SouthState Corporation
Q3 2014 Earnings Call Transcript

Published: 28 Oct 2014

[Operator:]

Good morning, and welcome to the South State Corporation Second Quarter Earning conference call. Today's call is being recorded. [Operator Instructions] I will now turn the call over to Donna Pullen, South State Bank's Senior Vice President.

[Donna Pullen:]

Thank you for calling in today to the South State Corporation earnings conference call. Before we begin, I want to remind our listeners that our discussion contains some forward-looking statements regarding both our financial condition and financial results. We have included slides for this call that outline our results and our general comments this morning. Let me first refer to slide number two for cautions regarding forward-looking statements and discussion regarding the use of non-GAAP measures. I would now like to introduce Robert Hill, our Chief Executive Officer, who will begin our call.

[Robert Hill:]

Good morning. I'll begin our call today with a few summary comments about our third quarter. John Pollok, our Chief Financial Officer and Chief Operating Officer, will then provide some detail on our operating performance. I will then wrap up our prepared comments with an update on our conversion and integration efforts, and then we will conclude the call with a Q&A session with the research analyst community. The third quarter was a very busy and productive time for our company as we successfully completed our systems conversion, rebranded the company, continued to grow key customer relationships, and achieved record operating earnings. Operating earnings totaled $24.2 million during the quarter, or $1.00 per share, which represents a 28% increase from a year ago. This quarter was highlighted by continued asset quality improvement, a gain in efficiencies as a result of the integration, and good levels of organic growth. We also had a reduction in our effective tax rate, which John Pollok will cover later. As we discussed in the past, we have been working toward a quarterly earnings per share goal of $1.00, hoping to achieve this goal around the end of this year. While we hit the goal earlier than expected, partly due to a better than expected tax rate, the core earnings performance is certainly on track with our original expectations. For the quarter we experienced strong returns on assets and equity, with an operating return on average assets of 1.21%, and an operating return on tangible equity of 17.2%. Net income totaled $19.3 million for the quarter, or $0.80 per share, which was impacted by merger and branding expenses totaling $0.20 per diluted share. Asset quality also improved this quarter with a $4.8 million decline in non-acquired, non-performing loans, although non-acquired net charge offs totaled $2.1 million for the quarter, up from $1.3 million for the prior quarter. Our current allowance for loan loss provides 1.14 times coverage of our non-acquired, non-performing loans, up from 1.0 times coverage linked quarter, which represents 1.05% of our non-acquired loans. With all the efforts on systems conversions and rebranding during the quarter, our team still delivered strong growth. Our pipeline has continued to be strong and we are pleased with the quality and the quantity of the growth. On the loan side, we achieved non-acquired annualized loan growth of over 16%. As was the case in the second quarter, the growth this quarter was diverse. With increases in construction, consumer real estate and commercial lending, we continue to experience declines in our acquired loan portfolio as we work through problem assets and remix the loan portfolio. On the deposit side, our non-interest checking balances grew by $31 million during the quarter, and our teams continue to add great core deposit relationships. Our wealth management and mortgage lines of business continue to produce excellent results, with income of $4.5 million and $4.1 million respectively. On the mortgage side, we are seeing very good production from some recent additions of experienced high producing originators in select markets. And on the wealth side, our team continues to experience great momentum in attracting new customers with assets under management and care now totaling $3.8 billion. I will now turn the call over to John Pollok to give you some detail on our second quarter financial performance.

[John Pollok:]

