Q3 2023 First Financial Bancorp Earnings Call
Good morning, and welcome to the first financial Bancorp third quarter 2023 earnings Conference call and webcast. My name is Brianna and I will be your conference operator today.
Note that this call is being recorded all lines have been placed in listen only mode. At this time.
After the Speakers' remarks, there will be a question and answer session.
I'd like to ask a question at this time. Please press star followed by the number one on your telephone keypad.
Thank you.
I will now turn the call over to Scott Crawley Corporate controller. Please go ahead.
Thank you Breanna good morning, everyone and thank you for joining us on today's conference call to discuss first financial Bancorp's third quarter and year to date 2023 financial results participating.
On today's call will be Archie Brown, President and Chief Executive Officer, Jamie Anderson, Chief Financial Officer.
Harris 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 will make reference to the slides contained in the accompanying presentation during today's call.
Additionally, please refer to the forward looking statements disclosure contained in the third quarter 2023 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 September 32023.
Will not be updating any forward looking statements to reflect facts or circumstances. After this call.
I'll turn the call over to Archie Brown.
Thank you Scott.
Everyone and thank you for joining us on today's call yesterday afternoon, we announced our financial results for the third quarter.
First provide some high level thoughts on our recent performance and then turn the call over to Jamie to discuss further details.
Overall, I'm pleased with our third quarter performance strong net interest income and robust fee income.
Led to a 13% increase in net income.
From the third quarter of 2022.
And our most recent quarter, we achieved adjusted earnings per share of <unk> 67.
But 149% return on average assets.
About 23, 8% return on average tangible common equity.
As expected higher deposit costs led to a slight reduction in earnings on a linked quarter basis, even so our net interest margin was 433% for the quarter, which was at the high end of our expectations.
Loan growth was in line with expectations for the period led by growth in the leasing and mortgage portfolios.
We expect moderate loan growth over the remainder of the year.
I am pleased by the continued stability of our deposit balances during the quarter, while the change in mix from noninterest bearing to Cds and money market accounts continued we experienced slight growth in total balances in our loan to deposit ratio remained flat at 82%.
Our fee income continued to exceed expectations for the quarter with strong performance from wealth management equipment leasing bannockburn and mortgage banking.
Credit trends were mixed during the period and we experienced elevated net charge offs.
Excuse me during the third quarter, we elected to sell approximately $32 million in commercial real estate loans and incurred a $6 $1 million loss on the sale.
We also recorded a $6 $9 million loss on a large C&I loan that was negatively impacted during COVID-19.
And has been unable to rebound in the period.
Additionally, non accrual loan balances increased during the period due to the downgrade of one office loan whose major tenant vacated the space during the quarter classified assets remain low and we expect provision expense to remain fairly stable in the fourth quarter.
We continue to be pleased with our high net interest margin favorable fee income trends and robust earnings during the quarter, our regulatory capital levels strengthened and our strong earnings helped to maintain the tangible common equity ratio despite the negative impact to OCI.
From the increase in market rates.
With that I'll now turn the call over to Jamie to discuss these results in greater detail and after Jamie's discussion I will wrap up with some additional forward looking commentary and closing remarks, Jamie. Thank.
Thank you Archie and good morning, everyone.
Slides four five and six provide a summary of our third quarter financial results. The third quarter was another good quarter highlighted by solid earnings strong net interest margin and high fee income or balance sheet. Once again reacted positively to the interest rate environment. Our net interest margin declined as expected during the period, but remains very strong.
At 433% we.
We anticipate net interest margin contraction in the coming periods due to continued deposit pricing pressure and changes in funding mix.
Total loans grew three 6% on an annualized basis, which was in line with our expectation.
Loan growth was concentrated in our leasing and residential mortgage books with relatively stable balances in the other portfolios.
Fee income remains strong in the third quarter with solid performances in wealth management leasing Bannockburn and mortgage.
Noninterest expenses increased slightly from the linked quarter due to higher employee costs.
Leasing business expenses and fraud losses.
As Archie mentioned net charge offs were elevated during the quarter and non accrual loans increased.
<unk> assets remain low as a percentage of assets and were relatively stable compared to the linked quarter.
We recorded $11 $7 million of provision expense during the period, which was driven by net charge offs. Our ACL coverage remains conservative at 136% of total allowance.
From a capital standpoint, our regulatory ratios remain in excess of both internal and regulatory targets accumulated.
Accumulated other comprehensive income declined $57 million during the period.
