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spk04: Greetings, and welcome to the QCR Holdings, Inc. Earnings Conference Call for the fourth quarter and full year 2020. Yesterday, after market closed, the company distributed its fourth quarter and year-end earnings press release. If there is anyone on the call who has not received a copy, you may access it on the company's website, www.qcrh.com. In addition, the company has included a supplemental slide presentation with COVID-19-related disclosures that you can refer to during the call. You can also access these slides on the website. With us today for management are Larry Helling, CEO, and Todd Gipple, President, COO, and CFO. Management will provide a brief summary of the financial results, and then we'll open the call to questions from analysts. Before we begin, I would like to remind everyone that some of the information management will be providing today falls under the guidelines of forward-looking statements as defined by the Securities and Exchange Commission. As part of these guidelines, any statements made during this call concerning the company's hopes, beliefs, expectations, and predictions of the future are forward-looking statements, and actual results could differ materially from those projected. Additional information on these factors is included in the company's SEC filings, which are available on the company's website. Additionally, management may refer to non-GAAP measures which are intended to supplement but not substitute for the most directly comparable GAAP measures. The press release available on the website contains the financial and other quantitative information to be discussed today, as well as the reconciliation of the GAAP to non-GAAP measures. As a reminder, this conference call is being recorded and will be available for replay through February 11th, 2021, starting this afternoon, approximately one hour after the completion of this call. We'll also be accessible on the company's website. At this time, I'd like to turn the conference call over to Mr. Larry Helling at QCR Holdings. Sir, you may begin.
spk06: Thank you, operator. Welcome, ladies and gentlemen. and thank you for taking time to join us today. I will start the call with a brief discussion regarding our full year performance. Todd will follow with additional details on our financial results for the fourth quarter. We are very pleased with our financial performance in the fourth quarter and for the year, highlighted by record net income and a solid increase in adjusted earnings per share. These record results were driven by robust revenue growth, including record fee income and solid organic loan growth that helped boost our net interest income. The pandemic made it a challenging year, but we adjusted to the new environment, helped our clients manage the impact of the crisis, and continued to identify and capitalize on growth opportunities. Our adjusted net income increased 8% for the year, and we grew our tangible book value by 14%. After adjusting for non-core items, our revenues grew by 25%, driven by strong swap fee income and higher net interest income, while core expenses were down 1%, demonstrating strong operating leverage. We experienced healthy demand from our client base and grew loans by nearly 8%. This does not include the $358 million of PPP loans for both new and existing clients. Our specialty finance group had an outstanding year, generating record production volumes based on strong client demand for our niche lending products. Our loan pipelines remain healthy, and our near-term outlook for loan growth remains positive. However, until we have better visibility on the economic recovery, we are targeting organic loan growth for the full year of 2021 of between 6% and 8%. slightly lower than our long-term goal of 9%. We funded our loan growth in 2020 with core deposits, which grew by a very robust 22% for the year, with strong contributions from our core commercial and correspondent banking clients. We continue to grow market share across our charters, which reflects the value that our clients place on relationship-based community banking. Additionally, we successfully protected our net interest margin in 2020, which was up slightly for the year, despite a significant drop in short-term interest rates as a result of the pandemic. Our balance sheet initiatives paid off as we drove down our interest costs by eliminating high-cost wholesale funds. We also increased non-interest-bearing deposits meaningfully and capitalized on favorable deposit repricing opportunities. Our asset quality and credit metrics remain strong. We also significantly built our loan loss reserves over the course of the year and feel very good about our current reserve level. As we discussed in our last three earnings calls, we proactively implemented our loan relief program early in the pandemic, offering loan payment deferrals to our impacted clients, helping them preserve cash and liquidity. Nearly all of our borrowers who received payment relief resumed payments well before the year ended. As of December 31st, we had only $28 million of loans remaining on deferral, or 0.66% of the total portfolio. We believe this speaks to the high quality of our loan portfolio and the resiliency of our local markets, which continue to exhibit improving economic activity. While it remains difficult to predict the ultimate impact that the pandemic will have on our clients, our banks are well positioned to navigate this environment. We are monitoring our loan portfolio closely and working with clients to help them adapt to the current economic environment. We continue to believe that our client focus combined with local decision-making is the best way to serve our markets as the economy adapts and recovers. I would like to thank the entire QCR Holdings team for their hard work and dedication to outstanding customer service and for delivering record earnings performance for the year. Our employees are the heart of our company, and I am very proud of our entire team and for all they've accomplished in 2020. In summary, we continue to believe that we will emerge from this pandemic well positioned to pursue our long-term goal of profitable growth and value creation, both organically and through strategic acquisitions. With that, I will turn the call over to Todd to provide further information about our fourth quarter results.
