Macatawa Bank Q4 2008 Earnings Call Transcript

| About: Macatawa Bank (MCBC)

Macatawa Bank Corp. (NASDAQ:MCBC) Q4 2008 Earnings Call January 27, 2009 10:00 AM ET


Benj. A. Smith III - Chairman, Macatawa Bank and Chief Executive Officer Macatawa Bank Corporation

Jon W. Swets - Senior Vice President, and Chief Financial Officer

Philip J. Koning - President and Chief Executive Officer

Ronald L. Haan - Executive Vice President


Jason Werner - Howe Barnes Investments


Good morning. My name is Patricia and I'll be your conference operator today. At this time, I'd like to welcome everyone to the Fourth Quarter Earnings Release Conference Call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question-and-answer session. (Operator Instructions). Thank you.

Mr. Ben Smith, you may begin your conference.

Benj. A. Smith III

Thank you. Good morning and thank you all for joining us for Macatawa's fourth quarter conference call.

We have just completed one of the most difficult years that we've experienced and a very difficult quarter. One of the most significant events that occurred last year was our successful completion of raising 31.4 million in preferred stock. We very much appreciate the confidence that our investors shared with us by investing in Macatawa Bank. With the additional input of the new capital, we remain confident that we will be able to weather the current economic storm and return to some form of high profitability in the near future.

This morning joining me are: Phil Koning, President and CEO; Ron Haan, Executive Vice President; and Jon Swets, CFO. We will have the same format that we normally have and I'd first like to... after the completion of the comments, we will be open for questions and answers. So Jon, would you start with the fourth quarter results?

Jon W. Swets

Yes. Thank you, Ben. There were a few topics I wanted to touch on just to clarify from the press release. First of all, was the goodwill impairment. We took an impairment charge of 26 million on goodwill. We completely wrote off all the goodwill on our books. So, there is none left.

In addition, there was 1.7 million in other acquisition intangibles that we wrote off in the process. So the total goodwill acquisition intangible write off was 27.7 million. What that leaves on our books is really just one remaining acquisition-related intangible asset, a core deposit intangible asset of 875,000. All the other acquisitions intangibles and goodwill are completely written off.

Our net interest margin, just want to make a couple of brief comments there as well; for the quarter, it was 2.74%, down 24 basis points on a linked-quarter basis. So kind of a frustrating decline in the net interest margin. That's a... of that 24 basis points, 13 basis points really relates to continuing non-performing asset activity.

We saw our non-performing asset balances grow during the fourth quarter, and in that growth had the effect of decreasing net interest margin by about 7 basis points, plus there were additional interest reversals on those loans, as we moved them in the non-accrual status of another 6 basis points, all of those things amounting to about 13 basis points. So a little over half of that decline on a consecutive quarter basis does relate to the non-performing asset activity.

Just a couple of other pieces of info about net interest margin: our yield on assets excluding the non-performing asset impact decreased by 16 basis points on a linked-quarter basis. Our cost of funds on our interest-bearing core deposits decreased by 17 basis points and so on a core, core basis, we are seeing both sides of the balance sheet move in tandem.

However, the other thing that occurred during the fourth quarter is we saw a funding mix change; mix change that was negative that moved from lower costing deposits to higher costing sources of funds, primarily the wholesale sources. That had an 8-basis point negative impact on margin for the quarter and that was also amplified by increased pressure in deposit pricing competition as well. A more minor impact on the margin, the FHLB, Indianapolis decided to suspend their dividend for the quarter that impacted our margin by 3 basis points for the fourth quarter.

Non-interest expense, just a couple of things I want to mention there. The press release talks about our core non-interest expense, again after kind of taking a look at the underlying expenses not including the impact of additional administration costs and other expenses related to non-performing assets. We saw a decrease in that core non-interest expense amount by about 700,000 on a linked-quarter basis, which is really just an illustration of the effectiveness of the cost-saving initiatives that we talk about in the press release.

We identified $6 million in the cost-savings initiatives that we put into place during 2008. The $6 million would be the annualized impact of all those initiatives. In 2008, we realized about half of that, a little under $3 million impacted expenses in a favorable way in 2008. But the full impact, full $6 million, should be realized in '09 of all those initiatives.

