United Community Financial Corp (NASDAQ:UCFC)
Q1 2016 Earnings Conference Call
April 20, 2016 10:00 AM ET
Tim Esson - CFO
Gary Small - President and CEO
Matt Garrity - EVP, Commercial Lending and Credit Administration
Scott Siefers - Sandler O'Neill & Partners
Michael Perito - KBW
Good morning, and welcome to the United Community Financial Corp's First Quarter 2016 Earnings Conference Call. At this time, all lines are in listen-only mode. A question-and-answer session will follow this presentation, and at that time, I will provide instructions on you asking questions. Please note that this event is being recorded.
At this time, I would like to turn the call over to Tim Esson, Chief Financial Officer of UCFC and Home Savings. Please go ahead.
Good morning. And thank you for participating in today's conference call. Before we begin, I'd like to take the time to refer you to the Company's forward-looking statements and risk factors, which are in the screen in front of you or can be found on our Investor Relations Web site at ir.ucfconline.com. The statement provides the standard cautionary language required by the Securities and Exchange Commission for forward-looking statements that may be included in today's call. Also a copy of the first quarter earnings release can be obtained at ir.ucfconline.com.
I would now like to introduce to you Gary Small, President and CEO of both UCFC and Home Savings.
Thank you, Tim, and good morning to all of you and thanks for joining us today. I’ll start off by saying Home Savings business activity for the first quarter provided just the strong start that we anticipated for 2016. Loan growth exceeded 16%, first quarter versus first quarter, and we continue to see good deposit growth, nice improvements in fee income and expenses are very much in check. Loan balance growth and loan production are on track and we’re experiencing excellent levels of activity during the first quarter. Each business unit, commercial, residential, mortgage and consumer, see their businesses growing absolutely in line with our 2016 plan.
However, earnings performance for the quarter was more moderate than we’ve become accustom to over the past six to eight quarters. Net income for the quarter at $3.3 million was down 10% for the same period last year, and EPS was up 6.9 cents per share, which is down 7% from the same period last year. During the quarter, we booked a higher than normal loan loss provision to accommodate the write-down of troubled commercial loan. The crediting question has been closely followed and we allowed for the possibility of a write-down in our 2016 financial performance considerations. While anticipated, the charge does make for uneven quarterly reporting when actually incurred.
We also experienced a $435,000 unfavorable adjustment to our mortgage servicing rates valuation allowance in the quarter. The adjustment is directly tied to the drop in a 10 year treasury rate since the beginning of the year. The 10 year rate remains in the 175 range, we’ll see no further adjustments; if the 10-year rate re-bounce we’ll see a reversal of the adjustment and that was the case last year. I do want to assure all that the full year earnings expectation for Home Savings remains unchanged with our guidance earlier, and has not impacted by the elevated loan loss provision experienced in the first quarter.
Away from the earnings topic, I would say that there are many new business initiatives that are underway in the organization in the first quarter. We’ve entered a new market for residential mortgage origination and more on that later. We completed the acquisition of James & Sons Insurance agency. We’ve completed all steps toward development of a mezzanine debt lending capability that will supplement our investment real-estate product offering. And we’ve added commercial bankers across the footprint over the course of quarter.
Talent acquisition is a high priority for the organization and we continue to attract talented people to key positions. The recent addition of Doug Young, as Senior Vice President and Head of our Information Technology Group is a good example. Doug has a broad background with national and super-regional bank and organizations and his experience will go great way toward Home Savings efforts as we expand our product and services and our footprint going forward.
Now I’d like to turn the call over to Matt Garrity to provide some more color on our lending and our asset quality progress.
Thanks Gary. I will be updating you on our performance in the commercial and residential lending businesses, as well as providing comments on asset quality. Our commercial business had a terrific first quarter, both in terms of loan production and balance growth. Loan production for the first quarter ran at more than double the pace of the first quarter of 2015, while loan balances grew just over 10% for the quarter and over 50% compared to the first quarter of 2015.
