Veritex Holdings, Inc.
Q4 2017 Earnings Call Transcript

Published: 30 Jan 2018

[Operator:]

Good day, and welcome to the Veritex Holdings, Inc’s Fourth Quarter 2017 Earnings Conference Call and Webcast. All participants will be in a listen-only mode. Please note, this event is being recorded. I would now like to turn the conference over to Ms. Susan Caudle, Veritex Holdings, Inc’s Investor Relations Officer and Secretary of the Board.

[Susan Caudle:]

Thank you, Kevin, and good morning, everyone. Welcome to the Veritex’s Fourth Quarter 2017 Earnings Call. Before we get started, I’d like to remind you that this presentation may include forward-looking statements. Those statements are subject to risks and uncertainties that could cause actual and anticipated results to differ. The Company undertakes no obligation to publicly revise any forward-looking statements. At this time, if you’re logged into our webcast, please refer to the slide presentation available online, including our Safe Harbor statement beginning on Slide 2. For those joining by phone, please note that the Safe Harbor statement and presentation are available on our website, veritexbank.com. All comments made during today’s call are subject to that Safe Harbor statement. In addition, some of the financial metrics discussed will be on a non-GAAP basis, which management believes better reflects the underlying core operating performance of the business. I’m joined today by our Chairman and CEO, Malcolm Holland; Chief Financial Officer, Noreen Skelly; and Chief Credit Officer, Clay Riebe. After the presentation, we’ll be happy to address questions that you may have as time permits. With that, I’ll turn it over to Mr. Holland.

[Malcolm Holland:]

Thank you, Susan, and good morning, everyone. Much like the third quarter, the fourth was again very busy for our company, as we continue to transform from a small community bank to more of a regional player in the Texas market. Not only have we transformed the Company from a size standpoint during the last year, we've also upgraded our staffing talent, product offerings, continue developing two new lending lines of business and entered into two new markets. I'm going to provide some color to our accomplishments and progress during the fourth quarter, and then Noreen will dive a little deeper into the numbers. I'll close with a few comments and then open the line for questions. As mentioned, the fourth quarter was again very busy period for our company and staff. We closed our sixth acquisition, Liberty Bancshares at Fort Worth. Liberty was a five branch $470 million institution. It should be noted that our regulatory approval time from application to approval was 44 days. We closed two Sovereign branch locations, one of which has been sold. We put under contract and closed the purchase of our corporate office building located in Preston Center in Dallas. We also hired a seasoned middle market lender in Houston, who, by the way, closed his first loan of $20 million within 30 days of arriving. And then you throw in a very favorable tax rate change, all great news and continued progress for our Company. Additionally, although not reflected in the fourth quarter numbers, it should be noted that we completed the sale of our two Austin branches to Horizon Bank on January 1. Our loan growth continues to be exceptional. For the quarter, we originated over a $0.25 billion in new credit, a clear example of our organic growth power. Despite having our largest payoff and paydown quarter-to-date, we still managed to grow the portfolio organically just short of $40 million for the quarter or 13.4% annualized. For the year, we continued our loan growth trend exceeding 20% annual growth in each year of our existence, with a 2017 growth rate of 21%. In terms of the 2018 outlook, we continue to be bullish on our growth prospects. Our pipelines are full. Our community bank division and both the CRE and CNI groups expect to have their best years to date. Our expectations are mid-to-high teens for 2018 loan growth. Credit quality remains exceptionally strong with exception of one credit. We did provide a specific reserve of $629,000 on a $13.4 million oil and gas E&P credit. This credit was an acquired loan and is part of a $94 million facility that has missed its production targets due to poor operating procedures, which affected the volume of the future production and corresponding value. This loan was also placed on non-accrual in December and represents 97% of our total non-accrual loans. I'd ask you to turn to Page 9 of the slide deck. Here, you will see the details that made up our fourth quarter provision. The largest driver of this was the renewal of over $110 million acquired loans that required a general reserve of $1.36 million. This provision is, of course, more than offset by the purchased accounting accretion we recognized in the quarter. Our loan portfolio continues to perform exceptionally well with the exception of the one loan just mentioned. From a deposit standpoint, we're continuing our plan to reshape the balance sheet of our acquired institutions. We were successful in decreasing our CD positions and replacing them with lower cost funding. Our efforts to more fully focus on core funding will continue in 2018. We have adjusted our incentive plans for our lenders to increase their attention to this area of deposit generation. I'll now turn the call over to Noreen to summarize the fourth quarter numbers.

