FB Financial Corp (FBK) 2018 Q3 法說會逐字稿

Good morning, and welcome to FB Financial Corporation's Third Quarter 2018 Earnings Conference Call. Hosting today's call from FB Financial is Chris Holmes, President and Chief Executive Officer. He is joined by James Gordon, Chief Financial Officer; and Wib Evans, President of FB Ventures, who will be available during the question-and-answer session.

Please note, FB Financial's earnings release, supplemental financial information and this morning's presentation are available on the Investor Relations page of the company's website at www.firstbankonline.com. Today's call is being recorded and will be available for replay on the FB Financial's website for the next 12 months. (Operator Instructions)

During this presentation, FB Financial may make comments which constitute forward-looking statements. All forward-looking statements are subject to risks and uncertainties and other facts that may cause actual results and performances or achievements of FB Financial to differ materially from any results expressed or implied by such forward-looking statements. Many such factors are beyond FB Financial's ability to control or predict, and listeners are cautioned not to put undue reliance on such forward-looking statements. A more detailed description of these and other risks is contained on FB Financial's 10-K filed with the SEC. FB Financial disclaims any obligation to update or revise any forward-looking statements contained in this presentation, whether as a result of new information, future events or otherwise.

In addition, these remarks may include certain non-GAAP financial measures such as defined by SEC Regulation G. A presentation of the most directly comparable GAAP financial measures and the reconciliation of the non-GAAP measures to comparable GAAP measures is available on FB Financial's website at www.firstbankonline.com.

I would now like to turn the presentation over to Chris Holmes, FB Financial's President and CEO. Please go ahead, sir.

All right. Thank you very much, Reilly, and good morning. Thank you all for joining us on this call to review our results for the third quarter of 2018. We appreciate your interest in FB Financial. On today's call, I'm going to review the highlights of the third quarter, and then I'll turn the call over to James Gordon, our Chief Financial Officer, who will provide additional analysis on our financial results, followed by your questions.

Our team delivered outstanding growth and profitability this quarter. The relevant themes for the company are: one, loan growth, deposit growth and margin; two mortgage; three, credit; and four, capital. These things are the same as most quarters, but as always, we're going to give you some deeper insight into the results and our outlook for the company.

On the first one of those items, we grew loan growth, deposit growth and margin into one theme because you can't have an important conversation about one without considering all three. Our growth in loans, a 14.3%, and customer deposits of 17.9% over the last 3 months has been outstanding. Our banking team has executed at a very high level all year with year-to-date annualized growth rate of 15.7% in loans and 16.4% in deposits. What makes the growth even more impressive is our 4.71% margin for the quarter or 4.46%, excluding accretion and nonaccrual interest collections. Loan and deposit growth is easy without delivering profitability. For growth, what our margin requires is balance and execution, and again, credit goes to our bank team.

Since approximately 60% of our total revenue for each of the past 3 quarters has come from net interest income, these are some of our most important metrics and the ones that continue to be our strongest.

Our loan growth rate for the quarter, 14.3%, is above our target range of 10% to 12%, and we should exceed that range for the year. We continue to feel good about our pipeline and low momentum heading into the end of the year and into next year.

Our customer deposit growth was also very strong for the quarter. We utilized higher time deposit rates and grew customer time deposits by $276 million, fully understanding our deposit cost would increase for the quarter, causing us some margin impact. But with the additional rate hikes likely in the coming quarters and a net interest margin that's been above our internal target range for multiple quarters, we thought it was an opportune time to lock in some longer-term funding, understanding that there's a near-term cost that would benefit over the next few quarters.

Customer deposits are necessary to fund growth under our banking philosophy and deposit growth will come at cost, not only for FirstBank, but for all banks that have a growth profile similar to ours.

The last part of this theme is our net interest margin, which continues to outperform most of our peers. As noted earlier, we have consistently been at or above our target range of 4.25% to 4.5%. That's excluding accretion and nonaccrual interest collections. We're near the top of that range at 4.46%. Deposit costs have caused -- have compressed the margin as we knew they eventually would and like we've talked about for several quarters. We anticipate the margin to remain in the upper end of our range in the near term.

