Sandy Spring Bancorp Inc. Q4 2008 Earnings Call Transcript

| About: Sandy Spring (SASR)

Sandy Spring Bancorp Inc. (NASDAQ:SASR)

Q4 2008 Earnings Call

January 29, 2009 2:00 pm ET

Executives

Hunter Hollar - Chairman and Chief Executive Officer

Phil Mantua - Chief Financial Officer

Dan Schrider - President

Ron Kuykendall - General Counsel

Analysts

Jennifer Demba - SunTrust Robinson

Steve Moskowitz - Janney Montgomery Scott

Avi Barak – Sandler O’Neill

Mark Hughes - Lafayette Investments

Ross Haberman – Haberman Fund

Bryce Rowe - Robert W Baird

Carter Bundy – Stifel Nicolaus

Operator

Welcome to the Sandy Spring Bancorp fourth quarter 2008 earnings conference call. (Operator Instructions) At this time I’d like to turn the conference over to Mr. Daniel J. Schrider. Please go ahead, sir.

Daniel J. Schrider

This is Dan Schrider, and welcome to Sandy Spring Bancorp conference call to discuss our performance for the final quarter of 2008. Joining me here today is Phil Mantua, our Chief Financial Officer, and Ron Kuykendall, our General Counsel. As you all know, Hunter Hollar has retired from the Company and although he will continue to serve as Chairman of the Board, it’s my privilege as the new CEO of the Company to be hosting today’s call.

As always, the call today is open to all investors, analysts, and the news media. There will also be a live webcast of today’s call and a replay of the call available at Sandy Spring’s website beginning later today. We will take your questions after a brief review of key highlights. But before we make our remarks and then take your questions, Ron will provide the Safe Harbor statement.

Ron Kuykendall

Congratulations on your recent appointment. Sandy Springs Bancorp will make forward looking statements in its webcast that are subject to risk and uncertainties. These forward looking statements include statements of goals and pensions, earning and other expectations, estimates of risk and future cost and benefits, assessment of probable loan and lease losses, assessments of market risks, and statements of the ability to achieve financial and other goals.

These forward looking statements are subject to significant uncertainties because they’re based upon or affected by managements estimates and projections of future interest rates, market behavior and other economic conditions, future laws and regulations, and a variety of other matters by which by their very nature are subject to significant uncertainties. Because of these uncertainties, Sandy Spring Bancorp’s actual future results may differ materially from those indicated.

In addition, the Company’s past results of operation do not necessarily indicate its future results.

Daniel J. Schrider

I think everyone will agree that the major news in the fourth quarter of 2008 is that we recorded a provision of $17.8 million. The other item is noted in our pre-release of January 15th that impacted our results was the pre-tax impairment charge of $1.9 million to write down the remaining goodwill value in our leasing subsidiary, which we don’t think is much of a surprise.

The good news here is that there’s no further leasing company goodwill for us to deal with. Back to the $17.8 million provision which clearly is the main driver behind the net loss of $3.8 million for the quarter. As a frame of reference, our provisioning trend over the last several quarters is as follows: We set aside $1.7 million in the first quarter of 2007, then $2.7 million for the first quarter of ’08, $6.2 million for the second quarter and $6.5 million in the third.

The $17.8 million provision for the fourth quarter exceeds the preceding four quarters combined by about $500,000. For the year 2008, the provision for loan and lease losses totaled $33.2 million, compared to $4.1 in 2007. On December 31st, the allowance for loan and lease losses stood at 2.03% of outstanding loans and leases and 70% of non-performing assets. A year ago the allowance was 72% of non-performing assets.

Clearly, this is a significant increase and reflects our recognition of the continuing decline and economic conditions both nationwide and in our markets. At this point in the cycle, there’s no denying that the so-called recession proof or maybe even highly recession resistant, Maryland, DC, and Northern Virginia market is now under stress. And although the local economy has performed better here and thus lagged many of the other national markets for some time, this region is not immune.

Unemployment is creeping up. Credit problems are not just confined to the real estate side of the business. And now we’re faced with the uncertainty of a new presidential administration’s transition on employment and all of the Government related sectors. These forces impact all of the markets in general, not just Sandy Spring.

