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Edited Transcript of SNBC earnings conference call or presentation 27-Apr-17 3:00pm GMT

Thomson Reuters StreetEvents

Q1 2017 Sun Bancorp Inc Earnings Call

VINELAND May 2, 2017 (Thomson StreetEvents) -- Edited Transcript of Sun Bancorp Inc earnings conference call or presentation Thursday, April 27, 2017 at 3:00:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Thomas M. O'Brien

Sun Bancorp, Inc. - CEO, President, Director, CEO of Sun National Bank, President of Sun National Bank and Director of Sun National Bank

* Thomas R. Brugger

Sun Bancorp, Inc. - CFO, EVP, CFO of Sun National Bank and EVP of Sun National Bank

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Conference Call Participants

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* Collyn Bement Gilbert

Keefe, Bruyette, & Woods, Inc., Research Division - MD and Analyst

* Mark Thomas Fitzgibbon

Sandler O'Neill + Partners, L.P., Research Division - Director of Research and Principal

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Presentation

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Operator [1]

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Sun Bancorp, Inc. First Quarter 2017 Analyst Call will now begin. This call is being recorded.

On the line for Sun Bancorp are Thomas O'Brien, President and Chief Executive Officer; Tom Brugger, Chief Financial Officer; and other members of Sun's management's team.

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Thomas M. O'Brien, Sun Bancorp, Inc. - CEO, President, Director, CEO of Sun National Bank, President of Sun National Bank and Director of Sun National Bank [2]

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Okay. So I guess, it's me. This is Tom O'Brien. First of all, welcome to our first quarter 2017 earnings call. As traditional, I would direct your attention to the disclosures on forward-looking statements and ask you to read those at your leisure.

And -- so starting this. Sun Bancorp reported a first quarter net income of $2.1 million or $0.07 a share this morning. This represents Sun's first quarter in many years with traditional pre- and after-tax results. We are beginning to actually utilize our large and a well position. Probably, the fairest comparison would be to look at last year's first quarter pretax net income at $1.1 million versus today's $2.1 million.

We are continuing to build momentum in our profitability, but obviously remain challenged on the revenue side and an overall loan growth. We continue to be very pleased with our commercial loan growth in both volume and quality. Anticipated declines in the legacy consumer portfolio have made meaningful net loan growth difficult.

That said, the transformation of the balance sheet from a more transactional and higher risk profile to today's relationship-driven commercial model has produced the foundation for sustainable profitability and strong risk management. Interest rates remain volatile, but with an upward bias over the balance of 2017. And that should continue to benefit our more asset-sensitive balance sheet.

Operating expenses continue their decline with $16.1 million reported in this quarter, which includes a onetime write-down on a legacy $300,000 letter of credit. Expenses at Sun were running well into the $30 million per quarter range back in 2014. We have some significant legacy cost saves coming later in '17, which will begin to lower our expense line to somewhere below $15 million later in the fourth quarter.

Credit quality remain strong with very low levels of classified loans and only about $4 million in nonperforming loans. The modest increase in NPLs over the last quarter was in about 6 residential loans. Most of those loans are already in some form of current repayment. Sun had net recoveries in its allowance this quarter, and our allowance ratios remain very healthy.

As a result of all these activities, our capital remain very strong. We're seeing some continued good growth in our C&I book, while commercial real estate was less active in the first quarter, primarily due to interest rate increase is slowing market activity.

As you are probably aware, our Director, Wilbur Ross, resigned in the first quarter to become our Nations Secretary of Commerce. While we will miss Wilbur's presence in the boardroom, we're pleased to share his skills and leadership with the country in that critical role. W. L. Ross remains our major investor, and we recently welcomed Jim Lockhart on to the board as the firm's nominee.

The industry is desperately hopeful for some long overdue regulatory release and simplification. Given the toxic mood in Washington, it will be hard to find common ground among the warring parties to lift the excess of an overly prescriptive regulatory burdens that would be (inaudible) especially hard on the cost structure of small and mid-size banks. So in the absence of any angel of relief and over time, I believe the industry will continue to consolidate in an effort to provide scale to leverage the high regulatory compliance burdens.

With that, I'm going to turn this over to Tom Brugger, our CFO.

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Thomas R. Brugger, Sun Bancorp, Inc. - CFO, EVP, CFO of Sun National Bank and EVP of Sun National Bank [3]

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Good morning, everyone. We had a relatively clean quarter. As Tom mentioned, it's a continuation of our methodical improvement in operating earnings over time. Given that it was such a straightforward quarter, I just wanted to highlight a few items. One, as Tom mentioned, interest rates rose after the Presidential Election and it resulted in a slowdown in commercial real estate activity. This resulted in a couple of things for Sun. First, loan fees, which run through the net interest margin, fell about $400,000 quarter-over-quarter, and that's due to lower prepaid penalty income.

The second is originations in our investor commercial real estate business segment slowed. So we saw a small reduction in outstandings. We do expect that to grow over time, but it was notable to see the slowdown in the first quarter. You'll also note that the C&I momentum picked up in the first quarter. And growth in the C&I segment helped to offset the short-term slowdown in CRE originations. Overall, looking at the year-over-year numbers, it's nice to see balanced growth in both C&I and CRE of about 10%. Overall, loans were flat due to the continuation of the runoff in the consumer book, as that's a strategic decision to strength that portfolio over time.

