Associated Banc-Corp
Q2 2015 Earnings Call Transcript

Published: 17 Jul 2015

[Operator:]

Good afternoon, everyone and welcome to Associated Banc-Corp’s Second Quarter 2015 Earnings Conference Call. My name is Manny and I will be your operator today. At this time, all participants are in a listen-only mode. We will be conducting a question-and-answer session at the end of this conference. Copies of the slides that will be referenced during today’s call are available on the Company’s website at investor.associatedbank.com. As a reminder, this conference call is being recorded. During the course of the discussion today, Associated management may make statements that constitute projections, expectations, beliefs or similar forward-looking statements. Associated's actual results could differ materially from the results anticipated or projected in any such forward-looking statements. Additional detailed information concerning the important factors that could cause Associated's actual results to differ materially from the information discussed today is readily available on the SEC website in the Risk Factors section of Associated's most recent Form 10-K and any subsequent SEC filings. These factors are incorporated herein by reference. For a reconciliation of the non-GAAP financial measures to the GAAP financial measures mentioned in this conference call, please see the press release financial tables. Following today’s presentation, instructions will be given for the question-and-answer session. At this time, I would like to turn the conference over to Philip Flynn, President and Chief Executive Officer, for opening remarks. Please go ahead, sir.

[Philip Flynn:]

Thank you, Manny and welcome to our second quarter earnings call. Joining me today are Chris Niles, our Chief Financial Officer and Scott Hickey, our Chief Credit Officer. Our second quarter highlights are outlined on Slide 2. Our results reflect steady loan growth, strong core fees, higher mortgage banking income and benign credit trends. Loans were up 2% from the first quarter with commercial and business lending and residential mortgages driving the increase. Deposits also showed momentum; deposits were up 3% from the first quarter driven by strong growth in money market and savings accounts. Net interest income of $166 million was down $1 million or 1% from the first quarter. Net interest margin compressed slightly more than we expected as we saw continued competition and aggressive new and renewed loan pricing, particularly in commercial real estate lending. Despite our margin pressures the quarter benefited from strong core fee based revenue and higher mortgage banking income. Those categories drove $5 million of revenue growth from the prior quarter. Expenses were up $3 million which included severance related to the restructuring of our brokerage business and the planned consolidation of 13 branches in the second half of 2015. We continue to optimize our capital. During the second quarter, we issued $65 million of preferred stock with a six and an eight dividend rate. Also during the quarter we repurchased 3.2 million shares of common stock per $63 million. Overall, we delivered net income to common shareholders of $48 million or $0.31 a share and a 11% year-over-year increase. We also delivered double-digit return on Tier 1 common equity for the fourth consecutive quarter. Loan details are highlighted on Slide 3. Loans were up 2% quarter-over-quarter and 9% year-over-year and growth during the quarter was balanced between our commercial and consumer businesses. Total commercial loans were up $220 million. Average commercial and business lending grew a $174 million, or 2% for the quarter. We saw a strong growth in mortgage warehouse along with modest growth in general commercial lending and power and utilities. The strong growth in the mortgage warehouse portfolio was partially seasonal in line with the upward Midwest sales cycle and partly due to relatively low interest rates. General commercial lending growth was moderate given intensifying competition. Competition is broadly increased over the last year especially in Chicago and in some specific industry verticals. We are seeing deals been done at pricing that does not seem to justify the inherent risks

[Operator:]

Thank you. We will now be conducting a question-and-answer session. [Operator Instructions] Our first question is from Dave Rochester of Deutsche Bank. Please go ahead.

[Dave Rochester:]

Hey, good afternoon guys.

[Philip Flynn:]

Good afternoon Dave.

[Dave Rochester:]

A question on the resi growth that was very strong this quarter. Can you just talk about the structure of those loans and then the pricing you are getting on that product right now?

[Philip Flynn:]

We haven’t changed any of our product set so what you see going on to the balance sheet, our adjustable-rate mortgages 315171 rates on the five-year, what are they at now Chris.

[Christopher Niles:]

They are just little over three, so the nice thing is they’re marginally accretive to the margin as we put them on given the alternative asset classes. I guess the shift we’ve seen is - in the first quarter we saw more refinance and here as we moved into the second quarter we saw majority purchase and new construction activity.

