TCF Financial Corporation
Q2 2015 Earnings Call Transcript

Published: 23 Jul 2015

[Operator:]

Good morning, everyone. And welcome to TCF’s 2015 Second Quarter Earnings Call. My name is Jamie and I will be your operator today. All lines have been placed on mute to prevent any background noise. After the speakers’ remarks, there will be a question-and-answer period. [Operator Instructions] At this time, I would like to introduce Mr. Jason Korstange, TCF Director of Investor Relations to begin the conference call.

[Jason Korstange:]

Good morning. Mr. William Cooper, Chairman and CEO will host this conference. Joining Mr. Cooper will be Mr. Craig Dahl, Vice Chairman and President of TCF Financial Corporation; Mr. Tom Jasper, Vice Chairman; Mr. Mike Jones, Chief Financial Officer; Mr. Jim Costa, Chief Risk Officer; Mr. Mark Bagley, Chief Credit Officer; And Mr. Tom Butterfield, Chief Information Officer. During this presentation, we may make projections and other forward-looking statements regarding future events for the future financial performance of the company. We caution you that such statements are predictions and that actual event or results may differ materially. Please see the forward-looking statement disclosure contained in our 2015 second quarter earnings release for more information about risks and uncertainties which may affect us. The information we will provide today is accurate as of June 30, 2015 and we undertake no duty to update the information. During our remarks today, we will be referencing a slide presentation that is available on the Investor Relations section of TCF’s website, ir.tcfbank.com. On today’s call, Mr. Cooper will begin with an introduction, Mike Jones will discuss second quarter highlights and expenses, Mark Bagley will discuss credit quality, and Craig Dahl will provide a business update and closing comments. We will then open it up for questions. I will now turn the conference call over to TCF Chairman and CEO, William Cooper.

[William Cooper:]

Thank you, Jason. TCF had another good quarter. We had good revenue growth up 3% from a year ago, good with good margin and chain of sale loan [ph] returned to more normalized level. We successfully completed our second auto securitization resulting gains. We had continuing strong loan and lease originations in all the areas. We had typical seasonal rebound in fees and service charges on our deposit accounts. And we have -- had continuing operating improvement in operating leverage just we've grown our businesses, our new businesses around our operating expenses. And despite a pressure on the noninterest margin at the banking industry as a whole is enduring. We continue to have one of the highest net interest margins in the banking business. You turn Page 4; we do a comparison of this quarter to the first quarter average of our peer banks. And as you can see we have -- the first -- the top year is compared to -- is comparison of percentage of average assets we have a higher net interest margin in 4.14% and 3% of our peers, 2.28% noninterest income versus 1.24% and total revenue at 6.42% versus 4.31%, TCF continues to be revenue machine. Return on average assets of 1.10% as compared to our peers at 93 basis points. That superior performance is due to -- we have a higher yield on our loans, lower cost of our deposits and higher net interest margin and higher level of fee income. In addition to that TCF is more like an old fashioned bank where 85% of our assets are loans as compared to 65% in our peers. And they are funded with almost 80% deposits; some 90% of those deposits are FDIC core deposit as well. A very low level of borrowings and very strong equity. A return on average tangible equity was almost 11.5%. So again I'd characterize is as a good strong quarter. With that I'll turn over to Mike Jones.

[Mike Jones:]

