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Independent Bank Group Inc
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Good day, ladies and gentlemen, and welcome to the Independent Bank's First Quarter 2019 Earnings Conference Call. At this time, all participants are in a listen-only mode. And later, we will conduct the question-and-answer session and instructions will follow at that time. [Operator Instructions]
I would now like to turn the conference over to Mr. Mark Haynie. You may begin.
Good morning. I am Mark Haynie, Executive Vice President and General Counsel for Independent Bank Group, and I would like to welcome you to the Independent Bank Group first quarter 2019 earnings call. We appreciate you joining us. The related earnings press release and a slide presentation can be accessed on our website at ibtx.com.
I would like to remind you that remarks made today may include forward-looking statements. Those statements are subject to risks and uncertainties that could cause actual and expected results to differ. We intend such statements to be covered by Safe Harbor provisions for forward-looking statements. Please see page 5 of the text in the release or page 2 of the slide presentation for our Safe Harbor statement. All comments made during today's call are subject to that statement.
Please note that if we give guidance about future results that guidance will be only a statement of management's beliefs at the time the statement is made and we do not publicly update guidance. In this call, we will discuss a number of financial measures considered to be non-GAAP under the SEC's rules. Reconciliations of these financial measures to the most directly comparable GAAP financial measures are included in our release.
I am joined this morning by David Brooks, our Chairman and CEO; Dan Brooks, Vice Chairman and Chief Risk Officer; and Michelle Hickox, Executive Vice President and CFO. At the end of their remarks, David will open the call to questions.
With that, I'll turn it over to David.
Thank you Mark. Good morning everyone. We appreciate you joining us for today's call. Independent Bank is off to a strong start in 2019. We closed the Guaranty acquisition on January 1 and our first quarter results reflect the beginnings of the value of this premium Colorado franchise adds to our company.
We continue to report solid earnings with adjusted EPS of $1.19 per share and adjusted return on average assets of 1.51% for the quarter. Organic loan growth is 7.2% annualized, reflects sustained demand for loans in the markets we serve as well as our conservative credit culture and efforts to reduce our CRE concentration over time.
Our teams are focused on ensuring the continued smooth integration of the Guaranty acquisition with the conversion scheduled for June. As part of this integration process, we announced a strategic realignment of our branch footprint and we remain positive about the opportunity to realize synergies with our expanded presence in the Colorado market.
Now Michelle will provide some additional details on the operating results for the quarter.
Thank you David. Good morning. Please note that slide 5 of the presentation includes selected financial data for the quarter. Our first quarter adjusted net income was $52 million or $1.19 per diluted share, compared with $29.2 million or $1.03 per diluted share for the first quarter last year and $34.1 million or $1.12 per diluted share for the linked-quarter.
As you can see on slide 7, net interest income increased to $121.7 million from $74 million in the first quarter 2019 and $87.1 million in the linked-quarter. The net interest margin improved to 4.05%, up 7 basis points from the previous quarter at 3.98%. The NIM was impacted by several things this quarter including lower yields on assets and cost on deposits from Guaranty as well as accretion recognized on the acquired loan portfolio related to the purchase accounting adjustments due to interest rates. A total of $6.9 million was recognized, which impacted the NIM by 23 basis points.
In addition, we adjusted the way we account for deferred loans fees and costs to be consistent across our footprint. While we estimate this change reduced our reported loan yields by 10 basis points, it did not significantly impact net income. Excluding accretion related to the Guaranty acquisition, interest rate mark the NIM would have been 3.82% for the quarter.
Total non-interest income was $16.4 million compared to $9.5 million in the first quarter of 2018 and $9.9 million in the fourth quarter. We added revenue from Guaranty's wealth management and trust services of $2.2 million, which are new lines of business for us. The remaining increase is primarily due to increases in service charges, early income and other fees due to the Guaranty acquisition.
Mortgage revenue was a $3.1 million this quarter versus $3.4 million in the linked-quarter and was negatively impacted by hedging loss $369,000 in the first quarter versus a gain of $394,000 last quarter.
Total non-interest expense was $86.6 million in the first quarter. This includes $19.2 million of acquisition expenses primarily related to the Guaranty deal, a large portion of which consists of $3.2 million in severance and retention bonus payments and $8.7 million in change control payments. The remaining increase from the linked-quarter is primarily related to Guaranty including a $1.7 million increase in amortization of core deposit intangibles.
