Ladies and gentlemen, thank you for standing by, and welcome to the Eagle Bancorp, Inc. Third Quarter 2020 Earnings Conference Call. At this time, all participants are in a listen-only mode. After the speaker's presentation, there will be question-and-answer session. [Operator Instructions] Please be advised that today's conference may be recorded. [Operator Instructions] I would now like to hand the conference over to one of your speakers today, Mr. Charles Levingston, Chief Financial Officer. Sir, please go ahead.

Thank you, Michelle. Good morning. This is Charles Levingston, Chief Financial Officer of Eagle Bancorp. Before we begin the presentation, I would like to remind everyone that some of the comments made during this call may be considered forward-looking statements. Our Form 10-K for the 2019 fiscal year, our quarterly reports on Form 10-Q and current reports on Form 8-K identify certain factors that could cause the company's actual results to differ materially from those projected in any forward-looking statements made this morning. The company does not undertake to update any forward-looking statements as a result of new information or future events or developments unless required by law. This morning's commentary will include non-GAAP financial information. The earnings release, which is posted in the Investor Relations section of the company's website and filed with the SEC, contains the reconciliations of this information to the most directly comparable GAAP information. Our periodic reports are available from the company or online on the company's website or the SEC website. I would like to remind you that while we think that our prospects for continued growth and performance are good, it is our policy not to establish with the markets any earnings, margin or balance sheet guidance. Now, I would like to introduce Susan Riel, the President and CEO of Eagle Bancorp.

Thank you, Charles. I'd like to welcome all of you to our earnings call for the third quarter of 2020. We appreciate your calling in this morning and your continued interest in Eagle Bancorp. As usual, Jan Williams, our Chief Credit Officer, is also with us this morning. Jan, Charles and I will be available later in the call for questions. I'm very pleased to announce that during this very trying time, Eagle Bancorp had a very successful third quarter. Despite the soft uncertain economy created by the pandemic and the very challenging interest rate and operating environment, our quarterly earnings were $41.3 million. That represents a 13.2% increase over the third quarter of 2019 and an increase of 43.3% over the second quarter of this year. And I am proud to say that for the period, we reached the highest level of quarterly revenue and net income our company has ever achieved. The return on average assets for the third quarter was 1.57%. The return on average common equity was 14.46%, and the return on average tangible common equity was 15.93%. At these levels, our profitability is among the highest level for community banks in the United States. For the third quarter, earnings were $1.28 per fully diluted share, which is a 19.6% increase over the same period last year and a 42.2% increase over the earnings per share in the second quarter of 2020. The improved profitability in the third quarter as compared to the second quarter of 2020 was driven primarily by an increase in non-interest income, combined with a lower provision and reduced levels of legal expenses associated with our publicly disclosed investigations and class action litigation. As for the generation of the non-interest income, we were extremely pleased by the performance of the residential mortgage…

[Operator Instructions] Our first question comes from the line of Casey Whitman with Piper Sandler. Your line is open. Please go ahead.

Hey good morning.

Good morning, Casey.

Good morning, Casey.

So now that you guys have crossed the $10 billion asset threshold, I guess my first question would be, just can you remind us of how big of an impact Durbin would have on your fees and the timing of when that would occur?

Sure. Yes, Casey, that impact, based on my analysis, is somewhere in the neighborhood of about $1.3 million pretax, so just under $1 million or so. Again, not a significant consumer book of business with the bank. So the impact is minimal.

Okay. And that's annual, correct?

That's right. That's an annualized number, yes.

Okay and what about the timing of that?

Right. My most recent read that if we maintain a balance of total assets in excess of $10 billion at year-end that will kick in on the first of next year. I think that's right.

Understood. Thank you. And then, I guess as I think about expenses here, I mean, it seems like you're going to have -- you should have a drop in the occupancy expenses in the fourth quarter. But -- and I probably ask this every quarter, but with crossing $10 million, is there any kind of incremental expenses that we should expect to come from that? Or do you guys feel pretty well positioned here?

Yes. I think, as we've mentioned in prior discussions and calls, we've been building towards the establishment of an infrastructure that can accommodate a $10 billion-plus bank. And so, we feel like we're in pretty good shape. I mean, there will be incremental costs associated with some additional people. But most of the systems, we feel like are generally in place. It's not going to be anything that's going to be exponential in terms of cost. We're growing into it.

