Earnings Call Transcript - DCOM Q3 2021

Operator, Operator

Good day, and welcome to the Dime Community Bancshares Incorporated Third Quarter Earnings Conference Call 2021. All participants will be in listen-only mode. After today's presentation, there will be an opportunity to ask questions. Please note this event is being recorded. I would now like to turn the conference over to Kevin O'Connor, Chief Executive Officer. Please go ahead.

Kevin O'Connor, CEO

Thank you, Andrew, and thank you all for joining us this morning on our third quarter conference call. With me again are, Stu Lubow, our President and Chief Operating Officer; and Avi Reddy, our CFO. We had a strong quarter with net income of $36.5 million or $0.89 per share. Adjusting for one-time expenses associated with the previously announced branch closures and merger-related items, the net income was $41.4 million or $1.01 per share. Our adjusted ROA was 1.37% and we continue to operate the bank at a sub 50% efficiency ratio delivering on our stated merger goals. Our employees have spent a tremendous amount of time putting together a new organization. Internally, in terms of system conversions and new processes and importantly, externally in terms of working with our customers to ensure the experience has been seamless. I'm happy to report that merger integration is now largely in our rearview mirror, and we are 100% focused on growing our core business. The third quarter loan originations were $465 million at a weighted average rate of 3.56%. These originations were 9% above the prior quarter’s $425 million. Despite higher payoff levels, the production resulted in a net loan growth of the quarter of 4% annualized. Our loan pipeline remains strong and as each quarter goes by, our lending teams are getting more and more comfortable with our new loan origination system and processes. Our focus on growing non-interest bearing deposits has been unwavering, and at the end of the third quarter, DDA represents 36% of total deposits. This high level of DDA and our core funded balance sheet positions us well for the day the FRB raises rates, while also producing strong metrics even in this low rate environment. As you're all aware, there have been several large merger transactions in our marketplace, none of which have actually closed yet. Post-closing of these mergers, we expect there to be some level of fallout and we believe we are extremely well positioned to capitalize on that to continue growing our business. Our non-performing loans remain at low levels and our capital ratios remain strong. We ended the third quarter with a tangible equity ratio of 8.5%. Our low-risk balance sheet, which performs favorably in stress testing relative to the industry, has provided us the opportunity to actively return capital to shareholders. During the third quarter, we purchased approximately $15 million worth of common stock and expect to continue managing our capital over time. We definitely see significant value in our stock given our trading levels, earnings trajectory, and balance sheet profile. Our budget and planning process for 2022 is in full swing and we'll provide more color on our expectations for 2022 at the January earnings call. To conclude my prepared remarks, we had a strong quarter with growth in loans and non-interest-bearing deposits. We continue to believe we have a tremendous opportunity in front of us. We have clarity of mission to be a pure play community commercial bank focused on being responsive to our customers’ needs. At this point, I'd like to turn the conference call over to Avi, who will provide some additional color on our third quarter results.

