National Penn Bancshares, Inc. (NASDAQ:NPBC)
Q1 2008 Earnings Call
April 17, 2008, 1:00 pm ET
Michelle Dobrowski, Investor Relations Officer
Glenn Moyer - President and Chief Executive Officer
Scott Fainor - Chief Operating Officer
Michael Reinhard - our Chief Financial Officer
Michelle Debkowski - Investor Relations Officer
Thank you and good afternoon this is Michelle Debkowski. Welcome to National Penn Bancshares First Quarter of 2008 earnings web cast. Questions will be accepted during the webcast via e-mail. Please use the e-mail button located on the conference call screen to ask your question. Due to time constraints, we may not be able to get to all of your e-mails. Additionally, as we review questions received, we may combine questions that raise similar issues or can otherwise be combined for comments.
As part of our web cast presentation we will see that there are slides with financial highlights available for your independent review. The presentation and slides will be available on our web site as well as filed on Form 8-K with the Securities and Exchange Commission following our web cast.
This presentation contains forward-looking information that is intended to be covered by the Safe Harbor or forward-looking statement provided by the Private Securities Litigations Reform Act of 1995. Many of these factors are listed on the slide on your screen. I give you a moment to review the slide.
I will now turn today’s presentation over to Glenn Moyer, our President and Chief Executive Officer. Glenn?
Glenn Moyer - President and Chief Executive Officer
Thank you, Michelle. Joining me today is Scott Fainor, our Chief Operating Officer and Michael Reinhard, our Chief Financial Officer. I will start the call today by reviewing highlights from our first quarter of 2008 earnings release which is available on the Investor Relations section of our website.
Earlier today we included the press release in a report on Form 8-K that we filed with the Securities and Exchange Commission. Mike Reinhard will provide an overview of our financials. Scott Fainor, will review our loan and deposit growth, credit quality and the KNBT integration, I will than wrap up with some concluding comments.
Beginning with financial highlights, I would like to note that our financial results for the first quarter 2008 include Christiana Bank and Trust as of January 4 and KNBT Bancorp as of February 1st. The addition of Christiana and KNBT has significantly changed our financial statements.
Our first quarter 2008 results, under accounting principles generally accepted in the United States refer to as GAAP; reflect record quarterly net income of $21.6 million, a $6.1 million increase over net income for first quarter 2007.
On a per share basis, we earned $0.33 per diluted share in first quarter 2008 compared to $0.31 per diluted share for first quarter 2007. Growth in first quarter 2008 net interest income as compared to first quarter 2007 contributed to our profit performance as did increases in some key fee income areas. We provided funding in first quarter 2008 for our loan loss reserve of $3.4 million resulting in a loan loss reserve of 1.36% of total loans releases at March 31, 2008.
I’ll now turn the presentation over to Mike Reinhard who will provide more details about our first quarter financial results.
Michael Reinhard - Chief Financial Officer
Thank you and good afternoon. Let me begin by noting that any reference to per share results are two figures that have been restated for the 3% stock dividend paid September 28, 2007. I’d also like to note that this presentation contains a non-GAAP financial measure, return on average tangible equity.
Due to a number of acquisitions in recent years, purchase accounting rules have negatively impacted our GAAP return-on-equity. The non-GAAP return on tangible equity ratio excludes the impact of acquisition related goodwill and intangibles and is used by National Penn’s management for comparative purposes and its analysis of the company’s performance. A reconciliation of our GAAP and non-GAAP return-on-equity ratios is included in our presentation today for your review.
The purchase accounting adjustments for the KNBT acquisition as required by GAAP had a considerable effect on National Penn's financials for this first quarter. Given current conditions in the financial markets the valuation of both assets and liabilities was lower than we anticipated back in September when we announced this transaction. Overall, the fair market valuations added an additional $41 million of goodwill over the $202 million of goodwill created by the purchase price.
The amortization of these fair value marks though were accretive earnings and therefore capital in future years. We cannot predict however, a specific increase in net income as a result of this amortization of the fair value marks through earnings as there are many moving parts to our two acquisitions this quarter.
I will provide additional details to provide more clarity at the appropriate segments of my presentation. We also encourage you to review our 8-K filing on April 15, which includes the audited, consolidated financial statements of KNBT and pro forma finical information for Nation Penn for the year ended December 31, 2007.
Net income for first quarter 2008 was $21.6 million a 39% increase over first quarter 2007. Diluted earnings per share of $0.33 was 6.5% higher than the $0.31 per diluted share earned during the same period a year ago.
