United Community Banks, Inc.
Q3 2017 Earnings Call Transcript

Published: 25 Oct 2017

[Operator:]

Good morning and welcome to United Community Banks Third Quarter Earnings Call. Hosting the call today are Chairman and Chief Executive Officer, Jimmy Tallent; President and Chief Operating Officer, Lynn Harton; Chief Financial Officer, Jefferson Harralson; and Chief Credit Officer, Rob Edwards. United’s presentation today includes references to operating earnings, pre-tax, pre-credit earnings and other non-GAAP financial information. For these non-GAAP financial measures, United has provided a reconciliation to the corresponding GAAP financial measure in the financial highlights section of the earnings release as well as at the end of the investor presentation. Both are included on the website at ucbi.com. Copies of the third quarter’s earnings release and investor presentation were filed this morning on Form 8-K with the SEC; and a replay of this call will be available in the Investor Relations section of the Company’s website at ucbi.com. Please be aware that during this call, forward-looking statements may be made by representatives of United. Any forward-looking statements should be considered in light of risks and uncertainties described on page four of the Company’s 2016 Form 10-K, as well as other information provided by the Company in its filings with the SEC and included on its website. And at this time, I will turn the call over to Jimmy Tallent.

[Jimmy Tallent:]

Good morning and thank you for joining our third quarter earnings call. We had a successful quarter by virtually every financial measure from revenues, to margins, to operating efficiency, to net income. We posted a GAAP EPS result of $0.38. And excluding merger and other non-operating charges, we reported an operating result of $0.41 per share and operating return on asset of 1.09% and an operating ROTCE of 11.9% and an operating efficiency ratio of 56.2%. Our $0.41 operating result compares to $0.41 in Q2 and is up 5% from the $0.39 we reported in the year ago quarter. This was our first quarter subject to the Durbin amendment and a large bank deposit insurance assessment, making these results even more impressive. Our bankers were able to completely offset the combined impact, which was a pre-tax income reduction of about $3.4 million or $0.03 per share. Our bankers rose to the challenge and accomplished this through a wider net interest margin and disciplined expense control. During the quarter, we were also busy on the strategic front. We closed the Horry County State Bank acquisition on July the 31st and are excited to have our new teammates onboard. In the Myrtle Beach MSA, which is one of the fastest growing markets in the Southeast, the acquisition moved us from one office ranked 19th in market share to 10 offices ranked 6th in market share. We are also excited about our soon to be new teammates from Four Oaks Bank & Trust in the greater Raleigh area, another key growth market. We received Four Oaks shareholder approval shareholder approval on Monday and all regulatory approvals have been received. The acquisition will close November the 1st, which is a week from today. To enhance our Raleigh effort, we also announced in the third quarter the hiring of Jim Rose to lead our Raleigh region. Jim is a North Carolina native with 30 years of banking experience in the state, most recently as a Regional President. We hired two other bankers as well, John Lowe and Bruce Corn [ph] who have a combined 46 years of banking experience and leadership in the Raleigh market. In combination, we expect these two acquisitions to be $0.07 accretive, once the expected cost saves are fully phased in. On page four of the presentation, we highlight the highest growth MSAs in the Southeast. And you will note that United is now in three of the top five and six of the top 21. On the right, you will also note that the population growth and household income growth in these MSAs are expected to be much greater than the national average. I point you to one more thing that we are very proud of on slide six. As you may know, we have been ranked number one by J.D. Power for retail biking customer satisfaction for four years in a row. Several leading publications including American Banker have recognized United as one of the top places to work. It is truly an honor to be recognized by our customers and our employees which says a lot about our culture. So, we had a very solid third quarter, leaving us well-positioned to grow, to compete and perform. Now, I will ask Lynn to share the details of the third quarter.

