SmartFinancial Inc (SMBK) 2017 Q4 法說會逐字稿

Good morning, and welcome to the SmartFinancial Fourth Quarter 2017 Earnings Call. (Operator Instructions) Please note, this event is being recorded.

I'd now like to turn the conference over to Frank Hughes. Please go ahead, sir.

Thank you, Keith. Good morning, and thank you for joining us today on the fourth quarter 2017 earnings call. With me this morning are Miller Welborn, Chairman of SmartFinancial, Inc.; Billy Carroll, President and CEO; and Bryan Johnson, our Chief Financial Officer. After our prepared remarks, we will then take questions. Yesterday evening, we issued an earnings release discussing our fourth quarter results. We have also prepared a slide presentation, which we will refer to during our remarks this morning. Both of these can be found on our website at www.smartbank.com, in the Investor Relations section.

During today's call, we may make forward-looking statements, which are subject to risks and uncertainties, and are intended to be covered by the Safe Harbor provisions of the Federal Securities Law. Actual results and trends could differ materially from those set forth in such statements due to various risks, uncertainties and other factors. More detailed information about these and other risk factors can be found in our press release that preceded this call, and in the Risk Factors in Forward-looking Statements sections of our annual report on Form 10-K. Statements are valid only for today's date, and the company disclaims any obligation to update this information, except maybe required by applicable law. Additionally, today's presentation contains non-GAAP financial measures. The reconcilements of such measures to most -- to the most comparable GAAP figures are included in our earnings press release at the end of our earnings call presentation. Please also note, this event is being recorded.

I will now turn the call over to our Chairman of the Board, Miller Welborn. Miller?

Thanks, Frank. Good morning to everyone, and thanks for joining our call this morning. Wow, it's been one heck of a year, and we just finished one very strong year for SmartFinancial and SmartBank. A couple of highlights for us.

We did have a successful capital raise in January of '17 that was very oversubscribed. We closed on a branch acquisition and conversion in Cleveland, Tennessee, that we acquired from ACBI. We announced and closed the acquisition of Capstone Bank in Tuscaloosa. We announced the acquisition of Southern Community Bank in Middle Tennessee. We were added to the Russell Index mid-year 2017. And folks, that's a mighty busy year for any bank. Our Board couldn't be more proud of the job that Billy and his team have done over the last 12 months. I'm going to led Billy speak in a minute about the details of our fourth quarter and where we are trending. But I honestly believe that, from a macro point of view, we are very well positioned and had an excellent fourth quarter and full year 2017.

Our entire team is to be commended for their work and efforts. And now it appears our plan is coming together and it will be nice to see some of the fruits of our labor.

Now I'll turn it over to Billy Carroll to dig in to specifics of our results. Billy?

Thank you, Miller.

I'm going to begin this morning with highlights for the quarter and the year. And then, I'm going to turn it over to Bryan to review the financial results in greater detail. After which, I will wrap up and give you some color on what we expect as we move into 2018.

Overall, we had an outstanding quarter and feel extremely good on where the bank is positioned today. Obviously, the fourth quarter results were impacted by a couple of large items on the income statement. While we were very excited to see the passing of the Tax Reform Legislation, it did require us to revalue our deferred tax asset and resulted in us showing an additional $2.5 million in tax expense for the quarter. While a noncash item, it still impacted EPS for Q4.

And then also, with the lowering of the corporate tax rate in 2018, we expensed as much as we could relating to the Capstone Bancshares acquisition in this last quarter of the year. This resulted in an additional $1.7 million in pretax non-deferred merger expense for the quarter. So we'll focus on the core earnings components and the non-GAAP metrics during the call to discuss our trends.

We'll also spend a little more time on the call today than usual, to dive deeper into the numbers, as that we've got several additional moving parts with the Capstone numbers merging in, in this last quarter.

All of that said, our story and our corresponding financial metrics are moving along very well, if not better than expected. I would start, if you look at the slide deck that we set out, if you look at on Slides 4 and 5, let's start there. For anyone relatively new to our story, the big change this quarter was the pickup of Tuscaloosa, Alabama based Capstone Bancshares and Capstone Bank. This increased -- increases our assets to over $1.7 billion and moves our branch count to 22, as we enter the Alabama market.

