Washington Trust Bancorp Inc (WASH) 2022 Q3 法說會逐字稿

Good morning, and welcome to Washington Trust Bancorp, Inc.'s conference call. My name is Elliot, and I will be your operator today. If participants need assistance during the call at any time, please press STAR-0. Participants interested in asking a question at the end of the call should press STAR-1 to get in the queue. Today's call is being recorded. And now I'll turn the call over to Elizabeth B. Eckel, Senior Vice President, Chief of Marketing, and Corporate Communications Officer. Ms. Eckel?

Good morning. Thank you, Elliott. Welcome to Washington Trust Bancorp's Third Quarter 2022 Conference Call. Joining us for today's call are members of Washington Trust's executive team, Ned Handy, Chairman and Chief Executive Officer; Mark Gim, President and Chief Operating Officer; Ron Ohsberg, Senior Executive Vice President, Chief Financial Officer, and Treasurer; and Bill Wray, Senior Executive Vice President and Chief Risk Officer.

Please note that today's presentation may contain forward-looking statements, and actual results could differ materially from what is discussed on today's call. Our complete safe harbor statement is contained in our earnings press release, which was issued yesterday and other documents that are filed with the SEC. These materials and other public filings are available on our Investor Relations site at ir.washtrust.com. Washington Trust trades on NASDAQ under the symbol WASH. I'm now pleased to introduce today's host, Washington Trust's Chairman and CEO, Ned Handy.

Thank you, Beth. Good morning, and thank you for joining our third quarter call. We value your time and your interest in Washington Trust. I'll provide some commentary on the quarter and our view of the current environment, and then Ron Ohsberg will review our financial performance. After our remarks, Mark Gim and Bill Wray will join us, and we will answer any questions you may have about the quarter.

I'm pleased to report that Washington Trust posted solid third quarter results with net income of $18.7 million, or $1.08 per diluted share. We saw very strong loan growth, which has helped optimize our balance sheet in this rising rate environment. Commercial loans grew by 8% with strong credit formation, strong construction funding, and a slowdown in payoffs. Margin expanded, and we delivered an all-time quarterly high in net interest income. Loan and in-market deposit growth have positioned the balance sheet to continue to offset pressure in our two main fee drivers, wealth management and mortgage banking. Our returns on average assets and average equity remains strong, and asset quality did as well. The diversity of our revenue streams, combined with credit discipline and strategic organic growth enabled a strong third quarter. Ron will provide details about our results in his comments.

The markets we serve continue to provide us with quality growth opportunities. We opened our New Haven commercial lending office in July and now have five lenders in that market, supported by a new cash management hire and complemented by our strong wealth management and residential mortgage teams in Connecticut. We have operated in Connecticut successfully for years, but this commitment to the market will help establish our brand and leverage our diverse offerings. We announced our intention to add three new branch locations in Rhode Island in 2023. These branches, which are all in various stages of gaining federal state and local approvals, will position us well to better serve the full Rhode Island community and to continue our in-market deposit growth. Our latest branch additions in East Greenwich and Cumberland North Island have demonstrated the appeal of our high-touch service model in the marketplace.

Our mortgage banking business has slowed as rates rise, but continues to carry a relatively strong pipeline and weekly application levels, and has added to a strong portfolio loan growth over the past few quarters. The nature of the market has changed the balance between portfolio growth and loan sales. So while gains on loan sales are down, quality assets have been added to the balance sheet. We are also finding opportunities to attract new loan officers in this environment, a testament to our long-term, consistent approach to the business.

As we indicated in our press release, four wealth management advisers resigned recently. They were from our Wellesley, Massachusetts office of our registered investment adviser subsidiary, Washington Trust Advisors. As you know, this Wellesley office was formerly known as Weston Financial Group, a business we acquired back in 2005. In October, we have seen some AUM outflow and expect we will see more over the coming months. Ron will provide some guidance on the forward-looking financial impact. Washington Trust remains committed to growing this key business segment across the markets we serve, and we have seen positive net organic growth in clients over recent quarters despite market volatility. As always, we will stay focused for opportunities to grow our wealth management business, both organically and through M&A, and plan to more than rebuild AUM levels over time.

