Eastern Bankshares, Inc. Q1 FY2021 Earnings Call

Hello, and welcome to the Eastern Bankshares, Inc. First Quarter 2021 Earnings Conference Call. Today's call will include forward-looking statements about Eastern's future financial and operating results, outlook, business strategies and plans, including its pending merger with Century Bancorp, Inc., along with other opportunities and potential risks that management anticipates. These forward-looking statements reflect management's current estimates or beliefs and are subject to known and unknown risks and uncertainties that may cause actual results or the timing of events to differ materially from those expressed or implied. Listeners should consult the disclosures under the Forward-looking Statements section in the earnings press release, as well as the risk factors and other information in the company's recent filings with the Securities and Exchange Commission for more details about these risks and uncertainties. Any forward-looking statements made during this call represent management's views and estimates only as of today. While the company may choose to update forward-looking statements in the future, it specifically disclaims any obligation to do so, even if management's views or estimates change. You should not rely on these statements as representing management's views as of any date after today. During the call, the company will also discuss certain non-GAAP financial measures. For a reconciliation of these non-GAAP financial measures to the comparable GAAP figures, please refer to the company's earnings release available at investor.easternbank.com. Please note that this event is being recorded. Thank you.

Good morning, and thank you for taking the time to join us today. I hope you and your families are well and looking forward to the summer months ahead, especially as vaccinations rise and our ability to enjoy the activities we have in the past increases. Joining me today on the call is our Chief Administrative Officer and Chief Financial Officer, Jim Fitzgerald. At Eastern, we are very pleased to share with you our first quarter 2021 results. We are reporting our highest-ever quarterly earnings, coupled with continued strong deposits and solid commercial loan growth due to PPP lending in the wake of the announcement of the largest bank acquisition in our history and our 33rd acquisition of an independent insurance agency since 2002. And earlier this month, Eastern was a lead investor in a fintech fund designed to help accelerate technology adoption at community banks across the United States. We believe that we are well on our way to another year of first for Eastern. In addition to Eastern's 203rd anniversary in business, we recently marked our sixth month as a public company during which we announced an acquisition that we believe will solidify Eastern's leading position in the Greater Boston area. The $642 million purchase price for Century Bank, almost 4 times that of any prior acquisition in our history, is validation of our commitment to use the capital raised from our IPO to undertake opportunities to significantly scale our company to better serve our customers over time. Recent events have also validated the timing of our conversion in the acquisition of Century. In the months preceding our announcement of the Century acquisition and since, we continue to see transactions indicating a new wave of consolidation in our industry that has been driven by a similar rationale and a recognition that investments in technology and talent will ultimately determine long-term sustainability and relevance. As such, we have a strong sense of urgency to build our position in a market whose share leaders have remained relatively unchanged since the acquisition of Fleet by Bank of America almost 20 years ago and believe we are well positioned with the capital, resources, and talent to achieve our goals. Of course, for now, we are singly focused on the conversion and integration of the Century. Related work streams and regulatory applications are on track, and we are expecting a smooth process with the closing and conversion targeted for mid-November. We will provide another update during our second quarter earnings call. Amidst all of this, we remain mindful that the economy is still recovering and our communities are still hurting. We continue to be an outsized participant in the Paycheck Protection Program, originating approximately 4,700 PPP loans for $453 million during the first 3 months of this year, representing more than half the number generated during all of 2020. And we continue to be a leading voice on behalf of racial justice at a time when businesses are called upon to speak out more than ever before. These efforts, along with our significant ongoing philanthropic commitment, are among the many reasons why Eastern Bank earned its highest-ever score in J.D. Power's recently published 2021 Customer Satisfaction Index, the highest among Massachusetts banks listed and the sixth highest in the United States. Of course, we could not do all of this and more without the incredible efforts and commitment of our 1,900 employees. I want to thank them for their continued hard work and many contributions, which propelled us to another stellar quarter. Once again, thank you for your interest in Eastern. And with that, I'll turn it over to Jim for an in-depth review of our first quarter financial performance.

