First State Bancorporation (OTC:FSNM) Q1 2010 Earnings Call April 26, 2010 5:00 PM ET
Patrick Dee – President, Chief Operating Officer
Chris Spencer – Chief Financial Officer
Bain Slack – Keefe, Bruyette & Woods
Welcome to the First State Bancorporation first quarter results conference call. (Operator Instructions) I’d like to turn today’s conference over Mr. Chris Spencer, Chief Financial Officer.
Welcome everyone to First State Bancorporation’s first quarter conference call. First State Bancorporation will provide an online simulcast of this call on our investor site, which is www.fcbnm.com. An online replay will follow immediately after the call.
Myself, Christopher Spencer, Senior Vice President and Chief Financial Officer, H. Patrick Dee, President and Chief Executive Officer, and Jed Fanning, Chief Credit Officer of First State Bancorporation.
The Board of Directors of First State Bancorporation has adopted a policy that will comply with Securities and Exchange Commission regulation FD in all respects. Consequently, this call will proceed under an agenda, which I will announce momentarily. Matters outside the agenda items will not be discussed.
The subject matter of this conference call will include forward-looking statements. These statements are not historical facts and involve risks and uncertainties that could cause First State’s results to differ materially from those contained in such statements.
Our agenda this afternoon, Pat Dee will start with an overview of the quarter. I will then proceed to go over the financial slides that are available on our website. Then Pat will make some concluding remarks and then we’ll open it up for our analyst questions.
With that, I’ll turn it to Pat.
Thank you, Chris. The first quarter was very good for our overall deposit growth. Our liquidity continues to improve and our bank remains adequately capitalized. Asset quality continues to be a challenge, but we are seeing some moderation in certain trends. One noticeable bright spot is that our total potential problem loans decreased for the third quarter in a row.
Our allowance for loan losses now stands at 6.36% of total loans, down very slightly from 6.45% at year-end 2009. Of the total of $120 million in the allowance, over $95 million is not included in our capital ratios.
Despite the improvement in our liquidity, we continue to monitor and manage closely. Chris will provide more detail on the deposit growth, but we’re especially encouraged by the small increase in our core deposits outside of the fluctuations in our broker deposits and deposit listing service deposits.
Our loan totals continue to decline due primarily to payoffs, helping both our liquidity and our capital ratios. Our loan charge off totals moderated a little bit in the first quarter making the second quarter in a row with an improving trend in that area.
Our provision for this quarter was less than the charge offs recorded due primarily to the continuing drop in the loans outstanding in the loan categories that have high loss rates. We continue to aggressively identify problem loans and take write downs where needed. In general, most recent appraisals are reflecting a lower value than previous appraisals, but the decline in value for certain types of properties in various areas is definitely moderating.
We continue to refine our allowance for loan loss methodology and believe that we have an appropriate level in it at this time.
We are seeing slight negative trends in our general commercial real estate loan portfolio, but the quality in these loans is still far better than the construction and land development categories that have been so problematic for us.
Our unemployment level in New Mexico is 8.8%, remains well below the national level of 9.7%. In Arizona, it remains just below the national average at 9.6%.
We reduced our non-interest expenses in the first quarter and we remain focused on further expense reduction opportunities. We are closing two of our smallest branches in the second quarter; one in the Phoenix area and the other in southern New Mexico. Improving our overall efficiency remains a very high priority for us.
We continue to work with KBW to evaluate our capital position and to pursue alternatives to improve our capital numbers. At this time, we still have no concrete plans that we can report, but we’ll continue to evaluate the opportunities that are available.
Although those opportunities are fairly limited at this point in time, we are actively reviewing possible alternatives. We are in the final stages of an arrangement with some outside experts who are assisting us in assessing the remaining risk in our loan portfolio. We believe that information should be very helpful in determining how best to mitigate the losses in our loan portfolio and also in determining future staffing requirements and how much additional capital we might need.
We continue to work very closely with our regulators regarding our formal agreement and believe that we are in or at least very near to being in compliance with almost all of the provisions of that agreement.
We have very regular communications with them to keep them informed and to provide whatever information they might need.
Now, Chris will run through some detail on our results for the quarter, and then I’ll summarize a few thoughts.
We ended the quarter with total assets of approximately $2.9 billion, up $118 million from year-end 2009. This increase was the result of the deposit increase in the quarter, which in turn resulted in an increase in cash and investment securities.
Total loans at March 31, 2010 were just under $1.9 billion, down $120 million from December 31, as we continue to focus on reducing the overall loan portfolio to strengthen liquidity and capital.
