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Sterling Bancorp (NYSE:STL)

Q4 2008 Earnings Call

January 27, 2009, 10:00 am ET

Executives

Edward Nebb, Investor Relations

John Millman, President

John Tietjen, CFO

Analysts

Gindra Elengloban – Steeple Nicholas

Damon Del Monte - KBW

Lana Chen – BMO Capital Markets

Bill Keith – PSP Capital

Operator

Ladies and gentlemen thank you for standing by and welcome to the Sterling Bancorp Fourth Quarter 2008 Conference Call. At this time all lines are on listen only mode. Later there will be a question and answer session, and instructions will be given at that time. If you do need assistance during the call today, please press the star followed by the zero and an operator will help you offline. As a reminder, today’s call is being recorded.

At this time then, I’d like to turn the conference over to Mr. Edward Nebb, please go ahead sir.

Edward Nebb

Thank you very much. Good morning everyone and thank you for joining us today. Our news release announcing Sterling’s Fourth Quarter and Year End 2008 Results was issued this morning, prior to the market open. We hope you’ve had an opportunity to review it and the release is available on the company’s website at www.sterlingbancorp.com.

Before we discuss the financial results for the quarter and the year, let me remind you that any comments made today about future financial results or other future events are forward-looking statements under the Securities Exchange Act of 1934. Actual results may differ substantially from such forward-looking statements. The amounts of any dividends in 2008 and beyond will depend on the company’s future results of operations, financial condition and other relevant factors. A discussion of the factors that could cause actual results to vary is contained in Sterling’s Annual and Quarterly Reports filed with the SEC.

We will have introductory remarks today from Mr. John Millman, President of Sterling Bancorp and Mr. John Tietjen, Chief Financial Officer. And after their remarks we will open up the call and take your questions. And so without further delay I’d like to turn the call over to John Millman.

John Millman

Thank you very much. Good morning everyone. Welcome to our conference call for the year end 2008. In a challenging year for the world economy and particularly the financial services industry, Sterling delivered exceptionally strong results. We posted a double digit percentage increase in EPS year over year, continue to grow our loan portfolio, and maintained our traditional sound asset quality.

More importantly, we continued our tradition of exceptional customer service at a time when other financial institutions have become distracted and have lost focus. Recently we (inaudible) in our capital base by participating in the U.S. Treasury’s Capital Purchase Program.

I’d like to take this occasion to thank the entire Sterling team for their efforts to serve our customers, grow the business and produce solid financial results for our shareholders throughout a difficult and turbulent period.

In 2009 we marked Sterling’s 80th Anniversary as an institution founded in 1929, we have survived and thrived across a wide range of market cycles. We believe that our longevity and strong performance reflect a sharp focus on serving credit worthy businesses and individuals in our marketplace, an emphasis on sound underwriting and avoidance of exotic loan and investment types, and a long standing belief that growing our profitability is more important than growing our assets.

Sterling’s prudent strategies in traditional business model have allows us to largely avoid the traps that have ensnared other institutions in this market. We have both a strong credit culture, and a conservative investment philosophy. Our portfolio had no holdings of Fannie Mae or Freddie Mac preferred stock. Full trust preferred securities or other assets that have led to major market to market adjustments elsewhere.

While we did incur a total of $1.7 million in OTTI charges in the second and third quarter of 2008, these charges were modest and contained. Recognizing that no institution’s immune to the economic downturn however, we have taken a number of precautions, including tightening our already strict credit standards. For example, we are being even more careful in assessing how borrowers and business lines may be affected by further deterioration in the economy. We are also using monitoring tools of our asset-based financing group to exercise even greater diligence in overseeing the performance of middle market loans.

Now let me review some of Sterling’s key achievements for 2008. Net income for the year increased $16 million, or $0.88 per diluted share, up from $14.6 million, or 0.79 per diluted share for the prior year. The increase in profitability was the result of several factors, including the growth of our lending and investment portfolios, and our efforts to maximize the net interest margin by carefully managing our funding costs. Our return on average tangible equity was 16.52% for 2008, a level of profitability that few financial institutions have equaled in this environment.

Our net interest margin was 4.60% on a tax equivalent basis for 2008, up 11 basis points in the prior year. Our earning asset growth stable base of non-interest bearing demand deposits, discipline pricing of deposits and loans, and balance sheet management strategy contributed to the healthy margin.

To maintain an active lending stance throughout the year, average loans held in portfolio increased by 6.7% compared with 2007, for a total of $1.14 billion. Our business model is built on cultivating quality lending relationships and we are continuing to expand our customer base in this environment. Our pipeline is substantial, and we continue to see opportunities to expand our market share in a manner that has been consistent with our loan quality standards.

