Q2 2023 First Financial Bancorp Earnings Call
Good morning, My name is Rob and I'll be your conference operator today at this time I would like to welcome everyone to the first financial Bancorp second quarter 2023 earnings conference call and webcast. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question and answer session.
If you would like to ask a question. During this time simply press star followed by the number one on your telephone keypad. If you would like to withdraw your question again press the star one.
Scott Crawley corporate controller, you may begin your conference.
Thank you Rob good morning, everyone and thank you for joining us on today's conference call to discuss first financial Bancorp second quarter and year to date 2023 financial results.
Speaking on today's call will be Archie Brown, President and Chief Executive Officer, Jamie Anderson, Chief Financial Officer, and Bill Harrod, Chief Credit Officer.
Both the press release, we issued yesterday and the accompanying slide presentation are available on our website at www Dot banking first dot com under the Investor Relations section we.
We will make reference to the slides contained in the presentation during today's call.
Additionally, please refer to the forward looking statements disclosure contained in the second quarter 2022 earnings release as well as our SEC filings for a full discussion of the Companys risk factors.
The information we will provide today is accurate as of June 32023, and we will not be updating any forward looking statements to reflect facts or circumstances. After this call I'll now turn the call over to Archie Brown.
Thank you Scott good morning, everyone and thank you for joining us on our call yes.
Yesterday afternoon, we announced our financial results for the second quarter.
Provide some high level thoughts on our recent performance and then turn the call over to Jamie to provide further details.
I continue to be pleased with our performance. This year earnings in the second quarter were once again very strong as an expected increase in deposit costs was mostly offset by higher asset yields.
Adjusted earnings per share was <unk>, 72, which was a 29% increase compared to the same quarter in 2022, while the adjusted return on assets and tangible common equity.
Six, 2% and 26, 46% respectively.
Net interest income net interest net interest margin exceeded expectations during the period.
Our asset sensitive balance sheet has enabled the company to successfully navigate the higher interest rate environment.
We are encouraged by the stabilization of deposit balances in the last half of the quarter personal business and public fund deposits were stable to increasing from May to June while the mix continued to shift to interest bearing products.
Our fee income largely exceeded our expectations this quarter with strong performance from mortgage banking client swaps and wealth management.
So much funding group had another nice quarter in originations, although the mix has shifted to a higher level of finance leases and loans.
This shift has bolstered our net interest income, but resulted in less fee income during the period.
Loan growth was in line with expectations for the quarter, while loan activity slowed early in the quarter and we experienced higher commercial line pay downs loan pipelines have strengthened in recent weeks and we expect moderate loan growth in the second half of the year. We were pleased that asset quality remained strong during the quarter net.
Charge offs were 22 basis points on an annualized basis after having zero last quarter and a net recovery in the fourth quarter of 2022.
Classified assets declined 13% from the linked quarter.
With that I'll now turn the call over to Jamie to discuss these results in greater detail and after Jamie's discussion I'll wrap up with some additional forward looking commentary Jamie.
Thank you Archie and good morning, everyone.
<unk> four five and six provide a summary of our second quarter financial results.
Our performance was excellent driven by solid earnings strong net interest margin.
The income and stable asset quality.
Our asset sensitive balance sheet continued to react positively to the current interest rate environment with our net interest margin declining only seven basis points during the period.
We continue to anticipate modest net interest margin contraction in the near term.
Fewer rate hikes in additional pressure on deposit pricing.
Total loans grew four 5% on an annualized basis.
Which was in line with our expectation.
Loan growth, Wisconsin traded in the leasing and residential mortgage books with relatively stable balances in the other portfolios.
Fee income remains strong in the second quarter with wealth management, posting another record quarter.
Additionally, bannockburn had a solid quarter and mortgage rebounded compared to previous quarters. Some.
<unk> had another strong origination quarter, although as Archie mentioned, the production mix shifted to a higher level of finance leases and loans.
This shift was additive to our net interest income, but resulted in less fee income during the period.
Noninterest expenses increased slightly from the linked quarter due to higher employee and marketing costs.
Second quarter expenses were slightly better than we anticipated due to lower leasing business expenses and fraud costs.
Asset quality was stable during the quarter classified assets declined $20 million or 13% during the period.
Net charge offs in the second quarter were 22 basis points as a percent of total hours on an annualized basis compared to zero in the first quarter, resulting in year to date net charge offs of 11 basis points.
We recorded $10 $7 million of provision expense during the period, which are driven by slower prepayment rates net charge offs and loan growth.
As a result, our ACL coverage ratio increased by five basis points to 141%.
