Earnings Call Transcript - RBB Q1 2020

Operator, Operator

Good day, and welcome to the RBB Bancorp Earnings Conference Call for the first quarter of 2020. My name is Kevin, and I'll be your operator today. This call is being recorded and will be available for replay through April 28, 2020, starting this afternoon, approximately 1 hour after the completion of this call. I would now like to turn the call over to Mr. Larry Clark, Investor Relations for the company. Please go ahead, Mr. Clark.

Larry Clark, Investor Relations

Thank you, Kevin. Good day, everyone, and thank you for joining us to discuss RBB Bancorp's financial results for the first quarter of 2020. With me today from management are Chairman and President, CEO, Alan Thian; EVP and Chief Financial Officer, David Morris; EVP and Chief Credit Officer, Jeffrey Yeh; and EVP and Director of Mortgage Lending, Larsen Lee. Management will provide a brief summary of the results, and then we'll open the call up to your questions. During the course of this conference call, statements made by management may include forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Such forward-looking statements are based upon specific assumptions that may or may not prove correct. Forward-looking statements are also subject to known and unknown risks and uncertainties and other factors relating to RBB Bancorp's operations and business environment, all of which are difficult to predict and many of which are beyond the control of the company. For a detailed discussion of these risks and uncertainties, please refer to required documents the company has filed with the SEC. If any of these uncertainties materialize or any of these assumptions prove incorrect, RBB Bancorp's results could differ materially from its expectations as set forth in these statements. The company assumes no obligation to update such forward-looking statements unless required by law. At this time, I'd like to turn the call over to Alan Thian. Alan?

Alan Thian, CEO

Thank you, Larry. Good day, everyone, and thank you for joining us today. I will start by providing a company update, and then David will discuss our first quarter financial results. The COVID-19 pandemic has created extreme challenges in our country and the world. The physical and financial health of our customers, investors, and employees are our foremost concerns. We are committed to helping our local businesses and the communities we serve during these difficult times. We expect to grant loan deferrals to our customers who need temporary relief, and we'll partner with the Small Business Administration to offer loans to affected clients through the Payroll Protection Program. First, we have fully implemented our company-wide business continuation plan, so that we may continue to operate our business while keeping our employees and clients safe and healthy. We are offering work from home options, and about 41% of our workforce is currently working remotely. For those who are continuing to come into the office, we have teams working in shifts and are practicing social distancing between employees. We are also conducting most of our meetings over the phone and online. We are working with all of our customers affected by this crisis to provide them guidance and help review their options. We have contacted powers across several business lines and provided payment deferrals to many. As of last week, we have extended payment relief on $257 million loans across our entire $2.3 billion loan portfolio, representing 10.7% of the total. We have granted $186 million of these payment deferrals to our commercial customers and $71 million to our single-family residential mortgage borrowers. However, it is too early in the stage of this economic slowdown to determine how many of our customers will ultimately need payment deferrals. We are very focused on monitoring and responding to our customers' needs in the near term. We believe that by helping them get through this situation, we are both helping the country and creating a strong bond with our clients. This should also help us bring new business to the bank over the long term. I'm generally pleased with our first quarter financial performance and the healthy underlying fundamentals of the company. We plan to continue to originate new loans across all of our business lines in a disciplined manner, and we remain focused on maintaining strong liquidity to help our existing customers continue to operate through this crisis. We will also continue to execute on our strategic goals by growing our franchise organically within our existing markets and by expanding our franchise beyond our existing markets. I want to thank the entire RBB family for their devotion to our customers and their hard work as we manage through this pandemic. There's a good amount of work ahead, but I'm confident that our bank will emerge from this event a stronger organization. Before I turn the call over to David, I want to say a word about our dividend. In the past 2 years, we have strived to pay out a portion of earnings in the form of cash dividends. Last year, that amounted to a payout ratio of approximately 20%. Given our lower earnings in the first quarter and uncertainty about the remainder of 2020, the Board decided that it was prudent to declare a $0.06 per share dividend this quarter, down from $0.12 last quarter. Further dividends will be decided upon by the Board on a quarterly basis and will mainly be based on our view of the earnings potential of the company. I will now turn the call over to David for discussion of first quarter results. David?

