UBSI - NASDAQ

Rex Smith - Chief Executive Officer Bruce Thomas - Chief Financial Officer

Catherine Mealor - Keefe, Bruyette & Woods, Inc. Austin Nicholas - Stephens Inc. Blair Brantley - Brean Capital, LLC

Good day, everyone and welcome to the Community Bankers Trust Corporation Second Quarter 2017 Earnings Conference Call. All participants will be in a listen-only mode. [Operator Instructions] After today’s presentation, there will be an opportunity to ask questions. [Operator Instructions] And please do note that today's event is being recorded. I would now like to turn the conference over to Rex Smith, President and CEO. Please go ahead, sir.

Good morning and thank you for joining us today as we review the results of the second quarter and the first six months of 2017 for Community Bankers Trust Corporation, which is the holding company for Essex Bank. Let me start with a reminder that during the course of our remarks today, we may make forward-looking statements within the meaning of applicable securities laws with respect to our operations, performance, future strategy and goals. I’ll remind everyone that our actual results may differ materially from those included in the forward-looking statements due to a number of factors. These factors and additional risks and uncertainties are included in our earnings release, our most recent Form 10-K and other reports that Community Bankers Trust Corporation files with or furnishes to the Securities and Exchange Commission. You can access all of these documents through our website at www.cbtrustcorp.com. I am pleased with the core metrics for the Company, as we continue to grow our asset size and build both franchise and shareholder value. Total loans excluding PCI loans were $864 million as of June 30, 2017 increasing $27.8 million or 3.3% from year-end 2016 and $79 million or 10.1% from June 30, 2016. Loans grew approximately $12 million for the quarter which is slightly below what we expected. They were both economic and competitive reasons for the lower than expected growth. But we are focused on building long-term value rather than taking credit or pricing risk for the sake of growth. The pipeline heading into the third quarter looks strong and I believe our annual growth rate will settle into a range between 9% and 11% for the remainder of 2017. The tax-equivalent net interest margin was 3.83% for the first six months, which was approximately the same as it was for the same time period in 2016. While loan yields increased deposit cost also rose slightly from promotional events at our new branch locations and our desire to lower the level of broker deposits prior to any further interest rate increases. The Bank also continued its growth in demand deposits in both existing offices as well as the two new offices in Richmond and Lynchburg. Non-interest bearing deposits grew $22.8 million or 19.7% year-over-year and now comprised 12.8% of total deposits. We are encouraged by this trend and continue to focus on increasing our core non-interest deposit balances. Non-interest income also continued to improve with a 3% increase on a linked quarter basis as a result of a $47,000 increase in service charges on deposit accounts and increase of $38,000 in mortgage loan income and an increase of $7,000 in other income. All of these factors led to an increase of $441,000 in net income on a linked quarter basis. Net income was $2.9 million for the second quarter compared with $2.5 million for the first quarter of 2017. This increase includes absorbing the expense of our two new branch offices which were both opened in the second quarter. Now, I would like to turn the call over to our Chief Financial Officer, Bruce Thomas to discuss the details on the financial results of the quarter.

