Webster Financial Corporation(NYSE:WBS)
Q4 2007 Earnings Call
January 24, 2008 9:00 am ET
James C. Smith - Chairman and Chief Executive Officer
Bill Bromage - President
Jerry Plush - Chief Financial Officer
Terry Mangan - Investor Relations
Andrea Jao - Lehman Brothers
Collyn Gilbert - Stifel Nicolaus
Jared Shaw - KBW
Alex Twerdahl - Sandler O'Neill
Good morning, ladies and gentlemen, and welcome to the Webster Financial Corporation's fourth-quarter earnings conference call. (Operator Instructions). As a reminder, ladies and gentlemen, this conference is being recorded.
Also, this presentation includes forward-looking statements within the Safe Harbor provisions of the Private Securities Litigation and Reform Act of 1995 with respect to Webster Financials condition, results of operations, and business and financial performance. Webster has based these forward-looking statements on current expectations and projections about future events. These forward-looking statements are subject to risks, uncertainties and assumptions as described in Webster Financials public filings with the Securities and Exchange Commission, which could cause future results to differ materially from historical performance or future expectations.
I would now like to introduce your host for today's conference, Mr. James C. Smith, Chairman and Chief Executive Officer. Please go ahead sir.
James C. Smith - Chairman and Chief Executive Officer
Good morning, everyone. Welcome to Webster's fourth-quarter investor call and webcast. Joining me today are Bill Bromage, our President; Jerry Plush, our CFO; and Terry Mangan, Investor Relations. I'll provide some highlights and context for the fourth quarter results, Jerry will provide comments on our financial performance.
We will also provide comments on our outlook and focus for 2008 in conjunction with some slides that we posted on our website this morning. And we will talk more about the special provisions and establishment of the liquidating portfolio for the discontinued indirect lending channels. Our remarks will last for about 40 minutes, and then we will invite your questions.
In our fourth quarter earnings release we reported $0.10 in diluted earnings per share from continuing operations, which include the impact of $0.49 per share from the $40 million special provision for discontinued indirect lending channels and $0.13 per share for other charges in the quarter.
This compares to continuing EPS at $0.64 in Q3, which included $0.14 per share effect from the $11 million increased provision for home equity and compares with the adjusted EPS of $0.78 a year ago.
Our insurance operations, which are now shown separate from continuing operations, had a loss of $0.26 in the quarter including the previously announced write-down of $14 million.
Let me first speak to trends in business activity in the quarter. Webster continues to show momentum in both commercial and consumer lending. Total commercial loans and consumer loans grew at a combined rate of 4% from a year ago and now represent 71% of total loans compared to 66% a year ago. Our emphasis is on direct originations.
Commercial loans including commercial real estate loans totaled $5.6 billion and grew by 5% combined from a year ago and now comprised 45% of the loan portfolio compared to 41% a year ago.
The C&I portfolio totaled $3.5 billion at yearend and grew by 4% from a year ago. C&I portfolio was by design about twice the size of our CRE portfolio. The portfolio yielded 7.09% in the quarter, down 37 basis points from a year ago in connection with rate cuts during the second half of '07. The C&I portfolio was balanced, diversified, and granular and these characteristics underpin our favorable charge-off experienced and overall asset quality.
Our commercial real estate portfolio totals about $2.1 billion and grew by 8% from a year ago. Most of that growth came in the last three months as a direct result of disruption in capital markets.
We were able to book some better loan-to-value deals which until recently would not been available to us at good pricing levels. We saw a very little payoff activity in the fourth quarter which helps to bolster the net growth. The total CRE portfolio yield at 6.9% in the quarter compared to 7.21% a year ago.
The consumer loan portfolio totaled $3.3 billion or $2.85 billion excluding the $340 million liquidating home equity portfolio and grew 2% from a year ago. We have moved to a direct-to-consumer retail base channel model for in-market growth.
Bank based branch originations were $195 million or 88% of total production in Q4 compared to 62% the previous year. The retail channel originations in the quarter had a weighted average FICO of 797 and a weighted average CLTV of 63%.
The retail footprint originating component of the continuing home equity portfolio totaled over $2 billion at December 31, and grew at an annualized rate of 4% from September 30.
So we are clearly seeing success in implementing our retail focus consumer lending strategy. That portfolio is 50-50 home equity loans and lines and yielded at 6.67% in the quarter, down 26 basis points from a year ago.
Residential loans declined 18% from a year ago, primarily due to the two securitizations that took place in Q4 '06 and Q1'07. Resi loans now comprise 29% of the loan portfolio compared to 34% a year ago.
I'll now provide some more details on the special provision in liquidating portfolios. At December 31 we had $424 million of outstandings from discontinued, indirect, residential construction lending and indirect home equity lending outside of our primary New England market area.
The portfolio consists of $83 million in construction loans and $341 million in home equities. We placed the entire $424 million in to a non-strategic liquidating portfolio that is being managed by a dedicated credit team.