Additional highlights for the quarter, in addition to Capstone assets, our team organically added $83 million in loan production during the quarter. Core net interest margin continued to hold well. I'm going to let Bryan delve into the specifics, during his comments about accretion. But core margin increased quarter-to-quarter, which we felt was great during this competitive time.

Efficiency ratio improved and improved quite a bit on a core operating front, as we continue to be on pace, as we look toward consistently getting into the mid to low-60s. Core ROA and EPS were on target, as we move toward our 1% ROA goal and into the low to mid-30s on earnings per share.

And credit quality continues to be very strong, with nonperforming assets-to-assets at 0.29%.

Turning to Slide 6. You can see a summary of our key metrics for the last 5 quarters. Our core ROA moved up as anticipated, as did our net interest income to assets. There's some accretion impact that, as I mentioned earlier, that Bryan will review, but the core trend is still up as well.

Noninterest income trend was stable. But we've also made some changes to our residential lending operations with the acquisition of Capstone that, I believe, will show improvement to this metric even more so in the coming quarters.

Noninterest expense was up for the quarter due in part to moving the majority of the Capstone merger expenses into Q4. We'll probably have some small expenses related to the merger in Q1, but they should be very minimal.

As you can see, our overall trends look good. We will shake out the remainder of the Capstone integration in the first quarter, and should have our cost saves in place by Q2 of this year.

Those cost saves appear today to be right in line with our projections, and some would say they're actually coming a little quicker than anticipated, as some operating staff attrition is happening faster than we thought.

Overall, I feel extremely good about the trend lines of our company. So I'll stop now, turn it over to Bryan, and let him jump into the financials and little bit deeper detail.

Thanks, Billy, and good morning to everyone.

As Billy said, we're very pleased with the results of our operations in the fourth quarter of 2017.

There's quite a bit of activity in the quarter, and much of it was non-recurring in nature. So while I'll spend some time not just talking about results in the rearview mirror, but also what we're seeing looking forward into 2018.

Let me begin by turning to Slide #7, which is the earnings profile for the quarter.

Our pretax income for the quarter was $3.9 million compared to $2.6 million a year ago, an increase of over 50%. Key driver for the improvement was growth in net interest income by 55%.

Noninterest income was also up over 66% for the same period, which had a positive impact as well. We did have a 56% increase in non-interest expense year-to-year, but that did include $1.7 million in merger-related expenses in the fourth quarter of 2017.

If you backed out the merger expenses last quarter, year-over-year increase in noninterest expense was about 35%.

As Billy mentioned, taxes were elevated due to the revaluation of our deferred tax asset at $2.5 million. That was a one-time impact, but going forward under the new tax law we expect our effective tax rate to be approximately 26%.

Turning next to Slide 8. Net interest income, which I am probably going to spend the most time on any slide in this deck, because I know there will be quite a bit of interest in it.

Net interest income was $15.3 million compared to $9.8 million a year ago. Key drivers in the growth were increases in our loan balances and higher yields on both our loans and securities portfolio, which, if you look at our earning asset yields, you'll see they are up 70 basis points year-to-year.

Prior to the Capstone acquisition, the positive impact of our purchase accounting adjustments to our margin was typically 20 or 30 basis points. In the fourth quarter, we had quite a jump in that number, and it was closer to 70 basis points due to over $1 million in additional accretion from high volume of payoffs, pay downs, renewals on acquired loans. We don't think that volume will continue. So our purchasing impact going forward, we think, starts at about $1 million for the first quarter, tapering down to $650,000 or so by the fourth quarter of 2018. Now that could be affected by the pay offs and renewals. If those speed up, that number will go up as well. But that does move our impact to net -- our core margin back into the historical range of 20 to 30 basis points (inaudible).

I should note that even excluding the purchase accounting impact, our net interest margin was up 7 basis points compared to last quarter, thanks primarily to our floating risk loans and securities.

