Atlantic Union Bankshares Corporation
Q4 2018 Earnings Call Transcript

Published: 22 Jan 2019

[Operator:]

Good morning, my name is Laura and I will be your conference operator today. At this time, I would like to welcome everyone to the Union Bankshares’ fourth quarter earnings call. All lines have been placed on mute to prevent any background noise. After the speakers’ remarks, there will be a question and answer session. If you would like to ask a question during this time, simply press star then the number one on your telephone keypad. If you would like to withdraw your question, press the pound key. Thank you. Mr. Cimino, you may begin your conference.

[Bill Cimino:]

Thank you Laura, and good morning everyone. I have Union Bankshares’ President and CEO, John Asbury and Executive Vice President and CFO, Rob Gorman with me today. We also have other members of our executive management team with us for the question and answer period. Please note that today’s earnings release is available to download on our investor website, investors.bankatunion.com. During the call today, we will comment on our financial performance using both GAAP metrics and non-GAAP financial measures. Important information about these non-GAAP financial measures, including reconciliations to comparable GAAP measures, is included in our earnings release for the fourth quarter and full year 2018. Before I turn the call over to John, I would like to remind everyone that on today’s call we will make forward-looking statements which are not statements of historical fact and are subject to risks and uncertainties. There can be no assurance that actual performance will not differ materially from any future results expressed or implied by these forward-looking statements. We undertake no obligation to publicly revise any forward-looking statement. Please refer to our earnings release for the fourth quarter and full year 2018 and our other SEC filings for a further discussion of the company’s risk factors and important information regarding our forward-looking statements, including factors that could cause actual results to differ. All comments made during today’s call are subject to that Safe Harbor statement. At the end of the call, we will take questions from the research analyst community. Now I’ll turn the call over to John.

[John Asbury:]

Thank you Bill, and thanks to all for joining us today. Union closed out our transformative 2018 year with a strong fourth quarter. To start, we did what we said we would do

[Robert Gorman:]

Thank you John, and good morning everyone. Thanks for joining us today. I’d now like to take a few minutes to provide you with some details of Union’s financial results for the fourth quarter, which illustrates the earnings potential of this franchise. Please note that for the most part, my commentary will focus on Union’s fourth quarter financial results on a non-GAAP operating basis, which excludes $2.2 million in after-tax merger-related costs but does include losses from discontinued operations of $192,000 related to Union’s exit from the mortgage origination business. For clarify, I will specify which metrics are on a reported versus operating basis. In the fourth quarter, reported net income was $44.1 million and earnings per share was $0.67. Reported return on assets improved to 1.29%, reported return on tangible common equity increased to 16.4%, and reported efficiency ratio declined to 56.2%. On a non-GAAP operating basis, which as noted excludes $2.2 million in after-tax merger-related costs, consolidated net earnings for the fourth quarter were $46.2 million or $0.70 per share. We achieved our targeted top tier financial metrics for the quarter as the company’s non-GAAP operating return on assets was 1.36% versus the fourth quarter goal of 1.3%. Non-GAAP operating return on tangible common equity was 17.2%, exceeding the top end of our targeted range of 15 to 17%, and the non-GAAP operating efficiency ratio came in at 53.5%, in line with the lower than 55% target we set. As John noted in his comments, we expect further improvements to these top tier financial metrics this year and next with the addition of Access, and as a result we have raised our financial targets. The new targets are

[Bill Cimino:]

Thanks Rob. Laura, we’re ready for our first caller, please.

[Operator:]

[Operator instructions] Our first question is from Catherine Mealor of KBW.

[Catherine Mealor:]

Hey, good morning. I wanted to start with the margin and see, Rob, if you could give us your updated thoughts on your outlook for the margin and if anything has changed, how that looks with or without Fed increases this year. Thanks.

[Robert Gorman:]

Yes, going forward, Catherine, we’re modeling that we won’t have any Fed increases during the year and the curve will remain very flat, similar to where we sit today, so we don’t expect much improvement in the interest rate curve going forward. That said, as we look at core net interest margin from where we are at the end of this quarter, we expect that we’ll be flat to maybe down 2 to 3 basis points for the year of 2019 - that’s on a Union-only basis. When you bring in Access, it’s pretty much the same story - basically flat to where Union ended up the year, with some potential compression in the 2 to 3 basis point range. Now on a headline NIM basis, Union-only would be down about 7 basis points because of lower accretion, but with the acquisition of Xenith and the impact of their accretion, we’re basically back to where we reported ourselves at this quarter, so fairly flat on a headline basis due to the accretion impact of Access with some potential small compression bias going forward.

