SouthState Bank Corp (SSB) 2018 Q2 法說會逐字稿

Good morning, and welcome to the South State Corporation Quarterly Earnings Conference Call. Today's call is being recorded. (Operator Instructions)

I will now turn the call over to Jim Mabry, South State Corporation Executive Vice President in charge of Investor Relations and M&A.

Thank you for calling in today for the South State Corporation earnings conference call.

Before beginning, I want to remind listeners that the discussion contains forward-looking statements regarding our financial condition and results. Please refer to Slide #2 for cautions regarding forward-looking statements and discussion regarding the use of non-GAAP measures.

I would now like to introduce Robert Hill, our Chief Executive Officer, who will begin the call.

Good morning, and thank you for joining us. Before discussing the financial results for the second quarter of 2018, I would like to comment on our recently announced organizational changes.

The greatest strength we have at South State is our tremendous depth of leadership. We have seen substantial growth over the past decade and achieved strong financial performance and shareholder returns during this period. These leadership changes come as we focus on the next chapter for South State. The management moves we recently made position us well for the long-term by realigning parts of the reporting structure and transitioning critical leadership roles to our next generation of leaders.

We focus considerable attention on maintaining and improving our culture. A part of that effort seeks to emphasize the development of talent. The strength and depth of our team was evident with these recent leadership changes coming from very experienced individuals and all within the company. People drive the numbers in our company and we are fortunate to have great people.

Turning to the financial results. Net income for the second quarter was $40.5 million or $1.09 per diluted share. This represents a return on average assets and return on average tangible equity of 1.12% and 13.79%, respectively.

Adjusted for merger-related expenses, earnings were $52.7 million or $1.43 per share. This represents a return on average assets of 1.45% and return on average tangible equity of 17.68%.

As we continue with the integration of Park Sterling, the company was able to generate annualized net loan growth for the quarter of over 7%. The legacy Park Sterling markets were among the most productive markets in the bank and customer retention in these markets has been very high.

Additionally during the quarter, we added strength to the team with a number of key hires in commercial, wealth, private banking and mortgage.

The quality we are seeing in our loan growth is also strong. Commercial banking and consumer banking both experienced good growth this quarter, while we saw our commercial real estate to risk-based capital decline to 218% of capital.

We will continue to experience churn in the loan portfolio and begin to be impacted by Durbin this quarter. While this creates some short-term earnings headwinds, our balance sheet, talent level and markets have us well-positioned for the future.

Our board has declared a quarterly cash dividend of $0.35 per share, $0.01 higher than last quarter, payable to shareholders of record as of August 17, 2018.

I will now turn the call over to John Pollok for more detail on the financial performance for the quarter.

Thank you, Robert.

On Slide #4, you can see the $600,000 increase in net interest income linked quarter to $129.6 million and the 8 basis points of contraction in our net interest margin. Interest-earning asset yields were up 2 basis points with the acquired loan yield expanding 7 basis points and the non-acquired loan yield advancing 5 basis points.

Slide #5 shows the acquired loan book representing a little less than 30% of interest-earning assets this quarter compared to 32% last quarter and the non-acquired loan portfolio now representing over 55% of interest-earning assets. While both portfolio yields expanded, this change of mix resulted in a 1 basis point decline in the overall loan yield. Our interest-bearing liability cost increased 14 basis points to 55 basis points this quarter, reflective of higher rates offered due to the recent Federal Reserve rate hikes. Our overall cost of funds increased only 9 basis points to a modest 40 basis points as our average noninterest-bearing deposits increased $129 million this quarter and we continue to reduce borrowed money and brokered deposits acquired in the Park Sterling merger. At quarter-end, customer deposits represented 96% of our total funding.

Turning to Slide #6, you can see the impact of purchase accounting accretion enhancing the contractual yield earned on our acquired loan portfolio as well as the remaining discount to be accretive in future periods.