Slide 16 shows our deposit composition in cost. Deposits totaled $11.2 billion as of March 31, 2019. We acquired $3.1 billion in the acquisition, but also accrued deposits organically by $393 million during the quarter, or 14.7% annualized. The average cost of interest-bearing deposits was 142 basis points up 60 basis points from the first quarter of 2018 and down 4 basis points from the linked quarter.
Deposit pricing and competition continues to be a challenge, especially, in the Texas market. But the Federal Reserve's pause on interest rate increases has helped to alleviate some of the upward pressure on rates on a relative basis compared to 2018. Decrease costs from the linked quarter are reflective of a better mix and lower costs in the Colorado market.
That concludes my comments this morning so, I will turn it over to Dan to discuss credit metrics and give color on the loan portfolio.
Thanks, Michelle. Good morning. Organic loan growth was 7.2% annualized for the quarter. Overall loans held for investment not including mortgage warehouse loans grew $3 billion or 38.5% for the quarter. This loan growth includes $2.8 billion of loans acquired as part of the Guaranty acquisition.
Slide 10 illustrates annual loan growth comparisons. Slide 11 shows the composition of our loan portfolio and our commercial real estate portfolio. As of March 31, 2019 commercial real estate makes up 53.3% of loans. CRE continued to be well-diversified in types of collateral with the largest segments in office and retail.
Slide 12 further breaks down the retail CRE portfolio by property type. The ratio of total construction and land development lending to the bank's regulatory capital has decreased to 99% down from 122% a year ago. At the end of the first quarter, our total CRE-to-capital ratio stood at 384% and we have plans to reduce this metrics below the 300% regulatory guidance over the next three to four years as we grow other areas of the portfolio.
Mortgage warehouse purchase loans averaged $128 million for the quarter ending March 31, 2019 compared to $120.9 million for the quarter ending December 31, 2018 representing an increase of approximately $7.0 million or 5.8% for the quarter. Credit quality metrics remained strong with total non-performing assets of 0.12% of total assets at March 31, 2019. Charge-offs remained low at 0.06% annualized for the quarter, but slightly increased due to a partial energy loan charge off of $827,000. This amount had been fully reserved in the prior period.
Provision for loan loss expense was $3.2 million for the first quarter, an increase of $314,000 over the linked quarter. Provision expense is primarily reflective of organic loan growth as well as charge-offs and specific reserves taken during the respective period. We established a $670,000 specific reserve on a $3 million commercial loan that was placed on non-accrual during the first quarter.
As of March 31, 2019 we have recorded a discount for the acquired loan portfolios of approximately $142.8 million. This includes a provisional $119.8 million fair market value adjustment in conjunction with the Guaranty acquisition with $80 million related to interest rates and $39.8 million related to credit. The recorded allowance for loan losses plus the remaining fair market value adjustments on loans acquired related to credit is approximately 1.02% of total loans held for investment as of March 31, 2019.
These are all the comments I have related to the loan portfolio this morning. So with that I'll turn it back over to David.
Thanks, Dan. We believe that these first quarter results set us up for a successful 2019. We expect the second quarter earnings this year will continue to have some noise as we complete the systems and core conversion in Colorado as well as execute the branch consolidation we announced earlier this year. As a result, we expect to recognize virtually all of the cost saves by the end of this quarter and will get the full benefit of those efficiencies in the second half of this year.
Based upon our solid operating results and strong financial position, we executed on our share repurchase program during the first quarter. We invested $10 million to take advantage of opportunities to purchase shares of company stock at attractive prices. We also increased our quarterly dividend to $0.25 per share and remained committed to paying a dividend of 20% to 25% of earnings in future quarters. We believe that these actions provide a meaningful return on investment to shareholders and demonstrate our continued focus on enhancing shareholder value.
Thank you for taking the time to join us today and we'll now open the line to questions. Operator?
Thank you. [Operator Instructions] Our first question comes from the line of Brady Gailey of KBW. Your line is open.
Good morning, guys. It's actually Woody on for Brady.
Good morning, Woody.
So stripping out both the expected and unexpected accretion we have a core NIM of 3.82%.What was the core NIM last quarter and 4Q 2018 if we stripped out both buckets of accretion?
I don’t -- note our core NIM last quarter was 3.98% I believe.
Right.
That was with accretions stripped down.
Right.
So that included the strip out of the expected accretion as well?
Right. That's true. Yes. You guys know we really -- we really haven't had a large amount of what I would call expected accretion. Most of our accretion that has come has been related to the credit mark. So, that's a reason we reported that really differently. This time we pulled out anything related to credit in our core schedule in the back, but then just communicated to you guys what the remaining amount is that's related to the interest rate mark.
