SmartFinancial Inc (SMBK) 2018 Q1 法說會逐字稿

Good day, and welcome to the SmartFinancial First Quarter 2018 Conference Call and Webcast. (Operator Instructions) Please note this event is being recorded.

I would now like to turn the conference over to Frank Hughes, Investor. Please go ahead.

Thank you. Good morning, and thank you for joining us today for our First Quarter 2018 Earnings Call. With me this morning is 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 first 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 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 under the safe harbor provisions of federal securities laws. 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 and forward-looking statement 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 the information, except maybe required by applicable law. Additionally, today's presentation contains non-GAAP financial measures. The reconcilements of such measures to the most comparable GAAP figures are included in our earnings press release at the end of the 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.

Thanks, Frank. I appreciate it. Good morning to all of you. We certainly appreciate your interest in SmartBank, and we thank you for joining our call this morning. We are extremely excited about our start to 2018 and what we've been able to accomplish in the first quarter of this year.

A couple of our highlights from our release yesterday. We did have record earnings of $3.4 million, which was more than double Q1 2017. A net operating ROA of 0.91 basis points, which we are extremely proud of, great progress there. Organic loan growth of $51 million in Q1, a 15% annualized growth while holding credit very strong. Our efficiency ratio continues to improve, decreased 3 percentage points to a new record low for the quarter. Gosh, our net interest margin tax equivalent of 4.38, that's up 0.31% year-over-year; and our asset quality is outstanding with NPAs to total assets decreasing to just 0.26%.

2018 is off to a good start. We are completely -- we are happy with where we are and we're also very certain that we can continue to improve. Bill and his team are effectively executing the strategic plan that our board has approved. A ton of work has been done and a ton of work lies ahead, but I can't think of a boat I'd rather be in than the one we've launched here. Billy is diligently leading this team and we're excited about the balance of 2018.

I'm going to now turn the floor over to Billy Carroll and let him dig more into the details for us. Billy?

Thanks, Miller. I'm going to begin with highlights of the quarter, and then I'm going to turn over to Bryan to review financial results in greater detail, after which I will wrap up and give you some color on what I expect as we move further into 2018.

We had a very nice and extremely busy quarter and are right on top of where we expected to be 3 months into 2018. Feel extremely good about where the bank is positioned today, coming in at a $0.30 EPS with a core of $0.35. I'm confident our company is moving in the direction that we communicated to investors during 2017.

Performance was in line with our expectations. Organic growth was solid. We converted and rebranded the Alabama offices acquired through the Capstone transaction, and we began planning our Southern Community Bank deal. So it was just another quarter for our SmartBank team.

Operationally, the conversion and rebranding of our 8 Alabama offices this quarter kept us very busy and I couldn't be happier with where we are today with that deal. Our sales teams are doing great. We announced an outstanding local advisory board in Tuscaloosa, and we have got great momentum in the state of Alabama to start the year.

That said, our story and corresponding financial metrics are moving along on schedule. So let's jump into the slide deck. And if you'll turn to Slide 4, I wanted to just touch on a few of our highlights. Core ROA and EPS were on target as we move toward our 1% ROA goal and into the mid-30s on our earnings per share. Organic growth was outstanding. We grew our loan portfolio $51 million, as Miller said, during the quarter, while keeping our interest margin in a great spot. I don't think we will sustain a 15% annualized growth loan pace. But our pipelines are still very strong, even with rates starting to creep up. Our sales teams are sinking up really well throughout all of our markets and doing a nice job there.

We had nice growth in core deposits as well. Bryan's going to walk you through the dynamics of that. But core deposits continue to grow nicely for the bank. Efficiency ratio improved and we continue to be on pace as we look to move consistently into the mid and low 60s from an efficiency ratio standpoint on a core basis. Net interest margin was 4.38%, with a core margin still north of 4%. Bryan is going to walk through the margin and purchase accounting adjustments shortly, but know that margin still remains healthy for our company. We continue to see increasing pressure on deposit cost, as I alluded to on last quarter's call. We've seen our interest-bearing deposit costs move up 19 basis points year-over-year and a trend that I expect to continue. I think most banks are going to continue to see this as we move short rates up and -- anticipated moving short rates up in the coming quarters. Credit quality continues to remain strong with nonperforming assets of 0.26%.

