Q3 2022 CapStar Financial Holdings Inc Earnings Call

[music].

Good morning, everyone and welcome to Capstone Financial Holdings third quarter 2022 earnings Conference call.

Hosting the call today from cap Star at Tim Schools, President and Chief Executive Officer, Mike Fowler, Chief Financial Officer, and Chris Tietz.

Chief Credit policy Officer.

Please note that today's call is being recorded.

Play of the call and the earnings release and presentation materials will be available on the Investor Relations page of the company's website at cap Stopbank dotcom.

This presentation, we may make comments, which constitute forward looking statements within the meaning of the federal Securities laws. All forward looking statements are subject to risks and uncertainties and other factors that may cause the actual results and performance or achievements of capstone to differ materially from those expressed or.

By such forward looking statements.

Listeners are cautioned not to place undue reliance on forward looking statements.

A more detailed description of these and other risks uncertainties and factors are contained in <unk> public filings with the Securities and Exchange Commission.

Except as otherwise required by applicable law cap star disclaims any obligation to update or revise any forward looking statements made during this presentation.

We would also refer you to page two of the presentation slides for disclaimers regarding forward looking statements non-GAAP financial measures and other information.

With that I will now turn the presentation over to Tim schools, Capstone, as President and Chief Executive Officer, Sir. Please go ahead.

Okay. Good morning, and thank you for participating on our call. We appreciate everybody's interest in cap star and I'm going to apologize ahead of time, [noise] I'm coming off of Covid to from about two weeks ago. So I'm congested a little bit so I apologize for that.

In the third quarter, we reported 37 cents per share.

Our earnings included first a $2 $1 million pretax loss related to the sale of our markdown of our remaining Tri net balances.

Net production was ceased in early July and there's no further risk of loss on anything that has been produced to date not.

900000 of $2 3 million in losses.

Encourage since second quarter are unrealized and Theres, a high probability that that will be accreted back into earnings over time.

It is uncertain at the moment as to if or when we will restart trying that.

Second a $1.5 million pretax loss for wire fraud, we filed an insurance claim and are seeking a recovery the F. B I and our core system provider have tracked the IP address of the individual.

Just trying to perpetrate many banks and are a core system provider is seeing it showing up across their bags.

We have and are reevaluating, our processes and procedures to do everything in our power to prevent a similar situation in the future.

Lastly, a $732000 pretax operating loss on a depository account I cannot get into the details at the time at this time, but we and our counsel believe cap stars in the REIT and we are pursuing a recovery.

I take personal responsibility for these incidents I inquired about stopping Tri net production in May when I was made aware of the $200000 unrealized loss, we were going to take at that time I was informed everything going forward would be at par or better with the volatility of the markets I should have used better judgement and pause production until we.

Total clarity while the other two involved fraud and questionable legal advice, we can and need to do better to prevent such incidents too.

To establish a culture of accountability I voluntarily forfeited my 2022 bonus and in doing so my executive team followed this will total about $1 million for the year, we are a shareholder oriented company and we recognize our shareholders deserve better. Additionally, we are performing at a high level and our employees deserve to earn.

Earned as much incentive as possible with our corporate incentive based on E. P. S pretax pre provision to assets and ROA, a lowering our incentive will assist them in getting more for the great results they are achieving.

With that having been said I'm excited at the high level. Our team is performing adjusted for these incidents we earned <unk> 50 per share and a $1 39 ROA.

Importantly that is with our mortgage division contributing a second core or excuse me a third quarter net loss.

Of $663176.

Which equates to <unk> <unk> per share loss and no contribution from Tri net.

Pre tax pre provision to assets was 184% and the bank only excluding mortgage was 193% as an aside our mortgage division reduced annual operating expenses about 400000 towards the end of the quarter, we have an outstanding mortgage division and Billy.

It is a valuable piece of our franchise and will continue to be a positive contributor over the long term.

When I joined three years ago, the pretax pre provision to assets was about 1.45% and I set a target of one 8% to 2% that was questioned at the time and several people said it would be hard to do we're proud of our improved profitability as well as the improved growth prospects, we've created for cap star.

It is important for our pretax pre provision to assets to perform at a higher level to generate competitive capital returns in good times, but also to have more earnings power for more challenging times, which bring higher credit costs.

Before turning it over to Mike I'll comment a little on current trends.

First we've added a second commercial relationship manager in Asheville, a fifth commercial relationship manager in Knoxville, and we added an additional correspondent banker all this quarter.

Second with the fast pace of rising rates and the level. They are at now loan demand is beginning to slow.

Like most banks, we have tempered our interest in CRE in construction during the quarter adjusted for the Tri net loans that we transferred over our average loan growth was nine 2% with the quality of our sales team and the strength of our markets. It could have been much higher however, with competitors.