In terms of production mix, C&I originations during the first quarter were approximately 34% of total production. Unfunded commitments, which help provide visibility into future portfolio growth, increased by over 18% during the quarter and currency exceed $122 million. The current pipeline for future business remains solid. Also during the first quarter, we added four talented bankers into our Cleveland, Columbus, Youngstown, and commercial real-estate markets. Overall, we are pleased with the trajectory of the commercial business and we remain on pace to achieve our full year expectations.
In our residential lending business, we experienced the solid quarter of loan originations. Pipeline levels are growing. As of the end of the first quarter, they were running approximately 18% ahead of the same period last year. Balances grew modestly, keeping in line with our strategic plan. We are excited to announce our recent opening of a new loan production office in Morgan Town, West Virginia during the first quarter. This represents a lift-out of a talented team of lenders that are great match for our mortgage loan business. In consumer lending, we continue to show growth in our core retained portfolio. In particularly, our auto portfolio grew by 21.2% during the quarter.
With respect to asset quality, we saw improvements in both payment delinquency and REO balances. Delinquency for the first quarter improved approximately 9%, while REO balances declined by almost 31%. We did see an uptake in non-performing loans and charge offs as we cleaned up a legacy loan mentioned earlier. We view this clean up as an isolated event, as overall levels of criticized assets continue to fall. Criticized asset levels have improved close to 10% during the first quarter, and have improved over 22% since fiscal year end 2014.
While we continue to closely monitor our loan portfolio, we remain comfortable with our overall asset quality performance. As we have mentioned on previous calls, we have no direct exposure to the energy segment, and has not seen evidence of any significant deterioration in our portfolios because of our customers’ involvement in these sectors. Rather our customers seem to be benefiting from the lower energy prices.
I would now like to turn the call over to Tim Esson who will discuss our financial performance in greater detail.
Thank you, Matt. I’d like to take the next few minutes to recap certain financial highlights from the first quarter. As Matt pointed out, loan growth continues to be solid, and with that growth average loans including loans held for sale grew $37 million during the first quarter, or 11% annualized.
Currently loans are up $188 million or 16% on an average basis compared to the same time last year. Average deposits increased almost $13 million or approximately 4% annualized in the first quarter of 2016, and have grown by $66 million or 5% year-over-year. More importantly, about half of the average deposit growth was in non-interest bearing deposits, which were up 15% from the same quarter last year.
Going forward, we expect this deposit growth to continue with an emphasis in public funds and business deposits. Due to the growth in our loan portfolio, net interest income expanded to $15 million in the first quarter of ’16, up from the $13.9 million reported in the first quarter of ’15. Our current net interest margin of 3.21% did increase from 3.16% reported in the prior quarter. This increase was due to realizing the benefit from the prepayment of high class debt in the fourth quarter.
In addition, low interest rates in the economy continue to put pressure on earnings asset yields, but we will manage the mix and volume of earnings assets and related funding to address these headwinds.
We anticipate savings on higher cost certificates of deposits maturing in the second quarter of 2016, along with growth in non-interest bearing deposits. Additionally, we will also continue to shift dollars from lower yielding investment securities into municipals with their corresponding higher yield. These changes in mix along with growth in our balance sheet should allow for steady increase in net interest income.
Expansion of the net interest margin will remain challenging should rates continue at current levels. The provision for loan losses in this quarter was $2.2 million compared to a recovery of $184,000 for the same quarter last year. The elevated provision in the quarter was necessary as a result of loan growth and a charge off for a long held commercial real-estate loan.
Non-interest income was $4.7 million in the first quarter of 2016 compared to $4.1 million in the first quarter of 2015, which represents a 13% increase. Deposit related fees were strong, increasing by $261,000 compared to the same period last year. In addition, insurance income related to the James & Sons Insurance agency contributed to solid performance of non-interest income in the first quarter. Offsetting some of the strength in this section of the income statement was a higher valuation allowance on mortgage servicing rates.
