Washington Trust Bancorp Inc (WASH) 2006 Q3 法說會逐字稿

Welcome to the Washington Trust Bancorp Inc. third-quarter 2006 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, Ms. Elizabeth B. Eckel, Senior Vice President of Marketing. Thank you Ms. Eckel, you may begin.

Thank you and good afternoon, everyone. Welcome to the quarterly earnings conference call for Washington Trust Bancorp Inc., NASDAQ global market symbol WASH. Today's conference call is being recorded, is being webcast live and a webcast replay of this conference call will be available shortly after the conclusion of the call through the Corporation's website, WWW.washtrust.com, in the Investor Relations section under the subhead Presentations. However, the information we provide during this call is accurate only as of this date and you should not rely on these statements after the conclusion of this call.

Hosting today's discussions are John C. Warren, Chairman and Chief Executive Officer, and David V. Devault, Executive Vice President, Secretary, Treasurer and Chief Financial Officer.

Before we begin I would like to make special note of our Safe Harbor statement. During today's conference call certain statements may be made that are considered forward looking within the meaning of the Federal Securities Laws. The Corporation's actual results, performance or achievements could differ materially from those projected in the forward-looking statements as a result of the risks and uncertainties described in our press releases and SEC filings. And now I am pleased to introduce Washington Trust's Chairman and Chief Executive Officer, John C. Warren.

Thank you, Beth, and good afternoon. It's nice to be here with you today and probably especially nice because, as most of you know, I underwent bypass surgery in June and returned to the office in early September. The surgery was successful and I'm feeling great. Actually I'm probably eating healthier and in better shape than I've ever been probably for the last 40 years going back to college days and a few days in the Army when they made me work out every day.

I'd also like to take a moment to thank Jack Treanor for stepping into the leadership role during my absence. Washington Trust has a strong management team, as you all know, and I had full confidence in their abilities to lead the Company while I was out of the office.

This afternoon David Devault and I will discuss the third-quarter results that were released earlier today and then comment briefly on our expectations going forward. I'd like to begin by saying that 2006 has been a challenging year for all financial institutions. As you know, we've all been plagued with an inverted yield curve that's put pressure on margins. We're also faced with a very competitive environment. Deposit costs continue to rise and loan demand has been sluggish. We continue to manage our deposit and loan portfolios carefully. We will not sacrifice asset quality for increased volume and will not lead a price war in deposits.

Let me now turn to our third-quarter highlights. Net income for the quarter was $6.6 million, a 13% increase over the $5.8 million earned in the third quarter of 2005. EPS on a diluted basis amounted to $0.48, up 11.6% over the same quarter a year ago. Both of these increases were affected by several non-core items that David will discuss shortly.

Our asset quality remained strong during the quarter. Our wealth management business generated over $6 million of fees for the quarter or 56% of our total non-interest income. Assets under management totaled $3.6 billion at September 30th due to both market appreciation and strong business development efforts.

As I mentioned a moment ago, loan demand has been soft and therefore total loan balances for the quarter were relatively flat. We continued to see some good commercial credit, but the demand just isn't where it was a year ago. Deposits were up slightly during the quarter but, as we reported in June, the growth has primarily been in higher priced money market and certificates of deposit. We continue to also see the migration of balances to the higher rate accounts.

We had a very successful deposit campaign during the quarter and used those funds to reduce home loan bank borrowings. We were pleased with the FDIC deposit market share statistics that were recently released; the data shows that Washington Trust once again increased our marketshare in the state of Rhode Island for the period ended June 30, 2006. This is excellent considering the intense competition for deposits in the state.

Finally, I'd like to update you on the branch expansion that we discussed last quarter. As you know, we announced our intention to build two new branches, one in Cranston and one in Warwick. We have a groundbreaking ceremony for the Cranston branch actually scheduled for next week and expect that branch to open in the second quarter of 2007. Plans for the Warwick branch are moving somewhat slower and we don't anticipate opening that branch until the second quarter of 2008.

With that I'll now turn the discussion over to David Devault for a more detailed review of our financial performance. David?

Thank you, John. Good afternoon, everyone, and thank you for joining us on our call today. I'll be reviewing the third-quarter operating results and financial position as described in our press release earlier today. Net income for the third quarter of 2006 was $6.6 million, an increase of 13% over the $5.8 million earned in the third quarter of 2005. Earnings per share was $0.48 on a diluted basis, up $0.05 per share from the same quarter last year.

Certain non-core items affected the computation of our operating results in accordance with GAAP in both years. These include the following items each of which is stated on a net of income tax basis. First, we received an additional quarterly dividend of approximately $305,000 or $0.02 per diluted share in the third quarter of 2006 on our stock investment in the Federal Home Loan Bank of Boston. As disclosed for the second quarter, the Federal Home Loan Bank had changed the timing of its quarterly dividends causing this to happen.

