Q4 2023 Enterprise Financial Services Corp Earnings Call

January 23, 2024

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Thank you for standing by the Enterprise Financial Services Corp, fourth quarter 2023 earnings conference call will begin momentarily.

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Speaker Change: Thank you for standing by and welcome to the Enterprise Financial Services Corps Fourth Quarter 2023 Earnings Conference.

Speaker Change: Thank you for standing by and welcome to the Enterprise Financial Services Corp, Fourth quarter 2023 earnings Conference call I would now like to welcome Jim Lally, President and CEO to begin the call.

Speaker Change: I would now like to welcome Jim Lally, President and CEO, to begin the

James B. Lally: Jim over to you.

Jim: Jim over to you.

James B. Lally: Well, thank you Monday and thank you all very much for joining us This morning, and welcome to our 2023 fourth quarter earnings call. Today is January 23, 2024, and joining me. This morning is Keene Turner <unk>, Chief Financial Officer, and Chief Operating Officer, Scott Goodman, President of Enterprise Bank and Trust and Doug <unk> Chief.

James B. Lally: Thank you, Mandeep, and thank you all very much for joining us this morning, and welcome to our 2023 Fourth Quarter Earnings Call. Today is January 23, 2024, and joining me this morning is Keene Turner, EFSC's Chief Financial Officer and Chief Operating Officer, Scott Goodman, President of Enterprise Bank & Trust, and Doug Bauke, Chief Credit Officer for Enterprise Bank & Trust.

James B. Lally: Credit Officer for Enterprise Bank and trust.

James B. Lally: 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.

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.

James B. Lally: The presentation and earnings release were furnished on SEC form 8K yesterday. Please refer to slide 2 of the presentation titled Forward-Looking Statement.

James B. Lally: Presentation and earnings release were furnished on SEC form 8-K yesterday. 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.

James B. Lally: 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.

James B. Lally: The fourth quarter once again showed the strong earnings power of our company despite the manifestation of a few credit challenges that we experienced.

James B. Lally: The fourth quarter. Once again showed the strong earnings power of our company. Despite the manifestation of a few credit challenges that we experienced diluted earnings per share for the quarter was $1 16.

James B. Lally: Deluded earnings per share for the quarter was $1.16 versus $1.17 in the third quarter and $1.58 in the fourth quarter of 2022.

James B. Lally: Versus $1 17 in the third quarter and $1 58 in the fourth quarter of 2022.

James B. Lally: Before I get into some of the highlights of a very strong quarter and year, I would like to briefly address the elevated level of charge-offs that we experienced during the quarter.

James B. Lally: Before I get into some of the highlights, but a very strong quarter and year I would like to briefly address the elevated level of charge offs that we experienced during the quarter.

James B. Lally: Two relationships that we charged off during the quarter could be described as extraordinary and uncharacteristic,

James B. Lally: Two relationships that we charged off during the quarter can be described as extraordinary an uncharacteristic.

James B. Lally: My first such credit was an agricultural loan, which we believe was an isolated incident that was not directly related to our credit underwriting.

James B. Lally: The first such credit was an agricultural loan, which we which we believe was an isolated incident that was not directly related to our credit underwriting.

James B. Lally: There were irregularities in the financial information provided by the borrower that masked the challenges it was facing and ultimately covered up a $13 million collateral shortfall.

James B. Lally: In the fourth quarter, we placed the full $16 million relationship on non-performing status.

James B. Lally: In the fourth quarter, we placed the full $16 million relationship on nonperforming status and correspondingly charged off the $13 million shortfall. Additionally, we are taking the appropriate actions and utilizing all available resources to recover what we can for the remaining $3 million outstanding we stopped originating new credit relationships in the aggregate.

James B. Lally: Correspondently charged off a $13 million shortfall.

James B. Lally: Additionally, we are taking the appropriate actions and utilizing all available resources to recover what we can for the remaining $3 million outstanding.

James B. Lally: We have stopped originating new credit relationships in the agricultural space and will wind down this approximately $200 million portfolio over the next few years.

James B. Lally: Cultural space and will wind down. This this is approximately $200 million portfolio over the next few years.

James B. Lally: We have our team engaged and we are actively conducting thorough reviews of each relationship, including physical farm inspections, and even more extensive collateral feel audits to reinforce our confidence in the balance of the portfolio.

James B. Lally: We have our team engaged and we are actively conducting thorough reviews of each relationship, including physical farm inspections and even more extensive collateral field audits to reinforce our confidence in the balance of the portfolio.

James B. Lally: will be engaging a third party to validate these findings to ensure that we do not have any other similar situations to this.

James B. Lally: We'll be engaging a third party to validate these findings to ensure that we do not have any other similar situations to this one.

James B. Lally: Our initial review provides comfort with respect to the health of the remainder of the portfolio.

James B. Lally: Okay.

James B. Lally: The other major loss that we experienced in the quarter was related to a $10 million unsecured credit exposure that was part of a first choice legacy relationship to our southern California commercial real estate investor.

James B. Lally: The other major loss that we experienced in the quarter was related to a $10 million unsecured credit exposure that was part of a first-choice legacy relationship to a Southern California commercial real estate institution.

James B. Lally: After several unsuccessful attempts to find suitable collateral to shore up this credit and the borrower's inability to keep payments current, we took this unfortunate but appropriate action to charge off this credit.

James B. Lally: After several unsuccessful attempts to find suitable collateral sharp this credit and the borrowers inability to keep payments current we took this unfortunate but appropriate action to charge off this credit.

James B. Lally: $3 million of this was identified and reserved for in the third quarter, with the remaining $7 million reserved in the fourth quarter. We ultimately charged off the full $10 million unsecured portion.

James B. Lally: $3 million of this was identified and reserved for in the third quarter with the remaining $7 million reserved in the fourth quarter. We ultimately charged off the full $10 million unsecured portion we will continue to pursue all remedies for any sort of recovery.

James B. Lally: We will continue to pursue all remedies for any sort of recovery.

James B. Lally: The remainder of our loan portfolio has performed as we anticipated.

James B. Lally: Overall, classified loans remained stable in the quarter, and NPLs declined over 10% to $43 million, while classified loans to capital held steady at 10% at year-end.

James B. Lally: Overall classified loans remained stable in the quarter and Npls declined over 10% to $43 million, while classified loans the capital held steady at 10% at year end.

James B. Lally: Delinquencies were well controlled at year end at only 15 basis.

James B. Lally: <unk> were well controlled at year end at only 15 basis points.

James B. Lally: Entering 2024, I'm confident in our ability to deliver asset quality results that are in line with our historically strong performance.

James B. Lally: Despite this unusual level of charge-offs and appropriate increase to our provision expense, our company delivered very strong financial results for both the fourth quarter and the entirety of 2023.

James B. Lally: Despite this unusual level of charge offs and appropriate increase to our provision expense our company delivered very strong financial results for both the fourth quarter and the entirety of 2023. The summary of this begins on slide three.

James B. Lally: A summary of this begins on slide three.

James B. Lally: Keene will provide much more detail on our quarterly and full-year financial performance in his comments, but ahead of these, I would like to provide a few highlights.

Jean will provide much more detail on our quarterly and full year financial performance in his comments, but ahead of these I would like to provide a few highlights.

James B. Lally: Our strong financial performance continued during the fourth quarter. We earned net income of $44.5 million, or $1.16 per diluted share, and we produced a ROAA of 1.28% and a PPNR ROA of 2.10%.

James B. Lally: Our strong financial performance continued during the fourth quarter, we earned net income of $44 5 million or one point.

James B. Lally: A $1 16 per diluted share and we produced a R O a a of 128% and a P. P. N R O a of $2 one zero percent.

James B. Lally: ROTC2 improved when compared to the third quarter, increasing to 14.98% compared to 14.49%.

James B. Lally: Our OTC to improve when compared to the third quarter, increasing to $14 nine 8% compared to $14 49%.

James B. Lally: These results reflect a robust earnings profile that allowed us to absorb some deterioration in credit during the quarter combined with our strong reserves and balance sheet. We remain positioned to operate as we have in the past. This means both delivering returns to shareholders. While also supporting the needs of existing and new clients the ability.

James B. Lally: These results reflect a robust earnings profile that allowed us to absorb some deterioration in credit during the quarter. Combined with our strong reserves and balance sheet, we remain positioned to operate as we have in the past. This means both delivering returns to shareholders while also supporting the needs of existing and new clients.

James B. Lally: The ability to continue to fulfill the loan needs of these clients and prospects continues to open up channels of deposit growth as well.

James B. Lally: <unk> to continue to fulfill the loan needs of these clients and prospects continues to open up channels of deposit growth as well.

James B. Lally: Like in years past, we experienced our typical fourth quarter strength in loan growth.

James B. Lally: Like in years past, we experienced our typical fourth quarter strength in loan growth for the quarter loans increased $267 million or 10% annualized as important we again were able to fund this growth with our client deposits, which increased by $479 million in the quarter after netting out the reduction in brokerage Cds.

James B. Lally: For the quarter, loans increased $267 million, or 10% annualized. As important, we again were able to fund this growth with our client deposits, which increased by $479 million in the quarter after netting out the reduction in brokerage CDs.

James B. Lally: Yes.

James B. Lally: We finished the year with a loan to deposit ratio of 89.4% and our ratio of DDA to total deposits came in at 32.5%.

James B. Lally: We finished the year with a loan to deposit ratio of 89, 4% and our ratio of DDA to total deposits came in at 32, 5%.

James B. Lally: A couple of things worth mentioning regarding these results.

James B. Lally: A couple of things worth mentioning regarding these results first we are seeing all markets and businesses contributing to these numbers. Unlike in years past, we are not relying on any one or two markets our businesses to achieve this diversity diversification. Both in terms of geography and revenue has been intentional and the fruits of these investments continue.

James B. Lally: First, we are seeing all markets and businesses contributing to these numbers. Unlike in years past, we are not relying on any one or two markets or businesses to achieve. This diversification, both in terms of geography and revenue, has been intentional, and the fruits of these investments continue to manifest themselves in our financial results.

James B. Lally: To manifest themselves in our financial results.

James B. Lally: Secondly,

James B. Lally: <unk>.

James B. Lally: Post the March banking crisis, we set a goal to fund our second half loan growth with client deposits.

James B. Lally: Post the March banking crisis, we set a goal to fund our second half loan growth of client deposits.

James B. Lally: Not only did we do this, but we just about funded the entire year's loan growth with our second half success.

James B. Lally: Not only did we do this well we just about funded the entire year's loan growth with our second half success we.

James B. Lally: We also set a goal to keep the percentage of DDA to total deposits north of 30% and we accomplished this too.

We also set a goal to keep the percentage of DDA to total deposits north of 30% and we accomplished this too.

James B. Lally: Finally, we believe that we have relatively stabilized NII, which means that our daily net interest income has remained stable the last several months.

James B. Lally: Scott will give much more color on the markets and the businesses where we saw continued success, but I am encouraged that we will be able to fund our mid-single-digit loan growth in 2024 with well-priced, relationship-oriented client deposits.

Scott will give much more color on the markets and the businesses, where we saw continued success, but I am encouraged that we will it will be able to fund our mid single digit loan growth in 2024 with well priced relationship oriented client deposits.

James B. Lally: Moving onto capital.

James B. Lally: Moving on to capital.

James B. Lally: balance sheet remains strong and positioned for continued growth. Capital levels at quarter end remain stable and strong with our TCE to TA ratio at 8.96 percent.

James B. Lally: 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 at 896% tangible book value per common share at year end was $33 85.

James B. Lally: Tangible book value per common share at year-end was $33.85. This is an increase of 18% in 2023 and is due to our strong earnings and return profile.

James B. Lally: This is an increase of 18% in 2023 and is due to our strong earnings and return profile.

James B. Lally: Before I move on to where we will be focused in 2024, I want to reiterate that the strength of our earnings profile generates pre-provisioned earnings that have averaged over $70 million per quarter this year. This provides a significant buffer to absorb credit issues before ever touching our loan loss reserves or capital that are also at very strong levels, particularly when considering the short duration of our loan portfolio.

James B. Lally: Before I move on to where we will be focused in 2024, I want to reiterate that the strength of our earnings profile generates pre provision earnings that have averaged over $70 million per quarter. This year. This provides a significant buffer to absorb credit issues before ever touching our loan loss reserves or capital that are also very very strong levels.

James B. Lally: Particularly when considering the short duration of our loan portfolio.

James B. Lally: Slide 5 shows where we are focused for the foreseeable future.

James B. Lally: Slide five shows where we are focused for the foreseeable future.

James B. Lally: Just like we've done in the second half of 2023, we will continue to be focused on funding future loan growth with client deposits.

James B. Lally: Just like we've done 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. We will stay focused on continually improving our performance in all our business lines and markets.

James B. Lally: Additionally, I'm confident that we can continue to improve shareholder value through the execution of our strategy.

James B. Lally: We will stay focused on continually improving our performance in all our business lines and markets.

James B. Lally: This combined with improved credit performance and continued steadfast expense management should consistently produce strong earnings amid the current economic and rate environment that we are in.

James B. Lally: This combined with improved credit performance and continued steadfast expense management should consistently produced strong earnings amid the current economic and rate environment that we're in.

James B. Lally: My optimism for our prospects stems both from my confidence in our business model careful review of our loan portfolio and the optimism that I continue to hear from our clients.

James B. Lally: My optimism for our prospects stems both from my confidence in our business model, careful review of our loan portfolio, and the optimism that I continue to hear from our clients.

James B. Lally: One final note. Throughout 2024, we'll be working on a core system conversion. After 35 years on the same system, this upgrade will further improve our efficiency in many areas while also improving the quality and accessibility of our data.

James B. Lally: One final note throughout 2024, we will be working on of course system conversion. After 35 years on the same system. This upgrade will further improve our efficiency in many areas, while also improving the quality and accessibility of our data.

James B. Lally: With that, I would like to turn the call over to Scott Goodman.

James B. Lally: With that I would like to turn the call over to Scott Goodman Scott.

Scott Richard Goodman: Thank you, Jim, and good morning, everyone.

Thank you Jim and good morning, everyone.

Scott Richard Goodman: As you heard from Jim, Q4 loan and deposit growth was strong, pushing us to double-digit annual growth for both categories in 2023.

As you heard from Jim Q4 loan and deposit growth was strong pushing us to double digit annual growth for both categories in 2023.

Scott Richard Goodman: These results are significant, not just based on the magnitude of the growth, but also in considering that they're fully organic and highly diversified across geographic markets and specialty businesses.

James B. Lally: These results are significant not just based on the magnitude of the growth, but also in considering that they are fully organic.

James B. Lally: And highly diversified across geographic markets and specialty business lines.

James B. Lally: Loans, which are highlighted on slides eight and nine were up 115 billion or 12% for the year with most major categories of the portfolio contributing materially to this growth.

