Earnings Call: Q4 2019

Jan 23, 2020

Good morning, and welcome to the Origin Bancorp 4th Quarter and Full Year 2019 Earnings Conference Call. All participants will be in listen only mode. Please note this event is being recorded. I would now like to turn the conference over to Chris Riegelman, Head of Investor Relations. Please go ahead. Good morning and thank you for being with us. We issued our earnings press release yesterday afternoon, a copy of which is available on our website along with a slide presentation that we will refer to during this presentation. Please refer to slide 2 of our slide presentation, which includes our Safe Harbor statements regarding forward looking statements and use of non GAAP financial measures. For those joining by phone, please note the slide presentation is available on our website at www.orgem.bank. Please also note that our Safe Harbor statements are available on Page 5 of our earnings release filed with the SEC yesterday. All comments made during today's call are subject to the Safe Harbor statements in our slide presentation and earnings release. I'm joined this morning by Origin Bancorp's Chairman, President and CEO, Drake Mills our Chief Financial Officer, Steve Brawley and Lance Hall, President of Origin Bank. After the presentation, we'll be happy to address any questions you may have. At this time, I'd like to turn the call over to Drake. Thank you, Chris, and good morning. As I think about what we've accomplished in 2019, I'm proud of how our team was able to adapt to a changing rate environment, grow deposits and loans in a meaningful way and manage our company to build long term value. I have a couple of things I want to touch on before we get into the full presentation. At the end of 2018, we told everyone that our loan growth would be governed by deposit growth. Internally, we focused a tremendous amount of effort on relationship based core deposit growth. We've delivered in our deposit growth goal in 2019 in a powerful way with 11.8% increase in deposits while reducing our reliance on broker deposits. Our deposit growth allowed us the ability to grow loans held for investment by 9.3%. In 2018, we laid the foundation for significant organic growth by hiring teams in multiple markets and strategically investing in our employees. As we wrapped up 2018 and entered 2019, we were well positioned to reap the rewards of a rising rate environment. Unfortunately, the environment changed. We saw our loan yields rise in early 2019, followed by contraction in the second half of the year as interest rates decreased. All this continued while our bankers produce at high levels growing loans and more importantly growing deposits. As interest rates move lower in the last two quarters, our bankers have been diligent in managing deposit costs. That focus will continue as we move forward. Overall, I believe we continue to be well positioned to enhance the value of this company. Now I'll turn it over to Steve to provide additional details around the financial results for the quarter the year. Steve? Thanks, Drake. Let's begin with Slide 3, the financial highlights for the quarter. Our net interest income of $44,100,000 decreased 1.2% compared to the linked quarter and increased 4.8% year over year. Provision for credit losses was down $1,800,000 from the linked quarter and up $650,000 compared to the same quarter of the prior year. The linked quarter change was driven by lower charge offs and loan balance trends. Non interest income declined from the prior quarter, primarily due to decreases in swap fee income and insurance commission and fee income. And non interest expense increased for the quarter since the Q3 reflected an FDIC assessment credit. Net interest margin for the quarter was 3.58% on a fully tax equivalent basis, which was a decrease of 11 basis points from the prior quarter, driven by the decrease in market rates during the second half of the year. Moving to Slide 4. Our full year net income was $53,900,000 compared to $51,600,000 in 2018. The primary driver of this increase was the $20,000,000 or 13.2 percent in net interest income, but was offset by higher provision expense and higher non interest expense. Our tax equivalent net interest margin for the year was 3.69% compared to 3.75 percent for 2018. Our efficiency ratio showed improvement in 2019 as well. Moving to slide 5, want to touch on our loan yields and deposit cost trends. On the top right, you can see a comparison of our loan yield trends over the last 5 quarters where we had declined 22 basis points. In comparison, during the same period, the benchmark interest rates have both lost over 40 basis points on average. In the bottom right, you can see our funding cost. The value of our non interest bearing deposits has created a 40 basis points reduction in deposit cost in the 4th quarter compared to 35 basis points of reduction in the prior year Q4. We are really seeing the efforts to manage deposit costs pay off in the 4th quarter as we have reduced the total cost of deposits by 10% or 12 basis points from the linked