Washington Trust Bancorp's (WASH) CEO Joseph MarcAurele on Q2 2014 Results - Earnings Call Transcript

Jul.22.14 | About: Washington Trust (WASH)

Washington Trust Bancorp, Inc (NASDAQ:WASH)

Q2 2014 Earnings Conference Call

July 22, 2014 08:30 ET

Executives

Elizabeth Eckel – SVP, Marketing & IR

Joseph MarcAurele – Chairman & CEO

David Devault – Vice Chairman, Secretary & CFO

Analysts

Mark Fitzgibbon – Sandler O'Neill

Travis Lan – KBW

Taylor Brodarick – Guggenheim Securities

Operator

Good morning and welcome to the Washington Trust Bancorp International’s Conference Call. My name is Betty, I will your operator today. (Operator Instructions). And now I will turn the call over to Elizabeth Eckel, Senior Vice President, Marketing and Investor Relations. Ms. Eckel please go ahead.

Elizabeth Eckel

Thank you Betty. Good morning and welcome to Washington Trust Bancorp Inc’s second quarter 2014 conference call. Washington Trust is publically traded on the NASDAQ/RMAX market under the symbol WASH. This morning’s conference call is being recorded and webcast live. A replay of the call will be available shortly after the conclusion of the call through the corporation’s website at washtrustbankcorp.com under the subhead presentation.

As a reminder the information we provide during today’s call is accurate only as of this date. And you should not rely in today’s statements after the conclusion of the call. Washington Trust Executives Joseph J. MarcAurele, Chairman and Chief Executive Officer; and, David V. Devault, Vice Chairman, Secretary and Chief Financial Officer are hosting today’s call and we will answer questions at the end of the presentation.

And now I’m pleased to introduce Washington Trust’s Chairman and CEO, Joseph MarcAurele.

Joseph MarcAurele

Thank you Beth. Good morning everyone and thank you for joining us today for review of our second quarter results. The positive momentum continued in the second quarter as we once again posted solid earnings as well as good growth across our business lines. Net income for the second quarter totaled 9.8 million or $0.58 per diluted share, earnings are up from the first quarter of this year and from the same quarter a year ago.

Washington Trust’s profitability, asset quality and capitalization metrics will remain strong. Return on average equity was 11.52% while return on average assets increased to 1.22%. Our continued success is attributable to our commitment to a corporate strategy focused on market expansion, corporate business line growth and maximization of what we consider to be our unique business model namely our wealth management division.

I’m pleased to report that our wealth management division achieved a major milestone during the quarter reaching 5 billion in assets under management for the first time in our company’s history. This is a high priority business line for us because it provides a consistent stream of non-interest income. In fact wealth management revenues represented 23% of the company’s total second quarter revenues while we benefited from continued market appreciation, we also had a good new business activity in this quarter.

After a slow start earlier in the year mortgage banking activity increased in the second quarter and we posted solid loan sale gains. Expansion has been a critical part of our mortgage banking growth in the past five years. In August 2009 we opened our first mortgage office outside of our home state of Rhode Island, a production office in Sharon, Massachusetts. Since then we have hired teams of loan officers and opened four additional mortgage offices in Fairfield County in Great Boston areas. This prove to be a key strategic decision as more than 50% of our current mortgage portfolio is now comprised of loans from Massachusetts and Connecticut.

The economies in those markets have proven to be somewhat stronger with higher home values and more robust sales activity than what we have seen in Rhode Island. We believe we’re in the right markets and have a great sales team and we will continue to garner our share in the mortgage market going forward. We have been successful in capitalizing on opportunities to grow the mortgage business while the markets have been favorable. While the pipeline looks healthy going into the third quarter we are well aware of industry predictions of a slowdown and we will continue to monitor trends and adapt accordingly.

Our total commercial loans were up during the quarter by all indicators commercial activity was good. We booked a fair amount of C&I in CRE loans in both line usage and construction loan advances were up. We did however have a number of CRE pay-offs during the quarter which affected the overall portfolio growth. Commercial lending activity and momentum has continued into the third quarter. As mentioned in last quarter’s call we sold our merchant business line to Vantiv in March. It's important to note that while we transitioned our customers merchant processing services to Vantiv we continue to maintain the deposit and loan relationships with those business customers. During the quarter we opened a new retail branch in Johnston, Rhode Island, a town adjacent to Providence and neighbors Cranston, Rhode Island where we have three other branches.