Scott Richard Goodman: Loans which are highlighted on slides 8 and 9 were up 1.15 billion or 12% for the year with most major categories of the portfolio contributing materially to this growth.

James B. Lally: For the quarter broken out on slide nine loans Rose 267 million contributing 23% of our growth for the year and up 157% from the prior quarter displaying that traditional seasonal lift which is characteristic of our portfolio.

Scott Richard Goodman: For the quarter, broken out on slide 9, loans rose $267 million, contributing 23% of our growth for the year and up 157% from the prior quarter.

Scott Richard Goodman: explain the traditional seasonal lift which is characteristic of our portfolio.

Scott Richard Goodman: CNI was a standout this quarter, benefiting from several significant new client relationships and elevated usage on revolving lines of credit.

James B. Lally: C&I was a standout this quarter benefiting from several significant new client relationships and elevated usage on revolving lines of credit.

James B. Lally: Specialized loan growth was helped by strong seasonal performance in the life insurance premium finance and tax credit lines of business.

Scott Richard Goodman: Specialized loan growth was helped by strong seasonal performance in the life insurance, premium finance, and tax credit lines of business.

Scott Richard Goodman: In premium finance, we continue to originate steady closings on new policy loans from our referral network.

James B. Lally: In premium finance, we continue to originate steady closings on new policy loans from our referral network.

Scott Richard Goodman: and experienced the typical Q4 uptick in premium payments due for the existing policy.

James B. Lally: And experienced the typical Q4 uptick in premium payments due for the existing policies.

Scott Richard Goodman: Advances on affordable housing projects and process accounted for the majority of the increase in the tax credit portfolio.

James B. Lally: Advances on affordable housing projects and process accounted for the majority of the increase in the tax credit portfolio.

Scott Richard Goodman: For Q4, SBA came in somewhat below expectations.

James B. Lally: For Q4, SBA came in somewhat below expectations down $27 million.

Scott Richard Goodman: Down $27 million

Scott Richard Goodman: do mainly to slower execution of the pipeline and elevated prepainting.

James B. Lally: Due mainly to slower execution of the pipeline and elevated prepayments.

Scott Richard Goodman: Prepayments continue to be stressed by the higher rate environment.

James B. Lally: Prepayments continue to be stressed by the higher rate environment.

Scott Richard Goodman: and we remain committed to our high credit standards and focus on owner-occupied real estate secured loans.

James B. Lally: And we remain committed to our high credit standards and focus on owner occupied real estate secured loans.

Scott Richard Goodman: Much of the lagged pipeline is expected to push into Q1.

James B. Lally: Much of the lagged the pipeline is expected to push into Q1 and gross production remains relatively consistent but.

Scott Richard Goodman: Gross production remains relatively consistent.

Scott Richard Goodman: Pay down, continue to be ahead.

James B. Lally: But paydowns continue to be a headwind.

Scott Richard Goodman: The Sponsored Finance book posted a modest decline in the quarter as activity slowed in general in this space during Q4.

James B. Lally: The sponsor finance book posted a modest decline in the quarter as actively slowed in general in this space activity slowed in general in this space during Q4.

James B. Lally: Following robust activity in the first half of the year private equity has slowed their pace of acquisition to digest this activity and to consider the impact and direction of the interest rate environment on their pipeline opportunities.

Scott Richard Goodman: Following robust activity in the first half of the year, private equity has slowed their pace of acquisition to digest this activity and to consider the impact and direction of the interest rate environment on their pipeline operations.

Scott Richard Goodman: We're also taking a disciplined approach to sponsors and to credit structures in this segment, and we would expect these factors to moderate the growth rate in the coming year.

James B. Lally: We're also taking a disciplined approach to sponsors and to credit structures. In this segment and we would expect these factors to moderate the growth rate in the coming year.

James B. Lally: Moving to slide 10.

Scott Richard Goodman: Moving to slide 10.

Scott Richard Goodman: Loan portfolios posted growth across all major regions for the year and in the current quarter.

Loan portfolios posted growth across all major regions for the year and in the current quarter.

James B. Lally: Specialty lending was up modestly for the quarter related to the aforementioned niche business lines.

Scott Richard Goodman: Specialty Lending was up modestly for the quarter related to the aforementioned niche business line.

Scott Richard Goodman: as well as continued growth in the practice finance vertical, which was up $12 million in Q4 and $81 million for the full year of 2023.

As well as continued growth in our practice finance vertical which was up $12 million in Q4 and $81 million for the full year of 2023.

James B. Lally: Yeah.

Scott Richard Goodman: In the Midwest, St. Louis and Kansas City portfolios were up 78 million or nearly 10% annualized.

James B. Lally: In the Midwest, St. Louis and Kansas City portfolios were up $78 million or nearly 10% annualized showing balanced growth between increased line usage.

Scott Richard Goodman: showing balanced growth between increased line usage

Scott Richard Goodman: Fundings on Construction and Process, and New Loan Origination.

James B. Lally: Fundings on construction in process and new loan originations.

Scott Richard Goodman: Notable deals this quarter include a new relationship with a middle market construction materials provider and two new loan facilities with long-time relationships in the hospitality and business finance industries.

James B. Lally: Notable deals this quarter include a new relationship with a middle market construction materials provider and two.

James B. Lally: New loan facilities with long time relationships in the hospitality and business Finance industries.

Scott Richard Goodman: In the Southwest, the combined markets grew $102 million in Q4 and 26% for the full year of 2023.

James B. Lally: In the southwest the combined markets grew $102 million in Q4, and 26% for the full year of 2023.

Scott Richard Goodman: Results for the quarter were bolstered by elevated new origination.

Our results for the quarter were bolstered by elevated new originations as well as additional fundings on existing construction projects in process.

Scott Richard Goodman: as well as additional funding on existing construction projects and processes.

Significant new loans include new relationships with Premier Middle market electric contractor and a specialty precision parts manufacturer in Phoenix as well as large well established general contractor in Las Vegas.

Scott Richard Goodman: Significant new loans include new relationships with a premier middle market electric contractor and a specialty precision parts manufacturer in Phoenix.

Scott Richard Goodman: as well as large well-established general contractor in Las Vegas.

Scott Richard Goodman: In our western region of Southern California, loan balances were up by $58 million in Q4 to round out a year in which we grew this portfolio by 9.5%.

In our western region of Southern California loan balances were up by $58 million in Q4 to round out a year in which we grew this portfolio by nine 5%.

Scott Richard Goodman: The increase this quarter is primarily related to success by our recent talent addition.

James B. Lally: The increase this quarter primarily related to success. They are recent talent additions onboarding, a number of new relationships, including companies in the specialty food production business.

Scott Richard Goodman: onboarding a number of new relationships

Scott Richard Goodman: including companies in the specialty food production business, financial services, and manufacturing space.

James B. Lally: Actual services and manufacturing spaces.

Scott Richard Goodman: We also continue to expand legacy relationships in this book with new loans to top tier clients in the franchise and commercial real estate sectors.

James B. Lally: We also continued to expand legacy relationships in this book with new loans to top tier clients in the franchise and commercial real estate sectors.

James B. Lally: Moving now to deposits on slides 11 and 12.

Scott Richard Goodman: Moving now to deposits on slides 11 and 12.

Scott Richard Goodman: Total deposit balances were up $266 million for the quarter.

James B. Lally: Total deposit balances were up $266 million for the quarter.

Scott Richard Goodman: and 1.3 billion or 12.4% year over year.

James B. Lally: And $1 3 billion or 12, 4% year over year.

Scott Richard Goodman: Breaking this down, non-interest bearing DDA accounts were down year over year by $684 million.

James B. Lally: Breaking this down noninterest bearing DDA accounts were down year over year by $684 million with interest bearing DDA accounts up by a similar amount due mainly to the remixing behavior of depositors precipitated by accelerated rate increases throughout 2023.

Scott Richard Goodman: with interest-bearing DDA accounts up by a similar amount due mainly to the remixing behavior of depositors precipitated by accelerated rate increases throughout 2023.

Scott Richard Goodman: In the quarter, however, noninterest-bearing DDA balances grew by $107 million.

James B. Lally: In the quarter, however, noninterest bearing DDA balances grew by $107 million relating to success of Onboarding, new CNI commercial banking relationships.

Scott Richard Goodman: relating to success of onboarding new CNI commercial banking relationships.

Scott Richard Goodman: increased property management and third-party escrow accounts,

James B. Lally: Increased property management, and third party escrow accounts as well as some seasonal cash build.

Scott Richard Goodman: as well as some seasonal cash

James B. Lally: Deposit growth by region is broken out on slide 13.

Scott Richard Goodman: The positive growth by region is broken out on slide 13.

Scott Richard Goodman: We grew client balances, net of specialty deposits, and brokered CDs in the quarter by $394 million.

James B. Lally: We grew client balances net of specialty deposits and brokered Cds in the quarter by $394 million.

Scott Richard Goodman: with growth being spread throughout the geographic footprint and across all

James B. Lally: With growth being spread throughout the geographic footprint and across all regions.

James B. Lally: Higher growth was experienced in the Midwest, mainly mainly relating to the larger C&I books in our Kansas City and St. Louis markets, the highlighted as well by several large new C&I deposit relationships.

Scott Richard Goodman: Higher growth was experienced in the Midwest, mainly relating to the larger CNI books in our Kansas City and St. Louis markets, but highlighted as well by several large new CNI

James B. Lally: In the west and southwest regions higher balances reflect the impacts of new relationships as well as a focused effort to attract new funds through the consolidation of balances from our existing clients.

Scott Richard Goodman: In the West and Southwest regions, higher balances reflect the impacts of new relationships in the West and Southwest regions.

Scott Richard Goodman: as well as a focused effort to attract new funds through the consolidation of balances from our existing clients.

James B. Lally: Specialty deposits grew $85 million in the quarter and are broken out in more detail on slide 14.

Scott Richard Goodman: Specialty deposits grew $85 million in the quarter and are broken out in more detail on slide 14.

James B. Lally: The increases this quarter were mainly within the property management and third party escrow segments. As we continue to expand these lines of business with new accounts and new relationships.

Scott Richard Goodman: The increases this quarter were mainly within the property management and third-party escrow

Scott Richard Goodman: as we continue to expand these lines of business with new accounts and new relationships.

James B. Lally: Q4 is typically a seasonally softer growth quarter in the community Association line of expenses are paid and new accounts began to be opened which will then signed up as assessments are collected during Q1.

Scott Richard Goodman: Q4 is typically a seasonally softer growth quarter in the community association line as expenses are paid and new accounts begin to be opened.

Scott Richard Goodman: which will then send up as assessments are collected during Q1.

James B. Lally: Yes.

Scott Richard Goodman: Additional detail on the core funding mix and the account activity is shown on slide

James B. Lally: Additional detail on the core funding mix and the account activity as shown on slide 15.

James B. Lally: The majority of our growth this quarter as bandwidth the commercial account base, which generally represents relationship based balances, 80% of which are treasury management clients.

Scott Richard Goodman: Majority of our growth this quarter has been with the commercial account.

Scott Richard Goodman: This generally represents relationship-based balance.

Scott Richard Goodman: 80% of which are treasury management

Scott Richard Goodman: And while we have seen the aforementioned mixed shift from DDA into interest-bearing options, the pace of this activity has slowed.

James B. Lally: And while we have seen the aforementioned mix shift from DDA into interest bearing options. The pace of this activity has flowed.

Scott Richard Goodman: 37% of our total balances still reside in non-interest-bearing accounts.

James B. Lally: 37% of our total balances still reside in noninterest bearing accounts.

Scott Richard Goodman: The underlying account activity also continues to trend favorably and reflect our intentional and elevated efforts toward emphasizing core deposits.

James B. Lally: The underlying account activity also continues to trend favorably and reflect our intentional and elevated efforts towards emphasizing core deposits with new accounts opened exceeding closed accounts.

Scott Richard Goodman: with new accounts open exceeding closed accounts.

Scott Richard Goodman: and that balance increases when comparing new accounts to closed accounts across all channels.

James B. Lally: And that balanced increases when comparing new accounts to close accounts across all channels.

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

Keene S. Turner: Thanks, Scott, and good morning, everyone. My comments begin on slide 16, where we reported earnings per share of $1.16 in the fourth quarter on net income of $45 million.

Keene S. Turner: Thanks, Scott and good morning, everyone. My comments begin on slide 16, where we reported earnings per share of $1 16 in the fourth quarter on net income of $45 million.

Keene S. Turner: Excluding the impact of the FDIC special assessment, EPS was $1.21 per share, an increase from the third quarter.

Keene S. Turner: Excluding the impact of the FDIC Special assessment EPS was $1 21 per share an increase from the third quarter.

Keene S. Turner: Net interest income in the quarter was relatively stable, earning asset growth and disciplined pricing on loans and deposits, mostly offset the increase in interest expense in the quarter due to the deposit remix thing and rate changes.

Keene S. Turner: Net interest income in the quarter was relatively stable, earning asset growth and disciplined pricing on loans and deposits mostly offset the increase in interest expense in the quarter due to the deposit remixing and rate change.

Keene S. Turner: The income was seasonally higher, which is typical in the fourth quarter, and was the primary driver of the increase in operating revenue.

Keene S. Turner: Fee income was seasonally higher which is typical in the fourth quarter and was the primary driver of the increase in operating revenue.

Keene S. Turner: The provision for credit loss is increased for the quarter, as Jim discussed, driven by net charge-off and loan growth.

The provision for credit losses increased for the quarter as Jim discussed driven by net charge offs and loan growth.

Keene S. Turner: and non-interest expense with higher in the current quarter, mostly due to the FDIC special assessment.

Keene S. Turner: Noninterest expense was higher in the current quarter, mostly due to the FDIC special assessment.

Keene S. Turner: Overall, pre-provision net revenue of $76 million for the quarter increased $11 million or 16% from the third quarter.

Keene S. Turner: Overall pre provision net revenue of $76 million for the quarter increased $11 million or 16% from the third quarter.

Keene S. Turner: For the full year, free provision net revenue was $285 million, an increase of 10% from 2022.

Keene S. Turner: Full year pre provision net revenue was $285 million, an increase of 10% from 2022.

Keene S. Turner: Pre-provision net revenue is up 12% in 2023, and when you consider that pre-provision net revenue in 2022 included $5 million of PPP income that did not repeat this year.

Keene S. Turner: Pre provision net revenue was up 12% in 2023, and when you consider that pre provision net revenue in 2022 included $5 million of TPP income that did not repeat this year.

Keene S. Turner: This continues to reflect the strength of our earnings profile and our ability to generate capital to support balance sheet growth.

Keene S. Turner: Turning to slide 17.

Keene S. Turner: Turning to slide 17, net interest income for the fourth quarter of 2023 was $141 million, which was a decrease of less than a million dollars compared to the linked quarter.

