First Financial Bancorp. (FFBC) Q1 2017 Earnings Report, Transcript and Summary

Good morning and welcome to the First Financial Bancorp First Quarter 2017 Earnings Conference Call and Webcast. 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 would now like to turn the conference over to Scott Crawley. Please go ahead, sir.

Thank you, Pete. Good morning, everyone and thank you for joining us on today’s conference call to discuss First Financial Bancorp’s first quarter 2017 financial results. Participating on today’s call will be Claude Davis, Chief Executive Officer; John Gavigan, Chief Financial Officer; and Tony Stollings, Chief Operating Officer. Both the press release we issued yesterday and the accompanying slide presentation are available on our website at www.bankatfirst.com under the Investor Relations section. We will make reference to the slides contained in the accompanying presentation during today’s call. Additionally, please refer to the forward-looking statement disclosure contained in the first quarter 2017 earnings release as well as our SEC filings for a full discussion of the Company’s risk factors. The information we will provide today is accurate as of March 31, 2017, and we will not be updating any forward-looking statements to reflect facts or circumstances after this call. I’ll now turn the call over to Claude Davis.

Thank Scott, thanks for those joining the call today. Yesterday afternoon we announced our financial results for the first quarter. As shown on Slide 3, we had another solid performance representing 106 consecutive quarter of profitability. Our first quarter results reflect continued execution of our strategy, including proactive balance sheet management, a stable net interest margin, targeted fee income strategies, discipline expense management and solid credit performance. These actions coupled with a tax benefit related stock-based compensation allowed us to offset the impact from the quarter’s lower average loan balances and grow earnings 22% compared to the year ago quarter. We also achieved a sub-60% [ph] efficiency ratio, a 1.18 return on average assets and a 15% return on average tangible common equity for the quarter. Specific to loan growth, industry data shows loan demand slowed across the banking sector in recent months. And we have seen a similar pattern in our markets. While overall conditions remain conducive to growth and client optimism remains high, activity across our markets remained soft during the first quarter. We continue to see payoffs from commercial and commercial real estate clients related to M&A and real estate transactions as borrowers took advantage of elevated purchase multiples. While loan growth was slower than anticipated, activity in pipeline did improve toward the end of the quarter and we remain optimistic that growth will improve over the balance of the year. Deposit results remain strong during the quarter, while average total deposits decreased 115 million, the decline was primarily driven by the intentional run-off of higher cost brokered CDs, and seasonal outflows from public fund deposits. Excluding these declines, average deposit balances increased $80 million or 5% on an annualized basis on solid growth in both consumer and commercial deposits. Capital ratios also remained strong and position us well to support future growth. As we execute on our strategic objectives, our focus remains centered on serving the financial needs of our business, consumer and wealth management clients, while remaining disciplined in our approach. The Company remains well positioned to continue to grow organically, but also to capitalize on other growth opportunities that meet our strategic objectives. With that I'll now turn the call over to John.

