Good day, and welcome to the Brookline Bancorp Second Quarter 2019 Earnings Conference Call. [Operator Instructions] Please note, today's event is being recorded. I would now like to turn the conference over to Lindsey Kitchens of Brookline Bancorp. Please go ahead, ma'am..

Thank you, Rocco. Good afternoon, everyone, and welcome to Brookline Bancorp's Second Quarter 2019 Earnings Conference Call. Yesterday, we issued our earnings release, which is available on the Investor Relations page of our website, brooklinebancorp.com, and has been filed with the SEC.

This afternoon's call will be hosted by Brookline Bancorp's executive team, Paul A. Perrault and Carl M. Carlson. Before we begin, please note that this call may contain forward-looking statements with respect to the financial condition, results of operations and business of Brookline Bancorp.

Actual results may differ from these forward-looking statements. Factors that may cause actual results to differ include those identified in our annual report on Form 10-K, our most recently filed 10-Q and our earnings press release.

Brookline Bancorp cautions you against unduly relying upon any forward-looking statements and disclaims any intent to update publicly any forward-looking statements, whether in response to new information, future events or otherwise.

Any references made during this presentation to non-GAAP measures are only made to assist you in understanding Brookline Bancorp's results and performance trends and should not be relied on as financial measures of actual results or future predictions. For a comparison and reconciliation to GAAP earnings, please see our earnings release.

And now, I'm pleased to introduce Brookline Bancorp's President and CEO, Paul Perrault..

Thank you, Lindsey. Good afternoon, all. I'm accompanied today by our Chief Financial Officer, Carl Carlson, who will walk you through our quarterly financial results following my comments. I'm pleased to report that we had a solid quarter, driven by organic loan growth.

For the quarter, loan balances grew $117 million and our deposits increased by $2 million. While our margin declined from the first quarter, our net interest income slightly improved, and we had another solid quarter of fee income. We reported earnings of $20.5 million or $0.26 per share for the second quarter.

And yesterday, our Board approved a quarterly common dividend of $0.11 per share, which will be paid on August 23 to stockholders of record on August 9. We are continuing to execute on our plans, growing organically in the markets that we serve. Market competition continues to be very strong, and the interest rate environment remains challenging.

Our dedicated employees continue to make Brookline Bancorp one of the region's leading commercial banking companies. I will now turn you over to Carl, who will review the company's second quarter..

Thank you, Paul, and good afternoon. As Paul mentioned, earnings for the quarter were $20.5 million, down $2 million from the first quarter. While total revenues improved $1 million from Q1, expenses increased $733,000, and the provision for loan loss increased $2.4 million.

We had strong loan growth of $117.1 million in the second quarter or 7.3% on an annualized basis. Our commercial real estate portfolio grew $83.1 million or 9.7% annualized. C&I grew $39.8 million and consumer loans declined $5.7 million. Loan originations and drawdowns in the quarter were $529 million, with an average weighted coupon of 5.57%.

The weighted average yield on the loan portfolio for the quarter was 5.14%, an increase of 5 basis points from the first quarter as the overall yield on earning assets rose 4 basis points to 4.88%. Total deposits grew $1.8 million during the quarter, with strong growth of $31.8 million in demand deposits and $77.2 million in CDs.

However, this was offset by declines in NOW savings and money market balances. The change in deposit mix and repricing increased our cost of interest-bearing liabilities by 9 basis points. Higher funding cost caused our net interest margin to decline 9 basis points from the first quarter to 3.55%.

However, our net interest income improved $135,000 on a linked quarter basis, driven by our continued growth in earning assets. Included in net interest income is the impact of purchase accounting and prepayment fees.

Purchase accounting was $176,000 in the second quarter, down $137,000 from the first quarter, and prepayment fees were $947,000, down $159,000 from the first quarter. Combined, the quarter-over-quarter changes had a 1 basis point negative impact on the margin during the quarter.

Noninterest income was $7.5 million in the second quarter, up $848,000 from Q1. The increase was driven by strong loan participation activity and a positive mark-to-market of $357,000 on the equity portfolio versus a negative mark of $134,000 in the first quarter.

The company's noninterest expense increased $733,000 from the first quarter to $39.6 million. The increase was driven primarily by salaries and benefits, FDIC premiums, marketing cost and recruiting expense and higher charges related to OREO and repossessed assets.

Our provision for credit losses for the quarter was $3.8 million, an increase of $2.4 million from Q1. The increase in the provision was driven by strong loan growth and charge-offs in excess of established specific reserves. The allowance for loan losses of $58.6 million represents 90 basis points on loans.

