Southern Missouri Bancorp, Inc. (SMBC) Q3 2020 Earnings Report, Transcript and Summary

Good afternoon and welcome to the Southern Missouri Bancorp, Inc.'s Quarterly Earnings Conference 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, that this event is being recorded.I would now like to turn the conference over to Matt Funke, Chief Financial Officer. Please go ahead.

Thank you, Kate, and good afternoon everyone. This is Matt Funke, CFO of Southern Missouri Bancorp. The purpose of this call is to review the information and data presented in our quarterly earnings release dated Wednesday, April 29, 2020 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 such forward-looking statements contained in the press release. I'm joined on the call today by Greg Steffens, our President and CEO.I want to thank you all for joining us. Given recent events related to the COVID-19 pandemic, we want to address some items in a different order than what we usually do on these calls.First, we want to just provide a short update on the bank's operations in this environment. For the last five weeks, our bank locations have operated with generally closed lobbies. We've been seeing customers by appointment only and with many loan closings even taking place in our parking lots. We're very proud of how our team members have stepped up to provide excellent customer service in this difficult time. While our number of retail transactions is down a bit, most of the transactions that would have normally taken place in our lobbies moved to our drive-throughs; to our interactive teller machines those are in effect video tellers; or to our mobile or online channels. Those who have been less busy with customer transactions have pitched in to take on some of the increase in phone calls, to make phone calls checking in with our depositors or to help our lenders responding to the extraordinary demand for payroll protection loans.We've not furloughed any team members and we don't anticipate doing so, but we have restricted some non-essential travel. We've had about 30% of our team working remotely at least some of the time to limit risk and better observe social distancing. Most of those team members are in our administrative functions. Greg?

Thank you Matt and good afternoon everyone. I want to provide an update on our lending activities under the SBA's Payroll Protection Program. Through last week at this time the bank had originated 937 loans totaling $109 million in the PPP loans. These are almost all generated on behalf of our existing customer base, though we did see some opportunities to serve borrowers whose banks weren't as ready to go immediately under the program. We have also been active in the second round of the PPP program as well.Meanwhile, following regulatory guidance, we are working with our borrowers affected by the pandemic to provide for modifications of loans that were otherwise current and performing, but anticipated difficulties in the coming months due to the pandemic response. We've processed deferrals and modifications totaling approximately $206 million to assess these borrowers. Almost all deferrals are for a three-month period, while our interest-only modifications have been primarily for six-month periods.About $22 million of the deferrals and modifications are in our single-family residential portfolio, $11 million is in multi-family, $53 million is in owner-occupied commercial real estate, $97 million is in our non-owner-occupied commercial real estate and then $11 million in our C&I loans.Within owner-occupied commercial real estate, 31% of deferrals and modifications by dollar volume are to restaurants, 27% to convenience stores, 9% are to manufacturers, and 9% are to retail. Within non-owner-occupied CRE, 34% of deferrals and modifications are to multi-tenant retail, 25% are to hotels, 15% are to restaurants, and 13% are to care facilities. Finally, within our commercial loans, 19% of deferrals and modifications are to transportation and warehousing, 18% are to administrative support or waste management, 15% are to health care or social assistance firms, and 13% are to accommodation or food services.Also, I wanted to touch at this time on credit quality. Our non-performing loans were up approximately $1 million or about three basis points over the quarter and we saw limited increases in significantly past due loans and classified loans. We did see more of an increase in our 30 to 89-day past due loans, but those were primarily due to renewals and other isolated situations and were not attributable to the pandemic.We have also provided a detailed breakdown of our loan portfolio on page 10 of our earnings release. Our analysis of our loan portfolio has determined our greatest area of potential exposure from our uncertain economic times and the impact of the pandemic are centered around our exposure to restaurants, hotels and multi-tenant retail. Each of these portfolios have performed well historically, but many loans in these segments have had modifications or deferrals due to the pandemic. We have closely reviewed these loans and factored our analysis of these loans into our additional loan loss provisions for the current quarter.We will be monitoring these loans closely to see how they are performing as the economy restarts again. We are comfortable with our initial loan underwriting on these loans and believe we generally have loan-to-value ratios in this portfolio that will weather the downturn reasonably well.Now I would like to provide an agricultural update. Agricultural real estate balances grew $5.3 million over the quarter and $4.2 million for the fiscal year, while agricultural production loan balances decreased $5.8 million for the quarter and $8.5 million for the fiscal year. Our agricultural customers 2020 crop year is off to a normal start and we have seen slightly over 30% of our overall crop planted with the majority of the 2020 corn crop planted and good progress made on early soybean planting with fewer acres planted in rice and cotton just awaiting warmer weather. Most of our crop loans from the prior year have been renewed, and nearly all of our agricultural customers paid out.We have seen some crop rotation into soybeans and rice from cotton and corn, as the economics for raising soybeans and rice are better based on the current cost of production. Based on current prices, most of our farmers will be at a breakeven at best on the crop year, but with anticipated new government payments on the way, most farmers should see an improvement in their incomes to help with loan repayment.Livestock producers should also see some help with lower prices as well with the anticipated new government payments that are on the way. These estimates are barring any unforeseen crop disasters that could affect the 2020 crop outcome. With the economy opening back up after the COVID-19 pandemic, we would anticipate some ramping up in production of goods that could push farm prices a little higher that could help our farmers market their crops aggressively during the peaks in pricing, during the crop production season. We anticipate stable agricultural balances this year when compared to our prior fiscal year.Matt would you go ahead and update us on our financial results?