spk02: Thank you, Larry. As I review our fourth quarter financial results, I'll focus on those items where some additional discussion is warranted. I'll start with our loan growth. Our annualized loan and lease growth was 9% during the fourth quarter. It was largely driven by new production in our core commercial lending business, primarily in commercial real estate loans. A key driver was strong loan production from our specialty finance group. As Larry mentioned, we continue to experience healthy demand in this area and maintain a solid pipeline of opportunities, in particular with our relationships in tax credit project lending and municipal finance. Our strong loan and lease growth during the quarter was funded with some of our excess liquidity. Our deposits declined slightly as core deposit growth was offset by intentional reductions in our higher cost portfolio of broker deposits, as well as some higher cost CDs. Additionally, we continued to reduce our reliance on wholesale funds to now record lows. At year end, we had only $26 million of wholesale funding, excluding our subordinated debt, which provides Tier 2 capital. This is down from $328 million one year ago. Over that same period, we grew non-interest-bearing deposits by nearly $370 million, driven by deposit gathering from our commercial clients as well as from our correspondent banking relationships. Non-interest-bearing deposits now represent 25% of our total deposit base, up from 20% at the end of 2019. Not only has our strong core deposit gathering activity significantly reduced our reliance on wholesale funding, it has also helped to enhance our net interest margin. Now turning to earnings. Our net interest income for the quarter was $43.7 million, down $900,000 on a one-quarter basis. While average earning assets grew by 1.3%, the yield on those assets declined by eight basis points from the third quarter, and our deposit costs declined by two basis points, driven by both rate and mix. The lower yield on our assets was primarily due to one-time interest recoveries on previously charged-off loans of $1.1 million that we experienced in the third quarter, which was not repeated in the fourth quarter. As a result of this one-time recovery in the third quarter, our reported NIM was down 11 basis points and our adjusted NIM was down seven basis points. Excluding the impact of the prior quarter's interest recoveries, adjusted NIM was actually up one basis point, well ahead of our guidance on last quarter's call. We are very pleased with our NIM performance throughout 2020. We have been successful in holding on to earning asset yields while driving down cost of funds aggressively through timely and strategic deposit rate reductions, as well as significant rotation from higher cost wholesale funds to low cost core deposits. As we move further into this sustained low interest rate environment, our ability to continue driving cost of funds lower is diminishing while we continue to experience loan pricing pressure. Therefore, we do expect some modest NIM compression in 2021. On a net basis, we expect first quarter adjusted NIM to decline in the range of four to six basis points. Now turning to our non-interest income, which was a strong $32 million for the quarter, but lower than the record $38 million we generated in the third quarter. We produced swap fee income of $21 million, meaningfully above the $18 million level we guided to, but below the record $26.7 million in the third quarter. We averaged almost $19 million per quarter of SWOT fee income in 2020. As Larry mentioned, we continue to expect strong, sustainable levels of SWOT production based on the demand we are seeing from the relationships within our specialty finance group, as well as in our core commercial lending. Many of our clients continue to want to lock in attractive fixed long-term rates by converting their variable rate loans through the use of swaps. The pipeline of swap loans at our banks and our specialty finance group remains healthy, and we believe that this source of fee income is sustainable for the foreseeable future. While we don't anticipate achieving the same high level of swap fees that we did in the third and fourth quarters, we do expect that swap fees will be approximately 14 to 18 million per quarter for 2021. Now turning to our expenses. Non-interest expense for the fourth quarter totaled 46.4 million compared to 40.8 million for the third quarter and higher than our guidance of 38 to 40 million. There were a number of significant items that impacted expenses. First, We incurred increased salary and benefits expense of $4.4 million with increased incentive compensation expense in the quarter driven by the strong financial results in the second half of the year. Second, we incurred $1.5 million of losses on debt extinguishment as