Earnings Call: Q3 2019

Oct 23, 2019

Good morning, and welcome to United Community Bank's Third Quarter 2019 Earnings Call. Hosting our 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 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 3rd quarter's earnings release and presentation were filed last night on Form 8 ks with the SEC and a replay of this call will be available at the Investor Relations section of the company's website at ucbi.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 4 of the company's 2018 Form 10 ks as well as other information provided by the company in its filings with the SEC and included on its website. And at this time, I will turn the call over to Lynn Harton. Good morning and thank you all for joining our call. We're pleased to report another great quarter, which is a continuing testament to the strength of the teams here at United. For the quarter, our operating return on assets reached 158 basis points, which beats last quarter to become the best in our history. And once again, we attained our goal of top quartile financial performance. Our operating earnings per share reached $0.63 an increase of 14.5% year over year and an increase of $0.04 over last quarter. Our net interest margin remained stable despite declining rates and both loan and deposit growth were in line with expectations. Credit results remain solid and the strength of our deposit base continues to give us a foundation for ongoing outperformance. We also continue to invest. If you have a chance, I'd like to invite you to visit our new website. For the last couple of years, we've been investing in digital customer acquisition tools. We've added online mortgage processing, deposit account opening and now small business and consumer lending online. We've also been testing what we call digital micro marketing campaigns, which is basically testing our ability to give clients a click through option to do more business with us. As those tools have progressed, we also planned on updating our online presence to reflect a more action oriented posture. And I'm very pleased with the result and we are continuing to invest and extend our brand digitally. I was also particularly pleased this quarter that United was again recognized by American Banker as one of the best banks to work for in the country. Of all the recognition we receive, this is the most important one. If we're a great place to work for great people, performance will follow. And that's what we see once again this quarter as our teams delivered great results across the board. So Jefferson, why don't you fill us in on the details? Thank you, Ann. I will start on Page 8 to discuss our net interest margin and income trends. Our net interest income increased 5% annualized versus the last quarter and increased 6% year over year. Spread income growth did benefit from the full impact of First Madison in the numbers versus a 2 month impact last quarter. Our net interest margin stayed flat at 4.12 percent of which we had 3 basis points of lower core margin offset by 3 basis points of higher accretable yield. On the purchase accounting, we had an early payoff on an acquired loan that drove the increase versus the last quarter. I would expect the 15 basis points of NIM benefit we got this quarter to be closer to the 9 basis point range in Q4. The core net interest margin held in better than The core net interest margin held in better than expected this quarter as we had more than expected positive mix change in the form of strong deposit growth and continued mix change towards loans from securities. The full remaining impact of the September rate cut should take 6 to 8 basis points from our core margin in Q4. Page 9 highlights our deposit base, which we view as a differentiator for us and a core strength of our bank. Our cost of deposits did come down 2 basis points to 63 basis points in the quarter, which was a little better than we expected. Perhaps even better on Page 10, our core transaction accounts grew $105,000,000 and once again funded more than all of our loan growth and was a key driver to the mix change that drove our strong margin. The core transaction account growth has been strong for us all year as you can see in the chart. On Page 11, you can see our loan portfolio breakout which is very diversified. Excluding the runoff of our indirect portfolio, we had a 4% annualized growth rate in Q3. As expected, pay downs normalized a bit higher in Q3 as we said we thought they might on last quarter's call, even as we enjoyed significantly increased loan production levels. On Page 12, we look at fee income, which was another bright spot for us in the quarter, up $4,500,000 versus last quarter. The main driver was mortgage as we set almost every record that we have in that unit. Rate locks were $508,000,000 up from what had been our record of $390,000,000 last quarter. Also benefiting the mortgage result was that we had about $700,000 in less MSR mark this quarter versus last quarter. Expenses on Page 13 were $80,300,000 just higher than the guidance I gave last quarter of $79,500,000 with the main difference being $700,000 in higher mortgage commissions. Lastly, on expenses, we are also proud to have set a new corporate mark for operating efficiency ratio at 53.9%. Credit quality on Page 14 was stable at very low levels and our $3,100,000 provision more than covered the $2,700,000 in net charge offs. I will finish up on Page 15 of capital. As