Bank of Marin Bancorp's (BMRC) CEO Russell Colombo on Q1 2016 Results - Earnings Call Transcript

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Start Time: 11:30

End Time: 12:00

Bank of Marin Bancorp (NASDAQ:BMRC)

Q1 2016 Earnings Conference Call

April 25, 2016, 11:30 AM ET

Executives

Russell A. Colombo - President and CEO

Tani Girton - EVP and CFO

Jarrod Gerhardt - SVP, Director of Marketing

Analysts

Jeff Rulis - D.A. Davidson

Jacque Chimera - KBW

Tim Coffey - FIG Partners

Alex Morris - Sandler O'Neill & Partners

Jarrod Gerhardt

Good morning, and thank you for joining us for Bank of Marin Bancorp’s Earnings Call for the First Quarter ended March 31, 2016. My name is Jarrod Gerhardt. I’m the Senior Vice President, Director of Marketing for Bank of Marin.

During the presentation, all participants will be in listen-only mode. After the call, we will conduct a question-and-answer session. [Operator Instructions]. As a reminder, this conference is being recorded on April 25, 2016.

Presenting this morning will be Russ Colombo, President and CEO; and Tani Girton, Chief Financial Officer. You may access the information discussed from the press release which went over the wire at 5 AM Pacific Time this morning and is posted on the Web site at bankofmarin.com, where this call is also being webcast.

Before we get started, I want to emphasize that the discussion you hear on this call is based on information we know as of today, April 25, 2016, and may contain forward-looking statements that involve risks and uncertainties. Actual results may differ materially from those set forth in such statements. For a discussion of these risks and uncertainties, please review the forward-looking statements disclosure in the earnings press release we issued earlier this morning, as well as Bank of Marin Bancorp's SEC filings. Following the prepared remarks, our team will be available for questions.

And now, I'd like to turn the call over to Russ Colombo.

Russell A. Colombo

Thank you, Jarrod. Good morning. Welcome to the call. We are pleased to review our results with you for the first quarter of 2016. Let’s start with some of the highlights. Thanks in large part to strong loan originations in the fourth quarter of 2015 and gains on acquired loan payoffs and securities sales, our earnings for the first quarter were a record $5.6 million. This is an increase from the 4.9 million in the fourth quarter of 2015 and 4.5 million in the first quarter of 2015.

Diluted earnings per share were $0.93 in the quarter compared to $0.81 in the prior quarter and $0.74 in the same quarter a year ago. Return on equity reached 10.38%, up from 9.12% last quarter and 8.92% in the first quarter of 2015. Return on assets was 1.15%, up from 0.98% the prior quarter and 1% a year ago. Loan originations of 29 million were approximately the same as the first quarter in 2015, but payoffs of 37 million were approximately $4 million lower than the same quarter last year.

In the quarter, we filled some important commercial banking positions across our footprint. Deposit balances declined 48.9 million due to the normal seasonal factors in several deposit customer businesses. The bank’s deposit mix is healthy and continues to reflect the strength of our relationship banking focus. Non-interest bearing deposits make up 45.1% of total deposits resulting in a total cost of deposits of 0.08%.

Credit quality remains exceptional. Nonaccrual loans represent only 0.18% of total loans as of March 31, 2016 with the Texas ratio at 1.36%. There was no provision for loan losses reported in the quarter and we had net recoveries of $29,000.

Now let me turn it over to Tani for additional insights about our financial results.

Tani Girton

Thank you, Russ, and good morning, everyone. The first quarter was encouraging and builds on our success from the prior quarter. Net interest income totaled $18.6 million in the first quarter of 2016 compared to 17.2 million in the prior quarter and 16.6 million in the first quarter last year. Higher average loan balances from the substantial loan growth in the fourth quarter of 2015 contributed to the increase and acquired loan payoffs also had a significant impact on net interest income.

First quarter tax-equivalent net interest margin was 4.04% compared to 3.7% last quarter and 4% in the first quarter of 2015. The increase from last quarter includes 10 basis points related to a shift in the mix of interest-earning assets from lower yielding interest-bearing cash and investment securities to higher-yielding loans. Another 21 basis points came from purchased credit impaired loan payoffs and market value adjustments on interest rate swaps.

