Beacon Financial Corp. (BBT) Q2 2018 Earnings Report, Transcript and Summary

Good morning, and welcome to the Berkshire Hills Bancorp Second Quarter 2018 Earnings Release Conference Call. All participants will be in listen-only mode. [Operator Instructions] After today’s presentation, there will be an opportunity to ask questions. [Operator Instructions] Please note this event is being recorded. I’d now like to turn the conference over to Erin Duggan, Investor Relations Manager. Please go ahead.

Good morning and thank you for joining the discussion of second quarter results. As some of you already know, Allison O’Rourke is now helping to spearhead our growth initiatives in her new role as EVP Corporate Sales Director. We need to take up the task of telling you that our news release is available on the Investor Relations section of our website, berkshirebank.com and will be furnished to the SEC. Our remarks will include forward-looking statements and actual results could differ materially from those statements. For detail on related factors, please see our earnings release and most recent SEC reports on Forms 10-K and 10-Q. In addition, certain non-GAAP financial measures will be discussed on this conference call. References to non-GAAP measures are only provided to assist you in understanding Berkshire’s results and performance trends, and should not be relied upon as financial measures of actual results or future projections. A comparison and reconciliation to GAAP measures is included in our news release. And with that, I’ll turn the call over to CEO, Mike Daly. Mike?

Thank you, Erin. Good morning, everyone. Thanks for joining us today for our second quarter call. I’ll provide an overview of the quarter, and then I’ll turn it over to Jamie Moses, our CFO. He will walk you through the specifics in our financials, will discuss our outlook and our guidance, and then I’ll wrap it up. So we had good quarter. We’re pleased with the bottom line numbers. We’re optimistic about the results as we move forward with our internal strategies. We delivered $0.74 in EPS. The ROA came in at 117 basis points, and we saw our quarterly return on tangible move close to 15%. On the balance sheet, we saw a solid overall loan growth this quarter, led by strong C&I growth and seasonal mortgage production. Now on the commercial side, we produced 9% annualized growth. This was led by C&I where we saw good results across the footprint with particularly strength out of Greater Boston market and solid contributions out of our ABL and Springfield teams. We got a strong pipeline, solid group of lenders across our footprint, and we’re now on pace to deliver at least mid-single-digit annualized commercial loan growth in the second half of the year with total loan growth to match. Now I want to take a moment, and I want to touch on credit quality. Our loans are performing strongly. We remain disciplined in managing our credit selection and our concentrations and our loan metrics demonstrate that. And there’s been some local news around the deal we haven’t staked in. And while I’m not going to share the details of anyone’s loans, I will say this: There are unique situations where loan is well secured, and we are in control of the asset and cash flows, and the prospects of resolution are good that accounting principles suggest that the loan remain on accrual. It should also be noted that the loan is reported as a delinquent loan. This company does not kick cans down the road, never will. And that’s all I want to say about that. Now let’s turn to deposits. We posted 7% annualized growth for the quarter. We are laser focused on executing on our deposit strategies, and so we expect to continue this momentum in the second half of the year with mid-single-digit annualized deposit growth throughout. Importantly, we achieved these results, while completing the integration of our Commerce operations. We completed this integration under budget and on schedule with the final Commerce cost saves achieved by the end of the quarter. Now execution like this makes the big difference with regard to retention and growth of customers and employees. To further example the importance, I believe in finding the right partners and putting them together and generate accretion of earnings and value. We talk a lot about culture and how important it is to our company. A part of that that culture has always been a strong commitment to bettering the communities we serve. In the second quarter, we held our Annual Xtraordinary Day of Service. Now through this company-wide event, we tackled 74 community projects, totaling nearly 7,000 volunteer hours and 92% employee participation rate. We’re also appointing a Corporate Social Responsibility Officer to expand our CSR efforts and to bring our community engagement to even another level. Now at this point, I’m going to turn it over to Jamie. He’ll provide you or review the quarter, and then I’ll wrap it up. Jamie?