Keene S. Turner: Net interest income for the fourth quarter of 2023 was $141 million, which was a decrease of less than $1 million compared to the linked quarter.

Keene S. Turner: Interest income increased $6.2 million in the fourth quarter, driven mainly by continued loan growth and higher rates on portfolio loans.

Keene S. Turner: Interest income increased $6 2 million in the fourth quarter, driven mainly by continued loan growth and higher rates on portfolio loans.

Keene S. Turner: Cash levels also increased modestly as a result of strong customer funding and added $1 million to interest income.

Keene S. Turner: Loan yields increased seven basis points, while average balances were higher by more than $160 million.

Keene S. Turner: The average interest rate on new loan originations in the fourth quarter of 2023 was 7.95%, and the most recent month's loan yield is just under 7% overall.

Keene S. Turner: The average interest rate on new loan originations in the fourth quarter of 2023 was 795% and the most recent month loan yield is just under 7% overall.

Keene S. Turner: More details follow on slide 18.

Keene S. Turner: More detailed follow on slide 18.

Keene S. Turner: Interest expense growth slightly outpaced growth in interest income in the quarter. Customer deposit balance has increased nearly $480 million in the quarter.

Keene S. Turner: Interest expense growth slightly outpaced growth in interest income in the quarter customer deposit balances increased nearly $480 million in the quarter.

Keene S. Turner: This additional funding allowed us to reduce broker deposits by $213 million.

Keene S. Turner: The balanced growth was coupled with a 19 basis point increase in the cost of deposits, which was half the increase we observed in the previous quarter.

Keene S. Turner: The balance growth was coupled with a 19 basis point increase in the cost of deposits, which was half the increase we observed in the previous quarter.

Keene S. Turner: With that said, the total cost of deposits was 2.03% in the fourth quarter and only slightly higher at 2.07% in the most recent months.

With that said the total the cost of deposits was 2.0% to 3% in the fourth quarter and only slightly higher at 2.07% in the most recent month the deposit pricing performance is aided by overall DDA percentage remaining at approximately 33%.

Keene S. Turner: The deposit pricing performance is aided by overall DDA percentage remaining at approximately 33%.

Keene S. Turner: The resulting net interest margin was 4.23% in the fourth quarter of 2023, a decrease of 10 basis points from the link quarter, and represents the five basis point drift from where net interest margin was in the month of September.

Keene S. Turner: The resulting net interest margin was four 3% in the fourth quarter of 2023, a decrease of 10 basis points from the linked quarter and represents a five basis point drift from where net interest margin was in the month of September.

Keene S. Turner: were encouraged by recent results to demonstrate deposit pricing is beginning to further stabilize and margin pressure, while still present, continues to level off.

Keene S. Turner: We're encouraged by recent results that demonstrate deposit pricing is begin to further stabilize and margin pressure, whilst though present continues to level off.

Keene S. Turner: Looking forward, while interest rates remain at current levels or higher for longer we expect that overall funding cost will continue to move slightly higher over the next couple of quarters, and we will see margin draft of around five basis points per quarter on the existing balance sheet.

Keene S. Turner: Looking forward, while interest rates remain at current levels or higher for longer, we expect that overall funding costs will continue to move slightly higher over the next couple quarters, and we will see margin drift of around five basis points per quarter on the existing balance sheet.

Keene S. Turner: Current asset growth at current spreads should allow us to defend net interest income dollars, albeit somewhat with lower margin overall.

Keene S. Turner: Current asset growth at current spreads should allow us to defend net interest income dollars, albeit somewhat.

Keene S. Turner: Lower margin overall.

Keene S. Turner: With the prospect of rate cuts on the table, we anticipate each quarter point reduction in the fed funds rate equates to an additional six to eight basis points of margin loss initially or two to two and a half a million dollars of quarterly net interest income.

Keene S. Turner: With the prospect of rate cuts on the table, we anticipate each quarter point reduction in the Fed funds rate equates to an additional six to eight basis points of margin loss initially or two to two and a half million dollars of quarterly net interest income.

Keene S. Turner: Our expectation is that deposit rates will be more stable initially, and in order to remain competitive, we may need to be cautious in reducing those rates.

Keene S. Turner: Our expectation is that deposit rates will be more stable initially and in order to remain competitive we may need to be cautious and reducing those rates.

Keene S. Turner: With additional Fed cuts, we will be more methodical in moving deposit rates down just as we were when we were increasing them.

Keene S. Turner: With additional fed cuts, we will be more methodical and moving deposit rates down just as we were when we were increasing them.

Keene S. Turner: And while not a component of net interest income, reduction in interest rates would positively impact deposit-related non-interest expense trends as more than half of the underlying balances are indexed to the Fed funds rate.

Keene S. Turner: And while not a component of net interest income.

Keene S. Turner: Adoption and interest rates would positively impact deposit related noninterest expense trends as more than half of the underlying balances are indexed to the fed funds rate.

Keene S. Turner: Each 25 basis points in Fed funds equates to approximately $4 million of annual expense on this lineup.

Keene S. Turner: Each 25 basis points in fed funds equates to approximately $4 million of annual expense on this line item.

Keene S. Turner: Well that will move on to our credit trends on slide 19. Net charge-offs were $28 million for the quarter and $38 million for the year, representing 37 basis points of average loans in 2023.

Keene S. Turner: With that we'll move on to our credit trends on slide 19.

Keene S. Turner: Net charge offs were $28 million for the quarter and $38 million for the year, representing 37 basis points of average loans in 2023 the.

Keene S. Turner: The majority of the charge ups in the quarter relate to the two relationships that Jim discussed, the real estate developer in California and the agricultural loan that arose unexpectedly late in the fourth quarter.

Keene S. Turner: The majority of the charge offs in the quarter relate to the two relationships that Jim discussed the real estate developer in California, and the agricultural allowing that arose unexpectedly late in the fourth quarter <unk>.

Keene S. Turner: These charge-offs, coupled with the charge-off on the investor-owned office loan that moved into other real estate in the third quarter, make up the majority for the year.

Keene S. Turner: These charge offs, coupled with the charge off on the Investor owned office loan that moved into other real estate in the third quarter makeup the majority for the year.

Keene S. Turner: Nonperforming assets were 34 basis points of total assets compared to 40 basis points at the end of September.

Keene S. Turner: Non-performing assets were 34 basis points of total assets compared to 40 basis points at the end of September. There were $32 million of loans that moved into non-performing status in the fourth quarter, of which $24 million were charged off.

Keene S. Turner: There were $32 million of loans that moved into nonperforming status in the fourth quarter of which $24 million were charged off.

Keene S. Turner: and additional $4 million of non-performing loans.

Keene S. Turner: Additional $4 million of nonperforming loans.

Keene S. Turner: Were charged off that were outstanding at the end of September.

Keene S. Turner: were charged off that were outstanding at the end of September.

Keene S. Turner: Between gross charge-offs, recoveries, and paydowns, non-performing assets decreased $6.4 million from the third quarter.

Keene S. Turner: Between gross charge offs recoveries and Paydowns nonperforming assets decreased $6 $4 million from the third quarter.

Keene S. Turner: We proactively worked through a number of problem credits over the last two quarters so that these issues were not carried forward into the current year.

Keene S. Turner: We proactively worked through a number of problem credits over the last two quarters. So that these issues were not carrying forward into the current year.

Keene S. Turner: The provision for credit losses of $18 million during the fourth quarter largely reflects the impact of net charge offs and loan growth, partially offset by modest improvement in the economic forecast.

Keene S. Turner: The provision for credit losses of $18 million during the fourth quarter largely reflects the impact of net charge-offs and loan growth, partially offset by modest improvement in the economic forecast.

Keene S. Turner: Included in the provision for credit losses is $3.2 million benefit from the reduction of the reserve for unfunded commitments.

Keene S. Turner: Included in the provision for credit losses was $3 $2 million benefit from the reduction of the reserve for unfunded commitments.

Keene S. Turner: This benefit primarily relates to a reduction in commitments on non-performing loans and a general reduction in commitments due to the higher advance rate at the end of the quarter.

Keene S. Turner: Benefit primarily relates to a reduction in commitments on nonperforming loans and a general reduction in commitments due to the higher advance rate at the end of the quarter.

Keene S. Turner: Slide 20 represents the allowance for credit losses. The allowance for credit losses represents 1.24% of total loans or 1.35% when adjusting for government guaranteed loans.

Keene S. Turner: Slide 20 represents the allowance for credit losses, the allowance for credit losses represents one 4% of total loans or 135% when adjusting for government guaranteed loans.

Keene S. Turner: On slide 21, fourth quarter fee income of $25 million was an increase of $13 million from the third quarter, driven primarily by tax credit income, which is typically strongest in the fourth quarter.

Keene S. Turner: On slide 21 fourth quarter fee income of $25 million was an increase of $13 million from the third quarter, driven primarily by tax credit income, which is typically strongest in the fourth quarter.

Keene S. Turner: In addition to the seasonality, an 80 basis point decrease in the 10-year SOFR rate in the quarter positively impact credits carried at fair value, driving approximately half of the quarterly process.

Keene S. Turner: In addition to the seasonality and 80 basis point decrease in the 10 year. So for rate in the quarter positively impact credits carried at fair value driving approximately half of the quarterly profit.

Keene S. Turner: Link Quarter increases related to community development,

Keene S. Turner: Linked quarter increases related to community development.

Keene S. Turner: Private Equity Distributions, and Boley helped to offset the gain on SBA loan sales from the third quarter. As a reminder, along with the seasonal tax credit income, community development and private equity distributions will fluctuate from period to period.

Keene S. Turner: Private equity distributions and bowley helped to offset the gain on SBA loan sales from the third quarter.

Keene S. Turner: As a reminder, along with the seasonal tax credit income community development in private equity distributions will fluctuate from period to period.

Keene S. Turner: Turning to slide 22 fourth quarter noninterest expense was $93 million, an increase of $4 million compared to the third quarter included in the current quarter was the FDIC special assessment of $2 4 million.

Keene S. Turner: Turning to slide 22, fourth quarter non-interest expense was $93 million, an increase of $4 million compared to the third quarter. Included in the current quarter was the FDIC special assessment of $2.4 million.

Keene S. Turner: Deposit service expenses were higher compared to the linked quarter, primarily due to growth and average balances, as Scott mentioned.

Keene S. Turner: That service expenses were higher compared to the linked quarter, primarily due to growth in average balances as Scott mentioned.

Keene S. Turner: We do expect specialized deposits to continue to be a significant contributor to overall growth, which will continue to drive this expense line item higher.

Keene S. Turner: We do expect specialized deposits to continue to be.

Keene S. Turner: <unk> contributor to overall growth, which will continue to drive this expense line item higher.

Keene S. Turner: Other expenses increased from the linked quarter but were partially offset by lower compensation and benefits expense related to lower performance-based incentive accruals and a reduction in accrued paid time off.

Keene S. Turner: Other expenses increased from the linked quarter, but were partially offset by lower compensation and benefits expense related to lower performance based incentive accruals and a reduction in accrued paid time off.

Keene S. Turner: The fourth quarter's core efficiency was 53.1%, a decrease of 312 basis points compared to the third quarter, driven primarily by the increase in fee income.

The fourth quarter's core efficiency was 53, 1% a decrease of 312 basis points compared to the third quarter driven primarily by the increase in fee income.

Keene S. Turner: And with some moderation of our net interest margin and net interest income expectations. In addition to the seasonally strong fee income, we do expect core efficiency to move up in the coming quarters for all other expense categories, we expect to prudently maintain cost controls.

Operator: Thank you.

Operator: Thank you for standing by. The Enterprise Financial Services Corp. 4th Quarter 2023 Earnings Conference Call will begin momentarily. Please wait. The conference will begin shortly.

Keene S. Turner: Our capital metrics are shown on slide 23, and our tangible common equity ratio was 9% at the end of the third quarter up from eight 5% in the linked quarter.

Keene S. Turner: Our capital metrics are shown on slide 23, and our tangible common equity ratio was 9% at the end of the third quarter, up from 8.5% in the length quarter.

Keene S. Turner: The strength of our earnings profile and a rebound in the fair value of securities and derivatives drove the expansion in the quarter.

Operator: The conference will begin shortly.

Keene S. Turner: On a per share basis, tangible book value increased to $33.85, which is a 9% increase over the third quarter. For the full year, tangible book value per share increased $5.18, or 18%. And looking back over a longer time frame, we have successfully compounded tangible book value per share by 10% annually over the last five years.

Operator: The conference will begin shortly.

Keene S. Turner: On a per share basis tangible book value increased to $33 85.

Operator: The conference will begin shortly.

Operator: Thank you for standing by, and welcome to the Enterprise Financial Services Corps Fourth Quarter 2023 Earnings Conference.

Keene S. Turner: Which is a 9% increase over the third quarter for.

Keene S. Turner: For the full year tangible book value per share increased $5 18.

Keene S. Turner: Or 18%.

Keene S. Turner: And looking back over a longer timeframe, we have successfully compounded tangible book value per share by 10% annually over the last five years.

Operator: I would now like to welcome Jim Lally, President and CEO, to begin the presentation. Jim is over to you.

Keene S. Turner: With our capital, balance sheet, and liquidity in strong positions, we're operating with a strong foundation as we look into 2024.

Keene S. Turner: With our capital balance sheet and liquidity and strong positions, we're operating with a strong foundation as we look into 2024.

Keene S. Turner: And while there was significant turmoil in industry to start the year, we had great success in expanding our client base and generating returns we delivered a 16% return on average tangible common equity with average tangible common equity for the year at eight 7% and delivered a one 4% return on average assets.

Keene S. Turner: And while there was significant turmoil in industry to start the year, we had great success in expanding our client base and generating returns. We delivered a 16% return on average tangible common equity with average tangible common equity for the year at 8.7% and delivered a 1.4% return on average assets.

Speaker Change: With that, I'll conclude my comments and I appreciate your attention. We're going to open the line for questions.

Speaker Change: With that I'll conclude my comments and I appreciate your attention we're going to open the line for questions.

Speaker Change: The floor is now open for your questions to ask a question. This time simply press the star followed by the number one on your telephone keypad.

Speaker Change: The floor is now open for your questions.

Speaker Change: Thank you.

Speaker Change: Again, to ask a question that

Again to ask a question at this time simply press the star followed by the number one on your telephone keypad, we will now take a moment to compile a roster.

Speaker Change: Press the star followed by the number one on your telephone.

Thank you, Mandeep, and thank you all very much for joining us this morning, and welcome to our 2023 Fourth Quarter Earnings Call. Today is January 23, 2024, and joining me this morning is Keene Turner, EFSC's Chief Financial Officer and Chief Operating Officer, Scott Goodman, President of Enterprise Bank & Trust, and Doug Bauke, Chief Credit Officer of Enterprise Bank & Trust.