Sterling completed and offering under the U.S. Treasury’s Capital Purchase Program last month. In keeping with the spirit of the program, we have continued to actively seek lending opportunities, while adhering to prudent underwriting standards. In fact, since last month, we have already originated new commercial loans and residential mortgages in excess of the $42 million funds we received.

A large percentage of these loans represented new customer relationships. While we have all heard the criticism that not enough of the Treasury funds are being redeployed by the recipients, Sterling remains fully committed to serving borrowers and supporting business activities in our market. Our deposit franchise has continued to be a stable source of liquidity and cost effective funding. Demand deposits average $448.2 million for the year. This represented 36% of total deposits by December 31, 2008. One of the highest ratios of demand to total deposits in the industry.

While our asset quality remains strong and sound, we recognize the possibility of a further contraction in the economy. Our position for loan losses rose to $8.3 million for 2008, versus $5.9 million in 2007. Net charge offs were $6.4 million for 2008, versus $5.9 million a year earlier, an increase of about 10%. That said, our ratio of non-performing assets to total assets has been very stable at 40 basis points at the end of 2008 unchanged from a year earlier.

Our continued strong performance has enable Sterling to maintain a long standing policy of providing value for shareholders through regular cash dividends. We paid a cash dividend of $0.19 per common share on December 31, 2008, a track record of 252 quarters or 63 years of uninterrupted dividends.

While the present market environment is undeniably challenging, we are seeing an exceptional opportunity for Sterling’s business in a number of areas. Many traditional competitors in our marketplace are constrained from serving their customers due to capital limitations, business reversals, or the distractions caused by industry consolidation. They have retreated from normal lending activity and left a number of customers on the sidelines.

In contrast, Sterling is well positioned to serve quality customers who have been disenfranchised by the previous financial institutions. We have a strong capital base, ample liquidity, and a well managed (inaudible) model. We are ready, willing and able to support both existing and new customers.

Consistent with prudent underwriting, the $42 million in proceeds from the Treasury program is providing additional support to take advantage of potential opportunities. We have a diverse range of credit products, managed by an experienced and highly professional lending team. Our products include CNI lending, asset based financing, equipment leasing, receivable management, commercial and residential mortgages and more. This gives us an unusual breadth of resources to offer individualized solutions to customers and prospects in this environment.

And finally the dislocations among our competitors have provided opportunities to add talented banking executives with exceptional customer relationships and strong business development and management skills. We are committed to maintaining our traditional sound business practices as we build on these opportunities in the coming year. With that, I will turn the call over to John Tietjen who will further describe the key developments for the fourth quarter and year 2008.

John Tietjen

Thank you John. I would like to (inaudible) what the factors and key contributors relating to our fourth quarter results. Net interest income on a tax equivalent basis was $21.8 million, an increase of 13.6% from the same period of 2007. The increase in net interest income primarily reflected higher average loan and investment security balances, lower interest-bearing deposit balances, and lower funding costs. The net interest margin increased to 4.50% for the fourth quarter 2008, up from 4.46% for the 2007, I’m sorry, 4.46% for the 2008 third quarter, and 4.32% for the 2007 fourth quarter.

We have noted throughout the year Sterling has employed a funding strategy based on using cost effective wholesale funding in lieu of higher cost CDs. Along with our growth in earning assets, this strategy is largely responsible for the improved net interest income.

Interest earned on loans was $19.2 million for the fourth quarter of 2008, a decrease of $4 million. Average loan balances for the quarter increased by $45.7 million to $1.21 billion due to our business development activities. The yield on the loan portfolio decreased to 6.62% from 8.34% a year ago due to the lower rate environment and our mix of lending business.

Income from investments securities increased to $9.5 million, up $1.5 million from the fourth quarter of 2007. This was primarily due to the increase in the size of our investment securities portfolio. Investment securities averages $754.2 million for the 2008 fourth quarter, up from the $635.7 million a year ago. The yield on the investment securities was essentially flat at 5.04% for the fourth quarter of 2008, compared to 5.03% a year ago.

Interest expense on deposits decreased sharply to $4.4 million for the fourth quarter of 2008 versus $9.2 million a year ago. In addition to the lower interest rate environment in 2008, this was a direct outcome of our balance sheet management strategy. We have intentionally allowed higher cost CDs to run off, while shifting our funding to more economical wholesale sources.

We have been able to do this, in part, because our strong capital in liquidity have freed us from the necessity to pay up for deposits. As a result of our strategy, average balances of interest-bearing deposits declined $138.1 million to $923.3 million for the fourth quarter of 2008. The average rate paid on interest-bearing deposits declined 156 basis points from a year ago to 1.88%.

Interest expense on borrowings decreased approximately $300,000, compared to the 2007 fourth quarter, again reflecting our funding strategy. Taking advantage of wholesale funding sources, we increased our average borrowings by $264.2 million from the fourth quarter of 2007 to $507.3 million, while the cost of borrowings fell 271 basis points to 2.02%.

