WesBanco Inc (WSBCP) 2016 Q3 法說會逐字稿

Good afternoon, and welcome to the WesBanco third-quarter 2016 earnings conference call.

(Operator Instructions)

Please note: This event is being recorded. I would now like to turn the conference over to John Iannone, Vice President of Investor Relations.

Thank you, Laura. Good afternoon, and welcome to WesBanco, Inc.'s third-quarter 2016 earnings conference call. Our third-quarter 2016 earnings release, which contains reconciliations of non-GAAP financial measures, was issued yesterday afternoon, and is available on our website, www.WesBanco.com.

Leading the call today are Todd Clossin, President and Chief Executive Officer; and Bob Young, Executive Vice President and Chief Financial Officer. Following the opening remarks, we will begin a question-and-answer session. An archive of this call will be available on our website for one year.

Forward-looking statements in this report relating to WesBanco's plans, strategies, objectives, expectations, intentions, and adequacy of resources are made pursuant to the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995. The information contained in this report should be read in conjunction with WesBanco's Form 10-K for the year ended December 31, 2015, and Forms 10-Q for the quarters ended March 31 and June 30, 2016, as well as documents subsequently filed by WesBanco with the Securities and Exchange Commission, which are available on the SEC and WesBanco websites.

Investors are cautioned that forward-looking statements which are not historical fact involve risks and uncertainties, including those detailed in WesBanco's most recent annual report on Form 10-K filed with the SEC under Risk Factors in Part 1, Item 1-A. Such statements are subject to important factors that can cause actual results to differ materially from those contemplated by such statements. WesBanco does not assume any duty to update forward-looking statements. Todd?

Thank you, John. Good afternoon, everyone. On today's call we will be reviewing our financial results for the third quarter.

Key takeaways from our comments are: We continue to drive positive operating leverage in this extended lower-for-longer interest rate environment. We have successfully closed our merger with Your Community Bankshares, and look forward to introducing the WesBanco franchise to our newest markets in northern Kentucky and southern Indiana. And we're making steady progress on our business and balance sheet re-mix strategies.

We are pleased about our results for the quarter, which were slightly above our expectations. Excluding merger-related expenses, we earned fully diluted earnings per share of $0.60 on net income of $24 million for the third quarter of 2016, and $1.79 per share on net income of $69 million for the nine months ended September 30, 2016.

In addition to our focus on long-term, sustainable growth, we're also committed to maintaining a strong financial institution for our shareholders. Our capital ratios and credit metrics continue to be strong, and we are well positioned for the future. Bob will cover these metrics in more detail in a few minutes.

Our long-term growth is focused on five key strategies: growing our loan portfolio with an emphasis on commercial and industrial lending; increasing fee income over time; traditional retail banking services; expense management; and franchise expansion. As of September 30, 2016, our total loan portfolio grew to $6.2 billion, an increase of 26% as compared to a year ago, reflecting $1 billion in loans from the YCB acquisition, and approximately 6% organic loan growth.

Organic loan growth was achieved through $1.4 billion in loan originations during the first nine months of 2016, supported by total business loan origination growth of 14%. Roughly half of the year-over-year growth in organic loans was from our strategic focus on commercial and industrial, and home equity, loans. These categories grew 14% and 11%, respectively, year over year.

Furthermore, we have lowered our exposure to the oil, gas, and coal industry, and have seen no material change in the credit quality of that exposure. As a reminder, in this competitive and extended lower-for-longer interest rate environment, we continue to be judicious with the loans we book, as we will pass on deals where we feel the pricing or the structure is not reflective of the credit risk. While this strategy might cost us a few percentage points of loan growth now, it provides significant benefits to the Company and our shareholders over the long term.

In addition to our loan growth strategies, we remain focused on positive operating leverage. Our team is executing well on its strategies, while maintaining tight control over discretionary expenses. Their success is evident by our continuing to deliver positive operating leverage year to date, as well as improving our year-to-date efficiency ratio to 56.1%, which is a 118-basis-point improvement over the prior year.

