Boston Private Financial Holdings, Inc.
Q1 2016 Earnings Call Transcript

Published: 21 Apr 2016

[Operator:]

Good morning and welcome to the BPFH First Quarter 2016 Earnings Conference Call. All participants will be in listen-only mode. [Operator Instructions] After today’s presentation, there will be an opportunity to ask questions. [Operator Instructions] Please note this event is being recorded. Now, I’d like to turn the conference over to Clayton Deutsch. Mr. Deutsch, please go ahead.

[Clayton Deutsch:]

Thank you. Good morning, everyone. This is Clay Deutsch, Chief Executive Officer of Boston Private Financial Holdings. Welcome to our first quarter 2016 earnings conference call. Joining me this morning are Dave Kaye, our Chief Financial and Administrative Officer; Corey Griffin, Chief Executive Officer of Boston Private Wealth; and Adam Bromley, our Director of Investor Relations. At this time, I’ll ask Adam to read the Safe Harbor provisions before we make additional remarks.

[Adam Bromley:]

Good morning. This call contains forward-looking statements regarding strategic objectives and expectations for future results of operations and financial prospects. They are based on the current beliefs and expectations of Boston Private’s management and are subject to certain risks and uncertainties. Actual results may differ from those set forth in the forward-looking statements. I refer you also to the forward-looking statements contained in our earnings release, which identify a number of factors that could cause material differences between actual and anticipated results or other expectations expressed. Additional factors that could cause Boston Private’s results to differ materially from those described in the forward-looking statements can be found in the company’s filings submitted to the SEC. All subsequent written and oral forward-looking statements attributable to Boston Private or any person acting on our behalf are expressly qualified by these cautionary statements. Boston Private does not undertake any obligation to update any forward-looking statements to reflect circumstances or events that occur after the forward-looking statements are made.

[Clayton Deutsch:]

Thank you, Adam. Thank you all for joining the call this morning. In the first quarter, our company generated net income of $18 million or $0.21 per share compared to $0.17 per share last quarter and $0.21 per share in the first quarter of 2015. Return on average tangible common equity was 14.1% for the quarter and return on average common equity was 9.8%. It was a challenging macro environment for all of our businesses during the first half of the first quarter. Markets applied pressure to both our spread driven and equity market linked businesses, but I’m generally proud of how we responded. I’m especially pleased with the performance power demonstrated by Boston Private Bank, after repositioning our balance sheet prudently for alternative interest rate scenarios. Our bank balance sheet performed well in the quarter after the first rate hike. We continue to demonstrate strong asset quality, loan and deposit growth in line with our annual targets and efficient net interest income generation. The equity market recovery during the latter half of the quarter was not strong enough to lift the revenue and earnings power of our fee-based businesses. Our aggregate revenue from all of our wealth management activity across the company declined 2.2% quarter-over-quarter. Nevertheless, our affiliates remain well positioned in their respective categories. March and April have proven more favorable and we continue to work to position all of our wealth businesses for long-term success. Finally, I would like to offer a candid assessment of our progress at Boston Private Wealth. Boston Private Wealth is now built and represents a strong client-centered wealth management model linked with our trust and private banking businesses. At the same time, our client redemptions remain too high. This quarter outflows were driven by the loss of six large clients. Market action coupled with client losses has reset the revenue base and created a P&L challenge. We will address the P&L challenge over the next several quarters while continuing to invest in Boston Private Wealth as a premier wealth management destination for our private clients. We are totally committed to building this business. As I assess our progress, I am pleased with the quality of the business model now in place at Boston Private Wealth. We have a compelling wealth management solutions offering with significant and demonstrable client appeal. We posted another record quarter in new client, new business development, sustaining the momentum established in the second half of 2015. A strong West Coast team is now in place giving us a more complete West Coast presence in wealth management than we've ever had. We have the right executives in place to build a healthy long-term business. And today we are heavily staffed which has been done in part to over-serve our client base as we remain focused on client outreach and client retention. Strengthening Boston Private Wealth remains priority number one as we focus on building climate appeal and positioning the business for long-term client success. With that I'd like to turn the call over to Dave. David?

