Ally O'Rourke - Investor Relations Officer Mike Daly - President and CEO Josephine Iannelli - Chief Financial Officer George Bacigalupo - EVP Commercial Banking Sean Gray - EVP Retail Banking.

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Good morning and welcome to the Berkshire Hills Bancorp's Second Quarter 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). Please note this event is being recorded.

And I would now like to turn the conference over to Ally O'Rourke, Investor Relations Officer. Please go ahead..

Good morning and welcome to America's most exciting bank. Thank you for joining us in this discussion of our second quarter results. Our news release is available on the Investor Relations section of our website, berkshirebank.com and will be furnished to the SEC.

Our discussion will include forward-looking statements and actual results could differ materially from those statements. For a discussion of related factors, please see our earnings release and our most recent SEC reports on Form 10-K and 10-Q. With that, I will turn the call over to Mike Daly, President and CEO.

Mike?.

Thank you, Ally. Good morning everyone welcome to our second quarter conference call. With me this morning is Josephine Iannelli our Chief Financial Officer and of course other members of our management team. We released earnings last night. I am happy to report that we grew our core EPS 5%.

We produced a clean quarter and we exceeded our earnings guidance. Balance sheet growth was strong, fee income was up 10% and we held the line on operating expenses as we said we would.

We reported core EPS of $0.44 and GAAP earnings of $0.46 a share for the second quarter and the difference here is simply the result of the lower tax rate which Josephine will comment on in just a few minutes.

Our core EPS is now up 10% in the last two quarters and we're able to achieve this while we were absorbing the one-off of purchased owned accretion. Now if you back out the accretion we have moved our core EPS nearly 20% in the last six months.

During the quarter we increased our core revenues at a 9% annualized rate while keeping core operating expenses flat thereby producing positive operating leverage. We also completed the integration of our 20 purchased branches increasing our footprint by more than 20% and we’ve had a nice run of loan production to utilize those new core deposits.

So I think this is good progress and a reflection of a lot of hard work and commitment from a very dedicated employee base and I want to thank each and every one of them for that right now. Now continuing on the second quarter total loans increased 5% including a 7% increase in commercial loans.

We posted 8% growth in commercial real-estate with strong results across the entire footprint after the unusually cold winter and C&I lending was up over 4% for the quarter or 18% annualized, continuing our trend of double-digit annualized growth in this category.

Looking ahead the pipeline remains a steady in the $140 million to $150 million range for the third quarter. So I’d expect commercial loan growth to be near double-digit annualized rate again.

CRE lending did exceed our expectations this quarter and it was impacted by some expected run off that moved into the third quarter and some closings that didn’t occur in the first quarter that occurred in the second quarter. So I wouldn’t expect to see the growth rate for that category staying at these elevated levels.

Central Mass and the Albany region they showed the strongest growth in commercial loans this quarter, though as I said we did have good results across the footprint. In Massachusetts our growth was led by Jim Curran’s team and Westborough and we once again saw solid results out a Mark Foster’s ABL team.

Meanwhile Albany continues to grow organically for us and we’re starting to see real progress in the Central New York region through our strengthened branch presence. We’ve also recently added a small business lending team in that market, another example of an established business lending team being drawn to the company’s culture and footprint.

And one of the advantages of our footprint is the relationships that we’re building with smaller community banks in different regions. We now have the ability to offer services to these banks including the club deals and other wholesale activities and I now like the fact that we can be considered resource for.

Our consumer loans were up 5% quarter-over-quarter with have good growth in just about every category. And looking at the third quarter, we expect total loan growth to be in the high single-digits annualize. Our overall loan growth was funded by 6% deposit growth this quarter and our loan to deposit ratio dropped to 99%.

We increased our utilization of broker deposits to diversify our funding and take advantage of the best funding costs and this did help to bring down our overall cost of funds 9%, up from the first quarter. So kudos to Mike Macy and that’s good trajectory execution.

We also continue to build on the deposit basis that we acquired with the New York acquisition in the first quarter and that is going very, very well. Not expect that we'll continue to grow deposits at a low-single-digit rate in the third quarter, while focusing on our demand deposit base which increased at a 12% annualized rate in the second quarter.

And these of course are the core accounts that established relationships, the stickiness and they also have the greatest impact on our long-term margin. One of the things that we think is important is changing needs of depositors.