Sure. Thanks Greg. In the March quarter, which is the third quarter of our fiscal year, we earned $0.55 diluted, that's down $0.29 from the linked December quarter and down $0.21 from the $0.76 diluted that we earned in the March 2019 quarter. Earnings were negatively impacted by larger-than-normal provisions for loan losses and off-balance sheet credit exposures, and by an impairment recognized on our mortgage servicing rights.As Greg noted, we saw the limited increase in our nonperforming loan balances this quarter up by just over $1 million to $11.4 million at March 31. NPLs represented 0.57% of total loans, that's up from 0.54% at the prior quarter end and down from 1.23% 12 months ago shortly after the Gideon acquisition.Non-performing assets at quarter end were also up a little less than $1 million and they stand at $14.9 million, which is 0.63% on total assets, a two basis point increase since December 31, and a decrease from 1.21% at March 31 a year ago. Net charge-offs were back a little lower in the March [Audio Gap] basis points, which is just a touch higher than where we were in March of last year.Due to the economic uncertainty surrounded -- surrounding the COVID-19 pandemic and the response to it, provision for loan losses were significantly higher as we set aside $2.9 million, increasing the allowance for loan losses by $2.7 million. That allowance as a percentage of our gross loans increased to 1.18% at March 31, up 11 basis points from December 31 and up 13 basis points from March a year ago. We do continue to work towards implementation of the new current expected credit loss accounting standard, which under FASB pronouncements will be effective for the company on July 1, 2020. The CARES Act provides that the company can elect an extension of time to adopt although not beyond calendar year-end. And while we're evaluating that option, we're continuing to work towards an option on July 1.Our net interest margin for the third quarter was 3.63%, which included about eight basis points of contribution from fair value discount accretion on acquired loan portfolios or about $410,000 in dollar terms. In the year ago period, our margin was 3.73% with 13 basis points of benefit from the fair value discount accretion $632,000 in dollar terms.So on what we see as a core basis then our margin was down by about five basis points comparing March 2020 to the March 2019 quarters. We see our core asset yield down 11 basis points over that time, while our core cost of deposits is unchanged and our total core cost of funds is down about four basis points.As compared to the linked December quarter, our net interest margin was 3.70% and we had 10 basis points of benefit from discount accretion plus another four basis points of benefit from interest recognized on a limited number of previously non-accrual loans. This would indicate that our core margin is down a little less than two basis points sequentially.We do have a negative impact compared to the linked quarter based on our day count in the quarter. And if we adjusted for that we would have possibly seen the core margin improving by a couple of basis points. That same-day count issue provides a year-over-year benefit though due to leap year and we'd probably be down closer to 9 basis points year-over-year if we had adjusted for that.Looking forward we've made some aggressive rate reductions on our deposit accounts. And while our variable rate loans are pricing down we think there may be some delay at this point in our fixed rate commercial borrower expectations or rate reductions as the increased economic uncertainty may delay some of the competitive pressures we would otherwise see. So we're cautiously optimistic about margin over the near-term.Non-interest income was down a bit compared to the year ago period with that year ago period including about $240,000 in available for sale securities gains. Exclusive of that item non-interest income would have been up 4.2% compared to the year ago period, but down 11% compared to the linked December quarter.As a percentage of average assets the current quarter was 66 basis points annualized, which is six basis points lower than the same quarter a year ago and 10 basis points lower as compared to the December quarter.In the current quarter we recognized a $395,000 impairment of our mortgage servicing assets. While in the year ago period in addition to the available for sale gain we also had about $215,000 in benefits that were identified as non-recurring items the largest part being a benefit recognized under an agreement to offer wealth management services through a broker-dealer.Additionally, compared to the year ago period, we saw increases in deposit service charges due mostly to NSF charges which were up on higher volumes and a fee increase. And we saw increases in bank card interchange income, which was up both on volume and due to an affiliation agreement with Mastercard.Compared to the linked December quarter, deposit service charges were lower, which is typical for the March quarter. We generally see declines in NSF charges midway through the March quarter and into the June quarter as consumers hold more cash following tax refund season.We expect that may be more pronounced this year with the economic impact payments under the CARES Act, reduced gas prices and reduced consumption. Additionally, we may see a negative impact on our interchange income with depositors utilizing their debit cards less frequently for a period of time.On the expense side, non-interest expense was up 7.6% compared to the same quarter a year ago and up 3.7% compared to the linked quarter. In the same quarter last year we had $243,000 in M&A expenses with only $76,000 by comparison in the current period and $25,000 in the linked December quarter.In the year ago period, we had another $185,000 in nonrecurring start-up expenses related to the offering of those wealth management services. And in the linked quarter, we recognized losses on disposition of fixed assets totaling $327,000 as we sold a few bank facilities we acquired in the Gideon acquisition.We also recorded a charge to provide for off-balance sheet credit exposure at $300,000 in the current quarter as compared to a much smaller charge in the same quarter a year ago at $9,000 though it is down as compared to a charge of $362,000 in the linked quarter. Provisioning for off-balance sheet credit exposure was higher than would have otherwise been the case in the current quarter due to those same factors we considered in our provisioning for loan losses.Turning to ongoing expense items compared to the year ago period, we see increases in compensation occupancy including data processing expenses and losses recognized on foreclosed properties and bank card expense offset by a decrease in deposit insurance assessments as we continue to realize benefits from the onetime credit. We expect to be back to normal deposit insurance expense levels for the June quarter.Compared to the linked December quarter, ongoing items saw a larger increase in compensation due to the new calendar year, annual compensation increases, payroll taxes and the number of payroll days in the quarter. Data processing expenses were up compared to the linked quarter as were expenses and losses recognized on foreclosed properties.As a percent of average assets, non-interest expense is up 2 basis points compared to the same quarter a year ago and up four basis points from the linked quarter at 2.44%. But if you exclude M&A and other non-recurring expenses, intangible amortization, provision for off-balance sheet credit exposure we calculate that our operating non-interest expense is up four basis points from the March quarter a year ago and up 10 basis points from the linked December quarter. We generally see an uptick in our core expense levels in the March quarter, due primarily to those compensation-related items.Our effective tax rate was lower at 18.1%, as a result of the larger impact from tax-advantaged investments on the lower level of pretax income. In March a year ago the rate was 19.6%. And in the linked December quarter it was 19.9%.Over to the balance sheet. We saw a consistent dollar amount of loan growth in the March quarter as compared to the linked December quarter with gross loans increasing $48 million. Typically, we've seen slower growth in the December and March quarters, but we're seeing less seasonal impact than normal in recent periods. At $125 million in growth for the first nine months of the fiscal year, we're up a bit from $117 million in the first nine months of last year outside of the Gideon acquisition.Deposits were up $57 million in the March quarter after increasing $42 million in the December quarter. We do typically see better performance for deposit growth in the December and March quarters due mostly to public units ag depositors and individuals and that's been the case this year. We're down a bit in brokered funding in the current quarter while public unit deposits were up. Since our September 30 low point for public units we're up $49 million this year. And last year over those same six months, we saw an increase of $45 million for public units. So it's a consistent trend in that group.FHLB advances were up a little less than $9 million in the March quarter and were up $85 million compared to the March quarter end last year. A year ago the March quarter represented the low point in FHLB borrowings for the year, but this year's strong loan growth in the December and March quarters has led to continued growth in borrowings this fiscal year. We did take about $22 million in term advances in the most recent quarter funding some of our investment activity, and so overnight borrowings were down at quarter end as compared to December 31. We do anticipate that in the coming quarter we'll utilize the Federal Reserve's Paycheck Protection Program liquidity facility.Greg back over to you.