As you know, we successfully consummated the merger with YCB in just over four months from the date of announcement. In late August we received all of the necessary shareholder and regulatory approvals for the merger. On September 9 we welcomed the customers and employees of YCB into the WesBanco family, and we look forward to formally unveiling the WesBanco brand in our newest markets, with our branch and data system conversions over the November 4 weekend.

We're excited about the opportunities that we are already seeing from our expansion into Indiana and Kentucky, these high-growth markets with great demographics. And we're eager to provide our broad array of products and services to our new retail and commercial customers, while continuing to deliver exceptional service to which they are accustomed.

We're making steady and meaningful progress on our balance sheet strategy. As we had mentioned previously, we tend to appropriately re-mix and manage our balance sheet while still encouraging loan growth.

While the YCB acquisition was a commercial bank, you may recall that our previous two acquisitions were thrifts, which significantly increased our securities portfolio as a percentage of total assets into the low 30% range. We continue to make good progress in reducing the size of this portfolio. As of September 30, our securities portfolio decreased approximately 6 percentage points year over year to 24% of total assets, while our total portfolio of loans increased to 64% of total assets as compared to 59% a year ago. This occurred through a combination of YCB and WesBanco portfolio restructuring, and using a portfolio of the securities cash flow to invest in new loans.

We believe that the current size of the securities portfolio still provides us the flexibility to manage our balance sheet in this extended lower-for-longer interest rate environment, while supporting mid-single-digit loan growth. Moreover, this continued re-mix has the added benefit of helping net interest margin, as average loan rates are higher than average security rates. In fact, our net interest margin has shown relative stability over the last few quarters, partially from this re-mix strategy.

As part of our balance sheet re-mix and funding strategy, we have allowed certain higher-cost certificates of deposit to run off over the past few years, as we've focused on meeting our customers' preferences for other deposit types. This has resulted in nice organic growth in both interest-bearing and non-interest-bearing demand deposits, which now represent 46% of our total deposits as of September 30, 2016, after the YCB acquisition. I would now like to turn the call over to Bob Young, our Chief Financial Officer, for an update on our third-quarter financial results. Bob?

Thanks, Todd, and good afternoon to you all. As Todd mentioned, on September 9 we closed the Your Community Bankshares acquisition, which resulted in a partial month's financial results from them, as third-quarter merger-related costs of $9.9 million, or $6.4 million after tax, equated to $0.16 per share. For the nine months ended September 30, we reported net income of $62.4 million, and earnings per diluted share of $1.61, net of merger-related expense. Excluding these expenses from both periods, net income would have increased 6.7% to $69.3 million, with earnings per diluted share up $0.04 to $1.79.

Year to date, the return on average assets was 97 basis points, and return on average tangible equity was 12.56%. These ratios were 1.08% and 13.91%, respectively, when excluding the impact of merger-related costs.

For the quarter ended September 30, 2016, we reported net income of $17.4 million, and earnings per diluted share of $0.44. Excluding merger-related expenses, net income would have been $23.9 million and earnings per diluted share $0.60, as compared to $22.4 million and $0.58 per share last year.

For the third quarter, return on average assets was 79 basis points, and return on average tangible equity was 10.02%, again, reflecting the impact of the merger-related costs. When excluding those costs, return on average assets would've been 1.09%, and return on average tangible equity would have been 13.6%.

My remaining earnings-related comments will focus on the third quarter's results, and will exclude the impact of the merger-related costs. As a note, our earnings release published last night contains our consolidated financial highlights, and reconciliations of non-GAAP financial measures.

Net interest income for the third quarter increased 2.3% year over year to $62 million, due to a 3.8% increase in average earning assets to $8.7 billion, partially offset by a 4-basis-point decrease in net interest margin. The increase in average earning assets was driven by a 10.2% increase in average loan balances, reflecting both the YCB merger and our stated balance sheet re-mix strategy.

