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Old Second Bancorp, Inc.

OSBC US

Old Second Bancorp, Inc.United States Composite

13.87

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(+1.61%)

Q4 2013 · Earnings Call Transcript

Jan 23, 2014

Executives

Douglas Cheatham - Executive Vice President and Chief Financial Officer William Skoglund - President, Chief Executive Officer and Chairman James Eccher - Chief Operating Officer and Executive Vice President; President and Chief Executive Officer, Old Second National Bank

Analysts

John Barber - KBW

Operator

Greetings and welcome to the Old Second Bancorp fourth quarter 2013 earnings conference call. (Operator Instructions) I would now like to turn the conference over to your host, Doug Cheatham, Executive Vice President and CEO.

Thank you. You may begin.

Douglas Cheatham

Thanks, Brenda. Yes, that's CFO, not CEO.

Thank you. Good morning, everyone, and thank you for joining us.

I'll start with a reminder that our comments today may contain forward-looking statements, which are based on management's existing expectations in the current economic environment. These statements are not a guarantee of future performance and results may differ materially from those projected.

I ask you to refer to our SEC filings for a full discussion of the company's risk factors. With me this morning are Bill Skoglund, President, Chairman and CEO of Old Second Bancorp; and President and CEO of Old Second Bank and Chief Operating Officer of Old Second Bancorp, Jim Eccher.

And now, I'll turn it over to Bill to get things started.

William Skoglund

Good morning and thank you for joining us today. I am happy to report that 2013 continued as a very strong turnaround year for your Bancorp.

Our classified assets declined for the 12 consecutive quarter, and from $189 million at the start of the year and they declined to $104 million as of December 31. That's a decrease of $85 million for the year or 45% reduction from December 31, 2012.

I would also point out that the highest point in December 2010, classified assets were $471 million. Our classified asset ratio, which is total classified assets to Tier 1 capital plus the allowance, at that time was 181% and we are now at 43.44%.

Earnings for the year were $82.1 million and that compared to a loss of $72,000 in 2012. Net income available to common stockholders was $76.8 million or $5.45 per share compared to a loss last year of $0.36 per share.

Capital continued to improve with Tier 1 leverage at 10.97% at the bank and 6.96% of the Bancorp. And our total capital ratio was 18.04% at the bank and 15.88% at the Bancorp, all improved from last year and above the minimum requirements.

Loans were down for the year by $48 million, but the fourth quarter did show growth for the first time in many quarters of $23 million. We're encouraged by this fourth quarter growth and we'll work hard in 2014 to continue to see this trend improve.

We believe in our community bank model and while competition continues to be fierce and the economy not as robust as we would like, we are optimistic that we are strategically well-positioned, have a very loyal customer base and are focused on capturing much of the new growth in our market as they continue to improve. In addition, in 2013, we were able to recover $70 million of our DTA and get the Consent Order removed at the bank in the third quarter.

And we know, we still have issues like getting the trust preferred and TARP securities current, improving our tangible capital at the Bancorp and being able to pay our shareholders dividend again. We continue to review all our strategic options that would help accomplish these goals, while at the same time being mindful of what is in the best interest of our shareholders, who have been loyal to us throughout these trying times.

With that in mind, on Friday, January 17, we did file our registration statement with the Securities Exchange Commission, pursuant to which the company will attempt to sell shares of its common stock in the public market. It can be found on our website under Investor Relations/SEC Fillings or at www.sec.gov.

This process is expected to take several weeks to work through the SEC and regulatory process. And once we work through this process, we will assess the market conditions and determine overall timing.

Securities laws restrict what and how we can tell people about this offering and we will be forthcoming and open as is appropriate. And finally, on another positive note and a good sign of our recovery, we are pleased to report that in addition to the OCC removing their Consent Order, in the third quarter we just received notice that the Federal Reserve Bank of Chicago was terminating a written agreement with them.

And with that, I'll turn it back over to Doug for his comments.

Douglas Cheatham

Thanks Bill. 2013 net income available to common stockholders was $76.8 million compared to a loss of $5.1 million in 2012.

In the fourth quarter, net income available to common stockholders was a loss of $1.1 million compared to net income available common of $253,000 in the fourth quarter of 2012. The fourth quarter 2013 loss was primarily due to a security sale.

