S&T Bancorp Inc (STBA) 2006 Q2 法說會逐字稿

Welcome to the S&T Bancorp Incorporated second quarter 2006 earnings conference call. [OPERATOR INSTRUCTIONS] As a reminder this conference is being recorded. I would now like to turn the conference over to Mr. Robert Rout, Senior Executive Vice President and Chief Financial Officer of S&T Bancorp Incorporated. Thank you, you may begin.

Good afternoon, everyone. Thank you for participating in the conference call. Before beginning the presentation, I want to take time to refer you to our statement about forward-looking statements and risk factors in the second slide of our webcast slide presentation. This statement provides the required cautionary language required by the Securities and Exchange Commission for forward-looking statements that may be included in this presentation.

Listeners are also reminded that a copy of the second quarter's earnings release can be obtained at our investor relations website at www.STbancorp.com. In addition a set of financial highlights slides is included with the webcast that supports what we are about to discuss. We do not plan to review the slide in detail, but we'll be more than happy to respond to any questions concerning them or any other aspect of our financial performance. Now, I would like to introduce Jim Miller, S&T's Chairman and Chief Executive Officer, who will provide a new review of S&T Bancorp's results going into the second quarter.

Thank you, Bob. And welcome everyone. We appreciate the opportunity to update you on what's been happening with S&T from both a financial performance and strategic perspective. As you can see from our earnings release, while all of our core business activities remain strong, earnings performance was off in the second quarter of 2006. The disappointing earnings resulted primarily from the deterioration in a few commercial loan relationships that led to a larger provision for loan loss expense than normal. Our total contribution to the loan loss reserve this quarter was $5.7 million, which is $6 million or roughly $0.15 per share more than the $300,000 negative provision in the second quarter of 2006. In addition, we charged down another commercial property that was acquired through foreclosure in the fourth quarter of last year by $700,000.

The most significant changes to loan quality during the second quarter of 2006 included the following three loan credits and the one REO property. Number one the classification of a $16.9 million credit facility with a construction company from impaired to nonperforming status. The Company continues to operate, but has experienced cash flow problems. S&T's collateral position, which includes receivables, equipment, and personal guarantees deteriorated during the quarter. The majority of our $9.7 million in specific reserves in the allowance per loan losses at June 30, is assigned to this credit.

During the quarter we have had and do expect on an ongoing forward basis to receive payments to reduce our exposure. We will evaluate our cash flow and collateral position on a regular basis on this credit and adjust that specific reserve up or down accordingly. Number two, a chargeoff of $1.5 million was recorded in the quarter for a wholesale distributor that filed for bankruptcy and was previously classified as nonperforming. No further exposure remains for this credit and future collateral recovery is expected, although the materiality of any recovery is difficult to pinpoint at this time.

Number three, a $4.6 million mixed use commercial real estate loan participation with another larger financial institution previously classified as nonperforming was charged down by $2.7 million during the quarter. The Company and owner have filed bankruptcy. The remaining $1.9 million exposure is the estimated fair market value S&T is expected to receive in sale proceeds based on our 28% participation in the loan. It's a very unusual case. Actually goes back to 1999. We believe that the lead bank made some serious missteps in the handling of this credit to our mutual detriment. We've had discussions with them about our concerns and engaged legal council to assist us in pursuing a remedy. We're taking a chargeoff for what we believe is prudent, since the favorable outcome cannot be guaranteed at this time on any potential legal action, even though we feel strongly that we were harmed by their handling of this credit.

The floor situation is a $2.4 million sale of a residential development property that we acquired through foreclosure during the fourth quarter of 2005. The proposed sale of the property did not occur as expected. Potential buyers chose not to complete the terms of the sales contract, forfeiting a $125,000 escrow deposit. S&T continues to market the property, but we believed it prudent to charge down the book value of this REO property by $700,000 based upon current markets and property conditions.

Despite these specific loan quality issues in the second quarter, asset quality remains a cardinal commitment of S&T, and as you know during the last two years, we have posted exceptionally good results with net chargeoffs of just 7 basis points in both 2004 and 2005. During the ten year period prior to 2004, our net chargeoff averaged 29 basis points, ranging from a low of 23 basis points in 1995 to a high of 34 basis points in 2002. While we're not looking to defend our core performance this quarter, loan chargeoffs are a fact of life in our business. And what I want you to know is that we continue to have complete confidence that our credit controls and risk management processes are functioning well. And that outside of these problems we identified our watch list loans are at very manageable levels.