We continue to experience a steady quarter over quarter reduction in the loan portfolio from normal amortization and early payoffs of approximately $20 million to $25 million per month. The portfolio was also reduced in the first quarter by charge offs of $25 million and approximately $25 million in transfers to other real estate owned.
We continued to experience decreases in loans in all four states with the largest dollar decrease of approximately $70 million coming from New Mexico with Utah and Arizona each decreasing approximately $19 million followed by Colorado of $11 million.
We were very pleased with our deposit growth in the first quarter, which has historically not been a great quarter for deposit generation, as many customers are making tax payments and public entities experience net cash outflows between dates when property taxes are due.
Total deposits increased $140 million from December 31, driven primarily by our participation in two deposit listing service programs which gather deposits in the form of term CD’s from across the country in increments of $250,000 or less, and therefore are fully insured by FDIC. These programs generated $159 million in new deposits during the quarter with terms generally ranging from 12 to 24 months and rates comparable to that of our existing CD’s.
During the first quarter, we also generated $25 million in additional core deposits from existing customers and repaid $44 million of brokered deposits including CDar’s. Broker deposits have been reduced by $290 million from March 31, 2009 and now total $158 million. The deposit growth in the first quarter was a significant factor in our increased liquidity at March 31.
The majority of the deposit increase shows up in the New Mexico numbers as this is where we account for the deposit listing service CD’s as well as the broker deposits. Net of the deposit listing service and broker deposit activity, New Mexico showed a deposit increase of approximately $37 million or 2%.
Arizona also had an increase of approximately 2% in deposits, while Colorado and Utah continued to see declines as we no longer operate branches in those states. The majority of the Colorado and Utah deposits remaining are certificates of deposit, which are expected to leave the bank as they mature.
Non-interest bearing deposits increased just under $14 million to end the quarter at $365 million and continue to equal approximately 17% of total deposits. The increase in non-interest bearing deposits were shared by both New Mexico and Arizona. Neither Colorado or Utah currently have any non-interest bearing deposits as of March 31.
We are reporting a net loss for the first quarter of $15.7 million or $0.75 per share, once again driven primarily by the provision for loan losses, which totaled $16.2 million. The loss for the first quarter represents the smallest quarterly loss since the fourth quarter of 2008.
First quarter includes gains on investment securities of approximately $2.2 million, which are expected to be fairly minimal in the near future.
As Pat indicated, our operating expenses, over the last four quarters we have reduced the total non-interest expenses by approximately $3.5 million a quarter, or almost 13%. The slight increase in the second quarter of 2009, which you can see on the slide, was due to increases related to the sale of the Colorado branches and additional one time FDIC assessment.
Most categories have experienced steady decreases with the exception of the other real estate owned category, which has increases as we take title to and dispose of more and more properties in conjunction with the resolution of nonperforming loans.
The net interest margin declined slightly in the first quarter to 2.56% from 2.62% in the fourth quarter of 2009 due primarily to new nonaccrual loans and a slightly lower yield on investment securities. We anticipate that the margin will improve slightly going forward from the repayment of $105 million in FHLB advances that occurred in April, which will be fairly neutral to earnings but will reduce earnings assets.
The repayment of these advances has been made possible by our much improved liquidity position and will not decrease our total liquidity as the FHLB in turn released approximately $84 million in investment securities that were pledged against these advances. However, the margin could experience downward pressure in the near future if there are increases in nonaccrual loans.
Risk based capital at the bank remains within the adequately capitalized category at 8.03% at March 31, 2010. Risk rated assets continue to decline and are expected to do so as we continue to deleverage the balance sheet.
The parent company continues to be undercapitalized for regulatory purposes although there are currently no significant ramifications since there are no operations at the holding company other than the investment in the bank.
The ratio continues to run high at over 97% for the first quarter which is being influenced more by the decline in net interest and non-interest income as we continue to be successful in reducing non-interest expenses but to a lesser degree.
Nonperforming assets increased $34.5 million during the first quarter comprised of $28.5 million increase in nonperforming loans, and $6 million during the first quarter owned. The increase in other real estate owned includes approximately $24 million in additions, $15 million in sales and $3 million in write downs to net realizable value, so we continue to be encouraged by the ability to move properties out once they’ve gone in.
We expect to experience sizeable additions to OREO over the next several quarters as nonperforming real estate collateralized loans resolve through foreclosure and deed in lieu.
The $28.5 million increase in nonperforming loans compares to increases in the previous four quarters of $45.3 million, $47.7 million, $17.3 million and $29.1 million in the first, second, third and fourth quarters of 2009 respectively.
