Q3 2023 Enterprise Financial Services Corp Earnings Call

Speaker 1: Thank you for standing by. At this time I would like to welcome everyone to the Enterprise Financial Services Corp third quarter 2023 earnings conference call.

Thank you for standing by at this time I would like to welcome everyone to the Enterprise Financial Services Corp, third quarter 2023 earnings conference call.

Speaker 1: All lines have been placed on mute to prevent any background noise. After the speaker's 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 star one. Thank you. Jim Lally, President and CEO Enterprise Financial Corp. You may begin your conference.

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 Crestar. One. Thank you Jim Lally, President and CEO Enterprise Financial Corp. You May begin your conference.

Speaker 2: Well, thank you. And thank you all very much for joining us this morning and welcome to our 2023 third quarter earnings call. Joining me this morning is Keen Turner, EFS chief financial officer and chief operating officer. It's got good and president of Enterprise Bank and Trust.

Well, thank you and thank you all very much for joining us this morning, and welcome to our 2023 third quarter earnings call.

Joining me. This morning is Keene Turner, <unk>, Chief Financial Officer, and Chief Operating Officer, and Scott Goodman, President of Enterprise Bank and trust before we begin I would like to remind everybody in the call that a copy of the release and accompanying presentation can be found on our website the presentation and earnings release for furnished on SEC form 8-K yesterday so.

Speaker 2: Before we begin, I would like to remind everybody on the call that a copy of the release and accompanying presentation can be found on our website. The presentation and earnings release were furnished on SEC Form 8K yesterday, so please refer to Slide 2 of the presentation titled Forward-Looking Statements.

Please refer to slide two of the presentation titled forward looking statements and our most recent 10-K and 10-Q for reasons why actual results may vary from any forward looking statements that we make today.

Speaker 2: And our most recent 10K and 10Q for reasons why actual results may vary from any forward-looking statements that we make today.

Speaker 2: The third quarter represents a strong performance during a series of rapid changes affecting the economic.

The third quarter represents a strong performance during a series of rapid changes affecting the economic.

Speaker 2: And therefore, banking landscape. Our business model, associate base and management team, has been constructed to perform during times of challenge. Our teams are adept at navigating difficult circumstances and using them to differentiate our strength as a banking partner.

And therefore banking landscape, our business model Associate base and management team has been constructed to perform during times of challenge. Our teams are adept at navigating difficult circumstances and using them to differentiate our strength as a banking partner over the last several years, we have worked diligently to diverse.

Speaker 2: Over the last several years, we have worked diligently to diversify our business model such that we do not have to depend on any one business, market, or asset class to produce high quality and predictable earnings.

Diversify our business model such that we did not have to depend on any one business market or asset class to produce high quality and predictable earnings our third quarter financial results and momentum that we've displayed on both sides of the balance sheet. During all of 2023 are the results of this focus strategy the.

Speaker 2: Our third quarter financial results and momentum that we've displayed on both sides of the balance sheet during all of 2023 are the results of this focus strategy.

Speaker 2: business model delivered well again in the third quarter of 2023. Our financial scorecard begins.

The business model delivered well again in the third quarter of 2023.

Our financial Scorecard begins on slide three.

Speaker 2: Our strong financial performance continued during the third quarter. We learned net income of $44.7 million or $1.17 per diluted share and we produced an ROAA of 1.26% and a PPNR ROAA of 1.84%.

Our strong financial performance continued during the third quarter, we learned net income of $44 7 million or $1 17 per diluted share and we produced an ROE of $1, two 6% and the PPE N R. R O a a 184%.

Speaker 2: These results reflect a robust earnings profile that easily allowed us to absorb some deterioration in credit during the third quarter. Combined with our already strong reserves and balance sheet, we remain positioned to operate from a position of strength. This means both delivering returns to shareholders while also supporting the needs of existing and new clients. The ability to continue to fill the loan needs of these clients and prospects have opened up channels of deposit growth as well.

These results reflect a robust earnings profile that easily allowed us to absorb some deterioration in credit during the third quarter combined with our already strong reserves and balance sheet, we remain positioned to operate from a position of strength. This means both delivering returns to shareholders. While also supporting the needs of existing and new clients the ability to.

<unk> filled the loan needs of these clients and prospects have opened up channels of deposit growth as well.

Speaker 2: Our net interest income increased over 900,000 in the quarter, a trend that has continued each quarter since the beginning of 2022.

Our net interest income increased over 900000 in the quarter a trend that has continued each quarter since the beginning of 2022.

Speaker 2: This result, despite challenging competitive and interest rate conditions, reflects the strength of the franchise we have built. We remain positioned to produce high-quality earnings, a high-quality earnings stream that consistently improves shareholder value through deep-rooted client relations.

This result, despite challenging competitive and interest rate conditions reflects the strength of the franchise we have built.

<unk> positioned to produce high quality earnings through a high quality, earning stream that consistently improve shareholder value through deep rooted client relationships.

Speaker 2: Growth of that interest income was aided by the defense and resilience of our net interest margin at 4.33%. This is a direct result of our appropriately priced, stable deposit base, and our ability to originate commensurate to the needs of our clients, but priced well amid the current interest rate environment.

Growth of net interest income was aided by the defense and resilience of our net interest margin at 433%. This is a direct result of our appropriately priced stable deposit base and our ability to originate commensurate to the needs of our clients, but priced well amid the current interest rate environment.

Speaker 2: As we thought would happen, loans moderated in the quarter largely through lower line utilization and a focus in higher valued segments. This resulted in loan growth during the quarter of $104 million and total outstanding loans at the end of the quarter of $10.6 billion.

As we thought would happened loans moderated in the quarter largely through lower line utilization and a focus on higher valued segments. This resulted in loan growth during the quarter of $104 million and total outstanding loans at the end of the quarter of $10 6 billion.

Speaker 2: We also committed to funding our second half-crow of client deposits, an area where we made significant progress in the current periods. For the quarter, we grew net deposits $290 million, netting out the reduction in broken CDs, client deposits grew by $488 million in the quarter. Equally impressive is the fact that the DDA, percentage of total deposits remain strong at 32%, and our loan to the deposit ratio of quarter-end was 89%.

We also committed to funding our second half growth with client deposits in area, where we made significant progress in the current periods for the quarter. We grew net deposits $290 million netting out the reduction in brokerage Cds client deposits grew by $488 million in the quarter equally impressive is the fab.

Fact that the DDA as a percentage of total deposits remained strong at 32% and our loan to deposit ratio at quarter end was 89%.

Speaker 2: Scott will give much more color on the markets and businesses where we saw continued success, but we are encouraged that we have a significant amount of runway to continue growing throughout the remainder of 2023 and into 2024.

Scott will give much more color on the markets and businesses, where we saw continued success, but we are encouraged that we have a significant amount of runway to continue growing throughout the remainder of 2023 and into 2024.

Speaker 2: Our balance sheet remains strong in position for continued growth. Capital levels at quarter end remain stable and strong with our TCE to TA ratio of 8.51%. Tangible book value per common share was $31.06, an increase of over 8% this year due to our strong earnings that has more than offset the impact of Securities Portfolio and AOCI.

Our balance sheet remains strong and positioned for continued growth capital levels at quarter end remained stable and strong with our TCE to ta ratio of 851% tangible book value per common share was $31 six an increase of over 8% this year to our due to our strong earnings is more.

And offset the impact of securities portfolio and a OCI.

Speaker 2: During the quarter, we did see cred begin to normalize. However, the results I noted both on the income statement, the balance should reflect that we both anticipated and our position well to deal with these changes.

During the quarter, we did see credit began to normalize. However, the results I noted both on the income statement and the balance sheet reflect that we both anticipated and are positioned well to deal with these changes I did want to provide a little color around one commercial office loan that moved into Oreo during the quarter. This was a St. Louis based borrower that had a single tenant Midtown office building.

Speaker 2: I did want to provide a little color around one commercial office loan that moved into OREO during the quarter. This was a St. Louis-based borrower that had a single tenant, midtown office building, where the tenant defaulted on its lease. After paydowns related to the personal guarantees and lease termination penalties, we charged off approximately $4.7 million of an approximately $16 million loan balance.

Where the tenant defaulted on its lease after pay downs related to the personal guarantees and lease termination penalties, we charged off approximately $4 7 million and approximately $16 million loan balance.

Speaker 2: This loan represented our only single-tenant office CRE loan in our portfolio. Additionally, we saw non-performing loans edge up in the quarter.

This loan represented only single tenant office CRE loan in our portfolio. Additionally, we saw nonperforming loans edge up in the quarter.

Speaker 2: It's important to reiterate that the strength of our earnings profile generates pre-provision earnings that have averaged nearly $70 million a quarter this year. This provides a significant buffer to absorb credit issues before ever touching our loan loss reserves or capital.

As important to reiterate the strength of our earnings profile generates pre provision earnings that have averaged nearly $70 million a quarter. This year. This provides a significant buffer to absorb credit issues before ever touching our loan loss reserves or capital. They're also very strong. There are also a very strong levels, particularly when considering the short duration.

Speaker 2: They're also very strong levels, particularly when considering the short duration of a loan portfolio. Slide five.

Our loan portfolio.

Slide five shows where we our focus for the foreseeable future.

Speaker 2: Just like we've done, so just like we've done so far this year, in the second half of 2023, we will continue to be focused on funding future long growth with client deposits. Additionally, I am confident that we can continue to improve shareholder value through the execution of our strategy. Our focus can buy with modest improvement in certain business lines and markets, along with continues debt fast expense management, should consistently produce strong earnings amid the current economic and rate environment that we are in.

Just like we've done so just like we've done so far this year in the second half of 2023, we will continue to be focused on funding future loan growth with client deposits. Additionally, I'm confident that we can continue to improve shareholder value through the execution of our strategy our focus combined with modest improvement in certain business lines and markets along with continued.

Steadfast expense management should consistently produced strong earnings amid the current economic and rate environment that we are in my.

Speaker 2: My optimism for our prospect stems from both my confidence in our existing performance and also my conversations I'm having with our clients.

My optimism for our prospects stems from both my confidence in our existing performance, but also my conversations I'm, having with our clients our manufacturing distribution clients continued to have good backlogs and consistent sales volumes margins are compressing slightly due to increased labor interest expense, causing overall profitability to decline but not.

Speaker 2: Our manufacturing distribution clients continue to have good backlogs and consistent sales volume.

Speaker 2: Margin's are compressing slightly due to increased labor and interest expense, causing overall profitability to decline, but not to a point where debt service has been compromised.

To a point, where that service has been compromised advisory and helping clients navigate through times like these is a specialty of our team's past turbulent times have shown that these conversations will solidify the relationships that we currently have and invite several more companies to come our way.

Speaker 2: Advising and helping clients navigate through times like these is the specialty of our teams. Past turbulent times have shown that these conversations will solidify the relationships that we currently have and invite several more companies to come our way.