As I said in the 8K filed earlier this month, we've identified segregated and reserved against estimated losses inherent in these portfolios, using default rates and loss rates that reflect our view that such rates will significantly worsen from current levels. Also by separating liquidating portfolio from the ongoing loan portfolio, we are able to underscore the soundness of the ongoing loan portfolio and the adequacy of its reserves.
Of the $40 million special provision in the quarter, $16.5 million is against the $83 million of discontinued indirect residential construction loans. Including, $10 million of the allowance that have been allocated in the first quarter of '07 to this portfolio. And subtracting $2.2 million of net charge-offs in Q2 and $7.1 million of net charge-offs in Q4, we have remaining reserves of approximately $17.2 million against the $83 million balance.
Increased reserve reflects higher losses that we believe are inherent in the portfolio based on recent appraisals, housing price trends and localized market conditions, primarily, for $20 million of loans in Florida.
We expect to apply actual quarterly charge-offs related to loans in this liquidating portfolio against the $17.2 million reserve. The remaining $23.5 million of the special reserve in the quarter is for the $341 million and the discontinued indirect home equity portfolio, which includes the $90 million of higher risk loans we identified and took a special reserve against in Q3.
Including the $11 million taken in Q3 for the higher risk loans and subtracting $1.8 million of net charge-offs in the fourth quarter, we had total special reserves of $32.7 million against the $341 million liquidating balance.
Most of the losses in this liquidating portfolio are expected to occur over the course of 2008 and 20099 and are expected to diminish thereafter as loans are resolved or repaid. Again we expect to apply actual quarterly charge-offs in a liquidating home equity portfolio against the $32.7 million special reserve.
In keeping with our practice, we will continue to provide separately for charge-offs in the continuing home equity lending portfolio.
I want to comment briefly on Webster's exposure to residential construction loans outside of the now separated national construction lending portfolio. In yearend 2007 Webster had outstanding of about $355 million in residential construction loans, a $145 million of that through the retail mortgage banking group in-market or contagious. $7.7 million or 5.23% of that portfolio was non accrual at yearend. But note that three quarters of that is from two loans with loan-to-value ratios of about 50%.
The balance of residential construction outstandings of $211 million is in the commercial real estate group and the non-accrual asset ratio is about 2%. Total non-performing assets at Webster increased to a $121 million at December 31 and this includes the liquidating portfolios, compared to a $104 million at September 30.
We had anticipated that NPA’s would rise and we increased our Q4 regular provision to $5.25 million, up from $4.25 million in Q3. You will note in the financial tables in our earnings release that we now show NPA as to loan and charge-off data for our continuing and liquidating portfolios.
In a continuing portfolio the allowance for credit losses was 1.23% of total loans at December 31. NPA’s were 0.76 of loans plus other real estate owned and the net charge-off rate was 9 basis points annualized in Q4.
The $2.85 billion continuing home equity portfolio performed with a normalized provision levels with the delinquency rate rising from 0.61% at September 30, to 0.76% at December 31 and the non-accrual rate from 0.44% to 0.50%. The annualized net charge-off rate was 14 basis points in Q4 and 10 basis points for all of 2007.
Our equipment finance business had outstandings of $985 million at December 31 and grew by about 11% from a year ago. This unit consists of five nationally conducted business lines. Construction, transportation, environmental, general aviation and manufacturing, generally small ticket items averaging about $200,000 or so per loan.
New business originations are centrally underwritten and monitored by a management team that has been in place for at least 12 years. This unit finances non-specialized routinely sold commodity equipment that is revenue producing and for repayment terms they are an average significantly less than the underlying assets useful lives.
Those contracts take the form of full payout loans. There is only about $2 million of true residual value risk in the portfolio. The top state concentrations are Texas at 12%, California and Florida at 8% each, New York and Pennsylvania at 5% each and then Connecticut, Massachusetts, New Jersey, Illinois and Ohio each at about 4%.
At yearend past due and nonperforming loans combined totaled $12.1 million and represented 1.23% of outstandings, which compares quite favorably with overall industry levels. The delivery granularity and the relatively small average loans size in this portfolio enhance its credit performance in the current economic environment.
Asset based lending outstandings totaled about $800 million at yearend and grew by 3% from a year ago. 92% of out standings are secured by accounts receivable and inventory; equipment for 7% and real estate for 1%. As you can see this portfolio has a solid current asset coverage position, which has typically helped to keep losses low and below industry average. 57% of the portfolio was in the North East, 21% in the South East, 16% in the Mid West and 6% in the West. NPAs were 0.46% of this portfolio at December 31.
Now moving to talk about our deposit programs, the balance of which will be covered by Jerry. I’ll talk about the de novo banking program where we built in 29 branches since 2002, or 16% of our total retail branches. The de novo branches had total deposits of $781 million at yearend, compared to $773 million at September 30 and 734 million a year ago or an increase of 6% over the last year. We opened to new locations in Q4, one in East Longmeadow of Massachusetts and the other in Woodbridge Connecticut.
Turning to HSA bank, we had $404 million in deposits in this division at yearend, an increase of $117 million or 41% from a year ago and we have $57 million in linked brokerage accounts compared to $38 million a year ago. HSA bank’s average cost of deposits for this fast growing category was 2.97% in Q4, the same as in the third quarter and about the same of the in-market deposits.