Our mortgage results for the past 3 months were disappointing. For the quarter, we produced $1.5 million of total mortgage pretax contribution, in line with our revised guidance from the end of the third quarter. Rising interest rates, lack of inventory in some markets and overcapacity have led to lower volumes and compressed gain on sale margins. We do expect those conditions, so we thought -- I'm sorry, we do not expect those conditions to change over the next quarter and possibly longer, so we're repositioning the mortgage business to conform to these realities. We don't want unprofitable pieces of our business or even less than stellar returns on our capital. So the mortgage leadership is repositioning to deliver more consistent, reputable and predictable results. While this repositioning is important, I want to remind you that mortgage only represented 5% of our adjusted pretax income this quarter and 8% year-to-date.

Going back to the close of the Clayton transaction, it's not been higher than 15% in any quarter since that time. So while it's meaningful to us and represents some upside in 2019, we want to keep it in perspective.

Moving on to credit. Our credit metrics continued to reflect strong and stable credit quality. Our provision jumped to $1.8 million this quarter as a result of continued strong loan growth and is nearing a more normalized run rate.

As a result of our earnings and result in capital generation, our capital levels remain strong. Our Board of Directors had increased our quarterly dividend to $0.08 per share and also has authorized a common equity share repurchase program of $50 million, which will remain in effect through October 2019. We're pleased to have this additional tool to efficiently and opportunistically return capital to our shareholders.

To summarize, we're proud of our team and the performance that they deliver. Our banking team is delivering exceptional growth and profitability, and our mortgage team continues to fight through and adapt to a challenging environment. We believe we have a great foundation that we can build on with great markets, commanding market share in some markets and growing market share in others. We have a strong operational foundation, a hard to replicate delivery network throughout our geography and a workplace that's very attractive to talent. When taken together, we think these factors provide us some maximum optionality, enabling us to grow organically, be opportunistic on potential M&A and to evaluate and execute on more strategic M&A opportunities.

With that overview, I will turn the call over to James to review our financial results in some more detail.

Thanks, Chris, and good morning, everyone. First, I want to recap our operating results for the quarter as highlighted on Slide 3. Our diluted earnings per share were $0.68 on net income of $21.4 million, delivering a solid return on average assets of 1.72% and a return on average tangible common equity of 17.4%. Our year-over-year performance was driven by outstanding organic growth, the Clayton Bank's acquisition and the benefits from the enacted tax reform, offset by higher provision for loan losses of $1.8 million due primarily to loan growth and normalized net charge-offs of 6 basis points this quarter compared to a net reversal of $800,000 last year, driven by net recoveries of 15 basis points.

Slide 4 illustrates the underlying fundamental trends of the company's profitability and demonstrates the consistent performance that we are targeting. Our adjusted return on average assets is 1.81% year-to-date, demonstrating the strength and durability of our core franchises' earning power, which enables consistent growth and profitability. The sustained level of profitability has been driven by a strong loan growth, a strong margin supported by our low-cost customer deposit base, stable noninterest income, expense control and fundamental sound credit quality, while being slightly offset by a challenging mortgage environment.

Slide 5 presents the fundamental elements of our net interest margin. In particular, our healthy loan yields, fees and low-cost core deposit portfolio. As Chris mentioned, our deposit cost increased as we focus on growing time deposits this quarter, but our net interest margin remained strong at 4.71%. As you can see, our net interest margin again was benefited by about 25 basis points of accretion and nonaccrual interest collections. Our core NIM of 4.46% settled into the upper end of our long-term guided range of 4.25% to 4.5%. We expect to remain in that range in the coming quarter, increases in deposit costs, due to the current competitive environment. Our focus on customer deposit growth in a rising short-term interest rate environment should be largely offset by increased yields in loans, and our core NIM should remain largely flat to slightly down over the coming quarters. We had a strong focus on growing customer time deposits this quarter in order to get in front of anticipated future Federal Reserve rate hikes as we increased our customer time deposit balances, about $276 million from the second quarter.

I also would like to point out our banking team's outstanding execution and the CD campaign this quarter that was a major driver of our production during the quarter as we enhance and deepen relationships in adding new customers in the process.

Additionally, we made a decision to trade some of our short-term borrowings out by purchasing $54 million of broker CDs at the end of the quarter, ultimately at lower funding costs and borrowings they replaced at a rate that is locked down for the next 3 to 6 months. We show efforts to get past in the next couple of anticipated rate hikes. These actions led to a total cost of deposit increasing from 62 basis points in the second quarter to 80 basis points in the third quarter. Our cumulative beta from rate increase began in December of 2015 is approximately 25%.