From a capital standpoint, our regulatory ratios remain in excess of both internal and regulatory targets.
Cumulated other comprehensive income declined $25 million during the period as a result tangible book value increased 26 cents or two 4%, while our tangible common equity ratio improved by nine basis points.
Slide seven reconciles our GAAP earnings to adjusted earnings highlighting items that we believe are important to understanding our quarterly performance.
Adjusted net income was $68 7 million or <unk> 72 per share for the quarter adjusted.
Adjusted earnings exclude the impact of a $1 million tax credit investment write down one $7 million of costs associated with our online banking conversion and $1 million of other costs not expected to recur.
As depicted on slide eight these adjusted earnings equate to a return on average assets of 162% a return on average tangible common equity of 26, 5% and an efficiency ratio of 54, 9%.
Turning to slide nine net interest margin declined seven basis points from the linked quarter to $4 four 8%.
As we expected higher funding costs outpaced increases in asset yields primarily due to a 40 basis point increase in the cost of deposits.
That being said we were pleased that asset yields increased 30, 33 basis points due to higher rates and a more profitable mix of earning asset balances during the period.
On slide 10 asset yields increased during the second quarter as loan yields grew by 40 basis points invest.
Investment yields increased seven basis points due to the repricing of floating rate investments and slower prepayments on mortgage backed securities.
Our cost of deposits increased 40 basis points compared to the first quarter and we expect these costs to increase further and reaction to sustained competitive pressures in the coming quarters.
Slide 11 details the betas utilize in our net interest income modeling <unk>.
Deposit costs increase with greater velocity in the second quarter moving our current paid up six percentage points to 27%.
With our through the cycle beta estimated at approximately 40%.
Slide 12 outlines our various sources of liquidity and borrowing capacity. We continue to believe we have the flexibility required to manage the balance sheet through the expected economic environment.
Slide 13 illustrates our current loan mix and balance changes compared to the linked quarter.
As I mentioned before loan balances increased four 5% on an annualized basis with growth driven by summit and mortgage loans.
The other loan portfolios were relatively unchanged when compared to the prior quarter.
Slide 14 provides detail on our loan concentration by industry.
Believe our loan portfolio remains sufficiently diversified to provide protection from deterioration in particular industry.
Slide 15 provides detail our office space loans.
As you can see less than 5% of our total loan book is concentrated in office space and the overall LTV of the portfolio is strong.
While our portfolio is not immune to general economic stress on office space.
We continue to believe that lending to borrowers borrowers with class, a and b assets and primarily suburban markets within our footprint mitigates much of our risk.
Slide 16 shows our deposit mix as well as the progression of average deposits from the linked quarter.
In total average deposit balances declined $98 million during the quarter.
Driven primarily by a $287 million decline in non interest bearing accounts.
$102 million decline in savings accounts.
This was expected as higher interest rates have driven customers to more expensive products like Cds and money market accounts.
Additionally, brokered Cds increased $214 million during the period, partially offsetting the decline in transaction accounts.
Slide 17 depicts trends at our average personal business and public fund deposits as well as a comparison of our borrowing capacity or uninsured deposits.
While personal deposits and public fund balances were relatively stable in the quarter business deposits continue to decline as.
As we discussed last quarter. This decline is primarily related to a post COVID-19 declined from record high balances.
On the bottom right of the slide you can see our adjusted uninsured deposits were $2 5 billion at June 30. This.
This equates to 20% of our total deposits.
We are comfortable with this concentration and believe our borrowing capacity provide sufficient flexibility.
Sponsor any event that would stress our larger deposit balances.
Finally, with respect to deposit slide 18 depicts average deposits by month.
As you can see deposit levels experienced a decline in the first part of the year, but normalize thereafter.
April was negatively impacted by two large business customers, who had who initiated large transaction transactions that resulted in lower deposit balances.
Deposit balances were stable in the last two months of the quarter.
Slide 19 highlights our noninterest income for the quarter.
Wealth management had another record quarter, while Bannockburn continue to post strong results. In addition mortgage income rebounded during the period.
Some that had another very strong quarter. However, leasing income declined during the period due to a shift in product mix to finance leases.
While the fee while the fee portion of the business was lower than the first quarter. The contribution from summit to the net interest margin exceeded first quarter amounts.
Noninterest expense for the quarter as outlined on slide 20 core expenses were lower than we initially expected. However, they were a slight increase compared to the first quarter.
This increase was driven by elevated employee costs and higher marketing costs.
These increases were partially offset by lower fraud and leasing business expenses.
