Sterling Bancorp
Q4 2014 Earnings Call Transcript

Published: 28 Oct 2014

[Operator:]

Good morning. Welcome to the Sterling Bancorp’s Fiscal 2014 Fourth Quarter and Full-Year Earnings Conference Call. My name is Brandy, and I will be your operator for today’s call. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session. Much of the information to be discussed is included in the earnings announcement that was released yesterday afternoon, and is available on www.sterlingbancorp.com, as well as the accompanying slides. Forward-looking statements made during the course of the conference call are subject to the risks and uncertainties described in the company’s filings with the Securities and Exchange Commission. I would now like to turn the call over to Jack Kopnisky, President and CEO of Sterling Bancorp. Please go ahead sir.

[Jack Kopnisky:]

Good morning, everyone, and thanks for joining us today to discuss Sterling Bancorp’s fourth quarter and full-year results. Joining me today on the call is Luis Massiani, our Chief Financial Officer. During the quarter, we continued our progression of delivering strong core operating results, driven by solid revenue growth and expense control. Excluding the impact of merger-related expenses and other charges, core earnings for the quarter were $18.2 million and core earnings per diluted share were $0.22, representing a 16% increase over last quarter’s earnings. Core revenue growth was 1.7% and we reduced core operating expenses by 3.7% relative to the previous quarter. The resulting core efficiency ratio improved 310 basis points to 54.7%. The improvement in our core operating and profitability ratios were significant. Our net interest margin was 3.77%; our core return on tangible equity improved 139 basis points to 13.8% and our core return on tangible assets improved 11 basis points to 106 basis points. We have made significant progress in achieving the objectives of creating a high-performing organization that consistently produces return on tangible equity greater than 12%, return on tangible assets greater than 100 basis points and efficiency ratios of approximately 55% through to the creation of positive operating leverage. We are ahead of schedule in reducing costs associated with the integration of the two companies. Since merger date, we have reduced headcount by more than 20%, consolidated 13 financial centers and we are on track to reduce total facilities square footage by 25%. We have also changed the mix of our workforce by hiring more client-facing teams and automating and outsourcing back-office processing. We experienced very strong loan growth for the quarter. Total loans grew by $202 million in the quarter, representing a 17% annualized rate. The annualized growth in commercial loans was 17.9%. For the fourth quarter, approximately 77% of the growth was commercial and industrial loans and 23% in real estate loans, as we continued to enjoy diverse loan mix. Total deposits increased 3.8% over the linked-quarter and commercial and consumer transaction deposits increased by almost $70 million, which represents annualized growth of 13.2%. Fees represent 17% of revenue as the growth of interest income outpaced the growth of core fee income. We are focused on improving that ratio to over 20% of revenue over time. Credit quality continues to improve. Charge-offs were 9 basis points and the level of non-performing loans declined by $5.8 million. We made significant progress in the quarter. Our strong results continue to reflect our ability to deliver results consistent with our strategy. Now let me turn the call over to Luis to detail the financial performance.

[Luis Massiani:]