you can see our capital ratios grew nicely in the quarter and we also bought back just under 200,000 shares and we have $37,000,000 remaining on our authorization. With that, I'll pass it back to Len. Great. Thanks, Jefferson. And now we really just like to open it up for questions. Thank you. Our first question comes from the line of Brad Milsaps with Sandler O'Neill. Your line is now open. Hey, good morning, guys. Good morning. Good morning. Jefferson, I appreciate all the color. Just curious if you could maybe talk a little bit about your outlook for the NIM a little bit more. Obviously, the core NIM held in fairly well this quarter, benefiting from the mix change, etcetera. Just kind of curious what your thoughts are there as you kind of move out over the next several quarters, particularly if we get additional rate cuts? Yes. Thanks, Brad, for the question. I'll start with the accretable yield piece of it. I mentioned in the prepared remarks that kind of 9 basis points was sort of the base, but we are seeing and we're getting to the end of a lot of these pools. And so these positive surprises are popping up more and more often. So it does feel like an accretable yield that 9% is the base and but it does seem like in any given quarter we're more than likely to be higher than that 9%, but it's just hard to predict. On the core margin, I did mention down 6% to 8%. That's given what is happening with LIBOR since quarter end. So in a way, it includes a piece of a potential rate cut this quarter. I do think that 6% to 8% is a good range for Q4. That does have basically one rate cut in that number. For next year, I mentioned last time that I thought that each rate cut was 5 basis points to 8 basis points down and I still think that's probably a good range. Great. That's helpful. And Jefferson, just to maybe follow-up with one more on the fee side of things. Just kind of curious how you're thinking about your specialty businesses being SBA and then Navitas in terms of retaining that production or selling it. I know you've have historically sold the SBA, been retaining a little bit more, have had thoughts of maybe selling some of the lease equipment production. Kind of curious where you are in that process and kind of how you're thinking about it in the realm of sort of what's going on in interest rates, etcetera? I can start on that. Rich will probably have something to add on that maybe. On the SBA business, we had started this year deciding to sell half and keep half of that production. We have seen an increase in certain gain on sale rates, which makes it enticing to sell a little bit more of that, especially in a down environment possibly, but we are for now anyway we're sticking with that fifty-fifty strategy. With Navitas, we have a target or not a limit I should say of 10% of total loans being Navitas loans. We're decently below that now and we are going to start selling Navitas loans starting in the Q4. We talked about selling them this quarter, but I would expect to see loan sales starting in the Q4 and some gains coming off of that starting this quarter and into next year. Good morning, Brad. This is Rich. And I'd like to add, we have seen the 10 year paper pricing come up pretty materially. And so we are not selling some of our lower priced 25 year paper and instead selling the higher priced 10 year paper with the goal still of holding about half. Got it. And Jefferson, on the Navitas gains, would those approximate something similar to an SBA loan sale gain or just kind of curious what types of premiums you can get there? I would say 4% or greater on Navitas sale gains. That's what the market is currently. Okay. And you'll just operate under that 10% kind of target, is kind of where you want to be? That's right. Okay. All right. Thank you, guys. I'll hop back in the queue. Thank you. Our next question comes from the line of Catherine Mealor with KBW. Your line is now open. Thanks. Good morning. Good morning. I wanted to circle back on the margin. I mean, the loan yield stability was really incredible to me with your core loan yields down. I think only about 4 basis points, just given how much of your loan book is variable rate. Was there any kind of one time maybe higher loan fees in there that kept that high? And how are you thinking about your kind of core loan yields repricing down with LIBOR still moving lower? Thanks. Yes. So the loan yield piece of it, the main differentiator was the just the accretable yield in there. Ex accretable yield, it did hold up relatively well. There was some of the biggest growth in that in there that helped it hold up. Going forward, as rates come down, I still think you're going to be looking at on a rate cut loan yields being down kind of 8 to 10 basis points on rate cuts. Okay. 8 to 10 bps per quarter? Per cut. Per cut, got it. Okay, got it. And actually that 4 now that I'm looking at that 4% decline does include the accretable yield. So it was a little bit lower than that. That's right. And then on the deposit side, can you give us any view into what deposit cost did on a monthly basis through the quarter? I can do that maybe with some portfolio. So the I guess I've been focusing in on the CD portfolio. CD portfolio, we have been cutting rates in that CD portfolio. Our cost there is 170. Dollars New adds in September for the CD portfolio was $145,000,000 We have $180,000,000 I'm sorry, we have 300,000,000 coming due in the Q4 at about 1.8% and