[Lynn Harton:]

Thanks, Jimmy. I will start on slide seven of the investor deck. And as you note there, we had solid financial metrics in our first quarter of absorbing the impact of our growth beyond $10 billion. While Jimmy has already covered our EPS and ROA results, I will also point out that our tangible book value now stands at $14.11, up 8.5% from a year ago and our dividend per share is up 25% from the third quarter of 2016. If you’ll turn to slide eight, a big driver of our returns this quarter was an improvement in the margin to 3.54% that’s up 7 basis points linked quarter and 20 basis points from a year ago. Our loan yields increased by 16 basis points and we had some benefit from calling $40 million in senior niche, but the stability of our deposit base also continues to play role in our margin expansion. Now if you’ll turn to slide nine, I’d point out that so far through the cycle, our deposit data has been 8% or about half the industry average. Our cost of deposits at 17 basis points in the third quarter is also about half the industry cost of 31 basis points. This strong core deposit base and the liquidity it provides us to support future growth is a competitive strength as we continue in this rate tightening cycle. Our loan growth on slide 10 was less than we would have liked. While total loans were up $162 million, this includes the acquisition of Horry County State Bank. Excluding the acquired loans from Horry and also excluding the planned runoff of the indirect loan portfolio, loans were actually down $7 million, essentially flat on a linked quarter basis. Part of the reason is our continued caution on multifamily and retail commercial real estate projects. Our retail commitments were down $53 million since year-end or 12.6% and our apartment commitments are down $36 million or 19% over the same period as we have strategically lessened our exposure in these two segments. Additionally, market appetite for finished projects has increased the speed at which they are sold or moved to permanent. During the quarter, we had two large retail centers and three large multi-family projects totaling $77 million pay off early. While we expected declines in these two product types, we’d also expect the senior housing fundings to balance these reductions. Our commitments continue to grow in senior housing, but balance growth has been a bit slower than we anticipated. We also had an unusual number of business sales during the quarter that impacted our middle market and ABL portfolios by $24 million. Long-term, I continue to feel very good about both our growth prospects and our strategic repositioning of the loan portfolio. We have focused on C&I lending, and the book now totals 40% of total loans versus 23% pre-crisis. Conversely, CRE and construction has moved to 28% of total loans from 47% pre-crisis. Residential mortgages have increased as a percentage of the loan book as we have introduced better adjustable rate products that we are holding on balance sheet. Our consumer installment has fallen to 7% due to the planned runoff of the indirect portfolio. Besides the change in loan mix, we have also grown the lending business in the metropolitan areas with better long-term growth prospects. Today, 74% of the portfolio is in one of our metro markets as compared to 60% just five years ago. As noted on slide 11, we continue to focus on four things to drive our loan growth. First, we are looking to continue expansion into our metro markets with both acquisitions and new teams. This quarter, we were successful on both counts with the Horry acquisition, the announced Four Oaks acquisition, and new bankers hired and to supplement the existing teams in both of those banks. Second, we plan to continue the expansion of our commercial banking [audio gap] and deeper penetration into our current verticals and with additional verticals over time as well. Our two newest groups, senior living and renewable energy now have $197 million in unfunded commitments, providing a solid source of future growth. Third, we will continue to drive growth from our unique partnership model between the community banks and commercial banking solutions. Year-to-date $174 million in loans have been underwritten and closed by CBS that were originated and booked in the community banks. We believe a large portion of this business is additive to what we would have booked without our partnership approach. Fourth, we plan to grow our mortgage business with the addition of well-underwritten, on-balance sheet, adjustable rate mortgage products and continued expansion of our mortgage business into our metro markets. As we turn to fee revenue on slide 12, we were impacted this quarter by the loss of $2.7 million in debt card revenues and industry-wide weakness reflected in our mortgage results. Our SBA production was up 16% over a year ago and we feel good about growth in this area as we head into the historically strong fourth quarter. We continue to successfully expand our mortgage business. Year-over-year, our mortgage origination volume held flat, despite 19% less refinanced volume. However, a part of that production is in our newer variable rate on-balance sheet products where the economics of the origination is moving to spread income versus gain on sale income. So, while the originations were flat year-over-year at $194 million, our loans sold in this quarter were $118 million versus $137 million a year ago. Going into 2018, we believe, we have opportunities to grow both SBA and mortgage into our recently acquired markets and we expect revenue improvements in our treasury management area due to new leadership and investments we have made in this area. Turning to slide 13. Expense control and focus on operating leverage continues to be a strength of the Company. While operating expenses were up $900,000 linked quarter, this includes $750,000 in increased FDIC insurance premiums and approximately $1.1 million in Horry County Bank expenses. So, excluding these items, our expenses actually fell versus last quarter. Our operating efficiency ratio remained 56.2%, matching the performance of last quarter. On slide 14, you will note that credit continues to perform very well. Net charge-offs were 9 basis points, making the fifth consecutive quarter of 11 basis points or better performance and nonperforming assets came in 23 basis points, essentially flat with the last two quarters and down 7 basis points from a year ago. Overall, our business prospects continued to be very strong for several reasons, some of which we’ve listed on slide 15. And with that Jimmy, I’d like to turn it back to you for any closing comments.