Total portfolio loans of $6.2 billion as of September 30 increased $1.3 billion, or 26%, year over year, reflecting $1 billion in loans from the YCB acquisition, and organic loan growth of 5.5%, which was supported by a continuation of strong loan originations year to date. Organic loan growth was driven by growth in commercial real estate, primarily construction and land development, commercial and industrial, and home equity loan categories, as the latter two drove approximately half of the year-over-year growth in total loans. This reflects our strategic focus on commercial and industrial, as well as home equity loans, as these categories organically grew 14% and 11%, respectively, year over year.

Total deposits increased 15.2% to $7.1 billion at September 30, primarily due to the YCB acquisition. When excluding the impact of CDs, organic deposit growth was 1.4%, or $66.3 million, reflecting our deposit re-mix and funding strategies. Furthermore, organic interest-bearing and non-interest-bearing demand deposit growth was 8.9% year over year.

For the third quarter of 2016, the net interest margin was 3.32%, down 4 basis points year over year, primarily reflecting the impact of re-pricing of existing loans at lower spreads, competitive pricing on new loans, and the extended low interest rate environment, partially offset by continued loan growth and our balance sheet re-mix strategy. As a reminder, our balance sheet strategy is to decrease investment securities balances to fund the loan growth, which, over time, will improve asset yields, as average loan rates are higher than securities rates.

In addition, our net interest margin also reflects increased funding costs associated with a higher proportion of Federal Home Loan Bank medium-term borrowings, and higher junior subordinated debt costs, as these mostly three-month LIBOR-denominated instruments increased in cost from the December 2015 federal funds increase, and more recent increases in the three-month LIBOR rate. Encouragingly, our net interest margin continues to show some stability, as it improved 2 basis points sequentially from the second quarter, and also has maintained a range between 3.29% and 3.32% over the last four quarters. We do anticipate some further improvement in the net interest margin during the fourth quarter from a full quarter's impact of purchase accounting from the YCB acquisition.

Federal Home Loan Bank borrowings of $1 billion represented 16.4% of average interest-bearing liabilities during the third quarter of 2016, as compared to 12.7% a year ago. This year-over-year increase of $235 million reflects our balance sheet strategy, which included increasing our overall asset sensitivity late in 2015 in anticipation of then a rising rate environment, as well as partially offsetting the run-off of higher-rate certificates of deposit as part of our planned funding strategy. Of note, these borrowings were 10% lower at the end of the third quarter as compared to the end of June, as we utilized cash flows from the related sale of certain investment securities, and focused on the overall size of the balance sheet in order to remain under $10 billion in total assets in the near term.

For the third quarter, non-interest income increased 15.6% from the prior year to $19.6 million. This $2.8 million increase was driven by $1.3 million of commercial customer loan swap fee income, $0.6 million of securities gains from the sale of mortgage-backed securities, and higher trust fees and deposit service charges.

The securities gain is the result of continuing our stated strategy to reduce the percentage of securities to total assets, which had increased in 2015 due to the ESB acquisition, as well as normal portfolio restructuring, and as part of our ongoing balance sheet re-mix and size strategies. Regarding the loan swap fee income, while we have offered this product for several years, customers have become more receptive to the back-to-back fixed rate swap product in the current interest rate environment; and as a result, we have seen some traction over the last couple of quarters in this fee income category.

We remain focused on long-term expense management and positive operating leverage. For the year-to-date period, our efficiency ratio improved 118 basis points, excluding merger-related costs. And on a year-to-date basis we delivered operating leverage, as revenue growth exceeded expense growth. In addition, as we begin the conversion next week, we remain committed to our target expense savings from the YCB merger, with 75% of those anticipated savings to be phased in during 2017, and we do expect some of the savings to begin later this quarter as a result of these November systems and branch conversions.

Non-interest expense, excluding merger-related costs, for the third quarter of 2016 increased $0.9 million year over year to $47.7 million, and were generally consistent with our expectations. The increase in salaries and wages reflects the integration of the employees from YCB, as well as our routine annual compensation adjustments. This increase was partially mitigated by slightly lower equipment and marketing expenses due to the timing of seasonal marketing campaigns.

