Good morning, and welcome to the First BanCorp Second Quarter 2019 Results Conference Call and Webcast. [Operator Instructions]. Please note, this event is being recorded. I'd now like to turn the conference over to Investor Relations officer, John Pelling. Please go ahead..

Thank you, Ian. Good morning, and thank you for joining First BanCorp's conference call and webcast to discuss the company's financial results for the second quarter 2019. Joining today from FBP are Aurelio Alemán, President and Chief Executive Officer; and Orlando Berges, Executive Vice President and Chief Financial Officer.

Before we begin today's call, it is my responsibility to inform you that this call may involve certain forward-looking statements such as projections of revenue, earnings and capital structure as well as statements on the plans and objectives of the company's business.

The company's actual results could differ materially from the forward-looking statements made due to the important factors described in the company's latest SEC filings. The company assumes no obligation to update any forward-looking statements made during the call.

If anyone does not already have a copy of the webcast or the press release issued by First BanCorp, you can access them at our website, 1firstbank.com. At this time, I'd like to turn the call over to our CEO, Aurelio Alemán.

Aurelio?.

Thank you, John. Good morning, everyone, and thank you for joining us today. Please, let's begin with the highlights. Let's move to Slide 5 of the presentation. As we reported this morning, we reported a really strong quarter of core earnings. Financial results were at $41.3 million or $0.19 per share.

I think most importantly, core franchise metrics continued to move in a positive trend across the different areas. Pretax pre-provision income reached $71 million for the first time. Net interest income increased by $2.3 million quarter-over-quarter and by $12 million year-over-year when we compare it to the same quarter back in 2018.

The loan portfolio grew $118 million to $9.1 billion this quarter, and this represents our fourth quarter of consecutive growth in the loan portfolio.

Year-over-year, the loan portfolio has grown almost 5%, reflecting a 19% increase in consumer, over 8% increase in commercial and construction, achieving this while strategically losing the residential portfolio by around 5%. Originations and renewals were healthy in the quarter at $988 million, $988 million.

Obviously, we know there's some seasonality on larger deals and pay downs that are difficult to predict from a timing standpoint, but the origination trajectory for the reissue continue at similar pace to say that our pipeline remained strong for the remainder of the year.

We achieved another quarter of meaningful progress on our organic reduction of nonperforming assets. They were down $31 million or 7% this quarter. NPAs now represent only 3.06% of assets, and the NPL ratio is down to 25% to 0.85%. Capital continues to grow. It's now at $2.2 billion. Tangible book value also continues to grow, now at 9.52, $9.52.

CET1 at 20.6%. Some additional highlights on the franchise for the quarter. We continue to place a lot of priority on technology investments. I think during the quarter, it's important to communicate that we were allowed our new state-of-the-art with expanded functionality digital banking platform in Puerto Rico.

We also continued expanding the rollout of ATMs with remote deposit capture capabilities. Obviously, these new functionalities continue to contribute to the strength of the core deposit franchise and the brand. With regard to the Puerto Rico economy and some recent events of government disruption.

I have to say that it is unfortunate and disappointing that we have to deal with these negative headlines. Definitely, we are so much concerned with the political headlines and the potential impact that could have on economic activity in the short term.

On the other hand, we do remain hopeful that this will resolve in the short term and ultimately, lead to greater level of transparency from the government. From the long term, we continue to remain optimistic with the recovery of the local economy and the progress that we should have ahead of us. With regard to capital deployment.

As we previously mentioned, we remain on track for a capital announcement during the second half of the year. We don't have any other information regarding capital in this call today. Now I will like turn the call over to Orlando to cover the financials in more detail. Thanks to all..

Good morning, everyone. So Aurelio mentioned, we had a very good, what I call, straightforward quarter. We posted a net income of $41.3 million, which is $0.19 a share, which compare with $43.3 million or $0.20 a share in the first quarter.

Adjusted, however, the non-GAAP net income, which eliminates some of those items which really does not necessarily recur every quarter such as last quarter, we had a recovery -- a reversal of hurricane reserves and this quarter, we had an insurance recovery that had a net after-tax impact of about $500,000.

Net income for the quarter was $40.8 million compared to $37 million last quarter. Pretax pre-provision remained strong at $71 million compared to $70.4 million we achieved last quarter.