Couple of comments on net interest income. We had 2 commercial loan related fees that went through net interest income fees of $550,000. These fees helped to offset the previous weakness I discussed on the lower prepaid penalty income. We will see fees like this periodically through our fee income line with our lending strategy, but it's not going to happen every quarter. And these are more situational and relationship-based fees. Our other fees, such as deposit fees and investment product fees, remains soft, and our outlook continues to be cautious for those fees.

Noninterest expense. It was a clean quarter. We did have one item. We established a $300,000 recourse reserve for a letter of credit from a previously sold legacy credit. If we strip that out, our operating expenses dropped $0.8 million year-over-year.

One reminder on seasonality of expenses. In the first and second quarter, we tend to have $400,000 to $500,000 in higher operating expenses and then in the second half of the year, those falloff. So the combination of seasonality plus some additional expense savings, we expect leads to the number that Tom O'Brien mentioned of fourth quarter operating expenses, $15 million or less.

One note on the tax rate. We now have to accrue normal tax expense since we removed a portion of the valuation allowance. So our effective tax rate in the quarter was 33%. At the end of the first quarter, the remaining valuation allowance was $74 million or about $3.85 a share.

So overall, we continue to see improvement in earnings, foundation is very solid, very strong capital, very strong asset quality metrics.

And with that, let me turn it back over to Tom.

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Thomas M. O'Brien, Sun Bancorp, Inc. - CEO, President, Director, CEO of Sun National Bank, President of Sun National Bank and Director of Sun National Bank [4]

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Okay. Operator, we can take questions now.

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Questions and Answers

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Operator [1]

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(Operator Instructions) We'll go first with -- to Mark Fitzgibbon with Sandler O'Neill + Partners.

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Mark Thomas Fitzgibbon, Sandler O'Neill + Partners, L.P., Research Division - Director of Research and Principal [2]

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I wonder if you could give us a rough time line for how long you think it will take to deploy the excess cash in the balance sheet?

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Thomas M. O'Brien, Sun Bancorp, Inc. - CEO, President, Director, CEO of Sun National Bank, President of Sun National Bank and Director of Sun National Bank [3]

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I'd love to, but I'm struggling because it's been longer than we expected. I mean, we've been disciplined and maybe a fair criticism is too disciplined, but the other side that argues, we avoided the pitfalls of tax medallions and direct auto. So I think we'll have to -- we have to kind of take that as it moves along. It's hard to predict. Sooner is better than later for us. But again, we remain pretty disciplined in what kind of risk we'll put on the balance sheet, and what we won't. So I'd love to do it relatively quickly, but I'd -- I hate to make a promise because I think so far, probably a year off.

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Mark Thomas Fitzgibbon, Sandler O'Neill + Partners, L.P., Research Division - Director of Research and Principal [4]

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Okay. And then, are we almost through -- do you think the planned runoff in the consumer loans?

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Thomas M. O'Brien, Sun Bancorp, Inc. - CEO, President, Director, CEO of Sun National Bank, President of Sun National Bank and Director of Sun National Bank [5]

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No. I would say this probably got -- at this rate, probably another year to run and then I think at least a level at which we have the portfolio would be proportional on our balance sheet. That was -- it was pretty excessive couple of years ago. So I think it'll continue to run down. The question is what do we do with that side of the business if anything, because love to wait is now we'd run down to 0 over some point of time.

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Thomas R. Brugger, Sun Bancorp, Inc. - CFO, EVP, CFO of Sun National Bank and EVP of Sun National Bank [6]

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Yes, Mark, we're originating no new loans. So it's just running off at this point.

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Mark Thomas Fitzgibbon, Sandler O'Neill + Partners, L.P., Research Division - Director of Research and Principal [7]

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Okay. And then in terms of a provision, obviously, credits grade, you got plenty of reserves. It looks like optically from the outside looking in. When do you think we might start to see the company needing to provide again?

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Thomas M. O'Brien, Sun Bancorp, Inc. - CEO, President, Director, CEO of Sun National Bank, President of Sun National Bank and Director of Sun National Bank [8]

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I would guess it would be at the same time we see that liquidity go down.

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Mark Thomas Fitzgibbon, Sandler O'Neill + Partners, L.P., Research Division - Director of Research and Principal [9]

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Okay. And then your capital ratio is continuing to build. You certainly got some excess capital there. Instituting dividend was great. What are your thoughts on maybe instituting a buyback program? And does that have any patience for the DTA or anything?

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Thomas M. O'Brien, Sun Bancorp, Inc. - CEO, President, Director, CEO of Sun National Bank, President of Sun National Bank and Director of Sun National Bank [10]

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No. I mean, the most important thing we can do with respect to the NOLs that create the DTA is to build profitability and a faster use at the -- faster you buildup regulatory capital. But I think -- it's probably fair to say that I wanted to get through kind of 4 quarters with real operating profitability. We were profitable in '15, but a lot of that was the ins and outs of the restructuring. And in 2016, we had kind of the first year of meaningful profitability here. So I'd say, as we look here in the second quarter, we'll probably start to look at options on capital management side.

