Great Western Bancorp, Inc.
Q3 2015 Earnings Call Transcript

Published: 27 Jul 2015

[Operator:]

Good morning, and welcome to the Great Western Bancorp Third Quarter Fiscal Year 2015 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 also note today’s event is being recorded. I would now like to turn the conference over to Cheryl Olson, Head of Marketing. Please go ahead.

[Cheryl Olson:]

Thank you, Rocco and good morning everyone. Joining us this morning on Great Western Bancorp’s third quarter fiscal year 2015 earnings announcement conference call is Ken Karels, President and Chief Executive Officer, Peter Chapman, Chief Financial Officer, Steve Ulenberg, Chief Risk Officer, and David Hinderaker, Head of Business Performance and Strategy. Before we begin, please note that some comments today may contain forward-looking statements that are subject to certain risks and uncertainties that could cause the company’s actual future results to materially differ from those discussed. Please refer to the forward-looking statement disclosures contained in the presentation, we have made available on our website, as well as our SEC filings for a full discussion of the company’s risk factors. Additionally, today we’ll be discussing certain non-GAAP financial measures on this conference call. References to non-GAPP measures are only provided to assist you in understanding Great Western’s results and performance trends and should not be relied upon as a financial measure of actual results. Reconciliations for such non-GAAP measures are appropriately referenced and included within the presentation. Now, I'll turn the call over to Great Western Bancorp’s President and Chief Executive Officer, Ken Karels.

[Ken Karels:]

Thank you Cherly, and welcome to our conference call to discuss our financial results for the third quarter. Great Western Bank’s third quarter was marked by great loan growth, solid earnings and substantially improved credit quality. We did leverage results, which are reflective in our commitment to executing on our strategy. We are pleased with this quarter’s results, and will continue to balance and focus on growth, profitability and our prudent approach to risk management. Now let’s take a closer look at our financial highlights. Our third quarter net income was 28.8 million or $0.50 per share, bringing fiscal year-to-date income to 75.3 million or $1.30 per share. Net interest margin and adjusted net interest margin each increased from last quarter to 3.95% and 3.7% respectively. The efficiency ratio for the quarter was 46.4% driven in part because we realized a net gain related to last quarters’ branch closures and a continued focus on expense management and revenue growth. Total loans grew 172.8 million during the quarter and are up 6.7% through the first of three quarters of our fiscal year. Asset quality performance returned to a more normalized level, as we move beyond the elevated credit related charges in the previous quarter. We’ve steadily increased our reserve coverage over the last 12 months, and the OREO balances are at their lowest levels in five years. Additionally, as we disclosed this morning, our Board of directors has declared a dividend of $0.12 per common share payable on August 28, 2015 to owners in record as of close of business on August 14, 2015. Now let’s hear from our Chief Financial Officer, Peter Chapman on greater details of the number for the quarter. Pete

[Peter Chapman:]