Thank you Claude, and good morning everyone. Slide 4 provides an overview of our quarterly performance, including net income of $24.4 million or $0.39 per diluted share for the quarter. As Claude mentioned, we're pleased with our results as well as the consistent earnings growth and improving profitability in recent periods. Turning to Slide 5, net interest income for the first quarter was $68.9 million, a decline of $1.2 million or approximately 2% compared to the linked quarter with the primary drivers being two fewer days in the quarter as well as a decline in loan fees. Net interest margin remained relatively stable declining 1 basis point to 3.70% on a fully tax equivalent basis as higher yields, [indiscernible] loans and investment securities were offset by lower average loan balances, higher funding costs, and the decline in loan fees during the quarter. Specific to the December interest rate hike, the impacts on our margin was consistent with our expectations, with any variances largely attributable to the mix of earning assets. Slide 6 details our non-interest income mix. Non-interest income totaled $17.4 million for the period, a $400,000 increase from the linked quarter. Strong client derivative activity and wealth management fees combined with gains on sales of securities during the period to outpace seasonal declines in deposit service charges and mortgage income. Notably, on a year-over-year basis, non-interest income increased $1.9 million or 12% with deposit service charges increasing 6% and wealth management fees and bank card income each increasing 9% respectively. We are pleased with the year-over-year growth across non-interest income categories given our continued focus in this area. As presented on Slide 7, non-interest expense increased $900,000 or 2% from the linked quarter to $51 million. The linked quarter variance was primarily driven by OREO activity with higher compensation costs and state intangible taxes being offset by lower marketing and other non-interest expense. While expenses were in line with expectations and our efficiency ratio remained within our target range at 59.2%, we continue to review opportunities to further improve our operating efficiency in 2017 and beyond. Turning to Slide 9, credit performance was solid with declines in the allowance and corresponding provision expense during the quarter, reflecting lower net charge-offs and classified asset balances. Non-performing assets increased during the period, primarily driven by the downgrade of two relationships; one AG credit and one franchise credit. While these borrowers demonstrated continued operating weakness that facilitated the downgrade to non-accrual, both relationships were previously classified and our exposures are well secured. Overall, our credit metrics remain at historically low levels and our outlook remains stable. Finally, as seen on Slide 10, our capital ratios strengthened further during the first quarter. We also announced the initiation of an at-the-market equity offering program which gives us additional flexibility with respect to capital planning and future growth. While we were not active through the ATM program during in the first quarter, we remain well positioned to capitalize on organic growth as well as other strategic opportunities that may arise. This concludes my remarks and I will now turn the call back over to Claude.

Thanks John. Keith will now open the call to questions.

[Operator Instructions] And the first question comes from Scott Siefers with Sandler O'Neill & Partners.

Claude, something you could just sort of expand upon your comments on the pipeline having improved toward the end of the quarter. I guess one, if you could maybe start by just going through what your customers are saying and feeling what it would take for them to indeed become more active in drawing lines or are seeking the financing. And then two, as you look at that slightly tempered guide on loans, in your mind was that more a function of just the first quarter shortfall or do you also end up kind of tempering the forward look as well.

Scott, it was predominately the first quarter shortfall on the last question. As it relates to the kind of activity, I mean activity was slower than we anticipated. We mentioned on the fourth quarter call that we had some loans or some deals carryover to early the first quarter, which, you know, those did happen and closed. But the pull through activity of other deals just didn't happen at the same pace that we expected. We did see as I mentioned and John has referenced some higher pay offs again because of lot of M&A activity that we've seen. But I think in terms of clients, what I would tell you is predominately anecdotal, I wouldn't call it statistical in anyway, but it’s, you know, I think a part of it is, we're still on a slower growth but still growing economy. I think our clients are generally more conservative. And then a lot of policy uncertainty that we all know exists would be, I would say the primary drivers. All that said though, we did see some nice activity pickup late in the quarter in pipeline activity in plant closings. And we haven't seen as much anticipated kind of payoff activity as what we saw in the first quarter other than in normal commercial real estate payoff activity as projects go to the secondary market. So it’s a mixed bag there, but I would say we do feel good about where we are going into the second quarter, but we're still cautious.

And then just second question, John for you on the margin in the outlook spine on Page 11, I think you stated both stable margin outlook and then expanding two to three basis points, just want to get a finer point if possible on what exactly are your thinking on margin and NII.

Yeah sure Scott, and I apologize if we weren't clear enough on the slide there, but our expectation on balance for 2Q is that we would see margin expand two to three basis points given the rate hike in mid-March there and that's the combination of higher yields on loans and securities offsetting modestly higher deposit costs largely tied to our index deposits. We always give the caveat that the production mix and loan fees can create some volatility in either direction there. But those will be the drivers and that's our expectation. And I would just also mentioned relative to the first quarter here, recall that our margin increased 5 basis points in the fourth quarter. So coming in relatively flat, it’s down a basis point here and first quarter was consistent with our expectations and what we guided to that we felt that the bump in fourth quarter margin was sustainable given the December rate hike.

And the next question comes from Kevin Reevey with D.A. Davidson.

So going back to the two credit downgrades, one you mentioned was in ag loan and the other one you would mentioned was a franchise credit, can you talk about as far as collateral underlying those credits the loan to value ratios and if the borrows have any personal guarantees on those credits.