Turning to our asset quality and regulatory capital ratio metrics, for the three months ended September 30, the provision for credit losses was $2.2 million, primarily reflecting loan growth. Non-performing loans, criticized and classified loans, and past-due loans all improved as a percentage of total portfolio loans on both a year-over-year and sequential-quarter basis. Net charge-offs as a percentage of average loans were 0.2% for the three months ended, and 0.14% for the nine months ended September 30, both of which improved 10 basis points year over year. We continue to maintain strong regulatory capital ratios, as our ratios remained well above the well-capitalized standards required by bank regulators and Basel III capital standards, with our Tier 1 leverage capital ratio of 9.51%, Tier 1 risk-based capital ratio of 12.95%, total risk-based capital ratio of 13.94%, and common equity, or CET 1, capital ratio of 11.07%.

Lastly, our tangible-equity-to-tangible assets ratio improved to 8.26%, as compared to 7.87% at the end of the third quarter last year, assisted by both retained earnings, as well as higher other comprehensive income. I would note these ratios were higher than we anticipated at the time of the May merger announcement, as they have benefited from lower tangible book value dilution from lower merger-related expenses, a reduced level of high-volatility commercial real estate balances, and lower total assets than projected. In addition, tangible book value was $17.38 versus $16.27 a year ago, and higher than the $16.92 anticipated for the closing of the YCB acquisition.

We continue to anticipate a competitive loan environment, impacted by an extended lower-for-longer interest rate scenario with a flatter yield curve, which will continue to impact our net interest margin as existing loans re-price and new loans are booked. In addition, the continued execution of our balance sheet re-mix strategy, as we delay the financial impact of crossing the $10 billion asset threshold, will also have an impact on the near term, although reducing the size of our investment portfolio as part of our stated longer-term strategy.

At this time, our most likely net interest income projections include one single or one federal funds rate increase in this quarter, in December, and one increase towards the end of 2017. However, our 2017 projection may change based upon more recent economist forecasts. In addition, we continue to anticipate 5 to 10 basis points of accretion from the YCB acquisition in our net interest margin.

Lastly, we still anticipate mid-single-digit overall loan growth, which we plan to fund with normal securities portfolio run-off, and as necessary, short-term borrowings. We are now ready to take your questions. Operator, would you please review the instructions?

Certainly.

(Operator Instructions)

Bob Ramsey, FBR Capital Markets.

Good afternoon. Bob, on margin I want to be sure I understood you correctly. You said from the acquisition you guys are expecting 5 to 7 basis points of margin accretion. That's on top of where you sit. I know you probably had a de minimis amount in the third quarter, but that's fourth versus third?

Yes.

Great.

(inaudible - multiple speakers) April or May.

Okay. Then as you think about going forward from here, given that the balance sheet strategy is going to be one of really re-mixing those assets, is it fair to assume outside of any change in rates that there would be a modest positive bias to net interest margin as you shift to higher-yielding assets?

That's correct. We will be controlling the size and reducing the size of the investment portfolio, which in and of itself would have a positive, as loan yields even in this compressed or lower-for-longer rate environment would still be higher than investment security yields, as we reinvest securities. Our cost of funds is pretty much flat at this point.

There could be some adjustments in the TruPS and other borrowings based on LIBOR, but deposit costs are pretty much -- are expected to remain fairly flat in this environment, so yes. We also think there's enhancement just from the earning assets and costing liabilities of YCB even before you apply purchase accounting. Recall their loan-to-deposit ratio was higher than ours going in.

Okay. If the Fed does raise rates in December, which seems to be the consensus view at this point, what does one 25-basis-point rate move at the short end due to your margin?

We haven't provided guidance on that, but relative to our most likely interest rate forecast in the past, it is -- as we have said in our 10-Q under the market sensitivity, it generally would provide a positive influence of a slight amount to the net interest margin. I wouldn't anticipate it's dollar for dollar, obviously.

Okay. All right, thank you.

(Operator Instructions)

Catherine Mealor, KBW.

