Good morning and welcome to the Financial Institutions, Inc., First Quarter 2018 Earnings 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 would now like to turn the call over to Shelly Doran, Director of Investor Relations. Please go ahead.

Good morning, and thank you for joining us for today's discussion. Providing prepared comments on the call will be President and Chief Executive Officer, Marty Birmingham; and Chief Financial Officer, Kevin Klotzbach. For the question-and-answer session, they will be joined by Chief Corporate Development Officer, Bill Kreienberg; and Chief Accounting Officer, Mike Grover. Today's prepared comments and Q&A will include forward-looking statements. Actual results may differ materially from forward-looking statements due to a variety of risks, uncertainties, and other factors. We refer you to yesterday's earnings release and our historical SEC filings, all available on our website, for our Safe Harbor description and a detailed discussion of the risk factors relating to forward-looking statements. We will also discuss certain non-GAAP financial measures intended to supplement, and not substitute for, comparable GAAP measures. Reconciliations of these non-GAAP financial measures to GAAP financial measures were provided in yesterday's earnings release, which was filed with the SEC yesterday as an exhibit to a Form 8-K and is available on our website. Please note that this call includes information that is accurate only as of today's date, April 27, 2018. I will now turn the call over to President and CEO, Marty Birmingham.

Thank you, Shelly, and once again good morning and welcome to Financial Institutions' first quarter earnings conference call. It was a good quarter for us, as we continue to make progress in our long-term strategic goals. We had good loan and deposit growth with low charge-offs and a decrease in non-performing assets. We were also pleased with the level of non-interest income during the period. And lastly we kicked off an exciting new branding campaign that is increasing awareness of our brand and linking our traffic community banking platform with our highly capable wealth management and insurance businesses. The campaign is designed to bring us new opportunities and ultimately incremental revenues. During the quarter we were pleased to share some of the benefits of tax reform with both employees and shareholders. As previously communicated our first action was a one-time award of $500 to our employees not covered by certain incentive programs. And second was an increase in the common stock dividend payable to our shareholders from $0.22 per share per quarter to $0.24. We continue to monitor the impact of the Tax Cuts and Jobs Act in our markets and are optimistic about the positive impact of tax reform. Low unemployment and high consumer confidence should bode well for commercial and residential loan growth. But we believe it will take time for the benefits to be fully realized. Our total loans at quarter end were up 2% over the previous quarter and up 16% as compared to the prior year. Total commercial industrial, commercial real estate and small business loans increased 2% from December 31, 2017 and 22% from March 31, 2017. The first quarter is often our lightest in terms of commercial lending activity and we were not surprised that portfolio growth was lower as compared to the…

Thank you, Marty. Good morning, everyone. I’ll start with a review of our financial results. Net income was $9.3 million in the first quarter, $1.3 million or 17% higher than the first quarter of 2017. Net income in the quarter was $1.8 million lower than the fourth quarter of 2017. You may recall that our fourth quarter results included $2.9 million reduction in income tax expense, primarily driven by a revaluation adjustment of the net deferred tax liability and impact from the Tax Cuts and Jobs Act. Net interest margin for the quarter was 3.19%, down 6 basis points from the fourth quarter of 2017. Our tax equivalent yield on investment securities decreased by 21 basis points, as compared to the last quarter, from 2.53% to 2.32%, because of the lower federal tax rate in 2018. Partially offsetting this was an increase in our average loan yield of 7 basis points, resulting in an average yield on interest earning assets of 3.80%, up 2 basis points from the fourth quarter. Our cost of funds was 61 basis points in the quarter, up 8 basis points from the fourth quarter of 2017. Savings in money market accounts were 2 basis points higher and time deposits were up 12 basis points. Our average short-term borrowing rate was 28 basis points higher this quarter. Also impacting comparability of net interest margin was our funding mix, average public deposit balances, which carry a relatively low cost of funding were lower in the first quarter and more expensive averaged short-term borrowings were $95 million higher in this quarter, as compared to the fourth quarter of 2017. One final item impacting net interest margin comparability between the fourth quarter of 2017 and the first quarter of 2018, was approximately $300,000 of yield maintenance fees relating to…

Thank you very much, Kevin. Before we do open the call for questions, I just have a few concluding comments. First I'd like to reiterate how pleased I am with our first quarter results, and importantly the efforts of all my associates within the Five Star family. We remained focused on strong execution of our plans that are designed to take advantage of significant opportunities across our operating footprint in support of our long-term strategic goals. And we remain and continue to be very excited about our company's prospects and look forward to the rest of 2018. Karl, this concludes our prepared remarks. And we are now ready to open the call for questions.

