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S&T Bancorp, Inc. (NASDAQ:STBA)

Q3 2007 Earnings Call

October 17, 2007, 4:00 a.m. ET

Executives

Jim Miller - Chairman and Chief Executive Officer

Todd Brice - President and Chief Operating Officer

Robert Rout - Executive Vice President and Chief Financial Officer

Dave Krieger - Senior Executive Vice President, Commercial Lending

Analysts

Steve Moss - Janney Montgomery Scott

David Darst - FTN Midwest Securities Corp.

Bret Ginesky - Stifel Nicolaus & Company

Operator

Greetings, ladies and gentlemen, and welcome to the S&T Bancorp Inc. Third Quarter earnings conference call.

It is now my pleasure to introduce your host, Mr. Robert Rout, Executive Vice President and CFO.  Thank you.  Mr. Rout, you may begin.

Robert Rout

Good afternoon everyone and thank you for participating in the conference call.  Before beginning the presentation, I want to take time to refer you to our statement about forward-looking statements and risk factors in the third slide of our webcast live presentation.

The statement provides the required cautionary language by the SEC for forward-looking statements that may be included with this presentation.  Listeners are also reminded that a copy of the third quarter earnings release can be obtained from our Investor Relations website at www.stbancorp.com.

In addition, a set of financial highlights slides are included with the webcast that support what we are about to discuss.  We do not plan to review the slides in detail, but we would be more than happy to respond to any questions concerning them or any other aspect of our financial performance.

Now I would like to introduce Jim Miller, S&T's Chairman and Chief Executive Officer, who will provide an overview of S&T Bancorp's results during the third quarter.

Jim Miller

Thank you, Bob, and good afternoon.  Thanks for joining in our earnings conference call today.  As you can see from our earnings press release and the financial slides accompanying this webcast, we had a good quarter with earnings per share of $0.63 as compared to $0.57 for the third quarter of 2006, representing an 11% increase.

We did have one unusual item in this quarter as detailed also in the press release.  Our results include a $1.2 million one-time benefit in other revenue as a result of an accounting change for deferred compensation investment portfolios.  This change provided about $0.03 per share to this quarter's results.  The primary purpose was to eliminate quarterly volatility in the income statement caused by using a different accounting methodology.  Some of the other factors affecting our performance this quarter would include our net interest income, which has shown only modest growth on a quarter-to-date and year-to-date basis.

We are fairly pleased with the stability of our net interest margin during this volatile interest rate environment over the past couple of years.  Ideally, we would like to see much more robust growth in this line item, but this environment is probably the toughest for bank earnings that many of us have seen in our careers.  We are not displeased with the 2% increase when, as you know, many banks are actually seeing negative growth in net interest income.

Asset quality continues to improve and all the metrics regarding asset quality are well within acceptable tolerances.  That improvement is of course, reflected in provision expense for the quarter and for the year-to-date.

As a footnote, we are still working through the residual of our two remaining problem credits from last year.  We do not expect any significant negative surprises on these relationships as we work through them and are actively pursuing the potential recoveries on them.

Non-interest income, after discounting the accounting change impact, has been fairly modest this year.  This area, I believe, has a lot of opportunity and would certainly be an area of strategic focus to get this revenue back to historical growth trends going forward.

The sub-prime loan crisis that hit in the third quarter disrupting credit markets certainly has had an impact on all financial institutions.  We, throughout the whole sub-prime rise and fall, have tried to remain disciplined.  As a result, we do not have any sub-prime exposure either in our loans or in our investment portfolios.  It has been a tough temptation to avoid, but as you can see, year-to-date balances in the securities portfolio declined $68 million, and loan growth of $84 million is below our historical trends.  That strategy, however, is proving to be the correct decision and should put us in a good position going forward.

While loan growth increased $84 million on a year-to-date basis, on a linked quarter basis growth is a modest $8 million.  Our consumer loans are benefiting from some strategic initiatives implemented last year.  They are up $41 million year-to-date.  That is a good thing, because our commercial real estate portfolio has been affected negatively by an uptick in seasoned loans refinancing into the secondary markets.