As we look forward and navigate the uncertainties in the local and global economies, we're even more committed to providing our customers, the communities we serve, and our employees with the highest quality experience available. As inflation continues to burden the entire economy, we expect further Fed action and have planned accordingly. We continue to invest in technology and process improvement to allow our employees to serve customers effectively and efficiently, in person or digitally, and to assure system resiliency. The landscape remains somewhat uncertain, but we are well-capitalized and our balance sheet is in good shape to continue on our strategic path of quality growth. We are confident in the strength of our diversified business model and in our dedicated and talented employees. I'll now turn the call over to Ron for comments on the third quarter financial results. Ron?

Yes. Thank you, Ned. Good morning, everyone, and thank you for joining us on our call today. As Ned mentioned, net income was $18.7 million, or $1.08 per diluted share for the third quarter, as compared to $20 million or $1.14 for the second quarter. Net interest income amounted to $42 million, up by $4.5 million, or 12%, from the preceding quarter. The net interest margin was 2.82%, up by 11 basis points. There was essentially no benefit to the third quarter from PPP fees. In Q2, these fees amounted to $323,000, a two basis point benefit to margin. Prepayment fee income was modest at $30,000 in the third quarter and $62,000 in the second quarter, both had no impact to the margin. Excluding the impact of both items for each period, the margin increased by 14 basis points, from $2.68 to $2.82. Average earning assets increased by $365 million, driven by loan growth. The yield on earning assets was 3.49% for the third quarter, up by 46 basis points.

On the funding side, average end market deposits declined by $120 million in average wholesale funding sources rose by $438 million. The rate on interest-bearing liabilities increased by 44 basis points to 0.86%. Noninterest income comprised 27% of total revenues in the third quarter and amounted to $15.8 million, down modestly by $49,000, or 0.3%, from Q2. Wealth management revenues were $9.5 million, down by $541,000, or 5%. This included a decrease in asset-based revenues of $339,000, or 4%, as well as a decrease in transaction-based revenues of $202,000 - consisting mainly of tax servicing income, which is concentrated in the first half of the year. The decrease in asset-based revenues correlated with a decrease in average asset balances, which were down by $337 million, or 5%. September 30 end-of-period assets totaled $6.3 billion, down by $327 million from June 30, largely due to market depreciation.

As Ned mentioned, four of our wealth advisers recently left the company. They managed approximately $1 billion in assets. To date, we have been informed of client withdrawals of $412 million, with related annual revenues of about $2.4 million or $600,000 per quarter. Our mortgage banking revenues totaled $2 million in the third quarter, down by $35,000, or 2%. Realized gains were $1.7 million, down by $199,000, or 10%. Mortgage loans sold totaled $75 million in the third quarter, down by $4 million, or 6%, and market competition has also been compressing the sales yield as expected. Total mortgage loan originations amounted to $302 million in the third quarter, down by $48 million, or 14%. Much like the second quarter, we continue to place a high percentage of mortgage originations into portfolio. Our mortgage origination pipeline at September 30 was $165 million, down by $69 million, or 29%, from $234 million at the end of June.

Loan-related derivative income amounted to $1 million, up by $372,000. Regarding noninterest expenses, these were up $2 million or 6% from the second quarter. Salaries and employee benefits expense increased by $1.2 million or 6%, reflecting adjustments to performance-based compensation accruals. The remaining linked quarter increase in noninterest expense reflected modest increases across a variety of other categories. Income tax expense totaled $5.3 million for the third quarter. The effective tax rate was 22.1%. We expect our full year 2022 effective tax rate to be approximately 21.5%.

Now turning to the balance sheet. Loan growth was strong. Total loans were up by $369 million, or 8%, from June 30 and up by $562 million, or 13%, from a year ago. Excluding PPP, loans increased by $638 million, or 15%, from a year ago. In the third quarter, total commercial loans increased by $186 million, or 8%. Within this category, free loans increased by $153 million. New originations and advances of $229 million were partially offset by payments of $76 million. C&I loans increased by $33 million as new volume of $57 million was partially offset by payments of $24 million. Residential loans increased by $178 million, or 9%, from June 30. Originations for retention and portfolio were $225 million, down by $39 million, or 15%. Investment securities were down by $38 million, or 4%, from June 30. A temporary decline in fair value in routine paydowns and mortgage-backed securities were partially offset by purchases of debt securities. End market deposits were up $79 million, or 2%, from June 30. The increase included seasonal inflows associated with our larger institutional depositors. End market deposits were up by $324 million, or 8%, from a year ago. Wholesale brokered deposits were down by $16 million in the third quarter and FHLB borrowings were up by $372 million. Total shareholders' equity amounted to $432 million at September 30, down by $44 million from the end of the second quarter. This was largely due to a temporary decrease in the fair value of available-for-sale securities.

