Valley National Bancorp (VLY) Q1 2014 Earnings Report, Transcript and Summary

Ladies and gentlemen, thank you for standing by and welcome to the Valley National Bancorp First Quarter 2014 Earnings Conference Call. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session and instructions will be given at that time. [Operator Instructions]. As a reminder, this conference is being recorded. I would now like to turn the conference over to Dianne Grenz. Please go ahead.

Thank you, Sandy. Good morning. Welcome to Valley’s first quarter 2014 earnings conference call. If you have not read the earnings release we issued early this morning, you may access it along with the financial tables and schedules for the first quarter from our website at valleynationalbank.com. Comments made during this call may contain forward-looking statements relating to Valley National Bancorp and the banking industry. Valley encourages participants to refer to our SEC filings including those found on Form 8-K, 10-K and 10-Q for complete discussion of forward-looking statements. And now, I’d like to turn the call over to Valley’s Chairman, President and CEO, Gerald Lipkin.

Thank you, Dianne. Good morning and welcome to our first quarter earnings conference call. For the quarter, Valley generated net income of $33.8 million, the equivalent of $0.17 per diluted common share. The quarter included a few infrequent items related to income tax and non-interest expense, both of which Alan will provide additional color in his prepared remarks. Total non-coverage loan growth of approximately 5% annualized was the highlight for the quarter, as strong origination volumes in consumer and commercial real-estate lending, offset by the continued slow down residential mortgage activity as reported across most of the industry this quarter. During the quarter, we originated over $600 million of new loans, approximately 30% consumer and 70% commercial. Commercial lending originations of nearly $450 million for the quarter compares favorably versus the $360 million realized in the same period one year ago. The increase in activity was predominantly in commercial real-estate, although C&I volume continues to grow and we anticipate increased activity as the year progresses. Commercial real-estate activity within Valley’s footprint continues largely via a byproduct of refinance activity although the conditions have begun to throw off some of our larger commercial developers. The improving economic conditions, coupled with the low interest rate environment had begun to foster a renewed sense of optimism. We are beginning to witness an increase in activity across Valley’s entire geographic footprint. However, New York and Long Island markets continue to account for a disproportionate percentage of our activity. Nevertheless, our commercial pipeline remains strong and we anticipate continued growth based on current projections. Competition within the New York metropolitan marketplace continues to remain fierce as large money centers institutions renew their focus on middle market customers, traditional savings and loans look to reinvent themselves, and local community banks attempt to redeploy excess capital. As a result, pricing and in some instances credit terms, present a formidable challenge. At Valley, as opposed to relaxing on credit conditions, for the most part, we have elected to increase our sales efforts by refocusing great staff and expanding our commercial lending personnel. While we remain steadfast in upholding our credit quality, we continue to be very competitive when it comes to pricing and as we introduce aggressively priced lending products, that provide an opportunity for our borrowers to capitalize on the current interest rate environment while not creating a around the bank should interest rates increases. Of the current quarter originations, we anticipate over 50% to re-price on the next 36 months. Managing the bank’s current and future interest rate risk profile is paramount and actively managed by both on