Thank you Ken. Thank you and welcome to everybody who is joining us this morning, we appreciate your time and your dialing in to hear us. As Ken has explained we are pleased with the performance for the quarter, underpinned by strong loan growth, stable margin and also continued expense discipline. Net interest income for the third quarter increased $4.9 million or 6% from the June 2014 quarter. Topline loan interest income growth and majority of the inquiries with lower interest expense on deposits helping offset low returns on the investment portfolio. The public costs have also declined 2 basis points compared to the March 2015 quarter. Net interest margin was 3.95% for the quarter ended June 30, 2015, up 6 basis points from last quarters’ margin of 3.89%. The adjusted net interest margin for the quarter was 3.7% compared to 3.64% in the March 2015 quarter. This increase this quarter was primarily due to higher investment portfolio yields, stabilized loan yields and a reduction in the cost of deposits. A portion of this stabilization in loan yield was due to a $0.4 million incremental interest income recognized on the work up of two acquired loans in the quarter, and $0.5 million interest income reversed in the March 2015 quarter when loans were placed on non-accrual status. Looking through these non-recurring amounts, net interest margin for the quarter was approximately 3.67%, up 1 basis points from the prior quarter. Fiscal year-to-date the net interest margin is 3.92% down 7 basis points from a net interest margin of 3.99% for the nine months ended June 30, 2014. As is being the story for our industry, this is primarily due to lower asset yields. We’ve able to offset the reduction by decreasing the cost of deposits by 5 basis points over the last year. Adjusted net interest margin was 3.67% compared to 3.7% in the prior period, driven downward also by compressing asset yields partly offset by the lower costs of deposits. Non-interest income was $10 million for the quarter, a decrease of $300,000 or 3% compared to the June 2014 quarter. Included within non-interest income are the changes in the fair value of certain loans to which the company has elected the fair value option and the net gain or loss realized and unrealized on the related derivatives used to manage the interest rate risks on these loans. On a net basis, these two components of non-interest income represented a $1.5 million decrease, being the product and service fees included in non-interest income increased $1.2 million or 9%, compared to the same quarter in fiscal year 2014. This increase was primarily attributable to the increases in the net gain on sale of loans in the mortgage business. The results for the quarter also show the company’s continued focus and ability to deliver [peer] leading efficiency. Total non-interest expense decreased $7.8 million or 14% compared to the June, 2014 quarter. There are number of non-recurring items within the decrease compared to the prior year. These include a $5.2 million reduction in the net OREO cost from higher charges in the June 2014 quarter and a net non-recurring gain in the current quarter of approximately $1.6 million relating to branch closure activities. We know here also that OREO has at June 30, 2015 was down to $22 million, the lowest level in five years. There was a $2.3 million reduction in the amortization of intangible assets and $1.7 million reduction in net occupancy expenses stemming from a reduction in real estate taxes payable from OREO disposals and fewer branch locations. These savings were partly offset by $2.5 million increase in salaries and employee benefits which included increases in salaries and also approximately $600,000 of higher health insurance and recruitment related cost to fill public company related roles in the June 2015 quarter that are not expected in subsequent quarters. Our efficiency ratio was 46.4% for the quarter and is still very strong approximately 48.5% excluding the one-off expense benefits referenced in the quarter, and a 48.4% efficiency ratio to the first nine months of fiscal 2015 compared to 50.9% in the same period in the previous year. Deposit balances have contracted by a $130 million during the quarter, with year-to-date growth of 305 million or 4.3%. We typically experience a seasonal net deposit outflow in the third fiscal quarter as noted during the last earnings release call, and this decrease was well within expectations. FHLB borrowings increased by $115.5 million during the quarter to offset deposit outflows and fund loan growth. As mentioned earlier, the average cost of deposits for the quarter was 31 basis points down 5 basis points compared to the June 2014 quarter. Our capital levels remain consistent through the quarter, tier 1 and total capital ratios were 11.5 and 12.5 respectively as of 30 June, 2015 compared to 11.6% and 12.6% as of 31 March, 2015. The common equity tier-one capital ratio is 10.8% as of 30, June 2015, as it was at March 31, 2015. Our Chief Risk Officer, Steve Ulenberg will now talk to loan and asset quality trends seen through the quarter.

[Steve Ulenberg:]