As mentioned during our July earnings call, in the third quarter, we repurchased approximately 19,000 shares at an average price of $47.79, at a total cost of $896,000 under our stock repurchase program. Our total repurchases in 2022 under the program are approximately 194,000 shares totaling $9.5 million, repurchased at an average price of $48.82. Washington Trust remains well capitalized and our third quarter dividend declaration of $0.54 per share was paid on October 7. Regarding asset quality, it remains strong. Nonaccruing loans were 0.25% of total loans compared to 0.28% at June 30. Past due loans were 0.16% of total loans compared to $0.19 at prior quarter end. At September 30, nonaccrual and past due loans were essentially all residential and home equity. The allowance for credit losses on loans totaled $36.9 million, or 0.76%, of total loans and provided NPL coverage of 304%. This compares to $36.3 million, or 0.81%, at June 30.

The third quarter provision for credit losses was a charge of $800,000 compared to a negative provision or benefit of $3 million in Q2. The third quarter provision reflects loan growth, our current estimate of forecasted economic conditions, and strong asset and credit quality metrics. We had net charge-offs of $54,000 in Q3 compared to net recoveries of $10,000 in Q2 and year-to-date net recoveries totaled $104,000. This concludes my prepared remarks. And at this time, I'll turn the call back to Ned.

Great. Thanks, Ron. Elliot, we can now go to questions.

Thank you. If you would like to ask a question, please press STAR followed by 1 on your telephone keypad now. If you change your mind, please press STAR followed by 2. When preparing to ask your question, please ensure your device is unmuted locally. Our first question comes from Mark Fitzgibbon from Piper Sandler.

Hey guys, good morning. A couple of questions on the Wealth Management business, those four advisers that have left. I guess, first, did they end up going to the same place as the other team that had left a while back?

So, all we can say is they left to pursue other career opportunities, Mark.

Okay. And Mark, have you changed the pay structure or something at the wealth management side that caused these people to leave? Or did their noncompetes burn off? Just curious on that.

So Mark, they have noncompete non-solicit agreements in place, and we can't comment much further given where we are in the process.

Okay. So, $400 million of client outflows have already announced they're leaving to follow them. And it sounds like you expect a big chunk of that $1 billion book of business they have to go away. Is that correct?

Yes, Mark. This is Ron. I mean, we're still early in this. So, I can't really give you any more guidance other than telling you what has happened to date. We're currently at $412 million.

And just a little bit on that, Mark. We don't think that it's necessarily valid to extrapolate our experience from prior departures with what's happening now. But as Ron said, it's early to tell.

But what's changed Mark? I mean, last time we had the team leave, the book of business just kind of slowly bled out. And I thought we were under the impression that you guys had made changes to the noncompete nonsolicits to try to prevent theese large chunks of business leaving. I guess I'm curious what's changed.

So again, we have noncompete nonsolicitation agreements in place. And as we've said, we can't comment on where we are at this stage in the process.

Okay. Changing gears on: I wonder if you could share with us what the spot deposit rates are today?

Spot deposit rates? Yes. I mean, we have not really changed... Mark, we haven't changed our rack rates. We are competitive on some promotional pricing, particularly on CDs. That's been a traditional strategy for us. Our current promo rate for new money with the checking account is $350 million.

Okay. And then, Ron, are all the expenses for the new branches and offices reflected in the third quarter number?

We announced three new branches opening in 2023. So none of that expense is really reflected in our numbers at this point. And we don't know the exact dates that those branches will open. Typically, we have some leading expenses prior to the branches opening, but we don't have those opening days yet, Mark. So there's not too much to say on that at this point.

Okay. And could you share any thoughts around the NIM outlook?

Yes. So, we had pretty good NIM expansion in the third quarter. We would expect some additional expansion in the fourth quarter. We're looking at $285 million to $290 million for Q4.

Okay. Great. And then lastly, I know you manage the company toward regulatory capital ratios, but does the TCE ratio play any role in your capital planning? And if so, how comfortable are you taking that down? Thank you.

Yes. I mean, we obviously look at it and it certainly is a metric that's important. I wouldn't say that the level that it's at is going to change the way we're running the business at this time. I mean, we're quite comfortable with our regulatory capital ratios. And so that's kind of our position at this point.

Thank you.