Thank you, Rex. And I would like to thank all of you for joining us on this morning’s call. Net income was $2.9 million for the second quarter of 2017 compared with $2.5 million in the first quarter of 2017 and $2.3 million in the second quarter of 2016. Earnings per common share basic and fully diluted were $0.13 per share, $0.11 per share and $0.11 per share for the three months ended June 30, 2017, March 31, 2017 and June 30, 2016 respectively. This morning, I will narrow my income statement focus to a linked quarter analysis and to six months of 2017 compared with six months of 2016. Net income on a linked quarter basis increased $441,000 and was a result of an increase of $107,000 in net interest income, an increase of $35,000 in non-interest income and a reduction of $384,000 in income tax expense, offset by an increase of $85,000 in non-interest expenses. The reduction in income tax expense was generated as a result of resetting taxes for the State of Maryland from a cash basis to an accrual. Also there was a credit related to the exercise and employee stock options during the quarter. Net income was $5.4 million for the six months ended June 30, 2017 compared with $4.7 million for the first half of 2016. The increase in net income was the result of an increase of $2 million in interest and dividend income, driving an improvement in net interest income of $1.5 million. Another improvement was a decline of $96,000 in income tax expense. Offsetting the increases in net income was an increase of $727,000, or 4.5% in non-interest expenses. Since the beginning of 2016, the bank has opened four new banking facilities in attractive markets that will provide benefits for both sides of our balance sheet, which will positively impact our earnings. Decreasing net income for the first six months of 2017 compared with 2016 was a decline of $375,000 in non-interest income. Securities gains declined $388,000 during the comparison period as we have strategically funded loan growth with deposit growth as opposed to liquidating securities. Basic and fully diluted earnings per common share for the six months ended June 30, 2017 were $0.25 compared with $0.22 for the same period in 2016. This represents an increase of 13.6%. Looking at the linked quarters, net interest income was $11 million for the quarter ended June 30, 2017 compared with $10.9 million for the quarter ended March 31, 2017, an increase of 1 % or $107,000. Total interest and dividend income increased $272,000 or 2.1% to $13.2 million for the second quarter of 2017. This resulted in a tax-equivalent yield on earning assets of 4.53%, a decline of 8 basis points. Interest income with respect to loans increased $355,000 or 3.7% during the second quarter when compared with the first quarter of 2017. Interest expense increased $165,000 or 7.9% on a linked quarter basis as average interest-bearing liabilities balances increased by $20.2 million or 2.0%. The Company's cost of interest-bearing liabilities increased 4 basis points from 0.85% in the first quarter of 2017 to 0.89% in the second quarter. The Company's increase in funding costs is the result of replacing wholesale funding sources with retail deposits, including new branch promotion. With the changes in net interest income noted above, the tax equivalent net interest margin was 3.78% in the second quarter of 2017 and 3.88% in the first quarter of 2017. Likewise, the interest spread was 3.64% and 3.76% respectively in the second and first quarters of 2017. For the first half of 2017, net interest income increased $1.5 million or 7.3% and was $21.8 million. The yield on earning assets of 4.57% compared with 4.52% for the first six months of 2016. Interest and fees on loans of $19.5 million in the first two quarters of 2017 was an increase of $2.1 million compared with $17.4 million for the same period in 2016. Interest and fees on PCI loans declined $223,000 over this same timeframe. Securities income increased $63,000 for the first six months of 2017 compared with the same period in 2016. On a tax-equivalent basis, income on securities increased $89,000 and the tax-equivalent yield on the portfolio was 3.15% for the first two quarters of 2017 and 3.12% for the same period in 2016. Interest expense of $4.3 million represented an increase of $502,000 in the first six months of 2017 compared with the same period in 2016. Total average interest bearing liabilities increased 5.9%, or $56.5 million, as loan growth has been fueled by an average balance increase of 12.1%, or $63.4 million, in time deposits and by a $23.8 million or 22.4%, increase in non-interest bearing deposits. The tax equivalent net interest margin was 3.83% for the first six months of 2017 versus 3.82% for the first six months of 2016. The net interest spread was 3.70% for the first six months of 2017 versus 3.71% for the first six months of 2016. With regards to – on our balance sheet, I will look at the year-over-year changes. Loan growth totaled $79 million or 10.1% from $785 million at June 30, 2016 to $864 million at June 30, 2017. Commercial loans grew $20.3 million or 27.1% over this timeframe and totaled $137.3 million or 15.9% of the total loan portfolio. Construction and land development loans grew $20.9 million or 26.1% over this timeframe, but at $100.7 million represented only 11.7% of the total portfolio. Commercial mortgage loans on real estate totaling $341.2 million grew $15.8 million or 4.9% from June 30, 2016 to June 30, 2017. Multifamily loans totaled $50.5 million and grew $5.9 million or 13.3% since June 30, 2016. On the funding side, wholesale funding balances declined $40.5 million or 26.5% from June 30, 2016 to June 30, 2017. Brokered certificates of deposit balances declined $22.7 million over the 12-month comparison period and were $36 million at June 30, 2017. Federal Home Loan Bank advances declined from $94.3 million one-year ago to $76.5 million at June 30, 2017. These wholesale funding sources were obtained in 2013 when the bank sold the branch network in Georgia and have been replaced over time with retail deposits as we build our branch network in Virginia and Maryland. Since June 30, 2016 non-interest bearing deposits grew $22.8 million or 19.7% and at 12.8% of total deposits are beginning to reflect our respectable level in relation to total deposits. Additionally, since June 30, 2016 interest bearing deposits grew a strong $103.1 million or 12.3% even after the $22.7 million runoff of the brokered certificates. Excluding broker deposits, retail deposits grew $148.6 million or 16.5% from June 30, 2016 to June 30, 2017. And looking to the second half of 2017, we will continue to focus on improving our already strong balance sheet by continuing our focus on asset quality, interest rate risk, loan growth, margin preservation, and the growth in deposits especially non-interest bearing deposits. With that, I turn the call back over to Rex.

