Good morning and welcome to the SB Financial Fourth Quarter and Full Year 2019 Conference Call. All participants will be in listen-only mode. [Operator Instructions] After today's presentation, there will an opportunity to ask questions. [Operator Instructions] Please note, this event is being recorded. I would now like to turn the conference over to Carol Robbins. Please go ahead.

Good morning everyone. I would like to remind you that this conference call is being broadcast live over the Internet and will be archived and available on our website at www.yoursbfinancial.com, under Investor Relations. Joining me today are Mark Klein, Chairman, President and CEO; Tony Cosentino, Chief Financial Officer; and Jon Gathman, Senior Lending Officer. This call may contain forward-looking statements regarding SB Financial's performance, anticipated plans, operational results and objectives. Forward-looking statements are based on management's expectations and are subject to a number of risks and uncertainties that could cause actual results to differ materially from those expressed or implied on our call today. We have identified a number of different factors within the forward-looking statements at the end of our earnings release, which you are encouraged to review. SB Financial undertakes no obligation to update any forward-looking statements except as required by law after the date of this call. In addition to the financial results presented in accordance with GAAP, this call will also contain certain non-GAAP financial measures. I will now turn the call over to Mark Klein.

Thank you, Carol, and good morning everyone. Welcome to our fourth quarter 2019 conference call and webcast. Our comments today as with prior quarters are supplemented by our earnings release that we filed last evening. Highlights for the quarter include net income of 3.4 million of 400,000 or 13% increase over the prior year quarter. And for the full year, excluding our $1.1 million pretax OMSR impairments, the adjusted net income was 12.8 million, up 1.2 million or 10% over the prior year. Consider our results compared to the year ago quarter and year-over-year, we grew diluted earnings per share for the quarter from $0.37 to $0.42, representing a 14% improvement. And for the full year when adjusted for the servicing rights, earnings per share were $1.62, up $0.10, or 6.6% year-over-year. We expanded our assets to 1.04 billion, up 52 million, achieved a return on average assets of 128 basis points, up 9 basis points. Produce mortgage origination volume of 138 million for the quarter and set a new record of 445 million for the year. Increase loan balances year-over-year to 826 million, up 54 million, while increasing deposits to 840 million, up 38 million and as with prior quarters, maintained our strong asset quality metrics. Strategically, five key initiatives continue to consume our attention and drive our quest for high performance; and now in 2020 to elite status. Revenue diversity and growth is first, more scale with organic growth, more products and services for each of our clients, excellence and operation and greater intimacy on client communications. And lastly, continuing with our key loan quality portfolio and metrics. First, revenue diversity, net interest income of 8.6 million for the quarter provided 59% of our 14.6 million of total revenue. Our fee-based residential mortgage engine was again running at…

Thanks, Mark, and good morning everyone. As Mark mentioned, we had net income of $3.4 million or $0.42 per diluted earnings per share, and adjusted diluted earnings per share for the year were up to $1.62 compared to a $1.52 for the prior year or 6.6% increase. Operating revenue for the quarter was up 16% and from the prior year and up 0.9% from the linked-quarter. We had positive operating leverage for the quarter of 1.1 times as revenue rose 16% and expenses were higher by 15%. For the year, when we adjust for the impairment, operating leverage also came in at 1.1 times. Loan sales delivered gains of $3.3 million from mortgage, small business and agriculture. Mortgage banking revenue increased from the prior year despite significant refinance amortization. And lastly, we continue to hold our non-performing assets steady with the NPA ratio at quarter end of 42 basis points. As we breakdown further the fourth quarter income statement to begin with our margin, net interest income was flat from a prior year and down to the linked quarter. As our average loan yield for the quarter of 5.02%, increased by 1 basis point from the prior year, and overall earning asset yield was down 6 basis points in the prior year to 4.8%. Funding costs as we know continue to rise; although, we have reduced depository and borrowing rates in response to the recent fed rate reductions. The rates on interest bearing liabilities came in at 1.40% for the quarter, up 27 basis points from the prior year and up just 9 basis points for the linked quarter. Net interest margin in the quarter at 3.7% was down 25 basis points from the prior year. And for the full year, margin was 3.82, down 13 basis points for the…