Raising loan rates at the pace of market rates and extremely challenging deposit environment and the current economic uncertainty I believe it is best to be patient and cautious at this time.

Third deposits are extremely competitive you might recall last quarter, while other banks were commenting unanticipated deposit growth the remainder of the year I expressed more caution with rates, having risen sharply customers are aggressively shopping for the first time in years brokerage firms and U S.

Treasury rates offer a higher rate at the moment, which brings additional challenges we have refined most metrics at cap star and deposits are really the last step we need to address.

As a younger bank cap star was built on lending with less of a focus on funding.

We've been working on balancing our culture and I believe over time, we have tremendous opportunity.

Fourth credit metrics remain very strong our criticized and classified loans improved again with our largest sub standard loan being upgraded to pass.

Past dues ticked up a little bit.

That is essentially due to two relationships of which one has been troubled for about two years.

We feel we're in a strong position on both the remainder of the increase included an unusual level of matured loans that were not renewed timely at quarter end and about 500000 for three P. P. P loans for which we are fully secured.

Mike If you would now please cover the financial highlights for the quarter.

Thank you, Tim and good morning, everyone.

So on page six.

A few.

Key performance highlights.

In terms of profitability.

Net interest margin was three 5% in the quarter up nine basis points from last quarter up 38 basis points from a year ago.

Efficiency ratio as reported 61, 5% as Tim touched on earlier adjusted for the three unusual items the efficiency ratio for the quarter.

It was 52.8%.

Turn on assets as reported one point O, 3% adjusting for the three unusual items, 1.39%.

In terms of growth, we continue to have very solid loan growth.

Nine 2%.

Adjusted for the transfer of Tri net loans from held for sale into held for investment.

Earnings per share.

37 cents a share adjusted for the unusual items 50 cents a share and.

Tangible book value per share.

Excluding the impact of after tax losses on the available for sale investment portfolio was $16.22 as of 930.

Up from $15 86 as of the last quarter and up versus fifth $14 59, a year ago.

In terms of soundness.

Credit metrics as Tim noted remained solid for the quarter, we had two basis points of annualized charge offs, yes, 30 basis points of nonperforming assets to loans and we continue to run with with very strong capital levels.

On page seven.

The net interest income of $25 6 million.

Was an increase of $1 1 million.

Versus last quarter.

The margin of 350 up nine basis points.

Was driven by a combination of us redeploy cash into loans and.

Number two a.

Modestly benefiting from the Fed's continued rate hikes.

Based on our assumptions at this time, we don't see the margin being materially impacted by further rate moves further fed rate moves.

We continue to see loan pricing headwinds as competitors catch up.

Two recent market rate increases.

And we also not surprisingly at this point in the cycle.

We have seen in the last few months some increase in deposit pricing pressure.

As Tim as Tim alluded to early and the Fad.

Early fed moves we like the industry did not move deposit rates materially.

But as the fed moves deeper into the hiking cycle as expected.

<unk> have increased as we've seen in our markets.

We do continue to have very strong loan pipeline.

And production, which provide good opportunities for continued net interest income growth.

On page eight.

Total deposits were roughly flat down $5 million for the quarter. There was some movement within that.

Corresponding balances declined 69 million on average.

As many of our correspondent customers deploy their excellent excess liquidity.

We look forward to turning that around.

As we expand our correspondent business into new markets leveraging the recent addition, Tim mentioned of a season corresponding banker.

Our deposit costs for the quarter.

62 basis points was an increase of 39 basis points versus Q2.

We continue to focus on.

Disciplined deposit pricing.

Trying to balance our remaining competitive.

<unk> retaining customers attracting customers, while also optimizing profitability.

And we continue to actively target deposit growth, especially operating balances.

On page nine.

Okay.

We continue to have a strong production the pipeline the commercial pipeline remains above 500 million we.

We did have <unk>.

Average loan growth of 50 million for the quarter.

Adjusting for the movement of Tri net into held for investment.

As Tim noted, we are limiting commercial real estate.

Due to the economic outlook and to better align our loan and deposit growth.

Our average loan yields increased 37 basis points versus the prior quarter.

With an average spread versus match funded home loan rates of one 9%.

Near our 2% or better target spread.

On page 10 in terms of noninterest income.

We continue to see stable deposit and interchange revenue.

In terms of mortgage as you're seeing through the industry.

With mortgage rates continuing to rise hitting 7%.

For 30 year fixed rate mortgages are up 300 basis points versus a year ago mortgage revenue has been impacted by combination of higher market rates as well as a limited supply of homes for sale in our markets.

Tri net loss Tim discussed.