Also, our loans held for sale balance come down a little bit, settling in at a $300 million level over the next couple of quarters. We will likely invest additional excess liquidity in the investment portfolio, which currently stands at 12% of total assets to mitigate the impact in earning assets and net interest income. We remain confident that our balance sheet is well positioned for rising rates. Overall emphasis on customer deposits will continue to be a foundational element of our profitability.

Moving on to Slide 6. As Chris mentioned previously, we produced another quarter of robust loan growth above our long-term 10% to 12% target range. With our strong performance year-to-date, we believe that we will finish the year strong before settling back into that range in 2019. Our objective remains consistent, profitable and relationship-driven growth, not merely focusing on hitting our quarterly target.

Noting our concentration levels on the top-right corner, we previously announced mortgage servicing rights sale provided us about $20 million of regulatory capital benefit this quarter and also experienced some migration from our construction portfolio to permanent financing, putting us back well below the 100% threshold. While we may move closer to 100% from time to time, depending on future disallowances and mortgage servicing right assets in construction fundings, we continue to remain committed to be in line with regulatory thresholds.

Moving to Slide 7, our customer deposits were $4 billion, up 11.2% from the third quarter of last year and up 17.9% with an annualized basis from the second quarter of 2018. We had strong deposit growth this quarter, particularly in customer time deposits as we continue to manage and maintain balances within our portfolio. We're working to mitigate funding-related pricing risk in the current rising rate environment, locking in growth in the funding base at current rate is important to us. And while we saw deposit cost move this quarter, we believe that we will pay off over the next few quarters, allowing us to manage our deposit cost and overall margin.

Now turning to Slide 8. In the third quarter, our total mortgage operations had a pretax contribution of $1.5 million when our retail footprint is included. This represents 5.2% of the company's adjusted pretax income. It is down from 18.2% in the third quarter of 2017. Year-to-date, our total mortgage contribution equates to approximately 7.9% for the company's pretax income, which is down from 22% year-to-date in 2017.

Our interest rate lock volume declined to $1.7 billion in the quarter compared to $2 billion last quarter and $2 billion there in the third quarter of last year. Competitive pricing pressures, particularly in the correspondent channel, are weighing on both volumes and margins. Our margin was up this quarter due primarily to a change of mix from correspondent to retail and Consumer Direct channels. We expect our total mortgage pretax contribution, including the retail footprint to be still between the $1 million to $3 million loss during the fourth quarter this year, in line with the updated guidance we provided at the end of September. We understand that the loss is an unacceptable result. Our team is focused on reducing expenses and streamlining our channel in order to achieve constant -- I'm sorry, consistent profitability during current and future rate environments.

Our operating leverage this quarter remained in line with the prior quarter, staying just above our near-term goal of 50% for the Banking segment. The quarter-over-quarter movement from 51.8% to 52.4% at our Banking segment efficiency ratio can primarily be explained by the increase in salaries attributable to our recently hired revenue producers during the quarter, and we have yet to get their books of business fully up to speed.

Our mortgage segment's efficiency ratio increased quarter-over-quarter, remains above acceptable level. With a lower volume environment, we are rightsizing our operations, focusing on reducing our efficiency ratio, while producing profitability as we head into 2019. These cost-cutting initiatives will continue into fourth quarter, positioning our team to capitalize on these recently busier second and third quarters of 2019.

Our effective tax rate of 23.9% for the third quarter was lower than the first quarter and second quarter as we had significant deductions related to our equity compensation plans. As previously disclosed, we believe our full year 2018 effective tax rate will be in the 24.5% range.

As shown on Slide 10, our asset quality remains sound and provides a strong foundation for our company. Nonperforming assets to total assets decreased slightly for the quarter as we grew organically and continued to observe a benign credit environment. Our loan portfolio remains in solid shape as evidenced by our nonperforming loan ratio of 30 basis points. As largely expected, our loan loss provision of $1.8 million for the quarter was driven by strong loan growth, renewals of previously acquired loans and normalized net charge-offs of 6 basis points to average loans, which compared to net recoveries of 11 to 15 basis points for the linked quarter and the third quarter of 2017, respectively.