[Dave Kaye:]

Thanks, Clay, and good morning everyone. My comments will begin with slide three of the earnings presentation and that can be found in the Investor Relations section of our website bostonprivate.com. Slide three provides a summary of our key performance metrics. In the first quarter 2016, return on average common equity was 9.8%. That compares to 8% in the fourth quarter of 2015 and 10.9% in the first quarter of 2015. Our Tier 1 common equity ratio rose to 9.9%. Now you'll recall that we have a target Tier 1 common ratio of 9.5% to 10%. We do have a share buyback program of up to $20 million that remains in place and presently we’ve purchased approximately $3 million worth of BPFH shares - $3 million worth of BPFH shares. The slide four shows our consolidated income statement. Net interest income growth continues to be strong and that reflects some benefit from the December rate hike and the maturity of the hedge on our trust preferred securities. Core fees and income increased 2% linked quarter to $37.7 million. The fee increase was attributable to higher swap fees at the Private Bank. Total operating expenses for the first quarter of 2016 were $66.7 million and that's down 1% linked quarter. I will go into a bit more detail on the next slide. So moving on to slide five, we show a detailed breakout of our consolidated operating expenses. Salaries and employee benefits increased 8% linked quarter and that's due to seasonal 401(k) and FICA expenses while increasing 1% year-over-year. They are still elevated. Expenses related to professional services decreased to $3.5 million on a linked-quarter basis. Marketing expenses of $2.2 million decreased 40% linked quarter and that's due to the marketing campaigns at Boston Private which were elevated in the fourth quarter of 2015. Finally, we recorded a $1.1 million restructuring expense related to Boston Private Wealth in the first quarter of 2016. Moving on to slide six, the top chart shows the relationship between our net charge offs or recoveries and our provision for loan loss. As you can see these measures continue to be correlated. Special mention, loans did increase during the first quarter but that was partially offset by a decrease in the riskier classified loans. On slide seven, we show the private banking segment excluding the wealth management portion of our bank. In the first quarter, net interest income increased 3% link quarter and 7% year-over-year to $50.4 million. Core banking fees increased to $3.4 million in the first quarter and again that was due to higher swap fees which came as a result of higher client demand. Total operating expenses of $31.3 million decreased 2% linked quarter due to lower marketing expense and lower professional fees. Year-over-year, expenses were up 9% and that's partially attributable to the reallocation of personnel expenses from the holding company to the private bank and partly due to the timing of marketing, which year-over-year was up. Pre-tax pre-provision income increased 7% year-over-year and that's due to growth in the net interest income and core fees. On slide eight, we show the past five quarters of our average loan balances and average deposit balances by type. Total average loans increased 6% year-over-year and that was led by C&I, which was up 14%, CRE & Construction which was up 6% and Resi was up 4%. Average total deposits increased 8% year-over-year to $5.9 billion and that was led by a growth in core funding. Demand deposits and money market deposits increased 14% and 9% respectively, while CDs continued to trend lower. Deposit growth has been strong across both our East Coast and West Coast markets. Turning to slide nine, our core interest margin at the bank was up 1 basis point linked quarter and down 2 basis points year-over-year to 2.94%. Core net interest income at the bank was $49.3 million in the current quarter and has now posted sequential increases in five straight quarters. We’ve able to achieve incremental net interest income growth while at the same time better positioning our balance sheet for various interest-rate scenarios. Our cost of funds including DDA has come down 2 basis points year-over-year. And with that I’ll now turn it over to Corey Griffin CEO of Boston Private Wealth. Corey?

