Southern Missouri Bancorp, Inc. (SMBC) Q3 2018 Earnings Report, Transcript and Summary

Good day, and welcome to the Southern Missouri Bancorp Quarterly Earnings Conference Call. All participants will be in listen-only mode. [Operator Instructions] Please note, this event is being recorded. I would now like to turn the conference over to Mr. Matt Funke, Chief Financial Officer. Please go ahead.

Thank you, Michelle. Good afternoon, everyone. This is Matt Funke, CFO with Southern Missouri Bancorp. The purpose of this call is to review the information and data presented in our quarterly earnings release, dated Monday, April 23, 2018, and to take your questions. We may make certain forward-looking statements during today's call, and we refer you to our cautionary statement regarding those forward-looking statements contained in the press release. So thank you, everyone, for joining us today. I'll begin by reviewing the preliminary results highlighted in the quarterly earnings release. The March quarter is the third quarter of our 2018 fiscal year. We earned $0.60 diluted in the March quarter. That's unchanged from the linked December quarter, and it's up $0.07 from the $0.53 diluted that we earned in the March quarter a year ago. This current quarter includes - basically, offsetting nonrecurring items and M&A expenses and gains on available-for-sale, AFS securities and fixed assets. The year-ago quarter and the linked quarter included relatively small amounts of M&A expense, while the linked quarter included a small AFS gain and the year ago period included a nonrecurring benefit from bank-owned life insurance. We noted in the earnings release that the amount of discount accretion recognized on acquired loan books was elevated because of the resolution of particular impaired loans from the Capaha acquisition, but we are actually down from the linked December quarter in terms of that discount accretion because impaired loan resolution from the Peoples acquisition had added quite a bit to net interest income in that quarter. We're up more than 300,000 from the year ago March quarter in discount accretion and down more than 300,000 from the linked December quarter. We generally expect that component of net interest income to decline sequentially, and while Capaha accretion is still new compared to the year ago period, we don't expect the Southern Missouri Bank of Marshfield acquisition to be material in this respect. The total between the Peoples and Capaha acquisitions accounted for an additional 542,000 in net interest income, which added about 13 basis points to our reported net interest margin. In the March quarter of the prior fiscal year, we reported 216,000 in discount accretion, contributing about 6 basis points to margin and in the linked December quarter, we were at 860,000 in discount accretion for a 21 basis point contribution to margin. So our total margin in the third quarter was [3.74] of which, again, 13 basis points was due to discount accretion. A year ago in March, our margin was [3.64] with 6 basis points from discount accretion. So on, what we would look at as a core basis then, margin was up about 3 basis points year-over-year. Our core asset yield was up 16 basis points, and our core cost of funds was up 15. Compared to the linked quarter, when our net interest margin was [3.87], and we had 21 basis points of benefit from discount accretion, this would tend to indicate that our core margin is down 5 basis points, but the 90 day quarter in March impacts this measurement fairly significantly, because we annualize that figure simply by multiplying the quarterly results by four. If we adjust for the 90 days in this quarter versus the 92 days in the December quarter, we'd actually have expected to see our margin improve by a few basis points on a core basis. At the same time, we do have almost 1/5th of our earning assets which accrue interest on a simple interest basis. For example, our 1-4 family residential loans that we hold in our portfolio, most of our investment portfolio. So that's not a perfect analysis of the margin either, but the number of days in the quarter is pretty significant as far as how we report that margin. So we did want to point that out. In non-interest income, outside of securities gains, we reported non-interest income as a percentage of average assets at 79 basis points. That's unchanged from the same quarter a year ago, when we had the larger BOLI gain of $302,000 as a non-recurring item, and we're up 8 basis points from the linked December quarter. Included in this quarter's results are 188,000 gain on fixed assets, which we noted in the earnings release. Additionally, we've had some prepayment penalties on loans, good performance relative to the year ago period on loan origination fees, bank card interchange income, loan servicing fees and deposit account service charges. In the March quarter a year ago, we had the $302,000 BOLI benefit that we mentioned, while in the December quarter - compared to the December quarter, we've seen a typical seasonal decline in deposit service charges, primarily NSF charges. Gains on secondary market, loan sales, residential loan sales were down compared to linked quarter, but were up compared to the same quarter a year ago. On the expense side, non-interest expense is up almost 25% compared to the March quarter a year ago and we're up almost 13% compared to the linked December quarter, as we saw an elevated amount of M&A expense in the current quarter. If you exclude that M&A expense, if you strip out intangible amortization, provision for off-balance sheet credit