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National Penn Bancshares (NASDAQ:NPBC)

Q4 2013 Earnings Call

January 23, 2014 1:00 PM ET

Executives

Scott Fainor - President and CEO

Mike Hughes - SEVP and CFO

Analysts

Bob Ramsey

Casey Haire

Frank Schiraldi

Damon DelMonte

Christopher Marinac

Matthew Kelly

David Darst

Blair Brantley

Operator

Good day everyone and welcome to National Penn Bancshares’ Fourth Quarter and Full Year 2013 Earnings Conference Call and Webcast. Please note that this call is being recorded. All callers will be in a listen-only mode during the prepared remarks. At the end of the prepared remarks, there will be a live question-and-answer session with analysts.

This call and the accompanying presentation slides located on National Penn’s Investor Relations website at www.nationalpennbancshares.com will be archived on the site following this call. A transcript of today’s call and the slides will also be furnished on the SEC Form 8-K. National Penn’s earnings release was posted earlier today to National Penn’s Investor Relations website and will also be furnished following this call to the SEC on Form 8-K. This presentation may contain forward-looking information that is intended to be covered by the Safe Harbor provided by the Private Securities Litigation Reform Act of 1995. Please take a moment to review the Safe Harbor slide of the presentation.

It is now my pleasure to turn the conference over to National Penn’s President and CEO, Scott Fainor. Please go ahead sir.

Scott Fainor

Thank you for joining our fourth quarter and full year 2013 earnings webcast conference call today. I am joined by Mike Hughes, our Chief Financial Officer; Sandy Bodnyk, our Chief Risk Officer; and Dave Kennedy, our Chief Banking Officer.

Slide number three in our presentation outlines some of the highlights of our fourth quarter and full year 2013 results. National Penn reported another solid consistent quarter of financial performance as we delivered quarterly adjusted net income of $0.17 per share and a strong 1.19% return on assets. We remain very pleased with these quarterly results and the positive momentum that has been building throughout all of National Penn.

We've been stating in previous quarters that our number one priority is quality loan growth. Loan growth did in fact materialize in the fourth quarter of 2013 as evidenced by our results. And both our commercial and consumer banking teams continue to work diligently to convert their pipelines to closed business as we enter 2014. I remain encouraged and optimistic with the regional economy in Pennsylvania and the confidence building in our customers as they start to make their future investments. The strategic initiatives that we have in place to grow loans and fee income 2014 will continue to be executed upon just as they were in 2013 with a full focus and sense of urgency that you have all come to know of us here at National Penn.

I would be remiss if I didn’t once again talk about our strong asset quality, as I have done in previous quarters and this quarter is no different. The story about asset quality continues at National Penn. And based on the strength of our balance sheet and the solid financial performance for the quarter, National Penn once again declared a first quarter 2014 cash dividend of $0.10 per share.

I’m now going to turn the presentation over to Mike Hughes. Mike?

Mike Hughes

Thanks Scott. I’ll start on Slide 4 and some of the numbers Scott mentioned, $0.17 in the quarter earnings per share and then you can see the strong ROA. And if you look at that slide I think you take away consistency at a high level, the ROA of 1.18 for the year compares to the peer group of about 92 basis points.

Looking at Slide 5 and the details of the restructuring charge, we are going to close nine branches probably early second quarter by the time we get the regulatory notifications out and about a 130 million in deposits in the aggregate for those branches are supermarket locations and five of the nine are really relatively close within two miles of existing Nat Penn locations. The other performers or the other are not underperformers that are not accretive to the franchise. You can see we’ll displace about 112 positions. Those positions include the branches being closed and a reduction in staff and existing branches and has a payback of about one year savings and the restructuring charge offset. We do anticipate that in ’14, we’ll realize about 75% of those savings as I said as the branches are closed over time.

Looking at slide six the margin for the year 3.51 consistent with our guidance in the 3.50 range. As we look forward to 2014 we anticipate some modest compression and believe our margin will be in the 345 range. The fourth quarter, you can see is a 351, did benefit from the prepayment of a loan which was carried at a discount. Exclusive of prepayment, the margin would have contracted modestly.

On Slide 7, to Scott’s earlier comments we had a good quarter as it relates to loan growth, commercial loan growth -- growing at an annualized rate of about 5% and you can see on the upper right mortgage balances relatively constant as prepayment speed slowed and we portfolio comparable amounts of originations. Our guidance as it relates to the margin is predicated on low single digit loan growth in 2014. We think 2014 will benefit from new originations but also a reduction in refinance and repayment activity.