The provision for the quarter was $12.5 million, which is slightly higher, $700,000 higher than last quarter, but that was mostly a result of the $6.4 million hurricane reserve release we had in the first quarter of 2019. Net interest income remains really strong, grew $2.3 million this quarter.

It's mostly driven by $79 million in the average balance of consumer loans and $91 million growth in commercial loans. We did have one extra day in the quarter, but we also had some impact from rate changes. Margin remained relatively flat at 4.90% compared to 4.92%.

Margin reflects a number of things, including the repricing of loading rate commercial loans, which there was an impact based on the reduction in LIBOR. The impact was approximately $400,000 in interest income.

On the other hand, we had a reduction of approximately 50 basis points in the cost of floating repose and the trust preferred securities, which is also a result of the reduction in the LIBOR. Average cost of deposits went up by 5 basis points. We've been lagging in deposit increase, so some of it is showing on the numbers.

But we did benefit, as I mentioned, from the mix change on increasing the higher-yielding consumer loans while we decreased mortgage loans as part of our strategy of reducing some of those long-term assets.

With LIBOR projected to decrease further, we believe margin will see some pressure, which is going to be compensated by the growth in the higher-yielding consumer portfolios and the NPA reductions.

In the near term, we expect NIM will remain at levels slightly under current levels assuming no changes in deposit composition, which has been more of a stable kind of source over the last few quarters. Our noninterest income for the quarter was very similar.

However, it showed improvements of $800,000 in mortgage banking revenues and increases of deposit service fees and credit card fees in the quarter, $600,000 combined.

When we look at it versus last quarter, last quarter, we had $2.7 million in seasonal contingent insurance commissions that were collected that is done once a quarter, which is partially offset by $600,000 in insurance claims we collected this month, as I mentioned before.

Expenses for the quarter were $92.9 million, which is a $2.9 million increase from last quarter. When we look at the components, first of all, OREO expenses increased by about $1.3 million, which is basically mostly revised property valuations and some of the efforts that are being carried to reduce nonperforming.

Employee compensation seems to show a growth of $1.5 million, however, remember that last quarter, we received $2.3 million in recoveries that were part of an employee retention benefit that was available to employers affected by Hurricane Irma and Maria by virtue of a Disaster Tax Relief Act of 2017.

But this quarter, on the other hand, we had lower payroll taxes as people have reached limits. Professional fees were high this quarter, $1.4 million higher. $700,000 of that is mostly consulting fees. We continue -- Aurelio made reference to some of the projects.

We continue to work through all the CECL implementation, which has required a number of third-party consultants in the process as well as completing some of our ERP rollouts that have resulted in some additional consultant expenses. On the other hand, we have seen lower ABHC costs and lower supervisory fee costs in general.

If we look at the expenses and we exclude the REO, expenses were $87.9 million, which compares well with $86.2 million. As you remember, our guidance have been that our expenses, including REOs, will be between that $87 million to $88 million range. We still feel that, that is the range. We were on the higher end of the range this quarter.

But as I mentioned, there are some components of the professional fees, which as we complete the CECL implementation, while some of it will go away or reduce significantly, so some of it will be compensated by those components. Otherwise, some of the other components of expenses were in line with expectations.

Aurelio made reference to the asset quality. Nonperforming came down by almost $31 million or down to $384 million as of June, which is just slightly above the 3% of assets that have been our target for a while. We have a number of efforts under way to continue to reduce that organically, and we believe they will be completed throughout the year.

Nonaccrual loans decreased $20 million in the quarter, and now they are $260 million, which is under the 2% of loans -- the 3%, sorry, of loans, as we've been talking about also.

Nonperforming decrease includes charge of $11 million on a large commercial loan deployed in that region that we've been working through for quite a while and had previously established reserves. We also achieved $4 million in collections of nonaccrual commercial and construction loans.

And we saw decreases of $2.5 million in residential consumer nonaccrual, which is a combination of loans that were brought current, collections, charge-offs and some foreclosures that were completed in the quarter. Other real estate owned, OREOs, came down by $11.6 million, mostly driven by $14 million in sales that were completed in the quarter.

Inflows, which is important nonperforming, were $23.2 million, almost $1 million decrease from last quarter. So they have remained at the lower end of the spectrum as compared with prior quarters, and we continue to work through that process. Commercial adversely classified assets also decreased by $24 million in the quarter.

