S&T Bancorp Inc (STBA) 2009 Q1 法說會逐字稿

Greetings, ladies and gentlemen, and welcome to the S&T Bancorp quarter one 2009 earnings conference call. At this time all participants are in a listen-only mode. A brief question-and-answer session will follow the formal presentation. (Operator instructions). As a reminder, this conference is being recorded.

It is now my pleasure to introduce your host, Robert Rout, Senior Executive Vice President and Chief Financial Officer for S&T Bancorp. Thank you, you may begin.

Good afternoon, everyone, and thank you for participating in the call. Before beginning the presentation I wanted to take time to refer you to our forward-looking statements and risk factors on the third slide of our webcast presentation. The statement provides the cautionary language required by the Securities and Exchange Commission for forward-looking statements that may be included with the presentation. I also remind you that there is a copy of the first quarter earnings release that can be obtained on our investor relations website at www.STBancorp.com. A set of financial highlights slides is included with the webcast that support what we are about to discuss, but we do not plan to review the slides in detail but we would be more than happy to respond to any questions concerning them or any other aspect of our financial performance this quarter.

I would now like to introduce Todd Brice, S&T's President and Chief Executive Officer, who will provide an overview of S&T's first-quarter results.

Thank you, Bob, and good afternoon, everybody. As you can see from our earnings release and financial slides, this was a difficult quarter for us as a result of credit issues. Troubled loans are a concern for everyone these days, and really with the uncertainty in the economy, we thought that it was prudent to be aggressive with provision expense and loan loss reserve this quarter. The increased provision expense of $21.4 million was the major contributor through our $3.1 million, $0.11 per-share loss this quarter.

I want to provide a high-level overview of the current credit and economic scenario and how that is impacting S&T, then I'm going to turn the discussion over to Tony Kallsen, our Chief Credit Officer, who is going to review more credit specifics in more depth, and also over to Bob Rout, our CFO, who is going to review some of the other significant factors in this quarter's performance.

As I mentioned in last quarter's conference call, we are beginning to see anecdotal stresses within all segments of our commercial loan portfolio as a result of the unprecedented economic downturn. During the first quarter we did see this downturn intensify, such as manufacturing, which continued its downward slide, residential development and sales remaining weak. Commercial real estate continued to feel the effects of a weak economy. We've had companies experience difficulties in collecting their receivables, automotive-related industries and retail sales hitting new lows; C&I line of credit and credit utilization declining dramatically as companies begin implementing deleveraging strategies; and finally, commodity prices dropping significantly.

I think all of these economic factors plus many more hit intensely and quickly, resulting in the credit issues that we are currently experiencing.

From a credit quality perspective we are focusing our attention on a number of areas. First, obviously, is our commercial real estate exposure, which is our largest loan segment. We trust that our underwriting decisions on these loans, which normally included personal guarantees, 20% to 30% equity and conservative amortization terms, will serve us well during this period. I think, however, we also recognize that industry-wide pressures will influence the performance of this portfolio as the normal excesses of real estate cycles are corrected.

I think of particular concern is the influence of the many projects that were underwritten in the secondary market in the last five years with rates and terms that really, I don't think, made sense then, and certainly don't now. The next area we will be focusing on is out-of-state loans. We currently have 10% of our portfolio, or $348 million in out-of-state loans. For the most part, these are loans with existing local customers using the same underwriting criteria that we use throughout our commercial loan portfolio. I think the intensity of the recession has been significantly higher in some parts of the country than here in western Pennsylvania, and we are seeing higher credit stresses in that out-of-state portfolio.

Most of the troubled loans this quarter are large and complex and, by their nature, they are going to take some time to resolve, especially in this market where liquidating distressed assets is difficult at best. Therefore, we have added substantial resources to our loan workout group. Any loans connected with the auto industry, both floor plans and real estate, are being monitored closely. Those customers at this time appear to be weathering the economic storm.

The good news is that we are seeing some anecdotal evidence of improved business and economic metrics through discussions with our customers, and we hope so -- obviously, we are now 17 months into this recession.

I think also our residential mortgage and home equity loans continue to perform extremely well as result of consistent, conservative underwriting and the absence of any sub-prime products. In fact, our residential mortgage and home equity applications hit record levels as consumers took advantage of low rates and as sub-prime lenders have now moved off into other occupations.

Commercial loan growth was negative this quarter. Most of that decreased activity is the system-wide deleveraging that's occurring for most businesses, a slowdown in real estate development and an overall hesitancy for customers to assume significant risk until the economic and political picture becomes clear.

