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Virginia Commerce Bancorp Inc. (NASDAQ:VCBI)

Q3 2009 Earnings Call

October 27, 2009 11:00 am ET

Executives

Peter Converse - CEO

Mike Anzilotti - President

Randy Anderson - EVP and CLO

Steve Reeder - EVP, Retail Banking

Analysts

Avi Barak - Sandler O'Neill

Michael Rose - Raymond James

Allan Bach - Davenport & Company

Bryce Rowe - Robert W. Baird

Jennifer Demba - SunTrust Robinson

Carter Bundy - Stifel Nicolaus

Brett Scheiner - FBR

Operator

Good day, ladies and gentlemen and welcome to your quarterly earnings call for Virginia Commerce Bancorp Inc. At this time all participants are in a listen-only mode. Later we will conduct a question-and-answer session and instructions will follow at that time. (Operator Instructions). As a reminder, this conference is being recorded.

I would now like to turn the call over to our host Mr. Peter Converse, CEO. Mr. Converse, you may begin.

Peter Converse

Thank you, Joann. Good morning everyone and welcome to this third quarter earnings call of Virginia Commerce Bancorp Inc. The executive officer’s who are available to assist me with the question-and-answer portion of the call later, are Mike Anzilotti, the President of our Holding Company; Randy Anderson, our Chief Lending Officer; Bill Beauchesne, our Chief Financial Officer and Steve Reeder, our EVP for Retail Banking. And again this is Peter Converse speaking.

There is definitely a silver lining to this cloud of an earnings report. On the one hand, I'm very disappointed to report our largest quarterly loss to-date, but this loss due primarily to a $49 million loan loss reserve provision enabled us to increase our allowance for loan losses to a level that provides prudent coverage and an adequate cushion for the risk in our non-performing loans and overall portfolio.

That significant provision increased our reserves to over $70 million, thereby more than doubling our non-performing loan coverage ratio to 80.5% and increasing our allowance from 1.72% of total loans at the prior quarter end to 3.15% as of September 30.

Rather than incrementally increasing our reserves over several quarters in reaction to portfolio and market dynamics, we decided to take the pain in this quarter to raise our allowance to a level inline with current industry and peer standards.

In doing so, we feel, we have now provided an appropriate cushion for existing, as well as unforeseeable portfolio and market risks. The substantial provision should not be interpreted as an indication of heightened concern by management, about large eminent losses or increasing deterioration in the loan portfolio.

While we all know that nothing is certain, especially with respect to current economic and market conditions, management does not anticipate further provisioning of this magnitude. And as a result we feel we are now positioned for a quicker return to profitability. What gives me some level of confidence in being able to say that is the continued improvement we are achieving in our asset quality metrics. The real silver lining in our cloud, or in the cloud.

Our non performing assets and loans 90+ days past due have declined for two consecutive quarters from $162.1 million or 5.84% of total assets as of March 31 to $123.5 million or 4.52% of assets this quarter end. For the current quarter, non-accrual loans decreased by $20.9 million, loans 90+ days past due decreased by $3.3 million.

Other real estate owned did increase by $8.2 million to 36.4 million after 9.1 million in valuation write-downs. However, the write-downs were taken in connection with pending OREO sales which should occur over the next two quarters and would result in reducing OREO by almost a third.

Management remains cautiously optimistic that asset quality will continue to improve, especially considering the current workouts in process and on our unrelenting focus on aggressive problem loan resolution.

Despite, the substantive cost of working our problem loans, we are encouraged by the strength of our core operating earnings, which have increased over the last two quarters from $9.6 million in the first quarter to $12 million this quarter.

We expect that these earnings will remain in the $10 million to $12 million range for the foreseeable future and consider them indicative of our bottom line potential, once we get beyond our credit issues.

Contributing to core earnings performance has been a rising net interest margin which increased sequentially from 3.35% to 3.52%. We expect the margin to be in the 3.5 to 3.6% range in the fourth quarter. The improving margin has benefited from continued improvement in our deposit mix.

Certificates of deposit as a percent of total deposits have declined further from a high of 67.2% last year end to 49.9% this quarter, as we enjoy greater success in generating lower cost deposits. We expect continued improvement in the margin through the end of this year to the 45% level.

Core earnings also continue to benefit from vigilant cost containment exclusive of current collection costs. While absorbing losses year-to-date in addressing problem loans and building reserves, Virginia Commerce Bancorp has remained well capitalized. As of September 30, the Tier 1 Capital ratio was 11.53% and the total qualifying Capital ratio was 12.78%. We do not currently expect to do a capital raise in the new term.

The loss this quarter was disappointing and painful, but it was also strategic in terms of reserve building. We are more optimistic now than at the beginning of the year and feel that the ship is continuing to turn in the right direction. As we get more of our asset quality issues and credit costs behind us, we feel we’ll be able to be more opportunistic in expending our market share.

