Hilltop Holdings Inc.
Q1 2020 Earnings Call Transcript

Published: 1 May 2020

[Operator:]

Good day, and welcome to Hilltop Holdings First Quarter 2020 Earnings Conference Call and Webcast. All participants will be a listen-only mode. After today’s presentation, there will be an opportunity to ask questions. Please note today’s event is being recorded. I would now like to turn the conference over to Erik Yohe. Please go ahead, sir.

[Erik Yohe:]

Thank you and good morning. Before we get started, please note that certain statements during today's presentation, that are not statements of historical fact, including statements concerning such items as our outlook, business strategy, future plans, financial condition, and the impact and potential impacts of COVID-19 are forward-looking statements.

[Jeremy Ford:]

Thank you, Erik and good morning. The world has changed since our last earnings call. We hope that you and your families are healthy and handling the current COVID-19 pandemic as best you can. Before getting into the results for the quarter, I would like to spend a few minutes going through our organization's approach to the pandemic and some of the actions we have taken. Since the onset, we have worked hard to ensure the business continuity of Hilltop and our operating company. Our highest priorities have been to ensure the safety of our employees and their families and to ensure our customers have the access and resources they need during this unique and challenging period. Of our nearly 5,000 employees, approximately 65% are currently working from home, with remainder still coming into offices and branches to meet with customers on an appointment basis and to execute critical functions. We have extended our health benefits to cover COVID-19 testing for all employees and their families. Have enhanced cleaning and maintenance procedures across all locations and are monitoring any positive or presumptive positive COVID-19 cases across our organization and any shared office locations. We are facing a lot of unchartered territory with the current situation, but I am proud of how our business leaders and their teams have responded. As well, I would like to commend our employees for their courage and commitment during the stressful time. Moving to Slide 4, currently 58 of our 61 PlainsCapital Bank branches are open for appointment along with 130 of our 305 lending mortgage branches, so certain branches are not open. Almost all of the employees associated with those branches are still able to fully service their clients remotely. Bank ATMs and drive-through capabilities are still functioning at 100% and we have introduced fee relief for multiple situations.

[Will Furr:]

Thank you, Jeremy. Before I get started, I want to review a few items that have impacted our presentation during the first quarter. First, as Jeremy mentioned, we have moved National Lloyds and the discontinued operations as we continue to make steady progress towards the closing of the pending sale of that business. Please refer to the footnotes on each slide for references to the basis for the presentation, whether consolidated or continuing operations. Secondly, on January 1, 2020, we adopted CECL, new accounting standard for credit losses. Further, we have elected to face any impact that this adoption over five years and the impact of this election is reflected in our capital ratios as presented throughout the presentation. Now I'll start on Page 7. As Jeremy discussed for the first quarter of 2020, Hilltop reported consolidated net income attributable to common stockholders of $49.6 million, equating to $0.55 per diluted share. Income coming from operations attributable to common stockholders equated to $46.5 million or $0.51 per diluted share.

[Operator:]

Thank you. We will now the question-and-answer session. Our first question today will come from Michael Rose of Raymond James. Please proceed with your question.

[Michael Rose:]

Hey, good morning guys. How are you?

[Jeremy Ford:]

Good, Michael?

[Will Furr:]

Good morning.

[Michael Rose:]

Hey. Maybe for Will or Jeremy. Can we get some color on the increase in non-performers this quarter? It looks like they jumped fairly meaningfully. Thanks.

[Will Furr:]

Yes, so I – as I try to note. We had really two principle things that occurred. First, we had the adoption of CECL, which accounted for about $13 million of the change in non-performing loans, that really driven by, as you know, the gross up of the loan balance and then the movement of the prior discount into allowance for credit losses, so that's about $13 million. And then, as I noted in my comments, we did have two specific relationships that were moved into non-performing, one in the oil and gas sector and the other in our Houston real estate portfolio that were moved into non-performing inadequate to go up $39 million with the increase, specifically related to the oil and gas item we did take the $12.5 million specific reserve for that credit. So…

[Michael Rose:]

Great. I'm sorry if I missed that. And then I appreciate the color that you guys provided on the kind of at risk categories or exposures. Can you give us an update on what the credit statistics there look like in terms of what percentage are non-performing and then maybe what percentage are deferred and stuff like that? Thanks.