As you all know, the conduits, REITS and insurance companies, with all the liquidity that has been available, had been offering rates and credit terms to our customers that we simply could not compete with.

We have seen this happening over the last couple of years.  This year we took the initiative to focus more on our C&I business, at least until the commercial real estate market has become more rational.  $80 million of year-to-date growth in C&I loans, I think, indicates that the strategy has been working pretty well for us.

Operating expenses are running a little hot, but most of the increase is related to what I would call conscious strategic investments in new branches, expanded operational infrastructure and acquiring new talent over the last 12 months.  We believe these initiatives will enhance our revenue streams in the future once we get through the initial startup periods.

Just a brief comment on deposits, which increased $55 million year-to-date.  Competition here too is pretty intense and sometimes not all that rational.  We believe that our DDA, Electronic Banking, Commercial Cash Management and Cash Management Accounts are among the best that we see in the market.  There is no reason why we cannot continue to enjoy good growth in these important funding and customer relationship building products.

We have had discussions in the past, you may recall, about our out-of-state commercial real estate exposure, which we frankly view as a good thing.  I think it is important to talk about it, especially with what is happening in select markets around the country.  I want to turn over the discussion to Todd Brice, our President and Chief Operating Officer, to provide some additional detail on these out-of-state loans.

Todd Brice

Thank you, Jim, and good afternoon, everyone.  As Jim mentioned, we have had a number of inquiries regarding our exposure in our commercial loan portfolio on projects that we financed out-of-state.  We think this is a line of business that we have pursued for many years, and the loans are typically made to borrowers with whom we have long-standing relationships, who for one reason or another have expanded their business into other markets.  Now we feel that those types of loans provide us with some geographic diversity in our portfolio and they truly have been made to the very best customers of the bank.  At the end of the third quarter, our out-of-state exposure totaled $255 million.  Out-of-state balances on these loans totaled $225 million with another $30 million available in commitments.

There are 25 states represented in the portfolio.  However, ten states have exposures over $10 million, which represent $200 million or 90% of the portfolio.  The ten states and their respective balances are as follows: Ohio - $46 million; New York - $32 million; Florida - $31 million; Arizona - $23 million; Tennessee - $17 million; North Carolina - $12 million; South Carolina - $11 million; Connecticut - $10 million; West Virginia - $10 million, and – sorry, South Carolina, I think I doubled up on that, but it was $10 million as well.

This portfolio is comprised almost entirely of commercial real estate and consists of approximately $170 million in income-producing properties, either retail strip malls, hotels, office buildings, apartment buildings and also some owner-occupied.  We also have $30 million in exposure on the residential development side.

Again, I just want to stress that all of these loans have been made to long-standing S&T Bank customers.  They have been underwritten in a conservative nature.  In addition to the underlying collateral, all the loans have personal guarantees, which also provides strong secondary sources of repayment.  Looking through the list, I am not aware of any delinquency issues at the present time in any of these accounts.  I hope this sheds some light on some of our out-of-state activities.  I would be happy to answer any questions at the conclusion of the presentation.

With that, I will turn it back over to Jim.

Jim Miller

I think we have mentioned in recent conference calls that we long ago discontinued the practice of providing specific earnings guidance each quarter.  With that in mind, Todd, Bob or I would be happy to entertain any specific questions about our past performance and the future outlook for our business in general.

With that, we will take questions.

Question-and-Answer Session

Operator

Our first question comes from the line of Steve Moss with Janney Montgomery Scott.  Please proceed with your question.

Steve Moss - Janney Montgomery Scott

I just want to ask if you are seeing any stress from any of your borrowers on the commercial side with the falling economy?

Jim Miller

We measure that in a lot of different ways, I guess.  The primary one is the 30-day delinquency number, which is usually your first indicator.  Those numbers have been pretty steady and honestly continue to be pretty good.  I think over the most recent month , which I know we do not publish it, but I guess we can talk about it in this conference call, it is just a little bit south of 1.1.  So it is like 1.08 or something in that neighborhood 30-day and over delinquency.  That has been pretty consistent over the last 12 months.