the asset and liability side of the balance sheet. Commercial lending wasn’t the only bright spot for the bank in the quarter, as consumer lending origination activity was brisk. Total non-covered consumer loans expanded nearly 16% on an annualized basis during the quarter, as strong indirect automobile originations were supported by growth in other consumer lending products. Unfortunately, a large portion of the consumer activity wasn’t realized until the latter half of the quarter, as inclement weather conditions negatively impacted auto sales in January and February. That being said, first quarter consumer origination volume was strongest Valley has witnessed in over five years, and based on early indications, the second quarter appears promising as well. Residential mortgage activity continues to decline as the consumer refinance market has slowed to levels not witnessed since before the recession, and purchase activity in our marketplace remains modest. Typically, residential mortgage volume intensifies in the second quarter. However, based on early application volumes we do not expect a material change from the activity reported in the first quarter. As a result of the contraction in residential mortgage origination volume, staffing levels in that area was reduced by approximately 25% during the first quarter. Rightsizing the residential mortgage department to reflect current activity levels is just one example of management actions to quickly address the changing landscape within the marketplace. In the fourth quarter, we announced an aggressive program to modernize Valley’s branching network. We continue to evaluate all delivery channels and anticipate continued improvement in both operating efficiency and customer service. We have begun the process of installing new technology in our branches and have established commensurate staff reductions. Where appropriate, we intend to reduce size of our branches and have established significant occupancy cost reductions for both 2014 and beyond. In addition to the proactive steps management has announced and undertaken in streamlining the bank’s efficiency, we actively seek to manage the balance sheet in the most efficient and profitable manner. During the quarter, we transferred a significant share of Valley’s non-accrual loans held for sale as improving market conditions coupled with more favorable internal rate of return goals used by active loan purchasers, have improved the viability of liquidating non-performing assets at this time. Further, the incremental reduction in future operating expenses relating both to the carrying cost of the non-performing asset and the decrease in FDIC insurance assessments, provide an added bonus to our sales analysis of the loans transferred. We expect all of the non-accrual loans transferred to held-for-sale in the first quarter to be sold prior to June 30th at levels in the aggregate consistent with the net carrying value. In fact, as of today substantially all of the used credit have either been sold or closed or are under contract with meaningful, non-refundable deposit. Total non-performing assets as of March 31st, equaled to $114.6 million. Exclusive of the non-performing loans held-for-sale of $27.3 million, the adjusted total non-performing assets as of the current quarter equaled only $87 million or 0.53% of total assets. In the same period one year ago, total non-performing assets exceeded $200 million and equaled 1.25% of total assets. The reduction will not only reduce future period non-interest expense, but diminishes credit volatility and unlocks capital that can be used to leverage the bank and support loan growth. In summary, we are guardedly optimistic about the continued opportunities in the coming quarters. Expanding the balance sheet by our loan growth, coupled with new initiatives developed to reduce operating expenses, should provide the catalyst to both earnings and tangible book value expansion. Alan Eskow will now provide some more insight into the financial results.

