S&T Bancorp, Inc.

We are about to begin. Good day, ladies and gentlemen, and welcome to your S&T Bancorp, Inc. Third Quarter Earnings Conference Call. Our lines have been placed in a listen-only mode, and the floor will be open for your questions and comments following the presentation. At this time, it is my pleasure to turn the floor over to your host, Mark Kochbar. Sir, the floor is yours.

Thank you. Good afternoon, everyone, and thank you for participating in today's conference call. Before beginning the presentation, I want to take time to refer you to our statement about forward-looking statements and risk factors, which is on the screen in front of you. This statement provides the cautionary language required by the Securities Exchange Commission for forward-looking statements that may be included in this presentation. A copy of the third quarter earnings release can be obtained by clicking on the press release link on your screen or by visiting our investor relations website at www.stvancorp.com. We will be reviewing an earnings supplement slide deck as part of this presentation. You can obtain a copy of those slides on our website under events and presentations, third quarter 2020 earnings conference call, click on the third quarter 2020 earnings supplement. With me today are Todd Rice, CEO of S&T, and Dave Antola, S&T's president. I'd now like to turn the program over to Todd who will begin today's presentation.

Well, thank you, Mark, and good afternoon, everybody. We appreciate you taking time to join us for our third quarter earnings update. As announced in our press release this morning, we've reported net income of $16.7 million, or 43 cents per share, compared to $26.9 million, or 79 cents per share, in the third quarter of 2019. Operating metrics for the quarter included a return on asset of 0.72%, a return on equity of 5.8% and a return on casual common equity of 8.96%, and a pre-tax, pre-provisioned number of $37.5 million, or 1.61% of average assets. Results this quarter continue to be impacted by the effects that COVID-19 is having on the overall economy. For the quarter, loans contracted by $154 million as economic uncertainty is still causing customers and businesses to pay down debt. and they're being very cautious on credit requests. Our deposits also decreased by $234 million. We made a strategic decision to let $269 million of brokered CDs run off, but our customer deposits were up $29 million and we also saw a nice shift in the mix with an increase in DDA accounts of $121 million and a reduction in higher cost CDs of $92 million. Mortgage banking was a bright spot, generating $3.9 million in fees for the quarter, which was a $1.3 million increase over the second quarter of this year. On the credit front, we did record a provision of $17.5 million, which increased the allowance to $121 million, or 1.77%. So total loans, excluding PPP, versus an allowance of $150 million in Q2, or 1.64%. percent of total loans excluding PPP. Charges for the quarter totaled $12.9 million, which included a $10 million charge on a CRE property whose tenant has ceased operations for the time due to COVID. Loan deferral at the end of the quarter declined significantly from $1.36 billion at 20 percent of loans to $350 million at 5 percent of loans The hotel portfolio comprises about $230 million, or 65% of the overall deferral balances. Customers whose deferral periods have expired or gone back to contractual payments of principal and interest, so we are seeing a nice lift on that. We also increased specific reserves by $6.2 million for the quarter, and these were impacted primarily by two credits. Our $2.9 million is associated with the C&I credit. whose operations have been impacted by COVID. The company is still operational, and they are current on their payments, but we are negotiating a restructuring agreement on their debt. $3.4 million is associated with the real estate related to the check cutting customer that we disclosed last quarter. We did identify additional liens against the property. We have signed a stocking horse agreement, and the auction process will begin in a few days, and we expect to have a final agreement in place in Q4. And finally, I'm pleased to report that our Board of Directors has declared a dividend of $0.28 payable November 19, 2020 to shareholders of record on November 5, 2020. I want to thank you for your continued support of S&P Bancorp. And now I'd like to turn the program to our President, David Antoli.