Strategically through HSA bank, we expanded our reach for core deposits to fund our above market loan growth and we tapped the deposit market poise for significant growth over the next several years. At the end of December HSA bank had 187,000 accounts, up about 6000 in the quarter and 26,000, I should say over 30,000 from Q4, ‘06.
You may have seen our press release yesterday that HSA bank now has over $500 million in deposits and balances in linked brokerage accounts, making it the first health savings account administrator in the nation to pass $500 million. We think this achievement confirms the viability and acceptance of the consumer directed healthcare model in the U.S. and its bright future for HSA accounts.
And now I will turn the program over to Jerry, so he can provide more detail on the financial performance in Q4.
Jerry Plush - Senior Executive Vice President and Chief Financial Officer
Thank you Jim. And good morning everyone. We focused in prior calls on key performance ratios first. We are going to continue that track this and take a look at some of key stats for the quarter ending 12/31/07.
First regarding capital. Our tangible capital ratio as of December 31, was 5.89% as compared to 6.17% in the third quarter and 6.72% a year ago. Our tangible capital ratio for the fourth quarter was slightly lower than our target ratio of 6%. We were anticipating back at our established target levels in early to mid-2008.
Now regarding stock buybacks. We repurchased 1.3 million shares early in the fourth quarter and over 4.3 million shares throughout 2007. However, we do not expect to continue to buyback stock in the near-term, given our desire to restore our ratios at or above the target levels.
It’s important to note that Webster remains well capitalized, as our projected leverage ratio at 7.99% at December 31 of ’07 and our projected total risk ratio of 11.5% significantly exceed regulatory standards of 5% and 10% respectively.
Next, our loan to deposit ratio, we came in at 101% for December 31 of 2007, compared to99% at September 30th and a 104% at December 31 of ‘06. We stated our goal is to fund our loan growth and total loan portfolio via deposits.
In the fourth quarter our deposits decreased $200 million, primarily in the certificates of deposit, the results of our pricing decisions regarding CDs, and loans increased $22 million.
Broker deposits declined $51 million by quarter end as well, as we continue to minimize the use of this source of funds.
Warrants increase $650 million in the fourth quarter, as FHLB advances represented the majority of this increase. We found this to be a very attractively priced funding option, compared to CDs in the quarter.
Securities to total assets at 12/31/07 were 16%, well below the peer medium reported at 9/30/07 of 17.7%. And we will talk more on the securities portfolio in a few minutes.
Warrants to total assets at 12/31/07 were 17%, also well below the peer medium reported at 9/30/07 or 20.1%.
Let’s turn now to the margin. Our net interest margin was 3.26% in the fourth quarter, in comparison with 3.38% in the third quarter and 3.23% for the fourth quarter of the last year. The 12 basis points reductions in the net interest margin from the third quarter to the fourth is primarily due to our stock buy back activity in the quarter, higher levels of non accruals and recent fed funs rate reductions. Although Webster is essentially neutral to shifts in interest rates over a 12-month period, recent arte reductions have caused downward pricing pressure on loans versus deposits in the near term.
Turning now to our allowance to total loans. Included in the provision for credit losses for the fourth quarter, $25.25 million, there is a special provision of totaling $40 million for the discontinued indirect residential construction and home equity loan portfolios as described by Jim earlier on today’s call.
Our allowances for credit losses to total loans was 1.58% as of December 31 in comparison with 1.32% at September 30th and 1.20% a year ago.
Charge-offs for the quarter were $11.7 million and that’s including $8.9 million of charge-offs in the liquidating portfolio, compared with $4 million for the third quarter and $9.1 million for the fourth quarter of 2006. Our net charge-offs for the continuing loan portfolios, which exclude the liquidating portfolios totaled $2.8 million or 9 basis points for the quarter.
We will now take a look at fourth quarter results. First, please note that for presentation purposes Webster Insurance is now shown separate from continuing operations in our financials, so excluding insurance earnings from continuing operations were $0.10 per share, this includes the effect of the $40 million special provision, which was $0.49 per share for the discontinued indirect residential construction and home equity portfolios and $10.5 million are $0.13 per share of other charges particularly to the quarter.
As previously indicated our decision to explore strategic alternatives for our insurance operations resulted in this activity being reported separately from continuing operations. Webster Insurance had a loss of 13.9 million or $0.26 per share in the quarter and is reflect of a write-down of $14 million in carrying value of this investment in the quarter.
So taking this loss into account dilute earnings per share would decrease 26 basis points to a loss of $0.16 overall for the fourth quarter of 2007.
Our securities portfolio totaled $2.75 billion at December 31 2007, or 16% of asset and increased $350 million from September 30th. Our decision to increase the portfolio reflects a number factors including slower loan growth as the economy exhibits recessional like characteristics. A higher level securities will also help offset some of the loss. Our mortgage warehouse balances are roughly 200 million over the course of 2008.
The securities also enhanced net interest income as LIBOR falls, and it provide additional collateral from municipal deposits and for other businesses. Our intent is not to substantially grow this portfolio further.