[Corey Griffin:]

Thanks Dave, slide ten contains financial information for the Wealth Management Trust segments which operates under the Boston Private Wealth plan. Revenue decreased 6% on a linked quarter basis to $11.1 million due to lower assets under management. Total operating expenses increased 5% linked quarter to $15.9 million, up from $15.1 million in the fourth quarter of 2015. Expenses in the first quarter of 2016 included restructuring expenses of $1.1 million. Expenses were also elevated this quarter by seasonal compensation expenses and legal fees. We did not see the full benefits of the restructuring charge we incurred in the first quarter of 2015. We will begin to fully realize these benefits this quarter and we’ll continue to take the steps necessary to return this business to profitability. On slide 11, we show both net flows and new business flows for Boston Private Wealth for the past eight quarters. Point-to-point assets under management for Boston Private Wealth decreased $839 million. More than half of that decline was from the sale of a non-core investment consulting business located outside of our core geographic markets. The effective fee rates on these assets were 11 basis points. The negative net flows in the quarter were driven by elevated client attrition. 64% of lost clients were concentrated in fixed relationships many of which were low fee accounts. Together, these fixed relationships had an effective fee rate of 34 basis points compared to our overall average of approximately 60 basis points. We will continue to focus our attention on this target clients and higher value-added activities. New business for the quarter I'm happy to say was a record $366 million which represents strong contributions from our channel partners in all of our private banking market. Despite first-quarter market uncertainty, we are pleased with rate and quality of new client attractions furthermore we see a very robust client introduction pipeline. We’re encouraged that the first quarter of 2015 was the third straight quarter with new business that generates over $250 million of pipeline that’s double from this time last year and for the first time it is equally related across both coasts. I’ll now turn it back to Clayton.

[Clayton Deutsch:]

Thank you, Corey. Let me know address net flows across our other wealth businesses. Slide 12 shows assets under management net flows by segment. The investment management segment had net outflows of $402 million in the quarter reflecting ongoing challenges faced long-only domestic equity managers. For the wealth advisory segment, we saw a positive net flows of $63 million in the quarter. On slide 13, we show that total revenue for the investment management segment decreased 9% year-over-year and 2% linked quarter to $10.7 million due to the impact of net outflows. Operating expenses decreased 8% year-over-year and 2% linked quarter, representing lower incentive compensation. First quarter 2016 segment EBITDA margin was 32%, flat linked quarter and compared with 33% in the first quarter of 2015. EBITDA margins remain above our 30% corporate target. Moving to slide 14, our wealth advisory’s reported revenues of $12.7 million, up 1% linked quarter and flat year-over-year. Operating expenses increased 18% linked quarter and 6% year-over-year to $9.7 million. This increase primarily reflect senior client facing hires at both KLS and Bingham, Osborn & Scarborough. First quarter 2016 segment EBITDA margin was 27% compared to 38% in the fourth quarter of 2015 and 32% in the first quarter of 2015. That concludes my comments on first quarter 2016 performance. We would now like to open up for your questions.

[Operator:]

[Operator Instructions] And the first question comes from Casey Haire with Jefferies.

[Travis Potts:]

Good morning, guys. This is Travis Potts on for Casey. Just starting on outflows you experienced, it looks like prior to this quarter, it sort of hit a peak and were decelerating. Can you just – I know you said you had six kind of larger clients that left. But going forward, how do you see that progressing from here? And then also are there any lost PMs on the quarter might have driven as well?

[Corey Griffin:]

Sure, this Corey. So thanks for your question and we take a very methodical approach to reviewing the status of all of our clients on a constant basis and some of the factors we think about are obviously sensitivity and changing personnel and I sense that’s the foundation of your question. Life events, generation of wealth transfer, drawdown mode, constantly looking at all that. I mean, using all those factors, we are very focused on I would say about 600 million of our clients and I won’t put a number what factors attribute to what. Further we get away from some other personnel changes. I think that there is lower possibility that number is realized. But I can’t put a probability in the whole thing. We are very focused on incentive and making sure we are servicing those clients. Second part of your question. We retired a strategy this quarter, just was the strategy we are going to use in the rest of our portfolios on those legacy portfolio manager. When we retired that strategy that portfolio manager was let go.

[Travis Potts:]

Okay, that helps. Thank you. And then just on credit, I realize I can also be pretty lumpy. But kind of what do you see looking out on the pipeline for net recoveries and kind of how much more do you think that head, tailwind might continue?