Speaker Change: will now take a moment to compile our

Speaker Change: Our first question comes from the line of Jeff through lists with.

Speaker Change: Our first question comes from the line of Jeff Rulis.

Jeffrey Allen Rulis: with D.A. Davidson. Please go ahead.

Davidson: Davidson. Please go ahead.

Jeff: Thanks, Good morning.

Jeffrey Allen Rulis: Thanks. Good morning.

Speaker Change: Good morning Jeff.

Hey, Jeff.

Speaker Change: On the credit side, some pretty good detail on the charge-offs.

Jeff: On the credit side.

Jeff: Some pretty good detail on the on the charge offs I guess.

Speaker Change: maybe a follow on is

Jeff: Maybe a follow on is.

Speaker Change: Classified Assets and Link Quarter were flat despite those larger charge-offs. I guess what segments kind of filled in or rotated in to kind of –

Jeff: Classified assets linked quarter were flat despite those larger charge offs I guess, what segments kind of filled in our rotated into kind of.

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. Please refer to slide 2 of the presentation titled Forward-Looking Statement 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. The fourth quarter once again showed the strong earnings power of our company despite the manifestation of a few credit challenges that we experienced. Adjusted earnings per share for the quarter were $1.16 versus $1.17 in the third quarter and $1.58 in the fourth quarter of 2022. Before I get into some of the highlights of a very strong quarter and year, I would like to briefly address the elevated level of charge-offs that we experienced during the quarter. Two relationships that we charged off during the quarter could be described as extraordinary and uncharacteristic. My first such credit was an agricultural loan, which we believe was an isolated incident that was not directly related to our credit underwriting. There were irregularities in the financial information provided by the borrower that masked the challenges it was facing and ultimately covered up a $13 million collateral shortfall. In the fourth quarter, we placed the full $16 million relationship on non-performing status.

Jeff: Kind of into the classified balances to keep it flat from rather than improving with the charge offs.

Speaker Change: into the classified balance to keep it flat rather than improving with the chart.

Speaker Change: I think Jeff This is Jim I think.

Speaker Change: Jeff, this is Jim. I think relative to the stabilization of the classifieds and those maintained that were there, it's the rapidity in which these loans that rolled through and charged off didn't necessarily sit long enough in those areas such that it cleaned it out.

James B. Lally: Relative to the stabilization of the classifieds and those maintained that where there is the rapidity with which these loans that rolled through and charged off didn't necessarily sit long enough in those areas such that it cleaned it out.

Jeffrey Allen Rulis: Okay, so maybe put another way, where you saw rotation into classifieds, is there some, other than the credits that you identified, were there some increases that you could point to segment-wise or fairly granular?

Speaker Change: Okay. So maybe put another way where you have saw rotation into classifieds is there some other than the credits that you identified where theres. Some increases that you could point to segment wise are fairly granular.

Speaker Change: I think it's very granular. Looking at the list, and I studied it, it's widespread through various markets and types. So there's no themes, if you will, relative to what's in that list. And, you know, I think the other good news is it's relatively small dollars per credit as well.

Speaker Change: I think it's very granular looking at the list and I studied it it's.

Speaker Change: Widespread through various markets and types. So theres no themes, if you will relative to what's in that and that list and.

Speaker Change: I think the other good news is it's relatively small dollars per credit as well.

Speaker Change: Okay.

Speaker Change: Just the last one on credit. I guess the criticized balances last quarter, I think they were down a decent amount.

Speaker Change: Just a last one on credit I guess, the criticized balances last quarter I think they were down.

Speaker Change: A decent amount.

Speaker Change: They were down maybe $60 million in the quarter.

Speaker Change: I think they were down maybe 60 million linked quarter.

Speaker Change: What were those balances in the fourth quarter relative to third quarter?

Speaker Change: What were those balances in the fourth quarter relative to third quarter.

Speaker Change: Why don't we have Doug Baalke comment on that, Doug? Yeah, thanks, Jeff. Really two relationships that were downgraded from a Monitor 6 to a special mention rating. One that would be related to the mortgage industry, a company that has performed well but in a down cycle right now is experiencing just some compressed cash flows. So the risk rating on that relationship was downgraded, special mention. The other one would be a diverse mix of commercial real estate, largely one-to-four family real estate loans in the California market. Again, performing well under the current interest rate environment but looking forward at some of the repricing risk on that portfolio, a downgrade to special mention was.

Speaker Change: Doug <unk> comment on that Doug Yeah. Thanks, Jeff really two relationships that were downgraded from a monitor six to a special mention rating one that would be related to the mortgage industry. A company that has performed well, but in a down cycle right now.

Correspondently, we are taking the appropriate actions and utilizing all available resources to recover what we can for the remaining $3 million outstanding. We have stopped originating new credit relationships in the agricultural space and will wind down this approximately $200 million portfolio over the next few years. We have our team engaged, and we are actively conducting thorough reviews of each relationship, including physical farm inspections and even more extensive collateral field audits to reinforce our confidence in the balance of the portfolio. We will engage a third party to validate these findings to ensure that we do not have any other similar situations to this. Our initial review provides comfort with respect to the health of the remainder of the portfolio. The other major loss that we experienced in the quarter was related to a $10 million unsecured credit exposure that was part of a first-choice legacy relationship with a Southern California commercial real estate institution.

Speaker Change: <unk> seeing just some compressed cash flows so the risk rating on that relationship was was downgraded to special mention.

One would be a diverse.

Speaker Change: Mix of commercial real estate, largely one to four family.

Speaker Change: Real estate loans in the California market again, performing well under the current interest rate environment, but looking forward at some of the repricing risk on that portfolio.

Downgrades of special mentioned list was taken there as well.

Speaker Change: were taken there as well.

Doug: good recourse, good long-term relationship and the borrowers taking appropriate actions to monetize a few of the properties, curtail the debt and

Speaker Change: Good.

Speaker Change: Good long term relationship and the borrowers taken appropriate actions to monetize a few of the properties curtailed adapting.

Doug: We feel confident in their ability to continue to perform.

Speaker Change: We feel confident in their ability to continue to perform.

Got it so overall criticized balances lifted linked quarter is that.

Doug: So overall criticized balance is lifted. Lane Quarter, is that?

Doug: Correct.

Speaker Change: Correct Okay.

Doug: And any range of size, if you were down $60 million in the prior quarter, what did you increase this quarter? Yeah, similar, back up probably, Jeff. We'll probably back up the $60 million that we saw a reduction in the prior quarter.

Speaker Change: And any range of size. If you were down 60 million in the prior quarter, where did you increase this quarter, yes, similar back up probably Jeff, we're probably back up to $60 million that we saw a reduction in the prior quarter.

After several unsuccessful attempts to find suitable collateral to shore up this credit and the borrower's inability to keep payments current, we took this unfortunate but appropriate action to charge off this credit. $3 million of this was identified and reserved for in the third quarter, with the remaining $7 million reserved in the fourth quarter. We ultimately charged off the full $10 million unsecured portion.

Speaker Change: Fair enough okay.

Speaker Change: Okay. Just hopping over to the real quick on the margin discussion sounds, I think.

Speaker Change: Okay, just hopping over to the real quick on the <unk>.

Speaker Change: Margin discussion it sounds I think.

Speaker Change: Keene, you said five basis points drift per quarter as we sit here and then maybe accelerates a bit with rate cuts. Any thoughts on the trajectory of NII? And I guess that would loop in kind of your expectations for loan growth as well. But if you could kind of.

Speaker Change: You said five basis points drift per quarter as we sit here and then maybe maybe.

Accelerates a bit with rate cuts.

Speaker Change: Any thoughts on the trajectory of NII and I guess that would loop in kind of your expectations for loan growth as well, but.

We will continue to pursue all remedies for any sort of recovery. Meanwhile, the remainder of our loan portfolio has performed as we anticipated. Overall, classified loans remained stable in the quarter, and NPLs declined over 10% to $43 million, while classified loans to capital held steady at 10% at year-end. Delinquencies were well controlled at year end, at only 15 basis points. Entering 2024, I'm confident in our ability to deliver asset quality results that are in line with our historically strong performance. Despite this unusual level of charge-offs and an appropriate increase to our provision expense, our company delivered very strong financial results for both the fourth quarter and the entirety of 2023. A summary of this begins on slide three. Keene will provide much more detail on our quarterly and full-year financial performance in his comments, but ahead of those, I would like to provide a few highlights.

Speaker Change: If you could kind of.

Speaker Change: Are we approaching a bottom on NII, even given that margin backdrop?

Speaker Change: Are we approaching a bottom on NII.

Speaker Change: Even given that margin backdrop.

Speaker Change: Yes, Jeff I think we're generally expecting.

Speaker Change: Yeah, Jeff, I think we're generally expecting a mid-single-digit growth rate for both sides of the balance sheet. The five basis points is really static, and then I think dollars of growth, depending on how it occurs, will be helpful to that. I think in the first quarter, it's going to be difficult to overcome the day count from 4Q to 1Q, even with the extra day this year. But it looks as though somewhere in the middle of the year, we'll start to see a pickup with dollars of net interest income. And some of that could be ruined, depending if we get cuts on the back half. That may be a little bit challenging, and we may be treading water a little bit more than we would have otherwise. But absent rate changes, I still think we feel pretty good about increasing net interest income dollars on the back half, albeit with... You know, some continued drift of net interest margin.

Speaker Change: Mid mid single digit growth rate for for both sides of the balance sheet.

The five basis point is really static and then I think $1 of growth depending on how it occurs.

Speaker Change: It will be helpful. Though that I think in the first quarter, it's going to be difficult to overcome the day count from <unk> to <unk>, even with the extra day this year, but.

Speaker Change: It looks as though somewhere in the middle of the year, we'll start to see a pick up.

Speaker Change: With dollars of net interest income.

Speaker Change: And some of that could be ruined depending if we get cut on the on the back half that might be a little bit challenging and we may be treading water, a little bit more than than we would've otherwise, but absent rate changes I still think we feel pretty good about.

Our strong financial performance continued during the fourth quarter.

We earned net income of $44.5 million, or $1.16 per diluted share, and we produced a ROAA of 1.28% and a PPNR ROA of 2.10%.

Increasing net interest income dollars on the back half, albeit with.

Speaker Change: Some continued dressed up of net interest margin.

Speaker Change: Got it thank you I'll step back.

Speaker Change: Got it. Thank you. I'll step back.

Speaker Change: Thanks, Jeff.

Thanks, Jeff.

ROTC2 improved when compared to the third quarter, increasing to 14.98% compared to 14.49%. These results reflect a robust earnings profile that allowed us to absorb some deterioration in credit during the quarter. Combined with our strong reserves and balance sheet, we remain positioned to operate as we have in the past. 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 continues to open up channels of deposit growth as well. As we have experienced in years past, we experienced our typical fourth quarter strength in loan growth.

Speaker Change: Our next question comes from the line of Damon Del Monte with KBW.

Speaker Change: Our next question comes from the line of Damon Delmonte with K B W. Please go ahead.

Speaker Change: Please go ahead.

Damon Delmonte: Hey, good morning, guys hope everybody's doing well thanks for taking my question.

Speaker Change: Hey, good morning, guys. Hope everybody's doing well. Thanks for taking my question. Just wanted to ask on the expense front here, I think you mentioned you're working on a systems upgrade during the course of this year. How should we think about kind of a quarterly cadence for operating expenses outside of the specialty deposit cost line that could be related to this system upgrade?

Damon Delmonte: Just wanted to ask on the.

Damon Delmonte: Hence frontier I think you mentioned youre working on a systems upgrade during the course of this year.

Damon Delmonte: How should we think about kind of a quarterly cadence for.

Damon Delmonte: Operating expenses outside of the especially deposit cost line.

Damon Delmonte: That could be related to this this system upgrades.

Yes, Damon this is keene.

Speaker Change: Damon, this is Keene. I don't anticipate that you'll have, I mean, there's going to be some payroll and other things for staffing up, but I think we can absorb that generally. I think there's some expenses for...

Keene S. Turner: I don't anticipate that Youll have I mean, theres going to be some some payroll and other things for staffing up but I think our we can absorb that generally I think there is some expenses.

For the quarter, loans increased $267 million, or 10% annualized.

As important, we again were able to fund this growth with our client deposits, which increased by $479 million in the quarter after netting out the reduction in brokerage CDs. We finished the year with a loan to deposit ratio of 89.4%, and our ratio of DDA to total deposits came in at 32.5%. A couple of things worth mentioning regarding these results. First, we are seeing all markets and businesses contributing to these numbers. Unlike in years past, we are not relying on any one or two markets or businesses to achieve. This diversification, both in terms of geography and revenue, has been intentional, and the fruits of these investments continue to manifest themselves in our financial results. Secondly, after the March banking crisis, we set a goal to fund our second half loan growth with client deposits. Not only did we do this, but we just about funded the entire year's loan growth with our second half success. We also set a goal to keep the percentage of DDA to total deposits north of 30%, and we accomplished this too.

Expenses for.

Keene S. Turner: The implementation that, you know, may come through during the year, and we'll point those out, you know, that could be, you know, up to $4 or $5 million, depending on what's capitalized versus what, you know, needs to come through the P&L. And I would say that those are going to occur, you know, sort of mid to late in the year, generally. So, we'll continue to point those out, but I think, you know, the run rate from here for the first quarter is obviously going to step up, you know, probably $93 to $95 is what we're expecting. Comp and benefits was a little bit better in the fourth quarter, and then you've got the seasonality to it in the first quarter. So, that's what we're thinking, and that's also just inclusive of specialty deposits. And then, again, maybe later in the year, we get some of those core-related expenses, and we'll have a better sense for, you know, what those numbers are. In the upcoming quarters.

Keene S. Turner: The implementation that may come through during the year and we'll point those out.

Keene S. Turner: That could be up to $4 $5 million depending.

Keene S. Turner: On what's capitalized versus what needs to come through the P&L.

Keene S. Turner: And I would say that those are going to occur.

Keene S. Turner: Sort of mid to late in the year.

Keene S. Turner: <unk>. So we'll continue to point those out but I think the run rate from here for the first quarter is obviously going to step up probably 93 to 95 is what were expecting.

Keene S. Turner: Benefits was a little bit better in the fourth quarter and then you've got the seasonality to it in the first quarter. So that's that's what we're thinking and that's also just inclusive of specialty deposits and then again, maybe later in the year, we get some of those core core related expenses and we'll have a better sense for.

Keene S. Turner: What those numbers are in the upcoming quarters.

Speaker Change: Did you say that for a 25 basis point cut in rates, that's about a $4 million positive impact on the specialty deposit expenses?

Speaker Change: Got you, Okay, and then did you say that for 25 basis point cut in rates, that's about a $4 million positive impact on the specialty deposit expenses.

