Prepared remarks
Good day. And welcome to the Community Financial Systems, Inc. Second Quarter 2020 Earnings Conference Call. All participants will be in a listen-only mode. To ask a question, you may press *1 on your touch-tone phone. To withdraw your question, please press *2. Please note that this event is being recorded. Discussion may contain forward-looking statements within the provisions of the Private Securities Litigation Reform Act of 2000 that are based on current expectations, estimates, and projections about the industry, markets, and economic environment in which the company operates. These statements involve risks and uncertainties that could cause actual results to differ materially from the results discussed. Refer to the company's SEC filings, including the risk factors section, for more details. Discussion may also include reference to certain non-GAAP financial measures. Reconciliations of these non-GAAP measures to the most directly comparable GAAP measures can be found in the company's earnings release. I would now like to turn the conference over to Dimitar A. Karaivanov, President and CEO. Please go ahead.
Thank you, Betsy. Good morning, everyone. Thank you for joining us today. This was another consecutive record quarter, which I would classify as solid, with continued expansion in net interest income, strong fee performance in banking, employee benefits, and wealth management, and managed recurring run-rate expenses. Both credit and liquidity remain top tier. Insurance revenues were short of expectations. We also had a few expense items that we do not consider recurrent. I am particularly encouraged by the continued client and talent acquisition momentum across all of our markets in banking, the new product launches and growing capabilities in our employee benefits business, the above-market results in our wealth management business, and the addition of ClearPoint. Clearly, insurance will be challenged this year and will fall short of our expectations. That is driven by meaningfully lower contingencies in top premium markets and also some organic challenges. However, you will notice that we had a nice gain of over $3 million on an investment during the quarter that is related to an insurance investment. It is a great example of the optionality associated with our presence in the broader insurance space. We made more than five times our money in this particular situation. We are also looking at a very strong pipeline of M&A opportunities in insurance which may put us on a nice track for 2027 revenue expansion. A couple of items of note. First, an update on our de novo efforts. We finished the second quarter right around $140 million in deposits across our de novos. Between the de novos and our acquisition of the Santander branches in the Lehigh Valley, we expect to end the year at approximately $700 million of new additive funding in our growth expansion markets and are quickly putting that to work in quality loans. That is right in line with our strategic plan. You will notice that even with this sizable aggregate addition of deposits that were priced higher than our legacy ones, our overall cost of deposits continued to come down, hopefully directly addressing some prior concerns. Second, we spent a fair amount of time talking about our commercial banking business and the success there, but here's a data point and the terrific things that our mortgage team is doing as well. Right now, our mortgage pipeline is at the highest point it has been for the past seven years, and as we know, this is not a booming mortgage market. As of the latest HMDA data, we are the number two bank originator in our footprint. Four years ago, we were number five. Speaking of housing in our markets, based on May 2026 data, Brandon, PA is the market with the highest increase in housing price in the United States. Rochester, New York is second. Oakland, New York is fifth. Syracuse is sixth. Allentown is fourteenth. This is driven by inventory being down 50% compared to historical averages. Needless to say, this all bodes well for us. Third, as it relates to activity across our markets, a few data points. Four years ago, Central New York was delivering less than 400 new units of housing per year. Last year, the permits filed were over 2.4 thousand. By most estimates, we need over 3 thousand to meet the housing demand. On the banking side, I have seen more discussions around multifamily and even hospitality deals in Central New York in the past six months than I have seen in the past five years cumulative. With that said, it is still early days, and it is not what is driving our growth yet. Our differentiated growth comes from market share gains across all of our footprint. There is not much of a difference in the growth rates of our regions. This past quarter was particularly strong in New England and Pennsylvania. Looking at the pipeline, I expect virtually all regions to have a strong second half of the year. We also have insurance and benefits customers seeing nice lift in their operations from activity across all of our footprint. Lastly, our banking assets now sit at $17.4 billion. Our wealth assets under management and administration stood at $17.1 billion. Our retirement assets under administration are $16.5 billion. In other words, both our employee benefits and wealth management businesses now have a similar amount of assets under care as our banking business, which further underscores the diversification strategy of our company. You can expect continued focus and investments across all of our businesses to drive the growth of all of them in line with our previously communicated strategies. With all that said, this was a record quarter for our company with overall pre-tax, pre-provision earnings up 14.9% year over year. Banking pre-tax earnings were up 13.2%. Employee benefits pre-tax earnings were up 16.2%. Wealth management pre-tax earnings were up 46.5%. Insurance was down 10.8% year over year. More importantly, our trajectory remains very attractive and we expect acceleration in results across all of our businesses in the second half of the year. As a reminder, in the fourth quarter we begin unshackling ourselves from the weight of our securities portfolio as we start getting back meaningful cash flows, which should provide a nice tailwind into future quarters. I will now pass it to Marya for more color on the numbers and our updated guidance. Marya?
