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First Niagara Financial Group, Inc. (NASDAQ:FNFG)

Q4 2009 Earnings Call Transcript

January 21, 2009 11:00 am ET

Executives

John Koelmel - President & CEO

Mike Harrington - CFO

Kevin O'Bryan - SVP & Chief Credit Officer

Analysts

Amanda Larsen - Raymond James & Associates

Damon DelMonte - Keefe, Bruyette & Woods

Theodore Kovaleff - Horwitz & Associates

Travis Lan - Stifel Nicolaus

Matthew Kelley - Sterne Agee & Leach

Rick Weiss - Janney

Operator

Greetings and welcome to the First Niagara's fourth quarter 2009 earnings call. At this time, all participants are in a listen-only mode. (Operator instructions)

As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, John Koelmel, President and Chief Executive Officer for First Niagara. Thank you, Mr. Koelmel, you may begin.

John Koelmel

Thank you, Joel. Good morning, everyone. I appreciate you taking some time to listen to the latest chapter in our story.

With me, as always, is Mike Harrington, our Chief Financial Officer, as well as Kevin O'Bryan, our Chief Credit Officer. Typically, I will take a couple of minutes and give you my views on life and then Mike and Kevin will walk you through more of the details and embellishing, give appropriate color commentary on the results over the fourth quarter.

For me, I've had opportunity to convey similar thinking over the last week or two -- incredibly proud times for us as an organization. I listened again this morning to the continuing chatter about the Wall Street/Main Street divide debate. For us, I think what I would take away from our continuing performance is that we have further differentiated ourselves and consistently delivered for the benefit of both constituencies. 2009 really epitomizes that and I couldn't be more proud of our accomplishments as an organization.

In terms of Main Street, that which really matters and no surprise the dots connect here. We believe we further stepped in and stepped up and delivered for the benefit of our customers, employees as well as our communities.

We reference in the release the 3.5 billion in new loan originations. That's a 20% bump from what was already a very strong outcome in 2008 and obviously is a sharp contrastor, differentiator from the continuing charge that the banks aren't lending and as I said, further evidence that we can continue to further step into the void and in my mind provide real stimulus for the rebound of the economy over the longer-term.

On the jobs front, no question we have further distinguished, differentiated ourselves there certainly locally as well as across our footprint. We added the better part of 300 new jobs would come back in 2009.

We're going to retain plus or minus 700 down in Southeastern Pennsylvania. Later this quarter, with the completion of that transaction in connection with that and continuing growth, expect to add another 200 to 300 on top of that. So quick footings -- we are north of 1000 jobs in terms of addition and retention and again further real stimulation for the benefit of the economy. And we accept our role as corporate citizens.

You've heard me talk about it before very seriously and have provided ample evidence over the last 12 months of our willingness and commitment to provide both financial as well as intellectual capital, in particular in this very challenging and one with many argue worst of times.

The good news is all of that contributes and translates to very solid performance for the benefit of our investors or the Wall Street perspective. How we've managed capital credit, liquidity, the keys to make getting work in this business continues to be very effective, efficient and again further differentiate us. Hence, we have been able to provide very strong and very positive returns for our shareholders over the last two years.

We sit here today, things were starting, the house of cards was starting to crumble, somewhat less visible but in hindsight clear evidence was there two years ago. And if you look at the performance of our stock and the returns we've provided to our shareholders, they well outdistance and well outperform peers in the industry and others with whom we complete.

So, for me, the noise and chatter that we continue to hear coming out of Washington as we sit here positioned to enhance our performance, knowing that our opportunities that lie ahead are even better than what we've been able to deliver on, in particular over the last couple of years, continue to pay close attention, not to be unduly distracted but hopefully to ensure that the politicians, in particular regulatory world doesn't overreact. It doesn't emotionally react, doesn't look for emotional payback and otherwise lose sight of the bigger picture and the grander objective of what's in the long-term best interest of the economy and country at large by too much outreach, too much backlash.

So, we will continue to pay attention but as we've done for the last couple of years, do our best to stay a step ahead or ensure we are anticipating a proactive way the ramifications of that. Our ability to do that is what made 2009 a breakout year for us. No question, we believe we are in an enviable spot and are very much committed to continue to leverage that position of strength and further play offense.

We also get that the bar has been raised, expectations of us are higher. We're moved up rank in terms of the level of peers and the expectation, shareholders and the market and the Street in general has of us. But please know that we are definitely up to that challenge and at this point are very willingly accepting the brighter spotlight.

In terms of the year in general, quarter in particular, I use the phrase "rock solid" to talk about us and where we are and where we're going, what we are doing and certainly very, very relevant there. Mike will walk you through more of this but to achieve record operating earnings north of 100 million, 105 million, 18% over the prior year and do it in our case principle [ph] very simple, straight up, straightforward fashion set as a source of real pride for us.

Obviously, the acquisition of Western PA contributes to that but we are continuing to grow and improve and take a bigger slice of the pie across the legacy footprint and exhibit strong organic growth. You see that in the loan book, you see that on the deposit side of the balance sheet, as Kevin will talk to you. We do all of that by enhancing our credit profile and position, so growth isn't at the expense of credit quality.