Our net charge-offs for the quarter were $24 million, which is about $107 million of loans, and it's fairly in line with last quarter. We saw reductions in consumer and residential charge-offs.

But on the other hand, we saw an increase in commercial of $3.8 million, which was driven by the $11 million charge-off I mentioned, but we continue to see improvements on those metrics. The ratio of allowance to nonperforming has increased to 68% and overall, the allowance is about 1.89% of loans.

Commercial nonperforming carried at $0.50 on the lower, which is very similar to what we had in the prior quarters. With that, I will open the call for questions. As I mentioned, it was -- but I still believe it's fairly straightforward in terms of results, so we better address all your questions. Thanks..

[Operator Instructions]. Our first question come from Alex Twerdahl, Sandler O'Neill..

First off, obviously, a lot of progress made on NPA and NPL reductions over the last year and years.

Are we have now at the point kind of hovering around 3% NPAs where those can continue to get meaningfully better? Or is there kind of a natural point of -- or level of NPAs or a tail where it's kind of tail off for a longer period and they would stay between kind of 2% and 3% for some time?.

Well, we're working towards continue to improving that number. There's activity in the market, there continues to be investor interest in some of these assets and we do have some deals on the pipeline. And we expect to continue showing progress quarter-after-quarter in this metric..

Okay. Great. And then, it seems to me like a lot of the commercial loan growth this quarter was a little bit larger ticket stuff.

As you kind of look at the pipeline for the remainder of the year, and I know you commented that the commercial pipeline was still pretty full, is it still a lot of larger ticket stuff that can kind of close or go one way or the other or is it a little bit more granular relative to what we saw in the second quarter?.

the small, the middle market and the large corporates. Again, the mix depends on what close which quarter. We continue to target the three segments. So obviously, when you do a large deal in the quarter, that calls the attention more than the bunch of smaller ones.

But it's going to be a mix, which very difficult to predict, the timing of some of them which close which quarter. Obviously, our goal is not to have more concentration on the portfolio. It's to have less concentration on the portfolio. So we're looking for diversification of borrower sides also, yes..

Okay. That's helpful. And then final question. Appreciate your comments, Orlando, on the margin and kind of where you expect it to go in the near term. I guess modestly down a little bit pressure by LIBOR, et cetera.

But as you kind of look out, I mean, is that assuming a rate cut in July? Or is this assuming a rate cut -- and I mean the forward curve is now suggesting a couple more by the end of the year.

Is that kind of incorporated in that guidance? Or if it's not, and we do get a couple of rate cuts by the end of the year, kind of how do you see the margin trajectory looking over the next couple of quarters?.

Basically, at this point, we're using the forward curve as it comes out on Bloomberg as a guidance of rates and where we see them. The consumer portfolio is not affected that much by these amount of changes in rates. We do have an impact on the commercial portfolio, especially the one that is floating based on LIBOR.

Although we do get some benefits on some of the components of the floating liability side, which specifically, you saw it on the repos and the troughs. And some renewals that are made have come down in terms of rates on the other hand.

So that incorporates that forward-looking curve that we're seeing through the end of the year at this point and the mix of what are we expecting on the asset generation side of the balance sheet..

Our next question comes from Brett Rabatin of Piper Jaffray..

I wanted to first start off on expenses. And just thinking about the past, I mean, 2017, you lowered expenses and they were up just a little bit last year. They've been flat the first half of this year.

Should we assume a similar path to last year where they move up a little bit from the second quarter levels or maybe -- I know there are some obvious things in there that can change things or expenses, et cetera, but just -- can you give some thoughts on how you view the expense base playing out in the back half of the year?.

Well, the reason of the $87 million to $88 million with that REO, it's where we expect it at. Part of what you mentioned, it's related to some of the large investments that Aurelio made reference to on some of the projects we have been under going. So you have different things coming in and out.

As I mentioned, we're spending a lot of money on completing the CECL work and completing some of the RFP rollout. As we complete those, which is going to happen, to a large extent, during the year, some of those expenses will come down.

Then, we continue with some projects that are undergoing on the technology front, specifically related to things like new branch automation systems and things like that. So that's why on the average, I feel that we should still be in that $87 million to $88 million range.

