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Good day, ladies and gentlemen, and welcome to the WSFS Financial Corporation Second Quarter 2019 Earnings Conference Call. At this time, all participants are in listen-only mode. Later, we will conduct a question-and-answer session instructions will follow at that time [Operator Instructions]. And as a reminder, this conference call is being recorded.
I would now like to introduce your host for today's conference, Mr. Dominic Canuso, Chief Financial Officer. Sir, you may begin.
Thank you, Amanda and thanks to all of you for taking the time to participate on our call today. With me on this call are Rodger Levenson, President and CEO; Art Bacci, Chief Wealth Officer; Steve Clark, Chief Commercial Banking Officer; and Rick Wright, Chief Retail Banking Officer.
Before Rodger begins with his remarks, I would like to read our Safe Harbor statement. Our discussion today will include information about our management's view of our future expectations, plans, and prospects that constitute forward-looking statements.
Actual results may differ materially from historical results or those indicated by these forward-looking statements due to risks and uncertainties including but not limited to the risk factors included in our Annual Report on Form 10-K and our most recent quarterly reports on Form 10-Q as well as other documents we periodically file with the Securities and Exchange Commission. All comments made during today's call are subject to the Safe Harbor statement.
With that read, I'll turn the discussion over to Rodger Levenson.
Thanks, Dominic, and thank you to everyone for joining us on the call today. In our first full quarter since the closing of the Beneficial acquisition, we posted solid core operating performance with core earnings per share of $0.88, core ROA of 1.57%, and core return on tangible common equity of 16.09%.
As year-over-year and linked quarter comparisons are impacted by the timing of the Beneficial closing on March 1s, we have provided an earnings release supplement which is posted on our website. The supplement includes additional details on our financial performance, a reconciliation of GAAP to core results for key operating metrics, and an update to our full year 2019 outlook.
Our results included the impact of $13.6 million of total credit costs. As detailed in our previously released 8-K, the primary driver of credit costs related to two legacy WSFS existing non-performing C&I loans where episodic events occurred during the month of June impacting our updated impairment analysis.
Approximately 90% of the $13.2 million in net charge-offs recorded in the quarter were attributable to those -- these two loans. Overall, our credit metrics remain stable and our exposure to the specific industries where the losses occurred is modest and manageable. As noted in the supplemental materials, we have updated our outlook for full year credit cost to $30 million to $35 million.
Also during the quarter, we purchased 193,888 shares of our stock. With the completion of a full quarter of operating results and continued strong capital levels, we have updated our 2019 capital plan. This includes increased buybacks in the second half of the year, utilizing the stronger-than-anticipated capital levels, and excess liquidity from the Beneficial combination.
We intend to continue to be buyers of our stock at current or higher prices up to the remaining amount of our previously Board-approved share repurchase authorization program of just under 2.9 million shares.
In addition to our operating performance, we are looking forward to the final major milestone of the Beneficial integration. Teams from throughout the company have worked diligently to position us for a successful systems integration and brand conversion for the weekend of August 24 and 25. The entire company is looking forward to moving from integration, planning and implementation to the business execution and realization of the significant long-term opportunities of our combination with Beneficial.
In summary, even with the elevated credit costs, we posted a solid quarter and first half of 2019 and remain well positioned to achieve our full year goals including a 1.50% ROA.
Now, I will turn it over to Dominic for additional commentary on our financial performance and full year outlook.
Thanks, Rodger, and good afternoon everyone. In our first full quarter of combined results, we made meaningful progress in the transition of our combined operating model across the organization. Core operating profit for the quarter demonstrated continued strength in our overall business performance and meaningful progress and momentum towards our long-term expectation post the combination with Beneficial. This quarter, we recorded $15.8 million of restructuring and corporate development cost, consistent with our originally modeled expectations. As a reminder, these costs are excluded from our core results.
In May, we began executing on our branch optimization plan with the sale of five outline branches and $178 million in customer deposits to The Bank of Princeton at a premium of 7.37%. This transaction premium was recognized in conjunction with the day one accounting of the transaction. 20 additional branches will be consolidated during the conversion weekend with the remaining five over the next year or so.