Thank you, Robert. On slide number 5, we show the linked quarter change in the composition of our interest earning assets. During the quarter, our total interest earnings assets decreased by $31.7 million, mostly due to a decline in cash and short-term investments. This decline is primarily a result of a reduction in non-core deposits. Net loans remained essentially flat as the decline in acquired loans exceeded non-acquired growth by $7 million. Non-acquired loan growth totaled $439 million, or 20% annualized for the nine months ended September. You can also see that our loans held for sale increased by $16.2 million linked quarter as the persistent low rate environment continues to provide strong mortgage banking income for the company. On slide number 6 you can see our net interest margin decreased by 10 basis points linked quarter, driven by a decline in the yield on earning assets. This decline was the result of a drop in yield on the non-acquired portfolio of 3 basis points, and a drop in yield of 5 basis points on the acquired portfolio. We performed our recast of cash flows on our purchased credit impaired portfolios and had credit releases totaling $22 million. While all the portfolios had credit improvement, the majority came from the First Federal recast, which was the first time the cash flows were reforecasted since acquisition. The impact of these releases is only partially reflected in the yields on these portfolios. Even after these releases, we still have a credit mark over 10% of the unpaid balances on all the purchased credit impaired portfolios. The gold colored bars on slide number 6 represent the net interest margin, adjusted for the effect of the amortization of the FDIC indemnification asset. This blended margin declined only 3 basis points as the amortization expense declined linked quarter. This amortization expense, which is reflected in non-interest income, is expected to continue to decline as we approach the end of commercial loss share coverage on our CBT FDIC-assisted portfolio. Switching to the expense side, non-interest expense, excluding merger and branding related expenses, totaled $69.2 million, down $200,000, as improvements in almost all categories were offset by higher OREO and loan related expenses. Excluding OREO and loan related expenses, as well as the merger and branding related expenses, our non-interest expense decreased $2.7 million linked quarter. The vast majority of our cost saves have been achieved with much of the improvement during the quarter coming in the month of September as the conversion work was being finalized, and we anticipate achieving some residual cost saves in the fourth quarter. On slide number 7 you can see our operating efficiency ratio improved from 64% to 61%, and we remain focused on further improvements. On slide number 8 we illustrate our continued operating earnings per share improvement as we have been driving to the $1.00 per share goal. As you can see, we have reached it, but as Robert mentioned earlier, we got some help from a reduction in our tax provision of approximately $1 million. Part of the adjustment is related to some tax credits available to us for the 2013 tax year, which were not factored into our provision for 2013. The majority of these credits were from the Savannah Bancorp and First Financial mergers. When factoring these tax credits, and other credits to be estimated available for 2014, our current year provision needed to be lowered as well. We are still estimating the overall impact of these credits for the fourth quarter and beyond, but would anticipate our provision reducing from the 34% plus range that we experienced in the first half of the year. I will now turn the call back over to Robert for some closing comments.

[Robert Hill:]

Thank you, John. Our earnings momentum is also significantly enhancing our capital position. At the end of the third quarter of 2014, our capital position is within $3 million of the September 30, 2013 levels, even after the redemption of $65 million in preferred stock, and the payment of $19 million in dividends to our common shareholders over the past 12 months. Our tangible book value per share increased $0.66 linked quarter, to $24.78 at quarter end. The Board of Directors has declared a quarterly cash dividend of $0.22 per share, which represents a $0.01 increase from last quarter, and $0.03 or 15.8% higher than a year ago. In summary, we are pleased to have a successful systems conversion behind us, and very proud of the dedication of our entire team. With the integration complete, and our financial performance on track with our original projections, our complete focus can now be on our core business and on the efficiencies that come from operating under one brand and one system. That concludes our prepared remarks, and so I would ask the operator to open the call for questions.

[Operator:]

We will now open the line for questions. [Operator Instructions] Our first question comes from William Wallace at Raymond James.

[William Wallace:]

Good morning, guys.

[John Pollock:]

Good morning, Wally.

[William Wallace:]

John, I just wanted to dig in a little bit to the first remark of that first Federal portfolio. You said it was a $22 million benefit in the quarter?

[John Pollok:]

That's correct, but you know we had releases on all the portfolios, Wally.

[William Wallace:]

So that $22 million was everything but a large portion of that was first…

[John Pollok:]

That's right, a large portion was from First Federal. And as we've done with all of our recast, one of the things that we're doing right now is finalizing the accretable yield bucket going forward. So we'll be able to give you a lot more detail of what all those numbers look like when we file our Q here in a few weeks.

[William Wallace:]

Okay. But presumably in the fourth quarter, when you mark again, the benefit, all else equal, would be less out of that First Federal because you basically were recapturing four quarters worth of releases. Is that a way of thinking about it?

[John Pollok:]

No, I think the way to think about it, if you go back to our methodology, Wally, is when we recast, you know we recast during the last month of the quarter, so you only had one month's benefit. So we would feel like that our acquired loan yields are going to continue to increase a little bit.

[William Wallace:]

Okay. Okay, that's helpful. That's what I was trying gather.

[John Pollok:]

That's right.

[William Wallace:]

Okay, good. Perfect. That helps. That's all I was needing. So will we get more color on the tax rate when you talk to us about the fourth quarter, or could we see more color in the Q?

