S&T Bancorp's (STBA) CEO Todd Brice on Q4 2015 Results - Earnings Call Transcript

| About: S&T Bancorp, (STBA)

S&T Bancorp Inc. (NASDAQ:STBA)

Q4 2015 Earnings Conference Call

January 26, 2016, 13:00 ET

Executives

Mark Kochvar - SEVP & CFO

Todd Brice - President & CEO

Dave Antolik - Senior EVP & Chief Lending Officer

Pat Haberfield - Senior EVP & Chief Credit Officer

Analysts

Collyn Gilbert - KBW

William Wallace - Raymond James

Matthew Breese - Piper Jaffray

Matt Schultheis - Boenning & Scattergood

Operator

Welcome to the S&T Bancorp Fourth Quarter 2015 Earnings Call. [Operator Instructions]. It is now my pleasure to introduce your host, Mr. Mark Kochvar. Thank you, Mr. Kochvar. You may begin.

Mark Kochvar

Thank you. Good afternoon everybody and thank you for participating in today's conference call. Before beginning the presentation, I want to take time to refer you to our statement about forward-looking statements and risk factors which should be on the screen in front of you. This statement provides the cautionary language required by the Securities and Exchange Commission for forward-looking statements that may be included in this presentation.

A copy of the fourth quarter earnings release can be obtained by clicking on the press release link on your screen or by visiting our Investor Relations website at www.stbancorp.com. I would now like to introduce Todd Brice, S&T's President and CEO, who will provide an overview of S&T's results.

Todd Brice

Thank you Mark and good afternoon everyone. As we announced in this morning's press release, earnings for the full year were a record $67.1 million or $1.98 per share, compared to 2014 earnings of $57.9 million, $1.95 per share. For the quarter net income was $17.4 million or $0.50 a share, versus $18.6 million or $0.54 a share in Q3. I think all in all we're pleased with our performance numbers for both the full year and also the fourth quarter. We've executed on strategies to grow our Company both from an organic and M&A perspective. And we like how we're positioned to continue the trend in 2016.

For the quarter the 4% reduction in earnings per share is a combination of several factors that Mark will review in greater detail in his presentation. I think once again the bright spot this quarter was our loan production which enabled us to increase the outstanding loans by $123 million or 9.9% on an annualized basis. This is the third consecutive quarter of approximately 10% annualized loan growth. And the increase was a nice mix of C&Is, commercial real estate, residential mortgage, our business banking group. And it was very balanced and across the board in all of our markets, Western Pennsylvania, South Central Pennsylvania, Ohio and New York.

We like the geographic diversity that we now have through our investments in these new markets and the overall impact that they're having on our organization. I did want to mention that we intend to reposition our credit card product which accounts for about $23 million of the loans in the held-for-sale category. We will be entering into a partnership, much as we did several years ago with our merchant division which will enhance products [Technical Difficulty] scale, enable us to market more attractive card to a bigger percentage of our client base. The transaction is expected to take place in the first quarter.

Our emphasis on loan and balance sheet growth contributed a positive operating leverage in 2015 with revenue increasing by $44.2 million or 23%, compared to operating expenses of $19.5 million or 17%. This positively impacted our efficiency ratio which decreased 3 percentage points on an annual basis to 56% and it has been in the 53% range for the past two quarters. In 2016 expense discipline will continue to be a focus throughout the organization.

From an asset quality perspective, our provision expense for the year increased by $8.7 million. However, 2014 was an exceptional year as we recorded only $58,000 in net charge-offs. So the net charge-off ratio in 2015 for the full year was 22 basis points.

In Q4 we did experience a slight increase in non-performing loans which totaled $30.7 million and now totals 0.61% of total loans. The increase really is attributed to some loans that -- land development loans in South Central Pennsylvania market. While we did take some marks against this particular segment of loans, we will continue to work diligently and arrive at the best possible solution, kind of circumstances that we experienced in our own portfolio a couple of years ago. So we think we have the infrastructure in place to continue to work through those.