During the quarter, nonaccrual loans declined $1.5 million to $21.3 million or 33 basis points of total loans, and net charge-offs were $3.1 million or 19 basis points on an annualized basis. Other real estate owned and repossessed assets also declined $2 million during the quarter. That concludes our formal statements.

We will now open it up for questions..

[Operator Instructions] Today's first question comes from Mark Fitzgibbon of Sandler O'Neill + Partners. Please go ahead. .

Hey, guys. Good afternoon. I noticed that you guys outgrew the Massachusetts deposit insurance fund. I guess I'm curious how important that guarantee is to your customers.

And do you expect it to have any impact on deposit balances going forward?.

Well, we're certainly working hard to make sure it doesn't. It's really much too early to be certain, but so far, it's a pretty common, stable environment..

Okay. And then, Carl, I'm curious as to your thoughts on the net interest margin for the back half of the year and what your assumptions are for rate cuts..

I think, right now, we believe that the Fed will likely cut rates. Whether we agree with that or not is a different story, but we do think they're going to cut rates 25 basis points at the end of this month. And we expect, right now, the margin to likely compress anywhere from 5 to 7 basis points, including that cut in run rate..

So if we have a cut in September, do you think there's an additional 5 basis points of compression in the fourth quarter?.

I don't want to go there just yet..

Okay. And then it looks like there was one large net charge-off in the quarter.

What caused -- was that -- what credit was that? Can you give us a little bit of color on it?.

Yes, I can give you some color. I mean, we sort of hit a couple of potholes, which is why the results are the way they are, sort of unusual for us to have charge-offs like that.

But one of them, the larger one, which was like $1 million or so, was from a credit which was a company run by a guy who committed a lot of fraud, not so much against us, but we are collateralized. We've been trying to get our stuff from the bankruptcy judge and it's just not going very well.

And so we thought the better part of valor was to take a strong hit to make sure that we get this thing behind us. And we're not really sure when we'll realize on the collateral, but we should be done with the balance sheet aspect of that credit. The other was that we had a multiple medallion holder in the Cambridge market.

It has quite a few medallions in Cambridge. In Cambridge -- as bad as New York and Boston have been in medallions, Cambridge is worse. And it's looking like this guy is beginning to throw in the towel, and so we took a very sizable hit on this guy. And this literally does, I think, put the taxi business behind us.

This was the last major one that was left. And that was a little under $1 million, I think, for that guy. And then, you had your garden variety stuff..

And our next question today comes from Matthew Breese of Piper Jaffray..

I just wanted to ferret out the margin discussion a little bit more.

How much of your loan book is tied to a short-duration index like LIBOR or prime?.

It's about $1.5 billion..

Okay.

And so teasing apart the margin this quarter, the decline, how much of that was tied to the move in LIBOR? How much of that was tied to a change in day count?.

I don't have that detail at my fingertips. So while we have some loans tied to 3-month LIBOR, some tied to 1-month LIBOR, as you know, 3-month moved a lot more than the 1-month, but the 1-month has had a negative impact on the loan yields for the quarter.

Day count always has a big impact on the margin as you move forward, and you'll see the same type of impact in Q -- and we already have that included in our numbers for Q3..

Okay.

And then on the deposit side, could you just talk about the gathering environment, how competitive it is and whether or not you've been able to take advantage of some potential opportunities there?.

Well, I would say that in the first and second quarter, there was sort of a running around aspect in a very competitive market, lots of stuff going on, particularly in CDs, as you can see on our balance sheet and with others. And I think that, that had some level of impact on the margin.

I'm not the accounting guy so I can't tell you how much, but it was a little wild out there. And as we have been going through July, things have gotten much calmer and the deposit gathering seems a lot more organized and favorable to us.

So I think we have to get through that late fall/winter into spring timeframe, when rates were jumping around on everybody before they sank, and I think the future is a little bit better than the recent past..

Okay.

And kind of tying this all into the margin outlook, I understand the outlook for next quarter given the Fed cut; would you expect the same 5 to 7 basis points of decline per Fed cut if the deposit environment is going to improve for you?.

That would probably be in that range..

And our next question today comes from Collyn Gilbert of KBW. Please go ahead. .

Thanks. Good afternoon, guys. Just to drill into the deposit component a little bit more.

Can you just talk about some of the dynamics that you did see this quarter that caused kind of deposit growth to be flat and see some outflows in some of those segments? And then, what your outlook is for growth going forward, again, given what may happen here with rates and just the competitiveness that you're seeing in the market..

Sure. And a lot of these deposits, I don't want to just say it's seasonality, but we've seen -- it's not like we're losing customers or anything of that nature. It's been movement of money between banks. So we've seen municipalities, some large balances on municipalities move in and out of the company over the quarter.