Well, thank you, Todd, and good afternoon, everyone. As Todd mentioned, total loans reduced by $154 million in the quarter. Everybody finds them in all categories with the exception of construction. Our CRE balances were impacted by an active permanent market, which has influenced payoffs, along with slower demand in Q3. In addition, our C&I borrowers continue to conserve liquidity, positively impacting deposit balances while further reducing loan balances. Revolving utilization rates continue to decline in the quarter, ending the quarter at 34%, down from 42% at year-end, and 37% at the end of Q2. Our consumer lending efforts have been primarily focused on residential mortgage activity. We've seen a 94% increase in production year-over-year as a result of our enhanced efforts, particularly in our newer markets of eastern Pennsylvania and central Ohio. Todd mentioned the impact it's had on fee income in the quarter, and Mark will discuss other fee income categories in his presentation. Looking forward, our commercial banking pipeline, bottom in July, and has since rebounded nicely at its highest point since March in the pre-COVID era. We still see significant improvements that will lead to occur, particularly in the supply chain, in order for our C&I customers to gain better momentum in order to grow revenues and return to more normal borrowing levels. Page 5 details our Triple P portfolio, along with the impact these loans have had on selected operating ratios. We began accepting Triple P forgiveness applications on October 5th and have not yet received any forgiveness funding from the SBA. Turning to page six, we have seen deferrals reduce steadily as commercial borrowers slowly normalize and return to pre-COVID contractual payments. On page eight, we have detailed the number and average size of the modified hotel loans, along with details on our loan ratings for these assets. We are working with these borrowers to provide additional credit enhancements, which represents significant commitment by these owners as performance begins to show improvement. Average occupancy rates have climbed from a low in the high teens in May of this year to just over 40% in August. I'll turn the program over to Mark for additional details on our financial results.

Thanks, Dave. Slide 9 has a little more detail on the progression of the allowance for credit losses. We are a feasible adopter and had a fairly significant reserve bill in the first quarter and the second quarter, mostly in the economic forecast and qualitative factor part of the model due to the pandemic. As some of the credit issues in our portfolio became more apparent in the third quarter, in particular in hotels with the downgrades just discussed, the allowance in that part of the model increased. That is labeled portfolio changes between the second quarter and the third quarter. However, the overall economic outlook did improve in the third quarter compared to the second quarter with the decline in the expected future unemployment rate that resulted in a decrease in our economic and qualitative factor component. On balance, we did see a reserve bill of about $6 million to $121 million. Moving to the next slide, net income declined by about $870,000 compared to the second quarter, mostly due to lower loan balances. which were down by about $250 million at quarter end and also on average. The net energy margin rate was relatively stable, down two basis points, as the remaining LIBOR drop overhang from the second quarter was mostly offset by aggressive deposit repricing. X PPP, the NIM rate, was flat at 3.36% compared to Q2. We anticipate a relatively stable core net energy margin rate for the next couple of quarters, some volatility could come with the forgiveness timing of PPP along with any asset quality impact. Slide 10 also shows that we do have almost $900 million of liabilities repricing over the next nine months to help offset lower new versus paid rates on the loan side. The surge in deposits in the second quarter came mostly lower across quarter deposits with the average balance mix improving further into the third quarter. Total period and decline in deposits was due, as Todd mentioned, to a reduction in brokered deposits. Non-interest income in the third quarter increased by $1.3 million compared to the second quarter, which resulted in a total revenue increase of about $400,000. Most of the fee increase came in mortgage banking. We saw $1.3 million at the lowest rate environment led to continued refinancing activity. We did also see a modest rebound in some items most impacted by the pandemic, including service charges on deposit accounts, particularly and also debit and credit card fees. Commercial loan swap activity continues to lag as originations have been muted. We do expect a better run rate in the non-interest income, especially with mortgage volume, closer to $15 million per quarter. Non-interest expense was elevated in the third quarter, but we do expect some moderation in the coming quarters, probably closer to around $47 million a quarter. But the largest part of the increase compared to the second quarter came in the salaries and benefits line item. Salary expense deferrals related to the PPP originations in the second quarter accounted for about $1.3 million of the variance. Another $700,000 came from higher pension accounting expense, which was triggered by more retirement than we had expected. Also, in salaries and benefits, medical expenses were up about $770,000, higher claims as restrictions related to the pandemic eased some. FDIC expense is up due to the impact of our recent performance on the assessment calculation. And finally, marketing was higher in the third quarter due to more campaign activity and launch of a new website design. Finally, capital levels on slide 11 improved by 20 to 40 basis points depending on the ratio, primarily due to earnings retention and lower risk-weighted assets. All capital ratios are in excess of regulatory wealth capitalized levels, and our capital cushion continues to expand. We are comfortable with our ability to absorb losses based on internal stress tests, and we have completed including COVID-related scenarios. Both leveraged and PPE ratios are impacted by the PPP loans. Thank you very much. At this time, I'd like to turn the program back over to the operator, who will provide instructions for asking questions.