The good news is there is nice activity that we're seeing in that market and it's being underwritten to risk parameters that we have in place throughout the bank. We're seeing nice growth out of there. So we're happy with how that is kind of coming together.

Deposit generation is going to be a key strategic initiative in 2016. We have a number of strategies to ramp up our organic deposit gathering activities. I think in summary 2015 was a very, very busy and very successful year as we were able to expand the balance sheet through our organic and margin strategies to $6.3 billion versus $4.9 billion at year end 2014. Looking forward, we like the prospects that the investments we've made in new market provide. And we like our position to meet the organic growth objectives that we set forth for 2016. We appreciate your continued support of S&T Bank.

And now I'd like to turn the program over to Dave Antolik.

Dave Antolik

Thanks Todd and good afternoon everyone. As mentioned, we're very pleased to report another quarter of quality organic loan growth. These results continue to be driven by our customer acquisition and retention strategies coupled with our market and team-based approach to commercial banking. Leading the way for the quarter was an increase of $55 million in our commercial real estate portfolio, followed by a $29 million increase in commercial construction, a $19 million increase in C&I and a $14 million increase in the residential mortgage portfolio.

We continue to experience well diversified growth within our commercial real estate and construction portfolios with office, industrial and multifamily representing the largest percentages of outstandings. It's important to note that no single concentration category represented more than 14% of the total commercial real estate portfolio at year end. Within the C&I portfolio we've experienced a relatively stable total commitment level. We have seen some decline in utilization rates for each of the last two quarters, indicating some modest deleveraging by this customer base.

During the quarter we were pleased to announce the hirings of our new Pittsburgh-based commercial banking team who will focus on building C&I relationships and expanding S&T's brand and presence in the Pittsburgh business community. In the fourth quarter we were also pleased to announce the launch of our Platinum banking offering with the appointment of Platinum bankers in State College and the hiring of a Platinum banker in Northeast Ohio.

Our goal is to offer an expanded set of core retail banking products and services to our best clients. We believe these initiatives, coupled with the continuation of organic growth in our legacy markets, our loan production offices and, in South Central Pennsylvania, will allow us to continue our pace of asset growth and expand our deposit gathering capabilities.

At our loan production offices, loan balances increased by $37 million during the quarter. Northeast Ohio ended the year with $243 million outstanding, Central Ohio ended with $196 million and Western New York completed 2015 at $32 million outstanding. Momentum continues in these markets, as well in South Central Pennsylvania where we solid loan growth of $33 million for the fourth quarter.

Our commercial and business banking pipelines remain solid and are approximately 40% higher than what we experienced at this time last year. Now, Mark will provide you with additional detail on our financial results.

Mark Kochvar

Thanks, Dave. Net interest income this quarter decreased by $711,000 due to headwind from lower purchase accounting accretion of $884,000 and two quarters of Federal Home Loan Bank dividends last quarter which added about $230,000. This represents about 8 basis points of the 11 basis point decline in the NIM rate this quarter. We expect the purchase accounting accretion to continue, but at a declining rate. Our latest modeling indicates about $2.4 million in 2016 compared to $6.1 million in 2015.

Attained [ph] volatility with the loan-related part of the accretion, the thing on the asset quality and timing issues with the acquired loans. Net interest margin rate was down about 3 basis points not including the expected accretion [ph] and the Federal Home Loan Bank dividend, in part due to higher funding costs which came from pressure on wholesale rates on the front end of the curve and the bank taking a slightly more aggressive deposit pricing stance.

Our loan growth continues to be primarily floating and we believe any further rate increases by the Fed will benefit us. In the meantime, margin pressure remains but we did get some relief as the gap between new and paid loans shrank to just 29 basis points this quarter, the lowest reading in years. The weighted average rate of new loans migrated to the top end of the recent 3.60% to 3.70% range.