In fact, we continue to further differentiate ourselves there as well. Capital, you've heard the story. You've participated and been witness to it in terms of what we've raised, the better part of $1 billion over the last 15 months in and out of TARP and in a position where we can continue to play with real strength. I couldn't be more pleased with the position we've been able to establish in Pennsylvania, Western PA, early returns there.

As we indicate in the release, very positive and above expectation, whether it's on the deposit base that we've been able to retain, whether it's the market response and reception evidenced by the pipeline that we continue to see build on the loan side of the balance sheet. Harleysville, like very much how that's continuing to progress, obviously a different transaction, an even bigger market, more competitive market, but initial response there has been very positive from the market at large, internally right on track to make sure we get that completed and buttoned up later on this quarter.

And in the interim, the Harleysville team continues to do a very nice job of managing that business. So from my chair, I look back with real pride on all that we've accomplished. At the same time, I very enthusiastically look forward to even better days ahead, more normalized times over the next two to three years, confident in the earnings engine that we've accumulated and our ability to further stoke that as we push forward both organically as well as on the acquisition trail, which is why you've seen us take some of the recent steps in terms of the charter flip and bank holding company, as well as the Moody's and S&P ratings to round out the investor snapshot of us in terms of our ability to better access the capital markets at large, debt markets in particular. So I feel very, very good about where we are, the performance we've consistently delivered that has gotten us here, the strength of the position we have.

As I say, I couldn't be more confident and excited about the future. The benefit of that, I'm very pleased to flip it over to Michael who will ham and egg with Kevin on the credit side in particular, otherwise walk you through the details of another we think very nice quarter.

Mike Harrington

All right, thanks, John. Yes, 2009 was a terrific year, as we've reported and John has noted. We begin 2010 in just a terrific spot. I really feel like we are emerging as one of the winners in the industry and we're -- with confidence we are poised to do some great things in 2010 and beyond. In addition to just the bottom-line results, which we are very pleased with the consistency and quality of the performance is also something we take pride in as well. So for Q4, we've already acknowledged the yearly number there at over $100 million, but just for the quarter, it topped the $31 million figure, hit EPS of $0.17. And that full-year operating earnings number was actually one of the best in our history.

I'm going to give you some color on the balance sheet. Right now, I will talk to average balances as I always do and then I will adjust where I need to adjust out the NatCity acquisition to give us an appropriate comparison. But on the business development front, the efforts there have been going really well both from the commercial and the consumer, in the consumer businesses.

Increased volumes are coming from both new customers as well as our existing base. That has turned into or equated into very strong loan growth. So for the year, commercial loans were up by over 9% and that has continued to be driven by double-digit growth in our C&I or the Business book. That's coming from across the franchise, all of the markets and also multiple segments as well, not only middle market but also the small business segment.

That growth has been supported by high single digit growth rates in the commercial real estate arena, so we still continue to see some very good opportunities in that marketplace, especially given the fact that the capital markets have left a severe void there from a financing standpoint. And as we look forward, the pipelines still continue to remain very strong. In fact, they are up 33% over the previous year.

On the consumer side, home equity balances are up 11% in 2009. This is activity, new customers, as well as consistent line usage there. On the residential production front, almost got that number up to $600 million.

As you know, as we've discussed previously, we sell most of that production just because of the duration of assets that are being originated, so we sell most of it into the secondary market. And that's why you see our residential books, residential loans on our balance sheet, see those decreasing over time. Shifting to credit quality, the song remains the same there.

Our experience on the credit front continues to be excellent. This is a direct result of our long-standing disciplined underwriting standards, knowing our markets, doing business in markets that we know and most importantly, our experienced staff. A recap of our stats bears out the quality of the portfolio. NPLs quarter-over-quarter were up modestly and NPLs as a percentage of total loans were actually unchanged at the 0.9% level. That compares very favorably to peers, which as of 9/30 stood at 2.1% versus our 0.9%.

Additionally, total NPAs were actually flat quarter-over-quarter. And as expected, our net charge offs came down considerably. I think we talked about this. The third quarter had the charge-off related to the S&P portfolio. We thought the charge-offs would drop back down in this quarter and in fact they did. If you look at our total-year ratio of net charge offs to total loans at 50 basis points, if I compare that to peers, we are at half of where our peers are running at.

I think peers, as of 9.30, were running at 1.1% net charge-offs to total loans, so very solid performance there. Once again, for the quarter, we more than covered charge-offs with a provision of nearly two times that amount as we continue to still be cautious about the near-term macro environment, so we are just continuing to provide at what we think is an appropriate level.

So why don't I take a breather here and I will turn it over to Kevin to give you some more color on the credit picture?

Kevin O'Bryan

Thanks, Mike. It is good to be able to continue to report that our string of quarters, successful quarters, strong credit-quality quarters, continues. As Mike said, our essential metrics all were stable. Our charge-offs are well within our budgeted limits.

Our allowance to total loans, when you exclude the NatCity portfolio, is at one of its highest levels in many quarters. Our coverage of non-performers is nearly two times peers. And none of this is an accident or happenstance. It's the result of adhering to a very strong set of core credit principles and a disciplined approach to underwriting. And we are finding that this approach is welcome in our new regions.

