Washington Trust Bancorp, Inc.
Q3 2018 Earnings Call Transcript

Published: 23 Oct 2018

[Operator:]

Good morning, and welcome to Washington Trust Bancorp, Incorporated Conference Call. My name is Lithonia, I will be your operator today. [Operator Instructions] Today's call is being recorded. And now, we will turn the call over to Elizabeth B. Eckel, Senior Vice President, Marketing and Investor Relations. Ms. Eckel?

[Elizabeth Eckel:]

Thank you, Lithonia. Good morning and welcome to Washington Trust Bancorp, Inc.'s third quarter 2018 conference call. Today's call will be hosted by Washington Trust executive team Ned Handy, Chairman and Chief Executive Officer; Mark Gim, President and Chief Operating Officer; and Ron Ohsberg, Senior Executive Vice President, Chief Financial Officer and Treasurer. Before we begin, please note that today's presentation may contain forward-looking statements and actual results could differ materially from what is discussed on today's call. Our complete Safe Harbor statement appears in our earnings press release and other documents that are filed with the SEC. We encourage you to visit our Investor Relations site at ir.washtrust.com to view all of our SEC filed documents and the complete Safe Harbor statement. Washington Trust trades on NASDAQ under the symbol WASH. I'm now pleased to introduce Washington Trust's Chairman and CEO, Ned Handy.

[Ned Handy:]

Thank you, Beth. Good morning and thank you all for joining us on today's conference call. Yesterday we released our third quarter earnings. This morning I'll spend a few minutes reviewing the highlights of the quarter and then Ron Ohsberg will discuss our financial performance. After our prepared remarks Mark Gim will join us and we will be happy to answer questions about the quarter and what lies ahead for the remainder of 2018. Washington Trust had another solid operating performance, as we posted net income of 17.5 million or $1.01 per diluted share for the third quarter. We remain well-capitalized in our asset quality, which has been our hallmark for some time remains strong. We had contributions from all business lines as we had good deposit growth, healthy loan production and increased wealth management asset generation. Let me take a moment to discuss some of the quarter's highlights. Total deposits reached to record 3.4 billion at September 30, 2018. Promotional CD specials and seasonal inflows from municipal institutional and governmental clients were key to this growth and helped us compete in the heated battle for deposits. End market deposit growth has enabled us to reduce FHLB borrowings over time. As we have mentioned on past calls organic growth through branch expansion has been a key part of our deposit and market share strategy over time. Last year we opened a branch in Coventry Rhode Island and that has performed well. Our new North Providence, Rhode Island branch is currently under construction and is scheduled to open after the first of the year. Recently released FDIC deposit market shares just indicate that we continue to hold the number three spot in Rhode Island behind market leaders Bank of America and Citizens. Aside from the North Providence branch opening in early 2019 we do not currently have any branch expansion plans, but we do believe there is additional deposit growth potential for us in Rhode Island. Total loans reached a record 3.6 billion at quarter's end led by consistent commercial loan growth. We had good commercial real estate and commercial and industrial production during the quarter. We continue to have loan payoffs, although not at the level we have had in the last quarter. The commercial pipeline remains healthy through year end. Rising rates led to slower residential real estate activity in the third quarter as total residential loans were up only modestly from the previous quarter and the portfolio remained healthy, but the late September fed rate hike and typical New England seasonality may serve to dampen mortgage demand through year end. Wealth management assets under administration were 6.5 billion at September 30th, up from the second quarter. A highlight of the quarter was Halsey associates reaching 1 billion in assets under administration. As you recall we acquired Halsey a Norwegian based registered investment advisory firm in August of 2015. They have a great team and have done a terrific job of helping us build relationships and expand the Washington Trust brand in Connecticut. I'll now turn the discussion over to Ron for more in depth review of our financial performance. Ron?

[Ron Ohsberg:]