[Philip Flynn:]

And then in addition to what came on at the balance sheet we did another $350 million of [performing] 30-year largely which we sold.

[Dave Rochester:]

Gotcha. And then you're talking about the increasing competitive pressures. So I was just wondering what type of pricing you are getting now on C&I and commercial real estate new loan production?

[Christopher Niles:]

Well, everything is priced up at LIBOR so we are starting at essentially zero or pretty close. And if you can get couple 100 basis points spread on top of that, you probably feel pretty good, but that yield is still coming on at call it two in a quarter and it impacts the margin.

[Dave Rochester:]

Got it. And then on the securities restructuring could we end up seeing more shift to Ginnies in the back half of the year [or is it that] and then what were the rates on those securities purchased?

[Philip Flynn:]

Sure, the overall rates were roughly comparable for the ones we sold so there was not a material change in the yield which is why you don’t see a real yield impact in our margin tables, but those are yield sub two. In many case, we have taken a good look at the billion dollars that trade made sense at the time. There is some more we could do, but we’ll evaluate that based on marketing conditions. It won’t be as big as what we just said though.

[Dave Rochester:]

Got it. And then just one last one on expenses. How much in cost savings should we expect to come into the run rate for the branch closers and then how much more work is there that you can do in terms of closing branches in 2016 or are you pretty much wrapping that of this year?

[Philip Flynn:]

Well, we believe that depending upon deposit attrition we pick up starting next year about $3 million a year with these 13 branches that we’ve closed. It’s hard to say what other plans will come out in 2016. We’re constantly evaluating the network, we’re moving branches, and we’re just continuing to build new branches, find better locations. I can’t tell you that we’re done, but I can say that as we've gone through this process where we’ve closed now basically a third of the branches over the past eight years. The low hanging fruit is gone and every additional decision gets harder and harder.

[Dave Rochester:]

Okay, are you guys pretty much done with your branch update plan at the end of this year?

[Philip Flynn:]

Yes. The branch renovations are wrapping up by this fall that’s not to say that we won’t continue to relocate branches occasionally or maybe even build new ones, but the program that we started more than three years ago is wrapping up this fall.

[Dave Rochester:]

Okay. Great. Thanks guys.

[Philip Flynn:]

Thank you.

[Operator:]

Thank you. The next question is from Scott Siefers of Sandler O'Neil. Please go ahead.

[Scott Siefers:]

Good afternoon guys.

[Philip Flynn:]

Good afternoon, Scott.

[Scott Siefers:]

Phil or Chris I just want to make sure I understand that the cost savings on the branch closure and I mean it’s small at 3 million bucks, but so you’re suggesting that allow us drop to the bottom line or will I imagine at least a portion of that gets reinvested as you kind of continue to build up the mobile and digital channels et cetera. How are you thinking about that dynamic?

[Philip Flynn:]

Well, I mean the money is somewhat [functionable]. So closing those branches picks up $3 million of expense sales year-after-year-after-year going forward, obviously there is costs in severance lease terminations et cetera this year. What we choose to do with the response as far as reinvestment will be determined as we move forward. In addition to the cost savings that we pick up with these branch closures the restructuring of AIS are investment brokerage will also pick up $3 million to $4 million of expenses going forward for the year.

[Scott Siefers:]

Okay. All right, and how much of the $2 million in severance costs this quarter was the most - most of that related to the brokerage side or another, how much of the $3 million in costs for the branch rationalization that we expect in the second half for the year?

[Philip Flynn:]

The $2 million of additional severance was the combination of the brokerage business, the branches and a few other things. There is still some lease breakage and such to come in the second half, call it $2 million to $3 million and something like that.

[Scott Siefers:]

Okay. All right, thank you and then…

[Philip Flynn:]

You have to expense that as you actually close.

[Scott Siefers:]

Yes, yes now I understand I was just curious how much we saw versus how much that will be, so I appreciate that color. And then Chris just on the margin I guess I thinking on a reported basis maybe a little more thought, but when you just for things kind of in line with the two basis points to four basis points you would kind of been suggesting when we last spoke 90 days or so ago. As you look forward I know you guys have kind of been hoping the margin would bottom around the 280 area or so. Is that still what the hope would be or until we get the fed to move which I guess hopefully would be end of this year, could we drift a little thought for that number?

