Valley National Bancorp (VLY) 2007 Q3 法說會逐字稿

Ladies and gentlemen, thank you for standing by.

Welcome to the third-quarter 2007 earnings release conference call.

At this time, all participants are in a listen-only mode.

Later, we will conduct a question-and-answer session.

Instructions will be given at that time.

(OPERATOR INSTRUCTIONS)

As a reminder, this conference is being recorded.

I would now like to turn the conference over to your host, Gerald Lipkin.

Please go ahead.

Good morning and welcome to our third-quarter 2007 earnings conference call.

I'd like to turn the meeting over for a brief moment to Dianne Grenz to read our forward-looking statement.

Today's presentation may contain forward-looking statements regarding the financial condition, results of operation 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 adoption and interpretation and implementation of new accounting pronouncements.

These forward-looking statements involve certain risks and uncertainties.

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

Written information concerning factors that could cause results to differ materially from the results the 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 these forward-looking statements.

Thank you, Dianne.

For some time, macro economic forces, such as the level and slope of the yield curve, have negatively impacted the performance of many financial institutions, Valley included.

Although the slope of the curve has begun to normalize, the economic environment invites criticism for a number of banks and the manner in which they had chosen to grow their balance sheet.

Banks that elected high-growth strategies, irrespective of the type and quality of assets originated, will inevitably suffer material credit losses and erosion of shareholder value.

The growth in Valley's earning assets during the last few years has been constrained due to the fact that the yield curve, combined with irrational [risk-based] loan pricing and embracing of subprime credits, which became prevalent in the marketplace.

In order to maintain a balance sheet composition nimble enough to react to changes in the level of interest rates and other market conditions, we delevered the investment portfolio by nearly $500 million during the last two years.

In addition, we attempted to refrain from expanding the loan portfolio with subprime credits, whose performance has already become problematic.

We have continuously operated Valley under the auspice that underwriting standards, as opposed to asset growth, is the driving factor affecting long-term bank profitability.

Remember, in banking, it's the return of the principal, not the return on the principal that defines the first rule of lending.

For the third quarter of 2007, Valley's nonperforming assets to total loan ratio was 0.39% compared to 0.42% during the same period a year ago, and 0.38% in the second quarter.

Valley's delinquency rates, which typically provide an indication as to looming credit difficulties, remain very low.

Loans delinquent in excess of 30 days are 0.79% as of 9-30-07, less than the 0.8% reported last quarter.

Home equity delinquencies at Valley are insignificant at 0.07%.

Only $387,000, or six loans of Valley's home equity portfolio totaling more than $1.5 billion, are delinquent as of 9-30-07, and none are in foreclosure.

Exclusive of our SBA portfolio, which is largely guaranteed by the U.S.

government, our commercial lending portfolio, which is approximately 4.5 billion in outstanding balances, is a 30-day delinquency rate of only 0.8%.

Our residential mortgage portfolio, consisting of approximately 9000 loans, or over $1.9 billion, had total delinquencies as of September 30th of only 0.23%.

To further support management's analysis of the credit quality within the portfolio, upon request, a third party conducted an independent portfolio review.

The analysis resulted in a summary portfolio data which reflects a current portfolio average FICO score of 744 and a present market loan-to-value ratio of 42.65%, a decrease from 60.2% at origination.

Our conservative residential lending approach is once again proving itself correct.

While as a lender, we recognize that some loans will inevitably become problematic, we believe our historical approach to lending should continue to translate into continued profitability, modest loan problems and above-average returns to our shareholders.

During the quarter, Valley produced net income of $36.5 million compared to $43.9 million in the year-ago period.

Last year's numbers, however, included a non-recurring $11.2 million reduction in income tax expense.

Diluted earnings per share for the quarter were $0.30 compared to $0.36 per share for the same quarter of 2006, which then included the $0.09 per share attributable to the aforementioned reduction in income tax expense.