By state, the most significant change in nonperforming loans was a $23 million increase in Utah and that increase is almost entirely related to the real estate construction category. Overall, there was no significant change in the percentage of nonperforming loans entirely related to the real estate.
As Pat mentioned, we did see a decrease in our potential problem loans from $173 million at December 31, to $169 million at March 31, and although this is a fairly minor reduction, it is the third quarter in a row in which potential problem loans have declined from a high of $259 million at June 30, 2009. Potential problem loans are loans still accruing interest but have identified weaknesses and often migrate to non-performing status.
The construction portfolio continues to decline; having dropped $94 million in the first quarter with decreases experienced in all portfolio’s and decreases in each type of construction loan. The largest decrease by type was commercial non-owner occupied, which declined $60 million from December 31, 2009.
Overall, the construction portfolio has decreased by $380 million since December 2007, representing a 40% reduction in total construction loans. The overall percentage exposure by type remains relatively unchanged from December 31.
Delinquencies decreased significantly in the current quarter and while delinquencies are often subject to wide swings, they are at the lowest level they have been at in the past four quarters. Delinquency decreased in three of the four states with only Colorado experiencing a slight increase. Arizona and Utah experienced the largest improvements, and Arizona now has the lowest delinquency rate at 1.1% of total loans.
The allowance for loan losses ended the quarter at $120 million, a decrease of $9 million from December 31, and represents 6.36% of loans held for investment and provides a 42% coverage to non-performing loans.
The allowance at December 31 is comprised of approximately $39 million of specifically identified potential loss, $38 million based on historical loss rates and $43 million based on subjective factors. This $81 million of historical loss and subjective factors represents 68% of the allowance at March 31. Again, as Pat mentioned, $96 million of the allowance is currently disallowed for regulatory capital purposes.
Net charge offs for the first quarter totaled $25.2 million down for a second quarter. Charge offs continue to be related primarily to construction related loans representing 69% of total charge offs in the current quarter which is comparable to all of 2009, ending with a little over 76%.
Net charge offs annualized based on first quarter charge offs equal 5.2% of total loans based on the $25.2 million charge offs recorded in the first quarter.
The provision for the quarter was $16.2 million representing the lowest quarterly provision since the third quarter of 2008. Although this decrease in the allowance at a time when non performing loans are still showing an increase, during the last year we have refined our allowance calculation to enable us to track historical losses on real estate loans by type of real estate loan and not just one overall pool as we have historically.
This has allowed us to isolate the construction loans which as shown in previous slides, account for the majority of the charge offs over the last five years and enabled us to apply those loss rates to the remaining construction portfolio, which again as you’ve seen is decreasing faster than other loan categories and not apply that to the entire real estate loan book.
With that, I’ll turn it back to Pat for his concluding comments.
We undoubtedly will continue to face many challenges ahead in this tough operating environment, but we have made good progress in overcoming some of those. We continue to increase the resources devoted to resolving our problem asset portfolio as that remains the single most important focus for us in the near term. We will continue to add resources to that effort as needed.
We remain focused on reducing our expenses wherever possible and have shown some progress in that regard in the first quarter. I’m especially pleased with the efforts being put forth by our senior management group in dealing with the issues that we face, and also I’m very pleased with the determination and commitment that all of our employees have shown in working through the problems we face.
I believe that our customers continue to be very pleased by and large with the service they are receiving.
With that, we’ll open it up for questions.
(Operator Instructions) Your first question comes from Bain Slack – Keefe, Bruyette & Woods.
Bain Slack – Keefe, Bruyette & Woods
Looking at the last quarter trends, I guess we’ve seen the reserve; it looks like just looking at the reserve to loan basis it peaked out. The fourth quarter 6.4%. It looks like now it’s coming down and we’re seeing potential problem loans, it looks like they’re starting to trend down. Do you think the way you’re looking at things now versus looking out down the road, have we peaked out and is this – where do we see the trend go? How fast can it come down from what you’re looking at with regard to the grading and trying to look out going forward?
There’s certainly a lot of signs that we may have peaked with the problem loan totals, the potential problem loan number in particular as kind of a leading indicator and the fact that delinquencies have been fairly stable the past few quarters.
I hesitate to characterize it that we’re definitely over the hump and headed downward in terms of the loan problems that we face. It looks very encouraging at this point and especially in some of the construction related categories. I would say we’re definitely there for example with the residential vertical construction problems. We’ve seen those totals come down dramatically the last couple of years and have certainly seen an improvement in the numbers there.
I think where we’ve still got some unknown exposure going forward is both in the vacant land category as well as general acquisition and development loans. We continue to see some kind of lumpy results coming out of the quality in that A&D portfolio in particular.