The $2 1 million loss related to sale and transfer of the remaining tri net loans into held for investments.

And content consistent with our outlook on the last call.

Our SBA team demonstrated solid progress this quarter.

With fees in Q3 exceeding the sum from the first and second quarters.

And as Tim mentioned, we're very excited about the future with recent SBA hires.

On page 11.

Yeah.

Total expenses were up versus Q2.

Due to the $2 2 million dollar operational losses, Tim discussed for.

For which we are pursuing potential recoveries.

Adjusted for the operational losses and for managements voluntary bonus rave waiver expenses are down 800000 versus the prior quarter.

Strong expense discipline with adoption of our productivity mindset throughout the organization.

And we continue to have an ongoing focus on efficiency opportunities.

On page 12.

Actually I will turn it over to Chris to discuss risk management.

Thank you Mike turning to page 13, let's discuss asset quality has noted in the upper left hand graph overall asset quality is improving with continued reductions in criticized and classified loan levels, even with that improvement. There is migration reflected by increased pass due and impaired impaired loan levels. Since then.

Two outcomes of some overlap and what drives them. Let me give you some additional insight of the $14 $3 million in past dues noted in Q3, there is not a pervasive or systematic issue emerging well.

While we believe we could have improve this result, with better administration of a few delinquent borrowers more than half of the $14 $3 million total.

Latest two separate borrowing relationships totaling $8 3 million of this $3 $3 million is an SBA transaction with a 90% SBA guarantee.

Delinquent and rated sub standard this borrower is not impaired.

$5 billion is represented by a single borrowing relationship that came with an acquired institution.

This loan is delinquent and accounts for the increase in impaired and doubtful loans component of the trend.

This borrower has filed bankruptcy so.

The loan is secured by real estate with a low loan to value ratio enhanced by guarantor support we believe there will not be loss as we work towards resolution.

Of note each of these relationships has been classified as substandard since last year and subjected to our quarterly review of rated loans as we've noted in the past substandard loans require more time and attention to work out while our level of criticized and classified loans is low we anticipate that these two relationships.

We will continue to influence our reported delinquencies in coming months, while we endeavor to bring them to successful resolution.

Even with this migration within substandard grades we still achieved an overall, 15% reduction in our criticized and classified loans were glad to have such good levels of criticized and classified loans as we enter a new period of uncertainty in the economy moving.

Moving onto losses in the lower left hand.

Graph as a result of our evolution in recent years to a traditional community banking strategy, including pursuit of smaller and better secured borrower profiles are annualized loss rates remain exceptionally low at two basis points.

Turning to page 14, while drivers of overall asset quality are improved we believe a provision to maintain the same level of allowance is prudent as noted in the slide despite improvements in the pandemic supplement and historical loss factors. The net provision is driven by loan growth and an adjustment for qualitate.

Factors relating to the current economic environment with this I will turn it back over to Tim.

Okay. Thanks Curt.

Thanks, Chris I'm really proud of the strengthening of our core bank.

We are well positioned and are excited by the prospects of our team and the markets.

The current environment brings certain challenges, we're working through those and are optimistic there will also be some things that are improved position will allow us to capitalize on that concludes our presentation and we're happy to answer any questions. Once again. Thank you for your time.

And we appreciate your support.

Thank you.

To ask a question you will need to press star one on your phone. Please standby as we compile the Q&A roster.

One moment for our first question.

Yeah.

Yeah.

Our first question will come from Kevin Fitzsimmons of D. A Davidson your line is open.

Hey, good morning, guys hope everyone's why Kevin.

Good morning.

Good morning, Tim So yes.

It sounds like.

You're kind of signaling the margin is probably going to be more stable.

<unk>.

Loan growth is going to soften.

Somewhat deposits remain a challenge on the betas are accelerating but.

I just wanted to take a step back and.

How does all that net out with the ability to grow NII.

In your mind.

Joe disagree with.

Got it is probably prudent.

To be more careful and cautious on the loan growth front, but.

Lot of banks are putting up big percentage margin expansion, but I just wanted to get your view on an actual dollars of NII and how we should view that.

Trajectory going forward.

Yeah sure, Thanks, Kevin and and look I'm, just one perspective, and I don't want to challenge our second gas what other banks are CEO say, but as you know we've known each other a long time I'm, a conservative cautious person and.

Deposits went down for many banks in second quarter, and and I know on the second quarter calls, many Ceos said well.

Ours will go up the second half of the year and in my comments, we're much more cautious and I've also been cautious on the margin.

When you look in 10-Q's and 10-K's, there are a lot of assumptions that go into interest rate risk shocks.

And you're assuming that's.

That's on a static balance sheet, so you're not really assuming.

What growth might do.