All our credit opportunities in Western Pennsylvania are falling well within these parameters. Given the market and the analytical concern out there about commercial real estate, I just want to say little bit about that. Commercial real estate here for 2009 outperformed from a credit quality perspective, the other portfolios in the commercial book.

That portfolio does have the commercial real estate portfolio, has the muscle tone, we feel, to sustain that kind of performance. It's nearly 40% multi-family. It's very well diversified beyond that.

We stay away from volatile products and sectors. It's all-in footprint. As the loan size gets bigger, we narrow our risk parameters. And again those concepts, those beliefs have also resonated and are being applied in our new markets and being accepted as the pipeline indicates.

We still think that the legacy Upstate New York portfolio is still sort of muddling around. Still there's no improvement in the overall indicators, but if the behavior workouts of any indication, there is some evidence that liquidity is returning to the system and that's a good thing. We have been able to liquidate a couple of ORE properties and we see more of that coming. There is a little more risk-taking out there and that should bode well for the portfolio going forward.

The NatCity portfolio is performing well within the framework of our due diligence assessment. The ongoing observation we have of the Harleysville portfolio with detailed observation of that portfolio, reaffirms our conclusion that problem loans have been identified and that deterioration beyond our due diligence assessment is unlikely.

We are going into 2010 with our allowance coverage ratios at very strong levels, our charge-offs consistent with our expectations and our problem loans identified. From an overall credit perspective, this was a very good year. It's very challenging times and we feel very good about our prospects for more of the same in 2010.

And with that, I will turn it back over to Mike.

Mike Harrington

All right, Kevin. Great. Total deposits, just changing gears here and talk about deposits for a little bit, up 11%. Core deposits are up 11% in 2009, 9% annualized in the third quarter. This was driven primarily by money market balances, growth in money market balances and business checking.

Over the course of the year, this growth has vastly improved our deposit mix. As we come to the end of the year here, we've got core deposits to total deposits that are over about 70%. And probably more importantly, especially for the future, is our liquidity position continues to be excellent, so as measured by our loans-to-deposits ratio, we still stand at the end of the year at 75%.

This liquidity is something we're going to put to work in the next year, two years and really start to rotate that, what is invested in securities right now will start to rotate into loans and expect our margin to expand because of that activity. Few comments on the P&L, revenue growth in the fourth quarter was really driven by net interest income, which was up 14% from the previous quarter.

A couple of factors affecting that, one was some solid organic loan growth; of course the full effect of the National City acquisition which closed down late third quarter; the full effect of the balance sheet being part of us in the fourth quarter and then expanded net interest margin. On the margin front, we are obviously pleasantly surprised with that 369 number that we posted when we spoke with you. In October, late October, the messaging was certainly not that.

We actually expected the margin to decrease due to the acquisition and the folding of the deposits from the NatCity acquisition. But two things happened that caused us to beat our expectations. One of the first of those was the security yields were better than we had expected. And the second was deposit costs were actually lower than expected. So let me just take a minute to explain those two items. The better security yields were driven in part by some better investment yields that we realized when we took the proceeds from the equity offering, which we did late in the third quarter and invested those dollars.

As we looked at that, yield curve being very steep and the duration of that funding, effectively capital having unlimited duration, we elected to go a little bit longer and take advantage of that steeper yield curve. The other thing that helps us improve our security yields was our expectation around prepayments on the securities portfolio. We actually ended up having slower prepayments than what we expected and because there's premiums associated with these securities, those slower prepayments equated into better yields, so slower premium amortization. So in addition, so the securities, the assets side, a little better performance than we expected.

And then on the deposit front, money market rates unexpectedly decreased in the fourth quarter, more so than we would have anticipated. In fact, even as our last call in October, money market rates really hadn't changed at that point in time. But when we got into November and December, these rates really started to drop in all of our markets, including Western PA.

We followed the market rates down, able to reprice the particularly money market rates. We were able to reprice our total book, which muted or offset the costs, the incremental costs of the Western Pennsylvania Deposits. So all in all, it was a great outcome from a net interest margin standpoint and in my opinion it is really indicative of what the industry is trying to do here, which is to offset some of the pressure that we know is coming on the fee income side.

So these legislative mandates are coming through, changing how we are going to be able to charge fee incomes, especially on overdrafts and the way the industry is going to respond, has responded and will continue to respond as to widen spreads on deposits.

Speaking of the fee income story, the fourth-quarter increase is mostly due to the full-quarter effect of the National City acquisition, but also importantly and actually above better than what we had expected is on the Wealth Management sector and especially in Western PA. We really saw some excellent results there, so you see over a 40% increase in the Wealth Management's investment line on our P&L and a large part of that positive surprise for us came from the Western PA market.

On the expense front, again National City acquisition, the full-quarter effect drove the majority of that increase but also reflected in there is our strategy to invest for the future. So as we've messaged earlier in the call today and also as we've been messaging, we think it's critical for us to build the infrastructure of First Niagara in order to support a much larger balance sheet in the future, so we continue to do that.

