Seeking Alpha
We cover over 5K calls/quarter
Profile| Send Message|
( followers)

People's United Financial (NASDAQ:PBCT)

Q4 2011 Earnings Call

January 19, 2012 5:00 pm ET

Executives

John P. Barnes - Chief Executive Officer, President, Director, Member Of Executive Committee, Member Of Treasury And Finance Committee, Member Of Enterprise Risk Committee, Chief Executive Officer Of The People's United Bank, President Of The People's United Bank And Director Of The People's United Bank

Peter Goulding -

Kirk W. Walters - Chief Financial Officer

Analysts

Ken A. Zerbe - Morgan Stanley, Research Division

Mark T. Fitzgibbon - Sandler O'Neill + Partners, L.P., Research Division

David Darst - Guggenheim Securities, LLC, Research Division

Casey Haire - Jefferies & Company, Inc., Research Division

Damon Paul DelMonte - Keefe, Bruyette, & Woods, Inc., Research Division

Michael Young

Michael Turner - Compass Point Research & Trading, LLC, Research Division

Collyn Bement Gilbert - Stifel, Nicolaus & Co., Inc., Research Division

Matthew Brandon Kelley - Sterne Agee & Leach Inc., Research Division

Operator

Good day, ladies and gentlemen, and welcome to the People's United Financial, Inc. Fourth Quarter Earnings Conference Call. My name is Carris, and I will be your cooperator for today. [Operator Instructions] As a reminder, this call is being recorded for replay purposes. And I would now like to turn the presentation over to Mr. Peter Goulding, First Vice President of Corporate Development and Investor Relations for People's United Financial, Inc. Please proceed, sir.

Peter Goulding

Good afternoon. And thank you for joining us today. Jack Barnes, President and Chief Executive Officer; Kirk Walters, our Chief Financial Officer; along with Jeff Hoyt, our Controller, are here with me to review our fourth quarter results. Before we get started, please remember to refer to our forward-looking statements on Slide 1 of our presentation, which is posted on our website, peoples.com, under Investor Relations.

With that, I'll turn the call over to Jack.

John P. Barnes

Thank you, Peter. Good afternoon, everyone. We appreciate you joining us today. Now is a good time of the year to reflect on the past year, as well as our goals for 2012. You will recall that throughout 2011, we have had 2 primary objectives: optimizing existing businesses and efficiently deploying capital. In 2011, we executed well against both of these goals. We've now integrated 5 acquisitions since 2010 and taken out more cuts -- costs than were estimated at the time of each transaction. Integration and systems conversions have become a core competency for this organization.

Further, we've become very focused on organic loan and deposit growth, having entered the large new markets of the Boston and New York City MSAs. Our momentum is based on our 170-year-old brand and outstanding customer service throughout the financial crisis. We offer the full breadth of products and services our customers need while providing a true relationship-based solution. All of this was accomplished while retaining strong asset quality, solid capital levels and a 5% dividend yield.

Our 2011 financial results show substantial improvement. Operating earnings grew $112 million or 89% year-over-year. Likewise, our operating return on average assets was 91 basis points, up 34 basis points or 60% over 2010.

The primary driver behind our improvement has been and continues to be loan and deposit growth per share. During 2011, loans per share grew 20%, and deposits per share grew 18%.

I want to share 6 goals for 2012. First, grow loans in the mid-single digit to low double digits. Second, increase deposits in the mid-single digits. Third, strive to maintain a net interest margin above 4% for the first half of the year and minimize the decline below 4% for the second half. Fourth, reduce operating expenses to a run rate of $790 million to $810 million. Kirk will provide more detail. But at the highest level, we've accomplished 2 things. We have completed benchmarking process for the entire company and instituted a number of organizational changes; and second, we've established an expense management committee, which will manage costs from a horizontal perspective in addition to the traditional vertical business unit perspective. Fifth, we will work to offset 40% to 60% of the impact of Dodd-Frank. We believe we've offset 20% already. And sixth, maintain a fortress balance sheet with continuing excellent credit quality and strong capital levels.

We know that if we execute on our intermediate-term goals, we will on our own, without M&A or interest rate improvement, reach our 55% efficiency ratio goal in mid-2013; and our 125 basis point return on average asset goal in 2014. We believe that there will be significant regulatory undertakings for all institutions in 2012 and later years as the numerous regulations are enacted under Dodd-Frank.

As we've said in the past, this is a significant tax on the industry, and we'll inevitably contribute to the fatigue factor, particularly among smaller players, specially in light of the additional lost revenue and the higher compliance costs related to Dodd-Frank. We know we can hit our financial goals on our own through organic growth, dividends and share repurchases, but we'll also be working diligently to get there faster via industry consolidation. Global deleveraging and the rising level of fatigue within the U.S. banking industry would provide acquisition opportunities in 2012 and 2013.

With that, I'll pass it to Kirk to discuss the quarter and the expense management initiatives in more detail. Kirk?

Kirk W. Walters

Thank you. On Slide 4, we provide an overview of our fourth quarter results. For the quarter, operating earnings were $58.7 million, or $0.17 per share; with a net income of $43 million, or $0.12 per share. The net interest margin improved to 4.16% compared to 4.11% in the third quarter. The improvement in the reported level is the result of cost recovery income resulting from better-than-expected performance on certain acquired loans in the Bank of Smithtown portfolio.