I would say then the nonperforming numbers have improved.  I am sure the 50 basis point drop in prime is going to be helpful to a lot of the commercial borrowers.  We have not seen it yet, and what we tend to hear when we go out in the marketplace and talk to our customers, the people that are in the value-added manufacturing and that type of thing, they are still pretty busy.

So we are not hearing a lot about any significant slowdowns in these markets.  But remember, this is Western Pennsylvania, and we never seem to experience the boom or the bust times to the extent that other areas of the country do.

Steve Moss - Janney Montgomery Scott

Okay.  With regard to the charge-offs this quarter, was that from one specific loan or a couple of loans that were previously disclosed?

Jim Miller

It was a couple of different loans.

Steve Moss - Janney Montgomery Scott

Okay.  Were they on the commercial side?

Jim Miller

Yes.

Steve Moss - Janney Montgomery Scott

Yes, okay.

Jim Miller

Well, yes, they were on the commercial side.

Steve Moss - Janney Montgomery Scott

Okay.  Thank you very much.

Jim Miller

Charge-offs were a mixture too, because you got some consumer, you got some business in there.  It was a little bit of everything.

Robert Rout

Yes, you have a mix in there, but the major pieces of it would be commercial.

Todd Brice

It was probably spread across a couple of different commercial relationships and in different patterns.

Jim Miller

Yes, exactly.  We were confused among ourselves for a little bit I think.

Todd Brice

There is a differentiation between reserve (Voice Overalp) and the charge-offs.

Jim Miller

Charge-offs were actually a mix.  Nothing particular in one area or another.  The number was actually well within what we had planned for this year, for this quarter.

Steve Moss - Janney Montgomery Scott

Okay.  Thanks a lot.

Operator

Our next question comes from the line of David Darst with FTN Midwest Securities Corp.  Please proceed with your question.

David Darst - FTN Midwest Securities Corp.

I understand that you feel like the local market is pretty stable, and it does not have a lot of swings either way.  But could you give us a little bit more detail about the tenor of the local residential market, and maybe how much exposure you have to residential developers?

Todd Brice

What is our exposure to residential developers?  Not specifically, but we have not anticipated any major problems with any of those developers other than the normal sluggishly moving inventory.

Jim Miller

Yes, I think there has been some slowdowns in terms of the inventory.  The people that we deal with in that business are pretty seasoned folks, and they tend to deal with the major homebuilders in these markets, which I guess would be Bryan and Heartland and Miranda.  I am sure that they are not all meeting their takedown schedules.  But this did not, I do not think, catch anybody in these markets by surprise.  They have been anticipating this, and most of them are pretty solid folks that have the capacity to weather a slowdown.

I would tell you that it has not stopped by any means.  Most of the homebuyers here are end users, of course.  We do some financing for some homebuilders as well, and the ones we have in our portfolio do not seem to be feeling a lot of stress right now because there seems to be plenty of availability on their lines.  We have not had any significant delinquencies in this area. It is certainly something that we have watched closely, but we are not seeing a lot of stress there right now, and it is probably because of good planning on their part.

Todd Brice

The other thing we have done, David, is as these lines come up for renewals, we have done some stress testing on the interest reserves to make sure those are adequate for the next year.  And if we go in their division, we, in some instances, require them to post some additional reserves to just weather any downturn in the market.

David Darst - FTN Midwest Securities Corp.

Okay.  Thanks.

Todd Brice

And most of them are probably, and just the one more thing to add to that, David, most of them are probably tied to prime, and the drop is probably going to provide a little help to them, too.

David Darst - FTN Midwest Securities Corp.

Okay.  Your reference to the expense growth, kind of running at above-average pace for the past year, are most of those initiatives fully incorporated in the run rate now where expense growth should normalize going forward?