The yield in securities for the fourth quarter was 5.85%, up modestly from 5.79% at third quarter and 5.63% in the fourth quarter of last year. A look at the funding side, which show there cost to deposits for the fourth quarter were flat with the year ago period at 2.86%. The cost to deposits is down 10 basis point from the 296 we reported for the third quarter of 2007.
The cost of FHLB advances was 4.32% for the fourth quarter and that’s down 26 basis points from the prior quarter and it is down over 60 basis points from a year ago. Our FHLB borrowings are now down about $646 million from the year ago.
Non-interest income was $48 million for the fourth quarter, including a $3.6 million loss on the write-down of a direct investment to fair value. Non-interest income was $51.4 million in the linked quarter and $43.1 million in the year ago period. Note that the $43.1 million in non-interest income in the fourth quarter of last year was reduced by $5.7 million loss from the sales of some mortgage loans.
Deposits service fees totaled $30.6 million compared to $30 million in the third quarter and $25.5 million a year ago and the growth over prior year results reflects the implementation of the new consumer fee structure in 2007.
Turning now to insurances we outlined in the results of our strategic review, we have been exploring these alternatives for our insurance operations. We anticipate completing a sale in the first quarter and as a results we now are require to report this separately from continuing operations as of yearend 2007.
Webster insurance had a loss of 39 million in the fourth quarter reflecting the $14 aforementioned write-down of carrying value. Insurance income for the third quarter of ’07 was $0.4 million compared to a loss of $1 million in the fourth quarter of ’06.
Our loan fees were $7.3 million in comparison to $7.7 million in the third quarter and $9.6 million from a year ago. While wealth management was $7.5 million compared to $7.1 million in the third quarter and $7.2 million in the fourth quarter a year ago.
Our non interest income was $2.1 million for the quarter, compared to $1.7 million in the third quarter and in $3.8 million a year ago. The year ago results included a $1.4 million gain on sale of properties.
Revenues from our mortgage banking activities were $1.3 million for the quarter compared to $1.8 million in the third quarter and $2.9 million for the fourth quarter of the last year. The reduced income in mortgage banking activities over last year reflects the closure of our wholesale lending offices in Chicago, Illinois, Phoenix, Arizona, and Seattle, Washington during the fourth quarter.
We reported $195,000 in net gains from the sale of securities in the quarter, compared to $482 000 in net gains for the third quarter and a $2.7 million net loss, recorded a year ago.
Our total noninterest expenses were $120.3 million or a $113.4 million excluding the $6.9 million of severance and other non recurring costs, compared to a $113.6 million in the third quarter. Third quarter results included a $0.5 million dollars of severance and other costs related to the recently completed strategic review. Our total noninterest expenses were $112.7 million a year ago, which included $2 million of acquisitions costs related to NewMil.
So excluding severance and other costs from the third and fourth quarter of ‘07, our noninterest expenses increased only $200 000 from the linked quarter and 2% higher than a year ago.
Now looking forward into 2008, we will first address the margin. We expect to see some continued pressure on the net interest margin based on recent fed reductions, particularly from the most recent 75 basis point cut as loans we [price] now even more quickly than deposits in the short-term and they impact of current levels of non performing assets as well. 25% of our loans are variable, so you can see the cuts have significant short-term impact until we react to adjust deposit rate accordingly particularly for [stepping up] and getting deposit.
We are very focused on other sources of deposit in commercial and retail and government finance and HAS to ensure that we continue to effectively manage our cost of funds as we see downward pressure on loan pricing.
With that said we would anticipate the margin would stay in the current rate for some time not improving in the short-term. The provision, we recorded $5.25 million in provision in the fourth quarter against $2.8 million in charge-offs for our ongoing portfolios.
We would anticipate that the quarterly provision could range between $6 million to $8 million next quarter, which of course is dependent on economic conditions and corresponding impact on asset quality. This also assumes that the current loan mix and risk levels do not change substantially.
Looking at fee income the run rate will be reduced from the sale of Webster Insurance. Also note that mortgage banking will be reduced by our decisions in the short-term here anyway to exit the national wholesale business we reorganized to be a retail focused mortgage banking operation.
On the expense side, our first quarter expenses will increase based on seasonality reflective of payroll taxes in HSA contributions and then normalize thereafter. Also as we stated, there could be some severance related to job elimination as a result of the earnings optimization program that we are under taking.
Our commitment post the balance sheet restructuring in a strategic and organizational reviews was to focus on how to consistently deliver positive operating leverage and to drive our operating efficiency down to a stated target of 60% by the end of 2008.
As we previously announced, we are working with a nationally recognized firm to implement in earnings optimization program. This is unlike anything else we have undertaken in the past. This is critical for us to focus on in order to substantially reduce expenses and to improve revenue. This is a very demanding and focused process that will take place over the next few months. We will have more to share with you regarding the results of this initiative at the end of next quarter.
I’ll turn the program back over to Jim now.