Operating net interest margin, excluding cost recovery income, was 4.07% for the quarter compared to 4.11% in the third quarter. Total loan growth including runoffs in the acquired portfolios amounted to 5% on an annualized basis, which was entirely funded by deposit growth. Deposit rates declined by another 6 basis points to 50 basis points in the quarter. The efficiency ratio for the quarter improved to 62.7% from 63.1% in the third quarter.

Capital ratios remain strong. We continue to deploy capital through organic growth. The tangible equity ratio stands at 12% as of fourth quarter 2011.

On Slide 5, we discuss recent revenue growth initiatives. We continue to focus on commercial lending growth given our strength throughout the financial crisis, our larger balance sheet, broad operational capabilities and our expansion into new markets. Our goal is to leverage our expanded footprint in both the Boston MSA and Long Island in order to build upon renewed commercial, residential mortgage and Home Equity momentum and drive asset-based lending.

Another key to revenue growth will be the ability to leverage our broad fee income product set, which includes cash management, asset management, brokerage, insurance, merchant and payroll services. We are also actively redesigning our incentive plans to objectively reward cross-selling within and across division lines.

On Slide 6, we move to an overview of recent expense initiatives. You'll see a clear emphasis on cost reduction. As we mentioned in October, we successfully completed the Danvers core system conversion in the fourth quarter, our fourth successful Core System conversion in 2011 and our sixth over the past 2 years.

During the fourth quarter, we further rightsized our employee base following the 4 acquisitions we closed in 2010 and the Danvers transaction in 2011. The combined actions announced in the third and fourth quarter will result in compensation savings of $13 million in 2012, and over $15 million annualized as some of that savings will come later in the year.

We continue to realign our branch network following the acquisitions of Butler, RiverBank, Smithtown and Danvers and the de novo success we've enjoyed in Westchester and Boston. We expect to consolidate approximately 15 branches during 2012, which will result in $4 million of operating expense savings and approximately $5 million annualized. But again, some of that savings coming later in the year.

We are also actively working on real estate consolidation efforts to best utilize existing office space across the franchise. Further, we've identified IT contractor and other consultant savings of approximately $3 million in 2012.

Lastly, we've identified another approximately $9 million of annual cost savings throughout the franchise. We strongly believe that these savings will not impede revenue growth.

Everyone at People's United is focused on continued steady progress as we move forward with a constant goal of increasing our recurring operating income.

On Slide 7, you can see a breakdown of the elements contributing to our 4.16% margin results for the quarter. As you'll recall, third quarter net interest margin was 4.11%. The effects of lower loan yields reduced the margin by 10 basis points. We picked up 9 basis points in the Bank of Smithtown cost recovery income and experienced the benefit of 6 basis points as a result of lower deposit rates and the fourth quarter benefit from the payoff of acquired FHLB advances, which occurred late in the third quarter.

On Slide 8, you can see that our operating net interest margin declined slightly in the quarter as a result of a continued environment of low interest rates and pricing pressure in the market. The differences between reported margin and operating margin this quarter is due to the 9 basis points of cost recovery income associated with certain Bank of Smithtown acquired loans.

Our strong margin is the product of our low-cost stable funding, good loan mix and solid capital levels, all of which means we do not need to stretch our credit. In addition, our margin is and will continue to be supported by $1.3 billion of accretable yield resulting from 5 acquisitions closed within the last 2 years.

Let me provide you a little more detail on the next Slide. Slide 9 links closely with our discussion in the net interest margin. For the quarter, interest accretion on acquired loans total approximately $68 million, and the carrying amount of acquired loans at period end totaled $3.6 billion.

As a reminder, the carrying amount of acquired loans is based on expected cash flows and reflects an inherent discount attributable to both the accretable yield and the nonaccretable difference. These expected cash flows are regularly reassessed as they were in this quarter for the Bank of Smithtown portfolio.

Generally speaking, expected cash flows are impacted by the following: changes in expected P&I payments over the estimated life of the loan, which may be attributable to the changes in our credit outlook or a result of loan modifications; changes in prepayment assumptions, which may change the amount of interest expected to be collected; and changes in interest rate indices for variable rate loans as expected cash flows are based on the rates and effect of the time and the cash flow reassessment.

As a result, the portfolio's accretable yield and nonaccretable difference are subject to change throughout the life of the portfolio as the estimate of expected cash flows is updated. These changes may be favorable or unfavorable. Such variability can increase when there's a significant level of loan sale, settlement and payoff activity, as has been the case with the Smithtown portfolio. We'll provide some further color on the Smithtown reassessment on Slide 10.

Before we do that, as you can see in the table, the carrying amount in the acquired loan portfolio at December 31, 2011, reflects $1.3 billion in accretable yield and nearly $250 million in nonaccretable difference, which compares favorably to a level of acquired NPLs at that same date.

The Smithtown portfolio is initially set up for accounting purposes as 6 loan pools, which are aggregated based on common risk characteristics and 147 individual loans. The loans accounted for individually, which had an initial carrying amount of $131 million, represented construction and CRE loans in nonperforming status as of the acquisition date. These loans were at various stages of project completion at uncertain prospects for effective loan resolution and, as a result, possessed unique risk and credit quality considerations.

