TrustCo Bank Corp NY
Q2 2015 Earnings Call Transcript

Published: 22 Jul 2015

[Operator:]

Good morning and welcome to the TrustCo Bank Corp Second Quarter 2015 Earnings Call and Webcast. All participants will be in listen-only mode. [Operator Instructions]. Before proceeding, we would like to mention that this presentation may contain forward-looking information about TrustCo Bank Corp NY, that is intended to be covered by the Safe Harbor for forward-looking statements provided by the Private Securities Litigation Reform Act of 1995. Actual results and trends could differ materially from those set forth in such statements due to various risks, uncertainties and other factors. More detailed information these and other risk factors can be found in our Press Release that preceded this call and in the risk factors and forward-looking statements section of our annual report on Form 10-K and is updated by our quarterly reports on Form 10-Q. The statements are only valid as of the date hereof and the company disclaims any obligation to update this information, except as maybe required by applicable law. Today's presentation contains non-GAAP financial measures. The reconciliations of such measures to the most comparable GAAP figures are included in our earnings press release, which is available under the Investor Relations tab of our website at trustcobank.com Please also note, today's event is being recorded. I would now like to turn the conference over to Mr. Robert J. McCormick, President and CEO. Please go ahead, sir.

[Rob McCormick:]

Thanks, Rocco. Good morning as the host said, I'm Rob McCormick, President of the TrustCo Bank. Joining me on the room today are Scot Salvador, our Chief Banking Officer, Mike Ozimek, our Chief Financial Officer. I also asked Bob Cushing to join us as a resource to discuss the recent filing and agreeing [ph] with our primary regulator. Also with us is Kevin Timmons. I thought it will be helpful to have Bob with us since he's responsible for a compliance; we've had a compliance department. The plan for today's call is to start with the summary of the agreement then hit the operating highlights of our company, providing time for questions and answers. We operate at a time when regulators have enhanced expectations. As most of you, who'd probably picked up? We've entered into an agreement with the Office of Comptroller of the Currency. The agreement came as a result of our most recent OCC exam and covers many areas within our company. We are working on improved systems for our compliance, audit and corporate governance as well as beefing up and enhancing our policies and procedures in most areas of our company. We are certainly not proud of being part of this action, but realize we're not alone in this. The environment we operate in carries a heavy regulatory burden which all banks are dealing with. We are obviously fully committed to being a compliant company with many of the fixes already underway. Our Board and Management team are committed to taking all actions necessary to remedy disagreement. As already said, a lot of corrective actions are being worked on already. We expect the cost of enhancing our operations could be in the range of $2.5 million to $5 million. As most of you know, we are very cost conscious and help to stay at the lower end of that range. If there is a bright spot in this dark cloud, we hope to emerge as a stronger company; with standardized systems in place, to handle our future growth. We continue to pose very solid operating results. Average loans are up $252 million to the second quarter 2015 compared to 2014. The vast majority of this growth is occurred in our residential mortgage products. Commercial loans has been down as we continue to face competition that in our opinion offers low rates with lower credit standards. As we've said before we are taking a cautious approach working mostly with our existing customer base. Our deposits were up over $140 million year-over-year. Our deposit growth has been very solid with most going into lower cost core categories. We opened one branch during the quarter bringing our total to 146. We are thrilled to see our average deposits per branch grow by over $940,000 to $28.3 million year-over-year. Our core earnings were up almost 5% year-over-year. Our actual earnings were down. You will remember I told you on this call last quarter in 2014, we had two real estate states that were great for our company, that were one-time events. We should we back to more comparable numbers next quarter. Our return in average assets was 0.91% and return on average equity was 10.6%. Our efficiency ratio was 54.7% which contemplates at least some of the increased expenses. All of our asset quality ratios improved during the second quarter, 2015. Our non-performing assets to total assets fell to 0.81% and our quarterly charge-offs were the lowest since the end of 2008. We have a solid well capitalized liquid, very profitable company, which will get past this setback. Now I'm going to turn it over to Mike Ozimek to talk about the numbers in detail.

[Mike Ozimek:]

