BankFinancial Corporation
Q3 2013 Earnings Call Transcript

Published: 1 Nov 2013

[Operator:]

Good day, ladies and gentlemen and welcome to the Third Quarter 2013 BankFinancial Earnings Conference Call. My name is Denise and I will be your moderator for today. At this time, all participants are in listen-only mode. Later, we will facilitate a question-and-answer session. (Operator Instructions) As a reminder, this conference is being recorded for replay purposes. I would now like to turn the conference over to your host for today, F. Morgan Gasior, Chairman and CEO. Please proceed.

[F. Morgan Gasior:]

Good morning and thank you. Welcome to our third quarter 2013 conference call. At this time, I would like to read our forward-looking statement.

[Elizabeth A. Doolan:]

The remarks made at this conference may include forward-looking statements within the meaning of Section 21E of the Securities Exchange Act of 1934. We intend all forward-looking statements to be covered by the Safe Harbor provisions contained in the Private Securities Litigation Reform Act of 1995, and are including this statement of purpose of invoking these Safe Harbor provisions. Forward-looking statements involve significant risks and uncertainties and are based on assumptions that may or may not occur. These are often identifiable by use of the words believe, expect, intend, anticipate, estimate, project, plan or similar expressions. Our ability to predict results or the actual affect of our plans and strategies is inherently uncertain and actual results may differ significantly from those predicted. For further details on the risks and uncertainties that could impact our financial condition and results of operations, please consult the forward-looking statements declarations and the risk factors we have included in our reports to the SEC. These risks and uncertainties should be considered in evaluating forward-looking statements. We do not undertake any obligation to update any forward-looking statements in the future. And now I will turn the call over to Chairman and CEO, F. Morgan Gasior.

[F. Morgan Gasior:]

Thank you. Well, all filings are complete. We have no new information to add, so we’re pleased to answer questions. Question-and-Answer Session

[Operator:]

(Operator Instructions) Our first question comes from Jon Burke with Amica Insurance. Please proceed. Jon Burke - Amica Insurance Hey Morgan, can you update us on the expense front. Last call you said you’d be able to present a good run rate for expenses going forward and that you’d hope to get it down below 11 million quarterly in 2014?

[F. Morgan Gasior:]

Yes, I think we’re heading that direction Jon. The comp number you have for third quarter is still a little elevated, but I think it’s getting pretty close to the correct run rate. We also have to go through our benefits adjustment, so that’s going to affect a little bit. But I think getting at or under that 11 million in the fourth quarter going into ’14 seems a reasonable number. The big wildcard is going to be the NPA expenses. But given the pace of resolutions that we have seen in the third quarter and we’re seeing now early in fourth quarter we think that it’s becoming even more achievable than we thought last quarter. Jon Burke - Amica Insurance And in the Q, it did mentioned Infotech and non-performing asset expenses as being the ones as you go lower, so comp and benefit is pretty much where it’s going to be right now?

[F. Morgan Gasior:]

We have a little more room to do there, but I would say we’re probably at 105% of where we’re going to be. One key thing we keep an eye on is the resources devoted to revenues. So I don’t want to commit ourselves to an absolute comp number. We’ve seen some good results in some of the people we’ve added during the course of the year in terms of asset generation and we’re going to continue to look for those opportunities. But what we’ve been focused on so far are our operational reviews and reviewing and making our back-office expenses meet the current transaction flows. So, yes I think that we’re getting pretty close to our comp number, but I also think that the mix will continue to change and to the extent that the comp number varies to the upside, a negative variance, it’s going to be because we deployed more revenue generating resources. Jon Burke - Amica Insurance A segue into that, I mean you hit on your guidance last call 20million-30 million of net production, net loan production. You’d said last call you hope to accelerate that to 30-40 in 2014. So what’s your current expectation?

[F. Morgan Gasior:]