Before I wrap things up, just a few other points on the capital front, we are in an excellent position as of quarter end and on a pro forma basis still certainly expect with the closing of Harleysville, expect to have a TCE to TA ratio almost of 8%, which leaves us with plenty of firepower to continue executing our strategy. And part of our long-term capital management plan, recently you probably saw we sought and received first-time credit ratings from Moody's and S&P.

Both of those ratings came in investment-grade, which we are very pleased with. Each of them cited our strong financial performance, excellent credit quality, our excellent capital and liquidity positions. And we are doing all of this because these ratings really set us up, in addition to the Fitch rating, set us up to access a wider part of the capital markets, in particular the debt markets and to use potentially use those as alternative sources of funding for future growth and or give us the ability to refinance our existing debt with PNC which carries a fairly high coupon of 12%.

The credit markets continue to repair themselves. This is the capital credit markets that continue to repair themselves. And we'll plan, at some point here, to refinance that debt at a minimum and then also use the debt markets to fund our future growth. Regarding integration efforts, National City integration is going very well, as was noted previously.

Deposit retentions doing terrifically. We are running at still 95% five months after the closing, so good statistics there. New sales activity continues to build, especially as I noted earlier in the Wealth Management sector which we've been have exceeded our expectations there. Regarding Harleysville, it's all systems go, continue to expect to close the deal in the first quarter. And we look forward to entering that eastern Pennsylvania marketplace as soon as possible.

And finally, let me just talk a little bit about 2010 and how we're viewing 2010. No doubt, planning in this environment is challenging. The political environment is uncertain. We've got emerging or potential regulatory changes related to capital and liquidity, which we've discussed in the past and has been part of why we have been so proactive in raising capital to stay ahead of that.

There are legislative mandates, which I've already noted, around fees and whatever else might come down the pike here. You add to that the uncertainty of the economy generally. I think we are all hopeful that we've turned the corner and it certainly appears that way, but you never know if that's going to be sustainable or if it isn't, if it is or isn't sustainable. That has impact on credit costs and the yield curve as well. So, there's a lot of variables out there, so predicting with a lot of precision whatever outcomes are going to be in 2010 is fraught with danger and some unknowns.

But, with that said, as we've messaged, even as our last call and when we were on the road talking to investors about when we were raising equity, we are very comfortable and confident about the long-term upside of this company and the combined franchise we've assembled here. Although it is no slam dunk, we really expect to achieve some significant EPS growth over the next couple of years.

I think we've noted when we've talked to different audiences that we certainly expect to be able to get into the $1.30 to $1.40, EPS zone within the next few years, just as a function of us leveraging the liquidity we have, growing our balance sheet, growing into the capital that we currently possess, taking the liquidity and using that, transferring it into loans and really capitalizing on the expanded markets that we are now in or will be in shortly. So business margins are bound to expand, relative to that and that's how we're going to improve our earnings.

But with all that said, in order to continue to position ourselves for that expansion, we need to invest in infrastructure. We need to invest in people, technology and build our capacity. Just as we built our capacity on the capital and liquidity fronts, we need to build it internally here in order to maximize the opportunity we have in front of us. So, what does all of that mean for 2010? Well, our view is that we are comfortable with the consensus estimates that are out there right now for us, which produce EPS, which produce close to a 20% increase in EPS in 2010.

And just to wrap things up, again to reiterate what you've already heard, 2009 was a tremendous year for First Niagara. Not only did we produce excellent operating results in probably the most, unequivocally the most challenging economic and banking environments that any of us have ever experienced in our careers, we continue to do that and serve the needs of our customers and communities and never wavering from that responsibility.

And that by itself would have been an achievement but we did much more than that, including two transformational deals and multiple capital raises that positioned us to continue to be part of the solution as we slowly emerged from the economic storm of the last few years.

With that, we'd be glad to take your questions. Joe, if you want to open the lines up, John, Kevin and I would be glad to take questions here.

Question-and-Answer Session

Operator

Thank you. We will now be conducting a question-and-answer session. (Operator instructions) Thank you. Our first question is from the line of Ms. Amanda Larsen from Raymond James. Please proceed with your question.

Amanda Larsen - Raymond James & Associates

Hi everyone.

John Koelmel

Hi Amanda, good morning.

Amanda Larsen - Raymond James & Associates

I just want to talk about the additional hires. Where were they from regionally? Are they loan or deposit-driven hires? Are they teams? Or just a little bit of more color on that, please.

John Koelmel

All of the above. The look-back hires was driven to support, build out and then support the Western PA franchise and doing that in that market. We were fortunate to be able to acquire a good number of former NatCity people that have not formal teams, were many teams in terms of what they had done historically. So that has contributed significantly to the early traction we got, in particular in building up the loan book there. Otherwise, it is there and up here, making sure we've got the resources and the talent and the bench strength we need to support the execution that we are confident we can deliver across the entire franchise, not just there.

And obviously, looking ahead to what's coming with Harleysville and what we believe will be future opportunities to further scale the business, want to ensure we've got the talent and the team that is in place to do that. When we talked many times about movement of market, oftentimes focused from a customer standpoint but we've really been able to move up market on the talent front. The strength of our story plays well there in terms of recruiting even better and higher-quality people to the organization.