We sold a CDO for a loss of $4.1 million in the quarter. Although the securities credit rating had recently been upgraded, the Volcker Rule, as published in December, would have required us to sell the security at some point over the next 18 months.

We decided to get ahead of potential panic selling and potential write-down and sold the security immediately. Although the rule was subsequently revised in January, this decision had some benefits for yearend.

We carried this security at a net unrealized loss of $6.l million at the end of the third quarter, while the sale resulted in a loss in the income statement by selling it at a higher price than the previous carrying value, we improved tangible book by $2 million less the income tax affect. Tangible book value per common share increased 8.8% during the fourth quarter to $5.29 per share.

We also removed any uncertainty regarding this security. Another significant item in the quarter was a $2.5 million release from the allowance for loan losses.

We released provision for all four quarters last year for a total of $8,550,000. The clear improvements in asset quality led to this results and Jim will review some of the progress in that area.

The net interest margin ratio was 3.16% in 2013, 3.13% in the fourth quarter of 2013 and 3.17% in the fourth quarter of 2012. Although it is down from 3.43% for the full year, the margin was relatively stable for the last five quarters.

The loan growth that we experienced in the fourth quarter came nearly end of December, so we've not yet seen the full impact on interest income. Non-interest income, excluding securities gains and losses, was $9.1 million in the fourth quarter compared to $11.4 million in the fourth quarter of 2012.

For the year, non-interest income excluding securities was down $5 million to $36.3 million. Increases in trust and other non-interest income were not enough to offset declines in mortgage income and income on other real estate.

Fortunately, the decline in non-interest income was exceeded by the decline in non-interest expenses. Non-interest expenses were $21.2 million in the fourth quarter of 2013 compared to $24.1 million in the fourth quarter of 2012.

For the full year, expenses declined $9.7 million to $86.4 million in 2013, substantially due to a $10.4 million decrease in other real estate expenses. Other real estate expenses were $24.4 million in 2012 and $14 million in 2013.

As other real estate balances declined 43% during the year, other real estate expenses also declined 43%. The continued progress in disposing of these properties had significant positive impact on earnings.

Regulatory capital ratios at the bank were strong. Tier 1 leverage ratio was at 10.97%, up more than a point from 9.67% at the end of 2012.

Total risk-based capital was 18.04%, up over three points from 14.86% at the end of 2012. Corporately the tangible common equity ratio ended 2013, at 3.67%, up from a negative 13 basis points a year earlier.

And book value per share, as I mentioned, was $5.29 per share compared to a negative $0.18 a year earlier. So we ended 2013 with a stronger balance sheet and much improved earnings.

And at this point, I will turn it over to Jim.

James Eccher

Thanks, Doug, and good morning. For the first time in 20 quarters the company experienced loan growth.

Total loans increased $23 million or 2.2% on a linked-quarter basis. New customer relationships resulted in growth in our C&I, multifamily and commercial real estate portfolios.

We continue to be encouraged with our business development efforts, and while competition remains intense in our markets, we are continuing to see moderate improvement in loan demand within our footprint. Growth was broad-based along our footprint and diversified in nature.

We also remain equally focused on asset remediation and realized continued improvement in credit quality as non-performing loans, other real estate loans and classified assets, all declined meaningfully in the quarter and improved significantly year-over-year. Loan portfolio, credit metrics continue to improve as momentum remained strong in reaching resolutions in our distressed asset areas.

All criticized asset categories improved in the quarter, and early stage pass-through loan levels remain at five-year lows. Classified assets, as Bill mentioned, declined for the 12 consecutive quarter on the strength of continued reductions in the OREO portfolio and classified loans.

Prospecting for new loan growth continues to be a priority, but we're also focused on building non-interest income lines particularly in wealth management, retail banking and treasury services. Our wealth management division posted a strong quarter on the strength of new business generated and strong market gains.

Our residential banking group also had a positive quarter, in large part the gains in mortgage servicing and gains on sales of mortgage loans. While we expect our residential refinanced pipeline to wane in the first quarter, we should benefit from an increase in servicing gains along with stronger purchase activity in the second and third quarters.