Thank you, Bruce. We continue to focus on improving the core metrics of the Company. We believe that by staying true to our mission of looking to develop full relationships in our markets, we will prevail in our bottom line results. Our management team continually reviews our strengths, weaknesses, opportunities and threats, so that we stay focused on the appropriate details of our products and delivery systems, and the customer relationship dynamic. And our goal is to continually and consistently enhance the franchise and therefore shareholder value. To do so, means, we focused on the major business factors and risks of growth and product diversity and the most efficient and effective ways to gain profitable market share. With their ongoing growing to win campaign, we constantly review our product level profitability and mix, the customer level profitability and mix, and how we can maximize earnings in our competitive marketplace. I believe this has given us a productive operating momentum which continues to translate into a strong well-positioned balance sheet for tomorrow's economic and competitive banking environment. I believe our future is very strong from the core operating trends we continue to show. The loan pipeline is very robust heading into the third quarter and we continue to gain large market share in three of the best growth markets in the Mid-Atlantic. I hope that you and our investors are as pleased as we have been with our results and we look forward to the rest of 2017. I thank all of you who participate in the call today and for your ongoing support of the Company. We will now open the call for questions.

We will now begin the question-and-answer session. [Operator Instructions] And our first questioner today is going to be Catherine Mealor with KBW. Please go ahead.

Thanks. Good morning.

Good morning, Catherine.

Hey, good morning. Bruce, can you help us think about what tax provision you’ll be using for the back half of the year?

Okay. Couple things there that affected the tax rate this quarter. Number one, I will go back to – internally we're still using 28%. It was lower this quarter, but there were several things that impacted that. The exercise of the stock options which now goes as a credit to income tax expense had an impact as well as the income that we derived from our Marilyn network is becoming a large enough percentage of the total income of the Company that we now have gone to an accrual basis on that. Because that was actually causing some swings in our effective tax rate, going to the accrual, going forward should smooth that out. So again, we got a little bit of a benefit this quarter. And of course, you never know when folks are going to exercise stock options, but internally we’re still using 28%.

Okay. That’s helpful. And then on loan yield, loan yield were nearly flat this quarter. Can you talk a little bit about what you’re seeing in pricing and then also in terms of your book repricing with rates moving higher? And how is the flatter curve impacting your ability to move loan yields higher to more meaningful pace? Thanks.

Well, we've got a fair amount, Catherine of adjust for rate loan which is good. And I think when you get into the CRE realm which is – that’s a lot of what goes on in our markets. We've had some competitors come in and do some pretty – I think you’re trying to buy some market share. And so we've just been defensive in some of those prices. We're certainly not being offensive with that kind of pricing, but I think going forward is if rates continue to go up, you'll see that loan yield continue to rise. And as we do more of the C&I loans – when they first book, they are prime base, so they go on a little lower than the rest of the portfolio, but they are adjustable in nature, so over time I think that’s a good mix that we want.

What percentage of your loan book is variable in that or reprice immediately with the June rate hike that we just saw?

We're pretty close to 50/50 between fixed and variable in our loan portfolio. And by now most of the loans have gotten to the floor. So any subsequent hikes should have a positive influence and an immediate reprice effect on – and most of the variable rate, I’d say most at the larger percentage of the variable rate are tied to prime, not all of course, but a good portion of them.

Okay, very helpful. Thanks.

And our next question is going to be Austin Nicholas with Stephens Inc. Please go ahead.

Hey, Rex, Bruce, good morning.