Our first quarter of 2008 earnings produced a return on average assets of 1.10%, and a return on average equity of 10.54% as compared to 1.15% and 11.61% respectively in first quarter of 2007. The decline particularly in return on average equity was as expected due to the increased average equity resulting from the Christiana acquisition where the consideration paid included 80% stock and the KNBT acquisition where the consideration paid was 100% stock.
Net income return on average tangible equity was 21.8% in first quarter of 2008 compared to 24.4% in first quarter of 2007. This non-GAAP financial measure is computed by dividing annualized net income by average equity that is reduced by average acquisition related goodwill and intangibles.
Our net interest margin increased in the first quarter to 3.44% from 3.41% in the fourth quarter of 2007. In first quarter of 2007, net interest margin was 3.42%. Absent the positive effect of the amortization of the fair value marks, we anticipated the first quarter of 2008 net interest margin to be 3.27% which is simply the weighted averaged net interest margin of National Penn, Christiana and KNBT combined without any consideration of interest rate moments or shifts in earning assets.
The positive effect of the amortization of a fair value marks was 18 basis points in the first quarter. Therefore, without the benefit of the fair value marks, the net interest margin would have been 3.26%. We attribute this one basis point difference from internal expectations primarily to margin compression in the declining interest rate environment as we were unable to re-price deposits downwards in the same magnitude as the moment in our interest sensitive assets.
Offsetting that impact though with somewhat improved pricing for new loans as the yield curve is deeper and credit spreads have widened.
A provision for loan losses of $ 3.4 million was made in first quarter of 2008 as compared to a provision of $1.1 million for the first quarter of 2007. Total Net charge-offs for first quarter 2008 of $2.8 million compared to $1.6 million, a net charge-offs in first quarter of 2007. First quarter 2008 net charge-offs were $2.6 million less than the $5.2 million net charge-offs in the fourth quarter of 2007. Scott will discuss credit quality in more detail in his remarks.
Due primarily to the acquisitions of Christiana and KNBT, non-interest income of $24.2 million in this year first quarter is up $7.5 million or 45% as compared to last years first quarter. Excluding fair value accounting, fee income was 30.4% of total revenue.
This year first quarter non-interest income includes a $1 million charge related to NPB Capital Trust II under the fair value option guidelines of FAS 159 and FAS 157 only adopted for this financial instrument.
Compared to a $152,000 gain in the first quarter of 2007, we recognize no gain or loss from the sale of securities in the first quarter of 2008 compared to a $569, 000 gain on sale of securities in the first quarter of 2007. Non-interest income for the first quarter includes only two months for KNBT.
For the second quarter of 2008, when we have a full quarter of combined operations, we would expect non-interest income to be approximately $28 million, excluding gain or loss from the sale of securities and the fair value mark on NPB capital Trust II.
Including the impact of Christiana and KNBT from the dates of their acquisition this year, total non-interest expense for first quarter 2008 was $48.9 million up 45% as compared to last years first quarter.
Considering that KNBT was only included in two months of the first quarter, but also taking into account the anticipated cost sales from KNBT, we would expect non-interest expense for the second quarter of 2008 to be approximately $54 million. We are pleased to report that we are on target to achieve the previously amounts level of KNBT cost saves.
Regarding the balance sheet, total amount from 56% during the first quarter of 2008 to $9.1 billion. At March 31, 2008, National Penn was in compliance with all applicable regulatory capital requirements. National Penn, National Penn Bank, and Christiania Bank and Trust are all considered well capitalized as defined by banking regulators.
We target our tangible equity to tangible assets to be a minimum of 5%. At March 31 2008, our ratio stood at 5.38%, up from 5.18% at January 31, 2008 following the Christiana transaction. Book value per share and tangible book value per share were $13.49 and $5.77 respectively at March 31, 2008, compared to $11.4 and $5.13 at January 31, 2008.
We are pleased that despite the unanticipated goodwill resulting from fair value accounting, KNBT transaction was immediately accretive to these capital levels as announced at the time of signing of the merger agreements. Capital management has been and will continue to be a primary strategic focus for us.
I would now like to introduce Scott Fainor, our Chief Operating Officer.
Scott Fainor - Chief Operating Officer
Thank you, Mike. I would like to take a few moments to comment on our loan and deposit growth and our overall credit quality, and then I will address the KNBT conversion process.
