CenterState Banks' (CSFL) CEO John Corbett on Acquisition of Gateway Financial Holdings Conference Call (Transcript)

| About: CenterState Banks, (CSFL)

CenterState Banks, Inc. (NASDAQ:CSFL)

Acquisition of Gateway Financial Holdings Conference Call

December 01, 2016 10:00 AM ET

Executives

John Corbett - Chief Executive Officer

Jennifer Idell - Chief Financial Officer

Steve Young - Chief Operating Officer

Dan Bockhorst - Chief Risk Officer

Analysts

Brady Gailey - KBW

John Rodis - FIG Partners

Operator

Good day, ladies and gentlemen and welcome to the CenterState Bank, Investor Call. At this time all participants are in a listen-only mode. Later we will conduct a question-and-answer session and instructions will be given at that time. [Operator Instructions]

I would now like to introduce your host for today’s conference, Ms. Jennifer Idell, Chief Financial Officer. Ma’am, you may begin.

Jennifer Idell

Thank you, Chelsea. Thank you all for joining the call this morning to discuss the most recently announced acquisition of Gateway Financial Holdings of Florida.

Presenting this morning is John Corbett, President and CEO; Steve Young, Chief Operating Officer; and Dan Bockhorst, Chief Risk Officer. I’d like to remind you that comments made today may include forward-looking statements, any of those statements made by us this morning are subject to the Safe Harbor rules, which you can review in detail on Page 2 of our presentation.

You can find the presentation of the gateway acquisition on our Web site under the corporate profile tab of the Investor Relations section. At this time, I will turn the call over to John Corbett to begin the presentation.

John Corbett

Hi, good afternoon, everybody, and thanks for taking the time to join the call. We are excited to report this morning our acquisition of Gateway Financial Holdings. Gateway is an $880 million multi-bank holding company with three subsidiary banks in three distinct Florida geographies. The bank was originally founded in 2006 in Daytona Beach. Their second Ocala Gainesville Bank was founded in 2007 and the Sarasota-Bradenton Bank was founded in 2008. This is a high growth bank with an organic loan growth over 20% annually over the last three years.

These are folks we know well, we’ve had a long term relationship with the Gateway Board and management over the past seven years and the introduction was really made and fostered through our correspondent banking department in Birmingham. Over the years, we’ve had a number of opportunities to address their Board and we’ve had a constant line of communication with the management team. The three CEOs of the subsidiary banks have a lifetime working relationship together dating back to their days as bank presidents with SouthTrust Bank and all three of the CEOs have signed long term employment agreements with CenterState as well as other key relationship managers, which confirms the good cultural and social fit.

Among Florida based banks, the merger with Gateway reinforces CenterState’s number two deposit market share in the state of Florida and it moves CenterState to the number three deposit market share in the Gainesville Ocala and Villages market, and then the number one deposit market share in the Daytona Beach MSA.

Gainesville is home to the University of Florida and with 50,000 students, it ranks as the eighth largest single campus University in the United States and the football teams not too bad either. They’re playing Alabama this weekend for the SEC Championship. Daytona continues to benefit as the headquarters of NASCAR and the Daytona 500. And then with our recent expansion into Tampa and Pinellas County with the Platinum acquisition adding Sarasota and Bradenton, and are perfectly logical markets to bolt on.

Based on CenterState’s 20 day trading average, the purchase price is $132 million and a consideration mix is 70% stock and 30% cash. The cash portion is fixed to $18 per share and the stock portion is fixed at 0.95 exchange ratio. This was not an auction process, it was a negotiated transaction, that started at $18 per share prior to the presidential election. With the run-up in value of CenterState shares the blended purchase price per share over the 20 day average is $19.6 and $20.34 using Tuesday’s stock market close.

Earnings per share accretion is in the mid single-digits and just a minor amount of tangible book value dilution is earned back within one and half of years using the crossover method. The financial metrics are favorable to both sets of shareholders and represent a good relative exchange of CenterState strong stock valuation. We are paying a price to tangible book value per share of around 1.5 times compared to CenterState’s shares trading currently at 2.5 times. The price to earnings after cost saves is around 12.3 times, which is a good relative exchange with CenterState shares trading currently at nearly 18 times providing a healthy level of earnings per share accretion.