Avi Reddy, CFO

Thank you, Kevin. Our reported net income to common for the second quarter was $36.5 million. Included in this quarter's results were $7 million in aggregate one-time costs associated with our previously announced branch closures and merger-related expenses. We've provided a table in the earnings release with the three months ended September 30th pre-provisioned net revenue, which on an adjusted basis was $54.7 million compared to $52.7 million for the prior quarter. Our level of pre-tax pre-provision income provides visibility into our ability to produce sustainable 1% plus ROAs regardless of the rate environment. We were able to migrate our cost of deposits lower by 13 basis points in the third quarter. The current spot rate as of today is even lower at approximately 10 basis points. We believe we have an opportunity over the next several quarters to continue to drive down the cost of deposits by a few more basis points as higher-cost CDs roll off and are replaced at lower rates. Importantly, we believe we've removed a significant amount of rate sensitivity from our deposit base, as we have not retained rate-sensitive CDs and money markets. These actions, coupled with a higher percentage of non-interest-bearing deposits than our Metro New York peers, should result in our deposit betas lagging other banks in our footprint when rates rise. The reported net interest margin was 3.20, up eight basis points on a linked quarter. As we did last quarter, we've provided details in the press release on the impact of purchase accounting and PPP. Purchase accounting accretion on loans was approximately $2.5 million in the third quarter. We expect this to moderate to approximately $0.5 million to $1 million for the next couple of quarters. By early next year, we will have most likely run through all of the remaining net accretion from purchase accounting. Beyond that, there could still be a lingering impact on the income statement depending on payoff activity, as some acquired loans are at gross premiums and some at gross discounts. But in terms of the net accretion, it should wind down by the first quarter of next year. The impact of PPP has also been outlined in our earnings release. We only have $900,000 of remaining unrecognized fees on these loans, so we do not expect much noise from this line item going forward. Excluding the impact of PPP and purchase accounting, the adjusted NIM of 3.10 was above our previously telegraphed range as we were able to hold the line on loan pricing and benefited from reductions in the cost of deposits. As you will note on our average balance sheet, in the third quarter we had $880 million of short-term investments earning 26 basis points. We expect these average short-term investment balances to be at least $250 million lower in the fourth quarter as we use excess cash to pay off broker deposits and also reinvest into securities towards the end of the quarter and into the beginning of the fourth quarter. Reducing these average short-term investment balances, which have very limited positive spread, should provide support for the core margin in the fourth quarter. As Kevin mentioned, we will be providing more updates on our 2022 expectations during our January earnings call. But the clear opportunity for us over time is to deploy our cash and securities portfolio into core relationship loans. At the end of the third quarter, cash and unencumbered securities represented approximately 14% of total assets. We're very comfortable operating the bank closer to 9% to 10% related to this ratio and hence think we have $500 million to $600 million of excess liquidity on the balance sheet, which when reinvested into relationship loans provides a clear catalyst for medium-term NIM and NII expansion. We've demonstrated strong originations, and once loan paydowns eventually moderate, the excess liquidity will be absorbed with both NII and NIM growth. Of note, the payoff rate across our real estate portfolios was approximately 23% in the third quarter. When this rate eventually moderates, of course, loan growth will accelerate given our current level of origination. Moving on to credit quality, we had a negative provision in the quarter of approximately $5 million. All else equal and assuming no major changes in macroeconomic conditions, we expect the level of reserve releases seen in the last couple of quarters to moderate, and our provision levels to be driven more by trends and growth in our loan portfolio. Our existing allowance for credit losses of 88 basis points is still above the historical combined levels of the legacy institutions pre-COVID. We feel comfortable with our current reserve levels based on current economic conditions. We expect core cash operating expenses in the fourth quarter to be approximately $49 million. As Kevin mentioned, we're in the middle of our 2022 budgeting process and expect to provide more color on 2022 during our January earnings call. Non-interest income for the third quarter included a couple of items that we don't expect to repeat. First, approximately $315,000 of referral fees on loan originations and approximately $200,000 related to an insurance reimbursement, which both show up in the other non-interest income line item. And approximately $315,000 additional in the bowling line item due to mortality proceeds from a debt claim. Backing out these items, the run rate non-interest income would have been closer to $8.8 million. During the third quarter, we purchased approximately 480,000 shares at $32.18. We believe share repurchases continue to be very attractive given our trading levels, prospects, and strong balance sheets that perform favorably in stress testing. In the month of October, we are on pace to purchase an additional $9 million of stock. Regarding the go-forward tax rate, we're estimating a rate of approximately 27.5% for the fourth quarter. Finally, I'd like to briefly touch upon progress against the two enterprise-wide goals we had laid out at the time of the merger announcement. Our first goal was growing non-interest-bearing deposits to approximately 40% over a three-year time frame. By the end of the third quarter, we have already grown this ratio to 36%. We're definitely doing better than our initial timelines for achieving our goals. The second, equally important goal was managing the bank with a sub 50% efficiency ratio. In this regard, we've operated the pro forma bank at approximately 48%. While PPP and purchase accounting accretion will dissipate in 2022, staying below that 50% mark continues to be a fundamental focus across the organization. With that, I'll turn the call back to Andrew to open it up for questions.

Operator, Operator

We will now begin the question and answer session. The first question comes from Mark Fitzgibbon with Piper Sandler. Please go ahead.

Mark Fitzgibbon, Analyst

Hey, guys. Good morning and congrats on the nice quarter.

Kevin O'Connor, CEO

Good morning. Thank you.

Avi Reddy, CFO

Good morning, Mark.

Mark Fitzgibbon, Analyst

First, Kevin, you mentioned the size of the pipeline was large. I wondered if you could give us some, the actual size of it, maybe the complexion and what the average rate looks like?

Stu Lubow, President and COO

Hey, Mark. It's Stu Lubow. Sure. Right now, the total pipeline is about $1.7 billion. We've got about $1.2 billion in discussion. We had about $225 million in underwriting. And we have about $200 million in loans approved and waiting to close. I will tell you that October was a very strong month. We've closed nearly $200 million in new originations. So far this month, we still have a number of loans to close before the end of the month. So it's very strong. The average yield on that portfolio in the pipeline is about 3.70%.

Mark Fitzgibbon, Analyst

Okay, great. Thanks, Stu. And then I guess I'm curious. Are you out in the market trying to hire teams? And are there any new product plans with the lending side of the business?

