Earnings Call Transcript - UVSP Q1 2022

Jeff Schweitzer, CEO

Good morning, and thank you to all of our listeners for joining us. Joining me on the call this morning is Mike Keim, our Chief Operating Officer and President of Univest Bank and Trust; and Brian Richardson, our Chief Financial Officer. Before we begin, I need to remind everyone of the forward-looking statements disclaimer. Please be advised that during the course of this conference call, management may make forward-looking statements that express management’s intentions, beliefs or expectations within the meaning of the federal securities laws. Univest’s actual results may differ materially from those contemplated by these forward-looking statements. I will refer you to the forward-looking cautionary statements in our earnings release and in our SEC filings. Hopefully, everyone had a chance to review our release from yesterday. If not, it can be found on our website at univest.net, under the Investor Relations tab. We reported net income of $20.3 million during the first quarter or $0.68 per share. During the quarter, we continued to experience solid loan growth as loans grew $112.2 million or 8.5% annualized, excluding PPP loans. In addition to our solid results in the quarter, we are excited to announce our expansion into 2 new markets with the hiring of market presidents for Western Pennsylvania and Maryland as we continue our organic growth strategy. We are excited by the additions of Chris and Matt to the Univest family. While they are experienced commercial bankers, in addition to building their teams, they will be working with all our lines of business and growing and serving these new markets. Additionally, during the quarter, we began the development of a comprehensive digital platform, building off the investments we have been making in technology over the past few years. This digital platform will allow us to be more efficient and less reliant on physical locations in the future as we expand and build out this initiative. While this will be a significant investment, we are confident it will position us very well for the future as customer expectations and preferences continue to evolve. Finally, due to our strong performance and strong capital position, the Board of Directors has declared a 5% increase in our quarterly cash dividend and the repurchase of shares targeted at 150,000 per quarter. While we have been utilizing our internally generated capital to fund growth over the past few years, we are excited that our strong performance, along with our strong capital position is enabling us to increase the value we return to our shareholders. As detailed in our release and my comments, there’s a lot to be excited about at Univest as we continue to grow. This could not be possible without the hard work of the over 900 members of the Univest family. I’d like to thank them for all their efforts serving our customers, communities and each other. I will now turn it over to Brian for further discussion on our results.

Brian Richardson, CFO

Thank you, Jeff, and I would also like to thank everyone for joining us today. As Jeff said, we are pleased with our performance during the quarter. While we incurred incremental expenses totaling $1.6 million associated with our digital transformation, onboarding of new mortgage lenders and costs associated with the customer who was defrauded, our core business performed well during the quarter. I would like to touch on 4 items from the earnings release. First, reported margin of 2.89%, down 3 basis points compared to the fourth quarter. Reported NIM was negatively impacted by 33 basis points of excess liquidity, which averaged $693 million for the quarter compared to $874 million in the fourth quarter. During the first quarter, PPP loans increased NIM by 3 basis points and contributed $591,000 to net interest income. Core margin, which excludes the impact of excess liquidity and PPP was 3.19%, a decrease of 2 basis points when compared to the fourth quarter. This modest decrease is attributable to incremental investment purchases during the fourth quarter of 2021 and the first quarter of 2022, totaling $135 million at a weighted average yield of 1.9%. Assuming the Federal Reserve raises rates by 50 basis points in May, we expect core NIM to expand by approximately 12 to 15 basis points in the second quarter. During the quarter, we recorded a reversal of provision for credit losses of $3.5 million. This was driven by a $5.7 million benefit from changes in economic-related assumptions, offset by provisioning for loan growth and specific reserves. The allowance for credit loss coverage ratio, excluding PPP loans, was 1.27% on March 31 compared to 1.36% at December 31 and September 30. During the quarter, we experienced net charge-offs of $76,000 and nonperforming loans and leases decreased 7.6% from year-end. Third, noninterest income decreased $2.8 million or 12% compared to the first quarter of 2021, which was driven by a $4 million decrease in net gains on mortgage banking activities offset by increases in our investment management and insurance lines of business and our other service fee income streams. Fourth, noninterest expense increased $5.9 million or 14.9% compared to the first quarter of 2021. This includes $779,000 related to our digital transformation project, $488,000 resulting from the inclusion of the Paul I. Sheaffer Insurance Agency, which was acquired on December 1 of last year; $470,000 of guarantees paid to recently hired mortgage producers and $330,000 of expense related to the customer who was defrauded. Excluding these items, expenses increased by $3.8 million or 9.6% compared to the first quarter of 2021. I believe the remainder of the earnings release was straightforward, and I would now like to provide updates to our 2022 guidance. First, as a reminder, during 2021, net interest income totaled $173.4 million when excluding PPP income of $15 million. We had originally guided loan growth of approximately 8% to 9% in 2022, excluding PPP loans, and net interest income growth of 8% to 10%. Our loan growth guidance is being increased to 9% to 10% to reflect the Western PA and Maryland expansion markets and the addition of the previously discussed mortgage producers. We expect this to result in net interest income growth of approximately 15% to 17% off the base of $173.4 million from 2021. This includes the impact of the 25 basis point increase in March and the anticipated 50 basis point increase in May. Each additional 25 basis point rate increase is expected to result in annualized net interest income of approximately $4 million to $4.5 million for the first several increases. Second, 2021 noninterest income included $1.1 million of BOLI death benefits. Excluding these BOLI death benefits, noninterest income totaled $82.1 million for the year. We had previously expected noninterest income growth of approximately 1% to 3%. We now expect noninterest income for the full year of 2022 to be flat to slightly down. This is primarily driven by reduced margins and saleable volume in the mortgage line of business based on the current interest rate environment. Third, we reported noninterest expense of $167.4 million for 2021 and had previously guided to growth of approximately 6% to 8% for 2022. We expect to incur roughly $3.5 million to $4 million of expense in 2022 in conjunction with our digital transformation initiative. Additionally, we expect to incur approximately $2 million to $2.5 million of incremental expenses related to our investment in the Western PA and Maryland expansion markets during the year. Including these 3 investments, we expect 2022 expenses to increase 10% to 11% off the base of $167.4 million from 2021. As it relates to our Western PA and Maryland expansion markets, we expect these investments to be accretive to pre-provision earnings in approximately 24 months and fully earned back in 3 to 3.5 years, again, on our pre-provisions. We continue to prefer this method of entering new markets as compared with doing whole bank acquisitions, which inherently include more integration risk, intangible recognition and tangible book value dilution. Lastly, as it relates to income taxes, based on our increased pretax earnings from these guidance updates, we expect our effective tax rate to be on the higher end of the 19% to 20% range that was provided during last quarter’s call. That concludes my prepared remarks. We will be happy to answer any questions.