Slide #7 shows a $2.4 million reduction in noninterest interest income, excluding security gains and losses linked quarter. The reduction is primarily related to a $1.6 million lower mortgage banking income and $800,000 less than acquired loan recoveries. As a reminder, during the second half of this year, we anticipate lower interchange income of approximately $8.5 million due to the impact of the Durbin Amendment.

Our adjusted efficiency ratio decreased linked quarter from 60% to 57.3% as shown on Slide #8. During the quarter, we achieved additional cost saves after having completed systems conversion and branch closings. Noninterest expenses, excluding merger cost, declined $5.8 million to $96.4 million for the quarter. While we should see modest additional cost saves in the third quarter, we expect next quarter's overall run rate to be comparable to this quarter's number.

Slide #9 shows the adjusted earnings per share of $1.43 for the quarter, bringing the year-to-date total to $2.82. This year-to-date adjusted EPS represents a 21% increase from the first half of 2017.

On Slide #10, you can see our tangible book value increase $0.59 to $34.64 per share, which includes the impact from the revaluation of the Park Sterling initial day one fair value estimates.

I will now turn the call over to Robert for some summary comments.

Thank you, John.

We're excited about the rest of this year and our plans for 2019. Our strong and growing team and our recent organizational changes put us in a good position to increase market share and generate attractive financial results over the long-term.

This concludes our prepared remarks. So I would like to ask the operator to open the call for questions.

(Operator Instructions) Today's first question comes from Stephen Scouten of Sandler O'Neill.

A question for you, first, if I could, around loan growth. I'm curious how much of that came from the consumer real estate sector this quarter. I know it was about $29 million last quarter. And also, curious about how much runoff is still to come from that SNC book and the builder finance book, if you could give us an update there.

Steve, this is John. I'll start. So the -- I think the last part of your question on the SNC book, that's complete, so we finished that. We have roughly about $50 million more in the builder finance book. And then on the consumer real estate, so the -- if you look at the overall growth on that in total consumer real estate, this would include equity lines, we were up about $84 million linked quarter.

Stephen, this is Robert. Just to give you, I guess, a broader loan growth picture overall, production in the second quarter was about the same as it was in the first quarter. The real difference is kind of some of the churn that we've talked about. But if you look by category, CRE was basically flat; the consumer real estate book was up about 10%; commercial owner-occupied, up about 13%; and C&I, up about 9%. And from a productivity level, consumer commercial CRE is about 1/3, 1/3, 1/3, and we felt pretty good about the balance.

Okay. Good. That's helpful. And then maybe thinking about the NIM for a second and just some of the pressure you saw on deposit costs this quarter, I know you mentioned last quarter you guys were going to get a little more aggressive on core deposit pricing just to do some of the remixing that you completed this quarter. Is that -- did that cause that quarter-over-quarter move an inch, bringing deposit costs, which I think was 15 basis points, if I'm not mistaken, to be a little more elevated this quarter? And should that abate somewhat or is this kind of a new run rate of what we might see for -- on deposit costs when we have a Fed hike in the quarter?

Steve, this is John. I'll start. I'll say a few things. I think first is, overall, our cost of funds, when you look at, it's 40 basis points. So it's still relatively mild.

As we talked last quarter on really the remixing is if you look at the Park Sterling transaction and then you look at the GBT transaction, between those 2 companies, there was over $500 million between Federal Home Loan Bank advances and brokered deposits. And so our view, I think as we said last quarter is we'd rather fund our bank with core deposits from customers. We saw an opportunity there to get more aggressive. We feel like there's 2 more rate hikes coming. So you don't want to be too far behind on that, so don't like -- clearly, that looks like that's going to happen. And clearly, when you look at it, actually we're 96% funded with deposits.

So I think our view, in general, in deposits, we -- we're very good at generating them. Clearly, you can see it in the noninterest DDA growth. When we think of betas, we think of noninterest DDA growth in there too. We also think of wholesale borrowing cost in there too as we look at it. And so it's -- I think it's a combination of things. I think it's a combination of remixing the 2 balance sheets that we got and clearly seeing where rates are going.