[John Asbury:]

Catherine, I want to reiterate something Rob said earlier. The increase in yield on the loan portfolio matched the increase in deposit rate paid over the quarter. Thirteen percent annualized loan growth is a very strong number for us - that’s a seasonal high. We will not be seeing that, we do not expect to see that next year, so we think that we have more of an opportunity to better match loan growth and deposit growth so we’re not as reliance on wholesale funding, which is obviously less expensive.

[Catherine Mealor:]

Got it, that makes sense. Do you have a dollar amount of fair value accretion you’re expecting for Access National yet?

[Robert Gorman:]

Well of course, we’re going to close the deal in another week or two - February 1, so we’ll have a final number once we get there; but our current modeling and what we filed with the proxy prospectus was about $8 million to $9 million of accretion income for 2019. Now remember, that’s nine months of accretion income as well, so when you’re looking at Access and the impact for 2019, we won’t get any income related to that until starting in February.

[Catherine Mealor:]

Got it, okay. That’s really helpful. Maybe one last one for me. You noted in the press release that you had higher past due loans this quarter. Can you give us any color on that? I know you also mentioned that some of those became current after year-end, but just any kind of commentary about what trends you’re seeing there. Thanks.

[John Asbury:]

Yes well, we were referencing 30 to 59-day past dues. If you look at greater than 59-day past dues, it was stable, even actually down slightly. We do sometimes see this phenomenon. We dig into this pretty hard, we look at it credit by credit. It’s not uncommon for us to see a rise in 30 to 59-day past dues, particularly at year end due to holidays and whatever. I used to see the same phenomenon at Regents Bank, they were just talking about it on their quarterly earnings release. The most important thing is that over half of those were cleared as of last week, so you can see that that was a fairly short term phenomenon. Also contributing to it, a meaningful percentage of the total, you’ll see a rise in owner-occupied real estate 30 to 59-day past dues, and that was mostly about one credit that was in the process of being restructured and was in fact technically past due as of year-end, but that’s not due to a payment-related issue. It was really more due to handling - it was a busy quarter for the commercial bankers and we didn’t get done what we should have gotten done on time. We don’t see past dues as an issue at this point.

[Catherine Mealor:]

Got it, okay. Very helpful, thank you. Great quarter.

[Bill Cimino:]

Thanks Catherine. Laura, we’re ready for our next caller, please.

[Operator:]

Our next question is from Austin Nicholas of Stephens.

[Austin Nicholas:]

Hey guys, good morning. Maybe just to hit back on the margin one more time, I think the previous guidance at the investor day was maybe for a flat to modestly up margin off of 3Q levels. As the delta versus the message today, is it really just a flatter yield curve and lower expectation for rate hikes that you’re not seeing the benefit of on the asset side, or is there more to it than just those two components?

[Robert Gorman:]

Yes Austin, in terms of what we talked in the third quarter, we were thinking that we’d have a steeper yield curve going into ’19, as well as we had two Fed funds moves modeled in our outlook for 2019. Obviously we’ve shifted our view of that based on what’s occurred during the fourth quarter, and that’s pretty much what’s causing just to be flat, a little more negative on the margin, although marginal downward bias.

[Austin Nicholas:]

Got it, okay. That’s what I figured, appreciate that. Maybe on the fee income, that was pretty strong this quarter. You noted the swap fees and insurance revenue there. Any outlook on the specific line items that saw strength, maybe specifically the swap fees and how you’re thinking about those going into ’19?

[John Asbury:]

I’ll start, and David Ring, our Head of Commercial Banking is here as well, so I’ll ask him for some perspective. To me, part of this is demonstrating the maturation of the commercial banking effort, particularly an example would be those who have been at or have joined us from larger institutions have probably dealt with interest rate hedging for a good bit of their career. I’ve dealt with it personally for 20 years, so it’s still a relatively new product. It’s an efficient form of hedging clearly for the borrower, so as you see us doing more transactions, larger transactions, more of the build-out in C&I that’s building our base of opportunity for interest rate hedging products, which are generally plain vanilla swaps, and I think also the expectation that this yield curve is going to remain flat for a while suggests it’s a good opportunity to go ahead and lock in rates before something unexpected happens. Dave Ring, what is your outlook for interest rate swap income?