James C. Smith - Chairman and Chief Executive Officer
Thanks Jerry. And now let us look to the future. You can see from our Form 8-K and from our earnings release today that we have cleanly separated the 3% or so of our loan portfolio that we now call liquidating asset portfolio, from the 97% of Webster, which is a pure-play regional commercial bank.
We want the analysts and investors to be able to compartmentalize the liquidating portfolio, understand our reserving assumptions and then value it as you will. Separately, we want to as clear as possible on what you should expect from us going forward, our business model, our focus and our outlook.
As we enter 2008, having narrowed and refined our strategy and sharpened our focus on core franchise activities, Webster is a pure-play regional commercial bank. I should reference that, that we posted a [deck] on the website this morning that I hope you’ll be able to refer to, for this portion of our discussion. Even if you don’t have it, I think it should be pretty clear.
Webster has a strong franchise across southern New England into New York State, that some refer to as the gateway to New England. By emphasizing core operating accounts, we are acquiring, broadening and deepening customer relationships or maintaining a very low attrition rate.
Our ability to acquire, develop and retain customer is the primary reason we gain market share, year in and year out. Meanwhile, we’ve learned once and for all that direct to the customer, particularly on the loan side is the most sustainable and value creating model for us.
The year 2008 will likely be characterized by continuing modest pressure on the net interest margin as Jerry has commented and by the natural erosion in credit quality that a companies at economic downturn. Such an operating environment requires special attention to be devoted to operating efficiency
And you heard Jerry say that we set a goal for an efficiency ratio of 60% by yearend ’08. We’ll achieve this goal in part through our earnings optimization program, dubbed 1-Webster which will involve every Webster employee and be our highest operating priority in 2008.
We remain committed to our build-and-buy strategy that we’ll build branches at somewhat reduced rate in 2008. We expect to grow organically and ultimately to benefit from combinations with likeminded partners to share our vision to be New England’s bank.
I want to clear that we’ll continue to invest in select direct specialty businesses in which we excel and serve customers both within and outside New England. The specialties include asset-based lending, equipment finance, commercial real estate and HSA bank.
One of our slide shows the snapshot of our going-forward focus. This slide if you could see it lists our areas and priority against which you can assess our progress and performance. Note the focus on in-market direct-to-customer businesses, which we are best at, most committed to and most passionate about.
I’ll try to summarize each priority. We will invest in our retail franchise adding branches remodeling existing facilities upgrading about a third of our 343 ATM’s as part of our three year program and consolidating certain facilities in-market, in order to help fund our de novo expansion program.
We continue to see attractive de novo expansion opportunities in Massachusetts, Rhode Island and New York where we locate the three de novo offices we expect to open in 2008. The Rhode Island branch additions will bring us to 25 branches in the Providence MSA, while the Fairfield and Westchester market will grow to 41 branches.
It is only natural that New England’s would be our intend on expanding towards Boston. Our recent branding agreement with Walgreens is an important step in that direction. The agreement encompasses 158 locations and increases our existing ATM network by almost 50%, taking our ATM count to over 500. And Walgreens locations will be strategically placed through our Massachusetts, Rhode Island and Connecticut in high traffic, high visibility, and high population areas which offer our current and potential customers extremely conveniently access for cash withdrawals, balance increase and fund transfers between accounts.
This is an excellent cost efficient distribution platform for future growth through all of Massachusetts and Rhode Island.
We have also recently announced the new Head of Commercial Lending in Boston, who brings a wealth of talent and contacts in this new and important market for Webster. And the downtown Boston flagship brands that we planned to open by the end of our week, will benefit from the actions that I have just reviewed, as well as from our existing presence in the Boston area through our government finance, commercial, real estate, and asset base lending units.
Once again we have eliminated indirect out of footprint lending and we’ve discontinued all national wholesale mortgage banking activities. Our remaining national credit business, asset-based lending and equipment finance, our direct-to-customer and are centrally underwritten and managed.
The heads of these business have lengthy track records in the specialty segments, and have seen numerous credit cycles including recessions. Their focus on customers and collateral have served them well through the years. Our commercial and real estate business takes a regional approach with offices in Hartford, Stanford, Boston, Providence and Philadelphia.
This residential development portfolio that I mention earlier totaled $211 million at December 31 with 97% of that portfolio in New-England and the other 3% in New York and Pennsylvania.
I believe we covered the liquidating portfolio actions and rational in sufficient detail that there is no doubt as to our effort to identify separate and reserve against the anticipated future losses using default rates and loss rates that reflect our view that these rates will significantly worsen from current levels.
So I wont go into the further details here, except to say that by segregating these portfolios you can see with greater clarity, a strong performance of the continuing home equity portfolio, in particular and the entire ongoing portfolio and let me say that only 12.5% of the continuing home equity portfolio had a combined loan to value ratio over 90% and the weighted average FICO was 756 at origination.
Regarding deposits we see significant opportunity to grow deposits through the areas that you see on the next slide.
On the commercial side enhanced cash management products will serve as a catalyst for building business deposits. We have also invested in government finance and see a great opportunity to build on existing strong municipal relationships across the franchise and a gained market share.