Great. Thank you, Bob, and good morning, everyone. As Bob mentioned, we're very pleased with these first quarter results. I believe they demonstrate progress on our goal to improve our overall financial performance. We acknowledge that there are several items specific to this quarter that may not necessarily persist in the future. In addition to our comments in the press release and the presentation, I'll provide some descriptions of those items along with a focus on our core earnings trends. I will also share some comments on our overall outlook before taking questions. I'll start with net interest income, which was $101.4 million in the first quarter, down $3.5 million from the prior quarter and approximately flat from a year ago. There are several points to highlight. Last quarter included a favorable nonrecurring item of $3.8 million and two additional business days in Q1. This quarter featured $8.3 million of PPP fee accretion compared to $6.1 million last quarter, driven by $241 million in loan forgiveness. We added over $800 million in investment securities in the first quarter, but were only able to reduce our cash position by about $200 million due to strong deposit growth of $800 million. Our net interest margin on a fully tax-equivalent basis was 2.71% for the quarter, down 13 basis points from the prior quarter. As we previously stated, the negative impact of lower interest rates is significant for us, especially with the capital we raised in 2020 and the increased liquidity stemming from that capital raise along with significant core deposit growth over the last year. We continue to invest excess cash into the securities portfolio to help stabilize the margin over the medium term and rely on fees generated from the PPP program for short-term support. We hope you check the reconciliation of the non-GAAP core margin included in the appendix as it provides useful insight into how excess liquidity and the PPP program have affected our margin over the past year. Moving to noninterest income, it was $55.2 million for the quarter compared to $49.6 million last quarter and $33.4 million a year ago. We believe it's beneficial to look at the non-GAAP operating revenues we included in Appendix B on Page 22 of the slide deck to better understand these revenues without the impact of certain noncore items. Operating noninterest income was $52.2 million in the first quarter compared to $44 million last quarter and $40 million in Q1 of 2020. A key driver of the increase over Q4 was our insurance revenue, which was $5.7 million higher due to seasonal payments we received early in the year. For a visual representation, please see Page 9 of the presentation, where Q1 revenue a year ago was $27.5 million before declining to $22.7 million in Q2. Our insurance revenue in the first quarter was 2% higher than in the same quarter last year. We expect this seasonal pattern to continue as it has in previous years. Another significant contributor to the increase in noninterest income was our loan level interest rate swap portfolio, recorded at fair value. While we run a matched book, there's a credit component to our customer-facing swaps that positively correlates to changes in interest rates. Swap revenue was $5.4 million in the quarter, approximately $3 million more than the prior quarter, primarily due to higher interest rates at the end of the first quarter. During the first quarter of 2020, when interest rates dropped sharply, we recorded negative swap revenue of $6 million due to the fair value process. Other fees were generally in line with prior results. Noninterest expense was $94 million in the quarter compared to $199.1 million in the prior quarter. As noted, if we exclude the large donation made to our charitable foundation in connection with our IPO in Q4, noninterest expense for that quarter would have been $108 million. Expenses were modestly lower compared to the year-ago level of $95 million. Similar to my comments on noninterest income, I encourage you to look at the non-GAAP reconciliation of operating expenses on Page 22 of the presentation appendix. In that context, noninterest expense was $92.5 million in Q1 compared to $101.8 million in the prior quarter and $98.4 million a year ago. The current quarter included higher expense deferrals due to PPP originations of $1.8 million compared to Q4, alongside lower incentive compensation of $3.9 million. These were slightly offset by payroll taxes, which were $2.3 million higher than Q4. We are focused on improving our efficiency ratio, and I believe this past quarter shows that focus and progress. While we do not think the efficiency ratio reported for the quarter is sustainable, we will continue to work on improving the core components going forward. Our pension expense is a sign of the progress we've made. While it may not be directly reflected in the results, the net associated expense is down $1.5 million from the prior quarter due to the pension changes we made last year. Asset quality remained stable in the quarter. Key metrics like nonperforming loans, loan charge-offs, and COVID modifications were relatively unchanged or showed improvements in Q1. We continue to engage with our customers and are impressed with their performance during the pandemic. Like everyone else, we're eager to see how the post-vaccine world unfolds and the effects of an improving economy. We've added a new section on our PPP lending on Page 15 of the presentation, an area where we believe we've performed very well. By the end of March, we originated $453 million in PPP loans in 2021, alongside the approximately $1.2 billion originated last year. We expect to close an additional $150 million, which is currently in our pipeline. The presentation differentiates the 2021 originations from the 2020 ones, showing fees collected and not yet recognized for both. Predicting the pace of forgiveness is challenging, but we expect the majority of the 2020 originations to be fully forgiven or paid off by the end of this year and a significant portion of the 2021 originations to be forgiven or repaid by the end of this year or in 2022. We've also included a distribution of PPP loans by industry on Page 15, which reflects the diversity of our customers and the market we serve, showcasing the strong diversification of our lending. Loan growth in the quarter was primarily concentrated in PPP loans. Excluding PPP loans, commercial loans were flat quarter-over-quarter, with a small increase in residential mortgages and continued runoff in consumer loans. The consumer runoff is due to our discontinued auto portfolio, which is currently in runoff mode, along with pressure on home equity loans. A page in the presentation outlines our full-year 2021 outlook on Page 18, based on the assumption that the economic recovery continues and net interest rate levels remain stable. This outlook does not factor in the impact of the Century acquisition, which we reviewed a few weeks ago. Net interest income largely depends on PPP interest and fees and the pace of forgiveness. As previously mentioned, we expect the 2020 PPP originations to be nearly fully paid off or forgiven by the end of 2021, with a significant portion of 2021 originations expected to be forgiven by the end of this year or into 2022. We anticipate our net interest income, excluding PPP interest and fees, to range between $360 million and $370 million in 2021, with PPP interest and fees estimated between $30 million and $40 million. Regarding loan charge-offs and loss provisions, we exclude PPP loans. For loans excluding PPP, we expect charge-offs and loss provisions to range between 10 and 15 basis points for 2021. Operating noninterest income is projected to be between $180 million and $190 million for 2021, and operating noninterest expenses are expected to be between $390 million and $400 million for that year. Our effective tax rate is anticipated to be between 22% and 23% for 2021. As stated, we expect commercial loans to decline due to PPP forgiveness and payoffs. In the core non-PPP commercial loan portfolio, we foresee loans remaining stable in the short term, followed by modest growth as we move into a post-vaccine environment later in the year. Our pipeline for commercial loans stands at around $550 million, approximately $100 million higher than at the end of 2020. We expect similar trends in our residential and consumer portfolios as we experienced in Q1, with modest growth in residential and a reduction in consumer loans due to the auto runoff and decreased home equities. In conclusion, although we recognize the challenging current environment and the uncertainty surrounding economic recovery, we are optimistic that our financial progress, the core strength of our customer base, and the expense combination will position us well to generate sustainable core earnings growth. Thank you, and we are now ready for questions.