Thank you, Jack, and good morning everyone. Our GAAP reported diluted earnings per share were $0.19 for the quarter, up from $0.18 for the third quarter. On a core operating basis, our diluted earnings per share were $0.22 for September, compared to $0.19 for June. Total assets increased $86 million to $7.3 billion at September 30. Loans grew by just over $200 million in the fourth quarter, and we trimmed our securities portfolio by $41 million. We continue to build the more efficient balance sheet by rebalancing earning assets from securities to higher yielding loans. As of September 30, our securities to total asset ratio was 23%, down from 24% the prior quarter. On the bottom of the page, we detail our key performance metrics, which showed strong progress across the board. Net interest margin was 3.77% for the September quarter, which represented a 7 basis point decline from June. However, included in interest income was $1.7 million of the accretion of the credit mark on the legacy Sterling Bancorp and Gotham acquired loan portfolios. This compares to $2.9 million of accretion in June. Excluding the impact of the credit mark accretion, net interest margin was 367 basis points for the September quarter, which is an increase of 2 basis points over the linked-quarter. Our asset quality performance was strong, with charge-offs against the allowance of $1.1 million versus charge-offs of $1.6 million in the prior quarter. We continue to add to our allowance for loan losses and our provision expense was $5.4 million, which was mainly driven by the need to provide organic loan growth. Our core profitability ratios continue to improve. Core return on average tangible assets was 1.06% and core return on average tangible equity was 13.8%. We are on track towards achieving our long-term performance goals. Turning to Slide 5, let’s look at our core EPS metrics in more detail. We continue to make progress on the three key strategic initiatives we have outlined for fiscal 2014. These are the integration of legacy Sterling Bancorp, the consolidation of our financial centers and the conversion of our core banking systems As you know, we completed our acquisition of legacy Sterling Bancorp on October 31 of this fiscal year. Therefore, it is difficult to make meaningful year-over-year comparisons on our operating results. However we did include on the slide, our key earnings and performance metrics for the fiscal year 2014 and 2013. Please remember that our GAAP reported results were impacted by merger-related expenses and other charges, so we provide a reconciliation of GAAP versus core metrics here. Let me begin with a summary of the full-year results. Our core diluted earnings per share for fiscal 2014 were $0.72 compared to $0.51 for fiscal 2013. This represents growth of 41%. Our core operating efficiency ratio was 59.4% for 2014, compared to 63.7% for 2013. Our return on tangible assets was 91 basis points compared to 62 basis points and our return on tangible equity was 11.8% compared to 7%. In the fourth quarter, we incurred pre-tax charges associated with our banking systems conversion of approximately $900,000 and a $200,000 charge related to the closure of branch facilities. We also incurred a pre-tax charge of $1.5 million for the amortization of non-compete agreements. Also on facilities. During the quarter, we moved six financial center locations to other real-estate owned as we were holding these properties for sale. We will continue to review our financial center footprint for additional efficiencies going forward. On Slide 6, let’s look at our loans and deposits. Loans reached $4.8 billion, which represented an increase of $200 million over the prior quarter. This is a growth rate of 17.7% on an annualized basis. Our mix of business continues to be diverse across C&I, CRE and consumer asset classes. The yield on loans decreased to 4.8%, but this was mainly driven by lower income generated on accretable yield and lower prepayment income. Our total deposits were $5.3 billion, which represented an increase of $196 million relative to the prior quarter. The mix of deposits improved as we continue to allow higher cost certificates of deposits to mature. We also decreased our utilization of wholesale deposits in the fourth quarter, as municipal deposits were at their peak at September 30 and reached $993 million. We continue to enjoy the benefits of low cost deposits of 19 basis points. Going forward, our strategy will be to continue growing our commercial and retail transaction deposits. During the quarter, commercial and retail demand deposit accounts increased by nearly $70 million relative to their prior quarter, which represents a growth of 13% on an annualized basis. We expect to drive meaningful growth from our commercial deposit balances as the number of relationship teams continues to grow and the teams become more seasoned. Turning to Slide 7, we provide greater detail on our loan portfolio, which experienced significant growth across all asset classes. The table includes data for end of period balances for each of our loan categories, but I will also provide some data on average balances. For the quarter, average loan balances were $4.6 billion, which represents an annualized growth of 24% over the linked-quarter. Our pipeline of commercial loans is robust and will allow us to continue to choose credits with higher margins and strong credit characteristics. We continue to focus on originating commercial loans and we had solid growth in C&I and CRE assets. The vast majority of our C&I assets are either floating rate or repriced on a short-term basis. We believe these differentiated businesses position us well for a rising rate environment and provide us with significant balance sheet flexibility. On Slide 8, let’s look at our fee income. The figures on the slide exclude the impact of securities gains which were $33,000 in the fourth quarter. Total fee income was $12.3 million, which represented a decrease of $26,000 relative to the prior quarter. As we had anticipated, we increased factoring and payroll commissions by $206,000 and mortgage banking fees by $233,000 in the quarter. However, this was not enough to offset decreases in wealth management, other loan fees and service charges on deposits that totaled $440,000. This is the one area where performance has not met our expectations, and we are focused on turning it around to achieve our long-term goal of 20% or more of fee income to total revenue over time. On Slide 9, you can see the steady progress we have made on driving organic growth through our commercial teams and the integration of legacy Sterling Bancorp. Both of these have had a positive impact on our revenues and expenses. Relative to the linked-quarter, revenue growth was 1.7% while expenses declined 3.7%. Our core operating efficiency ratio was 54.7%. This ratio excludes the impact of the gains and charges we detailed on Slide 5. Let’s review asset quality on Slide 10. This quarter’s performance shows continued progress and strong metrics across all credit quality indicators. Total net charge-offs against the allowance were $1.1 million, which represented 9 basis points of total loans. Provision for loan losses for the quarter was $5.3 million, as the loan growth during the quarter resulted in a higher reserve requirement. The allowance for total loans and the allowance to NPLs were 85 basis points and just under 80%. Please remember that these ratios do not include the impact of the fair value mark recorded in the legacy Sterling Bancorp acquisition. Non-performing loans declined by $5.8 million, and criticized and doubtful assets declined by $8 million relative to the linked-quarter. We are working diligently to continue to reduce these balances. Our capital ratios also remained strong. At September 30, our tangible equity ratio was 7.6% and we remained well capitalized under all regulatory capital ratios at Sterling Bancorp and Sterling National Bank. Jack?

