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NBT Bancorp (NASDAQ:NBTB)
Q3 2020 Earnings Call
Oct 27, 2020, 8:30 a.m. ET

Contents:

  • Prepared Remarks
  • Questions and Answers
  • Call Participants

Prepared Remarks:

Operator

Good day, everyone, and welcome to the NBT's Bancorp Third Quarter 2020 Financial Results Conference Call. This call is being recorded and has been made accessible to the public in accordance with the SEC's Regulation FD. Corresponding presentation slides can be found on the Company's website at nbtbancorp.com.

Before the call begins, NBT's management would like to remind listeners that as noted on Slide 2, today's presentation may contain forward-looking statements as defined by the Securities and Exchange Commission. Actual results may differ from those projected. In addition, certain non-GAAP measures will be discussed. Reconciliations for these numbers are contained within the appendix of today's presentation. [Operator Instructions]

I would now like to turn the conference over to NBT Bancorp, President and CEO, John H. Watt, Jr. for his opening remarks. Mr. Watt, please begin.

John H. Watt -- President and Chief Executive Officer

Welcome, and thank you for joining us today for the NBT third quarter earnings call. Our Chief Financial Officer, John Moran and our Chief Credit and Risk Officer, Amy Wiles, will join me in reviewing highlights with you and then we will take your questions. As I stated in our last quarter call, NBT is focused on the long-term. It is in our DNA to prosper and grow in times of disruption. That was the case during the financial crisis and it will be the case now. While focusing on the health and safety of our employees, customers and the communities we serve, we are executing on our plans to expand in New England and acquiring new customers in each of the states where we do business there. While 2020 has required us all to pivot in response to impacts of the COVID-19 pandemic, I'm also proud to share that NBT has maintained momentum on key customer-focused technology initiatives despite this very challenging environment.

During the third quarter, we implemented a new digital banking platform for mobile and online banking. This platform offers customers a consistent experience across all devices and delivers many new updated services. It has allowed us to advance our aggressive digital focus. We've also launched a new market-leading mortgage origination system from Encompass that is supporting digital mortgage origination to provide a streamlined experience for our borrowers. The accelerated adoption of digital banking by customers propelled by the pandemic serves to reinforce the importance of a well-developed, long-term technology roadmap like the one we have at NBT. Our ability to implement, execute and deliver during this volatile period is a testament to the talent of our team and our focus on our customers.

So let me turn to some financial highlights of the quarter. NBT achieved earnings of $0.80 per share, demonstrating our core underlying strengths. This outcome was supported by a lower provision, focused expense control and strong fee-based income, including higher income from retirement plan administration fees, driven in part by our acquisition of Peoria-based ABG on April 1. Through the strong collaboration of our bankers and our borrowers in the last 90 days we saw loan deferrals dropped to 2% from a peak of 15%. Amy will tell us more about these efforts.

Finally, yesterday, the Board approved a $0.27 dividend payable on December 15th and reaffirmed our dividend strategy for the quarters ahead. At the end of September, our Board of Directors expanded the number of Board seats and appointed Johanna Ames as our newest Director. As a leader in business and in her community Johanna is a strong addition who brings new perspective to our Board.

So, at this time, I'll turn the call over to our Chief Financial Officer, John Moran, who will provide greater detail on our third quarter financial performance.

John V. Moran -- Executive Vice President and Chief Financial Officer

Thanks, John. Turning to Slide 4, as John highlighted, our third quarter earnings per share were $0.80. There was nothing in the quarter that we'd call out as non-core other than the small securities gains. As you can see, the provision for loan losses was down substantially as compared to 2Q levels and at $3.3 million was actually down from last year's third quarter. Lower than normal charge-offs and a slight decrease in total loans led to a modest build in our reserve coverage, which increased to 1.62% excluding PPP loans from 1.59% in 2Q.