On Slide 11, it shows our capital levels remain strong, enabling future growth both organically and through strategic acquisitions. Our capital structure remains relatively simple, giving us flexibility as needed to potentially add noncommon equity sources. Since the first quarter after our IPO, our tangible book value per share has increased by $4.69 or 40.6% to $16.25 to end the quarter, driven by our strong financial results in the accretive Clayton Banks acquisition.

As mentioned previously, we received approximately $20 million of regulatory relief as we sell a portion of our mortgage servicing rights. We will continue to monitor the asset. We'll seek to optimize its impact on our capital from time to time, selling portions of the MSR as appropriate.

We are pleased to be able to return a portion of our shareholders' equity in the form of a continued quarterly dividend of $0.08 per share, which represents a payout ratio of approximately 12% and a 33% increase from the last quarter.

As Chris discussed previously, our board also authorized a $50 million share repurchase program, but we will seek to achieve our key objective of minimizing tangible book value dilution while maximizing EPS accretion. Buyback opportunities will be evaluated against deployment of capital for M&A opportunities as we manage our capital over the coming periods.

With that overview, I want to turn the call back over to Chris for closing comments, and we will open the call to your questions.

Thank you, James. Overall, we did deliver strong performance and we're proud of our team. We appreciate your interest and investment in FB Financial. Operator, that completes our prepared remarks this morning, and we would like to open the call for questions, please.

(Operator Instructions) And we'll take our first question from Catherine Mealor with KBW.

I want to start first on deposits. James, you mentioned that there is a CD campaign this past quarter and then you also talked about some of the broker CDs that you added on. Could you give us the incremental cost of each of those CDs that you added on this quarter?

The CD campaign -- so we had an 11-month CD at 2.55% and a 25-month CD at 3%, so the average was kind of in the middle of that, say, in the 2.70% range for the bulk of that piece of the portfolio. The broker came in at about 2.40%, which now is below the Fed fund's rate after the rate hike right at the end of the quarter. We kind of took the reverse advantage of the LIBOR disconnect from the Fed fund's rate on the borrowing side, which slightly impacted the loan yields for the quarter.

Catherine, one other comment there. On the brokerage side, obviously, we had good growth in our customer deposits. We haven't traditionally funded our customer growth through brokered funds, and that's not the case this time. We had plenty of growth. It was strictly a move by -- and then our financial team brought to the table and said, "Hey, we got a chance to lower our costs here by utilizing brokers and best to be swapping out brokers for federal home loan banking." So that's what we did. So -- but that's different than what you sometimes -- when you usually see brokers buy banks our size.

No, that's helpful and understood. And so on the CDs -- on the customer CD side, do you -- I mean, do you look at the weight of that CD as more of a catch-up or maybe the opposite of being kind of aggressive to try to get ahead of higher rates? And would you expect this high of a beta as we move forward? Or do you feel like the beta that we saw this quarter is just more indicative of the reality of deposit cost in your market?

Well, I think it was a little bit of all of that, Catherine. I think part of it is accumulative. We have thought that the good fight for -- since rates started moving up and had a pretty low beta on that, since some of it was the accumulative catch-up. And then -- but we also allowed it to go higher position for the future. Our cumulative beta is again in that 25% range, and we're proud of that. We think it will be less than this quarter going forward, but it will still be higher than where we had run out over the last 3 or 4 quarters leading into this quarter. But it was all down strategically. We were able to get some customers back to it as well for higher rates elsewhere. We have deepened these customer relationships, and we chose to do that versus, say, going out and doing wholesale borrowings that are probably in line cost with those maturity levels. So it was overall a strategic play to position us for the future.

Yes, it's always the balancing act, Catherine, as you know. And so there's a balance between the growth, and we are fortunate to -- they have to get the growth and get positioned, get the growth and -- particularly on the deposit side that comes with the cost these days. And so we acknowledge that, and I think James described it well.

And to your point, even with the higher beta, you're still at the top end of your range? Just seeing it's an important point.

Yes.

And then one of the question, just move into mortgage...

Exactly, that's...

I'm sorry go ahead.

That's it. No, that's exactly -- you're exactly right, that's part of the balance.

And then one other thing on mortgage, just what would be an accessible mortgage efficiency ratio as you think about next year as you write that business?