Stu Lubow, President and COO

I think we're pretty happy with our products and our lending plans. Although, I will say that we've rolled out a digital product that is focusing on small businesses, small business funding up to $250,000. We've been running that for about six months and we're going to be rolling that out to our website, so that customers can apply right online and get an answer within 24 to 48 hours. So that is part of our plan going forward. It will really streamline some of the work done by our relationship managers on these smaller credits, but also provide better service to our customers. In terms of mergers occurring in the near future, we are talking to a number of individuals from other institutions. As they receive clarity in terms of those deals closing, we'll have some opportunity. But we are getting close to several. At this point, it's a little early given the fact that those deals have not closed yet.

Mark Fitzgibbon, Analyst

Okay. Thanks, Stu. And then, Avi, I guess I'm curious how asset sensitive you think the balance sheet is today? And how you're tweaking that? And then also if you could help us think about the core margin or the reported margin I should say. We know it'll be down from lower PPP fees, but should it slowly start to begin to build off a base in say 1Q?

Avi Reddy, CFO

Yes, Mark. I'll begin with the core margin, which was 3.10 this quarter. As mentioned, we have $880 million in short-term investments at 26 basis points, and you could estimate that this will decrease by $250 million in the next quarter. This should lead to an improving margin going forward. The focus is on reallocating cash balances into necessary securities and, as Stu noted, gradually directing them towards loans. I anticipate an upward trend in Q4 and continued moderate growth into 2022. Regarding asset sensitivity, I recommend checking our upcoming 10-Q filings. If you review our June 10-Q, you'll see that in a plus 100 basis points scenario, our Economic Value of Equity (EVE) increases by 16 percentage points, which stands out compared to any other bank in our peer group. Many tend to focus on plus 100 scenarios and gradual ramps, but it's important to recognize that the entire portfolio will reprice over time. With 36% of our deposits being Demand Deposit Accounts (DDA), it's crucial to consider EVE comprehensively. Comparing our standalone numbers and EVE disclosures with peers will clearly illustrate our greater asset sensitivity relative to other banks in the northeast.

Mark Fitzgibbon, Analyst

Right. And then just lastly, Kevin, I'm curious when you feel like the bank would be in a position to consider more M&A and geographically where you'd be considering things?

Kevin O'Connor, CEO

I think we talked about this last quarter. I think having put all the integration behind us, we've actually gone through a safety and soundness exam in the middle of doing everything else as part of this process. The regulators came in and did a safety and soundness review and I think we passed well. So I think we're there today. We've always talked about contiguous markets making sense for us. Nothing has changed on that point.

Operator, Operator

The next question comes from William Wallace with Raymond James. Please go ahead.

William Wallace, Analyst

Thanks. Good morning, guys. Avi, maybe just real quick circling back to the NIM commentary you just gave on the core NIM. I mean, you were in the low 3.20s in the first half of the year before the PPP sale where you had the excess liquidity. Do you think we could get back there by the end of the first half of next year, so like in the second quarter? Or is there too much other pricing pressures that will offset that?

Avi Reddy, CFO

Yes, we don't provide specific quantitative targets for the next six to twelve months. However, there is a visible upward trend in our net interest margin over time. This will depend on how quickly we reinvest cash into securities. Our goal for loan growth is approximately $500 million to $600 million annually, based on a target of 6% annualized growth. We expect our deposit costs to remain stable until interest rates rise, which could happen in the third and fourth quarters of next year. Even with a potential increase in rates, we anticipate only mild compression in our deposit costs. As we allocate cash and securities effectively, we expect growth. Quarterly results may vary based on our loan portfolio management, but we aim to return to those previous levels, and having our demand deposits and excess liquidity will support us moving forward.

William Wallace, Analyst

Okay. And then, Stu, I appreciate your commentary on loan production and the portfolio yield. But just given all the moving parts, I mean, do we think in the fourth quarter based on the pipeline today and the activity you’re seeing in your markets that we could be on track for that annualized target?

Stu Lubow, President and COO

Yes, we anticipate a strong quarter. We expect several large multi-family packages that we have chosen not to keep to refinance elsewhere. This will slightly moderate our performance as we manage our portfolio and the associated risks. It's difficult to predict precisely at this moment. Under normal circumstances, I would have confidently said yes, but considering the multi-family packages that will be paid off, this will impact our overall growth. However, we remain very optimistic about our long-term growth prospects.

Avi Reddy, CFO

Wally, I just said in the prepared remarks, the payoff rates are around 23% to 24% on the portfolio. In a normalized environment and especially as rates start going up, if you just assume that's 17% to 18% versus 23%, you get to a much higher growth rate for us if it's Q1. I mean, I think Stu's commentary was around Q4, specifically about a couple of packages. We also mentioned in the press release. Look, I mean, we're repurchasing our $9 million of shares in the first month of the quarter and hoping to continue that for the next couple of months here. So we'll manage the capital ratios appropriately to the extent we have some large payoffs come in. But in the medium term, we're definitely reiterating that 6% annual loan growth number.

