West Bancorporation Inc Q4 FY2020 Earnings Call

Good day and welcome to the West Bancorporation Quarterly Earnings Call. All participants will be in listen-only mode. The operator provided instructions. After today’s presentation, there will be an opportunity to ask questions. The operator provided instructions. Please note this event is being recorded. I would now like to turn the conference over to Doug Gulling. Please go ahead.

Great. Thank you. Good morning, everyone. Thank you for joining us this morning. On the call today are Dave Nelson, our CEO; Harlee Olafson, our Chief Risk Officer; Brad Winterbottom, West Bank President; and Jane Funk, our Controller and Chief Accounting Officer. And we’ll begin with our fair disclosure statement. Comments made during this conference call may contain forward-looking statements within the meaning of the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995. Any forward-looking statement made by us during this call is based only on information currently available to us and speaks only as of today’s date. The company undertakes no obligation to revise or update such statements to reflect current events or circumstances after this call or to reflect the occurrence of unanticipated events. And Dave Nelson will start us off.

Thank you, Doug, and good morning everyone. Thank you for joining us. We appreciate your interest and support of our company. West Bank achieved another record quarter and record year, and based upon that performance, our board of directors has approved an increase in our quarterly dividend from $0.21 to $0.22 per share, with a payment date of February 24 and a record date of February 10. 2020 was quite a year for everyone with very extraordinary circumstances. We followed every imaginable COVID safety protocol, including limited access, closed lobbies, rotating employees, work from home, et cetera, much as all of you have done. But we're very pleased to say we did so with no service interruption. Our alternative delivery channels peaked in usage and so did our loan and deposit balances. I believe that West Bank could certainly be named as one of our nation's PPP poster banks. During the March and April timeframe of round one of PPP, we essentially converted our bank into an SBA PPP loan factory with night shifts. We did in excess of 900 PPP loans totaling about $225 million and now round two of PPP is underway. We've received about 200 applications, but we're able to stay current without the night shifts. During 2020, we increased our allowance for loan loss by about 70%. We expensed and added $12 million to our allowance and we still had a record year increasing earnings by 14%. Those are my general comments. I'd now like to turn the call over to our Bank President, Brad Winterbottom.

Thank you. Dave mentioned that we did roughly $225 million in PPP loans. At the end of the year, we had roughly $45 million of those forgiven. So when I look at the loan portfolio for the fourth quarter, absent any PPP transactions, our loan growth was roughly just slightly ahead of 4%. And then for the year, it was just over 8% growth excluding PPP loans. We had growth in all markets with probably the exception of the Central Iowa market, which was relatively flat. I would say that we've had roughly three customers—significant customers—that sold during the fourth quarter which would have impacted the Central Iowa market. As it relates to deposit growth, our average deposits grew just under 30% for the year. I would say that we've seen growth in all markets there. It would be primarily existing customers. Certainly we've added new customers as well, but I think most of that growth has really come from existing customers. Harlee is going to talk about asset quality but I just wanted to point out that at the end of the year on a $2.2 billion loan portfolio, we had two loans that totaled $18,000 that were 30 days or more past due. So I think with that statement and Dave stating that we added $12 million to the loan loss provision and we had one charge-off in the year of 2020 and that was $1,572, I think our portfolio quality remains very good. And with that I am going to pass it over to Harlee.