With respect to our loan portfolio at March 31st, 2008, total loans and leases outstanding are 6 billion. With all regions across our country fully engaged in increasing customer relationships while maintaining quality loan growth. Organic loan growth was 4.19% on a linked quarter basis during the first quarter 2008 and was reflected most notably in the areas of commercial business and commercial real estate lending. At March 31st, 2008, our commercial loan categories represented 66% of our total loans as compared to 74% at March 31, 2007. This shift resulted from the addition of Christiana and KNBT to National Penn.
We are currently comfortable with this further balancing of our portfolio. We continue to monitor all our credit pipelines which currently remain in a strong position. We are focussed on maintaining this momentum through relationship cross-selling of commercial and consumer loans in addition to our cross-selling of our expanded array of insurance, wealth management and deposit products and services throughout our new footprint.
Total deposits were 6.1 billion at March 31, 2008. Organic deposit growth was 1.23% on a linked quarter basis during the first quarter 2008. For deposits overall, we are currently in the midst of a delicate balancing act of reducing interest rates paid on deposit, commensurate with the reduced rate environment triggered by the Federal Reserves interest rate cut, while at the same time, maintaining our overall liquidity and core deposit position. Within this balancing act, National Penn is focussed on relationship profitability management.
Non-performing assets plus loans over 90 days delinquent for our combined company totaled 24.1 million at March 31, 2008. We believe that our ratio of non-performing assets to total loans of 0.40% is better than industry averages. This compares to a ratio of 0.39% as of December 31, 2007.
We also believe we remain appropriately positioned in our overall loan and recent loss reserves at $81.6 million or 1.36% of total loans and leases as of March 31, 2008, after first quarter net charge-offs of $2.6 million.
Based on the current reserve of our coverage ratio of non-performing assets is 338%. This compares to a coverage ratio of 359% at December 31, 2007. Based on the strength of these coverages, our review of overall credit quality indicators and our ongoing loan monitoring processes, we feel we have adequately provided for loan and lease losses during the first quarter 2008. This is a dynamic process and we will continue to evaluate the appropriate level of provision on a quarterly basis.
As in the first quarter, we feel that in the current environment, we may need a larger provision expense in the near term than in the recent past in order to maintain our loan loss reserve at an appropriate level. It is important to note that National Penn's increase in non-performing assets and charge-offs is not a retail loan or residential mortgage issue, nor do they reflect any repercussions from sub-prime exposure. The increases are consistent with the trends in our slowing economy.
For National Penn, the non-performing loan and charge off increases have been driven by credit in the commercial segments of our portfolio. All of our banking teams are aware of the impact of this economic slowdown and changes in our credit cycle and we will continue to monitor our portfolios risk and concentration exposure diligently.
Immediately following the KNBT announcement in September 2007 our company has dedicated significant resources to the integration of KNBT. Approximately 227 systems and subsystems will go through a conversion process with the major milestone, our core banking system conversion occurring this weekend.
Despite the size and complexity of this undertaking, we believe that this conversion will result in minimal disruption to our customers. With the successful completion of this debt, we look forward to delivering on the promise of our new National Penn. Also watch for the unveiling of the new KNBT signage that will also occurred this weekend.
I will now turn the presentation back to Glenn Moyer.
Glenn Moyer - President and Chief Executive Officer
Thanks Scott. Our acquisition of Christiania Bank and Trust Company on January 4th, 2008, bring significant opportunities to profitably serving our growing client base particularly in the wealth management area. While we have already felt the positive impact of Christiana in the further diversification of our fee income, we are also encouraged by early signs that our Pennsylvania clients are interested in the Court Delaware advantage. We are also motivated by our merger with KNBT Bank Corp on February 1st, 2008 and the expected opportunities this brings to further diversify and cross sell our product and service offerings across our expanded footprint.
Our integration teams continue to work hard, and we are looking forward with enthusiasm to our future together. These two significant mergers, when combined with National Penn’s organic growth momentum allow for a meaningful transformation to a new National Penn for 2008 and beyond.
On February 21st, National Penn was added to the S&P small cap 600 Index. This index is composed of firms with a market capitalization of $300 million to $2 billion that meet specific inclusion criteria to ensure that they are investable and financially viable. Since inclusion in this index, which came shortly after the KNBT closing, our average daily trading volume has increased significantly. For the month of March 2008, our average daily trading volume was 988, 000 shares, as compared to 281,000 shares for the month of December 2007, a 350% increase.