Now to take a closer look at our loan portfolio, we’ve had an increase number of internal risk rating downgrades to the existing credits combined with higher charge-offs. Loan charge-offs netted recoveries total $5.5 million for the fourth quarter compared to $1.7 million for the third quarter of 2008. So higher charge-offs accounted for a large portion of the fourth quarter provision this year.

If we drill down one last level, there is a focus component consisting of additional specific reserves primarily associated with loans in our residential real estate development portfolio. Non-performing assets total $72.2 million at December 31st, compared to $68.4 million at September 30, 2008, and $34.9 million at December 31, 2007.

The increase over the length third quarter of 2008 was primarily due to three commercial loans and one residential real estate development loan, all together totaling $5.2 million. The full year increase over the prior year also includes six residential real estate development loans, in addition to the four loans I mentioned previously, totaling $22.6 million.

The components of non-performing assets are as follows: 56.4% or $40.7 million are from our residential builder portfolio, clearly the largest portion of our NTAs; 16.82% are from our retail mortgage portfolio or $12.1 million; 14.7% or $10.7 million are from our C&I portfolio; 7% or $5.1 million in our investment and real estate portfolio; and less than .5% is from our from our home equity portfolio.

From a credit risk management perspective, we are operating under what I would call the new normal, given the current economic environment. We’ve added and continue to add resources and new processes to our historically robust credit risk management system. We’ve added professionals who work with clients in a very hands-on approach, and have established ongoing review processes to identify weak credits early. Getting a jump on potential trouble credits is the key to successfully working through this economic cycle.

Also to comment on a couple of portfolio segments that our industry is watching and we to are watching closely, and that’s retail and office buildings. We currently have $108 million in retail properties to 68 borrowers with an average loan size of $1.5 million, and, $81 million in office building loans to 67 borrows with an average loan size of $1.2 million.

In the retail and office portfolio segments, we have very good diversification with no tenant concentrations. We have no exposure to big box tenants within the retail portfolio. They primarily consist of neighborhood centers located within our footprint with good tenant diversification.

I’m going to transition to make a couple of comments on non-credit related items. You all know by now that we completed the transaction that resulted in us receiving $83 million in Tarp capital, which obviously adds further strength to our balance sheet and will create the opportunity to grow our loan portfolio. I should point out that total loans and leases increase 9% to $2.5 billion in 2008 compared to the prior year. By any measure, this is decent loan growth and it’s also evidence that we are out there lending as we should be to support and retain our client relationships.

It’s important to note that the growth was comprised mainly of a 13% increase in commercial loans. That’s our sweet spot, commercial, small business. We’re local, we’re good at it. Competition in the community bank sector continues to consolidate to our benefit. Competition on the deposit side remains intense.

With that said, the total of our customer funding sources which includes deposits, plus other short terms borrowings from core customers increased 3% at December 31, 2008, compared to the prior year. On a linked quarter basis customer funding sources grew by 5% compared to the third quarter of 2008. The increases were primarily due to higher rates that we paid on selected certificate of deposit products and encouragingly, from a new premier money market account, which has exceeded our expectations in attracting new money.

Expenses were flat versus a year ago, including the good will impairment charge. This is mainly due to the ongoing affect of Project Lift. We also elected not to pay any executive bonuses in 2008. To conclude, certainly we’re concerned with the depth breath and duration of the current economy. We are highly focused on recognizing problems early and tackling them proactively.

I want to reiterate a point that we made last quarter. All of my colleagues, our team here at Sandy Spring clearly understand that we will continue to meet the needs of our clients and take advantage of sound credit opportunities that will help us and our clients grow. We look forward to the opportunities created by consolidation, the same consolidation that will result in Sandy Spring not only being the oldest, but now the largest bank head-quartered in the State of Maryland.

That concludes my comments for today, which we can certainly expand on as we take your questions. Operator, can we now have the first question, please?

Question-and-Answer Session

Operator

(Operator Instructions) We’ll take our first question from Jennifer Demba - SunTrust Robinson Humphrey.

Jennifer Demba– SunTrust Robinson

I’m just wondering what you see in terms of competed opportunities from the recent sales or pending sales of Chevy Chase and Provident.

