Seacoast Banking Corporation of Florida (SBCF) Q4 2011 Earnings Report, Transcript and Summary

Welcome to the Seacoast Fourth Quarter and Year End Earnings Conference Call. My name is Sandra, and I'll be your operator for today's call. [Operator Instructions] Please note that this conference is being recorded. I will now turn the call over to Mr. Dennis S. Hudson. Mr. Hudson, you may begin.

Thank you very much, and welcome to our 2011 Year-End Conference Call. Before we begin, we direct your attention to our statement contained at the end of our press release regarding our forward statements. During our call, we may be discussing certain issues that constitute forward-looking statement within the meaning of the Securities and Exchange Act. And accordingly, our comments are intended to be covered within the meaning of Section 27A of this act. With me today is Jean Strickland, our President and Chief Operating Officer; Russ Holland, our Chief Lending Officer; Bill Hahl, our Chief Financial Officer; and David Houdeshell, our Chief Credit Officer. I want to open the call today with a few thoughts about the year we just completed and the year ahead. During the same call 1 year ago, I said that we would return to profitability in 2011 and that our success in reducing credit risk that year, 2010, was why we would return to profitability. I also said that we expected to see improvements in credit costs and improvements in credit quality throughout 2011. Well, our results in 2011 did return us to profitability. Our profits this quarter totaled $2.5 million and our profits for the year totaled $6.7 million. Our credit costs were dramatically lower throughout the year, which helped us improve our profitability, and our credit quality improved, with nonperforming loans declining by 58% over this time last year, ending the year at 2.36% of total loans. This places us among the better-performing profitable banks in the state of Florida from a credit-quality perspective. Now as pleased as I am with the turn we made in 2011, and it was a big turn, we have a lot of hard work ahead of us as we complete the job of restoring our operating metrics to the consistent and competitive results that we produced, for example, during the 10-year period leading up to the start of the Great Recession. The same intelligent, disciplined approach we used to aggressively bring down credit risk on our balance sheet in order to restore earnings is now supporting the execution of our growth plan. We believe our targeted plan to grow our valuable customer franchise is the very best way to build real value for shareholders from this point forward and into 2012 and beyond. In 2011, we demonstrated that our execution of that plan, our growth plan, was working. A record number of brand new core retail deposit households began banking with Seacoast last year. This propelled our growth to numbers that were higher than we experienced in the boom period prior to the credit crash. Noninterest checking balances grew 13% for the year. Interest-bearing NOW checking balances grew by 17% for the year, and saving deposits grew by 18% for the year. Overall core relationship funding grew by more than 15% during 2011. This, in turn, pushed up our noninterest income, our fee income to higher results. Total noninterest income was up 6.5% in the fourth quarter and was up 4.5% for the year. Our household growth also helped us maintain a healthy, stable net interest margin throughout the year. Loan growth, which emerged last quarter for the first time since the crisis, continued into the fourth quarter, and we expect these trends to build momentum into 2012, particularly if the local economy continues to show signs of improvement as it seems to be now. During 2010, we retooled and added to our residential mortgage lending team. We started this build-out in our coastal market and are now building out production