[Christopher Niles:]

Yes, to reiterate Phil’s comments which is assuming there is no fed action, we would expect continues modest compression depending on the timing and magnitude of fed action that can stabilize and maybe even some positive, but if there is no fed action it will continue to compress through the end of the year.

[Philip Flynn:]

I think one of the changes that we really seen taking hold not just through the first half of this year, but perhaps accelerating is even more competition for assets out there and so loan yields continue to be under pressure as banks compete for assets.

[Scott Siefers:]

Okay, and then maybe just one final one and I guess Phil we’ve had a little more volatility recently in energy prices. I think when you guys spoken in April you're hoping that the energy portfolio begin to expand again in the second half of the year and just based on what you've seen so far year-to-date and then with the renewed volatility in prices, what are your thoughts on expansion and contraction in that portfolio?

[Philip Flynn:]

It’s very hard to say we’ve had some volatility, but nothing like what we experienced so generally oil has been in a trading range of 50 to 60 bucks now for let’s got six to nine months something like that. So there is a certain amount of price stability that starting to reenter the market as some of our borrowers go about rebuilding their balance sheets maybe selling assets et cetera, you could start to see some more activity, but I would guess that our portfolio probably is flattish to up a little as we go through the balance of the year.

[Scott Siefers:]

Okay, all right that’s perfect. Thank you guys very much.

[Operator:]

Thank you. The next question is from Emlen Harmon of Jefferies. Please go ahead.

[Emlen Harmon:]

Hey, good evening.

[Philip Flynn:]

Good evening.

[Emlen Harmon:]

Point of clarity on the securities restructuring in the quarter, it sounds like you effectively kind of switched into Ginnie Mae securities fully, but we did note that there was an impact on the yields and I think the income in the second quarter. So was there a period where you are kind of uninvested there and we should expect some improvement in the securities broker, can you kind of walk me through I guess how the restructuring took place?

[Philip Flynn:]

You are correct. We were partially uninvested for a portion of the quarter that resulted in interest income. However we also essentially sold first and bought later and as result of selling first we picked up more price and so recognized a $1.2 million gain in the quarter. So those two largely offset each other but we expect yield will sort of normalize moving forward.

[Emlen Harmon:]

Got it. Perfect, thank you. And then just on the pause of the repurchase program, it would appear that you guys over the next few quarters will start to kind of re-accrue some capital and improve the capital ratios I guess how long do you pause on that buyback program before kind of re-accessing are you on your capital position and whether that’s something that you want to resume?

[Philip Flynn:]

Well, we have been pretty transparent about our uses of capital as time has gone on. And we’ve also been quite explicit about what our range was. So for the first time we’ve moved into that range, we’re at 9.3 as we said. So we use the word pause very deliberately. It doesn’t mean we aren’t going to buy back shares in the future, but the clip of give or take $30 million a quarter that occasionally has been different is not something you should expect. But we will remain opportunistic and as we evaluate how much capital we’re building up and as we look at potential opportunities to deploy in other ways, share buybacks are always one of the tools that something we’ll consider.

[Emlen Harmon:]

Got it. Thanks for taking the questions.

[Operator:]

Thank you. The next question is from Jon Arfstrom of RBC Capital. Please go ahead.

[Jon Arfstrom:]

Hey, thanks good afternoon.

[Philip Flynn:]

Good afternoon Jon.

[Jon Arfstrom:]

Just a couple of follow ups just on Emlen’s last question Phil you said other uses for capital, can you give us an update on your thinking attitude opportunities for acquisition?

[Philip Flynn:]

Sure, you saw to the insurance acquisition earlier we continue to look at opportunities both in insurance space potentially other fee generating spaces as well as top two other banks. So if something comes that we find meets our risk profile and looks attractive, we would move forward on that.

[Jon Arfstrom:]

Okay. You feel there are opportunities there in the bank space?

[Philip Flynn:]

There is opportunities but as I think we described over and over again, we are risk adverse crew around here and we do believe that there is an element of risk in buying a depository in a whole bank transaction, which is pretty high. There is regulatory risk, there is approval risks and there is the risks of understanding what it is you bought in the potential problems that might be embedded in that company. So we are cautious.