Speaker 2: Our CRE clients predict a much lower 2024. Current projects will be completed, but new opportunities will be challenged with higher costs, particularly in

Our CRE clients predict a much lower 2024 current projects will be completed but new opportunities to be challenged with higher costs, particularly interest expense I believe that higher demand asset classes, such as industrial and housing will find return equilibrium such that we will see projects and corresponding loan demand come to life late in 2024.

Speaker 2: I believe that higher demand asset class such as industrial and housing will find return equilibrium, such that we will see projects and corresponding loan demand come to life late in 2024. I do believe that this is a bit of optimism will manifest itself in our higher growth markets like Phoenix, Dallas, and Southern California.

I do believe that this is a bit of optimism or manifest itself in our higher growth markets like Phoenix, Dallas and Southern California.

Speaker 2: With all that said, I feel strongly that our multiple business lines and geographies will be robust enough to produce loan volumes in the mid-single-digit range over the next several quarters, funded by our continued success in generating well-priced, relationship-oriented client deposits.

With all that said I feel strongly that our multiple business lines and geographies will be robust enough to Bruce loan volumes in the mid single digit range over the next several quarters funded by our continued success in generating well priced relationship oriented client deposits.

Speaker 2: Before turning the call over to Scott, another piece of good news I would like to share is that we were recently awarded a $60 million new markets tax credit allocation by the Community Development Financial Institutions Fund, or the CDFI, a bureau within the United States Department of the Treasury. This will serve us well over the next 12 to 18 months to attract new clients and projects that qualify for these credits. With that, I would like to turn the call over to Scott Goodman. Scott? Thank you.

Before turning the call over to Scott and another piece of good news I would like to share is that we were recently awarded a $60 million new markets tax credit allocation by the community development financial institutions fund or the <unk> of Bureau within the United States Department of the Treasury. This will serve us well over the next 12 to 18 months to attract new clients and.

Projects that qualify for these credits with that I would like to turn the call over to Scott Goodman Scott.

Thank you Jim and good morning, everyone.

Speaker 3: As you heard from Jim, and as we show on slide number six, loans grew by $104 million in the quarter and results in year-over-year growth of 13.5%.

Yes.

As you heard from Jim and as we show on Slide number six loans grew by $104 million in the quarter and results and year over year growth of 13, 5%.

Speaker 3: Components of the growth for the last 12 months are broken out on slide number 7 and reflect the prior comments regarding balance and diversification with increases across all major categories and proportionate between our metro markets and the specialized lines of business.

The components of the growth for the last 12 months therapy broken out on slide number seven and reflect the prior comments regarding balance and diversification with increases across all major categories and proportionate between our metro markets and the specialized lines of business.

Speaker 3: For the quarter shown on slide number 8, we saw the most lifts in the owner occupied commercial real estate tax credit and construction category.

For the quarter shown on slide number eight we saw the most lift and the owner occupied commercial real estate tax credit and construction categories.

Speaker 3: It's also worth noting that revolving line of credit usage declined in the quarter, as operating companies managed their working capital more efficiently in response to higher rates and a more risk-off approach to their business.

It's also worth noting that revolving line of credit usage declined in the quarter as operating companies manage their working capital more efficiently in response to higher rates and more risk off approach to their businesses.

Speaker 3: Outstanding balances on lines declined by $100 million in the quarter.

Outstanding balances on lines declined by $100 million in the quarter.

Speaker 3: So while the CNI loan portfolio was down by $9 million.

So while the C&I loan portfolio was down by $9 million net.

Speaker 3: Net of Line Reductions, this book actually grew 91.

Net of a line reductions this book actually grew $91 million.

Speaker 3: This CNI list, as well as the owner-occupied commercial real estate growth reflects continued success in attracting new operating company relationships and expanding business with our existing clients.

The C&I lift as well as the owner occupied commercial real estate growth reflects continued success in attracting new operating company relationships and expanding business with our existing clients.

Speaker 3: The construction category rose in conjunction with improved momentum of projects following the COVID and supply chain-induced construction lags that we saw last year and earlier this year.

The construction category rose in conjunction with improved momentum of projects.

Following the Covid in supply chain in this construction lags that we saw last year and earlier this year.

Speaker 3: And while we're certainly seeing new development loan requests slow significantly, the existing projects closed over the past 12 to 18 months are continuing to move forward.

And while we are certainly seeing new development loan requests slow significantly existing projects closed over the past 12 months to 18 months are continuing to move forward.

Speaker 3: This portfolio overall is well diversified with a majority of the book fairly well balanced within the multifamily, residential, industrial, and mixed-use projects.

This portfolio overall is well diversified with a majority of the book fairly well balanced within the multifamily residential industrial and mixed use projects invest.

Speaker 3: Investor-owned CRE office represents less than 5% of this total construction.

Investor owned CRE office represents less than 5% of this total construction book.

Speaker 3: Within the specialized business units, tax credit lending had a strong quarter, reflecting continued momentum in the funding of existing affordable housing projects on the book.

Within the specialized business units.

Credit lending had a strong quarter, reflecting continued momentum in the funding of existing affordable housing projects on the books.

Speaker 3: Jim also mentioned our recent award of $60 million in new market tax credit allocation by the U.S. Treasury Department.

Jim also mentioned, our recent award of $60 million in new market tax credit allocation by the U S Treasury Department.

Speaker 3: As we have with prior awards, these credits will serve as a catalyst to facilitate much-needed projects within under-invested areas in our metro market.

As we have with prior awards. These credits will serve as a catalyst to facilitate much needed projects with an underinvested areas in our metro markets.

Speaker 3: But these credits will also allow our bankers to bring a differentiated solution to the table to attract new banking relationships and can provide a source of fee income, which is typically seven to eight percent of the allocation earned over seven years.

These credits will also allow our bankers to bring a differentiated solution to the table to attract new banking relationships and can provide a source of fee income, which is typically 7% to 8% of the allocation earned over seven years.

Speaker 3: Life insurance premium finance grew modestly this quarter with some seasonally slower premium funding on existing policies, but has grown nearly 19% year-over-year and continues to build a solid pipeline of new efforts.

Life insurance premium finance grew modestly this quarter with some seasonally slower premium fundings on existing policies, but has grown nearly 19% year over year and continues to build a solid pipeline of new opportunities.

Speaker 3: Sponsor finance also had a modest growth quarter, reflecting some seasonal softness on origination volume, but also an uptick in paydowns related to the sale of portfolio companies by our private equity.

Sponsor finance also had a modest growth quarter, reflecting some seasonal softness on origination volume, but also an uptick in pay downs related to the sale of portfolio companies by our private equity sponsored companies.

Speaker 3: The SBA portfolio declined by $19 million in Q3, mainly due to the sale of $33 million in 7A loans. The SBA portfolio declined by $19 million in Q3, mainly due to the sale of $33 million

The SBA portfolio declined by $19 million in Q3, mainly due to the sale of $33 million in seven loans.

Speaker 3: Payoffs continue to be somewhat of a headwind from certain borrowers that are now bank qualified.

Payoffs continue to be somewhat of a headwind from certain borrowers that are now bank qualified while origination volumes were stable and in line with expectations.

Speaker 3: while origination volumes were stable and in line with that.

Speaker 3: We also remain focused on improving returns opportunistically within specialties or in loan categories where the supply-demand dynamics have shifted.

We also remain focused on improving returns opportunistically within specialties or in loan categories, where the supply demand dynamics have shifted.

Speaker 3: Generally, in these cases, and depending upon the loan type, we're targeting some combination of higher loan spreads or requiring associated compensating deposit balance.

Generally in these cases and depending upon the loan type we're targeting some combination of higher loan spreads or requiring associated compensating deposit balances.

Speaker 3: For regional breakdown of the loan trends are shown on slide number nine.

A regional breakdown of the loan trends are shown on slide number nine.

Speaker 3: Growth of the specialized businesses continues on a solid and steady pace, up 15% annualized for the quarter and 19% year-over-year.

Growth of the specialized businesses continues on a solid and steady pace up 15% annualized for the quarter and 19% year over year.

Speaker 3: In addition to my prior comments on these specialized businesses, our practice finance unit also performed well in 2023, growing by roughly $70 million year-to-date, including $23 million of growth in Q3.

In addition to my prior comments on the specialized businesses. Our practice finance unit also performed well in 2023 growing by roughly $70 million year to date, including $23 million of growth in Q3.

Speaker 3: This team, which has a long history and deep expertise in this niche, focuses mainly on banking dental and veterinary practices, which are generally viewed as stable and high credit quality business.

This team, which has a long history and deep expertise in this niche.

This is mainly on banking dental and veterinary practices, which are generally viewed as stable and high credit quality business types.

Okay.

Speaker 3: Within the Midwest region, reduction in revolving lines were a primary headwind to growth this quarter, offsetting some of the otherwise solid origination activity.

Within the Midwest region.

Reduction in revolving lines, where a primary headwind to growth this quarter offsetting some of the otherwise solid origination activity.

Speaker 3: New relationships were opened in Kansas City and St. Louis for reputable, longstanding companies in these markets with businesses such as electrical contracting, hospitality, entertainment, and medical service.

New relationships were opened in Kansas City, and St. Louis or reputable long standing companies in these markets with.

With businesses, such as electrical contracting hospitality entertainment and medical services.

Speaker 3: southwest region of Arizona, New Mexico, Las Vegas, and Texas.

The southwest region of Arizona, New Mexico, Las Vegas, and Texas grew by $50 million in the quarter.

Speaker 3: grew by 50 million in a quarter, posting year-over-year long growth of 26%.

Posting year over year loan growth of 26% <unk>.

Speaker 3: and reflecting our team's successes in leveraging the above-average economic growth profile in these markets.

And reflecting our team's successes in leveraging the above average economic growth profile in these markets.

Speaker 3: Significant wins in Q3 included several new owner-operator and CNI deals with a large local not-for-profit and automotive services business.

Significant wins in Q3 included several new owner operator in Ci C&I deals with a large local not for profit and automotive services business.

Speaker 3: a regional storage operator and a commercial design.

Our regional storage, operator, and a commercial design company.

Speaker 3: In addition, these markets benefited from the elevated fundings under existing construction.

In addition, these markets benefited from elevated fundings under existing construction lines.

Speaker 3: in Southern California, which is our West region, we continue to show positive momentum posting another quarter of growth.

Yeah.

In Southern California, which is our west region, we continued to show positive momentum posting another quarter of growth.

Speaker 3: Year-over-year, this portfolio is up 9.3% following an intentional shift during 2022 to move away from higher-risk, large, fix-and-flip, resi real estate lending.

Year over year. This portfolio is up nine 3% following an intentional shift during 2022 to move away from higher risk large fix and flip rising real estate lending and focus the legacy platform on a more balanced relationship based.

Speaker 3: and focus the legacy platform on a more balanced relationship-based CRE and CNI strategy which is consistent with our other markets.