We believe we can continue to grow our deposit base in Rhode Island by opening branches and markets where we currently don’t have a physical presence. Washington Trust currently ranks third in the Rhode Island deposit market share behind Citizens and Bank of America who have almost 70% of the state’s deposit. We really believe that that’s where the opportunity lies for us.

We have opened branches in recent years and they have all met our expectations. Our branch model has changed overtime, we have added new technology to meet the changing customer needs but at the end of the day retail banking remains a people business.

I would now like to ask David Devault to discuss our second quarter [ph] financial results. David?

David Devault

Thank you Joe. Good morning everyone and thanks for joining us in our call today. I will review our second quarter 2014 operating results and financial position as described in our press release yesterday afternoon. Net income was 9.8 million or $0.58 per diluted share in the second quarter of 2014 that compared to net income of $9.3 million in the first quarter or $0.55 per share.

Second quarter 2014 net interest income amounted to $24.5 million up 3% on the linked quarter basis. The net interest margin for the second quarter was 3.35% up one basis point from the first quarter. The growth in net interest income was achieved due to several factors including a 1.2% linked quarter increase in average interest earning assets. This reflects loan growth net of reductions in the securities portfolio. We also benefited from a decline in funding costs resulting from the prepayment of higher rate federal home loan bank advances in March of this year. This was the primary reason for an eight basis point decline in the cost of interest bearing funds from the first quarter to the second quarter.

On the balance sheet total loans rose by $102.5 million or 4% in the quarter. Commercial loans increased by nearly $29 million or 2.2%. The largest growth occurred in the C&I portfolio which rose by $31 million. Residential and consumer loans were up by nearly $74 million on a combined basis or about 6.5% with increases in first mortgages and to a lesser extent home equity lines and loans.

The total loan portfolio stands at $2.58 billion at the end of June. The investment securities portfolio amounted to 355 million at the end of the second quarter down about $34.5 million in the quarter due to the maturity of government agencies securities, COG securities and principle payments received on mortgage backed securities.

Total deposits declined by a modest $6 million or 0.2% in the latest quarter reflecting in part some seasonal outflows near the end of the quarter associated with institutional depositors such as municipalities. The total average balance of in-market deposits excluding wholesale broker time deposits was up by $40 million or 1.7% on a linked quarter basis. Total in-market deposits are up over 9% in the last 12 months.

Federal home loan bank borrowings increased by a $119 million in the latest quarter primarily to fund loan growth. On the income statement non-interest income totaled $12.8 million in the second quarter compared to 19.4 million in the first quarter. The linked quarter comparison contain some items that we need to consider to fully understand the quarterly change. Among them in the first quarter of this year we recorded a net gain of $6.3 million on the sale of our merchant processing services business line. In addition prior to the consummation of that business line sale in early March, we had recognized merchant processing fee revenue of $1.3 million.

Excluding these items recognized in the first quarter non-interest income was up a 1 million or 8% on the linked quarter basis. In our wealth management business second quarter revenues were up by $465,000 or 6% compared to the first quarter that included a $317,000 increase in transaction based revenues primarily due to an increase in fees for tax related services which are typically concentrated in the second quarter.

As Joe mentioned wealth management assets were up by $204 million in the quarter and exceeded $5 billion at the end of June, the first time we have exceeded $5 billion in our history.

Total wealth management revenues for the latest quarter were up nearly 8% compared to the same quarter last year. Our mortgage banking business showed a nice rebound from the first quarter level mortgage banking revenues in the form of net gains on loan sales and commissions received on loans originated for others were up by $468,000 or 38% on a linked quarter basis.

We benefited from higher levels of mortgage loan origination and sales activity reflecting a seasonal increase in home purchases as well as benefiting from somewhat lower market interest rates compared to earlier quarters.

Residential mortgage loans sold into the secondary market rose from $57 million in the first quarter to $77 million in the latest quarter. Also in non-interest income net gains on interest rate swap contracts declined by just under $300,000 on a linked quarter basis as there were fewer customer related interest rate swap transactions in the most recent quarter.

So, total core revenues on a pro forma basis excluding the revenues associated with the merchant processing business sold in the first quarter and that related gain were up by $1.6 million or 4.6% on a linked quarter basis. Looking at net interest expenses total net interest expenses in the latest quarter were $22.4 million down from 29.3 million in the first quarter. Again as someone time items we need to consider to fully understand this change.