Sean Gray, our retail executive has put a lot of time and effort and thought into making sure that we enter this new phase of electronic banking prepared. And you know that we have reinvented our retail branch model and we’re providing just as much energy right now to our online and mobile solutions.

Both of these initiatives continue to reveal cost reduction and revenue generating opportunities. I think Sean has pioneered new ways for us to build profitable customer engagement channels and we are pretty excited about the possible avenues that continue to develop here.

Let me turn to fee income, and obviously I am pleased with the growth we produced this quarter. Total fee income was up 10% over the first quarter, realizing healthy gains in most categories. The initiatives we have undertaken to increase and to formalize the cross-sell of fee products has been effective and is starting to payoff.

Swap demand was helped by the decrease in the yield curve and deposit related fees were also strong. And while insurance and wealth management fees were down quarter-over-quarter as expected due to seasonality, both categories grew year-over-year. Driving the fee income side of the business is key to reaching our long-term goals.

Our fees have improved over the last three quarters as a percentage of our revenues. And I would like to see this number get back to around 30%. And we’ll continue to look for ways to expand our relationships with customers and take advantage of our overall footprint to do that.

I’ll quickly note that our credit performance remains strong and in fact, we do scarify some yield as a result of our credit selection which continues to drive improvement in our internal credit ratings every quarter. We also increased our provision in the second quarter due to our high loan growth.

And so we built our allowance even though our last expectations remain matched. Now with that, I'd like to turn it over to Josephine, she'll take you into read the financials and then once she's done, I'll sum it up.

Joe?.

Thanks Mike and good morning. I'm pleased to elaborate on our strong earnings growth for the quarter. We’ve touched upon our positive operating leverage and strong revenue growth with flat core expenses.

We had 6% growth in core revenue before purchased loan accretion, which was driven by a 6% increase in average earnings assets and a 10% increase in fee income over the prior quarter. Mike talked about our loan growth drivers, so I'll focus my comments on the margin and our yields.

We had a lot of things going on with the margin in Q1, in Q2 the margin was 326 and this is a good reflection of our current state. We recorded $1 million in purchased loan accretion which was mostly due to recoveries on the liquidation of impaired loans.

At quarter end, the remaining balance of one amortized accretible yield on the impaired purchased loans was $2.4 million. As you know we expect this accretion to have less in taxes as we go along, although it would still be an element of variability. Before accretion, the net interest margin in the second quarter was 390.

The loan yield before accretion was 386 compared to 399 in the prior quarter. We have previously noticed that there is some ongoing compression in the market. Additionally, we saw the flattening of the yield curve in the second quarter contribute to the spread pressures. Total loans came on in the second quarter with an average coupon in the mid 3s.

Through our balance sheet strategies, we delivered $1.6 million pick up in securities income, much of this was a result of the first quarter balance sheet adjustments and the additional higher yielding securities purchased in the second quarter.

We also continue to reduce our cost of funds in the second quarter shaving off another 5 basis points which reflects the full quarter benefit of the brand's purchase along the utilization of more cost efficient deposits. These deposits are positive for our interest rate sensitivity for the next couple of years.

I would add that our DDA account generation continues to run at a double-digit annualized rate. Following our branch acquisition we have been adjusting our cost and account acquisition strategies.

In the second half of the year, we expect organic business generation to deposit balances while we continue to closely manage our pricing margins in our fund transition.

Turning to our expectations for spread income in Q3, on an annualized basis we expect high single-digit loan growth to be funded with the mix of organic deposit growth along with wholesale activity including security sales, borrowing vendor broker deposits.

We anticipate some additional loan yield compression in the third quarter including a further decline in purchase loan accretion. We also expect to achieve an additional modest reduction in our funding cost. Overall, we expect margin compression excluding accretion similar to what we have seen somewhere in the range from 3 to 6 basis points.

The accretion benefit in Q3 is expected to be similar to what we posted in Q2. By limiting our margin compression and maintaining strong loan growth, we expect to see further growth in net interest income. Turning to non-interest income. Mike discussed the elements of our 10% fee income growth in the second quarter including strong swap fee income.

Looking to the third quarter, we expect that swap fees will down while other fee income will pick up a little despite some seasonal constraints. Overall, we expect a modest decrease in total non-interest income but a modest increase in total revenue based on loan growth.

Turning to the loan loss provision, Mike highlighted our favorable credit trends which we expect to continue in the third quarter. The increase in the provision was driven by the high loan volume growth in the second quarter. As this growth normalizes in the third quarter we expect that the provision will come back down in the mid 3s.