Thank you, Tony. As Tony mentioned, we are proud of our recent five year journey to convert our preferred shareholders to common at year end. All total, these shareholders earned a five year return of 127% on their investment. In summary, as we look back on 2019, we are excited to recall the many significant accomplishments for our company, achieved the highest net income in 16 years or 12 million, cross the $1 billion mark for our bank, broke the $500 million mark and wealth assets under management, managed a $1.2 billion residential portfolio that included record volume this year of as I mentioned, 445 million and perhaps most people delivering our total shareholder market value that now exceeds 150 million. We made some great progress this past year in a number of areas albeit on the heels of an entire decade without a pullback or recession. As such, we believe we are well poised for even greater achievements in 2020 and beyond. And without, I'll turn it back to Carol for questions.

Thank you, Gary. We are now ready for our first question.

We will now begin the question-and-answer session. [Operator Instructions] Our first question is from Brian Martin with Janney Montgomery. Please go ahead.

Mark, if maybe you want to start, just maybe give a little bit of thought or Tony on just kind of the mortgage outlook, I mean, obviously a strong quarter here, a strong second half of the year just given the rate environment we’re in and just kind of your thoughts on production next year? And just how you thinking about that business as you go forward here? And I think you've mentioned that the indie indie market sounded like it's got some room for upside there, just kind of what -- if you could give update on kind of that market? And how, I mean, you're adding staff there just what would drive that growth there?

Sure. Thanks Brian. Again, nice to have you with us, I remain -- we remain very bullish on the business line as we disclose 445 million the best ever. We're looking at some opportunities to expand that business line albeit with a lift out or two to improve production on up to the 500 million and 600 million mark. So, we're excited about that. And Brian, we made a clear shift from the refinancing boom to the purchase money boom seamlessly and continued on the volume increasing trends that we've had in the past. We think the business line has a great inertia, as we continue to work really hard to develop single service households then to multiple service households. So going forward, we would expect to continue to drive that to a higher level albeit with the indie market that is not performing as we had hoped in 2019, but clearly with the addition of a couple lenders there and hopefully another one or two here shortly. We will get that thing back on track to do that 35 million or 50 million per year that we think we're capable of. And I would be disappointed, if we didn’t deliver that Brian in the 2020 year in indie and again similar levels of production that we have in mind across our entire footprint for 2020.

Okay, and the lift outs, Mark, would those be an existing market? Or would you look at entertaining going to new markets?

They would be generally -- the answer Brian would be, yes. There is an existing market and will take us to the fringes of some new markets, and we're extremely excited about that opportunity. We've begun to leverage our encompass platform that certainly is one of the best in the market and we know that mortgage originators and backroom alike like that platform. And we also have our Chief Technology Innovation Officer with us today Ernesto Gaytan, that's driving that platform and all those initiatives to make us more efficient in the backroom, so that we can use AI to drive that up to the 600 million and 700 million without adding more people.

Got you. Okay and just to be clear, Mark, just your thoughts on -- if you're not successful in adding staff or list out this year, can the production in mortgage be greater next year given the current infrastructure staff we have? Or is it more contingent on getting some more staff in there and you may possibly be doing some lift out?

Well, we pay well, so our front end mortgage origination platform certainly knows how the process works, and I know we're in the midst now of 3% on a 15-year, 3.625 on a 30-year. So, our pipeline has begun to fill and we remain bullish on our ability to not only take market share, but to also generate loan sale gains in that arena, and potentially course with lower rates comes more volume, which also brings on additional amortization and/or impairment. But Tony, I know, you have some thoughts. How's our pipeline running, right now?