Turning over to Slide 5. You can see the summary of our key metrics for the last 5 quarters. Trend lines for ROA and net interest income are moving with the right trajectory. There's some accretion impact, as I said, and we'll walk through that in just a little bit. Noninterest income to average assets dipped a little for the quarter, but I feel that we will see improvement in that metric as the year progresses. That's one area where we need some work and I've got plans in place to do so. We made a number of changes in our mortgage area during the quarter to improve our longer-term performance in that business line. Within the coming quarters, I'm confident that we're going to see some benefit there. Noninterest expense to average assets saw a nice improvement as we see the metric -- and we should see that metric continue to improve and trend positively during the year. Cost saves are now fully in place from our Alabama deal with the beginning of Q2, and we're gearing up to innovate Southern Community Bank over the next couple of quarters. As you can see, our overall trends look nice and I feel really good about where the bank stands in regards to those.

So let me turn it over to Bryan now and let him walk through the financials in some greater detail. Bryan?

Thanks, Billy. Good morning, everyone. As Billy said, we're very pleased with the results in our operations in the first quarter of 2018. I'll begin on Slide 6, which is the earnings profile for the first quarter.

Our net pretax income for the quarter was $4.4 million compared to $2.6 million a year ago. That's an increase of over 65%. Key driver for the improvement was growth in net interest income of over 70%. Noninterest income year-to-year was also up over 70% during the same period, which had a positive impact. We did have a 64% increase in noninterest expense year-to-year but that included about $500,000 of merger-related expenses this quarter. If you backed out merger expenses in the quarter, year-over-year increase was closer to 58%, which is significantly less than our increases in interest and noninterest income.

Said another way, our revenues are increasing at a faster rate than expenses, which is driving down the efficiency ratio.

During the quarter, taxes were lower than projected, primarily due to benefits associated with exercised options, which made our effective rate around 22%. While there may be some future benefits from options and tax credits from potential investments, at this time, we still project our normal effective tax rate to be in the range of 26%.

Turning to net interest income, which is on Slide 7. Net interest income totaled $16.8 million in the quarter compared to $15.3 million in the prior quarter -- excuse me, in the fourth quarter of 2017. Key drivers leading to the growth in net interest income were increases in both average loan and securities portfolio and higher yields on both of those portfolios, which translated into earning asset yields up over 50 basis points year-to-year.

Prior to the Capstone transaction, the positive impact of purchase accounting typically had it running to 20 to 30 basis points added to the margin. You'll remember in the fourth quarter, we said that we had a big jump that was closer to 70 basis points. But at that time, we didn't think that, that level of impact would continue. In fact, purchase accounting adjustments for this quarter was about 33 basis points or $1.2 million compared to our previous estimate of $1 million. So we're pretty close to where we thought we'd be. We believe the amount of adjustments will taper down during the year to approximately $650,000 or so by the fourth quarter.

Should note that even when you strip out the purchase accounting effects, net interest margin was up right at 25 basis points and that's due to floating rate loans, floating rate securities, adding higher-yielding securities during -- at the end of the quarter and the loans that we're putting on the books are coming in at good yields as well. Plus, while deposit costs are up, we are able to lag those rate increases. Speaking of which, as Billy mentioned on the funding side, we're starting to see the impact of the increase in interest rates in many of our markets. So far, our increases on deposit rates have been for time deposits, savings and money markets. And we don't see pressure on DDAs except those that are part of an RFP process.

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

Turning to Slide 8. You'll see the improvement in noninterest income over the last year. Service charges on deposits are up nicely with the inclusion of the Alabama franchise. And while we did have lower gains on sale of mortgages this quarter, as you know, first quarter is seasonally weak. We expect that to rebound in the second quarter and the remainder of the year.

Turning to Slide 10 (sic) [Slide 9]. Noninterest expenses were up about $850,000 quarter-to-quarter. You'll see the increases from 3 months of Alabama operations this quarter versus 2 months in the prior quarter. Most notably in salaries, EB, occupancy and data processing and amortization of intangibles. After you exclude the merger expense and other nonrecurring expenses, recorded noninterest expense is about $12.3 million with our current footprint. We do, with the Southern Community Tennessee Bancshares merger, we do expect that to increase to over $14 million in the second quarter and then taper back down to between $13 million to $13.5 million by Q4.