Got it. That's helpful. And then looking at total accretion that was around $6.9 million, does that feel like a good quarterly run rate going forward?
It's probably -- well, it's always a little hard the very first quarter when you close on acquisition, because you have loans that pay off and stuff like that. But the remainder of this year, I expect it would probably around $6 million, just estimating it.
The marks, right now, are still provisional. However, they are very close to being finalized and I don't anticipate that they'll change very much.
Okay. And then last for me, it was nice to see you all buyback a little bit of stock. Do you expect that to continue going forward in 2019?
We do, Woody. We have an approval to purchase -- to continue to purchase and we actually didn't get our approval until almost mid-way through the first quarter. So, we didn't have as much time as we would've liked to use that. Yes, we expect to use that here over the next few quarters.
All right. Thanks, guys.
Hey, thanks, Woody.
Thank you. Our next question comes from the line of Michael Young of SunTrust. Your line is open.
Hey, this is Brandon King on for Michael Young.
Good morning, Brandon.
Good morning. So with the close of Guaranty, I just wanted to get a sense of the outlook for fee income and expenses going forward. Just trying to get a sense of what level of pro forma expenses and fee income we could expect over the next few quarters.
My outlook on non-interest expense hadn't really changed from where it was last quarter. One thing to note is when we did the acquisition of Guaranty and back to several acquisitions that we've done, we took this opportunity to make the way we account for loan fees consistent as opposed to deferring a net fee. Guaranty was deferring costs. So, we've made that consistent across our footprint now. So, if you'll notice, our NIM actually was impacted -- loan yields were impacted by about 10 basis points, because we did that, because we're netting costs against the fees now and amortizing that. But it also reduced non-interest expense by about $3 million.
So, I think where you see maybe non-interest expense was lower-than-expected, it's primarily due to the way that we're accounting for loan fees now, if that makes sense.
Okay. And what about …
Yeah. I think the thing to note is it really didn't impact net income. It really was just a matter of where we are putting it in our income statement. I know, it may be a little bit confusing, but that's the best way I can explain it.
Okay. Got you. And what about the fee income side? I know with the addition of investment management and trust, what is the typical run rate of that per quarter?
Well, I don't know if we have a typical run rate yet, since this is first quarter of having Guaranty with wealth management. I think mortgage will do better if they move into the summer season, because that's just the way mortgage tends to work and with rates being down a bit, I think their volume has been up. I wouldn't anticipate significant increases on the income side for the remainder of the year other than maybe that seasonal adjustment for mortgage though.
So, the first quarter run rate would be …
Yeah. I mean, we may get an additional $1 million of fee income in Q2 and Q3 related to mortgage.
Okay.
Probably the best way to look at it.
Very helpful. And just one more. Now that you guys are over $10 billion, do you see any additional investment needs for 2019 now that you've crossed that mark?
Meaning for infrastructure costs, Brandon?
Yes.
That's something that we've been completely focused on making sure we get the integration of Guaranty executed properly. I think we said in the comments that our conversion to -- on the core system conversion would be in early June and that will get all the costs out, virtually all of the costs, duplicate overrun cost out in the second quarter.
We continue to look. We did prep work going into last years. We knew we're going to be over $10 billion and we've been working on that. And we've gone to a continuous exam cycle with the regulators and other changes. So, I think we are in good shape where we are right now. That's something we continue to evaluate over time though to make sure that we have everything in place in terms of enterprise, risk management, internal audit and the technology piece and all that. So, we feel good about where we are today, but we're continuing to work towards that.
Thank you very much.
You are welcome. Thank you.
Thank you. Our next question comes from the line of Michael Rose of Raymond James. Your line is open.
Hey, guys. Good morning. How are you?
Good morning, Michael.
Just wanted to follow-up on the accretion question, I understand the split between the interest rate and the credit mark. The $6 million Michelle that you just referenced is that per quarter or for the remainder of the year? I just wanted to be clear in terms of what the scheduled accretion is.
Yeah. It'll be per quarter, Michael.
Okay. That's what I thought. I just wanted to make sure. So, if I balance all that in the comments from the last question, you guys have talked about getting to an efficiency ratio of 46%. But, if I'm doing the math right, with the higher accretion and probably what most of us expect, it seems like it's going to be a little bit lower than that. Am I putting the pieces together correctly here? Because it looks like I think the conversion is scheduled for June 1. Clearly the run rate this quarter on expenses was lower. You'll get the rest of the cost saves I’d think this quarter. So how should we think about your expectations for the efficiency ratio towards the end of the year?
