Valley National Bancorp (VLY) 2007 Q1 法說會逐字稿

Ladies and gentlemen, thank you for standing by, and welcome to Valley National Bank first-quarter 2007 earnings release.

(OPERATOR INSTRUCTIONS).

As a reminder, this conference is being recorded.

I would now like to turn the conference over to Chairman, President and CEO, Gerald Lipkin.

Please go ahead, sir.

Good morning and welcome to our first-quarter earnings conference.

i would like to turn the meeting over briefly to Dianne Grenz, who will read our forward-looking statement.

Today's presentation may contain forward-looking statements regarding the financial condition, results of operations and business of Valley.

Those statements are not historical facts and may include expressions about Valley's confidence and strategies, management's expectations about earnings, the direction of interest rates, effective tax rates, new and existing programs and products, relationships, opportunities, technology, the economy, market conditions and the impact of management's implementation of Statement of Financial Accounting Standards No.

159 and 157.

These forward-looking statements involve certain risks and uncertainties.

Actual results may differ materially from the results of forward-looking statements contemplated.

Written information concerning factors that could cause the results to differ materiality from the results that forward-looking statements contemplate can be found in Valley's press release for today's conference call, Valley's Form 10-K for the year ending December 31, 2006, as well as in Valley's other recent SEC filings.

Valley assumes no obligation for updating its forward-looking statements.

Thank you.

Well, the operating environment continues to be challenging for the banking industry.

During the last few years, the shape of the yield curve has created net interest margin compression for most banks.

Many companies have elected to address their bank's shortfall in net interest income through loosening standard credit standards while simultaneously expanding loan terms and entering into new lending lines and markets.

As a bank's asset quality position begins to surmount margin compression as the focal point, the manner in which each institution coped with the net interest margin compression will prove paramount.

During the last few years, Valley's loan growth has been conservative when compared to many in the industry.

Management has remained steadfast in its refusal to underwrite higher risk loan categories of loans at the expense of short-term increases in net income.

Management made a decision not to pursue subprime or negative amortization loans for the bank's residential mortgage or investment portfolios.

Our long-standing opposition to these types of products is based upon our strategy of building shareholder value without offering products that provide the bank with short-term economic rewards but could have a negative effect in the long-term.

Our culture of restraint is again proving itself correct as we read daily about the problems facing those companies that engaged in riskier types of credit.

Historically Valley's approach to lending has consistently produced lower delinquencies and losses than most of our competitors.

The first quarter of 2007 was no exception.

Valley's total 30-day and above delinquency ratio for total loans, including loans held for sale, was 0.78%, and that compares to 0.84% in the prior quarter.

Even more profound are the delinquency rates of Valley's consumer residential mortgage and home equity portfolios.

Including loans held for sale, only 5.7 million of Valley's entire 2.6 billion loan portfolio is delinquent more than 30 days, resulting in a 30-day delinquency rate of 0.22% compared to 2.87% for the industry.

At this time I would like to call on Al Engel, our Executive Vice President in charge of Consumer Lending and Residential Mortgages, to provide further details about this area of the bank.

Al?

Thank you.

In our own portfolio, nonmortgages are delinquent 90 days or more.

We have an average exposure of 42%.

Exposure is the entire amount due in relationship to the original appraised value on the loan.

Statistically adjusting these values to reflect current markets, our exposure dropped significantly.

None of our delinquencies are early payment default with the cause of most of our delinquencies being death, divorce or other life events.

Our 2005 and 2006 books have no delinquencies, including 30 and 60 day categories.

The industry has identified '05 and '06 as vintages with problematic performance.

The industry originated a large percentage of nontraditional mortgages in these years, and as the Chairman has stated in his remarks, Valley has not participated in the origination of these products.

Even in our service portfolios, we have 81 loans past due 90 days or more with an average exposure of only 60%.

We do not have any requests for repurchasing pending.

We do not expect to receive any requests for repurchase on any loans Valley has sold into the secondary market.

In the past 11 years I have been with Valley, we have sold over $1 billion of mortgages into the secondary market, none of which has prompted a request for repurchase.

Thank you.

Again, I think that reiterates the quality of the portfolio that Valley has.

During the quarter Valley produced net income of $49.4 million versus $40.9 million in the year ago period.

Adjusted for the 5% stock dividend declared on April 11, 2007, diluted earnings per share for the quarter were $0.41 compared to $0.33 per share for the same quarter of 2006, an increase of nearly 25%.

Our return on average shareholder equity of 21.57% ranks Valley among the highest within the industry.

During the quarter we implemented multiple balance sheet management strategies, which Alan Eskow will discuss in more detail shortly.