quarter. On Slide 6, while our non interest revenue was down in the quarter, that was due to a 3rd quarter swap production volume that generated high fees. I want to point out the positive trend in mortgage banking revenue as we have gone from quarterly revenue of $2,300,000 in the prior year Q4 to $3,400,000 in the current quarter, with a steady upward trend driven largely by a successful focus on retail mortgage production. On Slide 7, we show some non interest expense trends. In the prior quarters, we had discussed an adjusted non interest expense rate for Q2 and Q3, and our 4th quarter results came in line with our expectations at $36,500,000 In the bottom right, you can see the efficiency ratio for the current quarter is in line with our prior year 4th quarter efficiency ratio, but I want to touch on the NIE to average asset ratio. We are trending downward during the year due to our focus on expenses to efficiently grow earning assets using our investments in teams and employees Drake mentioned at the beginning of the call. Lance will now give us an overview of our loan and deposit results and credit quality. Thanks, Steve. As Drake mentioned in his opening remarks, we continue to be really pleased with how productive our bankers have been at building relationships and driving the positive loan growth throughout the year. Our bankers have not only focused on asset growth, but I'm really pleased with the fee generation we have seen in the last year. Because the deposit growth during the year was so meaningful, I want to take a minute and then touch on that on Slide 8. I'm extremely proud of the way our bankers responded to the challenge of growing deposits at such a high level. We increased deposits by $446,000,000 during 2019, which is net of in broker deposit balances. That means our bankers were able to grow core deposits by $625,000,000 or 18.1 percent in 2019. Not only that, Steve previously touched on deposit and funding cost. In the Q4, cost of deposit was 1.04% compared to the prior year 4th quarter cost at 96 basis points. In the bottom right of the slide, you can see the deposit changes by state. I want to highlight the growth across all of our states and markets during the year. Texas and Mississippi showed impressive growth, while Louisiana continues to show steady deposit growth and remains a key funding source for loan growth throughout the markets, with a 2019 cost of deposits of 87 basis points. On Slide 9, you can see a snapshot of our loan portfolio at year end. Loans held for investment ended the year up $354,000,000 or 9.3 percent, while the 4th quarter average loan held for investment increased 14.2% over the prior year 4th quarter average. Loan relationships our bankers have added during the year continue to be in line with our historical loan mix of roughly 50% commercial related lending, including C and I, owner occupied commercial real estate and mortgage warehouse lines of credit. Moving on to Slide 10, I just want to touch on a couple of points about our asset quality trends. In the Q4, we saw our net charge offs coming in at 26 basis points annualized, down slightly from the 3rd quarter level of 29 basis points and lower than our prior year Q4 of 37 basis points. For the full year, we points of net charge offs. Our asset quality trends continue to improve over the last 5 quarters with the ending non performing loan ratio at 75 basis points and our past due loan ratio at 72 basis points. While the credit trends have improved, we continue to remain diligent during our underwriting process and focus on relationship based lending. Now I'll turn it back over to Drake. Thanks, Lance. I want to point out a few things about our capital on Slide 11. During the year, we increased our quarterly dividend to $0.0925 per share, which gives us roughly a 1% dividend yield. We also authorized a $40,000,000 stock buyback program and repurchased $10,100,000 under the program. With the dividend increase in stock repurchase, we returned over $16,000,000 to our shareholders during the year. We certainly have a lot to be proud of in The strength of our management team has been a continued focus of this organization. I feel confident about the management team and the succession plan in place to lead us through a period of dynamic growth and strategic focus entering a new decade. We recently announced the addition of Stacy Golf to our Board. Stacy currently serves as General Counsel and Chief Administrative Officer at CenturyLink and will add tremendous value and insight to our company. We feel very fortunate to have a dynamic Board with a strategic focus to build long term shareholder value. In recent years, we've invested in our people and new markets. In 2019, we saw those investments begin to generate returns for us. Lance mentioned deposit growth in various markets and the growth in Texas at 33% speaks to the quality of bankers we have and their commitment to driving growth through relationships. As we saw this past year, business cycles can and will change. Our team is focused on adapting to those changes, while