[Jack Kopnisky:]

Thanks, Luis. Let me summarize the quarter which is on Slide 11. Core earnings were $18.2 million or $0.22 per diluted share, representing a 16% increase in earnings over the linked-quarter. On a linked-quarter basis, return on tangible equity improved 140 basis points to 13.8%. Return on tangible assets improved 11 basis points to 106 basis points, and our efficiency ratio improved 310 basis points to 54.7%. Again, we’re driving performance through the creation of positive operating leverage. That’s really been our focus. Core revenue grew by 1.7% and we reduced core expenses by 3.7%. We’ve made significant progress in reducing the overall cost basis in the company, and we continue have assorted levels of capital and credit metrics. Finally, I’d take you to review our Slide 12, if you would. As you can see, we have made significant progress in transforming Provident Bancorp, now Sterling Bancorp, over the past three years. Most of our leadership team came in late of 2011. You can see the progress that we’ve made. Since fiscal year-end 2011, loans have grown by 180%, deposits 131% and core earnings more than 6x that level. As we noted previously for the fourth quarter 2014, the return on tangible assets were 106 basis points, core return on tangible equity 13.8% and the efficiency ratio 54.7%. In addition, our market capitalization is now over $1 billion, and our stock price has more than doubled. Our strategy of team-based delivery primarily focused on small and middle-market businesses in Greater Metro New York is working. The full relationship approach enables strong alignment to our clients' needs, the creation of holistic loan deposit and fee-based relationships, and ultimately the strategy yields higher returns to our shareholders. Additionally, the acquisition of Sterling Bancorp in October 2013 has enabled us to accelerate a broader solution set to our clients, creating more diverse balance sheet, providing higher margins and stronger revenue of fees in a more efficient cost environment. The integration has gone well, and we continue to see, both, enhanced revenue opportunities and increased cost synergies. Now before I open up the line for the questions, I’ll remind everybody that our policy is not to comment on any market speculation regarding acquisitions. So now with that, let’s open the line for questions. Operator, are there any questions?

[Operator:]

Yes sir. Your first question is from David Darst.

[David Darst:]

Hi, good morning.

[Jack Kopnisky:]

Hi David.

[Luis Massiani:]

Good morning, David.

[David Darst:]

So I guess, we’re now at the end of your fiscal year. Could you give us just kind of – it appears that you’ve hit a lot of the expectations that you had outlined for the calendar year 2015 early, relative to where you wanted to be on the, kind of low-teen or mid-teen on return on tangible equity and the efficiency ratio ROA. So can you maybe talk about where you go from here, what’s your fundamental outlook, and kind of how you’re going to continue to drop [ph] the operating leverage of the expenses base?

