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Sandy Spring Bancorp Inc. (NASDAQ:SASR)

Q2 2013 Earnings Conference Call

July 18, 2013 2:00 PM ET

Executives

Dan Schrider - President and CEO

Phil Mantua - Executive Vice President and Chief Financial Officer

Ron Kuykendall - Executive Vice President, General Counsel, and Secretary

Analysts

Jennifer Demba - SunTrust Robinson Humphrey

David Peppard - Janney

Bryce Rowe - Robert W. Baird

Operator

Good afternoon. And welcome to the Sandy Spring Bancorp Inc. Earnings Call and Webcast for the Second Quarter 2013. All participants will be in listen-only mode. (Operator Instructions) After today’s presentation, there will be an opportunity to ask questions. (Operator Instructions)

Please note, this event is being recorded. I would now like to turn the conference over to Mr. Daniel J. Schrider, President and CEO. Please go ahead.

Dan Schrider

Thank you, Laura, and good afternoon, everyone. Welcome to Sandy Spring Bancorp’s conference call to cover our performance for the second quarter of 2013. This is Dan Schrider speaking and I’m joined here today by Phil Mantua, our Chief Financial Officer; and Ron Kuykendall, General Counsel for Sandy Spring Bancorp.

As usual, today’s call will be open to all investors, analysts and the news media, and there will be a live webcast of today’s call, as well as a replay of the call available at our website beginning later on today.

We will take your questions after I cover a review of some key highlights but before we get started, Ron Kuykendall will give the customary Safe Harbor statement.

Ron Kuykendall

Thank you, Dan. Good afternoon, ladies and gentlemen. Sandy Spring Bancorp will make forward-looking statements in this webcast that are subject to risks and uncertainties. These forward-looking statements include statements of goals, intentions, earnings and other expectations, estimates of risk and future costs and benefits, estimates of probable loan and lease losses, assessments of market risk and statements of the ability to achieve financial and other goals.

These forward-looking statements are subject to significant uncertainties because they are based upon or affected by management estimates and projections of future interest rate, market behavior and other economic conditions, future laws and regulations, and a variety of other matters which by their very nature are subject to significant uncertainties.

Because of these uncertainties, Sandy Spring Bancorp’s actual future results differ -- may differ materially from those indicated. In addition, the company’s past results of operations do not necessarily indicate its future results.

Dan Schrider

Thank you, Ron. Today we’ll go through some brief prepared remarks and then move right to your questions. First, it was another solid three months and we are pleased with the consistency with which we’ve been able to sustain good profitability, diversified revenue stream and very favorable credit quality.

And this performance has been ongoing now for the last couple of years, despite the fact that the economic environment both across our footprint and nationally continues to be soft and unpredictable as it slowly improves.

As stated in our press release issued earlier today, net income for the second quarter of 2013 was $12.1 million, that is a $0.49 per diluted share and is a healthy advance over last year second quarter.

Our market cap advanced to just over $596 million as of the close last Friday and by comparison when we held this earnings call just three months ago our market cap was $490 million. Obviously, we have benefited from the rising tide affecting valuations on better performing community banks.

It is clear that investors are obviously giving increasing credit to the community banking sector as many of us have been able to successfully work through problem credits down to manageable levels that are more in line with where we were at the outset of the cycle few years ago. We are currently trading at about 148% of tangible book versus 121% a year ago.

The net interest margin came in at 3.55% for the first six months, compared to 3.59% for the first half of 2012. As we’ve noted before, this is attributable to our consistent ongoing focus on intensively managing towards a lower cost of deposits and borrowings.

Also the margin for the second quarter came in at 3.51%, which is down 11 basis points from the second quarter of last year. As you may expect, we could see a modest decline in the margin over the next couple of quarters. But I do want to point out that the margin for the second quarter just ended is really very normalized for the first time in awhile and that’s because we did not have many non-accruals and workouts where we're adjusting interest accruals.

Today’s press release also reports $135 million increase in FHLB advances and let me provide some color on that. These advances represent short-term thirty-day fixed-rate credits, which we believe given the current interest rate environment coupled with our interest rate risk profile allows us to pick up some short-term net interest income and in turn generate a higher ROE. We do see this as a unique opportunity given short-term rates and would expect these advances to grow beyond the current level.

On the credit side, non-performing assets to total assets were 1.25% at quarter end compared to 1.92% a year ago. A further note regarding credit quality improvement, recent timing was such that the number of what had been charge-offs are finally turning into recoveries. Thanks to the diligent and persistent work by our internal credit and workout groups.

Our folks have been able to renegotiate and work this out of several commercial real estate credits to produce some quite favorable recoveries for us, which in turn has enabled us the release of related reserves and the allowance dropped to 1.50% at quarter end from 1.83% a year ago.

I should point out that these situations involve credit relationships that are all situated in our core market, which is Central Maryland and Northern Virginia, and we see this as encouraging evidence that commercial real estate is making a slow but steady comeback.