I think we’re comfortable with that so far. If you go look at what transpired in the third quarter and you look forward going forward there is obviously any number of variables to it. But residential production in terms of balance sheet growth won’t be quite strong as it was in the third quarter. We got the benefits of rising rates in the third quarter that generated some interest in our arms. Obviously with the retreat in U.S. deals that point see its volumes retrieve as well and we have actually already seen that. And we also had a couple of larger loans closed in the third quarter and are not likely to repeat themselves going forward. Multifamily will continue to go at that pace. We might be plus or minus 5 million in a given quarter, but we like what we see so far. And again, we’ll see how markets react. We were at a very good competitive position in the third quarter. We remain so in the fourth quarter, but there also continues to be interest in that sector from a number of participants. But I still think that that level of growth we saw in the third quarter should be sustainable for quarter-to-quarter and beyond. I think we’ll do better in non-residential real-estate than we did in the third quarter. We had a few deferred closings that have now since closed, but we’re also seeing some better looks at some quality assets. We will still have some payoffs as people sell holdings and redeploy assets, but we will do better in the fourth quarter on non-residential than we did in third. That one is a little hard to predict, it really just is an opportunistic thing, but we should see some further growth in that. I think we're comfortable with the fact that commercial pipelines are growing slowly, that's probably been the biggest I will say disappointment so far this year is that our commercial side has grown quite to the extent we'd like. We are seeing some traction in the C&I in couple of different sectors, transportation and healthcare. Again a little bit volatile in terms of closings, we had one loan last week that we thought was for sure going to close and the borrower decided not to follow through on his equipment acquisition, at least not right now, so that deal is not going to close in immediate future. But again pipelines and opportunities are looking stronger, so I think we'll do better in commercial in the fourth quarter than we did in the third. Leasing continues to do well. We have had a very good quarter. The third quarter especially for the time of year, and our pipeline going into fourth quarter was strong. So I am fairly comfortable that we're going to exceed our third quarter numbers in leasing, it might even get us close to our fourth quarter numbers last year which was 37 million. Leasing continues to be a very competitive space, lots of people in the space given the attractiveness of the assets both from a credit quality and an interest rate risk perspective, but we also have good relationships with leftovers. We work on making sure they get stronger during the course of the year. So again I think market conditions permitting, we should see that continued steady growth. Jon Burke - Amica Insurance And just in last call you mentioned 3.5 being a good average coupon that the new loans will be coming in on, is that still fair?

[F. Morgan Gasior:]

I think so, we're seeing a little bit more bias to lower yields on shorter duration assets and you will still a little bit of pressure on the investment grade and very strong credit quality leasing for the three year mark. But I think 3.5 still seems like an overall good place to be. What I will stress there a little bit, is the fact that we're still seeing a fair amount of interest in seven year arms, on the multifamily side. So there is some yield pick-up on that given the shape of the curve. So yes I would say 350 seems like a reasonable number now, but we'll update that periodically as market conditions and the shape of the curve and the pipelines warn. Jon Burke - Amica Insurance And then the other piece is, is the securities deployment, I know you are stuck right in there, a 30 million or so that’s -- was the plan as of last quarter was to bring it down 25 million, 40 million per quarter until you get to 75. Is that still the goal?

[F. Morgan Gasior:]

Yes, right on target. Jon Burke - Amica Insurance And I asked you in relation to your guidance or your initial guidance, but your goal of eventually getting to a fully taxed 75 basis point ROA. Just plugging all the numbers here, I am only at 45 basis points or so. So to me it seems like either expenses need to come down more or something needs to happen on the revenue side. Is there something that you think I am missing?

[F. Morgan Gasior:]

I’d have to see what numbers you are looking at, but when we run our numbers we're going to be better than 44 million a quarter but that’s number with the current rate on NPAs separate. We also need to see a little bit more health on the non-interest income. But when we run the numbers, if you have 350 on the net interest margin, you have 45 to 50 on the non-interest income that's four. Then if you take out expenses, we should be able to run a pre-tax of around 150. Jon Burke - Amica Insurance Yes I mean I see how those numbers work, I mean you are running at 3% or so non-interest expense right now, that just seems like that’s something that is right to come down, or that's where you have the most control and…?

[F. Morgan Gasior:]

Right, and that's why we continue to focus on it. Jon Burke - Amica Insurance And last question on your rate sensitivity, really seeing a progression over the last four quarters to being positively exposed to rising rates to really negatively expose to rising rates based on just the sensitivity table you have in your Q. What's going on there?

[F. Morgan Gasior:]

Paul why don’t you address that?

[Paul Cloutier:]

Some of that has to do Jon with else loans are renewed. They have been on short extensions, six months, a year. And as the cash flow statements strengthened, we have been able to extend out some of those loans to take care of those customers. So that has increased the sensitivity on the asset side. Also as you deploy the cash into loan, say five or seven year arms that increases the sensitivity. We’re starting to take a look at that and see if there is opportunities to hedge that through off balance sheet derivatives such as swaps and things like that. So we're just starting to prepare that analysis to hedge out the risk of extending out the maturities as we deploy the cash. Jon Burke - Amica Insurance So those extensions on the loan, is that extending out into fixed rate loans?

