Camden National Corporation (CAC) Q1 2018 Earnings Report, Transcript and Summary

Good day, and welcome to the Camden National Corporation First Quarter 2018 Earnings Conference Call. [Operator Instructions]. Please note that this presentation contains forward-looking statements, which involve significant risks and are described in the company's annual report on Form 10-K and other filings with the SEC. Today's call presenters are Greg Dufour, President, Chief Executive Officer and Director; and Deborah Jordan, Executive Vice President, Chief Operating Officer and Chief Financial Officer. Please also note that today's event is being recorded. At this time, I would like to turn the conference over to Greg Dufour. Please go ahead, sir.

Thank you, Laura, and welcome to Camden National Corporation's Conference Call to discuss our First Quarter 2018 Results. I'd like to take a few moments to comment on those results and then provide an update on some of our accomplishments during this past year. We're pleased to report $12.8 million of net income or earnings per diluted share of $0.82 for the first quarter. We greatly benefited from two important events, the first was the resolution of a troubled loan, which we've discussed on this call previously. You'll also note that our asset quality is very strong, which when combined with the recovery, resulted in the release of loan loss reserves in the quarter through a negative provision for loan losses. The other is a lower federal income tax rate. The reduced tax rate provided a great benefit to our bottom line and performance ratios. This will also help us rebuild capital resulting from last quarter's deferred tax asset write-down as well as help fund a review of our nonexecutive compensation programs, which we announced in January. Our loan growth during the first quarter was flat as a result of lower residential mortgage volume and commercial real estate volumes. Loan demand appears to have been weaker across the region, which when combined with aggressive pricing credit structure, makes an extremely competitive market. Over the past few weeks, we've seen an uptick in demand in both residential and commercial real estate products, so we remain comfortable with our goal of mid-single-digit loan growth for the year. During the first quarter, we opened up our Portsmouth, New Hampshire loan production office that will eventually house commercial and residential mortgage bankers along with wealth management. When combined with our Southern Maine franchise and our office in Manchester, New Hampshire, we are pleased to be gaining exposure in faster-growing areas to complement our other markets in our Braintree, Massachusetts mortgage office. We also announced that we will be selling our Waterville, Maine branch location to Colby College, who is spearheading a major redevelopment of Downtown Waterville, and we'll be moving into Colby's new multiuse facility down the street from our existing current location. We continue to expand our digital-based offerings and introduce the person-to-person payment capability as part of our mobile banking suite of products. Some of these offerings ramp up quickly like our MortgageTouch online mortgage application while we expect others will be on a slower adoption rate. With that said, we continue to see increased usage of our digital offerings, which is resulting in changes in how we're communicating with customers. Last year, we had nearly 200,000 calls into our customer assistance center; over 26,000 e-mail responses; and after introducing online chat capabilities, just in December, 3,300 chat sessions. What we're discovering is that, even though we add new channels to communicate, our phone-based outreach is still increasing. We continue to focus on investing in these areas to ensure we're servicing our customers in the ways they want. That investment will be in people as well as advanced technology to streamline service as well as build capacity. With those changes though, last year, we still conducted 2.8 million transactions on our teller lines and another 1.4 million transactions through our ATM network. This doesn't include countless sales calls, service events that happened in our lending brokerage, mortgage, wealth management and support areas. It does, however, highlight the need to constantly improve on our service and delivery capabilities. Finally, I'd like to share with you that earlier today, the Board of Directors appointed Robin Sawyer to our Board of Directors. Robin stepped down from our board a year-or-so ago, as she was Controller of WEX after serving as Controller of Fairchild Semiconductor. She recently retired from WEX, which provided an opportunity for her to rejoin our board. In addition to being a CPA, her experience in large publicly traded organizations was highly valued by the board and management team, and we're excited to have her back. Her appointment will bring the number of women serving on our board to 3. I'd like to now turn the discussion over to Debbie.