Turning to Slide 8, and as you know last quarter we had a large municipal deposit that had a favorable arbitress to the federal home loan. We anticipated that would move out, it did. We had also some seasonality and some other deposit account. So when you look at the second to the fourth quarter, funding relatively comparable mix of deposits in the federal home loan advances.

On Slide 9, asset quality. Classified assets declined 12% in the quarter, 27% year-over-year, net charge-offs comparable on a quarterly basis and then on the bottom of the slide, you can see reserve levels relative to the peers, as well as level of nonperforming loans both compared very favorably. Other income on Slide 10, comparable year-over-year, a good year in wealth management offset by a decline that you might suspect in mortgage banking as refinance activity declined and swap income to a lesser extent. That also was grade driven.

In the quarter, we had some decline in wealth management and that was due to the brokerage business and based upon the reduction and refinance activity did see mortgage banking decline as well. For 2014, we expect modest growth rate, mitigated somewhat by the mortgage banking anticipated reductions.

Looking at Slide 11, and if you look at operating expenses, you look at the right hand side of that slide, $211 million in 2013 versus $210.3 million, virtually flat year-over-year. If you look at National Penn over the last four years, that is the same trend, operated expenses relatively flat and considering the benefit of the restructuring charge and the related reduction expense, offset by inflationary pressures such as healthcare, PA Shares Tax and general merit increases, our goal is to keep operating expenses relatively flat in 2014. Per quarter expenses were down, benefitted the reduction -- related reduction and the compensation or commission expense in mortgage and brokerage as well as normal yearend adjustments.

And then on Slide 12, if you look at capital ratios. When you look at total risk base year-over-year, that reduction primarily is a result of the redemption of the retail trust preferred in the first quarter, but looking at that whole slide, gives an indication of the strength of the balance sheet, the amount of capital and arguably excess capital. We remained focused on M&A, and as you know we announced a stock repurchase plan in December of last year and our hope and goal is to execute on that throughout the year.

With that I’ll turn it back to Scott.

Scott Fainor

Thank you, Mike. In summary, we continue to stay focused on building long term shareholder value and Slide 13 outlines some of our thoughts about National Penn; again, consistent performance at a relatively high level, as evidenced by 1.19% return on assets for the fourth quarter. Our ongoing consistent management of the net interest margin, the continuing focus on quality loan growth, which has started to materialize as both Mike and I have stated in our earlier comments today.

And as we stay laser focused on loan growth, we are just as committed to growing revenue in our fee income businesses. We need to keep this fourth quarter, this positive momentum going right into 2014 and I know we will. As I stated in my earlier remarks, I remain encouraged and optimistic in our region in Pennsylvania’s economy and the confidence that is building within the customers that I visited with and from the communication coming back from all of our officers across our footprint. Once again, strong asset quality metrics, as evidenced by our trends and the continuing discipline that we have at National Penn on expense management, as evidenced by our initiatives, announced in December 13, and discussed in detailed by Mike in his earlier comments.

Organic growth and capital management, which includes our announced share buyback and our merger and acquisition strategy that we have talked about for a number of quarters continue to be key strategic initiatives throughout 2014. We have set the tone here at National Penn. We have the sense of urgency and accountability throughout the entire National Penn team. And finally I would like to comment on our corporate relocation plan we have been keeping all of you up-to-date on. Substantial progress has been made and we will have 100% of the employees moving into our new Reading Area Business Center this weekend that we’re scheduled to move into that building.

The move to our headquarters in Allentown is on schedule and will take place this spring. We remain excited about the opportunities. We believe new opportunities will exist by moving into this new location and we believe that the excitement is building with all of our employees who are going to be working together in these buildings and also customers that are going to join National Penn in the future.

I want to now open up the line for questions.

Question-and-Answer Session

Operator

[Operator Instructions]. And we will take our first question from Bob Ramsey. Go ahead your line is open.

Bob Ramsey

I might have missed it; I know you gave some guidance for 2014 but could you talk about expenses. Obviously I know you highlighted the cost savings that are coming out of the branch transaction. But I was just as curious if you had given sort of high level expense guidance for 2014.

Mike Hughes

Yes, Bob, our goal is to keep expenses relatively flat to the current level. We think the benefit provided by the restructuring, offset by some general inflationary class such as healthcare, that our goal is to keep them relatively flat.

Bob Ramsey

Okay, and that would be relatively flat to the fourth quarter level, excluding the one-time charge, is that right?

Mike Hughes

I would say we are in the $53 million range on a quarterly basis.