Sorry in C&I strategy, which is consistent with our other markets.

Speaker 3: New loans during Q3 included moderate to mid-size seven-figure relationships with an apparel manufacturer, a hospitality business, transportation company, and specialty printing business.

New loans during Q3 included moderate to mid size seven figure relationships with an apparel manufacturer.

Hospitality business transportation company and specialty printing business.

We've also continued to expand our talent base in this region, adding a new market leader in San Diego.

As well as two experienced relationship managers, and Treasury management officer, and the La Orange County market during the quarter.

Moving now to deposits, which are broken out on slide number 10 and 11.

Speaker 3: Total balances grew by 290 million in the quarter after a reduction in higher cost broker deposits of 198.

Total balances grew by $290 million in the quarter after a reduction in higher cost broker deposits of $198 million.

So net of brokered funds client deposit balances are up $488 million or 18% annualized in the quarter.

The regional market client deposits rose $185 million, reflecting success in our sales plan to recapture excess funds from existing relationships that had moved to nonbank alternatives earlier in the year.

As well as our ongoing focus on deposit having new relationships.

Specialized deposits rose by $303 million.

This breakdown is highlighted on slide number 12.

Within the geographies, we grew client deposits net of brokered balances in each of our major markets with the exception of new Mexico.

This growth generally mirrors the concentration of our C&I client base and was most evident in the Midwest, where client balances were up $125 million.

In California, representing our West region client deposits rose by roughly $46 million in the quarter.

I think this is a particularly positive side just given the sensitivity to stress banks in that market and also another indicator of our success in landing balanced new relationships there.

The specialized deposit portfolio, which is broken out on slide 13 also continued its growth trajectory in Q3, now representing 27% of total deposits.

There's good balanced amongst the lines of business within this book with property management and third party escrow driving most of the growth this quarter.

Management continues to be a consolidating industry, which provides opportunity to expand the account base as our clients are generally the larger acquirers.

Slide number 14 shows some additional detail on our core funding mix and account activity for the quarter.

Deposits are generally balanced among our four main channels.

And anchor client relationships that have an assigned team or a key point of contact within our company.

These deposits are also well diversified by industry by household and by geographic market.

The underlying account activity also continues to trend favorably with new accounts open exceeding closed accounts and average balances stable to increasing across all channels.

Now I'd like to turn the call over to Keene Turner for his comments Keith.

Thanks, Scott and good morning, everyone. My comments on Slide 15, where we reported earnings per share of $1 17 in the third quarter on net income of $45 million.

Net interest income expanded from the linked quarter as we have continued to focus on growing and defending net interest income our disciplined pricing on loans and deposits combined with improved customer funding benefited our results a decline in fee income offset the growth in net interest income during the quarter and we had a few moving parts in this area that I'll touch on in a few minutes.

The provision for credit losses to increase for the quarter driven by net charge offs and an increase in nonperforming loans and loan growth.

Finally, noninterest expense was higher in the current quarter with continued growth in deposit costs to support our expanding specialized deposit business overall.

Overall pre provision net revenue of $65 million for the quarter shows the strength of our earnings profile and our ability to generate capital to support balance sheet growth.

Turning to slide 16, net interest income for the third quarter of 2023 was $141 $6 million, an increase of nearly $1 million compared to the linked quarter.

Pleased with the growth of net interest income in the quarter as it reflects balance sheet growth amid improving the proportion of the balance sheet that has been customer funded since the last quarter.

Interest income increased $13 million during the third quarter of 2023, driven equally by continued loan growth and higher rates on the loan portfolio.

Additionally, our success in generating customer funding improved cash levels due to the timing of maturing broker Cds and added roughly $2 million to interest income.

With that said, our lending pricing and the structure of the loan portfolio continues to shine loan yields increased 16 basis points, while average balances were up over $230 million. The average interest rate of new loan originations in the third quarter of 2023 was 789% and the most recent month yield is just under 7% overall.

More details on this are on slide 17.

Interest income in the quarter was more than sufficient to absorb the $12 million increase we experienced in interest expense, we were able to grow customer deposits nearly $500 million during the quarter, which allows for the previously mentioned decrease in brokered funding the.

Operator: Thank you for standing by. At this time, I would like to welcome everyone to the Enterprise Financial Services Corp. 3rd quarter of 2023 earnings conference call.

Operator: All lines have been placed on mute to prevent any background noise. After the speaker's 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 star one.

The balanced growth was coupled with a 38 basis point increase in the cost of deposits principally driven by commercial accounts with that said total cost of deposits was 184% in the third quarter and is approximately 2% in the most recent month.

Posit pricing performance as they did overall.

DDA percentage at 33%, while our asset yield and balance sheet growth more than paid for the increase in the cost of our liabilities in the third quarter.

Operator: Thank you.

The resulting net interest margin was 433% in the third quarter of 2023.

Jim Lally: Jim Lally, President and CEO Enterprise Financial Corp.

Decreasing 16 basis points sequentially.

Notably we believe that we are seeing stabilization of net interest margin at least that's been accurate for last couple of months.

Jim Lally: You may begin your conference. Well, thank you. And thank you all very much for joining us this morning and welcome to our 2023 3rd quarter earnings call. Joining me this morning is Keene Turner, EFS Chief Financial Officer and Chief Operating Officer and Scott Goodman, President of Enterprise Bank and Trust. Before we begin, I would like to remind everybody in the call that a copy of the release in the company presentation can be found on our website.

When I say that I mean, notably that deposit pricing is becoming more predictable. We're expecting continued net interest margin drift rather than contraction in the fourth quarter of 2023 and early quarters of 2024.

Jim Lally: The presentation and early change release for furnished on SEC form 8K yesterday. So please refer to slide two of the presentation titled forward looking statements. And our most recent 10K and 10Q for reasons why actual results may vary from any forward looking statements that we make today. The 3rd quarter represents a strong performance during the series of rapid changes affecting the economic and therefore banking landscape. Our business model associate base and management team has been constructed to perform during times of challenge.

We're encouraged by both deposit generation and the overall performance of net interest income and margin and we're growing optimistic that with modest growth in net interest income and some slowing of net interest margin compression that will have the opportunity to further expand net interest income growth in the upcoming quarters.

It's worth noting that excluding PPP, we grow net interest income dollars for the last 12 quarters and expanded it by roughly two five times during that period.

Jim Lally: Our teams are adapted navigating the difficult circumstances and using them to differentiate our strength as a banking partner. Over the last over years, we have worked diligently to diversify our business model such that we do not have to depend on anyone business market or asset class to produce high quality and predictable earnings. Our 3rd quarter financial results and momentum that we've displayed on both sides of the balance you during all of 2023 are the results of this focus strategy.

Slide 18 reflects our credit trends.

Net charge offs were 26 basis points of average loans in the period on a year to date basis net charge offs were 13 basis points, which continues to be below our historical average credit relationship Jim mentioned moving into already made up the majority of net charge off balance for the quarter.

It's worth reiterating that this loan represented the only material alone in the Investor owned the office portfolio that was supported by a single tenant <unk>.

Jim Lally: The business model delivered well again in the 3rd quarter of 2023. Our financial scorecard begins on slide three. Our strong financial performance continued during the 3rd quarter. We learned net income of $44.7 million or $1.17 per diluted share and we produced an ROAA of 1.26% and a PPNR ROA of 1.84%. These results reflect a robust earnings profile that easily allowed us to absorb some deterioration in credit during the 3rd quarter. Combined with our already strong reserves and balance sheet, we remain positioned to operate from a position of strength.

Nonperforming assets were 40 basis points of total assets compared to 12 basis points at the end of June .

The increase primarily relates to the single credit totaling $6 million and foreclosed assets from the Investor owned office property that we charged down in the quarter and an approximately $30 million increase in commercial real estate loans made up of three relationships.

While we did experience some deterioration in our credit metrics. This quarter, we continue to have relatively low levels of problem loans.

The provision for credit losses was $8 million during the third quarter and largely reflects the impact of the net charge offs nonperforming loans and loan growth.

Slide 19 represents the allowance for credit losses, the allowance for credit losses increased $1 million in the quarter.

Jim Lally: This means both delivering returns to shareholders while also supporting the needs of existing and new clients. The ability to continue to fulfill the loan needs of these clients and prospects have opened up channels of deposit growth as well. Our net interest income increased over 900,000 in the quarter, a trend that has continued each quarter since the beginning of 2022. This result despite challenging competitive and interest rate conditions reflects the strength of the franchise we have built.

1413, 4% of total loans or 147% when adjusting for guarantees.

On slide 23rd quarter fee income of $12 million was a decrease of $2 million from the second quarter.

Income from community development investments decreased as was anticipated, which was mostly offset by recognized gains from the sale of roughly $33 million of SBA loans, which occurred in the third quarter.

Jim Lally: We remain positioned to produce high quality earnings stream that consistently improves shareholder value through deep rooted client relationships. Growth of net interest income was aided by the defense and resilience of our net interest margin at 4.33%. This is a direct result of our appropriately priced, stable deposit base and our ability to originate commensurate to the needs of our clients but priced well amid the current interest rate environment, as we thought would happen loans moderated in the quarter largely through lower line utilization and a focus in higher valued segments.

Tax credit income was the largest driver of the sequential decline in fee income as a 70 basis point increase in the 10 year sofa rate in the quarter. Nevertheless negatively impacted the credits that are carried at fair value and masked the strong transaction volumes in the period.

As a reminder, tax credit income has been has some seasonal volatility and is typically strongest in the end of each year and thus we expect fourth quarter fee income to be roughly 15% to $17 million.

Turning to slide 'twenty, one third quarter noninterest expense was $89 million, an increase of $3 million compared to the second quarter.

Jim Lally: This resulted in loan growth during the quarter of $104 million and total outstanding loans at the end of the quarter of $10.6 billion. We also committed to funding our second half-growth with client deposits, an area where we made significant progress in the current periods. For the quarter we grew net deposits $290 million and netting out the reduction in broken CDs, client deposits grew by $488 million in the quarter. Equally impressive is the fact that the DDA as a percentage of total deposits remain strong at 32% and our loan to the deposit ratio of quarter end was 89%.

That service expenses were higher.

This was partially mitigated by a sequential decline in employee compensation and benefits as well as other expenses.

Deposit servicing expenses grew roughly $4 million in the quarter due to both rate and volume on certain specialized deposits. We expect this line item to continue to expand with both continued growth and balances as well as higher rates, but at a decreasing rate at least as it relates to increased pricing. We do expect specialized deposits to continue to outpace overall deposit growth.

<unk>, which we will continue to drive this expense line item.

Jim Lally: Scott will give much more color on the markets and businesses where we saw continued success but we are encouraged that we have a significant amount of runway to continue growing throughout the remainder of 2023 and into 2024. Our balance sheet remains strong in position for continued growth. Capital levels of quarter end remain stable and strong with our GCE to TA ratio of 8.51%. Tangible book value for common share was $31.6 and an increase of over 8% this year due to our strong earnings as more than offset the impact of securities portfolio in AOC ID.