Thanks Matt. I'd like to add a couple of more comments regarding loan growth. We remain pleased with our rate of growth for the third quarter, which is typically not that strong in quarter. Looking forward, we're not sure what to expect in terms of continued loan growth other than we would say that it will be at a slower pace outside of any impact in the June quarter from PPP loans.Our organic loan growth has been led as indicated in our press release and we have noted an increase in our CRE concentrations as it moved from 260% of regulatory capital at 3/31/19 to 255% at June 30, 2019 and is back up to 280% at March 31, 2020 as we've seen stronger growth in our multifamily and other non-owner-occupied CRE.Our organic loan growth at this point in the fiscal year has been concentrated in our South and West regions, as we've seen some slowing in the East region due to seasonal effects. For the year-to-date, loan originations totaled $539 million and are up $56 million from the same period of our prior year. Our loan pipeline for loans to fund in 90 days totaled $76 million at March 31 as compared to $83 million at June 30, 2019 and $77 million at March 31, 2019. The pipeline differs in nature and fairly similar to our existing portfolio mix. At this time, what will ultimately close and what may fall out with the change in economic conditions is unknown, but we would expect slower loan growth over the next several quarters.When we turn to M&A we look at several -- we've looked at several potential partners over the last quarter. But everyone we were talking with about their plans, they were all put on hold due to the COVID-19 pandemic outbreak. We did announce the acquisition of Central Federal Bancshares on January 17. This acquisition is expected to be closed in late May and we have received approval from our banking regulators. We don't expect to hear much in the way of any other M&A opportunities or to be pursuing any for the time being.We announced a stock repurchase plan for 450,000 shares in November of 2018. During the March quarter, we purchased 97,000 shares of our stock at an average price of $30.63 and we have 232 shares remaining under our authorization. We suspended activity under the repurchase program after the market close on March 26 in order to ensure that we preserve capital and liquidity to meet the credit needs of our customers in the midst of the pandemic.The company will evaluate whether it resumes activity under this repurchase plan, as the impact of the pandemic is more fully understood. We continued at our previous dividend level of $0.15 per share for the May quarterly dividend. And while that will remain a quarter-to-quarter evaluation our intention would be to continue to pay regular dividends so long as it is safe and sound to do so.