We don't get too specific, Kevin, in terms of some of those specifics. I'll give you a kind of a high level color. The biggest part of the move was the ag credit that was the more significant kind of part of the increase and it's predominantly land secured we think well marketed - well marketable in terms of its value as well as some livestock. The franchise credit with most franchise credits and we've talked about this in the past, we only do national QSR concepts, and so a lot of the value in those are in their franchise or enterprise value and we think in this case it has good enterprise value and allows us to secure the loan amount. We do also have guarantees in almost all credits we do, not all but most we get personal guarantees. So that's kind of the high level view of those two credits.

And then my last question relates to the trust fees that was up a lot sequentially. How should we think about that line item going forward, was there just some unusual activity in the first quarter or will it be slower in the second quarter?

Kevin, I would look at the year-over-year comparison, first quarter is generally up because of tax preparation fees that come through. So I don't really look at the year-over-year comparison where we still had nice growth there. So I think we're pleased with some of the successes we're having in looping our well management business into our commercial sales team.

Thank you. And the next question comes from Jon Arfstrom with RBC Capital Markets.

One of the things I want to ask about, in your release you talk about some of your strategic initiatives in fees and efficiency. I guess maybe give us an idea of how it's going on the fee side and then on the efficiency side, John, if you could maybe touch on, I think you did fine on expenses, but you talked about maybe some more opportunities. So maybe give us an idea of where you're spending money and where you’re finding some opportunities?

Yeah, sure Jon. On the fee side, I think we've got a couple additional initiatives kind of following on our efforts from last year that are in various stages at this point. I think our hope is that you'll start to see some of those come on line in the second half of ’17. On the expense side, we continue to manage that and look for opportunities. We're looking at really capacity across the board in all areas of the company and I think we still have some opportunity there, but probably not far enough along to give any kind of range or anything there. But we continue to work on that front.

And what I would add as well, Jon, this is Claude, that I think what we're trying to do is really benchmark ourselves against what we view as some of the best in class competitors and really look at where we may be. But having expenses as well as have opportunities on the fee side, which we think comes from both the consumer businesses and the commercial businesses.

And most of the 10 billion in asset threshold expenses are probably in the run rate, is that fair?

Jon, this is Tony. We're doing some of that, we were certainly - your question also has [indiscernible] spending money, data management is one area where we are continuing to invest. So we're making progress at the right pace, around the 10 billion, but we're not, you know, we're not going over the top right now being, you know, given our asset size and what we think future looks like for us.

So the 2% to 3% is just kind of natural pressure in the business would really be it.

Yeah, natural pressure and then some investments on, mainly on the data side, as Tony mentioned and a little bit on the systems side, both of which are preparing us we think for future growth.

Okay. And then just a follow-up to Scott's question on the loan growth. It's not that dissimilar to other companies, but some others -- you don't quite frankly probably grow single family residential and the loan growth looks a little bit better, but it seems like you’re feeling pretty good about the outlook. But maybe talk a little bit -- give us some examples of the size of some of these payoffs as it comes through, because it seems like that's really been the big headwind. So maybe give us an idea of the magnitude of some of that?

Yeah. It has been the big headwind, Jon. I think, as an example, we had close to 20 million of payoffs and right in the last two weeks of the quarter, on a couple of large commercial deals, I mean, you just seen those throughout as well as you have just a natural turn in the commercial real estate portfolio of both scheduled amortization as well as with the cap rates in that business, a lot of our investors just see good opportunities to market their properties that in traditional normal times, we hadn’t seen. You're right. We are predominantly focused on growing our commercial portfolios and that's been the area that's been still a little bit slow as we released a new activity. If you look across the banking sector, we have not been aggressively growing our first mortgage portfolio nor are we in the auto lending business, which has been two of the areas where we've seen others growing their portfolios. So that's been the color on the headwinds. I think why we're still optimistic is that our clients continue to perform well. The economy still is growing. We do think that, we hope there will be some policy stimulus here sometime this year, but one of the real positives that a lot of our clients talk about and certainly we see is, while we may not see deregulation yet, at least we're not seeing a lot of new regulations. And I think we all know that that was a real kind of issue and challenge for all the economy, not just banking.

Thank you. And the next question comes from Chris McGratty with KBW.