Your first question comes from Damon DelMonte of KBW.

So my first question regarding loan growth. Could you guys just talk a little bit about what areas like geographically as well as within the loan portfolio that you think will soon produce some net growth for you guys as we go through 2021?

Sure, Damon, happy to. As you know, our main strength is in commercial lending, primarily in our core markets. We do some out-of-market lending, but for your question, we're focused on Eastern Massachusetts and Southern New Hampshire. Activity is looking good, with our pipeline up by $100 million since the end of the year. We are seeing strong and improving activity levels. We anticipate modest growth for the rest of the year in both commercial loans and commercial real estate in that area. Growth has been slow to materialize, but activity levels are solid, and our pipeline has expanded. We expect growth similar to what we experienced in 2019 and 2018 in terms of loan categories and geography.

Got it. Okay. That's helpful. And then with respect to the outlook for net interest income for the year, obviously, margin remains under pressure. Core margin remains under pressure just given the dynamics of the market right now. Could you give us a little perspective as to where you think that will kind of bottom out this year?

Sure, Damon. It's challenging to assess this because, as we've mentioned, the liquidity we have from last year's capital raise and our strong deposit growth means we are in a better position. However, having excess liquidity can be more of a burden in the current environment. Therefore, it's hard to provide new insights beyond what we've already shared, which is that it's a tough market. We are making modest investments in our securities portfolio, which we believe will benefit us in the medium term by slightly improving our yield as cash flows into these investments. The PPP loans have certainly been beneficial. However, with interest rates remaining low, our core margin continues to decline, and we do not anticipate that trend to reverse in the near future.

Your next question comes from the line of David Bishop of Seaport Global Securities.

Noticed within the release on a point-to-point basis, looks like business banking, loan growth was pretty strong. I'm just curious, maybe some commentary, what drove the strength in the first quarter there.

It's the PPP loans, David. I think we're very strong in what we refer to as business banking. In small business lending, we've been the leading SBA lender in both Massachusetts and New Hampshire for several years. It's an area where we excel. The PPP opportunity is one we've truly capitalized on, and that's where all the loan growth comes from.

We're going to classify there. Got it. And then sort of circling back to the last question in terms of the deployment of excess liquidity into securities, just curious what you're seeing in terms of onboarding new securities investment yields, which you're able to onboard those at.

It's hard, David, because rates are moving. As we would have given you a month ago, it's different than I'm probably going to give you in a second here. It's below 1%.

Okay. And then the near-term outlook continues to be redeployment from net excess cash back into securities. Is there sort of a target level in terms of balance sheet you're hoping to get to over the near term in terms of securities to assets? How should we think about that as a percent of the assets or any assets?