[Noreen Skelly:]

Thanks, Malcolm. Fourth quarter results were strong with core net income of $5.4 million, core diluted earnings per share of $0.23 and core efficiency ratio of 56%. I'd like to highlight the efficiency ratio. It remains in the mid-50s, a noteworthy achievement given the integration of Sovereign and Liberty just within the last six months. This reflects our focus on prioritizing and accelerating cost savings effort. Turning to Slide 11. Net interest margin continues to expand. The core net interest margin, excluding impact of purchase discount accretion, expanded nine basis points from 3.66% to 3.75%. The primary driver of this expansion was improvement in loan yields from 4.85% to 4.93%, as we see the benefits of increases in prime rates and new and renewed loans. In addition, as highlighted in the bottom half of the slide, we continue to deploy cash into loans and move the loan to deposit ratio to 96% at 12/31. On the funding side of the margin, rates paid on deposits increased seven basis points with five basis points of that increase related to a change in deposit mix, with $100 million in savings at 10 basis points moving into money markets paying 1%. Turning to Slide 12. I'd like to focus a bit on the impact of the Liberty close and other non-recurring or extraordinary items in our fourth quarter results. The goal here is to provide transparency around our pretax income and expense trends. The accretion from purchase loans in column B was just shy of $3 million this quarter, a $2.3 million increase over prior quarter. Much of this income is related to purchase loan renewals. You can see the connection to the related provision expense of $1.36 million found in column C. Column D relates to transaction and other onetime expenses associated with closing acquisitions. And column E is one month of Liberty, given we closed December 1. The last column is a calculation. The goal is to provide a baseline from which to get to a more normalized picture of our 4Q earnings. Slide 13 provides deeper dive on taxes for the quarter, given we have an intersection of the new tax law with purchase accounting implications on our 4Q results. Tax expense of $6.1 million includes a $1.9 million deferred tax asset revaluation expense. In addition, we had $600,000 of discrete and permanent differences related to our acquisition. Adjusting for these items and the impact of diluted EPS is $0.10. $0.08 of this is related to the DTA write-down. We expect to recover this in the first six months of 2018. Also, it's worth Also, it's worth mentioning here that we will be reinvesting $1 million of our tax savings in the first quarter of 2018 in our employees and communities. At this point, let me turn it back to Malcolm.

[Malcolm Holland:]

Thank you, Noreen. Now for a few closing comments. With the Liberty transaction finalized, we're now focusing on the system conversions scheduled to be completed in mid-April. Conversion team is expecting and confident that the conversion will come off smoothly, as we are both on the same core system. On the M&A front, we continue to have conversations and evaluate opportunities with our focus being the Houston market along with any opportunities in the DFW Metroplex. I think every one is at a bit of a standstill until all the 2017 numbers are released and digested. We are in no hurry, but we want to be available to react when market opportunities present themselves. As previously mentioned, we anticipate a very nice pick up in earnings as our tax rate substantially reduces downward to the 21% range. Executive management, with full support from the board, have decided that we will invest some of these savings in our very loyal staff. In the second quarter, we plan to distribute to each non-stock incented employee, approximately 300 employees, 50 shares of Veritex stock. It has always been a dream of mine that every employee would own part of the company. Now it'll happen. Additionally, we plan on increasing our 401(k) match, increasing our community philanthropic contributions, hiring a training coordinator and engaging an outside firm to review our processes and provide a road map to gain operational efficiencies, including technology. The total cost of these initiatives is approximately $1 million or 15% of the anticipated tax savings. We're in a really good place with incredible momentum and arguably the best banking market in the country. Our scale now provides us opportunities to service and call on companies that were out of our reach before. We have opportunities to hire and are hiring top performers in all areas of the bank. I couldn't be more excited about moving into the next fiscal year. We've covered a great deal here this morning and would like to now open it up for any questions that you may have.