Thanks, Greg. At this time Kate, we'd like to answer any questions our participants may have. So if you remind them, how to queue for questions. We'll do that at this time.

Okay. We will begin the question-and-answer session. [Operator Instructions] Our first question comes from Kelly Motta of KBW. Please go ahead.

Hi. Hi, Greg and Matt. Thanks for the question. First off, I really liked all the disclosure you had about deferrals and everything. I was wondering kind of, as you work through the process, do you think you're at a place where deferrals have stabilized, or are you still working through that with your borrowers? And how should we be thinking about whether or not this is going to prevent them from potentially migrating to -- through to the risk categories?

We would anticipate that we would have some more deferrals or modifications that we process. We have processed the $206 million. We do have a few others that are in the pipeline that we're going through. We're not anticipating any significant change in risk classifications at this point in time.In our higher-risk portfolios, we are seeing many of them open up now with the economy, and we would anticipate a lot of our restaurants to be open starting Monday that we have financed. And most of our hotel properties have stayed open through this time period. So we would anticipate that to continue and we would gradually see occupancy levels improve.In regard to the retail space, we would anticipate that with the opening there will be more activity. And it's just unknown what some of the tenants will do at this point, but we're closely evaluating and monitoring what's going on there.

Thanks. And it seems you obviously took up your reserve quite a bit this quarter. Assuming the current pathway ahead with the outlook you kind of just laid out for us, would you expect to continue to build it next quarter? Obviously, CECL will provide an additional layer when you implement that, and interested to hear your thoughts on potentially deferring CECL given the changes.