Comp and benefits was lower in the quarter over quarter due to favorable medical plan performance combined with hiring discipline.

Other expenses were lower sequentially, primarily from the non recurrence of the operation all of that in the second quarter.

As well as certain other expenses.

Overall, we expect noninterest expense to increase to roughly 90% to $92 million in the fourth quarter, reflecting an increase in deposit service expense.

The third quarter's core efficiency was 56, 2% an increase of 220 basis points compared to the second quarter and was driven primarily by the rise in both interest and noninterest expenses, while the decrease in fee income impacted revenues.

Jim Lally: During the quarter we did see cred begin to normalize. However the results I noted both on the income statement and the balance sheet reflect that we both anticipated and are positioned well to deal with these changes. I did want to provide a little color around one commercial office loan that moved into Oreo during the quarter. This was a single space bar where they had a single tenant mid-town office building where the tenant defaulted on its lease.

With some moderation of our net interest margin and net interest income expectations. We do expect core efficiency to move up slightly in the coming quarters. However, this is a function of our expectation for expanding our market share in the specialized deposit business.

Jim Lally: After pay downs related to the personal guarantees and lease termination penalties we charged off approximately $4.7 million of an approximately $16 million loan balance. This loan represent our only single tenant office CRE loan in our portfolio. Additionally we saw non-performing loans edge up in the quarter. It's important to reiterate that the strength of our earnings profile generates pre-provision earnings that have averaged nearly $70 million a quarter this year. This provides a significant buffer to absorb credit issues before ever touching our loan loss reserves or capital. There are also very strong levels particularly when considering the short duration of our loan portfolio.

For all other expense categories, we expect to prudently maintain cost controls, which are part of our daily disciplines.

Our capital metrics are demonstrated on slide 22, our tangible common equity ratio was eight 5% at the end of the third quarter down from 8%, 6% in the linked quarter decline is due to the increase in longer term interest rates and the related impact on the fair value of securities and derivatives that are reflected in comprehensive income or <unk>.

That's where our capital ratios continue to be above well capitalized minimum when including the impact of unrealized losses on available for sale and held to maturity securities.

Our strong earnings and manageable dividend level allows us to quickly build capital that we can use to support our growth.

Overall this was a strong quarter and we've been pleased with the performance. So far this year return on assets has been 147% and return on tangible common equity is nearly 17%.

Jim Lally: Slide five shows where we are focused for the foreseeable future. Just like we've done so far this year in the second half of 2023 we will continue to be focused on funding future loan growth with client deposits. Additionally I am confident that we can continue to improve shareholder value through the execution of our strategy. Our focus can buy with modest improvement in certain business lines and markets along with continuous debt fast expense management should consistently produce strong earnings amid the current economic and rate environment that we are in.

With that I'll conclude my remarks, and open the line for analysts questions.

To ask a question please press star one.

Your first question is from Jeffrey Lewis of D. A Davidson. Please go ahead your line is open.

Thanks, Good morning, good morning.

Just a couple of follow up questions on the on the deposit base that is impacted by the variable.

Posit cost I, just wanted to try to get a sense for is that the entire specialty loan our specialty deposit balance or is that a portion of that.

Jim Lally: My optimism for our prospect stems from both my confidence in our existing performance but also my conversations I'm having with our clients. Our manufacturing distribution clients continue to have good backlogs and consistent sales volumes margins are compressing slightly due to increased labor interest expense causing overall profitability to decline but not to a point where debt service has been compromised. Advising and helping clients navigate through times like these is a specialty of our teams.

Hey, Jeff This is keene.

You look at slide 13, it's really going to be community property and third parties, that's roughly $2 5 billion.

The $21 million in the quarter is attributable to.

Jim Lally: Past turbulent times have shown that these conversations will solidify the relationships that we currently have and invite several more companies to come our way. Our CRE clients predict a much lower 2024. Current projects will be completed, but new opportunities will be challenged with higher costs, particularly interest expense. I believe that higher demand asset classes such as industrial and housing will find return equilibrium, especially if we will see projects in corresponding loan demand come to life late in 2024.

Gotcha.

The other is really more part of what is assigned based on specialized lending verticals. So that's how that's delineated.

Okay.

So just wanted to kind of walk down the strategy again just.

These are.

May be accretive to net interest margin, but but on the expense side certainly has been a source of cost increase.

Could you just sort of lay out the strategy of of that.

Jim Lally: I do believe that this is a bit of optimism will manifest itself in our higher growth markets like Phoenix, Dallas, and Southern California. With all that said, I feel strongly that our multiple business lines and geographies will be robust enough to produce loan volumes in the mid-single digit range over the next several quarters funded by our continued success in generating well-priced relationship oriented client deposits.

Overall, it's a more efficient deposit franchise and stickier just wanted to kind of get a sense for the cost.

The value of of that relative to traditional.

Deposits yes.

Yes, Jeff This is Jim let me, let me, let me tackle that in and Scott and Keene can certainly join in so I look at it this way it blends well with overall deposit base. If you think about how we built the business in the franchise carefully with commercial and business banking and consumer in the specialized blends in nicely.

Jim Lally: Before turning the call to the Scott and other piece of good news, I would like to share is that when we recently awarded a $60 million new market tax credit allocation by the Community Development Financial Institutions Fund or the CDFI, a bureau within the United States Department of the Treasury, this will service well in the next 12 to 18 months to attract new clients and projects that qualify for these credits.

It's very stable deposit base largely.

And insured deposit base and it does come in with some nice chunks and we've done some great work relative to the.

The areas, especially in the property management in the last year to pick up great clients that were.

Scott Goodman: With that, I would like to turn the call over to Scott Goodman, Scott. Thank you, Jim, and good morning, everyone. As you heard from Jim, and as we show on slide number six, loans grew by 104 million in the quarter and results in year-over-year growth at 13.5%. Components of the growth for the last 12 months are broken out on slide number seven and reflect the prior comments regarding balance and diversification, with increases across all major categories, and proportionate between our metro markets and the specialized lines of business.

Somewhat orphaned by those who are no longer around and so we feel as we go forward it blends well with everything and certainly too much of a good thing as too much of a good thing, but as we see it has allowed us to reduce our reliance on brokered Cds and yet maintain a very healthy return profile.

Got it is there a limit that.

Too much of a good thing do you say, hey, we want to cap this at a certain percent right now.

Elevated brokered and running at all.

Scott Goodman: For the quarter, shown on slide number eight, we saw the most lifts in the owner-occupied commercial real estate, tax credit, and construction categories. It's also worth noting that revolving a line of credit usage applied in the quarter, as operating companies manage their working capital more efficiently in response to higher rates, and a more risk-off approach to their businesses. Standing balances on lines declined by 100 million in the quarter. So while the CNI loan portfolio was down by 9 million, net of line reductions, this book actually grew 91 million.

So we look at it this way so we look at it carefully look at our growth for the 24 and beyond.

Two were not a spigot on spigot off business right, we're going to support.

Particular segment, well, but we're not going to do it to a point that it's harmful to the company and so I'd look at it this way that if there is behind that deposit as a entity that has a long lived client in any rate environment, we're going to support that and we're just going to have to figure out ways with respect to that blended into our overall deposit base to make a great return and so.

We look at the overall growth for $24 25 and to the extent that we could fund all of that confidently without leaning into specialized deposits likely we would but we're not going to be able to so it's going to be an important part of our overall growth going forward, but at this point in time I'm not willing to put a cap on what thats going to be.

Scott Goodman: This CNI list, as well as the owner-occupied commercial real estate growth, reflects continued success in attracting new operating company relationships and expanding business with our existing clients. The construction category rose in conjunction with improved momentum of projects, following the COVID-19 supply chain induced construction lags that we saw last year and earlier this year. While we're certainly seeing new development loan requests slow significantly, the existing projects closed over the past 12 to 18 months are continuing to move forward. This portfolio overall is well diversified, with the majority of the book fairly well-balanced within the multi-family, residential, industrial, and mixed-use projects.

Got it and Keene.

It's kind of baked into that expense guidance youre alluding to.

Continue to expand deposit costs, there, but maybe it does.

Diminishing level and you can give us overall deposits excuse me overall noninterest.

Expense anything to guide us on how to model that ahead is there a percent of those deposits are.

I guess, that's variable, but any thoughts on how to model it.

Scott Goodman: Projects. Investor-owned CRE office represents less than 5% of this total construction both. Within the specialized business units, tax credit lending had a strong quarter, reflecting continued momentum in the funding of existing affordable housing projects on the books. Jim also mentioned our recent award of 60 million in new market tax credit allocation by the U.S. Treasury Department. As we have with prior awards, these credits will serve as a catalyst to facilitate much needed projects within under-invested areas in our metro markets.

Yes, let me just let me give you a couple of pieces of information that I sort of think about high level and maybe this is helpful. And you can either follow up are telling me it's not helpful.

So in the second quarter.

$17 million on roughly $2 2 billion of deposits was like a 3% realm.

Scott Goodman: But these credits will also allow our bankers to bring a differentiated solution to the table to attract new banking relationships and can provide a source of fee income which is typically 7 to 8% of the allocation earned over 7 years. Life insurance premium finance grew modestly this quarter with some seasonally slower premium funding on existing policies, but has grown nearly 19% year over year and continues to build a solid pipeline of new opportunities.

Relative cost.

In the current quarter Youre at like $3 35, with the 20 million on $21 million on $2 5 billion.

So when you look at $4 million sequentially.

Estimate that roughly half was due to rate and pricing and competitive pressures in us really trying to drive down the brokered and then the other half was really due to growth in the underlying balances of.

Have a few hundred million.

So I think obviously, you've got some blending in there in the quarter, but if you took a.

<unk> 350.

That's your kind of current earnings credit.

And we're I think viewing it as you know absent more activity by the fed that.

Scott Goodman: Sponsor finance also had a modest growth quarter reflecting some seasonal softness on origination volume, but also an uptick in paydowns related to the sale of portfolio companies by our private equity sponsor companies. The SBA portfolio declined by 19 million in Q3 mainly due to the sale of 33 million in 7A loans. Payoffs continue to be somewhat of a headwind from certain borrowers that are now bank qualified, while origination volumes were stable and in line with expectations.

The competition in that space.

Should calm down with some of what we're seeing in the industry. We've been very fair to those customers and we really think that moving forward that the majority of the expense is going to be driven by volumes. So I think from my perspective that will be a way too.

I kind of think about how we're at least thinking about the fourth quarter and maybe the first quarter.

And then I think you made some comments earlier to Jim and <unk>.

In terms of the efficiency of the business and we look at this.

