FCF
#Thank you, Chad.
As a reminder, a copy of today's earnings release can be accessed by logging on to fcbanking.com and selecting the Investor Relations link at the top of the page.
We've also included a slide presentation on our Investor Relations page, with supplemental financial information that will be referenced throughout today's call.
With me in the room today are <UNK> <UNK>, President and CEO of First Commonwealth Financial Corporation; and <UNK> <UNK>, Executive Vice President and Chief Financial Officer.
After brief comments from Management, we will open the phone lines to your questions.
For that portion of the call, we will be joined by <UNK> Emmerich, our Chief Credit Officer; and Mark Lopushansky, our Chief Treasury Officer.
Before we begin, I would like to caution listeners that this conference call will contain forward-looking statements about First Commonwealth, its businesses, strategies, and prospects.
Please refer to our forward-looking statements disclaimer on page 2 of the slide presentation for a description of risks and uncertainties that could cause actual results to differ materially from those reflected in the forward-looking statements.
And, now, I would like to turn the call over to <UNK> <UNK>.
Thank you, <UNK>.
And welcome to our first-quarter earnings conference call.
We appreciate your interest and investment in time in First Commonwealth.
Joining me this morning, or this afternoon, is <UNK> <UNK>, our Chief Financial Officer.
Yesterday morning, we reported earnings per share of $0.14 for the first quarter of 2016, which is an increase of $0.03 from the previous quarter, but fell some $0.02 short of the first quarter one year ago.
The shortfall year over year was driven by an outsized provision this quarter, namely a $6 million specific reserve for a single credit, tied to the steel and aluminum industries.
This credit drove a $6.5 million in total provision expense, and really overshadowed the fundamental progress we've made on several fronts.
Let me begin with some encouraging trends this quarter.
First, we had $115 million in loan growth, and $106 million in deposit growth.
A few comments here.
Commercial loan balances were up $150 million, which more than offset $35 million in consumer loan runoff.
We had a strong first quarter in new commercial loan originations, with roughly half in commercial real estate and construction, and the other half in C&I lending.
We're also experiencing good traction from our Ohio activities.
Our ramp-up with our mortgage loan originators, on the heels of our Columbus acquisition, is exceeding our expectations.
Also, approximately $50 million, or one-third of this quarter's commercial loan growth, came from Ohio.
We now have $535 million in outstandings in Ohio, to include Legacy First Community Bank, a new mortgage platform, centered in Columbus, our Northern Ohio LPO, and other C&I and commercial real estate relationships.
Our mortgage loan production continues to increase each quarter and topped $41 million in funded-loan volume in the first quarter.
A healthy portion of our funded-loan dollars are coming from Ohio, where the average loan balance is almost twice the Western PA figure.
Mortgage loan outstandings were $124 million in the first quarter, up from $109 million one year earlier.
The mortgage portfolio growth boosts our net interest margin, but our long-term expectation is still at approximately 70% of mortgage originations will be sold in the secondary market, even though individual quarters will vary, based on how much opportunity we have to do jumbo or home construction mortgage lending.
Lastly, under growth, core deposits grew $111 million, or 10.8% on an annualized basis, to $4.2 billion, due in part to improved deposit gathering efforts in our corporate banking unit.
The second encouraging trend this quarter was a three-basis-point improvement in the margin.
This was a confluence of several factors, most notably, solid loan and core-deposit growth, coupled with the Federal Reserve rate hike in December of last year, which helped support the expansion.
<UNK> will elaborate further here in a few minutes.
Third, our operating expenses of $38.4 million fell well below our stated $40 million per quarter goal.
This is the lowest level since 2007, and propelled our efficiency ratio to 60.1%.
As we've gotten leaner, we've freed up investment dollars to improve our digital experience for clients and add new revenue platforms.
Additionally, we continue to evolve our retail branch banking model, given changing customer preferences and declining branch usage.
I'm struck by the progress we're making in digital delivery, to include markedly better penetration in mobile banking, bill pay, and on-line banking, over the last year.
Our mobile-banking usage has increased 50% over the last year.
Additionally, our on-line account opening platform, Opening Act, is showing steady traction.
All of this has taken place while the number of customer households and checking accounts continues to increase.
In fact, if you look at the supplemental deck on page 7, our non-interest-bearing deposits have increased 11% over the course of the last year.