Non-interest income increased by $603,000, mostly due to unwinding the points liability related to the strategic repositioning of our credit card plans. We expect to sell our $23.3 million of credit card loans in the first quarter and enter into a joint marketing agreement with a third party at that same time. We don't expect a significant ongoing change to net income, as fee revenue and expense saves from this arrangement should replace the interest income and interchange.

With the classification of this portfolio as held-for-sale at the end of Q4, we unwound the points liability which was $530,000 and adjusted the allowance for loan losses by about $240,000. This, combined with a small amount of net expense benefit, is just over $900,000 pretax or about $0.02 per share improvement in Q4. The variance in other non-interest income was mostly due to the fluctuation of Rabbi Trust which swung about $460,000 between the third and fourth quarter and is related to stock market returns.

Provision increased to $3.9 million in the fourth quarter compared to $3.2 million in the third quarter. This was primarily due to higher net charge-offs which increased to $5.7 million for the quarter. The first quarter charges included $1.2 million from a specific reserve taken in the third quarter and also reflect moving the credit card loans to held-for-sale.

Total non-interest expense was essentially unchanged quarter over quarter. And as we look ahead into 2016 we will continue to work hard to control expenses and expect a quarterly run rate of about $35 million. Tax rate in the fourth quarter was elevated due to the reversal of tax benefits previously accrued related to stock options that expired in December. We expect the effective tax rate next year to be about the same as 2015, probably around 27%, as higher pretax earnings should be offset by the absence of some one-time items related to the options and also to our merger.

Our risk-based capital ratios improved this quarter due to retained earnings outpacing risk-weighted asset growth. Tangible common equity ratio was negatively impacted by a decline in the unrealized gain in our bond portfolio due to rates and the annual valuation of our pension liability which was impacted by lower asset values. With expected solid loan growth in 2016 we don't anticipate any meaningful changes to our capital ratios. We're comfortable with our capital levels and have no immediate plans to make any changes. Thanks very much.

At this time I would like to turn it back over to the operator to provide instructions for asking questions.

Question-and-Answer Session

Operator

[Operator Instructions]. Our first question comes from the line of Collyn Gilbert from KBW. Thank you. You may proceed with your question.

Collyn Gilbert

Mark, I apologize to ask you this again. Could you just run through some of your NIM comments? In particular, what your outlook is for the year and how some of your deposit initiatives sort of play into the outlook for deposit cost and how it will affect the NIM?

Mark Kochvar

For the quarter, we were down 11 basis points, as I mentioned. 8 of that came from combination of the decline in the purchase accounting accretion which is about $900,000. Then we had two quarters' worth of Home Loan Bank dividend last quarter. That was a couple of basis points. The core rate was down probably 3 basis points. We did see ahead of the Fed move some higher funding costs, both in the brokered CD and with our Home Loan Bank rates.

As we move into next year, we would anticipate fairly steady margins. We see some continued compression, a few basis points, maybe a basis point or two every quarter. That does not factor in any additional Fed increases at this time. If that were to happen, we would expect to get some release.

Collyn Gilbert

And then if you could run through a little bit more on the net charge-off that you saw this quarter. I know you had said part of that was to a specific reserve in the third quarter. What exactly went on there? Just your outlook in general for credit. Maybe if you could give us an update on the oil and gas, your oil and gas portfolio and what you are seeing in the market, tied to that?

Pat Haberfield

For the quarter and year we, through the acquired portfolio, we had quite a bit of the lot development type of loans, roughly about $50 million portfolio. It's really what we do. We reviewed those pretty in-depth, got some updated values on there and had some write-downs to adjust the value. Again, we're going through all that process like we did, if you recall, a few years ago in our own portfolio trying to create velocity and structure existing loans into the point where we're creating absorption and moving on the sales of that. Really for the quarter I think from that, the acquired portfolio, you look about 40%, 41%, roughly, of our gross charges actually came out of that portfolio.

Collyn Gilbert

Okay. Did something happen with the deterioration? Because you guys marked it, obviously, when you brought it over.