Non-interest expense was $12.5 million in the first quarter of 2016 compared to $12.7 million in the first quarter of 2015. The primary driven of this decrease was a one-time reduction in supervisory fees. Overall, our efforts at controlling non-interest expense have been successful, even as we continue to add revenue producing personnel. These efforts translate into a lowering of our efficiency ratio to 63.9% in the first quarter of ’16 compared to 70.1% last year at this time. With continued growth in revenues in 2016, we believe there is still more room for improvement in the efficiency ratio during 2016.
With that, I’ll hand the call back to Gary Small.
Thanks Tim. As is our custom, before we move to the Q&A portion of the call, I’ll comment on our vision for the remainder of the year; first again, let me say, we are affirming our guidance for full year earnings and we continue to anticipate 12% dollar earnings growth and 15% EPS growth, ’16 versus ’15; expect double digit loan growth with commercial loan growth in excess of 35%; and we do expect the top $500 million in commercial outstandings by the end of the year if we roll back to where we were, say at the beginning of 2014, that would be a doubling of that book and that’s nine quarter time period.
Earnings asset growth will come in at 8-plus percent just as planned, and revenue will be up 12% with material upticks as Tim was commenting on in deposit fees, interchange income, and we do expect to see improvement in residential mortgage fee income. Expenses are expected to increase 1% to 2% over the ’15 level generally due to the addition of the James Insurance agency to the expense base is actually seeing reductions in other segments of our expense profile.
Margin management continues to be a challenge for Home Savings and the industry. We have roughly $100 million of residential mortgages that have yet to reset price wise following the Fed’s move in December. They will reset at an $8 million to $10 million a month cleft through the end of the year. As of 3/31, our home equity portfolio should have all been totally reset, and the second quarter will be the first full quarter’s worth of benefit that will reflected in our financials.
So we have a little tailwind behind us, but 1 basis point or 2-basis point is what we would expect out of that all things being equal. We are revising our guidance on the level of net charge-offs for the year. I would expect net charge offs to be 27 basis points, plus or minus a couple of bps, and this is versus our 20 basis points guidance that we gave at the beginning of the year. However, we see no material impact on the full year loan loss provision expectations as our portfolio credit metrics continue to improve.
Final comment, first quarter pre-tax and pre-provision income was up $1.8 million or 34% versus the first quarter of last year. Obviously very robust improvement that figure along it's perhaps the best indicator of Home Savings’ momentum as we move through the remainder of 2016.
So Keith with that, please open it up for questions.
Yes, thank you. We will now begin the question-and-answer session [Operator Instructions]. And our first question comes from Scott Siefers of Sandler O'Neill & Partners.
Good morning guys. With something you could provide and maybe little more color on the charge off maybe sort of top level industry geography that kind of stuff and as you look at things based on your guidance it sounds like seem pretty confident that there're going to be no additional charge offs or credit costs associated with this thing. Just maybe one or two quick thoughts on what gives you the confidence that this is sort of a won and done thing as it relates to this relationships specifically.
Scott, this is Matt Garrity and I'll try to answer your question. With regards to the loan in question that was mentioned during the call. This is a credit that is in market for us, it's in Northeast Ohio. It was actually classified during 2015, it's a legacy loan that's over 10 years old. The increase that you see in non-performing loans during the quarter is a reflection of that particular loan migrating into that category. We did mark the loan down during the quarter appropriate with what we think the, what our expectation is to resolve the credit and we're comfortable with where the credit sits today. With respect to future charge offs, you know as Gary and Tim have mentioned, I mentioned during our comments, our level of criticized assets continues to improve, so we are very comfortable with our performance in our asset quality segment right now and we don't have the exposure in the energy segment which I know gets a lot of discussion these days in banking but we just don't really have, we don't really have that headwind facing us.
Okay, perfect, thank you. And what, what was the size of the expense benefit from the reduction in supervisory ramp, did you guys notice.
Scott, approximately about 250,000.
Okay, alright, thank you.
Thank you, and the next question comes from Michael Perito with KBW.