exposure, which - it swings from charges in some quarters to recoveries in others and that's what it did this quarter with a charge compared to a recovery in the December quarter. We were up 6.6% outside of those items compared to the December quarter. That's attributable mostly to annual compensation changes and benefit costs, as well as about half a quarter's worth of expenses on the Marshfield acquisition included in these results. As a percentage of average assets, non-interest expense in total increased by 24 basis points to 2.62%, but if you exclude the 443,000 in M&A expenses, intangibles, off-balance sheet credit provision, we calculate that our operating non-interest expense as a percent of average assets is up just 8 basis points from the linked December quarter and actually down 6 basis points from March - the March quarter a year ago. On this call three months ago, we spent a lot of time talking about the impact of corporate tax changes and provided an outlook for our effective tax rate to be between 24% and 26% for the remainder of this fiscal year before declining in fiscal 2019. We came in at 25.6% in the current quarter, with some non-deductible M&A charges pushing that towards the higher end of the range right now. On the balance sheet, we saw just a nominal loan growth exclusive of the Marshfield acquisition, and while the March quarter is usually a little bit slower for us, this quarter's loan growth is down compared to the [331] quarters over the last couple of years. The timing of our ag production loans can vary - at those draw can vary. And this year, we are lower in balances at 331 compared to December 31, while last year, we had seen some growth over that period. At the same time, we're seeing some payoff headwinds influencing these numbers, and Greg will comment on that in more detail in his prepared remarks. Total assets are up $73 million for the quarter, with the Marshfield acquisition accounting for all of that and we're up $142 million in the fiscal year-to-date. Compared to March 31, 2017, gross loans are up almost $300 million, and if you back out the $220 million we picked up from the Marshfield and Capaha acquisition, the remaining $80 million in loan growth would be at about a 6.5% annual rate. That's moved down from the 7.5% figure we would have shown at 12/31/17. However, we have had some pay downs within those acquired loan portfolios, which are holding that figure down somewhat. Deposits were up almost $61 million in the March quarter and almost $119 million in the fiscal year-to-date. Marshfield accounted for $68 million in the current quarter, so we were down exclusive of the acquisition, although reductions in wholesale funding account for that. Run-off of traditional brokered deposits has been continuing throughout the fiscal year. We're down almost $53 million, including both the time and non-maturity traditional brokered funding. Public unit deposits are up $73 million in the fiscal year-to-date, with several new relationships adding to that funding source, along with seasonality by those public units and the Marshfield acquisition. We generally expect to see seasonal outflows of public unit deposits in the June and September quarters, and FHLB advances were down $9 million in the March quarter, and they were up $7 million in the fiscal year-to-date. Non-performing loans were lower this quarter, but they remain higher than they were at the beginning of the fiscal year at $6.2 million at March 31. In percentage terms, that's 41 basis point on gross loans, down from $7.3 million or 50 basis points on gross loans at December 31, and as compared to $3.2 million or 26 basis points on gross loans at March 31 a year ago. Non-performing assets at the quarter end were $10.4 million, down about 700,000 from the linked quarter end and are 56 basis points on total assets. At March 31 a year ago, NPAs were $6.5 million or 44 basis points on total assets. We provided what update we could on the larger commercial relationship we had noted in the linked quarter December earnings release, noting that we have executed a short term renewal and continue to work to negotiate a longer term restructuring with that borrower. This is the relationship that includes a significant USDA guarantee. Two additional relationships moved to non-accrual status in the March quarter, one of which is a secured by multifamily property and one secured by commercial and agricultural property. Those total $2.7 million between the two relationships. Net charge-offs for the quarter were 4 basis points annualized, unchanged from the linked December quarter and down from 6 basis points annualized in the March quarter a year ago. Provision for loan losses was $550,000, up from $376,000 in the March quarter a year ago and down a bit from $642,000 in the linked December quarter. The provision represented a charge of 15 basis points annualized on average loans in the current quarter, up from 12 basis points in the March quarter a year ago and down from 18 basis points in the linked December quarter. The allowance as a percentage of our gross loans was down 3 basis points to 1.12% at March 31, 2018, compared to 115 basis points at December 31 as a result of the inclusion of the Marshfield loan portfolio at fair value, where we generally don't hold a loan loss allowance against those dollars. And it's down from 122 basis points at March 31, 2017, as that ratio would not have included the acquired Marshfield or Capaha Bank loan portfolios. That concludes my prepared remarks on the financial results, and I'll hand it over to Greg Steffens for his comments.