Amanda Larsen - Raymond James & Associates

Okay. And then additionally, modeling for additional growth for hires, how should we think about salary expense? Because I'm trying to differentiate, what was from the acquisition and what was new hires? So possibly, Mike, if you could touch upon that?

Mike Harrington

Well, salaries, we would expect salary expense to continue to increase. I mean, as I've noted, the key for us is to build capacity and to do that, as John, just stated, by -- now is the time, we've got the opportunity to hire people. Our balance sheet and our capital position support a much larger balance sheet, so we need to hire the folks; we need to hire the talent. Now is the time to do that. How that translates into actual salary figures, I don't have -- wouldn't want to provide specific numbers around salary. But we're going to continue to see, if you want to talk about efficiency ratio, that's going to keep our efficiency ratio in the near term elevated because that capacity build is going to be something that we need to grow into over time.

John Koelmel

I mean, just as a little broader comment there. I mean, Mike, gave you a dozen disclaimers, generic, that run to the vagaries of modeling and predicting the future. One very specific one for us, incremental to all of that, is we're going to continue to invest in infrastructure to ensure, we've got the capacity and the scale we need in anticipation of what's coming Harleysville and what we are confident will further come as we leverage this business model over the next couple of years. I would much rather have additional talent, additional capacity across the organization in place today and in the near-term future than to try to time that most opportunistically, as it plays itself out over the next 12 to 24 months. So you will see us continue to accelerate our investment in people and systems, processes, infrastructure in general.

So giving you specific guidance, relative to quarter-over-quarter and even year-over-year is all the more challenging, beyond what Michael generally frames. We get it in terms of what we think a more normalized world will look like as you get out into the back end of 11 and certainly 12 and confident that we will be able to produce the types of returns that all of us have talked about and talked around. How we get from here to there? We're going to be ready as soon as we can because we see incoming opportunities and the frequency and volume of them even greater today than they have been for even the last 12 or 18 months.

Amanda Larsen - Raymond James & Associates

Okay. I have one more final question. And it's on the deposit growth that we saw. How do we think about what happened there? Because I know there was, I assume, 25% attrition rate at National City, but you still grew to core deposits. Was that due to the -- what was the combination of factors there between hiring and the attrition factor? If you could just touch upon that?

Mike Harrington

Well, attrition, just given the retention, we are running at 95% retention target. So we are not seeing, I think we -- I hope we've done a good job of trying to distance ourselves from the assumptions we made when we originally built the pricing model to where what we think and how the business is actually running today. So, we are getting excellent retention on core deposits. We're going to see, by design, see some decreases in CDs maybe over the next couple of quarters. But for the most part, we are very pleased and that's why you're seeing good retention in the Western PA market and you are seeing growth in core deposits in the rest of the franchise. So those two equate into a net growth rate.

Amanda Larsen - Raymond James & Associates

Okay. Thanks very much.

Mike Harrington

Thank you, Amanda.

Operator

Our next question comes from the line of Damon DelMonte from Keefe, Bruyette & Woods. Please proceed with your question.

Damon DelMonte - Keefe, Bruyette & Woods

Hey. Good morning guys, how are you?

Mike Harrington

Good. Damon, how about you?

Damon DelMonte - Keefe, Bruyette & Woods

Well, thanks. Mike, I was wondering if you could give us a little color on the margin expectation going forward, given that, we didn't see the decline this quarter. I think you laid out clearly why we didn't see the decline. So are we to assume that this is a decent run rate for the core margin going forward?

Mike Harrington

Yes. To the extent that is predictable. Sure, yes, I think it is a decent run rate. What I would ask you to keep in mind, though, is that, when we close on Harleysville, their margin is running at less than 3%. So we would expect the overall margin, the combined margin to decrease.

Damon DelMonte - Keefe, Bruyette & Woods

Right. Okay. That's helpful. And then could you guys maybe talk a little bit about what you're doing to foster the strong deposit retentions in the Western PA market? Are there special programs you have going on? Would you attribute it to kind of getting on the ground before the deal closed, approach or what's been the key to the strong retention?

John Koelmel

Let's start with -- starting in with people and the team that came and joined us with an incredible sense of excitement and enthusiasm. Obviously, the NatCity environment was a challenge for them, so we've created an opportunity for them to do what they do best, which is hustle and service their customers incredibly well. That customer base was strictly a loyal one. There were all kinds of reasons to walk away from NatCity leading up to the transaction, so that customer base and the employee team merely needed to be able to operate daily with a sense of confidence, conviction and energy.

We think we have been able to provide that, so I give them 95% of the credit. Obviously, the market, meaning the customer market has received us well there. Our story is going well. We've hustled and made a significant investment in branding and positioning and marketing. Frankly, we're not doing anything special per se on the program front. We're just relying on the strength and quality of the team and the overall position of the organization and think it continues to play well.

Our commitment is to further build out that franchise and frankly, better enable us to even further outperform as we push forward, don't by any mean think and made it clear nine months ago, 57 branches isn't enough to do what we do. But we've just got a real crackerjack team that continues to knock it out of the park, day in and day out.