Turning now to slide 21, our ACL model resulted in a total allowance, which includes both funded and unfunded reserves of $161 million and $10 $7 million of total provision expense during the period.
This resulted in an ACL that was 141% of total loans, which was a five basis point increase from the first quarter.
Provision expense was driven by slower prepayment speeds net charge offs and loan growth.
Overall asset quality remained relatively stable net charge offs increased from zero in the first quarter to $5 $7 million or 22 basis points of total loans on an annualized basis.
While this amount is higher than the previous quarter two quarters, we believe 11 basis points of net charge offs year to date is a reasonable amount.
Classified assets decreased 13% to $139 million, however, non accrual loans increased during the period due to the downgrade of two relationships.
We continue to expect our ACL coverage to increase slightly in the coming periods as our motto responds to changes in the macroeconomic environment.
Finally, as shown on slides 23, 'twenty four 'twenty five regulatory capital ratios remain in excess of regulatory minimums and internal targets.
During the second quarter tangible book value increased 26.
Or two 4% and the TCE ratio increased nine basis points due to our strong earnings.
Accumulated other comprehensive income declined $25 million during the second quarter and continues to impact our TCE ratio.
Absent the impact from ALC I, the TCE ratio would've been 876% at June 30, compared to 656% as reported.
Slide 25 demonstrates that our capital ratios remain in excess of regulatory regulatory targets.
Including the unrealized losses in the securities portfolio.
Our total shareholder return remains robust with 33% of our earnings returned to our shareholders during the period through the common dividend.
We believe our dividend provides an attractive return to our shareholders and do not anticipate any near term changes. However, we will continue to evaluate various capital action as the year progresses.
I'll now turn it back over to Archie for some comments on our outlook going forward Archie Thanks, Jamie.
Before we end our prepared remarks, I want to comment on our forward looking guidance, which can be found on slide 26.
As I mentioned earlier loan pipeline has strengthened in recent weeks and we expect summit to remain a significant contributor to growth for the rest of the year.
We continue to be more selective in certain segments, but we expect overall growth to stay in the mid single digits in the near term.
Regarding securities we will continue utilize the portfolio cash flows to support loan growth.
We expect deposit balances to grow modestly in the near term.
As our pricing strategy has continued to gain traction.
There is still some uncertainty around fed rate management loan demand and deposit pricing competition.
Our asset sensitive balance sheet has helped us offset much of the deposit pressures thus far in the cycle.
We continue to expect modest contraction in the third quarter with our net interest margin in a range between four 5%.
To 435% based on an additional anticipated July interest rate increase.
Specific to credit we're still in a period of uncertainty regarding inflation and the impact of higher rates to the economy and our customers.
Over the third quarter, we expect continued stability in our credit quality trends and ACL coverage to be slightly higher.
We expect fee income to be stable in total in the third quarter and in a range between 53 and $55 million.
Including the leasing business specific to expenses.
We expect to be between $117 million and $119 million, which includes depreciation expense.
From the lease portfolio.
Excluding leasing expense, we expect expenses to be stable in the third quarter.
Lastly, our capital ratios remained strong and we expect to maintain our dividend at the current level.
We're extremely pleased with our second quarter results the position of our balance sheet, our strong net interest margin consistent loan growth.
Robust fee income and stable asset quality.
We expect to sustain our performance in the back half of the year. Additionally, our earnings power strong and increasing capital levels and high reserve levels provide additional support in the event of a downturn in the economy.
With that we'll now open up the call for questions Rob.
At this time I would like to remind everyone in order to ask a question Press Star then the number one on your telephone keypad.
And your first question comes from the line of Daniel <unk> from Raymond James Your line is open.
Good morning, guys. Thanks for taking my question today.
Danny.
Maybe maybe just starting first on the on the margin guidance.
If you could.
Let me know what the assumptions baked in there for noninterest bearing.
No degradation or or or declines going forward.
And then just.
Let's start with that.
Hey, Dan it's Jamie so what we're looking at here, we obviously saw the mixed shift in the from.
From the first quarter to the second quarter like many are saying, we expect generally that same type of mix shift to continue on in the third quarter.
And this.
Essentially the same level of.
Deposit cost increase and maybe slightly more than what we saw in the in the second quarter. So we had a 40 basis point increase from one to 140.
Linked quarter here in the second quarter, and we expect that to continue around that same level and with that same general level.
Of the.
The mix shift that we saw in the second quarter to continue on in the third quarter.
So then maybe again on that on the cost side I'm.
Just with the pressure that we're seeing.
Hmm.