Second, also in the third quarter, we incurred $247,000 or $0.02 per share in net realized securities losses on sales of securities in connection with securities portfolio deleveraging and other portfolio transactions. Finally, acquisition-related costs of $440,000 or $0.03 per share were recognized in the third quarter of 2005 in connection with our acquisition at that time of Weston Financial Group.

During our call today I'll be referring to adjusted results which reflect the exclusion of the impact of these non-core items. Reconciliations of these adjusted results to GAAP basis results are presented in the schedule accompanying our press release.

Excluding the impact of these non-core items, adjusted net income for the third quarter of 2006 was $6.5 million, up 4.1% from the same quarter last year. Diluted earnings per share was $0.48, an increase of $0.02 or 4.4%. For the nine-month period this year adjusted net income was $18.8 million, up 8.5% from last year while the diluted earnings per share is $1.37, up $0.10 or 7.9%. The adjusted quarterly return on average equity was 15.59%, up from 15.03% in the third quarter of 2005. The adjusted return on average assets for the latest quarter was 1.09% compared to 1.0% for the same quarter a year ago.

On an adjusted basis net interest income was $15.4 million for the third quarter of 2006, essentially unchanged from the same period in 2005. The taxable equivalent net interest margin, excluding the additional Federal Home Loan Bank dividend, was 2.78%, equal to the third quarter of 2005 and down by 5 basis points from the second quarter of 2006, again adjusting for the impact of the timing difference of the Federal Home Loan Bank dividend.

The continued rise in short-term rates this year in combination with depositor shift towards higher cost deposit categories has caused deposit rates to rise at a faster rate than yields on loans and investments have risen. And these systemic conditions are expected to continue until the yield curve steepens. At this time we believe these conditions could translate into some erosion of net interest margin in the fourth quarter possibly in the range of 3 to 5 basis points.

Non-interest income excluding the realized securities losses was $11.1 million in the third quarter of 2006, 33% higher than the same quarter last year. This is mostly due to higher revenues from wealth management and trust services mainly due to the acquisition of Weston Financial Group on August 31, 2005. On a linked quarter basis non-interest income excluding realized securities gains and losses was up by 4.4%. Merchant processing revenues, gains on loan sales and service charges on deposits showed noticeable increases.

Wealth management and trust revenues for the third quarter was $6.0 million, an increase of 49% over the third quarter last year, again primarily due to the acquisition of Weston. Assets under administration at September 30, 2006 were $3,551,000,000, an increase of $126 million in the third quarter and an increase of $279 million or 8.5% since the beginning of the year. The increase is due to both business development efforts as well as financial market appreciation. Excluding securities gains and losses non-interest income is 41% of our total revenues in the third quarter, an increase from 35% in the same quarter last year.

Total non-interest expenses were $16.6 million in the third quarter; this was down by $669,000 or 3.9% from the second quarter, although the second quarter included our annual contribution to our charitable foundation of $513,000. I should also note that the decline in expenses was achieved despite an increase in merchant processing expenses of $389,000 from the second quarter and that's an expected seasonal effect. So we were pleased with the operating expense results.

Turning to the balance sheet, total assets at the end of the third quarter were $2.4 billion, down by 1% for the quarter and essentially unchanged from the end of 2005. The investment securities portfolio declined by $44.9 million in the third quarter and during the third quarter deleveraging transactions were conducted including sales of mortgage-backed and other debt securities totaling about $56.5 million with a realized loss of $2.4 million.

There were also sales of equity securities with a realized gain of about $2 million. The net realized loss -- these are pre-tax numbers -- was $365,000 for the quarter. Proceeds from these transactions amounting to $56.8 million were primarily used to reduce advances from the Federal Home Loan Bank which have declined by $79.4 million for the three-month period and $81 million for the nine-month period ended September 30th.

For the nine-month period this year net realized gains on security sales are $78,000 excluding a realized gain of $381,000 which we recognized in the second quarter in connection with our charitable donation. Realized gains and losses on security sales during the three- and nine-month periods a year ago were not significant.

As John mentioned, loan demand has been relatively weak throughout the last several quarters with total loans having grown by $26.6 million or 1.9% from the beginning of the year. For this period consumer loans rose by $15.3 million or 5.8% led by growth in home equity loans. Total commercial and commercial real estate loans and also residential mortgages have increased only slightly by 1.2% and 0.8% respectively. In the third quarter total loans declined slightly by $2.8 million; within that consumer loan balances increased by a little over $3 million while commercial and residential loans declined. There were no purchases of residential mortgages during the third quarter.