Looking over to the funding side, we've been able to hold the cost of interest bearing deposits flat quarter-to-quarter. To-date, increases in deposit rates have been in negotiated accounts that are either floating rate or high balance in nature.

We do see selective competitors in some of our markets attempting a high rate deposit specials and we have not followed suit. However, we do believe that in 2018, we and other banks will probably start gradually increasing rates on time deposits, if the interest rates continue to rise. We don't currently see that pressure on transaction accounts though.

I should note that the last quarter does illustrate the asset-sensitive nature of our balance sheet, and we believe, if rates do continue to rise we can offset the pressure on the deposit side, with both our floating rate portfolio and adding new higher yielding assets.

Turning over to Slide 9. We see the improvement in core noninterest income over the last year. Service charges on deposits were up nicely in the last quarter, with inclusion of our Alabama branches. We also had very nice results from the gains on sales of mortgage loans, during what is normally a weaker season for home sales. We look forward to both those trends continuing with higher service charges and higher gains on sale of mortgage into 2018.

On Slide 12, noninterest expenses were up about $3 million quarter-to-quarter, but over 40% of that increase was due to one-time merger expenses.

If you look into the details, you'll see increases from 2 months of Alabama operations reflected most favorably in salaries and EB, occupancy, FDIC expense, data processing and amortization of intangibles. If you exclude the merger expenses and adjust for another month of Alabama operations, it gets you to a normalized quarterly noninterest expense of about $11.8 million per quarter.

Turning over to 13. You see our balance sheet. We did end the year a little cash heavy and securities light, as we liquidated the Capstone Securities portfolio and we're in the process of reinvesting it at year-end.

Thanks to strong organic growth and Capstone acquisition, we added a little bit over $450 million in gross loans quarter-to-quarter.

On the liability side, our cash and our deposits shifted slightly more into money markets and saving account due to the acquisition.

Finally, I should note we took out a holding company line when we closed the acquisition, which accounts for $10 million of the other borrowings, the remaining balances were also recurrent in nature.

Our loan portfolio is on Slide 12. In addition to the increases in portfolio balances, the other thing worth noting is the higher allocation of C&I loans, which now makes up about 18% of the portfolio.

Moving onto Slide 13. You can see our CRE ratios, still well below guidance levels, which gives us a nice flexibility.

On Slide 14, you can see our asset quality indicators. Very healthy, nonperforming assets to total assets, just 29 basis points, allowance for loan losses, $5.9 million or 44% -- 0.44% of total loans as of the end of the year.

In addition to the allowance, you'll also see that we've got additional discounts on acquired loans of about $17.9 million or over 3x our allowance and that covers about $524 million of acquired loans.

Slide 15 shows you the deposit cost position. We've worked very hard to have a well-diversified funding base, both in terms of products, but also in terms of geography. That diversity is a large reason why we've been able to keep the increasing cost of funds to just 11 basis points during a time when fed funds have gone up 75 basis points.

So wrapping it all up, we're really pleased with our performance in the fourth quarter of 2018 -- 2017, and look forward to what should be an outstanding 2018. I hope this has been helpful. And Billy.

With that, I'll turn it back to you.

Thanks, Bryan. And again, as Bryan said and I'll reiterate, I'll tell you, we are extremely excited about where the company sits today. We will get the Capstone acquisition converted, rebranded and integrated this month. Then, we'll immediately move into planning for our Tennessee Bancshares Southern Community Bank integration.

Just to comment on the Tennessee Bancshares deal. In our initial meetings with their associates have gone extremely well, and we feel better than ever about blending their team and markets into SmartFinancial. We revised our transaction modeling for this acquisition, based on the new Tax Reform Legislation and see no major changes in the financial benefit of the deal, other than a slightly shorter page of what will [book earn] back, due to additional accretion -- earnings accretion from the lower taxes.