[Will Furr:]

I think as we're evaluating these portfolios and we're in the early days, we had not seen at least through the first, I’d pay through March and even to some extent in the early April we've not seen some significant delinquency emerge in these portfolios as customers were making their March in many cases their April payments. We are working through, I think, it would be a false number as we relate to the 250 odd million of deferrals, we've got to be unfair because we have had many different requests that we're working through and we're working through those one at a time with our clients. So we'll continue to provide updates as it relates to the deferral levels, as well as delinquency in the portfolios. But again, as of coming through April, we have received the preponderance of payments as contractually required even for those customers who were asking for deferrals out of the gate. And again, we're continuing to work with clients every day to try to help mitigate what has been kind of an unprecedented set of circumstances over the last month.

[Michael Rose:]

That's helpful. Maybe just one more for me. I just wanted to touch on the margin and specifically with and without the PPP program. Is it fair to assume that just given the number of rate cuts, and I know you guys have tough floors and appreciate all the color there. But is it fair to assume that the core margin we should anticipate some pressure? And then secondly, will the fees from the PPP flow through the margin? I think you had mentioned last quarter that you expected a purchase kind of increasing to be down 20% to 30%. So just wanted to see if that was still intact? Thanks.

[Will Furr:]

Yes. So on our 2020 commentary slug, on page 22 we reaffirmed the purchase accounting accretion is not going to decline, that's on a schedule basis. Those loans are running off and we expect that to decline 20% to 30%. We are seeing as you'd expect based on falling rates, as well as relatively flat yield curve pressure on net interest income over the coming 12 month period. And we do expect that to continue given about both the decreases in our loan yields, but also, I’d say a slower growth from an asset perspective as I mentioned, customers at this point from a new loan perspective, outstanding PPP are pretty reluctant to kind of take down new credit as you would imagine they would be. So both lower asset levels from kind of prior outlook, as well as a flatter yield curves and lower rates are going to put pressure on net interest income going forward. And yes, the PPP fees will be reflected through net interest income, but those will be amortized otherwise as loan.

[Michael Rose:]

Great. I appreciate all the color.

[Jeremy Ford:]

Thank you.

[Operator:]

Our next question will come from Michael Young of SunTrust. Please proceed with your question.

[Michael Young:]

Hey, good morning.

[Jeremy Ford:]

Good morning.

[Will Furr:]

Hey, Michael.

[Michael Young:]

Wanted to start, just as a follow-up on the TBA business. You mentioned the $20 million fair value I guess mark-to-market impact there. Can you provide any more detail on that? Because typically when 10 year rates move down that typically expands. So just wanted to see if there was something idiosyncratic and then any thoughts on where you would expect that to be in subsequent quarters?

[Jeremy Ford:]

Yes. What occurred is, we have in certain cases fixed delivery prices that when prices declined materially, we were – that the pipeline – the hedge was kind of under water. So that's the nuance there. As we – as prices have recovered, as I mentioned in my comments, we have seen, I think overall trading activity in both mortgage and municipal become more constructive each day. And certainly more constructed through the month of April, as I mentioned, as it relates to that specific mark, which was unrealized in terms of the pipeline as prices have rebounded and trading becomes more constructive. We could recoup some portion of that mark throughout second and third quarters.

[Michael Young:]

Okay. So there is some hedging present there then, because I thought before it was unhedged and then you're seeing a rebound and valuations there, so you're – you would expect that to not really be a hit to capital.

[Jeremy Ford:]

Yes. We are providing a hedging for the housing authorities. And as we’ve had gains in the past, this was – you take a snapshot at March 31 and that was the impact on the value of that heads, because we have a contract to purchase the loan at a later day.

[Will Furr:]

So it is – just to reiterate, we are hedging that – we are hedging a pipeline for our clients and then we have agreed – we have kind of priced delivery of those securities upon bonding.

[Jeremy Ford:]

And I just would add on Hilltop Securities and they really had a phenomenal quarter with the exception of this – as part of the market and the environment. And we did a lot starting in February to kind of pull back our exposures and be cautious in this environment and we're going to continue to do so I think for the second quarter and through the foreseeable future until we see things stabilize more, so hopefully in the third quarter.

[Michael Young:]

Okay. And maybe another one on Hilltop Securities, just the expense levels were better than expected, the count in that revenue is down pretty considerably, is that sustainable or is there something episodic in that number?

[Jeremy Ford:]

I think the count in that revenue has been down, it’s really more of a function of makeshift as a business, than it is anything else.

[Michael Young:]

Okay. And then maybe lastly just on the servicing portfolio. Can you just talk about the impact of kind of deferments within the mortgages that you service? And then also you mentioned that you're going to build that servicing book. I assume that's just due to market dislocations and the ability to sell the servicing assets going forward.