Similar to the first half of the year, our underlying operating performance held in well. Pre-provision net revenue of nearly $50 million was down about $1 million linked-quarter but tracked higher against the year ago period. Our PPNR return on average assets was 183 basis points, tangible book value per share was up approximately 3%, TCE was up 23 basis points and our CET1 ratio improved approximately 30 basis points as compared to the second quarter. Again, this underscores that strong PPNR provides an engine for capital generation.

Slide 5 shows trends in outstanding loans. On a core basis, excluding PPP, loans were down about 1% for the quarter. As we suggested last quarter, commercial activity has reset somewhat lower as compared to the robust levels we experienced last year and in the early part of 2020. That said, activity did increase over the course of the quarter with substantially all parts of our footprint reopened more fully and pipelines continuing to rebuild. This was especially true in New England, where Vermont, Maine and our newest expansion market Connecticut are all tracking above plan. In fact, New England commercial loans are up approximately 35% year-over-year anchored by strong commercial real estate activity.

Moving to Slide 6. Deposits were up just over $140 million point-to-point for the quarter with our core deposits up an even stronger $190 million. Customer cash remains elevated on increased liquidity associated with various government support programs and these deposits have been stickier than we would have expected. We have continued to actively manage our funding costs, both in the exception priced book and in rack rates. Those actions combined with the higher levels of demand deposits are evident in our low 19 basis point cost of total deposits. As a reminder, we drove a 50% decrease in funding costs from 1Q's levels in the second quarter. While we do have some opportunities remaining in the back book around exception pricing and CDs, the majority of our planned rate actions are now complete. Core deposit funding has long been a hallmark of the NBT franchise and we're very pleased with the results of our active repricing strategy to-date.

Next on Slide 7, you'll see the detailed changes in our net interest income and margin. Earning assets increased during the quarter, driven by higher levels of cash and investment securities with loans down modestly. Mix shift, the ongoing repricing of our assets and excess liquidity caused the decrease in both net interest income and in the margin. NII was down $2.5 million and our reported margin decreased 21 basis points. As a reminder, the full 5 basis point short-term impact of our recently issued sub-debt is reflected in 3Q's run rate and the impact from excess cash and liquidity cost us an additional 3 basis points as compared to the second quarter. The total impact from cash drag is now approximately 10 basis points. Continued repricing of our assets in the historically low rate environment will put additional pressure on our net interest margin though at a somewhat slower pace as compared to the last two quarters.

Slide 8 shows trends in noninterest income. Excluding modest securities gains and losses, our fee income increased $2.8 million from last quarter and was up just over 5% from last year. More broadly, non-spread revenue was nearly 33% of our total revenue. As you know, this remains a key strength for NBT as compared to peers. Retail banking fees rebounded from 2Q's depressed levels with higher cash balances holding service charges at lower levels compared to a year ago, but improving from the lows of the second quarter. ATM and debit card fees have continue to demonstrate better growth than we would have expected as activity improves. The RPA line benefited from our recent ABG acquisition and new business pipelines for EPIC remains strong. Wealth rebounded on very strong markets, and finally, insurance demonstrated a typical seasonal bounce back from 2Q.

Turning to noninterest expense on Slide 9. Our total operating expenses were just over $66 million for the quarter, up very modestly as compared to the second quarter. In a more difficult top line environment, we've continued to effectively manage our expenses and our net overhead ratio improved to a low 104 basis points. While we're very pleased with that outcome, we are thinking through the appropriate level of operating expense as we adjust to the new economic realities of a COVID world. As a reminder, last quarter, we announced the consolidation of seven branches later this year. That will result in approximately $1 million in annual savings starting next year. As you know, we're always focused on operational excellence and we are hard at work on identifying additional opportunities in our cost structure.

On Slide 10, we provide an overview of key asset quality metrics. Excluding the impact of PPP, net charge-offs were at a very low 13 basis points. We restarted consumer collection activity during the quarter and we did see better payment results than we would have expected. Both NPLs and NPAs moved higher, but remain at low levels in the absolute. The migration in non-performers was driven by two specific relationships both of which experienced COVID-related issues. We continue to believe that the diversity and granularity of our loan portfolios, our long established track record of conservative underwriting and the less dense nature of our upstate New York and New England footprints should help us weather the current environment better than most. As Amy will share, our deferrals are now running at 2% of total loans, which is down from a peak of approximately 15% during the second quarter.