Finally, we believe that we have relatively stabilized NII, which means that our daily net interest income has remained stable for the last several months. Scott will give much more color on the markets and the businesses where we saw continued success, but I am encouraged that we will be able to fund our mid-single-digit loan growth in 2024 with well-priced, relationship-oriented client deposits. Moving on to capital, the balance sheet remains strong and positioned for continued growth.

Speaker Change: Yes, that's correct and I think the proportions there are roughly.

Speaker Change: Yeah, that's correct. And I think the proportions there are roughly, you know, half of the compression you get on a quarterly basis in net interest income would be offset in that non-interest expense line item. Some of that may be subject to timing, but once you run that out and flush it through, that's generally what we're expecting.

Half of the compression you get on a quarterly basis and net interest income will be offset in that noninterest expense line item. Some of that may be subject to timing, but once you run that out and flush it through that's generally what we're expecting.

Speaker Change: Okay, got it. Great, thank you. And then just another question on the ag portfolio. I think, Jim, you said it's about a $200 million portfolio, and you're going to look to wind that down. You know, given what happened with this one particular credit, you know, are there any early signs that you could see other areas of stress within that portfolio as you go through your review, or is it still too early to tell? So, David, our cursory review on top, and we focused, and this was the problem we had was in the livestock area, so we focused initially in this area, and the cursory review at the outset shows that we feel very good about where we stand. That being said, there's more work to do on it, not only by us, but we'll also bring in a third party just to validate what we've seen. As it relates to the rest of the portfolio, Doug, maybe you can talk about what we see, because this only represents livestock. Livestock only represents a third of the portfolio, correct? Yeah, Damon, good morning. It's Doug. So, you're right, $200 million portfolio spread across 40 or so relationships, consisting of a pretty well-balanced mix of agricultural, real estate, row crop, and livestock collateral to farm operations really throughout the Midwest here. Many of these have been long-term, strong-performing clients of our team. And listen, I want to make sure we reiterate, right, this is a credit, too, that we were monitoring. We had good historical financial information. We were receiving regular collateral and financial information and reports.

Speaker Change: Okay got it.

Speaker Change: Thank you and then just.

Other question on the AG portfolio I think Jim you said, it's about $200 million portfolio and youre going to look to to wind that down.

Capital levels at quarter end remain stable and strong, with our TCE to TA ratio at 8.96 percent.

Speaker Change: Given what happened with this one particular credit are there any early signs that you could see other areas of stress within that portfolio. As you go through your review or is it still too early to tell.

Tangible book value per common share at year-end was $33.85.

This is an increase of 18% in 2023 and is due to our strong earnings and return profile. Before I move on to where we will be focused in 2024, I want to reiterate that the strength of our earnings profile generates pre-provisioned earnings that have averaged over $70 million per quarter this year.

Speaker Change: David Our cursory review on top and we focused and this was the problem. We had was in the livestock area. So we focused initially in this area.

Speaker Change: In the course reviewed at the outset shows that we feel very good about where we stand that being said, there's more work to do on it not only by US, but we'll also bring in a third party just to validate what we've seen.

This provides a significant buffer to absorb credit issues before ever touching our loan loss reserves or capital, which are also at very strong levels, particularly when considering the short duration of our loan portfolio. Slide 5 shows where we are focused for the foreseeable future.

Speaker Change: As it relates to the rest of the portfolio, Doug maybe you could talk about what we see because this is only reference livestock only represent about a third of the portfolio correct. Yes, Damon good morning, its Doug So youre right $200 million portfolio spread across 40, or so relationships consisting of a pretty.

Just like we did 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. We will stay focused on continually improving our performance in all our business lines and markets. This, combined with improved credit performance and continued steadfast expense management, should consistently produce strong earnings amid the current economic and rate environment that we are in. My optimism for our prospects stems both from my confidence in our business model, a careful review of our loan portfolio, and the optimism that I continue to hear from our clients. One final note. Throughout 2024, we'll be working on a core system conversion. After 35 years on the same system, this upgrade will further improve our efficiency in many areas while also improving the quality and accessibility of our data.

Doug: Well balanced mix of agricultural real estate row crop and livestock collateral to farm operations really throughout the Midwest here. Many of these have been long term strong performing clients of our team.

Doug: And let's I want to make sure. We reiterate right. This is a credit to that we were monitoring we had good historical financial information we were receiving.

Doug: Regular collateral and financial information and reports, it's just the irregularities as it relates to the information that was revealed and disclosed in the information that we received in early December.

Speaker Change: It's just the irregularities as it relates to the information that was revealed and disclosed and information that we received in early December that caused the problem here. So what we're doing now is simply just

Doug: Causing that problem here. So what we're doing now is simply just.

Speaker Change: reaffirming our risk in the portfolio and intensifying the inspections and the collateral audits that we have historically done.

Doug: Reaffirming our risk in the portfolio and intensifying.

With that said, I would like to turn the call over to Scott Goodman.

Scott Richard Goodman: Thank you, Jim, and good morning, everyone. As you heard from Jim, Q4 loan and deposit growth was strong, pushing us to double-digit annual growth for both categories in 2023. These results are significant, not just based on the magnitude of the growth but also in considering that they're fully organic and highly diversified across geographic markets and specialty businesses. Loans, which are highlighted on slides 8 and 9, were up 1.15 billion or 12% for the year, with most major categories of the portfolio contributing materially to this growth. For the quarter, broken out on slide 9, loans rose $267 million, contributing 23% of our growth for the year and up 157% from the prior quarter. This explains the traditional seasonal lift which is characteristic of our portfolio.

Doug: Inspections, and the collateral audits that we have historically done.

Speaker Change: Got it. Okay. Thank you. And then just lastly, on the tax credit line item, Keene, obviously very strong fourth quarter. As you kind of look at the full year of 24, do you kind of have a targeted range of what we could expect, knowing that the fourth quarter tends to be the strongest of them?

Speaker Change: Got it okay. Thank.

Speaker Change: Thank you and then just lastly.

On the tax credit line item keen obviously very strong fourth quarter.

Speaker Change: You kind of look at the full year of <unk> 24.

Speaker Change: Have a targeted range of what we could expect knowing that the fourth quarter tends to be the strongest of them.

Keene S. Turner: Yeah, just a reminder, I think we were negative until year to date until we got here. So fourth quarter was maybe even a little bit more robust. But I think net-net, we're expecting roughly $10 million through that line item for next year. And I think with what we're expecting on CDE and private equity, we'll get almost back to the level of income, maybe slightly weaker through that line item.

Speaker Change: Yes, just a reminder, I think we were a negative until.

Speaker Change: Year to date until we got here so fourth quarter was with maybe even a little bit more robust, but I think net net.

Speaker Change: We're expecting a roughly $10 million through that line item for next year, and I think well with.

Speaker Change: What we're expecting on Cte in private equity will get almost back to the level of income maybe slightly weaker through that line item.

Keene S. Turner: If we don't sell SBA loans and then an opportunity to get back there or exceed it if we decide to execute on any SBA loan sales like we did last year.

Speaker Change: If we don't sell SBA loans, and then an opportunity to get back there if needed. If we if we decide to execute on any SBA loan sales like we did last year.

Scott Richard Goodman: CNI was a standout this quarter, benefiting from several significant new client relationships and elevated usage on revolving lines of credit. Specialized loan growth was helped by strong seasonal performance in the life insurance, premium finance, and tax credit lines of business. In premium finance, we continue to originate steady closings on new policy loans from our referral network and experienced the typical Q4 uptick in premium payments due for the existing policy. Advances on affordable housing projects and processes accounted for the majority of the increase in the tax credit portfolio. For Q4, SBA came in somewhat below expectations, down $27 million, due mainly to slower execution of the pipeline and elevated prepainting. Prepayments continue to be stressed by the higher rate environment, and we remain committed to our high credit standards and focus on owner-occupied real estate secured loans.

Speaker Change: Got it okay. That's all that I had for now thank you.

Speaker Change: Got it. Okay. That's all that I have for now. Thank you.

Speaker Change: Thanks, Damon.

Damon.

Speaker Change: Again, as a reminder, the floor is now open for your questions.

Speaker Change: Again as a reminder, the floor is now open for your questions to ask a question at this time simply press the star followed by the number one on your telephone keypad.

Speaker Change: To ask a question at this time simply press the star followed by the number 1 on your telephone

Speaker Change: Our next question comes from the line of Brian Martin with Janney. Please go ahead.

Speaker Change: Our next question comes from a line of Brian Martin

Speaker Change: with Gianni. Please go ahead.

Brian Martin: Hey, guys. Good morning. Hey, Keene, just on that last question on the fee income line, outside of the tax credit, I think the – were you referring to the other line as far as what you said, Mike? You were trying to – I just misunderstood what you were saying there as far as getting back to even or how you're thinking about that.

Brian Martin: Hey, guys. Good morning, Hey, Keene just on that last question on the fee income line outside of the tax credit I think what you're referring to the other line as far as what you said might be trying to just misunderstood what youre seeing there as far as getting back to even or how youre thinking about that.

Keene S. Turner: Yeah, I think in total, Brian, we're thinking about, you know, getting back to even, I guess, if you stripped out the SBA loan sales and you have $10 million of tax credit and the numbers on both CDE and PE going through other that I mentioned, a couple million each, I think that basically gets you back to, you know, comparable levels for 2023. And then if you sold SBA loans again, that would, you know, get you back to the full year level or exceed.

Keene S. Turner: Yes, I think in total Brian where we're thinking about getting back to even I guess, if you stripped out the SBA loan sales.

Keene S. Turner: And you have $10 million of tax credit and the numbers on both CPE and p/e going through rather that that I mentioned, a couple of million. Each I think that basically gets you back to comparable levels for 2023, and then if you sell the SBA loans again that would get you back to the full year level or exceed.

Scott Richard Goodman: Much of the lagged pipeline is expected to push into Q1. Gross production remains relatively consistent. Pay down and continue to be ahead. The Sponsored Finance book posted a modest decline in the quarter as activity slowed in general in this space during Q4. Following robust activity in the first half of the year, private equity has slowed its pace of acquisition to digest this activity and consider the impact and direction of the interest rate environment on their pipeline operations. We're also taking a disciplined approach to sponsors and to credit structures in this segment, and we would expect these factors to moderate the growth rate in the coming year. Moving to slide 10, loan portfolios posted growth across all major regions for the year and in the current quarter.

Speaker Change: Okay, you're talking total fee income, not just that total other line, just to be clear. So, yeah, I'm talking, yes, both. Correct. Okay, gotcha. Okay. And one question, the tax rate, I think you guys mentioned was a bit lower this quarter, I guess, going forward.

Speaker Change: Okay. You are talking total fee income not just that total other line just to be clear. So so yes, I am talking yes, both correct. Okay gotcha okay.

Speaker Change: And just one question the tax rate I think you guys mentioned was a bit lower this quarter I guess going forward.

Speaker Change: revert back to, you know, kind of low 20, you know, I guess the 22 range. Is that fair?

Speaker Change: Revert back to kind of low 2022 range is that fair.

Speaker Change: We're actually right around that 21% effective tax rate for 24. You know, with some state planning and some other things that I've worked through, there's a point lower for the upcoming year that we think will continue. So 21% is a good number for the year.

Speaker Change: We're actually right around that 21% effective tax rate for 2004.

Speaker Change: You know that.

Speaker Change: With some state planning and some other things that have worked through.

Speaker Change: There is a.

Speaker Change: <unk> lower for the upcoming year that that we think will continue.

Scott Richard Goodman: Specialty Lending was up modestly for the quarter related to the aforementioned niche business line, as well as continued growth in the practice finance vertical, which was up $12 million in Q4 and $81 million for the full year of 2023. In the Midwest, St. Louis and Kansas City portfolios were up 78 million, or nearly 10% annualized, showing balanced growth between increased line usage, Fundings on Construction and Process, and New Loan Origination. Notable deals this quarter include a new relationship with a middle market construction materials provider and two new loan facilities with long-term relationships in the hospitality and business finance industries.

Speaker Change: 1% that a good number for the year.

Speaker Change: Okay, and then just

Speaker Change: Okay and then just.

Speaker Change: Back to the margin for just one minute, Keene. Just your comments. I think I heard what you talked about on the asset sensitivity side with the rate cuts, what it does to the loan side. Can you just walk back through what you said on the deposit side, what the offset is or if rates are going lower?

Speaker Change: Back to the margin for just one minute Keene just your comments I think I heard what you talked about it on the <unk>.

Speaker Change: Sensitivity side with the rate cuts what it does to the.

Loan side can you just walk back through what what you said on the deposit side.

Speaker Change: With the offset is if rates are going lower.

Keene S. Turner: Yeah, it's on that deposit service charge line item, and 25 basis points obviously affects the earnings credit rate, and that's about $4 million annually or $1 million a quarter for every quarter point cut. So I think that proportions roughly half of the compression on net interest income, so it doesn't totally mute it, but it makes it more manageable and gives us the opportunity to grow through it.

Loan side: Yes, it's on that deposit service charge line item and 25 basis points.

Loan side: Obviously affects the earnings credit rate and that's about $4 million annually or $1 million a quarter for every every quarter point cut. So I think that proportion is roughly half of the compression on net interest income so it doesn't totally muted, but it makes it more manageable and gives us the opportunity to.

Scott Richard Goodman: In the Southwest, the combined markets grew $102 million in Q4 and 26% for the full year of 2023. Results for the quarter were bolstered by elevated new origination, as well as additional funding on existing construction projects and processes.

Loan side: To grow through it.

Speaker Change: Yeah. Okay. And your commentary was that the, I guess you think you can go through it, grow through that or stabilize it absent rate cuts. Otherwise, maybe it's a bit lower depending on the timing of the rate cuts or how many rate cuts.

Speaker Change: Yes, okay.

Speaker Change: And your commentary was it.

Speaker Change: I guess, you think you can go through to grow through that or stabilize it absent rate cuts otherwise, maybe it's a bit lower depending on the timing of the rate cuts or how many rate cuts.

Scott Richard Goodman: Significant new loans include new relationships with a premier middle market electric contractor and a specialty precision parts manufacturer in Phoenix, as well as a large, well-established general contractor in Las Vegas. In our western region of Southern California, loan balances were up by $58 million in Q4 to round out a year in which we grew this portfolio by 9.5%. The increase this quarter is primarily related to the success of our recent talent addition, onboarding a number of new relationships, including companies in the specialty food production business, financial services, and manufacturing space. We also continue to expand legacy relationships in this book with new loans to top-tier clients in the franchise and commercial real estate sectors. Moving now to deposits on slides 11 and 12.

Speaker Change: Correct. I think the view is that, I mean, we have a.

Speaker Change: Correct I think the view is that we have.

Speaker Change: <unk>.

Speaker Change: We have continued status quo on deposit pricing in my comments of five basis points adrift, and that rate of deposit repricing has been

Speaker Change: We have continued status quo on deposit pricing in my comment the five basis points addressed and that rate of deposit repricing has been.