[David Ring:]

We’re confident that our sales teams now have a full grasp of where the opportunities are. We’re continuing to lend into the same asset classes that we lent into in the past, so our swap opportunities are not only in real estate like they’ve mostly been but now in revolving lines of credit. When you see that rates are flat, that is the perfect time for a client to enter into a swap because it’s cheaper, and so some may see interest rates rising and see I have to enter into a swap now, but our philosophy is control your costs today, and that’s what we’re seeing our--

[John Asbury:]

Yes, correct. We used to call that you don’t have to pay up the yield curve. We think that the market is supporting increased interest and benefit and interest rate hedgings, and the fact that we continue to build our book of commercial and that we’re growing our portfolio means more opportunities, and for the more sophisticated client it’s a much more efficient way to hedge than, frankly, take on a traditional fixed rate loan.

[David Ring:]

We’re actually seeing as many requests for quotes as we saw last quarter, and we have several in the queue already for this quarter.

[John Asbury:]

Okay Austin, so bottom line it has legs, and we’re feeling pretty good about that opportunity.

[Robert Gorman:]

Just note, Austin, that it was very high in the fourth quarter. We did have significant loan growth, so it’s going to be--it’s going to fluctuate with loan growth quarter to quarter as well.

[Austin Nicholas:]

Got it. Perfect, thanks guys. Appreciate all the help.

[Bill Cimino:]

Thanks Austin. Laura, we’re ready for our next caller, please.

[Operator:]

Our next question is from Laurie Hunsicker of Compass Point.

[Laurie Hunsicker:]

Hi, good morning. I just wanted to go back to margin for a moment. I just want to make sure that I’m understanding it, and I really appreciate the color. The schedule that you guys have laid out on Page 2 of your press release of accretion income does not include Access National, so again as we’re thinking about this and the accretion income is going to be very heavily phased in, in the June-September quarter and then obviously winding down, theoretically we could see your reported margin expanding while your core margin--I mean, expanding off of current levels, current 370 levels, while your core margin continues to contract. Am I thinking about that right?

[Robert Gorman:]

Yes Laurie, you’re thinking about it exactly right. The accretion that we’re running off on the Union book will continue over the course--or decline over the quarterly basis. We’ll get the pick-up in accretion from Access starting in the first quarter, so that’s right. You could see it potentially be on a headline NIM basis be flat or a bit up in the first quarter, but start to decline over the remaining quarters.

[Laurie Hunsicker:]

Got it, okay. Then just to quantify that, obviously your accretion income, just basis points on your 370 margin this quarter was 13 basis points, so if we look fully phased into the June quarter, that could theoretically be about 17--16, 17, maybe 18 basis points depending--?

[Robert Gorman:]

Which quarter are you talking about, Laurie?

[Laurie Hunsicker:]

So in other words, June quarter when it’s fully phased, right, because you’re only booking partway through March, so as we think about--

[Robert Gorman:]

Yes, you’re talking more probably around 15, 16 basis points.

[Laurie Hunsicker:]

Okay, perfect. Then just a couple things here on the income statement. The jump in BOLI linked quarter, was there anything non-recurring in that, in that $2.07 million number?

[Robert Gorman:]

We did get some proceeds from--life insurance proceeds from that. It was about a couple hundred thousand dollars in the BOLI line, so that would be considered non-recurring from that point of view.

[Laurie Hunsicker:]

Got it, okay. Oh, I’m sorry - that was the $222,000 that you referenced, or no? No, that was something different--okay.

[Robert Gorman:]

No, it was about $200,000--yes, I wasn’t referencing BOLI on that one, but it was about $200,000 in the BOLI reported quarterly number.

[Laurie Hunsicker:]

In the BOLI line - okay. Then on the other other operating income number, the $2.255 million, can you just take us through what was non-recurring in that because I feel like I’m not getting all the adjustments.

[Robert Gorman:]

Yes, in that number is the $976,000 we received again from life insurance proceeds, but it related to a Xenith-acquired loan, so if you back out that, you’d be more in line with what we had in the third quarter.

[Laurie Hunsicker:]

Okay, and then where does the $933,000 adjustment from Shore Premier show up?

[Robert Gorman:]

Oh, that was in the third quarter, so--

[Laurie Hunsicker:]

That was the third quarter? Okay, sorry. Just was reading that incorrect.

[Robert Gorman:]

You should see it on a separate line in our press release.

[Laurie Hunsicker:]

Got it, okay. I just wanted to make sure. Then as we think about your tax rate next year, what should that look like?

[Robert Gorman:]

Yes, that’s a complicated question, but we’re modeling in the 17% range. It’s going to fluctuate quarter to quarter, depending on when we’re paying merger-related costs, etc., and then the impact of Access. I’d say on a combine basis, we’re probably in the 17% range or so.

[Laurie Hunsicker:]

Okay, great.

[Robert Gorman:]

That could be a little heavy, but we’ll adjust as we go forward and provide some guidance.