Steve, Robert, just to add on. I mean, we have always felt that we create the most value by doing loan -- creating loans and deposits and relationships in our footprint. And certainly, while we saw more deposit competition over the last few months, it was not all bad. We felt like that we had kind of lagged the first few moves and that with our customer base, certainly we want to protect that and pass along some of that to them and we felt this was the right timing to be able to do that, especially with some additional rate hikes coming. We felt like we were getting to the end of the balance sheet remix and had gotten rid of the majority or all of really the wholesale borrowings that were kind of just very clean in terms of our balance sheet leverage today. And -- but we continue to see good customer activity and we opened 30 -- we've opened about 30,000 checking accounts so far this year and that still sits on a good run rate. So clearly, deposit pressures, it got in our balance sheet kind of remixed and also want to get a little bit ahead of the curve.

Okay. So if we saw 60% beta on those interest-bearing deposit cost this quarter, I mean, would you think that would be tracking in the 40% to 50% range in the near-term? Or is this 60% level just as a function of some of those lags and the incremental rate hikes you're talking about, the more likely or expected run rate from here?

I think it's early in the quarter to tell.

Okay. Fair enough. And then just one clarifying question. John, when you said expenses kind of similar to this number in 3Q, is it -- are you referencing kind to the $96.4 million? If we exclude the onetime charges, is that the number to think about?

Correct.

And our next question today comes from Jennifer Demba of SunTrust.

A couple of questions for you. Robert, with the production you're seeing and the early pay-downs and the exit of the builder finance, what kind of loan growth outlook are you guys looking for in the next 2 to 4 quarters? And then my second question is on M&A interest now that you've converted Park Sterling.

First, on loan growth, what I would say, the production levels were really good and have -- but it's been unusual. The production in the first quarter, we didn't have -- I think we had 2% loan growth in Q1. We had 7% in Q2. And the productivity during both of those quarters was pretty much the same. So it's a little bit hard to predict. So I think 2% is probably on the low side. 7% is probably on the high side. And between now and the end of the year, we feel like the majority of that remixing will kind of take place. So, well, I think as we move into '19, we'll just be on much more consistent footing in terms of our overall loan growth projections, which typically have been on the high single-digit range. So anything else on that?

No, that's great.

The -- on the M&A front, what I would say kind of overall, M&A deposits, let me just kind of step back overall for a minute, is the conversion went really well. We had 99% retention on the customer base overall and we've had good productivity. It's kind of to Stephen's question, but North Carolina last quarter had loan growth of around 8%. South Carolina had loan growth of around 10%. So overall, the Park Sterling-related markets feel really, really good.

We want to get these org changes behind us. You can see some of those. There's a -- the current exec is going to be with us a while, but we want to get that new org change, go ahead and get that in place. And really, now our decks are very clear. We've had more inbound opportunities in the last month than we've seen in a while. So we certainly are very much -- have the capability on the M&A front. There are more conversations taking place today than there were maybe 3 to 6 months ago.

And I'd say our whole focus has shifted. The last 3 years, it has been how do you prepare and get past $10 billion? How do you help pay for that? And then how do you integrate Park Sterling? And we did some major technology updates in Q1. So that has really been our focus. Now, our focus is really back to basic blocking and tackling. How do we get more efficient and productive? How do we leverage the capital that we're generating at a high rate? How do we continue that talent? And how do we look at expanding our franchise?

(Operator Instructions) Today's next question comes from Will Curtiss of Piper Jaffray.

Just want to go back real quick on the expenses. So if we -- I think you said the third quarter should be around the $96 million and -- or so million. And then beyond that, I mean, should we just assume a normal growth rate or do you have any planned investments or initiatives that may cause some pressure on that on kind of a normal pace?