Our deposit base remains very strong and we achieved good growth in core checking throughout the year and we continue to see improvement in our deposit mix. Core deposits now represent 72% of our deposit base, up 2% from a year ago.

Our liquidity position remains strong and we continue to have no reliance on broker deposits. With a sizeable securities portfolio and stable deposit base, we're well-positioned to strategically grow our loan portfolio in the coming quarters.

Overall, we feel we made good progress in the quarter, improving our balance sheet at a number of levels. While our loan pipelines aren't where they need to be, they are getting healthier and we're encouraged by our business development efforts.

Economic activity is slowly improving in our core markets and we really appreciate the support of our shareholders, customers and employees during these challenging times. That concludes my comments.

And I'll turn it over to the moderator for any questions.

Operator

(Operator Instructions) And our first question comes from the line of John Barber with KBW.

John Barber - KBW

I was wondering if you could talk a little bit more about the expense outlook, particularly as credit-related cost fall out of the run rate?

Douglas Cheatham

Well, John, there are number of things that have been coming down. We expect to see a decline in FDIC insurance.

You can see our general bank insurance was down over $1 million in 2013. We've had a material decline in legal fees, and of course, the OREO expenses are going down pretty rapidly.

There are number of areas, where when you are in a stressed situation that the expenses ratchet up on you, and those things are working in our favor at this point in the cycle as things continue to improve.

John Barber - KBW

And my other question was just related to loan growth you saw this quarter. How much of that came from existing customers versus new customers?

And also have you seen an increase in utilization rates?

William Skoglund

John, I'd say that three quarters of that came from new relationships to the bank. We did have just some seasonality in the fourth quarter.

You do you see a little bit of line utilization. But the primary driver for the growth was the acquisition of new client relationships that we've been cultivating for a number of quarters.

Operator

Our next question comes from the line of [indiscernible] with Trishield Capital Management.

Unidentified Analyst

So just real broadly, following the announcement from the Federal Reserve today that you guys are or if they're terminating the enforcement action? Do you see any material difference whether in operations or strategy going forward?

William Skoglund

No. Well, first of all with the Consent Order off and now the Fed order off, it release some regulatory issues from our side, but strategically I don't see us doing a lot of things differently.

Unidentified Analyst

To what degree, is this really a material change?

William Skoglund

Well, the biggest one was when they Consent Order off, they tend to regulate the bank, the Fed and the Bancorp. So I think the biggest material one was the Consent Order from the OCC, but from the Fed, it doesn't restrict us so much in some of the things we might do.

Unidentified Analyst

So the bottomline is it's pretty immaterial.

William Skoglund

Pardon me?

Unidentified Analyst

I said so the bottomline is, this is pretty immaterial.

William Skoglund

Well, we think its material, because it's another relief from the regulatory side, and it's a good time that we're recovering. So we think it's that part that was immaterial and moves us another step towards being able to do things that we've been restricted to do in the past.

Unidentified Analyst

I guess that's what I was getting at is what those activities would be?

William Skoglund

Well, in the past we were restricted in certain things that, I don't know if I can get into the exact things that the order said. I am not sure, if we should do.

Maybe we could research that and talk offline a little bit more, I'd like to about that. But it's just part of the healing process.

I mean we don't have as many exams. You don't have to ask them for a permission to do as many things, but I don't think it's changing the way we're doing business too much right now.

So I would not say it's not immaterial, but it's certainly a positive step. And I don't know how much we can talk about that regulatory order over the phone, and so I'm not sure of that.

Douglas Cheatham

And I'd summarize it by saying that it's a public acknowledgement of the progress that we've made. I mean we may not change anything operationally because this is a public statement that people can see, so from that standpoint it's definitely a good thing, but do we change operationally what we do the next day, no, not at all.

Operator

And it seems we have no further questions at this time. I'd like to turn the floor back over for any closing comments.

William Skoglund

Well, again, we feel like it was a good quarter. We're continuing to move in the right directions.

And we appreciate every ones loyalty and patience and hard work from all our employees that we're getting there. And so again, thank you for calling.

Operator

Thank you. This concludes today's teleconference.

You may disconnect your lines at this time. And thank you for your participation.

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