that should be moving down to that $145,000,000 150,000,000 So from a monthly perspective, I've been focusing on that CD portfolio. We have seen the rates of each of our portfolios coming down as we've been lowering rates. So CD is where we're seeing the kind of the apex and the turn and we are seeing lower rates throughout the quarter across all the categories. Great. Thank you. That's helpful. Great quarter. Thank you. Our next question comes from the line of Christopher Marinac with JMS. Your line is now open. Good morning. I wanted to talk about credit trends and kind of what's happening on classifieds any emerging issues that Rob sees or even that Rich sees from customers? So, this is Rob. I would say we're not seeing any specific trends. You do see, I would say our asset quality numbers historically have been very low for a bank with general commercial lending type portfolio like ours. And so I would expect some normalization to occur. We did have an uptick in just a small uptick in our non accruals, but the largest category for the quarter was mortgage. When we look at past dues and non accruals together in the mortgage book, they were flat quarter over quarter. And we didn't have any new non accruals in the quarter greater than $500,000 So it feels relatively stable. We do see we're sensing what everybody is that there's more noise economically about the future than there has been historically, but we're not seeing any significant or noteworthy trends in the clients and I'm still hearing a little more caution than before. So nothing specific, but a little bit more noise. And Rich, are there any businesses that you may be deemphasizing or perhaps not pushing as hard as you would have before or any more specific on types of things that you like versus dislike? Sure. Well, one area that we're very focused on concentrations. And so one area that we are kind of at a time out, if you will, is hospitality. So that's one particular area. And then one of the areas that we are hearing some noise on is transportation. So we're very cautious on that as well. Okay, great. Thanks very much guys. Thanks, Chris. Thank you. Our next question comes from the line of Michael Rose with Raymond James. Your line is now open. Hey, guys. Just wanted to talk about Navitas a little bit. I think when you guys brought them on, the loan yields were somewhere in the 9.5% range. And I think as we talked about a little while ago, Jefferson, those yields didn't get the benefit as rates went up, but conversely have held pretty steady as rates have come down. And I know part of that is you've expanded a little bit into the middle market. So can you just give us kind of a broader update on Navitas and how we should think about yield trends and growth from here? Thanks. Yes, I can start with that and we can the others might want to join on there too. So you're exactly right. So when we bought Navitas, it was 9.5% yields. Rates went up and we felt a little bit of margin squeeze in that business, although the overall bank benefited. And now as rates are going down, we still have a 9.5% yield at Navitas, but we're seeing a wider margin within the Navitas business. So it's a good thing to have in a falling rate environment for sure. We have seen originations increasing there. We are our middle market business, we're not doing the middle market business anymore. That is a business that we were had moved into. We were seeing lower yields. We had seen a it was more purchase loans that we wanted to see. It was more syndicated loans that we wanted to see. It was more in pools. And so we exited that business and went back to the core business there. Still, I would expect to see we want to keep that underneath 10%. We this should grow at a faster than 10% rate. So hence you will see sales of Navitas loans in 2020. Okay. That's going to be my follow-up question. So that's very helpful. So as we think about next year, and I think you guys are kind of on track to hit the mid single digit loan growth outlook. On the one hand, you're going to be selling some more Navitas loans, as you mentioned. I think there's a general sense of caution out there from customers. I know you guys are cognizant of structure and price, which seems to be getting a little stretched here. But you also hired some people, right? And I think in prior quarters, you've talked about the opportunity set there. So is mid single digits as we move into next year kind of counterbalancing all those factors, the kind of the right way to think about the growth rate for you guys? Thanks. Michael, this is Rich. I'll take that. So the answer is yes, mid single digit. We feel good about that. As we move into next year, we've had 26 hires this year to date, 7 this quarter, feel that there'll be a few more in Q4. And with the current momentum, the pipelines and what's going out in the marketplace, including Truist, we feel good about next year, very optimistic. Okay. And maybe one final one for me. It looks like it was brought up earlier, deposit costs have kind of peaked and are on their way down. You guys have had some good mix shift with broker coming down. You still got a really low loan to deposit ratio. What's the flexibility or incentive to push on the gas a little bit here as it relates to reducing at least posted rates? Thanks. Yes, thanks. I think the low loan to deposit ratio gives us a little bit of extra cushion to be able to be more aggressive in CD pricing especially. And