Thanks, Bill. Turning to Slide 5 which shows our performance for the quarter comparing second quarter 2015 results with second quarter 2014 results. Earnings per common share were $0.29 which was flat to prior year. Loan and lease originations as Bill said continues to be strength for the organization, up nearly 15%. We will look to continue to fund our loan and lease growth through core deposits and our average deposits were up 7% on a year-over-year basis. While this deposit growth is that market rates, it will positively position the company for the future as we enter into a rising rate environment. Our credit metrics continue to be stable and revenues increased year-over-year as a level of gain on sales increased and volume outpaced the margin compression. Turning to Slide 6. Second quarter results improved significantly on a linked quarter basis with earnings per share up 38% from the first quarter of 2015. These results were driven by a 5% increase in revenue as loan sales increased off of the low level for the first quarter of 2015. As you may recall we held more loans on the balance sheet in first quarter to put to work some of the proceeds from the TDR sale. Loan and lease originations are up almost 11% on a linked quarter basis. Credit on a linked quarter basis continued as positive trend and Mark Bagley, our Chief Credit Officer will talk more in detail about credit later in the presentation. Return on average assets finished the quarter at 1.10%, up 25 basis points and return on average tangible common equity improved 276 basis points to 11.34%. Turning to Slide 7. Second quarter revenue was impacted by higher average loans and lease balances in auto finance, leasing and equipment finance and inventory finance businesses. We experienced the normal seasonal rebound in banking fees of the first quarter lows with an increase in transactional activity and lower average checking account balances per customer. Revenue was also impacted by increased gains from increased loan sales with the execution of our second securitization in the auto space. Net interest margins decreased in the quarter to 4.44% as we saw continue margin compression as the higher yielding first lien in consumer real estate book continue to run off and we originate loans in this competitive low interest rate environment. If you take a look at the right side of the slide, we thus continues to show the foundation of our business model, diversification across our revenue sources both in earning assets that generate our interest income and the fee income generated by both sides of the balance sheet. Turning your attention now to Slide 8, noninterest expense. Noninterest expense as a percentage of total average managed assets decreased within the quarter 16 basis points as total noninterest expense decreased $4 million. The couple of key points to keep in mind when looking at expenses for TCF is the fact that we have for one, an expense base that supports growth in the service for other portfolio which is now close to $4 billon in size. And two, operating lease depreciation expense which we placed on the graph this quarter to highlight as this expense line item has an offsetting revenue in noninterest income on the leasing revenue line. With that said as we move forward to future quarters, we will continue to look for ways to optimize the expense base at TCF through leveraging asset growth and automation. I'll now turn the call over to Mark Bagley, Chief Credit Officer to talk about credit.

[Mark Bagley:]

Thank you, Mike. Beginning on Page 9, the over 60 day delinquency rate excluding acquired portfolios and non-accruals loans and leases was at 10 basis points at June 30, 2015. This down from 18 basis points to June 30, 2014 and down from 14 basis points in March 31, 2015. The decrease is for both periods were primarily result of the stabilization of the consumer real estate portfolio as economic conditions improved in our markets. Speaking to nonperforming assets, non-accrual loans leases and ORE totaled approximately $264 million at June 30, 2015, a decrease of about 19% from the $325 million balance at June 30, 2014 and 7% decrease from $285 million balance at March 31, 2015. The decrease from a year ago June 30, 2014 was primarily due to the TDR sale that occurred in the fourth quarter of the year which included about $40 million of non-accrual loans, as well as improving credit trends and a continued efforts to actively workout a problem loans in our commercial portfolio. The decrease from March 31, 2015 was associated with further credit quality improvement in the commercial book. The provision for credit losses is approximately $13 million for the second quarter of 2015 was slightly higher than a $10 million figure for the second quarter of 2014. That increase driven by the growth in the auto finance and consumer real estate junior lien portfolios. Turning to net charge-offs. The net charge-off rate for the second quarter of 2015 was 41 basis points, down from 45 basis points for the second quarter of 2014, up from 28 basis points for the first quarter of 2015. Turning to Page 10. The decrease in the net charge-off rate for the second quarter of 2014 was due to improved credit quality in the consumer real estate and commercial portfolios. As presented on this slide, the net charge-off rate for consumer real estate for the second quarter of 2014 was 75 basis points compared to 69 basis points for the second quarter of 2015. The commercial portfolio a net charge-off rate was 44 basis points for the second quarter of 2014 and that compares to 21 basis points for the second quarter of 2015. The increased for the first quarter -- from the first quarter of 2015 was driven by increased charge-off loans in the consumer real estate first lien portfolio and the net recoveries in the commercial portfolio during the first quarter of 2015. The increase in net charge-offs was associated with items primarily reserved for. Then I'd like to turn the presentation over to Craig Dahl.