Our tangible common equity will drop from about 8.8% at the third quarter to 8.6% after the Platinum transaction and then when Gateway is layered in, it will drop to about 8%.

I’ll now turn the call over to Steve to share our modeling assumptions.

Steve Young

Thank you, John. Good morning, everyone. John mentioned most of the high level deal metrics, but I also wanted to add that we are looking to close this deal in the second quarter. Let me direct your attention to page seven of the investor presentation, which details many of our modeling assumptions.

First of all, as it relates to cost saves, we basically earned [ph] 35% fully phased-in. That represents Gateway runs expense base of around $20 million a year, a little bit more than that and roughly $7 million of savings. We believe this to be very achievable based on some overlap in our branch network as well as just the inherent inefficiencies of running a multi chartered Bank Holding Company.

75% of these cost saves will be achieved in 2017 and a 100% in 2018. As far as timing, we expect the cost saves to be minimal in the second quarter with the majority of the cost saves occurring in quarter three and fully realized in quarter four. Cost saves will be approximately $2.9 million of salaries and benefits, $1.9 million in data processing, $400,000 in professional, $300,000 in occupancy and the rest in credits and other expenses.

Second, as it relates to merger related expenses, we modeled $8.6 million after tax, $5 million of this is attributable to CenterState and will be expensed primarily in the second quarter of 2017. This is broken down between employee related, which represents about 50% of the total with contract termination costs, professional fees and other related costs right rounding out the rest.

As it relates to the purchase accounting marks, the gross [ph] credit mark to loans is $8.6 million or 1.5% of gross loans. Dan Bockhorst will describe credit due diligence in further detail in a minute, he also will talk about the OREO mark point too, $200,000.

We have a mark of $1.4 million in our CD fair market value. We have a fixed asset mark of $4.6 million, which is a negative mark. Since most of the branches were built in the run up to the real-estate market in the mid-2000s, we build around a 20% mark based on current appraisals.

We also have 1.2 million securities mark and this is related to securities that we will liquidate, which are thinly traded. It relates to a small federal home loan bank mark of $200,000 and you put it all together, the total net asset mark is $8.9 million. CDI we’ve modeled at 1.5% of non-CD balances.

Let me turn your attention on to Page 9. We’ve combined the two deals that we have announced this quarter. The combined banks at approximately $1.5 billion in assets, $1 billion in loans and $1.2 billion in deposits. We are forecasting combined 37% expense phase fully phased-in with 7 out of the 16 acquired branches or 44% being in close proximities of existing CSFL branches.

In summary, after the acquisitions of both Platinum and Gateway, our average deposit per branch will increase from $61 million to $69 million per branch.

With that, I will turn the call over to Dan to discuss credit due diligence.

Dan Bockhorst

Thank you, Steve. On Page 8 you will see the credit metric, so the credit mark a thorough loan due diligence was completed by an experienced team of 22 individuals over a four-week period. The credit review was completed by CenterState Bank employees. This team has successfully completed credit diligence on 34 banks since 2008.

All acquired loan portfolios have outperformed their original credit mark. The comprehensive review covered 82% of the overall loan portfolio and 100% of all credits greater than $500,000. Also 100% of all nonaccrual, substandard, TDR, special mention and OREO properties were reviewed.

Overall, this is a very clean loan portfolio, Gateway only have one $254,000 loan that is non-performing and 1.8 million in OREO where we’re taking a 10% mark. Over 60% of the loan portfolio has been generated since 2014, and 93% of the reviewed portfolio is supported by current appraisals dated 2012 or later. The weighted average loan-to-value of the real estate loans reviewed was 61%. The cumulative recovery of 396,000 since 2013 is further validation of the quality loan portfolio. Overall, we are very comfortable with our credit mark and feel it will allow us to proactively manage the loan portfolio.

I will now turn it back over to John for final comments.