During the quarter, we reassessed the cash flows in the Smithtown portfolio and noted the following results: the 6 loan pools, each of which is accounted for as a single asset, have generally performed within our initial range of expectations established at the acquisition date; loans accounted for individually resulted in the recognition of $5 million of cost recovery income associated with specific credits that have experienced better-than-expected cash flows; and $7.4 million of impairments associated with specific credits that have experienced worse-than-expected cash flow. The cost recovery income has reflected net interest income and accounts for the incremental 9 basis points in the margin referred to earlier. The impairment charge is reflected in our loan loss provision and serves to establish an allowance for loan losses on the underlying loans.

Not surprisingly, these loans accounted for individually represent the population of loans subject to our more aggressive loan workout efforts during the past year. As a result of those efforts, as of December 31, 2011, the population of loans accounted for individually total approximately 70, and represented a carrying amount of less than $40 million. As such, we believe the level of specific -- of loan-specific risk inherent in this population of loans has been greatly reduced.

For the full year, the impact on earnings stemming from activity within the Smithtown portfolio, exclusive of normal interest accretion, was a $5.1 million benefit. This benefit is comprised of $5 million of cost recovery income and a $7.5 million net gain on sale of acquired loans, partially offset by $7.4 million of impairment. Accordingly, we continue to believe that the challenges inherent in this portfolio are manageable.

Slide 11 provides a breakdown of the elements contributing to our net increase in the gross loans. The loan portfolios produced total loan growth of 5% quarter-over-quarter annualized or 15.3% quarter-over-quarter annualized of originated loan growth. This marks the fourth consecutive quarter of originated loan growth greater than 10%, which reflects a strong momentum within the franchise. We believe we operate in the best commercial banking market in the United States and are one of the few banks that can credibly offer the full product suite of a large bank while maintaining the outstanding customer service standards of a small bank. Importantly, our customers and others within the market recognize that we did not pull back in the last economic crisis and supported them over the last few years. So much of the growth is word-of-mouth referrals from our long-term customers.

Originated loan growth for the quarter totaled $620 million. As in prior quarters, growth came from a variety of products and geographic areas. We continue to expand into new markets via new products. Commercial real estate contributed 39% or $182 million. The portfolio remains very broadly diversified with most relationships well below $25 million.

C&I contributed 37% or $172 million. Within C&I, we saw strength across all categories, but I would highlight 2 businesses: PCLC, our equipment finance business, grew $69 million in the quarter; and People's United equipment finance increased $47 million. Residential mortgage added 36% or $168 million. Of the residential mortgage originations, approximately 95% were hybrid adjustable rate mortgages. 60% of the pipeline is Jumbo Product. Fourth quarter '11 originations, average loan size was 616,000. The average FICO score for 4Q '11 originations was 757 with an average LTV of 68%.

Also within the retail category, new Home Equity commitment closings totaled $150 million compared to $179 million in the third quarter of '11. In terms of recent originations, the average loan or line size of the fourth quarter originations was 125,000. The average FICO scores for the fourth quarter was 757, with an average combined loan-to-value of 54%. 100% of our Home Equity loans are retail originated.

You'll notice those numbers didn't add to 100%. That's because our consumer segment shrank by $17.6 million, almost entirely the result of expected runoff in indirect auto loan business, which we exited in the third quarter. As a reminder, our consumer loan segment is 92% Home Equity loans, which were essentially flat in the quarter, growing by 800,000.

You can see on Slide 12 a breakdown of the elements contributing to our net increase in deposits. This is the first time we've broken the deposit business out this way, but we feel it better reflects the way we manage the business. In any given quarter, one segment may be more volatile than another, but we feel good about our deposit base and our ability to grow from here.

Our consumer deposit base grew $98 million while the commercial base increased $231 million. This growth occurred while overall deposit cost fell by 6 basis points to 50 basis points. In addition, we continue to manage a mix shift from time to demand in savings or money market deposits within the acquired institutions. As of December 31, 2011, commercial deposits represented 25% of our deposit base. We expect commercial deposits to grow more than 10% this year, bolstered by 2 large initiatives that are underway, which we expect will result in over $300 million of deposit recapture and products that were previously externally managed.

In addition, incentive-based compensation is expected to further foster commercial deposit growth. By way of update, our Westchester franchise totaled 6 branches, grew by $43 million in the quarter and total deposits stand at $522 million as of year end. Our 5 de novo branches in the Boston market grew by $38 million in the quarter and total deposits stand at $124 million as of year end. Not bad for 12 months.

Most importantly, annualized deposit growth was a bit more than loan growth. As you have heard me say before, loan growth funded entirely by deposit growth is the best way to drive earnings.

Slide 13 is an important lens for us to think about the growth as it occurred in the company and will occur in the quarters ahead. We have managed to successfully grow loans and deposits while maintaining excellent asset quality. We know that if we grow loans and deposits per share, increase fee income and continue to reduce cost, we will produce greater recurring earnings per share. It is really very simple. Over the past 2 years, loans per share and deposits per share have grown at compound annual rates of 18% and 14%, respectively.

Slide 14 provides a breakdown of noninterest income. Our noninterest income declined by $13 million quarter-over-quarter. The largest quarter-over-quarter changes were reduced income from third quarter security gains of $8.6 million and a $5 million decline in interchange fees as a result of the first full quarter of the Durbin Amendment. First quarter and third quarter are the seasonally stronger periods for insurance as we have discussed previously.