Bob Ramsey

Okay, got it. And then capital obviously still remains very strong, I know you mentioned the repurchase authorization and that your hope is to execute on that this year. Does that mean that the hope is to execute on that in full or do you just seem to chip away at it?

Scott Fainor

Well, I think we will be opportunistic and we will see what presents itself but generally I would say throughout the year we would like to execute.

Operator

And we will take our next question from Casey Haire. Go ahead your line is open.

Casey Haire

So, following up on the fees I guess, coming off a rough quarter; it sounds like there is a little bit more downside on mortgage banking but I would suspect, given your guidance that fees are up in 2014, if I heard you correctly; that you’re expecting some pretty decent rebounds in your other lines. Is that accurate?

Mike Hughes

I think when you look at the quarter that there were two real items that drove that. Yes, the reduction on mortgage banking of about 700 and then we had -- as you know historically we have had the benefit of this investment in a mezzanine investment fund that we recognized as the underlying investments are harvested. We had one of them in the third quarter and didn’t have one and we didn’t anticipate one in the fourth quarter. So, I think that run rate, when you go back and look at that over time, it’s in that $23 million, $24 million range but some variability based upon rate environment, i.e. mortgage banking and some other issues.

Scott Fainor

And on the wealth side in brokerage, there is some seasonality in fourth quarter, but overall the team is very focused and had an overall strong year in our brokerage and in our other wealth businesses. So there is some seasonality but I would not say that it was a rough quarter from that perspective. I would say that overall for the year, it was strong.

Casey Haire

Got you. Okay and then just switching to NIM, the 345 guide if I heard you correctly, does that -- I mean, what kind of -- what’s the -- what kind of loan pricing pressure does that contemplate as well as I saw the FHLB advances were up. What’s the term and rate on those as well as your willingness to increase that source of funding?

Mike Hughes

I say generally that loan pricing, although competitive has been relatively constant for us over the last several quarters and the real driver of that margin at 345 is the low single-digit loan growth across the board. I’d say that’s the big driver. You are going to get some benefit from federal home loan bank reprising. You may get some incremental benefit from deposit pricing, but really the driver of that margin is the loan growth.

Scott Fainor

And I just want to add a point to Mike, remember in the quarter just as we talked about in the third quarter, we had a very large municipal deposit come in, which reduced to federal home loan bank borrowings. That was a good trade for us. At the same time -- and we took care of a good customer. At the same time that deposit, as scheduled left the bank and then was replaced with federal home loan bank borrowings. So I just want to be clear on that.

Mike Hughes

And because it was short term in nature and the arbitrage or the difference to federal home loan wasn’t significant. That really I don’t think would move to March.

Casey Haire

Understood, okay. And then just last one. I guess on capital are you -- can you give us an update in terms of chatter levels in your footprint, as well as a lot – we’ve seen a lot of M&A activity on the smaller side of bank targets. I know you guys are looking a little bit bigger but is there any thought to maybe move a little bit more downstream and just to get things going on the M&A front.

Scott Fainor

I would say that we’re continuing to have more conversations. I would also say that our focus continues to be that $500 million asset size bank in larger. We’re looking in footprint and contiguous county which also takes you over contiguous state. And from that standpoint our focus has always been to continue to have the conversations, look for the opportunities and we believe it would be a good thing to participate in the consolidation of the industry and we believe we will have that opportunity.

Mike Hughes

And I would say generally we’re going to stick with that level of $500 million or greater and probably not drop down.

Operator

And we’ll take our next question from Frank Schiraldi. Go ahead your line is open.

Frank Schiraldi

Just a couple of questions. First, to follow up on the margin and the muni deposit; how large was that short term municipal deposit, because deposits obviously were down pretty significantly and the period sequentially.

Scott Fainor

Yes, I think you would see two things Frank, as it related to deposit decline. You have normal seasonal decline in municipal deposits, and that was probably half that decline and the other half was the larger deposit account.

Frank Schiraldi

Okay. And looking at average balances, it seemed like there could be -- either the short-term muni deposit or the seasonal deposits might have flowed out sort of late in the quarter?

Scott Fainor

That is correct.

Frank Schiraldi

So should we sort of assume in terms of the margin, you mentioned that prepayment on the loan and then you got sort of this movement quarter-over-quarter, at least on an average basis back to the FHLB borrowings, we should maybe tick down to that or step down to that 345 level pretty quickly and that might be sort of a flattish from there for the rest of the year?

Scott Fainor

I think Frank, maybe we’re just not that good but we’re saying 345 for the year.

Frank Schiraldi

Okay. But that would certainly move the needle, maybe the short term deposit doesn’t move the needle but if you throw on the seasonality of the muni book that should move the needle on the margin, I would think.