Hey, good morning. Thanks for taking the question. Hey, John, maybe just to start with you on the margin. Hoping you could give a little bit of color on the move in the securities and loan yields. I’m wondering what the delta might have been for premium and also whether the move in loan yields of 7 basis points was all kind of new originations and better spreads or was there a bump in accretion?

Sure, Chris. On your last question there, no bump in accretion there driving the loan yields, in fact covered and formally covered loans in the fourth quarter was five basis points on our margin. It’s four basis points here in the first quarter. So a bit of a drag there. I'd say it was a combination of higher new origination spreads as well as about 60% of our loan portfolio is variable rate. So the impact of the December rate hike really wouldn't see much if any impact from the March hike, just given the repricing dates on a lot of those loans. On the flip side, the deposits, that's generally a pretty instantaneous impact. So a little bit of an impact from the March rate hike on the liability side in March there. On the investments –

Yeah. Go ahead. Sorry.

Sorry. On the investments, I'd say, given the slow pace of loan growth, we have added some credit exposure in the securities portfolio to enhance yield there, but we generally stay at the top of the capital stack and continue to manage duration risk as well. So I’d say purchases in recent months have been about half agency mortgage backed, CMOs and some other government guaranteed securities and then the balance has really been a mix of private MBS, some asset backed, some tax exempt munis and some floating rate CLOs there. But overall, portfolio duration remains relatively short at about 3.2 years.

And the move in premium, did that help at all? I'm just wondering because [indiscernible]?

No. Well, it didn’t hurt us in the first quarter whereas it was a drag in fourth quarter. So I'd say prepay speeds were benign through the first quarter, so we didn't have a negative impact. We'll see how 2Q plays out.

Can I ask another one on the index deposits or the higher betas portfolio, how much -- John how much of the deposits are kind of tied kind of one for one to market rates and how much of the core portfolio, I mean, have you adjusted rates on the core portfolio at all?

Sure, Chris. Yeah. The index deposit is about 20% of our total deposits. In terms of the rest of the deposits, we really haven't moved rates I would say other than in the public fund sector, that’s where we probably see a little more competition. And CDs will move based on kind of current, either specials or activities, but other than that, none of the core moved.

So if I kind of put it together, a little bit of expansion next quarter and assuming we get into mid-year, is the assumption like every 25 is a couple of basis points, is that the right way to think of kind of the sensitivity?

Yeah. I think we've talked about it on prior calls, 25 basis point rate hike based on our modeling, we should benefit by about $2 million to $2.5 million annualized there, which would equate to that 2 to 3 basis point kind of range on margin.

That's assuming we don't see significant core deposit pricing pressure.

Right. Maybe last one Claude for you on the capital. Obviously, I think when you did the ATM, you said there wasn't necessarily an imminent use for it and obviously didn't draw on it in the quarter. Are you having more conversations with potential parties from an acquisition perspective, now that kind of valuations have I guess permanently reset a little bit higher?

Yeah. I wouldn't say more necessarily Chris, I’d say, we’re always open and interested in what are the growth opportunities. As we've said in past calls, we’re primarily still focused on organic growth. But as John and I pointed out, both of us in our scripts, we’re certainly open to other strategic growth opportunities and to your point, valuations are at a good place for that.

And is there a preference on size or market if you were to do a deal?

I wouldn't say preference. I think we’ve -- obviously the 8.5 billion, we have the 10 billion issue that still exists. And so we have to be mindful of that and strategically think about if we were to look at opportunities, what would make the most sense. So -- and we all know that going right to 10 doesn't -- isn't probably the best strategy. So we're very mindful of that in terms of what our strategy is around growth.

Thank you. And the next question comes from Nathan Race with Piper Jaffray.

Hey, guys. Good morning. A lot of my questions have been answered, but just one last one, the declining classified assets. Obviously, hit a new low this quarter of comps since the cycle. Any additional color in terms of the drivers, in terms of each segment that resulted in that decline or was it pretty broad based?

Yeah. I would say Nathan, it was pretty broad based. It's a mix of across loan types and asset classes and just various workout strategies that played out through the quarter.

And is it fair to kind of assume the reserve goes up from here assuming growth kind of picks up in terms of the guidance that’s been provided.

