Earnings Call: Q3 2021

Oct 19, 2021

Hello. Welcome to the Old National Bancorp Third Quarter 2021 Earnings Conference Call. This call is being recorded and has been made accessible to the public in accordance with the SEC's Regulation FD. Corresponding presentation slides can be found on the Investor Relations page at allnational.com and will be archived there for 12 months. Management would like to remind everyone that certain statements on today's call may be forward looking in nature and are subject to certain risks and uncertainties and other factors that could cause actual results to differ from those discussed. The company's risk factors are fully disclosed and discussed within its SEC filings. In addition, certain slides contain non GAAP measures, which management believes provide more appropriate comparisons. The non GAAP measures are intended to assist investors understanding of performance trends. Reconciliations for these numbers are contained within the appendix of the presentation. I'd now like to turn the call over to Jim Rine for opening remarks. Mr. Rine, you may begin. Good morning. Starting on Slide 4, we are pleased to share our 3rd quarter results and an update on our partnership with First Midwest Bank. I would categorize this quarter's results as right on plan. Earnings per share were $0.43 and net income was almost $72,000,000 During the quarter, commercial loans excluding PPP loans grew at a strong 7.4% on an annualized basis with $1,000,000,000 in new production. We also ended the quarter with a robust $2,700,000,000 commercial pipeline. Core deposits grew nicely by $327,000,000 during the quarter. Our net interest margin was stable, capital markets and wealth management revenue were strong and mortgage revenue rebounded from last quarter. Expenses were well managed and down slightly, primarily due to one time benefits from incentive and real estate tax accruals. Credit quality metrics remain benign with another quarter of net recoveries. Adjusted ROATCE was a strong 15.16% And the adjusted efficiency ratio was 55.4%. During the quarter, we worked hard with our clients on the PPP forgiveness process. 95% of round 1 loans have been forgiven by the SBA and we already have 51% of round 2 loans through the forgiveness process. Remaining fees totaled $14,000,000 Most of our reported credit quality metrics improved during the quarter. We have reduced our reserves consistent with our modeling as a result of the improving economic conditions. We still have approximately 32 Persistent labor supply and supply chain challenges. As we gain additional clarity around these issues, We may develop more confidence in moving our reserve closer to day 1 CECL levels. A quick update on hiring. We continue to add significant talent during the quarter, especially on our wealth management team. This was highlighted by 3 Individuals that joined our wealth team from the former Wells Abbot Downey Group, including Jim Steiner, who started Abbot Downey And who will now assume the role of our Chief Investment Officer. The team will help expand our high net worth and institutional services. They opened the Scottsdale, Arizona Wealth Management Office to better serve the growing number of clients in that area. We also hired 2 new commercial relationship managers in St. Louis To build upon our recent success in that market, our talent pipeline remains strong and we will continue to hire talented team members. Moving to Slide 5, which contains a quick refresher on some of our accomplishments and next steps with our merger with First Midwest. Both companies have tremendous integration history and experience, and as a result, our work is going well. We have Decision and communicated most client segment and support areas organizational structures and leadership. We've also settled on our core processing system along with the most of the supporting We remain on track for our Q2 2022 system conversion. You probably saw First Midwest Earnings this morning. The results for the quarter were strong and consistent with expectations. We also received 99% from our special shareholder meeting and First Midwest shareholders provided a similar level of support. We've also received OCC approval. Our application with Federal Reserve remains pending with the Board in Washington, D. C, along with the merger applications of many other bank holding companies. We stand ready to close quickly once we receive final Fed approval. You may have seen that we were sued by the Fair Housing Center of Central Indiana, A non profit advocacy organization with a history of filing lawsuits alleging lending discrimination. We strongly and categorically deny the claims in this lawsuit regarding certain of our lending practices. Old National is committed to engaging in fair and equal lending practices. A testament to this is that we have been named 1 of the World's Most Ethical Companies for the past decade. As is customary for us In many public companies, I am unable to comment further on this pending litigation. Lastly, Despite potential distractions from the lingering pandemic related issues and our transformational merger, we have remained focused on serving our clients and communities, And I think our results illustrate the success of those efforts. I will now turn the call over to Brendan. Thank you, Jim. Turning to Slide 6. Our GAAP earnings per share and our adjusted earnings per share were both $0.43 Adjusted earnings exclude $1,400,000 in early merger Related charges, which were largely offset by $1,200,000 in debt securities gains. Slide 7 shows the trend in commercial loans and the related commercial pipeline and production All excluding the impact of PPP loans. Q3 represents our 5th consecutive quarter of organic loan growth and over that year, commercial outstandings have grown 11%. Our strong commercial production of $1,000,000,000 was once again led by our Louisville and Minnesota markets with all other regions posting quarter over quarter growth. On balance sheet production was also well balanced by product with a sixty-forty split between CRE and