Our cash management products also will help to boost small business deposit generation in addition to our recently launched business deposit officer initiative. In retail our expanded footprints through the de novo program and focus on making banking easier and more convenient for our customers, will be drivers for deposit growth.
With HSA Bank we have got an entity, that is on the cutting edge of healthcare change in the U.S. and one of the national leaders in providing health savings accounts. We continue to look at opportunities to form strategic alliances to augment HSA Bank’s deposit growth potential. And we intend to more fully utilize our internet capabilities to attract in-footprint deposits as well.
Webster’s earnings optimization plan is an employee-led raw enhancement and expense elimination program that we began this week, the purpose of the program is to reduce expenses and increase revenue growth in order to bring our operating ratios to an efficiency target of 60% or better by the end of 2008.
A full time 11-member resource team will work with team leaders across Webster to identify ideas to save time and money, as well as ideas on how that time and money could be better spent to grow revenues, improve services, and improve how we do our jobs.
The resource team and the team leaders will comprise current Webster employees. Our [discerning] in nationally recognized firms will assist us with this process.
Turning for a moment to capital, our focus on smart capital management and balance sheet repositioning over the last five quarters leaves us with a strong capital position as we enter 2008. We remain well capitalized with a leverage ratio of about 8% and a total risk-based ratio of 11.5%. We intend to among those ratios to 8% and 12% respectively in 2008.
We are committed to maintain the dividend payout at current levels of $.30 per quarter and Jerry has already talked about our stock repurchase activity.
Finally and I think we can safely say that this marks the end of our strategic review. We expect to complete the recently announced closure of national wholesale mortgage banking and the sale of Webster insurance to a strategic partner in Q1 '08.
We will try to identify and record cost or write-downs associated with these transactions in Q4 '07. Exiting these businesses should contribute positively to improvement in our operating efficiency ratio and free up human and capital resources to focus on core franchise businesses.
We look ahead to 2008 with confidence that we have responsibly identified and addressed our out-of-market credit issues, narrowed our focus on core franchise activities and embraced a strategy for a success as a pure-play regional commercial bank, which ultimately will be valuated as such and let me be clear about this. Underperformance is not a word that I or my Webster colleagues or the Webster Board of Directors can tolerate, rest assured that we will give every ounce of effort, pursue every opportunity and make every sacrifice necessary to achieve the mantle of high performance.
We appreciate your time and attention today and your interest in Webster. We’ll be happy to respond to your questions.
Our first question is from Andrea Jao from Lehman Brothers. Please proceed with your question.
James C. Smith
James C. Smith
Good morning. The goal of decreasing your efficiency ratio to 60% from what's currently 65%, it’s pretty aggressive and is a tough environment to generate revenues. So may be you could talk about what would drive that decrease, should we expect a rapid decrease in expenses?
Andrea, good morning, its Jerry. To address that, the goal is set to reach that ratio by the end of 2008. The program in which we are undertaking and actually kicks off next week, it formally kicks off next week is approximately 100 to 120 day process.
It’s an employee led program with the assistance of Harvest Earnings who are nationally recognized for their work in this field, to help us improve take a look at all our, every area of pricing, every area, and that’s not only just and how we structure our pricing in the loans and deposits, but also all of our fee-related products.
And we would expect there would be some opportunity there, as well as to look at all of the processes in the way that we spend our money in terms of each line of business and our share services are central areas. We expect that we as organization will be very dedicated, I think as Jim indicated there’s a eleven leaders that are dedicated fulltime to the program and there are a significant number of people associated with each of those things dedicated to support the program as well. It is very intense I think there’s a good benchmark in the market that you can take a look at.
PNC had gone through a very similar process and they generated some rather substantial results. Our expectations given our size are not at the level, but they generated what we believe that there are lots of opportunities for us as an organization. Particularly, that this process is really being driven by our employees, to [further our] cost savings in 2008 and make them sustainable costs savings on a go forward basis.
I think it is really important to know this is not a across-the-board cost-cutting exercise where we just reduce areas by some percentage in order to achieve a goal. Our goal here in this program is something that more sustainable, and systemic and we think after looking at a lot of alternatives that the firm that we selected and particularly the approach that this particular process takes would be extremely beneficial to Webster.
Okay. And then the…
James C. Smith
I just want to comment that a lot of this may depend upon what your revenue assumptions are, and if we end in a environment where there is a lot pressure on revenues then it is going to be harder to achieve that ratio. Given what we know now and with our forward look, we think that a combination of some modest revenue growth combined with the sale of the insurance business and the shutdown of the mortgage wholesale mortgage banking business both high efficiency ratio businesses and this intensive review and I think every organization benefits every 4 or5 years, even as we are trying for continuous improvements, can take a good hard look at every dollar of expense and every way of trying to increase revenue and we expect therefore to have a positive impact as we go through the quarters, in ‘08and that’s why we set the target for 60% by Q4.
Okay great, now just a follow up and this is related to revenue growth, what kind of balance sheet growth should we expect next year and what kind of loan growth should drive that, and how do you think it should be funded?