Understood. Thank you. And then maybe I'll switch gears. As you think about capital, and as you guys mentioned, restating your buyback, can you walk us through sort of your thoughts about how aggressive you could be with it? And then maybe what your appetite might be for announcing a new program once I think this one expires at the end of the year?

Right. Yes. I mean, that's something that our Board is continually evaluating. I note that these days, we are trading below book value. So any kind of acquisition of a repurchase of our stock is immediately accretive, which looks pretty attractive from my vantage. But it is something that our Board will continue to evaluate each time we come together.

Great. I'll just ask one more and let someone else jump on. And Jan, I don't know if you're on or not, but can you maybe walk us through where the watch -- special mentioned, substandard buckets kind of landed in the quarter? Did we see some negative migration there, in particular within the average segments?

Yes, Casey, I think you should expect to see significant migration into the watch category, as we move anything in second COVID mod into a watch status, so that it's getting a heightened profile at the bank. So you'll see a significant shift, probably about net $520 million moving to a watch category.

Got it, but not into the special mention substandard?

Special mention will be up about $8 million, substandard up about $5 million.

Great. Thank you for the questions and stay safe.

Thank you.

Thanks, Casey.

Thank you. And our next question comes from the line of Steven Comery with G. Research. Your line is open. Please, go ahead.

Hey, good morning.

Hey, good morning, Steve.

Appreciate the commentary on the deferrals being $851 million versus $1.6 billion on $630 million. Kind of wondering if you guys had any breakdown as to how much of that was second request versus first request? And maybe just some general color on how EagleBank is handling second request?

Yes. To break that out for you, there are roughly $620 million are in second deferrals and two-thirds of that $620 million are partial deferrals, they're interest-only deferrals as opposed to full payment deferrals. I'll give you an example of what we're doing when we are considering second deferrals, looking to provide credit enhancements. For example, we had a large hotel loan that we agreed to do a principal deferral on. And in return, received a $25 million principal curtail and that more than offset from our perspective, the risk associated with an additional deferral. Another large relationship where we granted an interest-only second deferral, also anticipating a 10% principal reduction as part of that deferral. So we're not really in a situation where we're kicking the can down the road. We're actually using the opportunity to build a stronger credit, when these are coming through for their second 90-day deferral request.

Okay. Thank you. That's very helpful. Maybe moving on to the margin. I guess, so sort of a meaningful decline in yields this quarter. I get that the press release and Susan, you mentioned in your prepared comments, mentioned some floors, maybe sort of an update on how much of the loan portfolio has floors? And how many of the loans are on the floors? And then, maybe bigger picture, would you expect -- do you think that the LIBOR declines are fully in the run rate here, or should we see sort of more coming in, in Q4?

Yes. There's about $3 billion of the loan portfolio in floors that are at the floors, and that's pretty much all of the floors. So yes, I think that protection does continue. And Susan mentioned this in her comments to another challenge that I think we and a lot of institutions are facing, is having borrowers coming in and looking to renegotiate rates, right? And so that can be a challenge. You weigh the calculus of going out and identifying business to replace that versus the rate request in terms of what's being lowered. So that can continue to be a challenge and provide some downward pressure. You had another part to your question. I'm not sure that I answered that the whole question, LIBOR? LIBOR, so yes, I do think to the extent that LIBOR only moved down a basis point over the period, that a lot of that downward float is baked in. So, yes, I think we've seen the majority of that at this point.

Okay. Thank you. Appreciate that. Maybe one more for me, just sort of a more general question on sort of loan demand. Loans were down on a period end basis, you did deploy a decent amount of liquidity in the securities book. Is the demand just not there? Or is the company being sort of more conservative with the credit it's extending?

Yes. I would say, Steve, that the demand is certainly a little bit slower, and we are being cautious about the kinds of deals that we're approaching and self selecting out of, or otherwise giving a hard look to. So, yes, our channel, our President of Commercial Lending, who says, there used to be the go, go, go days, and now it's just the go days. So, yes, I'd say that there has been a little bit of a pullback in some of that activity to date, but we're still seeing some flow.

Okay. Thank you very much.

Thank you. And our next question comes from the line of Catherine Mealor with KBW. Your line is open. Please go ahead.

Thanks. Good morning. I wanted to start on just a follow-up. Hey. I want to start on just a follow-up on the margin. I know a lot of what's driving the margin lower is just the level of excess liquidity that you've got on the balance sheet. Charles, how are you thinking about just the timing of how long this excess liquidity stays and any efforts to deploy that excess liquidity? Maybe kind of how that fits into your overall big picture view of the direction of the margin into next year? Thanks.