Yes, thank you Ned. Good morning everyone, thank you for joining us on the call this morning. I'll review our third quarter 2018 operating results and financial position as described in our press release issued yesterday. Net income amounted to $17.5 million or $1.01 per diluted share for the third quarter compared to 17.7 million and $1.01 for the second quarter. We also reported return on equity of 16.26% and return on assets of 1.47%. Net interest income for the third quarter rose by 338,000 or 1%. The net interest margin was 299 down 6 basis points. Included in net interest income was income associated with loan payoffs and prepayment penalties of 173,000 which compared to 483,000 in the second quarter. Excluding these amounts net interest income was up by 648,000 or 2% and the net interest margin was 298 down 3 basis points. The average balance of interest earning assets rose by 86 million on a linked quarter basis. The yield on these assets increased by 5 basis points to 403. Excluding the noncore income items the yield on non interest-earning assets increased by 8 basis points to 4.02%. On the funding side average end market deposits were up 57 million while the average balance of wholesale funding sources was down 13 million. The cost of end market deposits were 62 basis points up 13 basis points in the quarter and the cost of wholesale funding was 2.13%, also rising by 13 basis points. Non-interest income comprised 31% of total revenues in the third quarter and totaled 15.2 million down $778,000 from the preceding quarter. Wealth management revenues were 9.5 million down 2%. The decrease consisted of a seasonal decline in transaction-based revenues of $334,000, partially offset by an increase of $186,000 in asset base revenues. The decline in transaction-based revenues is attributable to tax preparation fee revenue, which is generally recognized in the second quarter. Wealth management assets under administration amounted to 6.5 billion up by 242 million, or 4% mainly due to appreciation of assets. We also experienced positive net client asset flows during the quarter. Our mortgage banking revenues totaled 2.6 million in the third quarter, down by 317,000. These results reflected a higher volume of loans sold to the secondary market, as well as higher sales yield compared to Q2. This was however, offset by a decrease in fair value on mortgage loan commitments and loans held for sale due to the decline in the mortgage pipeline and commitment balances as of the end of Q3. Loan related derivative income was 278,000 in the third quarter compared to 668,000 last quarter, due to lower transaction volume. Now let me turn to noninterest expenses. Total noninterest expenses for the latest quarter decreased by 226,000 or 1% from the previous quarter. There are several items here that I would like to call out included in other expense and the second quarter were software implementation expenses of 114,000, primarily related to the conversion of our wealth management accounting system, which was implemented in April. In the third quarter a one-time third-party vendor credit of 300,000 was recognized as a reduction to outsourced services expense. Excluding these items, noninterest expenses were up 188,000 or 1% on a linked quarter basis, which was mainly due to an increase in foreclosed property costs. Income tax expense totaled 4.7 million for Q3, essentially unchanged. The effective income tax rate was 21.3% in the quarter compared to 21.2% in the preceding quarter. Turning to the balance sheet. Total loans were up by 66 million, or 2% from the end of the second quarter and 7% from a year ago. The CRE portfolio which includes all commercial construction loans increased by 22 million, C&I portfolio increased by 25 and the residential loans rose by 22 million. Investment securities increased by $35 million during the quarter. Total deposits rose by 93 million or 3% in the quarter and were up 8% from a year ago. End market deposits were up by 95 million which included an increase in DDA of 34 million money market of 46 million and time deposits of 18 million. The growth in deposits reflected the seasonal inflows at various institutional and governmental depositors as well as growth in promotional time deposits from the campaign as implemented at the beginning of the second quarter. This increase in deposits allowed us to pay down our FHLB borrowings by $73 million. In terms of asset quality nonaccrual loans were 0.3% of total loans down from 0.34% at the end of June. Loans past due by 30 or more days as a percentage of loans outstanding, decreased by 10 basis points in the quarter to 0.38%. Net charge offs were nominal in both the third and second quarter totaling 15,000 in Q3 versus 90,000 in Q2. The allowance for loan losses was 0.75% of total loans, which was consistent with last quarter. The loan loss provision was 350,000 in Q3, compared to 400,000 last quarter. Total shareholders' equity was 428 million up 6.3 million compared to Q2, we remain well-capitalized. The total risk-based capital ratio was 12.77% compared to 12.61% at June 30. Tangible equity to tangible assets was 7.57% compared to 7.48% at the end of June. And finally, our third quarter dividend declaration of $0.43 per share was paid on October 12. At this time I'll turn the call back to Ned.

[Ned Handy:]

Thank you Ron. The third quarter was an important transitional period for us as it signals the end of the busy summer and marked the beginning of what soon becomes a race to year end. We are pleased with our third quarter results as we generated solid earnings and business line growth that will give us momentum right through the year end. We thank you for your time this morning and now Mark, Ron and I are happy to answer any questions you may have.

[Operator:]

[Operator Instructions] Our first question comes from Mark Fitzgibbon with Sandler O'Neill. Please proceed with your question.

[Mark Fitzgibbon:]

First question to Ron, I was curious if you could give us any color on that $300,000 one-time vendor credit? What exactly is that?

[Ron Ohsberg:]

Yes, that was just a contract true up that we had.

[Mark Fitzgibbon:]

And then secondly I think maybe you referenced a healthy loan pipeline. Could you share with us the size and complexion of it?

[Ron Ohsberg:]

Yes, so the pipeline is in the mid 200s, which is great, it's really grown in the last quarter. It’s a good balance between CRE and C&I. It spreads as is our portfolio and our business of late spread between Massachusetts, Connecticut and Rhode Island with the C&I portion mostly focused in Rhode Island and the real estate activity balanced actually between the three states. So it's -- at an all-time high for the year and I think we are going to have -- we should have a good fourth quarter.