As Miller said earlier, this Tennessee Bancshares Southern Community Bank deal is a great strategic acquisition. The ability to expand into Middle, Tennessee with Tullahoma and Murfreesboro to increase our Chattanooga presence plus in Huntsville, Alabama, which is turning into one of the southeast best growth markets will only make our franchise stronger, as we move into this next phase of growth. We are thoughtfully integrating Capstone and taking that exact same approach, as we plan Southern Community's integration. Our team understands the importance of the cost saves in these acquisitions. And as I've said before, I think you will be looking at a much different company and much improved financial metrics by the end of 2018.

Our sales team have worked very hard in the fourth quarter, as evidenced by the loan growth that Bryan talked about. And we wanted to make sure that we have -- we didn't lose any momentum going into the first quarter of 2018, and we feel great about where our pipeline stands today. We continue to focus on a balanced mixed of loan originations and have had great growth, while keeping our CRE guidance metrics well below our regulatory thresholds.

Pipelines, as I said, continue to be robust. I feel very confident in our sales team's ability to grow loans and deposits organically during 2018. Sales team additions we made last year are now becoming accretive, and those associates are building nice pipelines as well. We plan to spend a significant amount of time recruiting, again, this year. And I'm extremely bullish on our ability to continue to attract strong sales talent to our organization. Our loan-to-deposit composition continue to be well-balanced. In addition to the strong loan growth, we are still continuing and believe that we'll have great success in growing strong on the deposit side as well.

If you look at Slide 16, just to summarize, you can see our accomplishments for the quarter. What a year it's been for SmartFinancial and SmartBank. A branch acquisition, merged $0.5 billion Alabama Bank, and announcing a strong earning Community Bank deal in December. Doing all this, while growing our core net operating metrics to close out the year.

Again, I'm extremely excited about where we're positioned as we move into 2018. And that concludes our prepared remarks, and we will open it up for questions.

(Operator Instructions) And the first question comes from Joe Fenech with Hovde Group.

Just looking past the Tennessee Bank close upcoming this year and then the remaining cost saves from Capstone. And I guess, factoring in the timing of the cost saves from Tennessee too. Where do you guys see that quarterly total expense coming in? Just trying to sift through all the moving parts to understand where do you expect that expense base to shake out as you exit these two deals?

Are you talking about -- you talking about the -- I guess you're looking at kind of a core noninterest expense run rate, Joe?

Yes, you guys came in little under $11 million, it looks like, in the fourth quarter. So as you layer everything in, just in ballpark terms, where are you expecting that quarterly expense to shake out roughly?

Bryan, you got -- I'll let you jump in on that. Any thoughts, we're at 11 now. You got any color on where do you think that will be? Again, Joe, I guess we're looking a little further ahead. I am stopping to think, because by the time we get Tennessee Bancshares included in our third quarter numbers, Bryan, where do you think that number will be? We've looked at it. Ran a couple of models. Where do you think that number is going to come out?

Joe, I'd say the other thing, when you're looking at this quarter, you should take in consideration we only had Alabama in there for 2 out of 3 months. So we've got another month of operations on that, which, all stands alone, backing out the mergers. So I'd say, first two quarters of the year, we're probably looking at about $11.8 million, give or take. Then once we add in...

$13 million.

The next acquisition, we're probably closer to $13 million for the....

$13 million. That's around where I was. Just wanted to confirm that. Thanks, Bryan. Little bit of a bump in problem assets guys, was that all coming look over with Capstone or is there something in the legacy books that bit you?

No, that all came over as a result of the acquisition. So what did come over you can be assured is put on our books as what we think is a realistic value to exit it.

Okay. And then on the margin, Bryan, appreciate the detail on the projected accretion. But just in terms of a ballpark estimate on the reported NIM shaking out, I mean it was such a huge jump this quarter. I mean how do you see sort of -- I know it's going to be all over the place with Tennessee coming on to, but rough terms, how do you see that reported margin shaking out over the course of the year?

I do think we'll hold our, whether you want to call it core or whatever, ex the purchase accounting, we're probably going to hold right around that 3.90% level. And then once you add in the purchase accounting. Initially, we're probably looking at about 30 basis points to start the year. I would say what we have on books will start tapering off, but then again at the same time we are going to have another acquisition coming right on the heels. So I wouldn't be surprised if we hold that additional impact come right at around 30, and come in around 4.20% give or take, for this year.

