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Eagle Bancorp, Inc. (NASDAQ:EGBN)

Q3 2013 Results Earnings Call

October 22, 2013 10:00 AM ET

Executives

Jim Langmead - EVP and CFO

Ron Paul - Chairman, President and CEO

Analysts

Scott Valentin - FBR Capital

Stephen Scouten - KBW

Christopher Marinac - FIG Partners

Operator

Good day, ladies and gentlemen, and welcome to the Eagle Bancorp third quarter 2013 earnings conference call. At this time, all participants are in a listen-only mode. Later we’ll have a question-and-answer session and instructions will follow at that time. (Operator Instructions). As a reminder today’s conference is being recorded.

I would now like to turn the conference over to your host for today, Mr. Jim Langmead, Chief Financial Officer. Sir, you may begin.

Jim Langmead

Thank you, and good morning, everyone. Before we begin the presentation, I'd like to remind you that some of the comments made during this call may be considered forward-looking statements. Our Form 10-K for the 2012 fiscal year, our quarterly reports on Forms 10-Q and current reports on Form 8-K identify certain factors that could cause the company's actual results to differ materially from those projected in any forward-looking statements made this morning.

The company does not undertake to update any forward-looking statements as a result of new information or future events or developments. Our periodic reports are available from the company or online on the company’s website or the SEC website.

I would also like to remind you that while we think that our prospects for continued growth and performance are good, it is our policy not to establish with the markets any earnings, margin or balance sheet guidance.

Now I would like to introduce Ron Paul, the Chairman and Chief Executive Officer of Eagle Bancorp.

Ron Paul

Thank you, Jim. I would like to welcome all of you to our earnings call for the third quarter of 2013. We appreciate you calling in this morning and your continued interest in EagleBank. In addition to Jim Langmead also on the call with me this morning is our Chief Credit Officer, Jan Williams. Jim and Jan will both be available later in the call for questions.

I am very pleased to announce record quarterly earnings for EagleBank. Net income for the quarter was $11.8 million, which is a 22% increase over the third quarter of 2012. Our focus on our core banking activities of making loans, taking deposits and building relationships continues to produce balanced results for key performance indicators including core revenue growth, the net interest margins, loan and deposit growth, solid credit quality, the efficiency ratio and our capital position remain our disciplined approach. This collective performance has resulted in consistent earnings per share as well as increases in our ROAA and ROAE.

For the third quarter of 2013, net income available to common shareholders also increased 22% over the third quarter of 2012, growing from $9.5 million to $11.6 million. Fully diluted earnings per share were $0.44 for the quarter, which represents a 10% increase from $0.40 of earnings per share in the third quarter of 2012.

The growth rate of earnings per share includes the impact of those shares issued in the ATM offering and underwriting equity offerings during the fourth quarter of 2012. ROAA has increased from 1% in the third quarter of 2011 to 1.27% in the third quarter of 2012 and is now 1.35% for the most recent quarter, a consistent approach.

ROAE on average equity has also shown a very favorable trend increasing from 12.55% two years ago to 14.37% for the third quarter of 2013, even though we significantly strengthened our common equity position through the two capital raises accomplished in 2012. The very favorable earnings trend over the past four quarters in tandem with the capital raises have led to an increase in tangible book value per share of 15% over the past 12 months to $12.48 at September 30, 2013.

Increases in earning assets, the net interest margin and net interest income were all drivers of revenue during the third quarter. Total revenue for the third quarter increased 10% over the third quarter of 2012 and increased 17% for the nine months period ending September 30, 2013 as compared to the same period of 2012.

On a linked quarter basis revenue was stable in the third quarter as compared to the second quarter of this year as increases in our core spread based lines of business have offset the decreases in the gain on sale of residential mortgages. The residential mortgage business was and is profitable for us but never was a major contributor to the bottom line. So, profitability has increased as we have improved the net interest margin and maintained excellent credit quality.

During 2013, we have continued the balanced controlled growth of both loans and deposits that we have demonstrated over the last several years. Total loans reached $2.8 billion at September 30 and have increased almost $400 million or 17% since September 30, 2012. Loan growth during the third quarter of 2013 was a $105 million or 4% and we produced this growth while maintaining our pricing discipline despite the competitive market.

The increases during the third quarter were in C&I loans, income producing real estate loans, and owner occupied real estate loans. Construction loans remained stable with the prior period.