[Mark Fitzgibbon:]

Should we take this quarter's fund flows as a sign that we're down with outflows in the asset management business related to those previous employee departures?

[Mark Gim:]

This is Mark Gim I'll take that question. I think there are couple of dynamics that work there. First, I think we are comfortable that the vast majority of asset flows associated with the Western employees leaving in the first quarter of this year are behind us. Secondly, we are seeing some traction as we get back in the marketplace focused on new originations, not just in at Western but also in Rhode Island and Connecticut. And Ned's comments about Halsey going over the $1 billion mark we think are indicative of the fact that we're getting more traction as we focus on business development throughout the wealth part of the franchise.

[Mark Fitzgibbon:]

And then it looks like C&I loan yields declined on a linked quarter basis by about 11 basis points to 477. Was that a function fully of prepayment lower prepayment penalties or something else?

[Ron Ohsberg:]

Yes.

[Mark Fitzgibbon:]

And then lastly, Ron I wanted if you could share with us your outlook for the margin.

[Ron Ohsberg:]

Yes, so margin was a little lower I think that we expected. As we talked about previously we are asset sensitive. We have about 1.3 billion in LIBOR and prime base loans, and a 1.9 billion of earnings assets maturing and repricing within one year. We calculated beta on LIBOR for Q3 be about 86% versus the 114% in Q2. So we didn’t get quite as much width out of the June rate hike as we expected. As we have talked about we've been pretty aggressive on some -- on our deposits gathering activities but as far as Q4 is concerned, I would say we are looking at a stable margin for Q4 and a lot of that will depend upon -- again what happens in the deposit markets but we will get some benefit out of the September hike but we are planning on a stable margin for Q4.

[Mark Gim:]

And a couple of additional comments on that Mark. First of all the third quarter carried pretty much the full cost of the CD promotion that brought in over 100 million in new money compared to the second quarter. So the cost to funds level was relatively speaking elevated Q3, compared to Q2. It's anyone's guess is to what competitive deposit betas will look like at the fourth quarter unfolds but just as a point of comparison we wouldn’t expect to see the same increase in cost of funds resulting from those inflows in Q4 compared to Q3 as we did Q3 compared to Q2. And lastly, any additional Fed rate hike or late LIBOR increase in late fourth quarter might have a beneficial impact but really that won't be felt until Q1 of 2019.

[Operator:]

Our next question comes from Damon DelMonte with KBW. Please proceed with your question.

[Damon DelMonte:]

Just a kind of follow up on Mark's question there about the margin. Are you guys still running that CD promotion that you started earlier in the year?

[Ned Handy:]

We are not running that one, we're running another smaller one that’s similar in rate shorter in term and the goals for that are more modest than the 100 million that we produced in Q3.

[Damon DelMonte:]

Okay, got it. And then with regard to the growth this quarter, specifically in C&I was that a growth driven by line utilization increases in line utilization? Or more along the lines of new customers and new loans being originated?

[Ned Handy:]

Yes, I would say it’s a combination of things. There was some line utilization but there was also some completion of some construction projects that transferred. So these are C&I users owners who we keep in the real estate book during the construction and then transfer them over so there was some movement between the portfolios these are fully owner-occupied buildings and we just think it's the right thing to manage the construction process and real estate and then move them over. So there was about $60 million of that in the quarter.

[Damon DelMonte:]

Got it, okay. And do you know what's your overall line utilization is on a percentage basis?

[Ron Ohsberg:]

We do have that, give me one second to find that. I want to say it's in the below 50%.

[Unidentified Company Representative:]

About 54%.

[Unidentified Company Representative:]

Yes, sorry 54%.

[Damon DelMonte:]

And then with regards to expenses what's the outlook from this point here? I think on an operating basis when we exclude couple of moving parts it looks like it was down quarter over quarter. So Ron any comments on your outlook on expense here.

[Ron Ohsberg:]

Yes, we would expect Q4 expenses to be in line our core basis with Q3.

[Damon DelMonte:]

And then I guess just lastly credit continues to be very strong. The provision was within expectations this quarter. Is there anything on the horizon that’s giving you guys any concern or any change in your view for provision expense going forward?

[Ron Ohsberg:]

There really is not, and we are very pleased with where the credit stat sits. We monitor that closely and there are no individual loans, certainly no group loans that give us any concern. So we are pleased with where we are.

[Operator:]

[Operator Instructions] Our next question comes from Laurie Hunsicker with Compass Point. Please proceed with your question.

