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Sandy Spring Bancorp Inc (SASR -1.73%)
Q2Â 2019 Earnings Call
Jul 18, 2019, 2:00 p.m. ET
Contents:
- Prepared Remarks
- Questions and Answers
- Call Participants
Prepared Remarks:
Operator
Good afternoon, and welcome to the Sandy Spring Bancorp Incorporated Earnings Conference Call and Webcast for Second Quarter 2019. [Operator Instructions]
I would now like to turn the conference over to President and CEO, Dan Schrider. Dan, please proceed.
Daniel J. Schrider -- President and Chief Executive Officer
Thank you, Ian, and good afternoon everyone. Thank you for joining us for our conference call to discuss Sandy Spring Bancorp's performance for the second quarter of 2019. This is Dan Schrider speaking and I'm joined here by my colleagues, Phil Mantua, Chief Financial Officer and Ron Kuykendall, General Counsel for Sandy Spring Bancorp.
Today's call is open to all investors, analysts and the media. There will be a live webcast of today's call and a replay will be available on our website later today. Before we get started covering highlights from the quarter and taking your question, Ron will give the customary safe harbor statement.
Ronald E. Kuykendall -- Executive Vice President, General Counsel and Secretary
Thank you, Dan and good afternoon, ladies and gentlemen. Sandy Spring Bancorp will make forward-looking statements in this webcast that are subject to risk and uncertainties. These forward-looking statements include statements of goals, intentions, earnings and other expectations, estimates of risk and future costs and benefits; assessments of probable loan and lease losses; assessments of market risk and statements of the ability to achieve financial and other goals. These forward-looking statements are subject to significant uncertainties, because they are based upon or affected by our management's estimates and projections of future interest rates, market behavior and other economic conditions, future laws and regulations and a variety of other matters, which by their very nature are subject to significant uncertainties. Because of these uncertainties, Sandy Spring Bancorp's actual future results may differ materially from those indicated. In addition, the Company's past results of operations do not necessarily indicate its future results.
Daniel J. Schrider -- President and Chief Executive Officer
Thank you, Ron. Overall performance in the second quarter was solid, and we continue to demonstrate sustained success in our ability to generate balanced quality earnings. We are pleased with the results we delivered in an exceptional level of client service we've been able to maintain, especially as we grow. For some companies, the type of growth we've achieved both organically and through M&A, could impact your culture or start to dilute your identity. But I can say with confidence that has not been the case for us. We feel strong to the values, integrity and high level of personal service that makes us uniquely Sandy Spring Bank.
Our shared commitment to this organization and one another is what has made us successful as we work through the many business decisions and logistical hurdles that come with acquisition and growth. Not surprising, the banking industry and the greater Washington region remains fiercely competitive. And the interest rate environment remains a challenge. The continued consolidation in financial services, new entrants to the market and this competitive landscape is nothing new for us. This is where we have successfully operated for more than 150 years and it is where we thrive.
Competition drives us and it keeps us sharp. We remain laser focused on delivering outstanding client service and taking care of our employees. There are few areas I'd like to highlight from the press release we issued this morning. Net income for the second quarter of 2019 was $28.3 million or $0.79 per diluted share compared to net income of $24.4 million or $0.68 per diluted share for the second quarter of 2018, and net income of $30.3 million or $0.85 per diluted share for the first quarter of 2019. It is worth noting that there were a few one-off items in the prior year's earnings for the second quarter and in the first quarter of 2019. That includes $2.2 million in merger-related expenses in the second quarter of 2018, as well an $1.8 million interest recovery from acquired impaired loans, credit versus a provision expense for loan losses and $600,000 in life insurance mortality proceeds in the first quarter.
There were no such items this time around, so by comparison, the core earnings reported today remained very strong. Compared to the second quarter of 2018, total assets increased 3%, loans increased 5%, and deposits grew 9%. We are especially pleased with the progress we made in the second quarter in growing deposits. Reducing our loan to deposit ratio to 103% at the end of the second quarter compared to 111% at year-end 2018.