Moving now to core non-interest expense. We brought this in flat at $39 million which was in line with our guidance. And we had no material non-core expenses. Our efficiency ratio came in a little under 63% now that we’ve had the opportunity to leverage our branch purchase and build other revenue synergies.

Looking forward to the third quarter we expect the pickup in expenses related to our ongoing growth while we continue to closely manage our spending.

Compared to last year’s second quarter our core expenses are down more than 30 basis points in relation to average assets even after considering a full quarter of operating costs for the acquired branches that’s huge. This is an 11% improvement as a result of our restructuring work and the team’s focus that Mike commented on.

Turning to the bottom-line. Our GAAP EPS was $0.02 more than our core EPS. Our GAAP tax rate is running around 26% as a result of the non-GAAP charges taken in the first quarter which reduces our year-to-date GAAP pre-tax income. Our core income for the year-to-date is higher than this and we therefore have a higher core tax rate of 30%.

We should see a similar $0.02 GAAP EPS difference in the next two quarters but otherwise we don’t expect any other material differences between core and GAAP earnings. Putting it altogether for the third quarter, we expect to at least do as well as the $0.44 core EPS that we posted this quarter.

And our focus is to mute this [so many fix] annualize core run rate North from here. As Mike noted our run rate is up nearly 20% excluding accretion over the last couple of quarters, while we have also enhanced our overall franchise value and team strength.

Our second quarter result gave us a 4% increase in tangible book value per share to 16.40 and we have more than the dilution recorded on the branch purchase in the first quarter. Our core return on tangible equity also increased to 11.3% in the second quarter from 10.8% in Q1.

Tangible equity came in at 6.8 of tangible assets following the high-loan growth in Q2. Our internal capital generation is targeted to support our normalized balance sheet growth and also to move our capital ratios up. As we noted last quarter, we are comfortable at these levels. We posted an improvement in core and gap equity returns in the quarter.

Our core return on assets was flat at 71 basis points due to the higher asset growth and again we're targeting to see this advance based on more normalized growth. I've mentioned in our last call that we expect to actively manage our balance sheet to support our market initiatives and value creation.

In the second quarter, this was most evident in our funding diversification while we reduce funding costs an increase the contribution from our investment security. I am pleased to report that we enhanced our loan and relationship pricing analytics.

I feel we have expensive real time data and a close partnership with our market leaders to source through the competitive landscape and make the best loan and deposit pricing decisions.

We are determined to show steady progress in driving earnings and profitability towards our long-terms goals and with the same processes we are rebuilding our equity and improving our asset sensitivity.

We anticipate that our net interest income run rate will increase in the mid single digits or better with a 200 basis points upward ramp while we are positioned to take advantage of such a rate increase we are not depending on that and our strategies are moving towards our long-term financial goals.

We made a lot of progress in the second quarter and I believe that this is more readily visible with some of the acquisition noise behind us. With that I will turn the call back over to Mike..

Josephine thank you, and terrific job.

Now as Jose said we do expect to produce core EPS of at least $0.44 in the third quarter and we will work as hard as we can to do a little better while we are managing the further run off of purchase loan accretion and continuing adhere to our disciplines and asset selection, both from a credit perspective as well as an asset sensitivity perspective.

And we have announced a couple of significant changes recently and I want to touch on those right now. First, Bill Ryan, former Chairman of TD Bank, now has joined our Board as Independent Chairman. Bill and I share a vision for banking in New England and New York and the opportunities available for a company like ours.

With his relationships his knowledge of the market and his banking expertise, I believe there is a lot we can do together to continue growing the value of this franchise. Suffice to say we are all pretty excited to have him on Board. Now I also want to take a minute to thank Larry Bossidy who retired from the Board this last month.

As many of you know Larry has been a significant resource to the Board of Directors, to our executives and of course to me personally. He joined the Board as Chairman when I became CEO and he has been both mentor and friend.

And I’ve said before you don't replace a guy like Larry, the most important thing we can do is take what he has taught us and execute on those things and that's really all a guy like Larry wants. So, I wish him all the best as he settles into yet another phase of retirement.

And we look forward to continuing to enjoy his company as an investor and a friend of our organization. In addition to the Board changes, we also made a change to our charter, converting from a thrift to a commercial bank under Massachusetts statutes.