In the first quarter of this year we recognized $6.3 million in debt prepayment penalty expense related to the prepayment of just over $99 million of Federal Home Loan Bank advances. We also incurred $355,000 of divesture related cost in the first quarter in connection with the sale of merchant processing services business line and finally we had recognized $1.1 million of ongoing merchant processing expenses in the first quarter prior to the sale of that business line.

So excluding these items recognized in the first quarter non-interest expenses in the second quarter were up about a $855,000 or 4%. Looking at linked quarter changes we see salaries and employee benefit costs were up $500,000 or above 4% mostly due to higher transaction based compensation due to higher mortgage origination volume. We also saw an increase in advertising and promotional costs which were up just over $300,000 compared to the first quarter. That was due to promotion efforts that were not in effect in the first quarter and promotional seasonal promotions and matters related to our new branch. Total year-to-date expense is $772,000 and we would expect the full year cost for advertising and promotion to come in, in the range of $1.5 million to $1.6 million.

Looking at asset quality, the results for the quarter showed a continuation of very manageable levels of asset quality indicators, non-performing loans declined $5 million, 2.49% of total loans down from 0.55% at March 31. Total past due loans picked up by about $3 million to $21.1 million or 0.82% of total loans compared to 0.73% of total loans at the end of the first quarter. Our loan loss provision charge to earnings was $450,000 in the second quarter and that compared to $300,000 in the first quarter. Net charges offs were $224,000 in the second quarter and the net charges off for the first half of this year amount to just over a $1 million representing a loss rate of 0.11% of average loans on an annualized basis.

The allowance for loan losses stood at 1.06% of total loans at the end of the second quarter down three basis points from the end of the first quarter. Total shareholders’ equity for the corporation is $343.5 million at the end of the second quarter, an increase of $7.6 million for the quarter.

Corporation in our subsidiary bank continued to remain well capitalized, the total risk based capital ratio for the corporation is 13.24% at June 30th down from 13.56% at March 31st, the tangible equity and the tangible assets ratio was 8.61% down slightly from 8.7% for the first quarter.

In June we declared a quarterly dividend of $0.29 per share and that was paid on July 11th.

That concludes my remarks and I will turn the call back to Chairman and CEO, Joe MarcAurele.

Joseph MarcAurele

Thank you David. Washington Trust had another good quarter and while it's hard to believe we are midway through another year, we are confident this momentum will continue through year-end. We’re committed to the corporate strategy that has led us to our performance thus far and remain dedicated to enhancing the value of our company for our shareholders. Thank you very much for your time this morning. David and I will be happy to answer any questions you may have about the quarter. Thank you.

Question-and-Answer Session

Operator

(Operator Instructions). And our first question comes from Mark Fitzgibbon of Sandler O'Neill. Please go ahead, sir.

Mark Fitzgibbon – Sandler O'Neill

Dave, last quarter you had said on the conference call that you thought the outlook for the net interest margin was likely stable in the near-term. Do you still hold that view?

David Devault

Let’s define stable. I guess we see some pressure on margin in the next couple of quarters where it could drift downward somewhat. So, look at the boast obviously in the second quarter that’s built in now from the significant funding mix change in the first quarter. So, as things play out in what continues to be relatively low interest rate environment, we believe it will still be continued pressure on margin not dramatic but some downward pressure.

Mark Fitzgibbon – Sandler O'Neill

And then secondly I think you had about 6% C&I growth this quarter. I’m curious was that a function of new loans or was it a function of line utilization increasing?

Joseph MarcAurele

I would say it's primarily new loans. I don’t know David, if you have some color around line usage versus new loans.

David Devault

Line increases are part of it but much more than half of the increase is in new loans.

Mark Fitzgibbon – Sandler O'Neill

Okay. And then of the $72 million of net client cash inflows you had in the asset management business, were there any large pieces in there or was it sort of spread out across a lot of different new accounts?

Joseph MarcAurele

There is a mix in there mark, some of it is routine business, some of it is custody accounts which have somewhat lower fee schedule associated with them. So it's a mix. We were encouraged to see the increase in absolute dollars.

Mark Fitzgibbon – Sandler O'Neill

Okay. And then Joe I think you have said that the loan pipelines were healthy, I wondered if you could just share with us the size of those pipelines currently?

Joseph MarcAurele

Sure. The current pipeline is about a 130 million Mark which is up from the beginning of the year and up from the end of the first quarter. So I think it's and that quite frankly is almost all in C&I. So it's a bigger C&I pipeline than it is a CRE pipeline today which we are very happy about.