But on a static balance sheet right, you're assuming what you think your betas are going to be they may be they may be better than that that may be worse than that youre thinking about how customers might behave that have existing loans with you and that's a little easier because you know contractually.

Fixed will stay and you know variable will go up.

You don't know that if those people have extra cash that they won't pay some of those loans off and you don't get the upside in that yield.

On new production.

When we're doing our budgets, we assume certain spreads and one of the things we've been saying cap star for the last three quarters.

Is competitors have not raised loan rates to the pace of market rates. So new production is coming on at thinner spreads forget the absolute yield if you. If you use a base rate of the <unk> curve.

Again third quarter last year, we got 250 basis points, that's sort of what we target and year to date, it's been more $1 60 to $1 80, that's not because what we wanted other banks are not raising their prices and so.

So it's all it's very complex and it's not as easy I mean, we'd all.

Love It to work out exactly like our IRR tables, but it's complex so I.

I don't have an exact answer for you, but you've got the macro challenges I don't think cap stars challenges are any different than I'm seeing in the market and other banks and I think it's going to be a period I think industry margins. While they have expanded the last few quarters. I think continued expansion is going to be tough.

I mean, we have depositors that call us that love the bank and say, Hey, I can get a six month treasury at 4%.

I hate to do this but I need to take the money out for six months I'm going to buy a six month treasury.

I mean, it's hard to raise the deposit account to 4% when competitors are doing loans at 5%. So.

I know that's not the answer you want but I do think that at a macro level industry margin expansion I would think would would taper and and not be as much or maybe be flat.

And so then it's going to come down can you grow your balance sheet I really think today, we could grow quality loans two day in this environment, probably 12% to 15%.

And that's with cutting back on being a little more conservative. The challenge is are you going to find the funding to fund that.

In a healthy environment I think we've got the teams in markets, we could grow loans, 20%. So if you remember on the last call and the <unk>.

Of our Investor deck, we had sort of changed our outlook today right now maybe high single digits for loan growth because we just think with the economic outlook in some of the funding challenges. So that's very long winded, but I think you're on track on the macro issues and.

Right now at this point I would still probably maintain the.

You know higher single digit loan growth and deposit growth would be the outlook with a more stabilized margin not expanding more.

Okay, Great that's very helpful. Tim.

And.

Maybe just looking at credit.

I know we're in a situation now where you know.

There is.

I appreciated all the detail on the past due non performers, but and charge offs remained historically low.

But you mentioned, how it's prudent to.

Provide for the loan growth to keep the reserve where it is but given.

Given the economic forecast do you think are we heading into a period, where you may have to.

Think about building that ratio versus just keeping it the same or.

Do you feel your markets are.

Vibrant enough.

Healthy enough that that's not that's not being called for it this time.

Well you know that's not a clear answer either right I mean being conservative I think you would.

If.

Allowances are interesting you don't have a lot of leeway there are qualitative factors that allow you to do some of that but you know theres. So model driven now today, Kevin and you know we'll be migrating on January one to seasonal.

And that will change, even a little bit more where I'm not the expert on it we've got Jeff Moody, our controller here and Mike but.

That's gonna be driven more on unemployment.

Unemployment rates.

And so even that is not really prospective right. That's actually something has to happen for unemployment rates to go up so.

There is room for qualitative factors.

<unk>.

I do think it's a period just if youre cautious that you probably want to set a little bit more side, we don't see any indicators right now other than common sense. You know rates are higher so people with variable rate loans their payments are higher.

[noise] thoughtful fuel prices are higher so people are spending less.

That's just going to hurt basic operating companies and.

What could that lead to so we're just trying to be really cautious we've got a great bank, where good underwriters.

And we're beginning to focus on.

Not that we don't always do that but really strong almost like the pandemic portfolio management. What are those sectors are customers that could be more stressed work with them early and.

Get it but before that happens I will say on seasonal and just in case someone doesn't ask the question that.

That we're finalizing that and we're prepared for adoption on January one we have not disclosed any adjustment amounts. So don't want to do that you know publicly on a call, but I will say that our analysis. It looks like our adjustment will be in line with industry averages for what you know what the one time hit to book value has been at.

Looks like it's very reasonable with an industry averages.

Okay. Thank you Tim.

Thank you Kevin.

Yeah.

Thank you.

Maam. Please for the next question.

Our next question will come from Graham <expletive> of PSC. Your line is open.

Hey, good morning, guys.

Good morning Graham.

Yeah.

So I just wanted to touch back on on the loan pricing you guys are talking about and just get a little more color on that.

I'm just wondering.

What your longer term outlook is for this like do you think these competitors will either be compelled.

To lift their pricing I mean, I don't know if its excess liquidity.