And this has no immediate impact on us or our customers, but it does give us greater flexibility with respect to the future commercial lending since the bank will no longer be required to comply with the qualified thrift lender test. Together with this charter change, we also ended our membership in the depositors insurance fund.

Our customers will however continue to be covered by the FDIC insurance and we don't expect any significant impact from this change. Now we’ve done a lot in the last year to retool our business.

We rightsized our expense structure and we brought a new executive management, we upgraded our commercial and finance teams and we have improved materially our analytics for day-to-day decision making. And we did this while retaining all of our key personnel; in fact we saw increased commitment and increased energy from our people.

One of the reasons Bill Ryan agreed to join us is the strength of our culture. And I think these past several quarters show just why culture is so important. So, I’m pleased with the progress we’ve made in the last year as we build on our franchise investment, but believe me, we understand this is a start, not a finish.

Our focus continues to be on our performance goals, improving our efficiency and our returns for shareholders. I think we’ve built a unique franchise in the New England and New York with a footprint and culture frankly that are difficult to match.

And we are comfortable with our capital levels and our double-digit internal capital generation which is consistent with our long-term goals for balance sheet growth and positive operating leverage.

And as we move into the back half of the year, I am confident about the opportunities in front of us and we’re committed delivering strong results to those who have invested and those who will invest in this enterprise. That’s our obligation, that’s our promise and we are fully committed to it. And with that I will open it up to any questions..

Thank you. (Operator Instructions). And our first question comes from Mark Fitzgibbon of Sandler O'Neill. Please go head..

Hey, good morning..

Hey, Mark.

How are you?.

Terrific, thanks.

I wondered if you could sort of comment on your long-term outlook for expense growth excluding acquisitions how you're thinking about expenses and perhaps your goals for the efficiency ratio long-term?.

Well as you know, we know we have to get our efficiency ratio down under 60%. And frankly we all believe that the mid to high 50s is an area where we can operate and operate effectively. So, on a long-term basis Mark that said, now positive operating leverage is going to be the key to us getting to that efficiency ratio.

And so there will continue to be a disproportionate increase in expenses to income. And so I see that as the road to that efficiency ratio rather than taking a lot of expense out from this point on..

Okay.

And then secondly, I wondered if you could share with us the duration in the cost of those broker deposits that you added in the second quarter?.

Sure.

Joe?.

Sure. Mark, we added about $288 million and most of those are 1 month to 12 months, average 9 months period and we paid about 55 basis points for them..

Okay, super.

And then, I guess Mike, I was curious if you could sort of share with us some macro M&A thoughts, what you’re seeing out there?.

Well, sure Mark. And I am not sure that I am seeing anything other than what everyone else is seeing which is marathon. There is activity I think; I think people are having conversations; and we may see towards the end of the year and next year some potential consolidations and some partnering.

Frankly, our priority right now is to improve the performance of the company. So I may not be as [in and out] as I’ve been in the past..

Thank you..

Our next question is from Matthew Kelley of Sterne Agee. Please go ahead..

Yes, hi guys.

Just a couple of questions here, what was the C&I utilization rate, any improvements versus the first quarter or year-over-year?.

George?.

Matt it’s been very steady still around low 60%, 61% utilization for ABL is even wider in the high 50s..

Okay. Got you.

And then the home equity growth, what were the yields on that balance growth? And is that promotional program is ongoing and what we should expect there?.

Sean?.

From a yield perspective, that new business is coming on approximately at prime. No promotional increases I think it’s just based on the expanded footprint as well as the expansion of net new customers to the organization..

Okay.

And then the securities was up a little bit, but sounds like you might take that back down to fund some loan growth and I have a little bit remix is that an accurate assessment?.

Yes, exactly Mark. As you see that it's up about 50 million for the quarter, but it did contribute 1.06 million of income to the quarter..

Okay and from that 1.2 billion lower base directionally is it flat or down over the next year?.

From the 1.2 is a flatter go down over the next year..

It will go down. .

Okay, got it. I missed the, when you go into the guidance there.

Could you repeat again what you said on the loan loss provision?.

Yes, it was elevated in Q2 given the surge of loan growth and we expect that to kind of come back down to the mid threes, in Q3..

Okay, got it. And then the core margin which you talk about having 3 to 6 basis points of additional compression in 3Q.

If we just stay in this current rate environment, where would you anticipate the core margin dropping out?.

What do you think.

Somewhere north of 310..