[Jimmy Tallent:]

Thank you, Lynn. Having absorbed the financial impact of Durbin, we are now focused on leveraging our infrastructure and business model through continued growth, both organic and through acquisitions. We believe this approach will continue to drive down costs and improved operating efficiency through our scalable platform. The acquisition of Horry County State Bank is a great example of our growth strategy. It accelerates growth in the attractive South Carolina coastal market, building on the momentum we began two years when we hired a team of talented lenders followed by the acquisition of Tidelands Bank in Charleston. After systems conversion for Horry State are completed in mid-November, we are confident that the full expected cost saves will be achieved. In North Carolina, we expect to complete our acquisition of Four Oaks Bank on November the 1st, launching our entry into Raleigh MSA with branches in Dunn and Wallace in the eastern North Carolina. Four Oaks is a 105-year old community bank with 12 branches and two loan production offices. Its stable, low cost deposit base provides a foundation for expansion in this attractive market, and a strong leadership has been further enhanced with the additions of veteran bankers who know the territory. Horry and Four Oaks, both share United’s strong service culture and makes solid partner for executing our growth strategy. We have added new lenders with significant experience in high growth industries such as senior care and renewable energy, and we have expanded our footprint in thriving new markets such as Charleston, Myrtle Beach and Raleigh. This investment in talent, products and markets gives us tremendous optimism as we look toward the future. Although we will continue to experience payoffs due to strong secondary market pricing for real estate and high multiples being offered for businesses, we believe these investments that we have made and will continue to make, will drive loan growth in the mid to high single digit range or perhaps higher over the longer term. We will continue to be diligent in managing our credit quality, our concentrations, and portfolio mix to ensure we don’t sacrifice quality for growth. Now, we will be glad to answer any questions.

[Operator:]

[Operator Instructions] And our first question comes from Catherine Mealor with KBW. Your line is now open.

[Catherine Mealor:]

Thanks. Good morning, everyone. And I apologize, there’s a fire alarm going on behind me. So I apologize for the noise in the background. I guess, I first wanted to start with the loan growth. When you gave a lot of commentary on some of the moving pieces as to why the loan growth was a little slower this quarter. And I guess, and Jimmy, it looks like you’re reiterating the mid to high single digit growth range moving forward. So, I guess my question is really kind of thinking about how do we get there from the slowdown that we’re seeing, given some of the balance sheet repositioning and a pullback in multi-family and other asset classes and then indirect auto? How do we really move from this slower growth that we’ve seen recently to the mid to high single range? And is it really coming from these additional hires and entry in these new markets that’s really going to push it? So, maybe that makes it kind of more of next year event, once those new hires really start to ramp up or is it something that you can see as early as next quarter? Thanks.