Or what that's allowing them to be so aggressive, but you have to think that I guess risk adjusted returns start to look pretty back relative to what you can get even in the bond market I'm just wondering what your longer term outlook is here and then also if they do adjust say a few quarters down the line.

There could be any any upside I guess to net interest margin from there.

The current I guess the range you guys were talking about.

Yeah. So good question I think some of that is already changing I mean, it was worse in the first half of the year and you know, there's whatever 5000 banks or something there's probably 60 that operated Nashville and.

Not that they're not all great banks, but some some use more discipline than others, some have more sophistication than others.

You know not every bank has funds transfer pricing and not every bank and benchmark it against the base rates I'm, just sort of use gut feel and so.

So you always run into a competitor that's pretty low but.

I think it's starting to come up some.

But we're using discipline of which loans do we really want to do for those reasons for profitability as well as for credit risk.

Down the road, there's so many aspects.

Graham that go into calculating a net interest margin that certainly would benefit the margin that it.

If we were getting 250 spreads on all commercial loans that would be an additive but theres also gives them puts theres other things that could go against that so I hate I would hate for you to take that and model just that one factor would lead to that but.

Margins generally should be higher with higher rates right DDA are worth more than they were worth very little when rates are lower.

So all things being equal I think it would benefit I was reading just a little bit this morning that.

I guess stocks were up early with.

Short term rates coming down some I think if the if the curve has stayed higher and had some steepness.

That probably would benefit margins that.

But.

That's my thought right now.

Okay. That's helpful.

Just wanted to get a little more color on deposit costs.

Can you give me any any idea of what you guys had been seeing I guess on the recent rate hikes in terms of data.

Maybe just like I don't know.

What youre kind of expecting for through the end of the year as we head into <unk> on that.

Yeah, So I'll make a quick comment and then Mike can give you the details because he manages that process, but yes.

So just to explain what we do and what I have seen it most banks is we.

We subscribe to a service called rate watch and they go shop, our bank as well as a lot of banks you give them. The competitors you want you give them the markets you want so.

We get a Nashville report, our Knoxville report Chattanooga report.

And so forth we pick the competitors, we want on there and we get a weekly report of what those branches report they're paying.

So we have a very disciplined process that meets every week. Our goal is to be sort of top third and our markets. So we don't want to be number one we don't want to be below average and we actively monitor it the best we can and we look at base rates and then we also have a sheet that shows all the specials.

And so I'll, let Mike talk about maybe what he is seeing but I just want to make sure everybody understood and that's a pretty standard process that any bank I've been in has done but Mike do you want to comment on what you're seeing sort of on the ground.

Sure. So we are.

We are seeing I guess I would say.

Money markets, which are about 20% of our <unk>.

Portfolio deposit portfolio is where we're seeing the most aggressive movement.

Our assumptions there on average about 50% betas.

Our interest checking.

As about a third of our portfolio, we assume 25% beta is roughly.

And savings small balance somewhere around 15% to 20%.

Yes.

So we have seen those come up but I think those are levels that we feel we can certainly manage through.

That's part of the cycle.

Okay, Great. That's helpful. And then I've just got one more quick one here on SBA.

I saw that you guys are looking at adding another team here just wondering.

What the revenue potential is there in terms of how it might be additive to the <unk> range of I think he said $752 million trying to gauge the size of that in there to potentially offset some of the softness in mortgage.

Yes. This is Chris I don't want to get too specific in guidance on that again, we I believe last quarter indicated that we saw Q3 and Q4 of this year.

Seeding the aggregate we had for the first half of the year we.

We need to settle into our staffing before we start making predictions I will say, though that our expectation over time our goal over time I should say is that we will be successful in our recruiting efforts and will build solidly on where we are right now with <unk> with growth going forward.

I want to be more cautious than that because I can't predict what I can't control right now.

Yeah, I understand alright, well, thank you guys.

Thank you.

And one moment. Please next question.

Our next question will come from Catherine Mealor.

<unk> Your line is open.

Thanks, Good morning.

Hey, Catherine.

Just back to Alberta.

Earlier question, just on kind of <unk>.

Sure profitability about Kevin was talking about it.

Look at.

You made some really important.

Gentlemen, great quarter to kind of offset some of the headwinds.

Since our credit and really appreciate it.

And as they look at.

As you look at kind of the expense growth rate or maybe the operating members of team rocket here, yet so much I think.

Well.

Well, it's part of the thesis of your story was.

We had kind of expense build with some of the hires that you brought on in entering a new market.

And that was going to bring on higher revenue growth just because teens are going to go up so much in our remark.

Goodbye Aracoma beyond on a higher margin. So I guess as you think about now a flatter margin and slower growth.

Are there.

How do you kind of balance.