Turning to the balance sheet on Slide 10. You'll see we funded the loan growth this quarter by growing deposits, drawing down cash and keeping securities investments fairly low. I should note that, as Billy mentioned, there was a shift -- sizable shift, from savings and money markets to DDAs. Part of that is due to conversion reclassification. So of that $100 million change, about $70 million is due to reclassifications. But we did have $30 million in growth on the DDA side. Holding company wise, there's still $10 million within the quarter and the other borrowings were short-term in nature.

Loan portfolio is on Slide 11. In addition to the increases in loan portfolio balances, the other thing worth noting is the higher allocation of C&I loans. The growth there was outstanding and outpaced the rest of the portfolio and it ticked up from being 18% of the total portfolio to 19% of the total portfolio.

Slide 12 shows our CRE ratios. Still within guidance levels. Did tick up a bit on the 300 level to take advantage of some attractive opportunities, which we were compensated for in terms of better yields on those loans.

Turning over to 13, asset quality. As mentioned, very healthy nonperforming assets. Total assets, just 26 basis points. Allowance, $6.5 million or 0.47% of total loans. And in addition to the allowance, we have $493 million of acquired loans, which have just over $16 million in discounts. So [FCA] went down.

And finally, turning over to Slide 14, shows you our deposits for the last 5 quarters. Worked very hard to have well-diversified funding base, both in product and geographically. As we mentioned, jump in transaction accounts was partially due to reconversion, reclassifications. But about 25% of that increase is organic. Over the last year, cost of funds has gone up 18 basis points while the Fed funds target rate has increased 75 basis points. Basically, we've had an effective deposit beta of 0.24%. To the extent our loan growth outpaces our increases in DDAs, I'd expect cost of funds to probably also tick up as we will have to fund with higher cost and more rate-sensitive options like time deposits and money markets.

So wrapping it up, we're really pleased with our performance in the first quarter of 2018. We look forward to what should be an outstanding year. I hope this has been helpful. And with that, I'll turn it back to you, Billy.

Thanks, Bryan. Again, we feel really good about where we're positioned. As I mentioned earlier, Capstone integration went really well. We are now rebranded to SmartBank in Alabama. The energy level from our associates down there has been outstanding. And now our ops group is turning its focus to closing and the conversion of the Tennessee Bancshares Community Bank deal. We are planning a May 1 closing there for the deal with a mid-August conversion and rebrand. And just to comment on that one, we continue to see some really nice synergies as our teams have started to get to know each other and work together. The ability to expand into Middle Tennessee and the Tullahoma and Murfreesboro markets increased our Chattanooga presence and enter the robust Huntsville, Alabama market will only make our franchise stronger as we move into this next phase of growth. We're actively looking to add to Southern's talent base and all of those markets and really excited about where that deal stands.

We plan on taking the same approach with Southern as we did for Capstone. We again plan for a mid-August conversion and will have full realization of cost saves by Q4 of this year. And as I've said before, I think you'll see a much different-looking company and even improved financial metrics by the end of 2018.

On the organic side, our sales teams worked very hard in the fourth quarter, not coasting into the end of the year to keep building a pipeline. And that paid some great dividends for us with strong Q1 loan growth, highlighted by, as Bryan mentioned, a 29% annualized increase in C&I lending. We continue to focus on a balanced mix of loan originations in keeping within our CRE guidance metrics as we continue to be both -- below both regulatory guidance thresholds at the end of the quarter. With the Southern transactions, we will more than likely push up to the line on the 300% bucket, possibly taking over the plan to work that down as the year progresses. Our long-term goal is to stay below both those 2 real estate guidance thresholds, but understand we may occasionally go over as we integrate banks.

As I've mentioned earlier, I do think loan growth for Q1 was a bit of an anomaly. But our pipelines are really strong and I still think we're on pace for that high single-digits projected growth as we look to the 2018 year as a whole.

Talent recruitment continues to be positive as we've added a couple of new revenue producers in the last quarter and are actively engaged in other discussions as well.

So really, if you just flip to the summary slide, which is, I think, which is actually Slide 15 in our deck. Just look at conclusions and I won't walk through those. You can see our accomplishments for the quarter. Again, I'm really excited about where we are sitting today and I look forward to continuing watching this company transform throughout the year. We're, as Miller said, we're on a great path right now and excited about where we sit.

So that concludes our prepared remarks, so I would like to turn it over now for questions.

(Operator Instructions) The first question comes from Catherine Mealor with KBW.