Hi, Austin

Good morning.

So you got some nice core loan growth of about 9% and I know you’ve guided to the kind of 9% to 11% in the back half. Is that an annualized basis on just those two quarters or for the full-year for that 9% to 11%?

I think for the 9% to 11% is going to end up be in the full-year when we roll it out. So we will catch up in the third and fourth quarter.

Got it, okay. That's helpful. And then maybe on a period end basis, it looks like that growth was a little bit lower and CRE was down. Was there some paydowns in that business? It looks like that on the C&I side there was a lot of growth there?

Yes. There we did have a significant payoff in the commercial real estate side. We did get a fee for, which increased the fees on it. But as I said, we've got some – we’ve had a few [indiscernible] come in with some pricing and we've been – we had to be a little defensive on some of it. But some of it we've said, we don’t let that business go. It's not worth it. And I think that was what was going on in this quarter. But we got a really good pipeline going into the third quarter, so I don't see that it’s being something we're going to be worried about.

Okay, that makes sense. And then maybe on the charge-offs, it’s great to see those near zero and then I also noticed that OREO was down nicely by about $1 million, little over a $1 million. Are there any recoveries on some of your long held properties that kind of drove the charge-offs down, the net charge-offs down?

We didn't get a whole lot of recovery. In this quarter, it was pretty neutral. I think we've been able to get ready some of that OREO and what we've got on the books at, so it’s kind of zero sum game there. But it has gone down nicely and we were down to just a couple of real properties to the fill with.

Got it, okay. That's helpful. And then maybe just on the non-performing assets, they ticked up slightly and it looks like maybe something in the commercial book. Could you maybe elaborate on what drove that up a little bit?

Yes, it's one relationship and it's a relationship that involves an operating line of credit secured by inventory receivables as well as a building, that's a warehouse office building and its one relationship. I feel pretty comfortable that we're working with a group and that will – things will be okay.

By the way it is now current.

Yes, so it’s back to being current right now. They had an issue that involved fire and that sets at a back a little bit. So we're pretty conservative when we make these marks and see where we are in those things. So we put it down in the non-accrual bucket, But as Bruce said they’re current right now. We're working through with them.

Got it, okay. That’s really helpful. Thanks guys. And then maybe just on the margin, I think you’ve gave some color earlier. But could you maybe just give some thoughts on how that looks out in the back half of the year and then maybe the assumptions you're making on the yield curve steepness or Fed funds increases?

Yes, let me make a couple of comments here that I think will help you guys with regard to the margin. Number one, the loan yield only dropped 2 basis points on a linked quarter basis, which number one speaks to the fact that we're not succumbing to some of the pricing pressures that we’re seeing in our marketplace and we got an increase in the prime rate toward the end of the quarter. Number two, with regard to securities yield there was an anomaly in the securities yield, the tax-equivalent securities yield dropped from 3.22% to 3.09%. What drove that decrease was I caught a security that I had purchased some time ago at a premium that was incorrectly being amortized to the maturity date and I had that fixed. And that was a $60,000 hit – I want to hit and I could have spread that over time, but I decided to correctly address it and fix it in full now and that was $60,000 which annualizes. So number two, you should see securities yield rebound in the third quarter. And that was pretty much what drove the decline in the yield on earning assets. Number three, with regard to the funding side, I think that when it comes to margin pressure, our strategy of even being willing to pay up a little bit for retail deposits. If you look on a linked quarter basis, the total interest bearing deposit cost only rose 4 basis points. When rates go up and the yield curve gets flat and folks are looking for funding, and this has been our thought process since before the Fed made the first move. And we made a conscious decision to lower our concentration of Federal Home Loan Bank advances and broker deposits in particular. The beta is higher on wholesale funding when rates go up then it is on retail deposits. In case, the cost of wholesale funding rose from 1.33% to 1.42% from the first to the second quarter, yet our cost of total interest bearing deposits only went up 4 basis points. So even though the cost is going up, it is going up at a slower rate than it would if we were continuing our reliance on wholesale funding. So I think we're going to see our margin do a little bit better in the third quarter because of the increase in rates, because of the increase in securities yield, and because of the change in mix that were affecting on the liabilities side.