The OREO side, it's a little bit more challenging because we feel like this quarter, we saw some revised property valuations in the appraisal -- the updated appraisals, which probably by now, we expect some of those to have stabilized, but we have still seen some of those in the market, so it affected the number. It doesn't happen every quarter.

It all depends on the properties that are up for reappraisal. We do appraisals once a year. So that one, I am more reluctant to give you very clear indication. Obviously, as we come down on the size of the OREO portfolio, those expenses should come down. But our -- there's more volatility on that kind of expense.

But other than that, the others, we expect to stay in that range of $87 million to $88 million..

Okay. That's helpful. And then just want to talk about sort of the big question is capital and you have over 24% total risk-based, and another -- their decision obviously are nothing has been announced. Can you give us maybe a time line of how things should play out in the back half of this year.

If you haven't been able to do something nonorganic with the capital, do you make a decision on a buyback? Does that go into 2020? And how do you think about the capital actions? And what kind of time line we should be on?.

Brett, I think we have mentioned this before and I previously mentioned it today, we do remain on track. We're making some sort of announcement on our capital action decisions during the second half of the year, that means before the year's end. So that's as much I can tell you right now..

Okay. And then just lastly, wanted to comment. You -- Aurelio, you mentioned early in the call, talking about just the environment. There's obviously some political noise going on.

What do you think is the outcome of all this in terms of how this impacts the recovery funds and just the remaining things on the island that can be restructured? Could you that -- like, what do you think is going to -- given that result of all this current turmoil?.

So I think obviously, we can think that obviously, because of the disruption in the administration, the rollout of the recovery efforts could have a delay in being finally implemented. There's still actions ongoing towards that, but it could be a delay.

On the other hand, I think it -- this will lead to greater level of transparency on any government, which I think in the long term, it's positive for any of the players of the investors, of the -- whoever is working towards the Puerto Rico recovery.

So it's very difficult to predict what's going to happen, and we're hopeful that this resolve in the near term. The island continues to move ahead and a lot of efforts continue to move ahead, but there's a clear description in the administration that we cannot ignore. And we have to be attentive of any government that continues to move forward..

Our next question comes from Joe Gladue of Alden Securities..

Just wanted to -- I guess first, I'll touch a little bit more on the net interest margin. And Orlando, you talked a little bit in detail about the loan side. Just on the deposit side though, Puerto Rico, the deposit rates went up a lot more slowly than they did in the mainland as interest rates were rising.

Now that they're going back down, do you see that as a constraint in terms of taking advantage of declining rates, that deposit rates will go down more slowly?.

Clearly, Joe, when -- we didn't go up like the U.S. market went up as fast, so there was a delay in catching up. And that, we're still seeing a bit. Obviously, if rate is coming down again, it's going to lower the pressure on some of those, especially time deposits and those kind of components.

I do believe that there was a slow adjustment that was happening in the market. That adjustment, I do believe, is still going to happen a little bit. Pressure is going to be less, but we should expect a little bit of an increase on the interest-bearing components of deposits in the market. Not a lot, but a little bit.

The question is the noninterest-bearing components, how it behaves and how things continue to move in that front, which obviously, has been part of the average cost of deposits. But I don't think we're going to see a sharp decline on deposit rates on the market.

I will foresee some small increase on the interest-bearing side still for 1 or 2 quarters..

Okay. All right.

And I guess also wanted a view with further consolidation in the Islands' banking industry, do you guys see any opportunities to take advantage of the disruptions?.

Well, I think historically, we have achieved organic growth through what happens in the market. We have participated from consolidation. When we don't participate, we also benefit. And I think that's been demonstrated over the past years, the most recent 10 years, with a significant consolidation in 2011 to 2016.

The most recent, we're benefiting from the auto lending side of the equation, on recent consolidation. We continue to solidify our offering. And we have continued to grow our market share in that sector. It's part of a market. Whenever a market consolidates, it's the natural opportunity to execute, yes..

[Operator Instructions]. Our next question comes from Glen Manna of Keefe, Bruyette, & Woods..

When I look at the period-end balance sheet, the spot balances, it looks like there was a build-up in cash and money market investments and you kind of maybe let some of the MBS roll off it.