Additionally we sold a nine-story office building in Manhattan for $37.5 million versus a book value of $2.7 million, generating on a sale leaseback accounting basis an immediate $16.4 million pre-tax gain and providing future net interest income benefit as the result of reallocating the asset to interest earned.

Management has long asserted that Valley's tangible book value is understated by not incorporating the substantial unrealized gain on the approximately 90 facilities owned.

The sale of the building afforded management the opportunity to test our belief that the bank's owned real estate portfolio has substantial value in excess of carrying value.

For this property we received a price significantly greater than what management even had internally estimated the value.

While it is not management's intention to monetize every nonearning real estate asset on our balance sheet, as businessmen we must remain vigilant to the opportunities that become available to us.

While we prefer to own our branch locations and are not planning to sell these properties, we will always do what we believe will produce the best long-term returns to our shareholders.

Loan growth during the quarter remained seasonally light.

The recent slowdown of both residential and commercial development in our marketplace, combined with the seasonality of many of our New York commercial lending customers, led to a linked quarter decrease in loans, including those held for sale of $53 million.

However, although the first quarter is historically a sluggish time period for auto originations, our portfolio increased $43 million or 13.8% on an annualized basis.

Nearly 40% of Valley's dealer originations were made outside of Valley's New Jersey dealer marketplace, an increase from 26% in the same period one year ago.

However, we would like to remind our listeners that under a former program with a large insurance company, we used to originate and service a large volume of loans from Maine to Florida, and up to 90% of our auto portfolio came from outside of New Jersey.

Accordingly, this is not taking us into territory where we have not been successful in the past.

We continue to work towards finalizing our auto loan secondary market sales program, which we announced during the prior quarter earnings conference call.

As we previously noted, we already incur a considerable portion of the underwriting expense associated with these loans.

Again, we reiterate the fact that we intend to sell them without financial recourse.

To date we have not originated or sold any loans under this program because we have been engaged in enhanced due diligence to assure ourselves that we will not encounter unanticipated recourse.

We believe the program should be immediately accretive to Valley's earnings, and we do expect to commence it very shortly.

During the first quarter of 2007, we opened our first branch in Brooklyn.

The response has been tremendous to date.

Our Bensonhurst branch has generated over $25 million in deposits and 825 new accounts in less than three months.

Our second Brooklyn branch is scheduled to open this month and our third branch in Brooklyn by year-end.

Also later this year we will open our first offices in Queens.

With the addition of physical branches in the outer boroughs, we will be focusing our commercial loan development efforts in these markets.

In total, we intend opening at least 10 offices this year.

We continued to strategically fill in and expand our presence in neighboring communities within New Jersey and New York City marketplace.

I would like to now turn the meeting over to Alan Eskow, who will provide a little more insight into the first-quarter financial results.

Thank you, Jerry.

The first-quarter earnings contain numerous events which significantly impacted the financial results for the first quarter.

Let me begin by mentioning the impact to our financial statements related to the early adoption of FASB 159 and FASB 157.

While I intend to provide an overview of management's reasoning for early adopting FAS 159 and 157, as well as the corresponding financial instruments recorded at fair value, my comments will not be all-inclusive as we intend to provide full transparency of management's rationale and detail of the transactions in our 10-Q which will be released in May.

During the last two and a half years, we have witnessed significant volatility in the movement of interest rates on both the short and long end of the yield curve.

Short-term interest rates have increased swiftly from a prolonged period of record low rates to a level now greater than long-term rates.

As a result, many in the banking industry, especially banks more reliant upon net interest income, have experienced declining net interest margins and tempered growth in net interest income.

Valley is not unique.

Our net interest margin on a tax equivalent basis has decreased over 50 basis points during this two and a half year period to 3.45% in the first quarter of 2007.

Management has actively attempted to mitigate the decrease in the net interest margin through restricted balance sheet growth, while simultaneously improving the match funding of our earning assets and funding liabilities.

During 2006 Valley's investment securities portfolio decreased nearly $400 million, in part due to management restraint in purchasing new investments combined with the sale of over $130 million or 6.3% of the bank's available for sale portfolio.

As a result of the challenging interest rate environment during the last two years, management has enhanced its focus on better matching the economic benefit of the earnings assets originating with the economic benefits of the corresponding funding liabilities.

At the expense of deposit growth, we increased our utilization of long-term borrowings and repurchase agreements to better match the characteristics of the earning assets being originated and held in portfolio.

In addition, due to the negative complexity of many of these assets, management explored the utilization of derivative transactions to partially mitigate the interest rate volatility risk of those assets should the yield curve remain flat or inverted for a continued period of time.