[Dave Kaye:]

Yes, it’s really difficult to predict. I would say that when looking at our non-accruals, we still have about 40% to 50% of our non-accruals that are paying as agreed. And if those pay off, we will get some further recoveries. So it’s not going to – as you said, not going to last forever. I could see us generating additional recoveries this year. But again, it’s pretty hard to predict.

[Travis Potts:]

Great, thank you.

[Operator:]

Thank you. And the next question comes from Chris McGratty with KBW.

[Chris McGratty:]

Good morning everybody. It may be clear [ph] quarter for you. If you look at the market sense of the revenues, private banking, investment management and wealth, you know, the quarterly run rate has kind of moved in directionally with the flows. I guess the question is based on the changes you guys have made, and the flows that continue to be negatives, is it fair to assume that the revenue, the fee income growth rate will still be lower until you figure out a way to stabilize flows?

[Clayton Deutsch:]

Chris, I will take a stab out, and then maybe Corey can come back to talking about our client retention efforts. There are kind of two variables that work. The key variable in Corey’s business right now is client retention. The client introduction rate is stellar and it’s stellar relative to the best in the industry and it’s stellar relative to our corporate history. We are running now about three times what our historic new client introduction rate was. So the key variable in Corey’s business is shutting the door on client departures. Looking beyond the wealth business and talking about our four affiliates, you saw that step up in the quarter in a sense with Bingham and KLS, the wealth advisors are very, very much driven by senior client service capacity and those are purposeful investments in continuing to expand those practices. Those practices will never be a straight line, but they have been honestly steady and those practices have expanded over my history here anywhere from kind of 5% a year to a high double-digits a year. So we will continue to back those practices and continue to work on in investment in expanding client service capacity. With Dalton, Greiner and Anchor, and our two proprietary investment managers, they of course are vulnerable to market action. Despite good investment performance and a lot of work on marketing and sales, the first quarter was cool. If you look at all of the publicly traded asset managers, the first quarter was hard on the whole industry. And we can’t control market bounce, we don’t budget market action. I think the primary controllable there are - were very focused on investment performance and analysis of investment performance and how we convey our value added to our clients and we’re very focused on marketing and distribution efforts. So sorry for the ramble but those are the primary factors, our corporate goal overall remains to grow our aggregate wealth management revenue build at 10% a year. We’re clearly not there right now, but our central tendency even though that number I believe has more volatility than traditional bank balance sheet revenue, we want that number multi-quarter to trend to 10% a year and we’re very focused on how we get there.

[Chris McGratty:]

That's great colour. If I could just follow the play, I think you probably talked about with the kind of transition to management team and the assets that have kind of been at risk that yellow zone. I think you hesitated in the past to say, hey we think the worst is behind us but maybe could you summaries how are you feeling today as it stands in the spring relative to maybe the end of last year. Do you still think that the majority of what was at risk is kind of made its way out of the door or do you feel I guess one way or the other directionally or kind of strategically that some of the challenges may be stronger or less in your thoughts? Thanks.

[Clayton Deutsch:]

Well Chris let me bridge back to what Corey said. Corey and the team had been analytically religious about client measurement and client profiling. Corey mentioned that we believe there is about $600 million of AUM represented by high-quality clients who were in tremendous retention attention. What we can give guidance on is how much of that $600 million ultimately retains versus departs. What I can tell you is we’re forming that $600 million. Corey also made a key point about staff stability. We have attained a high level of staff stability. So staff departures are not triggering the remaining risk level around retention, the one strategy Corey mentioned was not a fulcrum in anything that happened in the first quarter. I'm not a believer in bad luck but in the first quarter frankly I think we had bad luck, everyone of the six clients who drove that large number are a bit of a story. So as I’ve said in previous public statements I think the retention journey unfortunately is not a straight line, it’s lumpy quarter to quarter. We certainly had our hopes up in Q4 when Q4 departures looked a lot better than Q3. And therefore we’re very disappointed in the Q1 number but I'm not at all believing this is a problematic trend, I think we're trending with each passing quarter toward a greater and greater client stability.