Our year-to-date deposit growth included a 16% increase in non-interest bearing deposits, and a 20% reduction in wholesale deposits. In January, I commented on the many initiatives we put into place to strategically grow deposits and I'm pleased to report today that those initiatives have been effective and we continue to work hard to deepen deposit relationships. Our success in deposit gathering, together with repositioning some FHLB advances has allowed our net interest margin to remain strong, coming in at 3.54% compared to 3.56% for the second quarter of 2018 and 3.52% for the first quarter of 2019. After adjusting for recovered interest income of $1.8 million on acquired credit impaired loans. On the lending side of things, we reported growth compared to the prior year second quarter, however loans remained flat compared to the linked first quarter. I will comment more in detail on this in just a few moments.
Our credit quality remained strong with an 8.4% decrease in non-performing loans compared to last quarter. We also saw a meaningful reduction in watchlist credits and our allowance coverage of non-performing loans remains strong at 148%. Non-interest income also increased 11% from the prior year's quarter, driven primarily by income from mortgage banking activities. To that end, our mortgage division continues to deliver great results, increasing gain on sale revenue in this area to $3.3 million compared to $2.9 million last quarter.
We're thrilled with the overall mortgage loan production across our footprint. As I mentioned last quarter, we built out a strong sales team that is delivering results. It's also important to note that we made a strategic decision to drive more production off-balance sheet in the form of gain on sale revenue versus portfolio growth. And our expectation for mortgage revenues that it will hold at approximately $2.5 million per quarter for the remainder of 2019. Both our wealth and insurance divisions also saw nice increases this quarter. Compared to the first quarter of the year, our wealth division increased revenue by 5.8% and assets under management increased by 4% to $3.2 billion.
Our insurance to agency had a strong quarter and also increased commissions by 7.2% compared to the second quarter of 2018. We continue to effectively manage expenses with a slight decrease compared to the previous quarter. The non-GAAP efficiency ratio was 51.71% for the current quarter compared to 52.98% for the second quarter of 2018 and 51.44% for the first quarter of 2019. So going back to some of my earlier comments regarding loan growth, I want to share a few more details with you about what was happening in the second quarter. As I noted previously, our loans this quarter remained flat, which was a result of a shift in mortgage strategy, the level of funded production and higher levels of unanticipated runoff.
Given lower spreads and the portfolio of mortgage market, we made a conscious decision to sell the majority of our mortgage loan production for gains, instead of retaining them in portfolio. Additionally, prepayment fees are increasing and we are selling more of our construction to perm loans in the secondary market, as clients prefer fixed rate financing. The commercial portfolio production remains strong and on a year-to-date basis was consistent with 2018. The composition of 2019 production shifted to less fully funded investment real estate loans and more higher yielding ADC projects with a lower level of initial funding. Our year-to-date utilization percentage of production dropped to 61% compared to 75% in the prior year. And as a matter of timing, we had several payoffs in the final days of the quarter totaling between $50 million and $60 million. It's important to note that we saw a good bit of self-liquidating from successful construction projects not representing clients leaving the bank. We remained focused on recruiting top talent and achieving balanced profitable production across commercial portfolios.
Given our experience in the first two quarters of 2019, we believe our average loan growth for the year 2019, will produce a mid single-digit average growth rate. Our capital base continues to grow and our position remains strong to support continued growth, with the total risk-based capital ratio of 12.79%, a Tier 1 risk-based capital ratio of 11.59% Tier 1 leverage ratio of 9.8% and a tangible common to tangible asset ratio of 9.54%. And we are pleased to once again raise the dividend during the quarter, which continues an annual trend of increases since 2010.
I'd like to now shift and update you on some special initiatives on news going on at Sandy Spring. We know this small businesses play a pivotal role in fueling our local economy, creating jobs, making critical investments in our communities and helping to grow our region. With that in mind, we partnered with the Washington Business Journal to conduct an independent survey of local business owners and decision makers. Our goal was to hear what these business leaders had to say about their opportunities and challenges, interviews of our local economy. What we've heard overall is that greater Washington is a great place for business. Business leaders here see tremendous opportunity and have optimism about the region's future. There were also some specific priority that came to light among them in own businesses and minority-owned businesses. And there were interesting contrast and responses from businesses in Maryland, Virginia and Washington D.C.