It could be a little bit lower. I think, my comments earlier about how we're accounting for loan fees also impacts that calculation. So with the expense run rate being lower, one thing that I didn't mention earlier, the amortization of our intangibles came in a little bit higher than what I had guided earlier. I mean not a lot.
I think it was -- I think I had said $1.5 million and ended up being $1.7 million. So there's a little bit more expense there. Our new building is coming online, so we'll have some expenses related to that. So it could be a little bit lower than what we have guided, but I don't know that I would plan on that at this point.
Okay. Yeah. That's a helpful reminder on the building coming online. You have a sense for what the incremental costs are related to that?
I think it's about $600,000 a quarter.
$600,000 a quarter. Okay, that's helpful. And then, just moving over to the loan side, I'm sorry if I missed this earlier, but can you give a sense for what the growth trends were in both Texas and then in the Colorado markets?
Michael, we had as we announced 7%, a little over 7% annualized growth. The growth was really pretty well spread across our markets. Colorado did really well given the whole transition, and conversion onto our systems, et cetera. We were off to a stronger start in Colorado than we could have been. And really the loan growth was muted out, I would say, somewhat by just pretty intense pricing competition.
And in some cases, we just – we make decisions not to compete on certain pieces of business where we thought the pricing just wasn't adequate for the structure, and the risk that was being proposed. And then, we're also always watching our various markets and sub-pieces within those markets.
Areas where we think hospitality or multifamily or office or whatever maybe saturated, or there's plenty of it maybe getting overbuilt. And we may pass on opportunities, and have passed on opportunities in certain marks around Dallas, as an example, where we thought hospitality was overbuilt and certain areas around Houston were multifamily.
So those things can cause us to have a little bit of a muted loan growth at any one given quarter, if we listed the deals that we saw and the pipeline that we have ended up the pricing or the type of product underlying.
And also just our general move towards continuing to really putting in place our plan to diversify our loan portfolio away from being so CRE-centric toward more equipment finance and energy, and SBA mortgage warehouse other single-family residential, things like that, and that takes a while to get that turn or get those hires in place, and things like that.
So we felt good about the loan growth. It was really consistent across our footprint and I feel good about our pipeline going into the second quarter here. We're just keeping our eye on pricing and structure and things here at this point of the cycle.
So balancing all that David, you previously talked about 8% to 10% if you would have included Guaranty at the beginning or at the end of last year for growth. It seems like maybe that softened a little bit. And I wouldn't quote you for that. But is that a range that might be -- might prove to be a little bit too high?
No. I think 8% to 10% is still where we sit today. Looks fine to us Michael. But to your point, if the market continues to -- we continue to see the pricing pressure, we saw in the first quarter in structure and overbuilding and a few product types in certain markets. We could be -- the lower end of that range could come more into focus. It could be high single-digit number as opposed to anyone thinking, it's 10% to 12%. It really is kind of 8% to 10% and with what we saw in the first quarter, it may be more like 8%, 8%or 9%.
That’s fair enough. Last one for me. Michelle, on the initial stab at day one impact from CECL? And then can you just explain what you expect to happen when you shift from PCI to PCD? Thanks.
We don't have a number yet. We will have an impact primarily -- I don't think we expect a large impact on our originated loan portfolio. But we will have to take a seasonal reserve on our required loans which at that point will primarily be Guaranty. But we're not in a position to disclose a number at this point.
PCD obviously in acquisitions, I think you're going to see more people allocate loans to PCD coming up within any reason they can to make a loan, a PCD loan. But I really -- I think we've been pretty conservative on how we've accounted for them under PCI. So I don't know if it will be significantly different for us.
All right. So no major capital impacts and -- for Michelle?
No. I don't think it will have a significant impact on our capital.
Okay. Thanks for taking all my questions guys. Appreciate it.
Thanks Mike.
Thank you. The next question comes from the line of Brett Rabatin of Piper Jaffray. Your line is open.
Hey good morning Dave and Michelle.
Hey good morning Brett.
I wanted to go back to the margin just for a second and just talk some about the discount accretion going forward. If just we're thinking about the core margin and with the addition of Guaranty, it would seem like your balance sheet has a little more optionality in terms of the core deposit funding. Does the core margin Michelle kind of stay flattish here? Or do you think you can improve it with some mix shift change on either side of the balance sheet?