[Jack Kopnisky:]

Yes, it really is the operating leverage that we’ve focused on. Driving kind of incremental gains in revenue and controlling expenses. So those targets and where we’re at today, we think we can continue to maintain and improve on. It is – we will go through a sequence, where as you manage a business, you always are balancing what opportunities are to control costs relative to the revenue opportunities in the market. So today, we still see strong revenue opportunities in the market. Flat interest rate environment that we’re in right now does put a damper on that. So if there is ever a time where rates actually go up, we think the revenue opportunities will be more significant than they are today. And as we go along, we will manage our expenses accordingly. So there is going to be a time when there is great revenue opportunities, we will then spend more money. And the way we will spend more money is by acquiring more and more teams. And in times where there will be moderate revenue growth opportunities, we will keep expenses flat or contract expenses. So that’s kind of how we think about it.

[David Darst:]

Okay. Do you think you’re done on the square footage reduction?

[Jack Kopnisky:]

No. we actually haven’t received most of the benefit from the square footage reduction, because we either have to sublet the space or people have to buy the properties where we have cost of maintaining that. So we would expect there to be some additional expense reductions in the future. That said, that will be offset with us hiring people and putting them – people facing the clients.

[David Darst:]

Okay. And what do you think the total reduction, you’ve given 25% and how much more do you want to take out?

[Jack Kopnisky:]

The 25% is our target for the end of next year. So that is the amount that we would take out. We just haven’t realized all the cost out of that – cost efficiencies out of that.

[David Darst:]

Okay, great. Thank you.

[Jack Kopnisky:]

Sure.

[Operator:]

Your next question is from Collyn Gilbert.

[Collyn Gilbert:]

Thanks, good morning guys.

[Jack Kopnisky:]

Good morning, Collyn.

[Collyn Gilbert:]

Jack, just a follow-up on your comments about how you think about the business in totality and your comment about managing expenses if revenue growth slows. Is there any – I mean as we stay in this rate environment, is your expectation that revenue growth will slow and that maybe we will see some jiggering of expenses in fiscal ‘15 I guess?

[Jack Kopnisky:]

I think good managers always look at things like that. So I think we would – it depends – no one has been accurate about projecting where interest rates are going. So it’s hard to tell you exactly the time, but we would be very – we want to be very smart about the expense allocation. So one of the things that we’ve done in this process is not only have we reduced cost in total, but we’ve reallocated cost, and so we’ve reallocated cost that we would have been spending on back-office processing to frontline folks and we’ve outsourced some of the back-office costs. A perfect example of that is mortgage servicing. We will continue to do that and we will continue to look at how to create more efficiencies and effectiveness in the back-office through outsourcing and verbalizing [ph] those expenses, which creates a better match to the revenue opportunities in the market.

[Collyn Gilbert:]

Okay, that’s helpful. And just one comment I missed it, Luis. You had mentioned, you were talking about fees and you said something was disappointing. Was it a specific fee line that was disappointing or the overall fees? I just was curious what you were suggesting there?

[Luis Massiani:]

The answer to that is both.

[Collyn Gilbert:]

Okay.

[Luis Massiani:]

So the absolute dollar amount of fee income, we fully expect and anticipate we’re going to do much better going forward as we had outlined in the past. More specifically, we have seen an uptick in mortgage banking. So when you look at the linked-quarter performance, mortgage banking, payroll, factors, they did better, they didn’t do as well as we had anticipated that they were going to do. So that’s an area that we’re going to continue focusing going forward. Now those are, as we mentioned in the past, are differentiated businesses. Those are places where regardless of rate environment, you can still generate good risk adjusted returns on those types of assets, and we want to focus on continuing to grow volume and outstanding in those three particular areas.

[Collyn Gilbert:]

Okay, that’s helpful. And just your comment on – you’ve done a great job of making that balance sheet more efficient. Is there more to do there? Do you think that there is still is some liquidity opportunities to shift from securities into loans or how are you thinking about sort of that?