Our next question comes from Damon DelMonte from KBW. Your line is open; please go ahead.

Good morning, guys. I hope everybody is doing well today. Just to start off with a follow-up question on the margin outlook. I noticed borrowings increased a decent amount this quarter in light of the strong loan growth. Ron, when you think about the margin, I heard your comments to Mark's question, $285 million and $290 million for the fourth quarter. But do you feel like the margin kind of peaks at the end of the fourth quarter and starts to maybe see a little headwind as we go into 2023?

Yes. I mean, listen, so we're asset sensitive. As the Fed increases rates, our LIBOR portfolio will replace immediately. But we understand that some of our variable funding will change, including FHLB, brokered CDs, and so forth. So I don't think we've peaked yet. I know that there is concern in the industry whether banks are already peaking. I don't think we're quite there yet, although I do think we'll see the expansion of our NIM begin to moderate somewhat in the fourth quarter. And we just need to keep looking at what the Fed is doing. We're not quite ready to put out any 2023 guidance on that yet. But I think we'll see some benefit for a little bit.

Okay. Thanks. And then with regards to the outlook for loan growth, can you just give a little broad commentary on what your pipelines are looking like now and how you're feeling about the next couple of quarters? Obviously, two very strong quarters back to back for you guys. I'm just wondering if the pipeline continues to build, and the outlook remains relatively consistent, how should we think about it?

Yes, Damon, it's Ned. Thanks for the question. So the pipeline still remains pretty strong. Commercial is in the mid-200s. Resi is down, but it's still pretty strong in the 160 to 170 range. So deals keep coming in. We're seeing a lot of activity, a lot requests in all of the markets we serve. Connecticut is particularly strong. At the moment, the Greater Boston marketplace is still very supportive on both sides. So we feel good, certainly, about the quarter ahead.

Great. Are you seeing much reaction from some of your commercial development customers with just the rapid rise in rates? And has that caused them to pause on projects at all, and kind of revisit their personal balance sheets for the projects?

No, it's a good question. We haven't seen it yet. Maybe in individual deals, we're having more discussions. I think we're seeing a little slowdown in swaps, which tells us that the borrowers think that over the next I don't know, six to 12 months, that we may see a reversal in rates. They're not fixing through swaps. We see a little bit of a lift run in fixed rate requests. People are interestingly locking in at current rates, and yet not doing swaps. I think there's a sort of across the board, but we aren't seeing people pull deals off the table because of current rates. Most of these guys have seen a lot higher rates in their careers.

Fair point. Got it. And then just a last question on credit. The reserve is now 76 basis points, in part because of the strong growth this quarter. But how are you guys thinking about the reserve, if you look at it on a year-over-year basis? It's down 20-some-odd basis points. I think there's some growing concern, we could be going into an economic slowdown. Loan growth outlook seems positive. So, I mean, should we start to see a little bit of a reserve build in the next couple of quarters?

Yes. I'll take that, and Bill, if you want to jump in at some point. In the third quarter, we had strong loan growth, and we provided for that. The provision has several components to it. And so the loan growth provision was kind of commensurate with the amount of growth that we had. We also look at various qualitative factors that we've been providing for over the past couple of years, one being COVID. And so we actually dialed back some of our kind of COVID-related reserves. The net of that was an $800,000 provision for the quarter. I think going forward, the reserve that you'll see printed will be more in line with loan growth and then any changes in economic and asset quality concerns that we might have from the economy. Bill, I don't know if you want to...

Sure. The CECL model is fundamentally based on loan losses over a period of time, and then looking forward against a kind of metric outlook. And so we're very confident that we have good coverage based on our loss history. We have priced in the growing concerns about recession and unemployment and other things. I think we're very comfortable with where we are. And so it would be wrong to say there's a magic number or that loan growth itself will change things. But again, I think we're in good shape now. And certainly, as loans continue to grow, there will be roughly commensurate provision.

Got it. Okay. I appreciate all the color, guys.

As a reminder, to ask any further questions, please press STAR followed by 1 on your telephone keypad now. Our next question comes from Laurie Hunsicker from Compass Point. Your line is open. Please go ahead.