Our return on average shareholder tangible equity of 20.18% not only ranks Valley among the highest performers within the industry; additionally, it marks the 26th consecutive quarter we have generated a return on tangible equity in excess of 20%.

We continue to focus on strategic alternatives which enhance the franchise value in long-term earnings opportunities for the Bank.

Two years ago, we embarked on a branch expansion program in which we allocated over $75 million of capital toward de novo branch strategy.

By the end of 2010, we expect to have added over 50 new branches to our network and will have expanded the franchise into new geographic territories.

During 2007, we opened our first two branches in Brooklyn, and by year-end, intend to have our first office in Queens.

To date, combined deposits in our two Brooklyn branches stand at over $65 million, none of which includes transfers from other areas.

We continue to observe outstanding loan growth through our auto dealer lending network.

During the third quarter we originated over 14,000 new loans, an increase of 110% from the same period a year ago and an increase of 10.5% just from the prior quarter.

Many of the new originations are attributable to our geographic expansion efforts.

Our focus is on expanding the size of the pond in which we originate loans as opposed to the depth in which we generate new production.

We would like to remind our listeners that under a former program with a large insurance company, utilizing our current infrastructure, we originated and serviced a large volume of loans from Maine to Florida.

At that time, up to 90% of our auto portfolio came from outside of New Jersey.

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

The average FICO score for new loans originated in the third quarter was 748.

Approximately 43% of our new auto production is derived from states other than New Jersey.

With the hiring of our first consumer auto loan dealer sales representative in the state of Connecticut, our current dealer lending geographic presence now stands at five states, with a goal of adding two to three additional states each year for the next several years.

Although the macroeconomic factors continue to create a challenging operating environment, we are optimistic about the long-term earnings opportunities for the Bank.

Our balance sheet is strong and flexible.

Our strategic focus of allocating capital and resources to expand the geographic presence of the franchise should pay dividends in the future.

Although short-term earnings may suffer as a result of our expansion strategies, they are the right measure for the long-term well-being of the Bank, and, most importantly, our shareholders.

I'm now going to call upon Alan Eskow, who will provide a little more insight into the third-quarter financial results.

Alan?

Thank you, Jerry.

Total assets remained relatively flat on an annual basis.

We had increased approximately 4.0% annualized from the sequential quarter.

The linked-quarter growth of 120 million reflects increases in the loan portfolio of 191 million, partially funded by a decrease in the Fed funds sold position.

The loan growth includes a short-term $140 million credit facility, which was originated relatively late in the quarter, and we anticipate will pay off before year-end.

Loan growth continues to be constrained due to the disruption in the mortgage market.

Since the beginning of the year, our commercial construction portfolio has declined nearly $120 million as the demand for new residential developments has waned and many of our large developers remain on the sideline until market conditions improve.

Overall, exclusive of the $140 million short-term origination, commercial lending activity remains light.

Although new commercial line commitments have increased over 8% year-to-date, line usage has decreased from 39% to 37%, resulting in a marginal increase in outstandings.

Line usage is somewhat less than normal levels as a result of reduced drawdowns on construction loans combined with a higher degree of liquidity for some of our customers.

This excess liquidity on our customers' own balance sheets not only reduces Bank's outstanding loan portfolio, but also in addition negatively impacts the Bank's demand deposit balances.

As Jerry mentioned earlier, much of our loan growth is attributable to the expansion of our automobile dealer network.

During the last 12 months, the portfolio has increased nearly $200 million, or 16%, and we anticipate continued strong growth in future quarters.

Sequential quarter total deposits of 8.4 billion increased by 107 million, mainly the result of the aforementioned short-term loan collateralized by a certificate of deposit.

Exclusive of this CD, deposits decreased 33 million, reflecting management's decision to utilize the Bank's Fed funds sold position to fund loan growth, as opposed to increasing higher-cost rate-sensitive deposits.

Demand deposits decreased approximately 100 million, mainly as a result of the seasonality of many of our larger commercial customers.