Other points to note when comparing the income statement for the second quarter of this year with last year include the following. Deposit and loan pricing competition remain difficult. Funding costs are certainly rising faster than loan deals in this flat yield curve environment, but delinquent loan interest on increased levels of nonperforming loans was also a significant factor in this quarter's spread performance. As a result, net interest income decreased $100,000 or 1% for the quarter, but increased slightly on a fully taxable equivalent basis by $700,000 or 1% for the six months ended June 30, 2006 compared to the same period in 2005. The net interest margin on a fully taxable equivalent basis was 3.82% and 3.88% for the second quarter and year to date 2006 periods respectively compared to 4.10 and 4.09% for the comparable periods in 2005.

On the brighter side, service revenue growth increased $2 million or 12% for the six month period ending June 30. Due to our continued success in growing our revenue from retail services, wealth management, letters of credit, insurance, and credit and debit card activities. The relationship banking strategy among our lines of business continues to work very well. Operating expenses increased $2.6 million or 8% for the first six months of the year compared to the same period last year. Due primarily to compensation-related costs of year end merit based increases for staff. Increased staffing implements strategic initiatives and new retail facilities. We also had higher commission payments for wealth management, insurance sales, staff, and the start of stock option expensing this year, cost us about $400,000 year to date.

Operating expenses were also affected by a $500,000 donation to the S&T charitable foundation during the period and the previously mentioned write down of the REO property. On the balance sheet, earning assets grew by $179 million during the past 12 months, primarily through the growth in commercial loans of $169 million and $65 million in consumer loan growth. Invested securities declined during the period by $55 million due to limited security leveraging activities in this flat yield curve environment. Deposits increased $288 million or 13% over the past 12 months. And despite this bump in the road this quarter, we believe, as I said earlier, that our core business activities are strong, the strategic direction and vision we have for the Company is valid as ever. Our relationship banking strategy continues to drive our growth, and we expect to continue expanding our market presence through the addition of several new offices in the upcoming year.

As we've mentioned in recent conference calls, we long ago discontinued the practice of providing specific earnings guidance each quarter. And with that in mind, Bob and I along with Todd Brice, S&T's President and Chief Operating Officer would be happy to entertain any specific questions about our past performance and the future outlook for our business in general.

[OPERATOR INSTRUCTIONS] Our first question is from Wilson Smith with Boenning.

Good afternoon, gentlemen.

Good afternoon, Wilson.

Jim, do you think you could give us a little more color on the net interest margin in terms of where you're seeing the most pressure on the funding side and if you see that continuing at the current levels?

Well, a couple things I'll mention. We capped off our green plan at the end of if first quarter, actually I think March 26. And with the continuation of the increase in short-term rates, we did notify our depositors in that those accounts that we were going to reduce that index somewhat. So we're going to get a little bit of relief from that in the going forward beginning early August. What we're seeing is the people are obviously -- the depositors are obviously happy with what they're seeing in the rate market, and people are staying short because of the way, where the yield curve is. And it's difficult to get anyone to get along.

On the other side of the balance sheet, all of those borrowers that wanted to convert to variable rate loans on the way down are coming in saying, gee, I'm getting the offer of a 10-year fixed rate from bank X at a sub -- below prime rate. And you're having to deal with those types of issues. So that's really what's putting the pressure on the margin. Actually you saw our deposit growth numbers are pretty good. Obviously, we're seeing kind of the opposite of the affect that we saw when rates were going down. We thought we all became geniuses at collecting demand deposits overnight on the way down because our balances kept growing. And we weren't kidding ourselves, we realized that a lot of that was the fact that rates were so low on the short-term instruments that people were just leaving more money liquid. And you're sort of seeing the opposite affect on the way up. We've actually done a pretty good job. In fact, I'd say a very good job of acquiring demand deposit relationships from the new businesses that we're developing as well as retaining the relationships we have. And people aren't just managing their liquid balances much better than they have in the past because of the short-term rates that have available to them now.

Yes, I think it's, Wilson, it's Bob Rout, it's not just the funding side. It's we're getting as much if not more pressure on the asset side.

Point that you would expect compression to continue?

I think that's reasonable. I couldn't give you an estimated number on that, but until the shape of the yield curve changes, I think all banks are going to be under pressure.