Thank you, Rob. I'll now review the financial results for TrustCo for the second quarter of 2015. As Rob said, the strength and momentum that we built last year continued into the second quarter for 2015. First quarter net income was up 4.9% in the second quarter of 2015 compared to the same period in 2014. You'll remember included in the second quarter of 2014 results was a gain of $2.4 million on the previously disclosed sale of owned real estate that added $1.6 million to reported after-tax earnings, that would affect to comparability to the second quarter of 2015. This will need to be considered when comparing the second quarter results. Taking this non-recurring item into consideration comparable core net income was approximately $10.7 million for the second quarter of 2015 compared to $10.2 million for the same period in 2014. The average loan portfolio increased to $3.2 billion during the second quarter of 2015, an increase of $48 million on average or 1.5% over the first quarter and $252 million or 8.5% from the second quarter of 2014. As expected the growth was concentrated in the residential real estate portfolio. This continues a positive shift in the balance sheet from lower yielding investments to high yielding core loan relationships, coupled with overall growth in our deposits. Our total investment securities portfolio, that is both the securities held to maturity and securities available for sale, decreased slightly by $7.6 million on average, between the first quarter of 2015 and the second quarter of 2015. This was primarily the impact of maturities and cash inflows from the mortgage-backed securities portfolio. The decrease was somewhat offset by a decision to purchase approximately $60 million in a combination of relatively short-term US Government-sponsored enterprise securities and mortgage-backed securities during the latter part of the second quarter of 2015. On the deposit side, we continue to be successful, increase in balances throughout our branch franchise. Total deposits for the second quarter averaged $4.1 billion which is an increase of $73 million over the average balance for the first quarter of 2015 and up approximately $139 million over the second quarter of 2014 averages. Our cost of interest-bearing deposits decreased by 2 basis points to 40 basis points for the quarter, which continues to reflect our pricing discipline, with respect to CDs and other non-maturity deposits. The liquidity provided by the growth in the deposit portfolio and the reduction in the securities portfolio, we used to fund the loan growth and increase balances in the overnight investments. Our average balance of overnight investments was $683 million for the second quarter of this year, up $30 million over the average balance in the first quarter and up $76 million over the second quarter of 2014 averages. In addition to the liquidity that is our balance sheet, in the current rate environment. We expect that we will have between $200 million and $400 million of loan payments coming in over the next 12 months along with approximately $195 million of investment securities cash flow during the same time period. As we've discussed before, all this liquidity come to the cost. Our net interest margin decreased slightly to 3.07% in the second quarter down from 3.08% in the first quarter and 3.16% in the second quarter last year. This increased liquidity gives us opportunity and flexibility moving into the remainder of the year. You can see that a provision for loan losses has remained level at $800,000 in the second quarter of 2015 compared to the first quarter of 2015 and down $700,000 compared to $1.5 million recorded during the second quarter of 2014. This decreased level of provision remains the results of continued positive trends in asset quality measures and delinquencies. Scot will review this in a minute, but let me the decrease in the provision for loan losses was directly attributable to improving quality of the portfolio and ongoing resolution of existing problem loans. Non-interest income came in $4.5 million for the second quarter compared to $4.6 million for the first quarter. Decrease comes from the first quarter where we had $249,000 of securities gains and zero in the second quarter of 2015. Also during the first quarter, our financial services division recorded their annual tax return preparation fees of $185,000. The decrease from these non-interest income items is offset to their increasing fees or services to customers, which are up $167,000 due to increased seasonal volume. Our financial services division had approximately $938 million of assets under management as of June 30, 2015. Now onto to non-interest expenses. Total non-interest expense came in at $22.1 million up $274,000 from the first quarter and up $2.7 million from the same period last year. The biggest fluctuation compared to the first and second quarter of 2015 occurred in professional fees and other expenses. Included in the second quarter numbers are approximately cost of $500,000 associated with additional legal and consulting expenses. We've estimated the additional cost of implementing the recommendations in the agreement will range between $2.5 million and $5 million annually. We would expect over the next several quarters, we will be experiencing increased non-interest expense but that will be level off probably in about a 1 year, as we complete implementation of the requirements of the agreement. We will work throughout this process to identify opportunities to make the process more efficient. As discussed last quarter, these added costs reflects the company's continued investment and our systems within the retail loan and deposit areas as well as enhanced regulatory compliance measures. In the area of other real estate expenses as mentioned earlier, the large increase from the second quarter of 2014 to the second quarter of 2015 is related to $2.5 million gain on sale of specific piece of owned real estate. ORE expense came in at $201,000 for the quarter which is slightly below our expectations for the second quarter. We would expect ORE expense stay in the range of $500,000 to $1 million per quarter. All the other categories of non-interest expenses are pretty much in the line with prior quarter and our expectations. Going forward, we would expect a total reoccurring non-interest expenses to be in the area of $22 million to $22.7 million per quarter. Our efficiency ratio continues to be very solid. Second quarter came in at 54.71% up slightly from the first quarter's 54.18%. The first and second quarter numbers continue to be negatively affected by our decision to retain a large amount of overnight investments and the increased cost associated with the implementing the recommendations to the agreement. And finally, capital ratios continue to stay strong at 8.48% at the end of the quarter up from the 8.38% compared to the same period in 2015. Now Scot will review the loan portfolio and non-performing loans.