The investment portfolio totaled 400 million at March 31, a decline of 88 million from year-end. In addition to paydowns and maturities in the portfolio, 55 million in securities were sold at gains totaling 110,000. At the same time, overnight borrowings were reduced by 47 million.

Non-interest expense of 12 million was higher than in the prior quarter and the year-ago quarter due to reductions in the reserve for unused commitments that took place in both the first and fourth quarters of 2015. Additionally, expenses exceeded last quarter due to incentive accrual reversals in the fourth quarter and 401(k) matching and lower deferred loan origination costs this quarter.

Our loan to deposit ratio has increased to 85.8% and we continue to have ample liquidity in capital to support growth in coming years. All capital ratios are well above regulatory requirements for a well-capitalized institution and tangible common equity to tangible assets increased from 10.1% at year-end to 11%.

The Board of Directors declared a cash dividend of $0.25 per share on April 22. This represents the company’s 44th consecutive quarterly dividend. It is payable on May 13, 2016 to shareholders of record at close of business on May 6.

With that, I’d like to turn it back over to you, Russ, for some additional comments about the outlook for the coming year.

Russell A. Colombo

Thank you, Tani. The first quarter of 2016 was another good quarter for the bank and a great way to begin the year. Our results are strong because of our consistent disciplined approach, which delivered positive results.

Our focus in 2016 will not vary from past years. We have built this organization based on relationships with our clients, our vendors and our employees. We are committed to our approach and the communities we serve. Many organizations say the same thing but our results confirm that we stay true to these fundamentals.

The M&A market in the Bay area has picked up recently and we expect to be an active player in the future. We continue to look for opportunities that will benefit the bank and our shareholders. As always, expense control remains a key priority. Careful evaluation of new expenditures is integral to how we run our business.

In summary, 2016 is starting off well. We remain focused on organic growth. Our bankers have built significant loan and deposit pipelines and we are very encouraged about future opportunities.

One last note. On May 17, we will hold our Annual Shareholders Meeting in San Rafael, California. If any of you would like to attend, please see our Web site for more information.

Thank you for your time this morning and we will now open it up to answer any of your questions.

Question-and-Answer Session

Operator

[Operator Instructions]. Our first question comes from the line of Jeff Rulis with D.A. Davidson. Please proceed.

Jeff Rulis

Thanks. Good morning.

Russell A. Colombo

Good morning, Jeff.

Tani Girton

Good morning.

Jeff Rulis

Russ, just wanted to follow up on you mentioned the pipelines in your last comments there, but I think in the Q4 call you mentioned given the strength of loan growth that maybe Q1 could be a bit of a rebuilding of the pipeline type quarter. I guess, how could you compare the pipeline going into the quarter versus how you exit Q1?

Russell A. Colombo

Well, if you compare it to when you’re going into the quarter and the end of the quarter is substantially higher now than it was at the end of the year because we executed on so many of those opportunities right at the end of 2015. So we are very encouraged with the pipeline. When I talk about pipeline, I talk about both deposit and loan pipeline. And for example on the loan side, our pipeline has increased very single month since the end of the year. So by end of March, it was at its highest level since it was prior to all the bookings and prior to the end of the year.

Jeff Rulis

Got it, okay. And then I guess as it relates to margin, obviously some moving pieces with the payoffs but on a core margin basis, Tani, do you have any expectations for considering the December hike and how things are playing out on a core basis?

Tani Girton

Yes, I think we attributed both in the prepared remarks as well as in the numbers that are in the release. If you subtract what came out through the gains on the payoffs of the PCI loans, we attribute about 10 basis points to the increase in average loans.

Jeff Rulis

Right. So going forward, is there any kind of pull through into Q2 or your expectations for core margins going ahead, I mean you had that one time kind of mix improvement. I guess your expectations on the core going forward.