we prepaid some high-cost wholesale funds to improve future profitability. And third, we incurred some other one-time year-end charges totaling $1.6 million. Adjusting for all of these items, our non-interest expense came in at just below $39 million right in our guidance range. Looking ahead to the first quarter, we anticipate that our level of non-interest expense will return to a more normalized level and will be back in that range of $38 to $40 million. Our overall asset quality continues to be quite strong. Non-performing assets improved by 22% for the quarter. and now represent only 26 basis points of total assets, one basis point lower than one year ago. The late quarter improvement was primarily due to a reduction in non-recrual loans as a number of loans returned to performing status or were either monetized or charged off during the quarter. Our provision for loan and lease losses totaled 7.1 million for the fourth quarter, down from 20.3 million in the prior quarter. The level of our reserves, excluding the impact of the $273 million in PPP loans that remain on the balance sheet, was 2.12% to total loans and leases, up seven basis points from the end of September. This allowance now represents over five times our non-performing assets. We were fully prepared to implement CECL at 1231.20 as planned. However, Due to the lack of clarity from the SEC on their interpretation of the December CARES Act legislation, by the time we needed to close the year, we stayed on our incurred loss methodology at 1231.20. Our reserves under the incurred loss methodology in CECL were nearly identical at 1231.20, and we intend to adopt CECL as of 1-1-21. With respect to capital, we continue to maintain very strong capital levels and have abundant liquidity to meet our clients' needs. Our tangible common equity to tangible assets ratio improved to 9.4% as compared to 8.89% at the end of September, if you exclude the dilutive impact of the PPP loans. Our overall earnings power remains significant, and as a result, We are well positioned to continue to grow capital, provide solid earnings per share, and take advantage of future M&A opportunities. Our effective tax rate for the quarter came in at 18%. The rate was slightly lower on a late quarter basis due to a lower ratio of taxable earnings to tax exempt revenue. With that added context on our fourth quarter financial results, let's open up the call for your questions. Operator, we are ready for our first question.
spk04: And ladies and gentlemen, at this time, we'll begin the question and answer session. To ask a question, please press star and then one using a touch-tone telephone. To withdraw your questions, you may press star and two. If you are using a speakerphone, we do ask that you please pick up the handset before pressing the numbers to ensure the best sound quality. Once again, that is star and then one to ask a question. We'll pause momentarily to assemble the roster. And our first question today comes from Jeff Roulis from DA Davidson. Please go ahead with your question.
spk01: Good morning, Larry and Todd. Good morning, Jeff. Good morning. I wanted to ask about just the expense guide there and maybe to extend that a little further, you know, 38 to 40, but then kind of a growth rate from there? Is that kind of range-bound? for the year, any expectations for expense growth as potentially as we get longer in the tooth of the pandemic and if things were to open up incrementally in the back half of the year, what are you seeing on the expense side? Sure, Jeff.
spk02: Thanks for being on the call today. Great question. We would really anticipate staying in that 38 to 40 range throughout the year That feels like a pretty sustained run rate for us. We did have some expenses pulled forward into Q4. That was intentional, really trying to settle in at that 38 to 40. If we're in that range of swap guidance that we provided, that really should be where we land with respect to non-interest expense. With that being elevated, if we have More significant swap fees, as you know, we could see some incentives around that going up. But short answer is 38 to 40 feels pretty good for much of the year.
spk01: And, Todd, your last comment there on CECL. So it doesn't sound like we're going to see a big sort of day one adjustment be somewhat immaterial, or am I reading that wrong? No, Jeff, spot on.
spk02: It would be immaterial. We were disappointed that there was some uncertainty there at year end. We didn't feel like it was appropriate to wait for the SEC to give their final opinion on that. We spooled the incurred loss model back up. I think you know that at the end of the third quarter, they were very close. They were right on top of each other at 1231. So it should not be any significant day one impact for adoption here in the first quarter.