Well, I'll start. This is John. As we do every year, we're kind of entering into our budget season for next year, so kind of really everything is on the table, just like we do every year. So we're going to begin to evaluate that. The dust really kind of settles next quarter, right? We've got -- you'll see the Durbin in the number. You'll see our expense run rate. And so we'll kind of get into forecasting. I think as we get towards the end of the year, we'll be able to share more detail exactly how that looks.

Okay. All right. And then, see, Robert, one for you. I think last call you'd mentioned having around $1 billion or so of CRE capacity, but you also kind of talked about the areas you're watching closely. And I think you also mentioned limited CRE growth this quarter. So I'd be curious to get any update, updated thoughts on CRE and the current environment.

So I think our CRE pipeline continues to be, overall, very good. We continue to see churn. I think it's kind of in that kind of point in the cycle. You've certainly seen a lot of hospitality construction, multi-family construction in our marketplace over the last few years. Some of that certainly we've done. You've seen more of that begin to go to the permanent market and -- which is really appropriate. We tend to do kind of construction mini perm and then step out on the longer-term fixed rate stuff. So it feels to me kind of like the natural cycle for CRE that if -- it's growing a lot right now. I think there would be probably some questions and then obviously we have some of the Park Sterling churn, but I think the good thing for us is the pipeline in that category continues to look good. We've certainly not shut it down. We have some really good borrowers. We have some great projects. I was with one last week. Great opportunities there. And we still have -- now it's about $1.2 billion in overall CRE dry powder because our CRE risk base came down to 218% of capital. So it's something we've been very disciplined around. We've used very carefully on key relationships, but we have a lot of dry powder there and we think actually some of the better opportunities are coming because there are a lot of banks that are full in that area.

Our next question today comes from Christopher Marinac of FIG Partners.

Just a follow-up on loan pricing. Is the change in yields we saw this quarter more reflective of mixed shift as you were mentioning earlier, Robert and John? Or is it also part of sort of you're looking at new business opportunities in the Carolinas and just sort of types of business you're pursuing?

I'd say -- let me just kind of macro. I think John can give you maybe more color on the segments, but the -- from a macro perspective, what we're seeing is nice increases in loan yields. So there certainly was some remixing. We certainly had some of the CRE roll off. We had some heavier 4 -- 1 to 4 family growth this quarter. But our C&I yields, our owner-occupied CRE, which were a lot of part of our -- a big part of our growth this year -- this quarter were really good and we've continued to see step up. So beginning of the year, we were -- new production was coming on slightly up by 4. Now, it's coming on in more of like the 4 40 range. So we're continuing to see improved yields on our new and renewed loans.

Chris, what I would add in the mortgage space, as you've seen with us, our history is as fees go down, refinances go away, fixed rates go up. We are big believers in the ARM business on balance sheet when the deals get to this place. So we're doing more 3/1s and the 5/1s and 7/1s. We like that product. We find that product churns pretty nicely.

If you look in the construction and land development book, you saw a pretty nice decrease there. The majority of that was construction loans going permanent. Some of them going into the secondary market. Some of them have the -- keeping that ARM option on balance sheet.

So we clearly are seeing some consumer growth. And that's kind of muted the overall yield increase in our portfolio right now, but we like that business. Clearly, there's lots of pinnacles from that mortgage been business on the deposit side that those new relationships that we're bringing in.

And so just to give you a little color. I mean, so John said the mortgage piece is muted, the overall loan yield some. So if you just look at the commercial segment alone, the loan yield is there closer to 4.5.

That's great, guys. That's very helpful. And just a follow-up, as you continue to generate capital strongly as you are, where does dividends and general return of capital kind of fall into your mix? Or should we really just think that you would redeploy through organic growth and select acquisitions only?