Tani Girton

Yes, I think that 10 basis points should stick with us. And the only other thing that’s going to impact it of course if you get the market value adjustments on the flat and that was a key part as well. But other than that, we try to keep our cash balances close to zero and to the extent that our cash is fully deployed, that’s going to make sure that our margin is maximized. To the extent that we aren’t able to keep up with the cash coming in, in terms of loans and securities deployment, then that might put some pressure on the margin a little bit.

Jeff Rulis

Got it, okay. And one last one on the PCI loan balances, as those work their way down, I guess I figured as that gets smaller, the impact to margin would get smaller. But as that winds all the way to zero, is there a pickup in remarking or anything that would make that more noisy on the way out as it goes to zero?

Tani Girton

I’m not quite sure I understand about remarking other than we reassess the expected cash flows every time we value them. Is that what you’re talking about?

Jeff Rulis

Maybe not necessarily a mark but I guess the gains, the absolute balance as you say I guess is 2.8 million as it is. I guess the expectations for additional volatility within that should – I guess is it true that as that gets smaller should have less and less impact on the margin?

Russell A. Colombo

Yes, it definitely should have less impact. It’s unusual. Occasionally, you have unexpected payoffs of loans that were PCI loans, so we had that in the first quarter. But if you look historically quarter-to-quarter, you can see that the impact of accretions from PCI loans has been dropping. This quarter, they just happen to be a little bit more than normal but I fully expect that they continue to be a smaller impact on total earnings. And obviously we – as we did in the fourth quarter we are going to continue to build the loan portfolio, the loan pipeline which builds a portfolio. And as we bring on more loans, obviously there are much better yields and we can get some cash, so that has a significant impact on the net interest margin.

Jeff Rulis

Got it, okay. Thank you.

Russell A. Colombo

Thanks, Jeff.

Operator

Our next question is from the line of Jacque Chimera with KBW. Please proceed.

Jacque Chimera

Hi. Good morning, Russ. Good morning, Tani.

Tani Girton

Good morning, Jacque

Russell A. Colombo

Good morning, Jacque.

Jacque Chimera

The payoff activity that you had in the quarter, Russ, is that still pretty much the same thing that we’ve seen in past quarters just people selling their businesses and just good payoff activity because of the strength of the local economy?

Russell A. Colombo

It was kind of a combination of that. We look at our portfolio and we have $1.5 billion portfolio and you have to assume you’re going to get about 10% a year. And that falls in that number. We did have one large payoff of $13 million that was paid off during the quarter and it was one we chose. It wasn’t a problem credit but we chose to not compete on pricing, so we walked away from that. So that was a little unusual. But it’s not unusual to have a certain volume of loans paid off just because of the portfolio and it does churn at some point. I would expect that to continue. Every quarter is different. We really have to – if we get $150 million in payoffs, which is about 10%, obviously we have to generate 225, 250 loan volume just to achieve some growth out of the portfolio.

Jacque Chimera

No, I definitely understand. So would you say that, because I know there were a few quarters last year where payoff activity was very elevated because of sales, but that actually sounds like it pays off in the quarter and you didn’t see quite as much as that?

Russell A. Colombo

Yes, we had a couple of large customers that got sold, sold their business here in Marin actually and so they get sold, they get paid off and we haven’t had value this year. This is mainly more of the payoff activity typically with commercial real estate, because there is some churn on that. People are selling property. We did have some property that sold last year, a couple of businesses but a number of properties. So there will be some more of that and I think that generally speaking, I think particularly around the Bay area, people are a little nervous about the economy and our real estate value is at a peak. If they are at a peak, then you may see more payoff activity in commercial real estate.

Jacque Chimera

Okay. Are there areas in the economy that are making you nervous?

Russell A. Colombo

You mean other than technologies? I’m nervous about technologies in the Bay area particularly because it will drive so much. We don’t lend to this business but it drives so much of the activity certainly in San Francisco and there’s this spillover to Oakland and even in Marin of commercial real estate value, residential prices. We’re not a residential lender but it does affect what we do. So I get nervous when I – there’s an interesting article about the FinTech sector and I think that sector is seeing higher elevated losses than they had anticipated and you’re starting to see some layoffs with those companies and they’re big employers in San Francisco. So I’m getting – if I had to pinpoint one area that makes me the most nervous is the FinTech sector of technologies. And they referenced their inability to properly underwrite their credits and I’m not sure I have that exactly right, but that was referenced in the last article I read. And so that makes me nervous, because there’s a lot of debt that’s out there for that and so I’m particularly uncomfortable with that. We’re not involved in that but – once again there’s this spillover with everything that is related to technology on everything else in the Bay area.

