Earnings Call: Q2 2020

Jul 22, 2020

Good morning, and welcome to United Community Bank's Second Quarter 2020 Earnings Call. Hosting the call today are Chairman and Chief Executive Officer, Lynn Harton Chief Financial Officer, Jefferson Harrelson Chief Banking Officer, Rich Bradshaw and Chief Risk Officer, Rob Edwards. United's presentation today includes references to operating earnings, pre tax, pre credit earnings and other non GAAP financial information. For these non GAAP financial measures, United has provided a reconciliation to the corresponding GAAP financial measure in the Financial Highlights section of the earnings release as well as at the end of the investor presentation. Both are included on the website atucbi.com. Copies of the 2nd quarter earnings release and investor presentation were filed last night on Form 8 ks with the SEC and a replay of this call will be available in the Investor Relations section of the company's website atucbi.com. Please be aware that during this call, forward looking statements may be made by representatives of United. Any forward looking statements should be considered in light of risks and uncertainties described on Page 3 of the company's 2019 Form 10 ks as well as other information provided by the company in its filings with the SEC and included on its website. At this time, I will turn the call over to Len Harton. Good morning and thank you all for joining our call. The Q2 continues to be strongly influenced by the effects of COVID-nineteen as you would expect. Significant growth in deposits driven by stimulus funds, client reactions to the economic environment and new customer acquisition on the heels of the PPP program, all have combined to drive our balance sheet over the $15,000,000,000 mark ahead of our acquisition of Seaside, which closed July 1. Our EPS this quarter came in at $0.32 $0.08 below the 1st quarter and $0.23 below the Q2 of 2019. The primary driver of that decline was continued reserve excluding PPP loans. Our pre tax pre provision income was actually up $2,700,000 over the 1st quarter and up $5,100,000 from the Q2 of 2019. Due to the reserve building and the low margins increases in our investment portfolio, our return on assets dropped to 71 basis points for the quarter. Given the uncertainty in predicting where the health crisis takes the economy, our focus is on the things that will enable us to withstand whatever size credit storm materializes and also on those things that will put us in a position to succeed once we have more clarity on the operating environment. From a financial perspective, we outlined those items on Slide 5. Our capital and reserve position is strong, ranking in the top quartile among our KRX peers in the Q1. Our pre tax pre provision ROA is also strong, ranking in the top 20% of our KRX peers in Q1. We have significant liquidity driven by one of the best and lowest cost core deposit franchises in the Southeast. So financially, we believe we are well prepared. We're also in some of the best markets in the country, which we believe will both perform better during the COVID recession and will also rebound faster once the pandemic ends. As you can see on Slide 6, we now have a presence in 13 of the fastest growing MSAs in the Southeast. And while the slide doesn't show it, our ability to support that growth is supplemented by strong shares in some very stable rural markets within our footprint. We're also proud to have taken steps to support our communities by establishing a United Community Bank Foundation this quarter. We funded the foundation with $1,000,000 and we look forward to helping deserving causes and organizations throughout our footprint. But the real strength of United is our team. During the Q2, they set a new record in loan production. They welcomed nearly 4,000 new customers to United. And while doing that, they were recognized by J. D. Power for having the highest level of retail customer satisfaction in the Southeast, and that's the 5th time in the last 6 years they were recognized in that fashion. I couldn't be more proud of this team. And for those of you that are listening, I couldn't be more fortunate than to be here working alongside each one of you. And I'd like to now turn it over to Rob and Jefferson for more details on the quarter. Thank you, Lynn, and thank you for being on the call today. I'm going to start my comments on Page 7. During the quarter, our loan portfolio grew by $1,200,000,000 Now $1,100,000,000 was PPP loans and $103,000,000 in normal loan growth that amounts to a 5% annualized pace. While our growth came in the owner occupied and investor CRE categories, our 103100 ratio still remains very low at 72197, respectively. Moving on to credit quality on Slide 8, our net charge offs were improved from last quarter at 25 basis points. The losses this quarter were primarily driven by 2 credits. These credits were already struggling pre COVID and had been rated substandard for the past year. However, the additional