Daniel J. Schrider

Jennifer, when you break down our branch locations into micro markets, which is how we look at it, to identify it, particularly deposit opportunities. There are several billion dollars at play so to speak in terms of the banks that are being acquired. Wachovia, which has obviously already had legal day one, provident in Chevy Chase, collectively represent $10 to $12 billion dollars in deposits and we think obviously our goal is to take advantage of that, so significant opportunity for us.

Jennifer Demba– SunTrust Robinson

Is there more opportunity with Chevy Chase than with Wachovia and Provident?

Ron Kuykendall

Yes.

Daniel J. Schrider

Chevy Chase probably maps to our location or our geography better than the other two. So, yes, the answer to that question would be yes.

Operator

(Operator Instructions) We’ll go next to Steve Moskowitz – Janney Montgomery Scott.

Steve Moskowitz - Janney Montgomery Scott

Just want to touch on what you’re seeing for low-end demand and growth expectations in ’09.

Daniel J. Schrider

Right now, as you might imagine, what we’re finding is that commercially and from a retail perspective that the economy has got folks pretty hunkered down from a retail standpoint working their way out of debt, and commercially a pretty conservative approach to expansion right now. So we think our net gains in the loan portfolio are going to be predominately from our commercial portfolio growth and related to the last call, which is us being a beneficiary from some of the consolidations.

So, a combination of our client base growing, but also, we think we can attract some new clients to our company through the consolidation. So we’re looking at a pretty modest loan growth number when compared to our last couple of years of history.

Steve Moskowitz - Janney Montgomery Scott

Within the commercial loan balances, I’m just wondering, what is the mix of residential mortgage construction, residential lot loans, and acquisition development as of period end?

Daniel J. Schrider

Our residential mortgage business, which includes the construction lot and our arm portfolio, is just under $650 million or 26% of our total portfolio today. Our AD and C portfolio, which we’ve commented on previously, is down significantly from prior quarters at approximately $180 million.

Steve Moskowitz - Janney Montgomery Scott

And how much do you guys have in lot loans outstanding roughly?

Daniel J. Schrider

Lot loans to individual home-owners are about $135 million, that’s 5.5% of our portfolio.

Steve Moskowitz - Janney Montgomery Scott

And then, how is deposit pricing these days as well?

Phil Mantua

Steve, this is Phil, I would say that deposit pricing is probably eased some here in the last portion of the quarter as opposed to what it was a little bit earlier on. But there’s still a few kind of high rate flyers that are out there as normal, but I would say overall the pressure has come back, and we’ve actually through our premiere money market account been a little bit of a leader in that regard. And I think our growth there, which was about $170 million in that one category over the quarter alone is indicative of that.

Steve Moskowitz - Janney Montgomery Scott

And Phil, with regard to the margin, what are your expectations there for Q1?

Phil Mantua

Well, I think as you and everyone else, Steve, has seen in the past four quarters is the Fed has made their dramatic moves each time. And again, they did in December, that there’s been an immediate downward impact to our margin. So I think, clearly, with the 75 basis point change that did occur through December, you’re going to see a similar kind of impact to our margin here in the first quarter. And as we absorb that in addition to the way we’ve priced some of our liabilities that I’ve just mentioned on the premiere account.

So the simple answer is further compression and then hopefully some leveling through the year. We do not anticipate any changes in the in the overall structure of interest rates throughout the entire year of 2009. Obviously can’t go any lower on the short end, but even over the scope of the yield curve we don’t see a whole lot of change.

Steve Moskowitz - Janney Montgomery Scott

And in which regard, also in the margin and interest income for the quarter, were there any significant interest reversals associated with the $5 million in non-performers?

Phil Mantua

No material reversals that I can think of. Actually, the only place there was any real reversal of accrual of all things was related to our home loan bank stock, where we had been accruing for dividend there and reversed that entirely anticipating that there would not be a payment made of that dividend here in the first quarter.

Steve Moskowitz - Janney Montgomery Scott

How much is that?

Phil Mantua

I think that reversal was about $95,000, if I’m not mistaken, in the quarter. We’re anticipating we’re just not going to receive that dividend at all. And that would be in the investment portfolio.

Operator

And we’ll take our next question from Ave Barak – Sandler O’Neill.

Avi Barak – Sandler O’Neill

Two quick questions from me, first, obviously it’s a pretty tough environment out there. I was wondering how often and how you evaluate your dividend policy on the common stock.