What the expenses look like over a amongst here and is there anything you can give to that 16 5 million dollar bank only expense.

Hi, Robert.

Okay.

I think there's always opportunity I've mentioned before our core contract ends in the spring of 2024 everywhere I've been there has been material savings there. So to me there's always room on that I think we've done a good job I think when I came the efficiency ratio was maybe 67% and now its 52% so.

I mean this is one of these REIT debt.

You wish in every environment, you could grow loans, 20% you could grow DDA, 20% you could have an efficiency ratio of 50%.

And the world would be perfect and that's just not reality. So I don't think that we're any different than we thought.

That over the next year, if we could grow in this environment loans, 8% to 10%.

And hold that at a margin close to where we're at.

And grow expenses at say, 253% I think you know we're already a company that right now is earning 50 this quarter with mortgage costing two says if they just broke even we'd be at 52. So we're really excited where we're at I don't think we view that our thesis has changed at all.

<unk> got much more diversified revenue, we've got more people that can contribute all their expenses are already in our run rate.

And so again you know.

We're being cautious in this environment and not being.

Overly aggressive that if we can grow 8% to 10%.

And we've already got our expenses down so let's make sure we manage that and moderate the growth of it we think we'll have a great year.

Got it that's super.

Helpful and then.

Then on.

Levels of profitability are there I know you've.

Without them.

Extra provision profitability target earlier in this kind of new environment is there a target that you think of my reason about.

Good luck for this year.

You know there is.

You know companies are complex because you know.

I don't know everything we're I'm not aware of any large one time other items this quarter plus or minus I'm sure. There's.

50000 here or there that we got this quarter or this bill, but I don't I don't see why our current run rate on pre tax pre provision should change that much.

Adult I don't think we're gonna have a lot more margin expansion from here.

I don't think it's going to go down right now from here I do think that banks that were asset sensitive.

Do need to start thinking about an 18 to 24 months if rates came down everybody was all excited about the asset sensitivity, but that means they'll go down also so but in the current environment I would hope Catherine that now that we've gotten it in that.

I don't have at my sheet right in front of me, but now that we've gotten back to that 185 range or 195, excluding mortgage I would hope we could hold it in that range and run a company like that and you know charge offs have been really low for a long time, it's not realistic that they'll stay this low and that's.

Again, why we want that at 185 to 195, so that we can cover more charge offs, maybe our ROA isn't $1 39, maybe in that environment, It's 115 or 120.

So we're just we're very pleased where we're at and.

Again, I think if if you were back to the.

The year before Covid or two years before Covid, we've now got the markets and bankers in that environment that I think things would grow 15%.

But in a.

At a high rate environment, and the fed going up another 75 and depositors looking all over the place.

I think it's just time for a little more patients and cautious and it would probably be high single digits.

Alright, I appreciate all that all make sense.

Follow up is just on the buyback.

Any thought yet.

Your tone is more caution for that.

Totally appreciate it makes sense, but you still do you have a lot of capital.

Your stock is cheap so how do you think about the buyback doesn't stop on that.

Alright.

Yeah, I mean I.

I'm a buyer so I think I think it's a price I definitely would buy at Theres. So many uses for cash right. So so one is.

Deposits aren't strong so I mean, it's not into the world I mean, we could go take $510 million to $15 million and buy stock I think it would be a good economic decision.

Right now that's $5 $10 million to $15 million more wholesale funding you'd have to get so.

Part of it is again I'm personally kicking myself I've got $130 million of Tri net on my books that are capped that not only you know where theres some realized losses and unrealized losses that caused reserve and it took up $125 million of funding.

Well had not done that I would have $125 million more per core in market loan growth also could take 15 or 20 million of that and buy back stock. So just working through that I'm definitely a buyer of the stock here and we're just weighing our different priorities on utilizing the cash.

Right Alright. Thank you so much for all I got.

Hey, before you go I, just let you know that I actually got Covid at your college so.

That was my that was my President FERC visiting parents weekend.

And then it was the worst of that.

Yeah. It was alright. Thank you. Thank you. Thank you.

Thank you.

One moment for our next question.

Yeah.

Okay.

Yeah.

And our next question will come from Brett Robinson of how the group your line is open.

Hey, guys good morning.

Morning, Brett.

Wanted to first ask on on the assumption that the margin kind of flattens out from here what.

What does that assume I know that the deposit beta is running around 40% at this point and you've got some aggressive.

Peers in middle, Tennessee that have been growing at a rapid clip.

With their deposit rates did I see postpone it as well.

There are other non maturity rates as well what is what is the kind of a flattening of the margin assume for deposit betas going forward does that assume a continued acceleration or a flattening what what what can you point to on that.

Yeah.

Mike I would.

I would say on that.