Andrea, on the funding side, our focus and clearly you could see what we have started to do in the fourth quarter was to look at more favorably priced funding sources, which is why we elected to utilize FHLB advances and not aggressively price to retain certificates of deposits, particularly, where the relationships was not deep within Webster, i.e. that they were not multiple products relationships there.
I think in terms of from a focus point, one of their competitive advantages is having HAS, which has already experienced very significant growth and we just released to share some of that information yesterday. I think that the other opportunities for us really o the commercial and government finance side, particularly around operating account opportunities, in and around the markets that we serve. so I think from the funding perspective hopefully, that’s helpful to give you some flavor that particularly in the environment, the competitive environment, we have made a very conscious decision to be very precise and surgical about how we look at pricing and it really is looking at customer relationship not on just deposits for per se and we really want to look at the diversified sources that we have in order to provide our source of funds in 2008.
Turning to the loan growth side, I think that we would expect very modest growth. I think we are in the process of retooling how we look at the mortgage banking business. So with the shutdown with in the quarter of an international wholesale arm and to build up on the retail side, I would expect for us to see very, very modest growth is not more of just to maintain a view in the residential side.
On the consumer side I would think that given that we have segregated $314 million into liquidating status, you would see that we would be looking to maintain or just a $2.8 billion or so that’s in footprint and by the way, we think that we showed very significant progress and really an opportunity in focusing on in-foot print, direct-to-customer, direct to consumer originations and we still think that there is some opportunity in the market place for us there, but I would tend to think that you would see that’s relatively flat as well and so from a growth perspective the real opportunities for us is more of the diversification that we have in the commercial side and in the small business side and again we would expect that overall there would low single-digit.
Very helpful, thank you
Our next question is from Collyn Gilbert with Stifel Nicolaus. Please proceed with your question.
Thanks, good morning gentlemen.
James C. Smith
Jerry, huts a follow-up, I want to make sure I caught it. You had said that the loan loss provision, you expected the loan loss provision to be $6 million to -$8 million?
That’s what I said Collyn, for the first quarter.
Okay. And I apologies…
Collyn if could clarify, I just want to make sure if that is for the continuing loan portfolios. So as we look, at in the piece I think its important of what we are basing that on is we recorded a provision for the [four or five] in a quarter and our charge-offs awesome around 2.8 from our ongoing lines of business. So we feel that assessing where growth is coming in, just given that the response I gave to the earlier question, coupled with where we see the mix of business and the risk inherent in that business that we think that is saying that range is appropriate for guidance for the quarter.
Okay. And in that I apologize for I missed the beginning of the call, but that’s for the ongoing business. Did you give any color as to what to your expectation are for the discontinued businesses and where we could see that the provision going related to charge-off?
No, and in terms of, and that’s a great question. And I’m glad that I have the opportunity to provide some clarity. Our intend is to that we have set aside allowance in each of those respective portfolios and you will see charges against those allowances on as we work our way through, particularly when you look at the construction loan, the indirect construction loan portfolio for home equity. Construction loan I would think will be a much sure a period the time given the nature of the asset. And home equity in the indirect out-of-footprint home equity, you will see charge-off over a period of time as we work our way through. But really there should be at this stage charge-offs against allowance in those portfolios in the coming quarters.
James C. Smith
Collyn, let me just say that we went into a lot of detail on that, so when you see the transcript I think you will get a full explanation.
Okay. All right. Thanks. And then just quickly, in terms of, I think when you have said that you most anticipated having captured most of the charges in the fourth quarter related to these discontinued businesses. I mean, where I m going with this is just trying to get a sense of how clean we can expect the first quarter to be or subsequent quarters thereafter or where the risk is that maybe there are some things that pop-up.
James C. Smith
Yes. I just say again, that I keep recurring to the wording that we chose very carefully in the 8-K that I mentioned again this morning which is that, we reserved against the estimated losses and hearing in those portfolios using default rates and loss rates that reflect our view that those rates will significantly worsen from current levels.
So that was the approach that we took in trying to identify and reserve against what we believed, given for the deterioration would be the likely losses over the remaining lives of the assets in those portfolios. So we did not put up this reserve with contemplation that we would have to put up the additional reserves. Who knows ultimately how the world will perform.
And what we've said is we want you to have the best possible information that you can, so you can assess our methodology and than draw your own conclusions about it. We are not expecting that we're going to have any kind of impact on those portfolios in the foreseeable future.
James C. Smith
So, when Jerry is talking about the provision, he is talking about for the continuing portfolio. We have gone to great pains to separate one for the other. So you can look at us as the pure play commercial bank that we are.
Great. Okay. Thank you.
Our next question is from Jared Shaw from KBW. Please proceed with your question.
Hi. Good morning.
James C. Smith
Good morning, Jared.
I just have a couple of questions, first on the Walgreens' ATM imitative, what's the incremental expense I guess what we should be looking for, as you expand the ATM network set dramatically?
It should be less than, it should be about a 125,000 or so a quarter.
Yeah. It's not a -- and I don't want to disclose anything further than that, but I would say in the round numbers that's just what we would say. And it's branding expenses, Jared. So you'll see that flow through marketing.