Thank you. The floor is now open for questions. If you would like to ask a question, please press star then one on your telephone keypad. And if you're using a speakerphone, please pick up your handset to provide the best sound quality. Again, ladies and gentlemen, if you do have a question or comment, please press star one on your telephone keypad. And our first question comes from Russell Gunter with D.A. Davidson. Please go ahead.

Good afternoon, guys. Just appreciate your comments on the dynamics within the loan portfolio this quarter and, you know, potential green shoots for the fourth regarding CRE and CNI, if I heard that correctly. So could you comment on, you know, organic growth expectations in the near term? I know longer term is a little tougher, but how do you see that translating to being able to generate positive loan growth?

Yeah, we think it's going to be another quarter. before we see any kind of meaningful growth. Pipelines have grown. We're starting to see some operating leverage on some of our C&I borrowers' balance sheets. But we're still having conversations around supply chain issues. We did see a modest increase in floor plan borrowings, which is a good leading indicator. And we're having a much more robust preview conversation, which is kind of the first step in looking at new commercial loans. All of those things will point towards growth. I think we're another quarter out before we start to see incremental growth.

Got it. Thanks, Dave. Switching gears to the expenses, Mark, I think I heard you at 47 for the coming quarter. Two things. First, could you just touch on the trajectory of the FDIC insurance Is this a good run rate, or are there other puts and takes I should be thinking about? That would be my first question.

With the increase this quarter, we did have a little bit of a catch-up from the prior quarter, so we would expect to see that moderate by a couple hundred thousand going forward.

Got it. Thank you for that. And then just, you know, bigger picture as we look at a still very challenging revenue outlook. near-term, potentially longer-term, are there any wholesale changes to the expense run rate being contemplated, whether it's branch rationalization or opportunities on vendor contracts? Just curious as to what the opportunity there might be.

Yeah, so I don't think there's a lot of room for us to move in terms of branch rationalization. You know, we have We have 72 branches and $90 million average size. There may be one D2Z that we look at throughout 2021. But we are taking an aggressive review approach to all of our vendors in terms of how we optimize existing contracts and may look to renegotiate or terminate certain contracts which aren't productive as we move forward. So we're taking a fairly aggressive approach to that review. And that might include everything from you know, systems contracts to, you know, leases on physical locations, you name it, we're looking at it.

Got it. Okay. Appreciate the thoughts there, Dave. And then finally for me, you know, you provided the breakdown of sort of the special mention and substandard within the hotel portfolio, but was hoping you could comment on the migration in general within Criticize and Classified this quarter.

So, yeah, I mean, in general, the bulk of the downgrades were in the hotel portfolio to the criticized and classified. There were a couple, you know, other, you know, some operating companies that, you know, we did downgrade. But out of the amounts that went over, you know, the big chunk is in the hotel portfolio.

Okay. And just to follow up, do you guys have the, you know, total amount of criticized and classified this quarter versus last?

I think that the percent right now is a little bit under 8%. I think that went from a little under 5% last quarter.

Okay. So 8% today includes both criticized and classified from five last quarter. Got it. Okay. Thanks, guys. That's it for me.

And our next question comes from Colin Gilbert with KBW. Please go ahead. Thanks. Good afternoon, guys.

Dave, maybe just staying on the credit topic for a minute. How do you sort of see, you know, given, you know, among kind of within the hotel book and the leisure book and just any of the credits criticized and classified, the whole bucket, how do you sort of see the resolution of these credits working through in terms of potential, you know, further loan restructurings or, you know, as you may see, net charge-offs migrate through the year? Just trying to get a sense of kind of the timing and magnitude of what how some of these credits could work through the system.