Deposits increased $96 million or 3.31% during the third quarter. The growth in deposits was $470 million for the third quarter of 2012, a 19% increase. The deposit mix improved as DDA deposits increased $131 million during the third quarter, and now represent 30% of total deposits as compared to 27% at June 30, 2013. This high level of DDA deposits is indicative of our continued commitment to relationship building with our customers in which cross sales of deposits and ancillary products are the key to our marketing and retention strategies.

I'm pleased to note that the recently released FDIC deposit market share statistics for June 30, 2013, EagleBank has one of the highest growth rates of any bank in the market and still holds the largest market share of any community bank in the Washington metropolitan area. It is also critical to note that even with that position, Eagle’s share is only 1.87% of the entire market. So we still have a tremendous opportunity for growth.

The size and potential of this market can be recognized when you realize that our $470 million growth in deposits during the year resulted in just 25 basis point increase in market share. The FDIC report also indicates our high level of efficiency with average deposits of 161 million per branch as compared to an average of 97 million per branch among the 25 largest banks in the market.

EagleBank’s attractive deposit base and composition combined with our ability to continue a disciplined approach to loan pricing and improved mix of earning assets led to a net interest margin for the third quarter of 4.31%. This continues a several period trend of margin improvement as we've increased the NIM from 4.2 in the first quarter of 2013 to 4.27 in the second quarter and now to 4.31 in the third quarter.

We've continued to redeploy liquidity into higher yielding products as our asset mix has moved from held for sale mortgages and cash at the fed to higher levels of portfolio loans. Our loan yields continue to benefit from the use of floors which has been our practice for over 5 years. The loan portfolio average yield during the third quarter of 2013 was 5.48%, down only slightly from 5.52% during the second quarter of this year and loans were originated at an average rate of 4.7% for the quarter.

Competitive pricing in the market is somewhat more rational than a few months ago and we remain committed to the philosophy that maintaining an appropriate margin and risk reward balance is more important in the long run than loan volume and balance sheet growth.

We continue to see attractively priced loan opportunities from customers who value our responsiveness and level of service and with whom we can develop full relationships. We've strong loan pipeline at the this point, which is based on market demand, now the sequestration or the partial shutdown the federal government has had much impact on our customer base.

In fact, we believe the ongoing uncertainty may give us opportunities, because we are known in this market as an active lender that can react quickly to credit requests, we reached out our customers both before and during the shutdown to let them know we stood ready to provide financing assistance as appropriate.

There was a very positive reaction to our proactive approach from both the private sector and the non-profit community. As we have mentioned before, Eagle Bank does not have significant exposure to the government contracting industry. So that aspects of the shutdown has no impact on us.

We continue our disciplined approach to the Alco process and remain committed to our strategy of maintaining a neutral position for rate sensitivity and avoid interest rate risk over the long term. We monitor the duration of the loan portfolio just as we do the securities portfolio.

The average duration of the loan portfolio on a pricing basis is only 26 months. Excluding loans held for sale 56% of our portfolio is in variable or adjustable rate loans. Including fixed rate loans, 30% of the portfolio reprices or matures within 30 days and another 2% within the first year. In total 60% of the portfolio reprices or matures within three years.

All credit quality indicators continue to be very strong consistent with our performance over the last several years. At September 30th NPAs as a percentage of total assets were just 1.11% and non-performance loans were 98 basis points of total loans, both ratios are very favorable and below our range of NPA levels over the last two years. The absolute level of NPAs at the end of the third quarter was up slightly from the second quarter, but the level of NPAs plus loans past due 30 to 89 days is at its lowest level in years. We continue to constantly evaluate the portfolio and take an aggressive approach to placing loans on non-accrual status. Our charge off experience continues to be slightly better, I am sorry, significantly better than industry norms and at its lowest level in several years.

Net charge offs for the third quarter of 2013 period were only 20 basis points on annualized basis and our average over the last four quarters is 29 basis points. The allowance for loan losses was 1.42% at the end of the third quarter. The provision expense is indicated by the growth at our loan portfolio consistent application of our allowance methodology, the current economic climate and our minimal charge off history.

At September 30, 2013 the coverage ratio was 144% as compared to 110% at September 30, 2012 and 122% at December 31, 2012. We believe that we are adequately reserved and our coverage ratio of 144% is conservative when compared to peer group banks. Non-interest income for the third quarter was 5.2 million or an 8% increase over the third quarter of last. For the nine months of the year, non-interest income was $20.4 million and represented a 33% increase over the first nine months of 2012. As expected, based on the rising rate environment and related the clients and refinance mortgage activity, non-interest income for the third quarter is below the lending level of the first and second quarter of 2013.