[Scot Salvador:]

Thanks, Mike. We experienced solid loan growth in the second quarter of 2015. Total loans grew by $49.3 million or 1.5% with residential mortgages rising by $51.4 million and the commercial loans decreasing by 2.7%. Our Florida market showed strong results on the quarter and accounted for 70% of the net loan growth. Our home equity loans increased modestly with the vast majority of increase occurring in our first mortgage product. On a year-over-year basis, net loans increased by $237 million or 7.9%. The loan backlog at quarter end was solid down slightly from our quarter ending March number. Our 30-year loans are currently priced at 3.99% and over the last couple of months have fluctuated between the 3.99% and 4.25% range. On the non-performing loan side virtually every indicator improved both on the quarter and on a year-over-year basis. Non-performing assets declined to $38.6 million from $40.4 million at March 31 and $49.2 million as of June 2014. Non-performing loans also showed similar levels of improvements. Both these categories include the sale approximately $1.1 million of non-performing loans in the second quarter. Early stage delinquencies remain very strong at a bank-wide basis. Well non-performing loans have now dropped to 1% of total loans versus 1.36% a year earlier. The coverage ratio for allowance for loans losses in non-performing loans was 140% as of June versus 137% in March and 115% a year earlier. Rob?

[Rob McCormick:]

Thanks, Scot. We'd be happy to answer any questions, you might have.

[Operator:]

[Operator Instructions] our first question comes from Alex Twerdahl of Sandler O'Neill. Please go ahead.

[Alex Twerdahl:]

First of all, I wanted to ask, a little bit more about the OCC agreement. Do you expect that, this will in anyway change your growth plans going forward either with respect to loan growth or the branch expansion plan?

[Scot Salvador:]

We would certainly hope not, Alex. I mean, it might change the way we're operating a little bit. But our business plan should remain unchanged.

[Alex Twerdahl:]

Okay, great and then I got kicked off the call in the middle there. And so I missed the beginning of Scot's remarks. Did you comment on what the pipelines are looking like as of the end of June and whether or not the change within 10-year has made business better or business worse or how that's kind of affected things?

[Scot Salvador:]

Yes, I did commented, Alex. Well the backlog is solid, we're down slightly from the quarter ending March. Perspective-wise, we're a little behind where we were at this point. Last year on the backlog, ahead of where we were the year before kind of in between. The rates have had a little bit of effect activity has flattened out a little bit. But very recently of the last couple of weeks, we've seen an uptick. So hopefully, it's going to continue in that direction.

[Alex Twerdahl:]

Okay and then, Mike just you mentioned that I think you bought $60 million of mortgage-backed securities at the end of second quarter, was that a function of what the rate environment was doing or was it a function of needing to use extra liquidity and do you think, that we're going to see some more of those purchases in the third quarter?

[Mike Ozimek:]

Well first of all, it wasn't a 100% mortgage-backed securities. It was about $10 million worth of mortgage backs and about $15 million worth of agencies. And it was a little bit of combination of both. Obviously you saw what the 10-year did and we were able to kind of, what we've always kind of go in a little bit and we put, what we put the work was about, what we expected to do in that a little bit of a tick up. But yes, going forward it's going to be about the same thing. We will invest, as - to kind to keep the cash balances where they are, we can probably expect to invest about the same.

[Alex Twerdahl:]

Okay, so the investments will probably be a compliment to the loan growth, if you have somewhere $400 million to $600 million of liquidity coming off the balance sheet in the next 12 months that will be, to the extend it can be loan growth and will be and the rest of that will be purchases of securities.

[Mike Ozimek:]

Right. We're going to look the opportunities to invest. As we get, opportunities to get in, when we purchased in around at 2% to 2.10% range on those securities. So when we see those opportunities, we will do that to kind of keep our cash balances in line with where they've been so far.

[Alex Twerdahl:]

Okay, great. That's all my questions for now.

[Operator:]

[Operator Instructions] our next question comes from DeForest Hinman of Walthausen & Company. please go ahead.

[DeForest Hinman:]

Hi, just had a few questions. Also on the OCC agreement. Can you kind of give us a better understanding of what the issues were that came up within the auditor review that they did and really help us understand what changed within the last year or so, that made there be these issues that I guess weren't there, last year.

[Rob McCormick:]

Mr. DeForest the agreement is pretty self-explanatory from that perspective and you know our hands are somewhat tied with regard to the relationship with the OCC. There is not a lot of color or disclosure we can give as part of, as what the results of the exam were. But just generally speaking, we're enhancing policies and procedures. We're enhancing some of the functions especially in the compliance, governance and audit areas and working on those types of things.

[Bob Cushing:]

Mr. DeForest, this is Bob Cushing, what we can say also is that, from a regulatory perspective - though we can't get into details of our exam in general, there are areas of emphasis that the regulators go through. Several years ago, during the credit crisis their emphasis was very much on liquidity, capital and asset quality. More recently as the control of the currency, has indicated in speeches in some article. The focus is shifted to regulatory compliance, rules, regulations and risk management and actually what our agreement reflects it's an opportunity as Rob says to, there's been a some kind of stepped up expectations by the regulators with respect to these areas both regulators, investors as well as customers. And we will be responding that to ensure that we address the issues brought up during the exam and make sure we got them corrected. We are working hand in hand with our board to make sure we meet that regulators expectations.