[Laurie Hunsicker:]

Okay, great. Just two last quick questions. John, can you just comment in light of your raised targets how you all are thinking about your dividend policy here?

[John Asbury:]

I think that from our standpoint, we have not changed really anything in terms of our philosophy.

[Robert Gorman:]

No, no. Our payout ratio, targeted payout ratio continues to be in the 35 to 40% target range.

[Laurie Hunsicker:]

Okay, great. Then just one last question, and I appreciate your focus on the Access integration as we look forward this year, but can you just refresh us now that you’re just about to close this, where you sit on M&A thoughts, especially given where your stock currency is? Just how you’re thinking about that, thanks.

[John Asbury:]

Yes Laurie, I think that we have always said that organic performance is our first and most important objective, and that’s what we’re focused on. It’s very difficult to think about M&A from this juncture because we have so much work ahead of us as it relates to Access. Access opens up a world of opportunity for us in the Greater Washington Area, so we are incredibly enthusiastic and we are laser-focused on making sure that we have a successful integration and conversion and onboarding of that team, and we really need to let things settle down, so to speak. What we did say in our investor day in November in response and anticipating the question of how do you think about M&A, I said there are really three options for the future. The most important option is do nothing. We have everything we need right here, right now. There’s no compelling reason why we must do additional M&A. To your point, given where the stock price is, that doesn’t really necessarily suggest that we would be out there looking anytime soon. That does not mean that in the future we wouldn’t have other thoughts or other considerations, but you can ask us again later in the year. But right now, we are exceptionally focused on making sure that everything goes well with Access, and then we need to let things settle down and just make sure that everything is working as expected.

[Laurie Hunsicker:]

Great, thank you.

[Bill Cimino:]

Thanks Laurie. Laura, we’re ready for our next caller, please.

[Operator:]

Our next question is from Matthew Keating of Barclays.

[Matthew Keating:]

Great, thank you. Good morning. Rob, maybe for you around core expense growth, I understand the first three quarters of this year are going to be a bit noisy with the Access National closing and integration, but at the investor day the bank talked about 4 to 4.5% core expense growth, which was inclusive of some of the additional digital expenses the bank is contemplating for this year. What do you think from a core expense growth rate ex-Access National we should be thinking about for this year? Thanks.

[Robert Gorman:]

Yes, you’re pretty much right on - we’re finishing up our 2019 budget that we have, and we’re talking about a little over 4% growth in the expense run rate if you just look at on a Union standalone basis. Obviously that will be impacted by savings we’ll get from Access, which will decrease that rate and perhaps be positive--or negative growth once we fully incorporate the cost saves if you look at it on a quarterly run rate basis. But about 4, a little over 4% growth is what we’re assuming.

[John Asbury:]

There’s always the potential that we could do some strategic investment organically in terms of adding commercial teams, expanding commercial teams. If we were to do that, that could add greater than planned expenses, but we wouldn’t do it unless we were confident of the return realization period. I’m not saying there’s anything specifically on the board right now, either.

[Robert Gorman:]

Yes, we’d be looking for operating loads coming out of that.

[Matthew Keating:]

Great, and then just a quick follow-up for John. You mentioned in the opening commentary around the potential brand initiatives and you’re not ready to announce anything yet. Do you think that will be at some point this year? Can you kind of time when we might expect additional information around that? Thanks.

[John Asbury:]

Coming very soon, probably sooner than you think. We’ll be back very shortly, and we’re talking about months from now, not next year in terms of actually making it happen. The reason why we’re being a bit cagey about it, quite candidly, is simply twofold

[Matthew Keating:]

Understood, thanks very much.

[Bill Cimino:]

Thanks Matt. Laura, we’ve got time for one more caller, please.

[Operator:]

Our next question comes from Blair Brantley of Brean Capital.

[Blair Brantley:]

Hey, good morning everyone. I just wanted to circle back on the loan growth side. Can you give us an idea from a geographic perspective where the strength came from this quarter?

[John Asbury:]

Yes. David Ring, would you like to comment on that?

[David Ring:]

Primarily three markets. Our coastal region, which is our newest growth region where we’ve added a full C&I team. Richmond always does well, so this Greater Richmond Area is number two, and our north region, which is primarily the area around Fredericksburg, has done very well too. Then our Carolinas region, which is mostly a loan production market, also had a very good year and a strong quarter, but the big three were those I just named.

