Old Second Bancorp's (OSBC) CEO Jim Eccher on Q1 2016 Results - Earnings Call Transcript

| About: Old Second (OSBC)

Old Second Bancorp Incorporated (NASDAQ:OSBC)

Q1 2016 Earnings Conference Call

April 21, 2016 11:00 AM ET

Executives

Doug Cheatham - EVP & CFO

Jim Eccher - President & CEO

Analysts

Andrew Liesch - Sandler O'Neill

Michael Perito - KBW

Eric Grubelich - Highlander Capital

Operator

Greetings, and welcome to the Old Second Bancorp First Quarter 2016 Earnings Conference Call. At this time, all participants are in a listen-only mode. A question-and-answer session will follow the formal presentation. [Operator Instructions] As a reminder, this conference is being recorded. I would now like to turn the conference over to your host, Mr. Doug Cheatham. Thank you, Mr. Cheatham. Please go ahead.

Doug Cheatham

Thank you. Good morning, everyone, and thank you for joining us. I will start with a reminder that our comments today may contain forward-looking statements, which are based on management's existing expectations in the current economic environment. These statements are not a guarantee of future performance and results may differ materially from those projected. I ask you to refer to our SEC filings for a full discussion of the Company's Risk Factors. And now, I'll turn it over to our President and CEO, Jim Eccher.

Jim Eccher

Thanks Dough and good morning, everyone. Thank you for joining us today. I'll start by giving you my view of the quarter, then Doug will follow-up with a more detailed report on the financial statements and then we’ll open it up to questions.

While economic conditions were pretty challenging earlier in the quarter, we did make some progress on several fronts. Let me say that the quarter was highlighted by net interest margin expansion, a moderate loan growth and strong expense control. We reported the first quarter net income available to common stockholders of 3.3 million or $0.11 per diluted share compared to $0.09 per diluted share a year ago. Net interest income in the quarter was up 3.2% from the fourth quarter, and up 4.3% from a year ago. The net interest margin expanded in the quarter from 3.17 to 3.25 as we benefitted from earning assets, yield expansion and a loan and investment portfolio and a strong core deposit base helped keep our cost of funds stable in the quarter.

Loan demand was typically sluggish for using in the first quarter but we did experience moderate growth in the C&I portfolio. Originations were unseasonably strong for us and had it not been for two large unexpected loan payoffs, loans totals would have been meaningfully higher in the quarter. I think what is more encouraging though is that the second quarter pipeline looks very good and stronger than it has been in several quarters. We’re putting strong focus on business development and we’re starting to see good momentum from the new talent that we’ve added over the last several months.

Our non-interest income lines of business were softer in the quarter, as our wealth management group and residential banking group both had weaker results. Wealth management fee income was lower due to a weaker equity markets in January and February. Our residential loan originations remain consistent from prior quarters, but the value of our servicing portfolio declined in the quarter as a result of lower interest rates. Overall, we’re seeing consistent production in our residential division and we expect to a seasonably good second quarter from this line of business.

We also continue to build upon a strong core funded deposit franchise. Non-interest bearing deposits were up 4% from the prior quarter, up about 7% from a year ago. Overall, core deposits which include time deposits were up 3% from the prior quarter and we continue to focus on building our core deposit base, which now comprises 77% of our total deposits and up about 5% from a year ago. Non-interest expenses were held in check pretty well controlled down 1% from the fourth quarter, down 5% from the first quarter last year Doug will give you a little bit more color on that. Asset quality improved in the quarter mostly due to the declines in the non-accrual loan portfolio and successful OREO resolutions.

Non-accrual outflows slightly exceeded inflow in the quarter as overall credit quality continues to strengthen. Gross charge-offs were modest leading to small net recoveries in the quarter as our total classified assets declined 5% in the quarter. So overall, we’re pleased with how our net interest margin held up, a continued improvement credit quality, we’re especially encouraged by our loan pipeline in the coming quarter, and despite some softness in non-interest income in the quarter we are optimistic that will improve in coming quarters.

Doug -- I’ll turn it over to Doug, he can give you more insight on the first quarter performance and then we’ll open it up to questions.