As for our other lines of business, retail insurance and wealth management, these areas are performing well, given the circumstances. [I think] the soft market for insurance premiums, and of course everybody knows what has happened in the investment markets, and that doesn't help as well. But I'm real proud of how these folks are making the best of that market and positioning themselves for when the market does turn.

The latest area that I want to discuss before turning it over to Tony Kallsen is our participation in the United States Treasury Capital Purchase Program. As announced earlier this quarter, we received $109 million in CPP funds in exchange for preferred stock and common stock warrants. This decision was very difficult for us at the time because we felt at that time we were really well capitalized. We did do a pro forma shock analysis, and it showed that we could incur up to about $105 million of credit losses and still remain well capitalized. Really, so our decision was made at that time to participate based on the fact that we did view it as added insurance against a deeper and prolonged credit downturn. Also, there could be substantial change in regulatory capital roles which we're already seeing signs of occurring with proposed bank stress tests, and also some additional capital for potential acquisition opportunities that are sure to come in this environment.

As you know, the program was originally promoted and encouraged by regulators as one for healthy banks to stimulate the economy. But obviously, the rules of the program are continually changing. And really, right now it's become a political scapegoat to draw attention away from other issues. But we do think that our decision to participate was the right one at the time, and it still is, given the uncertainty of economic environment. It is also our intent to seek regulatory approval to pay back the funds once the economy and regulatory direction become more clear.

So with that, I would like to turn the program over to Tony Kallsen, our Chief Credit Officer, who is going to talk about some of our credit-related issues.

Good afternoon. There were significant changes in credit quality in the first quarter. Non-performing loans increased 117%, criticized assets increased another 8% and annualized net charge-offs are 49 basis points.

Given this deterioration, management elected to aggressively increase the balance of loan loss reserves through a provision expense in excess of $21 million this quarter. This resulted in a net increase to the provision account of $17 million, $12 million of which was an increase in specific reserves. The additional $5 million increase is a result of changes in several qualitative risk factors within the loan loss reserve model based on observations regarding both macroeconomic conditions and the aforementioned changes in asset quality.

Increases to non-performing loans and specific reserves are primarily the result of the following -- a $32.3 million in C&I relationship with a natural gas drilling and production company. Recent decreases in natural gas prices created significant cash flow difficulties for this client. A $9.3 million specific reserve has been established.

A $7.5 million participation loan in a commercial real estate development -- development plans have been suspended pending improved economic conditions. $700,000 in specific reserves has been established.

A $2.5 million C&I relationship secured by partnership interests -- these loans have been fully reserved pending resolution of legal issues among the partners.

A $4.1 million real estate relationship comprised of three distinct projects, the largest of which is a $3.7 million condominium project that has experienced slow absorption. Specific reserves of $600,000 have been established.

A $3.4 million condominium project -- $200,000 specific reserves has been established.

Over the past two decades, the Bank has developed a significant out-of-state CRE lending practice. This has deservedly been a topic of recent attention with some of these geographies experiencing a more dramatic recession than western Pennsylvania. This has also been the subject of considerable management focus, and I would like to take the time to discuss the risk profile in this space.

The Bank has $348 million of CRE loans that are out-of-state. This represents 20% of total CRE loans and 10% of total gross loans. Significant investments include retail strip, apartments, hospitality, offices and commercial development. Overall, the credit quality experience in the out-of-state portfolio is unfavorable. Delinquencies are more than double, and non-performing loans are more than quadruple the in-state CRE portfolio.

Over 60% of the out-of-state exposure is concentrated in New York, Ohio, Florida and Arizona. Investments in the other states are relatively granular. New York represents 28% of the out-of-state portfolio. The average loan balance is $1.7 million. The turmoil in the permanent market combined with flat competition resulted in significant growth opportunities over the last 12 months. Concentrations in this market are hospitality, commercial development, retail strip and flex space. New York is a leader among the other states with higher volumes of delinquencies and criticized loans.

Most of these have been recognized as non-performing loans in prior quarters. 38% of New York-based loans are in the New York City MSA.

Ohio represents 20% of the out-of-state portfolio. The average loan balance is $2.7 million. Concentrations in this market are retail strip, offices, apartments and hospitality. Our credit experience in this market is favorable with no criticized assets or delinquencies as of March 31.