Thank you, Greg, and good afternoon, everyone. We are pleased to report our first quarter 2018 results with net income of $12.8 million, which translates to a return on average assets of 1.28% and a return on tangible equity of 17.35%. We experienced net income growth of $2.7 million or 27% over the first quarter of 2017 due to lower income taxes of $1.3 million; revenue growth of $1.3 million; a reduction in the loan loss provision of $1.1 million, partially offset by an increase in operating expenses of $876,000. We benefited from the lower corporate tax rate for the first quarter of 2018, which boosted diluted EPS by about $0.12 a share for the quarter. We have estimated a normalized effective tax rate of just under 20%, which is nearly a 12-point decrease from 2017. Total revenue grew 4% compared to a year ago with increases in net interest income of $1 million and fee income of $232,000. The 4% growth in net interest income was driven by growth in average loans of $156 million or 6% and average deposit growth of $194 million or 8% when comparing first quarter 2018 to 2017. Our net interest margin declined 5 basis points between periods to 3.10% in 2018. The decline in margin was the result of lower fair value accretion which accounted for 3 basis points. And 3 basis points was related to the impact of the lower tax rate on fully taxable equivalent income. Asset quality remains strong. And due to the resolution of a commercial real estate loan, we released a specific reserve that drove a loan loss credit of $497,000 for the first quarter. Nonperforming assets now stand at 0.47% of total assets and our loans past due 30 to 89 days has reached a low of 0.21% of total loans. Operating expenses increased 4% compared to a year ago with the biggest driver related to an increase in compensation and benefits cost of 5%, resulting from merit increases and additional employees. In comparing our financial results to the previous quarter, I will focus on pretax results since it speaks to operating earnings before the deferred tax write-down in the fourth quarter. Historically, our first quarter earnings trend lower than the rest of the year for several reasons. First, our deposit base is seasonal with balances peaking in the fourth quarter and trends lower in the first quarter, resulting in higher borrowing levels in the first half of each year. Our first quarter also impacted by higher payroll taxes and increased occupancy costs due to the winter months. Pretax earnings of $15.9 million for the first quarter of 2018 declined by $263,000, or 2% from the linked quarter. And when adjusting for the 2017 special bonus for employees, pretax income decreased 6% between linked quarters. Revenue declined 5% compared to the fourth quarter with net interest income decreasing $757,000 and a $1 million decline in fee income due to lower swap income and mortgage banking income. Both the mortgage banking and customer loan swap programs are related to a soft quarter for loan production. As mortgage banking becomes a larger source of revenue, we expect more volatility in fee income. The seasonal slowdown in the first quarter, combined with the weather issues, kept homebuyers out of the market. And rising mortgage rates also slowed down refinancing activities. The total loan portfolio was up just $6.7 million since year-end. And mortgages sold into the secondary market totaled $45 million, a decline of 33% from the previous quarter. Although net interest income was down 3% between the linked quarters, there were several factors influencing this, including 2 fewer days during the quarter. The biggest factor pertains to the shift from lower-cost deposits to borrowings, which happens every year due to our deposit seasonality and it drives an increase in interest expense. Between linked quarters, we experienced a decline in our net interest margin of 10 basis points with our net interest margin at 3.10% for the first quarter. Drilling into the net interest margin change between periods, 3 basis points relates to the taxable equivalent income adjustment, 2 basis points pertains to the lower fair value accretion and another 2 basis points relates to the shifting in our funding mix from core deposits to overnight borrowings. Operating expenses of $22.3 million for the first quarter declined slightly compared to the fourth quarter when excluding the special bonus to employees. Higher compensation and benefits and occupancy costs for Q1 were offset by decreases in collection cost and intangible amortization. We do anticipate operating costs increasing between 2.5% to 4% over the first quarter levels as the full impact of merit increases and additional staffing had cycled through. Our efficiency ratio for the first quarter ran slightly higher than our 58% target level, but we anticipate averaging below 58% for the full year of 2018. That concludes our comments on the first quarter financial results. We'll now open the call up for questions. Laura?