[DeForest Hinman:]

Is it more along the lines of the documentation of the policies and procedures? I'm not trying to imply they don't exist, but sometimes you know the regulators get in there and there might be a plan, but it's not exactly how they wanted to look, is it more along the lines of that?

[Rob McCormick:]

Certainly, a lot of enhancement, DeForest I agree with your assessments.

[DeForest Hinman:]

Okay, thank you and there was a reference in there potentially about issues with the dividend. Do you anticipate any issues with the payment of the dividend, will that continue as normal?

[Rob McCormick:]

We do not anticipate any difficulty with the dividend.

[DeForest Hinman:]

Okay, thank you.

[Operator:]

And our next question comes from Travis Lan with KBW. Please go ahead.

[Travis Lan:]

Does the $22 million to $22.7 million expense guidance I assume that includes the full impact of regulatory investment and exclude OREO cost, is that right?

[Rob McCormick:]

That is correct, Travis.

[Travis Lan:]

Okay, how did you guys arrive at the stated expense range in terms of the regulatory compliance investment of $2.5 million to $5 million?

[Mike Ozimek:]

Well we took a look at, the different areas that we have and we took a look at what it's going to cost in and personal expenses and what it's going to cost in some of the consultants that we are going to need to hire, to kind of supplement us.

[Travis Lan:]

Okay and so how does that, I guess how does that the range kind of break down between hiring and professional fees or consulting as you said and then, is that all of this permanent investment that needs to be made or is there a portion of it, that kind of goes away over time?

[Mike Ozimek:]

Well certainly some of it's going to be, there is going to be a ramp up cost. We're going to spend a little bit more in the beginning, but if you take a look at our interest even. Really the most of the expenses have been so far, is been in the professional fees areas, so that's where you see this like, some of the increases in salaries has not really come to fruition. We've started the hire. So I think what you'll see is, you'll start to see a shift some of that professional fees overtime, start to come down and some of that going into salaries.

[Travis Lan:]

Okay, got it. Let's see, what's kind of your expected timeline to resolution here? I assume you can't call them back in to have them review everything that you've done. You have to wait till the next regulatory exam. But based on what you've seen at other banks under similar agreements do you think kind of 1 year is a reasonable expectation for this to be lifted or do you think there is a potential for to it extend longer than that?

[Rob McCormick:]

Well we're on a regular exam schedule, Travis. So it's difficult to say that the agreement itself has no term, so 1 year might be a little optimistic, but we can talk in terms of exam cycles probably better. One exam cycle is probably optimistic but.

[Travis Lan:]

Yes, okay I just wanted to, no that makes sense. I agree and I just wanted to see what you guys thought .so I guess in simple terms, this doesn't and it's been asked but this doesn't really impact the business at all. It's just kind of you guys need to spend more in the back office, but you do have to submit a capital plan. What do you think that kind of scrutiny will be?

[Bob Cushing:]

We have right now a capital plan in place. We've had for number of years. We've asked enhancements of the plan and to make some more as far as the stressing scenarios, do some more additional stressing. So from that perspective, the capital plan we'll submit it and hopefully they'll be able to accept it.

[Rob McCormick:]

And I think from one perspective Travis it was a good wake up, where we'll have systems that are in place that are longstanding and will withstand future growth within the company that would be the objectives that these are not one time fixes, these are systematic changes that will make within our company that will provide us a platform really for the growth in the future.

[Travis Lan:]

All right, got it. Okay, all right just turning to the business, Rob. I think you mentioned that competitors or you're seeing competitor's lower credit standards. Is that what's maybe weighed on your growth little bit year-to-date and how do you think that impacts the growth for the rest of the year?

[Rob McCormick:]

We're seeing that more in the commercial area, Travis than in the residential mortgage area. Some of the commercial lending it's being done especially in the multifamily and hotel areas, has been somewhat predatory. So I certainly think that's impacted our commercial loan portfolio, we're about $210 million right now and you know we've never been a huge commercial lender but we might like to see that a little higher than that.

[Travis Lan:]

Okay and so, but your core residential product. I mean, there it still seems to be decent demand there?

[Rob McCormick:]

Yes, very sound.

[Travis Lan:]

Okay, all right. Thank you guys very much.

[Operator:]

This concludes our question-and-answer session. I would like to turn the conference back over to our speakers for any final remarks.

[Rob McCormick:]

Well, thank you for taking time to hear about your company. Have a great day.

[Operator:]

And thank you for your time. Today's conference has now concluded and we thank you all for attending today's presentation. You may now disconnect your lines. Have a great day.