The initiatives were diverse. They included many things. They included a 10% reduction in staff that we accomplished in 2008. Better use of technology, whether it'd be imaging or communication line reengineering, we streamlined processes, trust systems, courier usage, renegotiated contracts. We outsourced certain processes at lower costs and we reduced spending really in several different areas whether it'd be in supplies or marketing. But as I said, it was wide and diverse in terms of the cost-savings initiatives.

And then finally, just want to touch on the allowance for loan losses briefly: the allowance, during the quarter, increased by nearly $8 million to 2.16% from 1.73% at September 30, 2008. The increase was due to growth in our non-performing loans and trends we're seeing in delinquencies and also additional reserves on specific credits.

I do want to mention that although delinquencies have increased in really all portions of our loan portfolio, there were increases in our consumer and mortgage portfolio in terms of those delinquency levels. But our charge-offs out of those portfolios remained very, very low. Net charge-offs out of our residential mortgage portfolio for all of 2008 were only $200,000; 0.09% of the portfolio balance.

Net charge-offs out of our consumer loan portfolio were only 650,000 for all of 2008, which is only a little over 0.03% of our consumer portfolio. So those portfolios or the trends are moving in the wrong direction. Ultimate losses we are seeing out of those portfolios and expect that those portfolios continues to be and remain low.

That concludes my remarks. Now Phil Koning has a few things to say.

Philip J. Koning

Thank you, Jon. I'd like to just add a couple of comments about deposits in our West Michigan economy. We were pleased with the stability of our deposit base with core deposits up slightly for the year. We continue to open new accounts and gain new households, although at a somewhat slower pace than in previous years. Given challenging economic times, job losses and a net migration of people out of our state, we feel pretty good about this progress.

We continue to be focused on growing core relationships and our deposit base. Also interest rates on deposits which Jon mentioned were very competitive, are still competitive but are beginning to drop to more reasonable levels.

Relative to our West Michigan economy, these are obviously challenging times. The current downtown has affected almost every sector of our economy. Unemployment is up over 10% for the State of Michigan and in the high-single digits for our West Michigan marketplace. The latest economic forecasts project job losses in the 1 to 2% range in our marketplace for 2009.

The efforts being made for several years now to diversify our economy are making some progress. Areas seeing growth are healthcare and biosciences, like medical devices and pharmaceuticals. We have seen growth in food processing and alternative energy like wind energy and solar energy. Education continues to expand with growing regional colleges and the recent move of Michigan State medical school to Grand Rapids.

And while we are certainly not immune to contractions in our manufacturing base and other areas of our local economy, we believe West Michigan is still a desirable place to do business and will recover much quicker than our state as a whole.

We've taken a lot of steps to improve our financial performance. We've cut our operating costs by almost 6 million on an annual basis as Jon mentioned. We've contracted our workforce by almost 10%. We've not paid any bonuses in 2007 or 2008. We've frozen all salaries at last year's levels. We're working hard to preserve capital, increase liquidity and improve our operating performance. We believe Macatawa has a great franchise and we are confident in its future. Ron?

Ronald L. Haan

Thanks Phil. Maybe just a couple of comments on asset quality and long growth: as you can see from our earnings release and as Jon motioned in his comments, we did experience some deterioration in asset quality and delinquency measures during the fourth quarter. Delinquencies increased across all our loan categories, with largest of those increases coming from our commercial loans.

Total delinquencies at the end of the year were 6.17%. This is just a little bit over 1% increase from where we were at year end 2007. Our non-performing assets also increased during the quarter to 112 million, or 5.21% of assets. This is about 1.5% increase over where we were at year end 2007. As Jon already talked about, we have increased our provision for loan losses in response to what we are seeing in these trends.

Our non-performing loans increased by approximately 6 million during the quarter, and ORE increased by just over 10 million, as real estate loans worked their way through the foreclosure process and have become real estate-owned for the bank. This increase in ORE during the fourth quarter was not unexpected as we closely monitor our loans and foreclosure.