Thank you, Gerry. Net interest income in the first quarter equaled 114 million, a decline of approximately 2 million from the prior quarter. The margin compressed seven basis points during the same period as the yield on earning assets contracted greater than the reduction in cost of funds. The decline in the margin and net interest income is largely the result of the current low interest rate environment, as we expansion in both Valley’s loan and investment portfolios during the first quarter of 2014 benefitted these performance measures. Interest income on loans for the first quarter equaled 131 million, a reduction of approximately 5 million from the prior linked fourth quarter in spite of an increase in average outstandings of 140 million. During the same period, the yields on loans were up 24 basis points. The linked quarter decline is attributable to a multitude of factors including the reduction in day count between the two [inaudible] decrease of interest accretion on purchase credit impaired loans, a reduction in loan fee income and the current yield on new originations. As Gerry referenced earlier, loan origination volume was strong in the quarter, exceeding over $600 million. However, the new loan volume yield was approximately 3.4%. The low yield was a function of the interest rate environment, increased market competition and a reduction of duration on new assets originated including short-term automobile loans. Unless market level interest rates begin to rise beyond current levels and/or competition dissipates, we anticipate continued pressure on the yield on average loans. However, we do not expect the linked quarter loan portfolio yield contraction in the second quarter to be of the same magnitude as seen in the first quarter. Interest income within the investment portfolio continues to be positively impacted by the reduction in premium amortization, largely within Valley’s taxable mortgage backed securities portfolio. Total principal pay downs within the portfolio declined approximately 19% from the prior linked quarter, and over 50% from the same period one year ago. Principally, as a result of the decrease in premium amortization, the yield on mortgage backed securities has increased 60 basis points during the last 12 months. However, the increase in both yield and interest income is partly mitigated by the expansion of the portfolios, averaged duration by approximately two years to around 4.5 years. As of March 31st, the net unamortized premiums on mortgage-backed securities were approximately were 55.3 million of which we are scheduled to amortize approximately 30.3 million over the next 12 months based on current projected prepayment fees. Based on early cash flows received during April, coupled with the level of current market interest rates, we do not anticipate a significant change to the level of premium amortization realized in the second quarter. Total cost of funds improved on a linked quarter basis from 1.13% to 1.08%, mostly due to the early redemption of Valley’s 0.75% [ph] junior subordinated debentures which occurred on October 2013. Valley’s cost of deposits declined two basis points in the fourth quarter to 0.38%. The cost of Valley’s prime deposits declined from 1.23% to 1.21% as higher cost in certificates continue to mature. During the remaining nine months of 2014, approximately 45% of the certificate of deposit portfolio will mature, of which nearly 15% had currently in excess of 3%. We anticipate continued contraction in Valley’s funding course as these certificates mature and our renewed at current market rates where the deposits are replaced with less expansible alternative funding sources. As previously disclosed in our investor presentation at the end of the fourth quarter, both certificate of deposits and borrowings are much closer to maturity. Besides the certificates mentioned above, approximately another $640 million were re-priced beginning in 2015 to 2017 which are currently priced above market, our high course borrowings in maturity during 2015. The maturities of each and subsequent re-pricing are expected to reduce funding for us over the next few years. The linked quarter decline in non-interest income is principally due to the recognition of two large infrequent items in the fourth quarter. Mortgage banking activity remains relatively lifeless as refinance activity is quiet due to the asset level of market interest rates and purchase volume seasonally light this time of year. Based on early application volume realized in April, we do not expect a material change in mortgage banking activity from the results recognized in the first quarter. Non-interest expense for the quarter was 94.9 million, a reduction of 1.2 million from the prior quarter. However, the first quarter included a few items which Valley does not anticipate recognizing as the same degree in the second quarter. Partly as a result of the inclement weather, occupancy expense increased 1.9 million from the linked quarter. Additionally, employee benefit expenses included seasonal increases to payroll taxes. In the aggregate, we expect second quarter non-interest expense to decline from the amount realized in the first quarter. Reducing non-interest expense will continue to be a focus of the bank throughout 2014. Over the last two years, salary expense has declined over 6% and actual staffing has reduced by 8%. We intend to further streamline Valley’s delivery channels by the implementation of new technologies and adoption of the branch modernization strategy as discussed last quarter, we believe this will continue the positive trend of reducing staff expense. Our effective tax rate for the quarter was only 2.4% largely due to the reduction in our reserve of unrecognized tax benefits, resultant from the conclusion of a recent income tax examination. We anticipate the effective tax rate will range between 27% and 29% for the remainder of the 2014. As Gerry indicated earlier, during the first quarter, we transferred approximately $27 million in the carrying value of non-accrual loans to loans held-for-sale. As a result of this transfer, the bank recorded charge-offs of 8.3 million, most of which has been previously reserved within our allowance for loan losses. As such, the current period net charge-offs related to this transfer has an immaterial impact on the current period for provision for loan loss capitalization. As of March 31st the allowance for non-covered loans and unfunded letters of credit as a percentage of total non-covered loans excluding non-covered PCI loans was equal to 0.93%. To put this in context, the total allowance for credit losses in absolute dollars was 125%, a total adjusted non-performing asset at March 31, 2014 and 169% of total non-accrual loans. The total reserve for credit losses balance of 109.3 million is equal to almost four years of trailing non-covered net charge-offs. We have first of all with the adequacy of the allowance based upon our March 31st reserve analysis and believe it fairly represents the inherent credit risk of loss within the bank portfolio. With regard to the non-accrual loans transferred to held-for-sale, we anticipate the actual liquidation of each to occur within the second quarter and levels of the aggregate consistent with reported carrying values. The ancillary benefits of increased liquidity and reduced non-interest expense should materialize in the second quarter with the majority of the benefit transpiring in the following quarters. We believe the timing to liquidate the portfolio was partly based on market demand for assets and the increased opportunities to redeploy the close to alternative earning asset. This concludes my prepared remarks and we will now open the conference call to questions.