In addition, on an annual basis, the decrease was in part due to the conversion of over [$50] million from demand deposits to interest-bearing repo sweep accounts, which are reported as short-term borrowings on the balance sheet.

The net interest margin remained relatively flat at 3.43% from the prior quarter and the same period one year ago.

Linked-quarter average interest earning assets decreased $15 million, primarily due to the funding of 75 million in BOLI during the latter half of the second quarter.

This income of approximately 1.2 million previously recognized as interest income is now shown as non-interest income.

Total earning asset yields continue to increase, mainly as a result of the increased liquidity in the investment portfolio combined with an increase in deferred fee income on loans.

The increase in the cost of deposits of 12 basis points from the second quarter is mainly caused by the positive initiatives which typically accompany de novo branch openings.

Net income for the quarter of 36.5 million decreased 3.2 million from the second quarter.

The decrease was principally a result of non-recurring net gains on fair market value adjustments realized in the prior quarter.

Net interest income on a linked-quarter basis decreased a little under $700,000.

The decrease was largely a result of a reduction in earning assets combined with a slight decrease in the net interest margin.

For the first nine months of 2007, net interest income was negatively impacted by approximately $4 million as a result of de novo branch expansion campaign and share repurchases.

We have allocated over 75 million of free capital for the branch expansion initiative, which on a comparative basis could have been used to fund loan growth.

Additionally, operating costs for these branches, which year-to-date exceeds 4.6 million, adversely impacts the efficiency ratio and operating leverage.

While we believe we will see a long-term increase in net income, currently, operating revenue and net income are negatively impacted.

On a linked-quarter basis, exclusive of the fair market value adjustments realized in the second quarter, both noninterest income and non-interest expense were relatively flat.

The effective income tax rate of approximately 24% was flat with the prior quarter.

On an annual basis, income tax expense increased 11.4 million, resulting from an income tax reserve reduction realized in the same period one year ago.

We anticipate our effective tax rate to increase moderately to 25% in the fourth quarter.

However, the rate could vary as a result of alterations in the composition of Valley's income, change in tax laws and different tax strategies.

Credit quality remains strong.

Net charge-offs on a linked-quarter basis decreased by 282,000, resulting in a net charge-off to average loan ratio of 0.14%.

To demonstrate the stability of Valley's underwriting standards, on only two occasions in this decade has our quarterly net charge-off to average loan ratio exceeded 30 basis points.

Total nonperforming assets remained relatively flat from the prior quarter at 32.3 million.

The reserve for credit losses as a percentage of total loans decreased from 0.91% to 0.89%.

The allowance for credit losses is determined from a myriad of factors, including delinquency levels, historical and current net charge-offs, and growth in loans, to name a few.

Based on the composition of the loan portfolio at September 30, 2007, combined with delinquency levels, the level of the allowance calculated as of September 30th was deemed adequate in support of the quarterly provision.

The current accounting rules do not allow for matching of net charge-offs to the provision quarterly without taking into account all of the above factors.

Valley's capital ratios increased slightly on a linked-quarter basis.

During the period, we called another 20.6 million of our trust preferred securities.

In addition, we repurchased 130,000 shares of Valley stock at an average cost of $21.96.

And for the year, we purchased nearly 1.3 million shares at a cost of $31.4 million.

And with this, I conclude my prepared remarks and we will now open the floor to questions.

Thank you.

(OPERATOR INSTRUCTIONS) Michael Cohen from SuNOVA Capital.

Can you talk in little bit more about kind of the auto growth and the sort of underlying credit adjudication process?

I mean, you guys have obviously proven to be very good underwriters of all types of things in the past.

But auto is one of those things that banks historically have had spotty track records with -- not necessarily implicating you in that.

But could you provide some commentary on that?

Sure.

It's Gerry Lipkin.

The Bank has been in the indirect automobile lending business now for close to 60 years.

We did it both through a dealer network and through a referral system coming from a large insurance company.

