Yahoo Finance UMB Financial Corporation (NASDAQ:UMBF) Q1 2024 Earnings Call Transcript
UMB Financial Corporation (NASDAQ:UMBF) Q1 2024 Earnings Call Transcript May 1, 2024
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Operator: Ladies and gentlemen, thank you for standing by. Welcome to the UMB Financial Conference Call. All lines have been placed on mute during the presentation portion of the call with an opportunity for question-and-answer at the end. [Operator Instructions] I would now like to hand this conference call over to our host, Kay Gregory, Investor Relations. Please go ahead.
Kay Gregory: Good morning and thank you for joining us on our call with such short notice. Earlier this morning, we announced our agreement to acquire Heartland Financial, USA or HTLF, a $19.4 billion asset bank headquartered in Denver. Both companies also released first quarter 2024 results and these materials can be found on our respective Investor Relations website. You will note that we have posted two presentations to our website, our typical quarterly review and an overview of the announced transaction. We will provide some brief comments about UMB’s first quarter results and we’ll spend most of the call discussing the announcement. On the call today is Mariner Kemper, Chairman and CEO of UMB Financial; and Ram Shankar, CFO.
Following our comments, we’ll open the call for questions. Jim Rine, CEO of UMB Bank; and Tom Terry, Chief Credit Officer, will be available for the question-and-answer session. Before we begin, let me remind you that today’s presentation contains forward-looking statements, including the discussion of future financial and operating results, benefits, synergies, gains and costs that the company expects to realize from this transaction, as well as other opportunities management foresees. Forward-looking statements are subject to assumptions, risks and uncertainties. These risks are included in our SEC filings and are summarized on Slide 2 of our presentation. Actual results may differ from those set forth in forward-looking statements, which speak only as of today.
We undertake no obligation to update them except to the extent required by securities laws. Reconciliations of non-GAAP financial measures have been included in the press release and the accompanying presentation. Pro forma financial information presented is based on March 31, 2024 results for both companies. Presentation materials are available online at investorrelations.umb.com. Now, I’ll turn the call over to Mariner Kemper.
Mariner Kemper: Thank you, Kay, and good morning, everyone. On the heels of a great quarter, I’m very excited to share details about this transaction, which accelerates UMB’s growth strategy, further diversifying and derisking our business model. The addition of this high-quality franchise is a great fit from a strategic, financial and cultural perspective. I’ll ask Ram to share some quick thoughts about the quarter and then we’ll get right into the details of the transaction. Ram?
Ram Shankar: Thanks, Mariner. We had a great start of 2024, reporting GAAP earnings of $110.3 million or $2.25 per share. Operating EPS of $2.47 per share represented an increase of 7.7% compared to the fourth quarter of 2023. We reported balance sheet growth that included a 4.2% annualized increase in average loan balances led by construction draws of previously improved lines, along with C&I. Credit quality in our loan portfolio remains excellent, with non-performing loans of 8 basis points of total loans, net charge-offs earned 5 basis points of average loans for the quarter and charge-offs have averaged just 4 basis points over the past seven quarters. Provision of $10 million included about $7 million related to the previously disclosed co-branded credit card portfolio acquisition.
The 10.4% increase in average deposits was driven largely by our institutional businesses, specifically Investor Solutions, with increased sweep activity and corporate trust where balances fluctuate related to customer bond distributions and dividends. DDA balances were 30% of average deposits for the first quarter. Looking ahead, second quarter DDAs are typically lower as clients make tax payments and cover seasonally high payroll expense related to the recent FICA and payroll tax. The 3.9% increase in net interest income reflected continued loan growth and higher levels of liquidity, in addition to $1.4 million from amortization of a municipal bond hedge gain. Net interest margin increased 2 basis points to 2.48% in the quarter, outpacing the expectations I shared in January.
Positives include loan repricing and mix, as well as the impact of the bond hedge gain. Looking into the second quarter, we expect some modest pressure on net interest margin to net interest income, driven by an expected pipeline of higher cost institutional client deposits, lower liquidity levels, coupled with the seasonal contraction in DDA balances typically associated with tax payments. Slide 18 of our first quarter deck covers the highlights and drivers for the first quarter. Fee income increased $19 million from the fourth quarter to $159 million and benefited from an 18% increase in bank card fees, driven both by strong purchase volumes and lower rewards, as well as a $3 million increase in trust and securities processing income from our private wealth and institutional banking businesses that include corporate trust, custody and fund services.