always being mindful of the commitment to our culture, our people and providing shareholder value. Thank you. And we'll now open the line for questions. We will now begin the question and answer session. The first question comes from Matt Olney of Stephens. I wanted to start on the deposit side. And we saw some nice growth on the average non interest bearing and we saw some good improvement on the interest bearing deposit costs around 15 basis points. I'm curious what the outlook is here going forward. How much more room for improvement is there as far as bringing down deposit cost? Hey, Matt, this is Lance. I think we have a lot of opportunity. We still, as Drake said in this earlier, we felt last year that really loan growth was governed by deposit growth. We feel like we did an excellent job in executing on that this year. Specifically, when you look at the way that we reduced our broker deposits and then the core deposit growth of almost 18% was extraordinary. And it really was a reflection on the investments that we made in Texas. You saw tremendous deposit growth in both Dallas, Fort Worth as well as Houston. We've gone through 3 variations now of exercises since the Fed started dropping interest rates, working with our presidents to reduce our deposit costs. So we still think there's lift for us there and a really good opportunity. Okay. That's great. Thanks, Lance. And then on the loan balances, can you talk more about what you saw in the 4th quarter? And I guess some of your peers are talking about higher pay downs. I'm curious kind of what you saw in the 4Q and what the expectations are for loan growth in 2020? Thanks. Yes, Matt, this is Drake. Yes, it's somewhat of a surprise for us because we've not had the pay down activity that we saw in the Q4. But I want to at least break that down. We had about $158,000,000 of pay downs outside of our normal activity, dollars 95,000,000 of that was CRE sold. So those are our customers. We congratulate them. They did a good job there. Dollars 65,000,000 of that was CRE that went to perm. Again, a process that just seemed to be a timing situation for us, but it was heavy. We will see some of that activity in the Q1. But for the outlook for 2020, pipelines, looking at the markets, everybody feeding into that process and what we're budgeting, somewhere around a 10% growth, we still feel very strongly that's going to be the outcome for 2020. And that 10% Drake, with that commentary, is the implied assumption that pay downs will return to more normalized levels in 2020? Or does that commentary assume that these paydowns just remain elevated for a while? No, we don't see an elevated pay down situation. We do have some slated for the Q1 that's going to slow down. If you annualize Q1 growth, you're certainly not going to get 10%. But as historical, we see between mortgage warehouse, the CRE pipelines and look, this gives us some runway from a CRE standpoint, ADC now 79 basis points and then CRE is at 2.70. So a lot of runway, a lot of pipeline growth. Our teams have significant capacity. So Q1 is going to be a little bit slow start because of a couple of pay downs that are continuing through the CRE process. But we feel pretty comfortable at this point that the growth picks up pretty well in the Q2 and we'll see that 10% through the year. Okay. And then I'm also curious within your markets there's been some, I guess, upcoming, we think disruption via M and A, some larger bank transactions. I'm curious just how you think Origin is positioned and if you expect to be opportunistic with hiring of producers from these types of transactions? Yes. I think there's a lot of opportunity here for us. With Texas, with just our organic growth in Texas at 33%, the momentum we have from a deposit perspective, 33%. The momentum we have in Texas and the teams, we have had contact and we are talking with some opportunity, but we are looking at that from the perspective of how that fits in our portfolio because some of that activity doesn't quite our opportunity doesn't quite fit us. We are going to stay true to our loan mix at this point. We think that with the runway we have on CRE, non owner occupied CRE, we've got a program coming out in the Q1. But if they fit into that mix and can bring the deposits to the table, we will expand. Yes, Matt, I would tell you from the President's point of view that there's a lot of strategy and conversation that we're having inside of our markets. We spend a lot of time on the culture that we build and our track record, I think, would prove that our ability to lift out talented teams has been a key driver for us and we see that going forward. Okay, great. And then I guess last question for me. I think Lance, you referenced the elevated charge offs in the 4th quarter from a handful of credits. Any more details you can give us behind that as far as loan type or geography or anything broadly? Yes. Matt, this is Drake. When you look at our charge offs for the Q4, we still we finished the year in the range that we expect from an average over the last several years. Really