DDA, in particular, had gone down during the quarter, maybe it had to do with taxes, paying taxes, tax season and all that type of thing, and then came back very strong late in the quarter. On the savings account -- in saving accounts, we have our 1031 product.

Those balances are down considerably from the first quarter as we just hadn't seen as much volume in that space. And on the money market side, it's just a very competitive environment where people are looking for the best rate and whether it's going to be money market or put some of it into CDs, and so we continue to see that dynamic.

On the pricing side, we are -- we have seen pricing in the market back off quite a bit..

Very recent..

Yes, very recent..

Okay.

And in terms of the movement just within your own book of customers maybe moving into higher structures, do you think that, that will continue into the back half of the year? Or how do you sort of manage to control that, if you can?.

I wouldn't say that we try to manage or control that in any way. We're out there with very fair rates for our customers, providing a great place to bank and with fair rates. I think that's kind of where I would go. I mean, we're going to be aggressive on the pricing side as much as we can..

I had tried to get to that a few comments ago, Collyn. It feels like it's gotten a lot calmer. When we were going through the winter into the spring, rates had been going up and there was an expectation that they would likely continue to go up, so people were jumping into intermediate-term CDs like all get out.

And in our New England market, people were bidding those up considerably. So hence, our cost of money was moving. Now that rates have come down and intermediate rates have come down considerably, there's -- there doesn't seem to be the rush to move from money market to CDs that we saw before.

So I think we're going into a period where we can carefully manage the cost and the quantity of those deposits..

Okay. Okay. That's helpful. And then just sort of tying that to the overall growth outlook. I mean, you guys had really good loan growth.

Do you think that the loan growth rates will continue to exceed the deposit rates over the next few quarters and then elevating that loan-to-deposit ratio? Or how should we think about the relationship between the 2?.

I think, despite all of our efforts, we have been within a pretty narrow range in the loan-to-deposit ratio for an extended period of time. In any given quarter, it might jump up and down a little bit.

But I would like to see us lower the loan-to-deposit ratio, but our loan originations tend to be so strong that even though we have quite a bit of success in deposit growth, we're just keeping up. So if I were a modeler, of which I'm not, I think I would expect that we'll be in that 1 -- between 1.10, 1.20 range, maybe it's 1.15.

I don't know exactly what it is today, but it's something like that..

Okay. Okay. That's helpful. And then just finally on the securities book. Carl, obviously, you guys were impacted this quarter by accelerated prepays in the securities book.

Are you thinking about managing that securities book any differently as we go into this next couple of quarters? Or how should we think about kind of your -- the structure of that securities book?.

The securities book is basically maintained for asset liability purposes as well liquidity, and we've been letting that portfolio come down in this interest rate environment. And I would imagine that would continue to happen somewhat, perhaps at a bit of a slower pace..

And our next question comes from Laurie Hunsicker of Compass Point. Please go ahead. .

Yes, hi, thanks. Good afternoon. Carl, I wonder if you could just share with me the provision of $3.8 million.

How much of that was related to taxi? The loan-loss provision?.

The provision..

You mean the charge-offs?.

Well, yes. No, both the provision and the -- so I'm looking for 5 things.

So where do we stand with the taxi balance now? Is that CRE piece still there? Is there a specific reserve? What were the charges-offs? What are the non-performers? And then, what piece of taxi was in your loan-loss provision? Presumably, everything you charged off -- maybe I should have started the other way.

I guess maybe what's -- starting, what were your actual charge-offs? You mentioned $1 million, but I wasn't sure if it was $1 million in charge-offs. If it was $1 million relationship. If you could just share those -- yes..

Sure. Sure. So let's start with the charge-offs. So we had net $3.1 million of charge-offs in the quarter. We had specific reserves of about $1 million against that. Of the $1 million of specific reserves, only $224,000 was associated with taxis that got charged off in the quarter.

So the specific reserves didn't go down much associated with the taxi medallions. We did have a charge-off of $600,000 in taxi medallions in the quarter. So that's -- so basically, we had additional charge-offs of about $377,000 over and above what the specific reserve had already been set at..

Got it. Okay. And then -.

As far as other, I would say we probably add -- we've added more to specific reserves, and I'm guessing that's probably around $200,000, maybe something less than that, probably around $200,000. We'll have that all in the Q, likely. It's gotten so small. One of the things we did was take the Cambridge medallions down to $10,000.

We -- previously, we had the collateral value set at $20,000, so we brought it down $10,000. So we had some increases on the specific reserves around existing Cambridge medallions. So that's basically where we are on that..

And what is the actual taxi balance as of 2Q?.

So we have one loan that we don't really consider a taxi. I think I talked about this before. It's about a $9 million exposure to someone we kind of really figure is more like C&I. There are a lot of taxi medallions, but he has also a lot of other collateral.