Yes, I think Brian just to add on Mark's comments. You know, it was a strange your obviously in mortgage. In 2019, we did 68% to 70% of our volume in the back half of 2019. The front half of 2019 at basically $150 million was in our minds pretty dead market. I would say we're running between 30% to 35% higher for this first half of 2020 than we did in the first half of '19. I don't know that we will repeat the second half of 2019 in 2020. So, I think will be a little bit better to say 30% in the first half of '20 than we were in '19 and we will probably be a little less 10% to 15% less in the second half. I think we both would be disappointed if we didn't eclipse the $400 million mark in 2020.

The other wildcard, and good statement, Tony. The wildcard, Brian, is obviously the lift out and the generally eminent opportunities we have to take market share, because I think people that we talked with know that we know the business line and that we can do it right and where everybody can generally win versus the way many banks messed up that business line, which is they see what MLOs are making and they want to change all around. We think we have a model that works and we have individuals that want to stay on our bus, and we think we can drive down up in the $500 million and $600 million to $700 million.

Got you. Okay. Tony, the gain on sales, the kind of margin in the quarter and just how you are thinking about it for next year. Any real change in kind of that 225 to 220 range on gain on sale, is still a good level to think about?

Absolutely, I think, a couple of things, obviously, we had the residential loan sale of $11 million that we had been working on for some time and pricing kind of finally got in our favor in Q4. And so, I think that elevated, because we were about 2.4% in Q4. But as you and I've talked about that 225 range has been fairly consistent for us and I anticipate that continuing. We are continuing to look at pricing opportunities in the way we price, and I think, if we're able to achieve a couple of those in 2020, we are going to get a few more basis points. We are going to look at some servicing release type businesses that I think will expand our profitability on some of the products. But I think in terms of modeling, yes, that 225 range seems appropriate.

Okay. Perfect. I appreciate. And then maybe just a quick question on kind of the loan growth outlook for 2020. Just I know you mentioned in this quarter about the payoffs and obviously you have the mortgages sale which kind of I guess made look a little bit -- I guess less like there was growth in the quarter, but just your outlook for the pipeline and just your thoughts on payoffs? I mean, if you expect that trend to continue or is that may be dissipated a bit as you go into 2020?

Brian, just a couple of high level comments, Jon can certainly opine here. But clearly, the headwinds are on the marketplace, extremely low rates and many of those lower rates even the payoffs that we mentioned from the end of last year. You came on the heels of just our inability to want to match some of those rates. So, the competition is there and as we all know margins are going to be pressured, but we continue to find and we continue to drive our model with high level market executive. So I would expect and Jon can weigh in here. But based on our budget and based on where we think we can go, and our ability to bring our lower costs the core transactional deposits to keep margin somewhat steady, it's really going to be the focus. But I would be really disappointed, if we didn't keep on our, really our medium level pure growth numbers. But that's handing it off to Jon with that key commitment there i guess. So, John, how do you feel about that?

Well, no, I agree with Mark. I think two things affected us in the third and fourth quarter last year as we talked about. Our unwillingness to go out on the yield curve where there's no real incremental benefits taking rate duration, we've just decided to maintain our pricing discipline because we really think we can play that money elsewhere at higher yields or indoor without taking net longer reiteration. Secondly, as Tony alluded to in his prepared comments. We saw a number of clients with real estate prices where they are in cap rates where they are just take advantage of selling. It also creates some loan opportunities for us. As Mark said, I'm very optimistic, I feel very good about our pipeline entering 2020 here in January, and we have some great things on the horizon. And I agree with Mark, I think, I feel very confident about hitting our benchmarks here in 2020.

Maybe just jumping into the margin for a minute, it sounded as though, obviously, the slowdown in a pressure on the funding side, it was a positive and also sounded like the loan yields were, I guess, holding in there reasonably well. Just how are you guys thinking about the margin in 2020 kind of from a high level? Is there still some downward pressure is that kind of your expectations?