[Luis Massiani:]

There is. So our target – so we’re in securities to total assets of 23% today. Over time, we want to get that number down closer to 20%. A little bit of that is going to depend on how we continue to manage our municipal deposits as we’ve talked about in the past to just create a collateralization requirement that therefore has – you have to have hold guard [ph] your securities book if you have that amount of municipal deposits. As we continue to shift that going forward, we do expect to continue moving securities down, increasing in their proportion of loans as a percentage of total earning assets, but that is going to play – it’s going to take a little bit of time to play that out. For now, securities are going to stay at about $1.6 billion to $1.7 billion where they are today.

[Collyn Gilbert:]

Okay, that’s helpful. And just one final question. What was the core loan yield this quarter exclusive of the accretion, and then what was it in the second quarter? I know you gave us the NIM, but just the loan yield, I was curious about?

[Luis Massiani:]

So the total NIM – sorry, total loan yield was 4.83%. And then I don’t have the specific accretion numbers in front of me, but I’ll get back to you on that.

[Collyn Gilbert:]

Okay, that’s helpful. That’s all I had. Thanks guys.

[Operator:]

(Operator Instructions) Your next question is from Matthew Kelley.

[Matthew Kelley:]

Yes, hi guys.

[Jack Kopnisky:]

Hi Matt.

[Luis Massiani:]

Hi Matt.

[Matthew Kelley:]

Do you have an operating expense number we can use, just for the fourth quarter with everything you have, with new hires that’ll be running through a full quarter operating expense range for the December quarter?

[Jack Kopnisky:]

$40 million to $41 million, Matt. You see that this quarter, it was about $40.2 million of core. Remember that out of that $40 million, we’re taking out some of the non-cash items, the non-compete agreement agreements and so forth that we don’t include into that true run rate of OpEx, but $40 million to $41 million is a good number.

[Matthew Kelley:]

Okay. And then off of that, call it $164 million annualized type number, what type of growth do you envision for a full-year from December to December off of that $164 million?

[Jack Kopnisky:]

Yes. Well, actually our view is it’s kind of $162 million to $164 million. So I think you normally would look at 0% to 3% growth rate.

[Matthew Kelley:]

Okay, all right, got you. And then in the current interest rate environment, how do you feel that the $365 million core margin ex-accretion, and then last quarter you had talked about accretion running at – I think it was like $2 million to $3 million a quarter. Any update on that number?

[Jack Kopnisky:]

Yes. So remember Matt, that when we talked about the accretion. So the accretion in the linked-quarter was $2.9 million, but we did messaged last time that that number was going to come down substantially, because remember the book of business that we acquired in the legacy Sterling transaction is very different than you would see in a traditional bank, right. A lot of that was C&I, the factors, the payroll, the warehouse lending businesses, those are all very short-term. So the accretion associated with those relationship with the C&I piece of the business, which was the vast majority of the loan portfolio that we acquired, was always going to play itself out very quickly over the course of the first four or five quarters post-acquisition. So we had always – I think last time we had guided to, this quarter was going to be closer to $2 million and we ended up coming in at $1.7 million. So it was slightly below because that number always fluctuates a little bit for credit events that flow through the acquired book of business versus now [ph]. Going forward for this quarter and then into 2015 – into the calendar year 2015, this quarter is going to be about $1.2 million to $1.5 million or so. And then into 2015, you’re going to see a decline from that number over the course of the following two or three quarters. So the vast majority of the mark, again it was associated with the C&I part of the book. It has played itself through. And then the CRE or the longer dated CRE and equipment finance books of business that we acquired is where the remaining mark – the vast majority of the remaining mark still remains. Remember though, Matt, that that also does – you also have to provide for those loans, right. So one of the reasons that we’ve had this – last quarter we had $5.9 million in provision for loan losses and then $5.3 million, almost $5.4 million this quarter, is that you do have to provide for the loans that you’ve acquired that then are becoming a part of your allowance. So you will see, even though the accretable yield is going to be coming down, the reserve requirement should also – you should see a decrease in that reserve and that provision requirement as well. So it’s not going to be a dollar-per-dollar decrease from the perspective of what the bottom line P&L looks like once this accretable yield starts rolling off.