Florida represents 9% of the out-of-state portfolio. The average loan balance is $1 million. Concentrations in this market are one- to four-family developments, retail strip and residential non-rentals. The one- to four-family developments have been put on hold and are currently risk rated substandard. The Bank has been restructuring these loans by taking additional collateral.

Arizona represents 6% of the out of state portfolio; the average loan balance is $1.8 million. The Bank did finance one condominium project which has experienced slower than expected sales. This is one of the credits mentioned during the on-performing loan discussion and has been accounted for in our loan loss reserve model.

Other concentrations include dealerships, retail strip and commercial development.

I hope you have found this helpful. Next, Bob Rout will walk you through the financial presentation.

Thank you, Tony, and again, good afternoon, everyone. It has certainly been a busy and interesting quarter for us with, of course, credit dominating most of the discussion. But I want to quickly go through some of the other issues affecting our performance this quarter.

The first is net interest income, which is affected this quarter by a contraction in the net rate and also negative loan growth. Some of that contraction on a linked-quarter basis in the net rate is a result of the unusually large spreads between Fed funds and LIBOR that occurred in the fourth quarter, which did provide a nice benefit for our LIBOR-based loan portfolio. Some of it is related to the dramatic decrease in short-term rates as the Fed got aggressive on that particular economic stimulus tool. Our CD rates and borrowings responded nicely, but our NOW money market and CMA deposit account rates could not keep pace with that change since rates were already at fairly low levels.

In addition, we have become more aggressive in soliciting core deposit fundings in order to decrease our reliance on the Federal Home Loan Bank fundings. Increased delinquent interest was a factor this quarter for net interest income.

And lastly, as you can see from our balance sheet, a significant amount of deleveraging has occurred. We believe that high liquidity and high capital positions are the conservative place to be in this economic environment.

Our fee revenues have performed well as a result of the Irwin Bank merger and a record performance in our mortgage banking activities. Insurance and Wealth Management are also performing well, given an extremely tough market for those lines of business.

During the quarter we incurred two other than temporary impairments in our equity portfolio for $1.3 million. It's our policy to record other than temporary impairments in this equity portfolio when a holding has unrealized losses for 12 consecutive months. The portfolio currently has a combined net unrealized loss of $4 million and may incur future impairment charges until this market turns. The good news is this portfolio has been systematically reduced to $13 million outstanding and is primarily comprised of local banks where we might have a potential merger interest.

We have been disciplined in our debt securities, which are primarily agencies, treasuries and municipals, and have never incurred any -- have never included any sub-prime instruments or trust preferreds. The credit quality of this portfolio remains excellent, and we don't have any other than temporary impairment issues currently. We do currently hold $24 million of Federal Home Loan Bank stock. There was some industry discussion of potential OTTI for Federal Home Loan Bank stock earlier this year, but for now that issue has quieted.

Non-interest expense is up significantly on a year-over-year basis. A lot of the increase is associated with the increased infrastructure, staffing and core deposit intangible amortization resulting from the Irwin Bank acquisition that occurred in the second quarter of 2008. Some of the non-Irwin Bank merger-related issues that are included in non-interest expense this quarter would include increase to client benefit; pension plan expense of $800,000, primarily due to the market impact on the investment portfolio; increased FDIC insurance expense of $1.9 million. We, like a lot of other banks, were accounting for the billings on a prospective basis, and we made that correction here in the first quarter. And, we have seen significant increases in our legal, loan, consulting and accounting expense as we work through troubled loans.

Looking at taxes, we finalized an IRS audit here, and that cost us $300,000.

And the last item on our income statement is dividends and warrant amortization for TARP funds, which cost $1.3 million on an after-tax basis this quarter. As Todd mentioned, we are real anxious to get this item out of our financials.

So with that, now, I would like to open up the call for any questions.

(Operator instructions). Matt Schultheis, Boenning & Scattergood.

What is your exposure to the energy industry?

How about if I have our credit [counselor] answer that question for you, Matt?

In terms of total commitment, it's about $122 million. Outstanding is around $67 million.

And that's after -- does that include the loan you put on non-accrual or not?

Yes, it does.

So most are probably smaller, because you guys have been doing that for, what, 20 years or something like that?

Yes.

I'd point out -- also, included in that exposure, it's not just -- it's actually energy and some other -- there might be other municipalities in there as well; you know, water service, etc.

Okay, so it's not just drillers on the shale?

Yes.

In aggregate, how much of the increase in the non-accruals, the ones you guys experienced in the first quarter -- how much of that was out of market in total?