And that concludes my summary, my comments. So, I’ll open it up to questions from the callers.

Question-and-Answer Session

Operator

(Operator Instructions). One moment for our first question please. We do have a question from Sandler O'Neill. Your line is open.

Avi Barak - Sandler O'Neill

Couple of quick questions on credit, should we expect the provision to return to more of a second

quarter like run-rate borrowing any kind of further dramatic melt down in the economy from here?

Peter Converse

I would hope it doesn’t even return to that.

Avi Barak - Sandler O'Neill

Okay. And then as far as the charge-off this quarter which I guess were about $18 million is that a reasonable run rate or is that also hopefully at high-end?

Peter Converse

No that, I’m going to let Randy answer some of these credit questions, but I’m so excited to answer them I’m going to step in. You know, that 18.9 million this quarter which was just million more than last quarter is not a run rate. As a matter of fact 8.4 million of it was totally unexpected and we certainly are not looking at that kind of run rate from the second or third quarter to continue. But that’s nothing we can guarantee, but we don’t except it.

Avi Barak - Sandler O'Neill

Sure.

Peter Converse

But Randy maybe you want to answer that?

Randy Anderson

You know what I would add Avi is that some of the charge-offs are write-down to the assets that Peter had mentioned that we had some authentic sales in the OREO portfolio We also had some pending resolutions in the number of our problem credits, where properties are going to be completed and sold. And we thought that it was the opportunity at this point in time to write-down the loans to what the realized net sales amount is going to be.

Avi Barak - Sandler O'Neill

Then just a follow-up Peter to your comment regarding no present plans to raise capital. Would that encompass any form of capital rates and whether it includes potential conversion of preferred stock or trust preferred stock into common, just given how the market seems to be still focused on this tangible common ratio versus Tier 1 etcetera?

Peter Converse

Yeah, it doesn’t and we are not contemplating any form of capital raised in the near term.

Operator

Our next question comes from the line of Michael Rose with Raymond James. Your line is open.

Michael Rose - Raymond James

Just to follow-up on the last question about capital. Last quarter you’d mentioned, you didn’t want to see your Q3 ratio fall over 6% over there and if you have a couple more quarters of losses, what kind of level of [tangible comment] are you comfortable with, before you would consider raising capital?

Peter Converse

Well you’re right in the last earnings call in response to, I don’t remember, it was your question or one of the other analysts. I did indicate that 6% was a level that we preferred not to go below of course at that point we weren’t contemplating the kind of strategic provisioning that we did, this quarter. And rest assure, we looked at it long and hard in terms of what the capital impact would be and felt that even though our intangible common equity would go below six as a matter of fact it ended at 5.3 I believe.

We felt that we could absorb that hit to capital and with the prospect for retained earnings, possibly building capital in the near-term we felt we could hold off being overly concerned about reaching 6% and being closer to the five. But, I would say in ultimate response to your question we wouldn’t want it to get below five. I know it sounds like the new six as five, but I think that five is pretty much a limit.

Michael Rose - Raymond James

Okay. And I guess just looking at from the different perspective I mean does that give you enough capital to selectively capitalize on acquisition opportunities, is that the idea, just to deal with things of that nature should they arise?

Peter Converse

Not at all and that’s not on our radar screen.

Michael Rose - Raymond James

Okay, and just finally, if I could. Seeing your loan loss reserve ratio, obviously, significantly bolstered this quarter, when do you think you’d start to run that down and kind of accrete that back in the earnings?

Peter Converse

I would say it’s not unlikely that if that could start happening in the next few quarters as we continue to reduce our non-performing loans.

Operator

Our next question comes from Allan Bach of Davenport & Company. Your line is open.

Allan Bach - Davenport & Company

Just wondering if you have any additional exposure to the shared retirement community charge-off that you mentioned in the press release?

Peter Converse

Randy?

Randy Anderson

We have an additional exposure of about little less than $4 million.

Allan Bach - Davenport & Company

Okay. And then in what percentage terms, what was the hair cut that you took on the OREO write-down in this quarter?

Peter Converse

The OREO write-down was 9.1 million, is that what you are talking about?

Allan Bach - Davenport & Company

What was the base there or in rough percentage terms, how much of the write-down was that from your previous carrying value?

Peter Converse

Well our previous carrying value was about 42.

Allan Bach - Davenport & Company

Okay, very good. And I guess lastly, do you mind talking a little about the terms on the MEGA deposit products that you are offering right now?

Peter Converse

Yeah, absolutely. I think Randy wanted to expand a little bit on the venture about the $9.1 million, which I covered somewhat in my comments, but go ahead Randy.