Thank you. [Operator Instructions]. And your first question will come from the line of Steven Alexopoulos with JP Morgan. Please go ahead. Steven Alexopoulos – JP Morgan: Hey good morning everyone.

Good morning. Steven Alexopoulos – JP Morgan: I want to start by following up on Alan’s comments regarding the new money loan yields for around 340. How does that compare Alan to the fourth quarter? And is that level stabilizing, do you expect that to continue to decline given the competitive environment?

It’s down about 20 basis points Steve from where we were in the fourth quarter and it’s really relative to as I mentioned automobile lending is that it’s a very low interest rate at the moment. It’s in the low twos if you will, and so we did more auto lending than we did so that brings the effective yield down. Steven Alexopoulos – JP Morgan: Okay. That’s helpful. Growth in the commercial real-estate loans is still very good, but it’s decelerated over the past two quarters. Could you give us color on the types of commercial real-estate loans where you’re seeing strong volumes and may be where seems some slowing over the past two quarters at least?

We spoke fair amount of blending [inaudible] additional mix use [inaudible] and what we strike now there is a fair amount of volume still.

Underlying co-op loans when we say co-op lending understand. Steven Alexopoulos – JP Morgan: Got you. And Gerry may be just one final one, I have never considered you guys have high efficiency ratio bank, but even taking as up cost efficiency ratios are around 67%. I know you keep speaking up of expense initiatives, but any thoughts to may be more aggressively resize the expense space just given the revenue opportunity here?

Steve, I think based on the calculation of the efficiency ratio you saw in the fourth quarter when we had some revenue in there we were down around 60% when you remove that revenue. So I think when I started to talk before about the benefits we see coming down the pipe from reducing our cost of funding, I think you’re going to see a lot of the efficiency cost go down as time moves forward. I don’t think it’s necessarily the expense base or as we said it’s been coming down. We’ve been monitoring our salary course we’ve been monitoring our occupancy expense and I really think it’s a matter of margin and the net interest income line and what happens there. Steven Alexopoulos – JP Morgan: Great. Fair enough. Thanks for all the color.

And your next question will come from the line of Ken Zerbe with Morgan Stanley. Please go ahead. Ken Zerbe – Morgan Stanley: Hey, thanks. Question on mortgage banking I know there are a very small piece right now. I just want to make sure I understand your strategy with that one, because obviously you kind of have nothing or very little couple of years ago. You built it up, figured into the market that’s come back other banks we hear or talk to mention that they think they can stabilize some of it they can continue to grow because they are building out a platform. Your strategy on mortgage banking was it simply to take advantage of that short window that we had a very good originations and resi volumes and such that you are set up that this can completely unwind that you really don’t have a lot of embedded or fixed costs in the business. Is that fair?

You’re correct. It’s Gerry speaking. You’re correct. We did expand it to take advantage of the resi boom that took place. It ended like falling off a cliff, not only at Valley I’ve been reading reports and issues across the country about other banks and residential mortgage activity has dropped dramatically, even the purchase market particularly in our area seems extremely slow. It’s a little bit like an accordion the way we have it structured if we were to pick up again then very short order we can ramp up the drilling the same volume we did at the peak but that’s the way we structured it. So when the volume fell off, we were able to contract the expenses. Ken Zerbe – Morgan Stanley: Got it. Understood. Okay. And then in terms of the lower loan yields, I know you mentioned there was or Alan mentioned there were several different pieces. Was there one or two pieces that actually stood out more versus others or is it pretty spread?

The automobile volume that picked up. I mean we did a huge automobile volume but new car financings runs in the 2% range. You average the 2% against the commercial which could be north of 4% you’re down at 3%. It’s simple math. Ken Zerbe – Morgan Stanley: Got it. All right. Thank you very much.

Your next question will come from the line of Dan Warner with Morningstar. Please go ahead. Dan Warner – Morningstar: Hi good morning.