Sure. As you can see, what makes that hard is we've had great deposit growth. So 90 days ago, we sat here both and said we were going to invest $300 million to $350 million a month in securities, which basically we did. And our cash position didn't really go down very much because we had offsetting deposit increases, which we're very happy about in the long term. So we don't really have a target that way, David. I think we're going to continue to do what we've been doing. And then as we get closer to the Century acquisition, we'll talk about that more. But obviously, that is a major component to our thinking as we get closer to that transaction.

Got it. And then I appreciate the sort of the color in terms of the expense trends this past quarter. Obviously, a lot of moving parts play into it, and it seems to suggest the guidance. There's a little bit of inflationary pressure into the second half. Just curious where we should expect to model that inflationary pressure from an expense perspective.

Sure. I don't want to misinterpret your question, and I want to ensure I'm addressing it accurately. I believe the guidance we're providing is quite clear and aligns with what we indicated last quarter. One aspect we've highlighted is that the first quarter benefited from the PPP expense deferrals, which certainly contributed positively. However, regarding the guidance, I’m not sure we can provide much more information than we have already shared.

Your next question comes from the line of Laurie Hunsicker of Compass Point.

Jim, I just wanted to go back to your net interest income guide that you gave, very helpful. Did that also assume the Century in there closing at mid-November? Or was that not part of that guide?

That was not. Just to be clear, the guidance that I gave does not include Century. As Bob said, as we get closer, we'll talk more about Century. But we did talk about it a couple of weeks ago, and the outlook excluded Century.

I appreciate the information. On Slide 9, I really like the visual. I wanted to revisit the insurance revenue of $28.1 million noted this quarter under noninterest income. When I adjust for the linked quarter or rather the year-ago figures, subtracting $4.8 million brings me down to approximately $23.3 million as a potential run rate. Additionally, with NorthBridge closing at the beginning of this month, I couldn't find any revenue figures for them. Could you provide more insight into what we can expect for insurance agency revenue this year?

Sure. To start off, Laurie, you're doing a very good job. You figured out what we were hoping to provide you the data to figure out. I think the way I personally think about it is when you look year-over-year, which, in this particular case, I think, is the appropriate one because of the seasonal payments, insurance revenues are up 2%. We think that's good guidance for how the year would play out. The acquisitions that we've done really this year have been very small, really don't change our outlook on that particular line item.

Okay. Okay. And then, I guess, just in terms of insurance agency acquisitions still probably thinking hopefully to do 2 to 4 per year, is that still the target? Or have things shifted?

Yes. No, the pipeline is still very strong, and we would expect the same for this year.

Okay. Great. Regarding deferrals, if you don't have that information, I can follow up with you later. Hotel deferrals appear to be $92 million of your $178 million. I was just curious if you had deferrals in the other three categories of restaurants, retail, and entertainment. If not, I can reach out to you later.

We don't. Given the overall level, the $91 million or $92 million in hotels represents a significant portion of the modifications. That's the only breakdown I have.

Okay. All right. Fair enough. I guess, Bob, last question to you. We last heard from you, obviously, 3 weeks ago with a very exciting acquisition. But since then, the M&A market has just been on fire. So can you sort of refresh us on what your appetite would potentially look like? And certainly, there are less players now in the Boston MSA. But what it would potentially look like? As you are doing this transaction, would you consider another if it comes your way while you're doing this? And just any other sort of viewpoint in terms of the movement we've seen in the last few weeks, would appreciate that.

Sure, sure. First of all, the outlook is the same. Our focus remains the same market area, same size of transactions. The market continues to consolidate as it has over many years, although certainly, we've seen that heat up in recent months. And I mean, certainly, we'd be open to discussing other potential opportunities if they were to come along. But first and foremost, we're very focused on Century. It's a large deal for us relative to size. We want to make sure that we execute it well. And so all resources are very much focused on that and other critical projects that we would normally have in the course of the year. So to be clear, we certainly wouldn't attempt to integrate 2 organizations at the same time. However, to the extent that there were interested parties in having discussions for future dates, we certainly would be open to those.

And there are no further questions at this time. I will now turn the call back over to Bob Rivers for closing remarks.

Great. Well, again, thanks to all of you for participating in the call and listening in. Thanks to all of you who asked great questions, as usual. And wish you a terrific weekend. Look forward to connecting with you again in 90 days or so for our next earnings call. Thanks.

Thank you. This concludes today's conference call. You may now disconnect.