Mike Hughes

The muni book, I don’t think materially would move that margin. Your earlier comment about the prepaid loan, that will move it a little bit.

Scott Fainor

And let me just, I just want to be clear on my comment that I made based on Casey’s question in his last comment. I was only commenting because he said the federal home loan bank borrowings had increased and the reason the increase was because the muni deposit went out, just like the decreased coming out of the third quarter, that was my only point.

Frank Schiraldi

And then….

Scott Fainor

Our focus on checking accounts and our focus on low cost core will continue in ‘14. Our plan is within the next couple of weeks we’re going to be launching a brand new relationship checking account for consumers. We’re also pushing small business. So remember we’ve had an ongoing five year focus on growing those checking and low cost core. We’re not moving off of that at all.

Frank Schiraldi

Okay. And then just finally on the expenses, you mentioned, going to try to hold expenses flat again. And you have mentioned in the past certainly that you have the infrastructure in place to be a $10 billion asset institution. I was wondering your thoughts on -- has that bogie changed over the last year? It seems like in some other banks I’ve seen, they certainly talk about that are already over $10 billion have been for a while, that there is a need to build infrastructure now. So I am just wondering if there may be in your opinion that sort of a moving bogie and infrastructure costs may have to increase a bit to get over that hurdle, whenever you do.

Scott Fainor

Yes. I think both of your points are fair Frank. I do think we’ve invested a lot in the infrastructure. I also do think you grow over 10 billion, there is incremental cost. I couldn’t quantify it right now but I think your points there over $10 billion, there will be some more incremental cost.

Operator

And we’ll take the next question from Damon DelMonte. Go ahead your line is open.

Damon DelMonte

My first question just relates to the loan growth outlook. You guys mentioned low single-digit expectation for this year. Can you talk a little bit about which segments you are expecting? I know this quarter you had good CRE growth and pretty decent CNI growth as well. Do you expect that to be in those categories?

Scott Fainor

Our focus is to continue to convert our pipelines to close business in our commercial segments of our business. As you remember that’s the larger, larger segment which drives revenue. We believe that we will stay focused on our consumer businesses. They’re very good to us. We like those loans, but we’re going to continue to look for more growth on our commercial CNI and commercial real estate.

Damon DelMonte

Okay, great and then Mike, just in regard to the margin again, the pre-payment impact for this quarter, what was that on a basis point?

Mike Hughes

About five.

Damon DelMonte

Five basis points, okay and then credit, obviously you continue to be pristine here. How should we think about the provision going forward? You guys are very, very adequately reserved around a 180 basis points of loans. Where can we see that trending towards and how do we look at the provision level for the upcoming quarters?

Mike Hughes

Well Damon, when you look at it right now, $1 million, $1.250 million, $1.5 million quarter over quarter and asset quality as you say has gotten appreciably better, coverages are good. I think what’s going to drive that provision is, when we talk about net charge off level of classifieds and loan growth, probably in ’14 what drives that more than any is loan growth.

Damon DelMonte

Okay, to the extent that loan growths better than you expected and you’re going to add a little bit of additional to the provision.

Mike Hughes

I would think loan growth triggers incremental provision, yes.

Damon DelMonte

Okay, and then for the last question, just to circle back on the buyback, I mean with the way the shares are trading now, in a range of 180-190 of tangible book value, how practical is it for you guys to be buying back stock? What’s the compelling argument to buyback at such a rich price?

Mike Hughes

I think we just have to be opportunistic here and we’re not indicating that we’re going out and buying back [indiscernible] but if you had a block present itself we’d look at it, we’d probably be, as we have been in the past disciplined and thoughtful on how we approach it.

Scott Fainor

Yes, be disciplined, opportunistic and as Mike said we have to look at each opportunity there as it presents itself.

Operator

And we’ll take our next question from Christopher Marinac. Go ahead, your line is open.

Christopher Marinac

Scott and Michael, I was curious if you can give us more color on I guess the loan pipeline and to what extent seasonality is at all a factor this quarter and then if there’s a sort of base sort of growth level that we should expect as minimum this year.

Scott Fainor

Look there always is seasonality in loan growth. Sometimes more of the seasonality occurs on the consumer businesses but from our standpoint we get so much focus for multiple quarters now on building our pipelines and having it convert to good quality loan business in both our commercial portfolios and in consumer and especially commercial as a stated earlier that we’re continuing to look at new opportunities. The state of the economy in Central and Eastern Pennsylvania, I’m optimistic in what I see in regards to some slower levels of growth that are now evident and when I’m out on calls with bankers and/or in the field with people, with customers, they’re continuing to say that they’re more confident. So as this stability is taking place, I think that there’ll be seasonality but we’re looking to capitalize on closing and converting more of our pipelines to close business in ’14.

