Good day and welcome to the Fourth Quarter 2020 Earnings Conference Call. All participants will be in listen-only mode. After today's presentation, there will be an opportunity to ask questions. Please note, this event is being recorded. I'd now like to turn the conference over to Ryan Thomas, Vice President of Finance and Investor Relations.

Please go ahead..

Thanks, Operator, and good afternoon, everyone. Thank you for joining us today to discuss First Commonwealth Financial Corporation's fourth quarter financial results.

Participating on today's call will be Mike Price, President and CEO; Jim Reske, Chief Financial Officer; Brian Karrip, Chief Credit Officer; and Jane Grebenc, our Bank President and Chief Revenue Officer..

Hey, thank you, Ryan. And I will begin with the fourth quarter and then reflect on the year and the outlook for 2021. In the fourth quarter net income of $25.7 million drove earnings per share of $0.27 beating the consensus estimate of $0.23 per share. Core ROA and the core efficiency ratio were 1.14% and 56%, respectively.

Our core pre-tax pre-provision ROA was 1.76% due to an increase in the core net interest margin, the 3.29% and continued strength in non-interest income, driven by mortgage interchange income, wealth management and SBA. Fourth quarter loan volumes and commercial C&I lending were soft due to lower utilization of lines of credit and some payoffs.

This math the strength we saw in the consumer businesses, and resulted in a contraction in the overall loan portfolio ex-PPP. Expenses for the quarter were up due to higher salaries and benefits, particularly hospitalization expense. Provision expense at $7.7 million included a pass-through item of $3.2 million in unfunded commitment expense.

It's important to note, that we adopted the CECL methodology for the allowance for credit losses in the fourth quarter. Shifting gears as we think about the future, we think a lot about our customers changing behavior.

This is why we continue to make significant investments in next generation technology in 2020, with a new online mobile platform, a new Treasury management system, 100% issuance of a contactless debit and credit cards, and new P2P solutions like Zelle, and real time payments.

And we refreshed our digital account opening customer experience with a new mobile responsive design..

Thanks, Mike. Let me highlight a few things from our fourth quarter financial results before offering some guidance for 2021. First fee income strong in the fourth quarter. We anticipated but did not see a seasonal slowdown in mortgage originations in the fourth quarter.

Fee income was actually suppressed by $1.2 million due to the mark-to-market single derivative. Despite this fee income still came in at near record levels. We talk a lot about mortgage, but we're very pleased to see our wealth businesses coming along nicely compared to where they were a year ago as well..

Thank you, Jim. Good afternoon. I'll walk you through some prepared credit comments and then we'll go to Q&A. Our strong fourth quarter results underscore the effectiveness of our portfolio management practices, risk management strategies and disciplined credit culture. Over the past few years, we tap the brakes on certain higher risk sectors.

We selectively reduced certain segments, such as energy. We've adjusted our corporate and consumer loan guidelines to achieve a more moderate risk profile..

Hey, thanks, Brian. And questions. Operator..

We will now begin the questions-and-answer session. The first question comes from Frank Schiraldi with Piper Sandler. Please go ahead..

Good afternoon. Just a couple of questions on guidance, Jim. You mentioned - you sound pretty confident in loan growth being fairly robust, I think you said the high end of mid-single digit, so 6%, I guess, sort of what you're guiding to.

And then just kind of wondered if you could, given line utilizations were low in the quarter, what gives you the confidence in this sort of more robust growth? And if you could break that out between sort of resi and commercial expectations?.

Yes, this is Mike. We really see some strength in the consumer lending side in our branches, certainly with mortgage lending, and we portfolio a portion of that and then also with our indirect business. We really haven't had those engines before.

We have broader engines in non-interest income and now a broader base in consumer and commercial banking to grow. And we do expect a rebound here, perhaps as early as the second quarter in the commercial side of the business. And we even see some beginning of pipeline growth in certain markets on the commercial side.

And we think as demand comes back the lines of credit are down because accounts receivable inventory that working capital cycle that businesses need is down as well. And we think that could rebound and really create some momentum.

And we've constructed our budget, we are very meticulous about that year in and year out, and we just feel like we have more engines than we've had before and better teams and producers.

Jim or Jane, do you want to add to that? Jane?.

Thanks, Mike. No, I don't have much to add. I'm glad that we've got five different regions identified the bank, because we see different tailwinds region by region. And we're running the company much more geographically, and we see much more accountability by geography..