Excluding the sale, customer deposits increased $91 million or 4% annualized for the quarter and we expect to deliver on full year expectations of flat-to-slightly decreasing growth. In addition, we are making progress on our balance sheet migration towards additional relationship-based, higher-yielding C&I loans and returning the portfolio mix from the 38% of C&I at transaction close toward the above 50% mix prior to the acquisition.
Notably in the quarter, C&I grew $76 million or 9% annualized, coinciding with $47 million of purpose full runoff in our $1.27 billion non-strategic loan portfolio comprised of held for investments, residential mortgages, almost all acquired from Beneficial, along with student and auto loans, also acquired from Beneficial. This additional runoff of combined -- this additional runoff combined with higher payoff in our CRE portfolio, resulting from refis in the current interest rate environment, lands our full year expected loan growth in plus or minus 0% growth.
NIM for the quarter was a robust 4.68%. And when excluding 22 basis points of incremental accretion resulting from loan payoff above -- originally modeled expectation, NIM was slightly above the range outlined on our first quarter earnings call. When -- all of the Beneficial purchased accounting accretion, net interest margin was a very healthy 4.09%.
On a pro forma comparative basis, this was a resilient 11 basis point improvement year-over-year and a 5 basis point increase over prior quarter, both resulting from the successful balance sheet optimization, stronger loan yields and low deposit betas.
For the second half of 2019, we anticipate net interest margin to be in the range of 4.25% to 4.35% including approximately 35 basis points of originally modeled purchase accounting accretion from Beneficial.
This range includes a 50 basis point decrease in both prime and LIBOR by year-end negatively affecting the second quarter range by 10 basis points. Additional detail on actual and anticipated net interest margin are in the supplemental materials posted on our website.
Core fee income increased 19% year-over-year with 7% organic growth diversified across all major businesses including traditional banking and wealth with notable growth in mortgage banking and Cash Connect.
The growth rate is anticipated to slow somewhat in the second half of the year as we align pricing and features across our products as part of the integration strategy. The core fee income ratio of 25.3% for the quarter should maintain in the 25% to 27% range for the second half of the year.
As Rodger mentioned, we continue to see positive and healthy leading indicators in the loan portfolio and as such see the second half of the year's total credit cost to be around 25 basis points of loans consistent with our original full year outlook.
Non-interest expense of $92 million for the quarter combined with strong net revenues delivered a 55.7% core efficiency ratio which is consistent with the first quarter result demonstrating that we are on pace to deliver the pro forma cost synergies ahead of our year one expectations of 50% and on pace to deliver 90% of cost synergies by the calendar year 2020. The full year efficiency ratio for 2019 is expected to be around 57%.
While the effective tax rate of 21.9% in the second quarter was favorably impacted by the higher stock-based compensation activity our full year expectations for the effective tax rate continues to be in the 23% to 24% range consistent with our original outlook.
While another expectedly noisy quarter consistent with Rodger's comments, we are pleased with both the results and the trajectory of the business and remain on track to deliver a full year core ROA of 1.50%.
We are happy to answer any questions you may have at this time.
[Operator Instructions] Our first question comes from the line of Austin Nicholas of Stephens.
Hey, guys, good afternoon. I appreciate the updated NIM guidance in the supplement. I guess maybe -- could we maybe walk through the call it 15 basis point step down from the core 4.09% NIM that you reported this quarter to get down to the kind of 3.94% in the back half of the year?
And then maybe just some help on how we should think about the trajectory of that in terms of maybe where we're exiting the year at?
Sure. Thank you, Austin. Yes, as we mentioned in our conversation just now that we do anticipate the rate environment to negatively impact our rates for the second half of the year by 10 basis points. In addition, we do anticipate some additional deposit costs as we align our product pricing across our combined customer base. So it's primarily those two drivers that are resulting in the second half of the year being at 3.94% or in that range.
Okay. And would you, I guess, would you anticipate more pressure in the third versus the fourth just trying to understand maybe the cadence of the step down if -- and if you could make any comments on that?
Sure. And just add some clarification. The 50 basis point decrease in the rate environment is expected with 25 basis points in the month of July at the end of the next Fed meeting and then another 25 basis point decrease in September as…
Okay.