Maybe even a little bit more of an increase on the deposit costs than we saw in the in the second quarter. We're just we're just seeing those ramp up pretty significantly.
But again, that's that's baked into our <unk>.
<unk> forecast of the margin range that we gave.
And the and the outlook there.
Okay, Great. Thanks, and then maybe help me think about.
Post rate hike. So obviously you guys have.
I've really seen asset.
Asset yields come through nicely as far as rates have risen.
Once we get into that.
Post rate hike timeframe, you know potentially in the fourth quarter.
But you know how do you think that the overall margin react with that appointment.
<unk> more budgeting for more deposit increases and to the asset side to stay relatively flat at that point.
Yeah, I mean, as we get towards the end of the year I think we'll still see some deposit.
The increases in deposit costs coming through but I mean, if you look out maybe even a little bit of a little bit farther and assume then that the fed.
Let's say the fed pauses for a little while our barge and we think our margin stabilizes.
Somewhere around $3 90 to four in the middle of next year and that assumes again that assumes that the fed.
Increases here in July .
And but pauses.
Minimum there in the in the first half and the first part of 2024, but and then mid next year looking at a margin kind of.
Stabilizing before the rate cuts if that if those do come.
Somewhere in that $3 90 to four range.
Okay terrific.
<unk>.
Yeah I'll go ahead and step back I appreciate all that color James.
Thanks Manny.
Your next question comes from the line of Brendan novel from Piper Sandler Your line is open.
Hey, good morning, guys hope you're doing well.
Thanks Brendan.
Maybe.
On the leasing piece can you walk through the mix dynamics within leases this quarter between operating and financing of any kind of how that progresses from here.
That's how I would kind of factors into the sea and expense guidance.
Yes.
As Jamie again, Brendan and welcome to the call by the way.
The.
So.
In the second quarter, we did see a pretty significant change again, so first of all I can bounce around a little bit from quarter to quarter, it's not necessarily always the same consistent mix quarter to quarter. So in the second quarter, we saw a pretty dramatic shift.
Production enables virtually all.
Finance leases with a small virtually all finance leases and all of the lease the virtually all of the leases 90% to 95% of the leases were held in the portfolio as opposed as opposed to we will have some quarters, where we will we'll sell some leases out into the secondary market.
And produce some fee income.
So the combination of those two things are high finance lease production quarter.
Hi.
Quarter, where were holding most of the leases.
Going to see that.
The leasing income.
Contract, a little bit so going going forward.
We typically see.
Finance leases and that.
60%, 70% range.
And but we are holding the vast majority of the leases going forward. So you may not see that the.
The leasing income line growing as much as a as we were seeing in the when we first had the had the division. So when we look at it we had.
About $10 3 million.
In.
And leasing business and down.
Down in the fee income section and we see that growing by about a million and a half each quarter here for the next couple of quarters, and that's probably as much of a.
The lands that we have into it at the moment and then and then they and so typically what we see is the ratio.
On the fee income side to the expense side, it's about one and a half to one. So then we see the expense side growing by about 1 million. So we had right about around $7 million.
In our leasing business expense, so we see that part growing by about 1 million each quarter.
For the next for the next couple of quarters.
Alright.
That's super helpful commentary. Thank you.
Maybe one more for me can.
Can you guys offer a little more color on what drove the increase in NPA this quarter as well as the the charge offs you experienced I guess kind of where they are both driven by the same two credits you noted in the release.
How do you feel you reserve for those at this point.
Yeah, Yeah. This is bill and good morning.
The increase in the nonperforming assets as we've talked about earlier it was really driven by two borrowers worn on the C&I space went on the CRA space, which you know when looking at them, we don't consider them.
So it's Mac cross our portfolio very unique circumstances, and we're obviously working through resolutions on both.
C&I credit.
Relating to management issues and the CRE credits.
Small office Thats been having challenges with their lease rollover.
We have the charge offs were driven namely by.
The write down of our CRE loans into non accrual to bring it down to appraise values and we are properly reserved.
On the other.
Okay.
Alright excellent. Thank you for taking my questions.
And again, if you would like to ask a question Press Star then the number one on your telephone keypad.
Next question comes from the line of Chris Mcgratty from K B W. Your line is open.
Hi, This is Nick topic is on for Chris Mcgratty Good morning, guys.
Okay.
Maybe just on deposits.
<unk>.
If you bifurcate commercial and retail.
On the at least on the noninterest side.
And the mix as a whole maybe you can make a comment on.
How did those two segments are bifurcated it because dynamics between commercial and retail are you seeing <unk>.
Commercial was already sorry.