teams in Orlando and Palm Beach. As a result, our volume and market share improved meaningfully through the end of 2011, and we have plans to build on them further in 2012. During this past year, we retooled and began to expand our business banking teams. Again, we started in our core coastal market, and are now adding our -- adding that to our teams in Orlando and Palm Beach. As a result, we are announcing improved growth in our commercial and business relationship households for the first time since the crisis. This is an area we intend to continue to ramp up in 2012 with additional resources. We are looking for new business banking team members, particularly in Orlando and Palm Beach. Our most important goal for 2012 is to accelerate the growth momentum we are now seeing for retail households and to achieve a significant improvement in business banking household growth. Taken together, achieving both of these revenue-producing growth objectives, together with continued reductions in credit costs and reduced problem loan credit expenses, provide us with the potential to make meaningful improvements in our bottom line results and our overhead ratio as 2012 unfolds. Why have I spent so much time this morning talking about our growth plans? Well, I think it's important to understand my comments in the right context, and that context is one of opportunity that I see. And the opportunity is one of where we are in the business cycle and what the credit crisis and this resulting deep recession has done to our industry. Our local economy in Florida seems to be healing; we're beginning to see those signs. The real estate market is becoming stronger, as pricing continues to firm and sales volumes continue to increase. Today, in Florida, the monthly cost to own a home has fallen to a level 20% to 25% below the cost to rent a home. And I believe this imbalance will grow greater before it starts to stabilize. Many seasonal businesses are now reporting improved trends. Unemployment remains high, but is starting to improve. And we have now been in this cycle long enough to fully reveal its real impact. I believe we are now entering a period in the cycle where we must achieve and must expect meaningful market share gains. But what about the banking industry? Well, we see no competition from community banks and we see no competition from the platform banks here in Florida. This crisis wiped out community banks in Florida in much the same way the recession in 1989 and '90 wiped out the thrift industry in Florida. Our competitors are now the megabanks, and there are a lot fewer of them to compete with today. And all of them are struggling with higher capital requirements and new restrictions in regulation that are requiring difficult choices to be confronted around business models that they have operated for decades. All of this impacts the customer, and a good number of our megabank competitors -- customers are now hated by large numbers of their customers. So these opportunities, signs of improvement in Florida are likely positioned along the business cycle. And importantly, a transformed competitive landscape is why we continue to transform Seacoast into a more effective, smart growth company. Customers and business owners today want to do business with people. People who care about and invest in the communities in which they live and work, people who connect and care about them and their businesses. We have intentionally refined our message and our value proposition to resonate with these forces. This year, 2012, we will complete the build-out of our 1.0 version of our retooled business model. And it's the model we think we can use to tackle the tremendous opportunities that I see coming in the state of Florida. Now I'm going to turn the call over to Bill for a few comments about the quarter, and then we'd be happy to open the call for a few questions. Bill?