Daniel J. Schrider

We obviously, Avi, are dealing with that I would say on a month by month basis right now as we look at our current earnings and what we would project in 2009, so something that the Board and management are dialoging about on a continual basis.

Avi Barak – Sandler O’Neill

And then secondly, you did about $33 million in provisions for 2008. As you look at the world right now, is that kind of a good number to use for ’09, and what’s your thought process there?

Daniel J. Schrider

We clearly think that, I mean, the fourth quarter obviously sticks out as I commented as a spike. So I wouldn’t necessarily think that that’s a quarter that we would model off of, but I think they’ll continue to remain in an elevated level compared to our history.

Operator

(Operator Instructions) We’ll go next to Mark Hughes - Lafayette Investments.

Mark Hughes - Lafayette Investments

The fourth quarter move up in the provision from 6.5 the previous quarter to 17.8 the first quarter, was a lot more than the increase in the non-performers and write-offs, was that an attempt to get out a little bit ahead of this thing, or does that indicate that the non-performers had deteriorated more than you thought in the fourth quarter?

Daniel J. Schrider

Good question, Mark, it’s just the result of two things, one, risk rating downgrades within the portfolio. So even within the NDA category there have been changes to our assessment of risk, as well as the reevaluation of collateral values in that portfolio. So those are the key drivers there. So that's – those are the key drivers there. So, no, not getting out ahead, just current evaluations and risk assessments.

Mark Hughes - Lafayette Investments

Has there been any developments in the – I forget if it was three or four of the big real estate loans that started a year or so ago, then the big bump up in non-performers, anything new on those non-performers?

Dan Schrider

There has been nothing material to report today. There has been some progress, but it's clearly not as much as we would like to see those move out of the NPA category, and it's clearly the result of what's going on in the market and the continued question as to when do values hit bottom. So, I think, unfortunately, the work out of some of these credits is going to be rather prolonged.

Mark Hughes - Lafayette Investments

When the government raised the insurance for banks from $100 to $250,000, did you see an increase in interest from people just maybe feel they're already there, just take bumping up what they're willing to buy from you all?

Phil Mantua

Mark, this is Phil. I would say that we have in – I mentioned the premier money market account that we introduced during the quarter. A fair amount of that growth in that account came from existing shareholders who were willing to put further funds with us. So, I think that's very indicative of that comment and in other places as well.

I mean we had some pretty significant deposit growth, especially at the year end through the month of December that I think came both from external new money sources, as well as additional funds from existing clients.

Mark Hughes - Lafayette Investments

And that's a money market fund that you're talking about?

Phil Mantua

Yes, that's correct. It's a money market product that has a guaranteed rate right now for a three month period of 2.5%.

Mark Hughes - Lafayette Investments

Is that a fund that you actually do the investing for or are you subbed out from somewhere else?

Phil Mantua

No, it's on our balance sheet. It's a deposit account that sits on our balance sheet like anything else.

Mark Hughes - Lafayette Investments

And what does that invest in?

Phil Mantua

Well, its normal funds utilized on the asset side of the balance sheet, whether that be investment portfolio or out in loans. It's a true liability. It's not an off-balance sheet position. It's a true liability.

Operator

Your next call comes from Ross Haberman – Haberman Fund.

Ross Haberman – Haberman Fund

A quick question, I got on a little late, I might have missed it, did you talk about the re-fis, if you're seeing any, if so, what degree and are you keeping any? Are you modifying them or what are seeing there?

Dan Schrider

We have, as you might imagine, in the last 60 days seen quite a bit of activity on the re-fis as rates have moved around and down to some of the historic lows, so quite a bit of activity there. Our game plan is to generate fee income we're getting on sale off of that, so we would put those in a saleable product as much as possible. Still challenged, as you know, on the jumbo portfolio in terms of availability in the market, so we're selectively booking 315] ARMS for jumbo – high-quality jumbo clients.

Ross Haberman – Haberman Fund

And are you keeping the jumbos or you're selling those as well?

Dan Schrider

In some cases, we'll keep them and in other cases, we'll move them off.

Ross Haberman – Haberman Fund

And just one implication of that, will, if this continues for another couple of months, do you see that negatively affecting the spread of the margin over the next couple of quarters?