[John Pollok:]

Well I think, as we mentioned in our prepared comments, you know we had some tax credits that were not reflected in our reserve that we got through the Savannah Bank and First Financial merger. We also are looking at some other tax credits this quarter that we might close. And so when you close in the fourth quarter of the year, you get a full year benefit. So we feel like that our tax rate in the fourth quarter will still remain fairly low, but going into next year, with these amount of tax credits that we have, we'll probably be somewhere in the 33.5 range for 2015. But as we get to the fourth quarter and have this call again, obviously we haven't closed any additional tax credits, we'll give you some more color during that call.

[William Wallace:]

Great. Thanks John, I appreciate it.

[Operator:]

The next comes from Jennifer Demba of Suntrust Robinson Humphrey.

[Jennifer Demba:]

Thank you, good morning.

[Robert Hill:]

Good morning, Jennifer.

[Jennifer Demba:]

Could you give us some color around your legacy loan growth and where it came from geographically? And then I have a follow-up.

[Robert Hill:]

Sure Jennifer. This is Robert. As you know, this was a quarter where we were very focused on the integration. So the first part of the quarter, our pipeline slowed a little bit, but it really rebounded pretty strongly on the second half of the quarter. But the markets where we've seen really meaningful pickup this quarter were Savannah, Greenville, and then Charleston. Charleston has really started to get some legs. There's plenty of upside potential there. As you know with Savannah we were kind of through integration mode a year ago there, and now they're really getting some traction. But the three that really stood out this quarter were Savannah and Greenville and Charleston.

[Jennifer Demba:]

Okay. And you said that you've gotten most of your expense savings from FFIN out during the third quarter, you'd have a little bit more in fourth quarter, can you give us some more detail on how much more you think you have to achieve during this quarter?

[John Pollok:]

Jennifer, this is John. So I think the first thing to think about is this quarter obviously, until we got to the end of the quarter, we really didn't get the full impact of the cost save. So we were operating on two systems during July, very focused on the integration the next month, and then September we got a fair amount. So if you look at this quarter, we feel like we got about an $0.08 benefit, and then next quarter we've probably got another $1.0 million to $1.5 million in cost saves to get.

[Jennifer Demba:]

Okay. That's helpful. And one more follow-up if I could. Robert, how are you feeling about the success of the integration and are you feeling comfortable with looking at acquisition opportunities again over the near term?

[Robert Hill:]

Well I think where we are overall as a company is, you know a little over a year ago we laid out an integration plan that you know we've been very focused on and disciplined with. And we've really now achieved many of those targets. Our cost saves targets were right on the edge of. We are on target now with our $1.00 run rate in terms of earnings. And then we wanted to make sure we hung onto the customers that each bank had through a pretty meaningful integration. And if you look at least at the numbers, if you look at non-interest bearing DDA growth this quarter, we had $31 million in growth there, and probably even more meaningful is, even through the integration and some duplicate account closings, we've still closed. Excuse me-- we've still grown transaction checking accounts year-to-date and in the third quarter, which is pretty meaningful through an integration and closing 19 branches this year. So we feel really good about the overall execution. It was obviously a lot of change. It touched pretty much every part of the company. But now we've got a platform that we've not fully refined the processes there, but we've made great headway. We'll continue to focus on that process and the integration between now and the end of the year. And we're also going to be reassessing our strategic plan and updating it between now and early first quarter of 2015.

[Jennifer Demba:]

Okay. Thanks.

[Operator:]

The next question comes from Stephen Scouten at Sandler O'Neill.

[Stephen Scouten:]

Most of my question has really been tackled there already in these first two sets. But on the loan growth, the organic loan growth there that you saw, I mean do you think that's a level that's sustainable, and is there any color you can give? And I apologize if I might have missed anything in the first couple minutes -- in regards to the quarter-over-quarter pipeline that might frame that up a little bit?

[Robert Hill:]

This is Robert. You know, Stephen, the pipeline has been fairly consistent the last three quarters. We did expect a little slowdown this quarter just because of the focus on training and integration, but we saw it really rebound as we moved past that. And so now our attention turns from integration to more business development, so I hope the pipeline in the coming quarters will begin to build even further. But it's been fairly stable this year. This seems like a pretty good run rate in terms of non-acquired loan growth, and it's pretty balanced. It's pretty balanced in terms of the loan portfolio segments that it's in, and very balanced also in terms of the markets. I think the most positive thing really we're seeing is on the non -- excuse me -- on the acquired portfolio runoff is still heavy. But if you look at it from a market by market perspective, you can begin to see we're beginning to outrun it. In northeast Georgia we've certainly passed it there. If you look at the Peoples Bank transaction in the Greenville area, we've passed it there. And now if you look at the Savannah merger, which over the last couple of quarters was a drag on the acquired runoff, we've now passed it there. So kind of the remaining market now where we have to generate enough volume to outrun some of the acquired runoff is the Charleston market, and we feel like we'll begin to catch that in the coming quarters.