Thank you, Dimitar. Good morning, all. As Dimitar noted, the company's second quarter performance was solid. GAAP earnings per share of $1.16 increased $0.19, or 19.6%, from the second quarter of the prior year and increased $0.08, or 7.4%, from linked first quarter results. Operating earnings per share and operating pre-tax, pre-provision net revenue per share were record quarterly results for the company. Operating earnings per share were $1.16 in the second quarter as compared to $1.04 one year prior and $1.15 in the linked first quarter. Second quarter operating PPNR per share of $1.62 increased $0.21 from one year prior and increased $0.01 on a linked-quarter basis. These record operating results were driven by a new quarterly high net interest income. The company's net interest income was $139.1 million in the second quarter. This represents a $4.4 million, or 3.3%, increase over the linked first quarter and a $14.4 million, or 11.5%, improvement over the second quarter of 2025, and marks the ninth consecutive quarter of net interest income expansion. The company's fully tax-equivalent net interest margin increased four basis points from 3.45% in the linked first quarter to 3.49% in the second quarter, reflective of lower funding costs. During the quarter, the company's cost of funds was 1.18%, a decrease of two basis points from the prior quarter primarily driven by lower deposit costs. Operating noninterest revenues increased $4.8 million, or 6.4%, compared to the prior year's second quarter and increased $300 thousand, or 0.4%, from the linked first quarter. The increase in operating noninterest revenues compared to the second quarter of 2025 was reflective of increases in employee benefit services, wealth management services, and banking noninterest revenues, partially offset by a decrease in insurance services noninterest revenues due to a softer insurance market and lower organic growth. Operating noninterest revenues represented 36% of total operating revenues during the second quarter, a metric that continuously emphasizes the diversification of our businesses. The company reported a $4.6 million provision for credit losses during the second quarter. This compares to $4.1 million in the prior year second quarter and $5.6 million in the linked first quarter. During the second quarter, the company recorded $137.7 million in total noninterest expenses, an increase of $4.7 million, or 3.5%, from the linked first quarter and an increase of $8.6 million, or 6.7%, from the prior year's second quarter. The increase from the linked first quarter was due in part to a $2.1 million increase in salaries and employee benefits reflective of one additional payroll day and a true-up of performance-based annual management incentive plan expense, $700 thousand of expenses associated with ClearPoint, as well as a one-time $600 thousand early termination charge related to a debit card processing platform conversion. $3.4 million of the increase in total noninterest expenses from the second quarter of 2025 was attributed to salaries and employee benefits, primarily due to incremental costs associated with acquisitions and de novo bank branches opened between the periods along with the impact of annual merit-based increases. Occupancy and equipment expenses increased $2.4 million from the prior year's second quarter driven by incremental costs associated with the opening of 16 de novo branches and three regional headquarters along with the seven branches acquired from Santander in the prior year's fourth quarter. Year to date, operating noninterest expenses were $261.2 million, an increase of $15.2 million, or 6.2%, from the first six months of 2025. Excluding operating expenses related to acquisitions completed in the last 12 months, operating noninterest expenses increased $10.4 million, or 4.2%, from the same prior year period. Pending loans increased $151.6 million, or 1.4%, during the second quarter and increased $763.7 million, or 7.3%, from one year prior. The increase from one year prior reflected organic growth in the overall business and consumer lending portfolios while the increase during the second quarter primarily reflected organic growth in the business lending portfolio. The company's ending total deposits increased $1.01 billion, or 7.4%, from one year prior and decreased $159.7 million, or 1.1%, from 03/31/2026. The decrease in total deposits during the second quarter was primarily due to seasonal outflows of municipal deposits. The increase in total deposits over the last 12 months included $543.7 million