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Operator [11]

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(Operator Instructions) We'll go next to Collyn Gilbert with KBW.

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Collyn Bement Gilbert, Keefe, Bruyette, & Woods, Inc., Research Division - MD and Analyst [12]

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Tom, just a follow-up on -- indicating maybe in second quarter, you'll look at capital management options. Do you mean specifically buybacks, or there are other things you're considering?

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Thomas M. O'Brien, Sun Bancorp, Inc. - CEO, President, Director, CEO of Sun National Bank, President of Sun National Bank and Director of Sun National Bank [13]

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There's a whole list of things that we're able to consider. I can't say if there's anything in the queue now, but we'll start to look at it probably as we get through this quarter and finish the 10-Q and have some time.

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Collyn Bement Gilbert, Keefe, Bruyette, & Woods, Inc., Research Division - MD and Analyst [14]

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Okay. So lots of options? Understand. But is there a target that you -- ultimately your goal or something you have in mind that will sort of maybe then -- to how -- to figure out how you'll prioritize these options? Or just trying to tie that a little bit more to how you're thinking about it?

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Thomas M. O'Brien, Sun Bancorp, Inc. - CEO, President, Director, CEO of Sun National Bank, President of Sun National Bank and Director of Sun National Bank [15]

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Probably a little premature to say, but we have enough lot of flexibility. That said, our stock doesn't trade in significant enough volume were -- you can look at buybacks and predict the -- your ability to be successful. We also have a lot of -- one of the things we look at periodically is the leverage at the holding company, and I'd say that's probably a little high. So we can look at that and the dividend. I think at the end, we don't know. We just have to come out with what's best for the financial condition of the bank and what's best for, as I said earlier, utilization of the NOLs.

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Collyn Bement Gilbert, Keefe, Bruyette, & Woods, Inc., Research Division - MD and Analyst [16]

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Okay. Is it fair to say that there would be -- your intention may be that there would be some sort of capital return happening before the end of the year? Capital return in one of these forms; dividend, buybacks?

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Thomas M. O'Brien, Sun Bancorp, Inc. - CEO, President, Director, CEO of Sun National Bank, President of Sun National Bank and Director of Sun National Bank [17]

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Capital activity, probably.

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Collyn Bement Gilbert, Keefe, Bruyette, & Woods, Inc., Research Division - MD and Analyst [18]

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Okay. And then just shifting to kind of the loan pipeline and your outlook there. So I think -- obviously, you guys indicated CRE was slow this quarter. Expecting a rebound, it sounds like -- or maybe just talk about kind of the segment of your -- where you're seeing the C&I demand and maybe your kind of longer-term view on where you think the CRE business will be going now as we move into higher rates?

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Thomas M. O'Brien, Sun Bancorp, Inc. - CEO, President, Director, CEO of Sun National Bank, President of Sun National Bank and Director of Sun National Bank [19]

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Yes. The C&I demand has been pretty much driven by a lot of the disruption in the markets we're in. And frankly, some of these opportunities we've had are companies that our people have called on for quite a period of time. So they started to have some success with that. And I think not entirely coincidental, it coincides with Sun's better financial performance and reputation. So good companies and market and, I think, good opportunities, of course. Real estate. Typically, when rates go down, there is a lot of activity. Primarily, with refinances, rates go higher. There tends to be a pause. We tend -- in real estate, we tend to finance events and events get a little bit slowed down when nothing sells in the market, and that's kind of what we faced here. But I think -- over any cycle, this is probably what you would expect in this quarter. I think we're already starting to see some activity as the real estate market stabilizes. And that will probably, I think, continue into the balance of the year.

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Collyn Bement Gilbert, Keefe, Bruyette, & Woods, Inc., Research Division - MD and Analyst [20]

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Okay. Do you have any hires on the docket or what -- where has the hiring activity been on the C&I side?

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Thomas M. O'Brien, Sun Bancorp, Inc. - CEO, President, Director, CEO of Sun National Bank, President of Sun National Bank and Director of Sun National Bank [21]

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Yes. We haven't hired anybody specifically in C&I. We've had a couple of that in the lending and -- side. One in the real estate end. Our corporate lenders have -- they've been busy for quite a while making calls and kind of developed business, and we've seen the benefits of that over the -- really over the last 2 or 3 quarters. There's plenty for them to do, and I wouldn't be afraid or reluctant to hire anybody if somebody good came across over our desk. But at the moment, I think we're pretty well staffed there.

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Operator [22]

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(Operator Instructions) And with no further questions in the queue, I'd like to turn the conference back over to Mr. O'Brien for any additional or closing remarks.

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Thomas M. O'Brien, Sun Bancorp, Inc. - CEO, President, Director, CEO of Sun National Bank, President of Sun National Bank and Director of Sun National Bank [23]

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Okay. Thank you, and thanks, everyone, for joining the call today. And we'll see you at the July call. Enjoy the rest of the day.

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Operator [24]

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Again, that does conclude today's presentation. We thank you for your participation.