[Craig Dahl:]

Thanks Mark. Good morning. Let's start with our diverse loan and lease portfolio on Slide 11. First of all, we've added more detailed around our consumer real estate book as we've broken out of first mortgage and junior lien portfolios. We continue to show excellent diversification with our 53% wholesale and 47% retail loan mix that we talked about. And our consumer real estate is now 33% of the total book and our junior lien book has been flat at 16% at quarter end and 3% at the prior year end. We show year-over-year loan and lease growth of 5.2% with a fairly consistent mix of the remaining loan portfolios with nothing in the balance sheet exceeding 25% of the loan totals. Turning to Slide 12. I'll point to you that third bullet here as Bill has already announced, we completed our second auto securitization which is the biggest change from last year when we completed our first securitization in the third quarter. Our loan sales continue to provide flexibility to the organization around diversification of product and geographic concentration, supporting capital and liquidity in addition to providing additional revenue sources. We continue to look for opportunities to manage our overall loan book with this strategy. Turning to Slide 13. Our managed portfolio. We ended the quarter with managed assets over $21 billion and service for others just under $4 billion. Our loan sale activities produced servicing fee income of $7.2 million in the quarter and $23.1 million in gain on sale revenue. Turning to Slide 14. We had another strong quarter with origination increasing by $499 million in the quarter that produced an annualized portfolio increase of 14% prior to loan sales, as all reporting areas showed increased originations first to prior year. I'll remind you that inventory finance has a seasonal peak in the first quarter, so our $712 million increase is after a $231 million seasonal reduction in inventory finance. The period end inventory finance balances were up 12% over the same quarter of the prior year. Turning to Slide 15. Again we've produced more detail here on our first and junior liens as we outlined our loan and lease yields. I think our teams have been doing an outstanding job in maintaining our yields which continue to be well above our peer group average. Looking at the single bullet point near the bottom, it is a very competitive market place and we continue to focus on our niche lending strategies where we have been able to protect our yields as compared with our peers. I'll remind you that our diverse origination platform allows us the flexibility to not have to chase price in any segment. Turning to Slide 16. Our deposit generation. The slide shows the power of our franchise as our year-to-date deposit cost remain constant at 28 basis points. We have now increased total deposits for 19 consecutive quarters, funding our asset growth. We continue to improve our checking account attrition and we still have over 90% of total deposits insured by the FDIC. Turning to Slide 17, where we show some of our interest rate risk elements. We have an excellent mix of variable and short and medium term duration assets totaling over 80% of our asset base. And that's funded with 64% of our deposits at low or no cost which represents an average of $10.1 billion and an average cost of two basis points in the second quarter. Turning to Slide 8. Our capital base. You can see we improved all other ratios in the second quarter as once again our earnings support our asset growth. And turning to the summary slide on page 19. Again we have consistent loan growth and categories we want. We have solid capital appreciation accumulation rate. And our ROA is at 1.1% and our return on total capital of common equity was over 11%. And Bill, did you have comments?

[William Cooper:]

I think that pretty well summarize as I said start off that's a good solid quarter and basic for good solid progress when in the rest of the year. And with that I would open up the questions.

[Operator:]

[Operator Instructions] Our first question comes from Jon Arfstrom from RBC Capital. Please go ahead with your question.

[Jon Arfstrom:]

Good morning, guys. Maybe question for Bill or Craig, the production growth, we had about 10% increase in sequential production, curious if there any particular drivers to that? And then maybe your thoughts on the ability to hold that low to mid teen year-over-year loan production growth pace?

[William Cooper:]

Craig?

[Craig Dahl:]

Sure. This is Craig. We believe it's in the markets that we are currently serving so we expect to be able to maintain near that level through the remainder of the year keeping in mind that there is probably going to be a little bit of slowdown in inventory finance to the summer and then it builds again in the fourth quarter as we move into the fall and winter product.

[Jon Arfstrom:]

Okay and nothing particular in Q2? Any particular drivers?

[Craig Dahl:]

No.

[Jon Arfstrom:]

Okay, good. And then maybe a question for you Mike and Bill. Just little bit of help on the expense outlook. It was a pretty good quarter on expenses, so question on that and then maybe for Bill you talked about that 4% of balance sheet and managed assets as a goal for the company. Obviously you below that and it continue to go lower, just curious how much leverage you think you have on your current expense base.