So all in, with purchase accounting, kind of 4.24% in a quarter? Okay, that's helpful Bryan.

Yes. And that -- again, we're asset sensitive. So depending on how well we can fight on those deposits and what we add, that -- we could take that higher.

Got you, okay. And then on the -- Billy, on the organic loan growth for the fourth quarter, just sorting it out. What was it on a percentage basis in the fourth quarter? Was it high single digits, was it low double digits? How does it compare to kind of what you've been seeing, and what are you guys thinking about in terms of organic loan growth for '18?

Yes, we ended up high single digits, really close to 10% just from a annualized quarter basis, Joe, from that standpoint. We still think high single digits is the right number organically for us. That's really where we're -- we feel like the markets that we've got, we're seeing some great growth opportunities. And so I think, the markets are going to yield us a good solid 4% or 5%, if we get out there and just take advantage of the great markets we're in. And then I think, we can outhustle for another 3%, 4%, 5%. So we're still targeting that high single digits on an organic run rate. While it definitely doesn't get easier, I think the company has really transitioned well into a really strong sales mentality over the course of the last 18 to 24 months. And I think we're seeing some of the fruits of that labor starting to payoff now. Our sales teams are extremely focused on chasing certain types of transaction opportunities and it really continues to bode well for us. So I feel really good about high single digits organic, on top of what we're bringing in on the acquisition front.

Okay. Thanks, Billy, that's helpful. And then some of your competitors are, I shouldn't say competitors, but others, statewide Tennessee banks, talking about funding in middle Tennessee in particular, talking about funding is probably the biggest challenge. Just the competition seems pretty intense there. Relative to middle Tennessee and Nashville, what have you -- can you talk about pressures on the funding side in the Knoxville, the Chattanooga, is it quite as intense or not quite so bad, you guys don't seem to have had the jump in funding costs that some of your middle Tennessee peers are showing?

Yes, we -- I talked to some of our friends that do business in those markets. And I think middle Tennessee has probably been a little ahead of us from that deposit rate pressure standpoint. But I don't think we're too far behind. I think Knoxville and Chattanooga in particular are -- they've really continued to see some move up in those funding costs. We -- while we, as Bryan said, we've been able to hold really well this year, but going into 2018, I would continue a probability of short-term rate increases. I do feel like we're probably going to see a little more in the movement up in deposit cost for the year than what we saw last year. I don't think -- we're probably not as tough as what you're seeing in Nashville, but I do think you'll see Knoxville and Chattanooga marks in particular and what we're seeing down in Alabama and the coast, we'll see those numbers probably continue to edge up a little bit this coming year.

Okay. And the last one for me guys, tangible book and TCE shaking out after the Tennessee deal with earnings over the course of this year, I'm coming up in the third quarter, tangible book around 14 in the quarter. And then TCE around 8 in 3 quarters. Is that roughly around what you guys are thinking or how you guys are thinking about it?

Bryan is doing some math.

Yes. I am (inaudible)

I can follow up with you after, Bryan.

You're talking -- you're saying by the end of the third quarter?

End of the third quarter, just trying to get a base for thinking about valuation. And just -- I haven't worked through the model completely yet. But just thinking about 14 in the quarter on that tangible book, and then 8 in three quarters on TCE?

Joe, let him follow up with you after this call, (inaudible).

Bottom line, you guys you have excess capital as you're thinking, coming out of the Tennessee deal, as you contemplate whatever might be next. Is that fair to say?

Yes. Exactly. I think from that, we are -- that book number is probably a little bit low, I would imagine, based on what we're saying. But we'll follow back up, Joe, but I think we're still -- we still feel like the earnings side is really going to continue to ramp-up as we go into the next few quarters. So I think that's going to be able to accrete to the capital number, and then with Tennessee Bancshares being an all stop transaction, we feel like we should have enough cushion to be able to handle that moving into the second half of the year.

(Operator Instructions) And the next question comes from Daniel Cardenas with Raymond James.