On Slide 11, we provide a walk forward of our third quarter reserve build and the reserve allocations by loan category. In terms of outlook, obviously, the environment remains reasonably fluid. While the recovery appears to have some traction, there is still a great deal of uncertainty around the path of the economy, the ultimate path of the pandemic and future government actions. That said, we continue to believe that if the current macro forecast more or less holds, the path of charge-off activity and balance sheet growth are likely to be heavier factors in future provisioning needs than model-driven factors.

With that, I'll turn it over to Amy Wiles, our Chief Credit and Risk Officer, for some additional details on the credit front. Amy?

Amy Wiles -- Executive Vice President,Chief Credit Officer and Chief Risk Officer

Thank you, John. The next slide shows where we stand on bankwide payment deferrals as of October 19th. The mix is fairly consistent and we've seen substantial progress across all of our portfolios. Our commercial portfolios continue to represent the majority at 75% with consumer at 25% of total deferrals. We've seen a very high return to pay of 88%, reducing total deferrals to $144 million or 2% of total loans. This is down from a peak of close to $1.1 billion or almost 15% of total loans. Our consumer portfolio stand today at slightly over 1%, which is down from a peak of 7% and 9%, respectively, and our larger commercial portfolio at 3% is down from a peak at 22%. This high return to pay rate is consistent across all our portfolios. The resiliency reflects fundamental strength of our portfolio and improving conditions with businesses opening up across the footprint, as well as the impact of the fiscal stimulus programs.

The next slide provides a little more detail by portfolio by industry segment. Restaurants and entertainment remain the highest at 16% of total deferrals, some of which are Boeing and entertainment centers for example, followed by hotels at 13%. Automotive retail is basically one borrower who has notified us they will be returning to pay at the end of the deferral period in November. Just to comment on our hotel customers, many in our footprint support leisure travel and have benefited from higher than normal in-state travel, and as a result, posted stronger numbers in July and August and we're in a position to return to pay at the end of the deferral period. Currently, only 11% of our total hotel exposure remains on deferral, down from a peak at 69%.

Turning to the next slide, you can see a mix of loans currently in deferral compared to peak by portfolio and by industry. As noted on the slide, 88% of our COVID-19-related deferrals have returned to payment as of October 19th. Even with the loans that required a second deferral only 41% were full deferrals, down from 55% as we work closely with our customers to have them return to paying interest. It is also noteworthy that only $20 million or 2% of expired deferrals are greater than 30 days past due. This includes two relationships in commercial lending, totaling $10.8 million that have move to nonperforming status as of September 30th, and were the primary drivers of the increase in non-performers, John mentioned earlier, and were a direct result of the pandemic starting in the second quarter.

The remaining $9 million are consumer loans across the various portfolios that have not yet returned to paying status after the maturity of their deferral. This is where we see a delay in charge-offs with some of these appearing in the fourth quarter and while we expect full year charge-offs will be higher than year-to-date levels. We are also doing portfolio reviews on all credits greater than $2.5 million in commercial lending that were not on deferral and are finding our customers are very resilient. Many industry sectors are seeing strong demand and performance, so we feel we have identified the majority of relationships that will need enhanced monitoring based on what we know today.

With that, I will turn it back to John for final remarks.

John H. Watt -- President and Chief Executive Officer

Thank you, John and Amy. I want to mention as we take your questions this morning that also joining us on the call today is our Chief Accounting Officer, Annette Burns; Corporate Treasurer, Mark Mershon; and our FP&A Manager, Bill Whitaker.

Questions and Answers:

Operator

Thank you. [Operator Instructions] Our first question comes from the line of Alex Twerdahl with Piper Sandler. Your line is now open.

Alexander Twerdahl -- Piper Sandler & Co. -- Analyst

Good morning.

John H. Watt -- President and Chief Executive Officer

Good morning, Alex.

