Sandy Spring Bancorp, Inc. (NASDAQ:SASR) Q1 2017 Earnings Conference Call April 20, 2017 2:00 PM ET
Philip Mantua - CFO & EVP
Daniel Schrider - CEO, President, Director
Ronald Kuykendall - EVP, General Counsel, Secretary
Catherine Mealor - KBW
Casey Whitman - Sandler O'Neill
Bryce Rowe - Robert W. Baird
Austin Nicholas - Stephens Inc.
Matthew Schultheis - Boenning and Scattergood
Welcome to the Sandy Spring Bancorp First Quarter 2017 Conference Call. [Operator Instructions]. I would now like to turn the conference over to CEO and President, Daniel Schrider. Please go ahead.
Thank you and good afternoon, everyone. Welcome to our conference call to discuss Sandy Spring Bancorp's performance for the first quarter of 2017. This is Dan Schrider speaking and I'm joined here today by our Chief Financial Officer, Phil Mantua; and General Counsel for Sandy Spring Bancorp, Ron Kuykendall. We really appreciate you joining today's call. Today's call is open to all investors, analysts and the news media and there will be a live webcast of today's call as well as a replay of the call available on our website later today. We will take your questions after some brief remarks. Before we get started, Ron will give the customary safe harbor statement. Ron?
Good afternoon, ladies and gentlemen. Thank you, Dan. Sandy Spring Bancorp will make forward-looking statements in this webcast that are subject to risks and uncertainties. These forward-looking statements include statements of goals, intentions, earnings and other expectations, estimates of risk and future cost and benefits, assessments of probable loan and lease losses, assessments of market risk and statements of the ability to achieve financial and other goals.
These forward-looking statements are subject to significant uncertainties because they are based upon or affected by management's estimates and projections of future interest rates, market behavior and other economic conditions, future laws and regulations and a variety of other matters which by their very nature are subject to significant uncertainties. Because of these uncertainties, Sandy Spring Bancorp's actual future results may differ materially from those indicated. In addition, the company's past results of operations do not necessarily indicate its future results.
Thanks, Ron and thank you all again for joining us. We will move to your questions immediately after I share some brief remarks. As the headline of our press release issued earlier reads, we achieved excellent performance in this period, resulting in record net income for the first quarter of 2017. Our results continue to be driven by a terrific team, strong core operating performance, prudent balance sheet management, strong credit quality and a focus on operating efficiency. We continue to achieve strong growth and balanced results in this highly competitive market. The Sandy Spring community banking business model is working. Now, here's just a quick rundown of the main highlights from the release we issued earlier this morning.
Net income for the first quarter of 2017 was $15.1 million or $0.63 per diluted share compared to net income of $10.8 million or $0.45 per diluted share for the first quarter of 2016 and net income of $13.3 million or $0.55 per diluted share for the linked fourth quarter of 2016. On a core basis, pretax preprovision income for the quarter was $23 million compared to $17.1 million for the first quarter of 2016. That's an increase of 33%.
Our continued strong core performance was driven by higher net interest income which increased 11% in the first quarter of 2017 compared to the first quarter of 2016. Loan production in all portfolio segments continue solid moment through the quarter and pipelines continue to be strong. Overall, loan production for the quarter was up over 30% compared to the first quarter of 2016. However, net growth in the quarter was temporarily hampered by seasonal pay downs within our commercial and government contracting loans of business and a successful runoff of watchlist or near watchlist credits. Total loans increased 12% compared to the first quarter last year and were up 2% compared to the fourth quarter of 2016. Our outlook for 2017 loan growth continues to be consistent with our growth experienced in 2016.
The provision for loan and lease losses for the first quarter of 2017 was a charge of $200,000 compared to a charge of $1.2 million for the first quarter of 2016 and a charge of $600,000 for the linked quarter 2016. The decrease in the current quarter's charge versus the prior year's quarter is a result of continued improvement in our credit quality metrics which partially offset the effects of healthy loan growth. Given current credit quality and loan growth expectations, we continue to expect the annual provision expense for 2017 to be consistent with what we saw in 2016, again driven by portfolio growth. The net interest margin was 3.51% for the first quarter compared to 3.44% for the first quarter of 2016 and 3.52% for the linked fourth quarter of 2016. Our team has done an excellent job managing earning asset yields and funding costs. We've had real success on the deposit side as we continue to growing core deposits from both retail and commercial banking relationships.
