PAB Bankshares Inc. (OTCPK:PABK) Q4 2007 Earnings Call January 29, 2008 9:00 AM ET
Burke Welsh - President and Chief Executive Officer
Donald Jay Torbert - Executive Vice President / Chief Financial Officer
Mark Muth - FTN Midwest
Welcome to the PAB Bankshares fourth quarter and 2007 earnings conference call. (Operator Instructions) I would now like to turn the conference over to Mr. Burke Welsh. Mr. Welsh, you may begin.
Good morning and thank you for joining us for the quarterly conference call to discuss the fourth quarter and yearly earnings for 2007. Before we proceed, Jay will give us our customary cautionary statement.
Donald Jay Torbert
Good morning. Today we are going to discuss our financial results for the three months and 12 months ended December 31, 2007. This information was summarized in a press release dated January 28, 2008. You can retrieve this press release and the related financial tables on our corporate website at PABBankshares.com. Once on our website, click on the menu options for Investor Relations and then click on press releases to find a listing of the latest press releases issued by the company.
Certain statements made today by management are called forward-looking statements within the meanings of the federal securities laws. Statements regarding the future of PAB, including our outlook on earnings, stock performance, asset quality, loan and deposit growth, branching, interest rates and real estate market conditions are forward-looking statements.
These forward-looking statements are based on our beliefs and assumptions using data currently available to us and a variety of factors could cause actual results to differ materially from the opinions expressed in these forward-looking statements. A potential list of such factors is outlined in our January 28, 2008 press release.
We have no obligation to update any forward-looking statement made today to reflect circumstances or events that occur after this call.
We do not edit or verify the accuracy of any transcripts of this conference call provided by third parties. The only authorized webcast or rebroadcasts of this conference call are through links located on our corporate website and on our conference call host website.
Burke, I will now turn the call back over to you.
Thanks, Jay. As you’ve noted in our press release and as is pretty evident in our earnings, we’re not as strong as we would have liked, but with the challenges that we and most of our Southeastern peer group faced, I feel they’re very respectable. Based on market conditions and one specific loan, we took the equivalent of December earnings as a loan loss provision.
We do expect to see further problems to surface during the first half of 2008 although we don’t foresee these as being unmanageable. We budgeted for this first in 2007 with the issues we saw then and our year matched our budget reasonably well. We started pulling back in the residential and A&D market in the metro Atlanta probably in the early fall of 2006.
We’re still having loan opportunities but expect 2008 to be another challenging year. Growth will probably be in the single digits and with the current Fed cuts and working off the future projections of Fed funds, our net interest margin will continue to compress.
We do have a good team on board here that has been through workouts and cleanup in the past and we feel well-prepared for these issues. We recognize and deal with problems as they surface very quickly.
Our non-performers will continue to rise, I believe, moderately through the first half of 2008. As we said in our earlier press release, we do not intend to fire sale any or all of these foreclosed properties, but we will selectively hold some assets that would require deep discounting. As the market returns, we will dispose of these assets on a more orderly basis and we do have the capital to be able to handle this.
Most of our problems have been in the metro Atlanta area. Fortunately, our South Georgia and Florida markets have remained relatively clean and healthy. The last 30 days have been somewhat encouraging in the metro Atlanta area. We’re beginning to see people jumping back into the market and making offers on troubled projects. While most are looking for exceptional bargains, the activity is encouraging. It leads one to believe that investors think we’re near the bottom.
Most of our exposure in residential real estate is on the south side of Atlanta and is in more affordable housing. Lot inventories in that area and in metro in general continue to be troubling, but builders are moving houses. There are still pockets of activity and inventories are slowly being absorbed. I think that by mid-year these inventories should be back to a level to absorb some starts in selected submarkets.
While one never likes to report depressed earnings, we feel that to-date we have weathered the storm well and feel well prepared to have a challenging but good 2008.
Jay, if you have a few comments to make on the specifics of the numbers, I will let you review those.
Donald Jay Torbert
Thank you, Burke. Fourth quarter net income was $1.641 million a 50% decrease compared to the fourth quarter of ‘06 and a 43% decrease compared to the third quarter of ‘07. Burke mentioned the decrease is due primarily to increase in loan loss provisions, net interest margin compression and overhead related to our de novo offices.
The earnings for the fourth quarter produced a 0.54% return on average assets and a 6.61% return on average equity. For the fiscal year ‘07 net income of $10.786 million is a 21% decrease compared to the record earnings that we reported in 2006.