Operator, Operator

Our first question today comes from Frank Schiraldi from Piper Sandler.

Frank Schiraldi, Analyst

Could you provide us with more detail on the digital platform and initiative, and explain how that sets you apart from competitors of similar size? Alternatively, does it help you align with others in your industry? Any additional insights would be appreciated.

Mike Keim, COO

So Frank, it’s Mike. I’ll take this one. Regarding the digital initiative, both Jeff and Brian mentioned it. We’ve invested heavily in core platforms over the past few years. Currently, we are utilizing our investments in Salesforce and its expanded tools to integrate these core platforms into the Salesforce ecosystem. Our goal is to provide a unique advantage by combining digital capabilities with a personal touch. However, our focus extends beyond that. We need to ensure our organization is accessible to customers whenever they wish to engage with us, not just during our traditional business hours. Additionally, we must improve our data capabilities. This will help us customize the digital experience and strengthen our relationships with current customers. As we implement this initiative, it’s crucial for us to keep pace with our larger competitors, allowing us to progress and succeed in the future.

Frank Schiraldi, Analyst

Is this considered a middleware investment? What portion of this is allocated to external consultants and IT, and how much of it will remain internal and continue as a run rate after the planned implementation?

Mike Keim, COO

The numbers that Brian mentioned are external.

Brian Richardson, CFO

Correct. And that’s our 2022 expense associated with that. Whenever you do an initiative like this, there’s capitalization. So there will be a tail that results from that in future periods as a result of capitalizing those external costs. But what we actually expect to run through the P&L for this year is the guidance I provided.

Mike Keim, COO

We are partnering with two consulting firms. One will help us evaluate who we are serving and how we need to serve them, ensuring we build the necessary infrastructure. The other is a content, branding, and digital marketing firm. Together with our internal team, they will collaborate to deliver our products and solutions. Importantly, this initiative is about transforming our core operations, enhancing our availability for customers, and defining our future direction. We will increase our investment in our customer care center to offer a more concierge-style service. Additionally, we need to significantly invest in data to improve our predictive capabilities and personalize customer experiences. This effort will involve both internal and external resources.

Frank Schiraldi, Analyst

Okay. I didn't have a chance to calculate the expense increase from 6% to 8% to 10% to 11%. I understand you mentioned the costs related to expanding into new markets and the digital initiative. Is there also an increase due to general inflation? If not, could that be a risk to achieving 10% to 11% growth?