As a result tangible book value decreased 11, or 1%, while our tangible common equity ratio declined by six 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 $63 $5 million or <unk> 67 per share for the quarter.
Adjusted earnings include the impact of costs associated with our online banking conversion as well as other costs not expected to recur such as acquisition severance and branch consolidation costs.
As depicted on slide eight these adjusted earnings equate to a return on average assets of 149% a return on average tangible common equity of 23, 8% and an efficiency ratio of 57, 3%.
Turning to slide nine net interest margin declined 15 basis points from the linked quarter to 433% as.
As we expected higher funding costs outpaced increases in asset yields primarily due to a 37 basis point increase in the cost of deposits.
Asset yields increased 17 basis points due to higher rates and a more profitable mix of earning asset balances during the period.
On Slide 10, you can see the increase in asset yields was primarily driven by a 15 basis point increase in loan yields.
Additionally, the yield on the investment portfolio increased six basis points due to the repricing of floating rate investments and slower prepayments on mortgage backed securities.
As I previously mentioned our cost of deposits increased 37 basis points compared to the linked quarter and we expect these costs to continue to increase in the fourth quarter, but at a slower pace than we saw in the third quarter.
Slide 11 details the beta is utilized in our net interest and net interest income modeling.
Deposit cost increased in the quarter moving our current data up six percentage points to 33%.
Our modeling indicates that our through the cycle beta is 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 three 6% on an annualized basis with growth driven by summit and mortgage loans.
The other loan portfolios were relatively flat compared to the prior quarter.
Slide 14 provides detail on our loan concentration by industry. We believe our loan portfolio remains sufficiently diversified to provide protection from deterioration in a particular industry.
Slide 15 provides detail on our office portfolio as you can see about 4% of our total loan book is concentrated in office space and the overall LTV of the portfolio is strong.
We downgraded a single office relationship to nonaccrual during the quarter.
Which increased our non accrual balance to $27 million for this portfolio.
Slide 16 shows our deposit mix as well as a progression of average deposits from the linked quarter.
In total average deposit balances increased $73 million during the quarter, driven primarily by a $253 million increase in money market accounts and a $119 million increase in retail Cds.
These increases offset a decline in noninterest bearing deposits and savings accounts.
This was expected as the current interest rate environment has driven customers to higher cost deposit products.
Slide 17 illustrates trends in our average personal business and public fund deposits as well as a comparison of our borrowing capacity to our uninsured deposits.
While personal deposits and public fund balances were relatively stable in the quarter business deposits increased three 4% rebounding some from second quarter levels.
On the bottom right of the slide you can see our adjusted uninsured deposits were $2 2 billion at September 30.
This equates to 23% of our total deposits we are comfortable with this concentration and believe our borrowing capacity provide sufficient flexibility to respond to any event that would stress our larger deposit balances.
Finally, with respect to deposits slide 18 depicts average deposits by month as you can see deposit levels increased in July and August with increases in the personal and business deposit categories.
<unk> balances were stable in the last month of the quarter.
Slide 19 highlights our non interest income for the quarter.
Wealth management had another record quarter, while mortgage also performed well.
In Bannockburn, both had very strong quarters, and we expect this to continue through the end of the year.
Noninterest expense for the quarter as outlined on slide 24.
Core expenses were a bit higher than we initially expected.
The increase was driven by elevated employee costs and leasing expenses, which are tied to fee income as well as higher than expected fraud losses.
Turning now to slides 21, and 'twenty two our ACL model resulted in a total allowance, which includes both funded and unfunded reserves of $162 million at $11 $7 million of total provision expense during the period.
This resulted in an ACL that was 136% of total loans, which was a five basis point decrease from the second quarter.
Provision expense was driven by $16 4 million of net charge offs, which increased to 61 basis points of total loans in the quarter as.
As Archie mentioned during the quarter, we elected to sell approximately $32 million in commercial real estate loans in an attempt to derisk the portfolio and charged off $6 1 million in the process.
We also recorded a $6 $9 million loss on a large C&I loan that was negatively impacted by the Covid pandemic.
And other credit trends non accrual loans increased during the period due to the downgrade of the office relationship by previously mentioned, while classified asset balances were relatively flat quarter over quarter.
Our ACL coverage is 136% of total loans.
<unk> modeled conservatively in prior quarters to build our reserve that reflected the losses, we expect from our portfolio.
We expect our ACL coverage to remain relatively flat in the coming periods as our motto responds to changes in the macroeconomic environment.
Finally, as shown on slides 23, 24, and 25% regulatory capital ratios remain in excess of regulatory minimums and internal targets.