At March 31, combined noninterest-bearing and interest-bearing transaction account balances increased 12% compared to balances a year ago. Deposits were up 6% on a linked quarter basis. Our ability to grow and generate balance quality of core, retail and commercial transaction relationships are key strengths of our franchise. Total deposits and other short term borrowings are a part of overall funding sources derived from clients also increased 12% compared to March 31, 2016. Noninterest income was strong at $12.6 million for the first quarter, up 9% compared to the first quarter of 2016 after adjusting for $1.8 million in security gains taken in the first quarter of last year. As you may recall, the sale of securities during the first quarter of 2016 was part of a strategy to prepay high-rate FHLB advances.
Noninterest income during the quarter included insurance, agency, contingency income and an earnout payment related to the sale of a portion of our wealth business that occurred in the first quarter of 2016. Both totaled approximately $800,000 and were unique to the first quarter. Overall, our wealth business lines, mortgage banking division and insurance agency are well positioned for the future. And as a reminder, our fee-based businesses are not independent units, rather integrated lines of business aimed at meeting the needs of clients and enhancing their overall engagement with our company. Noninterest expenses decreased 7% to $30 million for the first quarter of 2017 compared to $32.7 million in the first quarter of 2016. The first quarter of '16 included $1.8 million in prepayment penalties on that early prepayment of FHLB advances. Excluding this transaction, noninterest expenses decreased 2% compared to the first quarter of 2016, driven primarily by lower employee benefit costs.
All annual salary and compensation adjustments are made early in the second quarter of each year. For the first quarter of 2016, our non-GAAP efficiency ratio was 54.78% compared to 61.84% for the first quarter of last year. Our success is primarily the result of growth in net interest income, coupled with the effects of focused expense management. As mentioned in our release, we repurchased all of our remaining $30 million in subordinated debentures at par value, a strategy aimed at improving our future net interest margin. And as a result, at March 31, our capital position remained very strong, with total risk-based capital at 12.06%, a Tier 1 risk-based capital ratio of 11.02%, a Tier 1 leverage ratio of 9.26% and a tangible common equity to tangible asset ratio of 9.06%. There were no share repurchases during this past quarter.
Organic growth continues to be the priority. While we also continue to seek both whole bank and fee-based acquisition opportunities as well as building our team with additions to our revenue-generating lines through individual hires and team lift-outs. Our focus and commitment to shareholders remains unchanged, consistently produce strong and balanced operating earnings from a diverse revenue stream that results from creating meaningful, remarkable experiences for our clients, employees and our communities.
And that concludes my general comments for today. We will now move to your questions.
[Operator Instructions]. Our first question comes from Catherine Mealor with KBW.
I want to dig into the margin just a little bit. And first, just want to talk about deposit cost, as I'm sure you know this is going to be our first question. And just if we look at the different buckets of deposits and the rates that moved, it looked as if the biggest move was in the money market account. So can you talk a little about that? Give us a little bit of color of what you're seeing in that product, emphasis you have on growing that product and then your ability to maybe kind of keep datas lower to some of your other - on deposit accounts?
Catherine, this is Phil. Great question. I'm sure one that is on everybody's mind here as it relates to just how we're positioned for whatever happens in the broader rate environment. To your specific - to the specific aspects of your question, I think, that we have - in terms of what we were referred to as various levers related to deposit growth, we certainly viewed and continue to view the use of the money market product, the one that we refer to as the premier money market product and our time deposit positioning is being the 2 elements that are going to be the most rate sensitive and also be the go-to categories for raising additional funds.
Although, we have to be really clear that we're having tremendous success, still growing all of our core-based categories, whether it's commercial DDA or personal checking or even savings account, all those things continue to certainly - will actually lead the way. But I would suggest that right now, what we've done is we have positioned ourselves in the market on the money market and on certain time deposit offerings, probably towards the top 1/3 of our marketplace there to be as competitive as we can possibly be. And then as I think we've talked about before, especially, as it relates to the money market account, using that as the hook product to then give our people a chance to sell other elements of the relationship and deepen that with our clients over time.
Got it. And so given the move in those rates this quarter, do you still feel comfortable with your guidance that you believe the margin should be able to stay relatively stable for the rest of the year with the expected move in rates?