[Chris McGratty:]

Okay, that's very helpful. Maybe if I could ask one final one on the expenses. Given kind of the run rate and the investments you're making, Dave may be for you, where shall we be kind of modeling, obviously seasonality along the lines in the second quarter, how should we think of normalizing expenses for the rest of the year? Thanks.

[Dave Kaye:]

Yeah, I mean again looking at the normalized expenses I think we have a lot of the investments in place. We saw some of those expenses in the first quarter. So, you look at the 66.7, you take out the 2 million or so of FICA seasonality that we had and the restructuring and I think you get into more of a 63, 63.5 range for normalized. That does have some elevated professional fees if we can get that down, we can take that down a few hundred thousand as well.

[Operator:]

Thank you. And the next question comes from Alex Twerdahl with Sandler O’Neill.

[Alex Twerdahl:]

I just want to drill into growing a little bit more into this in Boston private wealth flows can you Corey tell us in the first quarter what percentage of the inflows were related to those hires that you made earlier this year the guys from filigree and my Micah's? Corey, tell us in the first quarter what percentage of the inflows were related to those hires that you made earlier this year, the guys from Filigree and Mikus?

[Corey Griffin:]

Sure. Those are about a third of the inflows for the quarter.

[Alex Twerdahl:]

Okay. And the pipeline that you talk about, is that still – is lot of that from those guys or is it kind of across the board or maybe little bit more color on how the pipeline is looking?

[Corey Griffin:]

Sure. Overall the pipeline is twice as large today as it was this time last year. I should add by the way an editorial comment. In light of all the change that’s been going on, the transitions to management, the fact that place is large given the focus has been maybe in other parts of business I think that's pretty phenomenal. I can guarantee they are four times from here, but I am pretty encouraged by that. The pipeline is not – the growth in that is not all attributed to that group although the majority of that group is from the West Coast and I think that frankly that group has unlocked an incredible amount of opportunity from our West Coast bankers that they have been starving for at least for last two and a half years while I have been here. So they are contributing to it, but it's all over through our channel partners through the East Coast. We have developed a dedicated effort calling on our internal bankers Boston Private Wealth personnel treating them like a client and making sure they are educated and understanding the new model. And I think the more that the bankers here in Boston and the California hear about that the more and more they are opening their client books to us.

[Alex Twerdahl:]

Okay. And then the 600 million at risk can you give us a sense for the number of clients that's behind that 600 million? And then also just average size of the Boston Private Wealth client. I'm just trying to get a sense for these six customers that left in the first quarter. Were those atypically very large customers or are they kind of closer to the average size of what your clients look like?

[Corey Griffin:]

I mean, clearly if you break down those large clients they were atypical to the size we had and I would also classify them as more - less wealth management clients and maybe even more as investment management clients which we're trying to get away from. I should also point out I think Clay said, one of the clients departed is as a result of strategy change where we retired a strategy and $50 million went out, but I think strategically it is a right decision. So is that a client outflow due to personnel change, no. Back to your original question, I think our average size relationship is $3.5 million. The number of clients on that list is 600, it is probably 50 to 60.

[Alex Twerdahl:]

Okay, great. And then just switching gears into the investment managers, Clay, could you break out the new client introductions into the investment managers versus the net outflows similar to the way you've done for the BP Wealth?

[Clayton Deutsch:]

Yeah, we haven't done it historically, Alex, and I will look at that. I don’t want to blur it out on this call and then trap us in new disclosure. I will tell you this though I think the headwinds in active US equity management remain high. Having said that one ray of sunshine is in the first quarter lot of the drawdowns that I saw were not client terminations, it was rewriting and rebalancing. Now one quarter does not a story make. But I do have hope that our repositioning both Anchor and Dalton, Greiner, good value added investment performance, good higher quality marketing and distribution, a balanced focus not only on the institutional space, but institutional plus platform channels and domestic partners, plus in the case of Dalton, Greiner international investors looking for US equity exposure. I do think we're taking a balanced approach. If we get into a market environment with reduced uncertainty I think a big part of the first quarter was just kind of the start to the year and just elevated uncertainty everywhere. That always has a chilling effect on client allocation. So again we're just focused on the controllables for us, investment performance, value-added marketing and sales. I do take some heart though in the change in anatomy of the negative flows. It was less terminations than historic and more rewriting, rebalancing et cetera. And I will take a look at going forward, do we get it into gross net and all that, but we have not.