The large insurance company took the business in-house about 8, 10 years ago, and we began expanding our indirect originations.

We only buy A paper.

We go at it rather slowly with new dealers.

We felt that we could expand our dealer network by putting reps on the road about three years ago, which we did.

And it has proven itself very successful.

We have opened up numerous new automobile dealers that are sending us referrals.

We underwrite each and every loan.

We, on new and used paper, find that we have approximately the same success rate.

We have right now about 600 dealers that we are buying paper from.

And again, we only buy the A paper at this point.

I know I've spoken in the past of an arrangement that we are working on, which I'm constantly told is very close to conclusion, with a large Wall Street house that was interested -- or is still interested in buying our Alt-A paper that we turn down.

We do all the underwriting on it; we just don't book it.

We turn it down if it doesn't FICO high enough or if the credit doesn't come high enough.

We eyeball virtually every credit that comes into the Bank, though.

So we spend a lot of time underwriting it.

And we are using the exact same systems today that we used when we had the large insurance company referring paper to us.

The same people are still with us, fortunately, that were here then.

And we are giving the loans the same level of scrutiny.

And maybe we are just lucky, but we have been lucky for 60 years in that we've never had serious delinquencies coming out of the portfolio.

That is great to hear.

Where are you in terms of LTVs and length of term?

I know some of the big auto lenders have pushed some of those things up, perhaps to irrational levels, over the course of the last 12 to 24 months.

Most of our underwriting is at the 60-month level, although the average length of a loan in the portfolio is about 30 months, 32 months.

Al Engel is with us; he runs the auto indirect.

This is Al Engel, and one of the areas I'm responsible for is our auto lending portfolio.

And while you always get pressure from the auto community to buy long and buy deep, it is a matter of fully assessing the risk profile of each individual applicant to determine how much risk you are willing to place on that particular transaction.

While we do have computer models that assist us in evaluating that, we still decision every loan with a human looking at the transaction.

And this has allowed us to, in some cases, buy deep; in other cases, we buy very conservatively.

It is very individually assessed based upon the credit profile of every individual loan we look at.

Great.

Thank you very much.

Collyn Gilbert from Stifel Nicolaus.

Thanks.

Good morning, gentleman.

A follow-up on the indirect discussion.

Where do you think -- you've been in the business for 60 years.

What are the biggest risks in the business as you look out?

How are you managing the business differently today than maybe you would have six years ago, just given the stress that we are obviously seeing on the consumer?

Our business biggest risk, Collyn -- it's Gerry Lipkin -- based upon how we underwrite the loans is fraud.

And we monitor pretty closely -- we have people who look at all of the paper coming in.

If we start to get a higher -- an elevation in delinquencies coming from a particular dealer, we will either look more tightly before we will buy from that dealer or we will just shut down the dealer.

We very frequently shut down dealers that we are not happy with the type of paper they are sending us.

We are an A paper buyer.

So the collection of A paper usually runs pretty well.

It is the fraud aspect that is always the biggest problem.

Okay.

And how have the spreads in the business changed in the last six months to a year?

And how do you see those spreads playing out in the next six months to a year?

This is Al Engel again.

With the GMACs, Ford Motor Credits going to private capital sources, we've started to see a little bit of pricing power coming back into the market, although the market remains very competitive.

Looking at the earnings releases of many of our competitors in the indirect space, it appears some of them are getting some hits from losses, so it may cause them to price a little bit more responsibly in the risk versus rate equation.

So we think that pricing power is on our side as we move forward into 2008.

And Gerry, to your -- you guys have, I think, done a great job in terms of the whole notion of risk-adjusted returns.

As you look at your business model, is the reason that you're pushing this is not just because you do think that the risk-adjusted returns are most favorable in this space relative to the other business lines you have?

Yes.

We are actually not pushing this any harder than we are pushing our commercial lending or our residential mortgage lending.

I don't want to give the wrong impression.