We’re also continuing to keep a very close eye on the commercial real estate category in general. To this point, we’ve seen only moderate problems in both the owner occupied and non owner occupied general commercial real estate, but we are seeing a little more delinquency of late there and are keeping a close eye on that.
We have I think relatively little exposure that has not been identified as a problem already for example in the Arizona market. That portfolio is fairly small. But we have a very sizeable commercial real estate portfolio remaining in New Mexico and that’s the one that we need to keep an eye on.
So we’re not quite ready to celebrate just yet although there are some very encouraging positive trends, but I think after another quarter or two, we should be able to be a little more confident about the direction of the problem loans.
Bain Slack – Keefe, Bruyette & Woods
At one point, you have moved to sell some assets and I think obviously the market kind of went away from you. And then in some instances we’ve seen interest kind of coming back. Has there been any discussions with investors or other banks about some loan sales or asset sales that may help to relieve some of the capital pressures?
We have had a little bit of success but it’s pretty much a one off basis here and there with particular loans or particular properties. We have had excellent activity in terms of selling the other real estate once we gain control of that, but at this point, we don’t see a big opportunity for loan sales of a size that would move the capital needle very much.
We continue to look at occasional opportunities here and there and have had some success, but it’s been pretty limited and we don’t see that changing at least in the near term.
Bain Slack – Keefe, Bruyette & Woods
Looking at the trends of the speed at which loans have been coming off and looking down the road at maturities and how fast you can de-lever, in trying to make all other things being equal, is there a sense of where the low point might be with regard to capital and I guess just maybe looking at TC.
The capital level is going to be driven primarily by the amount of provision for loan loss that we need to take going forward. Our own internal projections would show that we’re either pretty close to or perhaps even at the lowest capital level, but again, if we see an uptick in problem loan activity or higher charge off experience that could certainly change.
But right now absent a capital infusion we would expect a fairly consistent capital ratio probably through the end of this year, but it could dip a little lower, and of course in our case, the critical ratio there is at the bank level which as it stands right now is just a little bit above 8%.
So we’re very close to an extremely important threshold and that again is going to be driven more so by the asset quality and the charge offs and provisioning that we need to take. So we’re confident that the loan portfolio is going to continue to come down.
We’re confident the performing loans, the occasional reduction of problem assets either through sale or repayment by the borrower, we continue to work with all of our borrowers where we have real estate as collateral where they’re in a better position to sell it than we are. So we’re trying to strike the right balance between being patient and protecting the bank’s interest in that regard.
So we’re definitely going to see the loan totals drop. Whether they’ll drop enough to keep the capital ratios consistent will depend again mostly on the charge offs and further provisioning that we need to do.
Bain Slack – Keefe, Bruyette & Woods
On the deposits, I know that you discussed building liquidity by market CD’s, but is there any color you can give us on the end market deposit base?
We had actual core deposit growth from the end market deposits during the first quarter. That is pretty unusual. It’s not unusual, but that’s not necessarily the norm during the first quarter of each year.
So we’re extremely pleased with the stability in our existing deposits and our ability to go out and gather some new deposits. Some of those probably came from a failed institution that we had here in New Mexico, but we’ve also seen some real gains in deposits coming from some of the larger banks where the service levels apparently are suffering a little bit.
So we’re cautiously optimistic about the potential, but to have the first quarter show what amounts to some decent core deposit growth from within the market is very encouraging for us.
There are no further questions.
As always, we appreciate everyone’s attention and listening in. Again, we’ve had a quarter that’s far from celebrating it, but it certainly shows some encouraging trends for the future. Our employees continue to be very dedicated towards helping us work through these challenging times that we have and as we’ve noted with the core deposit growth, our customers also are standing with us at this point in time and we appreciate that.
We’ll continue to monitor our problem assets. We’ve made some huge strides there in the past year or so and beefing up ability to monitor the numbers and also to just deal with the sheer number of problem assets that we have.
So we’ve got a team of very dedicated people working on that and we’re pleased with some of the results that we see there. So we undoubtedly will continue to face some challenges, but we think we’re making some very good progress and some very critical areas to help us get through this.
We are going to continue to explore capital opportunities that may provide a real boost to our capital ratios and we’ll certainly make those aware at the point that they become concrete.
So we appreciate the support of our shareholders and especially all of our employees who’ve done an outstanding job of working with our customers and keeping our core business functioning very well in these challenging times.
We’ll look forward to talking again at the end of the second quarter and hopefully we’ll have some more positive trends to report.
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