The small businesses who participated in this survey, gave us many new insights and validated some things we heard directly from the businesses that we serve. Given what we learned through the research, what we've heard from our clients, and what we've seen in our own performance we are responding in actionable and practical ways, that will continue to help our small business partners succeed and help grow the bank. This includes a strategic focus on C&I lending, as well as recruiting local talent, that truly understands the unique small business communities we serve in greater Washington. The results of that survey were published in the second quarter in the Washington Business Journal, and they are accessible via our website by simply searching the state of small business on sandyspringbank.com. And with small businesses in mind, we're excited to open a new office in the Beltsville community of Prince George's County.
Coming later this month, this office will serve retail and business clients. However, it will have a dedicated focus on serving the small businesses in this community. As I shared with you last quarter, we continue to invest in our people and technology, that will help us deliver a more streamlined client experience. We are making great strides in our nCino Loan Origination System as well as a new online account opening portal, both of which we look forward to rolling out later this year.
We also proactively and seamlessly introduced a number of enhanced security features in order to further bolster the safety and security of our personal online banking clients. We continue to remain keenly focused on delivering a personalized client experience, and an exceptional workplace for our employees, that's why we're especially pleased this quarter to be named 2019 Best in State Bank by Forbes and in Washington Post 2019 Top Workplace. Forbes ranked us No. 1 bank in Maryland. However, our companywide efforts across our entire region is what made that possible.
As for the Washington Post recognition, what makes us so special is knowing that our employees thinks that Sandy Spring Bank is a great place to be, to be acknowledged as a top workplace is tremendous affirmation that our employees truly value and embrace the culture we built together. A culture that prioritize people and authentic relationships with our clients community and one another. As we look to the future, we are optimistic and we know what we have to do to achieve continued success and growth. We will make adjustments as needed and focused on delivering value to clients and shareholders by doing what we do best and remaining true to all that makes us Sandy Spring Bank.
This concludes my general comments for today and we will now move to your questions. Ian, if we can have the first question and we'd appreciate it if you could let us know who you are in the Company affiliation as you come on. So we know with whom we're speaking.
Questions and Answers:
Operator
We will now begin the question-and-answer session. [Operator Instructions] Our first question comes from Austin Nicholas of Stephens. Mr. Nicholas, please proceed.
Austin Nicholas -- Stephens Inc -- Analyst
Hey guys, good afternoon.
Daniel J. Schrider -- President and Chief Executive Officer
Good afternoon, Austin.
Ronald E. Kuykendall -- Executive Vice President, General Counsel and Secretary
How you are doing, Austin?
Austin Nicholas -- Stephens Inc -- Analyst
Pretty good. Thanks for taking my questions. I guess just on the margin, can you confirm that, I think it was 5 basis points of accretion, was in that number?
Philip J. Mantua -- Executive Vice President and Chief Financial Officer
Yeah. So, this is Phil. That's correct. Right around this period without any kind of noise relative to that from -- in comparison to other periods prior.
Austin Nicholas -- Stephens Inc -- Analyst
Okay. So it's fair to say the core margin was maybe closer to 350?
Philip J. Mantua -- Executive Vice President and Chief Financial Officer
Yeah, I think that's about right, and I would anticipate it's knowing what's left from the standpoint of the adjustments from fair value adjustments that next couple of quarters that probably comes down for being 5 basis points to 2 to 3 basis points per quarter.
Austin Nicholas -- Stephens Inc -- Analyst
Okay, that's helpful. And then maybe just on the core margin outlook, could you maybe just give some thoughts on what you're expecting for Fed rate cuts over the next couple of quarters? And then any comments on where you think the margin could trend, especially now that you guys have brought down your loan to deposit ratio to a much more manageable level today at that kind of 103% level?
Philip J. Mantua -- Executive Vice President and Chief Financial Officer
Sure. So I would, first of all, I think that we are like most people know -- that there is going to be a cut probably at the end of this month and certainly by the time we get at the end of this current quarter. And so we're looking at the margin being pretty much where it is maybe down a couple of basis points, given that, that could occur. I think that without actually having also layered in there, the opportunity that I think will have to restart to reprice down the liability side. We've done a little bit of that here in the latter part of the quarter on some of the kind of specials and rate offerings that we've done in our time deposit base. But I think that, way I look at it is that the consumer market really doesn't see rate movements until the Fed does something, so once I think that occurs, then I think that will change the safety of the retail customer and allow us to probably moderate some of the rates down, maybe we can get a little bit of those basis points back.