Thanks, Mike, and good morning, everyone. This was a particularly strong quarter for us. We saw good improvement in earnings in addition to our profitability profile. Notably, we saw solid improvement to our ROA, the efficiency ratio and our ROTCE. Core EPS came in at $0.74, a 14% increase over the first quarter and a 28% increase year-over-year. We reported GAAP EPS of $0.74 as well. So that’s a pretty clean quarter. Our reported net interest margin rose to 3.50% in the second quarter. If you exclude purchased loan accretion, the NIM increased 2 basis points to 3.25%. Purchased loan accretion came in at $6.9 million due to a handful of recoveries coming in earlier than expected. In the third quarter, we anticipate both accretion and NIM to return to the level seen in Q1. The loan loss provision was $6.5 million in the second quarter, exceeding net charge-offs. We anticipate the provision to remain relatively flat in the third quarter. Our loan and deposit fees were up 5% over the prior quarter with good gains in commercial loan fee income and SBA loan sale gains, reflecting the pickup in commercial activity. We continue to see good results in our SBA operations and are taking full advantage of cross-sell opportunities with our other franchise and specialty lending teams. Mortgage revenue was flat to the prior quarter as a seasonal pickup in volume was offset by lower margins, reflecting industry competition and a shift in purchase activity towards online channels. As you know, revenue shifts in our mortgage business have minimal EPS impact. For the third quarter, we expect non-interest income to come in relatively flat from second quarter results. Now remember, we begin to see the Durbin impact on interchange fees in the third quarter. This equates to a give-up of roughly $0.02 to $0.03 per quarter moving forward. So you can see that we are expecting to overcome that drag with the guidance that we just gave you. Operating expenses were mostly flat as we brought in Commerce cost saves and delivered positive operating leverage on strong balance sheet growth. Our focused expense disciplines contributed to a sub-57% efficiency ratio. In the third quarter, we expect operating expenses to come in flat to slightly down and the efficiency ratio to pick up slightly. The tax rate in the second quarter was 20%. We expect our full year 2018 core tax rate to be around 20% to 21% and to remain in that range for the back half of year. Turning to profitability and as we noted in our earnings release, we achieved record quarterly results. Our core ROA rose to 117 basis points, a 27% increase year-over-year with GAAP ROA to match. Our core return on tangible common equity improved to 14.8% in the quarter, which provided solid support for our strong balance sheet growth and the higher dividend that we announced in the first quarter. Our GAAP ROE was 8.9% for the quarter. It’s gratifying to report results that show the benefits of our strategic initiatives even as we absorb the costs of building out teams in newer markets with higher future growth potential. For the third quarter, we expect core EPS of $0.69 or $0.70 with very little difference between core and GAAP results. With that, I’ll turn it back over to Mike.

Jamie, thank you. So as Jamie said, we’re expecting to deliver another $0.69 or $0.70 in core EPS in the third quarter, recognizing that our second quarter is traditionally a strong quarter for the company and is certainly a high watermark for this year. I also think it’s important to point out we’ve had an ongoing build of our quarterly core EPS in recent years from $0.40 to $0.50 to $0.60, and now we’ve broken through the $0.70 mark. While we expect EPS to moderate some from Q2 results, we also expect that our franchise gives us the potential to generate an even higher run rate again next year. We remain on target for full year core EPS growth of 17% to 20%, with our core ROA above 1% and our efficiency ratio below 60% for the year. As many of you know, we became publicly rated for the first time, earning a CBR rating of A- on our deposits. Rating report commented on our strong asset quality, sound capital management and noted our performance improvement. It also highlighted our deposit initiatives. And we believe this rating will be positive for our profile, particularly in our new markets. Now a critical part of our strategy is to build an organic engine that powers this franchise. And this mentality has deposits at its focal point and execution of our relationship strategy as the core deliverable. And you’ve heard me talk about Sean Gray, our COO, and his vision for the future of banking. As he and his team champion to virtual banking and proprietary programs like the MyBanker program, I think we’ve given our customers that bridge from traditional branch banking to the digital world. And thanks to these efforts, we continue to be able to consolidate branches, while reallocating those resources into mobile distribution. So all I’d say that we’re proud of what we built and our progress toward our overall strategic goals. But we’re also 100% committed to giving everything we have to performance and the performance expected by our shareholders. With that, I’m going to open it up to any questions.