[Operator:]

Thank you, sir. [Operator Instructions] And our first question will come from the line of Brad Milsaps with Sandler O'Neill. Your line is now open.

[Brad Milsaps:]

Hey, good morning.

[Malcolm Holland:]

Hi, Brad.

[Noreen Skelly:]

Hey, Brad.

[Brad Milsaps:]

Well, lot of moving parts this quarter. I appreciate all the color. Can you – Malcolm or Noreen, can you guys talk about maybe your deposit strategy? What you're seeing in the deposit market? I mean, your loan-to-deposit ratio is now right up against 100%. Just kind of curious kind of what your strategies are around deposit growth this year? And then kind of how that would relate to kind of how you feel about the NIM with additional – potential additional increases from the Fed?

[Malcolm Holland:]

Yes. I mean, deposits are something that is top of mind for us, as we took on these two acquisitions over the last five months. Obviously, there is a kind of a movement around the liability side. And we've started that effort, and actually, have been quite successful. Deposits in our marketplace are becoming more and more difficult, but the things that we're trying to do is really grassroots, so that starts with our relationship managers. We changed our plan, I think I mentioned that in the call, to incent our folks. Before, it was kind of a one-to-one incent, you got the same amount for a loan as you did for deposits. It's really a three-to-one incent now for my folks. And so not only are we incenting hire, the credit folks have kind of put the hammer down. We don't – we're not going to be in the transactional business. And so we need both signs of the balance sheet. But it's really more top of mind, top of house than anything else. If they are available, our costs are a little bit higher, as you can see, because of the marketplace that we're in, but we have plenty of funding. Will Halford [ph] in our finance group is on top of this stuff every single day. And so we've got some great alternatives, but core is where we want it to be. So really, it starts at the grassroots, Brad.

[Brad Milsaps:]

And maybe, just Noreen, in terms of NIM, kind of what's your outlook kind of with what Malcolm said regarding deposits?

[Noreen Skelly:]

Sure. Just with regards to deposits, at the last rate increase, we had about – just under $200 million of the $2.3 billion in deposits repriced, 25 basis points, that's our correspondent banking group. That one is almost 100% rate-sensitive. So we did see the increase in core – I mean, in deposit pricing as a result of that increase in rate. That now is paying a 1.8% on our correspondent banking money market. But the rest of the portfolio, we raised rates in July, and we're holding steady on that. We don't anticipate any increases on the deposit side for the rest of the money market portfolio. So we think we are in good shape there. Relative to the rest of the margin, we still see a lot of upside potential in our loan yields from the last couple of rate hikes. We still have some upsides in the renewals and pricing on loans going forward. So we are very positive about our NIM, and we could see another five basis points – five to 10 basis points over the year, all things being equal.

[Brad Milsaps:]

Great. That’s helpful. And just one follow-up on expenses. Can you update us kind of where you are with extracting cost savings? How that might affect the expense run rate? I appreciate the color about the additional investments you're making. Well, maybe some of those will be offset by cost saves. I know you've got a lot of moving parts with two more months from the Liberty deal, but kind of curious how to think about that?

[Malcolm Holland:]

Yes. So when we modeled our original cost saves out of Sovereign, I think the word would be that we got them a whole bunch quicker than we had anticipated. A majority of that's on the people side. But there are several other cost saves. For instance, I mentioned there are couple of branches, redundant branches, that we've shut down; one of them, we've sold. Off the top of my head, that branch was a $50,000 a month cost plus whatever people were there. So some of these are just now coming into effect, but a majority of the cost save on the people side has been made. The Liberty side, the conversion is not till mid-April. So we're, obviously, going to pick up a little bit more there. And we're evaluating their branch structure right now. I think all of their branches – I know all their branches are going to stay open. We will have some consolidation of some corporate office space sometime later in the year. So there's still some more cost saves to come.