spk01: Gotcha. Okay. And maybe one last one perhaps for Larry. Just thinking about that growing capital level, I think you've been pretty consistent about your marking that first for organic growth, but you do keep your eye on M&A. If perhaps the M&A side goes – kind of quiet and loan growth a little bit under your expectations. At any point throughout the year, do you kind of increase sort of the buyback discussion of using that tool over some of your other sort of capital methods? Thanks.
spk06: Yeah, Jeff, another good question. I would say, you know, first, we've had good organic growth even through the pandemic. So, A lot of our discussion will depend on how much organic growth we see prospectively. Secondly, do we think there will be some M&A opportunities in the foreseeable future? That's hard to predict, as you know. But if things continue to normalize, I would expect there to be more dialogue with potential M&A targets, but it's probably premature yet to anticipate anything. But, yes, if none of that materializes, if growth went a little slower and there's nothing on the horizon from M&A, it's certainly something we would discuss later in the year with regard to potential buyback.
spk01: Okay. And could you remind us the authorization in place?
spk06: Yeah, we suspended, however. So, you know, we would want to go back to our board and talk about it later this year. if the dynamics changed throughout the year sometime.
spk02: Jeff, we used much of the authorization we had back in the first quarter. And as Larry said, we suspended that mid-March. And if we were to do a buyback again, reinstitute one, we'd likely go back to the board and settle in on a target, a refreshed target. Okay. Great. Thank you, guys. Thanks, John.
spk04: Our next question comes from Nathan Race from Piper Sandler. Please go ahead with your question.
spk02: Yep.
spk00: Hi, guys. Good morning, Nate.
spk02: Good morning, Nate.
spk00: Maybe just hoping to continue the discussion on the adjusted margin outlook. Todd, appreciate your guidance in terms of some compression from here. I guess within that, what are your expectations for PPP flows and volumes from this latest round, and obviously we'll have some runoff from the volumes from last year, but just trying to kind of parse that out as we think about the outlook there.
spk02: Sure. Nate, maybe I'll just start with a high-level kind of burndown on forward NIM and then talk a little bit about PPP. You know, certainly the The big headwind for us in providing that guidance of some compression in Q1 would be loan yields, certainly fixed rate loans, repricing. We're also continuing to issue more floating rate with our slot program. So those are LIBOR floaters. So that will continue to provide a bit of a headwind. We are fortunate. We still have some opportunities. to fight that off. We will continue to drive down our cost of funds. We're starting to bump into some fours, as you might have noticed in looking at the tables. So there's a bit of a diminished opportunity there. But we have some incredibly talented bankers all through the company fighting for every basis point they can get in terms of cost of funds reduction. So still have a little bit of opportunity there. Access liquidity, while we worked that down pretty successfully in Q3 and here again in Q4, our estimate is it cost us roughly nine basis points in Q4, excess liquidity. That's not going to get any easier with new PPP funding. There's certainly going to be another wave of liquidity in the system. So we'll continue to work hard at forcing down excess liquidity, but to the extent we can, we'll see some benefit And then we will have a full year or a full quarter result from some of the delevering that we did and some of the prepayment we did in the fourth quarter. So those things will help offset that a bit. But we just think given the challenges, it's prudent to provide a little bit of softer guidance in that four to six range. We'll do all we can to outperform that. And then you asked a little bit about PPP. We have roughly 900K in forgiveness in Q4, around 2.6 million total in net fees between accretion and the forgiveness. We only have about 2 million in fees remaining. We would expect roughly a million of that in the first quarter. Again, that's all dependent on forgiveness rates and activity, but that's going well. and then the rest will tail off. Really not speculating at this point what we might see with round two PPP. I know Larry has some good insight on what our lenders are expecting. Larry, maybe you want to provide some of that in terms of where we think round two might happen.