I do. Yes, in fact, that's a great follow-up. And one that we certainly should make sure we're clear on. Yes, right now I would think that absent of any movements in short end of the curve and right now, by the way, we're still of the school - or thought process that there won't be any additional Fed news until sometime late in the fall, with maybe the September meeting. That our margin in the meantime will be fairly stable in that low 50 - 3.50%, 3.51% range. Again, just being subject to anything else we need to do to match loan and deposit growth. I mean, we really, again, pleased that the deposit growth in the first quarter really got out ahead of things and gave us some a little bit of cushion from a liquidity standpoint.
Yes, for sure. And then maybe - I wonder any color on the increase in the securities book. Can you talk about what you're adding to the portfolio? And maybe the incremental average new yield on what's coming on?
Yes, sure. I think the first element of that is that we really saw the opportunity to take advantage of some of the things that were going on the longer end of the curve and some buying opportunities that really started last year in the fourth quarter that our treasure was able to go ahead and take advantage of. And so I think as it means for really kind of bulking up that part - portion of our balance sheet and as a means for driving just higher net interest income dollars. We probably, in the course of the period, had months where he was adding anywhere from $20 million to $40 million to maybe $75 million worth of securities. It's very similar to what's already - always kind of been in our portfolio.
It's a blend of municipals that would certainly give us greater yield opportunity, but balance with agency and mortgage-backed type securities. The purchases during that period in terms of any given month, probably ranged from - in the 3.5% to almost 4% range which is what's adding significance to our overall portfolio yield which I think is around 3.30% today. I would also just, in terms of looking forward, suggest that I wouldn't anticipate, given where rates have kind of traded to now, that we would continue those patterns because again we really are looking more on the side of continued strong loan growth and wouldn't necessarily see us adding to the investment portfolio to the degree we did over the last 4 or 5 months.
Our next question comes from Casey Whitman with Sandler O'Neill.
You guys have done a really great job improving the efficiency ratio to the 55% level you reported this quarter. So my question is do you think it's sustainable at this level? And then the follow-on would be are there other opportunities for further improvement? Or do you think that this is the right level for the institution?
Casey, it's Phil again. Right, you know what I'll always say is that there's always opportunity to find ways to either probably better spend money than necessarily not spend it. But to specifically and directly to your question, the 54.78% in this quarter is obviously one of our stronger results in that regard. I would put it this way. The sustainability of that over a longer period of time as opposed to quarter-to quarter, I think there's a real good likelihood. We can do that if we continue to have the kind of revenue growth that we've had over these last 3 quarters.
Now, will there be some quarter-over quarter moments in either direction? I think, there probably will be. And yet, I don't think there will be moments from 55% to 60%. There are more like 55% to maybe 70% - or excuse me, 55% to 57% or 56% or something like that, just with inherent mismatches in the way we spend money in different parts of the year and how some of our revenue comes through, especially on the fee-based side. So we've stated for a long time that our goal is to maintain an efficiency ratio in that mid-50 range and we're pleased to be in and around that and would intend to try keep it there.
Great. And then sorry, if you mentioned this in your opening remarks. But can you remind us what falls into the other fee income bucket? And was there anything unusual there this quarter that you'd expect to come back? Or do you think - I think, it was a $2 million sort of run rate here. Is that sustainable for the year?
Yes. Casey, it's Phil again. The one thing that I think, Dan, mentioned in his opening remarks, there was about a $580,000 onetime type of income source there related to an earnout that was related to when we sold the investment services book of business last year in the first quarter. So that's certainly not going to repeat itself in the subsequent 3 quarters of this year and it will, to a lesser degree, most likely, repeat itself in the first quarter of next year, since I think we have 2 more years on that earnout. But absent of that in the other income category, there's really nothing else that would be onetime or unique. What pops through there also from time-to-time are things like prepayment penalty fees, that kind of thing that are related to our loan book, but it's hard to really predict when those are going to recur. The only other thing that's not necessarily and other that Dan also mentioned is in our insurance book, we always have contingent income in the first quarter. That's certainly more seasonal. And I think in this particular case was another $220,000 to $225,000.
[Operator Instructions]. Our next question comes from Bryce Rowe with Baird.
Bryce Wells Rowe
Phil, just wanted to follow-up on some of the discussion about the securities portfolio. You guys have used that in the past as a source of liquidity when the rate environment wasn't kind of to your liking. So based on what you said earlier, should we kind of expect that to hold the line here at current levels? Or might you continue to use that as a source of liquidity as you have in the past?