[John Pollok:]

And Stephen I would add -- this is John -- that with rates dropping the way they are on the secondary market, we are seeing more fee income generation. So I would believe that our in-house mortgage portfolio would continue to churn some, which hopefully will result in more fees in our mortgage area.

[Robert Hill:]

I think, Stephen, the thing that we are seeing more today than we've ever seen before is just really the power of the company because of our market share, our size and our scale, are really starting to have a meaningful impact on business opportunities. And banking companies and expanding company relationships in the past we really would not have the ability to do. So you know that was all part of the plan for doing the integration. I think we're really just on the early stages of seeing the opportunities there.

[Stephen Scouten:]

Okay. That's great. That's really helpful. And then, John, you touched on mortgage and you said I guess margins are probably pretty good with the movement we've seen in rates. Would that also help maybe volumes versus historical levels where you usually see a pullback in 4Q? And with the, it looks like elevated help or sale levels, would you estimate that there will be more sales in 4Q, and therefore we might see an actual jump in the revenue line item there, or is that just more that's going into the servicing portfolio? Can you give me any color there?

[John Pollok:]

Well hopefully the rate volatility will slow down. One of the things that we're looking at obviously as the rates go up and then they come back down, is you do have a little bit more fallout. So I think, Stephen, it's a little hard to say if that's going to generate more volume today. But the rate, the 30 year rate now is hovering right below 4%. That clearly is going to generate some refi volume if the rates stay there. So a little early to tell being so much at the beginning of the quarter, but we feel like, with our pipelines building, hopefully we'll be able to generate more mortgage fees.

[Stephen Scouten:]

Okay, great. Well thanks guys, I appreciate you taking my questions.

[Operator:]

The next question is from Christopher Marinac with FIG Partners.

[Christopher Marinac:]

Thanks. Good morning. Robert and John, just to clarify, the breakout of loan discounts in one of the table footnotes, how does that differ, I guess it's the $2.4 million, from the recast dollars that we heard about this quarter?

[John Pollok:]

This is John. Well the discount is related to the non-credit impaired bucket, so really the recast did not have an effect on that number, Chris.

[Christopher Marinac:]

Got it. And so they're two separate pools, correct?

[John Pollok:]

That's correct.

[Christopher Marinac:]

Got you. Okay, great. And then the second question just kind of gets back to some of the comments you've already made about commercial activity, particularly in Charleston. If we were to kind of visualize a thermometer of opportunity, both on sort of commercial deposits as well as commercial loans, where would you be on that thermometer in terms of kind of where you are today compared to where you could be in future years?

[Robert Hill:]

This is Robert. Well Chris, as you know, the First Federal, one of the reasons that we're continuing to have the decline in the acquired bucket is First Federal was -- I mean they were all legacy thrift. So they were just so heavy residential, have a very good residential platform, we're seeing some positive impacts of that today, but they were very early in the development of really much of a commercial platform at all, so we had a very strong team there. And actually when you look at the two portfolios, First Federal's in Charleston's portfolio and our legacy, SSB legacy in Charleston, the SSB legacy commercial portfolio was actually larger, so even though we were much smaller in market share. So now that we've got the branch infrastructure, a much broader name recognition than we've had in the past, I think there's huge potential there, but we're really early in the process. I mean if you compare it to another market that we would have that is really hitting on all cylinders, I mean we're at probably the 2 to 3 on a scale of the 1 to 10 level.

[Christopher Marinac:]

Okay. Great. That's helpful. Thanks very much, guys.

[Operator:]

The next question is from Jennifer Demba of Suntrust Robinson Humphrey.

[Jennifer Demba:]

Thanks. I have a follow-up. John, wondering if you could give us an idea of what you're expecting on the net charge off line over the next few quarters? It's been pretty lumpy.

[John Pollok:]

Jennifer, probably about the same. As you know, it's going to be lumpy quarter to quarter. I will say our problems continue to get smaller. Our coverage ratio still looks very, very good, but hopefully it will you know not pick up significantly.