[William Cooper:]

Well, we still have more to come in terms of leveraging our operating businesses and simply through an expense reduction program or looking at particularly in the retail side of thing where we can cut back on -- as a result of changes in customer behavior and so forth. But we expect to continue to see leveraging of existing expenses because we largely built out now, a lot of our new businesses in the -- we got the growth of the revenues around it. Mike, you want to add anything.

[Mike Jones:]

Yes. I would say, Jon, last couple quarters we've talked about trying to keep the expense level kind of flat to that fourth quarter 2014 level, it came in at $222 million, it was up a little bit in the first quarter, I think we talked about some of those things and some of the investments that we made that will earn back over the time horizon. We are trying to keep a kind of range bound around that level. And that means that we have to do actions to optimize that expense level because we are going to be growing the balance sheet and as you grow the balance sheet we again have to put people on to service those loans and leases. So we are trying to counter balance that with optimization and automation to take some of the expense out and really get the leverage of that loan and lease growth.

[William Cooper:]

We are trying to this quarter in a deck to show a little bit of details in terms of the expenses. Like for instances the lease depreciation that works like an expense growth but that's good news because as revenue growth on the other side of the -- in the P&L, and as -- we are -- TCF is one of the few banks in a country that's growing its service portfolio, we are originating and selling and servicing a lot of loan and you can see the growth in that servicing income. Well, they cost money to service those loans but it is on the balance sheet and again we've got a revenue side that better more than offset that operating expense on the asset side. So we think we are making real progress and I think we are going to continue make progress on the operating expense side.

[Operator:]

Our next question comes from Emlen Harmon from Jefferies. Please go ahead with your question.

[Travis:]

Hi, good morning, everyone. This is Travis on for Emlen. Just a few questions on fees. The securitization gain on sale margin compared to the first one you guys did, looks like is about 30 basis points lower. Can you just kind of remind me what goes into that and what sort of drives the margin on that?

[Mike Jones:]

This is Mike Jones. Really that has to do with kind of the change in the benchmark rates. If you look at kind of benchmark rates from 2014 to 2015 they increased over that time period. So I would say that the execution was comparable from a spread standpoint but there was in increase benchmark rates which basically drive pricing on those bonds.

[Travis:]

Got it, okay, and thank you. Then just leasing also looked pretty strong even a little bit more than what's typical from just seasonality. Can you give a little bit more color what's driving that? And if you think you can sustain most of the growth that you saw going into the back half of this year?

[Craig Dahl:]

This is Craig Dahl. No, the leasing revenue can be very customer dependent. And so it has been unpredictable and it is not unpredictable but a little bit more volatile and it is within the range that we've talked about it having. So but it is not like it is going to build solely off of that as a run rate revenue.

[Operator:]

Our next question comes from Chris McGratty from KBW. Please go ahead with your question.

[Chris McGratty:]

Hi, good morning, everybody. Mike, maybe question for you on the margin. We're starting to see some banks do some deposit promotion with -- its expectation that rates is going to move up pretty shortly. Could you talk about what you guys may or may not be doing?

[Mike Jones:]

Yes. This is Mike. I would say that we have been very targeted in our promotions and campaigns. We've looked at campaigns that ensured ourselves that we would gather good quality deposits and relationships. In our market place, the campaigns have been focused on retail CDs and money markets to ensure ourselves that we don't disintermediate as much as possible. So that's really been our focus.

[Chris McGratty:]

Okay, that's helpful. Thank you. Bill maybe one for you on capital. Your capital ratio is continues to build. Any change in kind of priorities kind of entering the back half of the year or into next year?

[William Cooper:]

Well, we are now generating capital faster than the balance sheet need. We have good strong capital and sitting here right now so we will be evaluating in the last half of the year so our judgment in terms of how we handle capital going forward.

[Chris McGratty:]

Is that more so on the dividend or is that maybe an acquisition or maybe GE opportunity or an asset purchase?

[William Cooper:]

It could be any of those things. Looking at the dividend or leveraging with asset generation there. I don't want to drop a shoe on that but there really isn't anything in the work right now and that kind of thing. But we are evaluating at all connections with how we best utilize our capital. One of the few banks in the country that has asset growth capacity to utilize capital growth. And that is the best thing for us to do because our return on equity is strong enough that it is in our best interest our shareholder reinvests capital. But our capital growth rate now is -- our capital accumulation rate is higher than our asset growth rates and that indicates that there are some other leveraging we should be doing with the capital growth.