C and I respectively. Commercial activity remained strong throughout the quarter and we are heading into Q4 with a very healthy $2,700,000,000 pipeline With almost $800,000,000 in the accepted category. Turning briefly to pricing, new money yields on commercial loans increased from prior quarter, which meaningfully narrowed the gap between new production and portfolio yields. The investment portfolio increased $263,000,000 Quarter as deposit growth once again outpaced total loan growth. We continue to put much of our excess liquidity to work in our investment portfolio with new money yields of 1.62 percent a portfolio duration well within 5 years. Moving to Slide 8. Both period end and average deposit balances increased nicely from Q2 levels, With most of the growth coming from business clients in the non interest bearing demand category, total cost of deposits for the quarter was unchanged at 6 basis points, Total interest bearing liabilities declined 1 basis point from Q2. Next on Slide 9, you will see details of our net interest income and margin. Net interest income increased $1,700,000 quarter over quarter. Excluding the impact of PPP, net interest income increased $1,300,000 which is the 3rd consecutive Quarter, we have outperformed our stated objective of holding NII stable through earning asset growth. Net interest margin increased 1 basis point 2.92% from prior quarter and core margin excluding accretion and PPP declined just 2 basis points to 2.7%. Slide 10 shows trends in adjusted non interest income. Adjusted non interest income of $53,000,000 in Q3 was $2,000,000 higher than the 2nd quarter. Our wealth line of business continues to be a bright spot and is on pace for a record year. Our capital markets business had another strong quarter In mortgage revenues rebounded nicely following the pipeline valuation decrease in Q2. While mortgage production was down slightly in the quarter, an increase in the size of the pipeline And stabilizing value resulted in a $5,400,000 increase in revenue. This increase was partially offset by a $2,000,000 decrease in gain on sales income as margins continue to normalize. Next, Slide 11 shows the trend in adjusted non interest expenses. Adjusting for merger charges and tax credit amortization, non interest expense was $118,000,000 The quarter over quarter improvement was driven by an accrual adjustment to incentive as well as the reduction in real estate taxes. Both of these items are not expected to recur. Turning to PPP loans on Slide 12, you will see a roll forward of those balances, which stood at $355,000,000 at quarter end. We continue to assist clients with forgiveness Approximately 95% of round 1 51 percent of round 2 loans are now formally through the SBA forgiveness process. Unamortized fees on the remaining loans totaled $14,000,000 We anticipate half of the remaining loans will be forgiven and the related fees recognized in the 4th Slide 13 shows our credit trends. The quarter proved to be another good one from a credit performance perspective. 30 plus delinquencies picked up one basis point, but remained at a near cycle low of 10 basis points. With respect to charge offs, we were fortunate again this quarter to be able to post Recovery, mostly due to the resolution and full recovery of our previously written down senior living credit. The non performing loans to total loan ratio is once again hit a new cycle low at 94 basis points. While this metric remains higher than peers, The net charge off to NPL ratio is significantly better than peers. We believe our approach to identifying troubled credits early and our patient approach to workout results in better outcomes And ultimately lower cost for the bank. On Slide 14, you will see the details of our 3rd quarter allowance, which stands at $108,000,000 a decline of $1,500,000 from Q2. The improving economic outlook the positive trends in credit quality supporting modestly lower reserve level. And while our outlook on credit remains optimistic, we recognize the economy has not fully recovered And it made the decision to maintain our higher level of qualitative reserves, which stood at $35,000,000 at quarterend. As a reminder, we also continue to carry $38,000,000 in unamortized marks from our acquired portfolios. As I wrap up my comments, here are some key takeaways. We are very pleased with the fundamental results of the quarter. Strong commercial loan growth led to higher core net interest income despite interest rate headwinds. Our fee based businesses led by Wealth, Mortgage and Capital Markets continue to perform well and in line with expectations. Expenses remain well controlled And our strong credit quality continues to keep credit costs low. Slide 15 includes thoughts on our outlook for 2021. We ended the quarter with a healthy $2,700,000,000 commercial pipeline, which supports our favorable outlook on loan growth. This historically low interest rate environment will continue to put pressure on net interest income, which should be mitigated through continued earning asset growth. The PPP loan forgiveness process continues for our clients. We expect the run off of approximately half of the round two balances to occur in the 4th quarter With the recognition of the related unamortized fees to occur at that time, we expect our fee businesses to continue to form well. We are encouraged by the momentum in our Wealth business And the strong commercial activity should help maintain the high level of performance in our Capital Markets business. Mortgage revenue should follow industry trends And be seasonally lower in the Q4. Our other fee lines are expected to be stable in the near term. We would expect to see a $3,000,000 increase in non interest expenses in 4th quarter, given the non recurring items impacting our Q3 performance. Lastly, a brief update on taxes. We continue to expect a reduction in the volatility caused by our tax As we work through the last of the remaining 1 year of historical tax credit commitments, in total, we're expecting approximately $6,000,000 in tax credit and amortization for the year, The