Revenue from the residential lending division was $2.4 million for the third quarter of 2013 as compared to $2.9 million in the third quarter a year ago. However, other non-interest income was $2.8 million composed primarily of service charges audit fees, 453,000 gain on sale of SBA guaranteed loans as compared to only a 130,000 in SBA related gains in the third quarter of 2012.

It is important to note, as I did earlier in the call, that while revenue from the residential lending division has decreased from earlier this year, it is only a minor impact on our bottom line earnings because it was not a significant portion of our total revenue.

Here are the statistics for the last few years. For the first nine months of 2012, the contribution of the residential lending division comprised 8.6% of total revenue for the company, but 5.8% of net income. For the first nine months of 2013 the contribution to revenue was 8.8% and to net income was 7%. For the third quarter in 2012, the division contributed 7.6% of revenue and 1.4% of net income. For the third quarter of this year, the contribution to revenue was 5.9% and to net income was 1%. We feel that residential mortgage is a contributing product to our overall business, but it's clearly not the key driver to our growth and profitability.

As we mentioned last quarter and discussed previously, the SBA loan line of business is also important to us as we grow non-interest income. But it's also a business for which it is very hard to predict the flows from quarter to quarter. Because our average loan size is larger than from many banks, the product cycle and recognition of games can be rather irregular. So that while the games in the third quarter of 2013 are less than the second quarter we are pleased that on year-to-date, basis our gains have increased from $388,000 to $1.9 million and we have a strong pipeline.

The efficiency ratio for the third quarter was 51.68% and was slight increase from 50.07% in the third quarter of 2012 and from 49.33% in the second quarter of 2013. The increase in the ratio as compared to the two previous quarters of 2013 is due primarily due to the reduced revenue from the residential lending area. We are comfortable with an efficiency ratio of 51.68% given the growth of our company.

Total non-interest expenses for the third quarter were up 13% over the third quarter of 2012 and only a 4% increase over the expense run rate for the first two quarters of 2013. As we have said in the past, expense control is a key factor for us, but we understand the need to spend judiciously as we grow the bank. We will continue to manage expenses prudently and to focus on efficiency.

There is an even flow to the expense run and while we have seen additional expenses related to the new branches open within last year, we have reduced staffing level in other areas including residential lending.

Continuing to maintain a solid organization is critical to producing the growth we anticipate. We continue to believe that an efficiency ratio in the low 50s to high 40s is appropriate for EagleBank given our growth rate and our commitment to always having the proper infrastructure to support growth and manage risk. Our regulatory capital ratios were improved due to the capital added last year and are strengthened quarterly by retained earnings. We remain well capitalized with a total risk-based capital ratio of 13.12% at the September 30, 2013 as compared to 12.24% at September 30, 2012. The tangible common equity ratio at September 30, 2013 was 9.19% which was improved from the 8.88% at September 30, 2012.

As always, we remain committed to our mission of providing outstanding service and creative solutions to our customers. That approach drives our ability to develop new relationships which have increased 8% in the past year and strengthened the bond with our current customers. I also want to mention how much we appreciate the recognition the Bank has received recently.

Within the industry we’ve been named to the Sm-All Stars list by Sandler O'Neil and awarded the Banks Cup by Raymond James. It is most recent survey, SNL has ranked us as number 24 best performing community banks in the U.S. for 2012 and the first 6 months of 2013 in the 5 million to 5 billion asset range. Locally we've been recognized by the Washington Business Journal as one of the 50 fastest growing companies in the Washington metropolitan area.

I would like to thank all of our customers, directors, employees and those of you on the call for your support which has allowed us to achieve this level of success. That concludes my formal remarks. We’ll be pleased to take any questions at this time.

Question-And-Answer Session

Operator

(Operator Instructions). Our first question comes from Scott Valentin from FBR Capital. Your line is open.

Scott Valentin - FBR Capital

Good morning. Thanks for taking my question. Just with regard to the margin, it was up a little bit like I think from the second quarter ‘13 to this quarter about four basis points. I am just curious in terms of competition what you are seeing, I assume those loan yields, you’re able to hold may be loan yields or increase loan yields linked quarter. Just wondering if you can comment on the price competition and maybe underwriting competition you are seeing for both C&I and commercial real estate?

Ron Paul

As I mentioned, Steve the competition is definitely there. I will say that over the past few months the long-end of the competition has changed where we have seen four and a quarter 10 year money, we are not seeing that as much as we did probably six, nine months ago. The competition is there obviously, we play not off the competition, but off the relationship. And for us we've been able to maintain a solid pricing model based on the service that we provide.