spk06: Nate, I would say that we've got a new portal in place which will make the process much easier, and so we feel good about our ability to respond There's plenty of second-round dollars available for our clients. There are, as you know, though, restrictions on the size of the loans and who can qualify this time. So we would estimate that the PPP for round two will be roughly, oh, 30% of the volume of the first round of PPP for us. We'll certainly be active. We're still trying to help our clients and proactively go into them. but it won't be the same magnitude as the first round of PPP.
spk00: Got it. That's very helpful. And then just kind of thinking about the provision outlook for this year, you know, with CECL implementing here in the first quarter, and you guys obviously have a pretty strong loan growth and pipeline outlook for this year, and your reserve is already at a pretty strong level I guess, should we expect any reserve releases, assuming kind of a steady recovery from gear, or do you guys continue to expect to need to provide on top of charge-offs, just given that loan growth outlook that, again, is pretty strong entering this year?
spk06: Yeah, Nate, I'll start and I'll let Todd finish here if he has any additional color. We're certainly in that part where it's, we've had less credit issues than we would have anticipated, you know, nine or ten months ago when this whole pandemic started. You know, our publicly available metrics that we talk about are improved in the fourth quarter, so that feels really good. It's probably a little bit premature to declare victory over the pandemic yet because it's difficult to tell exactly which clients will be impacted in certain ways. So we'd expect a little bit of challenges with a handful of clients, you know, that may result in some credit challenges later in the year, or maybe even as late as 2022. But that's why we've been aggressive in building our reserve the way we have, so that we've tried to get the meaningful component of the earnings impact behind us. So I'd say we, from the very beginning, wanted to target our reserves, getting over that 2% level. We're at those numbers. If charge-offs normalize or go down, you know, it's certainly possible that we'll need to reserve less later in the year. But it's probably too early to predict that.
spk02: Yeah, Nate, I think Larry nailed that. We've been talking since April about getting up over 200 basis points. Now that we're there, it's – To echo Larry's thought, it's a little early to declare victory, but we feel really good about the level of reserve and how pristine the portfolio is thus far.
spk00: Yep, understandable. Sounds good. I appreciate all the color guys. Thank you.
spk06: Thanks, Nate. Thanks, Nate.
spk04: And our next question comes from Damon Del Monte from KBW. Please go ahead with your question.
spk03: Good morning, guys. Hope everybody's doing well today. So my first question, just in regards to the loan growth, you guys referenced the specialty finance group as being a good source of growth. Could you just remind us, I guess, first what the outstanding balances are and actually how much that's contributed to the growth during the past year?
spk06: Yeah, Damon, it's been a meaningful component of our growth throughout the year. One of the things going on at almost all banks. If you look at our CNI clients, because of PPP and because of just tremendous liquidity in our borrower's hands, you know, our normal lines of credit for our CNI operating and industrial clients, those numbers have actually backed up during the year. So we've been able to overpower that because of meaningful expansion in both our SFG and other commercial real estate and equipment kind of finance activities And so we're pleased with that because we've still been able to have good growth in spite of our clients just borrowing less money on their lines of credit. So, you know, the growth really came from throughout the company, but mostly in commercial real estate and equipment finance because of clients deleveraging their own balance sheets.
spk03: Got it. Okay. And then can you just kind of give a little perspective on how the relationship opportunities that came about through PPP have or maybe will be playing a role in your future loan growth? Has that been a good source of new leads and have you been able to capitalize on it?
spk06: It's certainly been a good source of loan growth. I think it will be even more meaningful going forward once we get through the PPP phenomena. What I would say is probably created better treasury management and deposit opportunities in the short term. And we talked about some of our metrics, particularly non-interest-bearing deposits have grown substantially throughout the year. And so it's made a really good impact on our mix and our funding costs.
spk03: Got it. Okay. I think that's all that I had. Everything else had been asked and answered. So thank you very much.
spk04: Thanks, Damon. Thanks, David. And, ladies and gentlemen, once again, if you would like to ask a question, please press star and then 1. To withdraw your questions, you may press star and 2. Our next question comes from Brian Martin from Janie Montgomery. Please go ahead with your question.