However, based on the accounting guidance for the treatment of derivatives as stated under FAS 133, management elected to defer such action until the accounting guidance evolved to allow for an equal fair value treatment of both financial assets and financial liabilities.

While the issuance of FAS 159 on February 15, 2007 or with the issuance, management decided to review the potential new opportunities available to improve both its on and off-balance sheet management strategies.

After discussions with Valley's Board of Directors and the review of the potential impact of FAS 157 on Valley's balance sheet, the Company elected to early adopt both FAS 159 and 157.

As a result of adopting FAS 159, effective January 1 the Company elected to record the following specific financial assets and liabilities at their fair value.

$254 million of residential mortgages with a weighted average yield of 4.96% and an estimated duration greater than three years.

This entire portfolio is transferred to loans held for sale.

$1.3 billion of investment securities with a weighted average yield of 5.15% and an estimated duration greater than three years.

Approximately $285 million were previously categorized as held to maturity.

This entire portfolio was transferred also to trading assets.

All of Valley's fixed-rate junior subordinated debentures comprising $206 million with a weighted average coupon of 7.75% and an estimated duration greater than 10 years.

And lastly, $40 million of fixed-rate federal home loan bank advances with a weighted average cost of 6.96% and an estimated duration of approximately 2.5 years.

In determining which financial instruments recorded fair value, management focused its attention on each instrument's potential future earnings volatility, prepayment risks, extension risks and the market value and price risks.

In part as a result of early adopting FAS 159, management may actively hedge or trade these financial instruments in order to better manage the aforementioned risks and fair value volatility.

The net charge to stockholders equity from recording the aforementioned financial instruments at fair value is $29.5 million, which was comprised of the following.

$5.6 million adjustment for residential mortgage loans recorded at fair value.

$17.5 million adjustment for investment securities recorded at fair value, net of the $13.4 million reclassification from OCI to retained earnings.

$5.2 million adjustment for all of Valley's fixed-rate junior subordinated debentures and $1.2 million adjustment for fixed-rate federal home loan bank advances recorded at fair value.

Subsequent to March 31 and management's decision to report approximately these $1.8 billion of financial instruments at fair value, Valley entered into a series of interest rate derivative transactions to mitigate the potential changes in market value associated with fair value volatility.

Additionally Valley entered into a forward commitment to sell the residential mortgage loans transferred to loans held for sale during the quarter.

We intend to sell these loans during the second quarter of 2007, consistent with our strategy for all loans in which Valley classifies them as held for sale.

Additionally during April, the Company sold approximately $241 million of investment securities from trading, which were previously categorized as held to maturity, recognizing a trading loss of $152,000.

The proceeds from the sale of securities recorded at fair value have been reinvested into new investment alternatives, which continue to be recorded at fair value.

Management believes that adopting the fair value option is consistent with the Company's to improve liquidity, reduce interest rate risk volatility, reduce duration, mitigate price and market risk and improve the overall management of our balance sheet.

We believe the fair value information provided to users of our financial statements will be beneficial in their analysis of the economic and risk management activities undertaken by management.

Management intends to apply the fair value option as a measurement attribute with respect to the selected financial assets and liabilities on a go forward basis, which was noted by the AICPA on April 17 as a critical factor to consider in the adoption of FAS 159.

As I mentioned in the beginning, Valley's 10-Q will be issued in May and will provide additional disclosures relating to the adoption of both FAS 159 and 157.

Before I begin summarizing the other events which transpired during the quarter, please keep in mind certain loan ratios will be impacted on a comparative basis due to the aforementioned reclassification of $250 million in residential mortgages from loans to loans held for sale.

In regard to the balance sheet, total assets decreased approximately $70 million on a linked quarter basis.

The decline is consistent with management's expectation as historically the first quarter includes seasonality in Valley's loan and deposit portfolios, mainly attributable to our New York City lending customers and residential mortgage loans.

Our focus remains on reducing the extension risks within our earning asset portfolio, as well as replacing higher cost deposits with core funds.

During the last 12 months, our municipal deposits have increased from approximately $550 million to $418 million.

We have replaced much of these funds with retail deposit accounts which enable us to cross-sell other Valley products.

As Jerry mentioned earlier, one bright spot on the lending side is our increase in auto originations.

During the last couple of years, we have increased the geographic focus of our dealer network and now believe the fruits of our labor are beginning to pay dividends.

In a time when we historically witness a decrease in the bank's auto portfolio, the first quarter of 2007 marked a sharp difference.

We originated over 9600 auto loans for $184 million compared to 5320 for $102 million in the first quarter of last year.