Great. Good morning. I just wanted to go back to Damon's question around reserve build. I just want to make sure I understand it. So, you're talking about sort of commensurate loan loss provisioning. Pre-pandemic, you were sitting at 69 basis points reserved. Now you're at 76%. I mean, is it fair to say? And certainly, I understand CECL, but I also understand a lot of management teams all the way up are also factoring in an overlay on top, right? So is it fair to assume that we're not going to see you get below that 69 basis point level? Or how do you think about that? Or when you say commensurate, are you thinking sort of 75 to 76 basis points of reserves to loans? It's not going to go below that. Maybe just to help us think a little bit more about that as we model provisions.

Sure. This is Bill Wray. I think I said roughly commensurate, to allow for a little bit of little room there because there's multiple factors in the model, which I'm sure you understand. But again, there's no magic number. The key to CECL is looking at loss history. And if you look at our loss history, especially recently, it's extremely low, and we have to factor those in as we look at our quantitative model. That said, I think we're generally in a range that looks like a reasonably stable range. And if you start growing loans in that, which we've been able to do, it's likely that provisions will be roughly commensurate with that. So I think we're comfortable with the range we're in. We were comfortable with this 69 basis points. I don't see material change, frankly, in either direction at this point, assuming that there is no market change in economic outlook. As the model requires, we factored in the forecasted economic changes that are out there, and that's what got us to the number where we are now. And so I think we're probably at a reasonably stable, steady state number, but that's subject to all the potential changes that could come down the road in terms of economic forecast.

Got it. Okay. That's helpful. And then just to go back to the wealth advisers that departed. I just want to make sure that I heard this right. I think you said $412 million have already left with the four advisers. Did I hear that right?

So we've been notified, Laurie, that $412 million... Our clients have told us that they are leaving. So that doesn't mean that they are 100% out the door yet. The impact of that on Q4 earnings would be prorated to whatever point in time the assets were deplatformed.

Got it. Okay. Yes. So when we're looking at the $6.3 billion, $6.3823 billion that you had as of September 30, nothing has left at that point in time, right? There was only $8 million of outflows this quarter? None are actually related to...

Yes, that is correct.

Okay. And then can you just remind us how many AUA wealth managers do you currently have? Senior AUA wealth managers?

This is Mark. We have, boy, about 60 client-facing or client service team members out of approximately 100 employees across wealth management.

Okay. And then are you going to be pursuing legal action against them, as you've done in the past? Or how do you think about that?

We really can't comment at this time any further, Laurie, I'm sorry, just given where we are in the process.

Okay. So maybe then a more macro question. I mean, you have gone after them in the past, and I understand you don't want to comment. But I guess as we're thinking about that legal audit, professional fee expense line, and then also with the new branches. Can you help us think about what noninterest expenses are going to look like in 2023?

Yes, Laurie, it's Ron. So the annual run rate cost of a branch for us is about $600,000 to $700,000. So, I can't tell you what month those costs will come online for the branches. And there will be some expense saves associated with the Wellesley situation, particularly on comp. There may be some other costs in there as well, either savings or otherwise. It's just too early for us to give you any guidance on that particular piece yet.

Yes. And Laurie, this is Mark. In regard to the branch applications that we put in for 2023, those are subject to a long line of regulatory, federa,l and state approvals plus outfitting construction. So we've announced our intention to open those but we don't necessarily have hard dates. So it's tough to give you specific guidance.

Okay. And then just one last thing as we model out those expenses coming online. Can you just help us roughly think about even which quarter we might see the expense build start for each of those three branches?

Yes. Laurie, it's really too early to tell. I don't know, second, third, fourth quarter -- if you wanted to start...

Yes, I think they'll be spread throughout the year in 2023. They're the ones that we are looking at are all existing structures. So it's not as much of a construction process. But again, we're subject to federal, state, and local approvals. So to give you an exact time line is a little tough. But we stated, it's our intention to do all three. But we'll stagger them over the course of the year.

Thanks for hearing my questions.

This concludes our Q&A. I'll now hand over to Ned Handy for final remarks.

Thank you, Elliot. We certainly appreciate your time with us this morning. We had a very solid quarter. Our balance sheet, capital position, and credit quality remain strong, and our diversified business model continues to be supportive. Strong loan growth and in-market deposit growth set the balance sheet to continue contributing with strength. The addition of the Cumberland branch in Q3 will help build our deposit base in Northern Rhode Island. We have strong momentum heading into Q4, which will help to offset any wealth management revenue loss. Once again, I want to thank our employees for their strength of character and their consistent care and concern for each other and our customers. And we thank you all very much. Have a great day, everybody.

Today's call has now concluded. We'd like to thank you for your participation. You may now disconnect your lines.