Hello, Catherine.

Ms. Mealor, your line has been opened.

Can you hear me now?

Yes.

Okay, great. Sorry, I was on mute. Bob, I think you mentioned in your prepared remarks about employee benefits. They declined quarter over quarter from $7.3 million to $6.3 million. Can you talk about what drove that decline, and how we should think about that line moving forward?

In the second quarter we had higher health care costs. We're self-insured. The third quarter we actually had lower costs, so that is the primary adjustment. Most of the other categories were similar.

There's a little bit of adjustment to deferred comp in the third quarter versus the second, but that's the biggest change between the second and third quarter, Catherine. That will bounce around as claims come in. It might be a little bit higher in the fourth quarter. Obviously, we have YCB as part of the total picture now, as well.

Okay. Then maybe is it safe to assume a level of higher incentive comp in that line also in the fourth quarter?

Well, I wouldn't say percentage-wise, but the dollars would be higher to recognize some of the folks from YCB as part of the total picture. Relative to our base case incentive compensation, I think we're adequately accrued at the end of the third quarter for what we would intend to pay out to our own executives and senior folks on the revenue side. There would just be a minor tweaking for YCB.

Then on the tax rate, a little lower this quarter. Any guidance for the tax rate into the back half of the year?

Yes, we're thinking it's before -- which would have been end of June, when we're not -- under GAAP, we're not anticipating the closing of YCB, so it was over 27%. Now in the mid-26% range, 26.5% to be exact. I would look for that to continue in the fourth quarter.

The primary reason for the reduction, Catherine -- well, there's two reasons, really. One is the merger-related expenses, most of which are deductible. Those are in the third quarter.

Then the overall effective tax rate at YCB going into the merger was lower than ours because of a higher percentage of tax-exempt securities, and bank on life insurance and some other strategies. Most of that will -- even though we restructured some of the investment portfolio, most of that will accrue to our bottom line going forward.

Got it, okay. That's helpful. If I could ask one more on the margin, just as a follow-up to Bob's question. I think we talked last quarter about -- you mentioned that given YCB's higher margin, the pro forma margin if you put the two companies together were about 5 to 10 basis points higher.

That's right.

Is your guidance then that you'll then have on top of that another 5 to 7 bips of fair-value accretion on top of that general base-case margin moving higher?

That's not true.

Or am I over-thinking it? Okay.

Well, I wouldn't say you're over-thinking it. My comment back in May was addressing both accretion in the early quarters, as well as the inherent higher margin of their balance sheets -- again, reflective of a slightly lower deposit cost, more transaction accounts than CDs, and a better mix on the asset side and higher loans to total deposits, more of that being commercial loans. Those are three the factors that they had a higher margin for. They also had their own accretion from the FFKY merger a year and a half ago. We're supplementing that, re-valuing all of that at this point. That's all included in that 5 to 10 basis points that I quoted.

Got it. Okay, that makes sense. Thanks, and great quarter.

Thank you.

Daniel Cardenas, Raymond James.

Good afternoon, guys. How is everybody?

Good.

Quick question. Perhaps I missed it in your opening comments, but the OREO increase that we saw in this quarter, is that all acquisition related?

It is all acquisition related. There was no increase to foreclosed real estate as a result of our own book.

Okay. Then as I look at your reserve levels, obviously it reflects the marked-to-market adjustments; but as the YCB loans begin to renew, what are your thoughts on reserving for those loans going forward?

Well, the marked-to-market should give us some stability in that. Going forward we would not anticipate for acquired loans that we would need a provision in the first year or so. We generally factor that in to our expectations for earnings in our model. That was true with both Fidelity and ESB. I have no reason to believe it wouldn't be true here.

You have both a credit market as well as an interest rate mark in the portfolio. The interest rate mark will be accretable, or the net mark on the good book, so to speak. Then the non-accretable portion, which is the credit mark on the -- call it the bad book, which is very minimal here, would not be accretive unless cash flow estimates would change.