[Laurie Hunsicker:]

Can we just go back to the deposits. Can you help remind us what's going on with the interest bearing demand line so that’s gone from March quarter had a cost of 14 to then 47 in June and now its 1.37%. I know it’s a smaller number but the balance there is still enough to the cost just going up. So just remind me what's going on there?

[Ron Ohsberg:]

Right, so we were in the second quarter I think really in the middle of June we implemented a program to sweep some of our wealth management assets under management into what deposit product under balance sheet and that was a total of about $75 million. We are paying customers what they were getting within their wealth management account. So the rate is about 1.90 for Q3 so on a weighted average basis that’s what caused -- it's an interest bearing DDA product on our balance sheet. So that’s just the increase in the quarter.

[Laurie Hunsicker:]

Have all of those deposits come over or does that line continue in CRE?

[Ron Ohsberg:]

The more in the majority of what we expect in the any kind of the near term has moved over to that. It’s a rough reflection of the percentage of invested assets and cash that we have in the wealth management division that is eligible currently to be swept into the type of the account.

[Laurie Hunsicker:]

And then other line item here in money markets that was up 11 basis points any comments on that one.

[Ron Ohsberg:]

Yes, so money market is kind of two tier right, you get the retail money markets then what we kind of call our cash management balances. And the cash management side of things has been very sensitive to market rates and in many cases it's the retention play as customers call and say I can get this somewhere else and so we match that. So we have seen those rates get very competitive and up until the upper ones approaching 2%. And so that's the rate of inflation that you are seeing at money market.

[Ned Handy:]

And Laurie it's Ned. We have opted to manage those largely municipal and institutional accounts sort of on one off basis. We haven’t done anything programmatic or anything sort of wholesale to adjust [indiscernible]. We are managing those relationships and our cash management team is very close to those customers. So that is a competitive space and they do demand sort of top tier pricing and we expect that that will continue to be under some pressure, but we manage that very closely.

[Laurie Hunsicker:]

And then of the 632 million how much of that is municipal? I'll follow up with you after.

[Ned Handy:]

Yes, that will be great.

[Laurie Hunsicker:]

On the AUA, so you had amazing growth linked quarter you were up 16% the team of the three people that last was there any drop and I know we had a 371 million in the March quarter turn up 270 million in the June quarter. Was that zero or was there any drop in that?

[Ron Ohsberg:]

There was nominal drop in that Laurie. So the majority of the growth was really asset appreciation driven net client inflows were certainly positive for the quarter but the majority of that reflected market.

[Laurie Hunsicker:]

And then can you just remind us how you are thinking about approaching maybe doing another AUA acquisition?

[Ned Handy:]

Sure we're always alert for opportunities in the marketplace. They are a function of combination of factors, including seller book composition, we tend to prefer high worth individuals to the post institutional accounts which we think are more price sensitive. Age and location of principles how much time do they have till retirement for example and there is a risk of runoff in the near term. And lastly multiples and pricing expectations in that space that moved around over the last four or five years as markets have moved forward and it's largely a function of EBIT multiple. Lastly form of consideration the sellers in our view was the better served by taking portion of stock so these are more idiosyncratically structured transactions Laurie than bank deals for those reasons. So you are always looking but it's not always easy to find that fit. And lastly in the size range I would say in the 0.5 billion to 1.5 billion range would be typically in our sweet spot.

[Laurie Hunsicker:]

Okay, great, thanks that's helpful. And then lastly on expenses, I just want to make sure I'm thinking about this the right way. So as we look heading into the fourth quarter and just remind me your charitable foundation that you have done historically in the fourth quarter there are new plans to do that currently is that correct?

[Ned Handy:]

I'm sorry we are what?

[Laurie Hunsicker:]

Charitable contribution that's usually 3000-4000 that’s no longer a current impact right?

[Ned Handy:]

Yes, we have no plans to do that.

[Laurie Hunsicker:]

Then we think about the fact that you had obviously the $300,000 under credit and then the new branch coming online. If theoretically kind of net all those that are 26.5 million or so quarterly run rate seems about right or is there anything on this?

[Ned Handy:]

That sounds right.

[Ron Ohsberg:]

Yes, you really captured the only larger initiative coming on Laurie which would be the opening of the new branch but that’s really -- the expense there would be largely towards the tail end of the fourth quarter and not really fully felt until the first quarter of 2019.

[Operator:]

This concludes our question and answer session. I would like to turn the conference back over to Ned Handy for any closing remarks.

[Ned Handy:]

Thank you everyone for participating and for your continued interest and support of Washington Trust. We certainly look forward to speaking with you again in early 2019 and again appreciate your continued support and interest. So thank you very much. Have a great day.

[Operator:]

Thank you. The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.