[Will Furr:]

That's correct. So I think it's worth noting and we noted in our slides. We did execute a sale in the first few months of the quarter, which was a positive that was about $19 million of MSR value. So kind of closed the quarter with a $31 million MSR, which reflects about $3.5 billion worth of serviced assets, we have all those assets sub-serviced on our behalf. So we are the with that said, there is a – we've got a sub-servicing arrangement. We are monitoring forbearance request. I think those have been between 5% and 6% of that portfolio. And we are also watching advances at the primary servicer, we would have to provide advances – service advances on behalf of those loans to the extent they were in forbearance or otherwise didn't make their payments. And as a result, we would have that liquidity exposure. We have sized that it's – we view it as reasonably a material. At this time we'll continue to watch it and to become something of note we’ll manage – we'll note it and manage it as such. In terms of the dislocation with servicing market, obviously, we've seen a pretty material dislocation in the pricing for servicing and the willingness of what I call traditional providers to provide to kind of purchase servicing. And as a result, we would expect to be retaining a large portion of our servicing on originations over the next couple of quarters. And in the second quarter rates, it varies significant portion of 200%, just as overall pricing and execution in the servicing space has been challenged, I think due to forbearance and other environmental challenges.

[Michael Young:]

Okay. Thanks.

[Jeremy Ford:]

Thank you.

[Operator:]

Our next question will come from Brady Gailey of KBW. Please proceed with your question.

[Brady Gailey:]

Hey thanks. Good morning, guys.

[Jeremy Ford:]

Good morning.

[Will Furr:]

Good morning.

[Brady Gailey:]

So could you give us a little more color on the two Houston-based real estate loans that went into the non-performing bucket, maybe the size and what type of CRE those are?

[Will Furr:]

They were office buildings and again, the aggregate size with about $15 million total loans.

[Brady Gailey:]

Okay. And was that related to what's going on in energy or unrelated?

[Will Furr:]

I think Houston is being impacted by the oil price declines and overall demand. So as we tried to call out the energy specifically – our energy related portfolio, we had not put in our kind of pandemic portfolio, if you will, because we're calling that a little bit different, but Houston in particular is being impacted by both in a reasonably aggressive way. So it's hard to tease out the absolute driver, how much of it was pandemic and how much of it was oil prices. But the combination of those certainly drove a material deterioration in the quarter.

[Brady Gailey:]

Okay. And then I think most banks have been earning roughly a 3% fee on the PPP loans. Is that roughly where Hilltop's up?

[Will Furr:]

I think that's reasonable estimate.

[Brady Gailey:]

All right. And then just bigger picture, Hilltop’s Chairman, Gerry Ford has a pretty good track record over decades of buying some attractively priced assets during times of stress and uncertainty. If you look at Hilltop today, you clearly have excess capital. You'll have even more excess capital after the insurance company is sold. How do you think about the opportunity to buy cheap assets, to buy the struggling banks over the next couple of years just given the uncertainty?

[Jeremy Ford:]

I think first and foremost, we're going to continue to be patient and work on our own businesses. And then when the environment presents itself, we're going to be very aggressive.

[Brady Gailey:]

All right, thanks guys.

[Will Furr:]

Thank you.

[Operator:]

Our next question will come from Chris Gamaitoni of Compass Point. Please proceed with your question.

[Chris Gamaitoni:]

Good morning guys.

[Will Furr:]

Good morning.

[Chris Gamaitoni:]

Could you just disclose what the overall LTVs are on average for your CRE portfolio?

[Will Furr:]

I think the way to think about it is as we work through the different asset classes, not specifically referenced the ones we've called out on our package, largely that's both relevant. But for our – and I'm going to give you the underwriting kind of max underwriting LTVs and certain other portfolio is going to be better and certain is going to be materially better. But as we think about kind of retail it's in the 75% kind of LTV underwritten. From a hotel perspective, it's in the 70% to 75% range. And then for restaurants, it's in the 80%, 85% range. And the reason I give you those rather than kind of go through and the reason we didn't call out the LTVs on the slide here is as we go through this price, there's going be some price dislocation for assets. And what we can give you is what we underwrote it to in the event that you had to actually liquidate it there has been a significant amount of price discovery at this point.

[Chris Gamaitoni:]

Okay. That makes sense. And moving to the mortgage business, historically PrimeLending has been very purchase focused. I'm wondering how from a marketing standpoint, the business is shifting to focusing more on refinances in the more immediate term?

[Jeremy Ford:]

Well, I think it's just been what the market's been given. So, I think the nature of being purchase focus is the nature of being real industry veterans that are embedded in our communities and are able to add that sticky business when the refi markets not. And when the refi markets been like it has been, they're going to take advantage of that as well.