Alexander Twerdahl -- Piper Sandler & Co. -- Analyst

First off, wanted to start on the -- on NII and the margin. I understand there's going to be a lot of volatility with the forgiveness of PPP etc. and liquidity levels. But if we kind of push the NIM aside and just look at NII, I was wondering if you can maybe talk through some of the levers that you have to get NII to reverse in coming quarters or if it won't reverse kind of what the moving parts are that we should be paying attention to?

John H. Watt -- President and Chief Executive Officer

Yeah. Alex, the biggest piece on NII dollars is going to be a liquidity redeployment. As we referenced, right, the deposits have kind of been a little bit stickier than we would have guessed. So I think we're going to lean into that a little bit. We're certainly hopeful when we think -- when we look at sort of commercial activity rebuilding pretty much across the footprint, but really, especially, in New England lately. I think we're cautiously optimistic that we'll get some loan growth out of that and sort of redeploy in a more productive earning asset. So, NII dollars I think hopeful that we're kind of bottoming out here and as we redeploy liquidity hopefully showing some growth in 4Q and into '21.

Alexander Twerdahl -- Piper Sandler & Co. -- Analyst

Okay. And when you say bottoming out that would be assuming -- would that be the core margin or would that be assuming the accelerated PPP fees as well?

John H. Watt -- President and Chief Executive Officer

No, that's excluding PPP. And to be clear, NII dollars kind of bottoming out and turning around margin. I think we'll -- it has more of our our assets kind of repriced off of the belly of the curve in this historically low rate environment. And I think we'll see a little bit more compression on the core margin.

Alexander Twerdahl -- Piper Sandler & Co. -- Analyst

Thank you for taking my question.

John H. Watt -- President and Chief Executive Officer

Absolutely.

Operator

Thank you. Our next question comes from the line of Collyn Gilbert with KBW. Your line is now open.

Collyn Gilbert -- Keefe, Bruyette & Woods Inc. -- Analyst

Thanks. Good morning, everyone. Just first a quick question on, it's just a housekeeping question, on other opex in the quarter and what was driving that swing and kind of what's the outlook there? I just want to make sure we understand what's going on there.

John H. Watt -- President and Chief Executive Officer

Yeah. I other was pretty flat on the quarter. I think in a COVID world we're traveling less, there's a little bit less TD going on. Some of the things that are sort of variable cost in nature are running a little bit slower this year than what they would in a normal year. In terms of overall expense outlook, I'd just remind you, 4Q tends to be a little bit seasonal and as things get more and more back to some semblance of the new business as usual, I wouldn't view $66 million core as necessarily the right run rate going forward, maybe that kicks up to to touch the 4Q. And then again, ideally, if we stay open as an economy, I think '21, we could see a little bit more normalcy on some of the expense lines.

Collyn Gilbert -- Keefe, Bruyette & Woods Inc. -- Analyst

Okay, OK. That's helpful. Thanks, John. And then on the fee side, so you'd indicated the pipeline for EPIC's been good, business development there has been good. Can you just tighten maybe the outlook a little bit there on fees and obviously you saw a rebound as you'd indicated from the second quarter and just kind of how you're seeing some of those fee lines trending as we move into the end of the year and then into 2021?

John H. Watt -- President and Chief Executive Officer

Yeah. So what I would tell you, directionally fee income is usually down a little bit in 4Q. We've got lower mortgage activity typically, refi has stayed pretty strong, we're running about 60-40 purchase refi today. So maybe that up the trend a little bit in 4Q. But there is some seasonality in our lines, and I'd expect as we look into 4Q that maybe fees will come in a touch softer versus 3Q. And then when you look out to next year, ABG is a terrific add for us, the EPIC business continues to chug along new business pipelines they are very, very strong and I think we're optimistic that we'll be able to continue to grow the overall view line. The one other kind of wrinkle to consider is just the NSF fees on the retail banking side have been running quite a bit lower than what they were a year ago. And while we're starting to see that rebound quarter-over-quarter on a year-over-year basis, it's still soft and that's just the changing client behavior and focusing on more cash.