For the fourth quarter, net interest income on a taxable equivalent basis decreased $501,000 or 4.7%. The decrease is due to several factors, one being increase in interest expense. Interest expense is up 13.5% year over year, due mostly to a combination of increase in volume; average balances in our funding is up 10.1%; plus an increase in the average rates paid for those funds, a 13 basis point year-over-year increase. However, the average rate paid for those funds did decrease from the third quarter 12 basis points.
Interest income did increase 3.9% in the fourth quarter compared to fourth quarter of ‘06 mostly due to an increase in volume. Average earning assets up 7.9%; however, the average yield decreased 29 basis points year over year to 7.48%. The decrease in yields is a factor resulting from a decrease in interest rates, also the impact of the increase in our non-performing assets. During the fourth quarter, we had $362,000 in interest income reversed out of earnings. That resulted in an impact on our net interest margin of 13 basis points.
Also, the average loan yield decreased 51 basis points in the fourth quarter. Part of that was due to non-performing assets, also decreases in interest rates primarily on our prime base loans, as well as decrease in loan fees on construction lending. I don’t have it on a quarterly breakdown this morning, but for the year fee production was down $461,000 or 15%, and that had a 4-basis-point impact on our net interest margin. The primary reason for the decrease in fee production was a decrease in new loan production. For ‘07, new loan production was down 27% compared to 2006.
Having said all of that, net interest margin for the fourth quarter resulted in a 3.61%, down 28 basis points compared to the third quarter of ‘07.
I mentioned the de novo offices. Over the past 15 months we have opened three branches and one loan production office. In the fourth quarter, they generated a net operating loss of about $0.04 per share. Most of that is driven from allocations of loan loss provisions and should be one-time allocations for growth.
In previous press releases we have talked about opening new branches, two or three a year. I think our plans for 2008 is to put new branch openings on hold until we can see how the markets develop.
Balance sheet growth, total assets increased 7% in 2007 primarily due to 8% in deposit growth. Total loans increased 12% during the year, but that was due primarily to a slowdown in payoffs and an increase in renewals. There is a noticeable decrease in new loan demand in the second half of ‘07 as our borrowers in the construction and development area either sat on the sidelines or were busy clearing their inventories.
For the first half of ‘08, we anticipate some lower to no loan growth and possibly contracting the balance sheet and allow higher rate CDs to roll off; a lot of that depends on loan demands and market conditions.
A couple of notes on asset quality. Non-performing assets increased $8.9 million in the fourth quarter. At 12/31/07 non-performing assets to total assets was 1.49%. That was up from 0.74% at the end of the third quarter.
Non-accrual loans increased $6.2 million and other real estate increased $2.7 million during the quarter. I want to point out that 82% of our non-performing assets are related to residential real estate, construction and development loans. Our current inventory of non-performing assets comprised of 108 lots with an average cost per lot of $38,600; 28 houses with an average cost per house of $120,100; and 295 acres of real estate slated for residential development.
That’s about it, Burke.
There’s one question that I was asked from our earlier press release that I will go ahead and address before we turn it back over to question-and-answer. I was asked if our loan loss reserve was adequate seeing that our non-performings increased as much as they did in December. $6 million of that increase was one land loan and we have got a specific reserve of a little in of excess of $1 million on that loan. I feel like we have really looked at this and had our staff appraiser, who is an MAI appraiser, review this project and we feel this is adequate.
The thing that is not evident from the press release; this was actually an appraised property that was purchased for about $10 million when the market was real strong. The borrowers have somewhere approximating $4 million in cash in it that was put in at closing, plus a curtailment. So in light of that and the $1 million, we actually are looking at this and reserving as if it was about 50% of the original value. I think that well covers us on that loan.
I know from looking at it when you see a $6 million increase in the market the way it has contracted, that would seem to be very marginal as far as a reserve but I want to make sure we related the extenuating circumstances on that and the logic that we used in making our reserve.
Jay, do you have anything else before we do question-and-answer?
Donald Jay Torbert
No I don’t.
Camille, if you could, you can go ahead and queue up the question-and-answer.
Your first question comes from Mark Muth - FTN Midwest.
Mark Muth - FTN Midwest
Burke, you mentioned the $6 million loan that was the bulk of the increase in NPAs. Could you discuss any other large items that might be in there?
We have one that’s a little over $2 million that actually is a non-performer. It is not bank-owned real estate at this point and we’re working with the borrower on a forbearance agreement to work through it. It’s in a subdivision that has been real dynamic in the past. It will become very dynamic again as soon as the market turns. We have reserved adequately on that one and what we have done on that one is put a specific reserve on it based on what we feel like is a reasonable discounting of that value based on what the market shows as the absorption period.