Good morning. Dan Warner – Morningstar: Could you give us little bit color on what the pipeline looks like relative to last quarter given those strong loan growth you had and may be kind of may be comment on the line usage levels?

This is Bob Meyer. The pipeline is rebuilding rapidly. It had come down a bit during the first quarter but we’ve seen a rapid pick up in the pipeline and it’s fairly strong right now, and that’s across both the CRE lines and the C&I lines. The second part of your question was? Dan Warner – Morningstar: Line usage levels.

It continues to run in the 40% range up a little down a little bit. Dan Warner – Morningstar: Okay. And then with respect to the low provision and reserve going forward here, now that you have some loan growth here and I understand what was going on with the charge offs this quarter with the transfer to the held for sale. But how do you think about the provision and the reserve going forward here for the rest of the year?

We factor in the loan growth all the time. I mean that is in our calculation so all of that is taken into consideration. I think as we said when you start to take into account the fact that we had a fairly significant amount of non-performing loans in there that are now been removed, we’re much more comfortable. I think the other thing is when you look at our portfolio some of the things we have in there for example, residential loans are those at a very loss rate and that’s about $2 billion of our loans. We have ballpark about $1 billion of co-op loans in there but have an LTV that’s less than 10%. So, we’re very confident with the way we analyze it and what we’re seeing and we will increase and decrease at a quarterly based upon what we see in the portfolio. Dan Warner – Morningstar: Okay. Thank you.

Your next question will come from the line of Collyn Gilbert with KBW. Please go ahead. Collyn Gilbert – KBW: Thanks. Good morning guys.

Good morning. Collyn Gilbert – KBW: If I could just start by following up on couple of things. Alan first on the benefits of the cost of funds that you guys obviously the borrowings re-pricing starting in ‘15. Can you just give us quickly the tranches per quarter of those borrowings and what the current costs are and what do you expect to refinance them into?

I don’t know that I can tell you exactly what we expect to finance them into, but I don’t know if I can go quarter by quarter. I think year by year and again this is out on our investor presentation that we made in probably early February. So in 2015, we have about 260 odd million of CDs that are over 2% in terms of costs probably in the 220 230 range that are going to mature. We have borrowings of about 400 million that are going to mature during that year and those costs range somewhere I would say between 4.5% and 5%, and we also have some derivatives that are going to run off. So, I mean overall we’re expecting to see a change in about 760 million during the course of all of ‘15 at an average rate of 386 to wherever rates are. Now that being said, we have already done some protection of a fair amount of that and what I’m going to tell you for future years. In 2016 we have about 235 million of CDs that have the same type of cost around 230. We have borrowings of another 325 million or so that have an average rate of about 436 and we have derivatives coming off another couple 100 million. So overall we’re going to see a change once again on $660 million that is currently questioning us about 4.4%. And in 2017 we have another 240 million of CDs coming off at an average rate of around 240. We have $800 million of borrowings that are coming off at about 3.7% and we have some additional derivatives coming off. So, overall we have 1.1 billion coming off in ‘17 at about an average cost to 3.63. And as I said, we have already prepared by locking in quite some of these in loan 2% range. So we’re going to see savings on an awful lot of that ready we haven’t going out too far yet but we’re watching it very closely. Collyn Gilbert – KBW: Okay. Okay, that’s helpful. And then just in terms of your comment on not expecting as much low yield from this quarter as you saw in the second quarter. I’m just curious as to what would be driving that? Why you wouldn’t see it much? I guess looking at 340 origination yield versus the portfolio yield over 50?

I think part of it is the fact that we’re seeing very much commercial pipeline and that is coming in a higher rate. There is a day count issue relative to first quarter versus the second quarter and also the accretion that hurt us in the first quarter we’re seeing that happen relative to not investments, but on the loan side because of the PCI loans we have whether they are covered or non-covered we will be running that very closely to see that revaluing those. Collyn Gilbert – KBW: Okay, okay. And then final question on the expense run rate I mean you guys have kind of indicated, it sounded like that was going to be a big focus of initiative to try to get those expenses down. Can you give us just a little bit more color as to where you’re seeing things at this point for ‘14 and then should we assume that you can drop that expense line in 2015?