Thank you. We will now begin the question-and-answer session. [Operator Instructions] And the first question comes from Alex Twerdahl from Sandler O'Neill. Please go ahead.

Hi, good morning.

Good morning.

Good morning, Alex.

First off, I appreciate all the guidance that you just gave, Kevin, but just to clarify a couple of things. One, on the margins, can you just try to get us, if I sort of back out some of the moving parts this quarter the FTE adjustment, the yield maintenance fees, am I right in calculated the margin sequentially was more flat to up than actually comprising by 6 basis points?

That would be correct, Alex. It was more flat for a number of reasons. One is the tax equivalent adjustment, onetime adjustment that occurred with respect to the security investment portfolio, the municipal bond investment bank portfolio. And the second of course as you mentioned is the extraordinary amount of non-interest expenses, so, closer to flat than down adjustment.

Okay. And then as you kind of look out across rest of the year for the margin is the biggest wild card just deposit costs out there? And maybe you can share with us what you're factoring in, in terms of the rate outlook and deposit betas as it relates to that?

Yes, so we've talk about just for quite a while, we thought and it actually occurred, but the first 100 basis points rise by the said would be relatively free. Turned out that was about 2 basis points or a beta of about two. Going forward, historically on the way down we noted that the betas between rate decreases and our deposit costs were 25 to 33 basis points. So betas of 25 to 33. We're starting to see that type of correlation and we would expect it to continue.

Okay. And that's what’s factored into the margin outlook of 3.20% to 3.30% for the reminder of the year?

Yes.

Okay. And then you said a couple of times, you expect loan growth to really ramp up starting in the third quarter. So, as we kind of do the modeling, it's fair to assume that loan growth would be similar in the second quarter to what we saw in the first quarter, kind of like up 2%-ish or do you think it’s going to be more flat in the second quarter and then really see a nice acceleration until the end of the year?

So, at the end of the day, I think we Alex, come back to the mid to high single-digit loan growth on average for the year. And we do believe that it will start to accelerate in terms of -- from now until the end of the year with emphasis on the last six months.

Alex, you may recall that in the last earnings call we had, we did indicate December was a particularly high month for closings and we did put some pressure on our pipeline. So, we've seen restoration since that time and whether or not the restoration of evidence itself in the second quarter or later, but it is there.

Okay. And then just final question, as I missed what your outlook was for fee income for the remainder of the year if you can just repeat what that was?

Yes, so we’ve stayed flat on fee income for the year, which is a little bit -- needs a little further explanation in that. When we say flat, it's not really flat because last year we had the security gains and the contingent liability reversal. So, if you look at the true run rate for the year-over-year, it's up a little bit.

Okay. And that's inclusive of the investments in LTEs that are a little bit harder to project?

Yes, they are almost impossible to project. Remember last year we didn't get hardly any limited partnership income, we had a very nice quarter this quarter. I would not expect that to repeat it so very often, but it’s very hard number for us to predict.

Great, thanks for taking my questions.

Thank you, Alex.

And the next question comes from Damon DelMonte from KBW. Please go ahead.

Hey, good morning, guys. How it’s going today?

Great, how are you?

Great. Good, thank you. So just my first question is I just want to talk a little bit about credit, this is a good quarter for you guys net charge-offs were less than we’re looking for and kind of lower than our historical rate. Provision was also little bit more favorable than we’re looking for. How are you viewing the run rate for credit over the coming quarters for the rest of this year? Do you think that provision could track a sub $3 million per quarter level or do you expect it to kind of normalize and maybe require a little bit more provisioning?