Also in the third quarter total deposits increased by $29.4 million, although that was net of a $30 million decrease in brokerage certificates of deposits. Excluding the effect of the brokered deposits, in-market deposits increased by over $59 million or 4.1% in the third quarter. We continue to experience the shift in the mix of deposits away from lower cost savings accounts towards higher cost money market and certificates of deposit. And we note that deposit gathering continues to be very competitive. In-market deposits are up by $74.9 million or 5.2% during the first nine months of this year.

Our asset quality continues to be a bright spot. Nonperforming assets, which include nonaccrual loans and property acquired through foreclosure, amounted to $2.6 million or 0.11% of total assets at the end of the third quarter this year compared to $2.4 million or 0.10% of total assets at the end of 2005. Net charge-offs are $173 million for the nine months this year compared to net loan recoveries of $193,000 for the same period a year ago.

The allowance for loan losses stood at $18.6 million or 1.31% of total loans at September 30th this year compared to $17.6 million or 1.26% of total loans a year ago. The loan loss provision charged to earnings has not changed, it was $300,000 during the third quarter and it's $900,000 for the nine months this year, the same amount that we recorded last year.

Total shareholder's equity stood at $172.4 million at the end of the third quarter this year, up from $158.4 million at the end of 2005. Washington Trust and its subsidiary bank are well capitalized by all regulatory measures at September 30th. In September we declared a dividend of $0.19 per share and that was paid on October 13th. At this time I'll turn the call back to John Warren.

Thank you, David. Washington Trust had a solid third quarter, but we're concerned about what lies ahead for the remainder of 2006 and beyond. The yield curve has been unfriendly for some period of time and we don't anticipate it changing much in the near future. Recent economic reports have also shown continued slow growth in our market which will affect future loan demand; therefore we expect our margins will continue to be compressed causing a strain on earnings.

Washington Trust has always relied on a balanced stream of earnings, and we are fortunate that a significant portion of our revenue comes from our wealth management business. While we cannot predict what will happen in the markets, our business development teams are working hard to bring in new clients in all of our business lines. And with that, that completes our prepared remarks and I thank you for joining us here today and now David and I will be happy to answer any questions you might have. Thank you very much.

(OPERATOR INSTRUCTIONS). Frank Schiraldi, Sandler O'Neill & Partners.

Good afternoon. Dave, I had a question on wealth management revenues. They were down a little bit sequentially from last quarter. I was just wondering if there's anything we should read into that. If you could maybe go into what drove that?

Good question. Two things. First of all, there is a little bit of seasonality with a couple hundred thousand dollars of tax preparation fees in the second quarter; you don't see that in the third quarter. You also have the effect if you look back over what happened with the markets, they were declining during the second quarter and basically increasing during the third quarter. It's hard to model that perfectly, so I think it's effective -- the second effect -- I guess what I'm saying in addition to the tax revenue impact is just a timing of the market changes.

Okay. And then, do you have the information there on the yield of the advances you guys paid down in the quarter?

That would be in the -- there was a combination of advances paying down and advances also I guess you could say not rolled over that had a positive impact as a result of the deleveraging.

Okay. Do you have that yield though? I don't think it was in the release, just of the ones that you paid off with the --?

Dave, as I understand it what we were doing was they were actually maturing so that we were not prepaying any that were already outstanding.

That's right. Let me put it this way, the renewal rate would have been over 5%, the securities that were sold were yielding in the low 4's.

Okay, great. Thanks. And then just one other question. Seeing how loan demand has softened a little bit from last year, are there any thoughts on revisiting buybacks in the short-term here?

We'll certainly look at buybacks. We do have the authorization to do that and that's something that we will consider in our capital management.

Okay, thank you.

Laurie Hunsicker, Friedman Billings Ramsey.

Good afternoon, John and David. John, I'm so glad you're feeling well.

Thank you.

Just wondered -- I guess kind of to touch a little bit on where Frank was going, can you talk a little bit about maybe plans to do a more extensive balance sheet restructure and what your thoughts are on that?

I don't think you'll see huge restructuring in the near term. The balance sheet is in decent shape, although the lack of growth in interest-earning assets, as John indicated, with slow loan growth is certainly something that we're challenged with.

Okay. And then in terms of the margin guidance, you gave the 3 to 5 basis points down. I'm assuming that you're talking not from the run rate of 286 but from a core run rate which really puts us in the 273 to 275 for fourth quarter.

That's correct.

And then contracting probably further from that?

Well, we hope that it stabilizes beyond that.

Right, right. Well, this is certainly something that everybody is seeing. Are you really finding -- I guess can you go back a little bit and just chat about the demand deposit and what sort of is the strategy to grow and what you're seeing out there in terms of competition? Just what your strategy is about that?