David Morris, CFO

Thank you, Alan. We have provided a great level of detail in our press release, so I'm going to focus on those items where some additional discussion is warranted. In general, the pandemic impacted our results through lower organic loan growth and an increased provision for loan losses, but our overall credit quality remained relatively stable and our operating expenses were in line with our expectations. Our total loans were up just over $200 million during the quarter, but this was primarily driven by our acquisition of Pacific Global Bank, which accounted for $172 million of the increase. We also transferred $13 million in single-family mortgages on a net basis to the available-for-sale bucket as part of our ongoing balance sheet strategy. Total single-family loan production in the first quarter was $112 million, down from $126 million in the fourth quarter. Payoffs and paydowns were also modestly lower in the first quarter. We sold just over $100 million of mortgages in the first quarter, down from $162 million in the fourth quarter. $32 million were sold to Fannie Mae and $69 million were sold to private investors. Going forward, we still expect to sell some of our residential mortgage production each quarter, but it will depend on market conditions and our production levels. And as Alan mentioned, we plan to continue making new loans in a disciplined manner. However, given the uncertainty surrounding the economy, we likely won't see enough demand to reach our previous target loan portfolio growth for the year, at least in the short term until the impact from the pandemic begins to subside. Now turning to deposits. Total deposits, excluding broker deposits, increased by $221 million during this quarter, mainly due to our acquisition of PGB, which accounted for $187 million of the increase. Noninterest-bearing deposits increased by $46 million and our nonmaturing interest-bearing deposits increased by $34 million. Brokered CDs declined by $34 million. Our average cost of interest-bearing deposits was down 21 basis points in the quarter. We experienced lower costs on both our nonmaturing deposits and our CDs given the lower interest rate environment. Going forward, we expect the cost of our deposits to be modestly down as the gap between the rates that we pay our new CDs and rates we pay on maturing CDs continues to work in our favor. Moving on to the net interest margin. On both a reported basis and adjusted for purchase discount accretion, NIM decreased by 12 basis points from the previous quarter. Our NIM was negatively impacted by a 26 basis point decrease in total earning asset yields, only being partially offset by a 23 basis point decline in total interest-bearing liability costs. The decline in asset yields was partially driven by a buildup in liquidity heading into a period where we will likely be facing meaningful downward deferrals in our loan portfolio. Going forward, we believe that our net interest margin should be relatively stable to slightly down, but it depends on a number of factors that are very hard to predict at this point, including the direction of loan yields and the level of excess liquidity that we will carry on our balance sheet. Turning to noninterest income and expenses. Our noninterest income was down in the first quarter, mainly due to fewer loan sales in the quarter, as previously discussed. Our total noninterest expense was up from the fourth quarter, but all due to the PGB acquisition; we actually had lower travel, marketing, and business expenses as we maintained our focus on controlling our costs. Starting in the current quarter, we expect to begin to see the cost savings associated with the PGB merger. In addition, we have already closed a branch in the New York region, plan a second branch closure in the New York region at the end of the year, plan to close 1 branch in the LA region, and plan to open a branch in Edison, New Jersey in the second half. We have also canceled the sale of the Brooklyn operations center until after the COVID-19 crisis has passed. Going forward, our total noninterest expenses should decrease slightly as we close difficult branches and continue to merge redundant systems. However, loan collection expenses may increase depending upon the severity of the economic downturn. Shifting to income taxes. Our effective tax rate for the quarter was 33%. Including the impact from the exercise of stock options during the quarter, we anticipate an effective tax rate between 30% and 33% for the full year of 2020 and between 30% and 33% for the second quarter, including the impact of the stock option activity that we may experience from quarter to quarter. Now turning to our asset quality. Our nonperforming loans increased by $7.3 million during the quarter as we placed 2 SBA, 6 C&I, and 4 residential mortgages on nonaccrual at the end of the quarter. The 2 SBA loans total $3.6 million and are secured by $2 million in real estate collateral, and $1.9 million of the $3.6 million is guaranteed. The C&I loans totaled $1.9 million, and the mortgage loans totaled $1.6 million, and we feel that there is sufficient collateral value supporting these loans, so we don't believe that any impairment exists. During the quarter, we had $631,000 in net charge-offs related to the 2 SBA loans discussed earlier. Our provision for loan losses was $1.9 million for the first quarter, up $659,000 from the fourth quarter. The increase was due to higher loan balances, an increase in past due loans and nonperforming loans, and the expected impact of COVID-19 pandemic. Our allowance for loan losses stood at 0.84%, total loans held for investments down from 0.86% at the end of the year. It's impossible at this time to determine what impact the COVID-19 induced economic slowdown will have on our asset quality. We have provided a table in our earnings related earnings release that lays out the exposure we have to borrowers in certain industries that are deemed to be at risk to the effect of this public health crisis more than others. Our largest exposure is to general retail and mixed-use commercial properties at just over 11% of our total loans, and while we do have exposures to hotels and motels, the non-SBA portion of the exposure only represents 2.5% of our total loans. Our capital levels remain strong, and we believe that we have the liquidity to help our clients weather the storm. We also believe that we will emerge from this as a stronger company, well positioned in the pursuit of our long-term goal of growth and value creation, both organically and through strategic acquisitions. With that, we are happy to take your questions. Operator, please open the call.