… consistent with market expectations they obviously that is all subject to -- data and further expectations. But you would anticipate because of that that there would be some step-down in the third quarter with additional step down in the fourth quarter.
Okay. That's helpful. And then maybe just on the fee income guide, can I confirm that the guidance is really using the call it $138 million core number from 2018 and then when we think about that 2019 number well we're backing out the Beneficial fee income which is amounting into something in that $14 million to $15 million range for the full year is that the way to think about the guide on the fee income?
It is. So we are normalizing for the growth from Beneficial when we talk about the fee income growth to be more organic based.
Okay. That's helpful. And then, I guess, maybe I appreciate the efficiency guide that you've highlighted, but any commentary specifically just on how we should think about the run rate on expenses in the third and fourth quarter?
Sure. I think obviously the first full quarter here combination allows us to have a clear view of what the current base is. We do expect in the third quarter to begin seeing benefits from the post integration efforts, but clearly that would be only one month of benefit. Those will be offset somewhat by normal growth in the business and in particular investment in the fee revenue strategies that we anticipate over the longer term. And then that would compound in the fourth quarter with a full quarter savings post combination and post conversion but again offset by a continued investment in business line.
Okay. That's helpful. And then maybe just one last one. I thought there was the deep credit $20 million or so credit that moved to non-performer this quarter. Could you maybe speak a little bit about maybe if there's -- what type of industry that was or any commentary you could give on that credit? And maybe it's relationship to the bank and any help that we just on kind of describing the credit that you could provide?
Sure, Austin. It's Rodger. So it's a locally based C&I credit. It's broadly in the health care space. We generally describe it as a group of outpatient specialty hospitals.
Got it. Okay, great. Appreciate the question, guys.
Thank you, Austin.
Thank you. And our next question comes from the line of Michael Perito of KBW. Your line is open.
Hey, good afternoon, gentlemen. Thanks for taking my question.
Hey Michael.
I want to maybe just follow-up on that last question. Obviously, the credit migrated in the quarter but you provided the updated credit cost guidance for the year, and it seemed fair to assume that you don't expect any real loss content to materialize from that. I was wondering if you could just provide some more specifics as to why that's the case whether it's well collateralized or secure or just any other details there would be helpful?
Yeah. So it's Rodger again. We went through our normal impairment analysis which evaluates obviously the collateral and we feel that we have it appropriately reserved sort of where the situation stands at this point.
Got it. Okay. Helpful. Thank you. I also want to circle back towards the fee question. Really just a broader question, Dominic you made a couple of comments about kind of aligning Beneficial with the legacy WSFS on the fee and deposit pricing side. I was wondering if you could maybe provide a little more specific there. I guess, to that comment in the deck I didn't exactly follow about the fee income comment in the updated outlook slide that you guys put on in your supplement. Could you just provide a little bit more specifics about what the drivers on both the fee and deposit pricing side are that are kind aligning I guess Beneficial and legacy WSFS?
Sure. Good question. So I would say, there's really two major impacts on combining the products across our customer base and Beneficial customers. The first is on the deposit pricing as we look across our entire footprint there will be a consolidation of products that result in some migration upwards and downwards on our deposit pricing. In the near-term, there'll be some products that are kind of grandfather, but no longer offered and there would be associated promotional offerings to support through the transition.
On the fee income side, as we align the products it primarily we have evaluated the posting order on our overdrafts and aligning those products will result in kind of a one-time step down on some of the product the fees generated from those products.
Got it. But I mean, is it fair to say, I mean based on your commentary I mean, you guys did I think in the second quarter here, if we back out some of those gains like $41 million of core non-interest income, but you still expect that based on your 25% to 27% of revenue comment to grow in the back half of the year off of that figure correct?
We do. Yeah.
Okay. I was also wondering, I noticed the 150 basis point ROA comment in the earnings supplement that you maintain that – greater than that for the year. But I was curious, and I know, it's kind of a big ask but just you guys provided further kind of profitability clarity after you announced the deal but obviously the rate environment has changed dramatically, and I was wondering, if you were willing to provide any updated thoughts about kind of where that 150 can move in the future with what we know now based on the rate environment and what you know now also on the cost savings and everything else in front of you that you didn't necessarily have when you announced the deal over – almost a year ago?