Additionally, we experienced a $2.7 million reduction in prepayments fees, which we noted in last quarter's commentary are difficult to predict. Last quarter, we recognized $4.8 million of losses in acquired loan sales compared to a loss of just $400,000 in the fourth quarter.

On Slide 15, you can see that our noninterest expense numbers, as well as operating expenses, were essentially flat. We had nonoperating expenses of $23 million in the quarter. The largest components of nonoperating expense this quarter were $13.3 million of merger-related expenses associated with the Danvers conversion, which occurred on October 17, followed by $4.8 million of charges associated with the planned consolidation of selected branches and other office space. General severance and other termination-related costs totaled $4.9 million.

As we think about noninterest expense, we're focused on the recurring noninterest expense base and believe that when we normalize for items that we feel are nonrecurring but weren't called out as nonoperating, our run rate expense base approximates $205 million. We expect that during the course of 2012, we will be steadily walking the quarterly run rate down, such as our targeted full year operating expense base should be in the range we previously discussed.

On Slide 16, the efficiency ratio decreased to 62.7% for the fourth quarter compared to 63.1% in the third quarter. As we mentioned, we remain on track to reach our 55% efficiency ratio run rate goal in mid-2013.

Slides 17 and 18 are a quick reminder of our excellent credit quality. Nonperforming assets at 2% of originated loans and REO remain well below our peer group and Top 50 banks. NPAs increased from $305 million to $337 million, a $32 million increase. Two relationships accounted for $25 million of this increase. We seem to hover in the 1.75% to 2% range since the level of NPAs are so low that 1 or 2 loans will move us up or down in that range.

Looking at Slide 18, net charge-offs remained essentially flat at 29 basis points, approximately 30% of our peers. This is not a new trend and reflects a minimal loss content in our nonperforming assets.

On Slide 19, you can see the detail for the allowance for loan losses by loan category. A few items to note: Our allowance for loan losses to commercial loans is approximately 1.4% with a coverage ratio of 77% of commercial NPLs. The allowance for loan losses on retail loans increased slightly this quarter. As you all know, we have strict loan loss allowance methodology which is consistently applied. Mix shift to new originations explained the modest decline in the overall coverage ratio from the prior quarter.

After excluding the $7.4 million increase in the provision, which related to the impairment on uncertain Bank of Smithtown loans, the provision was down slightly for the third quarter 2011.

Now I'll pass it back to Jack.

John P. Barnes

Thank you, Kirk. On Slide 20, you can see our operating return on average assets for the fourth quarter was 86 basis points. As we've outlined, the primary reasons for the decline are reduced noninterest-related income and a larger average balance sheet. Clearly, the low rate environment is limiting the positive effect of our organic growth. In addition, regulatory reform is negatively impacting our fee income. However, we're making progress in offsetting lost fee income resulting from regulatory reform, and expect to make up a majority of the negative impact of financial reform during 2012 by accelerating growth of other fee income products. As we've outlined, we're undertaking a number of initiatives to rightsize our cost base, and believe we will reach our 125 basis point return on average asset target in 2014 assuming the current interest rate and economic environment.

On Slide 21, we expect to see an increase in return on average tangible equity as we improve profitability and thoughtfully deploy capital. Our significant capital levels remain approximately 425 basis points above peers, which produces below industry return on average tangible equity. Normalizing our equity base shows that the core bank is performing well at 11% return on average tangible equity.

On Slide 22, consistent with the outline of some of our financial targets, we expect to see our operating dividend payout ratio trend lower through 2012.

On Slide 23, we have updated our capital ratios for both the holding company and the bank. Capital levels remain very strong with our tangible common equity ratio at 12% and our Tier 1 common ratio at 14.3%, which compares well to our peers at 7.7% and 11% as of the third quarter, respectively.

Slide 24 summarizes -- 2011 illustrates the power of our sustainable competitive advantage. Despite the low growth, low rate environment and increased regulatory headwinds, we delivered return on average asset improvement that is likely to be in the top quartile of our peers. It is our outstanding people and platform and the related momentum, which positions us so well for the quarters and years ahead.

This concludes our presentation. Now we'll be happy to answer any questions you may have. Operator, we're ready for questions.

Question-and-Answer Session

Operator

[Operator Instructions] And your first question comes from the line of Damon DelMonte with KBW.

Damon Paul DelMonte - Keefe, Bruyette, & Woods, Inc., Research Division

Kirk, I was wondering if you could talk a little bit about the increase in the securities portfolio. I just saw balances went up quarter-over-quarter.

Kirk W. Walters

Yes, they did. During the quarter, we did put on a little over $500 million in some relatively short CMOs. With the expectation of rates continuing to be down here in the near future, we chose to put a little bit of money to work. But these are short CMOs, average life, of around 2 years based off of a 10-year paper.

Damon Paul DelMonte - Keefe, Bruyette, & Woods, Inc., Research Division

Okay. What kind of yields are we getting on that?

Kirk W. Walters

They were around 1.25 to 1.30, somewhere in that range.

Damon Paul DelMonte - Keefe, Bruyette, & Woods, Inc., Research Division

Okay. And can we expect you to employ the same strategy in the upcoming quarter?

Kirk W. Walters

I don't expect that we will see the securities portfolio move up much from here. We're fortunate to have had, and continue to have, good prospects for strong loan growth. And depending on deposit growth, we expect some of that cash may get put to work in our -- funding some of our loans.