John Corbett

Yes. So in summary, we’re excited to announce an acquisition that we feel like it's a good strategic fit. It's a like-minded community bank and we feel like it produces meaningful earnings accretion for our shareholders.

And at this point, we would be happy to respond to any questions.

Question-and-Answer Session

Operator

[Operator Instruction] And our first question comes from the line of Brady Gailey with KBW. Your line is now open.

Brady Gailey

So you know like most [indiscernible] bank Gateway is CRE heavy. So I am just wondering how this acquisition impacts your CRE-to-capital ratio relatively to the 300% regulatory threshold.

John Corbett

Yes Brady, we’ve model it out. Jennifer and her team and we are close to 300%, but we believe we stay under 300% and we feel like we can continue producing the same level of CRE loans that we’re currently originating and actually because of the earnings and the capital growing, have that CRE ratio decline slowly overtime at our current loan production rate. The construction land development, that’s still low, we’re around 40% on that. So well under the 100% threshold.

Brady Gailey

Okay and how do you all feel about the 300%? It sounds like naturally it will go lower, but if another deal came along or if you have the opportunity, would you go over 300% or do you really want to stay at 300% or less?

John Corbett

You know, I -- CRE comes in all flavors, shapes and sizes and geographies, and unfortunately the way that the regulators have painted that bucket, it kind of throws a lot of things together. And one of my concerns is that investors may look at that as a line in the sand, even if regulators are perfectly comfortable with us crossing it. So not sure if we’d go over that or not, but in the near term we kind of like to manage it right at or below that number and see how things evolve, but our preference would be to keep it under 300%.

Brady Gailey

All right. And then -- so TCE is now, with deals down around 8% at close, I know which is still a fine healthy level, but it is a level lower than where you all have normally run that. So how are you thinking -- and I know you all generate a decent amount of TCE annually, but how are you thinking about capital levels here?

John Corbett

If you think back the conversations we’ve had over the last year or two, we talked about the comfort to bring our TCE down to about 8% and possibly slightly less for a brief period of time. The two comfort factors we have are, number one, we still have a large discount in our PCI loan portfolio, I think it’s around $70 million, Steve?

Steve Young

Yes.

John Corbett

So that’s kind of off balance sheet capital number one and number two, as you mentioned Brady, we are accumulating capital fairly rapidly. So really for us it’s looking out through the crystal ball in the next couple of years and trying to determine when the next recession may happen. So if there is a recession in another couple of years, we’ll look to maybe build it higher than 8% as we think in our view we may approach the next downturn. So as we get closer and as that data comes in we’ll look to maybe build it up higher than 8%.

Brady Gailey

And then so you’re at 6.5 billion in assets with those deals, and you still have some room before you get close to 10. But how are you all starting to think about the 10 billion mark? Are you already looking at starting to prepare for it, are you thinking you’ll cross that [ph]? What are your thoughts as you near that important threshold?

John Corbett

So you mentioned it correctly, I mean -- but there is still time here. It’s not like we’d cross in the next year or so, there is still a little bit of time, but trying to prepare for the future a couple of things. $10 billion today, it means three things. It means interchange with the Durban amendment, that means stress test, and it means compliance with the CFPB.

There is maybe nothing that is going to happen with the Durban amendment piece, we’ve kind of modeled it out, I think when we were a $5 billion bank we looked at what that pre-tax hit to us would be if our deposit composition and number of retail debit cards stay the same. It was in that $7 million or $8 million range.

On the compliance side, that’ll be interesting to see how that evolves with the Trump administration on the CFPB, but we have brought on this summer a general counsel to come at a bank. And then finally on the stress testing side, we are in OCC regulated bank and the OCCs has pretty robust expectations and they have for a long term on risk management and stress testing practices. And they’re bringing us along, but about year ago, Dan and I asked our examiners to just paint a picture for us of what the Dfast Stress Test looks like and they’ve had us in tough with the folks in Washington that do that and we’ve kind of gotten a little tutorial of how that may evolve for us over the next couple of years, so that we’re preparing as we go.