stress from the COVID environment did push them over the edge. On Page 9, we show a deeper dive for you on the Navitas credit portfolio. The Navitas loan book represents 7.5% of our total loan book. We had a normal amount of charge offs in 2nd quarter at 87 basis points. Navitas is a national business making loans for the specific purpose of purchasing equipment and software for the expansion or the improvement of small businesses. As of June 30, there were about 31% of Navitas loans in deferred status. On the right side of the page, you can see the 5 largest business categories and the deferral amount within each of those categories. In the Navitas deferrals, we ask for at least a modest monthly payment or what we call a touch payment and we are getting these touch payments from nearly all or 98% of our deferred loans. It's important to keep in mind that the standard process for loan payments at Navitas is to be on an automated ACH draft. So since June 30, we are seeing many of these 90 day deferrals coming off of their deferral period and starting to make full payments. Specifically, the July 10 billing cycle has $49,000,000 in formerly deferred loans where a full payment is now due. We have received a full payment on $44,000,000 of those deferred loans or on a percentage basis, 89% of the formerly deferred loans with payments due on July 10 have now made full payments. While we do not know if this trend will continue, we are encouraged by the amount of Navitas customers going back to making full payments. On Page 10, the loan deferrals in total were $1,800,000,000 as of June 30. This does include the Navitas deferrals that we just talked about from the prior page. The majority of the bank deferrals will be expiring in July and we are working closely with the customers to assess the impact of last quarter's economic environment and the return to full payment or possibly if a second deferral is warranted. We have some optimism that the deferrals at United and Navitas will be down significantly in Q3, but there is a lot of uncertainty as communities reopening process. On Page 11, we included the same information as we did last quarter on the hotel and the restaurant exposures. Each portfolio remains at about 3% of our loan book, excluding PPP loans. Specifically on hotels, we have studied the top 65% of the portfolio, about $230,000,000 in commitments. Our underwriting typically yields a breakeven at 50% occupancy. We have $58,000,000 committed that are under construction and $175,000,000 in operating properties. The weighted average occupancy of the operating properties as of June 30 was 48%. We have been told that occupancy rates are climbing and we do plan on continuing to closely monitor this portfolio. On Page 12, we look at the reserve and the reserve building that we did during the quarter. The allowance to credit losses increased by $27,000,000 and is now at 1.28 percent of loans, excluding the PPP loans and up 77 percent from year end in dollars. We do expect the allowance to build next quarter as a result of the double dip provision from the Seaside acquisition that occurred on July 1. With that, I'll pass it over to Jefferson. Thank you, Rob. I am going to start my comments on Page 13 and capital. We raised $100,000,000 of preferred equity in the quarter and you can see the growth in the Tier 1 ratios because of it. We also raised $100,000,000 in senior debt that further enhanced our liquidity at the holding company. Our capital levels are now at historic highs for the company and remain in the top quartile for the We have $63,000,000 in senior debt and TRUPS that we could call this year depending on the environment. And for now, we are planning to hold the capital as we keep an eye on the economy. The net interest income on Page 14 was down $9,000,000 from Q1 to Q2, dollars 5,000,000 of which was due to lower accretion as we had unusually high accretion in Q1. On the margin, we had 65 basis points of compression in the quarter, of which 18 basis points came from the absence of the unusually high accretion in Q1. For the remaining 47 basis points of margin pressure, we had a combined 15 basis points of headwind from the surge of liquidity in the form of $1,700,000,000 in core deposit growth and from the addition of PPP loans. For Q3, there are a lot of moving parts in the margin to think about. 1st, Seaside is coming in at a lower margin than we currently have. 2nd, we expect our cost of funds to improve as CDs mature and we have been lowering other deposit rates well. 3rd, we have a 3 basis point headwind from our debt raise and we have become more liquid as we have moved into July versus the Q2 average. 