Operator, Operator

[Operator Instructions] Our first question comes from Tyler Stafford with Stephens.

Tyler Stafford, Analyst

I wanted to start on the dividend cut. I was quite surprised to see that last night, particularly given just how much capital you guys currently have with the total risk base of about 22%. So can you help us better appreciate why the Board made the decision to cut the dividend now given that robust capital position in addition to the growth expectations being a little bit more tempered for the remainder of the year, which would obviously help capital as well? Just curious what the thought process was there on what you guys are seeing to warrant that.

Alan Thian, CEO

Well, good afternoon, this is Alan. We had a very lengthy discussion with the Board during our last Board meeting. We realized that we have a lot of capital, we have a lot of liquidity, and our debate was how much we should give back to our shareholders at this juncture. As I reported earlier, our formula is that we are looking at a 20% cash payout of our earnings, and that's one of our grounds for determining how much we should pay. Then the second thing to consider is that even though we pay out quarterly, we are really looking at an annual dividend as a whole of $0.48. So by looking at this pandemic, and seeing it could be a larger crisis, we talked about previous crises from 1982 with high prime rates to the RTC in 1990, and the subprime lending crisis in 2008. At this point, it is very early in the situation. We do not have a crystal ball to see how this crisis will evolve. Therefore, we thought it responsible to reflect caution and to show concern. This was to demonstrate that we believe this could become a serious crisis, starting by cutting up to half, which reflects the 20% payout of our first quarter earnings. With the intention that if the second and third quarters show improvement, we intend to make up the shortfall of what we are paying in the first quarter. To clarify, this is not something that we believe is a permanent cut. We believe this is just reflecting our response to any potential negative impacts in the short term. However, when things return to normal, we will compensate for what we have cut this quarter.

Tyler Stafford, Analyst

Okay. Got it. Did you say over a 4-quarter basis, you're looking at a cumulative $0.48 dividend?

David Morris, CFO

When we talked about it at the beginning of the year, we looked at what we thought we would pay based upon our formula. And we thought for this year, with the 4 quarters, we would be paying $0.48.

Tyler Stafford, Analyst

Okay. All right. Got it.

David Morris, CFO

So that's...

Alan Thian, CEO

So this is just a first quarter reaction that we respond to the possible negative impact on us.

Tyler Stafford, Analyst

Got it. I also wanted to ask about the reserve levels. I saw that part of the provision and reserve was around COVID. I was just curious if you could quantify how much of that qualitative factor for COVID-19 impacted the provision and the reserve this quarter? And secondly, where are you comfortable running that reserve ratio in this environment should it come down a basis point or so? Would you expect that to remain around here, or should we expect to see further reserve build as we move throughout 2020, given the macro environment?

David Morris, CFO

Okay. Right now, Tyler, there's a 2-basis point qualitative factor put in for COVID-19 over all of our loans, not just over the affected groups. We will be looking at our ALLL in greater detail at the affected group level to determine if we need to raise that acute quantitative factor in those affected areas and maybe decrease it in other areas, number one. Number two is, we do expect to put in more reserves definitely in the second quarter. The third quarter, we do not really know yet. So we're going to play this quarter to quarter. We don't have enough information. If things look different by July 30, and if all those deferrals that we've granted for 3 months pay by July, we know our answer. If they don't pay, we will know our answer too.

Tyler Stafford, Analyst

Okay, okay. Lastly for me, I saw you guys built liquidity this quarter. I'm just curious if you're planning to build further liquidity also given the macro backdrop?

David Morris, CFO

Now what we're investing in that liquidity are everything that's short term or a floating rate with a minimum of a floor. So we do not expect to put on more liquidity really. It all depends on what our loan growth is versus loan sales. And our loan sales right now don't look that promising. We can definitely sell directly to Fannie Mae through the flow system that we have, but we can probably sell to a couple of banks as well. But we don't have any other plans to put on another $150 million in liquidity. We think that's enough.

Operator, Operator

Our next question comes from Kelly Motta with KBW.

Kelly Motta, Analyst

I think maybe following up on loan sales, turning to the SBA portion of that. I know in your release, you mentioned the PPP loans, which I assume are kept on the balance sheet. I was wondering with the backdrop and focus on PPP, should we be taking out SBA 7A gain on sales as well?