Scott Goodman: We also remain focused on improving returns opportunistically within specialties or in loan categories where the supply demand dynamics have shifted. Generally in these cases and depending upon the loan type, we're targeting some combination of higher loan spreads or requiring associated compensating deposit balances. A regional breakdown of the loan trends are shown on slide number 9. Growth of the specialized businesses continues on a solid and steady pace. Up 15% annualized for the quarter and 19% year over year.

Your stock is up versus peers, our margins near the top of the stack and efficiency sort of in the top third as its reported today, but.

You reclassify as deposit costs margin would maybe be in the sort of top.

10, or 15%, but efficiency would go right to the top of the chart at roughly 50% in the quarter and lower than that and then the 40 <unk> year to date so to.

To Jim's point on returns I mean, I think if we look at it that way and you just sort of do something with and without it helps you really characterize.

Scott Goodman: In addition to my prior comments on the specialized businesses, our practice finance unit also performed well in 2023, growing by roughly $70 million year to date, including 23 million of growth in Q3. This team, which has a long history and deep expertise in this niche, focuses mainly on banking dental and veterinary practices, which were generally viewed as stable and high credit quality business types. Within the midwest region, reduction in revolving lines were a primary headwind to growth this quarter, offsetting some of the otherwise solid origination activity.

How efficient we are truly being in the business.

Where we stack up obviously, we wouldnt, we don't necessarily Polish those results because it belongs in noninterest expense, but just a way for us to gauge what what it would be if that was just truly a commercial deposit and we were paying in interest rate on it.

Gotcha, Yeah second guessing just trying to get at.

Better handle on it so I appreciate the detail maybe just one other.

Topic, just on the on the loan front.

Yes.

Jim I think you mentioned kind of mid single digit I just wanted to make sure thats sort of net of one I don't maybe embedded in that is do you anticipate more SBA loan sales and would that mid single digit include is that net of.

Scott Goodman: New relationships were opened in Kansas City and St. Louis for reputable, longstanding companies in these markets, with businesses such as electrical contracting, hospitality, entertainment, and medical services. The southwest region of Arizona, New Mexico, Las Vegas, and Texas, grew by 50 million in the quarter, posting year over year long growth of 26%, and reflecting our team's successes in leveraging the above-average economic growth profile in these markets. Significant wins in Q3 included several new owner-operator and CNI deals with a large local not-for-profit and automotive services business, a regional storage operator, and a commercial design company.

As expected sales or.

Yes that would be yes that would be net of that.

Predicting and part of it is.

Not having.

<unk>.

A whole lot of faith that the CRE market is going to be significant in the first half of 'twenty four that's why we moderate back to that.

So we feel good about that number and do it in a very responsible manner with some high yield there too.

Okay I appreciate it I'll step back thanks.

Your next question is from Andrew Liesch of Piper Sandler. Please go ahead. Your line is open.

Scott Goodman: In addition, these markets benefited from the elevated fundings under existing construction lines. In Southern California, which is our West region, we continued to show positive momentum, posting another quarter of growth. Year over year, this portfolio is up 9.3% following an intentional shift during 2022 to move away from higher risk, large fixed-and-flip, residential estate lending, and focus the legacy platform on a more balanced relationship-based TRE and CNI strategy, which is consistent with our other markets.

Some clarification on the nonfarm Lars here.

How long have they been on your radar screen and then look out into the future and what are you seeing with trends in 30 to 89 day past dues.

Yes, Hi, Andrew Scott I can take that one.

I mean, I think generally.

The credits that impacted this quarter represented historically weaker operating companies.

That had been in the system and our process for a while and I think I think the amount of movement is.

This quarter kind of reflects the intentionally proactive workout strategy that we're trying to take.

Scott Goodman: New loans during Q3 included moderate to mid-sized seven-figure relationships with an apparel manufacturer, a hospitality business, transportation company, and specialty printing business. We've also continued to expand our talent base in this region, adding a new market leader in San Diego, as well as two experienced relationship managers and a Treasury Management Officer in the LA Orange County Market during the quarter.

Get to the table early when there is cash to get a pay down liquidity to get guarantor payments to get additional collateral, which also pushes them through a process faster.

I'm happy to provide more color because I think really the movement at least in non performers is just related to three credits this quarter.

There was a $19 million commercial real estate developer leasing company in Socal at 19 year 13 year client of of that legacy Bank.

Scott Goodman: Moving now to deposits, which are broken out on slides number 10 and 11, total balances grew by 290 million in the quarter after a reduction in higher-cost broker deposits of 198 million. So net of broker funds, client deposit balances are up 488 million or 18% annualized in the quarter. The regional market client deposits rose 185 million, reflecting success in our sales plan to recapture excess funds from existing relationships that had moved to non-bank alternatives earlier in the year, as well as our ongoing focus on deposit-heavy new relationships.

$16 million of our exposure is actually secured.

Adequately secured by margin multifamily collateral there is really just the smaller unsecured piece, which is driving most of the rating and we're in the process of securing.

There is $8 million, Kansas City based truck dealership a deal in specially modified commercial box and delivery trucks.

And I think we are in the process of exiting that through either a refi or liquidation.

It does include hard assets owner occupied commercial real estate.

And then $5 5 million AG credit, which is a hog producer and they are actually under contract to sell prior to year end and pass off so I think by just pushing those fairly quickly and getting to the table, we've got decent strategies.

Scott Goodman: Specialized deposits rose by 303 million. This breakdown is highlighted on slide number 12. Within the geographies, we grew client deposits net of broker balances in each of our major markets, with the exception of New Mexico. This growth generally mirrors the concentration of our CNI client base, and was most evident in the Midwest where client balances were up 125 million. In California, representing our less region, client deposits rose by roughly 46 million in the quarter.

I think the other question is what do we see.

Now as we try to read the tea leaves.

The major comments, we're not seeing signs of that this is part of a bigger wave at this point.

Total criticized loans. So if you take classifieds plus the next level of special mentoring, we're actually down $60 million this quarter versus last quarter. So we've exited some of those credits with upgraded others.

Scott Goodman: I think this is a particularly positive sign, just given the sensitivity to stress banks in that market, and also another indicator of our success in landing-bound new relationships there. The specialized deposit portfolio, which is broken out on slide 13, also continued its growth trajectory in Q3, now representing 27% of total deposits. There's good balance amongst the lines of business within this book, with property management and third-party escrow driving most of the growth this quarter.

Other trends that we look at past dues are actually down versus the prior quarter.

And we're not seeing abnormally high activity on things like covenant breaks or additional downgrades.

If you just look at classifieds and non performers at the levels they're at today.

Really similar to what we saw pre pandemic 2019 and prior.

Hopefully that provides a little bit of color.

Yes, absolutely.

Scott Goodman: Property management continues to be a consolidating industry, which provides opportunity to expand the account base as our clients are generally the larger requirements. Flight number 14 shows some additional detail on our core funding mix and account activity for the quarter deposits are generally balanced among our four main channels and anchor to client relationships that have an assigned team or a key point of contact with our company. These deposits are also well diversified by industry by household and by geographic market. This is a favorably with new account open exceeding closed accounts and average balances stable to increasing across all channels.

Obviously, we saw the increase but still at very low level here.

And.

Actually looking at you.

And you've touched on pretty much all my other questions. So I'm in good shape I'll step back here.

Thanks, Andrew.

Your next question is from Damon Delmonte of VW. Please go ahead. Your line is open.

Hey, good morning, guys hope everybody's doing well today.

Just wanted to start off with a question on the outlook for fee income regarding the tax credit.

Line item.

Can you break down how much of the $2 $7 million loss was rate related versus.

Realized gains during the quarter.

Yes, I would say that Dana and based on the net.

The rate related loss was like 300% of what was posted so there was good activity in the quarter as I noted, but with whats carried at fair value.

Keene Turner: Now I'd like to turn the call over to Keene Turner for his comments. Keene. Thanks Scott and good morning everyone.

Keene Turner: My comments being on slide 15 where we reported earnings for share of $1.17 in the third quarter on net income of $45 million. Net interest income, expanded from the link quarter as we continue to focus on growing and defended net interest income are disciplined pricing on loans and deposits combined with improved customer funding benefited our results. A decline in fee income off of the growth and net interest income during the quarter and with a few moving parts in this area that I'll touch on in a few minutes.

And how much so for move we just werent able to.

Really what stand that I think we expect some rebound here in the fourth quarter.

I have sort of noted by my total guide and then look if rates are are.

<unk> continue to tick up sort of as hard as they have the last couple of years the passage of time as well as the business activity will drive.

Better opportunity for next year, and maybe that tax credit line item will be able to get to.

Keene Turner: The provision for credit losses increase for the quarter driven by net charge off an increase in non performing loans and loan growth. Finally, non interest expenses higher in the current quarter with continued growth and deposit costs to support our expanding specialized deposit business. Overall pre provision that revenue of $65 million for the quarter shows the strength of our earnings profile and our ability to generate capital to support balance she grows.

Call it seven or eight figures again for 2024 with <unk>.

Just some stability.

Returning.

Got it so that 7% or eight figure number for 'twenty for the cadence of that is it kind of more realizations in the first and fourth quarters and the second and third are usually seasonally weak is that right. Yes, I mean, some of it's probably going to be a little bit dependent on what happens with rate.

Keene Turner: Turning to slide 16 net interest income for the third quarter of 2023 was $141.6 million and increase of nearly $1 million compared to the link quarter. We're pleased with the growth of net interest income in the quarter as it reflects balance sheet growth mid improving the proportion of the balance sheet that has been customer funded since the last quarter. Interest income increase $13 million during the third quarter of 2023 driven equally by continued loan growth and higher rate on the loan portfolio.

I would still expect it to be driven largely in the fourth quarter just.

The nature of how the business occurs.

With with some of the turbulence in some of the business climate issues I mean, we've been trying to.

Circulate some of those credits and bulk sale them and that may somewhat affect timing, but I would still expect it to be maybe a little bit here in the first quarter if rates don't mess with us and then.

Keene Turner: Additionally, our success in generating customer funding improved cash levels due to the timing of maturing broker fees and added roughly $2 million to interest income. With that said our lending pricing and the structure of the loan portfolio continues to shine. Loan yields increased 16 basis points while average balances were up over $230 million. The average interest rate of new loan originations in the third quarter of 2023 was 7.89% and the most recent month yield is just under 7% overall.

Back end loaded for the fourth quarter of 'twenty four.

Okay. That's helpful. Thank you.

And then with regards to the margin outlook.

You comment that you expect somewhat continued drift here from this quarter's level can you kind of kind of put some bookends around that I mean.

Do you think maybe like five to 10 basis points of drift over the next couple of quarters is reasonable before bottoming.

Yeah, and I would just say I don't I think we think that we can get to largely level net interest income in the in the quarter here I mean, I think there was some inefficiency and there probably will still be some inefficiency in the balance sheet composition, because we use brokered Cds.