Card purchase volumes increased 12% from a year ago to a record $4.6 billion, driving the interchange income I noted earlier. First quarter fees also included about $15 million of benefits that do not occur in the typical course of business as shown in our deck. Operating expenses, excluding the $53 million and the $13 million FDIC assessment incurred in the fourth and first quarters, increased 2.3% sequentially and reflected typical seasonal increase in payroll taxes, health insurance and 401(k) expense. Additional metrics about our first quarter results are included in our earnings release and slide deck, and we’ll be happy to answer any follow-up questions during the Q&A portion of the call. I’ll hand it back to Mariner to discuss this morning’s exciting announcement.
Mariner Kemper: Thanks, Ram. Our great first quarter results set up well for this transaction and I’m looking forward to continuing the momentum throughout the rest of 2024 and beyond, bolstered by the acquisition we’re here to discuss today. UMB is an asset-generating machine, consistently outpacing peer loan growth. We have a strong history of asset quality and a strong history of growing our fee business to support our total revenue. Events of the past year have served to remind us the importance of diverse granular deposits. While we have a well-developed diverse business model, one area where we have under-penetrated is our consumer banking franchise. We have continued to look for the right transaction that will meet that need.
We screen for banks with a strong under-levered deposit base and a core retail component and quality credit metrics, all in the right markets. Our search for the right fit has been elusive, but we found the right unicorn in Heartland, a bank that understands the key part of a value of a franchise is in its deposits. As we did our diligence, we came to realize that their strong deposit franchise was undervalued by the market at large. We saw this as an opportunity, as we believe that banks with low-cost granular deposit bases will garner a greater premium moving forward. The combination of UMB and Heartland creates a nearly $65 billion asset bank, will accelerate UMB’s organic growth strategy and create significant value. And importantly, it is a great cultural fit.
Our banking cultures are similar in tone, with similar approaches to business and focus on our associates and communities. The thesis for this transaction is laid out on Slide 3. UMB will have significant scale in several markets, expanding density in some of our existing regions, including Denver, Kansas City, and Phoenix, as well as gaining entry into attractive new geographies, including Iowa, West Texas, New Mexico, Wisconsin, Illinois, Minnesota and California. We will combine two franchises with similar values of conservative credit culture, complementary businesses. UMB’s strong commercial banking capabilities will expand into new markets and Heartland’s successful consumer and business efforts will bring further density and diversity to our business model.
In fact, we will nearly double our retail presence. Bruce and his leadership team have done a great job in recent years and done the heavy lifting, laying out the groundwork. This includes successfully handling the consolidation of their multiple charters, and the strategy and vision they laid out in their 3.0 initiative. Through the combination with us, we believe we can put our engine in their chassis to accelerate this transformation, extract value and growth, and bring those benefits to Heartland’s customers sooner and more efficiently. While the combination results in day one TBV solution, driven entirely by interest trademarks, it positions us well and enhances ROTCE by approximately 800 basis points with an implied earn-back of just 3.1 years.
We’ll gain meaningful scale in both retail banking with the addition of $6 billion in consumer deposits with the raw material to sustain our growth. And in private wealth, Heartland adds an additional $4.9 billion in asset under management and administration and increases our totals by approximately 31%. The pro forma loan-to-deposit ratio of 67% preserves our conservative profile while positioning us for future growth. Finally, the pricing and financial metrics are compelling with EPS accretion of 31%, including rate marks and will strengthen our return and performance metrics. As is typical with such analysis, the accretion math is based on consensus estimates. As demonstrated by both of our first quarter results, we hope to generate more shareholder value by continuing to execute.
The pricing multiples are attractive at 9.7 times 2025 consensus EPS estimates, 6.7 times with fully phased-in synergies, representing a price to tangible book value of 1.53 times. This is an all-stock transaction. Details are on Slide 5. The exchange ratio is fixed with 0.55 UMBF shares for every HTLF share. This equates to the transaction value of approximately $2 billion. And currently, we announced this morning the pricing of a very successful unwritten public offering of $210 million or 2.8 million common shares. We also have a forward agreement on this offering, which has an up to 18-month term. The offering includes participation from high-quality institutional investors, including some of our top shareholders. We expect the transaction with Heartland to close in the first quarter of 2025, subject to regulatory and shareholder approvals.
We have been keeping our prudential regulators and other agencies engaged throughout our due diligence process, and because of the feedback we have received, we are excited to move forward. On Slide 6, we’re projecting top quartile profitability and capital generation, with key expectations shown on the right-hand side. We anticipate strong core earnings power with approximately $700 million in net income and fully phased-in cost days, based on 2025 estimates. Additionally, with a loan deposit ratio of 67%, we have about $10 billion of excess deposit capacity versus peer medians to fund our growth. Slide 8 is a snapshot of Heartland’s and bank divisions, located in attractive and fast-growing markets. We see the benefit of our combined scale in the chart on Slide 9.