Lastly, and on a less positive note, the strain evident in the energy and commodity markets percolated again in the first quarter, with a $6 million specific reserve for a local steel-servicing company.
This was disappointing and led to an overall provision expense of $6.5 million in the first quarter, which followed $6.1 million in provision in the fourth quarter of 2015, and $4.6 million of provision expense in the third quarter of 2015.
Provision expense for the last three-quarters was driven primarily by three credits, and each was tied to energy or metals.
We feel we do a good job of monitoring credit, but we could see some strain in the next couple of quarters with our provision expense, as we work through a handful of credits impacted by lower energy and commodity prices.
With credit, we acknowledge the specter of a multi-year price trough in oil and gas and other commodities.
However, our exposure is limited, as we have been disciplined in our loan portfolio concentration limits, which, in turn allows us to service our customers in new segments, but limits the overall downside to the Bank.
As I have shared in the past, we have an internal discipline around energy and credit concentrations which has kept our oil and gas exposure to approximately 1.4% of our total loans, or about $65 million of loan outstandings.
We have also kept the granularity of our commercial portfolio constant over the last several years, so the growth we have experienced has not come from larger exposures.
With that, I will turn it over to <UNK>.
Thanks, <UNK>.
The first quarter's results were obviously impacted by the $6 million specific reserve that <UNK> mentioned earlier.
Beyond credit, however, the Bank experienced strong underlying financial performance for the quarter, in terms of both spread income and expense control.
Net interest income hasn't been this high since the fourth quarter of 2010.
The net-interest margin expanded to 3.29%, and combined with $115.1 million of loan growth, produced improved spread income.
Because our loan growth was funded by $105.8 million in total deposit growth, the loan-to-deposit ratio declined slightly, even while the total cost of deposits came down by 2 basis points.
Loan yields benefited from the December rise in interest rates, which increased the yield on approximately a third of our loan portfolio, over the course of the first quarter.
We had anticipated that increases in deposit rates might be necessary following a rise in rates, but deposit rate increases have not been necessary in our local markets.
We have seen deposit inflows and have experienced virtually no market pressure to raise rates.
Savings, NOW accounts, and non-interest-bearing deposit balances all grew in the first quarter.
Non-interest bearing deposits now represent 27% of total deposits.
Fee income was dragged down by a $1 million mark-to-market adjustment on our swap portfolio, which was driven by changes in the yield curve.
Core swap income, from writing swaps for our commercial-loan customers, was actually quite strong, at $445,000 in the quarter, as commercial customers sought to lock in fixed rates before anticipated rate rise.
Deposit fees were $390,000 ahead of last year, and mortgage gain on sale income continued its steady progression, contributing nearly $700,000 of fee income in the quarter.
Non-interest expense of $38.1 million is well below our announced target of $40 million per quarter and benefited from lower operating costs due to the mild winter.
I am pleased to note that some of the efforts we made over the last few quarters to lower our occupancy expense, by disposing of underutilized branches and buildings, has paid off, in that, if you adjust for snow-removal expense, it has allowed us to absorb the cost of running the newly-added Columbus region, while keeping occupancy expense flat year over year.
Non-interest expense also benefited from the implementation of the restructuring of our consumer businesses, some of which is still taking place.
Looking back at our efficiency efforts over the last several years, the total amount of money we spend to run the Company has fallen from $176.8 million, in 2011, to $163.9 million, in 2015.
That's a decrease of $12.9 million.
More importantly, we're spending that money more effectively.
For every dollar that we do spend, a higher proportion is now spent on revenue-producing lines of business, and relatively less is spent on back-office support functions.
In 2011, only 47% of our non-interest expense was spent on revenue-producing lines of business, which means that the majority was spent on support.
By 2015, that proportion was effectively reversed, with 55% of our dollars spent on revenue and the rest spent on support.
So, we're not just spending less money to run the Company.
We're spending it in a more effective way.
In closing, I would note that our effective tax rate was 30.1% at the end of the first quarter, and we expect it to be in the range of 29.5% to 30.1% in 2016.
And with that we will take any questions you may have.
Operator, questions.
I'm talking about the current range.
I think the guidance <UNK> gave last quarter was ---+ we would be up from our $15 million provision in 2000 and ---+ likely be a little up, and I think the range for you, as analysts, is like $15 million to $19 million.