Just a couple of follow-up questions from Joe. On that margin guidance that you gave, does that have any impact, any FTE impact from tax reform built into it?

No, but I mean if you look at our team, our tax effect, our margin difference is typically just about basis point, so I mean we don't get a huge swing from that one way or the other, quite honestly.

And then as I look at the loan portfolio, so you ended the quarter with kind of a nice improvement in your portfolio mix, 18% C&I loans, et cetera. What with the Tennessee transaction kind of folded in there, does that change that mix significantly? And then ideally a couple of years down the line, I mean how do you want your portfolio to look?

No, the Tennessee Bank and you're right, it has I think with the Capstone transaction, Capstone even at $0.5 billion had a really nice diversified portfolio and a good mix including a nicer flood of C&I. So that was great to add in this quarter. Tennessee Bancshares is a little more, I would say, a little more -- more like a traditional $250 million community bank. A little more on the CRE side. So we'll probably look to add a little more on the real estate front, but not significantly. We're continuing to look at a lot of our organic growth, a little more diversified. So should be able to absorb that real estate component. It won't change the metrics a little bit, but might increase the real estate pieces (inaudible).

Yes.

Great. Good. And then, so you have like less than a quarter of Capstone in the organization. In terms of runoff on the loans and deposits, has that performed in line with expectations, better?

Yes. In line and probably not a little bit better. We started working together early and working on the sales side of the house, Dan. And so -- we -- while a lot of banks look at seeing some attrition of some of that business even through an acquisition, we didn't experience it when we put our Chattanooga transaction together and then we've really not seen anything significant or other than out of the norm with the Alabama acquisition.

And I would say the sales team down there has worked extra hard. They have engaged a couple of board members down there, Billy and I have been engaged down there quite often. So no, I think, it is as expected if not a little better.

Good. And then in terms of organic growth for 2018, do you think that's going to be able to be sufficient enough to fund your organic -- I'm talking about deposit growth. Is that going to be sufficient enough to fund your organic loan growth that you expect for 18?

We may, we've actually been doing some of that modeling internally here in the last little bit. That's our goal when we set up our budgets and our incentive metrics for the sales team, our goal is to fund every organic loan dollar with an organic deposit dollar. From a timing standpoint, our top lines look good. We may have to supplement a little bit during the first half of the year, as I think our lending pipelines are probably a little more robust than we'd even anticipated, but over the next, I would say, year plus, our goal would be and we still feel very confident to be able to grow the core dollars, may come at a little bit higher cost as rates come up, but we still feel good pretty good about being able to do that over the long term. May have a little bit of a mismatch here in the first part of the year that we may need to supplement with a little bit of noncore, but I think we get that back relatively quickly.

Okay. Good, good to hear. And then, looking at credit quality, it's been very good for quite some time now. How should be thinking and how are you guys thinking about provisioning on a go forward basis?

Bryan, you can touch on that. I think we're running somewhere around a 125-ish on new loans booked.

Yes. Close to that. I mean we are adding -- it's way above that 44 basis points. I can assure you that on any of our organic loan portfolio, slice the stuff without discounts. Having said that, while we continue to add somewhere around 1% range on that, credit metrics still looks really strong. So there's been nothing to support that percentage increasing, especially, when you look at whether quantitative factors or historical charge-offs; both those numbers that continue to improve every single quarter.

Okay, good. And last questions from me, in terms of share counts, how should we be thinking about that on a go-forward basis?

You're talking about after the Tennessee merger?

Correct.

You talk -- today Dan?

Today and then kind of postmerger.

Yes, we ended the year with 11.15 million now. Having said that, we do, of course, have a difference between our basic and our diluted count, primarily due to some of our new shareholders in Alabama. I mean some of them are [assets] that we expect some of them to exercise and then we'll offer, we're using shares, probably looking at about 12.7 million after all that said and done.

And as there are no more questions, I would like to return the call to Miller Welborn for any closing remarks.

Thank you. As always, we appreciate your interest and support of SmartFinancial and SmartBank, and we certainly look forward to first quarter of '18 and the balance of this year. So thanks a bunch guys. Appreciate all your help and support.

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