Thanks, Denny, and good morning. I'll begin my comments today with a high-level review of the income statement. I'll also be referring to a few slides we have posted on our website for this call. Net income available to common shareholders for the quarter was $1,611,000, about the same as last quarter's profit, but up nicely from a year ago's loss of $11.1 million. The drivers to improved performance compared to last year were increased noninterest income, higher net interest income, lower noninterest expenses and lower credit costs in the form of the loan loss provision, as a result of lower nonperforming assets. Revenues excluding security gains grew 4.5% in the fourth quarter compared to last year's fourth quarter. Accruing loans totaled $1.179 billion, up $17 million from the sequential quarter and $18 million compared to last year. Top line loan growth continues to be impacted by resolution of nonperforming loans, so total loans at year end were unchanged compared to the third quarter at $1.2 billion. That said, we continue to make progress in improving loan production, as we drove growth in targeted commercial and consumer areas. And production totaled $360 million for the year, with $221 million retained in the loan portfolio. Loan growth this quarter, like last quarter, came from commercial production in our Orlando market in particular and continued strong residential lending in the coastal markets. Turning to Slides 7 and 8, and some deposit data that was in the earnings release for a discussion on deposits. Total deposits were up $82 million, or 5% from year-end 2010, at $1.719 billion. The favorable shift in the deposit mix toward lower cost accounts continued, most notably by DDA growth of $38 million or 13% year-over-year. Lower cost deposits, including NOW and regular savings, have increased $69 million and $31 million, respectively, over the last 12 months. This resulted in improved deposit mix, with the reductions of 27% of total deposits for time certificates compared to 33% last year. Relative to the third quarter of 2011, deposits were up $58 million, in part seasonally related with increases from savings in DDA balances of $80 million, offset by a decline of $22 million in time certificates. The growth in lower-cost and no-cost accounts throughout the year has enabled us to manage down our higher cost time deposits and helped protect the net interest margin. Slide 9 covers the net interest margin. On a sequential basis, net interest income increased a modest $106,000, and was up $653,000 over the prior year's fourth quarter. The improvements were due to lower NPL, an increased securities portfolio and modest loan growth I discussed earlier. The net interest margin after expanding last quarter to 3.44% stabilized at 3.42% this quarter as a result of seasonal increase in funding, which was invested at very narrow spread. Interest-earning asset yields have declined by 9 basis points linked quarter and was partially offset by a 10-basis-point contraction in interest-bearing liability costs. Our expectation for the margin is to remain fairly stable, as we continue to benefit from loan growth and lower NPAs with continued negative impacts from lower asset yields. Turning to Slide 10, and noninterest income excluding security gains increased $177,000 or 3.8% sequentially. While service charges on deposits and wealth management fees for trust and brokerage relationships were down slightly linked quarter, mortgage banking and refinance fees increased by $124,000 and $104,000, respectively, benefiting from seasonally higher transaction volumes. Relative to the prior year, excluding the gain on sale of our merchant services of $600,000 and the security gains, noninterest income was up $351,000 or 7.7%, with the most prominent increases in interchange income and mortgage banking fees. For the full year, excluding the gains on the sale of the merchant services and investment securities, noninterest income was up $811,000 or 4.6%, with service charges and other fees directly related to household growth totaling over $10 million and up 10.8% year-over-year. Now let's turn to Slide 6 for a review of expenses. Expenses were down $7.8 million in the fourth quarter compared to last year as a result of much lower OREO losses and expenses related to their disposal. Other declines compared to a year-ago quarter included FDIC assessments and legal and professional fees as a result of much reduced nonperforming assets. Salaries and wages were up in the quarter compared to the fourth quarter 2010 as a result of severance payment and additional commercial relationship managers hired in Central Florida market, which has resulted in improved loan growth and helped stable the net interest margin this year. We expect a few additional commercial relationship managers for Palm Beach market that will further help with loan growth in 2012. Removing the unusual expenses in the quarters that are compared on Slide 7 indicates core operating expenses are being well managed, but remain elevated as a result of the current negative economic environment but are beginning to trend lower. Now switching gears to our credit trends, where the story's a good one again this quarter. Net charge-offs totaled $3.3 million, up slightly from the third quarter but down $35.9 million compared to last year. NPLs were down again, declining by $4.1 million from the third quarter and down by $39.8 million over the last 12 months. NPLs have declined for 9 straight quarters. As a result of the improved credit metrics, the provision for loan losses declined to $2 million for the year or $29 million lower than 2010. As credit costs continue to trend down and the continued reduction in our risk profile over the last 12 months, the allowance for loan losses declined to $25.6 million or 2.12% of loans. However, the coverage ratio for NPLs increased from 55% last year to 90% at the end of this year. We are pleased with the efforts of our Special Asset Group over the past 2 years and the direction in which they have taken all of our credit metrics. I'll continue my comments by focusing on capital on Slide 4. Capital ratios at year-end remained well above regulatory minimum. There was a small quarterly decline in the tangible common equity ratio as a result of our payment of our deferred TARP dividend and seasonal balance sheet growth. Tangible common equity ratio on a pro forma basis, including the recapture of the $45 million deferred tax asset valuation allowance, would be 7.8%. So the takeaways from my comments this morning are that number one, our annual earnings are much improved from last year and we had real tangible revenue growth; two, credit metrics continue to trend lower; three, the margin remained stable with accruing loan growth and further deposit mix improvement; four, noninterest income improved versus last year, in part due to our continued new household and business account growth; and finally, noninterest expenses have declined as cyclically sensitive expenses are trending lower, and we've managed all other expenses tightly. With that, I'll turn the call back over to Denny.