[Matthew Kelley:]

Okay. And then your prior guidance on tax rate of 32% to 33%. Does it tick-up to that range in the December quarter or does that start in calendar ‘15?

[Jack Kopnisky:]

No, calendar ‘15 is when that starts, and it will get there gradually over time. So for the calendar year 2015, for those four quarters, 32% to 33%, and again over the course of that year, that will be. And the reason for that is that, as we continue to grow the business we continue to grow, call the non-tax efficient part of the businesses, as muni securities income and BOLI and REIT income starts becoming a smaller proportion of the pie as we continue to grow the business, you will see that tax rate tick-up a little bit, but it will play itself out over some quarters.

[Matthew Kelley:]

Okay. And then last question. As you grow the balance sheet up, can you remind us again on what your comfort levels are on the loan-to-deposit ratio and kind of the target range there that you would like to stay within?

[Jack Kopnisky:]

We’re at 90% today, which was one of the goals that we had established when we first joined, we knew that we had – we needed to become a more efficient balance sheet and we’ve achieved a lot of what we set out to do. 90% to 95% on a loans-to-deposits ratio is where we’re comfortable. If you were to see it above 95%, that would be a place where we’d have to revisit the loan growth and how to better match that with deposits going forward. But with that said, I saw your note earlier today Matt, and I think that we concur. We obviously want to continue growing the funding side of the balance sheet as well, and we are actively focusing on working with all of our commercial teams and getting a better match from the perspective of loan-to-deposit growth going forward.

[Matthew Kelley:]

Got it, all right. Thank you.

[Jack Kopnisky:]

Sure.

[Operator:]

(Operator Instructions) You do have a follow-up from Collyn Gilbert.

[Collyn Gilbert:]

Thanks. Sorry guys, just one quick thing. Luis, on the $5.3 million in provision that you took this quarter, just to your comments about how you’ve had to put in the provision a reserve on the acquired book. Do you have that breakout by chance what it was in the $5.3 million that was tied to the acquired book?

[Luis Massiani:]

I don’t have that breakout but it’s not – I don’t have that breakout in front of me, but it’s a significant chunk of – there is a big – the number associated with that if you’re providing to a 1% or 1.1% long-term allowance to total loans is a significant portion of it.

[Collyn Gilbert:]

Okay. So that 1% is kind of what we should assume you’re putting in the reserve on the new [indiscernible] stuff? Okay. And then just the one – quick follow-up, on the six properties that you guys have moved to OREO and you’re expecting to sell, can you remind us – is there an expected gain embedded in those?

[Jack Kopnisky:]

There are gains in some and there is losses in others. So it depends on – I guess in real estate its location, location. So there is – in the end, the six properties that we moved and you’ll see that the shift in OREO, that was about $2.5 million between the linked-quarter to this quarter, vast majority of that was represented by the six properties that we owned that we’ve put in there. In the end, we think it’s going to over the course of the next couple of quarters, because it does take a while to market these properties and sell them. It’s going to wash out.

[Collyn Gilbert:]

Okay, great. All right, thanks guys.

[Jack Kopnisky:]

Remember though we did take a big gain – we took a big gain last quarter. So in the end, we’re actually going to come out when – once everything is set and done we’ll be ahead of the game on the real estate games, but from this point forward, it’s going to be breakeven.

[Collyn Gilbert:]

Okay, great. Thank you.

[Jack Kopnisky:]

Sure.

[Operator:]

And there are no additional questions at this time. I’d like to now turn the conference back over to our presenters for any closing remarks.

[Jack Kopnisky:]

Just thank you for following the company, and thanks for investing in the company and for taking your time. So thanks. Have a great day.

[Operator:]

Thank you. Ladies and gentlemen, this does conclude today’s conference call. You may now disconnect your lines.