Of what we identified in the press release, the out-of-state commercial real estate loans would be about $11.2 million.

Okay, and the FDIC expenses for the quarter -- and excuse me if I missed this, but does that include any accrual for the special assessment?

No, it does not.

Damon DelMonte, Keefe, Bruyette & Woods.

I was wondering if you could quantify what your exposure is to the auto industry, particularly dealer floor plans?

Sure. We have about $23 million, Damon, in new car floor plans.

With respect to the out of market loans, how much of those are actually shared national credit versus maybe an extension of a lending relationship that you have somebody in your market?

I'll let Tony handle that one.

Actually, none of those would be shared national credit. S&T is not a large shared national credit participant. We are involved in I think three transactions. None of those involve commercial real estate out of market.

I'd just like to comment on that as well, Damon. The three that we are involved with are companies that are in our footprint. We have -- in a couple of cases, we have other relationships with the company in addition to the exposure into the large share credit. But that was just a little bit bigger than what we had wanted to get involved with. But we do know the management and we do know the companies in those three that we do have in our portfolio.

How do you originate these loans, then, that are out of market?

They are predominately with customers that we've had relationships. Like I said, we have been doing this, as Tony indicated, for 20 years, and it [tags] on into other markets. And we go out and we did spend some time getting to know the markets. And occasionally we may sell a piece off to a bank in a market just to kind of almost keep an eye on the market conditions.

But you're the primary -- you have direct access to management, basically?

Yes.

Can you kind of a frame out the outlook for the provision going forward? Do we tend to read this quarter's provision as a one-time because of a quick deterioration, or are you guys forecasting something similar as we go forward into 2009?

We think we've been very conservative with addressing the problems as we know them now. The key here is going to be what's going to happen to the economy. We are certainly seeing stresses in every commercial segment that we deal with. So I don't think we can do any type of projection at this point. We have fully conservatively addressed the issues as we know them now. If you had asked me last quarter, if you'd have thought we would have had a doubling of non-performing loans this quarter, I would have thought you were crazy.

Mike Shafir, Sterne Agee & Leach.

As we think about the margin in the low rate environment that we're in, and seeing as how you guys are predominately a commercial lender, directionally you have to think that there is still going to be continued pressure on the NIM. Would that be fair?

Some of it is because of the low rate environment, Mike, but we're also having -- seeing better pricing power on the asset side. We are not getting a whole lot of customers squawking when you put floors on your variable rates.

A couple years ago you were looking at deals of 150 over LIBOR. We are seeing them 250-300 plus now. So that does help some.

The other thing, I think, is on the liability side, the pricing has seemed to calm down a little bit in the marketplace as well, so that's having less of an impact. So I would say long-term, that we would hope to see some expansion in the margins.

That's a good point. When you start taking some of the marginal players out of the market that become a little desperate for liquidity, then your rates start settling down to more market-based, and you are not fighting that uphill battle all the time.

Do you guys feel that on the deposit side there's still a lot of room to work those costs down as well?

There's not a lot. Of course, there's not a lot of room on any of the rates to go down much further, when you're at 25 basis point Fed funds.

Right, so I guess then, as we look into 2009, outside of an inflationary move in the current environment, there still would have to be some pressure on your margin? Would that be a fair statement?

Oh, yes.

As far as -- how are you guys thinking about loan growth? I'm assuming you are relatively selective now in terms of the stuff you put on your books, judging by the lack of growth we had this last quarter?

We try to be conservative throughout, Mike, even prior to things slowing up. But what we are finding is, really, customers are making the selection not to borrow money, it's just demand that's real soft right now. We've seen line utilization drop from 50% down to 40%, which has had a pretty significant impact on outstandings. They are just putting the capital expenditures on hold. The G&A receivables come down. They're seeing their inventory shrink. So they are not out in the marketplace trying to finance working assets right now, and everyone is just being real cautious right now. They don't want to go out and put any debt on their balance sheet until they are certain that they see things turning around right now.

The other thing, too, Mike, would be commercial real estate. Even your most daring of real estate developers are thinking twice before they jump into a deal.

Sure. My other question, then, would be charge-offs, in terms of the ratio of charge-offs to average loans, did come down this quarter. I know you guys were dealing with a pseudo-one-time item last quarter in terms of broad scenario. So as you see -- like you said, if we were to ask you last quarter or to predict a non-performer could go up at such a high level, you certainly wouldn't have been able to predict that.