what hit in the 4th quarter was the balance of the restaurant situation that we had in the energy credits, we had an appraisal on the equipment. We're exiting that credit. There was $1,000,000 write down in appraisal that we've got about a $3,000,000 balance. We expect that we have we will not see any additional loss and potential recovery there down the road as we exit that credit. And then the last piece was the memory care credit that we've continued to struggle with, but see that resolving itself and that was about $650,000 there. So again, these are 3 or 4 credits that we're dealing with that have been with us for a number of years. We haven't seen any deterioration outside that. Matter of fact, if you look at past dues compared to Q4 of 2018, we are at 90 basis points in 2018, today we're at 72 basis points. Non performing loans, 85 basis points in the Q4 of 2018, 75 basis points in the Q4 of 2019. Net charge offs, 12 basis points last year, 14.8 this year, a little higher than our average, but I just explained that classified loans, the total loans 2.09% in Q4 2018, 1.57% Q4 2019. So we are seeing improving credit trends. We think that credit is stable to improving going through 2020 and think that our charge off range is somewhere in that 12 to 14 basis points for our 2020. Okay. That's great. That's all for me. Thank you, guys. The next question comes from William Wallace of Raymond James. Please go ahead. I'd like to circle back on one of the questions that Matt asked around deposit costs. You guys had some pretty impressive reduction in your deposit costs in the Q4. Help us understand what we might expect on how that tracks to NIM in the Q1 of 'twenty and then progressing through the rest of the year? Hey, Wally, it's Steve. On the NIM basis, as we said 3 months ago, we still expect the Q1 to have a 2 to 4 basis points decrease overall in the NIM. The second quarter, we think anywhere from flat to 1 basis point higher or lower. And after that, we're pretty much relatively the same. On the deposit side specifically, we could go about 10 basis points lower in the Q2 I'm sorry, in the Q1. And then after that, that, it really depends. We have modeled in our numbers just a couple of basis points going down 1% to 2% the rest of the quarter. So the Q1, December 31, we had some guarantees that we reduced and a couple of other depositors that we reduced with the Birdwell 3.5 plan. I don't know if you heard that before. We talked about that. That's where all the presidents went through and looked at all the rates, and we really feel that we have a handle on this. And to answer your question, 10 basis points 1st quarter total deposits decrease. And Wally, I will say that an incredible focus on this going through the 2nd Q3. I just feel like we have to have some additional room there. And with the deposit growth and the momentum we have, that's going to be the focus from an incentive perspective and from a cost perspective. Hey, Wally, this is Lance. I might add one other thing as you're thinking about modeling. If you think about at the end of the Q3 and Q2, we had approximately $300,000,000 in brokered deposits. At the end of the Q3, the rate on that money was like 2.13. Today, we're down to about half of that in brokered deposits and the rate on that money is 153. So that's a big lift for us. Okay. And Wally, I'm going to come back. I'm sorry we're ganging up on you here. But in that, we had 18% core deposit growth. When you back out the reduction from 8.6% of total deposits and brokered deposits to now, I think it's 3.1%. We were able to reduce significant cost in brokered deposits and end up with 11.8% total growth in deposits. So strong, strong core deposit growth with a big lift in NIB growth during that period. Yes. I mean, I agree it looks strong and it looks very favorable. I'm not surprised I'm surprised that you're not expecting that your margin could expand in the 3rd and 4th quarters just on the benefits of the funding costs. Are the new loan yields for new production still a relatively sizable pressure relative to the portfolio yield? Yes. I think we're seeing and we're trying to be as conservative as possible as we continue to formulate our strategy. We're seeing some pricing in the markets still with the unknown aspect of LIBOR and the impact of LIBOR with our model. So heavily weighted on the C and I side and floating. We do have some concerns there. We baked those concerns in. We lost a $17,000,000 credit that here recently on a LIBOR plus I think $150,000,000 $160,000,000 basis without guarantees from a larger player. That pressure we just can't ignore at this point. I do agree with what you're saying about potential expansion. But I think at this point with what we're seeing from rate pressure and the LIBOR situation, we are concerned and that's why we're modeling it this way. Okay. All right. Fair. Two other questions. On the fee income side, that other income line has been really lumpy. How might we think about that? Is that kind of a $7,000,000 $7,000,000 $8,000,000 a year type line item for you