We will now begin the question-and-answer session. [Operator Instructions] The first question comes from Mark Fitzgibbon with Sandler O’Neill. Please go ahead.

Good morning. Mike, you guys booked a lot of loans in the second quarter. I’m curious if your loan pipelines are rebuilding or have remained strong? And are there any particular geographies that are doing especially well from a lending standpoint?

Sean?

Hey Mark, pipelines are continuously strong.

Richard, you got this one too, right?

Mark, pipelines are very strong, probably in the $200 million to $250 million range and what we’re finding is, we’re really making some really good inroads in Eastern Massachusetts around the Boston Worcester corridor.

Okay. And then, secondly, to Jamie, can you help us think about purchase accounting accretion in the fourth quarter? I know it’s dependent on a lot of assumptions, but – and you gave guidance for the third quarter. Is the fourth quarter likely to look similar?

I would say that it’s likely to look similar, probably a little bit down, right, just as purchase accretion starts higher and then rolls off as you go forward.

Okay. And then, and I think, you referenced in the press release that you had extracted the 20% cost savings from the Commerce deal. Is there some room to squeeze further, do you think?

Boy, you guys always ask for that.

A little more, Jamie.

Oh, yes. That’s right. So I mean, I think our guidance is that we’re going to be flat to slightly down here in the third quarter on expenses. So I think that there is, maybe, a little bit more room in there, Mark. But again, we’ve got to make sure that we’re continuing to invest in the franchise. There is mobile distribution. There’s is a lot of things going on here. So I wouldn’t expect too big of a decline there in the efficiency ratio.

Okay. And then, Mike, is Berkshire Hills ready to do additional acquisitions? And maybe, if you can give us a sense for what kinds of characteristics are at the top of your wish list for potential target?

Well, I would answer it this way. I mean, are we prepared? Sure. I mean, we’re kind of always prepared. I think we’ve got an integration staff here that’s as good as anybody’s just based on the amount of deals we’ve done. We’re concentrating our efforts right now on the organic machine that we’re trying to create. So I would say that deals for us will be deals that become available that can really move the agenda for us. I doubt you’ll see us moving our minds towards a small deal here and small deal here right now because I just don’t want to take our efforts off of what we’re doing from an organic standpoint. Having said that, there’s always opportunities. When they come up, we look at them. So I’m never going to say never, as you know.

Great. Thank you.

The next question comes from Laurie Hunsicker with Compass Point. Please go ahead.

Hi, good morning.

Hey, Laurie, how are you?

Good. I’m just wondered if we could just talk generally about credit. Certainly, your overall credit looks great. But just specifically, we saw a little bit of a jump in your commercial real estate and your C&I charge-offs. Is there anything there?

Richard?

Laurie, actually, that’s a good thing. As you know, certain non-accruals went down. And so we actually took advantage of some of that what we felt was some liquidity in the market, and so we actually moved deals quicker, as you know, when you’d kind of looking out a transaction, you look at time, you look at the cost of collection. We do that analysis. So we basically moved some assets out quicker, which resulted in some of the loss.

Okay. And then, within the C&I specifically, was any of that Taxi?

No.

Can you just – none of that was Taxi? Okay.

No.

And your Taxi book is still sitting right around 103?

Well, I’ll give you some numbers. So the credit metrics in that portfolio remain stable. The average price per Medallion post mark or net mark is less than $75,000. And the last time we talked about this, I said that the portfolio net of the mark was under $40 million. The portfolio now net of the market is under $30 million.

Okay. And I’m assuming you’re talking about the special earmark that was part of the deal, so round number is $67 million?

Yes.