Thanks very much Pete. Let me begin by saying that from a risk standpoint we’ve seen a very solid third quarter performance, and this has occurred in tandem. As Ken mentioned earlier Great Western achieving good loan growth and momentum for the year-to-date. Loan growth for the quarter ended June 30. 2015 was $172.8 million bringing fiscal year-to-date growth to $457.8 million and that was up 6.7% compared to September 30, 2014. Year-to-date growth remains balanced across the business and agricultural ending sectors including commercial and non-real estate, commercial real estate and agriculture, and this reflects our well diversified commercial and agri focused loan portfolio. As mentioned at our last earnings call, we continue to work closely with our grain farmers in this lower grain price environment, and overall these farms are performing in line with our expectations. The small lift in corn and bean prices we’ve seen over recent months also provides a little more support [perceived] to cash flow. But we continue to reinforce the disciplines of sound marketing and financial management. Our other key agri sectors, beef, hogs and dairy all continue to perform at good levels with reasonable stability in prices plus strong demand and continued assistance from some lower grain [feed] costs. Non-performing loans as of June 30, 2015 were $68.1 million with $8.3 million of the balance covered by FDIC loss sharing arrangements. Total non-performing loans decreased by $6.2 million or 9% during the quarter. A number of these loans was loss share coverage reduced during this quarter as expected with expiry of some loss sharing coverage. On these management is comfortable with workout plans on these loans and does not currently expect to incur additional credit losses on these loans in the future. OREO balances declined to $22 million which was a 50% reduction during the quarter, driven primarily by the liquidation of one long-standing problem asset. Loans on watch status were $322.3 million as of June 30, 2015 and that was a decrease of $62.2 million or 16% during the quarter. This was positive and we have a continued focus on aggressively managing action plans for the loans we have on watch. Provisions for loan losses was $4.4 million for the quarter compared to 1.5 million in the same quarter of fiscal 2014, and down from the $9.7 million for the last quarter. Net charge-offs for the quarter were $0.9 million or 0.05% of total loans on an annualized basis, and that was down from $1.6 million or 0.10% of total loans on an annualized basis for the comparable periods of FY’14. Fiscal year-to-date net charge-offs stand at $9 million or 0.17% of total loans on an annualized basis. The ratio of allowance for loan losses to total loans increased from 0.74% at March 30, 2015 to 0.77% at June, 2015. Now I will turn the call back to Ken for some closing remarks.

[Ken Karels:]

Thank you Steve. In summary, we believe Great Western Bank is well positioned to continue to deliver strong loan growth, expense management and shareholder value through our proven business strategy. We are doing what we said we would do by providing another consistent quarter, nothing flashy really; we’ll simply work in the markets and areas where we have the expertise providing strong, profitable growth through a high efficient operating model, delivering strong credit quality through a proven risk management and providing shareholder value through strong capital [run] business. In short we are delivering on our promises. Before we open up the call for questions a couple of comments relating to several stock transactions. In May 2015, our principal stock holder, NAB completed a secondary offering of our common stock, following our IPO in October of 2014. This morning we announced the launch of our further secondary offering by NAB and our entry in to an agreement with NAB to purchase $60 million of our common stock from NAB concurrently with the secondary offering. We also expect to repay all outstanding debt owed to NAB at or shortly following the closing of the secondary offering funded by the net proceeds of an anticipated private placement of subordinated notes. Under US Federal security laws we cannot comment further on these offerings at this time. Now we’ll open up the call to questions.

[Operator:]

[Operator Instructions] Our first question comes from Preeti Dixit of JP Morgan. Please go ahead.

[Preeti Dixit:]

Ken can you speak specifically to the trend in the watch list Ag loans? Which segments drove the linked quarter decline in watch loans and then as we head in to the fall, will there be any further reviews of those that could prompt credit rating actions.

[Ken Karels:]

Steve go ahead.

[Steve Ulenberg:]

Yeah, I think probably just to give you two perspectives on that, the increase we saw in March was driven by a combination of ag loans as we talked about, we’ve done deep down reviews on that and so wanting to be prudent to make sure we are just monitoring loans there that may have more challenges, but also deep diving in to our C&I area as we normally would. The reduction in June, a little bit of that was Ag, probably more of that C&I and [non-earnings rocked] by commercial real estate, and if you look at our watch loans at the end of June it was around about 4.6%, which is interestingly round about where we were in June 2014. So that’s around where we’d be at that season, and five watch loans I should add are performing loans, so obviously (inaudible) of these loans were through their actions plans, and they get up righted, they come out late. So really we are just seeing the natural cycle there occurring.