So this is Rodger. Michael, I assume you're referring to the 150 that we had referred to for 2020 going forward?
Correct, yeah.
Yeah. So obviously we've gone through our normal midyear updating of our plans. We're starting to have a look into 2020. We think that is still and obviously we're ways away from it. We think that it's still achievable considering everything that we've learned since then, but obviously it's contingent upon us on executing, particularly on the revenue side and I would highlight as you know we started out with a little bit smaller balance sheet than we had originally thought. But, we have a line of sight into that, and obviously we'll be spending a lot more time on that very shortly here as we work to develop our 2020 plan.
Helpful, Rodger. Thank you. And then just one last one, and I'll step back, which is I started to notice in the area some increased marketing around the transaction, and I was just curious for just some general comments about what the reception has been thus far? And how has it meant relative to your expectations, and as we approach the conversion do you feel good about kind of the brand marketing and cost that you put in and trying to create awareness around the WSFS brand in Philadelphia?
Yeah. Thanks for noticing that. And I would say the reception in the market has been extremely positive, and I think this is really at this point exceeded our expectations in terms of the buzz in the marketplace, and I would highlight that we're really kind of only halfway through that brand campaign that will kick into high gear in the next few weeks leading up to the conversion with some television, advertisements and some increased radio and print, and that will go straight through conversion and well into the third quarter. So, so far we are very, very pleased with the brand campaign.
Perfect. Thank you, guys, for taking all my questions. I appreciate it.
Hey, thanks.
Thank you. And our next question comes from the line of Russell Gunther of D.A. Davidson. Your line is open.
Hi. Good afternoon, guys.
Hey, Russell.
I wanted to get a sense if you can share with us what your expectations are around the pace of runoff in those identified portfolios? Is this a steady type of cliff we could expect? Is there an appetite perhaps for a bulk loan sale? Just like to get your thoughts on that if I could?
Sure, Russell. It's Dominic. How you’re doing?
Good.
So, on the run-off portfolio, clearly these are non-strategic loans that we no longer originate. Much of which is derived from the held for investment, residential mortgage portfolio that we had originally modeled at the time in a rising rate environment to run-off commensurately with the average life of those loans.
Clearly with the decreasing rate environment what we're seeing is an acceleration of payoffs due to refinancing and we see that in our refi business ourselves that year-over-year our refi originations on our fee-based business is up 100%. So consistent with the rate environment, we would expect that this -- the run-off pace in the second quarter to continue for that portfolio for the foreseeable future.
Okay, great. I appreciate that. Yes.
So, I would add to that. Obviously we consider all our options, I'd say at this point, particularly for that residential mortgage book, we don't see the need to do that. I would just highlight again that these mortgages, although they were primarily broker originated, are all within our footprint. And we think these are a great opportunity to engage with these customers, and potentially get fuller relationships. So, we have a plan in place that we are actively connecting with those customers. And want to see how that progresses before we would make any decisions to do anything differently.
All right, thanks for that Rodger. And just wanted to get your sense as to what's driving the expectation for flat core loan growth in the back half of the year. You guys had really strong C&I growth. I think you expect that to continue a bit. Is it just continued pay-downs or maybe just share a little bit about what's handicapping the core commercial in the back half?
Yes. So, Russell, Steve Clark here. Agree to first -- the second quarter to first full quarter with Beneficial, the C&I activity was very encouraging. And our pipeline right now is strong. We have about $150 million pipeline 90-day weighted average and in addition to that we have about $200 million of commitments that we closed in the first half of the year that have not funded. So we do expect fundings over the next six to 12 months under those previously closed commitments.
But on the commercial side, there is pretty heavy refinance activity. And there's three kind of portfolios that we view as non-core and these are participations purchased in multi-family in broadly syndicated deals and in leverage loans. These are all part of the legacy Beneficial portfolio. So we will allow those to runoff, and we'll exit when appropriate. So, that headwind on the commercial side that I just described kind of brings us in we think around flat for the year.
Okay. No, that's very helpful color. I guess last question for me would be, if you could size up what that -- the aggregate portfolio you just mentioned on the commercial side, the legacy Beneficial of the multi-family syndicated leverage loans just to give us sense for what that headwind could look like?