[F. Morgan Gasior:]

Yeah, it will be a term loan structure, usually arms. Jon Burke - Amica Insurance Alright well and I guess…

[F. Morgan Gasior:]

We have continuing interest rate risk and at some juncture as we deploy the rest of the cash, we're going to have to look at some type of either a liability hedge or a cash flow hedge, whether it's a swap contract or swaption or something simple. We have used them before, but given the composition of the assets going on the books and how low rates are and the absolute level. We’re going to have to look at something in due course. It’s not necessarily the priority at this point in time, although if volatilities in options settle down during the next three to six months it’s something we might look at. But you are going to see a gradual migration into longer durations on the assets particularly in the real-estate side. To some extent that will be offset by commercial side and leasing side, but as that transposition of the cash goes we are going to have to work at hedging some of that long-term fixed rates that fixed pay -- that fixed receive side into some type of flow. But it’s something we’re keeping eye on it’s not the immediate priority, but we do know it’s out there and as we go through the rest of this year we’ll start doing our stress testing on the life on interest rate risk and looking at the overall OCC interest rate risk modeling analysis we will be factoring that in. Jon Burke - Amica Insurance Okay, actually one last one. Does the DTA come back on at the end of the year if we put in another positive quarter here in the fourth?

[F. Morgan Gasior:]

I wouldn’t want to predict it, it’s possible. We think that it’s a possibility but I don’t want to guarantee it. And Jon just to circle back, if you run just basic numbers, if you stay above 4% net interest margin and non-interest income revenues combined. And then you take out roughly 260 to 265 in expenses that will probably get to our numbers, figuring 61% -- 39% factor for tax. So if you are looking at basic math, that’s how we’re looking at it. Jon Burke - Amica Insurance On the revenue side just, if you said 11 million it just -- the numbers don’t work. So, it seems like you need to come down south of that?

[F. Morgan Gasior:]

You mean on the expense side? Jon Burke - Amica Insurance Correct, yes sorry.

[F. Morgan Gasior:]

Yes, and that’s again we -- no disagreement that if we look at it and say percentage of average assets 2.5 would be an extraordinarily good place to be with compliance costs might be harder to get to than I’d like. But somewhere between 250 and 275 has got to be the number we actually get to on the run rate.

[Operator:]

(Operator Instructions) Our next question comes from Richard Lashley with PL Capital. Please proceed. Richard Lashley - PL Capital Jon Burke covered a lot of what I wanted to talk about, but I’ve been doing the same math, we are trying to figure out what levers you can pull to get the types of returns we would all expect and all want. Maybe we can just walk through them a little more closely. I guess I look at the levers that can be pulled loan loss provision, you already had a negative provision obviously that cannot continue forever and that’s not core earnings. At some point you’ll have to start putting in normalized provisions. So that’s not something that can be pulled. Capital efficiency, you have 12% capital either you can grow or some day if you get back on-track with normalized earnings the regulators might want to buy back stock but that’s something well off into the future. Non-interest income is pretty tough to move, you have traditional banking lines of business, you don’t really have any unusual non-interest income lines that you can accelerate so I doubt that’s going to move all that much. Other credit cost and other operating expenses are obviously where the value is going to come from as you just talked about. You had a 1.1 million of non-performing asset credit cost in the operating expense line, even if you take that out you’re only going from 12 million down to 11 million. That only gets you from a 95% efficiency ratio down to 87% all things being equal. To get down to 65% you need to have your operating expenses or some combination of operating expenses and revenue you need to come up with about another $4 million a quarter. So, if you do that all in the operating expense line your run rate would have to be about $8 million a quarter down from the 12 or whatever it is now and I just know that would be -- I assume you agree that we would be cutting into the bone and would reduce revenue?

[F. Morgan Gasior:]

I guess we would hit it in two different dimensions. First of all there is continued work we’ve been doing and can do on expenses and there is something that are already in the pipeline as we have said in my 10 quarter statement on information technology expenses, depreciation and things like that. We are negotiating contracts, contracts that our maturing, variety of things that we can do. But it’s going to have to be a combinations getting down to our numbers has been a combination of some absolute expense reductions, then also just gradually growing the balance sheet. Right now, we’re putting the cash to work pretty much on the schedule we said we would. Using asset quality and improving the asset quality exposure and therefore reducing the asset quality expenses, as we said we would. Reducing the absolute level of expenses and as we deploy the rest of the cash then we could get back to growing. And we’re more interested right now in organic growth, the kind of the way we’re doing it than we are anything else. And you can grow at pretty healthy margins and leverage that existing expense base over vast amounts of asset growth over the next 18 months and do very well. So, we see it as a combination of put the excess cash to what we have but principally the dollar growth cash plus some of the cash that we developed when rates dropped and people flooded the bank with cash. And once that dollar growth cash is put to work, once they start -- their rolled off to be residential portfolio that will just keep doing what we’re doing on basic organic growth. So, I think it’s a combination of those factors. Richard Lashley - PL Capital You talked about a 75 basis point ROE goal, have you put a timeframe on that in previous calls?