And I'll build on that just a little, Frank. I mean, six, five, six years ago, we were domiciled and we really operated the 80%, 90% of the franchise out of Western PA.

And as we've done acquisitions, they've only probably accounted for about 20% of our depository and loans and they now account for 34% and they're growing very rapidly in the three metro markets in Northern Ohio, Columbus and Cincinnati.

And the other thing is, as I think as we've gotten larger and we've performed better, I think Jane and the team, we've got better and better producers. So I think it's pretty simple, but there's definitely more momentum there..

Okay. Thanks for all the color. And then just quickly on the fee income guide. Jim, I think you said - did you just sort of strong will continue to be strong through the first half of 2021.

So is that just imply that we'll see sort of similar levels to what we see in the back half of 2020 in terms of total non-interest income?.

Yes, that's about right. Look, I'll be very clear to you, Frank. I think generally, the overall consensus estimate for us for fee income is a little on the light side. It looks like it's annualized the mortgage experience that we had in the first half of 2020. And the second half the both quarters are really strong on fee income.

And there was a time in the middle of fourth quarter that we thought, well, this mortgage refi boom will come to an end, and there'll be seasonality and it just hasn't slowed down. So would you think some of that will keep rolling in the first half of this year? Some of that will play its course, and then it might come down in the second half.

But I do think it's going to be a pretty strong year for fee income..

Okay, great. And then if I can sneak in one last quick one on credit.

The increase in criticized in the quarter, does that reflect more just sort of a loan review that is now completed? Or if it does reflect a loan review, is that still in process?.

Hey, Brian?.

Yes. Great question, Frank. So a number of things happened in the fourth quarter. First off, we began getting many financial statements that had been on extension.

And as those financial statements were analyzed, we'd look and identify whether or not there was some financial covenants tripped, use it as an opportunity to have a real negotiation and discussion with our borrowers. Secondly, we did complete the second full loan review; that semiannual loan review covered 972 names, $2.75 billion.

And as part of that, we also adjusted risk ratings. And finally, I would just draw your attention to our fervent belief that there might have been an exploration of the CARES Act. And so we wanted to act with a sense of urgency on any forbearances, so we could provide certain short-term modifications consistent with the CARES Act.

So our relationship managers did spend a fair amount of time with their borrowers saying, if you think you're going to need a forbearance and would like to negotiate for one, then now would be a good time.

So the confluence of those various events did lead to higher forbearances or deferrals in the fourth quarter, as well as some migration and increase in the criticized assets..

Okay. It sounds like you feel like that migration is complete now, though, as you know you completed that loan review process in the fourth quarter..

Yes, I feel very comfortable. We've marked the book properly. Mike will say over and over again, we call balls and strikes, honestly at first Commonwealth, and I feel very comfortable that we've appropriately marked our credits and that we will continue to watch them over 2021..

Okay. Thanks for all the color..

Next question, Operator?.

The next question comes from Steve Moss with B. Riley Securities. Please go ahead..

Good afternoon, guys. Can you just perhaps starting on following upon credit here.

Just kind of curious as to how you're thinking about credit cost and what the potential is for the formation of charge-offs in 2021?.

I think our feeling is that, it might be similar to 2020. But I'll let Brian expand upon that..

Yes. Here's what I'm seeing. I'm beginning to see some light at the end of the tunnel. We may see a little bit of an uptick in the first two quarters of this year. And our view point, our outlook is at the back half of the year things will begin to improve.

We think 2021 numbers will be generally in line with where we were in 2020, which is right in line with our internal targets..

Okay, that's helpful. And then on the margin front, can you give number or details around funding at the ramp CDs repricing and following the bigger pricing as well. Where are your repricing CDs these days? How much - it's pretty big good quarter for funding cost coming down.

How much further do you think we could go here?.

Yes, most of those time deposits will reprice at the rack rate. And our rack rate is actually very similar to others in the market. It depends on the term that there are 10 to 20 basis points, very low. So, even if those rates fell, we will still see half to two-thirds which is rollover.

The rest will some time just roll into savings accounts; that will earn between zero and 5 basis point. So, there's a quite bit of - and that's why we're happy about it, because there's quite a bit of healthy repricing opportunity on that front..

Right. Okay. That's helpful. And then just in terms of business activity here, it sounds like maybe - correct me if I'm wrong, but Ohio continues to be stronger relative to Pennsylvania.

Just kind of curious about the dynamics you're seeing between markets any color there?.