Austin Nicholas -- Stephens Inc -- Analyst
Make sense. And then maybe just on that point, what percentage of your deposits are -- would you classify as commercial versus retail? And then of the -- of those commercial deposits maybe what percentage of those would be kind of tied to -- tied to kind of short-term monthly index? Or anyway you kind of want to disclose that number?
Philip J. Mantua -- Executive Vice President and Chief Financial Officer
Yeah, I mean, I think that kind of the rule of thumb for us has been 60-40 retail to commercial, just in a general mix of our core deposit base. And so I think we look at that in that regard, it's more as anything is really tied to an index directly retail or commercial, we've only got one true product the money market -- the legacy money market product, it's got a relatively small balance to it, it's actually tied directly to an index. And we adjust the course of things in our more premier offered money market as the rate environment changes, but we're not legally tied to doing so. So that's the only thing that I could suggest to you that one product that actually would move automatically, let's say.
Austin Nicholas -- Stephens Inc -- Analyst
Got it. So there is not -- we don't have a large municipal book that maybe is tied directly to Fed funds or anything like [Indecipherable]
Philip J. Mantua -- Executive Vice President and Chief Financial Officer
No, in fact we ran down during the quarter, even with the loan growth that -- excuse me, not the deposit growth that we had, we actually ran down the public funds position in the quarter as we did, as Dan mentioned with our brokered CDs as well. So I think those things are parts of the life. We were able to keep the cost of funds fairly constant during the quarter while we still had significant deposit growth.
Austin Nicholas -- Stephens Inc -- Analyst
Got it. Okay, that's helpful. And then maybe just on the expense side of the picture, is this a good run rate to kind of build-off of through the rest of the year? And then just maybe any commentary on kind of your -- the natural rate of expense growth we should see in any kind of hiring, you might be doing that could change that?
Philip J. Mantua -- Executive Vice President and Chief Financial Officer
Sure. So I think in general, I think we've commented on this before, but if you were going to look at core expenses year-over-year, given where we are now and how we'll finish the year, I would suggest we're expecting that the '19 growth of expense over '18 is probably around 5%. Now quarter-to-quarter, there is some seasonality in a couple of areas of cost for us, for example next quarter. There are a couple of categories, some in compensation related to higher fee income on the insurance business, that will create a little bit of a bump up in the overall level of expenses from this current quarter. And then it will drop back down again in the fourth quarter as it usually does, if you look at the pattern in the past. So I think if you use the 5% kind of guideline is for looking at year-over-year excluding of course the merger-related expenses from last year, that's surprisingly a pretty good idea how the rest of the year looks.
Austin Nicholas -- Stephens Inc -- Analyst
Got it. Okay, that's helpful. And then maybe just one last one. With the Washington First transaction behind you and kind of capital -- kind of hovering around that 11.5% and kind of incrementing up on the CET1, I guess. Can you maybe remind us of your message on uses of capital and then, any thoughts on the M&A and kind of where you seek to grow if that's part of the strategy?
Daniel J. Schrider -- President and Chief Executive Officer
Yeah. Austin, this is Dan. I probably sound repetitive as it relates to our view toward capital, predominantly focused on allowing it to drive organic growth, continue to support a strong dividend and we are continue to be thoughtful about M&A and active in building those relationships. And so having a decent level of capital in the anticipation of it, at some point continuing activity there. And then we do have a share repurchase authorization in place, which we have in the past quarter not been active, but that doesn't mean that we would not consider that as we believe there is weakness in the shares. So I think it's really all four of those things combined as we think about capital levels.
Austin Nicholas -- Stephens Inc -- Analyst
Okay, got it. And then just on the tax rate, should we be for the full year '19 is the 24% range, still kind of where we should be?
Philip J. Mantua -- Executive Vice President and Chief Financial Officer
Yes, I think that's a good basis to use for the overall year, Austin, yes.
Austin Nicholas -- Stephens Inc -- Analyst
Got it. Okay, great. Thanks for taking my questions. I'll hop-off.
Daniel J. Schrider -- President and Chief Executive Officer
Thanks, Austin.
Operator
Our next question comes from Catherine Mealor of KBW. Catherine, please proceed.