Speaker Change: improving. So it continues to reprice higher, but at a lower rate. I would say two factors in the first quarter are we're going to probably have some unfavorable DDA remixing just with seasonal trends at the fourth quarter, and then the day count. So like I said, sometime mid-year, although we've got margin drift, and depending on how growth shapes up, there's a chance that we'll be able to start stacking positive net interest income dollars on top of that. It's just a matter of how those factors interplay, but we've been pretty good with our ability to forecast net interest income even as early as after the first quarter events of last year, and we hit stable net interest income for dollars. I think we're still stable from here. It's just with the day count disadvantage at this point, Q4 to Q1, you're going to reset a little bit lower, and then we'll get back to more improvement.

Speaker Change: Improving so it continues to to reprice higher but.

Speaker Change: Lower rate.

I would say two factors in the first quarter are going to probably have some unfavorable DDA remixing with seasonal trends at the fourth quarter and then the day count So like I said, some time mid year, although we've got margin drift.

Speaker Change: And depending on how growth shapes up theres, a chance that we'll be able to start stacking positive net interest income dollars on top of that just a matter of how those factors interplay, but we've been pretty good with our ability to forecast net interest income even as <unk>.

Speaker Change: Early as after the first quarter events of last year, and we had stable net interest income per dollars I think we're still stable from here.

Scott Richard Goodman: Total deposit balances were up $266 million for the quarter, and 1.3 billion or 12.4% year over year. Breaking this down, non-interest bearing DDA accounts were down year over year by $684 million, with interest-bearing DDA accounts up by a similar amount due mainly to the remixing behavior of depositors precipitated by accelerated rate increases throughout 2023. In the quarter, however, noninterest-bearing DDA balances grew by $107 million, relating to success of onboarding new CNI commercial banking relationships, increased property management and third-party escrow accounts, as well as some seasonal cash, The positive growth by region is broken out on slide 13. We grew client balances, net of specialty deposits, and brokered CDs in the quarter by $394 million, with growth being spread throughout the geographic footprint and across all Higher growth was experienced in the Midwest, mainly relating to the larger CNI books in our Kansas City and St. Louis markets, but highlighted as well by several large new CNI, In the West and Southwest regions, higher balances reflect the impacts of new relationships in the West and Southwest regions, as well as a focused effort to attract new funds through the consolidation of balances from our existing clients.

Speaker Change: It's just at without with the day count disadvantage at this point Q4 to Q1, youre going to reset a little bit lower and then we will we'll get back to more improvement.

Speaker Change: Gotcha. And the monthly margin in December, did you give what that was?

Speaker Change: Gotcha and the monthly margin in December did you give what that was.

Speaker Change: Um, I didn't give, I might've given what it was, but it was, it was 121. So, or sorry, 421. So it's only a few basis points lower than where we were in the quarter and November and December were right on top of each other. So from, from that perspective, we were in pretty good shape and margin in the fourth quarter was a little bit more diluted because of the positive deposit experience we had with the inability to, to time out the brokered CDs or pay those down just in time. So, you know, I think, you know, margin in and of itself in the quarter was maybe a little bit more muted than we thought it would be. And maybe that'll shift a little bit with positive mix here in the first quarter.

Speaker Change: I didn't give I might've, given what it was but it was it was 121 or so.

Sorry, 421, so it's only a few basis points lower than where we were in the quarter and November and December were right on top of each other so from from that perspective, we're in pretty good shape and margin in the fourth quarter was a little bit.

Speaker Change: More diluted because of the positive deposit experience, we had with the inability to time out the brokerage Cds or pay those down just in time so.

Speaker Change: I think margin in and of itself in the quarter was maybe a little bit more muted than we thought it would be and maybe that shifts a little bit with positive next year in the first quarter.

Speaker Change: Gotcha. Okay. And then last one for me was just on the capital levels and kind of the optionality you have there, just how you're thinking about capital utilization in 2024 as far as, you know, I think from a buyback perspective, M&A, just in general, organic growth, kind of how you're thinking about that.

Speaker Change: Gotcha, Okay, and then last one for me was just on the capital levels and kind of the Optionality you have there just how you're thinking about capital utilization in 2024 as far as.

Speaker Change: I think from a buyback.

Speaker Change: Buyback prospective M&A just in general organic growth kind of how you're thinking about that.

Speaker Change: Yeah, this is Jim. I would say this, that primarily it's going to be for growth.

Speaker Change: Yes. This is Jim I would say this that primarily it's going to be for growth.

James B. Lally: you know right now you know we've got a lot on our plate relative to continue growing our business you know we've got the core conversion what have you so M&A certainly we're talking we'll always talk but certainly M&A's got further down the list and you know I'm not sure the buybacks come into play or not this year but really it's about focusing on our utilizing for our growth going forward

Speaker Change: Right now.

Scott Richard Goodman: Specialty deposits grew $85 million in the quarter and are broken out in more detail on slide 14. The increases this quarter were mainly within property management and third-party escrow, as we continue to expand these lines of business with new accounts and new relationships. Q4 is typically a seasonally softer growth quarter in the community association line as expenses are paid, and new accounts begin to be opened, which will then go up as assessments are collected during Q1.

Speaker Change: Got a lot on our plate relative to continue growing our business.

Speaker Change: We've got the core conversion what have you. So M&A certainly we're talking we'll always talk but certainly M&A is further down the list.

Speaker Change: And I'm not sure the buybacks come into play or not this year, but really it's about focusing on arent utilize it for our growth going forward.

Speaker Change: Gotcha. Okay. Perfect. Thank you for taking the questions.

Speaker Change: Gotcha, Okay perfect. Thank you for taking the questions.

Speaker Change: You bet. Thanks, Brian.

You bet Thanks, Brian.

Speaker Change: Our next question comes from the line of Andrew Liesch with Piper Sandler. Please go ahead.

Speaker Change: Our next question comes from the line of Andrew Liesch.

Scott Richard Goodman: Additional detail on the core funding mix and the account activity is shown on slide. The majority of our growth this quarter has been with the commercial account, which generally represents relationship-based balances, 80% of which are treasury management. And while we have seen the aforementioned mixed shift from DDA into interest-bearing options, the pace of this activity has slowed.

Andrew Brian Liesch: With Piper Sandler. Please go ahead.

Andrew Brian Liesch: Hey guys, good morning. You know, just a question on the growth and especially deposits. I guess, what's the outlook for that business? I know you guys have been spending a lot of money and investing in that and it just seems, is the growth going to be lumpy? Are there wins in one quarter or the next? Is there any seasonality there? I'm just curious how we should be looking at how those balances.

Andrew Brian Liesch: Hey, guys good morning.

Speaker Change: A question on the growth in our specialty deposits I guess, what's the what's the outlook for that business I know you guys have been.

Speaker Change: Spending a lot of money and investing in that and it just seems as the growth is going to be lumpy or their wins in one quarter. The next is there any seasonality. There I was just curious how we should be looking at the at how those balances trends.

Scott Richard Goodman: 37% of our total balances still reside in non-interest-bearing accounts. The underlying account activity also continues to trend favorably and reflect our intentional and elevated efforts toward emphasizing core deposits, with new accounts opened exceeding closed accounts, and that balance increases when comparing new accounts to closed accounts across all channels.

Andrew Brian Liesch: Hey, Andrew. It's Scott. Good morning. I think the overall comment is yes. We do expect those to continue to grow, I think, steady. The seasonality that exists amongst, really, there's the three main business lines, right? There's property management, third-party escrow,

Hey, Andrew It's Scott good morning.

Scott Richard Goodman: I think the overall comment is yes, we do expect those to continue to grow I think steady the seasonality.

<unk> that exists amongst really there is the three main business lines right. This property management third party escrow.

Scott Richard Goodman: and community associations, mainly in the community associations where those accounts generally fund up early in the year and then they're depleted throughout the year as expenses are paid and then reopened again in the fourth quarter. So that's the main seasonality, but I think if you look at that business over time, you'll see that it's also growing. So, you know, I think we view those very favorably from a cost and a relationship perspective. And I, you know, we'll continue to invest in growing.

Scott Richard Goodman: And community associations, mainly in the community associations, where those accounts generally fund up early in the year and then theyre depleted throughout the year as expenses are paid.

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

Keene S. Turner: Thanks, Scott, and good morning, everyone. My comments begin on slide 16, where we reported earnings per share of $1.16 in the fourth quarter on net income of $45 million.

Scott Richard Goodman: And then reopened again in the fourth quarter. So that's the main seasonality, but I think if you look at that business over time Youll see that its also growing so.

Keene S. Turner: Excluding the impact of the FDIC special assessment, EPS was $1.21 per share, an increase from the third quarter. Net interest income in the quarter was relatively stable; earnings asset growth and disciplined pricing on loans and deposits mostly offset the increase in interest expense in the quarter due to the deposit remixing and rate change. The income was seasonally higher, which is typical in the fourth quarter, and was the primary driver of the increase in operating revenue. The provision for credit loss is increased for the quarter, as Jim discussed, driven by net charge-off and loan growth, and non-interest expense is higher in the current quarter, mostly due to the FDIC special assessment.

Scott Richard Goodman: I think we view those very favorably from a cost and a relationship perspective, and we'll continue to invest in growth.

Speaker Change: Got it.

Speaker Change: You know, you've covered all my other questions. I'll step back. Thanks.

Speaker Change: You've covered all my other questions I'll step back thanks.

Speaker Change: I would now like to turn the call over to Jim Lally for closing remarks.

Speaker Change: I would now like to turn the call over to Jim Malawi for closing remarks.

James B. Lally: Thank you very much, and thank you all for joining us this morning and for your interest in our company, and we look forward to speaking to you again after the first quarter. Have a great day.

Jim Malawi: Well. Thank you very much and thank you all for joining US this morning and for your interest in our company and we look forward to speaking to you again after the first quarter have a great day.

Jim Malawi: Yes.

James B. Lally: This concludes today's call. You may now disconnect.

This concludes today's call you may now disconnect.

Keene S. Turner: Overall, pre-provision net revenue of $76 million for the quarter increased $11 million or 16% from the third quarter. For the full year, free provision net revenue was $285 million, an increase of 10% from 2022. Pre-provision net revenue is up 12% in 2023, and when you consider that pre-provision net revenue in 2022 included $5 million of PPP income that did not repeat this year, this continues to reflect the strength of our earnings profile and our ability to generate capital to support balance sheet growth. Turning to slide 17, net interest income for the fourth quarter of 2023 was $141 million, which was a decrease of less than a million dollars compared to the linked quarter. However, interest income increased $6.2 million in the fourth quarter, driven mainly by continued loan growth and higher rates on portfolio loans. Cash levels also increased modestly as a result of strong customer funding and added $1 million to interest income. Loan yields increased seven basis points, while average balances were higher by more than $160 million.

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Keene S. Turner: The average interest rate on new loan originations in the fourth quarter of 2023 was 7.95%, and the most recent month's loan yield was just under 7% overall. More details follow on slide 18. Interest expense growth slightly outpaced growth in interest income in the quarter. The customer deposit balance increased nearly $480 million in the quarter. This additional funding allowed us to reduce broker deposits by $213 million. The balanced growth was coupled with a 19 basis point increase in the cost of deposits, which was half the increase we observed in the previous quarter. With that said, the total cost of deposits was 2.03% in the fourth quarter and only slightly higher at 2.07% in the most recent months. The deposit pricing performance is aided by the overall DDA percentage remaining at approximately 33%.

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Keene S. Turner: The resulting net interest margin was 4.23% in the fourth quarter of 2023, a decrease of 10 basis points from the link quarter and represents a five basis point drift from where it was in the month of September. The bank was encouraged by recent results to demonstrate deposit pricing is beginning to further stabilize and margin pressure, while still present, continues to level off. Looking forward, while interest rates remain at current levels or higher for longer, we expect that overall funding costs will continue to move slightly higher over the next couple of quarters, and we will see margin drift of around five basis points per quarter on the existing balance sheet.

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Keene S. Turner: Current asset growth at current spreads should allow us to defend net interest income dollars, albeit somewhat with lower margin overall. With the prospect of rate cuts on the table, we anticipate each quarterly point reduction in the Fed funds rate equates to an additional six to eight basis points of margin loss initially or two to two and a half million dollars of quarterly net interest income. Our expectation is that deposit rates will be more stable initially, and in order to remain competitive, we may need to be cautious in reducing those rates. However, with additional Fed cuts, we will be more methodical in moving deposit rates down just as we were when we were increasing them.

Keene S. Turner: And while not a component of net interest income, a reduction in interest rates would positively impact deposit-related non-interest expense trends as more than half of the underlying balances are indexed to the Fed funds rate. Each 25 basis points in Fed funds equates to approximately $4 million of annual expense on this lineup. Well, we will move on to our credit trends on slide 19. Net charge-offs were $28 million for the quarter and $38 million for the year, representing 37 basis points of average loans in 2023. The majority of the charge-offs in the quarter relate to the two relationships that Jim discussed, the real estate developer in California and the agricultural loan that arose unexpectedly late in the fourth quarter. These charge-offs, coupled with the charge-off on the investor-owned office loan that moved into other real estate in the third quarter, make up the majority for the year. Non-performing assets were 34 basis points of total assets compared to 40 basis points at the end of September.

Keene S. Turner: There were $32 million of loans that moved into non-performing status in the fourth quarter, of which $24 million were charged off, and an additional $4 million of non-performing loans were charged off that were outstanding at the end of September.

Keene S. Turner: Between gross charge-offs, recoveries, and paydowns, non-performing assets decreased $6.4 million from the third quarter. We proactively worked through a number of problem credits over the last two quarters so that these issues were not carried forward into the current year. The provision for credit losses of $18 million during the fourth quarter largely reflects the impact of net charge-offs and loan growth, partially offset by a modest improvement in the economic forecast. Also included in the provision for credit losses is $3.2 million benefit from the reduction of the reserve for unfunded commitments. This benefit primarily relates to a reduction in commitments on non-performing loans and a general reduction in commitments due to the higher advance rate at the end of the quarter. Slide 20 represents the allowance for credit losses.

Keene S. Turner: The allowance for credit losses represents 1.24% of total loans or 1.35% when adjusting for government guaranteed loans. On slide 21, fourth quarter fee income of $25 million was an increase of $13 million from the third quarter, driven primarily by tax credit income, which is typically strongest in the fourth quarter. In addition to the seasonality, an 80 basis point decrease in the 10-year SOFR rate in the quarter positively impacted credits carried at fair value, driving approximately half of the quarterly process. Link Quarter increases related to community development, Private Equity Distributions, and Boley helped to offset the gain on SBA loan sales from the third quarter. As a reminder, along with seasonal tax credit income, community development and private equity distributions will fluctuate from period to period.