Sorry, I muted you Steve, forgive me. Yes, we've had good growth and it's been broad based, it's been on both the consumer and the commercial side, and more on the C&I side as well. And actually C&I and commercial real estate. I think in Pennsylvania, Brian gave you a pretty good list about 10 minutes ago, four or five ways that we derisk the bank.

And trust me when he says that, we have derisked the bank. I mean, we've gone from 70 plus names over $15 million in credit. And Brian don't get it wrong, but the number is probably closer to 25 now. And so, that created some headwind for us, it has for our core franchise for a number of years.

The other thing is the demographics quite frankly in the metro markets in Ohio, are a little better. And so, there's probably the two reasons I think as we've gotten we've moved palpably to a regional business model here in the last several years.

Each market is getting better and performing better each year, and so that just gives me kind of great confidence that we will have a year where our consumer and commercial will both hit our all cylinders and each region. And I'm just more optimistic about growth for our company than I have been at any time since I've been here..

Okay. And maybe one last follow-up from me.

Just in terms of potential acquisitions, what level of activity there and any reason of interest?.

Yes, I don't want to sound like a broken record. We've done things that have been - we've executed very well, they've been smaller. We've done things that have been in adjacent markets and they haven't been a stretch for us. I hope we can continue to use that playbook.

We're very mindful of the cost of the deal, I think we probably looked at 40 plus things to do, five or six, maybe five, right. And if the number don't work and it's not strategic we don't do it. And so that's pretty conservative.

I think we'd like to do something a little larger, but we also invite a different kind of risk and you have to feel very comfortable that you can execute that risk and there is not any - and if there's nothing that's going to bite you.

Jane and I and a number of others in the team have done big and small banks dozens and dozens of deals, and we just want to grow it responsibly and thoughtfully. And we have I think a better organic engine, but we really would like to do deals. Don't get me wrong, it's just it has to work for us.

But I'd love to do something in an adjacent market here Pennsylvania or Ohio and - or fill in , and small or a little larger..

Okay, great. Thank you very much..

The next question comes from Russell Gunther with D.A. Davidson. Please go ahead..

Hey, good afternoon guys..

Good afternoon..

I wanted to follow-up on the margin discussion. So, first to make sure I heard the guidance right, the 320 plus or minus 5 basis points on either end, that's core and that's why you guys consider exclusive of PPP fees, so that's question one. I want to make sure I have that right.

Two, what dynamics need to materialize to hit the high end of that range?.

Jim?.

Yes. Well there are couple of things really on that. First, for sake of clarity, yes that's core. And we published a reconciliation of core in our earnings deck supplement. But basically, we're excluding PPP loans and all the P2P forgiveness income.

And we are also excluding the effect of the excess cash from the balance sheet, that's our definition of core and reconcile back to GAAP NIM for everyone's benefit.

So, we think that could be quite a bit of PPP forgiveness in the first half of this year for the PPP loans that remain on our books, but the $588 million, $589 million that we did in total last year about a $100 million was forgiven before the year ended, so there's quite a bit left to go.

So that is forgiven, if it renews by now the amortization with fee income and that will accelerate and that could really boost the stated NIM quite high in the first half of this year, depending on the pace of that forgiveness. But we'll continue to publish that core NIM took that up, and get to the numbers that's when we only say the core NIM.

Some of the upside of that number chance for second part of your question will depend on the slope of the yield curve, and how that might shift over the course of the year. No one has a crystal ball. Like I mentioned we purchased rate forecast from Moody's.

And some of that culture seems steepening, so to the extent that happens, that could really be some upside to our NIM, somewhat in this year but even more so next year.

Hope that helps?.

Thank you, Jim. Yes, it does quite a bit. I guess one follow-up to that would be, what that includes in terms of your assumptions with the investment portfolio going forward from an overall size to the percentage of earnings assets and the reinvestment opportunity..

Yes, great question. A lot of that will depend on the pace of deposit withdrawals and for lot of those PPP loans have forgiven. So as the PPP loans are forgiven, all that does is turn the PPP loan asset into a cash asset for us. And then it depends on the pace with which the customers pull that money out and use it and deploy it.

But as that cash sticks around, it's very expensive to let it stick around, because while it sticks around, it's very, very low. And yes, there are books so we do intend to invest some of that excess cash over the year.

You asked about our assumptions, so our assumptions on investment yields on securities are not aggressive at all, but we're seeing our yields on plain vanilla MBS securities that are maybe 1% to 1.1%, and we really don't look at that book as a place to stretch for yield and take on any risk.