[Operator:]

Our next question comes from Jared Shaw from Well Fargo Securities. Please go ahead with your question.

[Tim O'Braziler:]

Hi, good morning. This is actually Tim O'Braziler [ph] filling in for Jared. My first question is on the auto securitization. I am sorry if I missed this but is the whole gain in outline item related to securitization or whether traditional loan sold there as well?

[Mike Jones:]

No. The majority almost entirely in the quarter was the securitization for the quarter.

[Tim O'Braziler:]

Okay. And going forward should we expect to see about one a year? Is that a plan at this point still?

[Mike Jones:]

No. I would say that each quarter we look and evaluate our execution path for loans sales and we choose the one that's economically best for the organization. So that may change from quarter-to-quarter and we are evaluating it and trying to find the best execution for the corporation.

[William Cooper:]

That's -- that could be either in the form of whole loan sales or it could be a securitization. And which category of assets we sell is compared to which category of assets we keep on the balance sheet. And we basically evaluate that based on what's going on the market and what's best for our balance sheet going forward. Mike mentioned that within the auto securitization world there has been fair amount of supply in that and that's put some pressure on the pricing and so we monitor that, we make our choices accordingly.

[Tim O'Braziler:]

Okay, that's good color. And then looking at the consumer loan sales, the balance of loan sold uptick this quarter, was there something particular about the suspects and the origination that drove that uptick or was that just market driven?

[William Cooper:]

Actually we just push -- frankly push some of it from the previous quarter into this quarter and there were gain reasons to do that and there is no mega reason for it other than we just -- circumstances moved it from one quarter to the other. Is that fair to say Mike?

[Mike Jones:]

Yes. I think that's fair to say. As you may recall in the first quarter we chose to put some of the proceeds to work from the TDR sale. So I think on linked quarter basis I think you've seen us return to more normalize level. If you look on a year-over-year basis, we are just growing originations and you are kind of keeping pace with the amount of loan sales with that origination growth.

[Tim O'Braziler:]

Okay, good. And then just following up on a couple of Chris' question. When looking at the time deposit growth on a linked quarter basis, was that promotion driven or campaign driven? Kind of what those dynamics there and does that do anything to extend the overall duration of the deposit growth?

[William Cooper:]

Well, it does affect the duration to some degree, those time deposits tend to have a shorter duration is -- a lot of people look at different way, the long duration liabilities at TCF are checking and savings that money is stable, it doesn't go anywhere, we don't checking a particular zero interest rate and we are simply to some degree offer domestic [ph] and connection with how we fund our loan growth and right now that's been in the best category to do it. Tom, you have anything to add on it?

[Tom Jasper:]

I just agree with your point. This is Tom. We've been in our CD campaigns, we have been generally targeting duration of a year to year and half in that range and that's been a big part of our growth on a year -- on a linked quarter basis.

[Mike Jones:]

Last thing I would say is that we are very positive on our branch franchise and the branch personnel that are out there. And what we like about these campaigns, it enables our branch employees to have a sale point to cross sell them into our core, more core deposit and that being the checking and savings. And they do a phenomenal job of cross selling into those and that's what we look for with these campaigns.

[Operator:]

Our next question comes from Dave Rochester from Deutsche Bank. Please go ahead with your question.

[Dave Rochester:]

Hey, good morning, guys. How do you guys stand on the rollout of mortgage product in branches? And when will the auto and car product rollouts be completed?

[William Cooper:]

Tom?

[Tom Jasper:]

So on the mortgage, we trained up the vast majority of our branches and we are getting traction on a month to month basis around that product. So we are seeing what we expected to see in terms of the initial impact of the training and the ability to originate those mortgages from the branch network and we would expect that to continue to improve as the market opportunity exist and the acumen of the branch personnel around the product continues to improve as they get more advanced around mortgage products. On the other products, those are within our development, we don't have specific timing around the individual products to talk about today. What they do -- what we do is look at all the product initiatives and other branch initiatives from an ROI standpoint and take -- and put our resources towards those that we think will have the larger return. So that's how we analyze that but nothing on firm date around those products today.