Collyn Gilbert -- Keefe, Bruyette & Woods Inc. -- Analyst

Okay, OK. That's helpful. And then, I just want to make sure, Amy, the comments on credit. So did you said full year net charge-offs are going to be higher than year-to-date? And I think referencing, I don't know if it's directly correlated to the $9 million that you had said, still that have not moved to payment status, but just trying to understand kind of how you're thinking about the, obviously, the elevation of charge-offs in the fourth quarter? And just again, where that is coming from and some of the assumptions there?

Amy Wiles -- Executive Vice President,Chief Credit Officer and Chief Risk Officer

Sure. I'll talk a little bit about consumer and then commercial separately. So to your question on the consumer side, we expect there are a percentage of loans that have come off or will come off deferral that either have or may go delinquent and move to charge-off in the fourth quarter. So this is really why we expect charge-offs to be a little higher in the Q4 than Q3. It's not surprising that normal loss rates will eventually materialize in these portfolios, but they're just shifted to the back-end in Q4 or even possibly into the first quarter of 2021. So it's still a little too early to say much more about specific numbers or levels and we're working with all of our customers, some of which will get modifications that will go into 2021.

Collyn Gilbert -- Keefe, Bruyette & Woods Inc. -- Analyst

Okay.

Amy Wiles -- Executive Vice President,Chief Credit Officer and Chief Risk Officer

On the commercial side, I'll just mention, we've made a lot of progress as you can see on the deferrals, but it's still very early. We're only a couple of quarters into this and the impact of the PPP and the different programs and curve of the economic recovery, it's difficult to see how that's all going to play out. So tough to forecast and we may not know much more until really we're in 2021 on the commercial side.

Collyn Gilbert -- Keefe, Bruyette & Woods Inc. -- Analyst

Okay, OK. That's helpful. And then lastly, John, maybe just on M&A, you guys have mentioned in your opening comments that New England and then parts of upstate New York are seeing better activity. Do you see the pipeline equally improving for M&A potential in '21? And just maybe if you could give some color as to kind of near-term plans on what you could see as it relates to M&A.

John H. Watt -- President and Chief Executive Officer

Sure, Collyn. We believe that into the first and second Q of 2021, our ability to get visibility into credit portfolios is going to be a lot better than it is today. So lots of conversations obviously occur, but their preliminary given the volatility in those portfolios at potential partners. Clearly, crossing $10 billion, the way we did, puts the focus on one of the most important tools we have in the toolbox, which is accelerate growth by M&A and we spent a lot of time over the last 60 days making sure we understand what that potential roadmap could look like. With that said, as I have said to you and others on this call many times, our growth is primarily driven by organic and supplemented. So it's a tool, it's not the only tool. You heard from John about the relatively strong loan pipelines in New England. I'm going to be over in New England later this week visiting with a large real estate customer, where we have a couple of projects that are likely to get launched and there are others across Northern New England looking at the same thing. So we're optimistic there. Back to where I started, more visibility in the first Q and second Q into what the potential partners balance sheet looks like.

Collyn Gilbert -- Keefe, Bruyette & Woods Inc. -- Analyst

Okay, great. Thanks for that color. I'll leave it there. Thanks, guys.

Operator

Thank you. Our next question comes from the line of Matthew Breese with Stephens, Inc. Your line is now open.

Matthew Breese -- Stephens, Inc. -- Analyst

Good morning.

John H. Watt -- President and Chief Executive Officer

Matt, how are you?

Matthew Breese -- Stephens, Inc. -- Analyst

Great. Hey, just on -- thinking about new loan yields. So this quarter, the average loan yield was 3.95%. What does the pipeline look like relative to that, just so we get a good sense of what's coming on versus rolling off?

John V. Moran -- Executive Vice President and Chief Financial Officer

Yeah. Loans yields are clearly under pressure, Matt. I'd say sort of across the board any earning asset yield is every bit of a 150-ish basis points lower than it was at the beginning of the year. So when you think about new coming on versus existing book there is a gap there.