[Jennifer Demba:]

Okay, thanks a lot.

[Operator:]

The next question is from Blair Brantley of BB&T.

[Blair Brantley:]

I had kind of a follow-up to Jennifer's question. On the OREO costs, is there anything that you guys did this quarter that was any different, or is this just kind of a typical lumpiness that comes along with it?

[John Pollok:]

Just the typical lumpiness. As we approach loss share on the CBT portfolio in the first quarter, Blair, obviously we're extremely focused on that commercial book. But just a little bit of lumpiness linked quarter.

[Blair Brantley:]

Okay, so there was no big charge downs or anything from like one bigger credit or anything like that?

[John Pollok:]

There's not. One of the things I want to point out, if you go to our non-interest income section, kind of in the other non-interest income, you know we had about $1.6 million in recoveries on acquired charge offs. And so I think one of the things you'll see as we get into the future, is you know we'll still have a fair amount of recoveries on these books we've acquired. In fact if you were to look at charge offs over the last 10 years and include the SCBT portion, you know there's been over $800 million, almost $900 million in charge offs on those books. And as the economy continues to improve, we feel that we'll have some opportunity to have some more recoveries out of those books.

[Blair Brantley:]

Okay. That's very helpful. And then if you could just give an update on any plans for the excess cash you have on the balance sheet right now.

[John Pollok:]

Well Blair, as we talked last quarter, we're obviously evaluating our kind of hybrid capital bucket. That's a place that we're going to look. As Robert mentioned earlier, one of the things that we're getting ready to do is update our strategic plan. Capital will obviously be a part of that. And we're going to look at all those buckets hard to decide what we want to do with capital in the future, and then the hybrid capital. As Robert mentioned in his prepared comments, you can look at our capital position where our earnings are really accelerating the growth of our tangible book value.

[Blair Brantley:]

Okay. And then just one more follow-up. In terms of hires and in terms of new loan producers, is that still kind of the same plan to add five plus per quarter? Is that still what's going on?

[Robert Hill:]

This is Robert. Blair, I'd say that's probably close. Obviously it kind of depends on the opportunities that present themselves, but that's been a pretty good run rate. I think that's probably something we'll stay fairly consistent with.

[Blair Brantley:]

Okay, great. Thank you.

[Operator:]

[Operator Instructions] The next question is from Jefferson Harralson with KBW.

[Jefferson Harralson:]

I wanted to dig on the expense thing a little bit. You guys mentioned that at the end of the quarter you got some costs savings that haven't fully shown up in the quarterly run rates yet. And then later you said you have a $1.5 million that you expect to get in addition in Q4. Is that in addition to the full impact of whatever came late quarter? Or can you kind of help me work through those issues?

[John Pollok:]

That would be in addition.

[Jefferson Harralson:]

All right, so can you talk about how much of the cost savings, if they had been annualized, how much more additionally would have shown up this quarter?

[John Pollok:]

Well you know, Jefferson, I think the way I would answer the question is kind of back to the efficiency ratio. I think if you step back and look at what we've accomplished, we're generating more revenue on the wealth management side, on the mortgage side. We clearly stated that we were going to get our efficiency ratio down in the low 60s. So instead of trying to slice it down into that detail, I feel like we're clearly on our cost save projections, and obviously the efficiency ratio reflects that.

[Robert Hill:]

And Jefferson, this is Robert. The only thing I would add there is we're on target with exactly where we thought we would be in terms of those specific line items, but that was really the big building blocks to getting the platform in place. Now I think now that that is mostly behind us, where we will focus over the next year is how to create a more efficient process and procedures. And we won't have the big opportunities like we had in the integration, but we're going to have a lot of opportunities to refine our business model and get it more efficient.

[Jefferson Harralson:]

All right. And from a follow-up, how much of the OREO costs would you say are estimate?-- is covered this quarter?

[John Pollok:]

Hold on one moment. You know Jefferson, I just have it in acquired. I don't have the covered portion of that. The acquired piece of that is about $500,000.

[Jefferson Harralson:]

Okay, so it would be a subset of the $500,000?

[John Pollok:]

That's right.

[Jefferson Harralson:]

All right. Thank you.

[Operator:]

There are no further questions so I will now turn the call back over to John Pollok.

[John Pollok:]

Thanks everyone for your time today. We will be participating in the Sandler O'Neill East Coast financial service conferences in Florida beginning on November the 12th, and we look forward to reporting to you again soon.

[Operator:]

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