Christopher Marinac

Okay, are you seeing any change in the utilization from your CNI lines than you would notice that at all [ph]?

Scott Fainor

Lines have been flat and that’s across the board. That I think can provide an opportunity but we’re not seeing it at this point. There’s still a lot of cash on our customers’ balance sheets, but it’s finally starting to materialize into investments that those customers are starting to make within their businesses.

Christopher Marinac

Okay good, and last up, I’m not sure if Mike has mentioned this earlier, but pay downs from existing bar wars, is that largely behind you, or will that still be an issue that you face?

Mike Hughes

Well I think we’ll still have some, but we’re hopeful that the rate of fadeout slows. When you look at classifieds being down, our asset quality is pretty good right now. So we have more credits on a classified basis that we’re trying to rehabilitate and keep rather than exit, I think that’s a function of just the improving economy and the fact that if you look at 2013, some of our largest problem credits, we were successful in resolving those.

Operator

And we’ll go next to Matthew Kelly. Go ahead. Your line is open.

Matthew Kelly

The actual period in pipeline compared to September 30th, how does that compare, for commercial loans?

Scott Fainor

We’ve not come forward with a number on the pipelines. What I can say is the pipeline from the end of ‘13 to the end of ‘12 and against the end of the third quarter was up.

Matthew Kelly

Okay, got you, and then in your service charges on deposits, and trying to recapture some of that lost income that the industry has experienced over the last couple of years, any changes into your pricing structures or pricing programs to kind of recapture some of those that lost income over time and how much of your service charges comes from overdraft and what’s happening with that?

Scott Fainor

Let me answer the first part of your question. First of all, once Durbin and Reg E were put into place several years back, and that had an impact downward on fee income, we immediately started to analyze all products and services around the value that they provide to customers and the contribution that they provide to the bottom line, and we started making adjustments.

Where those adjustments come from is we’re trying to push more of our electronic banking products, more of our mobile banking products into our relationship checking products and into our relationship products outside of checking. That way we can increase profitability per customer and we can increase profitability per each product used within that relationship. So there will be some offset to that but it’s just that it takes a longer period of time to grow the fee income versus how fast it was lost. And going to the second part of the question…

Mike Hughes

I would say probably about two thirds of our service charge income is driven through over capacity.

Matthew Kelly

Okay, got it. And then Scott, on the M&A question, how would you size up the environment right now from banks set up for sale, investment bankers showing you books, conversations. How is that going today versus when we spoke in the summer and fall?

Scott Fainor

Slightly more today than a quarter ago, than a quarter before that.

Operator

And we’ll take our next question from David Darst. Please go ahead.

David Darst

Good morning. I think you covered everything. I thought I’d gotten out of the queue.

Scott Fainor

David, thank you very much.

Operator

And we’ll go next to Blair Brantley. Please go ahead.

Blair Brantley

Question for you. With the [indiscernible] this quarter how much of that was from increased production versus more of pay downs or was it a combination or?

Scott Fainor

I would say it was a combination, and probably more driven by increased production.

Blair Brantley

Okay. And then in terms of pricing looks like you’re [indiscernible] pretty well or is that a trend that you’re kind of seeing right now with the new production versus both coming off?

Scott Fainor

Yes, I’m always competitive. I think our new issue rate on average is relatively comparable quarter-over-quarter.

Blair Brantley

Okay. And then on I heard something within the asset quality section, I’ve heard there was a jump in construction non-accruals. Anything specific going on there? Is that just one credit or?

Scott Fainor

That is one credit and as I said earlier we resolved some of our bigger credits that had been more legacy credits that were in the C&I side. We did have one credit move into non-performer from the commercial real estate side. You are correct.

Operator

And it appears we have no further questions at this time. And I’ll now hand the call back to Mr. Fainor for any closing remarks.

Scott Fainor

We appreciate everyone joining us today on the fourth quarter and year-end ’13 webcast conference call. We’re very pleased that National Penn with the results that we were able to share with you for the fourth quarter and all of 2013. We have positive momentum as we enter into 2014. And I just want to thank everyone for all of your questions. And everyone have a great week and a great weekend and we look forward to speaking with you next quarter. Thank you all very much.

Operator

And this concludes today’s presentation. You may disconnect at any time and have a wonderful afternoon.

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