A couple of things. It's very difficult to grow demand deposits. The market is very competitive, it's very difficult for banks to entice customers to change their relationships with doing certainly everything that everyone in the marketplace is doing and we think our products are better than anyone else's. But it is a very difficult market to grow demand deposits and the rate environment has if anything incented people not to leave balances in demand deposits.

I think, Laurie, we've talked to a number of people both on the business side and on the personal side, and it's very evident that the increases in rates have caused them all to be much more conscious of their own cash management whether it's for the Company or personally as well.

So along those lines in terms of your branches, obviously you said Warwick was delayed from the end of '07 to '08 -- 2Q '08? What are you sort of estimating now it takes on breakeven? It's got to be something more than two and a half years. Is it three and a half, is it four and a half or have you looked at it like that?

Well, it will depend on how fast we garner deposits and what the mix of those deposits turns out to be. The larger the percentage of demand deposits and other low-cost deposits the sooner it will turn the corner to profitability. It's very difficult to see a sure crystal ball answer on what that will turn out to be. The last branch that we opened turned the corner in maybe a little over 12 months. We were very pleased with that. I'm not predicting that that's what will happen with the next one.

In terms of the Warwick delay, was that your decision just based on the yield curve environment or were there other factors that pushed that out a couple quarters?

It's a couple of factors. It's just the land acquisition process and a number of things related to that. The business environment coincidentally works -- supports that strategy as well.

Okay. And then just on your nonperformers, I don't know if you have this -- do you have the breakout in terms of what's commercial real estate nonperforming, what's C&I nonperforming and then what's consumer? And then just any comments -- obviously your asset quality looks fantastic, but we did see the jump into REO. What is that $400,000 REO?

It's one residential property. And we think that will be liquidated at very close to cost. I don't see any losses there.

And what's your timing on liquidating that?

I hope it's this quarter, possibly another quarter. Let's see -- the nonaccrual loans is a combination of both commercial and residential.

It's just the commercial piece we're looking for, the piece that corresponds to your $275 million commercial real estate portfolio and your $287 million commercial business portfolio. And then also consumer -- or I can get it from you off-line.

There's very little consumer delinquencies. There is a little over $1 million in non-accrual residential and a little over $1 million in commercial and commercial real estate.

Okay. And is that commercial and commercial real estate split pretty equally?

I don't have that.

Okay, great. Thank you all very much.

Alper Sungur, Sidoti.

Good afternoon, everyone. It's good to hear from you again, John.

Thank you. It's good to be back.

My first question relates to the interest-earning assets. The split between the investment securities and loans, what will be the optimum level for you going forward? I've seen a tremendous change over the past three years between those two items.

To the extent that we can get quality loans, whether it's on the consumer side or on the commercial/commercial real estate side, we would prefer to have that -- I just don't know how long it will take for the loan demand to be sufficient to allow us to fully erode or erode dramatically the portfolio from where it is today.

I see. And when do you expect the loan growth will come back?

I wish the crystal ball were quite that clear. We'll have to see. We'll have to see if the problems on the residential real estate market keep slowing the economy down. We'll have to watch the oil prices, see what happens there, what the impact is and a number of pieces. Because the decision-making obviously on the consumer side and the decision-making on the commercial side has been slowed by the uncertainty. Maybe once people know whether the Democrats are going to win Congress or the Republicans keep it, maybe that will be the shift that will allow them to actually start taking out a few loans and gearing up their business again.

Okay. And any color on that reverse mortgage initiative?

It started earlier this year. It's growing; it's something that we think has a lot of potential. But it started at a very low level, but it is growing nicely but, again, it started at a low level.

Okay. And I guess I'm going to switch back to the money market account. This sequential jump in the third quarter I witnessed for the past two years, a 20% jump last year and a [61]% jump in 2004, what is it about, any comment?

Well, I can't recall what was going on a year ago, but certainly in this quarter that is a successful promotion result that you're seeing on the balance sheet and that's what translated into that increase in money market balances.

So we don't see year-over-year sequential increases in the third quarter in money market accounts?

It's not a seasonal thing, it's a promotional thing. I'm talking about from the end of the second quarter to the end of the third quarter.

I see, okay. And I guess my last question relates to the service charges on deposit accounts. Very nice growth in the second quarter and third quarter. What would be a good run rate on that line item?

I think what you're seeing for the third quarter is the increase is the result of some changes that we've made in product structure. By and large at this point I think those are in place and running well.

Okay. Thanks so much.

(OPERATOR INSTRUCTIONS). Gentlemen, there are no further questions in the queue. Do you have any closing remarks?

We just would like to thank everybody for participating and it's good to chat with you all again. We'll be chatting with you soon. Thank you again.

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