My first question is just on the core margin. It was really nice to see the expansion in the core margin, even outside of the accretable yield. And I just want to see if we can dig into that a little bit. It looks like your core loan yields, if I even back out accretable yield, were up pretty significantly linked quarter. Can you just discuss what drove that? Is there any onetime loan fees in there? Or was part of that just from the Capstone full quarter integration? Or is this just really indicative of the asset sensitivity inherent in your loan book?

Catherine, I'll let Bryan touch on that. But yes, I think it really, really is more of an asset sensitivity answer, and part of that is the floating rate component in Capstone. But Bryan, dig into that a little bit deeper, if you don't mind.

Sure. As Billy mentioned, we've got about 45% of our loans which are floating rate. Of that, 2/3 of them or 30% of our loans are linked to prime. So having rate increases there directly linked to when Fed funds and then prime goes up is an immediate kick. Plus, we've got another 15% that are LIBOR, T-bill, what have you. And then about almost 1/4 of our securities portfolio, just under 25%, is also floating rate in nature. So you look at all those things, and then as mentioned, $50 million-plus in loans being added while things are very competitive, for the most part, those are replacing lower yielding loans that have rolled off, which you don't see kind of under the covers. And then the other thing I'd note is if you look at the margin table quarter-to-quarter, you'll see our securities went up. We reinvested from Alabama significantly and we didn't do that until the very end of the last quarter. So we added a significant amount of securities at a new higher rate environment, which translate into higher margin in this quarter as well. Really no impact outside the normal on the fee side, pretty standard there.

And so then, would you -- what would be your outlook for the core margin from here? I mean, do you feel like your commentary about deposit betas are that -- as that improves -- as that increases, your ability to improve the core margin from here probably lessens, or do you still see upside from this [4.05%] number?

I'll start, Catherine, and then let Bryan jump in, too. I still think, with the amount of floaters that we have, that we'll be able to hold that core margin. Then at the levels of where we are, hopefully maybe even expanding it some. The deposit beta move I think was probably a little more -- I think our cost may be a little more pronounced. We've got -- especially this quarter, we've got a number of larger accounts and a couple that we brought in as part of the Capstone transaction that have more of a Fed fund rates type tie -- index type tie and with December increase and other increase earlier in the year, I think we probably saw a little more pop in those. As we see a couple, maybe 3, rate increases throughout the remainder of the year, we are going to see a little bit of a move up there. But I think, and I think Bryan alluded to this in his comments, I believe we're going to be able to keep that with the floating rate loan piece that we've got and the ability to get some higher rate fixed rate credits as well in the books. I think we can continue to hold that core margin number and probably even expand it a little bit. That may be a stretch to expand it much, Bryan, but give us some color on that.

I would just expand on what Billy said. To the extent -- I think part of it is going to be driven by the pace which it will grow loans. Obviously, if we went at the pace we were growing at, 15% a quarter, DDAs aren't growing normally at 15% quarter-over-quarter. We had a very strong quarter this quarter. But to the extent we had to expand beyond DDAs and go race deposits against competitors and markets, then that could pressure us a little bit. I think normalized loan growth, yes, I think we can maintain. To the extent that loan growth really accelerates and we have to go fund out in the market and fund quickly, then that, of course, will come at a cost. Now we'll try to roll those off, replace with DDA later in the year. But if we have to match fund quickly, I could see the deposit side going up a little bit as well.

And Catherine, I'll give you some color, too. I think also, we're in an environment right now and we're starting to see this where you're -- we're seeing move up in rates and we're trying to push our loan rates up accordingly. You're still seeing very -- you're seeing some really aggressive bank competition that, quite frankly, that we may say no to some deals on rate. We typically stay very aggressive on rate, been able to do that, keep good margin. But I think we're getting into a time now where everybody's really starting to stretch a little bit. And so I think you all have heard me say, you and others have heard me say, we're in this for the long haul. And so we are going to do what's right, we're going to work on margin. We'll keep our growth trajectory at as good a pace as we can. But it may be a situation where the growth does slow a little bit in coming quarters and we let some of this rate competition sort itself out over the next little bit. But I still feel good overall about our ability to keep margin intact and still hit our growth targets.

The next call comes from Dan Cardenas with Raymond James.

Quick question on your loan growth outlook. How much, if any, factors in potential runoff from Capstone or Southern?