Thank you, Matt. Net loan growth for the March quarter totaled $1.2 million. This level of growth was slightly below our expectations due to a continuing trend of faster than expected prepayments. In spite of higher-than-anticipated loan production, as our loan production increased $35 million over the same period of the prior year and totaled $156 million this quarter. Higher than expected prepayments have been due to a variety of factors, which have included, increased interest rates, causing borrowers to seek more aggressively priced longer term fixed rates, customer selling assets before cap rates continue their rise to rise faster, and also due, in part, to us adopting recently more stringent underwriting standards, which has contributed to some of our payoffs of some of our acquired loan portfolios from Capaha and Marshfield. Payoffs from the Capaha and Marshfield acquisitions totaled $22 million for the last quarter, which did limit some of our loan growth. We are anticipating our rate of prepayments to slow. For the fiscal year, we have grown our loan balances $125 million, which includes the Marshfield acquisition. The mix in our portfolio has not changed significantly with the acquisition, but our relative level of CRE concentrations have declined and our multifamily portfolio has dropped fairly significantly, dropping $17 million over the last quarter, as this is one of the types of properties that are experiencing higher levels of prepayment. We believe that we will generate strong organic growth this quarter. But our overall level of growth rate will put us at the low end or somewhat below our consistent loan growth target of 8% to 10%. As we turn to our ag portfolio, we look at our ag real estate balances, which grew $14 million over the quarter, which did include $10 million from the Marshfield acquisition. Our ag operating lines also dropped $6 million over this quarter. The ag portfolio has been affected by pay downs from the Capaha acquisition, which have totaled approximately $12 million, as we have moved several relationships out of the bank as well as receiving normal anticipated reductions on several of the operating lines. In looking at the performance of our ag customers for the 2017 calendar year, we see that our ag portfolio performed better than what it had the prior two years, and we had very few farmers that were unable to meet their obligations, and their balance sheets did show marked improvement over the prior year. We have now renewed the majority of our legacy ag customers for the 2018 calendar year, but our ag customers have had a slower start to the planting season this year due to cooler than average temperatures and abundant rainfall. So again, ag draws have fallen below historical trends for the year-to-date. Overall, we continue to be pleased with our ag portfolio and continue to be happy with looking at additional ag relationships. When we look at our loan pipeline for loans to be funded in the next 90 days, they remain strong at $91 million as compared to $97 million at December 31 and $43 million from a year ago. The composition of the loan pipeline is diverse as well. Based on our pipeline, we should experience strong growth this quarter. However, we are becoming more concerned about longer term growth prospects based on what we're seeing in the marketplace. We are having significant amounts of loan inquiries, but we are missing out on many of these opportunities to more aggressive terms and pricing by those of our competitors. And these pricing and terms issues relate to several of our different market areas and not just one. We hope this trend is temporary, but we're worried about it not being that way. If this does not change, we are going to have to evaluate our longer term expectations for organic loan growth estimates, because we plan to maintain our pricing discipline. Deposit growth for the year totaled $119 million, which included the Marshfield acquisition. Exclusive of this, non-maturity deposits have grown $82 million or not quite 9% which has exceeded our expectations and our internal growth targets. This growth has allowed us to reduce our brokered CDs, which Matt indicated earlier, as those balances have dropped by $50 million and has resulted in a better funding base. Our non-maturity deposit growth has been comprised of $53 million in public unit funds and $29 million in retail funds. In addition, we have grown our retail CD base $21 million. Overall, we remain pleased with our deposit generation. Looking forward, however, deposit growth may be more challenging, as market competition has become more aggressive. Our east and west regions continue to lead our non-maturity deposit growth, but non-traditional competition has also really started to increase, which includes Internet banks, investment and brokerage firms, as we've seen some deposit outflows to each of these. We expect somewhat limited deposit growth this quarter. We are evaluating our longer term deposit growth projections, given how the competitive landscape has changed in the current rising rate and technologically expanding environment. Moving on to mergers and acquisitions. Our Capaha partnership has worked out very well, and we are pleased with its contributions to our results. We have achieved our anticipated cost savings and are especially happy with deposit growth from the Cape and Jackson markets. We look forward to additional contributions going forward, and this has been one of our better partnerships. Our Southern Missouri Bank of Marshfield acquisition, which was completed in February, was converted onto our systems in the middle of March. The conversion went well, and we believe we have been well received in the Marshfield community, as several weeks into the conversion, our non-maturity deposits have increased, and we've actually increased non-maturity deposit accounts. In addition, we are ahead of expectations on realized cost savings. Looking at the broader picture for future acquisitions, we continue to have numerous opportunities to review additional partnerships. We have passed on several opportunities for a variety of factors but continue to look at many deals. We have raised our preferred target size for a partnership to companies with more than $100 million in assets, as smaller partnerships such as the Marshfield acquisition take out up a similar amount of time as larger acquisitions and have a lower contribution to overall future earnings per share. We are planning to target fewer transactions with more substantial impact on our EPS. Since the last quarter, again, we have seen an increase in the number of opportunities and are hopeful that we will be successful soon. That concludes my remarks.