so what we can do here and what we are doing is we've lowered CD prices probably 4 times since rates have started coming down. And we've actually still been seeing decent growth in CDs even though we've been lowering rates. And so now that we have our wholesale funding, now down to where it's going to come off at a much more slow pace, we are pressing the gas a little bit on lowering CD prices. So I think a big piece of what you'll see this quarter and next quarter is that CD rate and the CD cost for us start to turn the corner and start to move down. So we are pressing that gas pedal pretty hard. So if I read that right, it sounds like maybe the NIM guide for future cuts may be a little conservative. That's what we that's what I hope. All right. Thanks for taking my questions, guys. Thank you. Our next question comes from the line of Kevin Fitzsimons with D. A. Davidson. Your line is now open. Hey, good morning everyone. Good morning, Kevin. Good morning, Kevin. Jefferson, I just wanted to clarify the commentary on the core margin coming down 6% to 8%. Is that assuming an additional one cut in Q4? Or is that just the flow through of the September cut? So it's a little bit of a combination because what we have is the full impact of September cut with the partial impact of with an October 31 cut, because we have seen LIBOR coming down anticipating that. We have $3,000,000,000 of loans that are floating with LIBOR. So we're starting to feel the impact of a 4th quarter cut already. So it's a little bit of a combination. So we did get a cut. There might be again 2 or 3 basis points of downside to that. Great, great. Thank you. And then if I could just ask if you guys could update us on how you feel about buybacks going forward and about traditional bank M and A, whether that's something that you think is more or less likely to determine the environment? Thanks. Yes. So Kevin, this is Lynn. I'll start with the M and A side. It's always really hard to predict. I mean, we're pretty disciplined on which markets we want to go into, etcetera and really disciplined around the cultures, particularly around credit and customer service culture. With that said, we actually right now have got several conversations going on with companies that would fit. And so the question is, will our price expectations meet up? So if pricing meets up, I'm optimistic that we'll have some opportunities over the next several months. But if it doesn't happen, then we feel like we've got great momentum here, great levers to pull in the event that doesn't happen. And with that, I'll turn it over to Jefferson. On the buyback, we put the I think if we have the ability to put it to work in M and A, we prefer that. With the buyback, with our increased profitability and our now 10% TCE, If one of these deals do not come to fruition, then I think we would be more aggressive buyers of our own stock in 2020. So it's there and we're ready to be more aggressive with it if M and A doesn't work out. Okay. Thanks guys. Appreciate it. Thank you. Our next question comes from the line of Tyler Stafford with Stephens. Your line is now open. Hey, good morning guys. Good morning. Hey, Jefferson, I just wanted to see if you had any thoughts on CECL expectations as we roll to 2020? Yes. So for CECL, we feel pretty good about we feel very good about where we are. We've just completed our 3rd parallel run. We feel very confident about our process. The reserve increase will be in a range that I've seen other banks put out there. So I don't expect any surprises from our CECL numbers. Also there is a minimal impact to capital with CECL and with the scenarios that we are using now. We expect to provide more detail on our numbers before year end. So no surprises and stay tuned for the numbers coming more specifically before year end. Okay. All right. Thanks for that. And then just the rest of my questions have been asked and answered. Just one more on expenses. Obviously, you guys have done a tremendous amount of hiring this year. And I appreciate the $700,000 you called out earlier that related to the mortgage commissions. Just any thoughts on kind of 4Q expenses and then kind of run rate expense growth beyond that just given a tough revenue backdrop? Any thoughts on just overall expense growth? Thanks. Yes. So I would say flat to slightly higher on expenses in Q4. And for 2020, we're still in the budget period and so I don't have a great run rate for you for next year. Operating leverage is very important to us. It's something we're going to put into our budget and it could be a tough revenue year for sure. But again, operating leverage is very important. But I don't have expense guidance for 2020 at this point, but I will say flat to slightly higher in Q4. But Jefferson, you would expect positive operating leverage in 2020 is what you're saying? I do expect to budget that depending on how many rate cuts you're going to put on us on the environment. It might be very hard, but we are in the business of creating operating leverage here at United and that's what we will budget for. Excellent. Thanks, Jefferson. Thank you. This concludes today's question and answer session. I would now like to turn the call back to Lynn Horton for closing remarks. Great. Well, thanks once again for your interest and support of the company and appreciate your time on the call today. Thank you so much. Ladies and gentlemen, this concludes today's conference call. Thank you for