Todd Brice

It's a good question. When we were into our diligence you're working off of current valuations. And you take a little bit more of a haircut. I think it's the same thing, Collyn, that we saw in our portfolio. This particular type of asset, the appraises are very conservative, rightly so. We take the mark. It doesn't mean that we're going to forget about it.

We have the infrastructure in place. We're going to work with borrowers for the most part to try and maximize value on the back and. If you look at the last couple years, we've had some pretty good success in making recoveries on those loans. The good thing is, the market is pretty solid out there. There's some velocity with new construction. I think it's just getting the right structure around it and appropriate attention. We have the infrastructure in place to do so.

Pat Haberfield

No, I think you hit it right on the head. Collyn, as part of us getting in and getting to know the borrowers, asking some additional questions and getting updated information as well.

Collyn Gilbert

On the oil and gas, if you guys could give us your thoughts on your own portfolio and just what fallout you're seeing within your markets and your borrower base?

Pat Haberfield

Again and this is Pat, looking at our oil and gas portfolio, again it's under $50 million now. If you recall, I think we've been talking about this quarterly over the past year. I think our high watermark was right about $56 million which was in the first quarter 2015. Again, they are all on a fairly quick amortization schedule. When you look at it, about 80% or so of our portfolio is really in that support for operations. And it performs very well. We've got a couple credits that we're obviously keeping an eye on in there. But again, overall performing well and is now roughly $8 million over a 12-month period which is showing pretty quick amortization on that portfolio.

Todd Brice

It's just the space we're keeping an eye on and there's going to be some impact to some of the ancillary offshoots of that impacts the gas stations and some hotels and don't seem to be as busy in the market. We're just making sure we're having the appropriate conversations. It's going to be an issue to try and get out in front of early. Right now I think everyone's kind of -- everything's kind of status quo and getting there. There is pipeline activity going on which should help over time to get more gas to the market and -- probably later this year I think they're expecting some of those to come online.

Mark Kochvar

Those customers are a subset of that deleveraging that I talked about in my comments. So we did see a number of those clients pay down working capital lines or sell equipment in order to deleverage.

Pat Haberfield

That also speaks, Collyn, I think when we manage the credit risk too and Dave spoke to it, of really the diversification in our entire portfolio.

Dave Antolik

In Pennsylvania, too, energy is one component. Tech is really a strong, regionally, right now in Pittsburgh. You have some of the big names continuing to expand. You have your ad and Ned, your governmental related entities and our Central Pennsylvania, Western Pennsylvania, Oden central Ohio. Manufacturing, still it's holding in pretty well. Energy is one component, but there are a lot of other sectors that seem to be pitied good.

Collyn Gilbert

Okay. One final question. Todd or Mark, your outlook for loan growth. It seems like you are feeling pretty optimistic about the ability to continue to scale in your nor market spare can you quantify, kind of, your growth for expectations in 2016?

Todd Brice

Probably the high single digit range, Collyn. If you look at the last three quarters, it has been right around 10. We think there may be some economic headwinds in 2016. Certainly, the last couple weeks have shaken a lot of people's confidence in some things. I had a conversation with clients that are putting some expansion our capital investments on hold, just to kind of see if they get some further direction. Like I said, in my comments, we have four, five different markets, now. We had good bankers out there and I still think they're going to be able to move the needle to meet our expectations.

Mark Kochvar

On the sales and thus support functions and to support that kind of growth, without adding a significant expenses. That's the target of high single digit loan growth, is one that we believe is achievable and we've got the operating infrastructure in place to handle that.

Todd Brice

The other thing, along with Dave's comments, the table is kind of set. I think we made the investments that we want to make and now, it would just be to continue to generate that operating leverage and keep expenses and check and grow, grow the balance sheet with those markets and investments that we made.

Operator

Our next question comes from the line of William Wallace with Raymond James. Please proceed with your question.

William Wallace

Maybe just a little bit more on the credit side, I was a little bit surprised to see your reserves continuing to come down, in light of what we're seeing in the non-performing asset line. I know there was a specific reserve that you released and you mentioned that was [indiscernible] reserves associated with the credit card loans.