Keene Turner: More details on this are on slide 17. Interest income in the quarter was more than sufficient to absorb the $12 million increase we experienced in interest expense. We were able to grow customer deposits nearly $500 million during the quarter which allowed for the previously mentioned decrease in broker funding. The balance growth was coupled with a 38 basis point increase in the cost of the deposit, principally driven by commercial accounts. With that said, total cost deposits was 1.84% in the third quarter and is approximately 2% in the most recent month.

It really fond of lot of the growth in the first and second quarter. So.

My comments are sort of notwithstanding balance sheet composition, just just similar level at 930, but yeah. I mean, I think we've got call. It three to five basis points address and as I say that it sounds ridiculous that in this environment I'm guiding three to five basis points, but in each of the next couple of quarters is what we're thinking.

Keene Turner: The pilot pricing performance as they did overall by a DDA percentage at 33% while our asset yield and balance sheet growth more than paid for the increase in the cost of our liabilities in the third quarter. The resulting net interest margin was 4.33% in the third quarter of 2023, decreasing 16 basis points sequentially. Most notably we believe that we are seeing stabilization in net interest margin, at least that's been accurate the last couple of months.

And then we start to have day count in our favour going from <unk> and <unk>.

Maybe there's a chance that we can we can start to grow net interest income again, but we are definitely seeing some stabilization in the last couple of months have been much more stable than they were.

In fact September was a little bit higher than that.

Then August but one month isn't a trend and theres a lot of pieces that drive that but we're definitely feeling better about it and we're seeing slowing in cumulative beta is even though we expect some continued degradation.

Keene Turner: When I say that, I mean notably that the positive pricing is becoming more predictable. We're expecting continued net interest margin drift rather than contraction in the fourth quarter of 2023 and early quarters of 2024. We're encouraged by both the positive generation, the overall performance of net interest income and margin, and we're growing optimistic that with modest growth and net interest income and some slowing and net interest margin compression that will have the opportunity to further expand net interest income growth in the upcoming quarters. It's worth noting that excluding BPP, we've grown net interest income dollars for the last 12 quarters and expanded it by roughly two and a half times during that period.

In the next couple of quarters at a minimum.

Got it and then kind of on.

The flip side with rates here, if the fed does cut in the back half of 'twenty four I know you guys are.

Pretty asset sensitive so how do you kind of envision the margin reaction. If there is some cuts that happen.

Again in the back.

When you say rate cuts I mean, I think of that as 25.

I think our view is generally that we expect higher for longer to mean, just really stable fed funds and what we'll be fighting is largely compression.

Keene Turner: Glide 18 reflects our credit trends, annualized net charge offs for 26 basis points of average loans in the period, on a year-to-date basis net charge offs for 13 basis points, which continues to be below our historical average. The credit relationship Jim mentioned moving into RRE made up the majority of net charge off balance for the quarter. It's worth reiterating that this loan represented the only material loan in the investor owned office portfolio that was supported by a single tenant.

But down 100 were about 4% asset sensitive so 25 basis point cut is 1%.

<unk>.

Annualized basis, and that will come pretty immediately I don't worry as much.

Jeff had pushed on the deposit specialized deposit costs, we think that those can move very much in line with.

Any fed funds cuts.

I think what were maybe the most concerned about is if.

Keene Turner: Not performing assets for 40 basis points total assets compared to 12 basis points at the end of June. The increase primarily relates to the single credit totaling $6 million in foreclosed assets from the investor owned office property that we charge down in the quarter, and an approximately $30 million increase in commercial real estate loans made up of three relationships. While we get experience and deterioration in our credit metrics this quarter, we continue to have relatively low levels of problem loans. The provision for credit losses was $8 million during the third quarter and largely reflects the impact of the net charge offs, non-performing loans and loan growth.

Variable rate.

Cid or predict on a short term basis, the fed funds cut because that's where we get the most compression.

But just sort of assuming everything's kind of normally time, we're sort of down roughly 1% on a on a card and.

We think that that's generally an area where we can.

On a longer term basis outgrow that as long as we don't have rapid 25 basis points cuts quarter after quarter.

Got it okay. That's great. Thanks for all the color I appreciate it.

Yeah Youre welcome Thanks Damon.

Keene Turner: Glide 19 represents the allowance for credit losses. The allowance for credit losses increased $1 million in the quarter and is 1.34% of total loans or 1.47% when adjusting for guarantees.

Your next question is from Brian Martin of Janney. Please go ahead. Your line is open.

Hey, good morning, everyone, Hey, Brian .

Just one last one on the margin it so it sounds like the margin maybe bottoms next quarter first quarter is kind of I heard the comments on NII flat and then maybe down a little bit with the day count but.

Keene Turner: On slide 20, third quarter of the income of $12 million was a decrease of $2 million from the second quarter. Income from community development investments decreased as was anticipated, which was mostly offset by recognized gains from the sale of roughly $33 million of SBA loans, which occurred in the third quarter. Tax credit income was the largest driver of the sequential decline in the income. As a 70 basis point increase in the 10-year sofa rate in the quarter, negatively impacted the credits that are carried at fair value, and massed the strong transaction volumes in the period.

The margin percentage may drift into the next couple of quarters, if if we're kind of stable from a fed environment.

Yes.

I will just say this I mean, we're really thinking about it on a net interest income dollars basis, because we've got a weighted average life of eight months on the brokered portfolio and we're trying to make it a priority to really get that largely paid down so.

You could get 2345 basis points, just from inefficient balance sheet lower risk, but inefficient.

Keene Turner: As a reminder, tax credit income has been at some seasonal volatility, and it's typically strongest to the end of it each year, and thus we expect fourth quarter of the income to be roughly $15 to $17 million.

And I don't want to just be too to firm on that but we generally feel like margin is is getting firmer, but still drifting.

Keene Turner: During this slide, 21, third quarter of an interest expense of $89 million and increase of 3 million compared to the second quarter. Deposit service expenses were higher, which was partially mitigated by sequential decline in employee compensation and benefits as well as other expenses. The pilot servicing expenses grew roughly $4 million in the quarter due to both rate and volume on certain specialized deposits. We expect this line end of the continue to expand with both continued growth and balances as well as higher rates, but at a decreasing rate, at least as it relates to increased pricing.

And call it.

Sometime in the first half of next year, we're starting to feel better about it.

And I think if we're able to get good.

Decent loan growth in that period I think we.

Sure.

Optimistic that we can stabilize profitability and then start to grow in the in the back half.

But yes I think.

Call It you've got some weird day count stuff going on.

You could kind of see first quarter margin better than.

Fourth quarter, depending on what happens, but then it deteriorates in second quarter, just with some of that.

Keene Turner: We do expect specialized deposits to continue to outpace overall the positive growth, which we will continue to derive this expense life. Coffin benefits with lower in the quarter of a quarter due to favorable medical plan performance combined with hiring discipline. Other expenses were lower sequentially, primarily from the non recurrence of the operational event in the second quarter, as well as certain other expenses. With some moderation of our net interest margin and net interest income expectations, we do expect core efficiency to move up slightly in the coming quarters. However, this is a function of our expectation for expanding our market share in the specialized deposit business. For all other expense categories, we expect to currently maintain cross controls, which are part of our daily discipline.

$33 63 to 65 stuff on the portfolio.

Gotcha, Okay, and then how about just on the I think I don't know if maybe someone answered that but on the SBA.

<unk> this quarter with the sales do you guys expect to do more of that or is that they haven't done it up until now so just kind of wondering how to think about that with your commentary on fee income.

Yes, I would say Brian that the reason we did it this quarter is.

With the strong growth we had in the second quarter, we started looking at how to fund everything in.

But what we thought was important to investors and we thought kind of growing net customer funding relative to loan growth was important.

Our highly scalable class a assets and we have the opportunity to clear some headway there and sell some of the recent production with fourth quarter being what we would expect to be seasonally strong I wouldn't expect fourth quarter SBA sales, but I would say that depending on how growth looks.

In the early part of next year and how the fee line items look we.

Overall funding and costs are are shaping up.

Keene Turner: Our capital metrics are demonstrated on slide 22, our tangible common equity ratio with 8.5% at the end of the third quarter down from 8.6% in the link quarter. The decline is due to the increase in longer term interest rates and the related impact on the fair value of securities and derivatives that are reflected in comprehensive income. Our regulatory capital ratio has continued to be above well capitalized minimums when including the impact of unrealized losses on a bit over sale and health and maturity securities. Our strong earnings and manageable dividend level allowed us to quickly build capital that we could use to support our growth.

We view that as a.

The play option and we May do it but.

But wed likely be sensitive to so when we get some of the other periodic impacts from.

Private equity you see the tax credit.

And those types of businesses.

Okay. So just kind of help smooth out some of the some of the volatility within the quarters.

Potentially now look if we're growing deposits well in there is there is no pressure really on the funding growth I mean, I think the best strategy versus cash is to keep those loans on the balance sheet with their profile, but if you are trading off high other high yield bonds that you're maybe not doing because you're you want to make sure that you're hitting the right funding.

Keene Turner: Overall, this was a strong quarter and we've been pleased with the performance so far this year. Return on assets has been 1.47% and return on tangible common equity is nearly 17%.

<unk> profile, then I think that that becomes a much more viable option. So we will continue to advise you on that but it's certainly more.

Keene Turner: With that, I'll conclude my remarks and open the line for analyst questions.

Operator: To ask a question, please press star one.

More on the forefront and something that I would say is equally weighted 50 50 versus maybe no way coming into this year.

Jeff Rulis: Your first question is from Jeff Rulis of DA Davidson. Please go ahead. Your line is open. Thanks. Good morning. Just a couple follow up questions on the deposit base that's impacted by the variable deposit cost. I just want to try to get a sense for is that the entire specialty loan or specialty deposit balance or is it a portion of that? Hey Jeff, this is keen. If you look at flight 13, it's really going to be community property and third parties that's roughly 2.5 billion that the 21 million in the quarter is attributable to. Yeah, the other is really more part of what's assigned based on specialized lending verticals. So that's that's how that's still in the aided.

Got you Okay. That's helpful and just last two on the expense side can you talked about the deposit cost.

In general what are those.

But it sounded like they were up a bit more for Ken and then maybe they begin to kind of.

The pace of increase lessons, but just as far as the other if that's right and then the other how are you thinking about increases.

Swear inflationary as we look into next year for kind of the comp line yet.

Collectively the other lines.

Yes, I would say Brian that we're trying to be very very thoughtful about managing both the short and the intermediate term. So we don't want to do things that impair the business I think you heard from Scott.

We hired a new president in our San Diego region, and some of those things and so we're going to continue to make the right long term moves we're going to continue to invest in our associates in technology and training, but we're mindful of the sort of the operating leverage that we've lost here along the last couple of quarters and we're trying to manage that the best we can.

