M&T Bank Corporation

Welcome to the M&T Bank first quarter 2019 earnings conference call. It is now my pleasure to turn the floor over to Don McLeod, Director of Investor Relations. Please go ahead, sir.

Thank you, Laurie, and good morning. I'd like to thank everyone for participating in M&T's first quarter 2019 earnings conference call, both by telephone and through the webcast. If you have not read the earnings release we issued this morning, you may access it along with the financial tables and schedules from our website at www.mtb.com, and by clicking on the Investor Relations link, and then on the Investor Events and Presentations link. Also, before we start, I'd like to mention that comments made during this call might contain forward-looking statements relating to the banking industry and to M&T Bank Corporation. M&T encourages participants to refer to our SEC filings, including those found in Forms 8K, 10K, and 10Q, for complete discussion of forward-looking statements. Now I'd like to introduce our Chief Financial Officer, Darren King. Thanks, Don, and good morning, everyone. M&T's results for the first quarter largely reflect another quarter of solid financial performance. As noted in this morning's press release, some highlights include commercial loans, both real estate and middle market, which showed a second consecutive quarter of solid growth on the back of strong originations and subdued payoff activity compared to last year. The net interest margin remains strong thanks to the December rate action by the Fed as well as some seasonal factors. The mortgage business was buoyed by the late quarter move in the 30-year rate, which combined with the impact of our purchase of mortgage servicing rates during the first quarter positioned the business for a better year in 2019. Trust revenues slowed slightly in the past quarter, mainly due to market volatility impacting balances and keeping some customers on the sidelines. Expenses remain generally well-controlled, despite our investments in technology, both in talent and hardware, which are being somewhat front-loaded in 2019. Now let's look at some of the specific numbers. Diluted GAAP earnings per common share were $3.35 for the first quarter of 2019, compared with $3.76 in the fourth quarter of 2018 and $2.23 in the first quarter of 2018. Net income for the quarter was $483 million, compared with $546 million in the linked quarter and $353 million in the year-ago quarter. On a gap basis, M&T's first quarter results produced an annualized rate of return on average assets of 1.68% and an annualized return on average common equity of 13.14%. This compares with rates of 1.84% and 14.80% respectively in the previous quarter. Included in GAAP results in the recent quarter were after-tax expenses from the amortization of intangible assets amounting to $4 million, or 3 cents per common share, little change from the prior quarter. Consistent with our long-term practice, M&T provides supplemental reporting of its results on a net operating or tangible basis, from which we have only ever excluded the after-tax effect of amortization of intangible assets, as well as any gains or expenses associated with mergers and acquisitions when they occur. M&T's net operating income for the first quarter, which excludes intangible amortization, was $486 million, compared with $550 million in the linked quarter and $357 million in last year's first quarter. Diluted net operating earnings per common share were $3.38 for the recent quarter compared with $3.79 in 2018's fourth quarter and $2.26 in the first quarter of 2018. Net operating income yielded annualized rates of return on average tangible assets and average tangible common shareholders' equity of 1.76%, and 19.56% for the recent quarter. The comparable returns were 1.93% and 22.16% in the fourth quarter of 2018. In accordance with the SEC's guidelines, this morning's press release contained the tabular reconciliation of GAAP and non-GAAP results, including tangible assets and equity. Both GAAP and net operating earnings for the first and fourth quarters of 2018 and the first quarter of 2019 were impacted by certain noteworthy items. Our results for the first quarter of 2019 include a $37 million cash distribution from Bayview Lending Group, reflected in other revenues from operations. This amounted to $28 million after tax effect, or 20 cents per diluted common share. Also included in results for the first quarter was an addition to our reserves of $50 million relating to a subsidiary's role as trustee for customers' employee stock ownership plans. This amounts to $37 million after tax effect or 27 cents per diluted common share. Included in the fourth quarter 2018 results was a $20 million contribution to the M&T Charitable Foundation. That amounted to $15 million after tax effect, or 11 cents per common share. Also included in 2018's fourth quarter results was a $15 million reduction in M&T's provision for income taxes arising from an IRS-approved change in tax treatment of certain loan fees, which was retroactive to 2017. This also amounted to 11 cents per common share. During the first quarter of 2018, M&T received a cash distribution of $23 million from Bayview Lending Group. This amounted to $17 million after tax effect, or 11 cents per diluted common share. Also during last year's first quarter, M&T increased its reserve for litigation matters by $135 million to reflect the status of then-current litigation. That increase on an after-tax basis, reduced net income by $102 million, or 68 cents, of diluted earnings per common share. And lastly, included in the first quarter of 2018's results was a $9 million tax benefit amounting to 6 cents per diluted common shares related to the vesting of equity compensation that reduced M&T's effective tax rate for the quarter. Turning to the balance sheet and the income statement, taxable equivalent net interest income was $1.06 billion in the first quarter of 2019, down by $9 million from the linked quarter. This reflects the impact of two less interest accrual days in the recent quarter, as well as a lower balance of cash placed on deposit with the Federal Reserve Bank of New York. Partially offsetting that, with expansion of the net interest margin to 4.04%, up 12 basis points from 3.92% in the link quarter, combined with higher loan balances. The increase in short-term interest rates resulting from the Fed's December 2018 