How might I think about your reserves in 2016, assuming you hit your high single digit loan growth target? Maybe thinking about it as a reserve for loans basis? Do we expect that you will stop releasing that reserves?

Todd Brice

We have to remember that NPAs don't take a reserve as impaired loans. They've been marked down to what we believe is the value. The reserve that's still out there is against all the other loans. We really didn't see too much of a change in the risk rating to those loans. We looked at our criticized and classified. Those are pretty stable quarter over quarter.

The bulk of the business that we're putting on, our pass grade credit and those based on our modeling and the way look at our AAA loan model, come in at relatively low historic rates. There has been some rumbling in the economy. We haven't made any significant qualitative adjustment on top of that, beyond what we saw before.

I would expect that -- I mean, it depends on all those things and how that all shakes out. We would expect that the reserve as a percent of loans might tick down a few basis points over the course of the year, but nothing significant.

William Wallace

Okay. I understand that your NPAs are representative of a carrying value. I guess they are up 50% in the back half of the year. Is there any thoughts, maybe making some adjustments to the qualitative parts of your model? I'm looking at your line items, every single one of them on the loan portfolio has higher non-accruals at the end of the year compared to--

Todd Brice

Yes, I mean, you're coming out with kind of a low haze though, Wally, too.

William Wallace

I agree.

Todd Brice

Like I said, we kind of get in there, take the marks. I think we've been conservative over our history. And we'll work diligently to flush them out the back end and maximize our returns. If you go back and some of the metrics we're looking at, last year was, like I said, just unusually low. Some of the credit metrics, we're going back, if you throw last year out, go back to 2007, 2008 on a lot of different categories that we're looking at.

Dave Antolik

To dovetail on Todd's comments, our NPLs and NPAs are at the lowest level -- second or third lowest level over an 8- or 9-year period. Again, when you overlay that to especially 2013, the increase really isn't as dramatic as what it appears year over year, because again 2014 was a year that was just phenomenal.

William Wallace

Okay. All right. I apologize if I missed this in your prepared comments. Is there going to be a gain booked when you sell the credit cards?

Mark Kochvar

Yes. There will be a one-time gain.

William Wallace

Do know what that gain will be or are you still working--

Mark Kochvar

No, it depends on the actual balance of the portfolio, approximately $2 million pretax.

Operator

Our next question comes from the line of Matthew Breese with Piper Jaffrey. Please proceed with your question.

Matthew Breese

As the energy landscape has changed, I just want to get your thoughts and what you're seeing in regards to overall real estate values and prices. Have you seen any weakness on that front?

Todd Brice

Not particularly. There is still significant appetite from investors for real estate assets. We see trades happening for assets or buildings that may not be fully occupied or in geographies that might not be the most desirable. Values have not been an issue. I think as we move forward if we do see some rate increases, some of our cap rates might adjust. It may change value or impact values moving forward. As we stand today, we haven't seen significant changes in values.

Dave Antolik

Like I said, some of these other sectors that I had mentioned, they're providing some support to where you're seeing some softening in the energy sector.

Matthew Breese

Okay. Thinking about the overall provisioning levels for 2016, I understand that 2014 was abnormally low. If we do hit that high single digit loan growth rate that we're targeting, should we expect the provision to be more or less similar to what we saw in 2015?

Mark Kochvar

I think in modeling, we would generally cover provision and provide some additional for that loan growth, but not at the same level as overall reserves. That growth should be coming on at better asset quality.

Todd Brice

The other thing that is in there too is the loans that came up from Integrity are marked too which are not factored in there.

Matthew Breese

Right. As those roll, we should expect a little bit more provision for those loans, correct?

Mark Kochvar

More or less deferred [ph] by the model.

Matthew Breese

Okay. Just thinking about the overall deposit strategy, obviously it sounds like you guys want to do a little bit more aggressive around deposits next year. How do you think that will factor into the overall loan to deposit ratio? Where are you trying to position that by this time next year?