I think our initial thought was that we wanted to kind of get back -- earn back the TBV dilution we took from the Park deal. I mean, obviously, you saw a slight increase in our dividend this quarter, but we wanted to get through the expense save -- get the expense saves out of the Park run rate. We want to earn back the dilution that we took as quickly as we possibly could to get our TBV number moving back in the right direction. You saw that certainly make good strides this quarter.

And so now we're having a lot of discussions with the board on overall capital allocation. And I think that within -- I don't think anything's really off the table there, but obviously our primary goal would be to try to find ways to leverage that and generate nice returns off of it and feed that through organic means or M&A means. But dividends have always been an important part of our story and I think will continue to be.

And the next question today comes from Nancy Bush of NAB Research.

A question, sort of bigger picture M&A question. I mean, I think when we look at the Southeast, there is the most churn going on in this region of probably anywhere in the country and it's sometimes easy to lose track of all the deals that are in process. So if you could just sort of step back and tell us how you have been impacted by all the consolidation that's going on, what have been the opportunities, what have you had to respond to most immediately, et cetera?

Nancy, this is Robert. I'll start. I wouldn't say there's really been a significant impact. I mean, the markets that we operate in, if you look at the share of where those banks have acquired, there's not as much overlap. And where there is, they're typically small market share and a larger market. And so I wouldn't say that there's really been an impact. I mean, we typically compete with Wells Fargo, Bank of America, BB&T. And those are the -- SunTrust. I mean, those -- that's who we really compete against. The new names in the market that have come in or consolidated, they're typically low share in the markets where we are and we really don't run into them a lot. It's mostly us versus the large banks.

Okay. What about...

So I think in terms of strategy -- to your kind of strategy question, kind of no different. This is kind of what we've been doing here for 25 years in terms of our focus, our recruitment efforts. I think if you look at our recruitment efforts this quarter, we really added some nice people and that all came from the larger banks. So that's where we recruit from and that's where we tend to compete on business.

Okay. When you look at the competition, particularly the deposit competition that's going on in Atlanta right now, do you have any particular thoughts about that, about expanding your presence in Atlanta? I mean, is -- are you concerned about over-competition there right now? Do you still place that as sort of a high-value market, et cetera?

I think where we're primarily focused on are the large metro markets where we currently operate. That's our #1 priority is -- so if you kind of go through the list, clearly, Charlotte is the top of that list. We're #5 in share. We've made a major investment there. We've just added additional talent. We've got a really good branch infrastructure there. We can be successful in all 4 lines of business. We're in the early innings there and we've been there for a decade, but we're in the early innings. I say second, Richmond and Raleigh, both tremendous potential. I was in Raleigh just a few weeks ago, making some calls with our bankers. I think our opportunity there is very strong. And we'll be in Richmond in a couple of weeks, same opportunity there. And then Charleston and Greenville, that whole [ID5] corridor, really from the outskirts of Atlanta where we really pick up to Charlotte is a major growth corridor that we have a really dominant presence in.

So I think our focus, Nancy, tends to be on those markets. And I think Atlanta is a great market. I think there's certainly niches that you would have to find to be able to compete in to be -- to compete successfully because you're never going to be a top 5 player in that market. There's just no way to get there, but our focus is really not there today. Our focus is really the opportunities we have in front of us in places like Greenville and Charlotte and Richmond and Raleigh.

My second question would just be on the whole issue of loan pay-downs, which has been, I think, more exaggerated in the second quarter than anybody expected. And could you just give us your perspective on that? I mean, is this sort of normal or natural in the face of coming rate increases? And do you expect that this is going to be a condition that goes on?

Nancy, I -- it's probably not the popular answer. I see it as healthy. I see it as a natural part of the cycle and -- because most of those big, chunky pay-downs are coming in CRE. And we saw a tremendous amount of 1 to 4 family and we saw a tremendous amount of hospitality. We've seen a tremendous amount, even expect with those CRE construction. And so -- and you see a lot of banks at 300-plus in terms of leveraging the capital, so that has clearly been a growth play for a lot of banks. So I tend to think that has slowed as rates have moved up. Those projects don't work quite as well. And then there's just been an abundance of it. So I think there seems to be a little bit of a pause in those sectors and I think now those projects should be in completed, leased up and moved to insurance companies or more permanent markets. I see that as a healthy part.