We're not assuming an acceleration of betas.

We did say.

Betas accelerate from early in the fed's rate moves, but we're assuming and optimistic that we can hold the betas that we have been seeing recently.

So that would be probably overall for our liquid deposits about a 35% beta.

I don't have a blended beta factoring in CD rates, but on the liquid deposits.

Around 35% and we're optimistic that we can manage with that.

There certainly are some banks in our markets that have been more aggressive there are others that are not so as we see opportunities for deposits.

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We are seeing instances, where we are being more flexible to be competitive to retain relationships or attract new relationships.

But we're also seeing situations where pricing is much less aggressive so it's more mix than it was earlier this year.

But again, we think we can hold the betas that we've seen recently going forward near term.

Okay.

And then this is obviously critical to getting to talk on the on the calls again as we prepare for whatever storm as tricky as Jamie Diamond Sciences counting.

Is there anything that you guys are either seeing or looking at in terms of loan categories or things that you want to avoid going forward you know some people were concerned about.

This hotel's et cetera, any any long classes that you you would think could be more impacted.

Well I'll, let Chris get into that because I presume, Chris It's a lot like we did the pandemic analysis I would assume that would be the same categories, but a couple of things I'd say first of all.

We're a bank, we're not perfect and I'm sure in a declining environment, we would have increased losses.

You know I think we're generally a strong credit culture and good underwriters.

We had our loan review firm, which was the former VK D. Now four of US here on the size of our board meeting Wednesday, They just completed two loan reviews.

They've looked at 35% of the portfolio they target 50% in the year.

And generally their view is positive on our portfolio and our underwriting.

The profile of the portfolio has changed a lot the last three years.

And.

You know.

As everyone knows you know cap star was it more of a national lender and our shared national credits. This this this quarter theyre now less than 1%.

I don't think we've done I know, we haven't done a shared national credit.

There was a lot of participations on top of that that Werent, even shared national credits with Pinnacle first bank enterprise in St. Louis cadence in Houston.

Don't think we've done one of those in two years. So our profile is so different that we're more granular we're in more markets theyre more secure they're more guaranteed that doesn't mean, you know that good customers won't go bad but.

The last comment I'll make on our profile is cap star has been a bank you know even before myself.

Never really done any material, a N D or or a large level of builder finance and so Chris is more of an expert deny but A&D and builder finance are two areas that tend to get hit hard and bad economies, we really aren't exposed to that sector.

And then Chris maybe talk about the sectors, we have like from the pandemic sure. What are those sectors that are on your mind that you highlight yeah.

Yeah, Brett it's a good question and a little bit forward looking so it's really one guy's opinion, rather than something that I can empirically show. So first of all stepping back to the big market. We have we have interestingly seen for the first time, our new projects that are failing to.

Raise the equity requirements that we would have to underwrite them. Okay. So these are projects that that's a that's in a normal that creates a normal break on on construction and development activities and I'm not talking in the residential space I'm talking about in the commercial space, but if you go into our response to that is we stayed there.

Discipline, and we get more discipline as we've talked about for many quarters going back even before the pandemic.

Our commercial real estate model is a high cash equity model period, we've stuck to that if you go back to specific categories that would be deemed risk.

Through well, let me also step back all of our commercial portfolio, our commercial real estate portfolio. We only have 60 basis points of criticized or classified loans within that portfolio. It has been high performing for a very long time.

Areas of concern.

Hotels going back through the pandemic have performed exceptionally well for us even during the pandemic, but we have not grown that category. If anything we've shrunk it just a little bit a multifamily continues to be a resilient component of our portfolio and the economies in the markets that we deal with and we do have a.

<unk> there. We also have some some retail but again were sticking to more of the triple net lease profile a good portion of what we have in retail exposure comes through the Tri net program, which has a weighted average cash equity of 35% with long term credit tenant national.

Leases in place. So we don't you know, yes, there is concern over office, but that has mitigated again, primarily by the high cash equity that we have going into those transactions and we believe that we can be resilient managing that over time I don't know if that answers your question, but I'll give any more color that you might want in there.

No that's very helpful. Chris appreciate it.

And then Tim.

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Oh, I'm, sorry, I didn't address the one issue we continue to be exceptionally conservative with acquisition and development activities. It's just not something that we see as being a long term.

The kind of risk that we can manage particularly and in these kind of this kind of environment. So we will continue to be conservative there and with our residential construction activities and Brent Let me give you. One example, and I don't remember all the details but.

And the last two weeks or two opportunities came before us.

One was you know what I hoped I suspect would be a great long term project. It was some kind of I.

And I don't want to say what market, but there was some kind of newer.

Kevin Lambertson here, Kevin I don't remember if it was a hotel or whether it was some kind of resort development spec construction.

