Eagle Bancorp, Inc.

Ladies and gentlemen, thank you for standing by and welcome to the Eagle Bancorp, Inc. third quarter 2020 earnings conference call. At this time, all participants are in a listen-only mode. After the speaker's presentation, there will be a question and answer session. To ask a question during this session, you will need to press star 1 on your telephone. Please be advised, today's conference may be recorded. If you require any further assistance, please press star then 0 on your telephone. I would now like to hand the conference over to one of your speakers today, Mr. Charles Livingston, Chief Financial Officer. Sir, please go ahead.

Thank you, Michelle. Good morning. This is Charles Livingston, Chief Financial Officer of Eagle Bancorp. Before we begin the presentation, I would like to remind everyone that some of the comments made during this call may be considered forward-looking statements. Our Form 10-K for the 2019 fiscal year, our quarterly reports on Form 10-Q, and current reports on Form 8K identify certain factors that could cause the company's actual results to differ materially from those projected in any forward-looking statements made this morning. The company does not undertake to update any forward-looking statements as a result of new information or future events or developments unless required by law. This morning's commentary will include non-GAAP financial information. Thank you very much. It is our policy not to establish with the markets any earnings, margin, or balance sheet guidance. Now, I would like to introduce Susan Riel, the President and CEO of Eagle Bancorp.