So we don't look at really anything esoteric in that portfolio, it's very plain vanilla. So that's the assumption. Specifically, with regard to your question as to what percentage of the book, it will be our - general assumptions that will change a whole lot.

But it's really going to depend on how much cash we have in and how much more of that cash we have to invest..

Got it. Okay, great. Thank you, Jim. And then switching gears a little bit. I appreciate the color on the expense outlook. I just tried to tie together a lot of the conversation we've had, I mean it seems to me like the answer would be yes.

But are you able to commit to generating positive operating leverage for 2021?.

We're going to - like a lot of banks, I think we're going to have to scramble to get there. That's the goal. And we scrambled last year with some cost takeout and some other things. As you know, if the revenue line moves, it could get a lot tougher. But that is the goal, is to have positive operating leverage..

Let me answer that also with a brief anecdote. I think it was around the end of March, when Mike looked at me and asked me that question. So we track it internally, obviously we're very focused on operating leverage as part of our core DNA as a company.

And Mike was asking about the operating leverage for this year and I thought well, it's at the end of March with COVID hitting us in the pandemic, it's over. There's no way we can get positive operating leverage in calendar 2020, and we did. It was quite positive.

So our core revenue grew $9.3 million and core NIE only grew $2.8 million, so we're very pleased with that. So we'd love to continue, but time will tell..

Understand. And then maybe a similar type of question. But profitability ratios have been really strong and I think as you call it in your deck from a PPNR perspective in that 175-ish range.

Do you have a target that you are striving for, either a PPNR ROI perspective or something else that you set out for 2021?.

Yes. Longer term qualify that, I mean, in our plan on the first page is 180, pre-tax pre provision ROA and sub 55% efficiency ratio. That doesn't set up real well for this year. I will not look to that, but we need to be moving palpably and then we need to find dollars to continue to invest in our digital platform.

And I started there because we made a lot of investment, and our customers that really enabled us through the pandemic to have the kind of year we had, and to really let those fee businesses grow with talent at the same time, we were shifting expenses.

So we just have to be nimble and thoughtful and we have to, when we're in front of you, Russell quarterly, we're very accountable for where we're at and where we're going..

I appreciate it, guys. Thanks for taking my questions. That's it for me..

Next question comes from Steven Duong with RBC Capital Markets. Please go ahead..

Hi, good afternoon, guys. Just first, just on the margin. It looks like you have a little over $550 million in CDs.

How much of that, do you expect to roll off by the end of the year?.

Yes, thanks for the question. With $471 million maturing next year, we will probably retain half to two-thirds of that, that's been the paste recently. Even without offering any deposit specials, even without reaching for yield at all, about half to two-thirds will roll over..

Okay.

So basically by the fourth quarter of this year, that could get down to like a 300 number?.

Yes, absolutely..

And that 300 number, you're saying the cost is around 10 to 20 basis points?.

That's right. Now, the rest of the money, just to be clear, may not roll into CDs, but it just might someone doesn't renew their CD, they just say, well, the rates are so low, I might as well just put in my savings account. So a lot of that money stays with the bank. It just doesn't go into a time deposit..

Right. And so then like right now, it looks like your total deposit costs are less than 20 basis points.

Do you see the potential for breaking through the 10 basis point line by the end of the year?.

Steve, it's a great question. I have not calculated that way. I would say we have a good chance of doing that by bringing these costs - some of these costs down.

We have this much money, and I gave some of them the money and put some numbers, excuse me in my prepared remarks $290 million at 1.21 another - that's the CD number and another $130 million of money market to 1.22. Those will come down a 100 to 110 basis points, that chunk of money. So that really could be the total cost of deposits down in half..

Steve, this is Mike. Just to be clear, I mean, longer-term, the engine that Jane Grebenc is on the phone has developed and along with Greg Sipos, our head of corporate banking and head of retail, to go out and get business deposits is key. Non-interest-bearing deposits and checking accounts and those drive your fee income.

And so I don't want to be dismissive of deposits in general. Longer-term will cherish every checking account, every transaction account we have. But our focus is and our DNA has to be to get non-interest-bearing business accounts. And that's what we're about. And thankfully, we've shifted in the last five years.

That really enables the flexibility with the time deposits..

That's good to hear. And I saw in your presentation you had $1.7 million in the PPP fees.

Was that just the accelerated portion or was that the total PPP fees for the quarter?.

That was just the accelerated amortization. That does not include the regular recognition of the fee income for the rest of the PPP portfolio..

Okay.