And one thing I think with these two new branches, West Broad Marketplace branch opened up in mid May and it's got $30 million plus in deposits already, which is phenomenal. And our Lynchburg office has been opened about a month and it's a little over $3 million right now and they've got a pretty good mix between money markets and checking accounts. So we're real pleased with that and that going forward is going to kind of help us a little bit also. I think we continue to drive towards that. But Bruce is correct, I mean we've been looking at this for a while and our goal is to remain interest rate neutral as much as possible with the flattening and slightly upside to the yield curve.

Great. Yes that makes much sense, so fair to say taking a little – paying up a little bit for the retail now, but positions your – the firm better on a rising rate environment as we look out in addition to the branches.

Yes.

Okay. That's helpful. And then maybe just on taking a step back and looking at M&A in your region that the currency is up quite a bit and any color on anything you're seeing in the market on incremental talks or less or anything to that extent?

I think the Mid-Atlantic stays relatively active. And I think it's a question of timing for a lot of the smaller banks as far as where their boards are and their management teams, but it's obviously something we're very interested in. And I think there's some pretty strategic partnerships from Maryland down through Virginia we could make and we continue to try to just talk with folks and see where they are. And from a timing standpoint what makes good sense for them. But obviously, financially there are a lot of combinations for us that would make a lot of sense and we are obviously opened to those.

Great. That's all my questions. Thanks for taking my questions Rex and Bruce.

And our next questioner today is going to be Blair Brantley with Brean Capital. Please go ahead.

Good morning, guys.

Hi, Blair.

Hey, Blair.

Just a couple of questions. Can you maybe talk about more detail where you’re seeing loan growth opportunities from a geographic perspective and kind of [what we’re] seeing in those markets?

Yes, it’s been pretty diverse. We've seen a fair amount, probably about 35% of it's coming out of Maryland and then another half is probably the Richmond marketplace and then Lynchburg is doing another chunk of it. We've been very fortunate in Lynchburg. We've got a good team up there and we’ve seen some pretty good opportunities that cities got a lot of growth going on with it. But we're getting some good traction in Maryland now too and that's good. I’m real pleased with the geographic diversity as well as the loan type diversity. We're seeing across the board, it's not just CRE. It's some small business, a lot of consumer and C&I mixed in with it.

Can you speak to the opportunities from a talent perspective that you maybe seeing from some M&A [duplication] especially in Richmond?

Yes, we've hired – in the last month we've hired three or five – five operational people in both credit operations, deposit operations. We've picked up a very talented e-Banking person who is going to really push us to set up our e-Banking system as its own profit center. And all that is from some of the merger and acquisition fallout between EVB, SONA, Xenith, Hampton Roads Union. So we've been very fortunate with that and I think we were building a really strong management team.

Many things from the volume production side, commercial lenders?

We picked up a good commercial lender up in Richmond and we've picked up a small business person. So we're seeing a few things in that realm to, yes.

Okay. And then to switch gears on the expense side, I guess all the amortization is gone now right?

Now there’s a little piece left that comes off in October.

$20,000 a month now through October, but $138,000 a month expired May 31.

So after Q3 it will be pretty much big on that there?

That’s right.

Okay. Is that going to be a net savings to the bottom line or is that can be reinvested into the franchise?

It will be a net savings for a little bit of time. And the other thing is in these branches we're building now and one at West Broad Marketplace because of the ground lease, we've got a 5,000 square foot building and we're in the middle of a negotiation on a lease right now that I think will take place. So we'll start getting some rent payments on that building that will almost cover the ground lease hopefully by the fourth quarter. We're going to do the same thing with some of the future things we're looking at where we can try to keep these branch expenses down. So that is not kicked in yet. That will kick in I think in the fourth quarter to help the expense base.

Okay, great. Thanks guys.

Yes sir.

Thank you. End of Q&A

This will conclude the question-and-answer session. I would now like to turn the conference back over to Rex Smith for his closing remarks.

I appreciate everybody listening in today and hopefully you're as excited about the future of the Company as we are. And I welcome anyone to give us a call. Bruce and I will be here today if you have any follow-up questions or anything you'd like to discuss, we’re happy to do so. And we appreciate your – you are investing in us.