[Jon Arfstrom:]

Okay. On the topic of Ahmann & Martin and insurance, Chris we hear you loud and clear on the revenue pullback from seasonality but can you maybe help us size a little bit?

[Christopher Niles:]

I would take a good look at last year’s second half and add a reasonable addition for the Ahmann & Martin piece I think we gave some guidance earlier in the year and that targets pretty close.

[Jon Arfstrom:]

Okay. All right. And then on loan growth drivers obviously your resi and warehouse heavy quarter little bit different on last quarter. I am just curious and then some of your comments on the tightens of some of the spreads on commercial. Curious your future drivers of loan growth as it going to look a lot like this quarter. Do you expect C&I and CRE to pick up again?

[Philip Flynn:]

We expect CRE to pick up again they have a very robust pipeline and they have a number of relatively newer vintage construction loans, which will be funding up. C&I is little harder to predict. We are very disciplined about looking at the risk adjusted return on capital that we are getting for extending loans right now. And we’re fortunate to have a relatively for bank our size broad geography and relatively broad group of businesses that were in. So we don’t have to necessarily chase every commercial loans, if we don’t think we are getting paid for the risks. So hard to predict we are out looking for transactions there is a number that are in the hopper of course we always have significant pipeline. So I would expect more CRE growth then we saw potentially some more commercial growth although harder to predict. The warehouse business is really highly dependent upon rates and sales activity and the resi-mortgage business is just really strong and we have a very strong mortgage business here. So that will continue to clip along.

[Jon Arfstrom:]

Okay, good. And then just quick one the FTE growth in the quarter give us an idea of where you are adding bodies?

[Philip Flynn:]

Sure. Keep in mind that the Ahmann & Martin acquisition closed partially - part way through the first quarter so what you are seeing is essentially 110 people, 113 all in for the Ahmann & Martin acquisition.

[Christopher Niles:]

That our key count is going to go down over the balance of the year with the branch consolidation and the AIS restructuring we talked about.

[Jon Arfstrom:]

Okay. All right, that helps. Thank you.

[Operator:]

Thank you. [Operator Instructions] The next question is from Ken Zerbe of Morgan Stanley. Please go ahead.

[Ken Zerbe:]

Thank you. Just want to clarify on the fee guidance that you are giving, the upper single-digit growth versus 2014. If I put in my numbers right, you had $80 million in the first quarter, $87 million second quarter, but to get even sort of like 9%-ish growth year-over-year, you need to have about $75 million in the next two quarters for fees which is a pretty sizable reduction is am I missing anything is there any unusual items that I should be backing out or adding into or could we really see fee income in the mid $70 million range?

[Philip Flynn:]

Ken, I think that you might be including all of the gains on sales of other assets in those numbers.

[Ken Zerbe:]

Yes, okay.

[Philip Flynn:]

We wouldn’t expect recurring gains on the investment portfolio. We might do a slightly smaller restructuring, but it certainly wouldn’t be in that magnitude and I don’t normally assume additional gains on sale of other assets. There might be some, but again it’s not in our projections. We are talking about core fees.

[Ken Zerbe:]

Are you increasing mortgage?

[Christopher Niles:]

We feel pretty good about our guidance. How is that?

[Ken Zerbe:]

No, understood. Even if I took that asset fees and then maybe we can follow-up off-line, but if I take that asset fees I want to make some matters worse because you had a fair number last year. Okay, I am struggling with this maybe I’ll follow-up offline.

[Philip Flynn:]

You can follow-up Ken offline.

[Ken Zerbe:]

Okay, but just yes or maybe yes or no, but is in the mid-70s a fair number for core fees

[Philip Flynn:]

Probably a fair number.

[Christopher Niles:]

It’s likely based on where we are, that will be slightly above the mid-70s, but it certainly won’t be running at a second quarter’s total numbers now, as we’re coming down from the second quarter.

[Ken Zerbe:]

That helps, okay. All right, thank you very much.

[Operator:]

Thank you. The next question is from Chris McGratty of KBW. Please go ahead.