[Operator Instructions]. And our first question will come from Damon DelMonte of KBW.

My first question. I guess I wanted to -- if Deb could just go over the quarter-over-quarter decline in the margin again. I didn't get all of those details.

Sure. For the margin between quarters, one component was 3 basis point change due to the tax rate, the taxable equivalent income; 2 basis points relates to the decline in our fair value accretion, which has been trending lower every quarter; and then two basis points is really that shifting from our core deposits, checking accounts to overnight borrowing.

Got you. Okay. And tonight as you kind of look forward for the rest of the year with the expectation that loan growth is going to pick back up, how do you kind of view the margin from this 3.10% level going forward?

Yes. I think what -- we might see a little dip in the second quarter and then as our funding improves again, we'll see it lift up. So I think we'll be trading in around this range for the rest of the year.

Okay, all right. And then with regards to the provision, obviously, a negative provision expense this quarter in response to the favorable resolution of a credit. How do you look at the provision in the upcoming quarters absent any type of resolution like we saw this quarter?

Yes. I think in the past I've said around 15 basis points on new volume, so I would assume that rate. Charge-offs were at just 10 basis points on a annualized basis. So certainly great news on the asset quality front for us this year.

Great, got it. Okay. And then I guess lastly on the fee income. It looks like that the debit cards income was down from quarter-over-quarter. Is that just more of a seasonal effect? Or is there something else going on there?

Yes. I feel like it's more seasonal. If you look at it compared to a year ago, we're about -- like you should see it come back up in the next few quarters.

Okay. And then with that, so we should go back then over a $9 million quarterly run rate pretty easily in the second and third, fourth quarters for the pretty overall noninterest income, not just debit card.

Yes. I think what -- the good news, what we're seeing is on the mortgage banking side is certainly heating up. And that will -- that's the big driver of the incremental fee. So yes. I would say I'm comfortable with that for the rest of the year.

The next question comes from Matthew Breese of Piper Jaffray.

Greg, I just wanted to touch on your opening comments about the region, the slower growth for the quarter, and get a sense for where in the year do you expect to make up ground to get to that mid-single-digit growth outlook. And how much to your comments is in regards to competition just eating away what you could potentially get? And then how much is really just tied to perhaps a slower growth environment?

Yes. Well, I guess I'd start out by saying looking back to the fourth quarter and kind of talking and observing what other banks were doing, we're seeing some slowdown even at that point and probably back then, attributed to kind of the unknown tax situation. Even though with that said, we had a pretty good, strong close to the year that helped quite a bit. I do think that weather slowed down, as Debbie said, on the residential mortgage side, the rate increase slowed down on the refinancing side, and then also in the Wingeling, do -- you're kind of hearing reports across the region of lack of housing inventory for sale and not so much building at least up in the probably more than the Wingeling market. So that's contributing. With that said, we're seeing those pipeline start to fill up, but I'd probably call it to pent up demand. On the commercial real estate and larger C&I side, highly competitive market I think because there's just less volumes out there. We're seeing a lot of competition on pricing, fixing rates for a longer period of time. Structure is always that comment that you'll hear from everybody, but higher loan-to-value rates are also seeing where people are extending interest-only periods on larger transactions going to nonrecourse. So a lot of it is a smaller pie and higher competition. But again, on the commercial pipelines, we've seen some uptick in deals that we're looking at as well as deals that we're putting in term sheet phase probably over the past, call it, 4 weeks or so.

Okay. And do you think we'll see a bit of a snapback in growth in 2Q? Or is that more of a over the next three quarters, we'll just see a -- the general pickup to get you to that?

Right now, I'm not comfortable in saying what we've seen for the past few weeks is that a new trend line for us coming out of last year or not. So I would -- if I had to venture a guess, I would see it more gradually building up over the next couple of quarters based off what we see today.

