asset quality continues to improve. Substantial declines in non-performing assets from both the linked-quarter as well as the year ago quarter reflect not only our commitment to credit quality but the entire credit process. Marketing, underwriting, credit review and ongoing administration and this approach is yielding results.

To further reinforce our focus on quality we are implementing a comprehensive conversion to the Baker Hill client relationship management program, a highly regarded system that will help us detect signs of weakness within our portfolio and allow us to move much more proactively.

This quarter should provide evidence of our continued improvement performance. I will now turn the call over to our CFO, Tony Cosentino, for a more in-depth look at our progress this quarter. Tony?

Thanks, Mark. Good afternoon, it's a pleasure to speak with everyone today. Following a decent second quarter our third-quarter earnings performance showed further evidence of a returning to health of our Company.

We saw significant mortgage origination volume, much lower charge-off levels and improving expense trends. Earnings at $602,000 or $0.12 per share were solid. And taking into account the valuation adjustment on our mortgage servicing rights, we feel that our run rate earnings are poised for even further improvement.

Year-to-date net income of $1.4 million or $0.29 per share is a $10.4 million improvement from the losses incurred through nine months of 2010. Asset quality continues to trend in a strongly positive direction and we have now reduced non-performing assets in six of the last seven quarters. Year-to-date we have added just $1.8 million in new non-performing loans, almost all of which have been residential real estate.

We continue to have three large relationships that dominate problem assets. These large relationships, which are all in excess of $1 million, now total 54% of our total. We continue to work our way through these credits via asset sales and litigation and we feel very good about our valuations and anticipate continuing to reduce our exposure in the ensuing quarters.

Charge-offs for the quarter were at an annualized rate of 46 basis points, which is the lowest quarterly level since the second quarter of 2009. Our loan-loss reserve of 1.42% now covers non-performing loans at 85%, which is up from the 64% in the third quarter of 2010.

Our mortgage banking business came back significantly during the quarter with volume on par with third quarter of 2010, which, as you may recall, still had the remnants of the government tax incentive program. In addition to the originations we were able to sell $56 million in loans and realize gains on sale of $1.1 million.

Obviously the decline in mortgage rates during the quarter brought a number of customers to the mortgage market. However, that rate decline did impact the valuation of our mortgage servicing rights.

We incurred a negative valuation adjustment of $771,000 in the quarter. The market valuation of the portfolio is now 73 basis points which is down approximately 20 basis points from last quarter. The weighted average coupon of our portfolio is 4.52% with 78% of the $370 million portfolio priced below 5%. We have had tremendous growth in this portfolio as it was below $70 million just three years ago.

Total non-performing assets ended the quarter at $9.3 million which is down $2.8 million or 23% from the prior year. All of this improvement has occurred with non-performing loans as other real estate balances have stayed level at approximately $1.9 million. Our levels of troubled debt restructurings that are not considered non-performing are also very low. As a percentage of total loans TDRs of $1.3 million is just 0.3% and these TDRs, which consist primarily of real estate-related credits, are up only $81,000 from September 2010.

Total classified loans are also much improved from prior year. Total classified loans now stand at $27.2 million or 6.2% of total loans. This compares favorably with September of 2010 when total classified were at $35 million or 8.2% of total loans. As a percentage classified loans to Tier 1 capital in our loan-loss allowance is now 50%.

Loan delinquencies have also continued their improvement. At September 30, total loan delinquencies were 1.46% which are down over 100 basis points from the 2.54% level that existed at September of last year. This improvement has been especially prevalent among our delinquent customers past due less than 90 days. Currently 11% of our total of $6.8 million in delinquency is past due 30 to 89 days. This compares with 25% of our $11.5 million in delinquency from 30 to 89 days that existed a year ago.

On the revenue side net interest income continued its upward growth trend and fee income is stabilizing following the loss of data processing income from RDSI. We were especially pleased with our tax equivalent net interest margin of 3.98% which is up 32 basis points since the prior year.

This quarter we realized the full impact of the balance sheet deleveraging completed late in the second quarter. The 46 basis point decline in the cost of interest-bearing liabilities year to date more than offset a 34 basis point decline in earning asset yield and a small decline in average earning assets.

Fee income has been significantly impacted by the client base reductions of RDSI. Of our core non-interest income year-to-date reduction of $7.1 million RDSI is responsible for $6.2 million of that decline. The remaining shortfall from the prior year is driven by lower mortgage banking income and lower sales of non-mortgage loan products. Absent a large valuation adjustment this quarter fee income for the third quarter has stabilized to the prior quarter.

In response to revenue challenges in 2011, we have spent considerable time and effort to reduce operating expenses. Year-to-date core operating expenses are down $8.1 million or 28% and we feel our efforts undertaken thus far will continue to positively impact operating metrics. We have improved the core operating efficiency ratio for the third quarter to 83.1% which is down from 87.8% for the 2010 third quarter.

Company-wide full-time equivalent headcount is down 13 and 42 from the linked and year ago third quarters respectfully. From the linked quarter core operating expenses are down in excess of $500,000. We saw improvement in legal and loan collection expenses and a pickup from the change in FDIC expense.

The Company's balance sheet continued to improve as we have realized all of the structural changes from the leveraging this quarter. Loans now make up 70% of total assets which is much improved over the 62% ratio the year earlier. Our balance sheet remains well diversified as no one single major loan category exceeds 37% of total loans. Capital ratios for our banking subsidiary are back in line with our expectations after the loan losses in 2010.

Our Tier 1 capital ratio of 7.95% is up over 100 basis points from December and the total risk-based capital ratio is just short of 12%. Tangible equity to tangible assets is also up from December 31 by 59 basis points, an improvement of 14%.

Mark and I are certainly pleased that our initiatives to improve asset quality, reduce expenses and to deleverage the balance sheet had an impact on earnings this quarter. We expect to build upon our momentum and finish 2011 with strong results. So with that let me turn the presentation back over to Mark for some further comments. Mark?

Thank you, Tony. Nice work. As you can see, we continue to build momentum on a number of fronts and remain optimistic on our opportunities in each of our business lines and our distinctly diverse geographic markets. Linda, I'll turn the webcast back over to you if our investment community has any questions.

Thank you very much, Mark. It's now time for the question-and-answer session.

(Operator Instructions). We will take a few -- the questions in the order that they are received. We'll stand by for just a few moments. And while we're waiting to see if we have any questions from the investor community, I'd like to remind you that today's webcast will be accessible on our website at www.RurbanFinancial.net until November 25, 2011.