I think, Brian, we expect stabilization in 2020. I think we've felt most of the pain on the funding side. Having said that, I think the challenge to our bankers on the street is lower cost, treasury management. Funding is going to be critical to us. We've made some changes operationally that we think will be helpful to us. But if we're not able to achieve that then I think we're subject to the whims of the marketplace. And there's no question in almost all of our markets, rate competition is still fairly significant. I think we feel pretty good about a loan side. We've walked away from some deals that we didn't feel pricing was appropriate. And I think we're able to get what we need on the loan side, but I think funding like all community banks of our size is our biggest challenge.

So, our funding cost still going up next quarter, Tony, are they, I think as your expectation with rates where they are now, they're stable or they could actually go down a little bit?

I would suspect the interest expense costs will be stable to slightly down in the first quarter of 2020.

I think all in numbers right around 1, 1% on a marginal cost basis.

On the deposit side?

Deposit side. And so, marginal cost of funding, we know is higher than that. So, it's going to be pressured. There's no question about it particularly in light of what we're seeing on the competitive arena.

Yes. Okay. And Tony when you kind of -- in the context of being stabilization kind of on a year-over-year basis, are you talking kind of from the fourth quarter levels just so I understand the context of -- I think it was -- was the margin was about -- was it 3.67% or 3.68% in the fourth quarter and then it was maybe in the 3.80% range for the year?

Yes. So, deposit cost will be down in Q1 versus Q4. And -- but margin, if you look at on a year-over-year basis, I think we'll still trend down anywhere from that 8 basis points to 12 basis points. About mid-year, maybe by third quarter, I think we'll start to be in full stabilization on a year-over-year basis.

Got you. Okay. That's helpful. And how about just jumping to just capital management, just kind of the buyback kind of expectations about maybe completing that and then just maybe from an M&A perspective, how things are -- how conversations are going these days on that front?

Sure, I'll talk about the capital first. Obviously, the conversion was big, or in terms of getting that out of the way, I think that add some simplicity to our capital structure and allows, I think, the marketplace to understand our capital structure. In terms of the buyback, we bought back 285,000 shares or so in 2019 for about $4.9 million, of which we did $36,000 or so about $600,000 in the fourth quarter. I would say, we didn't do as much volume in the fourth quarter as we anticipated. It just didn't seem to be as much opportunities. We obviously have a current allocation of another 190,000 shares or so when we expect to begin that back up here in the mid-part of Q1, which we think is appropriate, still given where our pricing is and where our valuation is.

Brian, from the M&A perspective, as we've mentioned a couple of times, we continue to drive the opportunities for lift-outs of the general mortgage business line, which we're working on as we speak. And we're also closing in on, hopefully, an opportunity to make an announcement soon with regard to a potential acquisition we've been working on for some time. No guarantees yet, but we continue to work diligently on that opportunity. And we're not going backward on what we said before, we're still optimistic about that.

Okay, perfect. In the -- and maybe just a last two from me. Just, credit quality, it sounds very -- obviously, the numbers are very strong. Just -- is there anything out that is concerning or on the horizon that would lead to increased provisioning this year, given kind of where we are in the cycle or I guess, is credit just as good as it looks?

This is Jon. I think that's a fair assessment. I think, at this point, we're looking at our portfolio and it's strong as it's been as it is for a lot of banks at the moment. That said, we're trying to look around the corner as everybody is, trying to determine when the cycle is going to turn, whether that's in 2021 or 2022. And considering, strengthening, our provision and allowance as we head into those -- and as we head into that period as well with CECL coming. But at the moment, our credit quality, we haven't seen any deterioration, including delinquency, which obviously is a precursor. We feel very good about that here as we sit in 2021, mindful of an impending cycle change at some point in the future.