4th, we're also planning on putting cash to work in Q3. This all excludes any impact from PPP fees and any impact from C side rate marks, which both should have a positive impact. On the right side of the slide, I mentioned core deposit growth in the quarter. It was tremendous at $1,700,000,000 well over and beyond the impact of PPP. We were also very pleased with our fee income result this quarter, up $14,400,000 from last quarter. The main driver of the increase is our mortgage business, up $15,300,000 versus last quarter. While our 2nd quarter mortgage fees were significantly higher than Q1, we actually had a similar amount of rate locks at $800,000,000 in both quarters. That said, Q1 had a $4,600,000 MSR write down and Q2 had a $1,800,000 write down, so there was a $2,800,000 positive swing there. There was also a big swing in the gain on sale in Q2 as the market to sell loans improved from quarter to quarter and included a $6,000,000 positive swing in the value of our loan pipeline. We believe that the $6,000,000 swing will not be repeated in Q3, but our volumes and gain on sale look very strong early this quarter. Other notable items in fee income were service charges down $1,600,000 or 19% from last quarter driven by the pandemic and lack of economic activity especially early in the quarter. We had an unusual BOLI gain of $1,100,000 in the quarter and a $1,600,000 CVA to reserve for possible losses in our customer derivatives business. On Page 16, we give you some more detail on our mortgage business. Of course, the environment is very good right now, but we believe we are taking market share in the business. Our number of originators relatively flat over the last 12 months, but we have also been upgrading talent in our originator pool, which is one of the main drivers why you're seeing such an increase in the originations per originator figure. Skipping ahead to total expenses on Page 20, they came in $2,900,000 higher than last quarter at $83,600,000 The main reasons for the increase is $1,400,000 from higher mortgage commissions and $1,000,000 from our contribution to our new foundation. I will finish up on Page 22 with a quick reminder and update on Seaside. We feel very good about where we are in the combination. We have updated our expectations and given you some more information on where we think the marks might land. The marks are higher than our original expectations on March 9 when we announced. I'll give you the caveat that they continue to change based on market conditions and rates. With that, I'll pass it back to Len for closing comments. Thank you, Jefferson. We are very excited to have completed the legal closing of our partnership with Seaside, which adds new wealth management and insurance businesses, approximately $2,100,000,000 in assets and 14 locations in Florida's top growth markets to our now 5 state footprint. I'm also thrilled that Gideon Haymaker, Founder of Seaside, will remain with United as both President for the State of Florida and the leader of the expansion of Seaside's wealth management offering throughout the United footprint. Our M and A strategy is based on partnering with banks that will make us better by moving us into new markets or adding new products, not just making us bigger. We know that success is determined by shared cultural values. And without question, we and Seaside are aligned on the commitment to service, the commitment to be a great place to work and the commitment to be a top performer. Seaside has a tremendously talented team of bankers and our combined banks are better together. So welcome to the team, all of the Seaside family. And with that, I'd like to open the line to take your questions. Ladies and gentlemen, we will now begin the question and answer session. Your first question comes from the line of Michael Rose of Raymond James. Your line is now open. Hey, good morning guys. Thanks for taking my questions. Just wanted to start on mortgage this quarter, obviously an exceptional quarter. Just wanted to see where pipelines stood now and it seems like most other banks that have reported would expect some degradation in the gain on sale margin. Just wanted to see how you guys are thinking about mortgage as we move over the next quarter or 2? Thanks. I'll start on this is Rich. I'll start on kind of the pipeline. We're looking at Q3 pretty similar to Q2. And then from industry data, it looks like Q4 might be 15% down. But Q3 and Q2 from a production standpoint should be pretty similar. Yes. The gain on sales are remaining strong. Just from our prepared remarks, the gain on sale was unusually high in Q2 because of the reversal of the valuation of the pipeline. So you won't have that repeat. But besides that, the mortgage business is continuing at a very strong pace in Q3. Okay. And excluding PPP and the addition of the Seaside loans, how should we think about core loan growth as we move forward? Obviously, you guys have brought on some people over the past couple of quarters, but I would expect that there'd be some pay down and not that you guys are huge revolvers out there, but I expect that would be a little bit of a headwind, Some stronger borrowers may be paying down some balances. How should we think about core loan growth in the near term as we move forward? This is Rich again. I feel good about