[Christopher McGratty:]

Hey, good afternoon, everybody. Chris, maybe I miss it in your prepared remarks, but assuming that [indiscernible] moves at the end of the year, whether it would be September, December. Can you talk about how you are thinking about the transition from the margin degradation to stability and ultimately expansion I mean just really encountered the timing it is a several quarter phenomenon or is a kind of an instantaneous move?

[Christopher Niles:]

Yes, I think what we’ve seen in prior rate movement cycles and Phil and I work together at another institution certainly went through a nice long rate cycle, as we were able to substantial deposit lag by leading players in the marketplace and we would note in certain of our markets there are core players that are pretty disciplined and we’d like to think that in the Wisconsin marketplace there is a couple of core players that are fairly disciplined. And so in those markets we’d expect to see a reasonable deposit lag. When we talk about deposit data’s internally those numbers are roughly in the 0.5 range most of that comes from repricing of course the wholesale funds which is nearly instantaneous and repricing in money market products, but we’d expect that our savings now and other consumer oriented accounts would be far more modestly pricing and that there will be a reasonable deposit lag for several quarters.

[Christopher McGratty:]

Okay, so here and you are right assuming the fourth quarter so when we get the hike obviously you’ll lag the deposits quite a bit in 2016, but the asset repricing should lead to expansion pretty quickly in 2016 is that a fair characterization?

[Philip Flynn:]

Yes, all things sort of being as model we’d expect to seebetter income in the first quarter after fed raised assuming that the full quarter benefit again the book is largely LIBOR oriented, but there are 30 and 90 day LIBOR barrowers and so given the full quarter to pass and then you should see the asset side expand and assuming where deposit lagging as we would expect. We would probably see a quarter or two of improvement first on the asset side followed by an increasing interest expense over time.

[Christopher McGratty:]

All right. That’s helpful, thank you.

[Operator:]

Thank you. The next question is from Jared Shaw of Wells Fargo. Please go ahead.

[Jared Shaw:]

Hi, good afternoon and thanks. Most of it I was just going to ask is going to ask just on the restructuring, could you just walk through sort of the timing on that again just trying to reconcile how we are able to go to 0% risk-weighted assets and not change the yield or duration and sort of kicking in there?

[Philip Flynn:]

No, I think the risk-weighted timing worked for us because there was a - working time we decided we want to execute on the strategy for a variety of reason we decided to execute on the sales first and we expected that we’d be giving up a little bit either yield or duration as we reinvested and because we held off on the reinvestment, we are actually able to buy back about the same our end points. Now that left us uninvested for a portion of the cycle which cost us net interest income, but since we sold earlier and we got the benefit of that, we got it in the gain upfront as we reinvested over time patiently throughout the quarter we are able to reinvest in potentially near neutral.

[Jared Shaw:]

Okay and then as we look at the full quarter how on a percentage basis roughly how long of the quarter would you say you are uninvested in that one month of the quarter or less than that or more than that?

[Philip Flynn:]

Most of the impact came in one month.

[Jared Shaw:]

Okay.

[Philip Flynn:]

So we gave up a $1 million of interest income which now it were reinvested are going to be essentially at the exact same year going forward, so I really think - look at this is a one quarter phenomenon where we just had a little geography shift between net interest income and $1 million gain and going forward it’s all about what it used to be.

[Jared Shaw:]

Yes, with the lower risk-weighted.

[Philip Flynn:]

That’s with risk-weighted assets which is not…

[Jared Shaw:]

Okay, great. Thank you very much.

[Philip Flynn:]

Thank you, Jared.

[Christopher Niles:]

Probably can do the same thing again today, which is why we may not do more.

[Operator:]

Thank you. At this time I’d like to turn the conference back over to management for any additional or closing remarks.

[Philip Flynn:]

Okay, well thank you for joining us today. We are pleased with this quarter’s performance, we saw continued balance sheet momentum, strong fee revenue, stable core expenses and we return capital to our shareholders. We continue to make strategic decisions as we are managing the company for the long-term and we are committed maintaining our credit and expense disciple in this low rate environment. So we’ll look forward to talking with all of you again in the next quarter and if you have any questions in the meantime please give us a call. Thank you for your interest in Associated.

[Operator:]

Ladies and gentlemen, this does conclude today’s teleconference. You may disconnect your lines at this time. And thank you for your participation.