guys? Or would it be less than that just because of some of the noise we saw in the 1st and third quarter? Well, fee income for 2020, we expect to grow between 6% 7%. Now there is some lumpiness from historic. We had those swap fees and that's when the yield curve went inverted and we put in about an extra $1,000,000 in that Q3. We don't see that going forward. So that $1,000,000 that's in there, you have to really take out. However, with that being said, we still believe overall, we'll have a 6% to 7% growth in total fee income. And while I'm expecting go ahead. I'd say how much is coming from mortgage? Mortgage, we're going to probably have about a 10% to 12% increase. Our service charges and fees about the same percentage. Insurance commissions, we've had a couple of incidents this past year. So instead of having a normal 5% to 6% increase in that, we're budgeting somewhere about 4% or so on insurance. It's the and they're the 3 largest. It's a limited partnership income that we're keeping flat. Swap fees, again, we're budgeting about $1,000,000 less than we had last year and everything else is about the same. But Wally, I want to go back to a comment made around insurance and LP investment. We did see we'll see an impact in the Q1 and early Q2 on the insurance side from sharing because of the tornado that went through this area and we had some pretty significant losses in that market. So profit sharing will be down and that's the hit to insurance and then LP investment where we saw some pretty significant swings in those. The outlook for 2020 seems to be slightly better. And we're reducing the balances on those LP investments. I'll glad when I don't have that volatility. Okay. Yes. Okay. Thanks. I'll step out and let somebody else ask about expenses. Thanks. The next question comes from Woody Lee of KBW. Please go ahead. Hey, good morning guys. Hello, Woody. Hey, Woody. Hey, so with the higher prepayments on loans this quarter, did you have any loan payment fees flow through the NIM in 4Q? We did. However, it was about normal. And so a couple of quarters ago, we mentioned that we had 3 or 4 basis points higher than normal. We had a couple of larger prepayments in that quarter. But this past quarter, Q4, I would say that the prepayments that are in the NIM is a normal amount, nothing extraordinary. Got it. So you wouldn't expect that to take a step back even with lower prepayments in 2020? No, we do not. We have always had some prepayments and we always model in a couple of basis points for those fees to go through. However, if there is 1 or 2 particular loans that are prepaying very early and they had a 3%, 4% prepayment fee in there, 1 or 2 large loans can really increase that rate. Got it. That's helpful. Then yes, looking at expenses, does that 3% to 5% expense growth in 2020 still feel like the right growth number? It does. This is because of the situation, when you look at efficiency and realize that in let's say 2019 based on where we started the year from a margin perspective where we ended up that was a $12,000,000 decline in revenue, almost a $9,000,000 decline in net profit. So we're going to have to win on the expense side, heavy focus on the teams and feel that between 3% to 5% is reasonable for us with some of the investments that we made in 2019 with new branches that are coming online and the full expense being loaded in 2020. Also, we had a $1,000,000 basically refund from the FDIC that is added back in for in that 3% to 5%. Okay. Got it. And then last for me, just excess capital continued to tick up in 4Q. How are you thinking about the buyback from here? I know the stock price has sort of gone up since the last time you repurchased stock. Does that play an important part in it? I think the way we have to consider from a capital perspective now, we have to look at total capital because of our loan deposit ratio, our assets weighted heavily to 100% risk weighted. So I think there's opportunity here for us to look at how we manage total capital. We are still active from an M and A perspective and think that there's partnerships that we can form through that to really look and put Tier 1 to work. But from a total capital perspective, I think there's some opportunity for us to add potentially some Tier 2 capital in some form and put us in a position to where we can still stay active and not have any pressure from regulators. So, for us now, it's a focus on M and A. Got it. Thanks, guys. The next question comes from Kevin Fitzsimons of D. A. Davidson. Please go ahead. Hey, good morning, everyone. Good morning, Kevin. Just, Jerry, what you just mentioned on M and A, just going a little deeper there, how would take on. And at the same time, you alluded to earlier in the call that you have this more organic opportunity to maybe take some new team members on from some of the market disruption that's going on. So is the thing that are the things that are you're getting to see or the opportunities you're getting to meet with, are there more, are there less, are you getting more optimistic or less based on the potential