Mark Kochvar

We ended the year about a little over 102%, I think 102.5%. Our internal goal is to get that closer to 100%. That means we have a little bit of catch-up to do. With more aggressive loans or with a similar year that we had this past year, we would have to add quite a bit of deposits to keep pace. We think short of significant increases by the Fed that we're going to have to be a little bit more competitive just to get people to make a move in this lower rate environment.

Matthew Breese

Do you expect a good chunk of that deposit growth to come in the form of CDs?

Mark Kochvar

Some, we have a number of different issues. Part of that are some additional CD specials. Sometimes it hard to get people to go to lock-up very long. We think a component of that will come from CDs. We had some -- a special in the fall this year. The rate was on the high side. It was successful in generating some interest and moving some funds. That demonstrates to us that it is possible to still raise money on the CD side.

Matthew Breese

Okay. My last question is in regards to the credit card portfolio repositioning. How much out of the P&L should we back out as one-time or unusual for this quarter?

Mark Kochvar

For this quarter overall it's about $900,000 pretax.

Matthew Breese

The majority came from non-interest income, correct?

Mark Kochvar

Yes, about $530,000 from there and then with moving that to held-for-sale, there's about $340,000 of reserves that got released, essentially, related to that Visa portfolio.

Operator

[Operator Instructions]. Our next question comes from Matt Schultheis from Boenning & Scattergood. Please proceed with your question.

Matt Schultheis

At the risk of beating a dead horse here, I just want to make sure I understand the lot development write-downs. So you're saying you acquired $50 million with firm Integrity, right? And you took a write-down on that this quarter for how much was the write-down again?

Mark Kochvar

$4 million.

Matt Schultheis

Was that related to the entire $50 million or was that just a portion related to one borrower?

Todd Brice

There were a couple in there.

Mark Kochvar

There was specific credit.

Pat Haberfield

There was specific credit. There was definitely more than one.

Matt Schultheis

Then did you go through the entire portfolio just to see if there were other borrowers and other credits with similar weaknesses? Or is it not necessarily the land, it is more global cash flow coverage ratios?

Pat Haberfield

We've been through vast majority of that portfolio through several of our units here that monitor the construction and progress and we've actually grouped them into kind of categories, if you will. And that's where we got to the point of transferring certain credits into our special assets unit. Others where we're getting some additional information, others that we have enough information to continue to move forward and continue to let them develop out. Yes, we have done all that. We have looked at that. This is what has come out of it for this year.

Operator

There are no further questions at this time. I would like to turn the floor back over to Mr. Todd Brice for closing comments.

Mark Kochvar

Just real quick, this is Mark. We had one question that came over through the Internet from an investor. The question reads, your forecast that the Federal Reserve will raise interest rates in the 25 basis points in March and again in September. If that occurs, what do you project the total interest rate increases in the 2015/2016 will result in S&T's first-half 2015 and full-year 2016 earnings? So [indiscernible] laid out was two additional 25 basis point increases, one in March and one in September.

We believe we're asset sensitive or that we benefit from rates up. Although the total impact is going to depend on a lot of different things, including how aggressive the curve shape changes or not. How our customers respond to that, both from a deposit standpoint and also from a loan standpoint. But we have about a $1.2 billion gap between floating and rate assets and liabilities. So that equates on an annualized basis to about $0.06 for every 25 basis points move. So this scenario combined equates to essentially $1 billion for the full year, a 25 basis point move.

We think that, on a pretax basis to start with, it probably would go down from there because of some of the deposit changes, is about a $3 million pretax number which is about $0.06 per share. Most of that would be in the second half of the year. You would enjoy the full half-year of one increase and one quarter of the other. During the first half of the year you would only have one-quarter of a 0.25 point increase. Todd?

Todd Brice

Thanks, Mark. Just want to thank everyone for participating in today's call. Mark, Dave and I appreciate the opportunity to discuss our quarter results and look forward to hearing from you on our next conference call. Have a good day. If you have any follow-up, please let us know. Thank you.

Operator

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

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