And just one comment Brian. One thing, we've talked about at length before is that we have multiple sets of eyes looking at credits. So, we don't hand out a lot of lending authority to our lenders. I mean, we'd like to think that multiple eyes is going to give us a better process and we'll certainly find out if that's true, if and when the credit cycle turns. But at this juncture, we're pretty positive about what we've done from a leverage and liquidity perspective of our clients.

Okay. That's helpful. And just maybe the last two for me was, the SBA, I think you talked about some of the volatility with rates in the challenges have presented in 2019, I guess, are -- do you think some of that's behind you, where maybe the -- that contribution will be a little bit greater this year based on kind of maybe the market conditions and where rates are?

Well, just a high-level comment, we -- of course, the antithesis of getting good rates would be high-risk clients. So, we want the best clients and the higher rates, and those don't typically go hand and glove. So, we've taken less yield in the spirit of identifying and booking great credits. That said, our SBA five years ago, when we developed that business line and produced $64 million in loans, that was our answer to incrementally taking more risk as a result of a pristine loan portfolio, all in the spirit of driving margins a little wider. But I know, Jon, you certainly have some perspective on the competitive nature of the landscape and generally all markets, not just some. I know they're all competitive, some maybe more than others.

No. And I think that your comment, yes, as rates move down generally, we see SBA volume increase. That said, the other headwind is with great asset quality, a lot of banks are doing what would have ordinarily been SBA credits conventionally. So that's probably the headwind we see here both in '19 and heading into '20. But we have some very good initiatives to continue to branch that out, both on a traditional client by client basis, but also with partnering with some other organizations and institutions to widen our net. So we feel good that we'll continue to build on our success in the past few years and '19 heading into '20.

Brian, one comment, one thing I think that we can all managerially here take comfort then is that, we've initiated probably what $70 million in swaps, Jon, maybe plus or minus. And of course, it takes one of the elements of risk off our clients with this interest rate risk, and hopefully builds an opportunity for eventually someday ever rates to increase which we would benefit on that, but our clients would enjoy the fixed rate world that we've enabled them to have as a result of our ability to launch that swap strategy. So, that's good for both sides, and I think that will be one of the issues that will emerge as the market potentially change.

Got you. Okay. That's helpful. And last one was just on expenses and kind of efficiency. As you guys think about 2020, maybe, Tony, just your high-level thoughts on kind of with the rate of expense growth and I guess the expectation that there is still some positive operating leverage in 2020. Is that you're -- kind of how you guys are targeting the year?

Yes. I'd say in expenses, obviously, the title agency not being there in the prior year, kind of a year-over-year comparison, you have a little bit of noise from that. I think, obviously, the significant level of mortgage volume, given how we price -- not price, but how we pay on commissions, we start to get people into higher tiers as volume goes up, I think we encountered some of that, which would be abnormal relative to a normal mortgage volume year. And I do think positive operating leverage is how we've designed our 2020 budget. Our expectation is we're going to grow revenue or hold down expenses, one of those two. I know Mark feels the same way. So I think that is a key component to our 2020 plan.

And Brian, full disclosure, Ernesto is in here, and -- our Chief Technology Innovation and Operations Officer. But clearly, we have identified some initiatives to capitalize on the disruptive innovation in the marketplace today. That's going to require us to make some expenditures in the technology platform. That's going to cost us some more money upfront in the spirit of making us more efficient one, two, three years from now. So, Ernesto, I know you're certainly bullish on the deployment of sales force and see no profitability platform.

Yes, I think there are certain key platforms that can help us to propel our growth in the future. And we'll continue to look closely to artificial intelligence and machine learning to make us more efficient as a company [Technical Difficulty]. So, in the spirit of constraints to drive top line revenue and again do more with less is really the spirit of 2020.

Got you. Okay. Perfect. I appreciate all the -- taking all the questions and the great insights. So, nice quarter and thanks for everything.

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

Once again, thanks for joining us. We look forward to speaking with you all again in April, when we will disclose and report on our first quarter 2020 results. Goodbye.

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