rate action, combined with an improved mix of earning assets and funding on the balance sheet, added a benefit to the margin of about four basis points in 2019's first quarter. A lower level of average balances of funds placed on deposit with the Fed had an estimated five basis point positive effect on the margin. The lower cash balances were primarily the result of reduced levels of trust demand deposits combined with seasonal volatility in commercial balances. As is usual, The shorter first quarter compared with the previous quarter reflected an estimated three basis point benefit to the margin arising from the impact of earning assets with a 30 over 360 interest rate basis. Average loans grew more than 1% compared with the previous quarter. Improved customer sentiment during the fourth quarter appears to have carried through to the recent quarter with pay down and payoff activity remaining low. Looking at loans by category, on an average basis compared with the linked quarter, commercial and industrial loans increased 3% compared with the linked quarter. Commercial real estate loans also grew 3% compared with the fourth quarter, with a slightly different mix between construction loans and permanent financing. Residential real estate loans, which are largely comprised of mortgage loans acquired in a Hudson City transaction, continued their planned runoff. the portfolio declined by some 3% or approximately 11% annualized, consistent with the pace in recent quarters. Consumer loans were up a little less than 1%. Activity here is also similar to what we've seen in recent quarters, with growth in indirect auto and recreation finance loans outpacing declines in home equity lines and loans. Regionally, we saw our best growth in our metro region, which includes New York City, Philadelphia, and Tarrytown, the New Jersey region, and the Mid-Atlantic, which includes Baltimore, Washington, and Delaware. Average core customer deposits, which exclude deposits received at M&T's Cayman Islands office and CDs over $250,000, declined an estimated 2% compared with the fourth quarter. This primarily reflects the decline in trust demand as well as seasonal factors in commercial deposits I mentioned earlier. Foreign office deposits increased by $279 million. In today's higher rate environment, commercial customers are seeking to earn a yield on excess funds in demand accounts by sweeping them into short-term interest-bearing deposits. Turning to non-interest income. Non-interest income totaled $501 million in the first quarter compared with $481 million in the prior quarter. The recent quarter included $12 million of valuation gains on equity securities, while 2018's final quarter included $4 million of similar valuation gains. As I noted, included in other revenue from operations for the recent quarter is a $37 million distribution from Bayview Lending Group. Mortgage banking revenues were $95 million in the recent quarter, compared with $92 million in the linked quarter. Residential mortgage loans originated for sale were $422 million in the quarter, up about 2% from $412 million in the fourth quarter. Total residential mortgage banking revenues, including origination and servicing activities, were $66 million in the first quarter, improved from $57 million in the prior quarter. Most of the increase was the result of the additional residential loan servicing that we purchased during the first quarter. Commercial mortgage banking revenues were $29 million in the first quarter, compared to $35 million in the linked quarter, reflecting seasonally lower originations activity. The comparable figure was $25 million in the first quarter of 2018. Trust income was $133 million in the recent quarter, down slightly from $135 million in the previous quarter, but slightly above $131 million in last year's first quarter. Results for the first quarter were dampened by the fourth quarter's sell-off in the equity markets. Service charges on deposit accounts were $103 million, down from $109 million in the fourth quarter. The decline from the linked quarter reflected lower levels of consumer activity much of which is seasonal. Turning to expenses. Operating expenses for the first quarter, which include the amortization of intangible assets, were $889 million. As previously noted, the recent quarter's operating expenses include a $50 million legal-related accrual. Operating expenses for the recent quarter included approximately $60 million of seasonally higher compensation costs relating to accelerated recognition of equity compensation expense for certain retirement eligible employees, as well as the HSA contribution, the impact of annual incentive compensation payouts on the 401k match, and FICA payments, as well as the annual reset in FICA payments and unemployment insurance. Those same items amounted to an approximately $56 million increase in salaries and benefits in last year's first quarter. As usual, we expect those seasonal factors to decline significantly as we enter the second quarter. Excluding those seasonal factors, salaries and benefits were little changed from the prior quarter. The year-over-year increase reflects the salary adjustments we made in conjunction with the Tax Cuts and Jobs Act as well as a somewhat higher headcount as we've been deepening our bench for IT talent, which will allow us to reduce the use of contractors over time. The increase in equipment and occupancy expenses compared with the linked quarter primarily reflects equipment upgrades that will improve our customers' experience and the productivity of our employees. The efficiency ratio, which excludes intangible amortization from the numerator, and securities gains or losses from the denominator was 57.6% in the recent quarter, compared with 51.7% in 2018's fourth quarter and 64% in the first quarter of 2018. Those ratios in the first quarters of 2018 and 2019 each reflect the seasonal compensation expenses as well as the legal related accruals. Next, let's turn to credit. Overall, credit quality continues to be very strong, better than our somewhat conservative expectations. Annualized net charge-offs as a percentage of total loans were 10 basis points for the first quarter, compared with 17 basis points in the fourth quarter. The provision for credit losses was $22 million in the recent quarter, matching net charge-offs. The allowance for credit losses remained at $1 billion at the end of March, while the ratio