I think if you're talking about core margin like net of all accretion including the interest rate mark, currently if the Fed outlook remains at neutral for the rest of this year and even if rates go up again which I don't know will happen at this point, we anticipate what I would call our core margin to be pretty much stable the rest of this year.
Okay.
Colorado their deposits, they did have a better mix and they do have lower rates relative to Texas. But incrementally there, we're having to pay probably a 100 basis points higher than their cost of funds which is still probably 100 basis points lower than it is in Texas. So that does benefit us and there are opportunities there and our treasury management group is working hard. I don't know that we've seen -- we're a quarter in, but we're doing a lot of work there to try to grow deposits in that market versus Texas.
Okay. I appreciate the color there. And then just want to go back to efficiency and expenses. Maybe can you talk about David in 2000 -- I realized it's not this year, but sort of what's the goal for the efficiency ratio as we go into 2020? And then maybe, there's a lot of noise around expenses and 2Q and then just kind of what the half might be for the expense level Michelle at the back half of this year?
Brett, my goal for efficiency ratio is always 30% something. But Michelle has a different thinking on that so maybe I'll let her comment.
I would -- we want to be as efficient as possible. But sort of the things that we talked about earlier and now that we're over $10 billion and continuing to need to invest in our infrastructure and technology and those types of things, we will have to make those investments. And so I don't really see that it's realistic for our efficiency ratio to go sub-45% next year. But I think, our goal would be to keep it in the range where it currently is between here and 45% for sure.
I think our -- the expense run rate -- when I can give you, what I think it's going to be. I think and if you look at just our core expenses relative to where they were this quarter, we're probably going to be about $68 million.
And then drop to $64 million for the rest of the year, which is about where I had said they would be earlier but just taking into account we changed the way we were accounting for those fees.
Okay. Great and just one last one. You guys' asset quality continues to be really good. You got a little exposure to the health care and some other areas where people have taken a few lumps?
Are you guys seeing anything on the asset quality front, that leads you to want to pull back anything in particular or you just feel like your portfolio is so much more granular? And you are just not involved in some of these things?
Brett, this is Dan. As you know we've not participated in significant Shared National credits on those categories of health care and others like that. So, I would agree with what you just said. I think the granularity of our portfolio and the diversity of it has served us well. And we'll continue to. So we're not seeing any issues related to that.
Okay. Thanks a lot for color.
Hey! Thanks, Brett.
Thank you. [Operator Instructions] Our next question is from the line of Matt Olney of Stevens. Your line is open.
Thanks. Good morning guys.
Good morning, Matt.
Going back to the deposit cost. I think there was some commentary that the pressure on the deposit costs, eased somewhat during the quarter within the Texas market, maybe towards the back end of the quarter?
Any more details, or anymore numbers you can put behind that. And common outlook for the next few quarters within your Texas market deposit costs?
It's really what I have is mostly anecdotal, Matt. It's just my team who takes the exemption request from our branches and our relationship managers. And the requests for rates and competition have seemed to abate a bit.
I know that some of the banks that had special rates out there. Those have come down just a bit. I've noticed over the last couple of weeks. So, really its anecdotal evidence is what I have. And we have not been making as many exemptions outside of our stated rates as what we have been if you go back to like third and fourth quarter of 2018.
Okay. And thanks for that Michelle. And then, Michelle, you just gave us your expectation for the operating expenses for the, I think the second or third quarter. I assume those were more core numbers excluding any kind of knowledge from integration?
Right. Yeah. That excludes any deal-related costs.
Okay, great. And then, I think Dan, may have mentioned that remaining marks on the loan portfolio, on the credit fund and rate mark. I didn't write those down fast enough. Could you just go over those again?
Yeah. I think the credit mark is around $39 million. And the -- let me pull it up. Let me look at it, so I don't give you the wrong number Matt. And the interest rate mark is.
Its $80 million Michelle.
$80 million and $39.8 million.
$80 million on the interest rate mark.
Right.
And just under $40 million on the…
…on the credit.
…credit mark.
…Okay.
…being combined.
Got it. Okay, that’s all for me. Thanks guys.
Hey! Thanks, Matt.
Thank you. And that does conclude today's question-and-answer session. I like to turn the call back over to Mr. David Brooks for any closing remarks.
Hey! We appreciate everyone being on. We're excited about the start to 2019, and getting the Guaranty integration done. So, with that, we appreciate your participation in our call. And look forward to talk to you soon. Thanks.
Ladies and gentlemen, thank you for your participation on today's conference. This does conclude the program. You may now disconnect. Everyone have a great day.