[Brad Milsaps:]

Great. Thank you, guys.

[Malcolm Holland:]

Yes.

[Noreen Skelly:]

Thanks Brad.

[Operator:]

Thank you. And our next question will come from the line of Matt Olney with Stephens Inc. Your line is now open.

[Matt Olney:]

Hey, thanks. Good morning, guys.

[Malcolm Holland:]

Good morning.

[Noreen Skelly:]

Good morning.

[Matt Olney:]

Wanted to start on the nonaccrual energy loan, and I'm curious if you've originated it or renewed any energy loans since the closing of Sovereign?

[Malcolm Holland:]

Sure. Thanks. We have extended one energy loan that's roughly $1 million, but that's all the activity in that portfolio from a renewal or extension standpoint.

[Matt Olney:]

Okay. And maybe it's in the slide deck and I missed it, but remind me what the energy balance is at this point? And what the expectations are for the runoff?

[Malcolm Holland:]

It's a $44 million today. And we expect in the next quarter roughly 5% to 6% runoff on that portfolio as the credits are resolved.

[Matt Olney:]

Okay. That’s helpful. And on the effective tax rate – perhaps you said. I just missed it. What's the expectation for 2018?

[Noreen Skelly:]

Our expectation is just under 21%. We're in that range, I think. As our deductibles – as that, how do I say, the tax, the expenses that are shielded from taxes get smaller relative to our portfolio, I don't think you'll see as big of a benefit from it as we did when we run a 35% statutory rate.

[Matt Olney:]

Okay. And then going back to Brad's question on core expenses. Noreen, can you give us some help as far as expectations for the first quarter? We've got lots of moving parts with the full impact of Liberty and of all the branch sales. I mean, can you – what should we be expecting for OpEx in the first quarter?

[Noreen Skelly:]

Yes. And I think that's why I did that slide. It's kind of a painful slide to break it all down, but really to give you where our base line is when you strip off the Liberty and the other items, if you look at that slide and multiply Liberty times three and add it to the expenses, I think that's a good indicator for the next quarter. I don't think we'll be too far off of that.

[Matt Olney:]

Okay. And then last question from me. Malcolm, it seems like the Houston M&A market has been more active recently. Can you just kind of give us an update on your overall M&A strategy, and specifically Houston?

[Malcolm Holland:]

Yes. I mean, Matt, candidly, that's where I've been spending a majority of my time. There are a couple of deals in DFW that I would love to acquire, but they're not – would love to sell them. So I'm spending my time in Houston. That market is really good. Unfortunately, natural disasters sometimes bury economic growth. And I think there's a lot of that going down in Houston after the Harvey. But there's three deals down there, and we're talking, we're having conversations. And I would hope that we could add to our, what I call it, $200 million outpost down there. I need to give Ruben and his team some other folks that he can work with. But I think that's really important that we focus on growing down there. And that's where my M&A time is going to be spent.

[Matt Olney:]

Thank you, guys.

[Malcolm Holland:]

Thank you, Matt.

[Noreen Skelly:]

Thank you, Matt.

[Operator:]

Thank you. [Operator Instructions] And our next question will come from the line of Brady Gailey with KBW. Your line is now open.

[Brady Gailey:]

Thank you. Good morning.

[Malcolm Holland:]

Good morning, Brady.

[Noreen Skelly:]

Hi, Brady.

[Brady Gailey:]

So the three deals you're chasing in Houston, can you just give us a sense as far as the size? What size, range would you be interested in acquiring in Houston?