Non-interest income was $8.8 million for the fourth quarter of 2008, a decrease of $700,000 from a year ago. This was primarily due to a decline in mortgage banking income due to low origination volume experienced in the industry generally. Non-interest expenses increased by $1.1 million for 2008 fourth quarter, to $25.5 million, reflecting small increases in a number of expense categories.

Turning to the balance sheet, average loans held in portfolio for the 2008 fourth quarter, a net of unearned discount increased 5.1% from a year ago to $1.19 billion. Investment securities averaged $754.2 million for the fourth quarter of 2008, up from $635.7 a year ago, again reflecting our asset liability management strategies.

Approximately 94% of our investment portfolios consist of debt obligations of U.S. government corporations and GSEs. Another 3% consist of obligations of states and political subdivisions.

Total deposits for 2008 fourth quarter averaged $1.39 billion, a decrease from $1.53 billion a year ago. Again this luckily reflects our intentional shift away from higher cost time deposits. Average demand deposits increased about $10 million, to $453.9 million on average for the 2008 fourth quarter, and continue to represent a strong 36% of total deposits at December 31st.

Total borrowings for the 2008 fourth quarter averaged $507.3 million up from $243.1 million, reflecting our balance sheet management strategies. The average cost of borrowings decreased to 2.02% from 4.73%.

Sterling continues to exceed regulatory requirements for a well capitalized institution. At December 31, 2008, our tier one risk based capital ratio was 12.43%, total risk based capital was 13.56%, and tier one leverage was 8.51%. These ratios include the effect of the $42 million proceeds from our participation in the U.S. Treasury Capital Purchase Program. Our liquidity remains strong with the ratio of loans held in portfolio to deposits of nearly 88% as of December 31, 2008.

In summary, our focus on prudently growing the business, managing the balance sheet, and maintaining asset quality, allows Sterling to make solid progress during a tough year. With that, let me turn the call back over to John Millman.

John Millman

I began the call by noting that Sterling is celebrating its 80th year in business. I’ll conclude by saying that while we do not underestimate the problems facing the economy in the financial services industry, we have dealt with tough conditions many times in our history. We believe we are uniquely qualified to seize opportunities where others may see only challenges.

Sterling is distinguished by strong capital, liquidity and asset quality. We have maintained close bonds with our existing customers and forged relationships with many new customers, through our ability and commitment to serve their needs at a time when many other institutions are constrained. We expect to benefit from a continuing life to quality on customers and potential employees. And we had a dedicated team with the talent, experience and discipline to help us move forward. As always we appreciate your interest in Sterling, now we would be pleased to respond to your questions.

Question-and-Answer Session

Operator

Thank you. And ladies and gentlemen if you do wish to ask a question, please press the star followed by the one on your touchtone phone. Feel free (inaudible), and you may remove yourself from the queue by pressing the pound key. If you are using a speaker phone, you may need to pick up your handset before pressing the star and one. So again, if you have a question, please press star then one at this time.

And our first question comes from Steeple Nicholas, the line of Gindra Elengloban.

Gindra Elengloban – Steeple Nicholas

Yeah hi, good morning (inaudible), Steeple Nicholas. Just it's, if you could comment a little bit with respect to your provision, obviously cover your charge off. Do you likely see a reserves to loan (inaudible) of 8% or how do you look at it going forward in the face of the weakening economy?

John Millman

I believe that for the last year, going back into early 2007, the $1.3 was a goal that we thought was appropriate. Given the potential for further deterioration in the market, I think we'll continue to revisit that as we move forward.

Gindra Elengloban – Steeple Nicholas

Okay. And from the (inaudible) tax rate, what's a good number to use going forward? Is it going to be something less than at 40%, or…?

John Millman

At this particular point, there are some (inaudible) going on with regards to the region, and I don't think I can give you appropriate guidance at this point until I get that squared away.

Gindra Elengloban – Steeple Nicholas

Okay, fair enough. And then just one last thing, do you have any detail as far as category type for the non-performing breakdown and the charge off breakdown for the quarter?

John Millman

We don't have it at this particular point. It will be in the 10K. I will tell you that as in the prior quarters, the significant non-performers have been in the leasing and in the residential real estate area.

Gindra Elengloban – Steeple Nicholas

Okay. And, okay. Thank you very much.

Operator

Okay, and we have a question then from the line of Damon Del Monte with KBW, please go ahead.

Damon Del Monte - KBW

Hi, good morning guys, how are you.

John Millman

Great, good morning Damon.

Damon Del Monte - KBW

Could you tell us what the dividend you paid on the Tarp shares were this quarter?

John Tietjen

There wasn't any. The dividend has to be declared quarterly by the board. The first dividend is due in February of 2009.