Okay. So it’s round numbers or something about $97 million?

Well, little lower.

Okay, okay. And then, just quickly also Firestone. Can you just give me a quick update on the balance there? What was originated? What’s nonperforming, and what was charge-off?

Sure. The balance at the end of this quarter is about $266 million, and so that’s up about $33 million quarter-over-quarter. Charge-offs were about $230,000 versus the $180,000 in the first quarter. And then, non-accruals were – I got to find that ROA were about $1.9 million versus the $1.6 million in 1Q. So it’s been very stable.

Okay. Inventory, last question around that. The originations for the quarter. Do you have that?

Yes. The originations were about $33 million and so the payoffs were about $10 million. So that netted from the $230 million to the $250 million.

Okay, great. Super helpful. Okay. And then, deposits, Jamie, can you just go through a little bit? We saw, obviously, the rise in the core deposits. Just, I guess, how we should be thinking about that? And then, maybe, if you have a breakdown of how much of that is Boston, if this is Boston growth and also just an update on where Boston deposits currently stand? Thanks.

Yes. Sure. Thanks, Laurie. So I guess, one way to think about it as a beta, we saw about a 40% beta here in Q2. I guess, I would say, I don’t expect that to accelerate too much going forward. So may be that equates to a few basis point pickup here and there as rates rise. We are seeing, as you know, increased competition for deposits. But again that’s just part of what you see. I don’t have that broken out in terms of what the effect of Boston was on the increase in deposit costs. I can, maybe, do some work around that, maybe we can – I can get back to you on that offline. What I can say is that we’ve seen good, strong growth in deposits in our core Boston markets. And so we are pleased with how that’s going and, of course, that will contribute a little bit to that rise in rates.

Okay. And just the $100 million in growth in the NOW line that we saw linked quarter. Is that all Boston or you just don’t know or circle back?

No. So the increase in NOW there is tied to a program that we put in place, their wealth sweep account that we didn’t have prior to that. So now we have our customers, our wealth customers are sweeping their accounts overnight into our NOW line. And so that also – that is the main reason there why you see that increase in deposit costs as well as the increase in balances.

Okay, thanks. Thank you.

The next question comes from Brody Preston with Piper Jaffray. Please go ahead.

Good morning, guys. How are you?

Good. Brody, how are you?

I’m doing well. Thanks. Jamie, you mentioned earlier that the critical yield is going to revert back to Q1 levels. Is the forward guidance for about $0.5 million decline in a critical yield still the same?

I think that’s about right. Yes, you can think about it that way, Brody. Obviously, it’s tough to predict how that actually is going to come through. But from an accretable perspective, yes, I mean, $300,000 to $500,000 or so a quarter is probably a good number.

Okay. And then, I guess, with that, is the core margin outlook sort of similar, flat to maybe slightly up just a little bit?

I think, that’s exactly right, Brody, flat to slightly up. And of course, that obviously is going to depend on deposit betas going forward. But I think that’s a good – that’s our outlook at this moment.

Okay. And I guess, how we think about mortgage banking, right, like if you – 2Q – if 3Q is similar to 2Q is sort of like flattish, given 4Q is seasonally weak, do you expect that to sort of be some $10 million in revenues?

I think that’s a fair number, Brody. I mean – I think that’s fair, yes.

Okay. So do you think – I guess, maybe, looking forward to 2019, do you think that you can get back to the $50 million to $60 million in mortgage banking revenues? Or do you think that the environment is just a little bit challenging right now?

Yes. Brody, it’s really tough to forecast that stuff way out into the future. And as you know, next week is way out into the future for mortgage banking. I think that – I think that almost anything is possible there, but at this point in time, I can’t focus – forecast a 2019 number. You could see a small impact, up or down there.

All right. Great. And then last question. Mike, you mentioned earlier in your prepared remarks, given the progress you’ve made with online banking, you continue to look for efforts to consolidate branches. I just wanted to see if you guys have any sort of formal plan you’re working on or is it just going to be one-offs here and there?