Yes. That's -- where we think about is about 80%, and frankly, we'd like to be better than that, especially in good times, about I think 80% is -- that's kind of a threshold for us.

And we did that as some of the higher periods of production, so as -- like Chris said, it would be over the year and not in any particular quarter to be able to kind of get to that 80% or better efficiency ratio.

And we'll take our next question from Tyler Stafford with Stephens Inc.

So just a follow-up on Catherine's last question, thinking about the mortgage business rather in the pretax income as you guys kind of talked about it that way. So the mortgage business is expected to generate I guess at a pretax loss in the fourth quarter. So that exiting run rate, I guess, does put a big question mark on what 2019 pretax mortgage income could be. So any expectations or thoughts for next year's pretax mortgage just as you think about the cost saves or initiatives -- expense initiatives that you are able to realize?

Yes. Tyler, just a couple of comments there. One, as you know, the mortgage business is hard to forecast because a lot -- it's so rate dependent and a lot of that is reading the market. And so it's a difficult business to forecast, and so we don't want to get too specific on forecast. But if you look at what's out there and forecasting mortgage for next year, the volumes are forecasted to be similar to this year and slightly down -- or slightly down. So similar to maybe slightly down. When we think about our business, repositioning some things there, and we would expect it to be a similar year for us in terms of volumes, kind of moving with the market, if you will. And then keep in mind, we do have some repositioning going on. And so like I said, hopefully, there will be some upside in that business for us as we look out to 2019, but that's really about -- but we've done some -- we've done a couple -- we did a couple of forecasts during 2018. We had to revise those, and so we're -- but we're -- and so like I said, we want to stay away from trying to give too much -- get in too much into the forecasting business there.

Understood. Maybe the...

Does that help?

I'm sorry, go ahead Chris.

No. Does that help?

Yes, understood. So on the consolidated mortgage expenses for the quarter, it looks like they were flat quarter-over-quarter despite pressured volumes. Is that right? And why wouldn't there have been any expense relief, given the variable compensation tied to the volumes?

Some of the revenue was caused by higher -- by, one, by lower mortgage servicing revenues and slightly higher fair market value chains on the servicing rights. So revenues on a same-store basis were slightly up for the quarter. So -- and most of the adjustments that we're doing on the expense side will be based largely about the end of the year.

Okay. Got it. Do you happen to have, what, just total deposit costs were at the very end of the quarter? So just thinking about an exiting deposit cost?

Yes. So they moved up about 9 or 10 basis points. But I will say, we've seen a pretty good movement since quarter end after the rate hike in our loan -- in our contractual loan yields. We have about a little over $700 million of LIBOR-based loans, which is about 20% of the portfolio and about $900 million of prime base loans. So we've seen good movements on that front as well. So call it in the upper 80s, around 90 basis points and the movement of cost, which is kind of the cumulative of the campaign in the brokered CDs going into that. So...

And we'll take our next question from Peter Ruiz with Sandler O'Neill.

Most of my questions have been answered, but I just maybe wanted to get some color on the buyback here. Obviously, your stock's been under a lot of pressure. So I just wanted to maybe get your thoughts on how aggressive you could be with the buyback? Or is it something you actually plan to actively use here? Or just what are you thinking in terms of your stock price?

Yes, Tyler (sic) [Peter], it's a tool. And we wanted to get the authorization because we don't know what's going to happen in the market. We don't know what's going to happen with stocks, we're -- and especially bank stocks. So it's a tool, and -- whether we get very aggressive and not just really depend on the price. We are conscious of dilution. We're -- of course, we love EPS accretion, but we're also conscious of book value dilution and those are two things we would balance. And so if the prices continue to drop, it's certainly something we probably would deploy. The other thing that we're balancing is acquisition opportunities. We continue to evaluate those. We continue to want to make sure we're in a position to pull the trigger on something, whether it's opportunistic or strategic. And so from most of those opportunities, we would be issuing stock, and so it doesn't have that big of an impact on our tangible common equity, the tangible asset ratio. And so we think -- even with the acquisition opportunities out there, we think it's a viable tool for us to have.