Yeah, sure. So, you know, as Todd and Mark mentioned, the overwhelming majority of the downgrades into the CNC bucket show up on that slide 8, and they are in the hotel portfolio. So we're attacking that by having robust conversations about credit enhancement and using that as a tool to retain a better risk rating But we are going to have to go through the process of evaluating some of these for NPL as we move forward. So we do anticipate some migration into the NPL bucket. We're looking at each one of these on an individual basis and determining a strategy.

And we're in the process of having the ones that are in the classified bucket appraised for our policy. So you'll probably start to see some some migration in Q4 and Q1 would be the, you know, when you start to see some of the downgrades into the NPL bucket.

Yeah, so the second round of deferrals or relief that we offer to those customers will expire at the end of Q1 of next year and into the early part of Q2. Okay.

Okay. So given that, then, how are you guys thinking about the reserve level? So does it sort of stay then elevated for the next couple quarters, and then do you foresee 2021 being an opportunity to kind of let the reserve level bleed a little bit lower? I'm just trying to think about the divisioning.

Yeah, I mean, as those criticized classifieds decline, that should take some pressure off the overall reserve level as well as the overall – CNC buckets and CNC declines as well.

Okay. Okay. And then just lastly, how do – are buybacks coming into the conversation at all for you guys as you think about kind of capital deployment and as capital builds? And if not, is there a catalyst or is there something that you would need to see happen before you started kind of engaging in buybacks?

I think we would need to go a bit farther past, you know, the worst part here of the pandemic and see some recovery and feel better about the prospects for credit losses going forward before we can entertain buybacks again.

Yeah, I mean, you know, talking about a second wave, Colin, and, you know, how deep is that? You know, do they start shutting businesses down again? So some of those things we just wanted to see some further clarity on.

Okay. Okay. All right.

That's all I have. Thanks, guys. As a reminder, ladies and gentlemen, if you would like to ask a question, please press star then one on your telephone keypad. And we move next to Matthew Brees with Stevens Inc.

Hey, good afternoon. Just a couple of quick follow-up questions. First, I think I missed it. What was the outlook for non-interest income next quarter?

Around $15 million.

Okay. And then in terms of all-in PPP income for the quarter, what was that?

It's about, including the interest, it was around $2 million.

Okay. And then, Todd, you mentioned that as loans go into the classified bucket, you go through the process of reappraisal. Curious, you know, for the hotel loans that have made that jump, what has been the change in the appraisal valuation? What's been the new versus old LTV?

We're just in the process of ordering right now, Matt, so we don't really have an indication on where those are at this point in time.

Okay. And then lastly for me, just on the commercial real estate loan that required a charge off this quarter, could you remind us of what the underlying business was there, what sector was it in, and what happened there?

Yeah, we've not disclosed that because, you know, they're still working through, you know, potential sales. So, you know, we want to respect their ability. I mean, they were making payments up until they just decided, you know, they had to close the doors. So they're still working through, you know, trying to liquidate it on their end. So we have not disclosed what that business is.

Got it. Okay. All right. Very good. That's all I had. Thank you.

Thanks, Matt.

And there appear to be no further questions at this time, so I'll turn it back over to management for any closing remarks.

I think we had a question that came in on the Internet, an update on the fraud. So, you know, we are still pursuing collection activities, as we discussed last quarter. The principal... did plead guilty yesterday in charge, were filed by the Department of Justice, and they're going through their discovery on assets to see what may be available for forfeiture. And as I mentioned earlier, we're in the process of beginning the option process on the underlying real estate collateral, and we would hope to have that wrapped up in 14 to 15 days, and get it under contract in Q4, on the other one that we had, right? But again, I want to thank everybody for participating in the call today. And Mark and Dave and I appreciate your opportunity to discuss this course results and look forward to hearing from you at our next conference call. Thank you.

That does conclude today's conference call. We appreciate your attendance. You may disconnect your lines at this time.