Well, thanks. Thank you, Brad. Today I will discuss our watch list and credit trends, COVID-19 credit issues, COVID-19 modifications, updates on our new PPP second-draw loans, and then a little information that’s specific to our markets. Currently today, our watchlist is at $44 million. That compares to the end of 2019 when it was at $52 million and in 2018 it was at $53 million. We have one credit that represents our biggest risk on the watch list. The borrower is very cooperative and is in the process of marketing their specialized properties. We will receive a payment from the sale of one property in the first quarter for about 10% of their debt. We also found out that they are eligible for just under a $2 million PPP loan that they did not receive during the first draw. We are in forbearance with that credit until April, and after that point they start paying fairly significant principal payments again. As everybody has experienced, certain loans have been under more stress due to the COVID-19 pandemic. Hotels, restaurants, theaters—things such as that—have certainly had difficult issues because of either being closed or having significantly reduced hours or ability to even be open. On our hotel portfolio we are tracking monthly occupancy and cash burn. Most have adequate liquidity and investor ability to weather the problems along with also getting significant PPP loans from a second draw. We have a few restaurants and again they are receiving enough aid through PPP to survive. Our theaters, where we have a business concentration, will also receive significant dollars through the relief act's programs. Regarding COVID-19 modifications, at the end of the year we had $140 million or 6.14% of our loans in modification. $60 million of this group are paying monthly interest and $80 million is fully deferred for principal and interest. This includes our credit that is also non-accrual at this time. Most of these modifications will extend through the first quarter of 2021, but all will be off modification before the end of the second quarter. Looking at specific markets, our Rochester market—and I think we probably commented on this previously—Mayo is a big generator of all that goes on in Rochester and they're up to what we consider full capacity again. In Eastern Iowa, they’re also dominated by the University of Iowa, and as time has gone on, we're seeing them become more normalized than they were in the height of the shutdowns. The new markets in Minnesota—Owatonna, St. Cloud and Mankato—are all regional centers and our customer base there is very strong and thriving. With that I’ll stop and turn over to Jane.

Okay. Thanks, Harlee. I'm just going to make a few comments on our PPP loans and the impact on net interest income. As mentioned, we originated $225 million in PPP loans in 2020 that generated $4.7 million of interest income. That $4.7 million represents the 1% interest rate on the loans plus amortization of the fees received from the SBA. When the fees are received we amortize them over the life of the loans, and the vast majority of the loans in our portfolio are for two years. So we recognized about $3.7 million of income as normal interest and amortization. And then there was approximately an additional $1 million of accelerated fees based on the paydowns received through December 31 on the forgiveness. As far as the yield, the yield on PPP loans for 2020 was 3.15%. That was a little bit of a drag on our overall yield on loans, but as far as the net interest margin for the year at 3.2%, that's basically the same if you were to exclude the PPP loans. So overall it did not have a drag on net interest margin for 2020. So those are a little bit more detail on PPP impact on the income statement and I'll turn it back over to Doug.

Okay. Thanks Jane. I'll just add a couple more comments in the allowance area. Brad mentioned the one minor charge-off we had at the beginning of the year. For the year we had recoveries of $202,000. So net recovery is right at $200,000. I'm sure some of you are wondering what we are going to do for a provision in the first quarter, and of course we still have two months to go in this quarter. We'll do our full analysis at the end of the quarter and make our determination then. But sitting here today our best guess is that our provision in the first quarter of 2021 will be quite a bit lower than what it has been running for the last three quarters of 2020. In terms of the margin, we would expect over the course of 2021 that the margin may have moderate compression mainly because as loans and investments mature or payments are made on loans, the reinvestment rate most likely is going to be lower than what had been the stated rate on those loans or investments. In the short run, the margin is going to be influenced by how many PPP loans are forgiven and the extent of the new PPP loans that come on the books. And then lastly, since we have not issued our 10-K yet, I know that some of you want a few average numbers for the fourth quarter. Our average assets for the fourth quarter were $2,957,945,000. The average equity for the fourth quarter was $218,941,000 and the average loans for the quarter were $2,242,736,000. I would mention that we expect to file our 10-K and proxy on or around March 1. And so with that, that concludes our prepared remarks, and we would be happy to respond to any questions.

We will now begin the question-and-answer session. The operator provided instructions. Our first question today will come from Brendan Nosal with Piper Sandler. Please go ahead.

Hey, good morning everybody. Hope you're doing well. Let's see. I want to start off here on some of the excess liquidity that you guys built even further in this quarter. It looks like Fed funds sold on the assets side of the balance sheet increased very sharply during the deposit inflows. So just kind of curious. One, what were some of the underlying drivers? And then two, your thoughts on how you might use that liquidity over the course of the year?

Sure. The drivers were several. Our public funds customers wired in $100 million in the fourth quarter. Then we had a spike at the end of the year. We had some businesses that just had year-end transactions where money flowed through the bank. Some of it has already gone out now in January. Today, we’re sitting on about $200 million in liquidity. Our plan at this point in time is to enter into a reverse repo program where we would earn 1.25% on this overnight—well, it'll end up being 30-day money. Our thoughts at the moment are to put about $100 million into that and see how that goes. We do expect some deposit runoff further here in the first quarter just due to normal business operations. So that's kind of how I would summarize the deposit flows and our liquidity situation.