[Dave Rochester:]

Will we see potentially that the auto or the car rolled out at least over the next year or is a longer term type of project?

[Tom Jasper:]

I think there is potential for one of those or both of those in that timeframe.

[Dave Rochester:]

Great. And then on the expense side, when we talk about certain reductions you can make on the retail side, is that just downsizing branches or headcount reductions in the branches that kind of thing?

[Tom Jasper:]

Yes. This is Tom. So I would look at that around, traditionally we analyze the book to branch plea from a distribution perspective and look for ways to potentially use lower cost distribution like an imaginable ATM versus a full service branch and look to make some of those trades. We don't have any big announcements around branch closures or anything like that. But we are looking at it market-to- market and trying to figure out what's the best way to gain a physical distribution advantage and sometimes we can find the lower cost, so we will continue to analyze that and make what I would call is generally tweaking that quarter-to-quarter.

[William Cooper:]

I make an observation, general observation about that and overall. TCF is very asset sensitive as we explained earlier. Most of our assets are either variable rate or short term in nature. Our liabilities are much longer, couple of factors in that. One of that -- one of things about that is that costs us money and the margin, we basically borrowed loan and let short if you will to have that interest sensitivity so that when rates rise we will do better. We've been in that position for a long time waiting for rates to rise and we may all get older before that happen. I don't know. But we do believe that -- we are confident, we believe that timeframe for rising rate isn't far off. And lot of our branches -- we have been to lot of branches that don't, that aren't called profitable at today's level of interest rates but have a very low cost fixed rate portfolio of deposits that will become profitable as rates rise. And that is part of that cost also maintaining that rate sensitivity. So lot of the branches that maybe aren't as desirable looking right now will become a lot more desirable looking when rates are couple hundred basis points higher.

[Dave Rochester:]

Great, that's good color. And just one last one switching back to the consumer loan sales. Were you saying that you think that the volume that we saw this quarter is more normalized and you would expect that similar pace going forward?

[Mike Jones:]

Yes. This is Mike Jones. I would -- that would be correct. I think there is going to be a range around that but I think that $819 million that was sold this quarter, something in that type range.

[Dave Rochester:]

And then the product that you are producing the mortgage product in the branches does that also -- that the sales of those loans flow through this line as well?

[Mike Jones:]

That's correct, it does. And we broke that out on slide 12, you can see how that is broken out.

[Dave Rochester:]

Great. And you would expect that as you gain more traction in the branches that volume will increase over time.

[Mike Jones:]

That's correct.

[Operator:]

[Operator Instructions] Our next question comes from Bob Ramsey from FBR. Please go ahead with your question.

[Andrew Alper:]

Hi, good morning. This is actually Andrew Alper in line for Bob. Looking at the auto finance book, is 20% still a right number to think about in terms of concentration limit?

[William Cooper:]

Well, I don't know where you came with that 20%. We evaluate -- as I mentioned earlier one of the really strong things about TCF's balance sheet is we don't have anything that's 25%. And we evaluate concentration limits in the balance sheet periodically. One other thing about businesses like auto if your appetite changes you slow the origination it runs off fast because it is only got about a 30 month amortization period. And so I wouldn't characterize 20% as being the right level. But we still have more appetite for growth in that portfolio over where it is today.

[Andrew Alper:]

Okay. And looking at the securitization compared to one from last year. Was the credit quality comparable on the two or was there difference in that?

[Mike Jones:]

I would say it is comparable.

[Mike Jones:]

I think it is comparable. It is in a range on --from a credit standpoint.

[Operator:]

And ladies and gentlemen, we thank you for your questions today. If any investors have further questions, Jason Korstange, Director of Investor Relations will be available for the remainder of the day at the phone number listed on the earnings release. I'd like to turn the conferece call back over to Mr. Craig Dahl for any closing remarks.

[Craig Dahl:]

Again, we think it was a good quarter. We appreciate your interest and have a good day. Thank you.

[Operator:]

Ladies and gentlemen, that does conclude today's conference call. We do thank you for attending. You may now disconnect your telephone lines.