of deposits assumed from the Santander branch acquisition and $120.1 million of deposits assumed from the ClearPoint acquisition. Moving on to asset quality. The nonperforming loans ratio increased two basis points, and the net charge-off ratio increased one basis point from the linked first quarter while the loans 30 to 89 days delinquent ratio decreased nine basis points from last quarter aligned with typical seasonal trends. The company's allowance for credit losses was $91.7 million, or 81 basis points of total loans outstanding at the end of the second quarter, an increase of $1.5 million during the quarter. The increase was primarily attributed to reserve building in the business funding portfolio. The allowance for credit losses at the end of the second quarter represented eight times the company's trailing 12-month net charge-off. We are pleased with the second quarter results which reinforce our commitment to expand operating leverage and scale as a diversified financial services company. Looking forward, we believe the company's diversified revenue profile, strong liquidity, and historically good asset quality provide a solid foundation for continued earnings growth. With that, I would like to provide a more detailed update to our expectations for full-year 2026 as we enter into the second half of the year inclusive of the estimated impact of the completed ClearPoint acquisition. We are currently expecting 5% to 6% growth in loan balances, 3% to 4% growth in deposit balances, 10% to 11% growth in net interest income, 6% to 7% growth in noninterest revenue, and a provision for credit losses in the range of $20 million to $25 million. In addition, our expectation is for continued net interest margin expansion over the next six months, exiting 2026 in the low to mid-3.5% range. We expect modest temporary pressure in the third quarter within a range of up one basis point to down two basis points due in part to seasonally higher overnight borrowing levels. Core noninterest expenses are expected to be in a range of $550 million to $555 million, or an increase of 7% to 8% from 2025. This includes approximately $8 million to $9 million of incremental expenses associated with the branches acquired from Santander and approximately $4 million to $5 million of incremental expenses associated with ClearPoint, including nonoperating intangible asset amortization. These estimates do not include the impact of pending or future acquisitions. Additionally, we continue to anticipate an effective tax rate between 23% and 24%. That concludes my prepared earnings comments, and Dimitar and I will now take questions. Betsy, I will turn it back to you to open the line.
Questions and answers
Thank you. We will now begin the question-and-answer session. To ask a question, you may press *1 on your touch-tone phone. If you are using a speakerphone, please pick up your handset before pressing the keys. If you would like to withdraw your question, please press *2. At this time, we will pause momentarily to assemble our roster. The first question today comes from Steve Moss with Raymond James. Please go ahead.
Good morning.
Good morning, Steve.
Good morning.
Morning, Dimitar. Morning, Marya. Maybe just starting off on the competitive environment in New York, it sounds like there is going to be a bit of an acceleration here in overall business, including loan growth. I'm curious what you guys are seeing these days. Where is competition more intense and where is there opportunity?
Thank you, Steve. As I mentioned, it is really across the footprint. I could not tell you that Upstate is any better or different than, frankly, New England or Pennsylvania. It is competitive. I think our expectations are, as Marya said, 5% to 6% on the loan growth side for the year. I think we are tracking just about in that range right now, towards the higher end, but we also have some second-half comps where last year was stronger than the first half. It is active across the board. I would say that we have seen a little bit more competition as it relates to pricing, including some structures as well. People are focused on putting assets on the books and certainly our growth could have been even higher this quarter if we had taken a similar approach. It was interesting because rates rose during the quarter while actual rates offered to customers went down in some cases in our markets, compressing spread meaningfully. We do not partake in a lot of those approaches, but we still feel that our pipeline is pretty solid and we will be able to hit those growth rates.