Thanks. Michelle, if you wouldn't mind, please remind folks how they can queue for questions, and we’ll take those when they are ready.

Okay. [Operator Instructions] The first question comes from Andrew Liesch with Sandler O'Neill.

Hey, guys.

Hello.

Could you just - how much was the provision for unfunded commitments this quarter?

Don't think I have it in front of me. It was probably north of 200,000 this quarter, and it was recovery, I think, less than 100,000 last quarter - the December quarter.

Got it. So if you back that out and back out the merger charges, maybe core operating expenses close to $11.25 million, is that a good run rate to build off of? Or there would be opportunities for some modest cost saves from the SMB deal going forward?

There're probably not real substantial cost saves there, and the current quarter would have only included half quarter's of the result anyway. We have some lending vacancies that we're working to sell as well. Those are generally little bit the higher salary, so we could see some build there. But when you strip some of those non-recurring items out of the fluctuating off balance sheet, we did feel better about where that number was.

Okay. Got you. And then, on the non-interest income side, backing out the fixed asset sale and securities gains, about 3 - a little under $3.5 million, is that a good level to build off? It's been running well below that in the prior quarters, so I was curious what may have driven this increase and if that's sustainable?

Those loan prepayment penalties, Greg was talking about some of the payouts we're experiencing, those are not something that we've always seen. So that's contributing to that a little bit. I'm at $3.4 million, I think, on that item with upside of the AFS gains and the fixed assets gains. So it - that's as high as we would probably expect it.

Okay. I think you guys have covered my questions in your prepared remarks. So I’ll step back. Thanks.

[Operator Instructions] This concludes our question-and-answer session. I will like to turn the conference back over to Matt Funke for any closing remarks.

Okay. Thank you, Michelle, and thank you, everyone, for your interest. We appreciate it, and we'll talk again in three months. Thank you.

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