[F. Morgan Gasior:]

We have talked about the fact that we would like to be at that run rate by the end ’14, if not sooner. It is going to take -- to really get that run rate, we’re going to have the cash deployed and be on our growth path by the end of ’14. Richard Lashley - PL Capital It’s a tough thing to grow loans in today’s environment because everyone loan you push out the front door, there is another loan coming in the back door that’s paying off, which as your number show in your supplement you have a lot of payoffs which is tough to fight. One thing would be really helpful, I know you don’t go to investment conferences and I don’t think I’ve ever seen any investor presentations from you guys, but some other companies will put out investor presentations or they do a roll forward of their efficiency ratio and their ROA and they show the different levers that they can pull to get to their number. And obviously Jon Burke and I have both come up with different numbers than what you have because I’m struggling to get to the 75 also. It will be helpful if you could put out some type of public filing or do it on the next conference call to show us, give us the math the buckets to get to that type of number. And then I guess my last question’s last comment is even if you get to your 75 basis point ROA, is that satisfactory. I guess, what is that, let’s say you grow to a 1.5 billion, 75 basis points gets us where, that’s…?

[F. Morgan Gasior:]

Well, let me add to your question and thank for your comments, I think we can provide the type of information you are talking about at a later date, but I am not going to commit to when. Because really the first and the highest priority right now is putting the cash to work and taking the immediate steps we have talked about. We are talking about -- it gets a little bit into forward-looking statements and projections and future things like that that we really never done in history, but we’re happy to discuss it outside the context of earnings calls as people would like to. So, I think our first response is that it’s not something we’ve historically done, but if anyone wants to come in and have a chat about how we see it unfolding overtime we’re happy to do so and answer any residual questions. On the second point, looking at long-term returns, we’re running pretty much a community bank balance sheet, we’re running it an environment of higher capital requirements higher compliance cost. I think 75 to 80 points is a good goal as a baseline that starts for our type of Company and our type of balance sheet. It seems consistent with peers at our peer group in Chicago, but I think if we got closer to 85 to 90 looking at towards the run rate towards the end of ’15 then I think that would be a very good place for us to be given the constrains on capital, the constrains on yields in the loan portfolio and the asset mix. I would freely tell anyone as I have had before, that the non-interest income side is the part of our operation that always benefit from improvement and as you point out it’s not the easiest thing to do. And especially on a sustainable basis, things that are not sustainable that people have been relying on, like mortgage banking are starting to come out of their particular equations. But I think we can get to our interim numbers on the schedule we talked about and I think we can improve on those overtime as market conditions permit. We will have to start growing at a reasonable pace in the use of this excess cash, but we can get there. And if we are at 75 to 80 basis points as an interim level and we’re shooting for 85 to90 as a more or less permanent run rate. For a community bank of our size and our market and our profile that seems like a market goal that will also provide a good return to a market dividend for shareholder, it should provide excess capital to support buyback down the road, and we get back to the environment we were in pre-great recession pre-everything else and at the sustainable franchise.

[Operator:]

We have no additional questions at this time. Please proceed. My apologies, we actually do have one additional question from Brian Martin with FIG Partners. Please proceed. Brian Martin - FIG Partners See Morgan most of my questions are answered. Just a couple of things to follow-up on, is I thought you talked about a 4% margin and kind of getting the cash deployed. I guess can you give your sense on your expectations if you get this cash deployed, how you think the margin tracks from here, I guess as far as what you think is a kind of an end goal as you get the cash deployed maybe not quarter-to-quarter but just if you do execute the loan growth plan that you have laid out and get the cash deployed, what is a reasonable margin for BankFinancial to operate with under that scenario?

[F. Morgan Gasior:]

Like, we touched on earlier given where market yields are right now, especially for the higher quality assets and overall net interest margin target around 350 seems like a good place to think about. I think 4% would imply that either market yields or market spreads change from where they are right now. You saw some possibility of that during the course of late second and early third quarter, but given the reaction in the U.S. fee market, I don’t really see a yield push at a baseline level. So, I think when we say 4%, we’re looking at 350, 355 or say 350 on that interest margin and around 50 basis point on that non-interest income and gets you to overall revenue throughout the course. Brian Martin - FIG Partners And if the loan growth doesn't materialize quite as you expect I guess with rates being up a little bit is there a sense you'd take some of that cash and put it into securities even to pick up a little bit of yield or is that something you're contemplating at all?