It is just that this seems to be an area that we are able to show the best growth at this time, so we are focusing on this aspect of our portfolio.

I am very comfortable with the paper that we are getting, how we underwrite it.

We are not expanding quickly.

We are doing this on an inch-by-inch basis, so to speak.

We don't look to add 15 new states in one fell swoop; we are doing them one or two at a time.

Once we are comfortable with the paper we are getting from that location, we will then move on to add another location.

Again, remember, we are only buying A paper.

So my concern is, okay, somebody is trying to fraudulently slip B paper or C paper in through as A paper.

But the way we underwrite and the way we eyeball the credits, it is going to become apparent very quickly if somebody is doing something that they shouldn't be.

Okay.

And then maybe could you just give us an update -- and if you said this in your opening comments, I apologize -- I hopped on late -- but how the de novo branches are doing?

I know, Alan, in your comments, you had mentioned a lot of the deposit pricing pressures came from just promotions run in the new branch.

But how the deposit flows are looking, especially in kind of the Brooklyn, Queens market.

Well, Brooklyn, I mentioned in my comments that we've opened two offices so far this year, and those two offices have over $65 million.

One of this is only open about 90 days.

And one of them opened on January 2nd.

So we are pleased with the growth that we are seeing from deposits in that area.

All of the branches have generated reasonable growth in their deposits, some a little stronger than others.

We actually have a couple in New Jersey that are giving New York a pretty good run for their growth.

So --.

We have seen some of our -- even our New Jersey branches, we are seeing some growth up around the $20 million mark in a couple of once months.

So we are doing pretty well; we are pretty satisfied with the de novos that we're opening at the moment.

But it obviously comes at a cost, which is what we tried to indicate.

But we also look at new branch openings as something that migrate towards a normal branch over a number of years.

So day one, the cost may be higher than we would like to see.

But by the time we get three or four years into the branch, we begin to see more demand deposits coming in, more savings accounts coming in, etc., which tends to bring down the overall cost of those branches.

The other area with the regard to the branches is the commercial loan growth.

Commercial loan growth will come through the new branches that doesn't come as rapidly as deposit growth.

In some cases, we open a new branch in a new territory where we have been approaching clients in the past and they've been on the fence, and now they are the low-hanging fruit.

But it takes a while before you can build up a sizable commercial portfolio out of the new territories.

And we are quite hopeful in our expectations that that will take place over the next couple of years.

Okay.

And then just a quick final question on what you see -- any anticipated fallout in the Commerce-TD deal?

No comment.

It is really nothing that we -- I think what we expect to happen there will be no different than any other acquisition that takes place in our marketplace.

There is always somebody who is unhappy with the fact that change is taking place and there may be opportunities for us.

Okay.

You don't necessarily have any kind of targeted campaign, marketing campaign to --?

I don't want to address anything that we are --

Okay.

That is it.

Thanks, guys.

John Pancari from JPMorgan.

Good morning.

Could you give us some additional color -- sorry if I missed anything in your prepared comments -- on demand -- commercial loan demand in New York, particularly with your jewelry borrowers, etc.?

We did mention that line usage is down a bit this year as compared to other years.

I don't know if that as much a reflection on the economy as the fact that they are actually doing quite well and they are collecting their receivables and they have less of a demand for funds.

But we have seen some decrease in their demand for funding.

But I'm not sure that is a bad sign, as it may be the opposite way.

It may actually be a positive sign in that they are doing well.

Okay.

And how about competitive pressures on that front here in New York?

-- why we're different than anyplace else in the country -- it is very strong.

The competitive pressures for commercial lending has continued to be very strong.

Okay, good.

Nothing much else you can comment on that.

Right.

Okay.

And then in terms of credit trends in this New York portfolio, again, any change in your outlook there?

No, no.

Okay.

All right.

Fair enough.

That is all I have.

(OPERATOR INSTRUCTIONS) At this time, there are no other questions.

Thank you all for coming to the conference call this morning.

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