That being said, as non-performers tend to increase with some of the softness you are seeing, especially in the out of market portfolios, how do you think about the lag in terms of the resolution time and then the potential build in charge-off activity?

Well, this certainly isn't the market to be selling distressed assets. We do know that some of these are going to take a little longer time to resolve than they might have in better markets. And some of these companies that we have on non-performing perhaps will recover, and -- to work through with them through these tough times. So I really can't make a prediction that current non-performing balance to -- what that is going to translate into our future charge-offs.

Rick Weiss, Janney Montgomery Scott.

I was wondering if you could just give a little bit more color with the energy-related company. I'm assuming that was in western Pennsylvania?

And also, when you set up that $9.3 million for specific reserve, just kind of briefly, how is that determined? Do you think you get it all in one shot, or is there a possibility for additional reserves coming in?

Well, they are pretty tough questions.

Well, the first one is easy, it was the question of Pennsylvania.

Well, yes. The issue there is, as you can imagine, we are actively working with this client. And I think I'm a little hesitant to release any additional details about the client at this time.

With respect to the specific reserves, I could tell you what our methodology is. The Bank has always been pretty quick to take charges when it can quantify the loss. In this particular case, we haven't fully quantified that, so we made our best estimate as part of the FAS 114 process in the [ALLL] model. I can't, at this point, predict that that will be the extent of the loss or be able to tell you what period we will actually incur the loss in.

We did have an independent party come in and provide current valuations at market conditions today. But obviously, with the commodity price, those are subject to change.

And that loan -- that was not mentioned, I guess, in the 10-K or anything like that. This is something that happened fairly quickly?

Yes.

That's definitely a Q1 event.

In the past, with regard to policy, do you generally see recoveries when you're -- instead of the charge-offs because of reserves? I know you have been typically very conservative and aggressive. Do you typically see recoveries, though?

(multiple speakers) go both ways.

No; we have a history of booking a sizable amount of recoveries per annum.

Let me ask you like, I guess, exposure to how many other loans, like I say, I don't know, maybe greater than $20 million that are outstanding now? Are there a fair number?

Well, maybe, like what are your -- I guess, the size of your, say, eight largest loans, something like that?

This is David Antolik, Chief Lending Officer. We have about 29 relationships that are in excess of our house limit, which is $24 million. Those relationships would include a number of facilities each one of those borrowers. So we do have, like I said, 29 relationships in excess of the house limit.

And what was that house limit?

$24 million.

With respect to the margin, Bob, I think you started out and said that, I guess, the increase in the non-performing assets impacted the margins this quarter. Do you have a ball park on the number of basis points?

I can tell you what our delinquent interest was for the quarter -- about $3 million.

No, 3 basis points.

3 basis points, Mark.

Andy Stapp, B. Riley & Co.

I'm hanging in there. I'm surviving earnings season so far, but I think it's going to get worse before it gets better. Can you give us some color on how your CRE portfolio, other than construction and development loans, how that is faring?

Sure. From what perspective, Andy?

Are you seeing any signs of stress, and like -- obviously, retail would be a biggest concern. But just other areas, what do you see?

We are seeing obvious pockets, but I haven't seen anything that would give me cause to believe that the entire retail strip segment is in trouble at this point. And retail strip is one of the concentrations in that portfolio. So I would say they're hanging in there pretty well, relative to the economy.

There's no one segment that's really experiencing significantly higher problems than the other segments, is what you're saying. It's pretty widespread, the effect is.

The one thing I will just comment on, Andy, in this spot is, as you know, is we do or are currently performing updated information gathering on all of our real estate accounts, and we are getting current rent rolls and just want to understand what's going on. And if they are experiencing any kind of a problem with any of their tenants, we want to know about it. We want to try and catch it early and resolve it as quickly as possible and walk them through it.

And any news on the fraud situation, or is that premature?

Well, again, I'd ask from what perspective.

Any developments, or how is that working through the system? I guess it's going to take some more time to work out, I presume.

What we have left on the book, we believe, is supported with appraisals that we have. It will take some time to liquidate those assets, and I'm not sure I would project any major recovery there at this point. But I think we've recognized the lion's share of that.

Ladies and gentlemen, there are no further questions at this time.

Well, thank you for participating in today's conference call. Bob and I appreciate the opportunity to discuss this quarter's results, and we look forward to hearing from you at our next call.

Ladies and gentlemen, this concludes today's teleconference. You may disconnect your lines at this time. Thank you for your participation.