Damon DelMonte - Keefe, Bruyette & Woods

Okay. That's helpful. Thank you. And then lastly, do you guys expect Harleysville to release numbers prior to the closing of the transaction?

Mike Harrington

Yes. We expect them to put a press release, earnings release out next week.

Damon DelMonte - Keefe, Bruyette & Woods

Okay. That's all I have for now. Thank you very much, guys.

Mike Harrington

Thanks, Damon.

Operator

Our next question comes from the line of Theodore Kovaleff from Horwitz and Associates. Please proceed with the question.

Theodore Kovaleff - Horwitz & Associates

Good morning.

Mike Harrington

Good morning, Ted.

Theodore Kovaleff - Horwitz & Associates

I've got a couple of questions for you, one with regard to the Harleysville acquisition price. From what I understand, there is the possibility of the price being lowered if there turned out to be more non-performers or problems than you had originally thought. Where do you stand on that situation at the moment?

John Koelmel

In a really good point. So I will let Kevin talk a little more pointedly to it, but we are in a really good place there, Ted.

Kevin O'Bryan

There has been no material deterioration. Their disclosed numbers indicate that their delinquency ratios continue to be lower their delinquency numbers continue to be lower than we initially set these thresholds and the overall credit pictures there we believe is contained and no deterioration apparent.

John Koelmel

I think when they flopped numbers out September 30th, that delinquency number that is relevant was in the 190 zone, the proxy. They updated that; it was plus or minus 175 million. Both of those are well below the tripwire that was put into the transaction agreement. I am pretty comfortable what you will hear next week is consistent with those kinds of parameters, Ted. So we were merely trying to protect ourselves to the extent the credit world further deteriorated. They've done a wonderful job of working their portfolio and their customer base and managing that effectively. The economy is reasonably settled; they are not meaningfully deteriorated. So I think we are in a really good place all the way around there.

Theodore Kovaleff - Horwitz & Associates

Great. Then my other question is, were you to wish for another acquisition, since we are dealing with hypothetical, what area geographically would you be looking towards?

John Koelmel

Consistent, Ted, in talking about working the footprint that we have already framed with the potential for stretching that in adjacent geographies that we think strategically, or more importantly demographically, would enhance the value of the franchise and enhance our ability to drive more shareholder value. So we're comfortable, confident, opportunities will become available for us, to us in the next couple of years, within today's adjacent geographies, whether that be traditional transactions, assisted deals, continually the bigger guys. As you always hear me say, I'll shake loose some assets overtime here as well. So we're very comfortable and remain all the more focused working the footprint we have, we will never say never, but we are not otherwise widening our view of the world.

Theodore Kovaleff - Horwitz & Associates

Thank you very much.

Operator

(Operator instructions) Our next question comes from the line of Collyn Gilbert of Stifel Nicolaus. Please proceed with your question.

Travis Lan - Stifel Nicolaus

Thanks. This is actually, Travis Lan in for Collyn. How are you guys?

John Koelmel

Travis, how about you?

Travis Lan - Stifel Nicolaus

Good, thanks.

John Koelmel

Travis, I feel sorry for you.

Travis Lan - Stifel Nicolaus

Just a couple of quick ones. First, are you guys narrowing in on a specific close date for the Harleysville?

John Koelmel

We are -- we anticipate that will certainly happen yet this quarter. The specific date, it is wiggling around a little bit, Travis but remain comfortable that it will all get buttoned up later on this quarter.

Travis Lan - Stifel Nicolaus

Okay. And then I know, Ted just asked about the geography of potential deals. What about timing? Do you guys think you're saturated right now, dealing with Harleysville or if something came down the pike sooner than later, you would be able to deal with that?

John Koelmel

Well, execution risk continues to be chatted about externally as well as internally. We're not going to get ahead of ourselves, but witness the earlier commentary. We're working hard to further scale the business in anticipation of that type of opportunity. So, we want to be as ready as we can be as soon as we can be. We want to make sure, we've built out the capacity to process the systems, the team and the bench strength, well on our way we think to being ready to continue to push the shopping cart. So, just when the opportunity presents itself, we'll pick the right item off the shelf and we're continuing to work it. So…

Travis Lan - Stifel Nicolaus

I guess finally, just -- we talked a little bit about NIM going forward. But what lever internally do you guys feel like you have, that you can pull to expand from where we are now?

Mike Harrington

The key lever, I think is just taking the cash flows from the securities and reinvesting in loans. That has a natural improvement in the net interest income and the net interest margin. That's a primary one. I mean, we're getting, rates are getting down to a point where there might not be a lot left to do on the funding side.

Travis Lan - Stifel Nicolaus

Right. Thank you guys very much.

John Koelmel

Thank you, Travis. Anyone else, Joe [ph]?

Operator

Our next question comes from the line of Matthew Kelley [ph] from Sterne Agee & Leach.

John Koelmel

Matt?

Mike Harrington

Matt?

John Koelmel

Matt, can you hear me now?

Matthew Kelley - Sterne Agee & Leach

Yes. Can you guys hear me?

John Koelmel

Yes.

Mike Harrington

Yeah.