To-date, our marketing of these properties has been fairly successful as we continue to see buyers interested. While the environment for selling real estate remains difficult, we do anticipate closing on over 5 million of the OREs during the next 30 to 45 days.

As we indicated last quarter, we are starting to see signs of increased existing home sales. The data released yesterday indicates the national housing markets for existing home sales has increased by 6.5%. And while I don't have the local numbers yet, we are seeing similar momentum in our markets.

Lot sales continue but at a much slower pace, especially during the winter months here in Michigan. Commercial loan growth has been generally flat to a slight decline. However, residential mortgage lending has increased substantially as a result of lower interest rates and increased refinancing activity.

Our mortgage loan pipelines are at near record levels right now, with over 70 million in residential mortgage loans either closed or in process during the month of January. We expect this trend to continue in the near term and this should represent an important source of fee income and cross-selling opportunities.

I realize the trends are not favorable, but they are also not totally unexpected as these problem loans work through our system and the overall real estate markets remain challenged. We continue to spend a great deal of time on asset quality issues as this really remains our top priority as we move into 2009.

I think that concludes really our formal comments.

Benj. A. Smith III

Yeah, why don't we now throw the... throw it open for questions?

Question-and-Answer Session


(Operator Instructions). Your first question comes from the line of Jason Warner. Your line is open.

Jason Werner - Howe Barnes Investments

Good morning.

Jon Swets

Good morning, Jason.

Benj. Smith III

Good morning.

Jason Werner - Howe Barnes Investments

I guess my first question; could you guys tell us the status of the litigation settlement that you had announced with the trade partners. What's the status of that now?

Philip Koning

I can report that that is basically settled. We have, let me... as a matter of fact I was in court yesterday, and there were some minor revisions to the original settlement due to changes in stock price, and they submitted that to the court. It has to go through a fair and a safe hearing by both courts. But in general, it was unchanged from the original agreement that we had with them. So, we expect to be able to announce, and I think we have to announce within four days of either the court approving that or whatever, exactly what those settlements are. But I think that's behind us, Jason.

Jason Werner - Howe Barnes Investments

Okay that will be expense in the first quarter then?

Philip Koning

Yeah, I'm not sure. They probably won't get... it will probably be on the first quarter. That will be my guess. I don't know.

Jon Swets

It's kind of hard for us to say, because a part of this settlement if you recall from the original settlement, it does require that Plaintiffs' Counsel has to go and get. 98% of plaintiffs' signed up for the settlement, for everything to go through and we're kind of in wait-and-see mode, to see if Plaintiffs' Counsel can do that.

Philip Koning

We don't think that will happen before March, just based on the timing of the completion of the documentation and mailing out the notifications. So we probably, if the earliest, would have some indication in March, so that probably wouldn't be first quarter.

Jon Swets

Yeah it could -- we'll just have to wait and see. We got to see how Plaintiffs' Counsel does.

Jason Werner - Howe Barnes Investments

Okay. And then with the increase in other real estate-owned, I was kind of curious if you would give us a little more color of where that came from. I had noticed that the loans to 1 to 4 properties (ph) for speculative purposes declined quite a bit. I was wondering if maybe that was the stores, isn't that for the construction of those were finished and that will be able to do OREO?

Philip Koning

Yeah, I don't.... we don't have a huge inventory of houses in ORE Jason. That increase... really some of it is properties working their way through foreclosure as the redemption periods expire. We've taken it in. Again as I mentioned, it's not totally unexpected at least from our point of view, because we've been watching the stuff work its way through, and we've been trying to actively market them as best as we can during that process, and we're feeling pretty good right now. As I mentioned I think we've got contracts on sale for probably 5 or 6 million. That should close within the next 30 to 45 days.

Jason Werner - Howe Barnes Investments

Okay, just not clear. You said, you don't have a lot of inventory of homes, so won't that commercial real estate property then.

Philip Koning

Yeah and a lot of it is land.

Jason Werner - Howe Barnes Investments



(Operator Instructions). And there are no questions at this time.

Benj. Smith III

Alright, thank you very much for joining us. We appreciate that and look forward to talking to you at the end of next quarter.


This thus concludes today's conference. You may now disconnect.

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