William Wallace, Analyst

Okay. Avi, you mentioned that core operating expenses are projected to be $49 million. We've been hearing a lot of discussions across the industry regarding real wage pressures and other pricing pressures stemming from supply chain issues. As you assess your expense base, I'm curious if there are any additional cost-saving measures or strategies you might have in place. Could you elaborate on the current expense base, the pressures affecting it, and any potential relief options you have to help mitigate those pressures into next year?

Avi Reddy, CFO

Yes. Wally, I mean, when we're going through our budgeting process, I mean, we feel the same pressures as everybody else. We've hired a lot of new people at the bank. So, it's an ongoing process and decisions we need to make here internally. I think the one thing we've done well in the past is we've promised to operate the bank at a sub 50% efficiency ratio and we're going to figure out a way to be able to do that next year as well. If it means growing the balance sheet slightly faster, we're going to figure out a way to do it. There is obviously some wage inflation and we're feeling it like everybody else. I think we limited the guidance to Q4 right here because we have good visibility into Q4, but we're committed to doing that. At the top of the house, there are only two metrics that matter: growing DDA and managing the bank at a sub 50% efficiency ratio. So we're going to figure it out for next year.

Operator, Operator

The next question comes from Matthew Breese with Stephens Inc. Please go ahead.

Matthew Breese, Analyst

Hi, good morning.

Kevin O'Connor, CEO

Hey, Matt.

Matthew Breese, Analyst

Avi, I wanted to ask about paydowns. You mentioned that it was 23% this quarter, while the typical rate is around 17% or 18%. Are you seeing any indications in the fourth quarter that you're moving towards that more typical rate? Stu, I recall you mentioned there are a few significant payoffs on which you won't be competitive for refinancing. Is there anything else that's moving in the right direction?

Avi Reddy, CFO

Matt, I don't think for Q4 it would be normalized. I think this is just based on our history over different rate cycles. It just feels like as rates start going up a little bit, you do have some customers coming in right now to refinance before rates actually go up, right? So, could it continue into Q1? Sure. But over time, once rates do start going up this is going to normalize. So it's more based on a history of what we've seen. Over time, I don't think we're going to see it be much lower in Q4.

Stu Lubow, President and COO

Matt, I think there's a little bit of pent-up demand. As you know during COVID, there's not a lot of activity, particularly in the multi-family market, because there's a lot of uncertainty there. As COVID issues have moderated, the multi-family sector has basically come back. I think that pent-up demand surfaced in this quarter, and we're seeing the last aspects of that into the fourth quarter. But I think that's the reason and our multi-family was really driving those numbers.

Matthew Breese, Analyst

Got it. Okay. And then, maybe could you discuss where you're seeing origination activity? Is it mostly on the east side of the island? Or are you getting a fair bit of activity in New York City? Is it Brooklyn versus Manhattan? Maybe some color on where the activities are in the Boroughs and Long Island?

Stu Lubow, President and COO

Yes. I mean, I would say east end is steady as always. I think our activity is more west. Our growth activity is more west from Nassau through into the Boroughs into northern New Jersey.

Matthew Breese, Analyst

Okay. And then two other quick ones for me. The first one is just that SBA gain on sales sell this quarter quite a bit. Just curious what happened there. And if we can get back to a more normalized pace of something closer to what we saw last quarter?

Stu Lubow, President and COO

Yes. We have several SBA loans that are expected to yield gains on sales this quarter. I believe that number will return to a typical level in the fourth quarter. Additionally, we have a substantial pipeline in SBA, with over $80 million in loans currently being discussed and approximately $32 million in SBA loans pending closure. Some of these loans are for construction or leasehold improvements, which we do not sell until all funds are disbursed, causing a timing lag. However, we are confident that SBA gains will not only return to normal levels in the fourth quarter but will continue forward as well.

Avi Reddy, CFO

Matt, in the first month of the quarter we've already had more gains than the last quarter already. So just to echo Stu's point.

Matthew Breese, Analyst

Got it. Okay. Last one for me. In total non-accruals, there was a pickup in C&I loans close to $9 million to $10 million. Could you just discuss what happened there? Was it one credit or a few credits? And if it was one, just give us a sense for what happened?

Stu Lubow, President and COO

Yes. It's one credit. It's an individual involved in real estate investing. The loan is actually still current as an individual that has a significant COVID-related business, hotels and whatnot. While the loan remains current, we are working with the borrower to secure that loan. In the meantime, we took a very conservative view of the loan. I will say at this point, it's still paying and current.

Matthew Breese, Analyst

Great. Okay. That's all I had. Thanks for taking my questions.

Operator, Operator

This concludes our question and answer session. I would like to turn the conference back over to Kevin O'Connor for any closing remarks.

Kevin O'Connor, CEO

I just want to thank everybody for participating. I actually want to thank our employees on the call for helping us achieve these great results and look forward to speaking to you all soon. Thank you.

Operator, Operator

The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.