Randy Anderson

Well as Peter mentioned that, that write-down was driven largely because we now have either real contracts or pending offers that we’re targeting. But it’s also significant to note that that write-down really was targeted on OREO that we took in and several quarters ago. And frankly, with it’s continuing deterioration, predominantly in the residential land market.

Peter Converse

And so, then to the second part of your question was about our MEGA suite of products or the MEGA?

Allan Bach - Davenport & Company

Yes. Just, actually you mentioned the Savings and the Checking in the press release?

Peter Converse

Sure. We’ve got Steve Reeder our EVP for Retail Banking can address that.

Steve Reeder

Good morning now. Currently on our MEGA Savings accounts, we are offering a six month promotional APY of 1.75% and our MEGA Checking account is at 1.5%.

Operator

Our next call comes from the line of [Gordon Beasley] with [Generational Wealth]. Your line is open.

Unidentified Analyst

Couple of quick follow-ups to Randy on the loan portfolio side I may have read the release correctly with regard to one-to-four family residential bucket. I think that last 12 months, we showed about of $70 million increase over the 12 month period. And then the year-to-date we’re looking at a plus $41 million year-to-date. Is it safe to assume at the source of those loan balances, are coming pretty much out of our captive source from your construction loan bucket?

Randy Anderson

Well, some of that is coming out of the construction loan budget as we’re providing in loans to some purchasers. But it’s also coming Gordon as you know the mortgage markets have been very volatile over the last couple of years. And it was following in reaction to continue to service our customer base with the portfolio of loan products in addition to our available-for-sale products.

Unidentified Analyst

Okay.

Randy Anderson

Most of those are going to be they are jumbos, but they are typically A plus credits.

Unidentified Analyst

Okay. I figured it from an underwriting perspective the bulk of them were of the non-conforming nature. And I just want to draw this back to the NPA line on the one-to-four family and if I read it correctly, it looked like there was a blip at June 30, ‘09 $3.8 million outstanding, almost a $3 million increase in the quarter, inside of that single-family. I was wondering if there was a concentration issue, was a couple larger ones that went side ways or where you’re seeing your growth in NPAs in that particular category?

Randy Anderson

Well that really is predominantly related Gordon to two credits with the same borrower’s who’s an investor and single-family [allowance].

Unidentified Analyst

Okay.

Randy Anderson

Okay. These are two loans that were secured by core of one-to-four family loans and they just had to move to non-performing and that counts for the majority of that.

Operator

Our next question comes from the line of [Dan Nicholas] with Robert W. Baird. Your line is open.

Bryce Rowe - Robert W. Baird

Hey, Peter. This is Bryce. Just to kind of expand upon Gordon’s question there just looking at the loan portfolio. We saw a sizable decrease in the construction loan portfolio and more or less offset by gains or increases in the one-to-four family in commercial real estate. Just wondering, what kind of run rate you would expect from I guess from the loan growth perspective here over the next 12 months or so? Do you see continued increases in that one-to-four family portfolio, as well as in the CRE?

Randy Anderson

I think you can expect Bryce that you’re going to see pretty much the same pace of the increase that we’ve done so far this year, over the next few quarters.

Bryce Rowe - Robert W. Baird

Okay and Randy can you talk about I mean can you talk about the competitive landscape with respect to lending and what I guess terms etcetera that might be on newer commercial real estate loans, are they getting better?

Randy Anderson

Well, the landscape is less competitive certainly because I think lenders are being quite a bit more selective in terms of the transaction that they are looking for and that counts us in that same group, as well. We've raised our pricing metrics and have increased our underwriting rules for commercial real estate loans. In terms of the competitive environment, we've said from our pricing standpoint, we're pretty much, we are not going to go below 6% and really just driving for mid-to-high 6s. And I think from the standpoint of there being limited opportunities out there in the market, when these loans have to roll over or from an acquisition standpoint, I think we can hold the line on that.

Bryce Rowe - Robert W. Baird

Okay, and then one kind of off question. The increase in the allowance with the more aggressive provisioning, was that more a function of internal, like you said Peter strategic or was there kind of a push by regulators to take that higher?

Peter Converse

Well, as you know the regulators always want to see your loan loss reserves, especially for bank with our credit issues high, I would say that we did that in consultation with them. We have a very good working relationship with both our regulators, the Federal Reserve and the State Banking Commission and we ran that by them, before we did it.

Operator

Our next question comes from the Jennifer Demba of SunTrust Robinson. Your line is open.

Jennifer Demba - SunTrust Robinson

Question for you on commercial real estate and can you give us a sense how that portfolio is performing these days and what percentage of your NPA's are in that category?