Matthew Breese -- Stephens, Inc. -- Analyst

Okay. Could you provide some detail on where we might see that -- what is that gap and where we might see -- if new loan yields were to be the floor, what it is?

John V. Moran -- Executive Vice President and Chief Financial Officer

Yeah. I'd say book yields in the quarter were, on the C&I side, in the low-3s, on the commercial real estate side, high-2s, low-3s. Business banking kind of hanging in a little bit better, but versus the existing book yield at 3.95%, we're going to have some pressure there.

Matthew Breese -- Stephens, Inc. -- Analyst

Okay, OK. And then you discussed the fairly strong loan pipeline. Obviously, the environment is really challenging on the growth front. Not necessarily next quarter, but as you think about over the next 12 months or so, where do you see gross loans kind of trending to? Do you see more pressure or do you feel like you can hold it here and expand the overall size?

John H. Watt -- President and Chief Executive Officer

So, clearly, there are a lot of factors that will influence the statement, like is there going to be additional stimulus and what is its form. But putting that aside, it would be at our asset size in our interest to drive and slightly grow in 2021, but we're still in the middle of the budget process, still trying to input all of the external factors into that discussion. We're hopeful that after the election that the Congress comes back and considers more seriously stimulus that will help bridge us to the other side of the vaccine. And at the same time provide stability to many of our small business and our commercial customers, as well as states and municipalities that need that assistance. And if those things happen, the probability of a little bit of growth next year is stronger.

Matthew Breese -- Stephens, Inc. -- Analyst

Got it. Okay. And just framing the deployment of liquidity discussion a little bit. Cash balances, if I include the short-term stuff, is hair over $600 million, how much of that are you looking to deploy? What's the right level? And in the near-term should we see some of it go into the securities portfolio? How much expansion could we see there?

John V. Moran -- Executive Vice President and Chief Financial Officer

Yeah. Matt, you're right. Look, ideally, we would -- we have aligned and have $600 million of loan growth show up sometime next year. I think that that's a little bit of a stretch to expect. So, yeah, clearly sitting a good chunk of that $600 million and 10 basis points overnight is a drag for us. It has proven to be stickier than we would have expected. If so, we're -- they're going to tell you to meet the securities. You saw us kind of increase the size of the book a little bit, not as a percentage of working assets, but in dollars securities grew over the course of the quarter. We're kind of picking our spots and we'll continue to deploy as we go ahead.

Matthew Breese -- Stephens, Inc. -- Analyst

Okay. Last one for me. Just what was P -- all-in PPP income for the quarter?

John V. Moran -- Executive Vice President and Chief Financial Officer

Got that number. Bear with me just a sec here. We were $4.6 million on a quarter, $1.3 million of that was interest and $3.3 million of that was the amortization of fees.

Matthew Breese -- Stephens, Inc. -- Analyst

Perfect. I appreciate taking my questions. Thank you.

John V. Moran -- Executive Vice President and Chief Financial Officer

Absolutely.

Operator

Thank you. [Operator Instructions] I'm not showing any further questions. I'd now turn the call back to John Watt for closing remarks.

John H. Watt -- President and Chief Executive Officer

Thank you, Sarah, and thanks all of you who participated in the call this morning. Clearly, the pandemic and its impacts were -- are going to be with us for a while, but we are nevertheless encouraged by the resiliency of our customers and the markets and the communities we serve. And most importantly, we really are encouraged by the commitment demonstrated by our team. So we look forward to momentum in the fourth quarter and into 2021. So once again, thanks for your participation today. Have a great day.

Operator

[Operator Closing Remarks]

Duration: 33 minutes

Call participants:

John H. Watt -- President and Chief Executive Officer

John V. Moran -- Executive Vice President and Chief Financial Officer

Amy Wiles -- Executive Vice President,Chief Credit Officer and Chief Risk Officer

Alexander Twerdahl -- Piper Sandler & Co. -- Analyst

Collyn Gilbert -- Keefe, Bruyette & Woods Inc. -- Analyst

Matthew Breese -- Stephens, Inc. -- Analyst

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