Mark Fitzgibbon – Sandler O'Neill

And actually I had a question on CRE as well, with sort of all the announcements that you’ve all made with respect to new CRE business I was surprised to see the commercial real estate actually declining about 2% linked quarter. I guess I was curious, was that a function of some big pay-offs or just the--

Joseph MarcAurele

I mean Mark really what has happened is the insurance and the conduit markets have picked up markably in really since the beginning of the year. So what’s happened to us is even sometimes before maturity some of our more high quality borrowers in commercial real estate have opted to place some of these loans more long term with those entities and there also have been some sales of property. It's really a function of both of those things. It's really not lost customers to direct bank competition.

Operator

(Operator Instructions). Our next question comes from the line of Travis Lan of KBW. Please go ahead.

Travis Lan – KBW

Dave, do you have a sense for what percent of the quarter’s more residential mortgage production was fixed rate versus variable?

David Devault

Around 40% fixed and the rest variable.

Travis Lan – KBW

In the variable that you do, is that primarily 51 or is there any type of change in customer preference there for an initial fixed period?

David Devault

We have seen a preference for an inflection point at around a 71 mark for ARMs [ph].

Travis Lan – KBW

And obviously you’ve put up really strong loan growth in two of the last three quarters. I just wonder what are your own expectations for the franchises growth capabilities going forward versus kind of the minimal economic support that you guys may get in your markets?

Joseph MarcAurele

Well we think that our opportunity in both commercial and in residential Travis is really more directed at really the markets adjacent to us in Connecticut and Massachusetts where we have had good success. So I think we’re still looking at certainly mid and maybe somewhat higher single digit total loan growth.

Travis Lan – KBW

And then Joe in response to one of Mark’s questions you had said that the insurance companies and conduits are kind of reengaged on the (indiscernible) side but are they extremely competitive on rate and kind of -- how are you seeing your own --

Joseph MarcAurele

It's really the longer term rates Travis, it's making really -- taking more duration risk than we’re comfortable with but obviously that in today’s rate environment is very attractive to customers.

Operator

And our next question comes from Taylor Brodarick of Guggenheim Securities. Please go ahead, sir.

Taylor Brodarick – Guggenheim Securities

Question on the just comparing first quarter, obviously really strong loan growth this quarter. Joe is there a sense from first quarter how much of that is impacted by either weather or maybe decrease business activity in the first quarter or really just kind of natural momentum investment --

Joseph MarcAurele

Well I do think weather affected our residential mortgage business. I don’t know if it had affected the C&I business or the CRE business as much really Taylor. We were more affected in the first quarter from a commercial growth perspective by the fact that we work through a very big pipeline in the fourth quarter of last year and in fact really needed to reload and we were also obviously affected by the aforementioned payouts that we had either through conduits or insurance providers.

Taylor Brodarick – Guggenheim Securities

And obviously looking at that loan growth and your loan to deposit ratio, how do you think of I assume it's not as simple as we’re at a 100% loan to deposit, we need to sell-off this percentage of loans but how do you think about that for (technical difficulty) like loan sales going forward.

Joseph MarcAurele

Well I would tell you that one of the things that we’re usually focused on right now and have added some capability to particularly our cash management business and obviously the opening of the new branch in Johnston. Deposit growth and at least some reasonable momentum in that is a very, very important to us and one of the reasons why we’re encouraged by the growth in the C&I pipeline is that obviously more deposits come with that. So, that’s obviously on our radar screen and something that we need to think about.

Taylor Brodarick – Guggenheim Securities

And then I guess really last one for me, I think you hit on my margin questions earlier would be -- it looks like about 50 million or so of excess capital, is that about right and is that something that you’re comfortable just holding for whatever opportunities present themselves or any other things we need to think about in the capital management’s front?

David Devault

The capital levels are certainly comfortable [ph] for us. They certainly support continued growth in the loan portfolio including higher risk based assets in the commercial portfolio a greater concentration there. It obviously also gives us more flexibility to do whatever we need to do with the dividend to keep that healthy and continue to payout a good portion of our earnings.

Operator

(Operator Instructions). And as it appears that there are no more questions this will conclude our question and answer session. I would now like to turn the conference back over to Joseph MarcAurele for any closing remarks.

Joseph MarcAurele

Thank you very much. Again we appreciate all of your interest and we look forward to producing the same or superior results for this in the next quarter and for the remainder of the year. So thank you very much and we will be in touch.

Operator

The conference has now concluded. Thank you for attending today’s presentation. You may now disconnect your lines.

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