In regards to the net interest margin, the yield on new loan originations declined from 6.93 during the fourth quarter to 6.75 in the first quarter.

The decrease is attributable to a greater composition of new consumer loan originations versus new commercial loan originations in the current quarter.

The total portfolio yield decreased from 686 to 6.70% in the first quarter, mainly as a result of a decrease in prepayment penalties and two less days in the current period.

Partially mitigating the decrease in loan yields was an increase in investment security yields of approximately 20 basis points and a decrease in the bank's total cost of deposits from 2.52% to 2.44%.

Valley's efforts during the quarter to replace higher costing deposits such as brokered and custodial CDs with more traditional core funding sources accounted for the majority of the decrease in deposit costs.

The linked quarter decrease in non-interest-bearing accounts of only 2.5% which is beneath Valley's historical first-quarter decrease of 3%, improved our funding composition.

Overall the net interest margin on a linked quarter basis increased 3 basis points to 3.45%.

In regard to the income statement, net income for the quarter of $49.4 million includes items associated with the reporting of fair value for certain financial assets and liabilities, as well as the sale of the previously mentioned facility in Manhattan.

The after-tax gain on the sale of the building in Manhattan added $10.4 million to net income.

Mark-to-market adjustments during the quarter for the financial instruments recorded as fair value comprised pretax trading gains of $5.1 million, $1.2 million of a gain on the sale of loans partially mitigated by an increase in other expenses of $1.4 million.

So the net after-tax impact on the quarter for the mark-to-market adjustments for the financial assets and liabilities recorded at fair value was $2.9 million.

Net interest income on a linked quarter basis decreased a little over $500,000.

The decrease is mainly attributable to a reduction in prepayment penalties of $1.4 million and a decrease in the number of days in the period.

The linked quarter increase in non-interest expense of $2.1 million is comprised of a $1.4 million increase in other expenses associated with the fair value of certain financial liabilities and an increase in salaries and employee benefit expense.

The increase in employee benefit expense is mainly attributable to the annual limits for FICO and 401(k) expense, which have been met -- which had been met for many in the fourth quarter of '06.

We anticipate the employee benefit cost to decline for the remainder of 2007.

Additionally our branch de novo expansion strategy continues to add non-interest expense.

On an annual basis, as a result of the branches opened during the previous 12 months, non-interest expense increased nearly $1.3 million.

And on a linked quarter basis, the increase attributable to de novo branches was nearly $40,000.

We expect continued growth in non-interest expense as we anticipate opening approximately 10 more branches by the end of the year.

Taxes.

The tax rate for the quarter increased to 30.5% from 25.6% in the fourth quarter and 26.8% in the year ago period.

The increase over the prior periods was primarily due to a higher state income tax expense, partly attributable to the dynamics of the increase in income taxes, income before taxes due to the sale of the building in Manhattan and trading gains attributable to mark-to-market adjustments.

Credit quality remains strong.

As Jerry mentioned earlier, our delinquency ratios are down on a linked quarter basis, and the portfolio appears to be performing as expected.

Partially as a result of the decrease in loans combined with the improved linked quarter credit quality, we reduced our provision for loan losses from $3.9 million in the fourth quarter to $1.1 million for this quarter.

Additionally we have reclassified $2.3 million from our allowance for loan losses to other liabilities on the balance sheet as they relate to letters of credit.

Valley's capital ratios decreased slightly on a linked quarter basis, mainly attributable to the $29.5 million net charge through stockholders equity for the fair value adjustments I referenced earlier.

During the period we repurchased over 770,000 shares of Valley stock at a cost of nearly $19 million.

With this, I conclude my remarks.

Thank you, Alan.

At this point we will open it up for any questions.

(OPERATOR INSTRUCTIONS).

Tony Davis, Stifel Nicolaus.

I guess I would like to get some sense here on potential loan growth going forward.

It appears Alan and Jerry that the dramatic declines you saw here in construction and C&I, I wonder how much of that was actually paydown.

How much of it, if any, was maybe another invitation round for customers to bank elsewhere?

It was not an invitation for customers to bank elsewhere in this quarter.

A lot of it had to do with normal paydowns, anticipated paydowns.

It is like in our New York credits.

If they don't pay down in the latter part of the fourth quarter, in the first quarter of the year, we really have something to worry about.

Because the way their lines of credit are structured, they should be paying down.

There has been a slowdown in commercial real estate development in New Jersey in particular.

We have chosen not to run after what we would consider to be marginal projects just to keep up the levels.

So a lot of it has to do with the local economy's performance.