Damon Paul DelMonte - Keefe, Bruyette, & Woods, Inc., Research Division

Okay. And then with respect to the margin, if we exclude the 9 basis point impact starting off at about 4.07% level, can you give a little outlook for what you're expecting this coming quarter?

Kirk W. Walters

We haven't given any outlook quarter by quarter. What we have given is an outlook that we expected, which we gave last quarter and reaffirming this quarter, that we expect that we will remain above 4% or close to 4% through the first half of the year, and then we'll dip slightly below that as we get into the second half of the year.

Damon Paul DelMonte - Keefe, Bruyette, & Woods, Inc., Research Division

Okay, great. And then just lastly, did you buy back any stock this quarter?

Kirk W. Walters

In terms of the quarter itself, we did not buy back any stock.

Damon Paul DelMonte - Keefe, Bruyette, & Woods, Inc., Research Division

Okay. And what are your thoughts on reengaging in the buyback on the coming quarter?

Kirk W. Walters

Well, the -- we never really say when we are in buying stock or not in buying stock. As you know, we have an existing authorization out there for a 5% stock buyback. We were quite active in the third quarter in terms of buying in shares. And so it's an evaluation of various levers that we pull as we go forward. It was certainly one we utilized in the third quarter. And as I mentioned, we have an existing authorization out there.

Operator

And your next question comes from the line of Collyn Gilbert with Stifel, Nicolaus.

Collyn Bement Gilbert - Stifel, Nicolaus & Co., Inc., Research Division

Just in terms of the loan growth, Kirk, you just said that the prospects were strong in loan growth. And Jack, you had sort of referenced mid-single to low double-digit loans. Can you just talk about where you're seeing that growth and kind of drill down a little bit more into the specifics of that in terms of loan size and just kind of where you see the opportunities there?

John P. Barnes

Well, we really -- at this point, we've been seeing the loan growth in a very balanced way. I think we described the various growth rates in C&I, commercial real estate, and in the residential areas in particular. And as you drill into those activities, whether it's by business line or geography, we're really making some steady headway on all fronts, which we're very pleased with. I would say in terms of your piece of your question about loan size, again, very consistent with our history. We are very active in the middle-market lending but also have a strong business banking, small business lending program, which is also very active. And we've actually been putting a lot of effort into strengthening that program. Very promising pace in the Boston area, very nice progress in Maine. We've taken on some new personnel there that have done a great job for us. And some steady progress, less pace but steady progress as we get familiar with Long Island and that new market as well. So pretty nice balance across the front.

Collyn Bement Gilbert - Stifel, Nicolaus & Co., Inc., Research Division

Okay, that's great. And then just on the initiative that you guys have on the fee side to help to offset the Durbin pressure. I know, Jack, you said you'd expect that kind of to come through to 2012. Will we see the effects of that starting as soon as the second quarter?

John P. Barnes

Yes. We would like to think that you absolutely will. I think there are some things kind of in motion. We mentioned there that we think we've offset 20% already, and some of that, I think, depends on basic activity in accounts. And we are growing our -- the number of our accounts. And aside of that, then, we're really strongly pushing a cross-sell effort, both kind of management effort, employee direction and incentive program comp modification, to get everybody very focused in making progress across all of our fee businesses. We've demonstrated nicely throughout the last year, but these things, once you get momentum, it makes a great deal of difference in people's confidence. And we've landed some nice business that is beginning to show that the emphasis is paying off. And that's where we get our projection, if you will.

Collyn Bement Gilbert - Stifel, Nicolaus & Co., Inc., Research Division

Okay, that's great. And then just finally, on the M&A comment. Maybe could you just run through what type of institution would be an appropriate target for you guys? Or what you'd be looking for as it relates to supplementing the growth with M&A?

John P. Barnes

Well, I mean, I think we've historically said we -- I think everybody's familiar with our comments about our market and expanding within our geography and adjacent to our geography, so I would start there. We remain focused in that manner. We have historically expressed and continue to feel strongly that commercially oriented banks are a nice match for us, but we do not exclude thrifts by any measure, and just a different type of undertaking. And we want to be opportunistic where we continue to be open to the idea that it may be a large transaction that is now in front of us, and we'll be opportunistic in terms of responding to that kind of opportunity, or it may be a smaller transaction that we think is a good strategic fit in that broader outline I just gave you. And we're certainly continuing to feel that those -- the acquisitions we've undertaken have been very beneficial, and the future ones can be as well.

Operator

And your next question comes from the line of Ken Zerbe with Morgan Stanley.

Ken A. Zerbe - Morgan Stanley, Research Division

Obviously, I heard the answer that you did not buy back stock in the fourth quarter. But I guess my first question is why? Is it -- I mean, was the stock price too high? I mean, are you saving it for M&A? What kind -- what was the thought process for not buying back stock?

Kirk W. Walters

Ken, we never have commented in detail on the specifics of what we go into when we're buying stock or not. We have been clear that it is one of the levers that we expect on a -- to pull on a go-forward basis, that we were very active in the third quarter and that we have an existing authorization out there and expect it to be one of the activities that we'll continue to do as we go forward in managing our capital.