Brian Richardson, CFO

Yes. No, that’s our updated expectation, all things considered. There’s a little bit in there for inflation in some of these. The mortgage investment that I spoke to as well as kind of the defrauded loss item as well. So that’s kind of baked in there, but there is a little bit of an inflationary increase, but we had anticipated a fair bit of that when we set our original targets and guidance for 2022, and things seem to be tracking pretty close to that at this point.

Operator, Operator

The next question today comes from Tim Switzer from KBW.

Tim Switzer, Analyst

I'm speaking on behalf of Mike Perito. Could we discuss the expansion markets briefly? In the press release, you mentioned your successful entry into the Central PA region, starting with a team of 15 employees and now reaching approximately $1.2 billion in outstanding loans. Do you foresee a similar growth pattern for these new markets? I understand you've recently appointed the presidents, but could you provide any insights on how many employees they plan to start with? Additionally, what is the expected trajectory beyond this year?

Mike Keim, COO

So Tim, it’s Mike. No, we will not have the same level of trajectory as we had in Central Pennsylvania. I mean there was a couple of factors that played into that. One, we were able to get a team of that size. And also there was significant market disruption at that time, which allowed us to kind of expedite the process of growing the business and moving forward there. We think we have found 2 extremely talented individuals to lead our teams in both of the markets. We will be actively looking to recruit and build out those teams on the commercial side. But as Jeff referenced in his opening remarks, we were going to bring all of our products and services to bear. So we will be hiring mortgage loan officers, adding to our wealth management capabilities, putting a treasury management person in each marketplace. So we are optimistic, but we are not prepared at this point in time to give future loan targets because that will be dependent upon how quickly and how many relationship managers we hire in that marketplace.

Tim Switzer, Analyst

Okay, great. And then could you talk about your general strategy when entering new markets and your go-to-market strategy. What’s your plans on winning business? And maybe it’s unique in each market, but if you could talk about that real quick, please?

Mike Keim, COO

Yes. First and foremost, it’s fairly straightforward. We need to find exceptionally talented leaders in each marketplace and then build a team of gifted individuals around them. Additionally, we understand the need for community investments and marketing expenditures. Most importantly, Jeff and I need to be present in the market, engaging with prospects and individuals who can influence business growth, as well as connecting with current customers over time. This will require an investment of time and talent, which we believe is essential for our success. We are confident in our identity as a company; we prioritize taking care of our customers and ensuring we have a dedicated team focused on doing the right thing consistently, which will enable us to succeed in each market.

Jeff Schweitzer, CEO

Tim, we’ve been very successful by leading with the commercial bank. I mean, that’s who we are. Our bread and butter is commercial lending, small business, middle market lending. So bringing on these 2 market presidents to really build out commercial lending teams and then supplement it with mortgage bankers and wealth advisers and the like. And then layering on the digital initiative on top of it, we think we can have a very good impact on the market, grow successfully, but do it in an efficient way. So with the digital initiative, the hub and spoke, the spoke being digital and the hub being more of a regional headquarters type of presence. So we’re excited about bringing these 2 individuals. We’re excited about what we think they can do, building out a team. But it’s really going to be commercial focused at the beginning, and then we’ll layer on consumer as we go along.

Operator, Operator

The next question today comes from Brody Preston from Stephens.

Brody Preston, Analyst

I just wanted to follow up on the regional expansion with Chris and Matthew. Could you give us a sense for kind of what size businesses they’ve historically done business with? And if that’s smaller or larger than kind of your core customer cohort?

Mike Keim, COO

I believe this aligns with our previous efforts. The revenue is modest at $5 million, and we aim to elevate it to $50 million. Is there potential for something larger? Yes, but we excel in that broader range. We will keep pursuing this strategy. Could we target a larger scale? Certainly, but currently, we typically deal with loan sizes ranging from a couple of million dollars to about $10 million on average.

Jeff Schweitzer, CEO

Yes, that was what’s exciting is what they prospect and target fit in very well with what we historically have been successful in growing the business.

Brody Preston, Analyst

Got it. And maybe on the capital management front, I just wanted to ask how long you anticipated repurchasing? I think it’s about 150,000 shares a quarter.

Jeff Schweitzer, CEO

Yes. We have approximately 600,000 available. As long as we can continue to generate capital at the expected pace, especially with the impending rate increases that will greatly benefit us, we plan to keep purchasing shares as long as it remains a good economic investment. Currently, we have around 600,000 available, and once we start to utilize that amount, we will evaluate whether we need additional authorization to continue repurchasing shares.