[Clayton Deutsch:]

It’s a different business. Again, you got to think about it. Our clients are largely the large platforms. Most of the assets sit on very large SMA unit platforms and so we have the large institutional client. The underlying high net worth clients that sit and drive the assets on that are not someone that we have direct relationships with. So it’s a little bit of an apples-to-oranges comparison you’re talking about client relationships.

[Alex Twerdahl:]

Okay. And then Dave, just to switch back to talk about the reserve a little bit, sorry to eat up so much time here with questions, but can you tell us the amount of the reserve release this quarter that was specifically related to the reduction in commercial loan balances?

[Dave Kaye:]

It was probably about half, about half was related to the net recoveries and about -- which we didn’t have previously reserved for. And then, half was related to reduction in commercial loan balances.

[Alex Twerdahl:]

And is that mostly the construction loan reductions?

[Dave Kaye:]

It was construction and C&I.

[Alex Twerdahl:]

Okay. And then, is there any way you can quantify, you’ve talked about the NPLs that are still accruing, how much interest has accrued as that could potentially flow back into net recoveries at some point. Is there a number that you’re able to put behind that?

[Dave Kaye:]

I don’t have that right now. We do track that and we’ll look into potentially at something we could disclose in the future. Again, it’s really hard -- it’s hard to use as a predictor to them.

[Operator:]

[Operator Instructions] And the next question comes from Christopher Marinac with FIG Partners.

[Christopher Marinac:]

Thanks. Good morning. I was curious, Dave, about the non-accrual interest that drove a few basis points of margin this quarter. Would we see that again and is that -- do you have any predictability on that number?

[Dave Kaye:]

No. We do put that in the tables, I think, last year, we probably had about 2.5 million for the whole year, 2.3 something like that. This was an elevated quarter, 1.1, but it can be lumpy. I think the year-over-year, the first quarter of 2015, it was 1.7 and we had 0, then it was 300,000, 300,000 and it’s 1 million this quarter. So it’s -- again, it can be very lumpy related to some large credits that pay off.

[Christopher Marinac:]

Okay. Fair enough. And then Clay, I guess a question for you, I mean as you talk about the AUM at risk and really the whole business in the wealth management, can you do anything on the incentive side. You said your team not to see these assets go. I’m just thinking it presenting different, you could do that you may not have done in past years, just given the circumstances and what’s happening?

[Clayton Deutsch:]

Well, Chris, it’s an astute question. The answer is yes, but it’s largely in place. We spent a lot of time last year, working on appropriate incentives and resets and they’re typically of several types. We have some very appealing and yet, I think high class. What we don’t want to create is some kind of mercenary culture, but we have a very appealing set of incentives for our client facing private bankers to introduce clients to our wealth management and trust businesses. Our wealth management client advisors are very focused on client service and building the type of their client books of business, which obviously is both introduction as well as retention. And then we have a number of sales people covering channels, third party centers of influence and in our investor management businesses, selling in the institutional space and the like. We spend a lot of time, last year in particular, scrubbing those arrangements, making sure they were appropriately centered and I feel good about it.

[Christopher Marinac:]

Okay. Clay, thanks for that color. And Dave, just one last question for you, are there any restraints to sort of how much deposit flows you’re willing to take in, in a given year, I’m just curious if you seek to manage those or will you sort of take whatever liquidity comes your way?

[Dave Kaye:]

No. We don’t have any restraints or constraints on that.

[Operator:]

Thank you. [Operator Instructions] All right. Well, as there is nothing else in the present time, I would like to return the call to management for any closing comments.

[Clayton Deutsch:]

Thank you all for your continued interest in us. We’re going to be very active in the coming several months with IR outreach and we look forward to seeing you and seeing our investors.

[Operator:]

Thank you. The conference is now concluded. Thank you for attending today’s presentation. You may now disconnect.