Now, the part that we did not see for a long time was really business investment and operating companies. And our C&I growth was up 9% this year -- I mean, this quarter. So -- and our owner-occupied was up, I think, double-digit. So those components were the ones that I feel really much better about than -- so used overall loan growth that, I think, is a much healthier balance than we've seen over the last couple of years.

And our next question today comes from Blair Brantley of Brean Capital.

Most of my questions have been asked and answered. Just want to touch on fee income, just kind of update in terms of penetration with your treasury capital markets platform and also some overall thoughts on mortgage.

Blair, this is John. I'll start. On capital markets, I really feel like we're beginning to get some traction. We've really kind of moved upscale from what -- in terms of loan size from what Park Sterling was doing in the past. They had a tendency to do smaller loans and focused their capital markets efforts there. As we move more into this middle-market business, you mentioned treasury. We're clearly looking at larger deals. And so we see a lot of opportunity around the capital markets piece there.

On the treasury side, we've gotten through the conversion. I feel really good about that. We're really starting to get some traction there, really starting to see some very, very nice wins on the treasury side.

I think our outlook on mortgage, more on balance sheet. We -- like I mentioned earlier, we like the 3s and the 5s and the 7/1 ARMs. We really like the owner-occupied construction business. We find that gets you a checking account and that's one of the reasons we do mortgage. It's another way for us to get more core funding, but we've seen more of it going on balance sheet in terms of the mortgage business going forward. Our purchase business now is about 85%. So with those rates going up, really there's not that much refinanced opportunity there.

And my -- this is Robert. My comments, just as a follow-up, would be, I think, treasury is obviously a component, but it's really our whole commercial platform has been rebuilt over the last year. We're now bringing in some really good talent in that commercial middle-market space. That feels great.

On the treasury side, our technology is now on par. It's very good. We've got a lot of people on our old system still. We've converted all the Park customers over. They were on their system. We kept that system, but that's been integrated. All of the South State customers have not been and will be integrated between now and the end of the year, but I think you take the treasury platform, the additional talent, the capital markets piece and we're seeing really nice success and pipeline in all those areas.

Okay. Great. And then just one follow-up, obviously, with Durbin kicking in, it impacts fee income overall. I mean, any view on when that can be kind of earned back do you think relative to kind of the Q2 or Q1 kind of run rate?

It's going to take a while. Obviously, a fairly large number. It's going to take a while. The good news, I think, is we're seeing a core account growth. We're seeing people come in, open checking accounts. We're on pace to do 95 million debit card swipes this year. I don't think there's many banks our size that are going to be able to do that, but the Blair's going to take a while to get that fee income number back up.

And our last question today is a follow-up from Stephen Scouten of Sandler O'Neill.

One follow-up question. Can you talk a little bit about how you think about the balance sheet mix? Obviously, securities were down on an end-of-period basis. And I'm just kind of wondering how you think about the ability to grow deposits from here to match the loan growth or if we might see the securities book kind of shrink down to fund some of that loan growth?

Stephen, this is John. I think you could see that in the short-term. We've typically, if you look at total assets over our history, we've been in the 8% to 12% range of total assets. It's been a long time since we've been down to 8%. I think we will begin to see deposits grow more. We clearly have some seasonality in the second quarter. And it's something we're going to be very, very focused on as we move forward.

There are no further questions.

So I'll now turn the call back over to John Pollok.

Thanks, everyone, for your time today. We will be participating in the FIG Bank Forum in Atlanta beginning on September 17th and hosting an Investor Day in New York on December 12th. We look forward to reporting to you again soon.

This concludes today's conference. You may now disconnect your lines.