Thank you, Bill. We appreciate that update. And at this point, we are happy to open the call to some questions.

[Operator Instructions] The first question is from Bill Young from MacQuarie.

If you look at charge-offs, it ticked up a little bit over the quarter, so could you just talk if that's maybe some year-end cleanup or what you're seeing there?

No, I don't think there's any story behind that. I think we just see some volatility from time to time, primarily coming out of the residential home mortgage portfolio.

Okay. And also, this is your third quarter of reported profitability here. So are you getting a better sense in terms of timing of when you might see kind of a recapture of the DTA, or any color there would help.

Yes, and the answer is no. We're not really seeing much increased visibility. We have a significant amount of negative evidence to overcome. And that negative evidence, of course, are the losses we sustained prior to returning to profitability. And we continue to work each quarter on creating a case for the objective positive evidence we need to overcome that hurdle. And I think we've said in the past that, that's looking like it would begin to become more meaningful later this year. And probably be something we hit hard late this year. But we can't, frankly, give much visibility that is certain at this point on that. But we'll continue to keep everybody informed about our outlook in our field there. Again, it's just a function of bagging sufficient earnings to begin to build the case for the objective evidence needed to overcome the stronger negative evidence that we've come through with those losses. But I will tell you that there is no doubt in my mind that we will recover our deferred tax asset at some point in the future. And we hope it'll be sooner rather than later, but we can't assure you that.

Sure. Can you remind us what the balance is of the net DTA right now?

$45 million.

The next question is from Chris Marinac from Big Partners.

Denny, can you talk a little bit about kind of loan pricing and competitively what you're seeing and are you rejecting potential loan deals more often just because of someone else's insanity out in the marketplace?

Well, I don't know that we see abject insanity in the marketplace but we do see a competitive environment. And of course, the segments of the -- that we're focusing on are sought-after segments, segments less impacted by the recession. So it is a challenge. Russ, do you have any additional color?

In the loan segment, we're going after relationships, customer relationships. But the pricing really is in context of the other business that's coming in with the relationship to deposits the other opportunity. So we price on a risk-adjusted model based on relationships. So we've been able to use that and be competitive in the market. It is competitive, no question about it, particularly with segments that we're going after. But we've able to bring the customers on with reasonable pricing that we find attractive and we really are delivering the service that the other banks, particularly the large banks, are not able to provide.

We tell our officers that if you are getting mired down in a pricing discussion, walk away and find somebody else who's looking for the relationship. Because that pricing discussion is going to be a continuous battle over the life of that customer, and the life of that customer is likely not to be as deep as we'd like it. So that's our approach, we'll walk.

And leave the door open.

Right. And it's interesting, we've had some business come back when they had a hard time getting actual performance against that pricing.

That holds true in all segments, all of our lending segments, particularly in the residential, that holds true too. They come back on the service more often than not.

Right. So we like our results. I mean, in the area that we stood up first a couple of years ago, which was residential lending, we've proven we're growing our market share dramatically in that segment compared with 5 years ago. And we're very pleased with that, and we'd like to replicate that in the business segment. And we continue to get steady but tepid growth in the consumer nonresidential parts of the portfolio.

And Denny, while I have you, what is your outlook for the fiduciary side of the house on trust income and trust assets, et cetera?

Well, we think it's an area that we will continue to focus resources on. As we go forward, I think there is a massive change occurring in the large banks and the megabanks continuing to impact service levels on the wealth segment. And we have focused our attention, we have limited resources and we've had to be very careful with our expense structure as we have transformed the company over to more of a growth mode. And so we focused and prioritized our redeployment of our expense structure in areas that are going to yield us the best returns quickly. And the things we've been talking about this morning are the things that we think are appropriate for us to focus on. As we look a little deeper down the road, we have some definitive thoughts on how we're going to grow that business. And that'll be a -- something that we'll see continue to modestly grow we think in 2012, and perhaps accelerate beyond that.

Yes, we had some, just to add a little more color, we have some specific focus this year just to start the momentum there because we think it's a huge opportunity for us, with our focus on the business segment, a part of our onboarding and the cross-sell that we intend to try to execute on around onboarding relationships.

Around wealth.

Yes, wealth is a specific focus of that.

The next question is from Dave Bishop from Stifel, Nicolaus.

In terms of the equity impact, did you have the dollar amount in terms of the final payment in terms of the deferred TARP true up what the dollar impact was in terms of equity catch-up?

The catch-up was, let's see, I guess it was over a year. It was $5 million on the...

Yes, it was -- the payment...

$5 million, $6 million.

Altogether, it was over $6 million.

Right.

Over $6 million.

$6.5 million, $6.7 million, something like that.

Okay. And then, I apologize if you addressed just this in the preamble, I hopped on late. What do you see in terms of local housing prices related to maybe final sale versus listing prices there? Are things holding firm around the asking price, listing price or are sellers still having to give a little bit or is it actually getting a little bit more competitive in terms of buying?

That's hard to answer in terms of your question on listing price. But generally speaking, the realtors that I speak with are seeing a firming in pricing in the majority of the market. We saw some pricing pressure, I would say, in the second half of the year, on some of the larger properties that are kind of late to the party. But the properties are moving. Our OREO, David, we're moving in generally 90 days, right?