Okay. So that won't come through. Are you…
No. Just to clarify, I mean if you were looking at a line item where you'll see that the incremental bounce within marketing.
James C. Smith
The play for us in particular in this is, this gives us a very unique opportunity from a brand awareness perspective, to get our brand into a lot of markets where we don't already have the physical presence. And we think that, in Webster customers existing customers benefit from these no fee to Webster customer machines as well.
Then, will you capture the fee of non-Webster customers or is that, are you just…
There is no other impacts for us from P&L perspective and I can't comment further in the details I had just--
Okay. Turning to HSA, there is an article in the Banker, American Banker today, but the HSA products generally, industry-wide hasn't cut to the extent that was initially expected, initially hoped. What are your thought that's working out of the next few years with the adoption of HAS? And do you expect, are you expecting your growth, your initial growth expectations to come down or do you think that's just more of delayed implementation?
Jared, we think that it is catching on, our 41% growth into deposits and HSA bank, I think attested that the fact that we crossed a $500 million mark in total deposits and a linked brokerage accounts last year from little over a 100 million when we made that acquisitions, which was less than three years ago is a very significant growth.
The adoption rate, it may not be as high as some people had projected but it is increasing. And we think that the corporate adoption will cause a significant ramp-up over the next 3 to 5 years. I also wanted to say, we were always very careful not to overlay what the growth rates would be, so I would say that our growth has been reasonably consistent with what we expected that it might be, and we are pleased with that growth. And we are especially pleased that the cost of these deposits is the same as our core deposits. So we care about $500 million of core funding through HSA bank.
Okay. Great. And then just finally on the margin, sure, you said that it looks like, I think I was a little confused, it sounded like you were saying it could stabilize into the current range or were you saying in '08 you could stabilize in wherever it turns out to be in the first quarter of '08?
No. It will stabilize in the current range. I think that to add some color to that, that we're being very proactive in managing our cost of funds. And I think it's -- all of you would readily agree, its very challenging, given in the environment particularly in the light of the percentage of assets that we priced immediately with a rate cut, but we've really put lot of energy in focus on looking at other sources of funds and really you are being very surgical and precise around how we look at CDs.
So you could see an impact of our deposits, one of the deposit ratio, but we are looking at this from the standpoint of, we want to maintain, our goal right now is to maintain and ultimately improve where we are. So I mean from a look into next quarter to first quarter, that's our goal.
Okay. So even with the Fed cut, we should expect to see or hope to see margin not really taking another big hit from here?
As we working it on.
Great. Thank you.
Our next question from Mark Fitzgibbon from Sandler O'Neill. Please proceed with your question.
Good morning. Actually, this is Alex Twerdahl from Sandler O'Neill. My first question is have you seen home equity line utilization ratios rise at all.
You know they've stayed relatively flat.
Okay. Do you have arranged where they are right now?
James C Smith
Well, they are probably around, I think 60% or so would be.
Around 60% of -- okay. Thank you. And my second question is with respect to the sales insurance business, you've mentioned that there should be additional potential consideration over multi-year period.
James C. Smith
Is that something that we should see immediately following the sale or is it little bit of the lag effect?
Its something at this time we can’t comment on.
What we’ve wanted to do is try and be as open as we could, in terms of how the deal structures are in the marketplace today and provide some clarity around why there would be a change in upfront value.
But in terms of, we would hope to be able to announce something and provide some more clarity at that point in time.
Great. Thank you very much, that’s all from me.
We have a follow up question from Andrea Jao from Lehman Brothers. Please proceed with your question.
Hello again. Just wanted to do -- check in on a couple of things, first do you have an idea for additional FDIC insurance costs. Do you expect a material increase?
James C. Smith
We expect that the FDIC premiums will likely be higher in ‘08 than it were in ‘07. And that we are likely to use up the balance of our assessment credits in ‘08. And so that it should become a real time event for us by either late in ‘08 or early in ‘09, depending upon what the levels are that are set by the FDIC.
Okay. And then as you look at your balance sheet and I am sure you are reviewing your capital structure, do you have any plans to issue hybrids during the course of ‘08?
Andrea its Jerry, no not at this time. Our intent I think is we’ve stated that we would like to maintain 6% tangible, 8% leverage and 12% risk-base. As we reported, we are virtually at the leverage ratio and very close on the total risk-base. On the total risk-base, we believe that there is opportunity already that we are working on regarding how our long commitments to improve that ratio, so we believe that – and again with our intangible we’re at roughly 5.9% as opposed to our stated goal in ‘06. So even withstanding the quarter and the results of the quarter and then think about our loan growth where we will be for 2008, again, assuming that we are in single digits on the lower end of the single digit side. We feel at this time our capital is at the appropriate levels.
Perfect, thank you so much.
There are no more questions in the queue at this time. I would like to turn the floor back over to management for closing comments.
James C. Smith, Chairman and Chief Executive Officer
Again I would like to thank you for being with us today. Have a good day.
Ladies and gentlemen, this does conclude today’s teleconference. You may disconnect your lines at this time. Thank you for your participation.
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