Keene S. Turner: Turning to slide 22, fourth quarter non-interest expense was $93 million, an increase of $4 million compared to the third quarter. Also included in the current quarter was the FDIC special assessment of $2.4 million. Deposit service expenses were higher compared to the linked quarter, primarily due to growth and average balances, as Scott mentioned. We do expect specialized deposits to continue to be a significant contributor to overall growth, which will continue to drive this expense line item higher. Other expenses increased from the linked quarter but were partially offset by lower compensation and benefits expense related to lower performance-based incentive accruals and a reduction in accrued paid time off. The fourth quarter's core efficiency was 53.1%, a decrease of 312 basis points compared to the third quarter, driven primarily by the increase in fee income.

Keene S. Turner: With some moderation of our net interest margin and net interest income expectations, in addition to the seasonally strong fee income, we do expect core efficiency to move up in the coming quarters. For all other expense categories, we expect to prudently maintain cost controls. Our capital metrics are shown on slide 23, and our tangible common equity ratio was 9% at the end of the third quarter, up from 8.5% during the length of the quarter. The strength of our earnings profile and a rebound in the fair value of securities and derivatives drove the expansion in the quarter. On a per share basis, tangible book value increased to $33.85, which is a 9% increase over the third quarter. For the full year, tangible book value per share increased by $5.18, or 18%.

Keene S. Turner: And looking back over a longer time frame, we have successfully compounded tangible book value per share by 10% annually over the last five years. With our capital, balance sheet, and liquidity in strong positions, we're operating with a strong foundation as we look into 2024. And while there was significant turmoil in the industry to start the year, we had great success in expanding our client base and generating returns. We delivered a 16% return on average tangible common equity, with average tangible common equity for the year at 8.7%, and delivered a 1.4% return on average assets.

Keene S. Turner: With that, I'll conclude my comments, and I appreciate your attention.

Unnamed Speaker: We're going to open the line for questions.

Unnamed Speaker: The floor is now open for your questions.

Unnamed Speaker: Thank you. Again, to ask a question that, Press the star followed by the number one on your telephone. We will now take a moment to compile our questions. Our first question comes from the line of Jeff Rulis, with D.A.

Jeffrey Allen Rulis: Davidson

Unnamed Speaker: Please go ahead. Thanks.

Unnamed Speaker: Good morning.

Unnamed Speaker: Good morning Jeff. On the credit side, some pretty good detail on the charge-offs. Maybe a follow-on is that Classified Assets and Link Quarter were flat despite those larger charge-offs. I guess what segments kind of filled in or rotated in to kind of – into the classified balance to keep it flat rather than improving with the chart.

Jim: Jeff, this is Jim.

Unnamed Speaker: I think relative to the stabilization of the classifieds and those maintained that were there, the rapidity in which these loans that rolled through and charged off didn't necessarily sit long enough in those areas such that they cleaned them out. Okay, so maybe put another way, where you saw rotation into classifieds, was there some, other than the credits that you identified, were there some increases that you could point to segment-wise or fairly granular? I think it's very granular. Looking at the list, and I studied it, it's widespread in various markets and types. So there are no themes, if you will, relative to what's in that list.

Unnamed Speaker: And, you know, I think the other good news is it's relatively small dollars per credit as well. Just the last one on credit. I guess the criticized balances last quarter were down a decent amount. They were down maybe $60 million in the quarter. What were those balances in the fourth quarter relative to the third quarter? Why don't we have Doug Baalke comment on that, Doug?

Yeah, thanks, Jeff. Really, two relationships that were downgraded from a Monitor 6 to a special mention rating.

One that would be related to the mortgage industry, a company that has performed well but, in a down cycle right now, is experiencing just some compressed cash flows. So the risk rating on that relationship was downgraded, with special mention. The other one would be a diverse mix of commercial real estate, largely one-to-four family real estate loans in the California market. Again, performing well under the current interest rate environment but looking forward at some of the repricing risk on that portfolio, a downgrade to special mention was taken there as well, good recourse, good long-term relationship, and the borrowers taking appropriate actions to monetize a few of the properties, curtail the debt So the overall criticized balance is lifted.

Unnamed Speaker: Lane Quarter, is that? Correct. And any range of size, if you were down $60 million in the prior quarter, what did you increase this quarter? Yeah, similar, probably back up. Jeff. We'll probably back up the $60 million that we saw a reduction in the prior quarter. Okay. Just hopping over to the real quick on the margin discussion, I think.

Keene S. Turner: Keene, you said five basis points of drift per quarter as we sit here, and then maybe it will accelerate a bit with rate cuts.

Unnamed Speaker: Any thoughts on the trajectory of NII?

Keene S. Turner: And I guess that would loop in kind your expectations for loan growth as well.

Unnamed Speaker: But if you could, kind of.

Keene S. Turner: Are we approaching a bottom on NII, even given that margin backdrop? Yeah, Jeff, I think we're generally expecting a mid-single-digit growth rate for both sides of the balance sheet. The five basis points is really static, and then I think dollars of growth, depending on how it occurs, will be helpful to that. I think in the first quarter, it's going to be difficult to overcome the day count from 4Q to 1Q, even with the extra day this year. But it looks as though somewhere in the middle of the year, we'll start to see a pickup in dollars of net interest income, and some of that could be ruined, depending on whether we get cuts in the back half. That may be a little bit challenging, and we may be treading water a little bit more than we would otherwise, but absent rate changes, I still think we feel pretty good about increasing net interest income dollars in the back half, albeit with... You know, some continued drift of the net interest margin.

Unnamed Speaker: Got it. Thank you.

Unnamed Speaker: I'll step back.

Unnamed Speaker: Thanks, Jeff.

Our next question comes from the line of Damon Del Monte with KBW.

Unnamed Speaker: Please go ahead. Hey, good morning, guys.

Unnamed Speaker: I hope everybody's doing well.

Unnamed Speaker: Thanks for taking my question. Just wanted to ask on the expense front here. I think you mentioned you're working on a systems upgrade during the course of this year.

Keene S. Turner: How should we think about some kind of quarterly cadence for operating expenses outside of the specialty deposit cost line that could be related to this system upgrade?

Damon, this is Keene.

Keene S. Turner: I don't anticipate that you'll have, I mean, there's going to be some payroll and other things for staffing up, but I think we can absorb that generally. I think there's some expenses for... The implementation that, you know, may come through during the year, and we'll point those out, you know, that could be, you know, up to $4 or $5 million, depending on what's capitalized versus what, you know, needs to come through the P&L. And I would say that those are going to occur, you know, sort of mid to late in the year, generally. So, we'll continue to point those out, but I think, you know, the run rate from here for the first quarter is obviously going to step up, you know, probably $93 to $95 is what we're expecting. Comp and benefits were a little bit better in the fourth quarter, and then you've got the seasonality to it in the first quarter. So, that's what we're thinking, and that's also just inclusive of specialty deposits.

Keene S. Turner: And then, again, maybe later in the year, we'll get some of those core-related expenses, and we'll have a better sense for, you know, what those numbers are.

Unnamed Speaker: In the upcoming quarters, did you say that for a 25 basis point cut in rates, that's about a $4 million positive impact on specialty deposit expenses? Yeah, that's correct. And I think the proportions there are roughly half of the compression you get on a quarterly basis in net interest income would be offset in that non-interest expense line item. Some of that may be subject to timing, but once you run that out and flush it through, that's generally what we're expecting. Okay. Great, thank you. And then just another question on the ag portfolio. I think Jim, you said it's about a $200 million portfolio, and you're going to look to wind that down.

James B. Lally: You know, given what happened with this one particular credit, are there any early signs that you could see other areas of stress within that portfolio as you go through your review, or is it still too early to tell?

Unnamed Speaker: So, David, our cursory review on the top, and we focused, and this was the problem we had was in the livestock area, so we focused initially on this area, and the cursory review at the outset shows that we feel very good about where we stand. That being said, there's more work to do on it, not only by us, but we'll also bring in a third party just to validate what we've seen.

Unnamed Speaker: As it relates to the rest of the portfolio, Doug, maybe you can talk about what we see, because this only represents livestock.

Unnamed Speaker: Livestock only represents a third of the portfolio, correct?

Unnamed Speaker: Yeah, Damon, good morning.

It's Doug.

Unnamed Speaker: So, you're right, a $200 million portfolio spread across 40 or so relationships, consisting of a pretty well-balanced mix of agricultural, real estate, row crop, and livestock collateral to farm operations really throughout the Midwest here. Many of these have been long-term, strong-performing clients of our team. And listen, I want to make sure we reiterate, right, this is a credit, too, that we were monitoring. We had good historical financial information. We were receiving regular collateral and financial information and reports.

Unnamed Speaker: It's just the irregularities as it relates to the information that was revealed and disclosed and information that we received in early December that caused the problem here.

Unnamed Speaker: So what we're doing now is simply reaffirming our risk in the portfolio and intensifying the inspections and the collateral audits that we have historically done.

Unnamed Speaker: Got it. Okay. Thank you. And then, just lastly, on the tax credit line item, Keene, obviously, very strong fourth quarter. As you kind of look at the full year of 24, do you kind of have a targeted range of what we could expect, knowing that the fourth quarter tends to be the strongest of them?

Keene S. Turner: Yeah, just a reminder, I think we were negative until year to date until we got here.

Unnamed Speaker: So the fourth quarter was maybe even a little bit more robust. But I think, net-net, we're expecting roughly $10 million through that line item for next year. And I think with what we're expecting on CDE and private equity, we'll get almost back to the level of income, maybe slightly weaker through that line item if we don't sell SBA loans. And then we have an opportunity to get back there or exceed it if we decide to execute on any SBA loan sales like we did last year. Got it. Okay. That's all that I have for now.

Unnamed Speaker: Thank you. Thanks, Damon.

Unnamed Speaker: Again, as a reminder, the floor is now open for your questions. To ask a question at this time, simply press the star followed by the number 1 on your telephone. Our next question comes from a line of Brian Martin with Gianni. Please go ahead. Hey, guys. Good morning.

Unnamed Speaker: Hey, Keene, just on that last question on the fee income line, outside of the tax credit, I think the – were you referring to the other line as far as what you said, Mike?

Keene S. Turner: You were trying to – I just misunderstood what you were saying there as far as getting back to even or how you're thinking about that.

Unnamed Speaker: Yeah, I think in total, Brian, we're thinking about, you know, getting back to even, I guess, if you stripped out the SBA loan sales and you had $10 million of tax credit, and the numbers on both CDE and PE going through other that I mentioned, a couple million each, I think that basically gets you back to, you know, comparable levels for 2023.

Unnamed Speaker: And then if you sold SBA loans again, that would, you know, get you back to the full year level or exceed. Okay, you're talking total fee income, not just that other line, just to be clear. So, yeah, I'm talking about, yes, both. Correct. Okay, gotcha. Okay. And one question, the tax rate, I think you guys mentioned was a bit lower this quarter. I guess, going forward, it will revert back to, you know, kind of the low 20s, you know, I guess the 22 range. Is that fair?

Keene S. Turner: We're actually right around that 21% effective tax rate for 24.

Unnamed Speaker: You know, with some state planning and some other things that I've worked through, there's a lower point for the upcoming year that we think will continue.

Unnamed Speaker: So 21% is a good number for the year. Okay, and then just, Back to the margin for just one minute, Keene. Just your comments. I think I heard what you talked about on the asset sensitivity side with the rate cuts and what they do to the loan side. Can you just walk back through what you said on the deposit side, what the offset is, or if rates are going lower? Yeah, it's on that deposit service charge line item, and 25 basis points obviously affects the earnings credit rate, and that's about $4 million annually or $1 million a quarter for every quarter point cut. So I think that proportion is roughly half of the compression on net interest income, so it doesn't totally mute it, but it makes it more manageable and gives us the opportunity to grow through it.

Unnamed Speaker: Yeah. Okay. And your commentary was that, I guess you think you can go through it, grow through that, or stabilize it absent rate cuts. Otherwise, maybe it's a bit lower depending on the timing of the rate cuts or how many rate cuts. Correct. I think the view is that, I mean, we have a. We have continued the status quo on deposit pricing in my comments of five basis points adrift, and that rate of deposit repricing has been improving. So it continues to reprice higher, but at a lower rate. I would say two factors in the first quarter are we're probably going to probably have some unfavorable DDA remixing just with seasonal trends in the fourth quarter, and then the day count.

Unnamed Speaker: So like I said, sometime in the mid-year, although we've got margin drift, and depending on how growth shapes up, there's a chance that we'll be able to start stacking positive net interest income dollars on top of that. It's just a matter of how those factors interplay, but we've been pretty good with our ability to forecast net interest income even as early as after the first quarter events of last year, and we hit stable net interest income for dollars.

Unnamed Speaker: I think we're still stable from here. It's just that with the day count disadvantage at this point, Q4 to Q1, you're going to reset a little bit lower, and then we'll get back to more improvement. Gotcha. And the monthly margin in December? Did you give me what that was? Um, I didn't give you what it was, but it was 121. So, or sorry, 421. So it's only a few basis points lower than where we were in the quarter, and November and December were right on top of each other. So, from that perspective, we were in pretty good shape, and margin in the fourth quarter was a little bit more diluted because of the positive deposit experience we had with the inability to time out the brokered CDs or pay those down just in time.

Unnamed Speaker: So, you know, I think margin, in and of itself, in the quarter was maybe a little bit more muted than we thought it would be, and maybe that'll shift a little bit with positive mix here in the first quarter. Gotcha. Okay. And then last one for me was just on capital levels and kind of the optionality you have there, just how you're thinking about capital utilization in 2024 as far as, you know, I think from a buyback perspective, M&A, just in general, organic growth, kind of how you're thinking about that.

James B. Lally: Yeah, this is Jim. I would say this, that primarily it's going to be for growth, you know right now you know we've got a lot on our plate relative to continue growing our business you know we've got the core conversion what have you so M&A certainly we're talking we'll always talk but certainly M&A's got further down the list and you know I'm not sure the buybacks come into play or not this year but really it's about focusing on our utilizing for our growth going forward, Gotcha.

Unnamed Speaker: Okay. Perfect. Thank you for taking the questions. You bet. Thanks, Brian. Our next question comes from the line of Andrew Liesch with Piper Sandler. Please go ahead. Hey guys, good morning. You know, just a question on growth and, especially deposits. I guess, what's the outlook for that business? I know you guys have been spending a lot of money and investing in it, and it just seems, is the growth going to be lumpy? Are there wins in one quarter or the next? Is there any seasonality there? I'm just curious how we should be looking at those balances.

Unnamed Speaker: Hey Andrew.

Scott Richard Goodman: It's Scott.

Unnamed Speaker: Good morning.