Jacque Chimera

So what, if anything, are you doing differently then to manage these – I don’t want to say fears but these thoughts that you’re having about the economy?

Russell A. Colombo

First of all, we’ve always had pretty consistent underwriting standards and we haven’t ever changed that. Either in an up or a down market, we’ve been very consistent. That being said, we’re very cognizant of elevated real estate values. We’re being very careful about loan to values on our properties that we finance and we’re being very, very careful about guarantors having liquidity to support projects based on really high values. So I think that’s the important thing. I think those that got hurt in the recession in commercial real estate primarily were properties that did not have guarantors that were non-recourse type financing where there was no way to go. And for us, one of the main reasons we were successful through it all is that we look for guarantors that bring additional strength to their properties so that in the event of a downturn, we can look to them to support the project. And that’s on the commercial real estate side. So we’re being very careful but I think one of things we always say is that we’re consistent and we’re disciplined in our underwriting and we’ve made that discipline throughout both the up and downtimes. And again, I would say that the thing we always say around here, bad loans remain in good times, so be careful. So we’re very careful about the way we underwrite.

Jacque Chimera

Okay. Thank you. That’s excellent background on everything. I’ll step back now.

Russell A. Colombo

Okay.

Operator

Our next question is from the line of Tim Coffey with FIG Partners. Please proceed.

Tim Coffey

Thank you. Good morning, Russ and Tani.

Tani Girton

Good morning, Tim.

Russell A. Colombo

Good morning, Tim.

Tim Coffey

Russ, can you provide a little color on the gains in the construction portfolio not just this quarter but last quarter as well, kind of what you’re doing now?

Russell A. Colombo

Sure. Our construction portfolio has grown. I will mention this that if you go back to about 2008, 2009, our construction portfolio was $120 million and then it dropped during the recession to a little over $20 million. And on the actual construction side, we really had good success. We financed good projects. The only problems we had during that time were primarily land loans. We really don’t do a lot of that anymore. That being said, our project that we financed, we have a fair amount of single-family spec home financings that we financed the construction of. It’s primarily in San Francisco and the peninsula and in Southern Marin. And we do have a number of projects we’re in the middle of on those and they are going very well. And again, the loan to value versus the existing anticipated sales price is very low, so we’re very comfortable with those. And frankly when we had a larger project, we have brought in a couple of – in a couple of projects, we’ve brought in participants to take part of the – part of the debt because we try to be conservative about the amount of money we advance on any single project.

Tim Coffey

Okay. And how much of the, say the construction growth this quarter was kind of that single-family spec construction versus commercial construction?

Russell A. Colombo

Pretty much all of it.

Tim Coffey

Okay.

Russell A. Colombo

And again, Tim, Southern Marin, San Francisco and we have two projects down in the peninsula.

Tim Coffey

Okay, so not terrible markets.

Russell A. Colombo

They’re all pretty good markets.

Tim Coffey

Right, okay. And then if we look at kind of the non-interest expenses going forward, do you think you can kind of hold that level or – I know there’s going to be some moving parts with new hires and some of the non-recurring seasonal expenses from 1Q, but what would kind of be the right way to look at it?

Russell A. Colombo

Well, I think the fourth quarter is always little odd because we do have – we have true-ups in terms of bonus accruals that we’ve had during the year. It depends on where we think it’s going to be, we make adjustments. But in the fourth quarter, it has a tendency to drop actually relative to the rest of the year. First quarter is pretty consistent with the year. Now that being said, we do have – we’ve made some new hires, which will add to that and we’re looking for more people because we’re trying to really build all of our commercial loan offices, the staffing. We’ve made a couple of really significant hires; one in East Bay, one up in Santa Rosa, one here – third one here in Marin in our business banking area. So we’re staffing up accordingly and our portfolio continues to grow, so it’s important to get good quality lenders. And I expect a few more hires this year. But it’s not going to be a significant increase in numbers.