Brady Gailey

Okay. Great. And then lastly from me, future M&A next year do you think, I mean you just did two deals, do you think you’ll take some time to digest or you’re still on the hunt?

John Corbett

So you wind up in a regulatory blackout period, once you start filing with the SEC and the OCC. So that’s why we’ve tried to put these two deals together fairly rapidly like we’ve done. We did the same exact thing last year with the two Homestead transactions. It will probably take us till the spring to put these deals to bed. But after that we’re continuing to have the conversations and we want to continue to be opportunistic just as we’ve always done and we’ve got a stronger currency than we’ve had in the past.

As you can see though, as we’ve moved forward, we’ve become more disciplined and more conservative in earn back as our currency has gotten stronger.

Brady Gailey

All right. Great. Thanks for the color and congrats on this deal.

John Corbett

Thank you, Brady.

Operator

Thank you and our next question comes from the line of John Rodis with FIG Partners. Your line is now open.

John Rodis

I guess a lot of my question were asked and answered, but I did have one question on Gateway. Just looking at their -- you said it was a high growth institution and that certainly looks to be the case. But I did notice in the third quarter, it looks like loan growth slowed a fair amount from the prior few quarters, can you maybe talk to that, sort of what happen in the third quarter?

John Corbett

Yes, I don’t know that I can specifically speak to the third quarter. We were talking to them, they were distracted, I think they were thinking about doing a deal. So that always takes your eye off the ball, but I really can't speak to specifically what happened in that quarter. What they’ve got though, they’ve got a large number of relationship managers.

So when we think about that production level at 20% annually over the last three years, it's not large chunky deals, it's a lot of smaller, small business franchise building deal, so I don’t think it's a case where they closed some big deals in the first and second quarter, they didn’t closed in the third. They’re a bank a lot like us, that’s pretty steady doing small to medium size deals.

John Rodis

And how many -- so how many commercial lenders do they have, because you guys have, what, roughly 60-ish?

John Corbett

Yes, we’ve got a little more than that, I think we’re closer to 70. I think they’re at 18, is the number I recall.

John Rodis

Going forward you would expect them to continue to show sort of the growth rates that they’ve historically shown and that makes sense that might have been somewhat distracted in the last quarter?

Steve Young

Yes John, this is Steve. From a modeling perspective, we try to model pretty conservative. So we bring it back to our loan growth rates, just so there is integration and other things. So we bring our loan growth forecast, it’s in that 10% to 12% range over the next 12 to 18 months. And so in our modeling assumptions we bring their assumptions back too, just because we haven’t integrated them and it takes a little bit of time. But that maybe an upside to the model, but that’s how we model it.

John Rodis

Okay, makes sense. John, maybe just one final question for you, just sort of big picture, stocks have obviously run, there is a lot of optimism out there over the past three weeks since the election, can you maybe just -- aside from this deal, what have you seen in your markets, have you noticed any noticeable changes or anything like that?

John Corbett

Yes, we are in the midst of budget season now and we’re meeting with each of the 13 bank presidents and I’ve been asking them that question John. It's really too soon, stocks have clear run, but that hadn’t turned into earnings yet, that’s a guess on the future. But I’ve asked all of our presidents anecdotally, what are they hearing from their clients post-election and unanimously they’re more positive and more bullish on the future as you think about lower taxes and lower regulatory burden. So those are things that’ll play well in the state of Florida. So generally positive, but so far it's mostly anecdotal.

John Rodis

Okay, fair enough thanks guys.

Operator

Thank you. And I am not showing any further questions at this time. I would now like to turn the call back to Mr. John Corbett, President and Chief Executive Officer for any closing remarks.

John Corbett

Yes Cheesy thank you and guys and ladies thanks for calling in today. As always if you have follow up questions feel free to call myself, Steve, Jennifer or Dan and we’d be happy to respond. Thank you for the interest in the company, and we’ll be seeing you on the road soon. Thanks.

Operator

Ladies and gentlemen, thank you for participating in today's conference. This does conclude the program and you may all disconnect. Everyone have a great day.

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