I think that we’ve already shown that our expense line has been going down and has not escalated at all other than some items that what I would call infrequent items that might occur. But that being said, we see it going down in general as I said in my remarks, we continue to – we’re continuing to change the branches over one by one however that works out that’s going to be save us expenses. We’re also looking at the physical branches to determine where we want to stay in them, where we want to bring down our size there and bring down our costs. I mean I think what we told you at the end of the fourth quarter just in that one branch alone that we got out of, we saved I want to say a 250,000 or so on rent expense annually by moving around the quarter. Collyn Gilbert – KBW: Okay, okay.

We have a number of branches that we’re looking at like that. It wasn’t a one off situation it was the only thing in our portfolio that we could do something with. Keep in mind we own half of the building.

But also we don’t have we’re going to change this branch tomorrow and a 100 more right behind it the next day. We’re reviewing the entire portfolio to see what we could come up with. Collyn Gilbert – KBW: Okay.

Again also as Alan mentioned earlier in those infrequent events our snow removal in the quarter was a killer. Collyn Gilbert – KBW: Right, right. Okay. And then just finally what should we be kind of thinking about in terms of the extent that contributed to the loans that you will now be selling in the second quarter? I mean if we back out some of those credit related expenses how much should that be on a go forward basis?

Well we do know that we expect to save the least on FDIC insurance about a $1 million a year. So that will start beginning in the second quarter with all the other operating expenses whether they’d be salaries or renew [ph] cost etcetera that are all going to stop to go down I mean they’ve escalated dramatically with these loans taxes, real-estate taxes we’re repaying on some of these properties. So I don’t know that I can give you the exact amount of savings I just do know at least one the FDIC you’re going to see $1 million a year. Collyn Gilbert – KBW: Okay. All right. Thanks. I’ll stop there. Thanks.

Okay.

[Operator Instructions]. And we have a question on the line from David Darst with Guggenheim Securities. Please go ahead. David Darst – Guggenheim Securities: Hey good morning.

Good morning, David. David Darst – Guggenheim Securities: I’m going to ask on the cost of fund side or all are going to be kicking in later this year. You’re still getting the benefit of counting is there a kind of a trough quarter that you’re thinking about the margin this year and kind of what level do you think it could be?

We don’t like to predict where that margin is going to go but where it’s going to go David. It’s very difficult I think number one knowing what loans are going to pay off tomorrow or not, what that new rate is going to be. Again, as we said before, the competition is very, very tough out there on new credit so that’s impacting us. The volume of automobile is very low. So depending on the mix of loans coming in and loans going out it’s a little bit difficult to think where it’s going to go. But I don’t see it being upside at the moment. David Darst – Guggenheim Securities: Okay. And I guess end of your comments you referenced saying liquidating your trust preferred? Is that correct?

I’m sorry. Can you say that again?

No, no. We repaid most of them in October of last year.

Right there is this small amount remaining that we didn’t have the ability to liquidate at this time. They came from some of the acquisitions. David Darst – Guggenheim Securities: So that’s what we’re repaying, not liquidating trust preferred assets?

Right. That’s correct. David Darst – Guggenheim Securities: Okay. And then one of your competitors I think some employees or teams in Long Island, how are you thinking about the positive growth for this year and do you see any risk in that?

I guess we have a reputation of doing things right so everybody runs after our staff. We have had people taken away from us historically over the years. It’s not something new we’ve survived when they have happened at the past. We’ve always seem to be able to replace with people who do a job in our opinion every bit as good as the ones who left. It’s always going to happen. David Darst – Guggenheim Securities: Okay. Thank you. Nice progress.

Thank you.

[Operator Instructions]. And I have no further questions in queue.

Thank you for joining us on our first quarter conference call and have a great day.