Yeah. Fantastic. That's helpful color. Okay. Good. And then, turning to loan growth, as you folks noted growth was exceptionally strong in the fourth quarter at PPP and it made for a pretty solid year overall given the environment. Can you just offer some thoughts on where growth came from this quarter both geographically and by portfolio and then how you guys frame your thoughts on growth for the year ahead?

I would say in the fourth quarter, the majority of the growth came through all markets, but the Central Iowa market lagged a bit. It is predominantly real estate—secured transactions. There were a couple of large owner-occupied businesses that we transacted. There were some multi-family loans in there. We also have roughly $200 million of commitments on construction, so we'll see some of that growth. But I would also say that with the first draw of PPP the forgiveness activity is fairly robust right now. For example, we were at $180 million at the end of the year; today that number is more like $130 million to $135 million. So that forgiveness is happening. We are doing the second round but that's just really kind of started. I would anticipate most of that $225 million of PPP loans that we did in the second quarter of 2020 will be gone relatively early this year. I would imagine most of our customers will be fully forgiven.

Got it. Okay. That certainly makes sense. And then turning over to the expansion in Minnesota, just kind of curious for any updated thoughts on how that's going. It certainly sounds like it's going well and it's contributing to growth, but is there any incremental thoughts there and then just remind us where balances in the new market stand at year end?

Sure. The new markets are performing very well. The totals at year-end were about $260 million in loans and right in the neighborhood of $125 million to $130 million in deposits. These have been very strong C&I markets for us. So we really haven't had a tremendous amount of investor developer type of property loans in those markets. It's a nice balance for us there. Our only disappointment has been the inability to meet with opportunities and customers face to face. Minnesota has been more restricted in regard to the activities that you're able to do—restaurants had been closed and places like that. So a lot of places where you're trying to meet and greet customers and develop relationships have been less accessible. But we do believe that this has been an exceptional opportunity for us and will continue to be a high growth area for us in the future.

Got it. Okay. Good. Good. Let's see. Just turning to capital for a moment, it looks like the big liquidity inflows blunt the TCE ratio a little bit but of course they're pretty risk free assets so it doesn't do much to your regulatory ratios. But just curious for any updated thoughts on capital management and how you view that heading into the new year?

Sure. Well, as you indicated, all of our regulatory ratios have been really pretty constant and consistent over the last couple of years and they are all well in excess of the requirements to be well capitalized and cover our Basel III requirements. So on the pure equity-to-asset ratio, no question that this influx of liquidity inflated the balance sheet. In addition to that, over the course of the year, the market value of our swaps declined quite a bit and of course that runs through equity and contributed to the lower equity ratio. But we're still a little above 7% and with our risk profile and the regulatory capital ratios in good shape, we don't see any concern there.

Good. Good. Okay. And then maybe the last one for me before I step back: I think costs were certainly very, very well controlled this year. I think it probably came in lower than many were thinking for the year. Just as you look over the next couple of quarters, how do you see the expense base trending?

It will probably—well, hopefully if the world opens up a little bit more—our business development and customer entertainment expenses will go up from where they were, but absent that I don't see a whole lot of change in expenses. We’re going to have some increases in salaries for normal annual increases. Other than that, I don’t see a whole lot of change in our expenses. Our occupancy expenses won't change much this year. The following year we're building a building in Sartell, Minnesota, a suburb of St. Cloud. That'll be done at the end of this year so it won't be operational until the beginning of 2022. So I just don't see a whole lot of change in expenses other than what we just mentioned.

Doug, our headcount really hasn't changed over the last two years…

No. Even as we've added some people in—well, we certainly added people in Minnesota, but we've contracted in some other areas of the bank. I think our FTE count is right around 170 people and it's been that way for at least the past year.

Okay. Fantastic. Well, thank you so much for taking all the questions. I appreciate it.

There appear to be no more questions at this time. This will conclude our question-and-answer session. I'd like to turn the conference back over to Doug Gulling for any closing remarks.

Well, that's all we have for today. Again, thank you for joining us. We do appreciate your interest in West Bancorporation. Thank you.

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