During the third quarter tangible book value decreased 11, or 1% and the TCE ratio decreased six basis points due to a $57 million decline in accumulated other comprehensive income.
Absent the into the impact from.
The TCE ratio would've been 9.07% at September 30, compared to six 5% as reported.
Slide 24 demonstrates that our capital ratios would remain in excess of regulatory targets, including the unrealized losses in the securities portfolio.
Our total shareholder return remains robust with 35% 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 actions as the year progresses I will now turn it back over to Archie for some comments on our outlook going forward Archie Thank you Jamie.
Before we end our prepared remarks, I want to comment on our forward looking guidance, which can be found on slide 26.
As indicated earlier, we expect loan growth to be moderate for the remainder of the year, we continue to be more selective in certain segments, but we expect overall growth to be in the mid single digits in the near term for.
For security as we expect a modest decline in balances as we utilize the portfolio cash flows to support loan growth and we expect total deposit balances to grow modestly over the near term.
Regarding the net interest margin, we still see some uncertainty around the fed rate path loan demand and deposit pricing competition.
Modest margin contraction in the fourth quarter with our net interest margin in a range between $4, one 5% to four 5% with no further fed tightening expected.
Specific to credit we're still in a period of uncertain regarding inflation and the impact of higher rates to the economy and our customers over the fourth quarter, we expect our credit cost to be similar to the third quarter and ACL coverage as a percentage of loans to remain stable.
Fee income to be in the range between 55% to $57 million, including the leasing business specific to expenses, we expect to be between 121 at $123 million, which includes the depreciation expense from the lease portfolio.
Excluding the leasing expense, we expect expenses to be stable in the fourth quarter.
Lastly, our capital ratios remained strong and we expect to maintain our dividend at the current level.
We're pleased with our results thus far in 2023 and continue to be encouraged by the higher net interest margin.
Favorable favorable fee income trends and overall earnings performance.
As we close out the year, we believe we are well positioned to navigate the current economic environment and continued to deliver strong results.
We will now open up the call for questions Brandon.
Thank you.
As a reminder, I would like to let everyone know in order to ask a question. Please press Star then the number one on your telephone keypad.
Our first question comes from Daniel Tamayo with Raymond James Your line is open.
Okay.
Good morning, guys.
Hey, Dan.
Yes.
Maybe we start on the on the credit outlook.
I'm just I'm just curious given the.
The elevated net charge offs in the third quarter and then the guidance in the fourth quarter for a similar level if that's if.
If that should be considered a more normal number now or if not how we should be thinking about.
Net charge offs might look like next year.
Yeah. David This is Archie maybe I'll start and either Jamie or bill can pick up on my thoughts.
We think in the near term I think we're saying things.
From a credit cost or we expect to be somewhat stable.
<unk> seen our non accrual trends move up slightly we think theres some resolution to some non accruals in Q4 as there may be some charge offs related to that so that's kind of what we have things stable as we look further out things looked like they moderate back down or if you will call them back down So I think right now what we're saying.
Sure.
Kind of where we've been in a range of it feels like it's pretty pretty stable there.
Okay. That's helpful. Thank you and then.
I guess specific to that office loan that was downgraded in the third quarter.
I was wondering if you could tell us.
That was suburban or urban and if possible what city that was located in.
Yes that was suburban low.
Okay.
North of Cincinnati, and the bluish area, which is a very commercial jester.
Okay.
I mean any read throughs from that that you.
You mentioned it was a large tenant that pulled out I mean is that that's something you feel like provides any kind of clarity into any other offices in that same type of bucket or is that.
Like a one off here.
Yes, it feels like a one off the.
Area.
It is very robust there's already interest in <unk>.
Leases on that that we're trying to work through.
But yes, I mean the area is very good we feel confident we're at we don't think it's systemic over our rest of our office book.
Got it Okay, and then lastly, just changing the subject here looking at your expense base, just curious if I'm sure we'll get into more of a conversation on the revenue side here.
After I jump off but if that if the revenue environment is pressured next year.
How you think about your ability to pull out some expenses in an environment like that.
Yes, Danny.
This arch against some of the revenue if theres pressure some of Thats going to come on maybe on the fee side, which.
A lot of our a lot of our.
Expenses are tied to that.
More variable in nature tied to the fee performance. So if we see pressure there.
That by itself will will come down some and we continue to look.
I guess on a continuous basis for opportunities, where we can cut cost or.
Use attrition not to.
Not to replace staff when they leave so there'll probably be more effort in 2024 to do that as we as we see how revenue plays out.