Doug Cheatham

Okay. Thanks Jim. Jim mentioned the earnings in the quarter I will also note that we declared $0.01 dividend payable May 09th to stockholders of record on as of April 28th. And this is our first dividend since mid-2010, which indicates the progress we have made over that period of time. Jim mentioned the margin increase from 3.17 in the fourth quarter to 3.25 in the first quarter. I’ll give you some background on that.

The cost of funds was flat as it has been for some time now. Even after the Fed move in December deposit pricing is essentially unchanged in our markets. Deposits increased by about 38 million in the first quarter, time deposits declined just slightly and the other -- and the increase was split about half to non-interest bearing demand and the other half to interest-bearing demand, savings and money market accounts.

On the asset side, we saw a $45 million increase in earning assets primarily in the investment portfolio. At the same time, the investment portfolio yield increased by 14 basis points to 245 and the loan portfolio yield increased by 6 basis points to 454. Elsewhere in the balance sheet capital ratios continue to be strong, tangible common equity to tangible assets was 7.4% at the quarter end, and all regulatory ratios were comfortably above well capitalized levels.

Asset quality continues to improve as evidenced by the decline in non-performing assets. The classified asset ratio was under 19% at quarter end. There were a couple of large items in non-interest income. First, if you’re comparing these results with a year ago, we had a $917,000 in non-recurring income in the first quarter of 2015 also in the first quarter of 2016 we had a $1 million valuation charge to mortgage servicing rights. This is recoverable to earnings when interest rates rise.

Setting aside those two items for the sake of comparison, non-interest income would have increased modestly year-over-year. I looked at my comment, my earnings call comments from a year ago. At that time, I noted that non-interest expenses in the first quarter of 2015 were at the lowest level in over seven years at 17.2 million. Year-over-year, we saw a further improvement in the first quarter of ’16, expenses were down by more than 5% from the first quarter of 2015 so 16.3 million in the first quarter of 2016.

Salaries and benefits were down year-over-year as were most categories of expenses, the trend of reduced other real estate and the related expenses continued in the first quarter. Other real estate expenses although up from the fourth quarter were down $600,000 year-over-year to $738,000 in the first quarter. So that is an overview of the financial results. I’ll turn it back over to Jim.

Jim Eccher

Okay. And now we’ll open it up to questions.

Question-and-Answer Session

Operator

Thank you, gentlemen. At this time, we would be conducting a question-and-answer session. [Operator Instructions] And our first question comes from the line of Andrew Liesch from Sandler O’Neill. Please proceed with your question.

Andrew Liesch

Doug can you talk a little bit more on these securities purchases and what happened with the yield there or did the yield rise because of these purchases or benefits from the rate hike and just more detail on the CLOs and asset backed securities that you bought?

Doug Cheatham

Okay. Well the -- it was a little of each we bought asset backed securities in the quarter but these are variable rate types of investments and with the increase from the Feb in December it did find its way to our portfolio in the first quarter. So, that really benefited us. The asset backed securities are primarily self student loan securities. So, that was a continuation of that, that portfolio was down from where we peaked on that but it has been a good source of interest sensitive assets at a decent yield. I think you mentioned the CLO portfolio, we’ve been in that since I think the third quarter of 2014, not a lot of turnover in that portfolio, we put a lot of emphasis into monitoring that and I think we have a good handle on what we have there, it is a good yielding portfolio and it helps when we get the, a bunk from the Fed like we did in December.

Andrew Liesch

And then the salaries and benefits line did that increase to some normal season aspects or was there anything else behind that?

Doug Cheatham

Yes it was a little of each again. We did have a accrual adjustment related to year-end bonuses that were paid out in the first quarter that was about 200,000 I believe and we do have some things hit first quarter that -- so there is a little seasonality there but it’s fairly indicative.

Operator

Our next question comes from the line of Michael Perito from KBW. Please proceed with your question.

Michael Perito

A quick, I guess I’ll start kind of a longwinded question here. Can you guys maybe run through where the bank level classified ratio is today kind of the cash at the HoldCo and then maybe also any updated thoughts surrounding the trust preferreds that you guys still have on the books?

Jim Eccher

Sure. Are you looking for the classified asset ratios?

Michael Perito

Yes.

Jim Eccher

Or you are looking for classified loan totals?

Michael Perito

No, the classified asset ratio.

Jim Eccher

Yes that is -- as we finished the quarter it’s done just about 18.8% that was down from about a little over 20% in the -- at the end of the year. What was the second item you mentioned I am sorry?