Pretty large cost to it you remember generally the range Kevin on the cost.

So it is a large spec construction resort kind of thing and Kevin and I looked at it and said I don't I don't really think we should be doing that right now in this environment.

And then.

You know somebody called in and.

And we've got a.

A customer who moved to large operating companies to us where we've got cash management deposits loans.

And that customer owns a warehouse that they lease out to a large grocery store chain.

So it's you know number one.

Proven customer we know two existing operating companies and then he's got a warehouse that he leases out that has had a proven tenant for a long time. So we did that one. So that's an example, where we're being very selective and very choosy, even though the first one sounds like a great project in long term probably has great prospects. We didn't think it was great for this.

Environment.

Okay, that's fair.

Very helpful. I appreciate all the color on that just one just one last one I think Tim when when you got the cash Star I think the first thing that was obvious is you need to change.

The lending culture, and so I think that was kind of a person foremost thing that you're focused on.

As we as I think you know in the past few quarters, you probably realize that deposits were also something that.

You needed to be focused on as well and I don't know if you feel like you you caught up to that from a culture perspective.

But just wanted to hear you know maybe any thoughts around the deposit.

Building culture of caps are and if you think you've gotten up to where it needs to be or if maybe you still got some work to do with how the relationship.

Folks bring in deposits.

Yes Ironically.

I joined in May of 19, and so the first six months.

Can see Jerry Kings on this call here and listening and he is really one of the people that inform me the most and woke me up and he has been a great I'm. So glad you spoke up and so the first six months I took you know he challenge me to analyze the company and what would it take to make it better that that came from Jerry King.

And so.

So actually Brad in the fall of 19.

I started a whole deposit project I got peer incentive plans.

We clearly were a national wholesale participant bank is what we were and so we laid that we laid out that we needed to change that and we laid out funding actually at the same exact time and we changed the incentive plans we started talking about it.

And.

Actually I think we started to make some good initial progress and then within three months. The pandemic started and you turned to you know employee safety your own your own personal safety, how do you run a bank remotely I mean, just the next 18 months was total how do you run a good company and that <unk>.

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And $300 million of excess deposits came in.

So I would say, it's not like I mean, I don't want to I'm not trying to say that to say I found it but we started talking about it probably in October .

Of of 19.

And I would say that both the disruption of the pandemic as well as you get comfortable with the 300 million I mean that really turned to internally and from investors. What can you do to lend that out well that 300 million at all banks basically left right and so.

We've achieved everything we've shut our mined out to do and I would just say that it was not part of the original culture certainly they got deposits I don't want to say that.

But it wasn't a balanced approach like art Seaver has grown as bank and done a great job at southern first for 30 years and he Hasnt bought banks and he has found a way to fund his bank.

You know I don't think he has been growing loans, 20%.

Found a way to grow loans to deposits eight or 9% a year for a long time.

There are model just like us they're in urban markets. They have limited branches.

So we're really doing a lot of self reflecting in getting back to that so.

So I would say it's very early.

It was a baseball game is in the first three innings and I'm very excited about what we can do and I think we need to adapt incentive plans.

Hum.

One example, I'll give you for everybody on the phone is is theres a customer in down on the Tennessee side above Florence, Alabama and.

And we bought bank of Waynesboro down there and we've got say five branches.

And.

One of our bankers went to high school with the person that owns this company.

So that company had $10 million to $12 million of loans depository needs cash management.

And we were just confident that we would get that I mean, we've got five okay.

The small bank, we bought wasn't big enough to serve it.

But we've got five locations.

One of our bankers went to high school with their owner we thought it was a slam dunk.

Service first flew their jet in there from Birmingham.

Service first got the relationship they don't have an office within two hours of there.

And so I think Brett we need to change incentive plans, we need to change our mindset that we don't have to have a branch right next to the customer.

And we've got to get proactive offensive about how can we go to those markets and set up a company.

Cap Star just wasn't built that way cap Star Wars was.

So we have a little bit of work to do there.

But it shows that can be done.

Okay.

That's good color.

Yes.

Thanks, Brett.

Thank you.

And that will end the Q&A session I would now like to turn the conference back to Tim schools for closing remarks.

Yeah again Thats, all we have and we appreciate your support and we're really pleased with our progress and we look forward to talking to you I guess it will the next call. We will actually be 2023, so everybody have a good fall and a good holiday and we'll talk to you then thank you.

This concludes today's conference call. Thank you all for participating you may now disconnect have a pleasant day and enjoy your weekend.

Okay.

The conference will begin shortly to raise your hand during Q&A you can dial star one one.

Okay.

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Yes.

Hum.

Yes.

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Hum.

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Yeah.