Okay. And then Deb, could you just talk a little bit about the pluses and minuses from the branch sale to Colby College, but then the loan production office in Portsmouth? And just help me work around those 2 figures and how that bakes into the expense and efficiency guidance.

The Waterville transaction, really from a financial perspective, is pretty neutral. We owned a pretty large building with high occupancy costs that really needed some major renovations in the future. And so being able to sell that and Colby will be tearing down that building and us moving into a state-of-the-art facility shouldn't impact us from an operating cost perspective at all. In regards to the Portsmouth, that said, loan production office, but we're also going to have other folks house their mortgage bankers. Some of our support area will also be located there in wealth management. So it's not a big investment so it shouldn't have a big impact on run rate of the operating cost side.

Okay. And then I did want to ask. Greg, maybe just bigger picture, as we think about the next three years for the institution. What are your top 3 strategic priorities you're spending your time on?

Sure. Well, number one is really fulfilling what we're having in the southern part of our franchise, call it from the greater Portland area south now venturing into a little bit more aggressively into Portsmouth and Manchester and building that out again. It was a great thing that we did, acquiring the Bank of Maine, but we still have a lot of growth that we can do just in Southern Maine, York and Cumberland County. We're putting a lot of effort in that way, establish teams, expanding our lending teams there, our retail teams. So that's probably the big growth engine where you get a little bit into New Hampshire. We're building it up more on a slower de novo basis, but we can supplement that by hiring individuals like mortgage originators and all. The other strategic part of that will be in what we call the legacy markets, call it Portland North is still building market share there. And again, we have the infrastructure in place that way so that expansion would be more from people, which is, again, a variable cost way of efficiently building market share and profitability in those areas. The other strategic area that we look at is -- especially for an organization our size, is we have to keep up with the larger banks and what they're doing on the digital web front. And that's why I highlighted some of those factors that -- what we're doing because I think we really need to position ourselves to remain relevant to all customers. And we're just seeing adoption rates increasing more and more each day. Overall, with those two factors, that's kind of -- looking at us from an organic growth perspective, I'd go back to what we've talked about probably here and other investor presentations that we've done. We like the 50% organic growth model and 50% acquisition model. However, we've run the company day-to-day on an organic growth model, which also makes us continuously look for improvements, especially where we can get efficiencies out of it. And so that will be the other lever that will pull and that should position us to be opportunistic if a acquisition opportunity comes up.

Got it. Now that was very helpful. Deb, maybe my last one for you. Just the thing about the flatter yield curve and the impacts it might have on the sensitivity of Camden's balance sheet. Could you just talk about that and outline for us the -- at this point, with this yield curve where the sensitivity on the balance sheet is?

Yes. I'd be happy to. As you know, over the last few years, we really transitioned from a liability-sensitive bank to pretty neutral in interest rate environment. We still have a funding base that reprices rather quickly when you look at our borrowing levels in some of the broker deposits, but we still have a very attractive core deposit base, low cost checking accounts. And we're doing a lot on that front to continue to grow business and treasury management clients. And that certainly will make a big difference on the funding side. In regards to the asset side, the investment portfolio, we have a duration of 4 years related to that. And we have a lot of cash flow coming off that will be reinvested at a little higher yield. On the loan side, we've transitioned to -- a big chunk of our commercial real estate portfolio is now LIBOR-based funding instead of being fixed or ARM-based. And so for all of us, a flatter yield curve is not an easy environment, but I think we're positioned okay in that market. And the real key is going to be continuing to keep our core funding cost lower.

Got it. Okay. And just how much of the core real estate book is LIBOR or prime-based at this point?

I think it's about $1.2 million of the total loan portfolio. No. I'd have -- I'll get back to you on that. I think -- it's definitely over 50%.

[Operator Instructions]. As we have no further questions, this concludes our question-and-answer session. I would like to turn the conference back over to Greg Dufour for any closing remarks.

Great. Thank you again, Laura. And I just want to thank everyone for their interest in Camden National Corporation, and we all look forward to chatting again next quarter. Have a good day.

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