Michael Perito

Just to update cash at the HoldCo and then also any updated thoughts surrounding the true ups and any [Multiple Speakers]?

Jim Eccher

Okay. Yes, we have got about 31 million-32 million in cash at the holding company.

Michael Perito

Sorry I missed it. Can you just -- sorry about that.

Jim Eccher

Yes, it’s close to 32 million in cash at the holding company.

Michael Perito

Okay.

Jim Eccher

We do have various debt obligations at the holding company to service but we have got plenty of cash there to do that. As far as the true ups go we’ve mentioned it in the past and it really it is the same answer we would consider whether to reduce the true ups outstanding at some point but we’ve made no decision on that.

Michael Perito

Okay. Thanks. And then just on the reserves, it was flat quarter-over-quarter, toy did see some more moderation in the NPAs. Well I guess is there any updated thoughts around kind of how you’re thinking about your reserve levels, as you kind of see the portfolio unfold here, is there anything else to size in the NPLs or are the real estate on that -- we could see come out in the balance of this year?

Jim Eccher

Yes I mean our non-accruals are down to just over 13 million and we feel it’s a pretty granular portfolio at this time, so we’re continuing to work those out one at a time. We have had very little migration in the quarter into that bucket more came out. Absent the non-accruals the rest of the -- really the rest of the classified assets resided in the OREO portfolio which we continue to move down as well that was down almost 10% for the quarter. So, we’re obviously through our methodology every quarter given more of a positive outlook on loan growth potentially in the second quarter, we are trying to avoid a situation where we are doing a release one quarter than adding to the provision the next. So we’d like to think we’re going to be able to grow into that reserve position over the next quarter or two.

Michael Perito

So it should -- on a dollar basis, it sounds like it should stay relatively flat to where it is currently?

Jim Eccher

I think so, yes.

Michael Perito

Okay. And then just one last one for me, just in the prepared remarks Jim you mentioned about some new guys you have brought on from a lending perspective over the last several months. Any color, you could offer us there as to where these guy’s focus really came from and what the pipeline for any additional adds looks like at this point?

Jim Eccher

Yes they are all-in market lenders a couple are more focused on C&I we feel more optimistic about the market with some of the disruption in the market with M&A, we’d like to be opportunistic and continue to add the right talent to our team if those opportunities become available. So yes, we would like to continue to add talent and we’re getting more looks and hopefully we’ll be able to do so in the next quarter or two.

Operator

And our next question comes from the line of Eric Bellet, Private Investor. Please proceed with your question.

Eric Grubelich

It’s Eric Grubelich, Jim could you just provide a little bit of color on those a couple of loans that paid off I think you identify the amount is 14.6 million in the press release? Were they refied out somewhere else where they just payoffs?

Jim Eccher

No they were both pretty long time clients that had opportunities to sell their properties both investment properties at meaningful gains. So that was unexpected but frequently you have to overcome that quarter-to-quarter but it has been that for those pay downs will depend a little bit more of a meaningful growth quarter for us.

Eric Grubelich

Okay, that’s fine. And then just, if you could answer a question or maybe, I forgot who mentioned about the bonus accrual for the quarter. So if you kind of roll forward next couple of quarters. Should we see salary and bonus fairly stable or might there be a pickup there, if you do get a few more looks and hire a few more people?

Jim Eccher

Well, that can certainly change a little bit quarter-to-quarter. On the one hand that bonus accrual was kind of a one-time catch-up. On the other hand, we do have normal salary adjustments and that sort of thing tend to hit in the later part of the first quarter just seasonally. You kind of have some things moving in opposite directions. The new hires, many times, we offset those with savings and other areas, we always take a really close look at any vacancies and evaluate whether or not we need to refill them. That is a I guess a longwinded way of saying that this is probably fairly indicative in the near-term of where we’re going to be.

Operator

Okay gentlemen, there are no further questions at this time. I’ll turn it back over to you for any closing remarks.

Jim Eccher

Okay. Thank you everyone for joining us this morning and we look forward to speaking with you again next quarter. Good bye.

Operator

Ladies and gentlemen, this does conclude today’s teleconference. We thank you for your time and participation. You may disconnect your lines at this time and have a wonderful rest of your day.

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