[John Asbury:]

I want to elaborate on something, because Dave hit on a critically important point. When he says coastal, he’s talking about the former Hampton Roads Bank franchise, the south side of Hampton Roads - Virginia Beach, Norfolk, etc. where we only had a very small presence prior to the Xenith combination. As a reminder, Xenith represented the combination of legacy Richmond-based Xenith, which was principally a branch-light business bank not unlike Access, and so they always had a really strong C&I team in Richmond and in northern Virginia. Hampton Roads looked very much like a traditional community bank, so what has happened is we’ve used that as a platform and we have built a very capable skilled commercial and industrial banking team post-Xenith acquisition, and we are super excited about the potential of that market. This is exactly what we said we would do, this is exactly what we predicted would happen, and so we are very bullish on that Hampton Roads region.

[David Ring:]

And I should say that’s in dollars, not percentage, which could throw things off. That’s true dollar growth.

[John Asbury:]

Yes, so we think we have a lot of upside there off of a small base. In the context of C&I, Hampton Roads is essentially a new market entry for us, and we are doing well down there.

[Blair Brantley:]

Okay, great. Thanks. With the growth this quarter, can you speak to what you saw from the pay down perspective and how that maybe compares to last quarter [indiscernible]?

[John Asbury:]

Well, it was certainly less. Pay downs felt relatively normalized in Q4. Dave Ring, I’m looking at the data here now - we certainly saw elevated pay downs earlier in the year for all the reasons we’ve talked about before. That seemed to abate somewhat in Q4.

[David Ring:]

Yes, for sure. From April to August, we saw a lot of pay downs, and it started to slow down in September, and the fourth quarter it’s more normalized.

[Blair Brantley:]

Okay, great. Thanks. Then finally just on the pricing environment, any update in terms of what the competition and how that feels relative to the first half of ’18, maybe?

[David Ring:]

We don’t necessarily react to the competition as much as we look at market data overall that we [indiscernible] with S&P. We’ve seen our pricing be at least at market or above market, so we’re relationship oriented lenders, bankers, and we take that into consideration, and what’s fortunate for us is we have very loyal relationships, so it’s not simply about price, it’s about the relationship and the value we’re bringing to them.

[John Asbury:]

We’ve actually been using over the course of the year a third party, well known loan pricing benchmarking service on the commercial side, that Dave Ring and I have used for probably over a decade. It was interesting - what it confirmed for us is what we’ve sensed, which is that we do a pretty good job. We are clearly not out winning business on the back of having the most aggressive pricing - we’re in pretty good shape there. On the depository side, I’m going to ask our relatively new President, Maria Tedesco, to comment. She’s been here less than four months, so this isn’t entirely fair. We are beginning to see movement on the deposit pricing side, including to some extent from the larger banks, and one of the things that we have always done at Union is have a one-size-fits-all pricing strategy, all markets same rate on the retail side. Maria, do you have any comments on that? Frankly, I have to point out--it’s not exactly your question, but I’m going to answer it, we see a lot of untapped potential on the retail side of the bank. How do you think about what you’re seeing in terms of pricing competition and opportunity in retail?

[Maria Tedesco:]

Well, we are looking--as I mentioned at our investor day, we’re looking at segmenting the branches, thinking of the market as not one-size-fits-all, so we’re implementing a regional pricing model as we go through this year. We’re not there today, but we will be there soon enough. I think that will help us stay competitive but also help on the margin side. If I could just comment about retail in general, my thinking hasn’t changed since the investor day. I am very confident in the growth potential of retail, but retail needs to deliver its potential and it’s not quite there yet. Essentially, we’ve taken a multi-tier approach and already implemented a number of initiatives that I think will help continue to see and realize the potential. Just to name a few, we’ve implemented a new incentive program which I believe incents very good balanced performance. Secondly, we’ve reintroduced a service and sales coaching model which includes training - again, elevating the skill set of the retail bankers. We’ve also introduced an assessment, we do an exhaustive assessment around branch processes because we want--and that includes lending, by the way, our lending processes, streamlining them not only for our teammates but certainly to make banking easy. In addition that that, obviously, as you all know, our digital agenda, we’re going to continue to execute on a digital agenda which will help again make banking easy, which is our objective. All of this, I think will help us be more competitive and grow the retail franchise, which we all know has greater potential.

[John Asbury:]

Then again as we bring greater resources to the table for Access, they have by necessity had a very focused and intensive deposit gathering effort, particularly for small business, and so that model not only will continue up there, we intend to import that into other markets where we think that would be useful. That was your reference to brand segmentation, and we’ll talk more about that later on.

[Blair Brantley:]

Great, thank you. Appreciate the color.

[Bill Cimino:]

Thanks Blair. Thanks everyone for dialing in today. As a reminder, we’ll have a replay of this call available on our investor website, investors.bankatunion.com. Have a good day.

[Operator:]

This concludes today’s conference call. You may now disconnect.