[Lynn Harton:]

So, Catherine, this is Lynn. Couple of things. So, first, if we look at production, you’ve got to take out the indirect auto production. This is a first quarter we’ve had no production there, no purchases. And so, when we look at our overall [indiscernible], they’re really flat from Q2, were up about 7.5%, 8% from Q1. And admittedly, current production levels are less than they were in fourth quarter of 2016. Fourth quarter 2016, we saw a big pickup, we got really optimistic about what that meant. And since then, we settled back into this kind of -- and in normal kinds of payoffs and amortization what we’re doing now, should give us 5.5%, 6% growth ex the indirect auto runoff. So, that’s kind of what I think our core level is. We did see a spike in our amortization rate, including payoffs in August and September. That still to me feels a little bit like an anomaly. So, I would expect us to fall back into the 5.5%, 6% base rate in Q4, at this point. If we look at, for example, unfunded construction, we’re actually up about 40 million in unfunded construction dollars versus last quarter. They are just moving to different categories. So, we -- so, while we are coming down in retail and multi-family, we’re going up in senior housing and some other categories that actually had greater rate and we’re dropping those. So, I’m not overly concerned about that mix change impacting it. And we do believe and beginning in the fourth quarter, we’ll see some pickup in production rates from -- certainly from the Raleigh team. We’ve already seen some pickup from, a little bit from the Myrtle Beach team and we expect more there too. So that’s kind of the way I would look at it. We’d love to see higher production levels as we go into 2018. But that’s what we’re comfortable with right now.

[Jimmy Tallent:]

Let me just add on to that too, Catherine, a couple of comments. I think, of course, we’re looking at the performance of Q3 and it’s kind of a spot in the timeframe. But, if we back away and look at on environmental basis, the secondary market is so strong right now on the CRE. So, you are seeing what I believe to be a higher term there than what would be normal. I think also, the sale of businesses are bringing huge multiples in C&I. Personally, I just don’t think that will last forever so to speak. So, I would think we will start to see that beginning to slow down. Certainly, the expansion in the growth markets really gives us great optimism, the ability to attract lenders as we’ve done in this last quarter and certainly the lines of business that we have added and possibly other lines. So, there are many factors when we look out over the medium to long term that we think that the loan growth will continue to expand, and maybe this is just a point in time.

[Catherine Mealor:]

Okay. That’s really helpful. And just to be clear, in your guidance for mid to high single digit growth rate, that is excluding the indirect runoff?

[Jimmy Tallent:]

Yes.

[Catherine Mealor:]

Okay, got it, makes sense. Okay. And then, one question on the margin. Your core loan yields were up pretty significantly linked quarter, which you highlighted some of that’s from the rate move this quarter. How much of it too was just part of the remix from the indirect auto running off and some of the strategic positioning you are seeing in your loan portfolio?

[Jefferson Harralson:]

Catherine, this is Jefferson. I would say, it’s mostly rate. If you think about the 16 basis points that we went up last quarter, I would say about half of it is pure rate, so call that 8 basis points. In addition to that, the accretible yield we mentioned in the deck that is up 1 basis point for the margin quarter-to-quarter; so on the loan yield, that is up 2. Horry added 1 just adding in the Horry loans. And then indirect the shrinking off, that’s coming off at about 2.5% yield, so that added about 1. And that gets you most of the way to -- and has all the important pieces to the 16 basis points. So, it’s mostly rates and not so much -- and less on the remix this quarter.

[Catherine Mealor:]

Got it. And then, when you say your new production yields are about at current levels, are you seeing some improved pricing there too?

[Jefferson Harralson:]

They are little to low -- they are right around 4.30, 4.35 range, which was in line with the last quarter’s loan yield, but little bit below where we were this quarter.

[Operator:]

Thank you. And our next question comes from Tyler Stafford with Stephens. Your line is now open.

[Tyler Stafford:]

Maybe just to stick with the margin, following up on Catherine’s question. With Four Oaks coming on line in 4Q with low 3.90 margin, Jefferson, any preliminary thoughts you can share around where you see the core margin trending in 4Q?