Catherine Mealor -- KBW -- Analyst
Thanks, good afternoon.
Daniel J. Schrider -- President and Chief Executive Officer
Good afternoon.
Philip J. Mantua -- Executive Vice President and Chief Financial Officer
Hi, Catherine.
Catherine Mealor -- KBW -- Analyst
One other one just on the margin. Remind us if there are any other plans to lower FHLB borrowings, as you kind of think about your NIM outlook?
Philip J. Mantua -- Executive Vice President and Chief Financial Officer
Catherine, this is Phil, not necessarily per se, but again we will adjust our position between that -- the home loan bank as a form of wholesale borrowing, against what we think we can do in the brokered CD-market, depending on just which one of those is going to give us a better economic result. So, but if it relates to what on the books right now for home loan bank advances, there may be some things that are going to start to mature out of there. But other than that, I don't know if there is a specific plan in place to directly just reduce the position.
Catherine Mealor -- KBW -- Analyst
Okay. And then on the security side, just kind of thinking about this as the balance sheet and the securities balances. Do you feel like you're at a bottom there? Do you still feel like there is some more room to bring that balance down further?
Philip J. Mantua -- Executive Vice President and Chief Financial Officer
Yeah, I wouldn't anticipate seeing our overall securities portfolio shrink any further from where it is. I mean we have normally targeted to that -- for that portfolio to be between 12% and 15% of assets. It's below that today. And I think that's part of what gave rise to a little bit bigger kind of short-term cash position at the end of the quarter. That wasn't the only thing, but that was the part of it. I think we will start to get a little bit more fully invested in the investment portfolio here as we move out through the rest of the year.
Catherine Mealor -- KBW -- Analyst
Okay, great. And then on credit, I mean your credit was really strong this quarter, there a local competitor in your market on a conference call earlier talked about pulling back in construction and had a couple of kind of single-family credits that moved NPL this quarter. And just kind of wanted to get your take on just anything locally that you're seeing even just the pockets within DC, where there is a little bit more softness and others that are -- where you're paying closer attention to it as part of the cycle?
Daniel J. Schrider -- President and Chief Executive Officer
Yeah. Catherine, this is Dan. I mean when you look at credit quality, peeling back the onion from the high level, if you look at every -- really every category, particularly as it relates to the CRE, including the builder-related business, everything is really solid. So, I would -- not knowing what you're referencing to from earlier, I would imagine that maybe client-specific, but in terms of trends within the market, things continue to look and perform extremely well. Some of -- what I intended to communicate in one of my comments is some of our increased run-off from this past quarter is from that -- from successful projects coming to completion prior to anticipated maturity, meaning builders building out projects and successfully selling out of them. So, we're -- I think we're pretty well diversified and pretty well balanced around our region. We're not heavy in any one type of product type or one sub-market. Our multifamily stuff tends to be around metro stops and redeveloped properties. So, short answer is we're not really seeing signs of weakness. But we obviously continue to pay attention to what's cooking.
Catherine Mealor -- KBW -- Analyst
Okay. Thank you very much. Great quarter.
Daniel J. Schrider -- President and Chief Executive Officer
Thank you, Catherine.
Philip J. Mantua -- Executive Vice President and Chief Financial Officer
Thank you.
Operator
[Operator Instructions] Our next question comes from Steven Comery of G. Research. Steven, please proceed.
Steven Comery -- G. Research -- Analyst
Hey guys, good afternoon.
Philip J. Mantua -- Executive Vice President and Chief Financial Officer
Hi Steve.
Steven Comery -- G. Research -- Analyst
I was wondering if you could just contrast kind of the relatively low level of loan growth this quarter versus last quarter? Were the dynamics coming the same there or was there something unique going on here?
Daniel J. Schrider -- President and Chief Executive Officer
Yeah, Steve, this is Dan. I think we did have -- as I've tried to allude to in my comments, our actual commercial loan -- with a couple of things moving, we clearly made -- we're more active in selling mortgage production in the second quarter and not putting as much in portfolio. At the same time, that's some prepayment speeds increased in the second quarter given what happened to rates and the drive of activity there.