Okay terrific. Thanks for answering my questions. Thank you.
Our next question comes from Terry Mcevoy with Stephens. Your line is open.
Hi, Thanks, Good morning, everyone I apologize.
<unk>.
A little bit late on the call. So.
Just a couple of questions maybe Jamie.
<unk> forward curve has some rate cuts.
Is there anything to suggest that the deposit and loan betas that you experienced in was at 19% to 21 are not a good proxy for us to use the data use us today as we kind of incorporate the prospects of lower rates.
So you are talking specifically about the <unk>.
Deposit beta like so on slide 11, we show kind of our historical betas.
And that 19% to 21 cycle, we're showing a.
Through the cycle beta in that time period of 33%.
Yes, I think so given.
No I don't think Theres anything at this point right now that would.
That would tell us we would expect anything.
Different in that downgrade cycle obviously.
<unk>.
We will have to react to the competition in the market, but at this point no.
Would we.
We would expect that to be.
Similar in that down rate scenario and that and that.
Low <unk> range.
Okay.
Again. This may have been discussed but did you have a reserve already in place for the CRE loan sale, which was a $6 million charge offs and the C&I loan that $7 million charge off and I guess I was a bit surprised to see the ACL declined quarter over quarter, but I'm guessing there were some some allocated Bruce yes.
Yes, there was some but I mean, we had we had.
Over the past few quarters, we adult the reserve.
At the end of the second quarter it was.
141 days.
Basis points of loans, which when we looked out at the peer group.
But about 2030 basis points higher so we were we were conservative coming in.
Maybe a little bit ahead of the group in terms of building that reserve.
And I mean, the loan sale essentially if you think about the loan sale just accelerated.
Some of those charge offs that might come down.
And the next two.
234 quarters, we accelerated all of those into the into that current period, so that in coupled with the.
With the charge offs that we had on the one C&I loan.
Charge offs can be a little.
Chunky from quarter to quarter, and but we are we feel like with our reserve at $1 36 of loans.
We feel like our reserve is still.
So conservative and we're in a good spot here going forward.
Maybe one last one if I could just the size of the balance sheet or size of earning assets over the next.
Kind of two to three quarters is flattish the best way to think about it as kind of cash I'm sorry, the securities portfolio comes down to fund loan balances or would you expect some growth yes.
Yeah, I would say over the next couple of quarters. That's that's a good assumption in terms of.
In terms of earning assets I would say after that.
The earning assets, we will we're going to keep the securities portfolio at that point.
At least the plan is at this point, obviously, we'll have to look at the deposit flows, but after a couple of quarters of still letting the.
Securities balances run down a little.
With that cash flow.
That will the balance sheet will grow with.
With the growth in the loan portfolio.
Perfect great. Thanks for taking my questions.
Yep. Thanks Terry.
Our next question comes from John Kim with RBC capital markets. Your line is open.
Thanks, Good morning.
Hello, John.
<unk>.
Just a couple of margin questions here.
Jamie what kind of margin expectations do you have beyond the fourth quarter.
Assuming the fed is done and I know, you're saying, it's a little bit uncertain, but.
One of the key questions is what do you think NII and the margin start to bottom out.
Yes, so when we look out into 'twenty four I mean, we see the margin bottoming out in the second quarter.
Assuming no other fed actions, we see the margin bottoming out leveling off in the.
In the second quarter of next year call. It in that $3 95 to four range and then.
And then again as we start kind of what Terry asked as we start to.
Increase the earning asset base Youll start to see at that point, then as we get into the third quarter you start to see the dollars of net interest income start to.
Start to grow again.
Okay.
Very helpful in that.
Slide 17, and 18 I think are good slides.
And I just wanted to ask on the business deposits.
It looks like they bottomed out.
It kind of Manish.
Timeframe.
What do you think is driving that increase again is it is it confidence is it.
Is it rates from you guys is it.
<unk> does not have the opportunity to invest are being cautious is there any way to put it put a thumb on the.
Hey, John this Archie I I mean, we have been competitive with rates and certainly have seen.
A mix some mixed shift, but you're right that they have the balance of the strengthened instantly enough they've strengthened.
Well, so we have seen also busy.
Businesses with liquidity take that liquidity and pay down lines, we saw a lot of that in the quarter. So.
<unk> businesses are.
By and large liquid not all but many.
So they're either are bringing more of that and because the rates are a little better on some of the products, we're offering or they are using some of that to pay down pay down their lines. So yes, I think they're pretty healthy right now overall, okay. Okay. Okay.