corresponding full year effective tax rate of approximately 22%. With that, we are happy to answer any questions that you may have. And we do have the full team here, including Jim Sandgren, Daryl Moore and John Moran. Thank you. Our first question comes from the line of Ben Gurlinger with Hovde Group. Your line is open. Hey, good morning, guys. Good morning, Ben. I just wanted to take a moment. Let's assume that the deal closes in the Q4, which you probably will. So there's going to be a lot of noise in integration over the next, let's call it, 6 months. So are there any areas in which you feel like there's a low hanging fruit Or opportunity to grow loans outside of Chicago. I know that the Minnesota market was an area Have pretty healthy growth in that playbook post those two deals a couple of years ago. It seems to be chugging right along. So I was kind of curious if you could talk about Some of the opportunities that you see that present themselves right away and kind of what you are focusing on that 2 to 3 year goal, Either footprint wide or Chicago itself? Yes, Ben. This is Jim Sandgren. Yes, you're Exactly right. Minnesota continues to be a bright spot and we see that as opportunity to grow in the future. Louisville, Kentucky continues to be really Good for us, Indianapolis and some of those markets. I know Jim talked a little bit about St. Louis, which is a newer market for us, which It's seen some nice growth. And then obviously with our partners for First Midwest, I mean, we see big upside when we Together with them in the Chicago area, bigger balance sheet. So looking forward to really growing throughout the footprint. Yes. I think Ben, one of the things that attracted us from First Midwest is they have spent more time and they're ahead of the game in terms of building out some niche verticals. I think those niche verticals help us. We can export those across our footprint and maybe give us new opportunities that we weren't looking at today. And I think we can continue to use that bigger balance sheet across the entire footprint to create new opportunities for us. Got you. That's helpful. And then in terms of the non interest income, it seems like everything was moving in the right direction. If you look at the momentum perspective, mortgage rebounded wealth continues to be strong. I was curious, is there any areas in which You're kind of doubling down in reinvestment. I know that there are some recent hires in our management. Capital markets continues to perform well. Is there any areas in which it's potentially punching above its weight, we could see some reversion to the mean or is everything kind of Operating as is and we should expect similar results for the next year or so. Long term, we continue to believe wealth management The source for us as well as the treasury management business coupled with a strong commercial business, which means capital markets as well. Think those are the 3 areas that we continue to believe. Mortgage will just be cyclical and it will just drive along with everybody else's mortgage business. But those three areas in particular And we really haven't seen the benefits of our new hires in that wealth management business yet. We're carrying the cost for those new hires and it's not only the 3 new hires we just talked about, but we've been Pretty consistently hiring in that area. And so long term, we believe we're going to drive higher than our trend line kind of growth in those areas. Got you. Okay, that's helpful color. I will step back in the queue. Congrats on a solid quarter. Thanks. Good to see you guys first again. Thanks. Thank you. Our next question comes from the line of Scott Siefers with Piper Sandler. Your line is open. Sorry, Scott. Jim, Jim, Jim. I'll just that's the list of ways I've disappointed people. So, apologies. Well, no, I appreciate you taking the question. Just as we sort of look at this, The strong loan growth you guys have been generating, just curious if you could maybe make a comment or 2 about what your commercial lenders are seeing in terms of Things like pricing and structure and how you guys are responding to that? Sure. Yes, Scott, this is Jim It's really competitive out there. But the good news is we've talked on a number of the last few quarterly calls is that we've been out calling and Working with our customers and prospects and building really strong relationships. So I would tell you credit structure is Getting a little crazy, so we continue to stay disciplined there. Pricing, I think we're doing a good job meeting our pricing hurdles Quarter over quarter. So it's tough right now. There's no doubt about it. But again, I think because of the strong relationships we've had and the fact that we've been out falling Throughout the pandemic and as we came through it, I feel like that's helped kind of support the growth. And I think we're set up in the Q4 With a really nice pipeline and a nice accepted portion of that pipeline as well. So pretty encouraged. And Scott, you know this well. I mean, we're glad to give up a few points of growth To stick to our discipline around pricing and structure. So we're going to play a long game here, make sure we stay true to our history and roots. Perfect. Okay. Thank you. And then switching gears a little, hiring talent away from some of your Competitors, that's been a big part of the story over the last couple of years. Just was curious, Jim, if you can maybe add some comments about sort of what you're seeing in terms of costs To attract new talent and if you could speak to sort of the notion of wage inflation overall within the bank? Yes, it's a good question. We're certainly not immune to wage inflation at all levels. And We intentionally raised our minimums a year ago. And so a lot of that cost is built into our current run rates. And clearly, going out and attracting high caliber talent away is more expensive than kind of the average Price we paid today. So but we think again, these are long term investments that we believe are going to pay High dividends and so we're willing to make those investments and