Do you think going forward for the second half of the year it will be more commercially driven? And are you going to try to hold indirect auto flat? I realize there is some competition in that market this quarter.
I think in the third and fourth quarters we will really bear the benefits of our activities on the mortgage side, so I expect the mortgage portfolio to move. Our pipeline in that book is the highest it has been in seven years. Mortgages have a typical timeline to closing, so as you estimate the pipeline today, most of it will clear out in the quarter, and then we will be rebuilding again. So I think the third and fourth quarters will be good in mortgage. On the auto side, pricing has improved a little bit, so we are more active there as well. I think consumer will be stronger in the second half of the year than it was in the first half. Commercial remains in a very good spot. We have very good pipelines and we may even have opportunities to do a little better on pricing if competitors believe rates will move upward rather than down.
Okay. Got it. And then on the fee income side, insurance, how should we think about contingencies going forward? I heard you say it was softer this quarter. How much did contingencies impact fees this quarter? As we go into 2027, will contingent fees be more muted and have lower growth?
I think that's right. The shortfall in insurance year to date compared to where we thought we were going to be is about $1 million and is largely driven by contingencies. The team has done a very nice job in controlling costs, but it is hard to overcome that. The rest of it has been organic softness in premiums, so it is a little hard to tell where it will settle. We think the second half of the year will be better and we expect some acceleration and to make up some ground, though it might not return us to a normal growth rate by year end. We are down 6.5% year to date. We hope to make that up and not necessarily finish the year down, but it could go either way. I will say this environment has made things more active on the M&A side, as I mentioned on the call, and we have multiple ways to grow revenues there. The pipeline on the M&A side is the best it has been, including some opportunities that could be much more meaningful than historically for us. If we execute well there, looking to 2027 we will be in much better shape.
Awesome. Appreciate all that color, Dimitar. I will step back in the queue here.
The next question comes from Manuel Navas with Piper Sandler. Please go ahead.
Hey. Good morning. This is Grant Zirlin on for Manuel. I had a question on how deposit pipelines look going forward, noting the muni seasonality this quarter, and then how are de novo branches doing in gathering deposits?
As you pointed out correctly, the second quarter has a meaningful amount of seasonality as teachers and other employees take the summer and there are payments made at the end of June, so you can see outflows as property taxes start coming in at the end of the third quarter and the fourth quarter; those will rebuild back into liquidity. These are normal temporary fluctuations across our footprint. As it relates to de novos, we ended the quarter at $140 million in deposits, right on track with what we planned and hoped for the year. Activity levels are pretty good, and we are very pleased with the outcomes there. Overall, deposits are not easy to come by; that is true for everybody in the industry. Deposits are the lifeblood of the bank, so we remain very focused on that. Pricing has become a little less constructive on that side and we have decided not to participate in some of those opportunities. We are seeing things that are going off at rates above wholesale funding rates, which does not make sense to me, so we are not going to participate in those. We have a much stronger balance sheet and a lot more flexibility than most. Our loan-to-deposit ratio is 76%, so we have a lot of runway compared to other banks. Another point is we have a tremendous amount of cash flows coming from our securities portfolio starting in the fourth quarter and into next year. Over the next 18 months, we are looking at over $1 billion of cash flows coming our way, which is a great way to optimize how we fund loan growth.
Thank you. And then just switching over to repurchases, I noticed a decrease this quarter. Is there a right pace for repurchases going forward?
We do not have a pre-established pace. We remain opportunistic. If there are moments of softness in the market, we make sure that we maintain strength in the company so that we can be active when conditions are favorable. There is no predetermined amount we would like to purchase. We also see a decent amount of opportunities on the M&A side, especially in insurance, so we are mindful of how we deploy cash in the best way for our shareholders.
Thank you. That is it for me.
The next question comes from Matthew Breese with Stephens. Please go ahead.
Good morning. Marya, I heard you loud and clear on the near-term NIM guide. I'm curious, as you think about NIM longer term, would the main driver be repricing of fixed-rate loans? When do those repricing benefits start to peter out? Is that a 2027 or 2028 factor for you, or is it longer considering the composition of your book?