Damon Del Monte - KBW

Okay. And along the lines with the Tarp, obviously a great boost to regulatory ratios, but it does little in the way of improving tangible common equity. In this quarter we saw another decline in that ration, down to about 4.4%. Just wondering if we could get your thoughts, kind of your outlook with regard to this ratio, you know, as we enter into a more stressful economic time, and we expect to see greater delinquencies and loan losses. Kind of what your thoughts are as far as taking action to boost that level.

John Tietjen

I'm sure you can understand that there are certain aspects of strategy that we can't comment at this particular point. With regard to billing tangible equity, we continue to manage the business in order to improve earnings, and as we do that it will have an impact on that ratio, albeit maybe not as great as some people might like to see.

Damon Del Monte - KBW

Okay. And then just also last thing with the mortgage banking fees, kind of, can you give a little color on that business line? And kind of what you're seeing maybe with the new rates that we've seen out in the market place.

John Tietjen

Yeah, we actually saw late in the fourth quarter, and the beginning of this year, a slight pick up in the activity based on refinancing because of what happened with the general rates. But of late, rates again have come back up and, while I don't have current data on that, I would suspect that that's impacted the volume.

Damon Del Monte - KBW

Okay, great. Thank you very much.

Operator

Thanks, then we have a question then from the line of Lana Chen with BMO Capital Markets, please go ahead.

Lana Chen – BMO Capital Markets

Hi, good morning.

John Millman

Good morning Lana.

Lana Chen – BMO Capital Markets

On the commercial business loan portfolio, I was wondering if you could talk about any migration trends you're seeing within the individual buckets, given, you know, the deterioration we're seeing in the economy.

John Tietjen

I would say other than leasing line up, we're really seeing any migration in the rest of the CNI portfolio.

Lana Chen – BMO Capital Markets

Okay. And with respect to your borrowings, what is the average rate of the new borrowings that you put in the fourth quarter?

John Tietjen

Very low. Under 0.5%. And I don't have the specific number for you, but it's been very, very low. Particularly late in the quarter.

Lana Chen – BMO Capital Markets

And should we expect at least in the near future that the strategy of, you know, reducing higher cost deposits and more lines in borrowing should continue?

John Tietjen

Well I think we're going to continue that strategy, however the impact may not be as great given what we did during 2008.

Lana Chen – BMO Capital Markets

Okay, thanks John.

Operator

Thank you, and we do have a question then from the line of Bill Keith, with PSP Capital, please go ahead.

Bill Keith – PSP Capital

Yes gentlemen, good morning. Congratulations on a terrific 2008.

John Tietjen

Thank you.

Bill Keith – PSP Capital

My first question concerns the leverage strategy that you referenced in the release. Could you give us some color as far as on the size of the transaction, the duration mismatch between assets and liabilities? And the original spread that you saw on the transaction. And how does it compare to where it is today.

John Millman

The strategy was an early 2008 strategy, and I don't have any of the other data that you're asking for right now. If I could get back to you on that, I'd be happy to do it.

Bill Keith – PSP Capital

Terrific, thank you very much. And I just do have one follow-up question, and it concerns the $80 million pension liability adjustment, and (inaudible) during the fourth quarter. If you can just speak of the conditions that warranted that adjustment, maybe it was the stock market volatility, was it the low interest that throw the benefit liability higher, or a combination there?

John Tietjen

It’s a combination of the benefits increasing slightly and the value of the assets being impacted by the market conditions.

Bill Keith – PSP Capital

All right. Does this have any future income statement impact in your opinion?

John Tietjen

At this point, I believe that when the economy does turn, that we will have the quality of assets in the investment portfolio, will reap that benefit. And we continue to make contributions to the pension plan, that keep us in the well funded area, and meet all the ERISA requirements.

Bill Keith – PSP Capital

Okay, gentlemen, thank you very much.

John Tietjen

You're welcome.

Operator

Thanks, and again, if anyone does have a question, please press the star then one on your phone at this time. And at this time, then I'm showing no further questions in queue.

John Millman

All right, thank you operator. We appreciate your time and questions and look forward to speaking with you on our next call. Thank you.

Operator

Great and thank you. And ladies and gentlemen, this conference will be available for replay starting today, Tuesday, January 27th at noon Eastern time, and it will be available through Tuesday, February 10th at midnight Eastern time. And you may access the AT&T Executive Playback Service by dialing 1-800-475-6701 for ones inside the United States or Canada, or from outside the United States or Canada, please dial 320-365-3844, and then enter the access code of 983593.

Those numbers once again are 1-800-475-6701 for in the U.S. or Canada, or 320-365-3844 from outside the U.S. or Canada, and again enter the access code of 983593. And that does conclude our conference for today. Thanks for your participation and for using A&T Executive Teleconference. You may now disconnect.

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