I think we'd all love you to give us an estimate if you'd like, Bob. Given the moves you made on the credit side this quarter, Jim, you said that the watch list looks manageable, how does it compare to last quarter and a year ago?

Well, we were just talking about that, actually the fixed rated credits, which are our watch list credits are actually lower than they were, I don't have the numbers in front of me. If I go back, excuse me one second -- yes, I guess that's the number Bob says we don't disclose. But as a percentage of our outstandings, they are improved from where they were let's say December of last year. Fairly significantly.

And how's the loan backlog look? You had a good quarter.

Pretty good. Our pipeline, we had our rate -- what we call our great mind meeting here which we meet with all of the Vice Presidents and above once a quarter. We had that meeting this morning and one of the things we talked about was volumes and backlogs and actually the backlog is the strongest we've seen it. Having said that, we also experienced the -- a couple pretty substantial pay downs on some mini firms for projects that the borrowers took out to the wholesale markets because they could lock up long-term rates, fixed rates, the guarantees and -- pardon me?

One customer sold their project. Right. So you've got that, we fight that battle all the time. I think the best news is that, I mean that's kind of an ongoing issue on the commercial side because we do a fair amount of construction lending and mini perm type lending. The good news is that last year at this time we were still experiencing runoff in the consumer portfolio. And now we've had about $65 million in growth in the consumer portfolio this year. So that's helpful to us, as well.

Great. One last question and then I'll let some other folks hop in here. The increase in the other income category was pretty nice this quarter. Bob, could you give us a little color on that? Was there anything special in there?

No, not really. We continue to experience double digit increases in almost all of those lines of business from retail to insurance, to wealth management. They're operating as they should be. And we have some letters of credit in there. We have had a downturn in our mortgage banking revenue. Some of that is a slow down in the market. Also we're a little more willing to put some of those lines on our balance sheet. Not the 30-year stuff, but some of the 10 and 20 years as interest rates rise. But there's really nothing unusual, Wilson, it's just good steady growth in all categories.

All right. Thank you very much.

You're welcome.

The next question is from Rick Weiss with S&T Bancorp.

Yes, hello?

Hi, Rick.

Well, it's hard to believe, but I think Wilson asked just about every question that I had. Let me ask one thing, with regard to the loan loss reserve, kind of curious in view of the higher level of charge offs this quarter are you still keeping it at 147? I wonder do you feel as if asset quality could be a problem in future quarters so you like to keep it at a high ratio? Or just What's your thinking there?

Well, there's a certain amount of targets. I think what I was going to say, and Bob can echo this or add to it, but these days you have to justify every penny that you have in the loan loss reserve. And that's why you've seen such a big swing. Last year this quarter, we actually had a $300,000 negative provision. We would have loved, the banker in us, would have loved to continue to build that reserve. But the rules are a little different, the SEC looks at things differently than the banking regulators might and that we historically might.

It's a process every quarter of analyzing our portfolio and justifying what's in there based on the status of the portfolio. There is a fairly significant specific reserve number in there as you know, Rick, and if that came out of there, I don't know where we'd be. There for a reason. Yes, so about 9 million of that 38 million is specific -- is allocated specific reserves.

Okay. Okay. Do you think that the credit outlook is a little bit bleaker now than it was, say, six months ago as a result of like what you've seen this quarter?

I don't know that it's, that this quarter is any good indicator of the future, but I think it's a very reasonable question to ask. You folks are probably in a better position to answer than we are. But will we see delinquencies and chargeoffs go higher in the short run? I think, you know, you've got this rapidly increasing short-term rates, if you have a customer that had $1 million dollar line of credit, that they had out they paid $40,000 a year in interest carrying costs when prime was at its low point. Now they're paying $82,500, so their interest costs have more than doubled.

We're also seeing people who are experiencing much higher costs in some of their construction-related expenses because of a lot of its driven by fuel, oil prices, and the oil-related product prices that go into a lot of these construction projects. So what we have seen and I think we talked about this a little bit last quarter, we do a projected commercial loan delinquent -- or projected delinquency for commercial credit every month. And we've seen that list grow. And more people are going five or ten days past the due date or fifteen days past their due date, but our actual 30-day delinquency numbers are still pretty good, I think it was 106 for June. And it was actually trending down a little bit the last couple of months. Is that right? 106 for June and trending down a little bit.