Todd Brice

Yes, I think so, David.  We have plans maybe to close one more branch, and there may be some write-offs on some leasehold equipment.  But I think for the most part we have all our new branches online.  There is maybe one or two in the planning stages at this point that have not gotten online.  But yes, that is about it.

David Darst - FTN Midwest Securities Corp.

Okay.  Bob, what are the results on the margin, and how much benefit you might be able to receive from the rate cut?

Robert Rout

We are pretty well balanced.

David Darst - FTN Midwest Securities Corp.

Do you think you can maintain a stable margin?

Robert Rout

Yes.  Certainly.  What has happened with the 50 basis point drop, we actually saw just a slight improvement to our margin as a result of that; just a couple of basis points.  So with our cash management account, we priced that downward lockstep with the Fed move.  It is pretty well balanced with our variable rate commercial loan portfolio and other variable-rate type assets.  We are well pleased with it being balanced at this point.

Jim Miller

The one thing that could probably jump up and bite us a little bit there, David, is the customer behavior.  A lot of those are consumers of those balances, and they have received at least one month-end statement since the change, and we have not seen a lot of movement yet.  You might anticipate seeing some of that cash management liquid money moved into the short-term CDs.  That would be the potential downside.  We will monitor that pretty closely as we go here, but I would anticipate some of that behavior.

David Darst - FTN Midwest Securities Corp.

Okay.  One more question for you.  Could you give us the amount of shares you repurchased during the quarter?  It looks like maybe you had some options that were exercised and drove the numbers up?

Robert Rout

Yes, we had 20,000 purchased during the quarter.  I think stock options exercised, I do not have the exact numbers, but they were not very significant.  I would say under 10,000 shares.

David Darst - FTN Midwest Securities Corp.

Okay.  And do you have capital (Voice Overlap)

Robert Rout

I am sorry, wait.  Jim just corrected me.  There were some stock options.  It might be a little bit north of the 20,000 that we have repurchased.

David Darst - FTN Midwest Securities Corp.

Okay.  Yes, because it looks like the period-end went up but the average came down.  Then are you kind of comfortable with where your capital is now?

Robert Rout

No, we will continue to look for opportunities to get some hybrid securities into our capital mix, barring any type of acquisition or other very extensive growth mode in the balance sheet.  We will continue to look for those opportunities.  But as you know, the trust preferred and the subordinated debt markets, this is not the time you want to be doing any type of issuance.

David Darst - FTN Midwest Securities Corp.

Okay.  I guess one more question.  Are you seeing any benefit in your markets from the conduits kind of shutting down?  That should straighten your pipeline and slow your payoff, shouldn't it?

Robert Rout

I am going to turn that over to one of our lenders here.  We have Dave Krieger, who is our Senior Executive Vice President of Commercial Lending and who has been in this market probably longer than he wants to admit.  But David, what you are hearing out there as far as conduits and insurance?

Dave Krieger

It is certainly going to slow it.  We have had numerous payoffs over the last 12 to 18 months, and it is kind of hard to grow.  But we are seeing that slowing down quite a bit, and I think we are going to be able to retain some of those assets on the balance sheet that left us previously, but time will tell.

Robert Rout

Another thing, there is nothing tangible yet but there have been a couple of looks at some credits that we probably would not have gotten in the past.  There are a couple of other things in the queue that hopefully will materialize towards the end of the quarter.

Dave Krieger

There were a couple of customers who were planning to go to the secondary market and found out that the rates and terms are not nearly as attractive as what they were 60, 90 days ago.  Anecdotally, we have seen it, but we still have not seen any growth in our, especially our Commercial Real Estate portfolio at this time.

David Darst - FTN Midwest Securities Corp.

Okay.  Well, it sounds like it is a positive or could be a positive for you.

Dave Krieger 22:07

It could be.  It should be.

David Darst - FTN Midwest Securities Corp.

All right, thank you.

Operator

Our next question comes from the line of Bret Ginesky with Stifel Nicolaus & Company.  Please proceed with your question.

Bret Ginesky - Stifel Nicolaus & Company

I have a question for you regarding the wealth management fees.  There was a decrease on a linked quarter basis, and I was wondering what that was attributable to?