Ken A. Zerbe - Morgan Stanley, Research Division

All right. I guess I was just hoping to share the rationale, not whether or not you're buying, but that's fine. The other question, Kirk, when you recently came into the bank not so long ago, you identified a lot of expense-saving opportunities. And I do see the improvement in the efficiency ratio over the last several quarters. But is there -- can you just comment about over -- or since you joined, do you still see the same magnitude of expense saves, more or less? And kind of where should we be thinking about the expense ratio over, say, the next 12 months?

Kirk W. Walters

Well, I think we gave quite a lot of detail in my commentary in terms of the expense initiatives that we embarked on this quarter. As you know, we've been, I think, pretty good at giving you some detail every quarter about where we're heading. Obviously, we now have a stated goal, as Jack mentioned, getting the overall expense level down to a total between $790 million and $810 million. If you think about where our run rate was in the third quarter, which included a full quarter of Danvers, it was about $210 million or it would've been $840 million for the year. So coming down within that run rate, it was a pretty significant reduction while still growing many, many revenue lines and not impacting the revenue growth. So we are doing what we outlined earlier, which is we're very carefully and thoughtfully managing the expense base down with the goal of getting to a 55% efficiency ratio by mid-2013.

Operator

[Operator Instructions] And your next question comes from line of Matthew Kelley with Sterne Agee.

Matthew Brandon Kelley - Sterne Agee & Leach Inc., Research Division

Just talking about the margin, if you look at the $68 million of accretion, you back out the $3.6 million of total carrying costs. I mean, the acquired assets are adding roughly 60 basis points to the margin. As we track towards that 125 basis point ROA target, how will that benefit decline over time? I mean, is it more gradual and linear? Or will it be lumpy along the way? How should we be thinking about the decline in that benefit from the acquired assets on your margin?

Kirk W. Walters

The way that we have described that in the past and I think is the same, and we have as you look at sort of what we would refer to as a normalized or margin originated assets and liabilities we have. But that has tended to hover around at 360. So your 60 is close, probably a little less than that, but is close. And that's if you took out all the acquired loans and deposits as if we did no acquisitions. And if you think about the $1.3 billion in accretion that we have to bring in overtime, we don't give an actual estimated life for that, but we do give you what we brought in this quarter. And so that you can make the assumptions with the other information. I think what's important to consider is if you look at the entities we've acquired, with the exception of Fin Fed, they are largely banks that have assets that you're quite familiar with in terms of life. And I think the long and short of it is that we know we may not have the accretion forever, but it's not going away that quickly either.

Matthew Brandon Kelley - Sterne Agee & Leach Inc., Research Division

Okay, okay. One quick one, were you restricted at all during the quarter on your ability to buy back shares?

Kirk W. Walters

Well, as other questions came in, we don't comment on why, or why we don't buy back shares during the quarter. We were very active in the third quarter. We have an outstanding authorization out there, and we intend for it to be one of the levers that we'll utilize and manage in the capital as we proceed forward.

Matthew Brandon Kelley - Sterne Agee & Leach Inc., Research Division

Okay. And then last question. Could you just talk about just kind of your view of the M&A market? What you've been seeing and hearing for discussions just over the last quarter versus what you were seeing come across your desk, and what bankers were showing you over the summer and early fall and your outlook for transactions based on this and that activity. Not for you in particular, but just for the market in general.

John P. Barnes

So this is Jack. I think I would characterize that, that I would say the level of relationship building that we have been doing has been pretty consistent and active through the time period. So our behavior, if you will, has been steady and consistent. The level of opportunities that seem to be discussed in the market does seem to be ticking up a little bit. We -- when we discuss it, we think that the fatigue factor that we reference in our comments is showing up, intensifying. Because of the headwinds that we're talking about, it certainly is a difficult environment to operate in. If you don't have new opportunities, new markets, new businesses that you're working, it can get very challenging. So I would say the pace, if you will, and the level of activity is more active.

Operator

And your next question comes from the line of David Darst with Guggenheim Partners.

David Darst - Guggenheim Securities, LLC, Research Division

The $840 million that you referenced for the cost base with Danvers, is that including the originally expected cost saves? And the $800 million that you're talking about now for the expense base, is that above and beyond the original assumptions?

Kirk W. Walters

The number that we gave was what we incurred in the third quarter, which was roughly $210 million in terms of where that run rate was at that point. In terms of our overall operating expenses, that included some level of Danvers expenses. And we've taken out some more as we went into the fourth quarter. And then, there'll be a little bit more that we'll see come through in the first quarter.

David Darst - Guggenheim Securities, LLC, Research Division

Okay. Are you getting more than you originally anticipated?

Kirk W. Walters

Yes, I think we're getting a bit more in Danvers than what we originally thought we would. And probably the other note just to think about when you think about the number we reported this quarter, the $207 million, we did indicate that we thought the run rate was closer to $205 million for the quarter, and the primary difference was the impact of what we had to pay on the Visa litigation.

David Darst - Guggenheim Securities, LLC, Research Division

Okay. And then looking at the decline in the carrying amount and the remaining nonaccretable difference from the third quarter to this quarter for Smithtown, any additional color there? And did you see greater than expected paydowns in that portfolio?

Kirk W. Walters

Yes. We went through the reassessment of the Bank of Smithtown, and obviously on these acquired portfolios we do it at least annually. And the major items that impacted that was the individually accounted for loans. I think I gave in my commentary a fair amount of detail that within Bank of Smithtown we had 6 pools, but we had 147 individually accounted for loans that totaled a balance of $131 million. And as we went through the reassessment and such, those loans have now been either sold, settled, paid off, et cetera, and are down to under $40 million. So we had a pretty significant reduction in that, which did impact the overall levels of accretable and nonaccretable discount.