Good morning. I start on the share repurchases, couple of questions, I saw in the release you guys noted that you purchased about 430,000 shares in the quarter, are you guys -- does that -- was most of that towards the end of the quarter so we'll see some impact in the second quarter. And then secondly I think that leaves you guys about 300,000 left on your current authorization, I guess one is that correct and two how are you guys thinking about you know the remainder of the year and potentially reupping that authorization if you use it.
Michael this is Gary, I'll start with that and Tim can add flavor as he sees fit. Relative to the buyback you know we're pretty much in a dark period the first month of each quarter from a buyback perspective as far as our own activity in the marketplace on buybacks. So there is always a weighting towards the back end of the quarter relative to repurchase, I think. Hope that answers your question so averages and actual might look a little bit different. But we still anticipate that we will bring down point to point the shares outstanding 3% but in the first quarter we released a few shares and this is Tim I'll need your help on this, as we go through our normal computation plans and so forth some additional shares get put out. We add that to the amount that we got to buyback because our net goal is to be down by an absolute number. That sound about right.
That sounds exactly right.
So no change in expectation there but I don't think you would feel because we had all that activity in the first quarter averages versus the end of period shares, there'd be some noise there.
Okay, is that number correct, the 300,000 is that about right, and so in taking that with your previous comments I'm assuming you guys will just re-up it once it's used up.
You know you should expect that we will be taking some action in that vein and that we remain committed to our 3% buyback over the next three years inclusive of this year and that we'll take the action at the board level to sustain that program as we go without interruption.
Okay, thanks, then thought I'd ask another question on the credit, I wondered just in terms of re-across the rest of your portfolio I mean can you maybe compare some of the size and structure or some of your newer commercial growth versus you know the size of this credit I mean if the newer production you guys are putting on typically similarly sized, smaller, larger I mean is there any other notable changes in terms of how you structure term the deals with some of your newer clients.
This is Matt. I would say, it's hard to make a comparison to the kind of credit we're bringing into the bank over these couple of years compared to the type of origination that was done 10 years ago. Mike I would tell you that the quality of the borrower, the quality of the underwriting and the depth of the underwriting in what we've been doing which proves out in the quality of the originations we've done over that period of time, really just doesn’t compare, and I don’t know how else I can articulate that without climbing too far down in the weeds in terms of the additional diligence and underwriting that's done and really has gone on here for several years now.
The only thing that I would add to that is you know relative to this particular loan, certainly this loan could have got done in today's environment but structured in a whole different way and so for that so back to the quality underwriting it would look different but just for flavoring when we look at our list of loans that might be in an impairment mode right now it's a one page of commercial loans and literally as far as dollars that we think might be at risk relative to principal we're down into the six figure category with this latest change. I mean we just have nothing in the pile so even though there was some odd legacy underwriting there's not much in the way of things to clean up on a go forward basis and we have absolutely nothing new in that pile. So again just for flavor.
Okay. And then just one last one from me just on the NIM quickly Gary just to your comments so I mean is it fair to say that's sounds like there is maybe another basis point or two from this 321 level that you guys can recognize next quarter but that the hope is just trying to keep it there in the back half of the year.
Mike. I think it will take the -- it'll continue to be a story that evolves over the year but we would see as I mentioned the items that we'd reprice would add that, tend busy rate positioning in the portfolio out of treasuries and into tax exempts but obviously there's a lot of pressure on taxes and pricing and we're being diligent about that but it's taking time to find the right asset at the right price that will add to our margin we've got deposits repricing, we'll hold firm to our task of getting a 324-325 margin in for the year. First quarter is always a little low just the way the numbers for the day of the year work and so forth and but we'll hold firm the 324-325 is our forecast.
Okay, alright. Thank you. Thanks for taking my questions guys.
Thank you. [Operator Instructions] Alright, there is nothing else at the present time, would like to turn the call back over to management for any closing comments.
Thanks Steve. So again I appreciate the time this morning. I think that quarter's looking out will return to our normal positive story with all arrows pointing up into the right and again reiterate that for the full year we still have the same expectations that we started the year off with it never ends quite in the same fashion as you drew it up but we feel comfortable with our projections and hope you see the same. Thanks very much.
Thank you. The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.
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