All that's been factored in. While we haven't provided guidance on the provision -- and it will bounce around quarter to quarter, depending upon a charge-off here or a loan down-graded there, in this -- I guess we would call it pretty much a pristine credit quality environment -- I wouldn't anticipate an increase to that in the short run from the acquisition.

We also did a very deep dive as is our custom on their loan book during due diligence, and looked at the majority of loans in the portfolio, so feel like we understand what we acquired.

I might also remind you we anticipated loan sales. That was in the merger agreement. We talked about it back at announcement. That was consummated as of closing, some of the under-performing loans that we identified that Todd just mentioned.

How much was that, in terms of --?

$35 million.

$35 million, okay. All right. Then as I think about one-time charges, deal-related charges, are those pretty much done, or will we see a little bit more in Q4?

You'll see a little bit more in Q4. There's a couple more contracts that need to be terminated, some severance payments that will be made, that are required to be accrued over the severance period. As I said, we're going to convert in early November. There will be some changes to the employment towards the end of that month that should benefit us later in the quarter.

A lot of the $25 million in merger-related expenses that we identified at the time of announcement -- I wouldn't say a lot, but a portion of those -- have been pushed back, have been recorded on the final books, if you will, of YCB. I would tell you that our $10.5 million that we recognized to date on a pre-tax basis is below what our estimates were for merger-related expenses on our side. I would think that we've got between $2 million and $3 million more to take at this point, from what I know today.

Okay, great. Thanks for answering my questions. Good quarter, guys. Thanks.

Casey Whitman, Sandler O'Neill.

Good afternoon. Just a follow-up on the questions on expenses. Can you give us a sense for where you think the run rate for expenses will be next year, assuming the 75% expected cost saves from YCB [ar-jeet]

I'm looking, Casey. Pardon me for shuffling papers. We haven't completed our plan for 2017 yet. We're still focused on that. Particularly, we'll get a new net interest income forecast after we're able to combine the general ledgers with core conversion coming up next weekend.

Relative to expenses, what I have is a run rate that is in the fourth quarter. I think projecting some cost savings off of that in 2017 would be reasonable. The early couple months of the fourth quarter would have more expenses. We talked about this after ESB that we had some additional expenses because we keep all the people until conversion, and then we begin to get some of those back-office cost savings that are all lined up at this point.

We don't disclose month by month, but I'm just giving you a general trend analysis that should occur. I guess what I would say is it's going to be around 12% to 15% higher than our current run rate, but we haven't put dollars to it by quarter yet for next year. I'll be in a better position to do that for you when we have the fourth-quarter call.

Got it. That answers my question, thank you. Then also, can you remind us just as a percentage of assets where you're comfortable, or where you would expect to run the securities book down to from the 24% level now?

As you said, we're at -- and as you mentioned, were at 24% today. Historically, our banks run in the 20% to 25% range. I think we could run that down to 20% over the next couple of years. That's another $400 million or $500 million. We're already $200 million below $10 billion. If I use back-of-the-napkin math, we would have single-digit loan growth for the next two years before we'd start pushing up against the $10-billion threshold That would bring the securities book down to probably 18% to 20%, somewhere in that range.

I think that's a healthy place for us to be as we go forward as an organization. I think the benefit of it is it keeps us under $10 billion, while we prepare to go over. That's an added plus to it. But I also just think it's a healthier position to be in, rather than run a 30% or so securities portfolio on a long-term basis. It's not something we wanted to do; 18% to 20%, I think, is where we may end up in a couple of years.

All right, great. Thanks for taking my questions, and good quarter.

Thank you.

This concludes our question-and-answer session. I would like to turn the conference back over to Todd Clossin for any closing remarks.

Thank you. We're very pleased with our progress to date during 2016. We're excited about our growth opportunities in our newest markets, and we remain focused on all aspects of our strategic vision, and also enhancing shareholder return. I want to thank you for joining us today, and hope to see you at one of our upcoming investor events. Thank you, and have a good afternoon.

The conference is now concluded. Thank you for attending today's presentation. You may now disconnect.