Matthew Kelley - Sterne Agee & Leach

Okay. Sorry about that. If you could just talk about the loan growth outlook and how that ties into your -- comfort level with 20% up earnings for the year, can break it down by category, commercial, consumer, how you see each of those buckets progressing throughout the year and what type of overall -- trends you're seeing in growth that outlook?

Mike Harrington

I think generally, on the commercial loans and also certain categories of consumer loans, we expect those to continue the type of growth rates that we've seen this year. That's without, the 20%, earnings per share growth is also a function of us acquiring Harleysville as well. So I'm just talking about the franchise we own as of 12/31/09. So yeah, we would expect those to be on the around 10% or above both from the commercial side and on the consumer side in the home equity area. We're still continuing a plan to allow for the residential portfolio to run down somewhat, so consumer loans might be awash next year as the growth in the home equity portfolio offsets the decrease in the residential portfolio.

Matthew Kelley - Sterne Agee & Leach

Okay. And then on the credit front, charge-offs were down this quarter but you had a pretty big provision expense beyond charge-offs. How much more -- reserved building do you think you need on the core franchise as of 12/31, before you layer in the Harleysville transaction?

Mike Harrington

Well, we're very comfortable with where we are as of 12/31. I mean some of our forecasts, when we're more forecasting potential losses we are doing that within considering the macroeconomic environment. So we feel good about where that's at. I mentioned earlier that our forecast for the macroeconomic environments maybe could be right or wrong, who knows? But I think we're still being cautious about what's to come. And to the extent that we actually get some more evidence that the economy is doing better, then we will have to -- we will adjust accordingly as we go forward.

Matthew Kelley - Sterne Agee & Leach

Okay. And then just one item on the P&L and these other non-interest income is a loss of $262,000?

Mike Harrington

Yes.

Matthew Kelley - Sterne Agee & Leach

Were there any other unique items in that bucket that we should be aware?

Mike Harrington

No, not really. Just it's a combination of whole, a bunch of small items.

Matthew Kelley - Sterne Agee & Leach

Okay.

Mike Harrington

Nothing that is relevant material.

Matthew Kelley - Sterne Agee & Leach

Okay.

John Koelmel

Come on, man. We made $31 million bunch. You'd have--

Mike Harrington

We actually--

John Koelmel

All right. Turn up.

Matthew Kelley - Sterne Agee & Leach

Hi, thank you.

Mike Harrington

Good question, Matt.

John Koelmel

Thanks, it's a bunch.

Operator

Our next question comes from the line of Rick Weiss from Janney. Please proceed with your question.

Rick Weiss - Janney

Hi, good morning. Well, after that, I'm going to go for a big picture I think.

John Koelmel

Will I have to check my materiality threshold here or what?

Rick Weiss - Janney

Exactly. I want to actually almost following up with Matt, if you talk about, on the loan side, what is the competition doing regarding pricing? And also I guess the same question for the loan to deposit side?

Mike Harrington

I'll answer. I give you -- I mean our spread -- I will give you the spread answer from our perspective and Kevin can talk to, maybe Kevin can give you some color on the competition, but from a spread standpoint, we haven't seen -- we've seen spreads especially on commercial loans, continue to stay elevated. So we've been very pleased there, plus 300 basis points all throughout the year. That average has held up really well. So we're still, we're seeing really good opportunities, good deal flow at very good pricing. So I'll stop there on the one side and let Kevin pick it up.

Kevin O'Bryan

Yeah. On the corporate and commercial real estate side, but more on the corporate side, there are a lot of indications that our ability to continue to still March on the competition on the pricing side, those days are going to come to an end. Competitors are coming back, there is more price pressure for viable projects on the corporate side, but we're still able to keep a very robust pipeline, particularly in Western Pennsylvania. There are some very good opportunities coming out of there at pricing levels that are still pretty good. But there is -- there are signs that the competition is coming back into the market, even on commercial real estate.

John Koelmel

Mike's, earlier points though that on the deposit side, I'd like to think the industry has learned the lesson, but maintaining an appropriate spread and getting paid for risk and risk is certainly no more diminished today than it was before is important. So that's a big part of why you're seeing deposit rates move the way they are, whether it be just general economics or in anticipation or response to some of their other regulatory changes etc. So we've seen a dramatic drop in deposit rates. Michael talked before, I mean, money markets, I think we're down about 15 basis points just in November and December. So, we're well-positioned competitively, but certainly aren't going to be on the bleeding edge from that standpoint. So as we see, CDs and other products continuing to roll in the months ahead, I think we feel pretty good about our ability to perpetuate the story that we've created so far.

Rick Weiss - Janney

Okay. And just in terms of, like risks that are inherent in running a bank, where do you see the biggest risk facing First Niagara as you start 2010? Is it regulatory, legislative, interest rate, credit, just kind of keeps you up at night? I guess?

John Koelmel

I'm sleeping well, I really am. I don't mean that for comic relief. I think uncertainties of the Washington scene, broadly defined the -- in particular over the next 6 to 12 months things are incredibly politically influenced right now. Obviously, what happened in Massachusetts earlier this week, a further indication of that? Game is on and who is going to motivate, who is going to be motivated to do what I think is really unclear. So we have also hard to stay above the fray and ensure that the legislative regulatory actions don't become unduly inhibitive in terms of our ability to further differentiate and distinguish. So for us Rick, that's the real wild card. Confident with the capital, liquidity position we have, incredibly confident in the team that is in place or continuing to be built out.