So if you look at our press release and look at the last five quarters, we have had provision expenses anywhere from $2.9 million to $3.9 million and the difference quite frankly is a commercial credit of that. It’s historically since I’ve been CFO we’ve had one per year, last year we actually had two in two different quarters. So I think if you look at the provision at the core rate you’re probably looking at that $2.9 million number, but it would certainly be anticipated because we’ve had at least one of them every year I have been as CFO and that changes the dynamics. So we don’t give guidance on provision because it is such a high estimate or a highly volatile estimate to make, but I think if you look at the performance I think you can probably draw some kind of conclusion.

Got you, okay. That’s helpful. And I guess with respect to the outlook for loan growth, which appear to be very favorable any particular -- I know obviously Buffalo, Rochester are the main areas that you guys are focusing in, but anything outside of those two metro markets where you’re seeing good growth opportunities? Have you guys ventured further east a little bit in the state or maybe further south something like that?

So we basically are focused on our footprint and we do follow our customers where they may expand their businesses or have operations, but no generally speaking we are landing in our footprint, Damon.

Okay, great. And then, I guess lastly do you guys have an update on the disclosure in the 10-K on the CRA downgrade?

We do not. I think we were very thoughtful in terms of making sure that disclosure was appropriate and have nothing further to add.

Okay. And has there been any type of restrictions in a way that you’re operating or running the banking as a result of that?

None.

Okay, great. Okay that’s all that I had, all my other questions had been asked and answered. Thank you.

Thanks, Damon.

Thanks, Damon.

And the next question comes from Joe Fenech from Hovde Group. Please go ahead.

Morning, guys.

Good morning, Joe.

Just to clarify on whether you consider to be non-recurring cost Kevin if you were exclude I guess what you feel was truly non-recurring on the expense side it sounds like that impacted the bottom-line by about $0.03, $0.04 a share after tax is that how you’re thinking about it?

Yes.

Okay. And on the expense outlook you launched a new marketing campaign as you talked about in February can you give any specifics on what the full quarter impact to that looks like on the expense side? And then thinking about the run rate, sounds like you take out the non-recurring expense you talked about and then added maybe some added amount for the marketing I know you said it will be a bit seasonal, but $23.5 million or so it sounds like the right way to be thinking about this go forward expense run rate?

So we gave expense guidance between $23 million and $24 million per quarter. The first quarter was unusual for the items that we did incurred and there is -- I think those were unusual and I think we’re very comfortable with the $23 million to $24 million outlook for the next three quarters.

The increased marketing spend was included in the guidance last quarter and one that you just reaffirmed.

Absolutely, thank you Marty. I forgot the first half of the question. But certainly the marketing expenses that we saw in the first quarter will continue we’ve made a dedicated effort in our market space to make the market more aware of our company, and we did increase spending in the first quarter and that will continue throughout the year.

Okay. And then on capital guide just trying to get a sense for where that lower bound threshold is that you’re comfortable with on TCE are just over 7%. I know you just upped the dividends, so, it seems as though you’re comfortable operating here and I know in the past you’ve talked about lower risk balance sheet. Assuming you still feel that way and that’s the reason for being comfortable here, right around the 7% range on TCE?

That is where we are.

Okay. And then any update Marty, thoughts on M&A? Anything changed from your comments last quarter or prior to that?

No, there really hasn’t been any change in that outlook, and we’re focused as I suggested on driving the things that we can control, Joe, which is the array of organic opportunities right in front of us. We’re open to strategic opportunities, but right now, what’s in our control are the organic.

I know, it’s been said many times before, but we’ve less than 4% deposit market share in Buffalo, Rochester and that is a real opportunity that our company has, that not all companies to have and we’re really looking forward to taking advantage of that.

Okay, thank you guys.

Thank you, Joe.

[Operator Instructions] And the next question comes from Matthew Breese from Piper Jaffray. Please go ahead.

Good morning, everybody.

Good morning.

Just a couple of quick ones, most of them have been answered. I just wanted to get a sense of given the flatter yield curve, wanted to get a sense for your ability to defend and maintain net margin. So, my question is really, how much of the loan portfolio, either reprices immediately or within a short time frame of like 12-months?