[Ken Karels:]

Yeah actually too on ag especially the green farmers you aren’t going to see that fluctuations quarter-from-quarter its’ going to be more annually as crops come in and the marketing of those crop will dictate whether they are improving or will be exiting any of those credits.

[Preeti Dixit:]

Got it, and then in terms of the allowance building that quarter, given such positive watch list and a non-accrual trend, can you talk about whether that was just more qualitative for the loan growth you are seeing, and then how should we think about the taste that’s build over the next year.

[Ken Karels:]

Pete do you want to start on that one, may be?

[Peter Chapman:]

Sure. So Preeti I think in terms of that increase through the quarter, when we talked around the September quarter end last year we were at 70 points, and [recently] that was about below point in the cycles. So what we have seen really is just a continuation of a prudent build up in that coverage. Not that we are really concerned with anything from an underlying trend perspective. I would expect that to stay where it is, tick up by a couple of points each quarter, but we haven’t currently got any internal targets we are working to in terms of coverage and obviously comfortable, [well] provision given the strong asset quality metrics that we’ve got. So probably you’d expect to see something similar to what you’ve seen now for the quarter.

[Preeti Dixit:]

Okay, that’s helpful. And then Peter in terms of the deposit cost declining in the quarter at 31 basis points, how much more do you think there is to move that lower given the loan-to-deposit ratio is, and then directionally how should we think about the core margin from here.

[Peter Chapman:]

Yeah, I haven’t seen - I wouldn’t expect there to be a material decrease from here in terms of the deposit cost Preeti, and obviously we’ll revisit over the course of the quarter. If [fed] rate start moving we’ve got an action plan internally around what products we feel we may have to move on from a rate perspective sooner than others. So look, I wouldn’t expect a material decline from here in terms of costs.

[Preeti Dixit:]

Okay, and the core margin, Peter any color you could give us on --.

[Peter Chapman:]

My apologies, I am sorry about that. Yeah through the quarter the front line banking staff actually have got a lot of credit in terms of the performance of the quarter, I am just really balancing that profitability with growth. So being competitive on good deals, but not chasing things. So, after last quarter where we saw some intense competition in the month of January, competition’s still there but the guys being able to maintain margin. So we’d hope that continues. I think last quarter or a last couple of quarters, we said we’d expect sort of couple of dip down ticking margin and the [quarter] of competition stayed the same with a bit of balance set out this quarter. We’d hope that continues, but I don’t quiet see the environment for an uplift is yet in turns of outlook.

[Operator:]

And our next question comes from the Russell Gunther of Macquarie. Please go ahead.

[Russell Gunther:]

Just a quick question related to this mornings’ announcement. Could you give us a sense for any potential remixing of the securities portfolio once the NAB stake is fully resolved?

[Ken Karels:]

Pete may be will go on to a little bit more detail, but we’ve already started to do more of treasuries and other what I would call more typical peer banks of our have invested in. So I think over time it will take a number of years to do that, start seeing us that more typical investment portfolio versus the majority of Ginnie Mae's that we have now.

[Peter Chapman:]

Exactly that Russell, as you’ve seen over the course of the last couple of quarters if you’ve been following the mix we’ve increased some treasuries and also we’ve got some Freddie and Fannie securities in there that we are being buying in terms of realigning the portfolio to reflect more out here. So we’ll continue to do it. We are expecting to dump extinguish a large portion of the portfolio on reinvest, but we typically had run-off 20-25 million a quarter. We’ll [discontinue] to reinvest that based on sort of that revised mix.

[Russell Gunther:]

Okay. I know that’s very helpful in terms of timing and magnitude, I’d appreciate that. And then also with regard to the potential buyback, could you just sort of comment on your capital priorities here, as it relates to buyback going forward versus in footprint M&A, just what you are thinking about.