We are pleased to be added to this index and believe that the increased liquidity on our stock is a benefit to all our shareholders. Once again, we have reported record earnings. National Penn remains the preferred local financial services company for the needs of our retail and commercial customers as well as our shareholders.
We will continue our focus on diversified earnings growth and cost containment efforts that will allow us to build shareholder value through this challenging economic times. We thank you for your continued interest in National Penn. This ends our planned remarks and we will now address questions that have been received to this point. Questions that may be received after this point will be addressed as possible in the public filing of the transcript of our Question and Answer segment. Michelle?
Thank you Glenn, we have few questions presenting during the webcast and Mike I will begin with you.
What is the run rate for dilutive shares going forward?
Based on our current stock price, the dilutive effect is approximately 2 million shares. So the run rate would be about 81.5 million shares going forward.
We had a couple of questions coming and I believe we have addressed in our comments concerning organic growth in loans and deposit as well as the margin improvement from the mark-to-market of the KNBT’s balance sheet and the run rate for expenses on second quarter 2008. Mike, the next question for you is, at what point do you expect to receive the full impact of cost save?
As we originally announced, we expect 75% of the cost saves in 2008 and a 100% in 2009.
Got a couple of questions for you. Can you provide some details of your residential construction portfolio? What are the attributable NPA's and the number of builders involved?
The attributable NPA's from the residence construction portfolio is 10% of our total non-performing assets, and it includes only one builder.
And how is the local market? Housing market performing?
Overall the housing market has slowed in general, but in our market we have never had the lowest increases in stocks upward or the short declines over all of the geographies that we cover. So, stable is the word that I will used at this time, but we’re remaining cautions, and we’re continuing to have our teams focus on the economy and the potential slowdown.
We also address that during in our comments the question concerning the previously sided cost savings and whether they still appear achievable. So Michael just I will address the next question to you, what was the impact of SOP 03-03?
The impact of SOP 3-3 related to KNBT is approximately $2,000.
Scott, back to you. What is your expectation for loan growth?
Our budget for 2008 is focused on mid-to-high single digits for the full year, and I think we cover within the presentation that the first quarter linked growth.
And how is the economy holding up the general?
I think the economy as stated in my previous comment, I would used the term “steady”, we’re keeping a close watch on the economy, and once again within all the regions that we cover, we want to make sure that anything that is related to the consumer that would check any slowdowns, but ultimately I would still use the word steady within the economy.
Also in the next question that came in, I believe we have addressed in our comments what the expectations of credit costs are? Mike, can you please disclose the amount for the FAS 159 adjustments for fourth quarter '07 and first quarter '08, and where is that reported?
The FAS 159 adjustment for the first quarter of '08 was a million dollars, and it is reflected as a contra income item in other non interest income.
Mike, can you please comment on your comfort with the tangible capital ratio and how low can that go?
Our tangible equity that tangible assts ratio is 5.38% at March 31, which is an improvement from 5.18% at January 31 after the conclusion of Christiana acquisition. We would expect that this ratio will grow to between 5.5% and 6% by year-end 2008.
Glenn I will address the next couple of questions to you. When was the last sentence sound as exam?
Michelle, the LCC concluded the examination alas on February 29 at end of February, and we are currently awaiting their written examination report.
And Glenn, can you fly yourself alas or which can -- forgive me.
I can say, there we go, good pronunciation and we always get a question along these line my answer is yes. The flyers or a quality organization and they are winners, and there is lots of similarity with a National Penn organization in my humble opinion.
Mike, back to your question and I think I can pronounce all the words in. How much reserves are required in the two acquisition?
Approximately $26.5 million
And Scott our final two questions received today to you. Can you give us an update on $3.2 million construction credit that was move to non-performing last quarter?
Yes. Due to the sale of the borrowers assets and the partial charge down of our exposure, our exposure has been reduced to less than $1 million.
And finally this quarter saw anther meaningful jump in and could you give us more color of what rows that increased? Where there any large credits in this announce and where they spend in any one type of location?
Unidentified Company Representative
Our NPA's growth $8.5 million during the first quarter, of that $4.9 million was due to the KNBT merger. Our new additions to non approve can be broken down to a ratio of $3.5 from our commercial portfolios to every $1 for our retail and mortgage portfolios. There were no specific concentrations in the new NPAs by loan type, geography or customer.
Thank you Scott, this concludes our presentation. We thank all of you for joining us.
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