I just want to make sure our hands aren't unduly tied and that those of us who have done it right continue to consistently do so, don't have to pay an undue price, literally and figuratively, in backlash reaction to what has transpired here. So that's the only, I think real wild card for us, for me, anyway, that we'll continue to pay attention to.

Rick Weiss - Janney

Okay. Great. Thank you very much.

John Koelmel

Thank you.

Operator

(Operator instructions) Our next question comes from the line of Matthew Breese from Sterne Agee and Leach. Please proceed with your question.

Matthew Kelley - Sterne Agee & Leach

Hi, guys, I'm sorry, a bigger picture one here for you. It's Matt Kelley again. So looking at -- earnings up 20% in 2009, Harleysville is 14% accretive so I mean core First Niagara is growing 6%. I mean in the out years beyond 2010 -- to get to that 130, 140 type of guidance. How much are you assuming for deals? Because it seems like, if the core franchise is growing single digits, it's still a long way to go?

John Koelmel

We're not, I mean the numbers we are giving you are for the franchise that we have today or will have with the benefit of Harleysville. So we're confident in our ability map to deliver those kind of returns leveraging up, the franchise we have, meaning growing it, building it out to a more complete capacity, given the capital position, capital structure we have, given the market presence we have across upstate and now across Pennsylvania as well. So there is no deal accretion in that presumption. That is just reliant on our ability to execute and perform over the next two or three years. Not to imply, we don't anticipate incremental upside from future deals, but it would be just that, it would be incremental, not a component of driving that kind of outcome.

Matthew Kelley - Sterne Agee & Leach

Okay. But, it does assume a very rapid increase in the organic growth rate of the franchise from what you're essentially guiding to this year?

John Koelmel

Question, I mean obviously coming out this year. We will have Western PA well on hand; we'll have similar comparable results from Philly. So we're hitting the ground late '10 and early '11 full steam ahead, well integrated, well-positioned, hopefully in an even incrementally better economic environment. So we think, we can really crank it up in '11 and going into '12 and beyond. So there's no question we have high expectations of ourselves.

Matthew Kelley - Sterne Agee & Leach

Okay. And just so we are clear, is Harleysville still on track, you think for 14% accretion?

Mike Harrington

Yeah.

John Koelmel

I'm very comfortable with what we've put out there. Our focus, as you can presumably tell is to outperform, what we promise. So yeah, we remain comfortable. That said, they've done a wonderful job of managing the business under challenging conditions in this interim time period. So we're excited about the platform, that we're going to be able to launch forward with and excited that you will see at least those kinds of returns from that market.

Matthew Kelley - Sterne Agee & Leach

Okay. And just last question, have you been able to quantify all the regulatory risks that you outlined in terms of the fees and how that might shake out or decline in that line going forward or any type of changes?

Mike Harrington

Yeah. Well, it's embedded. The guidance, I'm providing from we're providing that 20% accretion. I mean, it's embedded in that. Yes, the answer is yes. So, that kicks in late in the year, so it starts in the third quarter and then in the fourth quarter, you would see the full effect of those changes in how we are able to charge NSF fees and overdraft fees in our checking accounts. So that's when you'll see it show up.

Matthew Kelley - Sterne Agee & Leach

Okay. What is that decline that's embedded in there for overdraft and service charge fees?

Mike Harrington

We are talking about a single line on our P&L. I think what you're going to see is any growth in that line, we will see a diminishment. So wherever we're at in the second, third quarter you're going to see some percentage decreasing that out. Frankly, I don't have what that actual percentage decrease is -- next two quarter.

John Koelmel

I think bigger picture, we're presuming, as you look forward into '11 and '12, the industry and the free market system will effectively work all of that through. So part of the new normalized environment will have embedded in that the ramifications and implications of that. So while, one may envision a temporary differed decline while we all find our way subsequently and politically through the transition here, our presumption is and when we talk about the kind of targets we've got in '11, '12 and beyond, that all of that has worked itself through the system and that there is no net diminution and what the results will be that the industry and the bigger picture will have found a new level that will inherently accommodate incremental fees, restrictions, et cetera. And we all understand we need to enhance profitability to continue to attract capital and grow.

Matthew Kelley - Sterne Agee & Leach

So that gets to my comment earlier about spreads widening. The industry is going to have to find a place to substitute profitability and one of the areas we believe that will happen is in deposit spreads. All right, fair enough. Thank you very much.

John Koelmel

All right. Thanks a brunch, Matt. Good, come back.

Operator

Gentlemen, we have no further questions in the queue at this time.

John Koelmel

Terrific. Thanks so much, Joe. Thank you, everyone. As always, we appreciate your time and interest and continuing support of our story and know that we look forward to bringing the next chapter to you in another 90 days. Have a good one; enjoy.

Operator

This concludes today's teleconference. You may disconnect at this time and thank you for your participation.

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Source: First Niagara Financial Group, Inc. Q4 2009 Earnings Call Transcript
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