Yes, I’d agree..

Okay. So not a lot of compression on the core left. Got you, got you.

I think that was and then what's your expectation for mortgage banking again on sale line on there as we head into 3Q and what other pipelines like in, what you're seeing last couple of weeks there?.

What are you seeing Sean..

I think Q3 will look a lot like Q2 Mike obviously we are originating in New England we are moving out of really tough winter. So I think that helped us this quarter so from a modeling perspective and from our expectation we think it will look a lot of like the pipelines are healthy we are looking at over 100 million from a pipeline perspective.

So I hope that helps..

Alright thank you..

Thanks Matt..

Our next question is from Collyn Gilbert of KBW. Please go ahead..

Thanks good morning guys..

Hey Collyn..

I was wondering if you could just give a little bit more color as to sort of the structure of types of loans that you guys are putting on this quarter on the C&I side and CRE side and Mike I just want to clarify your comments that the CRE some dynamics will cause CRE not to be as strong in the third quarter but does that mean balances fall because of these pay downs or you just don’t see as much of growth?.

No, I won’t George you can..

Hi Collyn, this is George, I think we have continued our emphasis in our momentum that we had in the first quarter as Mike mentioned there are a few items that fell into the second quarter a couple pay offs that we anticipate for the second quarter they got pushed into the third quarter in but our pipelines are continuing strong I think what’s different here is that we are seeing activity strong growth in all of our markets.

So our geography is really helping us when I look at some of our larger new relationships that we have in the second quarter we have larger one in Boston we have large in Albany, Hartford contributed, Syracuse contributed and other Boston based ABL loan so we are really starting to see activity from all of the regions which really bodes well for the future..

Do you think we will see mid single digits commercial real estate next quarter?.

I do, I do..

Okay, that’s what I would have said.

Does that help Collyn?.

Yes that helps. Thank you on that.

And then just on the broker deposit side Josephine, what's your appetite there? How big could you take that portfolio or are you targeting a certain percentage of enroll deposits to stay in the broker?.

Yes, hi Collyn. As I said it was part of our strategy we spoke in Q1 about our active balance sheet management. And what we saw in the brokerage market was an attractive alternative to borrowings rate. I think from an internal perspective, we're probably about 6% of total assets right now.

We don't see that growing above 10% and that's really a good limit that we are measuring to..

Okay. So 6% total assets not going higher than 10%..

Right..

Okay, that's helpful.

And I just wanted to confirm if you could the dollar amount of swap income that you saw this quarter, I know you said it was elevated, but just wondering if you have an extra dollar amount there?.

Collyn, I don't have that detail on hand, but I can follow up with you..

Okay, okay. And then I also just wanted to clarify your comments about the tax rate.

So we should assume what rate for the back half of the year?.

Still just 30%..

Just 30%, okay, okay. And then Mike one just final question on capital. You had indicated that you feel very comfortable with your capital levels.

Could you just expand on that a little bit more, I mean what is it that your kind of what's the ratio that you are looking was closely at? I'm just kind of curious if this growth here, it sounds like you guys have a path now for some really, some meaningful growth. So just trying to think a little bit more, little deeper on that capital question..

I know Joe, you can add to this.

But one of the things that we have dug in pretty deeply on, is how much of our internally generated capital will that support from the standpoint of earning asset growth and based on the earning asset growth that we have in our long-term plan exclusive of everything else, through positive operating leverage our internally generated funds supports that and it keeps us at capital levels that were higher and those are fine..

Okay.

So, it's more of a maintenance of where you are now versus the build but sufficient enough to support the growth?.

I think it will actually grow. I mean it's not going to grow with this batch but we will definitely grow capital through internally generated funds because there is enough in that internally generated route to fund the earning asset growth and add to capital..

Okay. That's helpful.

And are you thinking mostly on a Tier 1 basis or a tangible common equity basis?.

Both..

Okay. All right. That was all I had. Thanks guys..

Great thanks Collyn..

Collyn, real quick, I just wanted to follow up on your question regarding swap income, it was $1.2 million..

Great, okay. Thanks guys..

Thank you..

Thank you..

And this concludes our question-and-answer session. I would like to turn the conference back over to Mr. Daly for any closing remarks..

Terrific. Well thank you everyone for joining us. We certainly look forward to speaking with you again in October when we have a chance to talk about our third quarter results..

The conference is now concluded. Thank you for attending today's presentation. You may now disconnect..