just be really thoughtful and deliberate about it. And we have got a great story to tell and that story resonates so well with so many people today where they can see themselves being Successful in our organization and being able to take care of the clients and really do their best work. And so we keep telling that story. The price that we have to pay It's not unreasonable and we think it's good for the long term health of our company. Perfect. All right. Thank you guys very much. I appreciate it. Thanks, Scott. Thank you. Our next question comes from the line of Terry McEvoy with Jim, maybe start with a question for you. You've been involved in a lot of M and A transactions with your time at Old National Bank, could you just talk about just the level of discussions with regulators? How in-depth are they as it relates to getting First Midwest closed, just given the size and the structure? And essentially what I'm getting at is maybe a softer way of asking, what is the risk That the MOE gets postponed given changes in the regulatory landscape? It's really hard to tell, Terry. There is no outstanding questions we have with any regulatory agencies and in particular the Fed, obviously we have OCC approval. And I think like many other bank holding companies, we're in the queue and we're just waiting for that approval process. We think we've answered any questions they have for us and really don't have any other feedback, and they're not waiting on any new information from us. So we're just going to continue to be patient and thoughtful. I think the most important point though is, We continue to work on the integration efforts, which are really scheduled to happen in the Q2. So none of that work stops. We continue to build relationships with We continue to do strategic planning with each other. So none of that really stops. We just keep moving forward and we'll wait for be patient, we'll wait for The final regulatory approval and then as soon as we get that we'll close shortly thereafter. Appreciate that. And then as a follow-up, you used to Provide average loan size within the commercial portfolio. I'm just wondering, has that changed following the O and B Way and industry verticals? And Are you competing now kind of an upmarket for larger deals that's contributing to some of the at least the dollar growth that we're seeing in the commercial portfolio? Yes, I'll give some high level commentary and let Jim get into details. But it's certainly on average higher just as we entered larger metropolitan markets, Most notably, when we entered Wisconsin and Minneapolis specifically, I think we've just seen that trend To move higher. Even having said that, I still think it's pretty granular on average. And today, Jim, we're running what was the average recently here? So for C and I, we're at about 300,000 Dollars from a portfolio perspective and commercial real estate about a little over $900,000 So to your point, still very granular. Great. Thank you, guys. Thanks, Terry. Thank you. Our next question comes from the line of Chris McGratty with KBW. Your line is open. Good morning, Chris. Hey, good morning, everybody. Jim, I think I want to start with loan growth. Typically, when MOEs get announced, there's a little bit of market apprehension about pro form a growth rate. You guys had solid growth. 1st and West had a little bit of growth this quarter. How are you thinking about the pro form a profile of the company, especially with the economy recovering? I think both organizations are going to wake up every day, go out, talk to its clients, service communities, right? And loan growth somewhat dependent on kind of the status of the economy, right. But I think the loan growth that we've been putting up and producing is the Loan growth we ought to be able to put up and produce in a normal kind of economy or even slightly warm economy that we have today, right? So, well, we haven't given any specific guidance. I think What you see is what we should continue to produce. We do think there again, there's upside relative to the total balance sheet and our hold limits will potentially increase In the future plus leveraging those industry verticals. So I think there's great opportunities for us to continue to grow the loan portfolio. Okay. And then on the deposit growth, you and some of your peers, I think, have spoken about just the surprise factor of the deposit staying On balance sheet and continuing to come in. With that confidence, can you speak to kind of the pace of investments, securities investments you might make? You've grown the Bond book a little bit in the last couple of quarters. Just trying to see an outlook for that. Thanks. Yes, Chris. We continue to put the excess cash to work. We're actually sitting on a little more cash this quarter than last quarter, and we'll be thoughtful as we put that to work given the outlook on rates. But our bias is to put more money to work than not. Great. And then maybe if I could sneak one in on once you close the deal, You guys have a ton of capital. Maybe updated thoughts on returning capital through buybacks? Yes. Our capital priorities will remain the same. Look, at the current valuation, we think there's a great opportunity to Return money to investors via share repurchase. We have an authorization outstanding today that will take us through the end of the year and We'll be looking for an opportunity to make use of that. Great. Thank you. Thank you. I'm showing no further questions in the queue. Well, thank you all for your support. Ladies and gentlemen, this concludes Old National's call. Once again, a replay along with the presentation slides will be available for 12 months on the Investor Relations page of the Old National's website, oldnational.com. A replay of the call will also be available by dialing 8 5,585,9056. Conference ID code is 4,242, 648. This replay will be available through November 2. If anyone has additional questions, please contact Lynelle Walton at 812-464-1366. That's 812-464 1366. Thank you for your participation in today's conference call. You may now disconnect.