And what is the total recognition and how much do you have remaining?.

Well, like I say, we have about $100 million of the books so far by the end of the fourth quarter, so there's about $480 million or $490 million that remains in that portfolio. I don't have a dollar figure handy for the total amount of amortization on the portfolio in the fourth quarter, but I could probably get that for you..

Okay. And then just one last one for me. On the loan growth side, on the commercial side, you seem pretty positive on it.

Just curious, do you think your clients are sitting on a lot of liquidity right now? And how does that factor into your expectations?.

They are. And I have Jane on the phone.

Jane, why don't you take that one on liquidity?.

Thanks, Mike, and thanks for the question. We've seen our line utilization drop in 2020 from about 50% down into the high 30s. So an indication that our clients are also sitting on lots of cash. And we've seen the bank is flushed with cash.

So we anticipate that as the economy begins to open up, our clients will start to use that cash and they'll start to borrow again, brought down on some lines..

Great. Thank you. That's it for me..

The next question comes from Joe Plevelich with Boenning & Scattergood. Please go ahead..

Good afternoon. Two quick questions. One, on the next round of PPP, any sense of what kind of applications you've received? And how much volume you might get from that? And then the second question is on the allowance for loan side, it's 1.5%.

Where do you see that longer-term? And could we see reserve releases here as soon as this quarter?.

All right, let's start with the credit question and Jane, if we could find the PPP numbers, I think you might have those. But Brian, on the loan loss reserve..

Yes, thank you. So here's how we're thinking about the loan loss reserve, as we completed this year-end and the transition to CECL, we want to be continue to be disciplined and credit prudent the way that we address our reserves.

We're going to look at both our qualitative to quantitative components and our high-risk portfolios throughout the year, with an expectation that we may be in a position to bring these reserves down as the economic outlook improves..

Jane on the PPP - go ahead, I'm sorry to interrupt..

My question more is longer-term do you think 1.5% is the right number? Or based on the likelihood of reserve releases, could we see that drift down, whether that's the one in a quarter or something lower?.

Can we take that Mike?.

Yes..

Yes, I mean, it's really going to be driven by our models. Our models do have - our Moody's models do have factors in there like GDP unemployment. And so they'll drift down as there is improving economic conditions. We also have $9.1 million related to those high-risk portfolios that we've outlined in the slide deck.

And as the improvement in the economy directly relates to those specific portfolios, retail, hospitality, senior living, energy, we would expect those to come down over time also, Joe..

Got it thanks..

And Jane on PPP?.

Yes. And back to the question on PPP volume. Right now we've got about $174 million in applications, and that's about 1,300 apps. The pace is much, much, much different than it was last year. And that's another reason for the optimism around the loan growth. I'm really proud of the work that we did around PPP in 2020.

But it was an all hands on deck kind of initiative. And we used virtually every resource. This year, it's been much more quarantine. The process is much more automated. We knew what we were getting into. We're taking care of our own customers first, and really liked the cadence against last year. So we're pleased with where we are..

So Joe, that's about 22%, or about a fifth of the volume we saw in the first two waves in 2020..

And do you think that could get to a third or 50% or what's your gut say?.

My gut says that it's going to stay around here. That matter is absolute dollar amounts, but we get about $600 million last year. I don't think we'll do more than a $200 million, maybe a little bit more..

Okay. Thanks..

Thanks, Joe..

This concludes our question-and-answer session. I would like to turn the conference back over to Mike Price, CEO for any closing remarks..

Yes. Thank you.

Jim, did you have something?.

I do. And thank you, Mike. So before we close the call, while we're still on the call, I do have a couple of answers to questions that were asked earlier. One of the questions was about the total deposit cost. And could that come down in half from '20 to a split to 10 basis points by the end of the year.

It's not going to come to quite that 10 basis point level and I want to be clear about that. It looks like in our planning, it'll be more like 12 to 15 basis points by the end of the year. And the other question was about the total amount of PPP spread income that was recognized in the quarter.

The total amount was $5.5 million, but that includes the $1.7 million of accelerated amortization. So the rest of it, the rest of the PPP interest income recognized for the remaining PPP loans in the fourth quarter was $3.8 million. Just wanted to take the opportunity to clarify while we're still on the call..

Thanks, Jim. Hey, thank all of you for your interest in our company. And we look forward to reporting out positive momentum in the first quarter and the rest of the year as the economy recovers and people get vaccinated. And thank you very much for your interest in First Commonwealth, sincerely. Take care. Bye-bye..

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