And also we would have the opportunity. We have a little bit of creep in our outstanding shares from equity plans that at a minimum at these levels would likely make sense, that wouldn't be a significant component of it that would be a base level that we could definitely see executing out. And then the rest of it would be dependent, as Chris said, on other opportunities because that will become our -- a little bit of the measuring stick for other opportunities is use of capital and growth and acquisition versus buybacks and which one will yield the best returns overall.

Great. And with your comments on M&A actually, obviously, valuations are changing a little bit. But is this still something that you guys think is an opportunity for you out there and maybe have conversations changed at all and maybe have seller expectations changed?

Yes. It is an opportunity for us. We are still -- we still -- we think it is still an opportunity, but yes, I think you hit some relevant points. When valuations have changed, especially for public companies. Oftentimes, it takes some time -- depending on what kind of particular partner you're talking to, especially for private companies, it may take some time for them to adjust to their thinking. And so that may be a little more difficult because when valuations move down the way they have over the last 2 or 3 weeks, obviously it takes everybody's valuation down. And so that's something that we still don't know, but I would suspect it may take a little bit of time for those to adjust. We still, on a relative basis, think we may have -- may get some opportunities and we want to be prepared for those, and we'll continue to deal with them.

(Operator Instructions) And we'll take our next question from Alex Lau with JPMorgan.

Going back to deposits. In the quarter, we saw growth in time in the morning market, while noninterest bearing was flat in the quarter. And also with checking accounts trending lower from the start of the year, from 50% to now 44%. To what extent are you seeing some of the lower costs or noninterest-bearing deposits migrate over to these attractive higher rates?

Yes. Alex, we do see some of that. We track that as best we are able to track that, and we do see some of that. It hasn't been major news, but also we have expected some of that. It's our -- it's not something that gets a lot of discussion. I think there's some discussion in the industry about whether that's going to be the case. I think that it is going to be the case because most of -- you're seeing record noninterest-bearing balances out there, and I think some of those -- I think there's been a fear for the industry that some of that would move, and I do think some of it will. And it has with us, but it's actually been not significant. But you do see some of those balances, and we saw it when we had the campaign. We saw some of that. But again, all manageable and most of that is frankly governed by relationships. If you have good relationships, you expect some of that and you would -- and it would not be a very good customer service if you didn't have some of that. So that explains most of what you see there.

And part of the noninterest-bearing decreases, when we sell the MSRs, we lost some of the escrow, which is a noninterest-bearing category. I think it's down $10 million point-to-point, but it's actually probably been down more, and then some of the seasonal growth offset that. So that was expected when we announced to sell the MSRs that we would lose the corresponding escrow balances on that side.

Great. And on the CD campaigns, are you seeing any kind of shift from consumer preferences from short term to longer term? Both are pretty attractive rates, but any color on that?

We kind of offered a little bit of a mix. I think it depends on what your position in life or your outlook or different things are. I don't think there's a consistent view of shorter loans. I think some like the loans the longer view, so they don't have to worry about it. And some like the shorter view that laid out the opportunity to do whatever the market is doing. In fact, I think it's mixed based on what their individual outlook or cash flow needs may be at any particular time. So I would say, really, no consistent view on that on an overall basis.

Yes, got it. And my last question is on -- back in the second quarter, you called out potential hiring like a dozen revenue producers in the back half of the year. Can you give an update on how you're tracking with that? And are there any more hires in the pipeline?

Yes, I'll give you an update. And so first, we did -- we didn't talk about this because the numbers aren't that significant. You did see a little bit of that come through on the expense line. Again, fully expected and right on what we thought. We've had those folks come on. We're actually also seeing some production if you look around, particularly the metropolitan part of our footprint. We've seen those markets have really good production. Again, that's coming through in the growth numbers. We continue to have various conversations and continue -- it's a little -- like our loan and deposit pipelines, we have some various conversations going on out there with additional parties and whether they come to pass or not, just -- is part of the competitive world that we live in. And so all of the ones that we've talked about have come to pass. There has been maybe one or, I'll say, and a handful of others and then there are a couple of potential bigger ones out there, but again, it's -- I can say that to be a normal part of our growth, just like adding loans and deposits.

And it appears that there are no further questions at this time.

Okay. Well, thank you very much for joining us on the call. Thank you for your questions. We appreciate your interest in FBK, and we appreciate your investment in FBK. Everybody, have a great day.

Thanks.

And this concludes today's call. Thank you for your participation. You may now disconnect.