It is approximately $350 million in participation purchased multi-family and the broadly syndicated leverage loan transactions.
Okay. That's great. Thanks for taking my question guys. Appreciate the help.
Thanks, Russell.
Thank you. [Operator Instructions] Our next question comes from the line of Brody Preston of Piper Jaffray. Your line is open.
Good afternoon. How are you?
Okay, Brody.
Hey, just a quick question on the accretable yield. I want to know what the all-in contribution from accretable yield was both from Beneficial and from past deals?
Sure. Yes. In the second quarter given the larger balance sheet now, it's about three basis points. So it's not meaningful, but absolutely contributes to the net interest margin, but as we've expected over the last year since our previous purchases that will continue to run off towards there.
Okay. So the -- so I guess, for this quarter the all-in accretion number was closer to 62 basis points and then the legacy, I guess, accretion will sort of wheel down to zero here over the next 18, 24 months somewhere in there?
Correct.
Okay. Okay. Great. And then with regard to the CRE prepaid that you highlighted in the press release, just wanted to get a sense for what the blended yield was on the stuff that refi-ed away?
So, this is -- Brody, Steve Clark again. So I don't have the specific on portfolio the CRE portfolio, but kind of the blended yield on payoff for the entire commercial portfolio was about 568.
Okay. Okay. And so I guess that's -- I guess, relatively in line with what you're loan yield was last quarter, correct? So, I guess, when I think about the pace of prepays moving forward, I know you highlighted the $350 million from that non-core commercial book, I guess. What do you guys thinking about in terms of the pace of paydowns from this book moving forward?
So we believe it will record over the next three years. We don't expect it all to occur this year at all. We think as rates reset in our notes the market is pricing much more aggressively and we'll see these loans refinance out.
Okay, okay. And then could you give me a reminder as to what percent of the total loan portfolio is tied to LIBOR and what percent is tied to prime?
Sure. I would say about 50% of it is variable and of that 60% is LIBOR and 40% is prime.
Okay. Great, thank you very much that. And then I guess just turning to the securities book real quick. I know you sort of re-levering some of that portfolio from the optimization strategy. Just wanted to get a sense for how much you have left, if any, in terms of additional I guess outside security purchases?
At this point and I apologize I missed the first part of the question.
Yes I can jump in. We've completed the balance sheet optimization. So we don't see any significant re-leveraging of the securities portfolio.
Yes. At this point in time at the end of June, we completed the rebalancing of the balance sheet and hit our internal targets of mix for investment securities.
Okay. Great. And then for expenses for the quarter, do you have a number for what the full impact to the full quarter was from Beneficial to 2Q expenses?
We do not have that explicitly.
Okay. I guess I'm just trying to the expense number was pretty good this quarter and so I wanted to maybe get a sense for if you sort of extracted some of the cost savings already?
So this is Rodger again. I'll jump in. We will get you Brody the specific number. But I'll tell you that as we said previously, the modeling and this is holding through for the cost savings is 50% this year.
Most of that will kick in, in the third quarter with the brand and systems integration because that's when we will be closing 20 of the locations as Dominic said realizing those cost saves and then also the FTE impact kicks in during the third quarter as well, that's really when most of the savings come. But we will get you some information with some of the specifics for this quarter.
Okay. Great, thank you for that Rodger. And then I guess I just wanted to quickly turn to the provision. Was there a specific reserve attached to either of the two credits charged off this quarter?
So there were reserves on both of those credits that where then charged off for this quarter, correct.
Okay. Do you happen to have the number?
We don't provide specific numbers on specific credits obviously for customer and other confidentiality reasons.
Okay, okay. And then I guess for -- I guess as I just think about your specific reserves in relation to the $20.2 million C&I credit this quarter, I guess could you give us a sense for, I guess the trajectory of C&I specific reserves that we might see in the 10-Q?
Sure. I would say again, I don't have that specific number off the top of my head. But we went through our normal impairment allowance. I don't think you're going to see a material change in that level of reserves for our broad C&I portfolio. We will get you a number also Brody.
Okay, thank you. And then quickly last two for me. I know I'm taking lot of time. But with regard to Cash Connect, you guys have done a pretty good job managing the cash in non-owned ATMs down. Just wanted to get a sense for if there's a minimum level that you identified that you need to run the business at its current size of the 2800, 2900 ATMs and smart safes.