And then outside of that relationship, we've got $2.5 million of taxi medallions out there, or loans on the books. Reserve's at 47%, just to give a sense of what that is..

47% reserve. Okay.

And I guess sort of asked a different way, if we're thinking about your loan-loss provision and your loan growth is running mid to high single digits, assuming we don't have any sort of outsized charge-off events like we just saw, is it fair to assume that your loan-loss provision is probably running somewhere between about $1.5 million and $2 million a quarter? Is that a good way to be thinking about it?.

Well, just for loan growth this quarter, we required $1.5 million of provision, just for the loan growth..

So it isn't a bulk.

Anything over -- anything that's more general reserve charge-offs, that's kind of -- that's -- you're filling the bucket and then you're putting up [Indiscernible].

Great. That's perfect. Okay.

Tax rate, how should we be thinking about that?.

25%..

Okay. Great. And then, Paul, just last question. We've seen a lot of M&A recently year-to-date in the New England marketplace. Can you just update us on your thoughts around M&A again? Just refresh us where you are, maybe where you'd like to be and how you think about going over $10 billion..

Well, I don't think for a second about going over $10 billion or not. I'm indifferent if we're under $10 billion or over $10 billion. So that doesn't get on the paper. The desire to continue to have a truly core franchise is very, very important to us.

And so in the transactions that might have been potential in the area that could have been done by us, we have tended to view the core as reasonably valuable, and the non-core stuff, we don't want to pay up for. Hence, it just hasn't really been our kind of thing.

Our growth rates have shown us to be able to grow sufficiently in order to be successful, and so we are not eager to dilute the franchise. But we keep our ear to the ground, we have conversations. We are in the play, trust me, but the way that things have come out has been okay by us..

Okay. Okay. And just last question.

Just can you remind us just -- or update us on your thinking in terms of how far west outside of Boston you would venture if you found something interesting?.

Oh, I think about the Northeast as being a potential, and maybe even into the Middle Atlantic. We would go to places that look and feel like the place we currently operate..

And our next question is a follow-up from Collyn Gilbert with KBW. Please go ahead. .

Thanks. Just wanted to check back in on sort of the outlook for fees and expenses. You guys have been doing a pretty good job of increasing the fee component, and just wondering what your outlook was there.

And then also check in to see, I think, in the past, Carl, you had said maybe like a 3% to 4% OpEx growth rate for '19, if that's still in the ballpark?.

So sure. On the fee side, the derivative income is probably one of the bigger things that can ebb and grow with activity. It's been very consistent of late, and pipelines continue to be very strong. And so we're very -- we're optimistic on where that is, that that'll be fairly consistent going forward.

The other thing is basically on loan sales and participations that we do, that also can -- depending on the quarter, how much activity goes on there that also looks pretty solid going into Q3. So I'm pretty confident that the guidance here would be fairly consistent fee income.

As far as equity gains and things like that, I'd throw that out of the calculation. On the expense side, we did have a few items that I consider kind of special this quarter. The OREO expense, we got out of some properties and we brought that balance down. So I don't expect to see those types of expenses going in Q3.

And we have a couple of other things that might -- we said, had some higher recruiting cost and things of that nature going through the quarter. So I think I would guide expenses to be fairly flat from Q2 to Q3..

Okay. Okay. That's helpful. And then, if we just tie all of this together, obviously, the interest rate environment is going to put pressure on numbers for next year.

How do you guys think about just broadly generating EPS growth or kind of driving some performance targets? Will there -- are you committed in a way that you would -- you're -- you want to find offsets to some of this margin compression to try to hold yourselves into that mid-single-digit EPS growth range? Or do you look at 2020 and saying, listen, it's going to be a year where we're going to be down and it's just the nature of the environment? But just curious, kind of more broadly, how you're thinking about some of the financial targets..

It's difficult to predict the future. So I think if we can continue to have reasonably strong loan growth and we work every day to continue to improve our funding base, then I expect that we should continue to be able to make progress.

Now having said that, the interest rate environment and how it moves obviously has a big effect on us, not the least of which because we have such a high loan-to-deposit ratio, but the game plan is to work to improve that, continue to have the originations, get back to the minimal kinds of charge-offs that we're used to.

And I would expect that we could continue to creep up the EPS ladder. End of Q&A.

This concludes our question-and-answer session. I'd like to turn the conference back over to the management team for any final remarks..

Thank you, Rocco, and thank you all for joining us. We look forward to talking with you again next quarter. Good day..

Thank you. Today's conference has now concluded, and we thank you all for attending today's presentation. You may now disconnect your lines, and have a wonderful day..