On the commercial side -- actually our originations in the second quarter were significantly higher than they were in the first, but the nature of that production was far different with being less fully funded perm loans on the investor and owner-occupied real estate and more in the construction-related book, which meant that our funding from those originations was quite a bit lower than it was in the first quarter and what it had been historically. And then on top of that, we just happen to have a couple of large credits refinanced out of the portfolio right at the end of the quarter, which had a kind of a material effect on quarter end balances and therefore, average growth. So, we feel really good about the ramp-up of commercial production from first to second quarter, just a few of those things I mentioned had a direct impact on the net growth for the quarter, and obviously reshapes our formal outlook for the entire year growth rate.
Steven Comery -- G. Research -- Analyst
Okay, yeah, that makes sense. So, in that context, I mean do you expect funding to pick-up over the next quarter or is this sort of a longer-term kind of adjustment?
Daniel J. Schrider -- President and Chief Executive Officer
The nature of the credits that drove a lower funding level are typically shorter term credits. So, 12 months to 18 month construction draw periods. So, you should see funding in that type of production ramp up over the course of the next couple of quarters. What will offset that is continued success in other projects that may have some of those self-liquidating payoffs, but our efforts around driving more C&I business and hopefully picking up some additional owner-occupied and investor real estate opportunities, hopefully, will moderate that utilization or funding at funding rate.
Steven Comery -- G. Research -- Analyst
Okay. Okay, good. And then just on the mortgage banking front, I mean you did put out the guidance for expected fee revenue for mortgage banking going forward. I'm just kind of wondering what your thoughts are as far as putting more in the balance sheet that would have to happen for you guys to find out more attractive or less attractive?
Daniel J. Schrider -- President and Chief Executive Officer
Yeah, the -- that decision, there are a couple of different things that play into that. We originate a good volume of CRE-related long-term fixed-rate mortgages that we hear for have been originating and then pulling together and selling those off-balance sheet because we don't want the interest rate risk. Now, we're doing that on a flow basis and so they're never really hitting -- never really hitting the portfolio. The other aspect, and probably even more meaningful is that the construction perm business for us, which typically flows into a construction category and then to a permanent mortgage, we typically will have right on a 51.71% and in some cases, it will go as far as 10.1 ARM on that product. The competitive environment for a good bit of 2018 into 2019 has been local competitors that have been writing that on 30-year fixed hedge spreads that are just incredibly unattractive. And so that's why we have taken a pause in that business, not that we want to originate, we're just going to originate it at a profitable level.
So, that will probably reverse itself at some point. I mean there is going to be a tolerance or a bucket that our competitors will fill up and realize that it's not as advantageous as maybe they think today.
Steven Comery -- G. Research -- Analyst
Okay. And then just finally for me, any sort of general commentary on the pipeline going forward? And how you guys look at that?
Daniel J. Schrider -- President and Chief Executive Officer
You're talking about lending pipeline?
Steven Comery -- G. Research -- Analyst
Yes.
Daniel J. Schrider -- President and Chief Executive Officer
Yeah. Yeah. We feel really good about our commercial pipeline as we built throughout the course of the year. So, our expectation is that production will continue to be strong and our efforts will pay off. It's -- we got a few moving parts here in the second quarter that will rectify on the back door side of things. But speaking directly, we've got a strong pipeline heading into the third and expect through the fourth quarter in the commercial space.
Steven Comery -- G. Research -- Analyst
Okay, very good. Thanks.
Daniel J. Schrider -- President and Chief Executive Officer
Thank you.
Operator
This concludes our question-and-answer session. I would like to turn the conference back over to the President and CEO, Dan Schrider for any closing remarks.
Daniel J. Schrider -- President and Chief Executive Officer
Yeah. Thanks, Ian. I just want to thank everyone for taking the time to participate this afternoon. As always, we would appreciate your feedback to let us know how effective our call was today and you can email your comments to [email protected]. So, have a great afternoon everyone.
Operator
[Operator Closing Remarks]
Duration: 33 minutes
Call participants:
Daniel J. Schrider -- President and Chief Executive Officer
Ronald E. Kuykendall -- Executive Vice President, General Counsel and Secretary
Philip J. Mantua -- Executive Vice President and Chief Financial Officer
Austin Nicholas -- Stephens Inc -- Analyst
Catherine Mealor -- KBW -- Analyst
Steven Comery -- G. Research -- Analyst