Unnamed Speaker: I think the overall comment is yes. We do expect those to continue to grow, I think, steadily. The seasonality that exists amongst, really, there are the three main business lines, right? There's property management, third-party escrow, and community associations, mainly in the community associations where those accounts are generally funded up early in the year, and then they're depleted throughout the year as expenses are paid, and then they're reopened again in the fourth quarter. So that's the main seasonality, but I think if you look at that business over time, you'll see that it's also growing. So, you know, I think we view those very favorably from a cost and a relationship perspective. And I, you know, we'll continue to invest in growing. You know, you've covered all my other questions. I'll step back. Thanks.

Unnamed Speaker: I would now like to turn the call over to Jim Lally for his closing remarks.

James B. Lally: Thank you very much, and thank you all for joining us this morning and for your interest in our company. We look forward to speaking to you again after the first quarter.

Unnamed Speaker: Have a great day!

Unnamed Speaker: This concludes today's call. You may now disconnect. Please wait.

Unnamed Speaker: The conference will begin shortly.

Speaker: For all other expense categories, we expect to prudently maintain cost controls. Our capital metrics are shown on slide 23, and our tangible common equity ratio was 9% at the end of the third quarter, up from 8.5% in the linked quarter. The strength of our earnings profile and a rebound in the fair value of securities and derivatives drove the expansion in the quarter. On a per share basis, tangible book value increased to $33.85, which is a 9% increase over the third quarter. For the full year, tangible book value per share increased by $5.18, or 18%.

Speaker: And looking back over a longer time frame, we have successfully compounded tangible book value per share by 10% annually over the last five years. With our capital, balance sheet, and liquidity in strong positions, we're operating with a strong foundation as we look into 2024. And while there was significant turmoil in the industry to start the year, we had great success in expanding our client base and generating returns. We delivered a 16% return on average tangible common equity, with average tangible common equity for the year at 8.7%, and delivered a 1.4% return on average assets.

Speaker: With that, I'll conclude my comments, and I appreciate your attention. Now, we're going to open the line for questions. The floor is now open for your questions. Simply press the star followed by the number one on your telephone. Again, to ask a question at, We'll now take a moment to compile our questions. Our first question comes from the line of Jeff Rulis, with D. A. Davidson.

Please go ahead. Thanks. Good morning, and Jeffrey Lally.

Jim: On the credit side, some pretty good detail on the charge-offs, I guess. Maybe a follow-on is... you know, classified assets and link order were flat despite those larger charge-offs. I guess what segments kind of filled in or rotated in to kind of kind of into the classified balance to keep it flat rather than improving with the charges.

Jim: I think, Jeff, this is Jim. Relative to the stabilization of the classifieds and those maintained that were there, the rapidity with which these loans that rolled through and charged off didn't necessarily sit long enough in those areas such that they cleaned them out. Okay, so maybe put another way, where you saw rotation into classifieds, is there some other than, you know, the credits that you identified where there's some increases that you could point to segment wise or, fairly granular? I think it's very granular. Looking at the list, and I studied it, it's widespread in various markets and types. There are no themes, if you will, relative to what's in that list.

Doug: And I think the other good news is it's relatively small dollars per credit as well. Just the last one on credit, I guess the criticized balances last quarter were down a decent amount. I think they were down maybe $60 million in the last quarter. What were those balances in the fourth quarter relative to the third quarter? I'm going to have Doug Bowkey comment on that. Doug?

Doug: Yeah. Thanks, Jeff. Really, two relationships that were downgraded from a monitor six to a special mention rating. One that would be related to the mortgage industry, a company that has performed well, but in a down cycle right now, it is experiencing just some compressed cash flows. So the risk rating on that relationship was downgraded to special mention. The other one would be a diverse mix of commercial real estate, largely one to four family real estate loans in the California market. Again, performing well under the current interest rate environment, but looking forward at some of the repricing risk on that portfolio, a downgrade to special mention was: Good resource, good long-term relationship, and the bar has taken appropriate actions to monetize a few of the properties, curtail the debt, and feel confident in their ability to continue to perform. So the overall criticized balance is lifted, link order, is that correct? Correct. And in any range of size, if you were down $60 million in the prior quarter, where did you increase this quarter? Yes, a similar back-up would probably be better, Jeff.

Keene S. Turner: We're probably back up to the $60 million that we saw a reduction in the prior quarter. Okay, just hopping over to the real quick on the end, the margin discussion sounds, I think, Keene, you said five basis points of drift per quarter as we sit here and then maybe maybe accelerates a bit with rate cuts. Any thoughts on the trajectory of NII, and I guess that would loop in kind of your expectations for loan growth as well. But if you could kind of, Are we approaching a bottom on NII, even given that margin backdrop? Yeah, Jeff, I think, you know, we're generally expecting, you know, a mid, mid single-digit growth rate for both sides of the balance sheet. The five basis points is, is really static.

Keene S. Turner: And then I think dollars of growth, depending on how it occurs, will be helpful to that. I think, in the first quarter, it's going to be difficult to overcome the day count from 4Q to 1Q, even with the extra day this year. But it looks as though somewhere in the middle of the year, we'll start to see a pickup with dollars of net interest income. And, you know, some of that could be ruined, depending on whether we get cuts on the back half. It'll, that may be a little bit challenging.

Keene S. Turner: And we may be treading water a little bit more than we would otherwise, but absent rate changes, you know, I still think we feel pretty good about increasing those interest income dollars in the back half, albeit with, you know, some continued drift of net interest margin. Thank you. Thanks, Jeff.

Keene S. Turner: Our next question comes from the line of Damon Del Monte with KBW. Please go ahead. Hey, good morning guys. Hope everybody's doing well. Thanks for taking my question. I just wanted to ask on the expense front. I think you mentioned you're working on a systems upgrade during the course of this year. How should we think about a kind of a quarterly cadence for operating expenses outside of the specially deposit cost line that could be related to this system upgrade? Hey, Damon. This is Keene. I don't anticipate that you'll have, I mean, there's going to be some payroll and other things for staffing up, but I think our, you know, we can absorb that generally. I think there's some expenses for implementation that may come through during the year, and we'll point those out. That could be up to $4 or $5 million, depending on what's capitalized versus what needs to come through the P&L.

Keene S. Turner: And I would say that those are going to occur mid to late in the year, generally. So we'll continue to point those out. But I think the run rate from here for the first quarter is obviously going to step up, you know, probably $93 to $95 is what we're expecting. Compton benefits were a little bit better in the fourth quarter.

Keene S. Turner: And then you've got the seasonality to it in the first quarter. So that's what we're thinking. And that's also just inclusive of specialty deposits. And then again, maybe later in the year, we get some of those core related expenses, and we'll have a better sense for what those numbers are in the upcoming quarters. Gotcha. Okay. And then did you say that for a 25 basis point cut in rates, that's about a $4 million positive impact on the specialty deposit expenses? Yeah, that's correct.

Keene S. Turner: And I think the proportions there are roughly, you know, half of the compression you get on a quarterly basis in net interest income would be offset in that non-interest expense line item. Some of that may be subject to timing, but once you run that out and flush it through, that's generally what we're expecting. Okay, got it. Great. Thank you.

Jim: And then, another question on the agricultural portfolio. I think, Jim, you said it's about a $200 million portfolio, and you're going to look to wind that down. You know, given what happened with this one particular credit, are there any early signs that you could see other areas of stress within that portfolio as you go through your review, or is it still too early to tell?

Jim: So, Dana, our cursory review on the top, and we focused, and this was the problem we had was in the livestock area, so we focused initially on this area, and the cursory review at the outset shows that we feel very good about where we stand. That being said, there's more work to do on it, not only by us, but we'll also bring in a third party just to validate what we've seen. As it relates to the rest of the portfolio, Doug, maybe you can talk about what we see, because this only represents about a third of the portfolio, correct? Yeah, Damon. Good morning. It's Doug.

Doug: So, you're right, a $200 million portfolio spread across 40 or so relationships consisting of a pretty well-balanced mix of agricultural, real estate, row crop, and livestock collateral to farm operations really throughout the Midwest here. Many of these have been long-term, strong-performing clients of our team, and listen, I want to make sure we reiterate, right, this is a credit, too, that we were monitoring. We had good historical financial information. We were receiving regular collateral and financial information and reports.

Doug: It's just the irregularities as it relates to the information that was revealed and disclosed and information that we received in early December that caused the problem here. So what we're doing now is simply reaffirming our risk in the portfolio and intensifying the inspections and the collateral audits that we have historically. Got it.

Keene S. Turner: Okay. Thank you. And then just lastly, on the tax credit line item, Keene, obviously, very strong fourth quarter. As you kind of look at the full year of 24, do you kind of have a targeted range of what we could expect, knowing that the fourth quarter tends to be the strongest of them? Yeah, just a reminder, I think we were negative until year to date until we got here. So the fourth quarter was maybe even a little bit more robust.

Keene S. Turner: But I think net-net, we're expecting roughly $10 million through that line item for next year. And I think with what we're expecting on CDE and private equity, we'll get almost back to the level of income, maybe slightly weaker through that line item, you know, if we don't sell SBA loans, and then an opportunity to get back there will be exceeded if we decide to execute on any SBA loan sales like we did last year. I got it.

Keene S. Turner: Okay, that's all that I have for now. Thank you. Thanks, Damon. Again, as a reminder, the floor is now open to your questions. To ask a question at this time, simply press the star followed by the number one on your telephone.

Brian Martin: Our next question comes from the line of Brian Martin, with Jenny. Please go ahead. Hey guys, good morning. Hey Keene, just on that last question on the fee income line, outside of the tax credit, I think the, were you referring to the other line as far as what you said, Mike, you were trying to, I just misunderstood what you were saying there as far as getting back to even or how you're thinking about that. Yeah, I think in total, Brian, we're thinking about maybe, you know, getting back to, you know, I guess, if you stripped out the SBA loan sales, and you had 10 million in tax credit, and the numbers on both CDE and PE going through other that I mentioned, a couple million each, I think that basically gets you back to, you know, comparable levels for 2023. And then if you sold SBA loans, again Okay, you're talking total fee income, not just that total other line, just to be clear. So, yeah, I'm talking, yes, both, correct.

Keene S. Turner: Okay, gotcha. Okay. And one question, the tax rate, I think you guys mentioned was a bit lower this quarter, I guess, going forward, it will revert back to, you know, kind of the low 20s, you know, I guess the 22 range. Is that fair?

Keene S. Turner: We're actually right around that 21% effective tax rate for 24. You know that with some state planning and some other things that have worked through, there's a point lower for the upcoming year that we think will continue. So 21% is a good number for the year. Okay, and then just, Back to the margin for just one minute, Keene, just your comments. I think I heard what you talked about on the asset sensitivity side, with the rate cuts, and what they do to the loan side. Can you just walk back through what you said on the deposit side, you know, what the offset is or if rates are going lower? Yeah, it's on that deposit service charge line item and 25 basis points obviously affects the earnings credit rate. And that's about $4 million annually or $1 million a quarter for every, every quarter point cut.

Keene S. Turner: So, you know, I think that proportion is roughly half of the compression on net interest income. So it doesn't totally mute it, but it makes it more manageable and gives us the opportunity to grow through it. Yeah, okay, and your commentary was that the, I guess you think you can grow through that or stabilize it, absent rate cuts; otherwise, maybe it's a bit lower depending on the timing of the rate cuts or how many rate cuts. I think the view is that, you know, we have a continued status quo on deposit pricing, and in my comments of, you know, five basis points of drift and that rate of deposit repricing has been improving. So it continues to reprice higher, but at a lower rate.

Keene S. Turner: I would say two factors in the first quarter are we're probably going to probably have some unfavorable DDA remixing just with seasonal trends in the fourth quarter, and then the day count. So like I said, sometime mid-year, although we've got margin drift, and depending on how growth shapes up, there's a chance that we'll be able to start stacking positive net interest income dollars on top of that. It's just a matter of how those factors interplay, but we've been pretty good with our ability to forecast net interest income even as early as after the first quarter events of last year, and we hit stable net interest income per dollar.

Keene S. Turner: I think we're still stable from here. It's just with the day count disadvantage at this point, Q4 to Q1, you're going to reset a little bit lower, and then we'll get back to more improvement. Gotcha. In the monthly margin in December, did you give what that was? I didn't give, I might've given what it was, but it was 121, or sorry, 421.

Keene S. Turner: So it's only a few basis points lower than where we were in the quarter, and November and December were right on top of each other. So from that perspective, we were in pretty good shape. And margin in the fourth quarter was a little bit more diluted because of the positive experience we had with the inability to time out the brokered CDs or pay those down just in time. So I think margin, in and of itself, in the quarter was maybe a little bit more muted than we thought it would be. And maybe that'll shift a little bit with the positive mix here in the first quarter.

Jim: Gotcha. Okay. And the last one for me was just on the capital levels and kind of the optionality you have there, just how you're thinking about capital utilization in 2024 as far as, you know, I think from a buyback perspective, M&A, just in general, organic growth, kind of how you're thinking about that. Yeah, this is Jim.

Jim: I would say this, that primarily it's going to be for growth. You know, right now, we've got a lot on our plate relative to continuing growing our business. We've got the core conversion, what have you. So, M&A certainly we're talking, we'll always talk, but certainly M&A's got further down the list, and I'm not sure the buybacks come into play or not this year, Gotcha. Okay. Perfect.

Brian Martin: Thank you for taking the questions. You bet. Thanks, Brian. Our next question comes from the line of Andrew Liesch, with Piper Sandler. Please go ahead. Hey guys, good morning. You know, just a question on growth and, especially, deposits.

Andrew Brian Liesch: I guess what's the outlook for that business? I know you guys have been spending a lot of money and investing in it, and it just seems like growth is going to be lumpy? Are there wins in one quarter of the next?

Scott Richard Goodman: Is there any seasonality there? I'm just curious how we should be looking at how those balances out. Hey, Andrew, it's Scott. Good morning. I think the overall comment is yes, we do expect those to continue to grow, I think, slowly. The seasonality that exists amongst really there's the three main business lines, right, there's property management, third-party escrow, and community associations, mainly in the community associations where those accounts generally fund up early in the year, and then they're depleted throughout the year as expenses are paid, and then they're reopened again in the fourth quarter. So that's the main seasonality, but I think if you look So you know, I think we view those very favorably from a cost and a relationship perspective, and I, you know, will continue to invest in growth.

Andrew Brian Liesch: You know, you've covered all my other questions. I'll step back. Thank you. I would now like to turn the call over to Jim Lally for closing remarks. Thank you very much, and thank you all for joining us this morning and for your interest in our company. And we look forward to speaking to you again after the first quarter. Have a great day. This concludes today's call. You may now disconnect.

James B. Lally: Please wait; the conference will begin shortly. Please wait; the conference will begin shortly. Please wait; the conference will begin shortly. Please wait; the conference will begin shortly.

Q4 2023 Enterprise Financial Services Corp Earnings Call

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