I would say, certainly loan growth would be a catalyst for additional provision expense there. It's tough to say provision expense is a product of the allowance model and there's always multiple contributing factors there. But I would say this quarter's decline in provision really was on balance driven by probably three things, the decline in classifieds, the migration to non-accrual of the two well secured credits that we previously discussed, both of which would have been in higher rate general reserve buckets previously. And then we also saw decline in the reserve on our covered and formally covered loans during the period. So I would say those were the three drivers here and we'll continue to see how it plays out, but to your point, loan growth would be a catalyst for additional provision.

Thank you. And the next question comes from Andy Stapp with Hilliard Lyons.

Good morning. What do you expect effective tax rate to be for the balance of the year, including the impact of the new stock-based accounting standard?

Sure, Andy. We updated our outlook, our full year effective tax rate outlook, I believe it’s on slide 11. For the full year, we dropped it down to 31.5% to 32.5%, down from 32% to 33% and the driver there was really the first quarter impact of the new accounting guidance.

Okay. And you had about $1 million in construction loans that went on non-accrual status during the quarter. Could you talk about that?

I don't have detail on that. John, do you. So, we’ll have to get back to you on that one, Andy.

Okay. And lastly could you talk about your exposure to retail.

The retail, commercial real estate.

Retail loans in general, either C&I or CRE?

Okay. So you're talking about worth more the commercial impact.

In terms of asset quality with the exposure that a lot of retail companies had to the Internet?

Sure. Our retail commercial real estate portfolio, which is the primary area where we would have any exposure to that sector, we don't do much on the C&I side there. I think between 300 million and 400 million, as we disclosed on our last investor presentation, as a 4Q, we've done a review of that portfolio in some depth. I can tell you that we don't have any significant exposure to any of the major retailers that have either gone into bankruptcy or have announced significant store closings. We certainly have some exposure in areas where they may be kind of nearby or tangential to that -- to one of those retailers, but they're typically with strong sponsors, lower loan to value, using good debt service coverages. So we feel -- we actually feel good about our retail portfolio.

Thank you. [Operator Instructions] And the next question comes from Daniel Cardenas with Raymond James.

Most of my questions have been asked, but just a couple of quick questions. Just given your comments about kind of slower growth in slow but steady economies, could you maybe talk a little bit about what you guys or how you guys interpret the risk tolerance in your major metropolitan markets right now and more specifically your risk tolerance in those markets?

Yeah. I think you have to break it by type, right. So talking about commercial real estate first, I would tell you I think in risk tolerance of the market or clients in our markets, I would say we’d be balanced from the standpoint that I don't think it’s overly aggressive nor overly conservative. Commercial real estate investors see opportunities and they're taking advantage of it. We're trying to be very careful and evaluate all the perceived hotspots as it relates to our risk tolerance. So we're doing detailed reviews of what I was just describing in the last question around whether that's retail commercial real estate. We've done a deep review of our multifamily exposure and those projects as well as the sponsors as well as we've done a deep review of any portfolio we have and like the senior credit area as well as just all commercial real estate relationships above 5 million, we've done a deep dive into those as well. So I would say, our risk tolerance is also moderate to balanced, but we're cautious in that we're really evaluating those portfolios and new client requests. We've mentioned in past calls that we've become, I would say, less aggressive on the construction side, as we want to see some of these asset classes in the new projects come online and see how they lease up. On the C&I side, I would say it's slightly different from a client or market perspective I think those clients in general are more between conservative and moderate in that they're more cautious about new investments and I think that's been the case really since the crisis. Our risk tolerance there is still probably more moderate in there for good clients and good underwriting than we're willing to take that risk. So I’d say it’s the balanced market in what we need to see happen is just some more activity, especially on the C&I side with both our clients as well as new opportunities.

Good. Thanks. And then just maybe if you could remind me in your net interest margin outlook, as you look through the remainder of ’17, how many more rate hikes do you guys have built into your model?

Dan, we don't project future rate hikes. There's just too much uncertainty around the pace or timing there. So we don't incorporate that into our budgeting or forecasting.

Thank you. And as there are no requests at the present time, this concludes the question-and-answer session. I’d now like to turn the call back over to Claude Davis for any closing remarks.

Great. Thanks, Keith and again thanks everyone for your interest in First Financial. Thank you.

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