I would say it is longer for all the components. You heard Dimitar talk through different things we are seeing in the markets and historically with NIM. We expanded four basis points in Q2 and 20 basis points year over year. That expansion reflects the ongoing effects of loan repricing and an outstanding cost of funds, which in Q2 was 1.18%. As we look at NIM, Q3 may show a little pressure due to seasonality, and we expect expansion again in Q4. For 2027, the variables are playing out over the next 12 months. The securities cash flows coming through are expected to have an impact beginning in Q1. We are very conscious of how the next roughly eight quarters are playing out because of the moving parts. We expect to exit the year in the low to mid-3.5% range and have room to benefit from variable loan repricing and redeploying securities into higher-yielding loans.
Matthew, to add, our ALCO modeling shows a continued margin trend if the curve stays where it is and spreads remain roughly in line. New originations are generally coming in at higher rates than the back book in aggregate, though it varies by portfolio. The cash flows moving from securities yielding around 2% into loans at higher yields provide a long tail of repricing and favorable mix benefits for future years.
Very helpful. Have you started to feel pressure on deposit costs, and might we see higher deposit costs even for you in the coming quarters as competition builds?
I do not think deposit costs will move materially for us. We have more levers on the balance sheet, including significant securities cash flows, so we do not have to participate in some of the higher-rate deposit opportunities. When you see short-term municipal money or other funds offering rates above wholesale unsecured funding, we are not compelled to match that because we have flexibility. There could be quarters, like Q3, where our cost of funds creeps up due to overnight borrowings, which is likely and will put some pressure on margin in that quarter. But I do not expect the overall cost of deposits to move much for us.
You mentioned infrastructure build and multifamily in your core markets tied to semiconductor-related investment. Could you reframe where things lie today, potential impacts to the balance sheet, when that might occur, and whether it has already occurred?
We have moved from the speculation stage into the stage where people are actually putting in permits, looking for financing, and committing real capital. That is where we are today. Are we at the stage where it is meaningfully impacting our balance sheet through lending or an immediate impact to insurance premiums or employee benefits services? Not yet. I think you will see a bit more of that over the next 12 months, but it will likely not be noticeable on our balance sheet in the next 12 months simply because of the scale of our balance sheet today. An incremental $50 to $75 million of opportunities would not move the needle materially. All of our regions are performing very well; if I gave you their growth rates you would not be able to tell which is Central New York. I hope that number will start to stick out more on the page in time, but we are not there yet.
Great. Last one for me: you mentioned investments toward AI in the release. How much staff do you have dedicated to AI presently? Have you seen tangible benefits yet? And do you think we'll see pronounced expense or revenue impacts in the near to medium term?
We are very focused on AI and have been on that journey for over two years. We have both added and redeployed resources into efficiency opportunities predominantly at this stage. In terms of staffing, think of it as more than a dozen people with a handful fully dedicated to AI and others augmented by AI in their roles. The most transformational areas so far are app development and our ability to develop, launch, and integrate products at a much faster pace. Being a diversified company with different regulatory environments allows us to be more experimental outside the bank and then take learnings into the larger enterprise. We are not yet at the point where we can quantify the full impact. I expect to know much better in about six months if some of these transformational initiatives are truly delivering. In another six months after that, you might start seeing their impact on margin in some businesses, but we are not there yet. At a high level, AI is allowing a more efficient allocation of labor across the franchise. If you look at our cost base excluding acquisitions, our employee cost has not gone up significantly over the past 12 months, and we have the same number of employees we did at the beginning of the year before the ClearPoint acquisition, while adding revenue. Some small add-ons have been offset by efficiencies. That is what we are focused on. You will see some moderation on the employee side first, and then margin benefits as investments mature.
Appreciate all the detail. Thank you.
This concludes the question-and-answer session. I would like to turn the call back over for any closing remarks.
Thank you, Betsy, and thank you, everyone, for joining us and for the questions. As always, we remain excited about the future ahead of us and look forward to speaking with you in a couple of months.
The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.