spk05: Hey, guys, good morning. Good morning, Brian. Hey, Todd, to your question, to your point on the asset quality and the reserve levels, I mean, I guess if you guys wanted to get to that 2% level, you know, I guess do you think with the current levels and if you, you know, where the reserve may trend to, you know, once you get past the pandemic, you know, kind of in a post-COVID world, I mean, it seems justifying 2% will get more challenging, but, you know, I guess Can you give some thought as to if you look where you were before versus where you are today, where you think that might end up at some point?
spk02: Sure, Brian. I think to Larry's earlier comments, it's really all going to depend on the charge-offs we see and the pace of those. We would certainly expect to maintain elevated levels of reserves until we're all the way through this as a country. We could maybe see it softening up a little bit from the 212-ish range that we have now, but that would only be if our longer-term expectations also soften a bit. And if we feel like we're getting through some charge-offs in the most troubled areas and industries, getting through those and the sky seem to open up after that, I could see us maybe coming off of the 212, but our credit philosophy and discipline is quite strong. I think you know you've followed us for quite some time, and we're just not ready to take the foot off the gas in terms of making sure we have plenty of reserves. It will be a bit more challenging in CECL, of course. I will tell you we enter CECL with roughly $40 million in unallocated reserves due to both COVID and economic factors. So we feel pretty good about CECL's ability to handle that. Again, we were right on top of the numbers at 1231. I don't know that it's going to necessarily give us a lot of runway to increase those unless asset quality degradation really shows up. And at this point, we don't expect that. But long term, Next year, it's really going to depend on level of charge-offs. And if those don't show up, then you'll see some softened provision and reserves from us.
spk05: Yeah, gotcha. Okay. And then maybe one or two more. Just on the M&A side, I guess you talked a little bit about that. I guess would you say at this point you've seen a pickup in discussions or has it been, you know, more of a, you know, a more distant opportunity on, you know, maybe second half of the year on M&A or just... kind of wondering where the dialogue has been, given it's been a struggle for a lot of other bankers out there that may be looking to find partners. Sure.
spk02: Larry, you want to start with that one?
spk06: Yeah, I'll start. I would say certainly there's been a pickup in discussions, but it was, as you know, unbelievably quiet the last three quarters or so. But people are starting to, I think because of the opportunity for things to normalize, I think there will be some opportunities, but when exactly that's going to be is going to be tough to predict. But people are willing to talk about it more than they were certainly the last few quarters. Gotcha.
spk05: Okay. And then just last one. Todd, I appreciate the color on the margin. I mean, just wondering, in one queue, you're four to six. in terms of basis points, I mean, how much benefit do you have in there for, or just how are you thinking about the forgiveness? It sounds like forgiveness is mostly a first half event on the remaining credits. So just kind of wondering how the margin might look in the back half of the year based on kind of the liquidity, the continued forgiveness here, and just big picture how to think about, you know, what's driving the margin directionally beyond 1Q.
spk02: Sure. No, fair question, Brian. And Again, our guidance for Q1 of a little bit of softening in that four to six basis point range, I went through the puts and takes on that. Included in that would be that roughly $1 million of forgiveness and recognition of PPP fees. What we don't have any clarity on just yet is what kind of PPP fees we might have from round two back half of the year. As Larry shared, our expectation is maybe 30% of the volume we had from round one. I believe that whatever we do see there will be fairly neutral with respect to margin outcome. I don't expect there to be end of PPP drag or necessarily a big lift out of round two. I think it's really not going to impact margin much. I think if you were to look at that 337 adjusted number that we posted for Q4, in part our Q1 guidance, I think we should be fairly static. I really do. That's good.
spk05: Okay. Okay. I appreciate you guys taking the questions. Everything else has been answered. So thanks, and nice quarter and nice year.
spk04: Great. Thank you, man. And ladies and gentlemen, at this time, and showing no additional questions, I'd like to turn the conference call back over to Mr. Helling for any closing comments.
spk06: Thank you, Operator, and thanks to all of you for joining on our call today. We hope that everyone remains healthy and safe during the ongoing health crisis. Have a great day, and we look forward to speaking with you all again soon. Ladies and gentlemen, with that, we'll conclude today's conference call with you.
spk04: Thank you for joining. You may now disconnect your lines.
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