The NIM is as you know is a combination of a lot of ALCO processes. As I mentioned in my comments, we've been able to reduce our liquidity at fed funds and we've been able to swap out of the loans held for sale into higher yielding loans. So the constant management to the ALCO process is something that we spend an awful lot of time managing.

Scott Valentin - FBR Capital

Okay. And just a follow-up question, you mentioned no real direct impact from the government shutdowns, sequestration. I’m wondering just you kind of here at least the media reports just a general malaise and uncertainty maybe impacting business, are you seeing that at all with your customers?

Ron Paul

No really not. Obviously everybody is concerned, it’s certainly top of the conservation on a regular basis, but we’ve been able to resolve all those issues by just talking about that we’re here to discuss any issues that you need whether it’s advances on lines of credit when appropriate or advances on contracts. So it really does play into our overall mantra on being entrepreneurial and working with our customers on a regular basis.

Scott Valentin - FBR Capital

Okay. Thanks very much.

Operator

Thank you. Our next question comes from Stephen Scouten from KBW. Your line is open.

Stephen Scouten - KBW

Thanks. Good morning gentlemen. Thanks for taking my call.

Ron Paul

Hey, Steve.

Stephen Scouten - KBW

A follow-up question on the NIM in regards to, as I looked at the details of the NIM it looked like securities yields were up a decent amount this quarter. Was there any change to your, the types of investments that you were putting money towards or any change that occurred there. And also the drop in CD rates, any additional detail that you could garner there?

Ron Paul

Jim?

Jim Langmead

Yeah Steve on the investment portfolio, the mix is essentially the same as at the end of September as it was at the end of June. The pick-up in yields was due to primarily the mortgage-backed portfolio where we have some premium coupon bonds where that premium was much slower as rates went up and the prepayment assumptions have really been reduced in that whole mortgage-backed market as you know. So lesser premium amortization, better yields all together that’s been a sector we’ve been in for some time. And that’s the reason for the increase in yields in the investment portfolio.

On the cost of money, you’re correct. We have reduced in that speedy area, much of that is due to allowing alternative funding sources to roll off. We’ve had, we do manage the banks with some broker deposits. We haven’t needed those broker deposits in some time and the maturities of those monies that we took into the bank 3 or 4 year ago are now rolling off at higher rates that will continue for the next year or so. And so we are getting lower overall funding cost.

Ron Paul

Just if I could add just to that is, let’s not forget the comments that we’ve had in previous quarters on the amount of liquidity that we worked on to retain at the beginning of the year because of the uncertainty of what TAG would happen. So we have been able to reduce that liquidity into higher pricing loans.

Stephen Scouten - KBW

Okay, great. And one other question I had was, have you guys seen any change really in the residential real estate markets in your area, I saw that there was maybe not a large, but a small quarter-over-quarter decline in commercial and residential construction lending. Any market changes that you are seeing or anything to speak of there or is that just some [system] [ph] loans that matures in kind of redeploying that capital?

Ron Paul

Steve, if you look out the window in my office, you’d see more cranes than you’ve ever seen before. It’s unbelievable the amount of development that’s going on, we’re here in Bethesda, but there are pockets in the city that are just absolutely booming. We’ve had accelerated pay-offs in our loans because they are working like they’re suppose to be working. So we have seen a lot of activity, we have seen a lot of demand, we are obviously very cautious because the amount of construction, one could argue there is an overbuilding going on. But again, remember that our whole philosophy on lending is we are not lending into that 300 unit multi-family project. We are lending into the 30 unit boutique project which is really our sweet spot and those units were the condos or rentals or just leasing and selling as fast as they are built.

Stephen Scouten - KBW

Great. Well, thanks for the color guys.

Ron Paul

Okay. Thank you.

Operator

Thank you. (Operator Instructions) Our next question comes from Christopher Marinac from FIG Partners. Your line is open.

Christopher Marinac - FIG Partners

Thanks and good morning. Ron, could you tell us a little bit about I guess the differences between the average loan yields that you are seeing on new transactions, whether you think of a C&I or a commercial real estate transaction compared to the overall yield that we saw in the third quarter?

Ron Paul

Chris, we are definitely seeing a drop in what we are getting paid off versus the new loans that are being booked. But I can tell you it’s not - it’s still significantly higher than the market in the loans that we’re booking. Again it goes back to that customer service; the customer service side is still getting us that three-eighths of a point premium because of what we’re doing in terms of timeliness. What’s interesting for us is that some of the loans that we are booking at higher rates than competitors is larger size loans, which is certainly good for us. But we are seeing a drop, but again we are, on the offset to that we are seeing a significant increase in our DDAs, so the cost of the funds to fund that lower yielding loan is a lot less, as Jim mentioned, our wholesale funding continuous to run off.