[F. Morgan Gasior:]

Well, actually we did that Brian, and just want to go back and say that if you again look at loan originations they continue to strengthen quarter-over-quarter since the third quarter. And we are starting to see some loan growth in the portfolio despite the fact that we're resolving lower quality assets to cash and thereby reducing the overall loan portfolio, but we also moved cash into the securities portfolio, as you say you're picking up a little bit of yield, we see no real advantage to taking any kind of credit risk or interest rate risk in the securities portfolio, see there's a very low duration very high quality mortgage backed securities type investments that won’t be with us long. But they do pick up 25-30 basis points a yield at best. We'll continue to do that in the third quarter at the same -- in the fourth quarter at the same pace we did in the third quarter. That will get us to where we stared in '11. And then we'll really see if we think that we need to do anything further, but that will give us a good strong investment securities portfolio, that cash will run off overtime to the extent we have additional loan growth we might be able to use it, otherwise the OCC is very focused on balance sheet liquidity and short-term available investments if you need it, so that will be to serve their purpose as well. Brian Martin - FIG Partners And with credit churning like it has, and indeed the payoffs that you're seeing and they were up this quarter I guess is your expectation that maybe you're able to sustain the originations but those payoffs dropped pretty dramatically would that be your expectation?

[F. Morgan Gasior:]

I would hesitate to use the word dramatically, but I do think we're reaching a point now where we will not see quite the same amount of cash repayments. You saw improvement in reducing non-accruals, you saw improvement in liquidating OREO, you saw improvement in the performing classifieds, you saw improvements is the special mentions, some of those were liquidated for cash, some of those were able to be restructured. Where the borrower agreed to pay a principal curtailments otherwise their operations improved whatever needed to happen happened, was verified by both external overviews and outside regulatory reviews. So I think what we'll see going forward is the pace of cash resolution will likely decrease from third quarter, but what, if you can get your book value on a non-accrual asset then it would obviously be something we'll take a hard look at. We saw a lot of external refinances on some of these loans to other banks that works just fine for us. So I’d say if we had a $30 million quarter for third quarter and if you said gee fourth quarter would be less, maybe it’s 25, maybe it’s 20, maybe it's 15, that's consistent with the overall improvement in asset quality and obviously it further turbo charges the loan growth and gets you to where you want to go on both fronts, that is asset quality expenses as well as the better, the quality of the interest earning assets that much faster. Brian Martin - FIG Partners And maybe just the last question. Richard talked about the loan growth, that's pretty tough to come by these days, you guys put up on the better quarters I guess in quite some time and even relative to some of the competitors out there, when you fully look at going forward you remind me where the, where you're getting your growth from or I guess maybe. And then as it relates to that, either concentration limits, if you talk about putting on 30 million a quarter for the next six, five-six quarters, you're putting on over $100 million in loan growth. Are there certain buckets in the portfolio you can't fill up at this point relative to concentrations or is anything open and that's the way to look at it?

[F. Morgan Gasior:]

We have room in all of our concentrations, remember as you resolve certain things it opens up an opportunity for concentrations, but leasing there's plenty of room there in both the commercial side and the commercial leasing side. Multifamily, there's still plenty of room in the multifamily side. And then multifamily has other solutions. In the past we’ve evaluated securitization of the multifamily portfolio, the quality of the loans coming on the books can support that overtime, they'll need seasoning and we really need to get to the portfolio to the point where the securitization makes financial sense, because you're going to take a yield good on that and that's not necessarily helpful today. But that's why we like that asset, it's one of the few assets that has an ability to manage concentration risk overtime and so keep the portfolio and the Company going.

[Operator:]

We have no additional questions. I would now like to turn the call back over to management for closing remarks. My apologies, actually we have a Mr. Jon Burke to actually ask a second question. Your line is now open. Jon Burke - Amica Insurance Hey Morgan I would just echo what Richard said about providing the forward information on how do you get to your numbers. I think that's kind of essential for where we're at right now considering that myself, he's at different numbers than you are, I think that'll be important in considering what the shareholders have been through here, since really IPO I think it would be much appreciated.

[F. Morgan Gasior:]

Well we’ll give some thought about the best way to do that Jon, but we take your thoughts and that of Richard's seriously.

[Operator:]

We have no additional questions at this time. I would now like to turn the call back over to management for closing remarks.

[F. Morgan Gasior:]

We thank everyone for their interest and as this is our last call for the year, we wish everyone a happy holiday season.