We saw modest loan growth of 1.5% to 2% as it was the third straight quarter where growth of total loans outpaced total deposit growth. However, during this period non-interest bearing deposits were up about 5%, which is certainly healthy and consistent with our plans as we've been running off higher cost CDs that we acquired during our CommerceFirst acquisition.

Just to wrap it up, I think the main takeaway here mid-year is that our performance can be summed up in one word, balanced. Net interest income is stable. Non-interest income continues to grow and represents a significant portion of overall revenue and the sources are well diversified.

That said, we did see a bit of a dip in mortgage-related revenue as rates spiked during the last month of the quarter. But that’s not unique to us and on a very positive side, we saw a much greater percentage of our mortgage production in purchase money transactions as the quarter ended.

And last, on the expense side, we continue to maintain good controls and a solid handle on expense management. The efficiency ratio on a non-GAAP basis came in at 60.92% for the quarter, down from 61.55% a year ago and for the first half it was 60.86%. At June 30, 2013, the company had total risk-based capital ratio of 15.55%, a tier 1 risk-based capital ratio of 14.3% and a tier 1 leverage ratio of 11.28%.

That does wrap up my comments. As we have covered most of the other key financial highlights and statistics in our press release. We will now move to your questions. So Laura, we can take the first question and we would appreciate it if you would state your name and company affiliation as you come on. So we know with whom we're speaking.

Question-and-Answer Session

Operator

(Operator Instructions) And our first question comes from Jennifer Demba of SunTrust Robinson Humphrey.

Jennifer Demba - SunTrust Robinson Humphrey

Good afternoon.

Dan Schrider

Good afternoon, Jennifer.

Jennifer Demba - SunTrust Robinson Humphrey

Hi. Just question on mortgage fees, they have been coming down, I guess for the past few quarters. What’s -- if you look at third quarter activity, what level of purchase versus refi activity are you seeing. How much do you expect it to tail off in the second half of this year?

Phil Mantua

To answer the first part of your question, we have typically run, Jennifer, about 65-35 or [65-40] (ph) relationship between refis to purchase money as the quarter was coming to a close and specifically during the month of June that the inverse happened. We were finding that -- and it’s through an effort to drive up the purchase money side of our business.

In terms of how we envision the mortgage-related revenue going forward, we still think that obviously this spike in rates had an effect in the short run. The question is what’s going to happen through the balance of the year.

We have over the course of the last 12 months build our team out. So we have more originators out there than we had previously. So it remains our hope that while we may have some ebbs and flows, we can continue pretty decent flow of mortgage-related revenue and as well as portfolio balances, which obviously have helped on the loan growth side during the course of the first six months.

Jennifer Demba - SunTrust Robinson Humphrey

Okay. Thank you very much.

Phil Mantua

Thank you.

Operator

And our next question is from David Peppard of Janney.

David Peppard - Janney

Good morning. Thanks for taking my call.

Dan Schrider

Hi Dave.

David Peppard - Janney

I was hoping you guys could comment on the loan pipeline a little bit. You had some okay growth linked-quarter and certain less growth than what we saw in the fourth quarter last year and maybe around that pipeline discussion, could you frame out your expectation for yield both coming in and to the total portfolio?

Dan Schrider

Yeah. Dave, this is Dan. I think the second -- second, sometime even the third quarter tends to have a little bit of seasonal impact, particularly in the commercial side of things. If you think about the second quarter, we had about 55% of our production coming out of our commercial effort, about 35% from a portfolio basis coming out of our mortgage group and the remaining 10% consumer related.

So pretty good balance there. We feel pretty good about the pipeline as we enter the third quarter. The opportunities that we have been working on here the last couple of months, 90 days but it goes with our overall expectation that we’re still looking at kind of the middle-single digit loan growth view for the year. And that’s still facing not only the competitive headwinds because it's very much so both on rate and structure but our continued resolution of problem credits which is a good new story and benefited us this quarter, but it obviously is a headwind to portfolio growth as well.

In terms of the -- what’s coming in the portfolio from a yield standpoint and our existing portfolio, I will let Phil comment on that.

Phil Mantua

Dave, how are you?

David Peppard - Janney

Good. Thanks.

Phil Mantua

Good. Yeah, I would say from a standpoint of kind of an overall loan yield view when you mix together the combination of what’s leaving the balance sheet, and of course, what is coming on here to Dan's comments, probably anticipating that the overall yield on the total portfolio would continue to compress.

Now, this quarter the compression was -- looks like about 14 basis points. But we have to remember that there was some anomaly in terms of owner occupied yield in the prior quarter based on some interest accrual reversals that did not reoccur. So, I don’t anticipate the quarter-over-quarter compression to be near to that level. But there will certainly be some, but I would expect it to be less than the double digit basis point change.