Robert Rout

Well, we have that area going through some restructuring with the brokerage, bringing in some new talents and some new products, and I would say they are just going through some growth changes here and moving forward.  Our expectations are that we would get back up in the double-digit ranges again.

Todd Brice

The other thing, they had some pretty hefty estate revenues that hit that have rolled off too.  Plus, last year you might do a comparison, comparing to a very good quarter. 

Jim Miller

Yes we have, we have made, they have started up a mutual fund down there, and we have made some other changes and enhancements.  We have added some talent.  Again, I think you are sort of in a kind of spooling up mode if that is the right word, which has affected the net revenue growth in that area.  Although we still see it as a very good contributor in the long-term to our renewable fee revenue, and a nice fit honestly too with the family-owned businesses and entrepreneurs that we tend to focus our commercial lending activities on, which as you know has been a driver for our growth over a fairly long period.

Bret Ginesky - Stifel Nicolaus & Company

Okay.  I guess my second question is, could you disclose or just talk about the Arizona loans?  I know you said it was $23 million.  Is that all to one borrower?

Todd Brice

No.  You have probably four or five different groups, and I could say there might be $4 million to $5 million in one to four family residential type development.  The other is, a couple of them are actually owner-occupied.  Then you have some retail strip exposure that are big, long, long time customers.  A couple of them are in the lease-up stage or construction phase, but they have some pretty good pre-leasing activities before they even come out of the ground.

Bret Ginesky - Stifel Nicolaus & Company

Now, how much of that is already completed construction, and how much of it is actually still in a phase of construction right now?

Todd Brice

Probably the majority of it is done.  There might be $1 million to $2 million in commitments outstanding.  Some of it again is in the development stage where we funded the land acquisition, and now they come back to us with the development fixed.  We just do not have that fixed yet, but we are pretty comfortable with what we have out there.

Bret Ginesky - Stifel Nicolaus & Company

Okay.  And the $23 million figure then is total commitments.  It is not—(Voice Overlap)

Todd Brice

That is pretty much outstandings.

Bret Ginesky - Stifel Nicolaus & Company

Okay, okay, great.  If you can also just talk about the reserve and what level are you comfortable with?  I mean, it dropped seven basis points on a linked quarter basis.  I know some of that is probably what they are being told to do, but where do you see that pedaling in at going forward?

Robert Rout

Well, it is all a function of what is happening with asset quality, and right now that asset quality is going pretty good.  So we are comfortable with where it is at today based on what we have seen in the portfolio.

Bret Ginesky - Stifel Nicolaus & Company

Okay.  Great.

Robert Rout

We really do not set a target for it either percentage-wise or dollar-wise.  I mean that is a very intense analysis and process and various levels of reviews that it goes through for us to come up with that number, and that is what we do every quarter.

Bret Ginesky - Stifel Nicolaus & Company

Okay, just one more question.  On the other income line, if I back out the $1.2 million gain that you guys had there from the 4.2, you are still up on a linked quarter basis by over like 10%.  I was just wondering what led to that?

Robert Rout

Our debit and credit card activities continue to run very strong.  If I also recall, I think we had a swap fee from one of our commercial customers in there for $150,000.  It probably was not repeated in the second quarter.

Bret Ginesky - Stifel Nicolaus & Company

Okay, great.  Thanks a lot, guys.  I appreciate it.

Todd Brice

Just one other thing I wanted to mention.  In my comments, the one state I omitted was California.  We have an exposure of about $11 million out there.

Bret Ginesky - Stifel Nicolaus & Company

Okay.  Thank you.

Operator

Gentlemen, there are no further questions in the queue.

Jim Miller

Very good.  Well, thank you for participating in today's conference call.  Todd and Bob and I appreciate the opportunity to talk about the third quarter financial results of S&T Bancorp, and we look forward to talking with you at the next quarter's conference call.

Operator

Ladies and gentlemen, this does conclude today's teleconference.  Thank you for your participation.  You may disconnect your lines at this time.

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