[Chris Gamaitoni:]

Okay. And I was wondering if you could give any insight into how you saw gain-on-sale margins, how you…

[Jeremy Ford:]

Sorry, Chris, we lost you for a minute.

[Will Furr:]

Chris, I think you…

[Chris Gamaitoni:]

Yes, I asked the gain-on-sale margins through April, what they're looking like this month after the Fed came in and the bond market changed?

[Will Furr:]

Yes, I think we have seen a constructive improvement in gain-on-sale margins through the month of April. We expect that to continue through Q2 based on what we can see and kind of how the market is performing today. So we do think gain-on-sale margins have gotten a little more constructive here as the market stabilized.

[Chris Gamaitoni:]

All right. And one last one, just any high level thoughts on what you think the municipal finance business will look like over the next year? Obviously we're in a very weird situation. Number of issuance due municipalities need more debt, less debt, is there going to be delay in a big wave? Just what your bankers are seeing right now?

[Jeremy Ford:]

So we saw a pretty good start for the year and then the March activity was notably weaker. And we had expected a very strong municipal year for 2020. And we do think that the second half of the year has a good likelihood of being reasonably strong. But until stability returns, I mean, I think that you're going to have some weakness. And we think the revenue bond deals could be remain challenged however, like the tax obligation and the central services deals will do fairly well.

[Chris Gamaitoni:]

Okay. That's perfect. Thank you so much.

[Operator:]

Our final question today will come from Matt Olney of Stephens. Please proceed with your question.

[Matt Olney:]

Thanks and good morning. I want to circle back on the discussion around mortgage. You gave us some good commentary around gain-on-sale expectations. And I'm curious at this point, given what we know – what are your thoughts on volumes? Do you expect mortgage volumes to peak in the second quarter and fall beyond that? Just kind of curious what your crystal ball says?

[Will Furr:]

Yes, I think from a mortgage volume perspective, and I think your crystal ball reference is a good one. We are – as I think I mentioned, we are expecting to see a higher percentage of refinance volumes. As I mentioned in our kind of 2020 commentary, we think purchase volume will be under some pressure until citizens kind of feel comfortable going out looking at homes and getting a little more, a little further away from the peak of the pandemic. And that presumes no flare ups in kind of overall pandemic related activity. But from a – we don't have an aggregating outlook in terms of overall volumes, but the reality is it will be, I think more heavily refinanced centric certainly for what we can see in the second quarter. And then we're all watching for how the consumer and how the home buyer responds through what is – traditionally the one of the stronger periods of the year as states and cities and markets start to I'd say reboot from the shutdown.

[Matt Olney:]

Okay. And then going back to the loan modification discussion, I think, Will, you mentioned the expectations are that the number of modification requests continues to rise. I'm curious if you've seen this so far in recent weeks. I know you disclose the amount of modifications as of April 23 on that Slide 4. But do you have that amount as of March 31, just trying to appreciate if this has changed much in recent weeks?

[Will Furr:]

Yes, I’d say as March 31, it was a pretty small number. But again, you were a couple of weeks into it. But it has – we expect it will continue to grow as the shutdowns continue to persist and depending on the pace of recovery. So if you could take one of the – some of the most impacted from a hotel perspective, we've gotten, most of our hotel portfolio has as set forth some modification requests. If you look at restaurants, I think that feedback is a bifurcated set of feedback. There is QSRs and other kind of take out ready organizations have outperformed obviously the full service dining experience restaurant and – full service dining experience restaurants. The question of what type of deferment and what type of kind of a profile they carry forward is solely dependent on how quickly markets reopened and more importantly than how quickly they reopened from a governmental perspective, how quickly customers come back to reasonable spending levels over the coming months. I think most of – at least what we're hearing most of them are realistic into. That's not going to happen in May and June. So as we look into the third quarter that will continue – that question will continue to persist. But we'll start to get a better pulse on this through the latter parts of the second quarter and certainly into the third quarter. The client and customer response is going to be for hotels and restaurants, largely the most significant driver and the pace of that it just, it's hard for us to estimate and it's an unknown as to how quickly that's going to occur.

[Matt Olney:]

Okay, that's helpful. And then last question from me. You mentioned that the Houston portfolio previously, just remind us how big that portfolio is at this time?

[Jeremy Ford:]

I got it here, I think – well, the Houston portfolio total assets is under $500 million. I want to say off hand that I've had in here about $480 million.

[Will Furr:]

Just under $500 million total loans.

[Matt Olney:]

Okay. Thank you, guys.

[Will Furr:]

Thank you.

[Jeremy Ford:]

Thank you.

[Operator:]

This concludes our question-and-answer session. Thank you very much for attending today's presentation. The conference has now concluded. You may now disconnect.