David Morris, CFO

I think you should take out gain on sales on SBAs right now, yes. For at least this quarter, okay? Because, I mean, our SBA team is just completely inundated with PPP loans.

Kelly Motta, Analyst

Got it. Do you have a magnitude of kind of the interest there? Were you able -- we've heard how popular the program has been. Were you selectively going out to your customers and getting that, or do you just have a big backlog for pushing through more loans as we potentially get another batch of funding here?

David Morris, CFO

Okay. We originally went out to our clients and said, 'Okay, we're open for PPP.' We received about 150 applications, of which we got 117 approved by the SBA before it stopped. So we still have those 35 in the pipeline, and we believe we'll be able to do about another 65 to 100 loans before the money runs out again. We weren't like some lenders who opened it up to everybody; we focused on taking care of our customers first and then going to the rest of the world second.

Kelly Motta, Analyst

And how should we be thinking about the rate at which these pay off? Do you expect most to be forgiven? And does this roll off in 2Q or 3Q? And these fees, just to clarify, they should run through NIIs, is that right?

David Morris, CFO

So we expect them to pay off relatively quickly because I would hope most would be forgiven, okay? So within a year. And it’s only a 1% interest rate, so it’s basically coming out of the excess liquidity we have right now.

Kelly Motta, Analyst

Okay. And then the upfront SBA fees, are those running through net interest income over the life of the loan? Have you figured that out yet for how we should be modeling that when we model those fees for you guys?

David Morris, CFO

We haven't even thought about that yet, Kelly.

Operator, Operator

Our next question comes from Tim Coffey with Janney.

Timothy Coffey, Analyst

David, to follow-up on that last question about how you plan to fund the PPP loans. Are you planning not to use the facility, but your own liquidity?

David Morris, CFO

We don't need the liquidity, so why should I borrow right now?

Timothy Coffey, Analyst

Great. Okay. Yes, I just wanted to make sure I understood that correctly. And then the FHLB line that you took down during the quarter, was that fixed rate?

David Morris, CFO

Yes, it is. For 5 years. Hey, Tim, I just want to make sure you realize, I am going to pledge those loans to FRB, just in case I do need to have liquidity, okay?

Timothy Coffey, Analyst

Right. Yes. Okay, no, we understand. And then the kind of what we call, on-balance sheet loan growth or organic loan growth, the non-PPP stuff. What are you thinking that's going to look like this year?

David Morris, CFO

Well, right now, we will probably -- we did about $52 million last quarter in CRE, and we'll probably do about the same or between that and $70 million, okay, is what we're looking at. On mortgages, we see our production probably going down to about $25 million to $30 million a month at most right now, and that may regain after the crisis subsides.

Timothy Coffey, Analyst

Okay. Sure. And then did you have what kind of fair value marks you took on the acquired loan portfolio for this quarter? Or how should we think about kind of what the discount on those loans is?

David Morris, CFO

Well, the loans are pretty short term. They mature within 2 years. Our marks were in the range of 1% to 1.2%. We actually increased the probability of default on almost all of them to get to that point because the standard model was a little bit less than that.

Timothy Coffey, Analyst

Okay, okay. Great. And then just looking at the inputs to expenses this next quarter. You mentioned you have the possibility of loan collection fees going up, but did you also run overtime to work through the PPP loans?

David Morris, CFO

Yes, we had some overtime for our PPP, but it's not going to be huge because most of the people that were working on them are officers. About $21,000 in overtime.

Operator, Operator

Our next question is actually a follow-up question from Kelly Motta with KBW.

Kelly Motta, Analyst

Sorry, David. I have a follow-up question on expenses, but I don't know if I cut you off.

David Morris, CFO

Go ahead. What's your follow-up question?

Kelly Motta, Analyst

I was just hoping you could remind us about the cost savings you expect to get from PGB and how we should think for the trajectory of realizing that throughout the year? Should most of that come on now that you completed the conversion late in the quarter?

David Morris, CFO

Okay. Our system expenses should begin to show in the second quarter. We will -- and manpower expenses should begin to show in the second and third quarter in PGB. Any reduction in branches, they only have 3 branches, but they own 2 of them. They do have one that's within a block of each other, so that should be pretty quick. That should be maybe next year.

Operator, Operator

I'm not showing any further questions at this time. I'd like to turn the call back over to Mr. Thian.

Alan Thian, CEO

Once again, thank you all for joining us today. We invite you to join our upcoming annual shareholders meeting that will be held by webcast and over the telephone on Wednesday, May 13, at 11:00 in the morning, Pacific Time. Have a nice day.

Operator, Operator

Ladies and gentlemen, this concludes today's presentation. You may now disconnect, and have a wonderful day.