On the deferral question, it looks like that's a tough election to make based on potentially if you do wind up adopting mid-fiscal year possible restatement of quarterly numbers. But we'll keep looking at it and see if maybe any provisions are made for companies with the odd fiscal years. It's almost as if it was written with calendar year folks in mind there. But then on the question as to potential further reserve build, it's just unknown. We'll have three more months to look at borrower performance what we're hearing on restaurant sales, hotel occupancy rates and that kind of thing.

Great. And then I just want to touch on capital. You mentioned you intend to continue to pay the regular dividend, but you continue to evaluate. Can you remind us any kind of target payout ratios and kind of guiding factors there, and also where your capital levels will shake out pro forma for the deal you have closed in May, and your comfort level there especially given the CRE concentration building?

As far as the acquisition, it's really going to be a minimal impact on capital. Their loan portfolio is going to be 2.5% of our total balance sheet so -- or maybe even a little less than that. So, it shouldn't be much of an impact on that, back to the other question. Targeted payout ratio we look at where we've been historically and we try to consider that when we're looking at year-to-year increases. But there's no hard and fast policy on that. Was there a third part?

Anticipated capital...

Yeah. Just comfort level with capital with the uncertainty, and kind of target capital, and how you feel about that.

Yeah. I don't have the exact number as far as the acquisition and what the impact is on the ratios, but they're pretty contained for that size of the balance sheet.

We've said that we targeted having tangible common equity of between 8% and 9% internally, and we anticipate that we will be in excess of that for the foreseeable future.

Great, thank you. I’ll step back now.

Thanks, Kelly.

[Operator Instructions] The next question comes from Andrew Liesch of Piper Sandler. Please go ahead.

Good afternoon, everyone. I got a couple of questions here just around the margin. You sound pretty confident that it will be -- that it will hold up okay. Can you remind us, what percentage of the loan portfolio is tied to fixed rates and of the variable rate book what's at floors?

Of the variable rate, how many have floors was that the last part?

What percentages are at floors currently?

At floors currently, I don't have that ready to brief you. The variable rates would be between the residential loans that are tied to treasuries and the commercial that are tied to prime, 30%, 35% would be just my best guess off the top of my head on that. And as far as floors I would expect, we've got quite a few that are at floors at this point with rates moving as low as they did.

Yeah. They wouldn't have been at floors necessarily in March. But they would be now.

Would be now, okay, yeah, and even thought something like over half the portfolio or maybe even close to two-thirds of it is fixed rate?

Yes. And most of our floor rates are -- range from 4% to 5%.

Okay. Very helpful and then, on quarterly expenses it sounds like there might have been some seasonal uptick in compensation here plus the provision for unfunded commitments. Where do you think this could shake out here this next quarter, if some of the seasonal costs go away? And the provision for unfunded commitments kind of goes back to a more normalized level?

Yeah. We do see faster growth usually in the March quarter. I don't have specific guidance on you for it. But our typical pattern is that it slows down in the June and September quarters. We will have a little bit of M&A costs. But it would be minimal.

Our off-balance sheet provisioning will be in all likelihood smaller in the next several quarters as well.

Okay. Thanks, great. Thank you for taking my questions. I will step back.

Thanks Andrew.

And we have a follow-up from Kelly Motta of KBW. Please go ahead.

Hi. I have just follow-up. I wanted to touch on loan growth. I think last quarter you had indicated you expected growth to slow after when it's been really strong. And it was again a really strong quarter. So I was wondering, kind of what changed what drove the growth and if there was any increase in line draws or anything like that and yeah.

We really had very -- we didn't see a lot of impact from draws on lines of credit. We did have several construction projects that we were anticipating to fund out in March, that were temporarily delayed. And we're anticipating some of those to payoff in the current quarter. So that was one of the bigger changes that we just had some timing differences on the payoff of some of our construction book.

Great, thank you. So potentially with the timing of those paying off, excluding PPP we could see some down loans this quarter?

We would -- I would not anticipate loans to fall down this quarter. I would anticipate the -- very modest loan growth during the current quarter.

And just to clarify...

Outside of the PPP loans.

…Outside of those, yeah, great.

There are no other questions at this time. This concludes our question-and-answer session. I would now like to turn the conference back over to Matt Funke for closing remarks.

Okay. Thank you Kate and thank you everyone for your interest. We appreciate your time. And we'll talk to you again in three months.

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