Then just one for you Jimmy I don't know if you have this or not but slide 23, the bottom right.
Graph.
Also good because you're just showing us the numbers, but any idea of how much of the unrealized losses from our securities portfolio burn off over the next call.
At four or five quarters. So if we're sitting here at the end of 'twenty four how much of that just naturally burns off.
Yes so.
We were actually talking about this yesterday so the.
The overall loss in the portfolio and the OCI impact in equity.
Call it somewhere around that $350 million to $400 million range and about over over the course of the year about 20% of that will will burn out that's maybe a little bit conservative but.
Around 20% whether that would burn off.
Chris naturally.
Sleep.
There's a lot of variables in rates given no other rate movements right, yes, absolutely.
Over the next 12 months, Okay alright.
Alright, Thanks, a lot guys.
Appreciate it thanks, Sean.
Our next question comes from Christopher Mcgratty with <unk>. Your line is open.
Great Good morning.
Thanks Rajiv.
Hey, guys, maybe Jamie a question on the margin view.
It feels like you've got a higher margin starting point.
In part because of the mix of your assets.
Which which should have a little bit of credit volatility, but overall good credit adjusted margins.
How do we think.
Just about.
Normalized credit cards, I think somebody asked about it before but is it fair to assume that youll have a little bit higher credit cost appears because you have a higher margin.
Yeah, I think thats.
That's fair to say over the long term that if you look at.
The rest of the industry and if you just wanted to say.
What I've always used in my career. When you are looking at overall credit losses. If you say credit losses are give or take 30 basis points over a long window.
<unk> could be 10 basis points higher than that 10, or 15 basis points higher over that long term.
Consistently.
That could definitely be the case, but.
Again, when we look at it from a.
Risk adjusted return.
Our loan yields and overall asset yields are.
Again over that long term are significantly higher than the peers as well. So that's that's a trade that we are.
That we're willing to make it says there is there is times when.
Again like this quarter, where we had a slightly elevated.
Slightly elevated charge offs, but again, when we look at our margin and our margin is.
100, and 110 basis points above the peer median so.
I think we're going to have that as given the makeup of the portfolio.
Yes.
Okay.
On the.
And just a question on the Securities book.
Your yield is a bit higher I assume you have floaters in there, but it's interesting just kind of composition of that.
Whether we do anything.
The thing in place to hedge downside risk there also.
Any contemplation of.
Adjusted anything in the bond book, given given where rates have moved.
Yes, we do have.
There's about between 15 and 20% of the investment portfolio that is in that.
That we have in floaters, so thats, obviously helped the.
The securities yield quite a bit over the last.
Over the last year.
And.
In terms of hedging strategy.
What really nothing specifically against the Securities book, but overall we are.
Building in some.
Churn on the downside and I would call it more on the extreme downside, where we are we want to put in place so far around.
The macro hedges that are around $600 million and totaled out in total notional now, but we want to get to about a 1 billion and a half or so potentially $2 billion of downs.
Downside protection again, I would call it extreme downside protection, where we're putting in some.
Putting in some floors that are in that.
Two to $2 50 range just to to protect us because I mean, if you remember when our margin.
Got.
He got hurt the most.
Call It March of 'twenty than <unk>.
<unk> forward their win rates went to <unk>.
Plummeted, and we are margin winter and.
And that $3 20 range. So what we're trying to do is building some protection on that.
On the.
Extreme downside.
Okay, maybe just one more.
The charge offs in the quarter, the $30 million to $32 million loan sale.
It looks like there's about a 20% while I'm sorry, what was the sub asset class within CRE and then second the C&I loss what was the.
I'm, just trying to back into like loss rates.
On the relationships.
Yes.
Yes.
The loan sale included one hotel one office one healthcare deal.
And the commercial credit.
It was a consumer retail company.
That had was a multilevel marketing that changed their model after COVID-19.
The party circuit kind of went down.
After having very robust pre COVID-19 and COVID-19 years.
And the model could be changed ultra.
Ultimately.
Okay and that $6 million, what was the size of it.
The principal like what kind of loss rate was that the second one.
Yes, it was.
Total 10 million Bucks.
Okay.
Thanks, a lot component.
Thanks, Chris.
Again, if you would like to ask a question. Please press star one.
Okay.
Seeing no further questions I will now turn the call back to Archie Brown.
Thank you for you on I want to thank everybody for joining today's call and the <unk>.
Following our story, we look forward to talking to you again next quarter have a great day.
This concludes today's conference call. Thank you for your participation you may now disconnect.
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