Tim Coffey

Okay, and that actually does help for my next question on new hires. So most of these are commercial realm, is it both C&I and CRE or is there a specialty?

Russell A. Colombo

Primarily C&I type of lenders in the commercial banking offices. And as you know we have commercial banking offices here in Novato and in San Francisco, Oakland, Napa and Santa Rosa and we’re supplementing a couple of those offices; one in East Bay, one up in Santa Rosa and I think you will see more hires in a couple of our offices.

Tim Coffey

Okay. All right, well thank you very much. Those are my questions.

Russell A. Colombo

Okay, Tim, thanks.

Operator

Our next question is from the line of Tim O'Brien with Sandler O'Neill & Partners. Please proceed.

Alex Morris

Good morning, everybody. It’s actually Alex Morris on for Tim.

Russell A. Colombo

Hi, Alex.

Alex Morris

So most of my questions have been answered at this point but just was curious about the deposit balances. You mentioned just some normal seasonal flows among some of your customers. Have you seen any of that return in the second quarter so far?

Russell A. Colombo

We continue to have some volatility. We have a number of customers who have – basically it’s other people’s money and the way I describe that is we do have a number of big contractors that we do business with and they do a lot of municipal projects. So when they receive a project and they get funded, so a lot of money comes in the bank and then as that project is built out, the money goes out. We also have an ad agency that we pay. A lot of money comes in for projects that they’re working on and then the money goes out. And we have a number of those types of customers; great customers but they have seasonal flows. It’s not – I shouldn’t say seasonal, it’s kind of project based. And so it’s hard to predict when they’re going to come and when they’re going to go but we had a good run up at the end of the year. We had some rundown at the end of the year – at the end of the first quarter, so we fully expect that will all come back. It’s just the nature of their businesses. And so it’s part of what they do every day and so it’s not – the big concern is if we had lost customers and we have not lost any clients. And in fact, we have a couple of new clients, which I don’t even want to talk about it. I won’t mention any details until they are on the books that we are bringing in to the bank which will be funding their deposit account in July. But our market managers on the retail side, they stayed in all the different markets and they are working really hard bringing in deposit-based relationships and it’s working exceptionally well.

Alex Morris

Great. So the color that you provided on healthy deposit pipeline coming in the second quarter, that sounds like it reflects probably some projects amongst contractors, ad agencies as you mentioned, but also new client acquisitions, a good healthy mix of those?

Russell A. Colombo

Yes, it’s primarily – what I’m talking about there when I talk about the pipeline is really new client acquisitions not the existing. That’s already there. This is going out and finding new clients and bringing them in. And they manage those pipelines really closely and work with the head of our retail bank very closely weekly and go through the names and they get me involved or they get him involved to try and solidify this account. So it’s been a good process and it’s really working well right now.

Alex Morris

That’s great. Thanks for all the color on that. I guess one last one on the credit. Nice improvement in loans 30 to 89 days outstanding. Is that kind of just normal churn or was there a relationship for sizable kind of credit in there? Any color you can provide?

Russell A. Colombo

I’m not sure which one you’re talking about? We have one – you’re talking about an increase in the 60 to 90 days.

Alex Morris

I was looking at the decline in recurring loans, 30 to 89 days past due.

Russell A. Colombo

Yes, it went down. We had one client that we were working through a renewal and it hadn’t been renewed prior to the end of the year, now it has. So it’s a big relationship so that’s the primary culprit in that one. So there’s nothing wrong.

Alex Morris

Great. Well, that answers all my questions. Thank you very much.

Russell A. Colombo

Okay. Thank you.

Tani Girton

Thank you.

Operator

[Operator Instructions]. We have no further questions on the phone lines.

Russell A. Colombo

Okay. Thank you for joining this morning and we will talk to all of you again next quarter. Thank you.

Tani Girton

Thank you.

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