of the allowance to total loans was also unchanged at 1.15%. Non-accrual loans declined by $12 million at March 31, compared with the end of 2018. The ratio of non-accrual loans to total loans improved by two basis points, ending the quarter at 0.99%. Loans 90 days past due, on which we continue to accrue interest, Excluding acquired loans that had been marked to a fair value discount at acquisition were $244 million at the end of the recent quarter. Of these loans, $195 million, or 80%, were guaranteed by government-related entities. Turning to capital, M&T's common equity Tier 1 ratio was an estimated 10.05%, compared with 10.13% at the end of the fourth quarter and which reflects the net impact of higher loans, earnings retention, and share repurchases. During the quarter, M&T repurchased 2.2 million shares of common stock at an aggregate cost of $366 million. Now, turning to the outlook. Based on the first quarter results, our outlook for 2019 remains largely consistent with what we shared with you on the January conference call. Just to reiterate those thoughts, we expect 2019 overall to look slightly better than 2018 with growth in total loans at a low single-digit pace, with continued runoff of residential mortgages more than offset by aggregate growth in other loan categories, as well as more moderated payoff activity. Comments by several of the Federal Reserve governors, as well as what's being reflected by the forward curve, seem to be implying that the likelihood of any change in the Fed Fund's target, either up or down, is low for the remainder of 2019. Based on specific factors I mentioned earlier, including the day count and the impact of a lower level of cash on deposit with the Federal Reserve, the net interest margin we reported in the first quarter is higher than what we view as the run rate. Over the remainder of 2019, we expect a degree of stability in the net interest margin consistent with the expectation of no further changes in rates. Following the Fed's December rate action, we took further steps to hedge our asset liability position by layering on additional received fixed pay floating interest rate swaps. Thus, our sensitivity position is much closer to neutral than it was previously. Based on those balance and margin assumptions, we continue to expect low single-digit year-over-year growth in net interest income. While mortgage rates have rallied recently, we're uncertain whether that can lead to a sustained uptick in residential mortgage loan originations, so our outlook for mortgage banking revenues remains cautious. We noted at a conference last quarter that we'd be bringing on a book of owned servicing plus a subservicing contract that should lead to some $60 million of residential servicing fees over the full year of 2019. We also anticipate seasonal improvement in commercial mortgage banking revenues as the year progresses. The outlook for the remaining fee businesses remains unchanged with growth in the low single-digit range with the exception of trust income, which should be in the mid-single-digit range, but as we've recently seen can be impacted by market volatility. Excluding last year's addition to the litigation reserve, as well as the recent accrual, we continue to expect low nominal growth in total operating expenses in 2019 compared with last year. As noted, we expect the seasonal surge in salaries and benefits we report in the first quarter to normalize in the second quarter. The servicing business I referenced should add an additional $40 million of full-year operating expense above that guidance. Our outlook for credit remains little changed. We are cautious as to our and the industry's ability to report the sixth consecutive year of relatively benign credit costs, but there continue to be no apparent significant pressures on particular industries or geographies. We're seeing some upward pressure on criticized loans, but Given our conservative underwriting, stress on borrowers doesn't necessarily portend a meaningful acceleration in losses. M&T's capital allocation philosophy and policies remain consistent with what we've discussed previously. To summarize, we believe that our current capital levels are higher than what is necessary to operate in a safe and sound manner given our history of solid credit underwriting and low earnings volatility. As such, our intention remains to manage our capital to a more appropriate level over time. As most of you know, the Federal Reserve, following the CRAFO bill, has proposed rules that group the larger U.S. banks into four categories based on factors representative of their size and systemic risk. The proposal slots M&T into category four, which calls for biannual stress tests instead of annual. As a result, for the 2019 CCAR cycle, covering the third quarter of 2019 through the second quarter of 2020, Category 4 banks were given an option to distribute up to a maximum amount of capital based on a predefined template calculation. That calculation reflects the distributions that would have been permitted in last year's supervisory stress test adjusted for changes in a bank's capital ratios during 2018. Alternatively, Category 4 banks may opt into the full CCAR process which would involve a stress test administered by the Federal Reserve as in prior years. Based on our analysis, the amount of capital that we could return under the template approach might not be materially different from the likely outcome of following the full 2019 CCAR process. We will continue to manage capital according to our longstanding philosophy while monitoring any further regulatory developments on the capital front as we look forward to CCAR 2020. Of course, as you are aware, our projections are subject to a number of uncertainties and various assumptions regarding national and regional economic growth, changes in interest rates, political events, and other macroeconomic factors which may differ materially from what actually unfolds in the future. Now let's open up the call to questions before which Lori will briefly review the instructions.

At this time, I'd like to inform everyone, if you'd like to ask a question, please press star then the number one on your telephone keypad. If your question has been answered and you wish to remove yourself from the queue, press the pound key. Once again, to ask a question, please press star one. Our first question comes from the line of John Pencary of Evercore.