You've seen the outflows in commercial and then maybe there's a catch up in retail.
Maybe if you can make a comment on that.
Yeah. Nick This is Archie I think we show on the one slide I think it's 18.
Look at the.
It's a balanced trends there by months and you'll see.
Lots of stabilization that's occurred during the quarter really for each of our segments. So personal.
Public funds and AD business so I.
I mean at this point as Jamie said, we're going to continue to see some mix shift.
Going forward, but we feel like we're at a place now where deposits are going to grow and recover in more I guess more normal operating cycles with businesses. So they are still they still have some liquidity even in this past quarter that some of that to pay some lines down so we'll probably see a little bit of pressure on on the <unk>.
<unk> balances.
Like we've seen but generally they're going to grow overall, and maybe a little more little more tick up.
Interest bearing side.
As Jamie has got another comment yeah. Nick This is Jamie the other thing on the personal side.
So I would tell you is that as we've seen the last few months.
Saying Ah they average balance per per.
<unk> account come down, but we are growing the number of accounts net new accounts and it is helping to offset that so but we are seeing pressure just on the on each individual account. The average dollars that are sitting in those accounts coming down which is what we expected just given.
The large increase in.
And the.
Throughout 'twenty.
2020, one during Covid and.
And in the large increase in deposits, so, but we're offsetting a good portion of that with.
The fact that we are.
We're adding accounts.
Great.
Maybe I don't know if it's in the slide deck, but I missed it but just the.
As far as the CD growth, maybe the duration of the of the CD portfolio.
We've got retail broker.
Yeah, Yeah, all of that is relatively short.
We're putting on our specials would typically run either in like the seven months or 11 months.
But it's all less than.
12 to 15 months.
Brokered would typically be in that six to 12 month range.
Okay. Thanks, guys.
Thanks, Nick.
Your next question comes from the line of Terry Mcevoy from Stephens. Your line is open.
Thank you good morning.
Thanks, Eric.
Maybe let's start with a question or two on the on the loan portfolio could you just talk about what youre seeing and hearing from your customers in commercial and small business banking, maybe pipelines in and what are their concerns given some of the macro headlines out there.
Yes, Terry this is Archie.
We saw especially at the beginning of the quarter.
Some some softness but I think it had a lot to do with <unk>.
Some of the terminal that it occurred at the latter part of the first quarter and the industry.
So pipeline certainly softened activity slowed and then somewhere around mid quarter, just shifted and we're seeing much stronger and better activity. At this point I will say that I'm talking about primarily on the commercial banking side, probably the middle market side in particular.
With respect to commercial real estate.
It's sort of mixed I mean, there is there.
There is opportunities, but certainly the industry and we are being more selective for a little more defensive in in the areas. We're targeting and we are seeing relative to quality in that space, we're seeing a lot better structures.
Or equity end of projects and things like that when we do them.
C&I side much better demand in the back half of the quarter CRE side. There is there is demand, but there were just much more selective so its a little assist us a little slower activity because of that.
I appreciate that thanks, Thank you and getting back to the discussion on summit and some of the moving parts.
What are the are the economics different at all to the bank, whether it's run through fee income or net interest income and I'm just thinking about the capital that.
It goes with the holding it in the loan portfolio.
Yeah. This is Jamie.
It's relatively.
Marginal on either side from a from an economic standpoint, and if you think about the.
<unk>.
The capital side of that from a risk weighted assets.
[noise] standpoint, whether it's sitting in that because I think they are so they are both 100% risk weighted whether its sitting in other assets or whether they're sitting in the loan book So from a capital allocation standpoint, they are both at 100%, but the economics.
I mean is the timing of it moves a little bit, but the economics are virtually the same.
Great.
One last one is the company considering selling any loans going forward in order to either like reduced concentration in the portfolio or or Derisk, a certain asset class.
Yeah.
Sorry about that as part of our normal operating red ones too.
Periodically go out and test the market.
I'm getting price discovery on various pools.
And we take a look at that to get a lens of what's happened in the market and then we're under no obligation to execute but.
But we will take a look in this case makes sense, we'll do it.
Great. Thanks for taking my questions have a nice weekend.
Thanks, Margaret Thanks Darin.
And there are no further questions at this time, Mr. Archie Brown I will turn the call back over to you for some final closing remarks.
Yeah, Rob Thank you.
Thank you thank.
Thank you everybody for joining the call. This morning, we are glad that you're wrong with this hearing more about our our quarter and our story, we look forward to talking to you again next quarter have a nice day.
This concludes today's conference call. Thank you for your participation you may now disconnect.
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