We will have a 13-state footprint, with a top 10 market share in five of those states. On Slide 10 and 11, we’ve included a look at Heartland’s granular deposit based and commercially-focused loan portfolio, followed by details on commercial real estate. The investor real estate CRE is well-diversified by property type and geography. The average loan size is just under $2 million and has no non-accruals at the end of the first quarter. Details on the office portfolio is on the right-hand side of Slide 12. Again, well-diversified, with an average loan-to-value of 57% in line with ours. Moving to Slide 14, we have a long-term look at asset quality. If you follow us, you know asset quality is a topic I like to talk about. UMB has a track record and metrics I’m extremely proud of, and Heartland has a similar approach to managing credit.
On Slide 15, we’ve shown the two companies side-by-side, highlighting our capabilities on each. The combination of UMB’s products and services and Heartland’s deposits, lending verticals and customer base, provides meaningful cross-sell opportunities. Heartland’s strong retail and small business capabilities will have revenue synergies to UMB’s platform, and our commercial capabilities and access to key municipalities, newly acquired geographies, could open doors for corporate trusts and other institutionalists. We will work hard for you to unlock value in this combined franchise. For example, in their 3.0 strategy, HTLF has laid out their vision to increase their fee income to 25%. With our more sophisticated treasury management product and commercial card strength, we can penetrate deeper into their existing client base and new prospects in their markets.
This will accelerate fee income to mimic our profile and drive higher quality earnings. Similarly, since the American economy is driven more than 75% by small business, we are looking forward to leveraging their small business capabilities to our existing market. Finally, we’ve provided a look at the diligence process that got us to this point on Slide 16. As you can see, well over 200 of our associates, along with multiple outside experts, have given hundreds of hours reviewing data on multiple lines of business, processes, operational support function and the risks involved in all areas. Every line of business reviewed their own area, met with counterparties at Heartland and documented their findings for a comprehensive review. At the end of the day, our work gives us confidence in the metrics and assumptions surrounding the transaction.
Now I’ll turn it back over to Ram to cover additional details on the transaction. Ram?
Ram Shankar: Thanks, Mariner, and good morning, everyone. The transaction assumptions are on Slide 17. The earnings projections we’ve included are based on consensus estimates for 2025, growing at a 5% rate thereafter. We see upside to both sets of projections, but wanted to be conservative for our presentation. We put together a thorough bottoms-up analysis and expect cost saves of 27.5% of Heartland’s non-interest expense, 40% of which is to be recognized in 2025, assuming a first quarter close. And as Mariner noted, we’ve identified numerous revenue synergies that we’re excited about, but are not included in our metrics, providing additional potential for upside. One-time charges were similarly put together with a bottoms-up analysis, with inputs from all business lines across the bank and are $215 million in total.
Purchase accounting marks are important to get right, and we use a prominent third-party firm to assist in our calculations. Our transaction model assumes a conservative credit mark of 1.3% on Heartland’s loans and a core deposit intangible of 3.4% of deposits, amortized over 10 years, using the sum-of-the-years digit method. The credit mark, based on internal reviews and independent third-party analysis, is roughly 28% higher than Heartland’s current ACL of $124 million. The interest rate marks assumed on the loan portfolio are expected to accrete over five years in total on a straight-line basis and are estimated to be approximately $550 million at close. For the securities portfolio, we expect to sell approximately $2.5 billion of Heartland’s bonds that don’t match our investment profile simultaneously with the closing of the transaction and reinvest those proceeds into agency mortgage-backed securities and/r U.S. Treasuries.
Inclusive of the rate marks on loans, retained securities, and other debt instruments, we expect approximately $660 million of after-tax income to flow through earnings over time. Interest rate marks clearly have a large role on the merger map and financial metrics at close. The core impact of the acquisition is very attractive. If you strip out the rate marks and CDI, the deal is roughly 15% EPS accreted. Tangible book value dilution, in this case, would be approximately 6%, and earn-back would go to under two years. Turning to Slide 18, the combined franchise will generate meaningful capital. At close, including the equity offering, we expect CET1 to be 10.1%. Combined earnings plus cost savings is nearly $700 million per year and net of presumed dividends that equates to 115 basis points per year of CET1 before accounting for any balance sheet growth.
Additionally, the previously mentioned $660 million in rate marks over the next few years will add another 135 basis points of CET1. Based on these factors, we expect to return to our first quarter 2024 CET1 ratio of 11.1% in less than 18 months after close. Now, I’ll turn it over to the operator for the Q&A session.
Operator: Thank you. [Operator Instructions] Our first question comes from the line of Timur Braziler of Wells Fargo. Your line is now open. Please go ahead.
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