David Darst - Guggenheim Securities, LLC, Research Division

Okay. And those -- that $131 million was all in the fourth quarter?

Kirk W. Walters

No. The $131 million occurred over the year, but the reassessment was in the -- I mean the $131 million was the beginning number for the individually accounted for loans. It's down to $40 million by the end of the year. That drop of $91 million occurred throughout the year, and the reassessment was done in the fourth quarter. So as you saw throughout the year, we recorded some gains in sales of loans in the first and second quarter, recorded some losses in sales of loans. We had a number of pieces of activity going in different directions.

Operator

And your next question comes from the line of Mark Fitzgibbon with Sandler O'Neill + Partners.

Mark T. Fitzgibbon - Sandler O'Neill + Partners, L.P., Research Division

It looks like from the average balance sheet, the commercial real estate yields rose by 16 basis points in the quarter. Was that a function of the Smithtown recovery?

Kirk W. Walters

It was, it was. That's where the bulk of the cost recovery income that we described on loans that got settled for more than we thought, that's where that went through.

Mark T. Fitzgibbon - Sandler O'Neill + Partners, L.P., Research Division

Okay. And then just to follow up on a comment that Jack made earlier about the dividend payout. I know that you said in your prepared remarks that the payout ratio should come down in coming quarters, but it's still fairly high. Do you worry that the regulators could force you to cut that? And what gives you confidence that they won't?

John P. Barnes

Well, we think, and hopefully you folks can see, that with our momentum, we believe that, that will continue and that the ratio will come down. As I think I've said in the past on these calls, I think I'm going to speak for our regulators. We continue to communicate with our regulators on a very regular basis, and we're very pleased with that communication. But the last thing we'll do is predict positions regulators would take now or in the future.

Mark T. Fitzgibbon - Sandler O'Neill + Partners, L.P., Research Division

Okay. And then lastly on the acquisition, just to follow up on earlier questions. Are you finding that seller expectations are starting to become more rational? And you've obviously done a bunch of deals recently, both clean institutions and troubled institutions. Which ones have worked generally better, would you say, for people?

John P. Barnes

Well, I think on the last part, it's a great example that -- I think that we feel great about the clean ones, if you will, but also very good about Long Island and the way we're working through the Bank of Smithtown. I think the pace that Kirk described and working through the original problems is telling of our execution there. And for a good price, we got a very nice deposit franchise that we're working very effectively. The folks on the ground in Long Island have growing deposits. They're responding extremely well to training. And we're starting to produce both commercial and consumer loans. So each is different, and we think it's really a matter of doing the business assessment and then executing on the plan, much more than whether it's a troubled bank or not.

Operator

And your next question comes from the line of Mike Turner with Compass Point.

Michael Turner - Compass Point Research & Trading, LLC, Research Division

Could you talk a little bit about the increase in NPLs quarter-over-quarter? I mean, it doesn't seem to be on a dollar basis, huge, but it does seem kind of broad based.

John P. Barnes

Actually, when you look at the increase quarter-over-quarter on the NPLs, it was in our commercial portfolios. If you look at that, I think I noted in my commentary that of the increase of a little over $30 million, $25 million related to 2 credits. They were credits that we've been watching, working closely with, did in fact go to nonaccrual. But I think we are, at this point, operating with such a relatively low level of NPAs that we see this bumping around a little bit quarter-to-quarter. You might recollect in the second quarter that little bump up with one particular credit and it came down in the third. We sort of bumped up here. And probably underlying all of this is that we have a high level of comfort with our portfolios and knowing what credits we should be concerned about and are very concerned about, and neither of these were a surprise to us.

Michael Turner - Compass Point Research & Trading, LLC, Research Division

Okay, thanks. And then also on your residential mortgage portfolio growth. Can you maybe break up the types of loans or categorize what your balance sheeting is? Is there maybe a large...

John P. Barnes

Sure. And that's just something that we -- I highlighted in my commentary as well. But 95% of what we booked were hybrid loans, 3/1s, 5/1s, 7/1s and 10/1s. Average loan size is about 616,000 in terms of what is booked into the portfolio, and certainly with very high FICOs and excellent LTVs.

Operator

And your next question comes from Mac Hodgson with SunTrust Robinson Humphrey.

Michael Young

This is Michael Young in for Mac. I just had a couple of quick questions, one question on NIM and one on the Dodd-Frank impact. On the NIM, we see a 4-point kind of core, if you will, compression this quarter. And I was just curious, obviously, if that trend holds for the next 2 quarters, you'd stay roughly above 4. But then going forward beyond that, would you expect that trend to sort of continue? Or will you run out of kind of the funding mix weather?

John P. Barnes

I think as we have given the guidance before, we expected to stay above or around 4 up through the first 6 months and then come slightly under in the latter part of the year. One of the factors that's important in that is that about 20% of our deposits are from acquired institutions. And the cost of those deposits is still a little over 1%. So as we continue to ratchet those down, as well as our other deposits and some of the deposit initiatives that we mentioned in my commentary in the commercial arena that's coming in at rates lower than our overall cost of funds, I think we still have opportunities. It gets harder, without a doubt, and that's one of the reasons that we're saying that we may not be able to keep up, but we're working real hard to minimize it.