So the net side which is obviously what we have been able to maintain the NIM is a balance of a lot of different things. So we are seeing a drop in loan yields, but we are seeing the ability to manage the ALCO process to be able to get us where we need to be.

Christopher Marinac - FIG Partners

Okay. And then as you sort of, are you still focused on five years in terms of maturity as you would be often consider or anything longer than that?

Jim Langmead

Absolutely, we are five years or less, as I said in my comments, we are about 26 months is our average pricing change. We will go out further than five years if required to, but it’s with the reprising model where virtually everyone in our loans have [floors] and that’s been a huge benefit for us over at least five years longer than that. And we really get no push back on that roll.

Christopher Marinac - FIG Partners

Okay. So.…

Ron Paul

The loan growth that we’ve been able to maintain is indicative of the fact that we’re providing a service otherwise we wouldn’t have the double-digits like we are having versus our peers. And it’s just; it really does come back to that customer service side.

Christopher Marinac - FIG Partners

Great. Thanks, again. There is a second question on the mortgage business. As we transition into a full purchased mortgage business, do you expect hiring additional producers there or do you want to manage that piece of the revenue stream to be a larger percentage or about the same going forward?

Jim Langmead

We have always taken the same position, the residential real estate although a great product for us is an ancillary product for us, no different than SBA is. We are, we have been, we will always be spread income bankers. The residential side, we recently were able to hire a very large producer. And we were really honored to be able to get him to join us. But it’s a managed process for us, it’s managing the overhead on a regular basis as I’ve mentioned before unlike some other banks. We only have two offices, so our fix costs are very low, it’s a matter of managing the variable side which we have been able to do significant reductions in staffing needs which is pretty indicative of the industry. So we are being opportunistic, no different than we are throughout the rest of the bank but it’s certainly not driving force behind the bank.

Christopher Marinac - FIG Partners

Okay, very good, thank you for the color.

Operator

Thank you. We have a follow up from Scott Valentin from FBR Capital. Your line is open.

Scott Valentin - FBR Capital

Hey, I apologize, I missed the question. But with regard to the mortgage banking, I know you said it’s a key part of the business or it’s a important part of the business going forward. Just wondering in terms of the mix of originations what you saw during the quarter purchase versus refi? And you also mention maybe some staffing adjustments, if you can talk maybe the impacts you will have on maybe personnel expense going forward?

Ron Paul

Scott, just to clarify the first point, this is not the key part in our business. So I just want to clarify that. We are totally focused on the spread income side, SBA and other non-interest income is a part of it but not a major part of it. Jim you want to touch on some of the revenue side?

Jim Langmead

Scott, just I think the question about the purchase money side. Roughly half of the production in the third quarter was purchase money and that’s a good new story, that’s a higher number than it was in the third quarter of 2012. So the activity we have in purchase money business is increasing.

In terms of staffing we are working hard to kind of rightsize the operation, recognizing that the volume has been less. We certainly think we are making money in this business; we want to continue to get the staffing correct based upon the volumes that are expected going forward. So it is a process month-to-moth and we are very much on top of the situation with regard to estimates of growth and things of that nature. But it's not a significant -- as we said in our comments, not a significant part of our revenue or bottom line performance.

Ron Paul

The other part to that, if I could jump in Scott, is that we have become preferred lenders to a number of the builders and that’s not only out customers, but that’s also throughout the industry. So, it gives us an opportunity to be able to get the first shot at that end loan. We are certainly competitive on our pricing model. I think we excel on our service side. So a lot of the preferred lenders whether it’s a single-family home or a condominium, we have been able to get them to sign up with us as being a preferred lenders. So that -- as the market changes and the refinances slowdown, I think we're way ahead of the curve on the ability for us to get those end loans.

Scott Valentin - FBR Capital

Okay. Thank you very much.

Jim Langmead

Okay.

Operator

Thank you. I show no further questions at this time and I would like to turn the conference back to Mr. Ron Paul for closing remarks.

Ron Paul

Just want to thank everybody for being on the call, looking forward to another great quarter. And it's hard to say now, but happy New Year to everybody and we will speak to you in January.

Operator

Ladies and gentlemen, thank you for your participation in today's conference. This does conclude the program and you may all disconnect at this time.

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