We are anticipating a return of many of the borrowers in New York, which historically start coming on in the second quarter.

So we should see a turnaround there.

As I mentioned in my remarks, we are gearing up to do lending in some of the areas where we heretofore did not have branch locations.

It is a little like the chicken or the egg -- what comes first?

Well, we believe you pretty much have to open up some branches and have a presence in the area before we can go after the commercial business in that area.

So I think in the months coming up, in the years ahead you are going to see a lot more of our commercial development taking place (technical difficulty)--

Thanks.

That is good, Jerry.

Just one other thing would just be your color on risk classification migrations, the watchlist.

I got on a little late and I may have missed that, but could you give us any commentary there of note?

I don't think we have seen any major change in --(multiple speakers)

No, if anything it is you have to be careful because we don't normally report on this.

But I think the charge-offs this quarter are reflective of the risk classifications.

They are down from the first quarter -- the fourth quarter of last year.

We don't see anything on the horizon at this time that is going to have a material change in our risk classification.

Peyton Green, FTN Midwest Securities.

A couple of questions for you.

On the auto loan business, what do you think your capacity is versus what you are generating now?

I mean have you ramped it up significantly and are just now beginning to ramp the production?

And I guess in terms of the old business that you did with the large insurance company, I mean how does it differ and what have you learned over the past few years in how are you going to approach the business a little differently?

I think I can answer it, but I am going to ask Al Engel to do it since he is the guy responsible for it.

Okay.

Auto lending is a very transactional activity.

We have been able to improve our efficiency from the days that we were engaged with our insurance partner significantly through automation, although we continue to decision loans on a judgmental basis.

A lot of the application data acquisition, the migrating of that data into our systems, and the boarding of the loans has benefited tremendously from automation.

So we have been able to handle much more volume with fewer people than we had engaged in this activity during the prior high-volume at times.

We can increase our volume significantly with the augmentation of relatively few additional skilled people.

So the bottom line is, we could probably grow the portfolio several times to where it is now without causing any major disruption.

Okay.

And then just over the years, as people have used home equity more to take down cars and the like, what have you learned from the credit side that you are doing differently?

Okay.

Once again, the use of home equity loans for auto finance has declined dramatically as prime rate has increased.

Today, with prime at 8.25, a lot of people are finding it is less expensive to use the financing provided by their friendly local auto dealer to finance the car.

And that is fine with us because many of those loans find their way to Valley through our indirect auto dealer program.

So while we saw home equity lending as predatory toward our auto business two years ago, we no longer view it that very few people are exercising that as an option today.

Okay.

But also I would have to think that the captives kind of I guess being more judicious on how they price things probably gives you a better opportunity.

Is that fair?

Our market share has increased in relationship to the captives on the loan slice of auto financing.

We do not participate in the leasing slice of auto finance, and the captives seems to be carving that out as their own territory, and that is fine with us.

Okay.

Great.

And then a question, Jerry, in terms of finding bankers to staff all your locations.

Is the market moving away a little bit more in terms of the disruption that has been going on, or how would you characterize the hiring opportunity?

We really have not had a difficult time in the last six months or so staffing the branches.

A couple of years ago we had a tougher time, but it seems that market seems to have eased a bit.

We are not opening that many new offices that would cause a problem.

I guess if I was out looking to open up 65 offices this year, I would have a much tougher staffing problem than I would opening up 10 or 12.

Okay.

Great.

And then last question, in terms of how you're seeing the commercial loan book and the commercial real estate book and you all's normal conservativeness towards that, do you think this year more banks are going to stretch for volume and credit spreads come in again, and that probably reduces your appetite further, or are you seeing any change in that?

I do believe we are going to see more banks stretching to get into loans.

They probably shouldn't simply to show short-term loan growth to satisfy I don't know, our third-parties, the shareholders, the analysts, whoever.

But our conservative posture has always been that we will only grow where we can get good loans or at least in our estimation they are good loans.

And I think that we will get our fair share this year as we have in the past.

It may cause something of a slowdown in commercial loan development.

But, as I have said repeatedly, we try to balance our loan portfolio into the -- the four quadrants of auto, commercial, commercial real estate and residential.

It appears that right now the most -- the best opportunity we have is in the automobile segment, and we are going to place additional emphasis on that to offset the other areas that would have caused us to have to stretch to show the growth.

Okay, great.

And then I guess your preference over the short run would be to keep the loans on balance sheet?

Yes.

(OPERATOR INSTRUCTIONS).

It appears we have no further questions in the queue.

Please continue.

Thank you.

Well, we appreciate everybody's coming, and we look forward to speaking to you next quarter.

Have a good day.

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