Dan Schrider

No, the pricing for anything we're putting on balance sheet should not have a negative impact on margin.

Operator

Your next question comes from Bryce Rowe – Robert W. Baird.

Bryce Rowe – Robert W. Baird

Phil, two quick questions. One, when do you intend to take all in-costs of the TARP dividend to be, and number two, anything abnormal on the operating expense side this quarter?

Phil Mantua

Let's see, TARP first. All in-cost is probably – let me break it down for you in terms of what we've done there, Bryce. Our original deployment of the funds is in the investment portfolio through some mortgage-backed Ginnie Mae and agency-type securities that are probably yielding on average somewhere, pre-tax, around 37, 375 on that block of monies. And of course, over time, part of the rationale for the mortgage backs or the cash flows so that they can be eventually deployed into the loans.

So that's the earnings side of the deployment. We did not leverage that at all. In other words, it's one for one. And then on the other side of course, is the $4.2 million after-tax dividend, along with the bit of accretion that goes with the assignment of value to the warrants. So you can calculate out the net effect and then drop that down through earnings per share, along with the diluted effect of the warrants themselves.

Bryce Rowe – Robert W. Baird

What are assuming the amortization expense is for the warrants?

Phil Mantua

I think it's about $600,000 a year, if I’m not mistaken; somewhere in that ballpark.

Bryce Rowe – Robert W. Baird

Then the second part of the question was anything abnormal in the operating expense structure this quarter?

Phil Mantua

Just a couple of things that were through there that might have been one time. The other thing to remember in comparison between the third and fourth quarter first of all, beyond the impairment charges, remember the third quarter was low because we had a prior service cost credit related to our pension plan.

So, just in that comparison, that's just something else that didn't reoccur in the fourth quarter as well. Other than that, we had a couple of one-time items related in the fourth quarter to some severance costs. We had some EFT losses in the quarter that shouldn't and hopefully wouldn't reoccur. And then, we had some increased marketing expenses related to promotion of the premier account that we've been discussing, but that's about it.

Bryce Rowe – Robert W. Baird

And the severance costs were roughly what?

Phil Mantua

I don't recall exactly, maybe a couple of hundred thousand dollars, if I'm not mistaken.

Operator

Your last question comes from Carter Bundy – Stifel Nicolaus.

Carter Bundy – Stifel Nicolaus

I was trying to get an idea, given that we have not seen much migration of non-accruals into the real estate owned category. What is your appetite and what would be the expectation in terms of seeing other real estate owned go up here over time? And secondly, how long and how difficult is that process going right now?

Phil Mantua

I think that is very logical to assume that OREO balances with increase over the course of time. So, I guess the other part of your question is how difficult is it? I think it is very difficult as we move through this to determine again, where the bottom is, where values ultimately are. We're trying to work with clients that we think are going to be players at the end of the day, in particular in some of these projects.

So, all of that gets stirred up into the pot of determining how and when we'll take more aggressive action and when it would move in OREO, but we will see our OREO balances grow undoubtedly.

Carter Bundy – Stifel Nicolaus

Dan, what would be your appetite right now for getting it off the balance sheet? Would you all be willing to take some big haircuts on it or would you all continue to hold it, if you think that stuff is very, very depressed at these levels?

Dan Schrider

I think in some projects, our appetite for a haircut is going to be greater than others, particularly as you look at a couple – most of our NPAs are in our core market. As you know, and as we've spoken of previously, we do have a couple that are on the outskirts of our geography, which we'd probably have a greater appetite to move.

So, it's really on a case-by-case basis.

Carter Bundy – Stifel Nicolaus

Could we comfortably assume that based on most recent appraisal information, that we don't see a lot of OREO right down to the lease at this point?

Dan Schrider

Based on current market values? OREO write downs, we're building all of the current values into our loan and lease loss methodology. And so, we're taking those provisions against current values today.

Operator

Gentlemen, we have no further questions at this time.

Dan Schrider

Well, that wraps up our questions. I know that you that all have many options as to how you spend your time. I just want to say thank you for taking the time to participate with us this afternoon, and we would love to have your feedback to help us evaluate how we did. You can email your comments to ir@sandyspringbanc.com.

Thank you, again, and have a wonderful afternoon.

Operator

Thank you, sir, and that does conclude today's conference call.

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