I'll take that one. As far as potential runoff, with the Capstone transaction, we have not -- we spent a lot of time prepping for these transactions with the sales teams. And so we have seen very little runoff from Capstone. And quite frankly, we don't project in a lot of that. So for Capstone, we saw very little and have been able to continue to grow that base of business, picked right up post the November acquisition and kept growing the loan portfolio there. We actually have the -- our Alabama region actually was one of the -- had one of our strongest -- was one of our strongest regions with the growth this quarter. So that said, that piece was good. The Southern Community deal that we've got upcoming, we'll see. There might be a little bit. Again, they've got a little more of a -- there's probably a little more of some transactional real estate with some maturities that are coming up that we may see roll off. So that one, we may not grow it as quick a pace out of the gate but think it will be a little bit more of a longer-term play moving forward as we really expand into the growth markets in Murfreesboro and Huntsville. But I don't anticipate much of a move down in that and don't think we'll see much runoff at Southern either.

And I'll chime in here also. We probably don't see any more runoff potential than we do at any other time during the year, even when we're doing a -- not doing an acquisition or an integration. I just think it's -- you're always conscious of that and that's why it's so important for us to continue to do such a strong job of relationship building, even learning these teams and learning these markets prior to an integration.

Yes, Miller. I think -- and Dan, I think Miller hits on a really good point, that we spend a lot of time on, as we build the relationship post-deal announcement with the sales teams on the banks that we'll be partnering with, we jump in -- I know traditionally banks, when you see an acquisition occur, you see a little bit of a tick down sometimes in those situations, we work hard to mitigate as much of that and eliminate it if at all possible. And so like I said, other than a few, a little bit of more A&D on the Southern books, that might churn a little bit quicker. I don't anticipate any runoff there either.

Okay, great. Bryan, I missed your comment on yield accretion on a go-forward basis. It sounded like directionally you think that number is going to decrease here over the next several quarters, but I missed the dollar amount that you thought it might come down to by the end of the year.

Yes, Dan. I think it'll be somewhere around the range of $650,000 during the fourth quarter. Now that just includes what we have on the books. Now of course, once we get Southern in there, then that will layer in addition on top of that. So we'll reset again next quarter to a certain extent.

Okay. Then it's entirely possible that your reported margin perhaps steps down a little bit as some of this yield accretion kind of rolls off here over the next couple of quarters?

Yes, that's correct, and I'd expect it to. I mean, obviously Capstone was a bigger transaction than Southern. So although there'll be new accretion, I wouldn't expect it to impact the entire margin as much as Alabama did.

Okay, all right, great. And then Billy, maybe if you could give us a little bit of color. You talked about working on improving your fee income and then I think you kind of stated a little bit that mortgage was one area. Is there any color that you can give us and maybe what the longer-term goals are in terms of fee revenue as a percentage of total revenue would look like?

Yes, and I will, Dan. I think we were at -- and I'm pulling my number up here real quick. I think we're about -- around 38 basis points. We were at 38 basis points for the year. Yes, our internal goal, Dan, is to get that -- our near-term goal is to get that up to 50 basis points as a percentage of average assets. I think that's right, Bryan. I've got my numbers in front of me. But as far as what we -- what my comments, yes, mortgage -- we've reset some things in mortgage on Jan 1 and feel pretty good. We made some changes to our team, changed some of our production folks and some of their compensation packages to better tie that to the growth side on those sales and feel really good that we'll see this. Our overall production on the mortgage side has held year quarter over year quarter and actually increased slightly. We're seeing some nice growth. I think a lot of it is just getting the efficiency synced up with the Alabama acquisition and what we've added to the bank over the last year and feel that, that piece will go. One of the things that we're also working on too with the Southern transaction, they've got a really nice wealth management platform that's got -- that's through Raymond James, their Raymond James platform there with the retail brokerage and investments that we really like. We're working right now to get that implemented, making a couple -- we may -- I think we anticipate probably doing a couple of investments into that program over the course of the coming quarters to get some financial advisers in some of our other markets where we've got a stronger retail presence. So I say that. We've got some nice plans. Again, my goal would be to continue to move up, move that number up as far as a percentage of average assets. We were at 38 basis points noninterest income to average assets for the quarter. My total goal is to move that up to 50, and I think we can get there relatively quickly with some of the plans that we've got in place.

This concludes our question-and-answer session. I would like to turn the conference back over to Miller Welborn for any closing remarks.

Thank you, Rochelle, and we do appreciate everybody joining us today for the call. And as we've said before, we appreciate your interest in SmartBank, and we look forward to the months ahead. And I hope each of you have a great day. Thanks for joining.

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