[Jefferson Harralson:]

Yes. So, we’re thinking, it’s going to be plus or minus 1 basis point over what we just did, the 3.54. We do have some tailwind there. Four Oaks is one of them, but it is not one of our bigger one; it’s maybe 1 or 2 basis points positive. But we also have the pieces of the debt that we had the 9% $35 million debt that matured in October. We have the $40 million 6% debt that we also put in the deck that we called and also in the quarter as well. So, we have in combination, it gives us about 5 basis points of tailwind of which we only got a smidge of it this quarter. So, we have that piece, and we have a little headwind on the securities yield. And when you think about the kind of deposit pricing maybe moving up a little bit, think about a tough loan pricing environment, when you put it all in there, and Four Oaks, I think you’re kind of plus or minus 1 basis point around the current number.

[Tyler Stafford:]

Okay. Very helpful. And just on the debt that matured in October, I guess last week, did you guys refinance that at all?

[Jefferson Harralson:]

No.

[Tyler Stafford:]

Okay.

[Jefferson Harralson:]

Think of it as refinancing into a normal short-term borrowings.

[Tyler Stafford:]

Okay. Staying within the margin. With so much liquidity you guys have on the balance sheet, any thoughts on running off the broker deposits? It looks like you got around $370 million at quarter end?

[Jefferson Harralson:]

Yes. So, -- and that number was significantly down from Q2. So that is the one thing. So, we had 4.5% core deposit growth this quarter. Including the indirect runoff, we actually had down this quarter, as you guys have noticed. And the combination of that allowed us to move down our FHLB borrowing significantly this quarter. So, if that -- certainly, if that continues, you will see that FHLB number continue to decline.

[Tyler Stafford:]

And then just last one for me, just around the SBA business. You talked about the seasonality, shrink that you expect to see in 4Q. Would you -- just given that expectation, would you think that you see 2017 production in line to slightly ahead of where you saw total production for last year?

[Lynn Harton:]

Yes. I think we will be looking at a little bit of an increase from last year.

[Operator:]

And our next question comes from David Feaster with Raymond James. Your line is now open.

[David Feaster:]

With Horry closed and Four Oaks closed in here shortly, could you just, first of all, I guess, remind us the timing of the cost savings in Four Oaks and maybe just talk about your appetite for M&A going forward?

[Jefferson Harralson:]

So, these Four Oaks cost savings, our conversion is scheduled for April. So, we expect the lion’s share of the cost savings to start in April.

[Jimmy Tallent:]

And in regards to appetite David. Certainly, we would be open to opportunities that may come about now with Horry closed, conversion here in couple of weeks or so, closing the Four Oaks next week. So, we feel very comfortable in our ability to manage that. And certainly with the right opportunities, we would certainly be open.

[David Feaster:]

With the deal’s close and Four Oaks closing here shortly, the impacts of Durbin already kind of being in your numbers, how do you think about ROA and efficiency as we had into 2018? Do you have any updates to your targets?

[Jimmy Tallent:]

Well, I would say kind of at a high level, David, certainly, we would think that the ROA since we have been able to absorb that, $3.5 million in one quarter, and we’re able to still hold our ROA roughly at 1.10, we believe, we’ll continue to see that move up in 2018. And likewise, we expect the efficiency to trend down, because of the revenue growth that will come back in to kind of replace what we lost. So, not to say a specific number at this point relative to the ROA, but we would -- feel very confident we will see that continue to move up.

[Jefferson Harralson:]

Jim, I just might add, and this is Jefferson. We are starting to plan for our 2018, doing a lot of budgeting right now. and our mantra is operating leverage and we are going to see operating leverage in 2018 and more to come as we get closer to next year.

[David Feaster:]

Okay, terrific. Last one for me. You highlighted your deposit betas in the slide deck and how much lower that you’ve been than some of your peers. Could you just talk about your expectations for betas going forward over the next hike or two?