Yes, residential.

Right. Our residential properties. So I mean, you price it right, and it moves and we're not discounting beyond that price that we're looking for. So we're seeing the market. Frankly, when I look at it, in my opinion based on my years of experience, I would say that the market today is, from a volume and velocity standpoint, something I might even characterize as somewhat strong. It's not very pleasant if you're a seller and you own the house for more than the last 1.5 years, 2 years. You don't like the pricing you're getting, but if you want to liquidate, you can get it done, you can get the deal done. We're hearing more -- I would say generally in speaking with realtors, we're hearing more competition for deals, having a hard time in getting realtors to be involved in short sales because they're just getting better volume on the straight sales. The percentage of sellers that are distressed institutions has come down in the last year. Having said that, it's still a fragile market. We still have the overhang of foreclosures; they're beginning to come back into the market, but they're not coming in at a pace that is eye-popping.

The next question is from Matt Olney from Stephens.

Good to see the credit improvement continue in the fourth quarter. Denny, what are your thoughts on the loan-loss provision and the reserve ratio in 2012?

Well, we haven't said too much about that, but I guess the only thing I would say is that we are continuing to project improvement in credit metrics throughout 2012. And that we're seeing a lot of the internal work we do press us in that direction, and that would likely see that allowance number not grow overall and we may see it begin to release a little bit as we go through time. Having said that, the wildcard here is what kind of loan growth we're going to produce in 2012. And we're projecting to extend the trends we've seen recently and begin to see them accelerate, particularly as we get deeper into 2012, and that's going to offset some of the otherwise release that we'd have there. Any comments from anybody? Yes, okay.

Okay. And then going back to that potential recapture of that DTA. Bill, you may have mentioned this in your prepared remarks, but if this were to be recognized, what kind of impact would we see on that tangible book value and TCE ratio?

I think it's about $0.50 on the book value and the ratio is 2%, solid 2% increase.

Okay. And then my last question, regarding the margin outlook...

That's about 200-basis-point improvement in the tangible common equity ratio.

Sure, okay. I was going to ask about the margin outlook, Bill. You -- it sounds like it's kind of an assumption for a flattish margin going forward. What's the assumption there as far as the excess liquidity? Can it move down from current levels or is that kind of the -- going to maintain around 4Q for a while?

Yes, the excess liquidity, as you know, is kind of seasonal for us and kind of hits very hard at the end of the year. So there's probably a good $50 million, $60 million of seasonal liquidity that'll go back out after the first or second quarter -- or during the first and second quarter. So I don't think -- we don't have any plans to deploy much of that additional liquidity. And we'll just see how it -- we've been doing very well on deposit growth and talked about the mix and time deposits declining. So that's our preference right now to help the margin, is the more that we can shift from the higher-cost CDs to lower-cost accounts, that does help the margin.

The growth work we're doing to grow the customer base is how we intend to offset the challenging rate environment that we're in today. And we think that challenge, in terms of rate environment, continues to be a challenge. With the announcements earlier this week, it's pretty clear that'll continue to be a challenge over the balance of the next year plus. So it's really important for us to achieve our growth objective because that helps preserve that margin and revenue source, so that's what we're focused on. And it builds long-term value for shareholders because as this rate environment begins to shift back to a longer-term, more traditional steepness at some point, that has tremendous impact on the potential for margin growth. So it's probably the most careful thing we're talking about now in looking forward over the next year is what is our response to this rate environment going forward. So -- and we've made a decision not to increase in any meaningful way the risk levels in the balance sheet to deal with that.

[Operator Instructions] The next question is from Mac Hodgson from SunTrust Robinson.

This is Michael Young in for Mac Hodgson. I just have a quick question to see if I could get some more granularity on your inflows and outflows in the criticized and classified loan categories?

I guess we're going to -- we will have that in the Q but I don't know whether we've got that put together yet.

No, it'll be in the Q, but it'll be a continuation of what we've seen recently in those trends. And we're seeing more -- generally more upgrades than downgrades. We're seeing the classified numbers continue to come down. I think in the third quarter, our classified number was 53%, 54%, something like that. And it'll be under 50%...