Peter Converse

Sure, Jennifer. In terms of percentage of NPA's, give me a second. We have about $18.8 million on a portfolio of $1.07 billion. That’s non-performing currently. Then you might note that we had a blip up in 30 to 89 past dues. A portion of that, a significant portion of that was also related to commercial real estate, but most of that increase was isolated in two credits which represented a little shy of 40% of that. There was a credit due in the process. There is a credit there also. They are one payment down in that multiple payments.

Jennifer Demba - SunTrust Robinson

When do most of the CRE loans mature, Randy?

Randy Anderson

We've laid that out, Jennifer.

Peter Converse

Jennifer, it's put out in our press release but remainder of this year we had 28 million that has been matured by year end, 48 through next year, 42 through 2011 and another 73 through 2012.

Operator

(Operator Instructions). We have a question from Carter Bundy of Stifel Nicolaus. Your line is open.

Carter Bundy - Stifel Nicolaus

Question for you. Just sort of continuing on Bryce's question on the reserve building the quarter, what really drove the sort of tactful and deliberate switch from sort of the trend that we’ve seen in the reserve build all of a sudden taking that big a provision in the quarter?

Peter Converse

Well, it was an educational process that we’ve gone through since last year as we play catch up all last year. We felt we’ve got our arms around the extent of our problem credits and became more proactive and in aggressively reserving them, but realizing our provisioning was still, as I termed it more reactive and more catch up and we did have a minimum goal of getting our non-performing loan coverage ratio up to at least 50% or higher by the end of this year which should the end of this quarter.

Just looking at the landscape and seeing what our peer group was doing in terms size, credit concentration and asset quality matrix, we were not nearer them and felt let’s get it out of the way. Hey, guess what, we might be able to be profitable going forward which we get it out of the way now instead of incrementally doing it over the next few quarters.

Carter Bundy - Stifel Nicolaus

Would it be fair to say that this kind of loss content was in the portfolio and it just would have been slow I believe over time as opposed to one quarter?

Peter Converse

Absolutely not.

Carter Bundy - Stifel Nicolaus

Okay.

Peter Converse

No, and that’s why I made a particular point in the earnings release and in my comments which was just a repetition of it that it should not construed in that way at all. We do not see this is as eminent losses or deterioration that is going to use up this significant increase in reserves. As a matter of fact, as we indicated in response to a question that was answered earlier in this call, we can see it's starting to run down in the near term.

Carter Bundy - Stifel Nicolaus

In terms of the pace of downgraded credits in the quarter, what was that if you could talked about that versus 2Q and plus our downgrades?

Peter Converse

Now, what would you say, Randy, to that?

Randy Anderson

What was the second half of that, Carter, I am sorry.

Carter Bundy - Stifel Nicolaus

I am just trying to understand in terms of identifying credits that got downgraded in the quarter.

Randy Anderson

Sure. Yeah I'd say the pace of downgrade in the third quarter was the equivalent to the second quarter. There wasn’t any increase takes.

Carter Bundy - Stifel Nicolaus

Okay

Randy Anderson

I think we were trying to be, you know as it relates to or go back to the charge-offs, we're trying to be proactive and looking out at two quarters or more and take that loss now if we envision that it could be a potential in future.

Carter Bundy - Stifel Nicolaus

Then final question, Randy, is there any way you could give us some of the balances or a rough guesstimate of the balances that you have in non-performing. It sounds like you might have some anticipated sales this quarter or next couple of quarters.

Randy Anderson

Yeah, between OREO and NPA, if we have $18.8.million that we expect to move up into the fourth quarter to another four in the first quarter next year.

Carter Bundy - Stifel Nicolaus

You've essentially taken those haircuts already in the current provision?

Randy Anderson

We have.

Operator

We now have a question from Brett Scheiner with FBR. Your line is open

Brett Scheiner - FBR

Just real quick, do you guys have the balance of restructuring loans in the quarter?

Randy Anderson

I don’t. Brett, that I considerably get that to you. (inaudible) CFO says that's 37.4 million.

Brett Scheiner - FBR

That looks about flat to last quarter. How are those loans performing?

Randy Anderson

That's up about $4 million from last quarter and they are all performing.

Brett Scheiner - FBR

Also, just a quick question is there are bunch of issues around DTAs lately because of a loss in the quarter, do you have any sort of color around deferred tax assets?

Randy Anderson

Our deferred tax assets are fine in terms of any deterioration there that I expected we couldn't turnaround though. We're fine on that.

Operator

(Operator Instruction). Sir, I am sorry no further questions, you may proceed.

Peter Converse

Anybody else? Well, thank you all for your interest and look forward to next quarter's call. Thank you, Joann.

Operator

You’re welcome. Ladies and gentlemen, this does conclude the program. You may now disconnect. Have a great day.

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Source: Virginia Commerce Bancorp Inc. Q3 2009 Earnings Call Transcript
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