David Peppard - Janney

And then also my last question was on credit costs. Looking over the last two years, the loan loss provision has been unconventional. Could you maybe give us a little forward-looking guidance on how you expect the provision expense to be over the next couple quarters?

Dan Schrider

Back to Dan here. I think as we mentioned previously, we’ve got a variety of things working to our favor in terms of the resolution which is generating as we saw this -- this quarter with some release of provision and some net recoveries. And that type of activity could continue in the future, so that creates some lumpiness.

And as we’ve said, previously the driver of new additional provision expenses likely will be driven by growth in the portfolio more so than any inflow of problems because we are seeing that slow to a trickle. So it’s really difficult to paint a picture for you because we could continue to have months or quarters, I should say, where with some growth and modest recoveries or resolutions, where we could have modest expense and then on the flip side, we could continue to see a quarter here and there where we post credit.

I think, best way for me to try to comment is in as again as we’ve said previously we think our current reserve level in that 150 range is kind of near our bottom of where we see -- we follow our methodology but we think that's kind of a prudent level for us going forward in this environment. So, again, it is going to be -- provision expense is going to be driven by loan growth and at a mid single digit expectation coupled with continued credit quality improvement recoveries. It could be lumpy and we could still see some recoveries or credits here and there.

David Peppard - Janney

All right. Thank you. I will jump back in.

Dan Schrider

Thanks.

Operator

And next, we have a question from Bryce Rowe of Robert W. Baird.

Bryce Rowe - Robert W. Baird

Thanks. Good afternoon.

Dan Schrider

Hi Bryce.

Phil Mantua

Good afternoon Bryce.

Bryce Rowe - Robert W. Baird

Couple of questions for you, Phil, if you could just talk through the increase in the FHLB. I know Dan you mentioned that in your prepared comments, but just may be a little bit more detail around that transaction or series of transactions?

Phil Mantua

Sure. Sure. Well, I think as Dan stated in the opening comments, I think we just are in a position that we believe we can take advantage of what the market is giving to us in terms of borrowing on a fairly short-term by 30-day maturity type basis from the Home Loan Bank, anywhere from 17 to 20 basis points on a cost perspective and then just investing that on the other side of balance sheet and probably creating couple 100 basis point spread just in kind of in that match.

So, I mean, I -- there has not been really more than that to it. We’re still in the camp the short-term side of things on the rate curve are not going anywhere for the foreseeable future and so we’re just trying to take advantage of what the market has given us at this point in terms of generating some additional net interest income dollars for the bottom line.

Bryce Rowe - Robert W. Baird

Okay. That’s helpful. Make sense. And then, I guess, more strategic question for you Dan. Obviously, you noted your improved currency in valuation in your prepared remarks, just wondering how you think about that relative to acquisition opportunities, especially in light of some of the increased acquisition activities we’ve seen in smaller cap banks really throughout the country?

Dan Schrider

Yeah. It certainly helps, put it that way in terms of just a little bit of greater purchasing power, while also not being at a level where your upside potential is eroded. I think we’re in really healthy place right now in terms of a value for currency but also a value of our share for a potential acquired institution to hold our currency.

Our strategy remains the same I think and we’re certainly benefiting from our performance coupled with I think of a more favorable view towards high-performing community banks like I stated in my comments. So I’m hoping that that will continue to allow conversations with potential targets to continue and maybe accelerate.

Bryce Rowe - Robert W. Baird

Okay. And then last question. I know you guys had talked in the past about a focus on efficiency, and again you mentioned it in your prepared comments, any more work around efficiency initiatives within the organization?

Dan Schrider

Yeah. Bryce, we’ve -- I think Phil has probably commented on this previously around some branch rationalization, channel rationalization work and we are really in the midst of that. I don’t have anything really more to comment on other than we certainly realize that like other institutions have that getting the most out of very expensive part of our infrastructure which is a branch network is critical. So we are considering all of the things that go along with that and we’ll be acting upon that as well.

Bryce Rowe - Robert W. Baird

Okay. Any timeline, Dan, in terms of when you think you will be finished with the analysis around the rationalization?

Dan Schrider

I think the analytical side of things probably wraps up as we move through the remainder of this year and then any actions that we would take would not probably be part of a wide spread announced action. But as we deal with lease maturities, improved or better locations, consolidations, those types of considerations and that’s the work we are doing now from an analytical side.

Bryce Rowe - Robert W. Baird

Okay. Thank you. I appreciate it.

Dan Schrider

Thanks Bryce.

Operator

(Operator Instructions) I’m showing no further questions. I would like to turn the conference back over to Mr. Schrider for any closing remarks.

Dan Schrider

Thank you, Laura. And thank you all for taking the time to participate with us this afternoon. We remind you that we’d love to receive your feedback to help us evaluate how we’ve done and the value of our call. And you can e-mail your comments to ir@sandyspringbank.com. So thank you for your time and have a great afternoon.

Operator

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

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