the current pipelines. We are enjoying some PPP tailwind. We had it's important to note, we had roughly 1800 PPP customers that were non customers. And so we have been aggressively going after that loan and deposit business. Business owner confidence overall, now certain segments are certainly down, but overall is higher than I would have expected. And then lastly, the large and regional banks have kind of pulled away from our target market size of that $2,500,000 to $20,000,000 loan sweet spot. And so we're feeling pretty good about it and we'll continue to monitor COVID and the impact. Okay. And then maybe last one for me. How are you guys thinking about just the timing of payoffs or from the PPP loans in terms of forgiveness? And what kind of percentage you guys thinking at this point will be forgiven of the loans that you guys made? Rich, do you want to? Sure. I'll talk about that. So, one of the hot topics in PPP land today is the forgiveness of debt for loans under $150,000 Secretary of Treasury, Mnuchin, has mentioned in 2 recent hearings that he is pushing for that to be forgiven. We have 2 senators that have introduced a bill, Haven't seen much movement in Congress because they're in recess, but we are anticipating that in Q3 or early Q4, we'll see the $150,000 under forgiven. And for us, that's 83% of our loans. So probably we're expecting 75% forgiveness of debt in this calendar year and then the remainder of the following year. Okay. Thanks for taking my questions and happy birthday, Jefferson. And it's Rob's birthday tomorrow. So we've got double birthdays here. Next year you can offer him. Your next question comes from the line of Brad Meltzer from Piper Sandler. Your line is now open. Hey, good morning, guys. Good morning. Good morning. Jefferson and Lynn, I appreciate all the color and Rob as well. Just kind of curious on the reserve build that did occur in the quarter. I appreciate you've got more coming down the pipe with the acquisition, but it still seems your reserve will end up on maybe the lower end versus peers. Can you just talk a little bit about what you see in the back half in terms of provisioning and kind of where you could see the reserve going in the second half of the year? I know there's a lot of moving parts and nobody has a crystal ball, but just wanted to kind of get some additional commentary there around the reserve and provisioning. Yes. So this is Rob, Brad. And I would just say, probably the best way to think about it is the economic assumptions play a stronger role in CECL than they did historically, as you're aware. And the economic assumptions that we used in Q2 were worse than the ones we used in Q1, so the reserve build was greater. It's hard at this point to really predict where the assumptions are going to go in the future. So it's difficult to say that it's going to be up or down from here. And of course, the performance will have a lot of loans rolling off of deferral status and being looked at closely. And of course, that could also play a role in how we think about the reserve build in the latter half of the year. Okay. And then Jefferson, maybe switching gears to PPP. I was curious if you had the average amount of PPP loans for the quarter and then the actual dollar amount of contribution from PPP in the quarter? Yes. So the average balance of PPP loans in the quarter was $800,000,000 and we had $3,700,000 of fees that rolled through in the quarter and we have $38,000,000 of fees left to roll through. Okay. Were any of that did you have any FAS 91 kind of deferred origination costs that impacted expenses in the quarter related to the program? Yes, so we did. So we had with the very significant originations that we had in the quarter, the FAS ninety one helped expenses by about $1,900,000 Okay. And then just as a reminder, you guys show your mortgage revenue net of commissions, right? So that's a net number or is that incorrect? No. The commissions our commissions come through the expense line and the fees go through the mortgage line. Because if you look at the numbers, those commissions did negatively affect our expense line this quarter by about $1,500,000 Got it. Helpful. All right. Thank you, guys. Your next question comes from the line of Jennifer Demba from SunTrust. Your line is now open. Thank you. Good morning. On the hiring, just wondering if you could give us an update on the talent you added during the Q2 and what your bias is on hiring over the next 2 or 3 quarters right now? Thank you. Hi, this is Rich. We hired at the very end of first quarter a lift out in Atlanta from Truist and that was a total of 6 people and that's part of the reason we feel good about the pipelines. We are seeing that tailwind. In terms of C side, we are investing in C side. We are looking at the mortgage opportunity there and hiring MLOs. We see an SBA opportunity there. We see a CRE opportunity there because they do a lot of C and I. So we really see a CRE opportunity there. So that is what we're looking at presently. And then we are continuing to have conversations and we are replacing people in the existing United footprint, but we're a little cautious in trying to figure out where we are in COVID before we invest a lot more and particularly it's the same questions you have on where we end up on the deferrals. That's very helpful. One more question on credit for Rob. You talked about most of your hotel loans having a breakeven occupancy of around 50%. Do you have an average occupancy rate for your hotel portfolio as of today? And what the range is kind of best to worst? So we've looked at $230,000,000 of the $305,000,000 in a pretty close study. 