And I think we could, after $6 million or $6.5 million in the first quarter, we could be in the upper end of that range.
It's what we've talked about.
Credit is volatile.
It's credit by credit.
We work through it quarter by quarter.
And we hope that's not the case.
But we've had some strain consistently here the last three quarters.
Now, our list, in the dugout of credits that are problematic, is steadier coming down, and we're working through them one by one.
But, I just think that's fair to share that perspective with you.
Not exactly.
I'll just give you a little detail, then we can talk about it.
We are in the business of doing swaps for our commercial loan customers, where they want a fixed rate, a lock in their rates.
We want a variable-rate exposure, so we will do a back-to-back swap with them, one at a time.
In addition to just the variable-rate commercial we might originate, if we ---+ people want that kind of arrangement, we'll do those back-to-back swaps, as well.
So, we have a little over $0.25 billion of those on our balance sheet right now.
With those, we have to estimate the probability of default and then as loss-given default, if someone, one of the underlying credits goes bad and we have to, in that event, unwind the swap.
So, that's what the derivative mark-to-market is all about.
It's really driven by corporate bond spreads, for the underlying corporate customers, to kind of estimate the probability of default, and then the loss-given default is really driven buy any changes in the 10-year swap curve.
So, it just moves around with interest rates.
If no one defaults, the number just converges on to zero over time.
Any market in one quarter, eventually you'll get back.
But that's what's really driving it.
What we try to do, is parse out that number in the financials - if you look at the supplemental deck, you'll see that line in the adjusted earnings page and then non-GAAP disclosures on a separate line, just because it's volatile.
One quarter it will be up and the next quarter it'll be down.
It was positive $200,000 in the fourth quarter and negative $1 million here in the first quarter.
It just has that kind of volatility, so we wanted to allow you to see the number and break it out.
What we want to make sure we're clear on, is that, that's separate from the kind of swap income we do when we originate the swap for the customer, and that's the $445,000 figure that I gave for the first quarter.
That number goes right into total fee income, as well.
Does that help a little bit.
Or is that ---+.
Yes.
That's right.
It can narrow over time.
So, like I said, if an underlying credit defaults, and we have done one swap, that's when you might actually have an expense.
This number is just an estimate of that and, so, barring that, it just will, like I said, it'll go up one quarter, down the next quarter and eventually it will converge over time.
Thanks, <UNK>.
Yes, I can do that.
We have about six or seven.
One is a scrap processor in our backyard, at about $8 million.
Another one is the credit last quarter that we took a specific reserve for, which was $6.8 million, and that's the oil-field-services company.
And I think we took $6.1 million, if memory serves me right on that one.
Is that right, guys.
$4 million ---+ okay.
And, then, we have an oil-field pipeline and construction services company.
That one is $2.5 million.
Then we have one that has been around for six or seven years that we've talked about from time to time.
This is the shallow-gas-well company, based here in Pennsylvania, and that's $2.4 million.
And, then, we have a larger manufacturer of mine safety products, and that's about $10 million.
And so that's really the dugout that I mentioned.
And then, of course, the one this quarter, which we took - and this was on the watch list and this was a credit that was an $11 million credit, that we took the $6.1 million.
That's the list.
Yes, sure, I can address that.
So, last quarter we gave guidance that our margin being in the $3.20 to $3.30 range.
We would stick with that guidance.
The Bank did get the benefit of rising rates, just because about 46% of the total Bank's portfolio is variable, or adjustable rate, and about two-thirds of that, which means about a third of the total portfolio, actually did adjust up in December.
We've had really good results with deposit inflows to fund loan growth, so, we really have not been compelled by market forces to raise rates.
We have started to raise ---+ offer some specials in our local markets.
It really didn't affect numbers in the first quarter.
They might affect numbers in the second quarter, though we started to raise some rates in deposits just to test the waters and test the elasticity of the local deposit market, to rising rates.
That's, actually, been quite effective.
So, there might be some of that, that impacts the margin the second quarter.
And that's why I would stick with that $3.20 to $3.30 guidance.
So, the second part of your question, the rising rates would definitely help us.
We have been seeing, for some time, were asset-sensitive.