[Peter Chapman:]

Yeah, I can’t talk too much on this particular capital buyback, but I think your question to priorities is they have and just really integrate what we said before. I mean we are still interested in doing acquisitions that would be first priority. When there is the opportunity to buy back stock, we think lower values we’ll take a look at that and/or increase dividends will be the choice that we have. So the intention is to keep capital levels at a strong level, but not in excessive level is our intention.

[Russell Gunther:]

But is there a capital ratio or a constraint that you are managing to the [TCE] comfort zone. Just how should we think about where you’d like to run the company?

[Peter Chapman:]

I don’t think we have any stated capital zone that we’re managing to obviously; keeping our regulators happy is probably our biggest concern as we go forward and will continue to watch that.

[Russell Gunther:]

Okay. And then just last question from me and you may be [relating] to what you can say here. But could you size up the amount of NAB debt that you planning to refinance and just may be magnitude and what the coupon is.

[Peter Chapman:]

That’s disclosing the S1 Russell, so that’s disclosed, and has been disclosed in our [8-K]. There’s $41.3 million outstanding of debt at the moment, and spread is sort of 2.5 to [2.80] somewhere in there Russell.

[Operator:]

And our next question comes from Damon DelMonte of KBW. Please go ahead.

[Damon DelMonte:]

So my first question, I guess Peter could you just talk a little bit about what may be drove the higher yield on the securities portfolio this quarter.

[Peter Chapman:]

Yeah, sure. If you look at the investments portfolio, we’ve reinvested reasonably heavily last quarter Damon, so we got the full benefit of that coming through to the quarter, which was good. And also over the course of last quarter and then moving in this quarter, we were sitting on high cash levels as you go it’s probably soar. I mean as rates have moved we have selectively choose to reinvest that. So just bit more active in the reinvesting [place] and a full quarter benefit of it.

[Damon DelMonte:]

Okay, that’s helpful. And then with respect to just your general outlook for loan growth, I mean solid quarter this quarter. I think you might be tracking a little bit higher that what you had talked about in the past. Are you seeing strong pipelines as we head in to the next quarter, are you seeing bigger appetite from your current customers to take on new projects. What’s the kind of general sentiment here you are seeing across your portfolios.

[Ken Karels:]

You got to stay up, Ken here. Definitely we are seeing strong pipelines, as I mentioned, we are balancing that with margin and profitability. I would say the competition out there is still pretty tough and we are seeing some deals specially longer term, around 5-10 years deals that are priced pretty skinny. So want to be a balance, I mean we are happy with the loan growth we have; we’ve liked kind of this high-single digit loan growth that we will see for the year. We still feel comfortable with that, but I would say that caution is just to balance the growth end of demand to make sure its profitable, and we are getting a good return on our capital.

[Peter Chapman:]

There’s a couple of (inaudible) potentially flooding in there as well in terms of couple of potential exposures going to the secondary market. But overall as Ken mentioned I think it was in track for that mid to high single digit.

[Damon DelMonte:]

And then just lastly kind of a technical question, I think Peter you had mentioned that in the margin this quarter on the 370, I thought you said the core margin was 367. Could you just repeat what the one-time items were that may have influenced that.

[Peter Chapman:]

Yeah, sure. We had about 400,000 in recoveries from acquired loans in there this quarter. And then we had $500,000 of interest charge-offs on interest accruals on loans going to non-accrual status in the prior quarter.

[Operator:]

Thank you. This concludes our question and answer session. I’d like to turn the conference back over to Ken Karels for any closing remarks.

[Ken Karels:]

Okay. Thank you for joining us this morning here. We are as I said earlier pleased with our quarter’s results and I’ll look forward to the future. So thanks again, and have a great day.

[Operator:]

The conference is now concluded. I want to thank you all for attending today’s presentation. You may disconnect your lines and have a wonderful day.