You want to take the shot?

Sure. We do have a formal plan. The plan is six branches over the next six to 12 months.

Okay, great. Thank you guys.

The next question comes from Collyn Gilbert with KBW. Please go ahead.

Thanks, good morning, guys. So just, Mike, your opening comments on fees, I just to make sure, I heard you correctly. So even with the reduction of – or maybe, you said it, Jamie, I’m sorry. But the reduction related to Durbin, you expect to offset that? You said so flat fees in the third quarter?

Yes, that’s right, Collyn.

Okay. So what – where does the optimism come from other line items than on the fee side?

Yes. So we’re going to see – we are likely to see a strong pickup in SBA loan sale gains. We have a really strong pipeline there, and we’re very, very pleased with how integrated that company has become into the entire company. So we’re seeing a lot of referrals internally. So we’re very excited about that.

Okay. Is that mostly just a timing issue for what you kind of see in the third quarter? Or do you have visibility to suggest that even in the fourth quarter you could kind of keep fees at this – at that level – this level?

That’s a tough one. I think they probably will go down. In the fourth quarter, there’s some seasonal effects and there obviously mortgages going to be likely down from the levels that we’re at. But – so I guess, that’s how I would answer that, Collyn.

Okay, okay. And then, just on your comment about the NIM, core NIM, specifically kind of flat to slightly up. Just curious, how we should think about the impact of do you guys provide on total residential mortgages this quarter? Maybe, if you could offer if you have it with the blended yield was on those originations that you put on this quarter or additionally, what the blended yield was of the commercial loans that you put on this quarter?

Yes. So the residential mortgage loans came on around 4% or so. And then – and commercial was coming on at just over 5%. So the number I have here is like 5% and 8%.

Okay, okay, okay, that’s helpful. And then just back, Mike, I appreciate your comments that you’re not going to, I think, talk more about this credit that’s been in the press. But you put it out there, so I’m going to ask it.

Of course, Collyn.

So you – just you had indicated that the credit balance was within the delinquent portfolio. Is that right?

Yes, it’s in there.

Okay. I’m just curious, when was that added? And then what’s the balance that’s in there, if I do the credit?

Yes, Collyn, it’s Richard. It’s in the over 90-day bucket, and it’s about $16 million.

Okay. And when was that added?

It started to migrate in the first quarter. So in the first quarter, I believe, it was in the 30 to 59 bucket and then it just migrated into the 60 to 90 day bucket.

Okay. And I’m going to ask it, and you can choose not to answer it. But just curious, I mean, you guys are conservative, right? I mean, you guys have great credit – great credit history. And as you said, Mike, I mean, quick resolution on almost everything you do within the bank. So I guess, just broadly, if we were to think about it in terms of sort of your credit discipline or the way you manage your weakening credits. I guess, I’m a little surprised that with the troubled credit that is moving into foreclosure, that there wouldn’t be some sort of assumed write-down, right? I mean, the disposal of a credit in a foreclosure process is going to be generally less, right, I would imagine then what is on the book. So I’m just trying to understand how you’re thinking about sort of your discipline more broadly, given historically great credit history and you guys do not waste time on resolving issues?

Yes, Collyn. This is Richard. So I’m not going to at all discuss that specific transaction. But from a general standpoint, when we sort of foreclosure, move down that path, that does not necessarily mean that there is a write-down because in certain situations and not specifically to this one, but in unique situations, you may have an abundance of collateral. So you’ve new valuations that’s showing abundance of collateral, you may have other levels of debt below you. So it’s really, as you kind of work the way through it, you get to the end, and you start to decide, again, as I indicated when Laurie asked the question, what’s the time, value, money and collections, and you make those decisions all the time. So just because the deal is not in – or is in foreclosure does not necessitate a write-down.

Okay. All right. I think that was all I had. I leave it there. Thanks, guys.

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

Okay. Well, thanks for joining us. We look forward to speaking with everyone again when we get to our third quarter call. See you then.