Tier 1 capital plus the allowance. As a ratio of Tier 1 capital.

Right. So we expect those numbers to continue to come down. Just in terms of looking out over next year, we're not going to see big lumpy moves down as we did the last 2 years, because our liquidation plan now with the remaining classified assets is a fairly traditional approach that is going to yield us much better returns than doing it more quickly. And so, we're going through traditional foreclosure and workout strategies and that sort of thing with existing classified loans, so that continues. The quality of the classifieds that are left, in our view, is generally at a much higher level than it was a year ago. And that's a function of the mix inside that classified. We're seeing, if anything, more frequently improvements in metrics that we measure to determine the loan grade, may still be a classified credit but we've seen improvement in the last 12 months. So that's why I'm somewhat confident that we'll just see continued meaningful improvement as the next year unfolds.

Okay. And then my last question is regarding the economic outlook. You've mentioned it was improving in your footprint. Do you feel like South Florida is improving more rapidly than, say, Central or Northern Florida?

Generally, yes. Central Florida, the Orlando market I think is keeping pace with what's going on in South Florida. But in the Central Florida region, in some of the rural communities in the center part of the state, that would not be Orlando and Metro Orlando area, are actually seeing kind of late to the party. I mean, we're seeing further deterioration there and some of our exposures in those markets are challenging, but they're not very large and they're not making any meaningful impact on us just because of where our exposures are. But the coastal areas in South Florida and the Metro Orlando market are definitely outpacing, in terms of improvement, what we see in the north part of the state. And in other parts, I think, of the country. I think we were very early in this thing and we think we'll probably come out of it. In south of us here, we're seeing the whole condo situation, we have no exposure to that really anymore, but we're really seeing multifamily land beginning to move up in price in South Florida. Those are things that were sort of unheard of, obviously, 18 months or 24 months ago. So think definite signs of improvement.

[Operator Instructions] The next question is from Jefferson Harralson from KBW.

I hope you haven't addressed this, but I was just thinking about TARP and the plan to pay it and maybe talk about the level of holding company cash and how you expect that to grow and then eventually repay.

Well, when you look at the folks who have been able to repay out of cash, out of current earnings, our metrics, we think, get up there in a reasonable period of time. And a key component to that is the deferred tax asset coming back on the balance sheet. When we get our earnings up where they deserve to be, or closer to where they deserve to be and we restore that deferred tax asset, we think we have at some point meaningful dividend capacity that'll help us do that. And we have talked in the past that, that is our goal and that is our plan, and we have a very definitive thoughtful plan on how that happens. And it's somewhat speculative at this point, because we need to get a little further down the road in our improved performance. But I think as we approach the end of this year, we'll probably have more to say in a more definitive way in terms of what that exact plan looks like. And you've seen recently some folks that experienced stress returning to earnings and having -- recapturing deferred tax assets and beginning to pay back portions of their TARP. And we think we'll be in that -- we want to be in that club beginning a little later down the road.

All right. And just a follow-up there, so how much cash is the holding company currently in of -- how should I think about the dividending of it? Is it 50% of what you make each year? Is dividend up or is it, you think it could be more than that?

That's getting too far into the weeds, and we're just not that far along where we could make any meaningful statement around exactly how that's going to work. It depends on what our capital levels are, what the risk levels are into '13, what our earnings prospect looks like. All of that has to be taken into consideration. And we do not think -- I do not think it will be necessary for us to enter into any other capital transactions to achieve that repayment. We think today, it is an important component of our capital structure. It is very inexpensive compared with the current alternatives that we would have to pursue to repay TARP today. And so, from a shareholder standpoint, we think it's important to leave that in the capital structure. And it's appropriate to do so because the condition and the performance of the company is still not at a point that I would say we're satisfied. So we got a lot of work to do over the next 12-plus months to get that performance where it deserves -- closer to where it deserves to be, and then we start talking about how that's going to happen.

[Operator Instructions] At this time, there are no further questions.

Okay. Well, thank you all very much for attending today. We look forward to talking with you in April as we post our first quarter results.

Thank you, ladies and gentlemen. This concludes today's conference. Thank you for participating. You may now disconnect.