[Malcolm Holland:]

My goal is to build a $1 billion bank down there as soon as possible. So that's a $500 million or that's an $800 million. We've got a couple of hindered down there. I think those are deals that we could take on quite easily. One of my things that I'm evaluating is, as you move out of market, it's a different management challenge. And I want to be sure that we have the right management that can carry the torch down there. Ruben's got a great team, and we've got to make sure that everybody can work together, but – any – something less than $1 billion would be our choice.

[Brady Gailey:]

All right. And then back to the deposit question. You're hoping to grow loans kind of mid- to high-teens. Do you think that deposit growth can match that this year? Or do you think that deposit growth will be little under what you plan to grow loans at?

[Malcolm Holland:]

Yes. So if we keep our margins the same, I think they will lag just a little bit behind that number. That's certainly our goal. Obviously, with pricing, we can drive the deposits greater than that if we wanted to. But the goal is to probably run that to lower teens to mid-teens number and then use all alternative sources of funding to make up the gap.

[Brady Gailey:]

All right. And then, finally, with the tax savings you're going to reinvest $1 million, I know that's 15%, so roughly 85% dropping to the bottom line ex that. And is that – then maybe seller that gets competed away. I mean, do you think that 75% to 80% dropping to the bottom line feels like the appropriate number for 2018?

[Malcolm Holland:]

Yes. I’m not sure whole bunch gets competed away, but – maybe, but not. I'm thinking 80%, Brady.

[Brady Gailey:]

Okay. All right, great. Thanks for the color.

[Malcolm Holland:]

Thank you.

[Noreen Skelly:]

Thank you.

[Operator:]

Thank you. And our next question will come from the line of Gary Tenner with D.A. Davidson. Your line is now open.

[Gary Tenner:]

Thanks. Good morning.

[Malcolm Holland:]

Good morning.

[Gary Tenner:]

Couple of questions. Just on the expense front, with $1 million you're talking about reinvesting, and I'm sure I've missed this, is that first quarter or second quarter? And is that all sort of expensed in the quarter or any noise or tail in that?

[Malcolm Holland:]

The majority of that expense is going to happen in the second quarter, which is when we do the stock to the employees. The 401(k) will be spread out, obviously, throughout the year. And then, midyear, we will probably hire the HR, a training coordinator and then the philanthropic piece will be throughout the year. So if you're trying to model expenses, I would probably jump up a little bit on the employee side in the second quarter and then move it back down.

[Gary Tenner:]

Okay, thanks. And then, Noreen, on the deposit side, you'd mentioned, if I heard it right, that the money market accounts ex the correspondent accounts, you raised rates in July that had been holding firm since. So was there no increase in those rates on the December rate hike?

[Noreen Skelly:]

That’s correct. There was no across-the-board portfolio-wide increase. We do accession pricing, so where there is a customer and a relationship that makes sense to raise rates, we do one-off, but not wholesale; I mean, not across the portfolio.

[Malcolm Holland:]

But the correspondent account does move.

[Gary Tenner:]

Right. Okay. And just, Malcolm, you made the point that deposit gathering and pricing is getting a bit more difficult in the market. Are you seeing a lot of changes in posted rates or is it a lot of exception pricing similar to what you're doing?

[Malcolm Holland:]

It’s mainly exception pricing, relationship pricing. And we've tried to train our folks to really ask those questions because – I mean, I personally know some folks that are out there throwing some rates around right now, but you won't find posted anywhere. So a great deal of it is exception pricing.

[Gary Tenner:]

Great. Thank you.

[Malcolm Holland:]

Thank you.

[Noreen Skelly:]

Thank you.

[Operator:]

Thank you. And I'm showing no further questions. So now I would like to hand the conference back over to Mr. Malcolm Holland for some closing comments and remarks. Sir?

[Malcolm Holland:]

Great. I appreciate everybody on the call today. If you want any other one-on-ones, we are happy to take those in the next couple of days. You all have a great day.

[Noreen Skelly:]

Thank you.

[Operator:]

Ladies and gentlemen, thank you for your participation on today's conference. This does conclude our program, and we may all disconnect. Everybody, have a wonderful day.