6 of those, or I think I said $58,000,000 are in construction. So there's no occupancy there. We did look at $175,000,000 so 19 properties that we studied of the $305,000,000 the weighted average occupancy is 48% on those. Your next question comes from the line of Catherine Mealor of KBW. Your line is now open. Thanks. Good morning. Good morning. One follow-up on deferrals. Rob, the color you gave around the Navitas deferrals are really helpful. If we think about the deferral trend outside of Navitas, is can you give us any kind of anecdotes or thoughts on what you're seeing so far through the month of July? And just to kind of gauge how much of these deferral do you think will ask for a second 90 day modification? Thanks. Yes. So we are at that point just within a few days where a lot of deferrals are, if you will call it maturing. The challenge with looking at the bank deferrals, if you go back to my comments on Navitas, Navitas basically sets all of their customers up to fit into 1 of 4 billing cycles. So it's either the first, the 10th, the 15th or 25th. And so you can look at we look in my comments, I talked about the July 10th billing cycle. So that there's actually a pretty large group of people in that segment enough to kind of get a sense. And so that was what we talked about. On the bank side, it's one of, I guess, 20 days, actually probably 30 days of where a payment could be made. And so you don't have that aggregation into a pool of behavior that you're able to study. So that's sort of why it gets to be a little bit difficult. But I will tell you, we are tracking those customers that are making payments. And through the 15th of the month, we are seeing that number increase pretty dramatically. I'm kind of reluctant to put it into a percentage like I did with Navitas just because there isn't enough of a single pool to give us any indication. But we are seeing the payment full payment increase as we go into July. Okay. Yes, that's helpful. It makes sense. And then a follow-up question on the margin. Jefferson, I know there are just a ton of moving parts as you highlighted in your remarks. If we just kind of take PPP out of it and just think about the core margin outside of PPP, do you think directionally you're still at a bottom here? Or is there still just an impact from liquidity and lower loan yields that still could push that lower before it starts to rebound? Yes. So I think lower is the number and here's the let me give you a few things as to why. First of all, our ending balance sheet was about $700,000,000 larger than our average balance sheet. So that surge of deposits that came in haven't fully gotten into the average balance sheet yet. So just sort of rolling that forward, that's an impact of 10 basis points down. Now you have a $700,000,000 larger balance sheet, so it's a net positive on NII. You have the negative impact of the debt which is about 3 basis points. On the deposit pricing, we've been pretty aggressive on deposits. We have $400,000,000 coming due at $170,000,000 or so on CDs and our highest CD price out there is in the 20 basis point range. So we should get about 8 basis points of positive margin enhancement from the deposit pricing. Then you have the Seaside piece coming in. Seaside had a 2.70 margin last quarter, 2.70 range margin last quarter and just layering them in is accretive to EPS, but it's 15 basis points negative to the margin. So then you get back 10 basis points over time as we invest the excess liquidity. We have accretion coming in from Seaside which will enhance it and then we have the PPP fees that should help as well. Great. Really super. Thank you so much. Your next question comes from the line of Kevin Fitzsimons of D. A. Davidson. Your line is now open. Hey, good morning, guys. I know there's been a lot of discussion about deferrals. I just want to make sure I didn't miss this that and I know a lot is changing in the month of July. But so the way I understand it is Navitas is 30% deferred and the entire bank is 17% deferred as of June 30. Can you give what those same ratios are as of mid July? And I'm assuming the whole bank would include Seaside in that as well, if you're able to. Yes. So this is Rob. We're not I don't have the mid July non deferred or previously deferred and now having made a full payment number for you? Sort of