For the most part, we're fairly neutral when we publish our current yield-curve shifts in the first year; then the real asset sensitivity kicks in, in the second year.
Some of that near-term asset sensitivity is growing a bit, as we've had such a robust loan-origination activity of variable-rate loans here, early on this year, and if that continues, that'll just increase our asset sensitivity throughout 2016.
I would just add to <UNK>'s comments, as we tested the elasticity, we had a figure in mind of deposits we want to raise.
We thought that would take us several months, and it took us about three-and-a-half weeks.
So, we feel like our deposit book is well positioned, should we get to the point where rates begin to rise, that we can ---+ our customers will move some money to us and they're pretty loyal to us.
So, that was a pleasant surprise, as well.
I think we've given the guidance around sub-40, and I think that still holds true.
We really accelerated some retail transformation from, really, the latter part of the second quarter, into December in the first quarter.
So we're getting some benefit from that.
We might see a $0.5 million tick-up in more personnel expenses, but we've ---+ we're in pretty good shape with expenses.
And we've really not only kept them flat to down, but we took the savings and really built out a mortgage platform, an Ohio platform, without increasing expenses.
And as <UNK> shared, the mix of our composition of our expenses have changed markedly from, really, more staff to more in line in customer facing.
So we feel good about all of that.
And we'll continue to make progress there.
The catalyst was really operation excellence, our conversion several years ago.
It really allows us, also, to get to market quicker with digital solutions.
I think that's benefiting some of the deposits and some things that you're seeing in more of the ground game, with our loan and deposit growth, in terms of just having better offerings for our clients.
Yes, the loan growth we're seeing for last year and in the first quarter of 2016, is predominantly on the commercial real estate and the construction side.
We've had a little growth in the C&I side, but certainly not as much.
We're just looking at kind of quality regional projects with good developers, nice anchors.
Some of them, we're doing direct loans.
Some of them, I would say, are more club deals with two or three banks, $20 million to $30 million, nice construction project, really in a community bank circle.
And, they're just nice projects.
I think we have a good brand in Western Pennsylvania and Ohio.
It's just a ---+ it's really been a nice tailwind for us.
If you really look back, since 2012, we've just had ---+ we've had almost $450 million of growth.
And these construction projects are not ---+ they're not speculative.
They're really good anchors and really some quality projects.
That's correct.
Correct.
Yes, the pipeline is pretty strong.
I think that what I had shared in the past, maybe in the third or fourth quarter, was we probably had $100 million of takedown in construction that would propel our portfolio forward, if we did nothing.
We still feel that way.
We've probably used a little bit of that, but not all of it.
But ---+ so, we'll have some loan growth there, just on the takedowns on approved construction, quality construction loans.
So, it's remained relatively robust on the commercial real estate and the construction side.
Yes, we are.
I think that, consistent with what we were talking about last quarter, a lot the growth in fee income we see this year is going to come as the mortgage business we have continues to grow, because that's generally designed as a originate-to-sell model.
Originate-to-sale ratio, we generally project over the long term, is about 70% sold, versus 30% retained to portfolio.
Now, if we have opportunity to do a construction loan on the residential side, or jumbo loans, those would generally stay in portfolio, so that will change the mix on a quarter-by-quarter basis, but really, generally, it's going to be originate-to-sell model.
So as that model ramps up, and we continue to hire more mortgage-loan originators and build that business up, that's really the thing that's going to drive the income up.
It's actually related to the question that came up earlier on the non-interest expense and why we're sticking with the $40 million guidance, because, as mortgage originations go up, you're going to be also paying origination fees and commissions on that, and, so, that's going to go into a non-interest-expense base, as well, but it should drive fee income for the Company.
That's ---+ mortgage, growth in mortgage gain on sale can show you the primary driver.
We have seen some ---+ a little bit of seasonal slowdown in some of the brokerages and other businesses, and some of those are actually looking a little better in the second quarter.
So, those will contribute, as well, as will our insurance business, which is benefiting from the acquisition of the insurance agency that we did last year.
So, those are meaningful contributors, as well, but the growth this year is really going to come from mortgage gain on sale.
Thank you.
Thanks, <UNK>.
Just appreciate your sincere interest in our Company and thank you for your thoughtful questions.
And if you have any follow-up questions, don't hesitate to call either myself or <UNK>.
Have a good afternoon.