Yes, Bryce. I would suggest that we probably are not going to depend on to the degree that we did to get us to this point. And at the current levels which I think are probably around 16% of total assets is where we're comfortable. And having that both contribute from a yield standpoint, but also just keep us in a fairly liquid place. So yes, I would not - again, I would not view it as we did in the past in terms of being a primary source of liquidity for loan growth, more secondary as we move forward. And like I said, I don't see us adding much to it, but then, again, I also don't see us depleting it like we did before as well.
Bryce Wells Rowe
Got it. That's helpful. And then, Dan just wanted to ask on the deposit side, noninterest-bearing end of period balances were up, let's call it $100 million, while average balances were not up. I think they were actually down quarter-over quarter. So just curious what might be going on there? Do you think those demand deposits from a noninterest-bearing perspective are sticky? Or is it in preparation for tax payments?
Yes, Bryce, we do have the typical seasonality that affects us in inter quarter, but the behavior we're seeing and it's driven by new relationships that we continue to drive through both commercial, our treasury group and retail. So to answer your question, we feel like these are very traditional, sticky relationships that are part of our core base. So we would expect to continue to see that momentum on the deposit front.
Yes, I would echo that too, Bryce and in fact, the average in March is very similar to the ending balance in March. So I think the quarterly average dip is more related to what occurred throughout the quarter as opposed to where we ended the quarter.
Our next question comes from Austin Nicholas with Stephens.
Most of my questions were answered. But maybe if we could just dig in a little bit on an update on maybe your outlook for whole bank M&A and then maybe on the flip side, nonbank - potential nonbank acquisition as it pertains to your wealth management and your insurance business?
Sure, Austin. This is Dan. Good question. We continue to maintain dialogue both on the whole bank side and the fee-based businesses. And we tackle fee-based businesses first. I mean, the acquisition that we made in the third quarter of last year is kind of indicative of the types of conversations that we continue to have on both the wealth side and the insurance side. So we think we've got really good platform in both lines of business and we'll continue to work those opportunities.
And I think consistent with our view towards the whole bank side is really making sure that we're targeting and developing relationships with organizations that we really do believe are complementary to what we do to get our view of how we want to interact with clients and build relationships. And so not every company is built the same way. And so we're very deliberate about the types of organizations that we target. On the whole bank side, those conversations continue as well as you probably know through your work. I mean, there are a number of organizations in around the Greater Baltimore Washington corridor that are considering what's best.
With some of the currencies improving, that probably creates a little bit more interest and we believe we're kind of in the center of those types of conversations. But I certainly don't have anything to report out today, as to any type of specific opportunity, but we continue to be focused on that.
Our next question comes from Matt Schultheis with Boenning.
You talked a little bit about some seasonality within your government contracting business and I think one of your larger competitors in that space in the D.C. market decided to try the coup if you will. And - so I was wondering if that's creating more opportunity for you? Or if the acquiring company seemed sort of locked that down, for now, realizing that deal wasn't closed?
Yes, right. As it relates specifically to that line of business, it - I would not say that we're seeing opportunities necessarily out of that. But our typical pipeline and activity continues. So it's not nearly exactly what transactions you're referring to. There are a few companies around that are focused in that business. I will say, if you're speaking to the one that's just recently closed here within the last several days, we do think that they were going to be tremendous opportunities, both from disrupted clients and disrupted employees and we continue to focus on that.
And sort of to circle back to some questions that we've already sort of alluded to, but just the way I wanted to sort of look at them, so the way I'm going to ask them. Has there been a change in the competitiveness of deposit pricing from early January through the end of March and then to April, as I just ratchet it up? Or has it been fairly steady?
Matt, this is Phil. I don't think that we have necessarily seen any additional pressures in that regard. So no, I don't think that the tenure of the marketplace itself has changed much if at all.
Okay. And is there any difference in deposit pricing across your footprint, Northern Virginia versus Annapolis versus Glen Burnie versus Frederick, et cetera?
I mean, it's a general statement. I think we've always felt that there is just by virtue of different players being more dominance, it's not the right word, but being more evident in certain markets. So I think that, that probably still holds true just from a general commentary standpoint. I'm not sure I could tell you at this point in time, who is more aggressive in Annapolis versus Northern Virginia per se. But I think generally speaking, we always believed that, that's going to be the case.
This concludes our question-and-answer session. I would now like to turn the conference back over to Daniel Schrider for any closing remarks.
Thank you, Dan and thanks, again, to everyone for participating with us this afternoon. And remember we would appreciate receiving your feedback to help us evaluate the effectiveness of our call. Feel free to e-mail your comments to firstname.lastname@example.org. So thank you all, again and have a great afternoon.
The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.
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