Brian Richardson, CFO

Clearly, that gives us about a year’s worth of current coverage. And kind of as we look at it, we’re targeting an earn back of 3 years or less, quite honestly, at current levels, we’re less than half of that. So it’s certainly attractive at this point for us to be active on that front.

Brody Preston, Analyst

Got it. Okay. And just on the loan yields, could you give us a sense of what new blended loan yields are and whether you’ve started to see any compression in spreads?

Brian Richardson, CFO

Yes. In the first quarter, new yields were slightly higher compared to the fourth quarter, remaining in the low to mid-3% range. However, this was based on closed deals that were locked in earlier. Given the significant increase in rate expectations throughout the quarter, we have recently observed yields in the low to mid-4% range, with a rising trend over the past month.

Brody Preston, Analyst

Got it. And then just last one for me. Just on deposit prices on a spot basis, have you changed rates at all so far? Have you begun to make any exceptions as it relates to pricing for some of your customers?

Brian Richardson, CFO

No. We’ve maintained our level of excess liquidity and continue to expect to do so. We believe this provides us some flexibility in managing deposit costs for the near future.

Operator, Operator

The next question today comes from Chris Reynolds from Neuberger Berman.

Chris Reynolds, Analyst

Yes. I wanted to follow up on the dividend increase. I thought that was quite positive. It’s sort of my recollection, you haven’t increased your dividend in quite a long time. And is this a change in long-term policy? Should we expect the dividend to continue to grow as your company grows? Or is this just a function of the excess liquidity that you discussed?

Jeff Schweitzer, CEO

Yes, Chris, it’s Jeff. It's true that we haven't increased it in many years. We didn't cut it during the 2008-09 cycle like many of our peers did; we maintained it then. However, looking at our earnings projections and capital position, along with the upcoming rate increases from the Fed, we felt it was wise to raise the dividend and return value to our shareholders. We will keep assessing this in the future. Regarding our earnings position, growth, and overall capital situation, we would love to keep rewarding our shareholders, and we will continue to evaluate this with the Board. The decision was not based on excess liquidity but rather on our expectations for earnings growth along with our strong capital position.

Operator, Operator

There are no additional questions waiting at this time. We have a follow-up question, excuse me, from Tim Switzer from KBW.

Tim Switzer, Analyst

I just had a couple more. On the quarter, you guys ended like $775 million of cash balances. And last quarter, you talked about not being too excited about buying securities at the current yields. But with the recent increase in rates, has that changed your mind at all? And do you plan on stepping up investment purchases or just letting the excess liquidity be deployed through loan growth?

Brian Richardson, CFO

This is Brian. Just to kind of work through that one. We had purchased $100 million incremental in the fourth quarter and then another $35 million incremental in the first quarter, a little bit taking advantage of that increase in yield, as you described. That said, we ended the quarter at $675 million of excess liquidity. We expect roughly $350 million to $400 million based on our loan guidance of utilization of that kind of through the remainder of the year as well as rundown of seasonality in public funds. So that said, we don’t plan to really bolster the investment portfolio much further than we have at this point. But based on current facts and circumstances, we tend to target 8% to 9% of total assets. And when you adjust for the excess liquidity and the like, we’re right around 8.4% right now. So we’re kind of operating in that range that we like to be.

Tim Switzer, Analyst

Nice. Okay. And then sort of related to that, but just on the securities portfolio, you guys had a pretty minimal impact AOCI and TCE from the higher interest rates and a lot of your peers are obviously getting hit pretty hard. Do you guys have any hedging on that? Is it just your smaller securities portfolio and the way you have it structured?

Brian Richardson, CFO

Yes. We don’t have any hedging strategies due to the nature of our portfolio, which is a mix of available-for-sale securities. We recognized a $20 million unrealized increase during the period, and our earnings for the quarter offset that. This is why there wasn’t a significant deterioration in our reported ratios and book value. However, we did experience a decline similar to what others have encountered, just not to the same extent.

Operator, Operator

There are no additional questions waiting at this time. So I’d like to pass the conference back over to Jeff Schweitzer for closing remarks.

Jeff Schweitzer, CEO

Thank you, Bailey, and thank you, everybody, for joining us today. As I think you can see in our release, there’s a lot of exciting stuff going on with respect to all of these initiatives that we’re working on to continue to position us very strongly for the future. So we look forward to speaking with everybody after we release second quarter earnings. And I hope you all have a great day.