Jeff Rulis: Okay, so I just want to kind of walk down the strategy again, just, you know, these are, you know, maybe accretive, the net interest margin, but on the expense side certainly has been a source of cost increase. Could you just sort of lay out the strategy of that, you know, overall, it's a more efficient deposit franchise is stickier just want to kind of get a sense for the cost and the value of of that relative to traditional deposit.

So we're imply the normal discipline I mean, I think you can see it here from <unk>.

First the second to third quarter that were were being fairly tight on spending and I think there's some opportunities.

To pay for what we'll call compensation and raises and things like that next year with some discipline on on other types of expenses, but we're gonna be mindful that we're in a position where even with the provision this quarter, we're still earning well and we don't want to just try to hit a number that then ultimately because.

Jeff Rulis: Yeah, Jeff, this is Jim. Let me tackle that and then Scott and Keene can certainly join in. So, I look at it this way. It blends well with overall the positive base. You know, if you think about how we built the business and the franchise, careful with commercial and business banking and consumer and the specialized blends in nicely, very stable deposit base, largely and insured deposit base. And it does come in with some nice chunks and we've done some great work relative to the the areas, especially in the property management in the last year, to pick up great clients that were somewhat orphaned by those who are no longer around.

A lower number in future periods, because we're not able to grow where were not able to restart businesses or things like that so I think you heard that from Jim, but I think as it bears out on expenses that's.

That's our mantra and we're really trying to be.

As disciplined as we can and maybe thats.

A less adding than we than we would've been prior periods, but I don't.

We're not you're not going to hear from us any big initiatives very likely or anything like that just continued discipline across the board.

Jeff Rulis: And so, we feel as we go forward, it blends well with everything and certainly too much of a good thing. It's too much of a good thing. But as we see it, it's allowed us to reduce our reliance on brokerage CDs and yet maintain that very healthy return profile. Got it. Is there a limit that you know, too much of a good thing to be say, hey, we want to cap this that at a certain percent right now, you know, with elevated brokerage and running it off.

As much as we can.

Got you and then in your comments about the efficiency and kind of adjusting for the deposits I mean, the 56, we're at today that feels like a sustainable level now given kind of what your what you expect on those deposit cost trends I mean, I know, it's gone up but when you adjust them. It's obviously much better relative to the peer and industry, but it is kind of the efficiency in general that.

That level we're at.

It drifts higher from here, it's stable ish.

Jeff Rulis: Yeah, so we look at it this way. So we look at carefully look at our growth for the for 24 and beyond. And, you know, you know, what's to we're not a spick it on, spick it off business. Right. We're going to support a particular segment. Well, but we're not going to do it to a point that it's harmful to the company. And so I look at this way that if they're behind that deposit is a entity that has a long lived client in any great environment, we're going to support that.

Jeff Rulis: And we're just going to figure out ways with respect to that blended into overall deposit base, making great return. And so we look at the overall growth for 24 and 25. And, you know, to the extent that we could fund all of that confidently without leaning into specialized deposits, likely we would. But we're not going to be able to. So it's going to be an important part of our overall growth going forward.

I think it's slightly higher kind of increasing but at a decreasing rate just like we expect that line item to behave.

I think the range sort of pricing impact on the that line. The earnings credit rate I think we don't expect to move as much and so again I think its trend in underlying balances and collective balances and things like that.

That continues to have that grow over time.

I think part of it is just how how quickly can we get margin to sort of a net interest income.

Try and direct away from margin.

Net interest income to sort of stabilize and build off that base and I think that obviously is a big driver for what happened I mean, I think we would have had.

We would really love to have that tax credit line item be zero or slightly positive quarter would have looked a lot different on that.

Jeff Rulis: But this point in time, I'm not willing to put a cap on what that's going to be. And keen, you know, kind of baked into that expense guides you you're alluding to, you know, continue to expand deposit cost there, but it may be at a diminishing level. And you can give us overall deposit, excuse me, overall, not necessarily expense anything to guide us on how to model that ahead. Is there a percent of those deposits or.

On a pre provision operating revenue basis, but.

That's why if and then I'll come back to us over time.

Gotcha and last one if I can sneak it in maybe just for Scott.

Utilization in the quarter was down a lot I guess is do you expect that to continue to trend a bit lower is that feel like we're kind of getting to a bottom just wondering what you think on the utilization side.

Jeff Rulis: I guess that's variable, but he sounds on how to model it. Yeah, let me just let me give you a couple pieces of information that I sort of think about high level and maybe this is helpful and you can either follow up or tell me it's not helpful. You know, so in the second quarter of the 17 million on roughly 2.2 billion of deposits was like a 3% relative cost in the current quarter, you're at like 335 with the 20 million on 21 million on 2.5 billion.

Relative to your comments on hold in Jim's comments on loan growth.

Feeling comfortable pretty healthy loan growth.

I agree I think it's more of just have existing clients are opting to use their existing cash.

I don't think its going to be an ongoing pressure point I think if you just look historically, it's kind of up and downs, but within a pretty narrow range.

Two or 3%. So I think it's just a function of what happened this quarter I don't think its going to impair the business long term.

Gotcha, Okay. Thanks, Scott I appreciate the color guys.

Jeff Rulis: So when you look at $4 million sequentially, you know, we estimate that roughly half was due to rate and pricing and competitive pressures and us really trying to drive down the broker and then the other half was really due to growth in the underlying balances of a few hundred million. And so, you know, I think obviously you've got some blending in there in the quarter, but if you took a 350, you know, and said that's your kind of current earnings credit.

There are no further questions at this time I will now turn the call over to Jim Lally for closing remarks, well. Thank.

And thank you everybody for joining us this morning, and thank you for your interest in our company and we look forward to speaking to you again.

B first part of 2025 have a great day.

This concludes today's conference call. Thank you for your participation you may now disconnect.

Please wait the conference will begin shortly.

Jeff Rulis: And we're I think viewing it as, you know, absent, you know, more activity by the Fed that the competition in that space should calm down with some of what we're seeing in the industry. We've been very fair to those customers and we really think that moving forward that the majority of the expense is going to be driven by volumes. So I think from my perspective, that will be a way to kind of think about how we're at least think about the fourth quarter and maybe the first quarter.

Yes.

Okay.

Yes.

Yes.

Okay.

Thank you.

In Brazil.

Sure.

Yes.

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Jeff Rulis: And then I think, you know, you made some comments earlier to Jim and, in terms of the efficiency of the business, and we look at this, if you stack us up versus peers, our margins near the top of the stack, and efficiency is sort of in the top third as it's reported today, but if you reclass these deposit costs, margin would maybe be in the top 10 or 15%, but efficiency would go right to the top of the chart, roughly 50% in the quarter and lower than that, and then the 40 is here to date. So, you know, it's a Jim's point on returns.

So.

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Jeff Rulis: I mean, I think if we look at it that way, and you just sort of confuse them with and without, it helps you really characterize, you know, how efficient we are truly being in the business and, you know, where we stack up. Obviously, we wouldn't, we don't necessarily publish those results because it belongs in non-interest expense, but just a way for us to gauge, you know, what it would be if that was just truly a commercial deposit, and we were paying an interest rate on it. Gotcha. Yeah. Not second guessing, just trying to get a better handle on it. So, I appreciate the detail.

Yes.

Yes.

Okay.

Okay.

Yes.

Sure.

Jim Lally: Look, maybe just one other topic, just on that, on the loan front, and Jim, I think you mentioned kind of mid single digit, just wanted to make sure that's sort of net of, well, one, I don't be embedded in that as you anticipate more SBA loan sales and would that mid single digit include, is that net of expected sales or? Yeah, that would be, yeah, that would be a net of that.

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Jim Lally: That's what we're predicting. And part of it is it says, you know, not having a whole lot of faith that the CRE market's going to be significant in the first half of 24, that's why we moderate back to that. So, we feel good about that number and being able to do it in a very responsible manner with some high yield there too. Okay, I appreciate that. I'll step back. Thanks.

Andrew Liesch: Your next question is from Andrew Lyshe of Piper Sandler. Please go ahead.

Scott Goodman: Your line is open. Some clarification on the, the nine farmers here. Look, how long have they been on your radar screen, and then look out into the future, and what are you seeing with trends in 30 to 89 day tax dues? Yeah, hi, Andrew.

Okay.

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Scott Goodman: Scott, I can take that one. I mean, I think generally the credit that impacted this quarter represented historically weak operating companies that had been in the system in our process for a while. And I think, you know, I think the amount of movement you saw this quarter kind of reflects the intentionally proactive workout strategy that we're trying to take, you know, get to the table early when there's cash to get a paydown, liquidity to get guarantee payments, to get additional collateral, which, you know, also pushes them through our process faster.

Yes.

Okay.

Okay.

Okay.

Okay.

Scott Goodman: I'm happy to provide more color because I think really the movement, at least the non performers, is just related to three credits this quarter. You know, there was a $19 million commercial real estate developer, leasing company in SoCal, 19 year, or 13 year client of that legacy bank. 16 million of our exposures actually secured adequately secured by margin multi family collateral. There's really just the smaller, unsecured piece, which is driving most of the rating and we're in the process of securing.

Scott Goodman: Dealing. There's $8 million Kansas City-based truck dealership. They deal in specially modified commercial box and delivery trucks. And I think we're in the process of exiting that through either a REFI or a liquidation, which does include, you know, hard assets, owner-occupied commercial real estate. And then $5.5 million ag credit, which is a hog producer, and they're actually under contract to sell prior to your end and pass off. So, you know, I think by just pushing those fairly quickly and getting to the table, we've got decent strategies.

Scott Goodman: I think the other question is what do we see? You know, as we try to read the T-Leaves, you know, I think the major common is we're not seeing signs that this is part of a bigger wave at this point. Total criticize loans, if you take classifieds plus the next level of special mentoring, we're actually down 60 million, this quarter versus last quarter. So, you know, we've exited some of those credits, we've upgraded others.

Scott Goodman: Other trends that we look at past dues are actually down versus the prior quarter. And, you know, we're not seeing abnormally high activity on things like covenant breaks or additional downgrades. So you just look at classifieds and not performers at the levels that they're at today. It's really, you know, similar to what we saw pre-pandemic 2019 and prior.

Scott Goodman: So hopefully that provides a little bit of color. Yeah, absolutely. And obviously, we saw the increase, but I mean, still at that very low level here. And, you know, actually looking at, you touched on pretty much on my other questions. So, I'm in good shape.

Scott Goodman: I'll step back here. Thanks, Heather.

Damon Delmonte: Your next question is from Damon Del Monte of KBW. Please go ahead. Your line is open. Hey, good morning, guys. Hope everybody's doing well today. Just wanted to start off with a question on the outlook for fee income regarding the tax credit line item. Can you break down how much of the $2.7 million loss was rate-related versus realized gains during the quarter? Yeah, I would say that Damon, based on the net, you know, the rate-related loss was like 300% of what was posted.