[Jefferson Harralson:]

So, if you look into the slide deck, we talk about that 6% number that came from an analyst report, I think yours. And then, we -- also, Lynn mentioned the 8% number, which includes the third quarter of 2017 as well. So, we did see the interest-bearing liabilities costs move up 6 basis points this quarter. We do have we think less pressure. We have seen a lot of pressure also raise deposit rates, we don’t -- with our low loan to deposit ratio and we don’t think we will have a lot of pressure to raise rates in general. That said, we also want to -- we have taken a long time to generate these customers out in our geographies, we want to offer a fair rate as well. So, we have 1.25, 19-month CD special, and you’ve seen our CD rates moved up a little higher. We have a very specialized money market rate that our regional presidents can use if they need it. So we are going to be very careful about our raising rates. We have a balance sheet that does not require us to. But, there is an environment out there where we are going to see rates increase, and you’re going to see our betas move higher. So, I think you will see our betas move higher with each rate hike. But I think you are going to see us with our balance sheet, I think we are very well positioned for rising rates in 2018.

[Operator:]

Thank you. And our next question comes from Jennifer Demba with SunTrust. Your line is now open.

[Jennifer Demba:]

Thank you. Just a question, what is the size of the indirect auto portfolio now and how long will that take to run completely down?

[Jefferson Harralson:]

So, it’s just under a $400 million currently and ran off almost $50 million this quarter. So, it’s going to run off at a slightly slower rate than that. So, it’s a headwind for some period of time.

[Operator:]

Thank you. Our next question comes from Christopher Marinac with FIG Partners. Your line is now open.

[Christopher Marinac:]

Thanks. Good morning, guys. Just a question on deposit pricing. I know most banks have pulled the money that they set aside for certain customers to kind of play defense in the field and get flexibility for your staff in both the branches and certain commercial customers. Are those pools going to get larger in the next year or would you envision them staying the same and kind of the same trajectory that you have been doing?

[Jefferson Harralson:]

That’s the great question, Chris. Thank you. And I will answer it like this. We did satisfy a pool in this money market I guess promotions, and I don’t want to call it promotions, this money market pool that we set aside. And so, I was looking to see how close or how quickly this current pool filled up to see if we need another pool down the road. And that pool is not filling up as quickly as I would have anticipated. So, I guess I would say that yes, we have set aside a pool. That pool is filling up a little kind of as expected or maybe a little slower than expected, and I would expect more pools as rates continue to increase.

[Christopher Marinac:]

And then, just sort of separate follow-up on the credit quality side. Will anything change next year as you kind of think about more closely seasonal and its adoption in future years? Does that change at all your reserves thinking or perhaps just how that picture plays out in future quarters?

[Rob Edwards:]

So, this is Rob. In terms of seasonal, we do have a project plan in place that we’re working through and it does have us running parallel paths in 2019. And really, and talking with most of our peers -- and we sort of feel this way too. If you look at our allowance, $58 million and our annual losses today at $7 million, it’s really hard to think about a huge delta to adopt seasonal from where we are today.

[Christopher Marinac:]

And then, Rob, are there any situations where you’re looking at a potential acquisition in certain loans or kind of I guess you’d say, not seasonal friendly?

[Rob Edwards:]

So, we are -- we constantly rebalance the portfolio through acquisitions and we’ve talked about rebalancing our own portfolio as well. I think Lynn talked about it earlier. But, we don’t think about it in terms of seasonal necessarily, just in terms of the portfolio strategies that we desire.

[Operator:]

And I’m not showing any further questions at this time. I would now like to turn the call back over to Jimmy Tallent for any further remarks.

[Jimmy Tallent:]

Thank you, operator. Just wanted to say thank you for being on the call. Thank you for your interest in United Community Banks. Certainly, we want to recognize our wonderful employees who continue to do a phenomenal job day in and day out. So, once again, thank you for your interest. If you have follow-up question, don’t hesitate to call. And we’ll look forward to talking with you next quarter.

[Operator:]

Ladies and gentlemen, thank you for participating in today’s conference. This does conclude today’s program and you may all disconnect. Everyone, have a wonderful day.