back on Catherine's comments, just as too early to be able to give that kind of information. I can tell you though that the $200,000,000 deferred from Seaside is not in the $1,800,000,000 So the $243,000,000 so if you think about deferrals as of June 30, you've got $1,500,000,000 of call it United Bank deferrals and then you've got $240,000,000 of Navitas deferrals. So that's where the $1,800,000 I think it's $1,770,000,000 or something is the number, but that's where that number comes from. And then we'll be bringing over the seaside numbers are not in our June 30 numbers. Got it. That's helpful. Thank you. And one question on the reserve. I know you guys have made the comment about adjusting for PPP. But what about, just in terms of taking into account past acquisitions and discounts you have on those loans? Is there a way or an adjusted version of or higher version of that reserve ratio we should be thinking of? So I didn't bring that number in with me. I can circle back around on any marks that might be surviving from that. Yes. So there would be some interest rate marks that survive from that still. But the credit marks, when you transition to CECL, they change. Got it. And just a general question with there's been obviously a lot of press recently about Florida and COVID-nineteen. And just curious, I'm sure you're looking very closely at Seaside's markets and how those are holding up, just any top level observations you've had? No. I mean, I think it's very similar to what we're seeing in Georgia and South Carolina. And in terms of the business activity, the customers that you would have thought were of concern before the little flare up still are and there's not been any significant change. And you got to remember too, Seaside is primarily a wealth management focused company, primarily C and I focused. We've been very impressed. We've had 3 of their credits already come through credit committee, pressed not only with the quality of the client base and the significant resources that they have, but also with the client advisors themselves. I mean, Gideon's built a team that's very experienced, been in those markets forever, and you can see that in the customer selection. So we don't have any different kind of view in terms of the recent flare up that's kind of coming on in the Southeast than we did beforehand and continue to feel really good about the Seaside operation. Okay, great. Thanks guys. Your next question comes from the line of Christopher Marinac of Janney Montgomery Scott. Your line is now open. Thanks. Good morning. Trevor, so I wanted to ask about liquidity just from another angle. Is there a level that's too high that you need to manage to? I know it might sound strange at this point of the pandemic, but just curious if it's too much liquidity as you manage deposits and what sticks around in the future? Yes. I don't know if you ever have too much liquidity, but we sure have a lot right now. We target to having $50,000,000 to $100,000,000 overnight at the Fed. We're at a $1,000,000,000 right now given the $1,700,000,000 of core deposit growth that we've had this quarter. We also raised $200,000,000 of debt and equity this quarter. So there's a lot of definitely a lot of cash there. We had some use of that cash right away when we purchased Seaside where we have $300,000,000 that we either have or will and pay down in their wholesale debt. Now from here, we're going to keep extra liquidity as we watch COVID play out and we see if there's a reversal of some of these deposits that have come in. But we also at the same time have a plan to put this liquidity to work and have it earn more than 7 to 10 basis points for us. So we're glad we have it. I don't know if there is a max, but it does present a nice opportunity for us to enhance our margin and our earnings over time. Okay, great. Thank you for walking us through that. And then Lynn, you mentioned at the outset of of the call about the new hire and the team in Atlanta. What's the pipeline for that, whether it's in Atlanta or really any other city within the footprint? Go ahead, Rich. Yes. Hi, this is Rich. So yes, we're really happy with the team in Atlanta. As I mentioned earlier, Seaside's really looking to invest there and we're looking at the opportunities again of MLOs, mortgage, SBA and presently CRE and then we're being opportunistic in our other markets. And but we are having discussions and continue to have discussions in terms of when we get past, we feel the COVID-nineteen impact. Great, Rich. Thank you very much guys. Appreciate all the information today. Sure. Thanks. There are no questions from participants online. Sir, you may continue. All right. Well, great. Well, thank you all very much for joining the call. We appreciate the questions. And if you have any additional ones, feel free to follow-up with us directly. And with that, I hope you have a great day. Thanks. That does conclude today's conference call. Thank you for participating. You may now disconnect.