Michael Young

Okay. And then also just had one clarification. The $5 million of reduced interest income this quarter from Dodd-Frank, did that include the 20% offset? Or was that x the 20% offset? Will the 20% offset, in effect, be seen in 1Q?

John P. Barnes

So if I heard you right, it did not include the 20% offset. So it was a $5 million drop in the interchange fees related to our portfolio. We have made other changes, so the 20% refers to other changes we've made in a variety of ways within our bank service charges to offset that anticipated $5 million.

Kirk W. Walters

And the $5 million is very consistent with our forecast of $20 million for the year, so...

Operator

[Operator Instructions] And your next question comes from the line of Casey Haire with Jefferies.

Casey Haire - Jefferies & Company, Inc., Research Division

So just to clarify, so the Dodd-Frank impact is interchanged only, correct? It's not Reg E or anything?

John P. Barnes

So the $5 million reference is Durbin related. There are other impacts in Dodd-Frank, so as we're referring to the headwinds and the challenges, things like Reg E are included. I think, seems like going through last year, we described kind of how that gradually came through. But it is a variety of -- if you will, identified as well as -- in terms of -- when we talk about headwinds with Dodd-Frank, we're naturally also talking about anticipated impacts on the expense levels that will come from new regulations, some of which we're not totally clear on how it will impact us yet. But we are ramping up capacity to deal with things like that, for instance, in compliance and other areas, if that's helpful to put perspective on it.

Kirk W. Walters

Casey, it's Kirk. Just to be clear. The $5 million you're referring to is just the interchange piece. But as Jack is indicating, embedded throughout other pieces of our fee income and such, we obviously have impacts greater than that from Reg E and different aspects of the Dodd-Frank bill.

Casey Haire - Jefferies & Company, Inc., Research Division

Right. And I guess that's what I'm -- those identifiable -- that's the number I'm looking for that you're hoping to recapture, 50% up.

Kirk W. Walters

I see, no, our reference of recapturing 40% to 60% was just in relation to the interchange.

Casey Haire - Jefferies & Company, Inc., Research Division

Okay, got you. All right. So just to follow up. So I mean, assuming all goes well, I appreciate the clarity on the cost cuts, this will definitely put you closer to that 55% goal. That said, it is a little bit short. Do you guys expect, I mean, is the plan to let this run out and then hopefully get some M&A? And if you don't, is it possible to get there without M&A, I guess is my question, by the middle of 2013?

Kirk W. Walters

Yes. I think we've been pretty clear in our discussions that we, to get that 55% efficiency ratio, we're not betting on M&A or interest rate moves, et cetera. So this is, what we have done, is every quarter we continue to report the new actions we've taken. I think this is another quarter with all the detail that I just gave you of a number of cost initiatives, all of which largely been enacted, or we know exactly when they're going to be enacted, which will continue to move us down closer to that 55% goal. And our expectation to get there is to continue to work very hard at maintaining and growing revenue and, at the same point, continue to crank down costs.

Operator

And ladies and gentlemen, since there are no further questions in the queue, I'd now like to turn the call over to Mr. Goulding for closing remarks.

Peter Goulding

Thank you for joining us today. We appreciate your interest. If you have any questions, as always, feel free to contact me at (203) 338-6799.

Operator

Thank you for your participation in today's conference. This concludes the presentation. You may now disconnect. Good day.

Copyright policy: All transcripts on this site are the copyright of Seeking Alpha. However, we view them as an important resource for bloggers and journalists, and are excited to contribute to the democratization of financial information on the Internet. (Until now investors have had to pay thousands of dollars in subscription fees for transcripts.) So our reproduction policy is as follows: You may quote up to 400 words of any transcript on the condition that you attribute the transcript to Seeking Alpha and either link to the original transcript or to www.SeekingAlpha.com. All other use is prohibited.

THE INFORMATION CONTAINED HERE IS A TEXTUAL REPRESENTATION OF THE APPLICABLE COMPANY'S CONFERENCE CALL, CONFERENCE PRESENTATION OR OTHER AUDIO PRESENTATION, AND WHILE EFFORTS ARE MADE TO PROVIDE AN ACCURATE TRANSCRIPTION, THERE MAY BE MATERIAL ERRORS, OMISSIONS, OR INACCURACIES IN THE REPORTING OF THE SUBSTANCE OF THE AUDIO PRESENTATIONS. IN NO WAY DOES SEEKING ALPHA ASSUME ANY RESPONSIBILITY FOR ANY INVESTMENT OR OTHER DECISIONS MADE BASED UPON THE INFORMATION PROVIDED ON THIS WEB SITE OR IN ANY TRANSCRIPT. USERS ARE ADVISED TO REVIEW THE APPLICABLE COMPANY'S AUDIO PRESENTATION ITSELF AND THE APPLICABLE COMPANY'S SEC FILINGS BEFORE MAKING ANY INVESTMENT OR OTHER DECISIONS.

If you have any additional questions about our online transcripts, please contact us at: transcripts@seekingalpha.com. Thank you!

Source: People's United Financial's CEO Discusses Q4 2011 Results - Earnings Call Transcript

Check out Seeking Alpha’s new Earnings Center »

This Transcript
All Transcripts