Can we expect some kind of deployment of that cash? At what point does it maybe make sense to pay down some of the higher-cost wholesale funding? And considering with rates kind of expected to head down, we would expect that there might be some pressure on those yields there.

So what could we kind of expect there?.

Well, it's exactly what you said. It's a bit of -- we did not reinvest immediately to all the pay downs and accelerated repayments in some of the MBS based on where the market was going and the expectations. We're monitoring, obviously, how some of the wholesale funding moves.

We probably saw -- we did pay down a repo that mature in the end of the first quarter. Part of it was that same reason. So it's a function of rates -- reinvestment rates versus borrowing rates, that it's a constant daily monitoring kind of thing.

And I wish I had a magical answer, but it's really -- it's how we see things moving and what we expect some of it is going to move. At the end, the result has to be whichever rate is better for the bottom line.

So keep in mind that obviously, we still have some benefits from tax implications, and that's something that when we look at investments, we do consider that there could be the effective rate. It's sometimes a bit better than what's reported yield. That changed [indiscernible].

So our capital effective tax rate went up like from 29% to 30% in the quarter when you consider everything, meaning all the companies, including companies where we have some losses that are nondeductible. And part of it is because we're seeing some shift as loans have grown from nontaxable to taxable kind of revenues.

So that comes into the formula of the analysis of what makes sense. But not more than clearly, it's a function of where we see the main benefit, reinvesting or paying down maturing borrowings..

Okay. Thank you. And good job on keeping the core expansions within your range. I just wanted to kind of touch on the OREO again. I was wondering if I heard correctly, Orlando, when you said that there was a revaluation in there. When you look at the OREO in Puerto Rico, it was down this quarter.

What are you seeing in kind of that core level of OREO expenses that you have to maintain properties, kind of pay taxes on the real estate you own? Are you seeing any change in that because lower unemployment, does it cost you more to have workers maintain the property? What are your kind of seeing in that core OREO?.

The core expenses have been fairly consistent. It's a matter of volume. I mentioned that we still have inflows that we have to deal with, but we are seeing a good amount of outflows as you saw on the amount of sales we have in the quarter. Net, it was positive from the perspective of a reduction in the outstanding OREO balances.

The volatility, it's really coming more from the fact that we operate properties that are held as other real estate owned once a year. And there are some that are better than others. And as the quarter comes by where we have some of those properties, those could have some impact.

This quarter, we did have 2 or 3 of the properties that have been there for longer that did affect the numbers. But in reality, we still feel that the base expense is very much in control. And our group is doing a very good job of moving things out. Not yet at a point where we can say we can reduce significantly the department.

Eventually, we feel that, that would be a good thing that we can move those people back into production rather than have them dealing with bad properties. But none any longer change on that front..

Our next question comes from Arren Cyganovich of Citi..

I just wanted to touch on credit quality a little bit. It looks like the charge-offs, you had a charge in there from kind of cleaning up properties.

What do you think, in terms of kind of the more run rate, do you expect for charge-offs over the near term? And the provision, I guess related, we've been kind of under-provisioning relative to the charge-offs recently..

Well, this quarter, we had a large charge-off of one property that we've been working with for quite a while. Hopefully, it can get to a finish point during the year. That was previously reserved and that's one of the reasons you're seeing that difference. With inflows coming down, we're not seeing changes on early delinquency.

Have remained fairly consistent over the last few quarters, so we're not seeing deterioration in that sense. We will -- we should expect some charge-offs higher than provisioning because of that, because we still have legacy assets we're working with. And we want to work through those nonperforming.

And the question, we try to make sure that we are properly reserved, if not charged up, depending on a specific of the property. And if a charge-off is required, it has been reserved previously.

So to me, we will see -- I still feel that provisioning in the next -- on the short term, it's going to be in that $10 million to $15 million range I -- we had mentioned towards three quarters ago, and -- but charge-offs, we'll see volatility based on those large ones.

If you have excluded this $11 million, it would have been significantly lower in the quarter. But we still have some properties that could see levels of charge-offs like that, that have been reserved in the past..

[Operator Instructions]. This concludes our question-and-answer session. I would now like to turn the conference back over to John Pelling for any closing remarks..

Thank you. And we greatly appreciate your continued support. At this time, we'll conclude the call..

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