opportunities that are out there? Thanks. From a timing perspective, I would have to say I'm more optimistic. To be frank, it's been difficult to find partnerships that truly from a culture perspective that fit in our portfolio that we think those individuals will do well in our system. It's more difficult because you said the right word, we're going to stay disciplined. And boy, you feel a little bit of pressure to kind of relieve some of those disciplines, but we're just not going to do that. But I do feel that there's better opportunity for us going into 2020 as we've continued to cultivate these opportunities. Okay, great. That's all I had. Thanks, guys. Thank you, Kevin. And we have a follow-up from Matt Olney of Stephens. Please go ahead. Yes. Thanks for taking the follow-up. Just wanted to update on the Houston market. I know this market for you provides some really great growth, but the ROA and the profitability has been lacking versus the other markets. So can you just remind us where we are on profitability now versus previously? And with full scale, how much more opportunity is there to improve? Yes. And I think, Matt, it looks interesting because of the interest rate environment and where we were with Houston and where we are now. When you look at the market growth in Houston at 24% in loans and 39% in deposits, from an ROA perspective now, we are approaching and I'm sorry, I'm grabbing the numbers around 60 basis points, which is actually good strong performance considering the reduction in yields on those loans in that process. But we are extremely pleased with where we are. We will see some very strong growth in Houston in 2020 and I expect that ROA to be in that 80, 85 basis point range at that point without any interest rate cuts or those type of things. So really have been positioned well, have some opportunity for some ads in Houston. I just still think that Houston is going to be a big win for us. And I will say that Matt that we're pretty proud of the fact that as twelvethirty one, we have we're larger in we have more deposits in Texas than we do in Louisiana. And from a funding perspective and cost, they're doing a very good job. DFW made a big, big move this year. Okay. That's a good update. And then I guess the other segment we've talked about for improvement or mortgage where are we as far as profitability and breakeven on mortgage and what's the expectation for profitability in that segment in 2020? Yes, we and I'm going to take out of the picture for the time being servicing because we are working on servicing with conversion to DMI and expect to see some significant expense reductions on the service side production. We have basically approached and got the point to where we are breakeven and expect to see profitability and we'll have a clear picture on that after the Q1 because we surprisingly have had a better winner with volumes this year than we budgeted. And we've continued to add producers through the winter. So we're still I think 5 to 7 producers away from having the volume that we need. But from a profitability standpoint, we expect to see profitability on the production side. We will put in together a plan for the future of mortgage servicing, which I think is certainly as we continue to reduce our portfolio, it was $2,500,000,000 in servicing rights at the beginning of the year, it's $2,000,000,000 now. You can tell that's where the impairment came for the impact, which was about $2,500,000 in 2019. We expect that to be a lesser number in 2020, but that number was $6,700,000 in 2019. So we're still making progress. I'm pleased where we are on the production side. It's just the unknown for the direction we're going with mortgage servicing. Okay. Great update. Thank you. Thank you, Matt. This concludes our question and answer session. I would like to turn the conference back over to Drake Mills for any closing remarks. Thank you. Appreciate everyone's time this morning. I want to close by saying beginning of 2019, we had several strategies that we put in place. And I think the theme for 2019 was strong execution. We had to grow deposits that was going to be the governor for loan growth with an 18% core deposit growth, 33% growth in Texas where we see the future of this organization's value continue to grow. Dynamic markets that continue to produce for us. Managing expenses was a win for us because of the change in the interest rate environment. We think that in 2020 management expense is going to be a big win for us. Strong management in place. I think this company is positioned to create value in the next 2 to 3 years. We are dealing with unfortunate headwinds in the interest rate environment aspect of our business. But outside of that, we are so positive from where we're positioned with M and A opportunities that we will take advantage of. I think the company is well positioned. I have a better outlook and better and more confidence about 2020 than I've had any year in my career. So appreciate your time. Thank you for your investment. Thank you for the opportunity to partner with you.