Sure. Yes. We did see that liquidity picture turn pretty quickly earlier this year when the pandemic hit. And all of a sudden, there was this glut of liquidity that's remained on the balance sheet. We are being judicious about how we deploy that. We don't want it to all be pushed out into the investment portfolio at one point in time. And if one tender it as it were. But we want to be cautious to the extent that it could turn again at some point. At the same time, we want to put that money to work. We're trying to actively manage that excess liquidity to the extent we can. And again, on the other side, we still want to be able to bank our customers. So that's a little bit of the tension there. Obviously, a lever that can be used is price. And we certainly feel like we've pulled on that lever with our top-tier money market rate at about 25 basis points. So to the extent that there's more room to go down there to manage some of those funds down, that could be part of the solution. But in terms of deploying that liquidity, I think it's at a measured pace over the next several quarters to the extent that it sticks around.

Great. Okay. And then on the mortgage outlook, and this is a really strong mortgage quarter. How are you thinking about just kind of more seasonal normalized level as we look to fourth quarter?

No, I would say, Catherine, that as you well know, the mortgage volume depends on rates. And it's anyone's guess as to what will happen. I think the rates will stay low for a while. And so our activity will continue to be pretty high. So we're looking forward to that. And we feel confident that it will continue for a while.

And remind me on the number this quarter, how much is just from the gains on the lock of the fair value -- the fair value lock on the pipeline. And then I know you mentioned this kind of change in best efforts methodologies, maybe is there a way to quantify how much of this quarter was just from kind of the accounting dynamics versus just true rate and volume?

Yes. That number was $1.6 million.

Okay. Great.

Did that answer?

Great. Thank you so much.

Yes. No problem. Thank you, Catherine.

Thank you. And our next question comes from the line of Christopher Marinac with Janney Montgomery Scott. Your line is open. Please go ahead.

Thank you. Jan, I just wanted to go back to the watch comment that you made earlier. What happens to move something from watch into special mention going forward? And to what extent did the watch movement impact the reserve calculation at the end of September?

Well, Chris, those are good questions. We have internal metrics that we use to calculate when loans are going to be moved from watch to special mention. And I think it depends on the severity and duration of the impact. Right now, we're not looking at a whole lot of the second deferrals that are impacted in terms of their ability to make interest payments. So they're in the watch category, if there was a complete payment deferral, we would push that further. But I think overall, the majority, about $500 million of those second deferrals will show up in watch.

Okay. And that's watch now? Or would that be watch in third -- the fourth quarter reporting?

Well, I won't know what the end of the fourth quarter will look like. And we've reached the -- essentially the end of the first deferrals for all, but $220-ish million in first deferrals that are outstanding. We're not anticipating that we're going to be going into second deferrals with those at this point, although circumstances could certainly change. I think there's probably more upside opportunity there than not as we look at whether a second stimulus package will happen in the fourth quarter. So right now, I think we've been fairly conservative in raising the profile on a lot of these loans by putting them into the watch category and having the COVID task force focus on whether or not these second deferrals make sense.

Got you. Okay. That's great, Jan. Thank you for that background. And then, Susan, just a quick one for you. On the legal expenses that we see, is there anything that you would expect going forward? I mean, would those retreat after what you've spent year-to-date? Or just any additional thought about that?

At this point, we don't have any view into what those legal expenses will be at this point. So we expect them to be ongoing. We will continue to have elevated legal expenses as a result of the investigations in the civil lawsuit, but we can't predict at this point what they will be.

Got you. Great. Thank you both for the information this morning.

Thanks, Chris.

Thank you.

Thank you. And our next question comes from the line of Brody Preston with Stephens, Inc. Your line is open. Please go ahead.

Good morning, everyone.

Hi, good morning, Brody.

Good morning, Brody.

So I just wanted to -- I'm sorry if I missed it in the prepared remarks. I hopped on a little bit late. Just -- I appreciate, I think it was $500 million or so was second deferral, and I appreciate the breakdown that you gave of industry and collateral type. But I just wanted to hone in on the hotels and ask if you had given the weighted average LTV on that? Or if I maybe skimmed over it in the release.