That is the only other large subdivision loan right now that we have that’s a non-performer, and it’s in the $2 million range. I think that’s one that either over the next 60 days the borrower will have some resolution to or either that is probably one, Mark, that we would choose to hold a little longer and not take just extreme discounts on.
It is a very dynamic, strong area where that one is.
Mark Muth - FTN Midwest
You’re seeing most of the weakness in your C&D portfolio, could you discuss or maybe ease some fears about the linked-quarter increase we saw in the construction book this quarter?
I was looking yesterday and our Chief Credit Officer and our regional presidents in Atlanta are both here and if they hear me say something that they disagree with or want to enlighten more on then they can get close to a microphone and speak up.
Lots are really the thing, as everybody knows around Atlanta, that are causing issues. Most of our subdivisions that we’ve done as A&D projects are still performing. We will have a few probably where people run out of cash during the first half of 2008. If they do, they will, of course, be rated; they will be reserved adequately.
Every 30 days, our regional president and our credit officer is working with the lenders and reviewing every construction and A&D project that they have, looking at the projections of the customer, looking at updated financial statements, seeing how much liquidity those folks have, seeing if we need to put a higher degree of reserves against those projects.
We’re trying to still stay disciplined with our reserve methodology and be realistic in the marketplace. I think in Atlanta right now there is anywhere from 48 to probably close to 70 months worth of inventory.
Donald Jay Torbert
Henry County went up to 88 or 90 months.
Yes, and part of that is because it shoots up because there’s no lots being taken down now. As soon as the market starts back up, those inventory levels will drop. I think in metro Atlanta there’s still over 140,000 lots to develop lots on. It will take quite awhile to absorb.
When you look at the housing on the south side -- and that’s where most of our exposure is -- I think you’re still in the ten-month range of inventory levels. Those are holding and gradually creeping back down. At the rate they’re creeping down, I would expect probably by midyear in selected submarkets for some starts to be needed for inventory levels. When you have that, the lots are going to start being absorbed.
We’ve got one larger subdivision, I know the customer has had some offers on it and they were pretty steep discounts. But when we have looked at what he has been offered, we have got excess collateral, other margin collateral on that loan such that we would be more than covered even at the discounts. So I may be talking around the subject a long time to get to the point, but I think we have been fairly conservative in the way we underwrote these projects. We worked with good borrowers that have held out longer than most. We are seeing some of those begin to surface. But we are staying on them and updating and reviewing this probably every 30 days to really stay tight with our customers and recognize problems early on and help them come up with some solutions where they won’t be non-performers or bank-owned real estate.
Did I answer your question, or did I talk around it too much?
Mark Muth - FTN Midwest
I think so. Are you seeing any spillover at this point into residential or your C&I customers, or is it still fairly contained within the builders and the developers?
We haven’t seen much in the C&I right now. Now in the metro Atlanta area when you start looking around, I think there’s some softness, particularly in strip retail. I’m seeing more vacancies out there but we have very little of that on our books, and the ones we do have I think are with borrowers that have really good excess cash flow outside of the projects. So, if they have to hold those things on an interim basis until the market comes back a little, they can.
The secondary market got so strong on the takeouts on those and dropped the coverage ratios down low enough; a lot of those, our borrowers ended up taking those out, paying them off and getting exculpated deals in the secondary market. When we saw rates going down and no guarantees, we didn’t chase those projects. We have not done any speculative retail strip centers in probably two to three years. We just felt like that market was getting overbuilt and we stayed away from it.
Mark Muth - FTN Midwest
It looked like there was a pretty big lift in jumbo CDs down in the South Georgia market. Could you discuss that and how you are managing deposits given outlook for flat to declining loan balances?
Through our financial accounting area, they pretty much managed deposits and will do specials or pushes in particular areas where we feel like we can get the money most economically for the company.
I’ll let Jay speak to that a little bit.
Donald Jay Torbert
Mark, in the fourth quarter we had a large commercial customer need to put some deposits with us and we asked that he put those with us in the form of CDs and to term it versus just letting it sit in a money market account. That’s what that is, and those funds are planned to roll out of the bank over a 12-month period. It’s roughly $20 million.
As you’ve noticed, Mark, I think from all of our lists, we really try to get deposits in our local areas. We have not depended on brokered money to any extent. We just use it as fillers short term and try to make sure that we stay independent of that broker market.
(Operator Instructions). Gentleman, there are no further questions at this time.
All right. If there are no other questions, we will end the conference and look forward to talking to you at the end of the first quarter.
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