I think the period that we went through in '04 and '05 when we had those 7 basis points of chargeoffs each of those years, a lot of that was attributable probably to, I hope some was attributable to good underwriting and loan decisions. But also some of it would have to be attributal to historically low interest rates for businesses in particular and a great economy. So if we see rates rise, if we see inflation pressures come into the equation, and if the economy begins to slow, it would be reasonable to expect that you're going to see some deterioration in some of those asset quality numbers. But that's just common sense I guess. But again we're not making any predictions here. We're just -- but that seems like a reasonable expectation.

Okay, thank you very much.

You're welcome, Rick.

[OPERATOR INSTRUCTIONS] The next question is from Andy Borrmann with SunTrust Robinson Humphrey.

Afternoon guys, how you doing?

Hi Andy.

Couple questions, one, you know most of the credit activity, the chargeoff activity is in the commercial real estate arena. What kind of ratio is that right now to your overall MPAs? Is that still the same or does it come down or kind of what's the story there?

Well--.

Let me make sure I understand the question again, you want to know what portion of those nonloans are related to commercial real estate?

Yes, sir.

I don't have a number handy, but the biggest one we have is of course that mixed use real estate that Jim was referring to. We're not, we're not seeing, if you're looking for a trend on that type of issue. Is that what you're--?

Well, yes.

We're really not seeing anything here regionally on the construction end causing problems other than the issues that Jim was talking about, rising fuel costs, materials, and some interest rates.

Right. Okay. Well, my second question then is, Bob, I think you had mentioned that delinquent -- you had mentioned delinquent interest in your comments and I think you were indicating that it incurred the net interest margin during the quarter?

Yes, sir.

How much of the impact -- how much of the decline this quarter was the due to that delinquent interest? Do you have that?

Yes. For the quarter it was 500,000 we had to reverse. And year to date it would be 700,000.

So that was a pretty big chunk. And then the last thing I was going to ask you, if you, I mean, obviously your reserve levels come down pretty significantly this quarter because of all the activity, but I was trying to break-out this specific reserve you have for this large credit line. The one on nonperformers. It looks like if you back that out, you guys are back up to maybe 240 to 250% coverage of your nonperforming loans. Is that a level that you're comfortable with? How do you look at that?

Can we get back to the issue of targeting a loan loss reserve to total loan ratio. Or targeting a loan loss reserve to nonperforming ratio or one of those other number of credit quality statistics that bankers use. We don't target those numbers as a goal. I mean, we run the loan loss reserve model almost on a monthly basis and pay very close attention to it. That is what drives, of course, the provision expense and the level of loan loss reserve. And, of course, nonperforming is a factor, but.

Yes, one of the things, I think that we've experienced in this -- I believe it was the fourth quarter of 2004 when the new -- we adopted this new model for the loan loss reserve rather than trying to budget more consistently just based on historical trends. And what we've seen is that -- and what I think we expect to see in the future is more of what we call lumpiness in the quarterly reserve allocations. So when you -- there will be quarters and we've seen -- I mean a year ago this quarter, we couldn't put anything in. We had to take 300,000 out of reserve. This quarter we make a $5.7 million provision because of the convergence of these problems that deteriorated in the quarter. I can't tell you what it's going to be next quarter. But I can tell you that you're going to see some wide swings, I think, from quarter to quarter relative to the loan loss reserve for most banks. Most banks because of the new focus and the new methodology that we're required to adhere to.

Got you.

We don't mind justifying what's in the reserve, but it does -- it is different than what us conservative bankers have been through in the past. It sounds wonderful. I remember, getting a call from Bob Rout last year, I happened to be out of town when the earnings was -- were being finalized and him telling me it was going to be $0.58 and we were thinking something in the neighborhood of $0.03 or $0.04 less than that. And it's because we really couldn't put anything in the reserve and we had this 300,000 reversal. And I'm like that sounds good today, but I'm not sure how good that's going to feel in the future when we're comparing it to other periods. And that's kind of what we're faced with these days.

Yes, well, guys I really appreciate the detail you gave on credits. I know that's not something that's all that fun to talk about. And I look forward to see what goes on in the future.

Thanks.

Gentlemen, there are no further questions at this time.

Okay. If there are no further questions, we thank you for participating in today's conference call. And Bob, Todd, and I appreciate the opportunity to discuss our financial results with you for the second quarter of 2006. Good-bye.

This concludes today's conference. Thank you for your participation.