Yes, the weighted average loan-to-value on the hotel deferrals is at 60%, the highest on the second deferrals is 75%. Everything else is below that level. I think I did mention that we had about a 25% pay down on our largest hotel loan as a principal curtail as part of the second deferral. So we're actively managing that portfolio.

Okay. Okay. Great. And then just as I think about crossing $10 billion, and I think you said it was like $1 million or so annualized in Durbin related impacts from crossing $10 billion. I mean, it just seems like just given how deminimis that is, I guess, maybe assuming there's better growth opportunities early next year. Is there any reason why you guys wouldn't just, I guess, maybe continue to grow the balance sheet and just push beyond that yourselves, without necessarily considering partnering with anybody?

Yes. I think that's right. We're going to continue to carry on. We'll always be opportunistic. There may be opportunities that present themselves. But at this point, we're fully prepared to continue to march forward.

Okay. And then, Charles, absent -- I understand the floor renegotiations that you might have to face. But I guess, absent any significant amount of renegotiations. As you deploy liquidity, it seems like there's still some opportunity to reprice the CD book lower and maybe the money market incrementally lower as well. And so just as you deploy liquidity with those floors in place, it seems like there should be, I guess, maybe a natural margin tailwind that you see maybe next year? Is that how you all are thinking about it?

There's some fairness to that. Certainly, we've seen some of the higher-priced brokered CDs that we booked in the middle of late 2018, start to roll out. I think there was $60 million or $70 million that around a 260 weighted average or so that we were able to unload that came to term here in the last quarter. So, we'll continue to see some roll-offs like that, which are very helpful.

Okay. All right. And then I understand that loan balances declined this quarter, and it looks like a big part of that was due to construction, which I can understand in this environment. But you all did do a nice job growing owner-occupied and income-producing CRE. So, I wanted to get a sense for what the -- what opportunities you're seeing there and what the drivers were this quarter of that?

That's a really good question. We are seeing opportunities on deals. I think the big driver right now is interest rates and people looking at refis. That's a really competitive market in terms of pricing for the prime properties that we're looking at. So, every deal is an evaluation. And we're not always the lowest priced bank in town. We provide the best service and can sometimes command a premium for that. But there's an awful lot of price shopping going on right now.

Okay. And then I just had one last one. There's just between the liquidity between the growth profile that you all have historically had, the really low efficiency ratio, strong profitability profile and the potential to buy back a decent slug of stock moving forward with excess capital. It just seems like there's a lot of tailwinds to your story and the one overhang is the investigation. And I understand that you can't necessarily speak to the specifics. But I was just hoping maybe you could help us better understand how frequent the conversations are? And do the conversations that you have with the investigators, do they ever give you a sense for when they feel like the investigation might conclude or not?

We really don't have a picture into that. We would not be able to give you any more guidance on that. If there -- we finished the documentation phase. We believe we've finished the testimony phase. So, you can read into that whatever you'd like to read into that, but we can't give you any more guidance.

Okay, understood. Thank you all for taking my question this morning. I appreciate it.

Thanks Brody.

Thank you. And our next question comes from the line of Erik Zwick with Boenning & Scattergood. Your line is open, please go ahead.

Hi, good morning.

Good morning Erik.

Similar to Brody, I jumped on late, so my apologies if everybody addressed this question. Just curious with regard to the two kind of large commercial real estate relationships that drove the charge-offs in the third quarter. Can you provide any commentary to what industries they serve or just a little more color around those relationships?

Yes. One was a land loan in a vacation area, a couple of hours from Washington. And that did result in a charge-off that we had reserved for previously of about $1.2 million. There was also a charge-off of about $3.5 million and a ground lease situation with a hotel tenant. Those were the two biggest.

Okay. And were those something you guys have been watching prior to the onset of the pandemic or was it maybe just exacerbated by the current environment or were they both more recent?

Well, the first one we had reserved for several, gosh, quarters ago in anticipation of dispositioning the loan. We had had some inquiries regarding it. The second one was really COVID-related in terms of virtual cessation of operations for hotels and lack of cash flow to support the operating expenses.

Susan, I appreciate the commentary. That's it for me today.

Thank you.

Thanks Erik.

Thank you. And I'm showing no further questions at this time. And I would like to turn the conference back over to Ms. Susan Riel for any further remarks.

I would like to thank everyone again for your support and your interest in our company and we look forward to speaking to you again at the -- after the end of the year.

Ladies and gentlemen, thank you for participating in today's conference. This does conclude the program and you may all disconnect. Everyone, have a great day.