The entire loan portfolio has variability at about the 15% to 20% level. And most of that repricing is fairly quickly meeting within a month or three months.

And the duration of the indirect portfolio is that two, two and half years?

It is 2.2, and that’s been transferred for quite a long period of time.

Okay. And how are yields holding up for auto loans?

Very nicely. We’re seeing opportunities in the marketplace to increase our rates, and we’ve done that.

And Kevin, as you and I’ve talked recently, the production that we’re putting on now is actually replacing run-off that it’s higher yielding?

Yes, so in this last quarter, what we have seen is that, as Marty mentioned, the new rates that we’re putting out is actually higher than the rate that was put on for the loans that are maturing. So, we think about our margin effect that we recognize that we came in at 3.19%, that was very close to our number, our guidance number 3.20% to 3.30% encompasses the full year. There are some positive factors going on within the portfolio. And one of those positive factors is that late in the first quarter, the new loan rate on indirect was actually higher than the run-off rate.

Does that hold true for the rest of the portfolio? And to what extend?

It would be dependent on the segment that and I’ve to get back to you on that, on a segment analysis.

Okay, no problem. My last question is really regarding the income from the investments in limited partnerships, just remind us of what those are? How many are involved in? And what are the drivers behind a weaker quarter of income versus this quarter, where we saw much stronger results?

So, Matt, this is Bill Kreienberg, we have an array of limited partnership investments, I don’t have the numbers in front of me, but it’s 8 to 10. They’re mostly SBICs [ph], the income that was driven in this quarter came primarily from some mature limited partnership investment that we’ve held for five to seven years. So, these funds typically at their outset, they’re going through a capital raise, they deploy the capital that they raised in the markets. And then as the investments mature, they distribute that to the limited partnership owners. So, these happen to be of our portfolio, we have four that we have recently deployed investments in, in the past two years, but these were more mature investments that this is just part of their lifecycle.

And do you expect -- I mean, we have the guidance, but we have seen a number of these kinds of funds start to return capital, do you expect more of that in 2018-2019?

It’s really hard to predict. What we do expect is this investment type has provided us, we have been in for a decade now. Over the time period, we receive a low double-digit return on the investments, and we expect that to continue, but the actual predicting of when the income shows up is totally out of our control, it really isn’t within the lifecycle of the underlying investments and those companies in those various SBICs and when they decide to do certain things that trigger events for their companies, like refinance the debt or sell and that’s just totally out of our control.

Okay, thank you very much, that’s all I had.

Thank you.

And the next question comes from Kevin Parks from Parks Capital. Please go ahead.

Hey, good morning.

Good morning, Kevin.

Good morning Kevin.

So just a question on the preferred, I understand it might be a delicate subject you have embedded some generally owned by the Humphrey family, but to what extent is refinancing are taking out the preferred a part of the conversation either at the Board level or just kind of from our management team?

Yes, so there is not condition upon which we can cause the preferred to be automatically redeemed. And there has been and could be discussions about potentially offering a price, but nothing has been decided.

Got it. And would you I guess hypothetically speaking in an instance in which you would tender forward or offer a premium forward. Would that kind of necessitate would be a refinancing or were take it out of cash on hand, equity raise. How do you guys think about that?

The way that I choose to think about it is if we are producing a 10% approximate return on equity to our common shareholder and we have preferred that we have no control over, that we pay a lower yield on that is to the financial advantage of the common holder. And so when you start talking about paying a premium, when that premium then causes you to have a negative outcome with respect to a preferred borrowing rate if you want to look at like that as I do, than that would not be attractive to me.

Got it, okay. That’s all I had, thank you.

Thank you, Kevin.

Thanks, Kevin.

Seeing that there are no further questions in the queue, this concludes our question-and-answer session. I would like to turn the call back to Martin Birmingham forany closing remarks.

Thank you, Karl. I want to thank everybody for their participation this morning, we’ll look forward to connecting after our second quarter earnings release. Thank you.

Thank you.

The conference is now concluded, thank you for attending today’s presentation. You may now disconnect.