Sure. This is Dominic. I would say, we see it more as a portfolio mix that we're targeting and we're looking for one-third on balance sheet, two-thirds off balance sheet for the bailment business. In addition to as we look towards growing the smart safe business that will primarily be funded on balance sheet, but then to balance that as we look to offer our other fee-based services for ATMs that we're not providing bailment that will balance that mix. So those are the targets we're looking for. You clearly see some progress made over the last quarter and last year both driving bottom line growth and significant ROA improvement.
Okay, great. And then on the cash management that seemed to have a pretty good jump over the linked quarter. I just want to get a sense for what drove that? If that was maybe signing on one or two large customers or just you had pretty decent widespread adoption of smart safe this quarter? Was it that, or was there anything seasonally driving it? Thank you.
Yeah, sure. And that's in that third group that I was speaking about where we are providing reconciling and cash logistics services to customers where we're not providing the bailment, but we are managing the program. So you'll see that number hopefully continue to grow but there was clearly step up as we made some progress in offering those products and services to non-bailment customers.
Okay, great. Thank you very much for taking all my questions.
No problem. Thank you, Brody.
Thank you. And our next question is from the line of Frank Schiraldi of Sandler O'Neill. Your line is open.
Good afternoon.
Hi, Frank.
Just a couple of questions left. So just on the efficiency target for the year, the efficiency ratio bringing that down from 58% guide to 57%. Does that reflect an improvement of where you expect to end up down the road? Or is that just reflect pulling out some expenses a bit earlier than you had anticipated?
Sure. I would say it doesn't necessarily change our ultimate expectations with regard to the post-Beneficial opportunities. It's primarily in year just turning in on the performance. This is being delivered by the higher yields that we've seen in the portfolio offset by or -- and I should say the lower deposit betas and then some accelerated cost savings in the first half of the year before we hit the conversion weekend.
Okay. And then just as far as the margin goes, I mean kind of feel like there's some moving parts here -- a lot of moving parts, but if I think about the back half of the year and where you guys have guided to I assume there's some level of rate cuts that's already in the NIM this quarter just given front running we've seen from LIBOR. I'm just wondering if you can break it down in terms of your thoughts on what a given 25 basis point rate cut does to the NIM all else equal and if that slows over the second into the third as maybe I don't know you had floors or on the deposit side you can move deposit pricing lower more on the second 25 bp or third 25 bp move. Just trying to get a sense as we look into 2020 as well of where we could see NIM move?
Sure. Thanks, Frank. This is Dominic. The first thing I'll say is when you look at our interest rate sensitivity analysis at the end of the second quarter, it's pretty consistent where we were at the end of the first quarter post combination with Beneficial. And with that our asset sensitivity has declined to more neutral. So positions us well for the rate environment we're in.
For every 25 basis point change on a full year basis, our net interest income would compress or expand by 0.5% or $2.3 million on a full year basis. That would be linear up to 50 basis point or 75 or 100 basis point increase, given where rates are today for us would necessarily kick-in until really the first 100 basis point decrease.
Gotcha. Okay. Great. That's helpful. And then just finally, you might have touched on it already, but obviously you had pretty successful mix shift in the quarter. And two pieces to that, one was the significant paydown you saw. But just on the C&I growth, is that sort of the high single-digit level, is that sort of thought of as sustainable here as we look into at least -- what the pipeline looks like in 3Q?
Frank, this is Steve, again. I would say that's probably aggressive. I would say really on the C&I side, we'd be very pleased with kind of low to mid. We think 9% for the quarter annualized was a little bit of an outlier.
Okay. All right. Thanks, guys.
Thanks, Frank.
Thank you. And with no further questions in the queue, I would like to turn the conference back over to Mr. Rodger Levenson for the closing remarks.
Thank you and thanks everybody for participating on the call today. Dominic and I look forward to seeing many of you when we go back on the road in September. But as always we're always available to address any other questions you have prior to then. Thanks everybody again and have a good day.
Ladies and gentlemen, thank you for your participation in today's conference. This does conclude the program. You may now disconnect. Everyone have a great day.