Damon Delmonte: So, you know, there was good activity in the quarter, as I noted, but with what carried at fair value and how much, you know, so firm move, we just weren't able to, you know, really withstand that. I think we expect some rebound here in the fourth quarter. You know, I've sort of noted by my total guide. And then, you know, look if rates are, are, you know, don't continue to pick up sort of as hard as they have the last couple of years. The passage of time as well as the business activity will drive, you know, better opportunity for next year.

Damon Delmonte: And maybe, you know, that tax credit line item will be able to get to, you know, call it, you know, seven or eight figures again for 2024 with, which is some stability, you know, returning. Got it. So, that seven or eight figure number for 24, the cadence of that is, is it kind of, you know, more realizations in the first and fourth quarters in the second and third or usually seasonally weak?

Damon Delmonte: Is that right? Yeah, I mean, some of it's probably going to be a little bit dependent on what happens with rate. I would still expect it to be driven largely in the fourth quarter just by nature of how the business occurs, you know, with some of the turbulence and some of the business climate issues. I mean, we've been trying to, you know, circulate some of those credits and bulk sail them. And that may, you know, somewhat affect timing, but I would still expect it to be maybe a little bit here in the first quarter of rate film mess with us.

Damon Delmonte: And then, you know, back in loaded for the fourth quarter of 24. Okay, that's helpful. Thank you. And then with regards to the margin outlook and, you know, I think you comment that you expect from what continue drift care from this quarter's level. Can you kind of kind of put some book ends around that? I mean, you think maybe like five to 10 basis points of drift over the next couple of quarters is reasonable before bottoming?

Damon Delmonte: Yeah, and I would just say I don't, you know, I think we think that we can get to, you know, largely level net interest income in the in the quarter. Here, I mean, I think there was some inefficiency and there probably will still be some inefficiency in the balance sheet composition, because we use brokerage CDs, how to really fund a lot of, you know, the growth from the first and second quarter.

Damon Delmonte: So my comments are sort of notwithstanding balance sheet composition, just to similar level at 930. But yeah, I mean, I think we've got, you know, call it three or five basis points of drift. And as I say, that sounds ridiculous that in this environment, I'm guiding three to five basis points. But. Any to the next couple quarters is what we're thinking. And, you know, then we start to have day count in our favor going from one Q to two Q.

Damon Delmonte: And, you know, maybe there's a chance that we can, we can start to grow net interest income again. But we are definitely seeing some stabilization. The last couple of months have been much more stable than they were. And, you know, in fact, September was a little bit higher than then August, but, you know, one month is in the trend. And there's a lot of pieces that drive that. But we're definitely feeling better about it.

Damon Delmonte: We're seeing slowing and cumulative data, even though we expect some continued degradation in the next couple quarters. Got it. And then kind of on the, you know, the flip side with rate here, if the Fed does cut in the back half of 24, I know you guys are pretty out of sensitive. So how do you kind of envision the margin reaction if there is some cuts that happen again in the back.

Damon Delmonte: Yeah, I mean, you know, when you say rate cuts, I mean, I think of that as 25. I mean, I think our view is generally that we expect higher for longer to mean just really stable Fed funds and what we'll be fighting is largely compression. But, you know, down a hundred, we're about 4% asset sense of this. So 25 basis point cut is 1%. You know, I analyze basis and that'll come pretty immediately.

Damon Delmonte: I don't worry as much. You know, we Jeff had pushed on the deposit, specialized deposit cost. We think that those can move very much in line with, you know, any Fed funds cuts. I think what we're maybe the most concerned about is if variable rate proceed or predict on a short term basis, the Fed funds cut because that's where we get the most compression. But just sort of assuming everything's kind of normally timed, you know, we're sort of down roughly 1% on a cut.

Damon Delmonte: And, you know, we think that that's generally an area where we can on a longer term basis outgrow that as long as we don't have, you know, rapid 25 basis points cuts quarter after quarter. Got it. Okay. That's great. Thanks for all the color. Appreciate it. Yeah, you're welcome. Thanks, Damon.

Brian Martin: Your next question is from Brian Martin of Janie. Please go ahead. Your line is open.

Keene Turner: Hey, good morning, everyone. Keene, just one last on the margin. So it sounds like the margin maybe bottoms next quarter. First quarter is kind of, I heard the comments on NII, Latin and maybe down a little bit with the day count, but on the margin percentage, the drift is next couple of quarters if we're kind of stable from a fed environment? Yeah, I will just say this. I mean, we're really thinking about it on an interest income dollars basis because we've got a weighted average life of eight months on the broker portfolio and we're trying to make it a priority to really get that largely paid down.

Keene Turner: So, you know, you could get two, three, four, five basis points just from inefficient, you know, balance sheet, you know, lower risk but inefficient and I don't want to just be too firm on that. But we generally feel like margin is getting firmer but still drifting and, you know, sometime in the first half of next year, you know, we're starting to feel better about it. And I think if we're able to get, you know, good, you know, decent, long growth in that period, I think we, you know, we're optimistic that we can, you know, stabilize profitability and, you know, then start to grow in the back half.

Keene Turner: But yeah, I think, you know, call it, you've got some weird day count stuff going on. You could kind of see first quarter margin better than, you know, fourth quarter, depending on what happens, but then it deteriorates in second quarter just with some of that, you know, 30, 360, 365 stuff on the portfolio. Gotcha. Okay.

Keene Turner: And then how about just on the, I think I don't know if maybe someone answered that, but the, on the SBA gains this quarter with the sales, do you guys expect to do more of that? Or is that, you know, you haven't done it up until now, so just kind of wondering how to think about that with your commentary on fee income? Yeah, I would say Brian, the reason we did it this quarter is, you know, we, with the strong growth we had in the second quarter, we started looking at, you know, how to fund everything and, you know, what, what we thought was important to investors, and we thought, you know, kind of growing net customer funding relative to long growth was important.

Keene Turner: And, you know, it's a highly saleable class of assets, and we had the opportunity to clear some headway there and sell some of the recent production with fourth quarter being what we would expect to be seasonally strong. I wouldn't expect fourth quarter SBA sales, but I would say that depending on how growth looks in, you know, the early part of next year and how, you know, the fee line items look, we, and overall funding and costs are shaping up.

Keene Turner: You know, we, you know, view that as a play option, and we may do it, but we'd likely be sensitive to when we get some of the other periodic impacts from, you know, private equity, CDE, tax credit, and those types of businesses. Okay, just kind of help smooth out some of the volatility within the quarters. Yeah, potentially. Now, look, if we're growing deposits well, and there's, there's no pressure really on the funding growth.

Keene Turner: I mean, I think the best strategy versus cash is to keep those loans on the balance sheet with their profile. But if you're trading off high, other high yield loans that you're, you know, maybe not doing because you're, you know, you want to make sure that you're hitting the right funding profile, then I think that, you know, that becomes a much more viable option. So we'll continue to advise you on that. But it's certainly more, more on the forefront and something that I'd say is, you know, equally weighted 50-50 versus maybe no way coming into this year. Gotcha. Okay, that's helpful.

Keene Turner: And just last two on the expense side, you know, Keene, you talked about the deposit question in general, what do you, you know, those sound like they're up a bit more for Keene, then maybe they begin the kind of the pace of increased lessons, but just as far as the other, if that's right, and then the other, how are you thinking about increases elsewhere, just inflationary as we look into next year for kind of the comp line, just the collectively the other lines. Yeah, I would say, Brian, that we're trying to be very, very thoughtful about managing both the short and the intermediate terms.

Keene Turner: So we don't want to do things that impair the business. I think you heard from Scott, you know, we hired a new president in our San Diego region and some of those things. And so we're going to continue to make the right long term move. We're going to continue to invest in our associates and technology and training, but we're mindful of the, you know, sort of the operating leverage that we've lost here along the last couple quarters.

Keene Turner: And we're trying to manage at the best weekend. So we're going to apply, you know, the normal discipline. I mean, I think you can see it here from, you know, first, the second, the third quarter that we're being fairly tight on spending. And I think there's some opportunities to pay for what we'll call compensation and raises and things like that next year with some discipline on, on other types of expenses, but we're going to be mindful that, you know, we're in a position where even with the provision this quarter, we're still earning well.

Keene Turner: And we don't want to just try to hit a number that then ultimately becomes a lower number in future periods because we're not able to grow or we're not able to restart businesses or things like that. So I think you heard that from Jim, but I think it bears out on expenses. You know, that's our mantra and we're really trying to be, you know, as disciplined as we can. And maybe that's, you know, less adding than we would have in prior periods, but I don't, you know, we're not, you're not going to hear from us any big initiatives very likely or anything like that.

Keene Turner: Just continue discipline across the board as much as we can. God, you know, in your comments about the efficiency and kind of adjusting for the deposits, I mean, the 56 were at today that feels like a sustainable level now given kind of what you expect on those deposits cost trends. I mean, I know it's gone up, but when you adjust them, it's obviously much better relative to the peer and industry, but it's kind of the efficiency in general that that level we're at is it just higher from here or say bullish.

Keene Turner: I think it's slightly higher, you know, it's kind of increasing, but out of decreasing rate, just like we expect that line item to behave. I think the rate, you know, sort of pricing impact on the, you know, that line that kind of earnings credit rate, I think we don't expect to move as much. And so, again, I think it's trend and underlying balances and collective balances and things like that that continues to have that grow over time.

Keene Turner: And, you know, I think part of it is just how, you know, how quickly can we get, you know, margin to sort of net interest income, I gotta say trend direct away from margin. Net interest income to sort of stabilize and build off that base. And I think that obviously is a big driver for what happened. I mean, I think we would have had, you know, we would have really loved to have that tax credit line item be zero or slightly positive. The quarter would have looked, you know, a lot different on a pre provision and on operating revenue basis, but, you know, that's life and then I'll come back to us over time. Yeah, gotcha.

Scott Goodman: And last one, if I can speak it in maybe just for Scott, the utilization in the quarter was down a lot. I guess, do you expect that to continue to trend a bit lower is that feel like you're kind of getting to a bottom, just wondering what you think on the utilization side. Relative to your comments on, you know, Jim's comments on loan growth, kind of still feeling comfortable, pretty healthy loan growth.

Scott Goodman: Yeah, I agree. I think it's more of just how existing clients are opting to use their existing cash. You know, I don't think it's going to be an ongoing pressure point. I think if you just look historically, it's kind of up and down, but within a pretty narrow range of, you know, two or three percent. So I think it's just a function of what happened this quarter. I don't think it's going to impair the business long term. Gotcha. Okay. Thanks. Scott, I appreciate the color, guys.

Operator: There are no further questions at this time.

Jim Lally: I will now turn the call over to Jim Lally for closing remarks. Well, thank you. And thank everybody for joining us this morning. And thank you for your interest in our company. And we look forward to speaking to you again. It'll be first part of 2025. Have a great day.

Operator: This concludes today's conference call. Thank you for your participation. You may now disconnect.

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