Thank you, Charles. I'd like to welcome all of you to our earnings call for the third quarter of 2020. We appreciate your calling in this morning and your continued interest in Eagle Bancorp. As usual, Jan Williams, our Chief Credit Officer, is also with us this morning. Jan, Charles, and I will be available later in the call for questions. I am very pleased to announce that during this very trying time, Eagle Bancorp had a very successful third quarter. Despite the soft, uncertain economy created by the pandemic and the very challenging interest rate and operating environment, Our quarterly earnings were $41.3 million. That represents a 13.2% increase over the third quarter of 2019 and an increase of 43.3% over the second quarter of this year. And I am proud to say that for the period we reached the highest level of quarterly revenue and net income our company has ever achieved. The return on average assets for the third quarter was 1.57%. The return on average common equity was 14.46%. And the return on average tangible common equity was 15.93%. At these levels, our profitability is among the highest level for community banks in the United States. For the third quarter, earnings were $1.28 per fully diluted share, which is a 19.6% increase over the same period last year and a 42.2% increase over the earnings per share in the second quarter of 2020. The improved profitability in the third quarter as compared to the second quarter of 2020 Thank you for joining us. which produced $12 million in gains on sale of loans during the quarter. In addition, we also achieved gains from the securitization and sale of FHA loans, from the successful sale of Oreo property during the period, and from the sale of SBA guaranteed loans. We strive for consistent performance across all financial measurement indicators, and are pleased to note that we had continued growth in the balance sheet with assets reaching $10.1 billion at September 30. For the third quarter, we achieved strong deposit growth, maintained solid credit statistics and very favorable operating efficiency. The strong performance in these areas, in addition to the increase in non-interest income, More than offset the impact of further compression in the net interest margin and a slight decline in loan portfolio balances, notably in the construction loan portfolio. I would also like to speak in more detail about the results we had for non-interest income in the third quarter. Not surprisingly, the historically low interest rate environment has been a real boom to the residential mortgage divisions. for both refinance and purchase money loan activity. For the quarter, gains on sales were $12 million as compared to $1.9 million in the third quarter a year ago and $3 million in the second quarter of 2020. We did change the accounting methodology for recognizing gains on residential mortgage loans locked on a best efforts basis to align with GAAP This increased the revenue in the third quarter by $1.6 million. But even excluding that impact, our residential mortgage division had a very strong quarter. Loan locks during the quarter were $593 million. as compared to $282 million in the third quarter of 2019. During the quarter, we also recognized gains of $1.2 million from the sale of Oreo assets. The fact that we were able to realize these gains are reflective of the disciplined and proactive approach we take to managing workout situations. Additionally, we had good production during the quarter by our FHA division of $912,000 from their securitization, sales, and servicing activities, and $168,000 in premiums on the sale of SBAs. We've spoken many times about how these fee income business lines tend to be cyclical, like the residential mortgage division, or not easily predictable like the SBA and FHA groups but believe that over the long run they add value to our franchise. We certainly saw that this quarter and I would like to thank the employees in those groups for all of their efforts and congratulate them on a job well done. I would also like to recognize the impact that our emphasis on disciplined underwriting and conservative credit administration practices have had on our credit quality statistics, which continue at reasonable levels despite the slowdown in the economy. At September 30, non-performing assets were 0.62% of total assets as compared to 0.66% a year earlier and 0.69% at June 30, 2020. At quarter end, non-performing loans were 0.74% of total loans, a manageable number. Net charge-offs to average loans for the third quarter were 0.26% as compared to 0.08% one year ago and 0.36% in the second quarter of 2020. The charge-offs in the third quarter were due primarily to two commercial loans. Real estate loan relationships. At September 30, 2020, the allowance for credit losses was 1.40% of total loans, offset by eight basis points by the amount of PPP loans in the portfolio. Also at September 30, the coverage ratio was 190% as compared to 128% a year ago. and we feel we are adequately reserved. The allowance level was determined in accordance with the CECL methodology adopted earlier this year. The third quarter 2020 analysis took into account an improved unemployment rate assumption and additional qualitative reserves for second deferrals as well as our higher mix of accommodation and... A provision of $6.6 million in the third quarter compares to a provision of $3.2 million in the third quarter of 2019 and a $19.7 million in the second quarter of 2020. Additionally, our CECL reserve on funded commitments was reduced by $2.1 million. As to some of the specifics related to the COVID-19 pandemic, as of September 30, the balance of PPP loans was $456 million. We are starting to see more activity from our clients now that the Treasury Department and the SBA has streamlined the application process for forgiveness of all loans under $50,000. But expect that the attrition of these loans from our portfolio will take a couple of quarters at least. Regarding loans which were deferred or modified, you will recall that in June we had 708 loans totaling about $1.6 billion, 20% of total loans in that category, at which point we formed a special task force to monitor and work with these customers, I am pleased to report that as of September 30, that pool of loans is down to 321 loans, about $851 million, which is 10.8% of total loans. We will continue to work with our clients to remediate these loans. We also continue to monitor the impact of COVID-19 on the health and safety of our staff and customers. We have a spotlight on the at-risk industry exposure in our portfolio, our loan portfolio, most notably the accommodation and food services and retail industries, which together comprise 11.5% of the loan portfolio. However, we are still cautiously optimistic about the economy of the Washington, D.C. metropolitan area. While there certainly has been an impact from the COVID pandemic, The most realistic estimates are that the regional economy will shrink about 5.5% this year. At that level, the gross regional product would still be in excess of $500 billion per annum, and the Washington metropolitan area is the fifth largest regional economy in the United States. The rebound in job growth began in June. And since then, the region has recovered approximately 100,000 of the jobs lost in the spring. And that we are on track to add another 40,000 jobs in 2021. We are carefully watching the vacancy rates for office space throughout the region, which shows some softening. However, housing remains fairly strong for both the multifamily and single-family sectors. In fact, there is a shortage of inventory in single-family homes. Through June of 2020, federal contract awards for COVID-related matters in the region have been just over $3.5 billion, and there is no doubt that federal government spending has been a stabilizing factor for our economy. Given the low interest rate environment fostered by the Federal Reserve, and the trend of margin compression across the industry, it is not surprising that in the third quarter we saw a decrease of the net interest margin to 3.08%. The margin was down 18 basis points from the second quarter of this year and down 64 basis points from a year ago. The decrease in the margin was attributable to several factors. The yield on our loan portfolio decreased by 17 basis points to 4.46% for the third quarter as average market rates decreased during the period, reducing the yield on new bookings, and we reacted to competitive pressure to reprice loans currently on the books. We are also feeling the impact of the lower percentage of higher yielding construction loans in the portfolio. Loan floors on the portion of the loan portfolio did provide a buffer against further increases in loan yields. We were able to reduce both the cost of interest-bearing deposits and the aggregate cost of funds during the quarter, which fell by seven basis points. However, the total yield on interest-earning assets declined 25 basis points during the period, a significant factor being the increased level of on-balance sheet liquidity whose yield was only 12 basis points. In addition to the very low level of market interest rates, relatively flat yield curve, and competitive lending environment, the margin was significantly impacted in the third quarter of 2020 by our asset liability mix and the level of liquidity we carried through the quarter. For the third quarter, the average loan-to-deposit ratio was 92%, while average overnight liquidity was above $1.3 billion. While we did increase our securities portfolio by an average of $86 million over the third quarter, we continue to maintain on-balance sheet liquidity as we adhere to our conservative asset liability management strategy as we monitor the effects of the COVID-19 pandemic. The efficiency ratio for the third quarter was 38.10% as we continued our prudent approach to expense management. This is compared to 38.34% in the third quarter of 2019 and 37.18% in the second quarter of this year. While the efficiency ratio is little changed from a year ago, we need to remember that revenue growth has been hampered by the low level of interest rates. For the third quarter, the ratio of non-interest expenses as a percentage of average assets was 1.40%, as compared to 1.49% in the third quarter of last year. Of note during the quarter, We enjoyed the benefit of lower legal fees as legal accounting and professional fees were $3.1 million for the quarter as compared to $3.6 million in the third quarter of 2019 and $3.9 million in the second quarter of 2020. The net legal expenses for the quarter associated with the investigations and legal matters previously disclosed were $957,000. On the other hand, our occupancy expense for the quarter was elevated as we took a $1.7 million charge to properly value a lease extension, and our FDIC insurance expenses increased by $2.1 million over a year ago due to the growth in our balance sheet. Given our asset size exceeding $10 billion, we will continue to judiciously manage expenses, but will also make the prudent investments necessary to have our infrastructure meet all regulatory expectations and to support the continued growth of our company. The company's capital position remains very strong as we continue to build it through the quarterly additions to retained earnings. At September 30, the total risk-based capital was 16.72% as compared to 16.08% one year ago. The common equity ratio was 12.11% compared to 13.16% one year ago, and the tangible common equity ratio was 11.18% compared to 12.13% in September 2019. These ratios recognize the impact of the share repurchase program. Our strong capital position was one of the factors behind our recent decision to lift the suspension of the share repurchase program, which the board initially put in place back in the spring at the inception of the pandemic. And as you know, we did declare another 22 cents per share cash dividend The board is committed to maintaining a strong balance sheet and is very comfortable with our capital position. Thank you again for joining in the call this morning and for your continued support of Eagle Bancorp. That concludes my formal remarks. We would be pleased to take any questions at this time.